SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
FORM 10-Q
(Mark One)
[ X ] QUARTERLY REPORT PURSUANT TO SECTION 13
OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended December 31, 1998
[ ] TRANSITION REPORT PURSUANT TO SECTION 13
OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from _________________ to _________________
Commission File Number
0-16439
FAIR, ISAAC AND COMPANY, INCORPORATED
(Exact name of registrant as specified in its charter)
DELAWARE 94-1499887
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
120 North Redwood Drive, San Rafael, California 94903
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (415) 472-2211
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes _x_ No ___.
The number of shares of Common Stock, $0.01 par value per share,
outstanding on February 9, 1999, was 14,219,644.
<PAGE>
TABLE OF CONTENTS
Page
----
PART I. FINANCIAL INFORMATION
ITEM 1. Financial Statements............................................... 3
ITEM 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations....................................... 9
ITEM 3. Quantitative and Qualitative Disclosures About Market Risk......... 16
PART II. OTHER INFORMATION
ITEM 4. Submission of Matters to a Vote of Security Holders................ 16
ITEM 6. Exhibits and Reports on Form 8-K................................... 16
SIGNATURES ............................................................... 17
EXHIBIT INDEX................................................................18
2
<PAGE>
<TABLE>
PART I - FINANCIAL INFORMATION
ITEM 1. Financial Statements.
FAIR, ISAAC AND COMPANY, INCORPORATED
CONSOLIDATED BALANCE SHEETS
December 31, 1998 and September 30, 1998
(dollars in thousands)
<CAPTION>
December 31 September 30
----------- ------------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 17,687 $ 14,242
Marketable securities 22,305 18,283
Accounts receivable, net 35,028 39,028
Unbilled work in progress 22,765 22,004
Prepaid expenses and other current assets 4,359 4,040
Deferred income taxes 4,917 5,016
--------- ---------
Total current assets 107,061 102,613
Marketable securities 23,846 24,368
Property and equipment, net 37,858 36,893
Intangibles, net 10,037 10,458
Deferred income taxes 6,398 6,398
Other assets 8,891 8,884
--------- ---------
$ 194,091 $ 189,614
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable and other accrued liabilities $ 17,656 $ 17,418
Accrued compensation and employee benefits 16,406 22,065
Billings in excess of earned revenues 8,628 7,862
Capital lease obligations 420 416
--------- ---------
Total current liabilities 43,110 47,761
Other liabilities 7,415 7,613
Capital lease obligations 685 789
--------- ---------
Total liabilities 51,210 56,163
--------- ---------
Stockholders' equity:
Preferred stock -- --
Common stock 141 140
Paid in capital in excess of par value 35,014 32,454
Retained earnings 107,445 100,678
Less treasury stock (10,621 shares at cost at 12/31/98;
9,787 at 9/30/98) (385) (351)
Accumulated other comprehensive income 666 530
--------- ---------
Total stockholders' equity 142,881 133,451
--------- ---------
$ 194,091 $ 189,614
========= =========
<FN>
See accompanying notes to the consolidated financial statements.
</FN>
</TABLE>
3
<PAGE>
FAIR, ISAAC AND COMPANY, INCORPORATED
CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME
For the three months ended December 31, 1998 and 1997
(dollars in thousands, except per share data)
Three Months Ended
December 31
--------------------------
1998 1997
----------- -----------
Revenues $ 67,977 $ 53,511
Costs and expenses:
Cost of revenues 25,071 19,865
Sales and marketing 10,279 8,747
Research and development 7,444 6,598
General and administrative 12,997 11,398
Amortization of intangibles 421 321
----------- -----------
Total costs and expenses 56,512 46,929
----------- -----------
Income from operations 11,465 6,582
Other income, net 686 29
----------- -----------
Income before income taxes 12,151 6,611
Provision for income taxes 5,103 2,644
----------- -----------
Net income $ 7,048 $ 3,967
=========== ===========
Net Income $ 7,048 $ 3,967
Other comprehensive income, net of tax:
Unrealized gains on investments 115 15
Foreign currency translation adjustments 21 44
----------- -----------
Comprehensive income $ 7,184 $ 4,026
=========== ===========
Earnings per share:
Diluted $ .49 $ .28
=========== ===========
Basic $ .50 $ .29
=========== ===========
Shares used in computing earnings per share:
Diluted 14,354,000 14,346,000
=========== ===========
Basic 14,014,000 13,489,000
=========== ===========
See accompanying notes to the consolidated financial statements.
