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 March 31, 1999
[ ] 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 May 6, 1999, was 14,063,062.
<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 ......... 17
PART II. OTHER INFORMATION
ITEM 6. Exhibits and Reports on Form 8-K ................................... 17
SIGNATURES .................................................................. 18
EXHIBIT INDEX ............................................................... 19
2
<PAGE>
<TABLE>
PART I - FINANCIAL INFORMATION
ITEM 1. Financial Statements.
FAIR, ISAAC AND COMPANY, INCORPORATED
CONSOLIDATED BALANCE SHEETS
March 31, 1999 and September 30, 1998
(dollars in thousands)
(Unaudited)
<CAPTION>
March 31, September 30,
1999 1998
--------- ---------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 11,519 $ 14,242
Marketable securities 25,915 18,283
Accounts receivable, net 39,495 39,028
Unbilled work in progress 24,579 22,004
Prepaid expenses and other current assets 6,417 4,040
Deferred income taxes 5,193 5,016
--------- ---------
Total current assets 113,118 102,613
Marketable securities 28,113 24,368
Property and equipment, net 36,971 36,893
Intangibles, net 9,615 10,458
Deferred income taxes 6,398 6,398
Other assets 8,866 8,884
--------- ---------
$ 203,081 $ 189,614
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable and other accrued liabilities $ 17,788 $ 17,418
Accrued compensation and employee benefits 19,930 22,065
Billings in excess of earned revenues 7,379 7,862
Capital lease obligations 424 416
--------- ---------
Total current liabilities 45,521 47,761
Other liabilities 7,814 7,613
Capital lease obligations 579 789
--------- ---------
Total liabilities 53,914 56,163
--------- ---------
Stockholders' equity:
Preferred stock -- --
Common stock 142 140
Paid in capital in excess of par value 36,981 32,454
Retained earnings 114,624 100,678
Less treasury stock (70,854 shares at cost at 3/31/99; 9,787 at
9/30/98) (2,624) (351)
Accumulated other comprehensive income 44 530
--------- ---------
Total stockholders' equity 149,167 133,451
--------- ---------
$ 203,081 $ 189,614
========= =========
<FN>
See accompanying notes to the consolidated financial statements.
</FN>
</TABLE>
3
<PAGE>
<TABLE>
FAIR, ISAAC AND COMPANY, INCORPORATED
CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME
For the six month and three month periods ended March 31, 1999 and 1998
(in thousands, except per share data)
(Unaudited)
<CAPTION>
Six Months Ended March 31, Three Months Ended March 31,
-------------------------------- --------------------------------
1999 1998 1999 1998
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Revenues $ 136,851 $ 113,166 $ 68,874 $ 59,655
Costs and expenses:
Cost of revenues 52,012 41,071 26,941 21,206
Sales and marketing 20,317 17,890 10,038 9,143
Research and development 15,560 13,980 7,816 7,382
General and administrative 25,062 24,115 12,065 12,717
Amortization of intangibles 842 576 421 255
------------ ------------ ------------ ------------
Total costs and expenses 113,793 97,632 57,281 50,703
------------ ------------ ------------ ------------
Income from operations 23,058 15,534 11,593 8,952
Other income, net 1,962 539 1,276 510
------------ ------------ ------------ ------------
Income before income taxes 25,020 16,073 12,869 9,462
Provision for income taxes 10,508 6,618 5,405 3,974
------------ ------------ ------------ ------------
Net income $ 14,512 $ 9,455 $ 7,464 $ 5,488
============ ============ ============ ============
Net income $ 14,512 $ 9,455 $ 7,464 $ 5,488
Other comprehensive income, net of tax:
Unrealized gains (losses) on securities:
Unrealized holding gains (losses)
arising during period 15 81 (100) 66
Less: reclassification adjustment (281) -- (281) --
------------ ------------ ------------ ------------
Net unrealized gains (losses) (266) 81 (381) 66
Foreign currency translation adjustments (221) 30 (242) (14)
------------ ------------ ------------ ------------
Other comprehensive income (487) 111 (623) 52
------------ ------------ ------------ ------------
Comprehensive income $ 14,025 $ 9,566 $ 6,841 $ 5,540
============ ============ ============ ============
Earnings per share:
Diluted $ 1.00 $ .66 $ .51 $ .38
============ ============ ============ ============
Basic $ 1.03 $ .70 $ .53 $ .40
============ ============ ============ ============
Shares used in computing earnings per share:
Diluted 14,515,000 14,310,000 14,578,000 14,304,000
------------ ------------ ------------ ------------
Basic 14,109,000 13,596,000 14,177,000 13,707,000
============ ============ ============ ============
<FN>
See accompanying notes to the consolidated financial statements.
