<PAGE>
SCHEDULE 14A INFORMATION
Proxy Statement Pursuant to Section 14(a) of the Securities
Exchange Act of 1934 (Amendment No. )
Filed by the Registrant [X]
Filed by a Party other than the Registrant [_]
Check the appropriate box:
[_] Preliminary Proxy Statement [_] CONFIDENTIAL, FOR USE OF THE
COMMISSION ONLY (AS PERMITTED BY
RULE 14A-6(E)(2))
[X] Definitive Proxy Statement
[_] Definitive Additional Materials
[_] Soliciting Material Pursuant to Section 240.14a-11(c) or Section 240.14a-12
System Software Associates, Inc.
- --------------------------------------------------------------------------------
(Name of Registrant as Specified In Its Charter)
- --------------------------------------------------------------------------------
(Name of Person(s) Filing Proxy Statement, if other than the Registrant)
Payment of Filing Fee (Check the appropriate box):
[X] No fee required
[_] Fee computed on table below per Exchange Act Rules 14a-6(i)(4) and 0-11.
(1) Title of each class of securities to which transaction applies:
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(2) Aggregate number of securities to which transaction applies:
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(3) Per unit price or other underlying value of transaction computed
pursuant to Exchange Act Rule 0-11 (Set forth the amount on which
the filing fee is calculated and state how it was determined):
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(4) Proposed maximum aggregate value of transaction:
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(5) Total fee paid:
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[_] Fee paid previously with preliminary materials.
[_] Check box if any part of the fee is offset as provided by Exchange
Act Rule 0-11(a)(2) and identify the filing for which the offsetting fee
was paid previously. Identify the previous filing by registration statement
number, or the Form or Schedule and the date of its filing.
(1) Amount Previously Paid:
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(2) Form, Schedule or Registration Statement No.:
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(4) Date Filed:
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Notes:
<PAGE>
LOGO
SYSTEM SOFTWARE ASSOCIATES, INC.
500 West Madison Street, 32nd Floor
Chicago, Illinois 60661
Dear Fellow Stockholders:
1996 was a year of investment, transition, challenges and accomplishments
for SSA.
The investments were highlighted by a continued commitment to research and
development. The size of this commitment marks SSA as the software industry
leader in enterprise systems. In 1996 SSA's cash investment in gross R&D rose
56% to over $96 million, including capitalized software development costs.
SSA also invested in its skills, its people, and its infrastructure,
continuing to build upon a 15 year tradition of providing the best and deepest
product and implementation support for industrial sector companies worldwide.
The culmination of these investments was the roll-out in 1996 of BPCS
Client/Server version 6.0--the most significant software ever developed by
SSA. Version 6.0 of the BPCS Client/Server product line is noteworthy both for
its Distributed Object Computing Architecture (DOCA) and for its revolutionary
configurable, enterprise-wide application functionality. One example of the
benefits of DOCA is that BPCS Client/Server is automatically fully Internet
enabled.
The challenges for SSA in 1996 included re-engineering not only BPCS
Client/Server, but also re-engineering our organization worldwide. That work
is now largely complete. In 1996 we also received significant assistance of
our many version 6.0 early adopter clients, who have worked with us to make
their implementations a success. By early 1997, SSA began to demonstrate in
version 6.0 the quick implementation and quick time-to-benefit that BPCS has
always been known for, thus validating our product and implementation
strategies.
Our accomplishments in 1996 were many. We continued to win substantial new
business and our client base continued to grow. In pharmaceuticals, chemicals,
automotive, electronics, consumer goods, food and beverage, forest products,
and machinery we continued to make inroads. In addition, more and more of the
world's major system integration firms began building practices centered
around BPCS Client/Server. As we moved into 1997, we resumed strong revenue
growth. In fact, the fourth quarter of 1996 was one of the best in the history
of SSA in terms of revenue. This was followed by the best first quarter for
revenue ever in 1997. SSA's strategy is being validated by the marketplace
acceptance of BPCS Client/Server version 6.0.
Looking forward, we believe that SSA will continue its strong revenue
growth, that it will be taking market share from its major competitors, and
that the continued roll-out of BPCS Client/Server version 6.0 will benefit us,
our clients, and our stockholders.
Regards,
/s/ Roger E. Covey
Roger E. Covey
CEO and Chairman
<PAGE>
SYSTEM SOFTWARE ASSOCIATES, INC.
500 West Madison Street, 32nd Floor
Chicago, Illinois 60661
NOTICE OF ANNUAL MEETING OF STOCKHOLDERS
TO BE HELD ON MAY 28, 1997
To the Stockholders of System Software Associates, Inc.:
The Annual Meeting of Stockholders of System Software Associates, Inc., a
Delaware corporation (the "Company"), will be held at the First National Bank
of Chicago, 57th Floor Meeting Room, One First National Plaza in Chicago, on
May 28, 1997 at 9:00 A.M. for the following purposes, as more fully described
in the accompanying Proxy Statement:
1. To elect four (4) directors to serve until the next annual meeting of
stockholders or until their successors are elected and qualified;
2. To amend Article Fourth of the Company's Certificate of Incorporation to
increase the Company's authorized shares of Common Stock to 250 million
shares;
3. To amend the Company's Long-Term Incentive Plan to increase the number of
shares of Common Stock available for grants thereunder by 2,700,000 and to
revise certain provisions regarding vesting; and
4. To consider and act upon such other business as may properly come before
the meeting or any adjournment thereof.
Stockholders of record of the Company's Common Stock, par value $0.0033 per
share, at the close of business on April 11, 1997, the record date fixed by
the Board of Directors, are entitled to notice of, and to vote at, the
meeting, also as more fully described in the Proxy Statement.
The Company's audited Financial Statements, Management's Discussion and
Analysis of Financial Condition and Results of Operations, and certain other
information are contained for your reference in Annex A at the end of this
Proxy Statement. Annex A also contains certain information previously filed
with the Securities and Exchange Commission regarding our change of auditing
firms this year.
All stockholders are cordially invited to attend the meeting. Those who
cannot attend are urged to sign, date and otherwise complete the enclosed
proxy and return it promptly in the envelope provided. Any stockholder giving
a proxy has the right to revoke it at any time before it is voted.
For the Board of Directors
Joseph J. Skadra
Secretary
Chicago, Illinois
May 5, 1997
----------------
YOUR VOTE IS IMPORTANT.
PLEASE MARK, SIGN, DATE AND RETURN YOUR PROXY CARD PROMPTLY,
WHETHER OR NOT YOU PLAN TO ATTEND THE ANNUAL MEETING.
----------------
<PAGE>
SYSTEM SOFTWARE ASSOCIATES, INC.
----------------
PROXY STATEMENT
----------------
APPROXIMATE DATE PROXY MATERIAL
FIRST SENT TO STOCKHOLDERS:
MAY 5, 1997
----------------
The following information is provided in connection with the solicitation of
proxies for the Annual Meeting of Stockholders of System Software Associates,
Inc., a Delaware corporation (the "Company" or "SSA"), to be held on May 28,
1997, and adjournments thereof (the "Meeting"), for the purposes stated in the
Notice of Annual Meeting of Stockholders preceding this Proxy Statement.
GENERAL INFORMATION
SOLICITATION OF PROXIES
A form of proxy is being furnished herewith by the Company to each
stockholder and, in each case, such proxy is solicited on behalf of the Board
of Directors of the Company for use at the Meeting. The entire cost of
soliciting these proxies will be borne by the Company. Solicitation will be
made by mail, and may also be made by telephone or telegraph by directors,
officers and regular employees of the Company, but these persons will not be
separately compensated for such solicitation services. The Company may pay
persons holding shares in their names or the names of their nominees for the
benefit of others, such as brokerage firms, banks, depositories and other
fiduciaries, for costs incurred in forwarding proxy solicitation material to
their principals.
AUTHORITY CONFERRED BY PROXIES
Unless a contrary choice is specified in the proxy, each proxy duly executed
and returned by stockholders and received by the Company before the Meeting
will be voted FOR the election of all of the nominee-directors specified
herein, FOR the amendment of Article Fourth of the Company's Certificate of
Incorporation, and FOR the amendment of the Company's Long-Term Incentive
Plan. Where a contrary specification is indicated as provided in the proxy,
the shares represented by the proxy will be voted in accordance with the
specification made. Abstentions are considered as shares present and entitled
to vote but are not counted as affirmative votes cast on a given matter. A
broker or nominee holding shares registered in its name, or in the name of its
nominee, which are beneficially owned by another person and for which it has
not received instructions as to voting from the beneficial owner does not have
the discretion to vote the beneficial owner's shares with respect to the
proposals. Any broker or nominee "non-votes" with respect to the proposals
will not be considered as shares entitled to vote on that matter and will not
be considered by the inspector when counting votes cast on the matters. As to
other matters, if any, to be voted upon at the Meeting, the persons designated
as proxies in the accompanying form of proxy will take such action as they, in
their discretion, may deem advisable. The persons named as proxies were
selected by the Board of Directors and each of them is a director or officer
of the Company.
REVOCABILITY OF PROXIES
Execution of the enclosed proxy will not affect your right as a stockholder
to attend the Meeting and to vote in person. Any stockholder giving a proxy
has the right to revoke it at any time by: (i) a later dated proxy, duly
executed and delivered or presented at the Meeting; (ii) a written revocation
sent to and received by the Secretary of the Company prior to the Meeting; or
(iii) attendance at the Meeting and voting in person.
1
<PAGE>
VOTING SECURITIES AND RECORD DATE
The Company's voting securities consist of one class of Common Stock, par
value $0.0033 per share (the "Common Stock"). The Company had outstanding
42,627,526 shares of Common Stock as of the close of business on April 11,
1997 (the "Record Date"). (Unless otherwise indicated, all share and per share
data in this Proxy Statement have been adjusted to reflect all stock splits,
including the three-for-two split effective December 27, 1995.) Only
stockholders of record on the books of the Company at the close of business on
the Record Date will be entitled to vote at the Meeting. Each share of Common
Stock is entitled to one vote. Representation at the Meeting by the holders of
a majority of the shares of Common Stock outstanding on the Record Date,
either by personal attendance or by proxy, will constitute a quorum.
SECURITY OWNERSHIP OF PRINCIPAL HOLDERS AND MANAGEMENT
The table on the following page sets forth information as of April 1, 1997
with respect to the beneficial ownership of the Company's outstanding Common
Stock by each stockholder known by the Company to be the beneficial owner of
more than 5% of its Common Stock, each director, each executive officer
discussed under "Management Compensation" below, and all the directors and
officers as a group. Except as otherwise indicated, the stockholders have sole
voting and investment power with respect to shares beneficially owned by them.
<TABLE>
<CAPTION>
NAME AND ADDRESS AMOUNT AND NATURE OF PERCENT
OF BENEFICIAL OWNER BENEFICIAL OWNERSHIP OF CLASS
------------------- -------------------- --------
<S> <C> <C>
Roger E. Covey............................ 13,284,750(1)(2) 31.1%
System Software Associates
500 W. Madison Street, 32nd Floor
Chicago, Illinois 60661
Gardner Lewis Asset Management, L.P....... 4,062,999(3) 9.5%
285 Wilmington, W. Chester Pike
Chadds Ford, PA 19317
Massachusetts Financial Services Company.. 3,324,695(4) 7.8%
500 Boylston Street
Boston, MA 02116
Jurika & Voyles, L.P...................... 2,953,157(5) 6.9%
1999 Harrison Street, Suite 700
Oakland, CA 94612
William N. Weaver, Jr..................... 336,000(6) *
John W. Puth.............................. 178,063(1)(7) *
Terry H. Osborne.......................... 97,950(1) *
Riz Shakir................................ 90,669(1) *
Willard I. Zangwill....................... 15,200 *
Joseph J. Skadra.......................... 9,000(1) *
Terry E. Notari........................... 0 *
Andrew J. Filipowski...................... 0 *
All Officers and Directors as a Group 13,913,682(1)(2)(6)(7) 32.5%
(seven persons)..........................
</TABLE>
2
<PAGE>
- --------
*Less than 1%.
(1) Includes options to acquire shares, exercisable within 60 days of April 1,
1997, as follows: Mr. Covey 60,000; Mr. Puth 111,938; Mr. Osborne 97,950;
Mr. Skadra 9,000 and Mr. Shakir 24,001 shares.
(2) Includes 1,000,000 shares held by the Tang Research Foundation, of which
Mr. Covey is the President.
(3) According to a Report on the SEC's Schedule 13G, Gardner Lewis Asset
Management has sole dispositive power for all 4,062,999 listed shares, and
exercises sole voting power over 3,607,425 shares and shared voting power
over 73,200 of such shares.
(4) According to a Report on the SEC's Schedule 13G, Massachusetts Financial
Services Company has sole dispositive power over 3,324,695 shares and sole
voting power over 3,182,895 shares.
(5) According to a Report on the SEC's Schedule 13G, Jurika & Voyles has
shared dispositive power over 2,953,157 shares and shared voting power
over 2,567,467 shares.
(6) Includes 36,000 unissued shares of the Company's Common Stock, subject to
a currently exercisable option held by Sachnoff & Weaver, Ltd., of which
Mr. Weaver is a member. Mr. Weaver disclaims beneficial ownership of all
but his pro rata portion of the shares covered by the option.
(7) Includes 5,000 shares held by a family partnership, of which Mr. Puth is a
general partner.
ITEM NO. 1--ELECTION OF DIRECTORS
The By-Laws of the Company currently provide that the Board of Directors
shall consist of five directors to be elected at the annual meeting of
stockholders to hold office until the next annual meeting or until their
successors are elected and qualified. One of the current directors, Dr.
Willard Zangwill, has indicated to the Company that he does not wish to stand
for re-election. Accordingly, the Board has adopted a resolution amending the
by-laws to provide that, effective immediately prior to the Meeting, the size
of the Board of Directors shall be reduced to four directors. The proxies
solicited by and on behalf of the Board of Directors will be voted FOR the
election of the four nominees listed below, unless authority to do so is
withheld as provided in the proxy. All nominees are currently members of the
Company's Board of Directors. If for any reason one or more of the nominees
should be unable to serve or refuse to serve as a director (an event which is
not anticipated), the persons named as proxies will vote for another candidate
or candidates nominated by the Board of Directors, and discretionary authority
to cast such votes is included in the proxy. The nominees receiving the
highest number of votes of shares of Common Stock, up to the number of
directors to be elected, shall be elected.
NOMINEES
The Board of Directors has nominated for election the following individuals,
all of whom are currently directors:
ROGER E. COVEY, age 42, founded the Company and since November 1, 1994 has
served as Chief Executive Officer and Chairman of the Board of the Company,
positions which he also held from its inception in October 1981 until August
1991, at which time he was elected as Vice-Chairman of the Board. From
September 1, 1994 until October 31, 1994, he served as the Company's Vice
President--Research and Development. He holds a B.S. degree from the
University of Illinois and an M.B.A. and an M.A. in Chinese Art History, both
from the University of Chicago.
ANDREW J. FILIPOWSKI, age 45, has been a Director of the Company since July
1996. Mr. Filipowski, has been President and Chief Executive Officer of
PLATINUM technology, inc., a provider of enterprise infrastructure software
products, since that company's founding in April 1987. Mr. Filipowski was a
founder of DBMS, Inc., a software products and services company and served as
its Chairman, President and Chief Executive Officer from 1979 until March
1987.
3
<PAGE>
JOHN W. PUTH, age 68, has been a Director of the Company since his
appointment in April 1988. Since December 1987, Mr. Puth has served as
President of J. W. Puth Associates, an industrial consulting firm. From
January 1983 through December 1987, Mr. Puth was Chairman and President of
Clevite Industries, Inc., a manufacturer of industrial products. From October
1975 until January 1983, Mr. Puth was President and Chief Executive Officer of
Vapor Corporation. Mr. Puth is a director of Allied Products Corporation,
Brockway Standard Holdings Corporation, A.M. Castle & Co., L.B. Foster
Company, Lindberg Corporation and USFreightways Corporation, as well as
several privately-held corporations. He holds a B.S. degree from Lehigh
University.
WILLIAM N. WEAVER, JR., age 62, has been a Director of the Company since
December 1986 and its Assistant Secretary since March 1985. Mr. Weaver is a
member of the law firm of Sachnoff & Weaver, Ltd., an Illinois professional
corporation (S&W), which is counsel to the Company. Mr. Weaver has practiced
law in the State of Illinois since 1964 and serves as a director of
USFreightways Corporation, as well as several privately-held corporations. He
holds an A.B. degree from Oberlin College and a J.D. from John Marshall Law
School.
COMMITTEES AND ATTENDANCE
The Board of Directors met eleven (11) times during fiscal 1996. The Audit
Committee, consisting of directors Warren J. Hayford, John W. Puth and William
N. Weaver prior to July 25, 1996, and John W. Puth, William N. Weaver and
Andrew J. Filipowski, after July 25, 1996, met four (4) times during fiscal
1996. The Audit Committee oversees the activities of the Company's independent
auditors. The Compensation Committee met seven (7) times during fiscal 1996,
including actions taken by consent in connection with administration of the
Company's Stock Option Plans. This committee consisted of Warren J. Hayford,
John W. Puth and William N. Weaver, prior to July 25, 1996, and John W. Puth,
Andrew J. Filipowski and Willard I. Zangwill after July 25, 1996. This
Committee reviews and makes recommendations to the Board of Directors with
regard to the salaries, incentive compensation and related benefits of
corporate officers and other employees.
The Company also has a Director Search Committee which seeks and
investigates potential nominees to the Company's Board of Directors. Although
the Director Search Committee is not currently seeking any candidates,
nominees recommended by stockholders would be eligible for consideration when
appropriate. Stockholders wishing to nominate director candidates for
consideration by the Committee may do so by writing to Joseph J. Skadra, the
Secretary of the Company, giving the candidate's name, biographical data and
qualifications.
COMPENSATION OF DIRECTORS
The Company does not pay directors any cash consideration for serving on the
Board of Directors. In recognition of their continued board service, the
Company on December 16, 1994, adopted a policy pursuant to which every five
years, all non-employee directors shall be awarded an option under the
Company's existing stock option plans to purchase 22,500 shares, exercisable
at the fair market value of the Company's stock on the date of grant, such
options to become exercisable in equal portions on the first five
anniversaries of the grant date. The first award under this plan was granted
on December 16, 1994, and is exercisable at $9.83 per share. Pursuant to the
same policy, Mr. Filipowski and Dr. Zangwill were each awarded options to
purchase 22,500 shares concurrently with their appointment to the Board of
Directors in July 1996. These options vest in five equal installments on the
first five anniversaries of their appointment, and are exercisable at $13.50
per share, the fair market value of the Company's stock on the date of grant.
In consideration of this and earlier option grants, S&W agreed to waive its
fees for Mr. Weaver's time expended attending meetings of the Board of
Directors. Accordingly, neither Mr. Weaver nor S&W received any cash
compensation in consideration of Mr. Weaver's services as a director in fiscal
1996.