4
<PAGE>
<TABLE>
FAIR, ISAAC AND COMPANY, INCORPORATED
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the three months ended December 31, 1998 and 1997
(dollars in thousands)
<CAPTION>
Three Months Ended
December 31
----------------------------
1998 1997
-------- --------
<S> <C> <C>
Cash flows from operating activities:
Net income $ 7,048 $ 3,967
Adjustments to reconcile net income to
cash provided by operating activities:
Depreciation and amortization 4,150 3,474
Equity loss in investment 100 170
Deferred income taxes 99 26
Deferred compensation 61 240
Changes in operating assets and liabilities:
Decrease in accounts receivable 4,021 364
(Increase) in unbilled work in progress (761) (1,078)
(Increase) in prepaid expenses and other assets (319) (200)
(Increase) in other assets (7) (45)
Increase in accounts payable and other accrued liabilities 626 3,083
(Decrease) in accrued compensation
and employee benefits (4,204) (6,885)
Increase in billings in excess of earned revenues 766 751
(Decrease) in other liabilities (1,839) (1,119)
-------- --------
Net cash provided by operating activities 9,741 2,748
-------- --------
Cash flows from investing activities:
Purchases of property and equipment (3,053) (6,008)
Payment for acquisition of subsidiary -- (91)
Purchases of marketable securities (18,002) (351)
Proceeds from maturities of marketable securities 14,015 2,019
Proceeds from the sale of marketable securities 502 --
-------- --------
Net cash used in investing activities (6,538) (4,431)
-------- --------
Cash flows from financing activities:
Principal payments of capital lease obligations (100) (94)
Proceeds from the exercise of stock options
and issuance of stock 666 335
Dividends paid (281) (270)
Repurchase of company stock (43) --
-------- --------
Net cash provided by (used in) financing activities 242 (29)
Increase (decrease) in cash and cash equivalents 3,445 (1,712)
Cash and cash equivalents, beginning of period 14,242 13,209
-------- --------
Cash and cash equivalents, end of period $ 17,687 $ 11,497
======== ========
<FN>
See accompanying notes to the consolidated financial statements.
</FN>
</TABLE>
5
<PAGE>
FAIR, ISAAC AND COMPANY, INCORPORATED
Notes to Consolidated Financial Statements
Note 1 General
In management's opinion, the accompanying unaudited consolidated financial
statements for Fair, Isaac & Company, Incorporated (the "Company") for the three
months ended December 31, 1998 and 1997 have been prepared in accordance with
generally accepted accounting principles for interim financial statements and
include all adjustments (consisting only of normal recurring accruals) that the
Company considers necessary for a fair presentation of its financial position,
results of operations, and cash flows for such periods. However, the
accompanying financial statements do not contain all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. All such financial statements presented herein are
unaudited, however, the September 30 balance sheet has been derived from audited
financial statements. This Report and the accompanying financial statements
should be read in connection with the Company's audited financial statements and
notes thereto presented in its Annual Report on Form 10-K for the fiscal year
ended September 30, 1998. Footnotes that would substantially duplicate the
disclosures in the Company's audited financial statements for the fiscal year
ended September 30, 1998, contained in the 1998 Form 10-K have been omitted. The
interim financial information contained in this Report is not necessarily
indicative of the results to be expected for any other interim period or for the
full fiscal year ending September 30, 1999.
Note 2 Earnings Per Share
The following reconciles the numerators and denominators of diluted and
basic earnings per share (EPS):
Three months ended December 31,
(in thousands, except per share data) 1998 1997
- -------------------------------------------------------------------------------
Numerator - Net income $ 7,048 $ 3,967
======== ========
Denominator - Shares:
Diluted weighted-average shares and assumed 14,354 14,346
conversions of stock options
Effect of dilutive securities - employee
stock options (340) (857)
-------- --------
Basic weighted-average shares 14,014 13,489
======== ========
Earnings per share:
Diluted $ .49 $ .28
======== ========
Basic $ .50 $ .29
======== ========
Total options outstanding included 170,000 and 132,000 options to purchase
shares of common stock at prices ranging from $39.88 to $45.63 and $41.88 to
$45.63 at December 31, 1998 and 1997, respectively. These options were not
included in the computation of diluted EPS because the exercise price for such
options was greater than the average market price of the common shares for the
three months ended December 31, 1998 and 1997.
6
<PAGE>
Note 3 Cash Flow Statement
Supplemental disclosure of cash flow information:
Three months ended December 31,
(dollars in thousands) 1998 1997
- --------------------------------------------------------------------------------
Income tax payments $4,752 $1,058
Interest paid $ 28 $ 31
Non-cash investing and financing activities:
Issuance of common stock to ESOP $1,455 $ --
Tax benefit of stock options $ 388 $ 384
Purchase of CRMA with common stock $ -- $ 111
Capital lease obligations $ -- $ 40
Note 4 Reclassifications
Certain prior period balances have been reclassified to conform to the
current period presentation.
Note 5 Accounting Pronouncements
During the first quarter of fiscal year 1999, the Company adopted Statement
of Position No. 97-2 ("SOP 97-2"), "Software Revenue Recognition," as amended by
Statement of Position No. 98-4 "Deferral of the Effective Date of a Provision of
SOP 97-2, Software Revenue Recognition". SOP 97-2 provides guidance for software
revenue recognition. The adoption of SOP 97-2 did not have a significant impact
on the Company's financial position or results of operations.