</FN>
</TABLE>
4
<PAGE>
<TABLE>
FAIR, ISAAC AND COMPANY, INCORPORATED
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the six months ended March 31, 1999 and 1998
(dollars in thousands)
(Unaudited)
<CAPTION>
Six Months Ended March 31,
----------------------------
1999 1998
-------- --------
<S> <C> <C>
Cash flows from operating activities:
Net income $ 14,512 $ 9,455
Adjustments to reconcile net income to
cash provided by operating activities:
Depreciation and amortization 8,385 7,191
Deferred compensation 131 324
Gain on sale of marketable securities (474) (165)
Equity gain in investments (47) (30)
Deferred income taxes -- 149
Other 86 --
Changes in operating assets and liabilities:
Decrease (increase) in accounts receivable (612) 781
Increase in unbilled work in progress (2,576) (2,966)
Increase in prepaid expenses and other assets (2,376) (966)
Decrease in other assets 19 149
Increase in accounts payable and other accrued liabilities 1,450 4,009
Decrease in accrued compensation and employee benefits (671) (2,212)
Increase (decrease) in billings in excess of earned revenues (483) 647
Decrease in other liabilities (1,440) (545)
-------- --------
Net cash provided by operating activities 15,904 15,821
-------- --------
Cash flows from investing activities:
Purchases of property and equipment (6,083) (11,205)
Payments for acquisition of subsidiary -- (3,140)
Purchases of marketable securities (61,006) (788)
Proceeds from sale of marketable securities 35,634 --
Proceeds from maturities of marketable securities 14,015 3,010
-------- --------
Net cash used in investing activities (17,440) (12,123)
-------- --------
Cash flows from financing activities:
Principal payments of capital lease obligations (203) (190)
Proceeds from the exercise of stock options and issuance of stock 1,900 1,028
Dividends paid (565) (545)
Repurchase of company stock (2,319) (20)
-------- --------
Net cash provided by (used in) financing activities (1,187) 273
-------- --------
Increase (decrease) in cash and cash equivalents (2,723) 3,971
Cash and cash equivalents, beginning of period 14,242 13,209
-------- --------
Cash and cash equivalents, end of period $ 11,519 $ 17,180
======== ========
<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 six and three months ended March 31, 1999 and 1998 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. The September 30, 1998 balance sheet, however, 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
<TABLE>
The following reconciles the numerators and denominators of diluted and
basic earnings per share (EPS):
Six months ended March 31, Three months ended March 31,
(dollars in thousands, except per share data) 1999 1998 1999 1998
- -----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Numerator - Net income $ 14,512 $ 9,455 $ 7,464 $ 5,488
-------- -------- -------- --------
Denominator - Shares:
Diluted weighted-average shares and assumed
conversions of stock options 14,515 14,310 14,578 14,304
Effect of dilutive securities - employee stock options (406) (714) (401) (597)
-------- -------- -------- --------
Basic weighted-average shares 14,109 13,596 14,177 13,707
-------- -------- -------- --------
Earnings per share:
Diluted $ 1.00 $ .66 $ .51 $ .38
======== ======== ======== ========
Basic $ 1.03 $ .70 $ .53 $ .40
======== ======== ======== ========
</TABLE>
Total options outstanding included 131,000 and 483,000 options to
purchase shares of common stock at prices ranging from $41.88 to $49.44 and
$38.25 to $45.63 at March 31, 1999 and 1998, respectively. These options were
not included in the computation of diluted earnings per share for the six months
ended March 31, 1999 and 1998 because the exercise price for such options was
greater than the average market price of the common stock for the six months
ended March 31, 1999 and 1998.