4
<PAGE>
MANAGEMENT COMPENSATION
The table below discloses the compensation awarded by the Company during the
Company's last three fiscal years to the Chief Executive Officer and to each
of the other four executive officers as of the end of fiscal 1996:
SUMMARY COMPENSATION TABLE
<TABLE>
<CAPTION>
LONG-TERM
ANNUAL COMPENSATION COMPENSATION AWARDS
-------------------- -------------------
SECURITIES
UNDERLYING
NAME AND PRINCIPAL FISCAL POSITION YEAR SALARY ($) BONUS ($) OPTIONS (#)
---------------------------------- ---- ---------- --------- -------------------
<S> <C> <C> <C> <C>
Roger E. Covey, Chairman of the Board 1996 400,000 -0- -0-
and Chief Executive Officer 1995 342,917 127,000 150,000
Terry H. Osborne, President and Chief 1996 348,840 31,579 -0-
Operating Officer (1) 1995 357,560 159,123 150,000
1994 303,833 124,000 75,000
Joseph J. Skadra, Vice President and 1996 229,000 47,000 5,000
Chief Financial Officer (2) 1995 220,000 64,000 -0-
1994 41,250 59,269 45,000
Riz Shakir, Vice President, Architecture 1996 211,250 43,000 30,000
& Technology
Terry E. Notari, Vice President, North 1996 113,750 32,812 -0-
America (3) 1995 210,000 116,187 -0-
1994 210,000 80,000 45,000
</TABLE>
- --------
(1) Mr. Osborne served as the Company's Vice President--Europe from November
1991 through October 1994, and as its President and Chief Operating
Officer from November 1, 1994 until his retirement on November 1, 1996.
Mr. Osborne's cash compensation in 1994, and a portion of such
compensation in 1995, was paid in British Pounds. The amounts above were
converted to U.S. Dollars using an exchange rate of $1.51 to (Pounds)1,
the applicable rate on February 1, 1996. In addition to the salary and
bonus indicated, Mr. Osborne received other annual compensation consisting
of a $2,000 monthly car allowance and rent-free occupancy of a condominium
residence in Chicago owned by the Company. The Company estimates that
occupancy of the condominium had an annual value of approximately $40,000
in 1996.
(2) Indicated salary and bonus for fiscal 1994 were paid commencing with Mr.
Skadra's hiring on August 12, 1994.
(3) Mr. Notari retired from his position on May 1, 1996.
EMPLOYMENT CONTRACTS
Pursuant to the terms of his employment agreement, Terry H. Osborne
participates in a pension plan funded by the Company which upon his retirement
in November 1996, makes him eligible to begin receiving (Pounds)68,544
annually.
Joseph J. Skadra, the Company's Chief Financial Officer, was hired August
12, 1994. The terms of his engagement include the following: a base salary of
$220,000 annually; bonuses of up to $80,000, in the first year, to be awarded
if the Company achieves quarterly and annual earnings targets and if Mr.
Skadra achieves specified personal management objectives; a bonus upon hiring
of $40,000; and options to purchase 45,000 shares of Common Stock, vesting
over five years. If all of the Company's Common Stock is acquired and Mr.
Skadra does not become Chief Financial Officer of the acquiring firm, then
18,000 of the stock options will immediately vest, if they have not already.
5
<PAGE>
OPTION GRANTS IN FISCAL 1996
The following table provides further information on individual stock option
grants made in fiscal 1996 to the named executive officers. The table does not
reflect as additional grants options canceled and immediately reissued at
lower exercise prices. See "Ten-Year Option Repricings" below. The exercise
prices set forth in the table are net of all repricings during fiscal 1996.
<TABLE>
<CAPTION>
POTENTIAL REALIZABLE
VALUE AT ASSUMED
ANNUAL RATES OF
STOCK PRICE
INDIVIDUAL GRANTS APPRECIATION(1)
---------------------------------------------------------- ---------------------
NUMBER OF SHARES % OF TOTAL
UNDERLYING OPTIONS GRANTED
OPTIONS GRANTED TO EMPLOYEES IN EXERCISE PRICE EXPIRATION
NAME (#)(2) FISCAL 1996 ($/SH.) DATE 5% ($) 10% ($)
- ---- ---------------- --------------- -------------- ---------- ------ -------
<S> <C> <C> <C> <C> <C> <C>
Roger E. Covey -0- 0.0% N.A. N.A. N.A. N.A.
Terry H. Osborne -0- 0.0% N.A. N.A. N.A. N.A.
Joseph J. Skadra 5,000 0.7% $9.81 06/07/06 30,857 78,197
Riz Shakir 30,000 4.2% $9.81 12/01/05 185,140 469,182
Terry E. Notari -0- 0.0% N.A. N.A. N.A. N.A.
</TABLE>
- --------
(1) The potential realizable value columns of the table illustrate values that
might be realized upon exercise of the options immediately prior to their
expiration, assuming the Company's Common Stock appreciates at the
compounded rates specified over the term of the options. These numbers do
not take into account provisions of certain options providing for
termination of the option following termination of employment or
nontransferability of the options and do not make any provision for taxes
associated with exercise. Because actual gains will depend, among other
things, on future performance of the Common Stock, the amounts reflected
in this table may not necessarily be achieved. For the actual historical
price performance of the Company's Common Stock over the last five fiscal
years, see the comparative table below under the caption "Stockholder
Return Performance Presentation."
(2) Options granted become exercisable ratably on the first five anniversaries
of the grant date.
AGGREGATED OPTION EXERCISES IN FISCAL 1996 AND OCTOBER 31, 1996 OPTION VALUES
The following table provides information on option exercises in fiscal 1996
by the named executive officers and the value of such officers' unexercised
stock options as of October 31, 1996.
<TABLE>
<CAPTION>
NUMBER OF SHARES
UNDERLYING UNEXERCISED VALUE OF UNEXERCISED
SHARES OPTIONS AT OCTOBER 31, IN-THE-MONEY OPTIONS AT
ACQUIRED ON 1996 (#) OCTOBER 31, 1996 ($)
EXERCISE VALUE ------------------------- -------------------------
NAME (#) REALIZED ($) EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
---- ----------- ------------ ----------- ------------- ----------- -------------
<S> <C> <C> <C> <C> <C> <C>
Roger
E.
Covey -0- N.A. 30,000 120,000 46,550 186,202
Terry
H. Os-
borne 30,000 377,499 67,200 183,300 222,087 584,924
Joseph
J.
Skadra -0- N.A. 9,000 32,000 16,692 59,452
Riz
Shakir -0- N.A. 15,001 59,999 27,883 112,133
Terry
E.
Notari 49,500 667,500 -0- -0- -0- -0-
</TABLE>
6
<PAGE>
TEN-YEAR OPTION REPRICINGS
The following table provides certain information on the repricing during
fiscal 1996 of options held by certain of the executive officers. No options
had been repriced prior to fiscal 1996. Further explanation concerning these
repricings is included in the Report on Executive Compensation of the
Compensation Committee of the Board of Directors, below.
<TABLE>
<CAPTION>
NUMBER OF LENGTH OF
SECURITIES MARKET PRICE EXERCISE ORIGINAL OPTION
UNDERLYING OF STOCK AT PRICE AT TIME TERM REMAINING
OPTIONS TIME OF OF REPRICING NEW AT DATE OF
REPRICED OR REPRICING OR OR EXERCISE REPRICING OR
NAME DATE AMENDED (#) AMENDMENT ($) AMENDMENT ($) PRICE ($) AMENDMENT
---- -------- ----------- ------------- ------------- --------- ---------------
<S> <C> <C> <C> <C> <C> <C>
Roger
E.
Covey N.A. -0- N.A. N.A. N.A. N.A.
Terry
H. Os-
borne N.A. -0- N.A. N.A. N.A. N.A.
Joseph
J.
Skadra 08/26/96 5,000 $ 9.81 $16.13 $ 9.81 9 years, 9 mos.
Riz
Shakir 06/07/96 30,000 $16.13 $24.08 $16.13 9 years, 5 mos.
08/26/96 30,000 $ 9.81 $16.13 $ 9.81 9 years, 3 mos.
08/26/96 15,000 $ 9.81 $18.08 $ 9.81 9 years, 6 mos.
Terry
E.
Notari N.A. -0- N.A. N.A. N.A. N.A.
</TABLE>
REPORT ON EXECUTIVE COMPENSATION OF THE COMPENSATION COMMITTEE OF THE BOARD OF
DIRECTORS
The Compensation Committee of the Company's Board of Directors is
responsible for implementing specific executive compensation plans. The
Company operates in an industry that is highly competitive. The Company
believes that its ability to maintain and improve its competitive position is
dependent on its ability to attract highly qualified managerial personnel.
These personnel are customarily sought from companies much larger and with
greater financial resources than the Company, and the Company believes that
its ability to attract such personnel is enhanced by the Company's emphasis on
significant short-term and long-term performance incentives. The Company
accordingly operates in accordance with the following executive compensation
philosophy:
1. A significant portion of annual cash compensation should be determined by
quantitative performance measures.
For SSA executives, the performance-dependent portion of annual cash
compensation approximates 40% of base cash compensation (or approximately 30%
of total annual cash compensation). These quantitative performance measures
are tied directly to the SSA annual business plan. A portion is based on
quarterly earnings per share and another portion is based on annual earnings
per share. In addition, a variety of other quantitative measures besides
earnings per share are included in determining the bonus and future base
compensation for each executive. These other measures vary from executive to
executive depending on the strategic needs of the business, and tend to be
directly related to the executive's duties and the achievements of the
specific business unit for which the executive is responsible. The components
are reviewed and adjusted by the Compensation Committee on an annual basis.
Based on the Company's hiring experience and discussions with executive
recruiting firms, the Company believes that base cash compensation for key
employees (which approximates 70% of annual cash compensation) is at an
industry competitive level.
2. Compensation should provide incentives for both short-term and, more
importantly, for long-term performance.
Short-term performance is incentivized by the annual performance-determined
compensation mentioned above. Long-term performance is incentivized by the use
of stock options. Typically, options granted vest over a five-year period,
which is an appropriate long-term performance period. The Company's experience
is that it has no control over its short- or medium-term stock price, but
believes that over the long term the stock price should
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reflect growth of the Company's earnings. The size of option grants is
determined by reference to all the facts and circumstances relating to the
executive's compensation. These include, without limitation, the executive's
base salary, the cash bonuses earned and potentially available, the size of
all past option grants to the executive, the timing of such prior grants, the
remaining unvested portion of past grants, the total shares subject to
outstanding options held by all key employees and the total remaining shares
available for future option grants.
3. The SSA standard for executive recruitment is to attempt to find and
recruit the best person in the world for a given executive position.
As such, the total compensation scheme for SSA executive officers may be
above total compensation available at similarly sized firms when taking into
account the Stock Option portion of compensation.
The compensation of Roger E. Covey, the Company's Chairman and Chief
Executive Officer, for services he rendered during fiscal 1996 was determined
pursuant to a compensation program adopted by the Committee in December 1994,
shortly after Mr. Covey resumed the position of Chairman and Chief Executive
Officer. At that time, the Committee reviewed the compensation packages of the
chief executives of comparable publicly-traded software companies, some of
which the Committee believes are included in the NASDAQ CDP index used in the
stock price performance chart below, as well as the compensation of the
Company's immediate past Chairman, President and Chief Executive Officer.
Based on the review of comparable and historical compensation levels, the
Company's operating plan for fiscal 1995, and the services rendered and to be
rendered by Mr. Covey, the Committee adopted a compensation program consisting
of base salary, bonus and incentive and non-qualified options to purchase
150,000 shares of the Company's Common Stock, which options vest over a five
year period following their grant. The non-qualified options are exercisable
at $9.83 per share (the fair market value of the Company's Common Stock on the
date of grant) and the incentive options, due to IRS rules applicable because
of Mr. Covey's existing ownership of SSA stock, are exercisable at $10.82 per
share. The annual base compensation paid to Mr. Covey was roughly equivalent
to that paid to the Company's immediate past Chief Executive Officer. In
addition to the base salary and stock options discussed above, Mr. Covey's
compensation program provided that he would be awarded bonuses in specified
amounts if the Company achieved certain quarterly and annual per-share
earnings targets, product release targets and other quantitative measures. In
fiscal 1996, Mr. Covey received no raise in base salary from fiscal 1995, and
was awarded no bonus.
During 1996, the Board determined to deviate from its historic policy of not
repricing stock options. In June and August 1996, the Board determined to
reprice stock options of holders other than the Board of Directors and the
Company's Chief Executive Officer. The software industry is extremely
competitive and stock options are the major long-term compensation tool used
to attract, retain, motivate and reward key employees. Since the Company's
stock price had declined very sharply during fiscal 1996 and since there was
no reasonable expectation that the options would have the desired effect, the
Compensation Committee, in consultation with the Chief Executive Officer, on
June 7, 1996 canceled those options exercisable at or above $21.12 and
replaced them with options exercisable at $16.125, the then-current fair
market value of the Company's Common Stock, and on August 26, 1996, canceled
all of those options having an exercise price at or above $16.125, and issued
new options for the same number of shares to become exercisable at $9.81 per
share, the Company's fair market value on the reissuance date. The
Compensation Committee left intact those options exercisable at less than
$16.125 per share.
The foregoing report has been furnished by Messrs. Filipowski and Puth and
Dr. Zangwill, who currently constitute the Compensation Committee.
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
During fiscal 1996, the Compensation Committee of the Board of Directors
consisted of Warren J. Hayford, John W. Puth and William N. Weaver, prior to
July 25, 1996 and John W. Puth, Andrew J. Filipowski and Willard I. Zangwill
after July 25, 1996. None of these persons was a current or former officer or
employee of the Company or any of its subsidiaries. Mr. Weaver is a member of
S&W, which provides legal services to the Company. See "Certain Relationships
and Related Transactions."
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STOCKHOLDER RETURN PERFORMANCE PRESENTATION
The graph below presents a comparison of the cumulative total stockholder
return on the Company's Common Stock since October 31, 1991 with the
cumulative total return of the NASDAQ Computer and Data Processing Index
("NASDAQ CDP Index") and the Standard and Poor's 500 Composite Index.
Note: The stock price performance shown below is not necessarily indicative
of future price performance.
COMPARISON OF FIVE-YEAR CUMULATIVE TOTAL RETURN AMONG SYSTEM SOFTWARE
ASSOCIATES, INC., NASDAQ CDP INDEX, AND S & P 500
[GRAPH APPEARS HERE]
Assumes $100 invested on October 31, 1991 in System Software Associates, Inc.
Common Stock, NASDAQ CDP Index and S & P 500 Index.
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
William N. Weaver, Jr., a member of the Board of Directors, is a member of
the law firm of Sachnoff & Weaver, Ltd., an Illinois professional corporation.
Sachnoff & Weaver, Ltd. has acted and continues to act as counsel to the
Company with regard to certain matters and has received legal fees for
services rendered in connection therewith.
Joseph J. Skadra, the Company's Chief Financial Officer, has borrowed funds
from the Company commencing July 10, 1996. Amounts borrowed are represented by
a promissory note, and bear interest at 8.25% per annum. Mr. Skadra borrowed
the amounts for personal reasons. As of April 1, 1997, the amount owing,
including accrued interest, is $204,665, which constitutes the largest amount
which has been outstanding under such arrangements. Repayment of all amounts
of principal is due January 21, 2000. Interest is payable monthly in arrears.
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ITEM NO. 2--AMENDMENT OF ARTICLE FOURTH OF
THE CERTIFICATE OF INCORPORATION
On April 30, 1997, the Board of Directors by unanimous written consent
adopted a resolution, subject to stockholder approval, to amend Article Fourth
of the Company's Certificate of Incorporation to increase the Company's
authorized shares of Common Stock, having a par value of $0.0033 per share,
from 60,000,000 to 250,000,000 shares. The Board believes that the proposed
amendment is in the best interests of the Company and recommends that you vote
FOR the proposed amendment. The text of the proposed amendment (the "Charter
Amendment") is contained in Annex B to this Proxy Statement.
The Board believes that the Company must reduce its debt to improve its
financial leverage and flexibility and that this should be accomplished
primarily by selling Common Stock or other securities convertible or
exchangeable into Common Stock in private transactions or in the public
capital markets as the Company's performance and market conditions permit. To
accomplish this goal, the Board is recommending that stockholders approve the
Charter Amendment which will give the Company the legal capacity to issue
additional shares of Common Stock from time to time as approved by the Board.
Such shares would be available for issuance without further action by the
stockholders unless such approval is required by the rules of the Nasdaq
National Market or applicable law.
REASONS FOR INCREASING AUTHORIZED CAPITAL
Stockholders are urged to consider and approve the Charter Amendment, which
will increase authorized Common Stock for the following reasons:
Need to Reduce Financial Leverage.
As of January 31, 1997, the Company's capitalization included approximately
$72 million of senior notes and bank debt and $104 million in stockholders'
equity. On March 27, 1997, the Company issued a $12 million Convertible
Subordinated Note to a strategic investor (the "Convertible Note"). The
Convertible Note is due in three years and is convertible into shares of
common stock after March 26, 1998 (or earlier upon prepayment by the Company),
at a rate equal to the lower of $3.33 per share or 80% of the fair market
value of the Common Stock at the time of conversion. As of October 31, 1995,
the Company's capitalization included $30 million of senior notes, no bank
debt and $143 million in stockholders' equity. The significant decline in the
Company's stockholders' equity and increase in debt since October 31, 1995 has
been the result of net operating losses which included significant amounts
expended on research and development of the Company's distributed object
computing technology, and enhancement of its existing products. The Company's
financial flexibility is significantly restricted by its high debt to equity
ratio.
All of the Company's senior notes and bank debt mature on November 1, 1997.
Amended loan agreements, which reset the maturity of the senior notes and bank
debt to such date, also eliminated the Company's ability to borrow funds on a
revolving basis and capped the Company's borrowings of bank debt at $47
million. Management believes that the Company will in the future lack adequate
financial flexibility unless stockholders' equity is increased.
Participation in the Organized Capital Markets.
Since the Company's initial public offering in 1987, the Company has
financed its operations primarily through debt and earnings and has not sold
Common Stock in the private or public capital markets. Although the Company
recently sold $12 million in subordinated notes convertible into Common Stock,
this sale occurred primarily to provide the Company with needed cash at a
seasonal low point during the Company's second fiscal quarter, and was
relatively insignificant in amount. During the same ten-year period, many of
the Company's competitors in the ERP software industry have sold capital stock
to reduce their leverage and help fund research and product development and
marketing efforts.
The Board believes that at the earliest possible date, the Company must
reduce its debt and increase its equity to levels comparable to its major
competitors in the enterprise resource planning (ERP) software industry. The
Board believes that sales of Common Stock in private transactions and/or in
the public market are the only way to accomplish this recapitalization goal.
The Company is currently exploring each of these equity financing
alternatives.
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Lack of Authorized Shares.
The Company has either issued or reserved for issuance a substantial
majority of its existing 60 million authorized shares of Common Stock. As of
the Record Date, 42,627,526 shares of Common Stock were issued and
outstanding, an additional 2,422,162 shares were reserved for issuance
pursuant to unexercised options granted under the Company's stock option plans
and 9,255,151 were reserved for issuance pursuant to outstanding warrants and
convertible debt securities. Of those shares (i) 775,000 are reserved for
issuance pursuant to Warrants issued on March 3, 1997 to the Company's senior
secured bank lenders and note holders, in consideration of the extension of
the maturities of portions of the Company's indebtedness to such institutions
until November 1, 1997, and (ii) a maximum of 8,480,151 Shares are reserved
for issuance upon conversion under certain circumstances of the Convertible
Note. Based on the closing Nasdaq price for the Company's Common Stock on
April 1, 1997, a total of 3,603,604 shares would be issuable upon conversion
of the Convertible Note in full. The Company's plans for increasing its
stockholders' equity will require the issuance of more shares than are
currently authorized and available for issuance. In addition, under the
Company's Stockholders' Rights Plan each newly issued share of Common Stock is
issued together with one Common Stock purchase right, and the Company is
required to reserve one share of Common Stock in respect of these Rights for
every share of Common Stock issued. This has the effect of doubling the number
of authorized shares utilized in any offering. The Charter Amendment must be
approved if the Company is to have the ability to sell Common Stock.