During the first quarter of fiscal year 1999, the Company adopted Statement
of Financial Accounting Standards No. 130 "Reporting Comprehensive Income" ("FAS
130"). FAS 130 requires the Company to report in the financial statements, in
addition to net income, comprehensive income and its components including
foreign currency translation adjustments and unrealized gains and losses on
certain investments in debt and equity securities. Comprehensive income is
defined as "the change in equity (net assets) of a business enterprise during a
period from transactions and other events and circumstances from non-owner
sources. It includes all changes in equity during a period except those
resulting from investments by owners and distributions to owners."
In June 1997, the FASB issued SFAS No. 131, "Disclosures about Segments of
an Enterprise and Related Information." This statement establishes standards for
publicly held entities to follow in reporting information about operating
segments in annual financial statements and requires that those entities report
selected information about operating segments in interim financial statements.
This statement also establishes standards for related disclosures about products
and services, geographic areas and major customers. This statement is effective
for annual financial statements issued for fiscal years beginning after December
15, 1997. Beginning with fiscal year 1999, management intends to conform its
annual consolidated financial statements to this pronouncement.
7
<PAGE>
In February 1998, the FASB issued SFAS No. 132, "Employers' Disclosure
about Pensions and Other Postretirement Benefits." The statement standardizes
the disclosure requirements for pension and other postretirement benefits. This
statement is effective for financial statements issued for fiscal years
beginning after December 15, 1997. The Company is currently evaluating the
impact of the disclosure. Beginning with fiscal year 1999, management intends to
conform its annual consolidated financial statements to this pronouncement.
In March 1998, the AICPA issued SOP No. 98-1, "Accounting for the Costs of
Computer Software Developed or Obtained for Internal Use." The SOP requires that
certain costs related to the development or purchase of internal-use software be
capitalized and amortized over the estimated useful life of the software. The
SOP also requires that costs related to the preliminary project stage and the
post-implementation/operations stage of an internal-use computer software
development project be expensed as incurred. This statement is effective for
financial statements issued for fiscal years beginning after December 15, 1998.
The Company's management believes that the adoption of SOP 98-1 will not have a
material impact on the Company's results of operations. Beginning with fiscal
year 2000, management intends to conform its consolidated financial statements
to this pronouncement.
8
<PAGE>
ITEM 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
General
Fair, Isaac and Company, Incorporated provides products and services
designed to help a variety of businesses use data to make better decisions on
their customers, prospective customers and existing portfolios. The Company's
products include statistically derived, rule-based analytical tools, software
designed to implement those analytical tools and consulting services to help
clients use and track the performance of those tools. The Company also provides
a range of credit scoring and credit account management services in conjunction
with credit bureaus and credit card processing agencies. Its DynaMark subsidiary
provides data processing and database management services to businesses engaged
in direct marketing activities, many of which are in the credit and insurance
industries.
The Company is organized into business units that correspond to its
principal markets: consumer credit, insurance, direct marketing (DynaMark),
enterprise-wide financial risk management (RMT) and a new unit, healthcare
information. Sales to the consumer credit industry have traditionally accounted
for the bulk of the Company's revenues. Products developed specifically for a
single user in this market are generally sold on a fixed-price basis. Such
products include application and behavior scoring algorithms (also known as
"analytic products" or "scorecards"), credit application processing systems
(ASAP(TM) and CreditDesk(R)) and custom credit account management systems,
including those marketed under the name TRIAD(TM). Software systems usually also
have a component of ongoing maintenance revenue, and CreditDesk systems have
also been sold under time- or volume-based price arrangements. Credit scoring
and credit account management services sold through credit bureaus and
third-party credit card processors are generally priced based on usage. Products
sold to the insurance industry are generally priced based on the number of
policies in force, subject to contract minimums. DynaMark and RMT employ a
combination of fixed-fee and usage-based pricing, and the healthcare information
unit intends to employ a combination of fixed-fee and usage-based pricing for
its products.
This discussion and analysis should be read in conjunction with the
Company's Consolidated Financial Statements and Notes. In addition to historical
information, this report includes certain forward-looking statements regarding
events and trends that may affect the Company's future results. Such statements
are subject to risks and uncertainties that could cause the Company's actual
results to differ materially. Such factors include, but are not limited to,
those described in this discussion and analysis.
9
<PAGE>
Results of Operations
Revenues
The following table sets forth for the fiscal periods indicated (a) the
percentage of revenues represented by fixed-price and usage-priced revenues from
the Credit business unit, and the percentage of revenues contributed by the
DynaMark, RMT, Insurance and Healthcare Information business units; and (b) the
percentage change in revenues within each category from the corresponding period
in the prior fiscal year. Credit fixed-price revenues include all revenues from
custom scorecard, software and consulting projects. Most credit usage revenues
are generated through third-party alliances such as those with credit bureaus
and third-party credit card processors. In addition, some credit scorecards and
software products are licensed under volume-based fee arrangements and these are
included in credit usage-priced revenues.