Total options outstanding included 120,000 and 483,000 options to
purchase shares of common stock at prices ranging from $44.69 to $49.44 and
$38.25 to $45.63 at March 31, 1999 and 1998, respectively. These options were
6
<PAGE>
not included in the computation of diluted earnings per share for the three
months ended March 31, 1999 and 1998 because the exercise price for such options
was greater than the average market price of the common stock for the three
months ended March 31, 1999 and 1998.
Note 3 Cash Flow Statement
Supplemental disclosure of cash flow information:
Six months ended
March 31,
(dollars in thousands) 1999 1998
- --------------------------------------------------------------------------------
Income tax payments $14,786 $ 7,282
Interest paid $ 80 $ 64
Non-cash investing and financing activities:
Issuance of common stock to ESOP $ 1,455 $ 1,323
Tax benefit of stock options $ 1,080 $ 474
Vesting of restricted stock $ 8 $ 84
Purchase of CRMA with common stock $ -- $ 111
Capital lease obligations $ 1,641 $ 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.
In December 1998, the AICPA issued Statement of Position No. 98-9 ("SOP
98-9"), "Modifications of SOP 97-2, Software Revenue Recognition, with Respect
to Certain Transactions." SOP 98-9 requires recognition of revenue using the
"residual method" in a multiple-element software arrangement when fair value
does not exist for one or more of the delivered elements in the arrangement.
Under the "residual method," the total fair value of the undelivered elements is
deferred and recognized in accordance with SOP 97-2. SOP 98-9 also extends the
deferral of the application of SOP 97-2 to certain other multiple-element
software arrangements through the Company's fiscal year ending September 30,
2000. The Company's management is currently evaluating the provisions of SOP
98-9 and has not yet determined what impact, if any, SOP 98-9 will have on the
Company's financial position, results of operations or cash flows. Beginning
with fiscal year 2000, management intends to conform its consolidated financial
statements to this pronouncement.
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
7
<PAGE>
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.
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 employs 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
<TABLE>
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.
<CAPTION>
Percentage of Percentage of
Revenue Revenue
Three Months Ended Six Months Ended
March 31, Percentage March 31, Percentage
------------------ Change ------------------ Change
1999 1998 ---------- 1999 1998 ----------
---- ---- ---- ----
<S> <C> <C> <C> <C> <C> <C>
Credit
Fixed-price 25% 27% 7% 25% 25% 19%
Usage-priced 47% 45% 20% 47% 49% 17%
DynaMark 23% 20% 33% 22% 19% 42%
RMT 1% 4% (65%) 1% 3% (47%)
Insurance 3% 3% 6% 4% 4% 9%
Healthcare Information 1% 1% 41% 1% Less than 1% NM
--- --- --- ---
Total revenues 100% 100% 15% 100% 100% 21%
=== === === ===
<FN>
NM = Not meaningful
</FN>
</TABLE>
The increase in fixed-price credit revenues in the quarter ended March
31, 1999 was due primarily to increased revenues from CRMA and the Company's
end-user credit account management systems ("TRIAD") and behavior scoring
projects. The increase in fixed-price credit revenues in the six-months ended
March 31, 1999 was due primarily to increased revenues from CRMA; sales of
credit application scorecards and credit application processing software and
sales of end-user credit account management systems ("TRIAD") and behavior
scoring projects. CRMA's revenues were up 34 percent in the quarter and 47
percent in the six months ended March 31, 1999, compared with the same periods
of the prior fiscal year. Compared with the same periods of fiscal 1998,
revenues from sales of credit application scorecards and credit application
processing software increased by 6 percent in the quarter and by 16 percent in
the six-months ended March 31,1999. Revenues from end-user credit account
management systems ("TRIAD") and behavior scoring projects in the three- and
six-month periods ended March 31, 1999, were up 10 percent and 20 percent,
respectively, from the same periods of fiscal 1998 due primarily to the release
of the current version of TRIAD software.