Uses For Stock Sale Proceeds.
The Board believes that the Company should sell Common Stock or securities
convertible into Common Stock in the private and public capital markets and
use the proceeds to reduce the Company's existing senior note and bank debt.
The terms of the senior debt currently require the Company to apply the
proceeds of any capital stock offering to repay the senior debt. Repayment of
the senior debt will substantially reduce leverage and interest expense. The
repayment of the senior debt will provide the Company with additional
flexibility by releasing the Company's assets from the security interests of
the holders of the senior debt. The Company has approximately $72 million of
principal amount of senior debt currently outstanding. Proceeds from stock
sales may also be used to reduce leverage effects from other sources,
including equipment lease obligations and other trade indebtedness.
Certain Additional Considerations.
If the Charter Amendment is approved, the Company will have enhanced
flexibility, subject to the approval of the Board, to take advantage of future
opportunities to sell Common Stock as circumstances arise. There can be no
assurance, however, that the Company will succeed in completing one or more
private or public offerings of Common Stock or Common Stock based securities.
Although the Company continues to have discussions with potential private
investor groups and continues to explore the possibility of a public markets
transaction, the Company at present has no definitive agreement or
understanding for the issuance of any of the additional shares proposed to be
authorized by the Charter Amendment.
Once authorized in the Certificate of Incorporation, shares of Common Stock
may be issued by the Board of Directors without further stockholder approval.
The issuance of additional shares of Common Stock may, among other things,
have dilutitive effect on earnings per share and on the equity and voting
power of existing stockholders. The issuance of Common Stock may also have an
anti-takeover effect by making it more difficult to obtain stockholder
approval of various actions, such as mergers or removal of management. Holders
of the Company's Common Stock do not have preemptive or similar rights with
respect to the issuance of shares of the Company's Common Stock, including the
additional shares proposed for authorization. Approval of the Charter
Amendment will require the affirmative vote of a majority of shares of the
Company's Common Stock outstanding and entitled to vote. The text of the
proposed Charter Amendment is set forth in Annex B hereto and should be read
in its entirety by stockholders.
The Board of Directors believes that adoption of the proposed Charter
Amendment is appropriate and advisable and recommends that the stockholders
vote to approve and adopt the proposed amendment. The proxies solicited by and
on behalf of the Board of Directors will be voted FOR the proposed amendment
to Article Fourth of the Certificate of Incorporation, unless a contrary
choice is specified in the proxy.
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ITEM NO. 3--PROPOSAL TO APPROVE THE
SECOND AMENDMENT TO THE
SYSTEM SOFTWARE ASSOCIATES, INC.
LONG-TERM INCENTIVE PLAN
The Board of Directors of System Software Associates, Inc. (the "Company")
has adopted, subject to stockholder approval, the Second Amendment to the
System Software Associates, Inc. Long-Term Incentive Plan (the "Incentive
Plan"). In the event that stockholder approval is received, the Incentive Plan
would be amended as set forth in Annex C.
REASONS FOR THE AMENDMENT
The main purposes for amending the Incentive Plan are to (i) increase by
2,700,000 the number of shares available for grant thereunder, (ii) make
certain revisions to the vesting schedule for non-employee directors, and
(iii) make certain technical changes that will help ensure compliance with
Section 162(m) of the Code.
The Incentive Plan was originally adopted in 1992. At that time, a total of
1,800,000 shares (adjusted for subsequent stock splits) was reserved for
future issuance under the Incentive Plan. Since the Incentive Plan was
adopted, no other compensation plans have been adopted, and no additional
shares have been added to any of the Company's existing compensation plans. As
of April 1, 1997, a total of 434,754 shares have been issued pursuant to the
Incentive Plan, and options to acquire another 1,285,009 shares are currently
outstanding. Thus, as of that date, only 80,237 shares remain eligible for
future grant. As indicated in the Report of the Compensation Committee of the
Board of Directors above, the Company, like most others in the software
industry, employs stock options to provide long-term incentives and rewards.
As a result, stock options constitute a significant component of the Company's
total compensation to a broad cross-section of the Company's employees. The
Company believes that the ability to offer stock options is of critical
importance in attracting, motivating and retaining employees in the extremely
competitive software industry. Accordingly, the Company believes that a
significant quantity of available shares for future options grants must be
provided at this time, particularly to support the Company's continued
development and sales of Version 6.0 of its BPCS software product.
As of April 15, 1997, the market value of the 2,700,000 additional shares
reserved for issuance under the Incentive Plan was $12,318,750. Cash payments
received by the Company under the Incentive Plan will be used for general
corporate purposes. No more than 200,000 shares may be granted under the
Incentive Plan in any one calendar year to any one employee.
Under the Incentive Plan, the vesting schedule of all options granted to
non-employee directors will accelerate upon the death or disability of the
director. The Board of Directors has adopted, subject to stockholder approval,
an amendment that provides that, in addition to the foregoing, if a non-
employee director ceases to be a director other than voluntarily or for
"cause," the option, to the extent not otherwise exercisable, would become
exercisable on a pro-rata basis depending on the number of years the director
has served on the Board of Directors (at a rate equal to 10% per year). The
Board believes that this change is necessary and appropriate to recognize and
reward long-time service on the Board and to bring the Company's option
compensation program for outside directors into conformity with those of many
other public companies.
Finally, the amendment also is being proposed so that the Incentive Plan
will meet the statutory requirements of Code Section 162(m). In general,
Section 162(m) of the Code denies a publicly held corporation a deduction for
federal income tax purposes for compensation in excess of $1 million per year
paid to its Chief Executive Officer and the four other officers whose
compensation is disclosed in its annual proxy statement, subject to certain
exceptions. The Amendment is intended to permit the Incentive Plan to qualify
under one of these exceptions by limiting the number of options that may be
granted to any one employee in any one year.
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DESCRIPTION OF THE PLAN
General
The purpose of the Incentive Plan, which was originally adopted by the Board
of Directors of the Company on January 2, 1992, and subsequently approved by
the stockholders, is to assist the Company in attracting and retaining key
employees, and also independent contractors, non-employee directors and
consultants, and to give such persons a greater proprietary interest in, and
closer identity with, the Company and its financial success. The Incentive
Plan authorizes the Company to make grants ("Awards") of Incentive Stock
Options (within the meaning of Section 422 of the Code), Non-Qualified (or
non-statutory) Stock Options (the Incentive and Non-Qualified Stock Options
issued under the Incentive Plan are referred to collectively as "Options"),
Restricted Stock, Stock Appreciation Rights ("SARs"), and cash awards.
The Incentive Plan is administered by a committee of the Board of Directors
consisting of two or more Board members (the "Committee"). The Committee has
complete discretion to determine which employees and non-employees will be
recipients of Awards under the Incentive Plan (the "Participants") and to
establish the terms, conditions and limitations of each Award (subject to the
terms of the Incentive Plan and the applicable provisions of the Code),
including the type and amount of the Award, the number of shares of common
stock to be subject to Options or Restricted Stock, or the amount of cash to
be included in the Award, the exercise price of any Options and the date or
dates upon which the Options become exercisable or upon which any restrictions
applicable to any common stock included in the Award lapse. The Committee also
has full power to construe and interpret the Plan and the Awards granted under
the Plan, and to establish rules and regulations necessary or advisable for
its administration.
Awards under the Incentive Plan may be granted only to key employees and key
non-employees (non-employee directors, consultants, or independent
contractors) of the Company and its subsidiaries. The Committee will determine
whether a particular employee or non-employee qualifies as a "Key Employee" or
"Key Non-Employee." Awards may be granted to a prospective employee,
conditioned upon such person becoming an employee.
Terms and Conditions of Awards under the Incentive Plan
Awards under the Incentive Plan may consist of any combination of one or
more Incentive or Non-Qualified Options, Restricted Stock, SARs, or cash
awards, on a stand alone, combination or tandem basis. The Committee may
specify that Awards other than Options will be paid in cash, shares of common
stock, or a combination of cash and common stock.
The Committee is permitted to cancel any unexpired, unpaid, unexercised or
deferred Awards at any time if a Participant (a) provides services for a
competitor, (b) discloses confidential Company information, or (c) fails to
disclose and convey to the Company any invention or idea developed by the
Participant during employment by the Company and relating to the business of
the Company. Unless otherwise described below for Options, or as may be
provided in the Award, all unexpired, unpaid, unexercised or deferred Awards
will be canceled immediately if a Participant ceases his or her employment
with the Company and its subsidiaries, except for (a) retirement under a
Company retirement plan, (b) retirement in the best interest of the Company
(as determined by the Company's chief executive or other designated senior
officer), or (c) termination of the Participant's employment upon his or her
death or disability. Upon retirement under a Company retirement plan or
termination in the best interests of the Company, the Committee may permit
Awards to continue, and may accelerate exercisability and vesting. Upon the
death or disability of a Participant, his or her estate or beneficiaries (or
the Participant in the case of disability) may exercise or receive benefits
under the Award until the original expiration date as provided in the Award
(or within one year in the case of Options) and the Committee may in its
discretion accelerate the vesting or terminate the restrictions to which the
Award is subject.
Upon any change in the nature or number of outstanding shares of common
stock due to stock split, stock dividend, merger, reorganization or similar
event, adjustments will be made to the numbers of shares and the
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applicable exercise and base prices under outstanding Awards to prevent
dilution or enlargement of the Awards previously granted.
Both Incentive and Non-Qualified Options may be granted pursuant to the
Incentive Plan. Incentive Options must have an exercise price per share equal
to at least the fair market value of a share at the time the Award is granted.
As required by the Code, if an Incentive Option is granted to a Participant
who owns more than ten percent of the voting power of the Company (a
"Significant Stockholder"), then the exercise price per share will be not less
than one hundred ten percent (110%) of fair market value on the date of grant.
Fair market value equals the closing sales price of the common stock on the
date of grant. The exercise price for Non-Qualified Options will be determined
by the Committee in its sole discretion on the date of grant, and, except as
may be determined to be appropriate by the Committee pursuant to Section
162(m) of the Code, may be less than fair market value. The maximum term of
all Incentive Options granted under the Incentive Plan is ten years.
(Incentive Options granted to a Significant Stockholder have a maximum term of
five years.) The term of Non-Qualified Options may be set by the Committee in
its discretion. No Options may be granted more than ten years from the date
the Incentive Plan was adopted. All Options are non-transferable and may be
exercised during a Participant's lifetime only by the Participant.
At the time an Option is awarded, the Committee will specify the date or
dates upon which the Option, or portions of the Option, becomes exercisable.
The permissible manner of payment for the purchase price upon exercise of the
Option (such as cash, check, or the transfer of previously owned, fully paid
shares) will be set by the Committee in the particular Award agreement or by
general rules.
A Participant who ceases to be an employee or "Key Non-Employee" of the
Company or its subsidiaries will be permitted to exercise any Option, to the
extent it was exercisable on the date of such cessation, but only within one
month of such cessation, provided that if a Participant voluntarily ceases
employment after reaching age 60, he or she will be allowed three months in
which to exercise the Option, to the extent to which it was exercisable upon
termination of employment. A Participant who is terminated for "cause," as
defined in the Incentive Plan, will immediately lose all rights to exercise
any Options. If a Participant dies, his or her estate or personal
representative may exercise the Option, to the extent it was exercisable on
the date of death. If a Participant becomes permanently disabled, he or she
may exercise an Option to the extent it was exercisable at the time of the
onset of the disability or, if the Option vests periodically, to the extent it
would have been exercisable as of the next vesting date. In the case of either
death or disability, the Option must be exercised within twelve (12) months
after the date of death or onset of disability, and prior to the original
expiration date of the Option.
The Committee may award shares of common stock (or grant an Award
denominated in units of common stock) on a restricted basis. The terms of a
Restricted Stock Award, including the consideration, if any, to be paid by the
Participant to acquire the stock and the restrictions placed upon such shares
and the time or times or event or events upon which such restrictions will
lapse, will be determined by the Committee at the time the Award is made and
will be described in the Award agreement. After the Restricted Stock is
awarded, the Participant will be a stockholder with respect to such stock, and
will have rights to vote and receive dividends with respect to such stock.
Shares of Restricted Stock may not be transferred, assigned or pledged prior
to the lapse of the applicable restrictions. The Committee, in its discretion,
may accelerate the date on which the restrictions lapse.
The Committee may award SARs either alone, in tandem or in combination with
an Option or other Award. An SAR will permit the Participant to receive, upon
exercise, cash or shares of common stock equal in value to the excess of the
fair market value of a share of common stock as of the exercise date over the
base price set by the Committee at the time the SAR is granted, multiplied by
the number of shares of common stock then being exercised under the SAR. The
base price will be at least the fair market value of a share of common stock
on the date of grant, unless a lower base price is approved by the Board of
Directors. SARs will become exercisable upon the date or dates, or the
occurrence of the events, set by the Committee at the time of grant. An SAR
may only be exercised by the Participant or, if applicable, by the
Participant's personal representative.
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Under the provisions of the Incentive Plan, all members of the Board of
Directors who are not employees of the Company will receive an Option to
purchase 22,500 shares. The Option will be granted on the date such person is
first appointed or elected to the Board. Each continuing non-employee member
of the Board of Directors will receive an additional Award of an Option to
purchase 22,500 shares upon the fifth anniversary of the date the first such
Option was granted thereunder. Each Option issued to a non-employee member of
the Board of Directors will become exercisable in equal annual installments on
the first through fifth anniversaries of the date of grant, provided, however,
each such Option will become immediately exercisable if the non-employee
director ceases to be a director because of death or disability and, provided
further, that each such Option that is not otherwise exercisable upon the date
a non-employee director ceases to be a director for reasons other than
voluntary termination or for "cause" shall become exercisable on a pro-rata
basis depending upon the number of years the director has served on the Board
of Director (at a rate equal to ten percent (10%) for each such year of
service).
The Committee may award cash payments under the Incentive Plan, subject to
restrictions and conditions and other terms as determined by the Committee at
the time of the Award. A cash Award will be subject to cancellation or
forfeiture upon the terms set forth above.
Federal Income Tax Effects
Under the Code, as presently in effect, the grant of an Option or SAR or the
award of Restricted Stock under the Incentive Plan will not generate federal
income to a Participant or a deduction to the Company.
Upon exercise of a Non-Qualified Option or an SAR, the Participant will
normally be deemed to have received ordinary income in an amount equal to the
difference between the exercise price for the Option and the fair market value
of the Company's common stock on the exercise date or, in the case of an SAR,
equal to the amount of payment received from the Company (less any exercise
price, if applicable). The Company will be entitled to a tax deduction in the
same amount as is recognized by the Participant at the same time, provided the
Company includes and reports such amounts on a timely filed Form W-2 or Form
1099-MISC (or similar such IRS form filing). Upon a disposition of shares
acquired upon exercise of a Non-Qualified Option, any amount received in
excess of the market value of the shares at the time of exercise of the Option
generally will be treated as long-term or short-term capital gain, depending
on the holding period of the shares. The Company will not be entitled to any
tax deduction upon such subsequent disposition.
In the case of Incentive Options, the Participant recognizes no ordinary
income on the date of grant or exercise. If the Participant holds the stock
acquired through exercise of an Incentive Option for one year from the date of
exercise and two years from the date of grant, the Participant will thereafter
recognize long-term capital gain or loss upon a subsequent sale of the stock,
based on the difference between the Incentive Option's exercise price and the
sale price. If the stock is sold before the requisite holding period, the
Participant will recognize ordinary income based upon the difference between
the exercise price and the lesser of the sales price or the fair market value
upon the date of exercise. The Company generally will be allowed a business
expense deduction only if, and to the extent, the Participant recognizes
ordinary income.
For Awards of Restricted Stock, the fair market value of the stock is not
taxable to the Participant as ordinary income until the year the Participant's
interest is freely transferable or no longer subject to a substantial risk of
forfeiture. Section 83 of the Code, however, permits a Participant to elect to
have the fair market value of the stock taxed as ordinary income in the year
the Award if received. Dividends on Restricted Stock are treated as ordinary
income at the time paid. The Company generally will be entitled to a deduction
equal to the amount of ordinary income recognized by the Participant.
Upon the grant of a cash award, the Participant will recognize ordinary
income equal to the amount of the award, which amount will be includable in
the Participant's taxable income in the year such cash award is paid. The
Company will be entitled to a deduction in the same year equal to the amount
of the Award.
15
<PAGE>
Vote Required; Directors' Recommendation.
The Second Amendment to the Incentive Plan became effective on April 15,
1997 by Board resolution, subject to its approval by the Company's
stockholders. Accordingly, approval of the Second Amendment to the Incentive
Plan requires the affirmative vote of the holders of a majority of the shares
of common stock outstanding as of the Record Date and present in person or by
proxy at the annual meeting. The Board of Directors recommends a vote FOR
approval of the Second Amendment to the Incentive Plan. The proxies solicited
by and on behalf of the Board of Directors will be voted FOR approval of the
Incentive Plan, unless a contrary choice is specified in the proxy.
STOCKHOLDER PROPOSALS
Stockholder proposals submitted for evaluation as to inclusion in the proxy
materials for the Company's next annual meeting of stockholders must be
received by the Company not later than September 30, 1997, at the Company's
principal executive offices at 500 West Madison Street, 32nd Floor, Chicago,
Illinois 60661.
INDEPENDENT PUBLIC ACCOUNTANTS
By the selection of the Company's Board of Directors, the accounting firm of
KPMG Peat Marwick LLP, certified public accountants, serves as the Company's
independent public accountants. One or more representatives of KPMG Peat
Marwick LLP are expected to be present at the Meeting, with the opportunity to
make a statement if they desire to do so, and to be available to respond to
appropriate questions.
COMPLIANCE WITH SECTION 16(A) OF THE EXCHANGE ACT
Section 16(a) of the Securities Exchange Act of 1934, as amended, requires
the Company's directors and officers and holders of 10% or more of the
Company's Common Stock, to file with the Securities and Exchange Commission
reports of ownership and changes in ownership on the SEC's Forms 3, 4 and 5.
Mr. Filipowski and Dr. Zangwill were granted stock options in connection with
their appointment to the Board of Directors in July 1996. Mr. Filipowski and
Dr. Zangwill have subsequently filed the necessary Reports on Form 5 in
connection with such grants.
ADDITIONAL INFORMATION
The audited Financial Statements of the Company for the fiscal year ended
October 31, 1996 are included in the attached Annex A to this Proxy Statement.
Annex A also contains the information required by the Securities and Exchange
Commission to be included in an Annual Report to security holders, including
information relating to the Company's change in independent accountants.
OTHER MATTERS
Management is not aware of any other matters to be presented for action at
the Meeting. If any other matters are properly brought before the Meeting, it
is the intention of the persons named as proxies in the accompanying form of
proxy to vote the shares represented thereby in accordance with their best
judgment.
For the Board of Directors
Joseph J. Skadra
Secretary
Chicago, Illinois
May 5, 1997
16
<PAGE>
ANNEX A
SYSTEM SOFTWARE ASSOCIATES, INC.