Period-to-Period
Percentage of Percentage Changes
Revenue Quarter Ended
Quarter Ended 12/31/98
December 31, Compared to
1998 1997 12/31/97
- --------------------------------------------------------------------------------
Credit
Fixed-price 25% 23% 35%
Usage-priced 47% 52% 14%
DynaMark 21% 17% 55%
RMT 2% 3% (20%)
Insurance 3% 4% 12%
Healthcare Information 2% 1% NM
------- ------
Total revenues 100% 100% 27%
======= ======
NM = Not meaningful
The increase in fixed-price credit revenues in the quarter ended December
31, 1998 was due primarily to increased revenues from Credit & Risk Management
Associates ("CRMA"), which was acquired in September 1996 as part of the Credit
business unit; sales of credit application scorecards and credit application
processing software; and its end-user credit account management systems
("TRIAD") and behavior scoring projects. Revenues from sales of credit
application scorecards and credit application processing software increased by
approximately 30 percent in the quarter. Revenues from end-user credit account
management systems ("TRIAD") and behavior scoring projects in this quarter were
up 17 percent from the same period of fiscal 1998 due primarily to strong sales
of TRIAD software.
The increase in usage revenues from the Credit business unit in the quarter
ended December 31, 1998, compared with the same period the prior year, was due
to continuing growth in (a) usage of the Company's scoring services distributed
through the three major credit bureaus in the United States and (b) the number
of bankcard accounts being managed by the Company's account management services
delivered through third-party processors. Revenues for the credit bureau scoring
services in the three-months ended December 31, 1998, were approximately 16
percent higher than in the first three months of fiscal 1998. Revenues from
credit account management services delivered through third-party processors in
the most recent three months were 9 percent higher than in the corresponding
period of fiscal 1998.
Revenues from credit bureau-related services increased 22 percent in both
fiscal l997 and fiscal 1998 and accounted for approximately 35 percent of
revenues in fiscal 1997 and 1998. During the quarter ended December 31, 1998,
revenues from credit bureau-related services increased 16 percent as compared to
quarter ended December 31, 1997. Revenues from services provided through
bankcard processors also increased in each of these years, primarily due to
increases in the number of accounts at each of the major processors.
10
<PAGE>
Revenues derived from alliances with credit bureaus and credit card
processors have accounted for much of the Company's revenue growth in the last
three years. While the Company has been very successful in extending or renewing
such agreements in the past, and believes it will generally be able to do so in
the future, the loss of one or more such alliances or an adverse change in terms
could have a significant impact on revenues and operating margin. Revenues
generated through the Company's alliances with Equifax, Inc., Experian
Information Solutions, Inc., (formerly TRW Information Systems & Services) and
Trans Union Corporation each accounted for approximately 7 to 10 percent of the
Company's total revenues in fiscal 1998.
In 1996 Experian was acquired by CCN Group Ltd., a subsidiary of Great
Universal Stores, PLC. CCN is the Company's largest competitor, worldwide, in
the area of credit scoring. TRW/Experian has offered scoring products developed
by CCN in competition with those of the Company for several years. The
acquisition had no apparent impact on the Company's revenues from Experian in
fiscal 1997 and l998.
On September 30, 1997, amendments to the federal Fair Credit Reporting Act
became effective. The Company believes these changes to the federal law
regulating credit reporting will be favorable to the Company and its clients.
Among other things, the new law expressly permits the use of credit bureau data
to prescreen consumers for offers of credit and insurance and allows affiliated
companies to share consumer information with each other subject to certain
conditions. There is also a seven-year moratorium on new state legislation on
certain issues. However, the states remain free to regulate the use of credit
bureau data in connection with insurance underwriting. The Company believes
enacted or proposed state regulation of the insurance industry has had a
negative impact on its efforts to sell insurance risk scores through credit
reporting agencies.
Since its acquisition, DynaMark has taken on an increasing share of the
mainframe batch processing requirements of the Company's other business units.
During fiscal 1998, such intercompany revenue represented more than 8 percent of
DynaMark's total revenues. Accordingly, DynaMark's externally reported revenues
tend to understate DynaMark's growth and contribution to the Company as a whole.
The increase in DynaMark's revenues shown in the foregoing table, which excludes
such intercompany revenues, was due primarily to increased revenues from
customers in the financial services industry. RMT's revenues decreased in the
quarter ended December 31, l998 principally due to the impact of bank
consolidations.
The increases in Insurance revenues for the three-month period ended
December 31, 1998, compared with the same period in fiscal 1998, were due
primarily to strong growth in insurance scoring services offered through
consumer reporting agencies. In the quarter ended December 31, l997, the
Company's new business unit, Healthcare Information, introduced a receivables
management system for hospitals and healthcare providers, and derived revenues
from providing analytical marketing services to a large pharmaceuticals
manufacturer to help improve customer relationships and management of
prescription compliance (i.e., patient's fulfillment of prescriptions and taking
them to completion). The Company signed its first revenue-generating contract
for the receivables management system for hospitals and healthcare providers in
the quarter ended December 31, 1998.