The increases in usage revenues from the Credit business unit in the
quarter and six months ended March 31, 1999, compared with the same periods of
the prior year, were 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 six-months ended March
31, 1999, were approximately 18 percent higher than in the first six months of
fiscal 1998. Revenues from credit account
10
<PAGE>
management services delivered through third-party processors in the most recent
six months were 12 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 six months ended March 31, 1999,
revenues from credit bureau-related services increased 18 percent as compared to
the six months ended March 31, 1998. 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.
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.
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
three- and six month periods ended March 31, l999, principally due to the impact
of bank consolidations.
The increases in Insurance revenues for the three-month and six-month
periods ended March 31, 1999, compared with the same periods in fiscal 1998,
were due primarily to growth in insurance scoring services offered through
consumer reporting agencies. In the quarter and six-month period ended March 31,
l999, the Company's Healthcare Information business unit 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). In
the quarter ended December 31, 1998, the Company signed its first
revenue-generating contract for its receivables management system for hospitals
and healthcare providers (introduced in December 1997) and in the quarter and
six months ended March 31, 1999, derived revenues from this new product.
Revenues derived from outside of the United States represented
approximately 15% of total revenues in both the quarter and six-months ended
March 31, 1999, compared with approximately 18% of total revenues in the quarter
and six-months ended March 31, 1998.
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 six-months ended March 31, 1999. The
Company does not expect revenues from either of these sources to exceed 10
percent of revenues in the foreseeable future.
11
<PAGE>
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 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 six months ended March 31, 1999, this
backlog declined an additional $7.7 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 may be slower than during the six months ended March 31, 1999.
On March 8, 1999, the Company announced a new strategic focus and
several growth initiatives. The Company plans to continue to focus on its
traditional core business, financial services, and to pursue additional
opportunities in the healthcare market. In addition, the Company will form two
new business units to pursue opportunities in the telecommunications and
e-business industries and realign existing business and service units to support
these new initiatives.
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, as is the case currently with the inclusion in its new strategic
focus of opportunities in the telecommunications and electronic commerce
markets. This also 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.
12
<PAGE>
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 periods in the prior fiscal year.
<CAPTION>
Six Months Three Months
Ended Ended
March 31, Percentage March 31, Percentage
----------------- Change ----------------- Change
1999 1998 ---------- 1999 1998 ----------
---- ---- ---- ----
<S> <C> <C> <C> <C> <C> <C>
Revenues 100% 100% 21% 100% 100% 15%
Costs and expenses:
Cost of revenues 38 36 27% 39 36 27%
Sales and marketing 15 16 14% 15 15 10%
Research and development 11 12 11% 11 12 6%
General and administrative 18 21 4% 17 21 (5%)
Amortization of intangibles 1 1 46% 1 1 65%
--- --- --- ---
Total costs and expenses 83 86 17% 83 85 13%
--- --- --- ---
Income from operations 17 14 48% 17 15 30%
Other income and expense 1 Less than 1 NM 2 1 NM
--- --- --- ---
Income before income taxes 18 14 56% 19 16 36%
Provision for income taxes 7 6 59% 8 7 36%
--- --- --- ---
Net income 11% 8% 53% 11% 9% 36%
=== === === ===
<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,
increased in the three- and six-months ended March 31, 1999, as compared with
the same periods a year earlier, due to changes in sales of the Company's
product mix.
Sales and marketing
Sales and marketing expenses consist principally of personnel, travel,
overhead, advertising and other promotional expenses. As a percentage of
revenues, these expenses decreased slightly in the six-month period ended March
31, 1999, compared with the same period in fiscal 1998, due to a decrease in
expenses for media advertising to increase brand visibility and researching
market opportunities outside the United States. These expenses, as a percentage
of revenues, were essentially unchanged, for the quarter ended March 31, 1999,
as compared with the same period a year earlier.