GENERAL AND FINANCIAL INFORMATION
FISCAL YEAR 1996
FIRST QUARTER 1997
----------------
CONTENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
GENERAL INFORMATION....................................................... A-2
FINANCIAL INFORMATION..................................................... A-3
Selected Consolidated Financial Information............................... A-3
Management's Discussion and Analysis of Financial Condition and Results of
Operations (Three Months Ended January 31, 1997)......................... A-4
Management's Discussion and Analysis of Financial Condition and Results of
Operations (Annual Periods ended October 31, 1996)....................... A-6
Quarterly Consolidated Financial Statements (Unaudited)................... A-12
Consolidated Balance Sheet as of January 31, 1997....................... A-12
Consolidated Statements of Operations for the Three Months Ended January
31, 1997 and 1996...................................................... A-14
Consolidated Statements of Cash Flows for the Three Months Ended January
31, 1997 and 1996...................................................... A-15
Notes to Consolidated Financial Statements.............................. A-16
Independent Auditors' Report.............................................. A-18
Report of Independent Accountants......................................... A-19
Annual Consolidated Financial Statements.................................. A-20
Consolidated Balance Sheets as of October 31, 1996 and 1995............. A-20
Consolidated Statements of Operations for the Fiscal Years Ended October
31, 1996, 1995 and 1994................................................ A-22
Consolidated Statements of Cash Flows for the Fiscal Years Ended October
31, 1996, 1995 and 1994................................................ A-23
Consolidated Statements of Changes in Stockholders' Equity for the
Fiscal Years Ended October 31, 1996, 1995 and 1994..................... A-24
Notes to Consolidated Financial Statements.............................. A-25
CHANGE IN CERTIFYING ACCOUNTANTS.......................................... A-37
</TABLE>
A-1
<PAGE>
GENERAL INFORMATION
THE COMPANY
System Software Associates, Inc. (the "Company" or "SSA") is a leading
provider of cost-effective business enterprise information systems to the
industrial sector worldwide. SSA's BPCS (Business Planning and Control System)
Client/Server product provides business process re-engineering and integration
of an enterprise's operations, including multi-mode manufacturing processes,
supply chain management and global financial solutions. The BPCS Client/Server
solution delivers scaleability, interoperability and reconfigurability in its
comprehensive product suite to meet changing market demands. The distributed
object computing architecture (DOCA) of BPCS Client/Server provides the
benefits of next generation technology in conformity with industry standards.
The Company markets, sells and services its products to intermediate and large
size enterprises through a worldwide network of its own sales organization and
a network of approximately 90 independent software companies ("Affiliates")
and major systems integrators.
DIRECTORS
<TABLE>
<S> <C>
Roger E. Covey.......... Chief Executive Officer and Chairman of the Board,
System Software Associates, Inc.
Andrew J. Filipowski.... President and Chief Executive Officer of PLATINUM technology, inc.
John W. Puth............ President, J. W. Puth Associates
William N. Weaver, Jr... Member, Law Firm of Sachnoff & Weaver, Ltd.
Willard I. Zangwill..... Professor of Management Science, University of Chicago
School of Business
EXECUTIVE OFFICERS
Roger E. Covey.......... Chairman of the Board and Chief Executive Officer
Joseph J. Skadra........ Vice President and Chief Financial Officer
Riz Shakir.............. Vice President, Architecture & Technology
</TABLE>
FORM 10-K
The Form 10-K Annual Report contains certain information for the fiscal year
ended October 31, 1996, and is available at no charge to stockholders upon
written request to System Software Associates, Inc., 500 West Madison Street,
Chicago, Illinois 60661, USA, Attention: Joseph J. Skadra, Vice President and
CFO.
TRANSFER AGENT AND REGISTRAR
The First National Bank of Chicago
Suite 0123
Chicago, Illinois 60670-0123
CORPORATE HEADQUARTERS
System Software Associates, Inc.
500 West Madison
Chicago, Illinois 60661 USA
Telephone:(312) 258-6000
Facsimile:(312) 474-7500
Worldwide Web Address: http://www.ssax.com
A-2
<PAGE>
PRICE RANGE OF COMMON STOCK
The Company's common stock is traded on the Nasdaq National Market under the
symbol SSAX. The following table shows the quarters' high and low closing
prices as reported by Nasdaq.
<TABLE>
<CAPTION>
FISCAL 1996 HIGH LOW FISCAL 1995 HIGH LOW
- ----------- ---- --- ----------- ---- ---
<S> <C> <C> <C> <C> <C>
First Quarter $27.67 $18.63 First Quarter $11.75 $ 8.17
Second Quarter 25.63 20.50 Second Quarter 18.92 11.50
Third Quarter 24.13 11.63 Third Quarter 19.59 12.59
Fourth Quarter 13.38 8.69 Fourth Quarter 30.00 15.25
<CAPTION>
FISCAL 1997
- -----------
<S> <C> <C> <C> <C> <C>
First Quarter 14.06 10.00
</TABLE>
At April 11, 1997 there were approximately 405 holders of record.
FINANCIAL INFORMATION
SELECTED CONSOLIDATED FINANCIAL INFORMATION
<TABLE>
<CAPTION>
THREE MONTHS
ENDED YEARS ENDED OCTOBER 31,
JANUARY 31, ----------------------------------------
1997 1995 1994
STATEMENT OF OPERATIONS (UNAUDITED) 1996 RESTATED RESTATED 1993 1992(1)
DATA ------------ ------ -------- -------- ------ -------
(IN MILLIONS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C> <C> <C>
Operating revenues....... $ 92.2 $340.8 $374.1 $324.3 $263.4 $228.8
Net income (loss)........ (4.3) (32.8) 26.6 10.0 23.4 26.6
Earnings (loss) per
share................... (0.10) (0.76) 0.63 0.25 0.57 0.66
Dividends declared per
common share............ -- 0.10 0.08 0.08 0.08 0.08
<CAPTION>
OCTOBER 31,
JANUARY 31, ----------------------------------------
1997 1995 1994
(UNAUDITED) 1996 RESTATED RESTATED 1993 1992
BALANCE SHEET DATA ------------ ------ -------- -------- ------ -------
<S> <C> <C> <C> <C> <C> <C>
Total assets............. $358.0 $384.4 $393.2 $333.1 $280.4 $200.0
Long-term obligations.... 2.4(2) 75.1 33.9 32.7 34.0 3.5
</TABLE>
- --------
Notes:
(1) Fiscal 1992 results included a non-recurring benefit of $0.13 per share
($10.4 million of revenue) related to the adoption of mandatory revenue
recognition procedures (SOP 91-1).
(2) Long-term obligations at January 31, 1997 reflect the classification of
approximately $75 million of senior note and bank debt as current, based
on November 1, 1997 maturities.
A-3
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (THREE MONTHS ENDED JANUARY 31, 1997)
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 January 31, 1997 to the Three Months
Ended January 31, 1996
Total revenues increased 20% to $92.2 million during the first quarter of
1997 over total revenues of $76.6 million during the first quarter of 1996.
The revenue increase was due to particularly strong results in Europe and
Asia/Pacific. License fees of $65.1 million grew 35% over the prior year
quarter reflecting improving market acceptance of the Company's client/server
product line. Client Services revenues for the quarter of $27.1 million
declined 5% when compared to the prior year period due to lower productivity
caused, in part, by allocation of resources to perform warranty work and
investments in training client services professionals.
Cost of license fees as a percentage of related revenues was 24% for the
first quarter of 1997, up from 19% for the corresponding prior year period.
The increase is primarily attributable to increased amortization expense of
capitalized software development costs and increased affiliate commissions.
Cost of client services as a percentage of related revenues was 87% for the
first quarter of 1997 compared to 68% during the corresponding prior year
period. Lower productivity of 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 the increase.
Sales and marketing as a percentage of license fee revenues was 35% and 43%
in the first quarters of 1997 and 1996, respectively. The decrease was
primarily due to increased productivity of the Company's direct sales
organization.
Gross (total) research and development (R&D) expenditures in the first
quarter of 1997 increased $6.9 million or 37% over the first quarter of 1996.
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 $11.3 million of
software development costs in the first quarter of 1997 as compared to $6.9
million in the first quarter of 1996. The capitalization ratio (capitalized
software as a percentage of gross R&D) in the first quarters of 1997 and 1996
was 44% and 37%, 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>
QUARTER ENDED PERCENTAGE
JANUARY 31, CHANGE
-------------- ----------
1997 VS.
1997 1996 1996
------ ------ ----------
(IN MILLIONS)
<S> <C> <C> <C>
Gross R&D expenditures............................... $ 25.4 $ 18.6 37%
Less amount capitalized.............................. (11.3) (6.9) 64%
------ ------
Net R&D costs........................................ $ 14.1 $ 11.7 21%
====== ======
</TABLE>
General and administrative expenses of $20.4 million increased $4.1 million
over the prior year to support the Company's growth, including increased
facilities costs related to acquisitions and increased costs for computer
equipment.
A-4
<PAGE>
LIQUIDITY AND CAPITAL RESOURCES--SUBSEQUENT EVENTS
At January 31, 1997, cash and equivalents totaled $25.8 million, down $12.3
million from October 31,1996. The decrease was primarily due to the operating
loss in the current quarter, continued significant investment in product
development and interest payments. At January 31, 1997 and at October 31,
1996, $46.4 million was outstanding under the Company's multi-bank line of
credit and $26.0 million was outstanding on the Company's Senior Notes
payable. Outstanding letters of credit issued against the bank line were $0.8
million and $1.2 million at January 31, 1997 and October 31, 1996,
respectively. The maturity date of the multi-bank line of credit and the
Senior Notes is November 1, 1997.
On March 27, 1997, the Company raised $12 million through the issuance of a
convertible subordinated promissory note to a private investor. The Company is
presently exploring the possibility of a public or private sale of additional
debt or equity securities to refinance existing debt, provide needed working
capital and fund an accelerated growth strategy for the Company's new version
of its client/server software product. Management believes that with an
anticipated return to profitability within the fiscal year, cash generated
from operations, combined with current working capital and proceeds of a
financing arrangement, will provide sufficient liquidity to meet the Company's
capital requirements for the foreseeable future. However, there can be no
assurance that the Company will be successful in raising additional capital or
that revenue from operations will meet the Company's expectations, and the
failure to do so would have a material adverse effect on the Company's
business, financial position and results of operations.
A-5
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (ANNUAL PERIODS ENDED OCTOBER 31, 1996)
RESULTS OF OPERATIONS
The following table presents, for the periods indicated, certain information
from the consolidated statements of income as a percentage of total revenues
and the percentage change of such items as compared to the prior year.
The Company's results of operations and balance sheets for 1995 and 1994
have been restated to exclude certain transactions related to several software
contracts. See Note 2 of Notes to Consolidated Financial Statements. The
discussion below relates to the restated financial statements.
<TABLE>
<CAPTION>
PERCENTAGE
PERCENTAGE OF TOTAL REVENUES INCREASE/(DECREASE)
YEAR ENDED OCTOBER 31, OVER PRIOR PERIOD
----------------------------------- ----------------------
1996 1995
1995 1994 VERSUS VERSUS
1996 RESTATED RESTATED 1995 1994
--------- ---------- ---------- ---------- ---------
<S> <C> <C> <C> <C> <C>
Revenues:
License fees.......... 66.5% 66.8% 70.8% (9.3)% 8.8%
Client services and
other................ 33.5% 33.2% 29.2% (8.1)% 31.2%
--------- --------- --------- ---------- ---------
Total revenues...... 100.0% 100.0% 100.0% (8.9)% 15.4%
--------- --------- --------- ---------- ---------
Costs and expenses:
Cost of license fees.. 19.6% 17.4% 18.7% 3.1% 6.9%
Cost of client
services and other... 26.1% 20.5% 17.7% 15.9% 34.3%
Sales and marketing... 30.4% 23.4% 28.0% 18.5% (3.5)%
Research and
development.......... 16.0% 10.7% 10.8% 35.3% 14.5%
General and
administrative....... 25.1% 17.0% 19.8% 34.6% (0.9)%
--------- --------- --------- ---------- ---------
Total costs and
expenses........... 117.2% 89.0% 95.0% 20.0% 8.2%
--------- --------- --------- ---------- ---------
Operating income (loss). (17.2)% 11.0% 5.0% (243.1)% 150.6%
--------- --------- --------- ---------- ---------
Gain on sale of
available-for-sale
securities............. 3.8% -- -- * *
Non-operating income
(expense), net......... (1.7)% (0.1)% (0.3)% * *
--------- --------- --------- ---------- ---------
Income (loss) before
income taxes and
minority interest...... (15.1)% 10.9% 4.7% (225.7)% 165.6%
Provision (benefit) for
income taxes........... (5.5)% 3.8% 1.7% (231.0)% 153.6%
--------- --------- --------- ---------- ---------
Income (loss) before
minority interest...... (9.6)% 7.1% 3.0% (222.8)% 172.4%
Minority interest....... -- -- 0.1% * *
--------- --------- --------- ---------- ---------
Net income (loss)....... (9.6)% 7.1% 3.1% (223.3)% 166.0%
========= ========= ========= ========== =========
</TABLE>
- --------
*not meaningful
REVENUES
Total revenues decreased 9% from 1995 to 1996. North America recorded higher
revenues in 1996 while the Company's other regions were flat to down. Revenues
increased 15% from 1994 to 1995. All regions grew in 1995, with particularly
strong results in Europe.
License Fees. License fees decreased 9% in 1996, following growth of 9% from
1994 to 1995. Despite the solid revenue growth in North America in 1996, a
sharp decline in the European region more than offset North
A-6
<PAGE>
America's favorable results. North America license fees reflected growth in
both the AS/400 and Unix product lines. In 1995, a small decline in AS/400
revenue was offset by sales of the Company's open systems product, which was
released in the second quarter of 1995. During 1996, the Company entered into
partnerships with major computer manufacturers and other systems 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. Revenues generated from these arrangements will be
recognized as software products are sold to end users.
Client Services. Client services revenues declined 8% in 1996, compared to
an increase of 31% in 1995. The decline in 1996 was due to lower productivity
caused in part by allocation of resources to perform warranty work and
investments in training client services professionals. The growth from 1994 to
1995 was related to the increase in software revenues. As a percentage of
total revenues, client services revenues increased slightly to 34% in 1996
from 33% in 1995.
Costs and Expenses.
Cost of License Fees. Cost of license fees includes commissions paid to
Affiliates, hardware costs, amortization of capitalized software costs, and
royalties paid to third parties. Cost of license fees as a percentage of
license fee revenues was 30%, 26%, and 26% in 1996, 1995, and 1994,
respectively. The increase in 1996 to 30% was primarily due to increased
amortization expense of capitalized software development costs and increased
warranty costs.
Cost of Client Services and Other. Cost of client services and other
includes salaries and other direct employment costs paid to the Company's
client services professionals and amounts paid to independent client services
professionals. Cost of client services and other as a percentage of the
related revenues was 78%, 62%, and 60% in 1996, 1995, and 1994, respectively.
The increase in 1996 is primarily due to 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.
Sales and Marketing. Sales and marketing expenses include salaries,
commissions, and other direct employment costs of the Company's sales and pre-
sales professionals, as well as marketing costs, which include advertising,
trade shows, and production of sales brochures. Sales and marketing as a
percentage of license fee revenues was 46%, 35%, and 40% in 1996, 1995, and
1994, respectively. The higher percentage in 1996 was primarily due to
decreased revenue as described above and increased expenditures to establish
worldwide marketing programs, and the development of vertical industry groups
in support of the Company's continuing move into the Unix open systems
client/server market. In addition, training programs for the sales force
resulted in increased expenses during the year. The favorable result from 1994
to 1995 was due to increased productivity of the sales force and programs to
reduce fixed expenses which began early in 1995.
Research and Development. Gross (total) research and development (R&D)
expenditures increased 56% in 1996 versus a decrease of 4% in 1995. The 1996
increase was attributable to the Company's continuing development of its
distributed object computing technology and enhancement of its existing
products. The decline in 1995 from 1994 was primarily due to expense reduction
programs which began early in 1995 and impacted R&D spending favorably by
replacing contracted technical personnel with employed technical personnel.
Excluding the costs of contracted technical personnel, remaining R&D
expenditures increased 22% in 1995 when compared to 1994 due to increased
employee costs for technical personnel.
The Company capitalizes software development costs once technological
feasibility is established, in accordance with Statement of Financial
Accounting Standards (SFAS) No. 86. The Company capitalized
$41.9, $21.6 and $29.0 million of software development costs in fiscal 1996,
1995 and 1994, respectively. The capitalization rate (capitalized software
costs as a percentage of gross R&D) in 1996, 1995, and 1994 was 44%, 35%, and
45%, respectively. The 1996 increase is due to construction and testing
activities related to the Company's distributed object computing architecture.
The decrease from 1994 to 1995 was driven by a higher
A-7
<PAGE>
proportion of R&D spending incurred to support and maintain existing products
and the completion of certain open systems products.
The following table sets forth R&D costs and related capitalized amounts for
the periods indicated.
<TABLE>
<CAPTION>
PERCENTAGE
YEAR ENDED OCTOBER 31, CHANGE
------------------------- -------------
1996 1995
VERSUS VERSUS
1996 1995 1994 1995 1994
------- ------- ------- ------ ------
(in millions)
<S> <C> <C> <C> <C> <C>
Gross R&D costs..................... $ 96.3 $ 61.8 $ 64.1 56% (4%)
Less amount capitalized............. (41.9) (21.6) (29.0)
------- ------- -------
Net R&D costs..................... $ 54.4 $ 40.2 $ 35.1 35% 15%
======= ======= =======
</TABLE>
General and Administrative. General and administrative expenses increased
35% from 1995 to 1996 following a 1% decline from 1994 to 1995. The increase
in 1996 over 1995 was primarily due to new facilities to support the Company's
worldwide expansion, increased computer equipment rent and a $9.3 million
provision for doubtful accounts. The provision for doubtful accounts was $9.3,
$3.3, and $8.0 million for the fiscal years 1996, 1995, and 1994,
respectively.
Non-operating Income (Expense), Net. Non-operating income (expense), net
consists primarily of interest expense and fees related to the Company's bank
line of credit and Senior Notes and other long-term obligations less interest
income earned on invested cash. The increase in 1996 is due to higher
borrowing levels under the Company's bank line of credit and increased fees
and interest rates related to the Company's renegotiation of its borrowing
arrangements' terms and conditions in the fourth quarter of 1996. In 1995,
higher cash balances throughout the year and higher interest rates on invested
cash as well as a reduction in interest-bearing notes payable resulted in
decreased net interest expense.
Income Taxes. The Company's effective tax expense (benefit) rate has
remained relatively constant at approximately (36%) in 1996, 35% in 1995 and
36% in 1994. The benefit recorded in 1996 represents federal and state tax
refunds to be received in 1997 and amounts to be realized through future
utilization of net operating loss and tax credit carryforwards.
Net Income (Loss). The net loss of $32.8 million in 1996 as compared to net
income in 1995 of $26.6 million resulted from the decline in 1996 in license
fees and client services revenues combined with increased expenses as
explained above.
Impact of Inflation. To date, the Company has not experienced any
significant effect from inflation. The Company's major expenses have been
salaries and related costs incurred principally for product development and
enhancements, sales and marketing, and administration. The Company generally
has been able to meet increases in costs by increasing prices of its products
and services.