Revenues derived from outside of the United States represented
approximately 16 percent of total revenues in the quarter ended December 31,
1998, compared with 17 percent of total revenues in the same period a year
earlier.
Revenues from software maintenance and consulting services each accounted
for less than 10 percent of revenues in each of the three years in the period
ended September 30, 1998, and in the three-months ended December 31, 1998. The
Company does not expect revenues from either of these sources to exceed 10
percent of revenues in the foreseeable future.
During the period since 1990, while the rate of account growth in the U.S.
bankcard industry has been slowing and many of the Company's largest
institutional clients have merged and consolidated, the Company has generated
above-average growth in revenues--even after adjusting for the effect of
acquisitions--from its bankcard-related scoring and account management business
by deepening its penetration of large banks and other credit issuers. The
Company believes much of its future growth prospects will rest on its ability
to: (a) develop new, high-value products, (b) increase its penetration of
established or emerging credit markets outside the U.S. and Canada and (c)
expand--either directly or through further acquisitions--into relatively
undeveloped or underdeveloped markets for
11
<PAGE>
its products and services, such as direct marketing, insurance, small business
lending and healthcare information management. During fiscal 1998, the Company's
backlog of orders for fixed-priced products declined slightly, and during the
quarter ended December 31, 1998, this backlog declined an additional $5.9
million. This indicates that revenue growth in the remainder of fiscal 1999 and
later years may depend to a large extent on sales of newly developed products,
and that revenue growth during the remainder of fiscal 1999 will probably be
slower than during the quarter ended December 31, 1998.
Over the long term, in addition to the factors discussed above, the
Company's rate of revenue growth--excluding growth due to acquisitions--is
limited by the rate at which it can recruit and absorb additional professional
staff. Management believes this constraint will continue to exist indefinitely.
On the other hand, despite the high penetration the Company has already achieved
in certain markets, the opportunities for application of its core competencies
are much greater than it can pursue. Thus, the Company believes it can continue
to grow revenues, within the personnel constraint, for the foreseeable future.
At times management may forego short-term revenue growth in order to devote
limited resources to opportunities that it believes have exceptional long-term
potential. This occurred in the period from 1988 through 1990, when the Company
devoted significant resources to developing the usage-priced services
distributed through credit bureaus and third-party processors.
Expenses
<TABLE>
The following table sets forth for the periods indicated (a) the percentage
of revenues represented by certain line items in the Company's consolidated
statements of income and (b) the percentage change in such items from the same
quarter in the prior fiscal year.
<CAPTION>
Percentage of Revenue Period-to-Period
--------------------- Percentage Changes
------------------
Quarter Ended
Quarter Ended 12/31/98
December 31, Compared
----------------------- to Quarter Ended
1998 1997 12/31/97
---- ---- -----------------------
<S> <C> <C> <C>
Revenues............................... 100% 100% 27%
Costs and expenses:
Cost of revenues.................... 37 37 26
Sales and marketing................. 15 17 18
Research and development............ 11 12 17
General and administrative.......... 19 21 14
Amortization of intangibles......... 1 1 31
---- ----
Total costs and expenses............ 83 88 20
---- ----
Income from operations................. 17 12 74
Other income, net...................... 1 Less than 1 NM
---- ----
Income before income taxes............. 18 12 84
Provision for income taxes............. 8 5 93
---- ----
Net income............................. 10% 7% 78
==== ====
<FN>
NM =Not Meaningful
</FN>
</TABLE>
Cost of Revenues
Cost of revenues consists primarily of personnel, travel, and related
overhead costs; costs of computer service bureaus; and the amounts paid by the
Company to credit bureaus for scores and related information in connection with
the ScoreNet(R) service. The cost of revenues, as a percentage of revenues, was
essentially unchanged in the quarter ended December 31, 1998, as compared with
the same quarter a year earlier.
12
<PAGE>
Sales and Marketing
Sales and marketing expenses consist principally of personnel, travel,
overhead, advertising and other promotional expenses. These expenses, as a
percentage of revenues, decreased slightly in the three-month period ended
December 31, 1998, compared with the same period in fiscal 1998, primarily due
to a decrease in expenses for media advertising to increase brand visibility and
researching market opportunities outside the United States.
Research and Development
Research and development expenses include the personnel and related
overhead costs incurred in developing products, researching mathematical and
statistical algorithms, and developing software tools that are aimed at
improving productivity and management control. After several years of
concentrating on developing new markets--either geographical or by industry--for
its existing technologies, the Company has increased emphasis on developing new
technologies, especially in the area of software development. Research and
development expenditures in the three month period ending December 31, l998 were
primarily related to new fraud-detection software products, joint product
development projects with Deluxe Financial Services, Inc., healthcare
receivables management and Year 2000 compliance work. Research and development
expenses, as a percentage of revenues, declined slightly over the corresponding
three-month period of fiscal 1998.