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
13
<PAGE>
new technologies, especially in the area of software development. Research and
development expenditures in the six-month period ending March 31, l999 were
primarily related to new fraud-detection software products, healthcare
receivables management and Year 2000 compliance work. Research and development
expenditures in the quarter ended March 31, 1999 were primarily related to
fraud-detection software products, healthcare receivables management and a new
release of TRIAD software. Research and development expenses, as a percentage of
revenues, declined slightly over the corresponding periods of fiscal 1998. The
Company expects that research and development expenses will increase in future
periods for development of new products targeted for the telecommunications and
e-commerce markets.
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 six-month and three-month periods
ended March 31, 1999, were lower than in the corresponding periods of fiscal
1998, due primarily to reassignment of personnel and related costs. The Company
expects increased facilities costs in the fourth quarter of fiscal 1999 due to
planned office expansions.
Amortization of intangibles
The Company is amortizing the intangible assets arising from various
acquisitions over periods ranging from two to fifteen years. The Company expects
to make the final additional payment (earnout) to the former shareholders of
Credit & Risk Management Associates, Inc., a privately held company acquired in
1996, in the approximate amount of $2.1 million in the third quarter of this
fiscal year, which payment is anticipated to increase the level of amortization
expense.
Other income and expense
Interest income, derived from the investment of funds surplus to the
Company's immediate operating requirements, increased in the six- and
three-months ended March 31, 1999, compared with the corresponding periods a
year earlier due to higher balances invested in interest bearing instruments. In
the corresponding periods in the prior fiscal year, the Company recorded
interest expense resulting from a federal tax audit. In the quarter ended March
31, 1999, the Company recorded a one-time gain of approximately $484,000 on the
sale of investment securities.
Provision for income taxes
The Company's effective tax rate increased to 42% in the six-month
period ended March 31, 1999 from 41% in the corresponding period of fiscal 1998,
due primarily to the nondeductible nature of goodwill, deferred compensation and
an increase in the effective state tax rate. In both three-month periods ended
March 31, 1999 and 1998, the Company's effective tax rate was 42%.
Financial Condition
Working capital increased from $54,852,000 at September 30, 1998 to
$67,597,000 at March 31, 1999. Cash and marketable investments increased from
$53,487,000 at September 30, 1998, to $60,560,000 at March 31, 1999. The
Company's long-term obligations are mainly due to lease and employee incentive
and benefit 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
14
<PAGE>
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.
On March 25, 1999, the Company announced approval of a stock repurchase
program under which it would begin purchasing up to one million shares of its
common stock, to be funded by cash on hand. As of May 12, 1999, the Company had
repurchased 204,078 shares at a cost of approximately $7.2 million.
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.
Year 2000
The Company is performing Year 2000 remediation work and compliance
testing on its software products marketed to customers. The updated versions of
its software products currently being shipped to customers are Year 2000
compliant. 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.
In addition Year 2000 issues may cause customers to slow down computer
software purchases as they devote more time to preparing and testing their
systems for Year 2000 readiness, or to accelerate such purchases to allow
sufficient time to evaluate, implement and test new systems prior to the advent
of the Year 2000. The Company is also aware of a growing number of lawsuits
against other software vendors arising out of Year 2000 compliance issues.
Because of the unprecedented nature of such litigation, it is uncertain to what
extent the Company may be affected by it.
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 and is developing
contingency plans for such an event.
Additionally, the Company has substantially completed its Year 2000
inventory, assessment and remediation of internal information technology (IT)
and non-IT systems and applications as of April 30, 1999. The Company has
determined that all of its business-critical systems have been thoroughly tested
and 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 June 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.
15
<PAGE>
As of March 31, 1999 costs expended for Year 2000 remediation
(including compliance testing) of products and internal systems are
approximately $4.6 million, and the Company currently does not expect such costs
to exceed $5 million. The Company anticipates that additional expenses incurred
for Year 2000 work will relate primarily to contingency planning. 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 resolve Year 2000 issues, including in some cases,
jointly developing contingency plans. 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.