Foreign Currency Exposures. Sales outside of the United States account for
approximately 60% of the Company's total revenue. The Company's international
sales (with the exception of certain Latin American countries) are
predominately invoiced and paid in foreign currencies. Consequently, the
Company's revenues are impacted by the fluctuation of foreign currencies
versus the U.S. Dollar. The operating income impact of such fluctuations,
however, is offset to the extent expenses of the Company's international
operations are incurred and paid for in local currencies.
The Company generally minimizes the financial impact of foreign currency
exchange transactions through the use of foreign exchange forward contracts,
which generally mature within three months of origination (see Note 5 of Notes
to Consolidated Financial Statements).
A-8
<PAGE>
ACQUISITIONS, MERGERS, AND INVESTMENTS
The Company continues to expand its global coverage and strengthen its
product offerings through various acquisitions, mergers, and investments (see
Notes 3 and 4 of Notes to Consolidated Financial Statements).
During 1996, the Company acquired the remaining 81% and 90% of its domestic
affiliates SSA North Central and SSA Northwest, respectively, the remaining
27% of SSA Iberica in Spain and 100% of Vector Systems, a Canadian affiliate.
In addition, the Company purchased 25% of CS Controlling Software Systeme, a
German software development company.
During 1995, through stock for stock transactions, the Company combined with
three other companies: Softwright Systems Limited, a leading provider of
business technology and systems in Europe specializing in object technology,
multimedia, and other leading edge applications, and two of the Company's
independent Affiliates, SSA Northeast and Priority Systems, Inc. Also during
1995, the Company acquired the remaining 15% minority interest in its
Australian subsidiary, an additional 9% interest in its Affiliate, SSA North
Central, 10% of its Affiliate, SSA Northwest, the BPCS division of a
California Affiliate, Exigent Computer Group, 100% of its Canadian Affiliate,
SSA Ontario, and certain assets of Transtech, Inc., a consulting group.
In July 1995, the Company entered into a strategic alliance relationship
with Harbinger Corporation pursuant to which the Company sold its EDI software
assets to Harbinger and was licensed by Harbinger to market and sell AS/400,
Unix, and PC-based EDI software products. The Company received as
consideration 550,000 shares of Harbinger common stock. In August 1995, the
Company purchased an additional 450,000 shares of Harbinger common stock.
During 1996, the Company sold its shares of Harbinger common stock.
In 1994, the Company acquired its Malaysian Affiliate, one of the leading
application software providers in that country, the remaining 49% of SSA DAT
GmbH, and the remaining 20% of SSA Italia, its direct operations in Germany
and Italy, respectively.
QUARTERLY RESULTS
The following table contains selected unaudited consolidated financial
results by quarter for 1996 and 1995. In management's opinion, this
information reflects all adjustments (which consisted only of normal recurring
adjustments) necessary to present the results fairly when read in conjunction
with the Consolidated Financial Statements and related notes included
elsewhere herein.
<TABLE>
<CAPTION>
THREE MONTHS ENDED
-----------------------------------------------------------------------
JULY 31, OCT. 31,
JAN. 31, APR. 30, 1995 1995 JAN. 31, APR. 30, JULY 31, OCT. 31,
1995 1995 RESTATED RESTATED 1996* 1996* 1996* 1996*
-------- -------- -------- -------- -------- -------- -------- --------
(in millions, except per share data)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Revenues................ $77.4 $84.3 $89.7 $122.7 $ 76.6 $ 82.5 $ 72.3 $109.4
Costs and expenses...... 74.4 77.9 81.3 99.4 77.0 92.1 106.4 124.1
----- ----- ----- ------ ------ ------ ------ ------
Operating income (loss). 3.0 6.4 8.4 23.3 (0.4) (9.6) (34.1) (14.7)
Gain on sale of
available-for-sale-
securities............. -- -- -- -- -- -- 3.6 9.5
Non-operating income
(expense), net......... (0.1) 0.1 (0.1) (0.1) (0.3) (0.5) (1.2) (3.7)
----- ----- ----- ------ ------ ------ ------ ------
Income (loss) before
income taxes and
minority interest...... 2.9 6.5 8.3 23.2 (0.7) (10.1) (31.7) (8.9)
Provision (benefit) for
income taxes........... 1.1 2.2 3.0 7.9 (0.3) (3.7) (11.4) (3.2)
----- ----- ----- ------ ------ ------ ------ ------
Income (loss) before
minority interest...... 1.8 4.3 5.3 15.3 (0.4) (6.4) (20.3) (5.7)
Minority interest....... -- (0.1) -- -- -- -- -- --
----- ----- ----- ------ ------ ------ ------ ------
Net income (loss)....... $ 1.8 $ 4.2 $ 5.3 $ 15.3 $ (0.4) $ (6.4) $(20.3) $ (5.7)
===== ===== ===== ====== ====== ====== ====== ======
Earnings (loss) per
share.................. $0.05 $0.10 $0.13 $ 0.35 $(0.01) $(0.15) $(0.47) $(0.13)
===== ===== ===== ====== ====== ====== ====== ======
</TABLE>
- --------
* After giving effect to change in accounting method.
A-9
<PAGE>
During the fourth quarter of 1996, the Company changed its method of
accounting for reseller agreements so that revenue is recorded at the time of
sale to the end user. During the first three quarters of 1996, revenue from
reseller agreements had previously been recorded upon execution of the
reseller agreement and delivery of the software. The Company believes the
change in method is more conservative and provides a more meaningful
measurement of its operations. The change in accounting method affected the
first three quarters of 1996 as follows:
<TABLE>
<CAPTION>
JANUARY 31, APRIL 30, JULY 31,
1996 AS JANUARY 31, 1996 AS APRIL 30, 1996 AS JULY 31,
ORIGINALLY 1996 ORIGINALLY 1996 ORIGINALLY 1996
REPORTED AS ADJUSTED REPORTED AS ADJUSTED REPORTED AS ADJUSTED
----------- ----------- ---------- ----------- ---------- -----------
<S> <C> <C> <C> <C> <C> <C>
Total revenues.......... $87.8 $ 76.6 $102.1 $82.5 $ 75.3 $ 72.3
License fees.......... 59.3 48.1 71.5 51.9 48.2 45.2
Client services and
other................ 28.5 28.5 30.6 30.6 27.1 27.1
Income (loss) before
income taxes and
minority interest...... 4.5 (0.7) 0.4 (10.1) (29.9) (31.7)
Net income (loss)....... 2.9 (0.4) 0.3 (6.4) (19.1) (20.3)
Earnings (loss) per
share.................. $0.07 $(0.01) $ 0.01 $(0.15) $(0.44) $(0.47)
</TABLE>
Historically, the Company's business, like many other companies in its
industry, has experienced its highest revenues in the fourth quarter of each
year and a subsequent revenue decline in the first quarter of the following
year. The Company attributes the fourth quarter revenue peak to increased year
end sales efforts and, in certain cases, to sales incentives, which come into
effect late in the year. The Company expects these quarterly trends to
continue, and that its operating results will peak in the fourth quarter of
each year and decline from that level in the first quarter of the following
year. In addition, it is becoming increasingly difficult to predict and to
rely on historical trends in the Company's quarterly results given the effects
of the demand for open-systems products, the growing significance of Major
Account sales, and the related uncertainty of the sales cycle.
The Company operates with relatively little backlog and a substantial
majority of its software license fee revenues in each quarter results from
sales efforts culminated in that quarter. As a result, if near-term demand for
the Company's products weakens or if significant anticipated sales in any
quarter do not close when expected, the Company's revenues and earnings for
that quarter would be adversely affected.
LIQUIDITY AND CAPITAL RESOURCES
At October 31, 1996, cash and equivalents totaled $38.1 million. During
1996, cash and equivalents declined $19.0 million and borrowing under the
Company's bank line of credit and Senior Notes on a net basis increased by
$42.4 million due to the operating loss in the current year, continued
significant investment in product development, payment of the Company's annual
dividend which increased 25% over the prior year ($.10 per share versus $.08
in the prior year), tax payments related to the Company's profitability in
fiscal 1995, acquisitions of affiliates and increased operating expenses in
support of the Company's strategic move into the Unix open systems market. At
October 31, 1996, $46.4 million was outstanding under the Company's $50.0
million multi-bank line of credit. At October 31, 1995, there was no
outstanding balance. During 1996, the Company made its scheduled $4.0 million
repayment on its Senior Notes, leaving $26.0 million outstanding at October
31, 1996.
Based on the financial results for 1996, the Company was in technical
default of certain financial covenants contained in its $50.0 million bank
line of credit and its Senior Notes. The Company obtained waivers of the
defaults through February 1, 1997, and in January, 1997, amended certain terms
and conditions of both the bank line of credit agreement and the Senior Notes,
whereby all defaults were waived and the maturity dates were changed to
November 1, 1997. Additionally, pursuant to the amendments, additional
borrowings and new letters of credit under the bank line of credit are
precluded, the Senior Notes and bank line of credit are to be collateralized
with substantially all of the Company's domestic assets and a portion of the
stock of certain of the Company's foreign subsidiaries, mandatory prepayments
are required out of the proceeds of any subsequent debt
A-10
<PAGE>
or equity offering, interest rates were increased and the financial covenants
were changed as described in the Notes to Consolidated Financial Statements.
The Company also agreed to issue 500,000 and 275,000 warrants to purchase
shares of the Company's common stock at fair market value at time of issuance
to the banks and Senior Noteholders, respectively.
Management believes that, with an anticipated return to profitability in the
next fiscal year, cash generated from operations combined with current working
capital will provide sufficient liquidity to meet ordinary capital
requirements through the end of the 1997 fiscal year. The Company is presently
exploring the possibility of a public or private sale of debt or equity
securities to refinance existing debt and fund an accelerated growth strategy
for the Company's new version of its client/server software product.
A-11
<PAGE>
SYSTEM SOFTWARE ASSOCIATES, INC.
CONSOLIDATED BALANCE SHEET
(UNAUDITED)
ASSETS
<TABLE>
<CAPTION>
JANUARY 31,
1997
-------------
(IN MILLIONS)
<S> <C>
Current Assets:
Cash and equivalents........................................... $ 25.8
Accounts receivable, less allowance for doubtful accounts of
$16.5......................................................... 145.8
Income taxes receivable........................................ 1.9
Deferred income taxes.......................................... 12.6
Prepaid expenses and other current assets...................... 26.1
------
Total current assets......................................... 212.2
------
Property and Equipment:
Data processing equipment...................................... 38.4
Furniture and office equipment................................. 17.5
Leasehold improvements......................................... 9.4
Transportation equipment....................................... 1.8
------
67.1
Less--Accumulated depreciation and amortization................ 40.8
------
Total property and equipment................................. 26.3
------
Other Assets:
Software costs, less accumulated amortization of $67.4......... 88.2
Cost in excess of net assets of acquired businesses, less
accumulated amortization of $9.4.............................. 22.1
Deferred income taxes.......................................... 1.2
Investments in associated companies............................ 2.2
Miscellaneous.................................................. 5.8
------
Total other assets........................................... 119.5
------
Total Assets..................................................... $358.0
======
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
A-12
<PAGE>
SYSTEM SOFTWARE ASSOCIATES, INC.
CONSOLIDATED BALANCE SHEET
(UNAUDITED)
LIABILITIES AND STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
JANUARY 31,
1997
--------------------------------
(IN MILLIONS, EXCEPT SHARE DATA)
<S> <C>
Current Liabilities:
Short-term borrowings and current maturities
of senior notes payable.................... $ 72.4
Accrued commissions and royalties........... 24.2
Accounts payable and other accrued
liabilities................................ 55.5
Accrued compensation and related benefits... 16.9
Deferred revenue............................ 56.7
------
Total current liabilities................. 225.7
------
Long-Term Obligations......................... 2.4
------
Deferred Revenue.............................. 25.4
------
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, 42,604,000 shares
issued..................................... 0.1
Capital in excess of par value.............. 32.9
Retained earnings........................... 74.2
Cumulative translation adjustment........... (2.7)
------
Total stockholders' equity................ 104.5
------
Total Liabilities and Stockholders' Equity.... $358.0
======
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
A-13
<PAGE>
SYSTEM SOFTWARE ASSOCIATES, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED
JANUARY 31,
--------------------
1997 1996
--------- ---------
(IN MILLIONS,
EXCEPT PER SHARE
DATA)
<S> <C> <C>
Revenues:
License fees........................................... $ 65.1 $ 48.1
Client services and other.............................. 27.1 28.5
--------- ---------
Total revenues....................................... 92.2 76.6
--------- ---------
Costs and Expenses:
Cost of license fees................................... 15.9 9.1
Cost of client services and other...................... 23.5 19.4
Sales and marketing.................................... 22.9 20.5
Research and development............................... 14.1 11.7
General and administrative............................. 20.4 16.3
--------- ---------
Total costs and expenses............................. 96.8 77.0
--------- ---------
Operating income (loss).................................. (4.6) (0.4)
Non-operating income (expense), net...................... (2.1) (0.3)
--------- ---------
Income (loss) before income taxes........................ (6.7) (0.7)
Provision (benefit) for income taxes..................... (2.4) (0.3)
--------- ---------
Net income (loss)........................................ $ (4.3) $ (0.4)
========= =========
Earnings (loss) per share................................ $ (0.10) $ (0.01)
========= =========
Dividends per share...................................... $ -- $ 0.10
========= =========
Weighted average common shares outstanding............... 42.6 43.1
========= =========
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
A-14
<PAGE>
SYSTEM SOFTWARE ASSOCIATES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS
ENDED
JANUARY 31,
--------------
1997 1996
------ ------
(IN MILLIONS)
<S> <C> <C>
Cash Flows From Operating Activities:
Net income (loss)............................................ $ (4.3) $ (0.4)
Adjustments to reconcile net income (loss) to net cash
provided by (used in) operating activities:
Depreciation and amortization of property and equipment...... 2.3 2.0
Amortization of other assets................................. 7.0 4.8
Provision for doubtful accounts.............................. -- (0.7)
Deferred income taxes........................................ (2.5) (0.2)
Deferred revenue............................................. (2.9) (1.8)
Changes in operating assets and liabilities, net of
acquisitions:
Accounts receivable........................................ 14.3 16.9
Prepaid expenses and other current assets.................. (1.2) (0.3)
Miscellaneous assets....................................... 0.1 0.6
Accrued commissions and royalties.......................... (1.9) (7.8)
Accounts payable and other accrued liabilities............. (5.7) (15.7)
Accrued compensation and related benefits.................. (6.6) (5.7)
Income taxes............................................... 2.5 (7.2)
------ ------
Net cash provided by (used in) operating activities...... 1.1 (15.5)
------ ------
Cash Flows From Investing Activities:
Purchases of property and equipment.......................... (0.5) (1.5)
Software costs............................................... (11.7) (7.6)
Investments and acquisitions, net of cash acquired........... -- (2.0)
------ ------
Net cash flows used in investing activities.............. (12.2) (11.1)
------ ------
Cash Flows From Financing Activities:
Principal payments under financing obligations............... (0.7) (1.5)
Proceeds from exercise of stock options...................... 0.1 0.9
Dividends paid............................................... -- (4.2)
------ ------
Net cash used in financing activities.................... (0.6) (4.8)
------ ------
Effect of exchange rate changes on cash........................ (0.6) (0.5)
------ ------
Net decrease in cash and equivalents..................... (12.3) (31.9)
Cash and equivalents:
Beginning of year............................................ 38.1 57.1
------ ------
End of period................................................ $ 25.8 $ 25.2
====== ======
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
A-15
<PAGE>
SYSTEM SOFTWARE ASSOCIATES, INC.
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"). 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 elsewhere in this
Annex.
NOTE 2--LEGAL PROCEEDINGS
In January 1997, class action lawsuits were filed in state court in Illinois
and in the federal court in Chicago, Illinois against the Company and certain
of its officers. The federal actions allege damages to persons who purchased
the Company's common stock during the period August 22, 1994 through January
7, 1997 arising from alleged violations of the federal securities laws and
associated common laws. The state court action alleges damages to persons who
purchased the Company's common stock during the period November 21, 1994
through January 7, 1997 arising from alleged violations of the Illinois
securities laws and associated common and statutory law. Although the outcome
of these proceedings cannot be determined with certainty, management intends
to defend the actions vigorously, and, in consultation with its legal counsel,
believes that the allegations are without merit and that the final outcomes
should not have a material adverse effect on the Company's operations or
financial position.
The Company is also subject to other legal proceedings and claims which
arise in the normal course of business. Although the outcome of these
proceedings cannot be determined with certainty, management believes that the
final outcomes of these proceedings should not have a material adverse effect
on the Company's operations or financial position.
A-16
<PAGE>
(This Page Intentionally Left Blank)
A-17
<PAGE>
INDEPENDENT AUDITORS' REPORT
The Board of Directors
System Software Associates, Inc.:
We have audited the accompanying consolidated balance sheet of System
Software Associates, Inc. and its subsidiaries as of October 31, 1996, and the
related consolidated statements of operations, stockholders' equity, and cash
flows for the year then ended. These consolidated financial statements are the
responsibility of the Company's management. Our responsibility is to express
an opinion on these consolidated financial statements based on our audit.
We conducted our audit in accordance with generally accepted auditing
standards. 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 audit provides a reasonable basis
for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of System
Software Associates, Inc. and its subsidiaries as of October 31, 1996, and the
results of their operations and their cash flows for the year then ended in
conformity with generally accepted accounting principles.
KPMG Peat Marwick LLP
Chicago, Illinois
January 7, 1997, except as to Notes 6, 7, and 11
which are as of January 29, 1997
A-18
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors
and Stockholders of
System Software Associates, Inc.
In our opinion, the accompanying consolidated financial statements listed in
the accompanying index present fairly, after the restatement described in Note
2, in all material respects, the financial position of System Software
Associates, Inc. and its subsidiaries at October 31, 1995, and the results of
their operations and their cash flows for each of the two years in the period
ended October 31, 1995, in conformity with generally accepted accounting
principles. 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 of these statements in
accordance with generally accepted auditing standards which 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, assessing the accounting principles used and
significant estimates made by management, and evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for the opinion expressed above. We have not audited the consolidated
financial statements of System Software Associates, Inc. and its subsidiaries
for any period subsequent to October 31, 1995.
/s/ Price Waterhouse LLP
Chicago, Illinois
January 7, 1997, except as to Notes 6, 7 and 11 which are as of January 29,
1997
A-19
<PAGE>
SYSTEM SOFTWARE ASSOCIATES, INC.
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
OCTOBER 31,
---------------------
1995
ASSETS 1996 RESTATED
------ --------- -----------
(IN MILLIONS,
EXCEPT SHARE DATA)
<S> <C> <C>
Current Assets:
Cash and equivalents.................................... $ 38.1 $ 57.1
Accounts receivable, less allowance for doubtful
accounts of $16.5 and $12.5............................ 163.6 184.6
Income taxes receivable................................. 4.4 --
Deferred income taxes................................... 10.1 7.0
Prepaid expenses and other current assets............... 25.5 21.3
--------- ---------
Total current assets.................................. 241.7 270.0
--------- ---------
Property and Equipment:
Data processing equipment............................... 37.3 30.9
Furniture and office equipment.......................... 18.7 14.1
Leasehold improvements.................................. 9.0 7.8
Transportation equipment................................ 2.3 2.8
--------- ---------
67.3 55.6
Less--Accumulated depreciation and amortization......... 39.5 31.3
--------- ---------
27.8 24.3
--------- ---------
Other Assets:
Software costs, less accumulated amortization of $61.1
and $41.1.............................................. 82.8 59.0
Cost in excess of net assets of acquired businesses,
less accumulated amortization of $8.7 and $6.0......... 22.8 18.2
Deferred income taxes................................... 1.2 --
Investments in associated companies..................... 2.2 16.5
Miscellaneous........................................... 5.9 5.2
--------- ---------
114.9 98.9
--------- ---------
Total Assets.......................................... $ 384.4 $ 393.2
========= =========
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
A-20
<PAGE>
SYSTEM SOFTWARE ASSOCIATES, INC.