General and Administrative
General and administrative expenses consist mainly of compensation expenses
for certain senior management, corporate facilities expenses, the costs of
administering certain benefit plans, legal expenses, expenses associated with
the exploration of new business opportunities and the costs of operating
administrative functions such as finance and computer information systems. As a
percentage of revenues, these expenses for the three-month period ended December
31, 1998, were lower than in the corresponding period of fiscal 1998, due
primarily to reassignment of personnel and related costs.
Amortization of Intangibles
The Company is amortizing the intangible assets arising from various
acquisitions over periods ranging from two to fifteen years. The level of
amortization expense in future years will depend, in part, on the amount of
additional payments (earnouts) to the former shareholders of Credit & Risk
Management Associates, Inc., a privately held company acquired in 1996.
Other Income and Expense
Interest income, derived from the investment of funds surplus to the
Company's immediate operating requirements, increased in the quarter ended
December 31, 1998 compared with the three-month period a year earlier. In the
corresponding period in the prior fiscal year, the Company recorded losses
related to its equity investment in an early stage development company that has
since been sold and interest expense resulting from a federal tax audit.
Provision for Income Taxes
The Company's effective tax rate increased from 40% to 42% for the three
months ended December 31, 1998 compared to December 31, 1997, due primarily to
the nondeductible nature of goodwill, deferred compensation and an increase in
the effective state tax rate.
13
<PAGE>
Financial Condition
Working capital increased from $54,852,000 at September 30, 1998 to
$63,951,000 at December 31, 1998. Cash and marketable investments increased from
$53,487,000 at September 30, 1998, to $59,718,000 at December 31, 1998. The
Company's long-term debt is due to capital lease obligations.
On December 1, 1997, the Company purchased undeveloped land in San Rafael,
California, with the intention of constructing an office complex to accommodate
future growth. Development has commenced, and on May 15, 1998, the Company
entered into a synthetic lease arrangement, which will materially increase the
Company's future operating lease expenses. Rental payments will commence upon
completion of construction, which is expected to occur in the second quarter of
fiscal 2001. With this external financing, the Company believes that the cash
and marketable securities on hand, along with cash expected to be generated by
operations, will be adequate to meet its capital and liquidity needs for both
the current year and the foreseeable future.
Year 2000
The Company is performing Year 2000 remediation work and compliance testing
on its software products marketed to customers. The updated versions of most of
its software products currently being shipped to customers are Year 2000
compliant. Certain international versions of the Company's software products
were not Year 2000 compliant at December 31, 1998, but the Company expects the
last international client to be Year 2000 compliant by the end of April 1999.
Year 2000 remediation work, including compliance testing, for most earlier
versions of the Company's software installed at customer sites is being
performed as part of the Company's normal upgrade and maintenance process. Prior
to the end of calendar 1999, the Company will discontinue support for some
software products that have been replaced by other products, and Year 2000
upgrades for these products will not be available. Revenues from such products
are not significant. There are no assurances that the Company's current products
do not contain undetected errors or defects associated with Year 2000 date
functions that may result in material costs to the Company. However, the Company
currently does not expect significant disruption of its revenues or operations
from the Year 2000 issues associated with its products. The Company has not made
an assessment of the potential impact of failing to complete its own Year 2000
remediation work nor has it developed any contingency plans for such an event.
Additionally, the Company has substantially completed its Year 2000
inventory and assessment of internal information technology (IT) and non-IT
systems and applications and remediation of internal IT systems and applications
as of December 31, 1998. The Company has determined that the majority of its
internally developed IT systems are Year 2000 compliant. For all IT applications
supplied to the Company by third parties, appropriate available "patches" have
been applied to bring them into compliance. Extensive compliance testing has
commenced and will continue through most of the calendar year 1999, with
priority given to business-critical IT and non-IT systems and applications. The
most reasonably likely worst-case scenarios would include: (a) corruption of
data contained in the Company's internal information systems, and (b)
hardware/operating system failure. The Company is in the process of completing
its contingency plans for business-critical IT and non-IT internal systems as an
extension of its existing disaster recovery plan and expects to complete such
planning by June 30, 1999.
The Company estimates that the costs of Year 2000 remediation (including
compliance testing) for its products and internal systems will be in the range
of $4 million to $5 million. Approximately 90 percent of these estimated costs
have been expended as of December 31, 1998. These costs principally consist of
both internal staff costs and expenses for external consultants, software and
hardware, which have been or will be expensed by the Company during the period
they are incurred. Expected costs for the Year 2000 remediation work (including
compliance testing) and projected completion dates are based on the Company's
management's estimates and assumptions and actual results may vary materially
from those anticipated.