16
<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 an investment
portfolio consisting mainly of income securities with an average maturity of
less than five years. 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 March 31, 1999, 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 6. Exhibits and Reports on Form 8-K.
(a) Exhibits:
24.1 Power of Attorney (see page 18 of this Form 10-Q).
27.1 Financial Data Schedule
27.2 Revised Financial Data Schedule
(b) Reports on Form 8-K:
One report on Form 8-K was filed during the quarter ended March 31,
1999. A report on Form 8-K was filed March 9, 1999 reporting planned changes in
the organizational structure of the Company. These changes will include
formation of two new business units in electronic commerce and
telecommunications and realignment of existing business and service units of the
Company.
17
<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: May 14, 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 his attorney-in-fact,
with full power of substitution, for him 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: May 14, 1999
By LENNOX L. VERNON
-------------------------------------
Lennox L. Vernon
Vice President, Acting Chief
Financial Officer and Treasurer
18
<PAGE>
EXHIBIT INDEX
TO FAIR, ISAAC AND COMPANY, INCORPORATED
REPORT ON FORM 10-Q FOR THE QUARTER ENDED MARCH 31, 1999
Sequentially
Exhibit No. Exhibit Numbered Page
- ----------- ------- -------------
24.1 Power of Attorney 18
27.1 Financial Data Schedule 20
27.2 Revised Financial Data Schedule 21
19
<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> 6-MOS
<FISCAL-YEAR-END> SEP-30-1999
<PERIOD-START> OCT-01-1998
<PERIOD-END> MAR-31-1999
<CASH> 11,519
<SECURITIES> 25,915
<RECEIVABLES> 40,699
<ALLOWANCES> 1,204
<INVENTORY> 0
<CURRENT-ASSETS> 113,118
<PP&E> 82,747
<DEPRECIATION> 45,776
<TOTAL-ASSETS> 203,081
<CURRENT-LIABILITIES> 45,521
<BONDS> 579
0
0
<COMMON> 142
<OTHER-SE> 149,025
<TOTAL-LIABILITY-AND-EQUITY> 203,081
<SALES> 0
<TOTAL-REVENUES> 136,851
<CGS> 0
<TOTAL-COSTS> 52,012
<OTHER-EXPENSES> 20,317
<LOSS-PROVISION> 148
<INTEREST-EXPENSE> 80
<INCOME-PRETAX> 25,020
<INCOME-TAX> 10,508
<INCOME-CONTINUING> 14,512
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 14,512
<EPS-PRIMARY> 1.03
<EPS-DILUTED> 1.00
</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> 6-MOS
<FISCAL-YEAR-END> SEP-30-1998
<PERIOD-START> OCT-01-1997
<PERIOD-END> MAR-31-1998
<CASH> 17,180
<SECURITIES> 4,607
<RECEIVABLES> 36,285
<ALLOWANCES> 889
<INVENTORY> 0
<CURRENT-ASSETS> 87,413
<PP&E> 75,488
<DEPRECIATION> 35,125
<TOTAL-ASSETS> 158,689
<CURRENT-LIABILITIES> 35,324
<BONDS> 999
0
0
<COMMON> 139
<OTHER-SE> 115,395
<TOTAL-LIABILITY-AND-EQUITY> 158,689
<SALES> 0
<TOTAL-REVENUES> 113,166
<CGS> 0
<TOTAL-COSTS> 41,071
<OTHER-EXPENSES> 17,890
<LOSS-PROVISION> 220
<INTEREST-EXPENSE> 364
<INCOME-PRETAX> 16,073
<INCOME-TAX> 6,618
<INCOME-CONTINUING> 9,455
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 9,455
<EPS-PRIMARY> .70
<EPS-DILUTED> .66<F1>
<FN>
<F1> The Financial data has been restated to reflect reclassifications to
conform to the fiscal year 1999 presentation.
</FN>
</TABLE>