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
OCTOBER 31,
----------------------
1995
LIABILITIES AND STOCKHOLDERS' EQUITY 1996 RESTATED
------------------------------------ --------- -----------
(IN MILLIONS,
EXCEPT SHARE DATA)
<S> <C> <C>
Current Liabilities:
Current maturities of senior notes payable............ $ -- $ 4.0
Accrued commissions and royalties..................... 26.3 28.7
Accounts payable and other accrued liabilities........ 62.5 46.9
Accrued compensation and related benefits............. 23.8 23.5
Deferred revenue...................................... 58.8 61.7
Income taxes payable.................................. -- 12.9
--------- ---------
Total current liabilities........................... 171.4 177.7
--------- ---------
Long-Term Obligations................................... 75.1 33.9
--------- ---------
Deferred Revenue........................................ 27.7 27.3
--------- ---------
Deferred Income Taxes................................... -- 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, 42,577,000 and 42,094,500 shares issued.. 0.1 0.1
Capital in excess of par value........................ 32.8 26.1
Retained earnings..................................... 78.5 115.5
Unrealized gain on available-for-sale securities...... -- 2.5
Cumulative translation adjustment..................... (1.2) (0.8)
--------- ---------
Total stockholders' equity.......................... 110.2 143.4
Commitments and Contingencies (Note 11)............... -- --
--------- ---------
Total Liabilities and Stockholders' Equity.......... $ 384.4 $ 393.2
========= =========
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
A-21
<PAGE>
SYSTEM SOFTWARE ASSOCIATES, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
YEAR ENDED OCTOBER 31,
-------------------------
1995 1994
1996 RESTATED RESTATED
------ -------- --------
(IN MILLIONS, EXCEPT
SHARE DATA)
<S> <C> <C> <C>
Revenues:
License fees....................................... $226.7 $250.0 $229.7
Client services and other.......................... 114.1 124.1 94.6
------ ------ ------
Total revenues................................... 340.8 374.1 324.3
------ ------ ------
Costs and expenses:
Cost of license fees............................... 66.9 64.9 60.7
Cost of client services and other.................. 89.0 76.8 57.2
Sales and marketing................................ 103.8 87.6 90.8
Research and development........................... 54.4 40.2 35.1
General and administrative......................... 85.5 63.5 64.1
------ ------ ------
Total costs and expenses......................... 399.6 333.0 307.9
------ ------ ------
Operating income (loss).............................. (58.8) 41.1 16.4
------ ------ ------
Gain on sale of available-for-sale securities........ 13.1 -- --
Non-operating income (expense), net.................. (5.7) (0.2) (1.0)
------ ------ ------
Income (loss) before income taxes and minority
interest............................................ (51.4) 40.9 15.4
Provision (benefit) for income taxes................. (18.6) 14.2 5.6
------ ------ ------
Income (loss) before minority interest............... (32.8) 26.7 9.8
Minority interest.................................... -- (0.1) 0.2
------ ------ ------
Net income (loss).................................... $(32.8) $ 26.6 $ 10.0
====== ====== ======
Earnings (loss) per share............................ $(0.76) $ 0.63 $ 0.25
====== ====== ======
Weighted average common and equivalent shares
outstanding......................................... 43.0 42.2 40.5
====== ====== ======
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
A-22
<PAGE>
SYSTEM SOFTWARE ASSOCIATES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
YEAR ENDED OCTOBER 31,
-------------------------
1995 1994
1996 RESTATED RESTATED
------ -------- --------
(IN MILLIONS)
<S> <C> <C> <C>
Cash Flows From Operating Activities:
Net income (loss).................................. $(32.8) $ 26.6 $ 10.0
Adjustments to reconcile net income (loss) to net
cash provided by (used in) operating activities:
Depreciation and amortization of property and
equipment....................................... 9.2 7.9 8.4
Amortization of other assets..................... 23.0 17.3 11.0
Provision for doubtful accounts.................. 9.3 3.3 8.0
Gain on sale of available-for-sale securities.... (13.1) -- --
Deferred income taxes............................ (14.2) (2.6) 4.1
Deferred revenue................................. (2.5) 7.3 28.2
Minority interest................................ -- 0.1 (0.2)
Changes in operating assets and liabilities, net
of acquisitions:
Accounts receivable............................ 12.6 (32.3) (23.4)
Prepaid expenses and other current assets...... (2.1) (0.3) (0.2)
Miscellaneous assets........................... 2.4 (3.3) --
Accrued commissions and royalties.............. (6.8) 0.3 (5.7)
Accounts payable and other accrued liabilities. 8.0 1.0 16.8
Accrued compensation and related benefits...... -- 1.8 5.6
Income taxes................................... (14.2) 12.2 (4.2)
------ ------ ------
Net cash provided by (used in) operating
activities.................................. (21.2) 39.3 58.4
------ ------ ------
Cash Flows From Investing Activities:
Purchases of property and equipment................ (11.4) (5.3) (14.7)
Software costs..................................... (43.8) (25.1) (31.2)
Purchase of available-for-sale securities.......... -- (5.4) --
Investments and acquisitions, net of cash acquired. (4.5) (6.1) (1.2)
Proceeds from sale of available-for-sale
securities........................................ 23.2 -- --
Proceeds from sales of assets...................... -- 1.7 1.9
Other.............................................. (0.1) 0.3 (0.4)
------ ------ ------
Net cash flows used in investing activities.. (36.6) (39.9) (45.6)
------ ------ ------
Cash Flows From Financing Activities:
Principal payments under financing obligations..... (5.7) (3.5) (3.8)
Amount borrowed under line of credit, net.......... 46.4 -- --
Proceeds from exercise of stock options............ 2.1 4.1 0.5
Dividends paid..................................... (4.2) (3.2) (3.2)
------ ------ ------
Net cash provided by (used in) financing
activities.................................. 38.6 (2.6) (6.5)
------ ------ ------
Effect of exchange rate changes on cash.............. 0.2 0.1 (3.7)
------ ------ ------
Net increase (decrease) in cash and equivalents...... (19.0) (3.1) 2.6
Cash and equivalents:
Beginning of year.................................. 57.1 60.2 57.6
------ ------ ------
End of year........................................ $ 38.1 $ 57.1 $ 60.2
====== ====== ======
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
A-23
<PAGE>
SYSTEM SOFTWARE ASSOCIATES, INC.
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
UNREALIZED
GAIN ON TREASURY TOTAL
COMMON STOCK CAPITAL IN AVAILABLE- CUMULATIVE STOCK STOCK-
------------- EXCESS OF RETAINED FOR-SALE TRANSLATION ------------- HOLDERS'
SHARES AMOUNT PAR VALUE EARNINGS SECURITIES ADJUSTMENT SHARES AMOUNT EQUITY
------ ------ ---------- -------- ---------- ----------- ------ ------ --------
(IN MILLIONS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Balance October 31,
1993................... 27.3 $0.1 $19.9 $85.0 $-- $(1.3) (0.4) $(2.5) $101.2
---- ---- ----- ----- ---- ----- ---- ----- ------
Shares issued upon
exercise of employee
stock options.......... 0.1 0.5 0.5
Tax benefit of stock
options exercised...... 0.3 0.3
Foreign currency
translation adjustment. 0.5 0.5
Dividends paid--$0.08
per share.............. (3.2) (3.2)
Net income.............. 10.0 10.0
---- ---- ----- ----- ---- ----- ---- ----- ------
Balance October 31,
1994, Restated......... 27.4 0.1 20.7 91.8 -- (0.8) (0.4) (2.5) 109.3
---- ---- ----- ----- ---- ----- ---- ----- ------
Shares issued upon
exercise of employee
stock options.......... 0.5 4.1 4.1
Tax benefit of stock
options exercised...... 2.8 2.8
Foreign currency
translation adjustment. -- --
Dividends paid--$0.08
per share.............. (3.2) (3.2)
Shares issued in
business combinations.. 0.2 (1.5) 0.3 0.4 2.5 1.3
Unrealized gain on
available-for-sale
securities............. 2.5 2.5
Net income.............. 26.6 26.6
Shares issued in three-
for-two split.......... 14.0
---- ---- ----- ----- ---- ----- ---- ----- ------
Balance October 31,
1995, Restated......... 42.1 0.1 26.1 115.5 2.5 (0.8) -- -- 143.4
---- ---- ----- ----- ---- ----- ---- ----- ------
Shares issued upon
exercise of employee
stock options.......... 0.3 2.1 2.1
Tax benefit of stock
options exercised...... 1.2 1.2
Foreign currency
translation adjustment. (0.4) (0.4)
Dividends paid--$0.10
per share.............. (4.2) (4.2)
Shares issued in
business combinations.. 0.2 3.4 3.4
Sale of available-for-
sale securities........ (2.5) (2.5)
Net loss................ (32.8) (32.8)
---- ---- ----- ----- ---- ----- ---- ----- ------
Balance October 31,
1996................... 42.6 $0.1 $32.8 $78.5 $ -- ($1.2) -- $ -- $110.2
==== ==== ===== ===== ==== ===== ==== ===== ======
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
A-24
<PAGE>
SYSTEM SOFTWARE ASSOCIATES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1--OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES:
Nature of operations
System Software Associates, Inc. (the "Company" or "SSA") is a leading
provider of cost-effective business information systems to the industrial
sector worldwide. SSA's integrated product line BPCS (Business Planning and
Control System) provides business process reengineering and integration of all
operations, including configurable manufacturing processes, supply chain
management, and global finance solutions. SSA's object-oriented interoperable
tool set AS/SET (Application System/Solution Engineering Technology) allows
the production of platform independent client/server applications. The Company
supports its clients primarily through a worldwide network of branch offices.
The Company markets, sells, and services its products to intermediate size and
large companies through its own sales organization and a network of
approximately 90 independent software companies (the "Affiliates").
Principles of consolidation
The consolidated financial statements include the accounts of System
Software Associates, Inc. and its majority owned subsidiaries. All significant
intercompany accounts and transactions have been eliminated in consolidation.
Foreign currency translation
The functional currencies for substantially all of the Company's foreign
subsidiaries are their local currencies. The foreign subsidiaries' balance
sheets are translated at the year end rates of exchange and their results of
operations at weighted average rates of exchange for the year. Translation
adjustments resulting from this process are recorded directly in stockholders'
equity and will be included in the determination of net income (loss) only
upon sale or liquidation of the subsidiaries, which is not contemplated at
this time. Foreign exchange transaction losses aggregating $0.4 million, $0.7
million, and $0.8 million are included in general and administrative expenses
for 1996, 1995, and 1994, respectively.
Revenue recognition
The license fees generated and related commissions earned by the independent
Affiliates are included in license fees and cost of license fees,
respectively. Software license fees are recognized upon client acceptance and
delivery of the software product to the end user. Revenues and commissions
from software maintenance and HelpLine agreements are deferred and recognized
ratably over the term of the contract. Client services revenues are recorded
when such services are provided. Concentrations of credit risk with respect to
accounts receivable are limited due to a large customer base and its
geographic dispersion.
The principal components of cost of license fees are commissions paid to
independent Affiliates, hardware costs, amortization of capitalized software
costs, and royalties paid to third parties. The principal components of cost
of client services and other are salaries paid to the Company's client
services personnel and amounts paid to independent client services
professionals. Accrued Affiliate and salesman commissions are not paid until
the related accounts receivable balances have been collected.
Property and equipment
Property and equipment are stated at cost. Depreciation is computed using
various methods over the estimated useful lives of the related assets.
Leasehold improvements are amortized over the shorter of the life of the
assets or related leases. Gains or losses resulting from sales or retirements
are recorded as incurred, at
A-25
<PAGE>
SYSTEM SOFTWARE ASSOCIATES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
which time related costs and accumulated depreciation are removed from the
accounts. Maintenance and repairs are charged to expense as incurred.
Depreciation and amortization of property and equipment was $9.2 million, $7.9
million, and $8.4 million in 1996, 1995, and 1994, respectively.
Software costs
Purchased software is capitalized and stated at cost. The Company
capitalizes software development costs in accordance with Statement of
Financial Accounting Standards (SFAS) No. 86. Amortization of capitalized
costs is computed on a straight line basis using an estimated useful life of
five years or in proportion to current and anticipated revenues, whichever
provides the greater amortization. Capitalized software costs are summarized
as follows:
<TABLE>
<CAPTION>
OCTOBER 31,
--------------
1996 1995
------ ------
(IN MILLIONS)
<S> <C> <C>
Purchased software........................................ $ 9.5 $ 8.7
Internally developed software............................. 134.4 91.4
------ ------
143.9 100.1
Less--Accumulated amortization............................ (61.1) (41.1)
------ ------
Net capitalized software costs.......................... $ 82.8 $ 59.0
====== ======
</TABLE>
Amortization of capitalized software costs charged to cost of license fees
aggregated $20.0 million, $14.9 million, and $9.2 million during 1996, 1995,
and 1994, respectively.
Research and development
Research and development expenses, principally the design and development of
software products (exclusive of costs capitalized under SFAS No. 86), are
expensed as incurred.
Cost in excess of net assets of acquired businesses
The excess of cost over the fair value of the net identifiable assets of
acquired businesses is amortized on a straight-line basis, typically over a
seven-year period. Amortization expense was $2.7 million, $2.2 million, and
$1.8 million in 1996, 1995, and 1994, respectively.
Fair value of financial instruments
The fair value of cash and equivalents, receivables, accounts and income
taxes payable, and accrued expenses approximates their carrying values. The
fair value of forward contracts was not significant at October 31, 1996 and
1995. It was not practical to determine the fair value of short-term
borrowings and Senior Notes at October 31, 1996 as the Company was not in
compliance with certain covenants at that date, or the fair value of
investments in associated companies at October 31, 1996 as there are no quoted
market prices for these investments.
Earnings per share
Earnings per share for 1995 and 1994 have been computed using the weighted
average number of common shares and common share equivalents outstanding
during the periods. Weighted average shares outstanding have been adjusted to
reflect as outstanding, for such periods, all shares issuable under stock
options using the treasury stock method and the November 28, 1995 three-for-
two stock split. The loss per share for 1996 has been computed using only the
weighted average number of shares outstanding.
A-26
<PAGE>
SYSTEM SOFTWARE ASSOCIATES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
Use of estimates
Management of the Company has made a number of estimates and assumptions
relating to the reporting of assets and liabilities and the disclosure of
contingent assets and liabilities to prepare these consolidated financial
statements in conformity with generally accepted accounting principles. Actual
results could differ from those estimates.
Statements of cash flows
For purposes of reporting cash flows, the Company considers highly liquid
investments with an original maturity of three months or less to be cash
equivalents. Interest income earned on cash equivalents aggregated $1.1
million, $2.0 million, and $1.8 million during 1996, 1995, and 1994,
respectively. Supplemental information is as follows:
<TABLE>
<CAPTION>
YEAR ENDED
OCTOBER 31,
--------------
1996 1995 1994
---- ---- ----
(IN MILLIONS)
<S> <C> <C> <C> <C>
Non-cash investing and financing activities:
Leases capitalized..................................... $0.6 -- $1.9
Liabilities assumed in connection with investments and
acquisitions.......................................... $1.2 $8.7 $1.9
Shares issued in business combinations................. $3.4 $1.3 --
Cash paid during the year for:
Interest............................................... $4.0 $2.2 $3.1
Income taxes........................................... $9.5 $5.0 $3.4
</TABLE>
NOTE 2--RESTATEMENT OF PRIOR YEARS' RESULTS OF OPERATIONS
The Company has restated its consolidated financial statements for the years
ended October 31, 1995 and 1994 for revenues from software contracts entered
into during those periods.
In the third quarter of 1994, the Company entered into a software license
contract for $10.1 million. Due to problems identified during the
implementation of certain of the software products, a dispute arose. This
dispute was settled in fiscal 1996. The investigation surrounding the dispute
identified that certain uncertainties existed as of October 31, 1994 which
made the collectibility of the revenue uncertain at that date. Accordingly,
the fiscal 1994 consolidated financial statements have been restated to
reverse the revenue and certain of the costs associated with the contract. The
impact of these adjustments on the Company's consolidated financial results as
originally reported is summarized below:
<TABLE>
<CAPTION>
YEAR ENDED
OCTOBER 31, 1994
----------------------
AS ORIGINALLY AS
REPORTED RESTATED
------------- --------
(IN MILLIONS, EXCEPT
PER SHARE DATA)
<S> <C> <C>
Total Revenue...................................... $334.4 $324.3
Income Before Income Taxes and Minority Interest... $ 23.8 $ 15.4
Net Income......................................... $ 15.4 $ 10.0
Earnings Per Share................................. $ 0.38 $ 0.25
Stockholders' Equity............................... $114.7 $109.3
</TABLE>
The fiscal 1995 restatement reflects the reversal of revenues for three
contracts entered into during that year. During the third quarter of 1995, the
Company recognized $5.0 million in revenues from the final two installment
A-27
<PAGE>
SYSTEM SOFTWARE ASSOCIATES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
payments of a four installment payment contract. Subsequently, it was
determined that such revenue was recorded prior to the completion of
contractual terms which would allow for the revenue to be recognized. During
the third and fourth quarters of fiscal 1995, the Company entered into
reseller agreements of $10.0 and $5.0 million, respectively. Subsequently, the
Company determined that the payment terms for the contracts were not fixed.
Accordingly, the fiscal 1995 consolidated financial statements have been
restated to reverse the revenue and certain of the costs associated with the
contracts. The impact of these adjustments on the Company's consolidated
financial results as originally reported is summarized below:
<TABLE>
<CAPTION>
YEAR ENDED
OCTOBER 31, 1995
-------------------
AS
ORIGINALLY AS
REPORTED RESTATED
---------- --------
(IN MILLIONS,
EXCEPT PER SHARE
DATA)
<S> <C> <C>
Total Revenue......................................... $394.4 $374.1
Income Before Income Taxes and Minority Interest...... $ 52.4 $ 40.9
Net Income............................................ $ 34.1 $ 26.6
Earnings Per Share.................................... $ 0.81 $ 0.63
Stockholders' Equity.................................. $156.3 $143.4
</TABLE>
NOTE 3--BUSINESS COMBINATIONS:
During the past three years the Company has expanded its global coverage and
strengthened its product offerings through various acquisitions.
The following table summarizes all acquisitions which were accounted for
under the purchase method and, accordingly, resulted in allocations of the
purchase prices to the net assets acquired based upon their estimated fair
values as of the acquisition dates. The accompanying consolidated statements
of operations reflect the results of operations of the acquired companies
since the acquisition dates. Proforma results of operations are not presented
as the acquisitions were not significant. These transactions typically
involved the Company acquiring a majority interest or additional interest in
an existing independent Affiliate.
<TABLE>
<CAPTION>
YEAR ENDED OCTOBER 31,
- -------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
(IN MILLIONS) 1996 1995 1994
- -------------------------------------------------------------------------------------------------
</TABLE>
. NofTek NW, Inc. (SSA Northwest) (a)
.SSA Ontario Corporation .SSA DAT GmbH (49%)
(c)
.SSA Services Pty., Ltd. (b)
. Castillo Informatica(SSA Iberica) (a)
. Ocean Information
Systems Sdn Bhd
(SSA Malaysia)
. Vector Systems Analysis . BPCS Division of Exigent Computer Group
. SSA North Central (a) . Certain assets of Transtech, Inc.