The Company has also initiated communications with third parties on which
it is dependent for essential services and for the distribution of its
significant services to determine how they are addressing Year 2000 issues and
to evaluate any impact on the Company's operations. The Company is working with
these third parties to
14
<PAGE>
resolve Year 2000 issues and information received to date indicates that these
parties are in the process of implementing and/or testing remediation strategies
to ensure Year 2000 compliance of systems, services and/or products. However,
the lack of resolution of Year 2000 issues by these parties--especially the
credit bureaus and credit card processors through which the Company distributes
credit scoring and account management services--could have a material adverse
impact on the Company's future business operations, financial condition and
results of operations.
The Company anticipates that the most reasonably likely worst-case
scenarios involving third-party Year 2000 issues would include: (a) failure of
infrastructure services provided by government agencies and third parties (e.g.,
transportation, electricity, telephone, Internet services, etc.) and (b) failure
of one or more of the credit bureaus or credit card processors through which the
Company distributes its credit scoring and account management services to
achieve timely and successful Year 2000 compliance. Contingency plans to address
these most reasonably likely worst-case scenarios are under development and are
expected to be completed by June 30, 1999. At this time the Company cannot
quantify the potential impact of third-party Year 2000 issues.
The foregoing information and statements regarding the Company's Year 2000
capabilities and readiness are "Year 2000 Information and Readiness Disclosures"
in conformance with the Year 2000 Information and Readiness Disclosure Act of
1998 enacted on October 19, 1998.
European Economic and Monetary Union (EMU)
Under the European Union's plan for Economic and Monetary Union (EMU), the
euro becomes the sole accounting currency of EMU countries on January 1, 2002.
Its initial phase became effective on January 1, 1999 in 11 participating
countries: Austria, Belgium, Finland, France, Germany, Ireland, Italy,
Luxembourg, the Netherlands, Portugal and Spain. In this initial phase EMU
mandates that key financial systems be able to triangulate conversion rates so
that any amount booked will be logged and processed simultaneously in both the
local currency and euros. The Company believes that its computer systems and
programs are euro-compliant. Costs associated with compliance were not material
and were expensed by the Company as they were incurred.
Interim Periods
Quarterly results may be affected by fluctuations in revenues associated
with credit card solicitations, by the timing of orders for and deliveries of
certain ASAP and TRIAD systems, and by the seasonality of ScoreNet purchases.
With the exception of the cost of ScoreNet data purchased by the Company, most
of its operating expenses are not affected by short-term fluctuations in
revenues; thus short-term fluctuations in revenues may have a significant impact
on operating results. However, in recent years, these fluctuations were
generally offset by the strong growth in revenues from services delivered
through credit bureaus and third-party bankcard processors. Management believes
that neither the quarterly variation in revenues and net income, nor the results
of operations for any particular quarter, are necessarily indicative of results
of operations for full fiscal years. Accordingly, management believes that the
Company's results should be evaluated on an annual basis.
15
<PAGE>
ITEM 3. Quantitative and Qualitative Disclosures About Market Risk
Market Risk Disclosures. The following discussion about the Company's
market risk disclosures involves forward-looking statements. Actual results
could differ materially from those projected in the forward-looking statements.
The Company is exposed to market risk related to changes in interest rates,
foreign currency exchange rates and equity security price risk. The Company does
not use derivative financial instruments for speculative or trading purposes.
Interest Rate Sensitivity. The Company maintains a short-term investment
portfolio consisting mainly of income securities with an average maturity of
less than one year. These available-for-sale securities are subject to interest
rate risk and will fall in value if market interest rates increase. If market
interest rates were to increase immediately and uniformly by 10 percent from
levels at September 30, 1998, the fair value of the portfolio would decline by
an immaterial amount. The Company has the ability to hold its fixed income
investments until maturity, and therefore the Company would not expect its
operating results or cash flows to be affected to any significant degree by the
effect of a sudden change in market interest rates on its securities portfolio.
The Company believes foreign currency and equity risk is not material.
PART II - OTHER INFORMATION
ITEM 4. Submission of Matters to a Vote of Security Holders.
<TABLE>
At the Annual Meeting of Stockholders of the Company held on February 2,
1999, the Company's stockholders voted in favor of: (i) the election of nine
directors to the Company's Board of Directors and (ii) the ratification of KPMG
LLP as the Company's independent auditors. The number of votes for, withheld and
against, as well as the number of abstentions and broker non-votes as to each
matter approved at the Annual Meeting of Stockholders were as follows:
<CAPTION>
Broker
Matter For Withheld Against Abstain Non-votes
- ------ --- -------- ------- ------- ---------
<S> <C> <C> <C> <C> <C>
Election of Directors
A. George Battle 11,111,099 184,741 N/A N/A 0
Bryant J. Brooks, Jr. 11,111,200 184,640 N/A N/A 0
H. Robert Heller 11,043,299 353,541 N/A N/A 0
Guy R. Henshaw 11,106,171 189,669 N/A N/A 0
David S.P. Hopkins 11,111,499 184,341 N/A N/A 0
Robert M. Oliver 11,081,377 214,463 N/A N/A 0
Larry E. Rosenberger 11,085,523 210,317 N/A N/A 0
Robert D. Sanderson 11,041,901 253,899 N/A N/A 0
John D. Woldrich 11,064,413 232,427 N/A N/A 0
Ratification of Auditors
10,953,023 N/A 57,439 285,377 0
</TABLE>
ITEM 6. Exhibits and Reports on Form 8-K.