<TABLE>
- -------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Aggregate
consideration $8.0 $6.5 $2.7
- -------------------------------------------------------------------------------------------------------------
Goodwill $7.2 $6.3 $2.3
- -------------------------------------------------------------------------------------------------------------
</TABLE>
.SSA Italia (20%)
(c)
(a) Acquired the remaining interests of 90% in SSA Northwest, 27% in SSA
Iberica and 81% in SSA North Central in 1996.
(b) Acquired the remaining 15% interest in SSA Services Pty., Ltd. (SSA
Australia and New Zealand) in 1995.
(c) Acquired the remaining 49% of SSA Germany and a 20% interest in SSA
Italia in 1994.
During 1995, the Company issued 586,000 shares of common stock, with an
aggregate fair value of $21.9 million, for all outstanding common stock of
three companies: Softwright Systems Limited, a leading provider
A-28
<PAGE>
SYSTEM SOFTWARE ASSOCIATES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
of business object technology and systems in Europe specializing in object
technology, multimedia, and other leading edge applications, and two of the
Company's independent affiliates, SSA Northeast and Priority Systems, Inc. The
combinations were accounted for as poolings of interest. The results of
operations were included in the Company's consolidated financial statements
from the dates of combinations, as the operations for all periods prior to the
combinations were not material in relation to the Company's consolidated
financial statements.
NOTE 4--INVESTMENTS IN ASSOCIATED COMPANIES:
In July 1995, the Company entered into a strategic alliance relationship
with Harbinger Corporation pursuant to which the Company sold its EDI software
assets (net book value of $2.3 million) to Harbinger and was granted a license
by Harbinger to market and sell AS/400, Unix, and PC-based EDI software
products (there was no gain or loss recognized on the sale). Minimum royalties
amounting to $1.4 million and $5.8 million were accrued in 1995 and paid by
the Company to Harbinger during 1996. The Company received as consideration
550,000 shares of Harbinger Common Stock and 4,000,000 shares of Harbinger
Zero Coupon Preferred Stock. The Zero Coupon Preferred Stock vests at the rate
of up to 1,000,000 shares per year beginning in 1997 based upon achieving
certain performance targets, and must be redeemed by Harbinger upon vesting
for $1.00 per share in cash or, at the option of the Company, an equivalent
amount of Harbinger Common Stock. In August 1995, the Company purchased an
additional 450,000 shares of Harbinger Common Stock. At October 31, 1995, the
investment in Harbinger Corporation Common Stock was classified as available-
for-sale and reported at its fair value of $14 million. The adjustment to fair
value in 1995 generated a $2.5 million unrealized gain, net of $1.4 million
deferred tax and was excluded from earnings and reported in a separate
component of shareholders' equity. During 1996 the Company sold all of its
shares of Harbinger Common Stock. The proceeds from the sales were $23.2
million, which resulted in a gain of $8.4 million, net of $4.7 million in
taxes.
The Company also owns minority interests in several of its affiliates and
accounts for these investments under the cost method if the Company owns less
than 20% and the equity method if ownership is more than 20% of each
associated company. The Company does not exercise significant influence over
the operations of these companies.
NOTE 5--FINANCIAL INSTRUMENTS:
The Company uses forward exchange contracts for the primary purpose of
reducing its exposure to fluctuations in foreign currency exchange rates. The
instruments are employed to manage transactional exposure. While these
financial instruments are subject to the risk that market rates may change
subsequent to the acquisition of the financial instrument, such changes would
generally be offset by opposite effects on the items being managed. The
Company's financial instruments typically mature within three months of
origination and are transacted at rates which reflect the market rate at the
date of the contract.
As of October 31, 1996, the Company had forward contracts for the purchase
and sale of European and other currencies, with purchases totaling $3.2
million and sales totaling $26.8 million. These contracts matured on or before
November 5, 1996.
NOTE 6--LINE OF CREDIT:
At October 31, 1995 the Company had a $50 million, multi-bank line of credit
which was to mature in June, 1997. At the option of the Company, borrowings
under the agreement bore interest at the Prime Rate or LIBOR plus a margin.
The margin on LIBOR ranged from 3/4% to 3%, and was based on the cumulative
amount borrowed and the leverage ratio of the Company at the time of the
borrowings. Certain of the Company's majority-owned subsidiaries were eligible
to borrow under the agreement, either in U.S. or local currency. Available
borrowings were reduced by outstanding letters of credit, and 10% of the face
amount of outstanding
A-29
<PAGE>
SYSTEM SOFTWARE ASSOCIATES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
foreign currency hedge contracts once the Company's total foreign currency
hedges exceeded $50 million. The Company was required to pay a commitment fee
equal to 1/8% of the unused portion of the commitment. The agreement contained
covenants that were essentially the same as those of the senior notes
described in Note 7, and also included a covenant based on the Company's quick
ratio.
As a result of operating losses during 1996, the Company was unable to
maintain compliance with certain of the financial covenants within the
agreement and technical defaults occurred. The Company obtained waivers of the
defaults through February 1, 1997, and in January 1997 amended certain terms
and conditions of the agreement whereby all defaults were waived and the
maturity date on the line of credit was extended to November 1, 1997. Other
significant provisions of the amendment include the following: Additional
borrowings and new letters of credit are precluded and the line of credit is
to be collateralized with substantially all of the Company's domestic assets
and a portion of the stock of certain of the Company's foreign subsidiaries.
Upon delivery of the collateral, the interest rate on outstanding borrowings
changes from the current default rate of prime +2% to prime +1% (increasing to
Prime +3% upon a subsequent default), and letter of credit fees will be 2% per
annum (3% upon a subsequent default). The existing financial covenants have
been replaced with covenants that require the Company to maintain and report a
weekly minimum cash balance, maintain a minimum net worth and limit its
quarterly capital expenditures. Additionally, the Company has agreed to issue
warrants at fair market value at the time of issuance to the banks to purchase
an aggregate of 500,000 shares of the Company's common stock. The warrants
will be freely transferable and can be exercised at any time within five years
of the issue date. The Company is required to make a mandatory prepayment pro-
rata to the banks and Senior Noteholders of 100% of the proceeds of any debt
or equity offering up to the amount of unpaid indebtedness outstanding to the
banks and the Noteholders.
At October 31, 1996, borrowings under the line of credit of $46.4 million
were classified as long-term. Outstanding letters of credit issued against the
line of credit at October 31, 1996 were $1.2 million. The weighted average
interest rate on outstanding borrowings during 1996 was 7.78%. There were no
borrowings under the line of credit during 1995 and 1994, except for $10
million borrowed and repaid in October 1994.
NOTE 7--LONG-TERM OBLIGATIONS:
Long-term obligations consist of the following:
<TABLE>
<CAPTION>
OCTOBER 31,
-----------
1996 1995
----- -----
(IN
MILLIONS)
<S> <C> <C>
Multi-bank line of credit (See Note 6)....................... $46.4 $ --
Senior Notes payable......................................... 26.0 30.0
Notes payable and other obligations.......................... 1.2 9.8
Obligations under capital leases............................. 3.6 1.7
----- -----
77.2 41.5
Less--Current maturities..................................... 2.1 7.6
----- -----
$75.1 $33.9
===== =====
</TABLE>
At October 31, 1996, Senior Notes payable consisted of $4 million senior
notes and $22 million senior notes originally due September 15, 1997 and
September 15, 1998, respectively, with the original interest rates of 6.23%
and 6.69%, respectively. The notes contained covenants including minimum net
worth, fixed charge coverage and leverage ratios.
As a result of operating losses during 1996, the Company was unable to
maintain compliance with the fixed charge financial covenant of the notes and
technical defaults occurred. The Company obtained waivers of the
A-30
<PAGE>
SYSTEM SOFTWARE ASSOCIATES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
defaults through February 1, 1997, and in January 1997 amended certain terms
and conditions of the Senior Notes whereby all defaults were waived and the
maturity dates were changed to November 1, 1997. Under an intercreditor
arrangement with the Company's banks and as described in Note 6, the notes
have been collateralized with certain of the Company's assets and mandatory
prepayments are required from the proceeds of any debt or equity offering.
Interest due on the notes was changed from semi-annual to monthly payment
dates. Upon delivery of collateral, the interest rates on each of the notes
changes from the current default rates of 8.23% and 8.69%, respectively, to
prime +1% (increasing to prime +3% upon a subsequent default). The existing
financial covenants have been amended to be the same as the new covenants
contained in the Company's line of credit described in Note 6. Additionally,
the Senior Noteholders will be issued warrants to purchase 275,000 shares of
the Company's common stock under the same terms as the warrants issued to the
banks as described in Note 6. At October 31, 1996, the Senior Notes of $26
million were classified as long-term.
At October 31, 1996, notes payable and other obligations consist of
commitments made in connection with investments and acquisitions which mature
as follows: $0.6 million in 1997, and $0.6 million in 1998.
Capital lease obligations represent the present value of future payments
under leases for transportation and data processing equipment. The recorded
cost of these assets aggregated $5.6 million and $5.6 million at October 31,
1996 and 1995, respectively; accumulated amortization thereon aggregated $3.4
million and $3.3 million, respectively. Amortization of assets under capital
leases is included in depreciation and amortization expense.
The following is a schedule of future minimum lease payments under capital
lease obligations, together with the present value of minimum lease payments
at October 31, 1996:
<TABLE>
<CAPTION>
YEAR ENDING OCTOBER 31, (IN MILLIONS) AMOUNT
------------------------------------- ------
<S> <C>
1997............................................................... $1.8
1998............................................................... 1.6
1999............................................................... 0.6
2000............................................................... 0.1
----
Total minimum lease payments....................................... 4.1
Less--Amount representing interest................................. 0.5
----
Present value of minimum lease payments............................ 3.6
Less--Current maturities........................................... 1.5
----
$2.1
====
</TABLE>
Interest expense was $4.7 million, $2.2 million, and $2.8 million during
1996, 1995, and 1994, respectively.
A-31
<PAGE>
SYSTEM SOFTWARE ASSOCIATES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
NOTE 8--INCOME TAXES:
Deferred income taxes arise from temporary differences between the income
tax basis of assets and liabilities and their reported amounts in the
consolidated financial statements.
Pretax income (loss) from continuing operations was taxed in the following
jurisdictions:
<TABLE>
<CAPTION>
YEAR ENDED OCTOBER
31,
-------------------
1996 1995 1994
------ ----- -----
(IN MILLIONS)
<S> <C> <C> <C>
Domestic.............................................. $(57.6) $31.4 $ 7.7
Foreign............................................... 6.2 9.5 7.7
------ ----- -----
$(51.4) $40.9 $15.4
====== ===== =====
</TABLE>
The provision for income taxes consists of the following:
<TABLE>
<CAPTION>
YEAR ENDED OCTOBER
31,
--------------------
1996 1995 1994
------ ----- -----
(IN MILLIONS)
<S> <C> <C> <C>
Current:
Federal........................................... $ (8.3) $ 8.9 $(4.9)
State............................................. (2.8) 0.7 0.1
Foreign........................................... 5.3 7.2 6.3
------ ----- -----
(5.8) 16.8 1.5
------ ----- -----
Deferred:
Federal........................................... (11.5) (2.8) 4.7
State............................................. (0.8) (0.1) 0.4
Foreign........................................... (0.5) 0.3 (1.0)
------ ----- -----
(12.8) (2.6) 4.1
------ ----- -----
$(18.6) $14.2 $ 5.6
====== ===== =====
</TABLE>
In addition to taxes incurred on foreign operations, the Company is subject
to and includes foreign taxes on net remittances from foreign Affiliates as a
component in its provision for foreign income taxes. No domestic provision has
been recorded for unremitted earnings of foreign subsidiaries as it is
anticipated that any U.S. income taxes on distributions of earnings not
permanently reinvested will be offset by foreign tax credits.
A reconciliation of taxes based on the federal statutory rate and the
Company's actual provision is as follows:
<TABLE>
<CAPTION>
YEAR ENDED OCTOBER
31,
--------------------
1996 1995 1994
------ ----- -----
(IN MILLIONS)
<S> <C> <C> <C>
Income tax at the federal statutory rate............ $(18.0) $14.3 $ 4.5
State income taxes, net of federal benefit.......... (1.3) 0.6 0.1
Foreign Sales Corporation, net...................... -- (0.1) (0.4)
Foreign operating losses............................ (0.3) 0.6 1.7
Research and development tax credit................. (1.2) (1.3) (2.1)
Meals and entertainment............................. 1.1 0.4 0.1
Other, net.......................................... 1.1 (0.3) 1.7
------ ----- -----
$(18.6) $14.2 $ 5.6
====== ===== =====
</TABLE>
A-32
<PAGE>
SYSTEM SOFTWARE ASSOCIATES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
The net deferred tax balance is comprised of (asset) liability:
<TABLE>
<CAPTION>
AS OF
OCTOBER 31,
-------------
1996 1995
------ -----
(IN
MILLIONS)
<S> <C> <C>
Revenues (net of commissions) recognized for tax purposes in
advance of financial reporting............................. $ (3.3) $(3.2)
Capitalization of software costs for financial reporting
purposes................................................... 24.7 15.6
Provision for doubtful accounts............................. (5.0) (3.7)
Rent expense for financial reporting purposes............... (1.4) (1.6)
Expense recognized for financial reporting purposes in
advance of tax............................................. (3.0) (1.2)
Deferred gain............................................... (1.6) (1.7)
Unrealized equity gain...................................... -- 1.4
Domestic credit carryforwards............................... (1.4) (1.4)
Foreign carryforwards....................................... (3.6) (4.0)
Foreign tax credit carryforwards............................ (11.0) --
Research and development credit carryforwards............... (2.6) --
Domestic net operating loss carryforwards................... (11.7) --
Valuation allowance......................................... 8.3 3.2
Other, net.................................................. 0.3 (0.5)
------ -----
$(11.3) $ 2.9
====== =====
</TABLE>
At October 31, 1996, the Company has approximately $6.0 million of foreign
net operating loss carryforwards, $31.1 million of domestic net operating loss
carryforwards, and $15.0 million of tax credit carryforwards. At October 31,
1996 and October 31, 1995, the Company recorded valuation allowances related
to these items of $8.3 million and $3.2 million, respectively. The Company
recognizes certain deferred tax assets based upon Management's assessment that
these assets will "more likely than not" be recognized in the future in
accordance with SFAS 109, "Accounting for Income Taxes". This assessment is
based primarily on estimates of future operating results.
Of the $6.0 million of foreign net operating loss carryforwards, $3.0
million expire in varying amounts through the fiscal year ending October 31,
2003 and $3.0 million may be carried forward indefinitely. The $31.1 million
of domestic net operating loss carryforwards expire on October 31, 2011. The
$15.0 million of tax credit carryforwards expire in varying amounts through
the fiscal year ending October 31, 2011.
During 1996, 1995, and 1994 certain employees disposed of shares acquired
through the exercise of stock options that allowed the Company to record
additional compensation expense for tax purposes measured as the difference
between the fair value of the stock and the option price at the date of
exercise. The aggregate tax benefit to the Company of $1.2 million, $2.8
million, and $0.3 million, respectively, has been credited to capital in
excess of par value.
NOTE 9--STOCKHOLDERS' EQUITY:
The Company has certain stock option plans and a long-term incentive plan
under which options to purchase shares of the Company's common stock, stock
appreciation rights, restricted stock, and cash awards may be granted to key
employees and non-employees of the Company and its Affiliates. The plans
provide that an aggregate of 6,356,250 common shares be available for grant,
subject to adjustments for stock splits, stock dividends, mergers, or other
changes in capitalization. Options become exercisable in varying periods
(typically
A-33
<PAGE>
SYSTEM SOFTWARE ASSOCIATES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
5 years) and are priced by the Board of Directors, but may not be less than
50% of the fair market value of the shares at the date of grant. All options
granted during 1996, 1995, and 1994 were granted at fair market value.
The following is a summary of stock option activity:
<TABLE>
<CAPTION>
AVAILABLE OPTION PRICE
FOR GRANT UNEXERCISED EXERCISABLE PER SHARE
---------- ----------- ----------- ---------------
<S> <C> <C> <C> <C>
Balance, October 31, 1993.. 1,199,362 1,258,760 428,688 $ 1.38 -- 24.75
---------- ---------- -------- ---------------
Granted.................... (571,500) 571,500 11.75 -- 16.75
Becoming exercisable....... 280,293 4.64 -- 24.75
Cancelled.................. 54,900 (54,900) 6.00 -- 15.13
Exercised.................. (97,900) (97,900) 2.89 -- 12.38
---------- ---------- -------- ---------------
Balance, October 31, 1994.. 682,762 1,677,460 611,081 1.38 -- 24.75
---------- ---------- -------- ---------------
Granted.................... (498,000) 498,000 12.25 -- 27.13
Becoming exercisable....... 338,367 6.00 -- 24.75
Cancelled.................. 154,467 (154,467) 6.00 -- 19.67
Exercised.................. (497,946) (497,946) 1.56 -- 19.50
Reflect three-for-two stock
split..................... 169,615 761,524 225,751
---------- ---------- -------- ---------------
Balance, October 31, 1995.. 508,844 2,284,571 677,253 0.92 -- 18.09
---------- ---------- -------- ---------------
Granted.................... (1,468,001) 1,468,001 9.81 -- 24.08
Becoming exercisable....... 393,822 4.00 -- 18.08
Cancelled.................. 1,384,237 (1,384,237) (191,211) 4.00 -- 24.08
Exercised.................. (275,906) (275,906) 1.93 -- 13.89
---------- ---------- -------- ---------------
Balance, October 31, 1996.. 425,080 2,092,429 603,958 $ 0.92 -- 13.89
========== ========== ======== ===============
</TABLE>
During 1988, the Board of Directors approved a stockholder rights plan
designed to deter coercive takeover tactics and to prevent an acquirer from
gaining control of the Company without offering a fair price to all of the
Company's stockholders. At that time, the Company declared a distribution of
one right for each share of common stock outstanding (effected as a stock
dividend) to stockholders of record as of May 5, 1988, and generally to shares
issuable under the Company's stock option plans. Each right entitles the
registered holder to purchase from the Company one share of common stock at a
purchase price of $47. Each right is exercisable ten days after the
acquisition of 20% or more of the Company's voting stock, or the commencement
of a tender or exchange offer under which the offerer would own 30% or more of
the Company's stock.
In the event of a proposed takeover satisfying certain additional
conditions, the rights could be exercised by all holders other than the
takeover bidder at an exercise price of half of the current market price of
the Company's common stock. This would have the effect of significantly
diluting the holdings of the takeover bidder. These rights expire on May 3,
1998.