(a) Exhibits:
24.1 Power of Attorney (see page 17 of this Form 10-Q).*
27.1 Financial Data Schedule.
27.2 Revised Financial Data Schedule
(b) Reports on Form 8-K:
No reports on Form 8-K were filed during the quarter ended December 31,
1998.
16
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
FAIR, ISAAC AND COMPANY, INCORPORATED
DATE: February 12, 1999
By Peter L. McCorkell
-----------------------------------
Peter L. McCorkell
Senior Vice President and Secretary
POWER OF ATTORNEY
KNOW ALL PERSONS BY THESE PRESENTS, that the person whose signature appears
below constitutes and appoints PETER L. McCORKELL her attorney-in-fact, with
full power of substitution, for her in any and all capacities, to sign any
amendments to this Report on Form 10-Q and to file the same, with exhibits
thereto and other documents in connection therewith, with the Securities and
Exchange Commission, hereby ratifying and confirming all that said
attorney-in-fact, or his substitute or substitutes, may do or cause to be done
by virtue hereof.
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following person on behalf of the registrant
and in the capacities and on the date indicated.
DATE: February 12, 1999
By PATRICIA COLE
-----------------------------------
Patricia Cole
Senior Vice President and Chief
Financial Officer
17
<PAGE>
EXHIBIT INDEX
TO FAIR, ISAAC AND COMPANY, INCORPORATED
REPORT ON FORM 10-Q FOR THE QUARTER ENDED DECEMBER 31, 1998
Sequentially
Exhibit No. Exhibit Numbered Page
- ----------- ------- -------------
24.1 Power of Attorney 17
27.1 Financial Data Schedule 19
27.2 Revised Financial Data Schedule 20
18
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
CONSOLIDATED BALANCE SHEETS AND INCOME STATEMENTS AND IS QUALIFIED IN ITS
ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> SEP-30-1999
<PERIOD-START> OCT-01-1998
<PERIOD-END> DEC-31-1998
<CASH> 17,687
<SECURITIES> 22,305
<RECEIVABLES> 36,131
<ALLOWANCES> 1,103
<INVENTORY> 0
<CURRENT-ASSETS> 107,061
<PP&E> 80,234
<DEPRECIATION> 42,376
<TOTAL-ASSETS> 194,091
<CURRENT-LIABILITIES> 43,110
<BONDS> 685
0
0
<COMMON> 141
<OTHER-SE> 142,740
<TOTAL-LIABILITY-AND-EQUITY> 194,091
<SALES> 0
<TOTAL-REVENUES> 67,977
<CGS> 0
<TOTAL-COSTS> 25,071
<OTHER-EXPENSES> 10,279
<LOSS-PROVISION> 47
<INTEREST-EXPENSE> 28
<INCOME-PRETAX> 12,151
<INCOME-TAX> 5,103
<INCOME-CONTINUING> 7,048
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 7,048
<EPS-PRIMARY> 0.50
<EPS-DILUTED> 0.49
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
CONSOLIDATED BALANCE SHEETS AND INCOME STATEMENTS AND IS QUALIFIED IN ITS
ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> SEP-30-1998
<PERIOD-START> OCT-01-1997
<PERIOD-END> DEC-31-1997
<CASH> 11,497
<SECURITIES> 5,110
<RECEIVABLES> 36,597
<ALLOWANCES> 770
<INVENTORY> 0
<CURRENT-ASSETS> 80,067
<PP&E> 71,136
<DEPRECIATION> 32,507
<TOTAL-ASSETS> 146,864
<CURRENT-LIABILITIES> 31,489
<BONDS> 1,102
0
0
<COMMON> 135
<OTHER-SE> 107,700
<TOTAL-LIABILITY-AND-EQUITY> 146,864
<SALES> 0
<TOTAL-REVENUES> 53,511
<CGS> 0
<TOTAL-COSTS> 19,865
<OTHER-EXPENSES> 8,747
<LOSS-PROVISION> 100
<INTEREST-EXPENSE> 131
<INCOME-PRETAX> 6,611
<INCOME-TAX> 2,644
<INCOME-CONTINUING> 3,967
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 3,967
<EPS-PRIMARY> 0.29
<EPS-DILUTED> 0.28<F1>
<FN>
<F1>The financial data has been restated to reflect reclassifications to conform
to the fiscal year 1999 presentation.
</FN>
</TABLE>