A-34
<PAGE>
SYSTEM SOFTWARE ASSOCIATES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
NOTE 10--FOREIGN INFORMATION:
Information regarding geographic areas for the years ended October 31, 1996,
1995, and 1994 is as follows:
<TABLE>
<CAPTION>
EUROPE
UNITED STATES MIDDLE EAST OTHER ELIMINATIONS TOTAL
------------- ----------- ------ ------------ ------
(IN MILLIONS)
<S> <C> <C> <C> <C> <C>
Year Ended October 31,
1996
Sales to unaffiliated
customers............ $164.9 $113.8 $ 95.0 $(32.9) $340.8
Operating loss........ $(17.4) $(26.6) $(14.8) $(58.8)
Identifiable assets... $234.9 $ 98.6 $107.2 $(56.3) $384.4
====== ====== ====== ====== ======
Year Ended October 31,
1995
Sales to unaffiliated
customers............ $173.7 $148.1 $ 92.0 $(39.7) $374.1
Operating income...... $ 28.5 $ 9.3 $ 3.3 $ 41.1
Identifiable assets... $225.2 $130.2 $ 87.3 $(49.5) $393.2
====== ====== ====== ====== ======
Year Ended October 31,
1994
Sales to unaffiliated
customers............ $155.5 $119.4 $ 82.6 $(33.2) $324.3
Operating income...... $ 14.0 $ 1.9 $ 0.5 $ 16.4
Identifiable assets... $199.1 $101.4 $ 84.0 $(51.4) $333.1
====== ====== ====== ====== ======
</TABLE>
The sales and operating income (loss) amounts reflected above include
intercompany royalties.
United States sales by geographical areas during the years ended October 31,
1996, 1995, and 1994 are as follows:
<TABLE>
<CAPTION>
FOREIGN
---------------------------------
EUROPE ASIA CANADA
UNITED STATES MIDDLE EAST PACIFIC LATIN AMERICA TOTAL
------------- ----------- ------- ------------- ------
(IN MILLIONS)
<S> <C> <C> <C> <C> <C>
Year Ended October 31,
1996................... $143.1 $13.0 $4.3 $4.5 $164.9
Year Ended October 31,
1995................... $147.3 $14.3 $5.4 $6.7 $173.7
Year Ended October 31,
1994................... $119.1 $16.6 $9.9 $9.9 $155.5
</TABLE>
NOTE 11--COMMITMENTS AND CONTINGENCIES:
The Company leases its office space and certain equipment under
noncancelable operating leases that expire at various dates through 2015. Rent
expense under such leases aggregated approximately $24.1 million, $15.7
million, and $9.0 million during 1996, 1995, and 1994, respectively. Minimum
annual rental commitments under noncancelable operating leases for periods
subsequent to October 31, 1996 are as follows: $23.1 million in 1997, $17.8
million in 1998, $12.5 million in 1999, $9.9 million in 2000, $8.6 million in
2001, and $42.3 million in 2002 and thereafter.
In January 1997, class action lawsuits were filed in state court in Illinois
and in the federal court in Chicago, Illinois against the Company and certain
of its officers. The federal actions allege damages to persons who purchased
the Company's common stock during the period August 22, 1994 through January
7, 1997 arising from alleged violations of the federal securities laws and
associated common laws. The state court action alleges damages to persons who
purchased the Company's common stock during the period November 21, 1994
through January 7, 1997 arising from alleged violations of the Illinois
securities laws and associated common and statutory law. Although the outcome
of these proceedings cannot be determined with certainty, management intends
to defend the actions vigorously, and, in consultation with its legal counsel,
believes that the allegations are without merit and that the final outcomes
should not have a material adverse effect on the Company's operations or
financial position.
A-35
<PAGE>
SYSTEM SOFTWARE ASSOCIATES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONCLUDED)
The Company is also subject to other legal proceedings and claims which
arise in the normal course of business. Although the outcome of these
proceedings cannot be determined with certainty, management believes that the
final outcomes of these proceedings should not have a material adverse effect
on the Company's operations or financial position.
On November 20, 1995, the Company filed an action against Owens-Illinois
("Owens") in Illinois state court seeking damages based on Owens' failure to
make payments required under a July 29, 1994, contract (the "Contract")
between the parties. On the same day the Company filed suit against Owens,
Owens filed a lawsuit in Illinois state court for recision of the Contract and
for damages. On April 18, 1996, the Company and Owens jointly announced that
they had settled the lawsuits and, as a result, both lawsuits were dismissed.
Terms of the settlement were not disclosed.
In late November, 1995, two class action suits were filed in the federal
court in Chicago, Illinois, against the Company and certain of its officers,
alleging damages to persons who purchased the Company's common stock during
the period August 21, 1995 through November 22, 1995. The plaintiffs
subsequently dismissed each of these suits voluntarily, without liability to
the Company.
On February 22, 1991, a class action lawsuit was filed in the federal court
in Chicago, Illinois, against the Company, its Chairman and Chief Executive
Officer, and its former Chief Financial Officer. On July 2, 1993, after a two
week trial, the jury returned a verdict in favor of all defendants on all
counts. On August 10, 1994, the 7th Circuit Court in Chicago affirmed the jury
verdict.
----------------
A-36
<PAGE>
CHANGE IN CERTIFYING ACCOUNTANTS
1. NOVEMBER 8, 1996 FORM 8-K.
On November 8, 1996, the Company filed a Current Report on Form 8-K with the
Securities and Exchange Commission (the "SEC") containing the following
information (the "First November 8-K"):
In a letter dated November 1, 1996, System Software Associates, Inc. (the
"Company") dismissed Price Waterhouse LLP ("PW") as the Company's principal
independent accountant. The decision to dismiss PW was approved by the
Company's Board of Directors upon recommendation by the Company's Audit
Committee of the Board of Directors.
PW's reports on the Company's consolidated financial statements for each of
the fiscal years ended October 31, 1994 and 1995 did not originally contain an
adverse opinion or a disclaimer of opinion, nor were such reports qualified or
modified as to audit scope or accounting principles. However, in a letter
dated November 4, 1996, PW notified the Company that it was withdrawing its
opinions on the Company's consolidated financial statements for each of Fiscal
1994 and 1995. In a November 1 letter to the Company (received after the
Company had dismissed PW), PW advised the Company of PW's conclusion that
facts existed at the time of the initial recognition of revenue on three
contracts which, had they been known at the time, would have caused PW to
object to the Company's accounting position on such contracts. PW further
concluded that these were material matters which would have to be corrected
through restatement of the Company's fiscal 1994 and 1995 financial
statements.
With respect to fiscal 1994, PW advised the Company that the revenue
relating to one material contract should not have been recognized in fiscal
1994. With respect to fiscal 1995, PW advised the Company that revenue from
two Latin America contracts with one customer should not have been recognized
in 1995. In addition, PW advised the Company that income recognized from the
last two payments of a four installment payment contract executed in fiscal
1995, for which recognition had earlier been deemed by PW to be immaterial,
would become material as a result of the restatement relating to the two Latin
America contracts described above.
In PW's Report on 1995 Examination to the Company, dated February 27, 1996
(the "Report on 1995 Examination"), PW indicated that it expanded the scope of
its Fiscal 1995 audit in response to a variety of factors and events relating
to the Company's business evolution. However, PW's audit report on the
Company's fiscal 1995 financial statements did not contain an adverse opinion
or a disclaimer of opinion, nor was such report qualified or modified as to
accounting principles. Moreover, in the Report on 1995 Examination, PW advised
the Company's Board of Directors and Audit Committee that there were no
disagreements with the Company's management with respect to the fiscal 1995
financial statements.
At the August 21, 1996 meeting of the Audit Committee of the Company's Board
of Directors (the "August Meeting"), PW and the Company's management discussed
the applicable criteria for recognizing revenue on a contract executed in the
third quarter of fiscal 1996 and confirmed that revenue was not to be
recognized on that contract at that time. PW has informed the Company that
these discussions should be characterized as a "disagreement," however the
Company does not believe this characterization is accurate.
At the August Meeting, PW also advised the Company that PW would need to
expand its audit procedures for the Company's fiscal 1996 audit due to
weaknesses in the Company's internal controls relating to revenue recognition.
PW elaborated on these matters in an August 30, 1996 letter (the "August
Letter"), wherein PW informed the Company of what PW considered to be two
areas of "material weakness" where internal controls necessary for the Company
to develop reliable financial statements did not exist. All of the matters
recited in the August Letter had previously been raised by PW as
recommendations (but not as "material weaknesses") in the Report on 1995
Examination. The Company has been working diligently to address each of these
matters and the Company believes that at this time all of these matters have
either been completed or are in the process of completion. In its November 1
letter to the Company, PW acknowledged the Company's efforts to address these
matters. The Company believes that the measures being taken to address PW's
recommendations will eliminate the "material weaknesses" specified in PW's
August Letter.
A-37
<PAGE>
In its November 1 letter, PW advised the Company that the weaknesses in
internal controls and management's positions with respect to the fiscal 1994
and 1995 contracts discussed above had caused PW to believe that it was no
longer able to rely on management's representations and that significantly
expanded audit procedures would be required for future audit work. In
addition, PW advised the Company in its November 1 letter that it did not
intend to stand for reappointment as the Company's independent accountants in
connection with the examination of the Company's fiscal 1997 financial
statements.
Except for the matters described above, the Company is not aware of any
other "disagreements" between the Company and PW, or any other "reportable
events" as defined in Item 304 of Regulation S-K, during fiscal 1994 or 1995
or the interim period preceding the Company's dismissal of PW.
The Company's senior executive officers and members of the Audit Committee
of the Company's Board of Directors have participated in discussions with PW
concerning the specific contracts and internal controls matters described
above. However, PW has not discussed the contents or conclusions of its
November 1 letter with management or the Audit Committee.
The Company has authorized PW to respond fully to any and all inquiries made
by KPMG Peat Marwick LLP, which the Company has requested to become its
independent accountants, concerning the subject matter of each of the matters
described above.
The Company has provided PW with a copy of this Form 8-K and has requested
PW to furnish a letter addressed to the Securities and Exchange Commission
stating whether it agrees with the above statements. A copy of such letter
will be filed as an exhibit to an amendment to this Form 8-K pursuant to Item
304(a)(3) of Regulation S-K.
2. NOVEMBER 15, 1996 8-K AMENDMENT.
On November 15, 1996, the Company filed a Form 8-K/A with the SEC to amend
the First November 8-K by adding the following correspondence:
November 14, 1996
Securities and Exchange Commission
450 Fifth Street, N.W.
Washington, D.C. 20549
Ladies and Gentlemen:
System Software Associates, Inc.
We have read the Company's Form 8-K dated November 1, 1996 and are in
agreement with the statements contained in Item 4 except that, due to a lack
of direct knowledge, Price Waterhouse LLP ("PW") is not in a position to
agree, disagree or comment upon the following statements: (1) the Company's
statement in the second paragraph of Item 4 that PW's November 1 letter was
"received after the Company had dismissed PW," and (2) the Company's statement
in the sixth paragraph of Item 4 that the Company believes its efforts to
address the material weaknesses in its internal controls "have either been
completed or are in the process of completion." Further, PW does not comment
on the contents of the press releases filed as Exhibits 20.1 and 20.2 to the
Company's Form 8-K.
Yours very truly,
/s/ Price Waterhouse LLP
Price Waterhouse LLP
A-38
<PAGE>
3. NOVEMBER 19, 1996 8-K.
On November 19, 1996, the Company filed a Current Report on Form 8-K, dated
November 12, 1996, containing the following information:
On November 12, 1996, the Company engaged KPMG Peat Marwick LLP ("KPMG") to
become the Company's new principal accountants. The decision to retain KPMG
was approved by the Company's Board of Directors upon recommendation by the
Company's Audit Committee of the Board of Directors.
On November 6, 1995, the Company had engaged KPMG to review the application
of accounting principles to a four-installment software contract executed by
the Company in 1995. However, this engagement was discontinued after a very
brief period without KPMG rendering any report, conclusion or advice as to
such contract.
On September 17, 1996, the Company engaged KPMG to review the Company's
internal controls, principally including those over the contracting process,
with the objective of providing observations and recommendations for improving
those controls, but not the rendering of any opinion. This particular
engagement is in process and no recommendations have been made to date.
The Company has requested KPMG to furnish a letter addressed to the
Commission stating whether KPMG agrees with the above statements. A copy of
such letter is filed as an exhibit hereto.
Exhibit 16.1 to November 19, 1996 Form 8-K
November 18, 1996
Securities and Exchange Commission
Washington, D.C. 20549
Ladies and Gentlemen:
RE: System Software Associates, Inc.
We have read System Software Associates, Inc.'s statements under Item 4 of
its Form 8-K dated November 12, 1996, and we agree with such statements,
except that we are not in a position to agree or disagree with the Company's
statement that the decision to retain us was approved by the Company's Board
of Directors upon recommendation of the Company's Audit Committee of the Board
of Directors.
Very truly yours,
/s/ KPMG Peat Marwick LLP
A-39
<PAGE>
4. DECEMBER 11, 1996 8-K.
On December 11, 1996, the Company filed a Current Report on Form 8-K
containing the following information:
On December 4, 1996, the Company engaged Price Waterhouse LLP ("PW") to
audit the Company's financial statements for the fiscal years ended October
31, 1994 and 1995. The decision to retain PW was approved by the Company's
Board of Directors upon recommendation by the Company's Audit Committee of the
Board of Directors.
Prior to November 1, 1996, PW had been the Company's principal independent
accountants. On November 12, 1996 (as confirmed by letter dated November 25,
1996), the Company engaged KPMG Peat Marwick LLP as the Company's new
principal independent accountants, commencing with the audit of the Company's
financial statements for the fiscal year ended October 31, 1996.
Since the Company's dismissal of PW on November 1 (as described in the Form
8-K filed by the Company on November 8, 1996), the Company has not consulted
with PW on the application of accounting principles to any specific
transaction, as to the type of audit opinion that might be rendered on the
Company's financial statements or as to any matter that was the subject of a
dispute or a reportable event.
A-40
<PAGE>
ANNEX B
AMENDMENT TO
SYSTEM SOFTWARE ASSOCIATES, INC.
CERTIFICATE OF INCORPORATION
The Certificate of Incorporation of the Corporation is hereby further
amended by striking Article FOURTH and substituting in lieu of said Article
FOURTH the following:
Article FOURTH is hereby amended to read in its entirety as follows:
FOURTH: The total number of shares of stock which the Corporation
shall have authority to issue is 250,100,000 shares which shall be
classified as follows:
(i) 250,000,000 shares of Common Stock, $0.0033 par value per
share (hereinafter called the "Common Stock"); and
(ii) 100,000 shares of Preferred Stock $0.01 par value per share
(hereinafter called the "Preferred Stock"), which may be issued from
time to time in one or more series. The number of shares, the stated
value and interest rate, if any, of each such series and the
preferences and relative, participating and special rights and the
qualifications, limitations or restrictions shall be fixed in the
case of each series by resolution of the Board of Directors at the
time of issuance subject in all cases to the laws of the State of
Delaware applicable thereto, and set forth in a certificate of
designation filed and recorded with respect to each series in
accordance with the laws of the State of Delaware.
B-1
<PAGE>
ANNEX C
SECOND AMENDMENT TO THE
SYSTEM SOFTWARE ASSOCIATES, INC.
LONG-TERM INCENTIVE PLAN
The System Software Associates, Inc. Long-Term Incentive Plan shall be
amended, effective April 15, 1997, as follows:
1. Article III ("SHARES SUBJECT TO THE PLAN") shall be amended to read as
follows:
The aggregate number of Shares as to which Awards may be granted from
time to time shall be three million six hundred thousand (3,600,000)
Shares (subject to adjustments for stock splits, stock dividends, and
other adjustments described in Article XVI hereof); provided, however,
that in accordance with Code Section 162(m), the aggregate number of
Shares to which Awards may be granted in any one calendar year to any
one Key Employee shall not exceed two hundred thousand (200,000) Shares
(subject to adjustment for stock splits, stock dividends, and other
adjustments described in Article XVI hereof).
From time to time, the Committee and appropriate officers of the
Company shall take whatever actions are necessary to file required
documents with governmental authorities and stock exchanges so as to
make Shares available for issuance pursuant to the Plan. Shares subject
to Awards that are forfeited, terminated, expired unexercised, canceled
by agreement of the Company and the Participant, settled in cash in
lieu of Common Stock, or in such manner that all or some of the Shares
covered by such Awards are not issued to a Participant, or are
exchanged for Awards that do not involve Common Stock, shall
immediately become available for Awards. Awards payable in cash shall
not reduce the number of Shares available for Awards under the Plan.
The aggregate number of Shares as to which Awards may be granted
shall be subject to change only by means of an amendment of the Plan
duly adopted by the Company and approved by the stockholders of the
Company within one year before or after the date of adoption of the
Amendment.
2. The following paragraph shall be added to Subparagraph 3 of Paragraph
N of Article VII ("TERMS AND CONDITIONS OF INCENTIVE OPTIONS AND
NONSTATUTORY OPTIONS"):
"In addition to the foregoing, in the event that a non-employee
director shall cease to be a director of the Company for any reason
other than (i) death, (ii) Disability, (iii) for "cause", or (iv)
voluntary termination by the director, any Shares subject to
Nonstatutory Options that were not otherwise exercisable at the date he
or she ceased to be a director shall become exercisable on the date of
such cessation, at the rate of ten percent (10%) of such Shares for
each completed year in which the director served as a director of the
Company."
This Second Amendment is adopted effective the 15th day of April, 1997.
C-1
<PAGE>
PROXY
SYSTEM SOFTWARE ASSOCIATES, INC.
500 West Madison Street
Chicago, Illinois 60661
This Proxy is Solicited on Behalf of the Board of Directors.
The undersigned hereby appoints Roger E. Covey and Joseph J. Skadra as
Proxies, and each of them, with the power to appoint their substitutes, and
hereby authorizes each of them to represent and to vote, as designated below,
all the shares of common stock, $0.0033 par value per share of System Software
Associates, Inc., a Delaware corporation (the "Company") held of record by the
undersigned on April 11, 1997 at the Annual Meeting of Stockholders to be held
on Wednesday, May 28, 1997, or any adjournment thereof.
Election of Directors, Nominees:
Roger E. Covey, Andrew J. Filipowski, John W. Puth, and
William N. Weaver, Jr.
You are encouraged to specify your choices by marking the appropriate boxes, SEE
REVERSE SIDE, but you need not mark any boxes if you wish to vote in accordance
with the Board of Directors' recommendations. The Proxy Committee cannot vote
your shares unless you sign and return this card.
-----------
SEE REVERSE
SIDE
-----------
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
Please mark your
[X] votes as in this 4933
example.
This proxy when properly executed will be voted in the manner directed
herein by the undersigned stockholder. If no selection is made, this proxy will
be voted for Proposals 1, 2 & 3.
FOR WITHHELD
1. Election of
Directors [_] [_]
(see reverse)
For, except vote withheld from the following nominee(s):
- --------------------------------------------------------
2. PROPOSAL to amend Article IV of the Certificate of
Incorporation of the Company, to increase the number
of authorized common shares to 250,000,000.
FOR WITHHELD ABSTAIN
[_] [_] [_]
3. PROPOSAL to amend the Long-Term Incentive Plan.
FOR WITHHELD ABSTAIN
[_] [_] [_]
4. In their discretion, the Proxies are authorized to vote upon such other
business as may properly come before the meeting, or any adjournment
thereof.
Please sign exactly as name appears at left. When shares are held by joint
tenants, both should sign. When signing as attorney, executor, administrator,
trustee or guardian, please give full title as such. If as a corporation,
please sign in full corporate name by President or other authorized officer.
If as a partnership, please sign in full partnership name by authorized person.
------------------------------------
------------------------------------
SIGNATURE(S) DATE
Please mark, date, sign and return the proxy card promptly using the enclosed
envelope. If you have any questions, please contact Joseph J. Skadra at the
Company at (312) 258-6000.
