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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
[X] Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934 for the Fiscal Year ended June 30, 1998
or
[ ] Transition report pursuant to Section 13 or 15(d) of the Exchange Act of
1934 for the Transition Period from _____ to _____
Commission File No. 0-15949
INTERNATIONAL MICROCOMPUTER SOFTWARE, INC.
(Exact name of registrant as specified in its charter)
CALIFORNIA 94-2862863
(State or other jurisdiction (I.R.S. Employer
of incorporation) Identification No.)
1895 FRANCISCO BLVD. EAST, SAN RAFAEL, CALIFORNIA 94901
(Address of principal executive offices) (Zip code)
Registrant's telephone number, including area code: (415) 257-3000
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act: common
stock, no par value
Indicate by check mark whether 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, and (2) has been subject to
such filing requirements for the past 90 days.
Yes X No
--- ---
Indicate by check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be
contained, to the best of registrant's knowledge, in the definitive
proxy or information statements incorporated by reference in Part III
of this Form 10-K or any amendment to this Form 10-K.[ ]
The aggregate market value of the voting stock of the registrant by
non-affiliates of the registrant as of September 18, 1998 was
approximately $38,758,000.
As of September 18,1998, 5,688,771 Shares of Registrant's common stock,
no par value, were outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Company's definitive proxy statement to be filed with
the Securities and Exchange Commission relative to the Company's 1998
annual meeting of shareholders are incorporated by reference in Part
III of this Form 10-K.
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INTERNATIONAL MICROCOMPUTER SOFTWARE, INC.
FORM 10-K ANNUAL REPORT
FOR THE YEAR ENDED JUNE 30, 1998
TABLE OF CONTENTS
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PART I
Item 1. Business 3
Item 2. Properties and Facilities 12
Item 3. Legal Proceedings 12
Item 4. Submission of Matters to a Vote of Security Holders 12
PART II
Item 5. Market for the Registrant's Common Equity and Related Stockholder Matters 13
Item 6. Selected Financial Data 14
Item 7. Management's Discussion and Analysis of Financial Condition and Results of
Operations 15
Item 7a. Quantitative and Qualitative Disclosures about Market Risk 31
Item 8. Financial Statements and Supplementary Data 32
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure 33
PART III
Item 10. Directors and Executive Officers of the Registrant 34
Item 11. Executive Compensation 34
Item 12. Security Ownership of Certain Beneficial Owners and Management 34
Item 13. Certain Relationships and Related Transactions
34
PART IV
Item 14. Exhibits, Financial Statements, Schedules, and Reports on Form 8-K 35
Signatures 55
Exhibit Index 56
</TABLE>
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PART I
FORWARD-LOOKING INFORMATION
The report on this Form 10-K contains certain forward-looking statements,
including statements related to industry trends and demand for software
products, expected resolution of legal proceedings, cash commitments, working
capital requirements and expansion in international markets. Discussions
containing such forward-looking statements may be found in the material set
forth under "Legal Proceedings" and "Management's Discussion and Analysis of
Financial Condition and Results of Operations", generally, and specifically
therein under the captions "Liquidity and Capital Resources" and "Future
Performance and Additional Risk Factors" as well as elsewhere in this Annual
Report on Form 10-K. Actual events or results may differ materially from those
discussed herein. The risk factors on pages 22 through 30, among others, should
be considered in evaluating the Company's prospects and future financial
performance.
ITEM 1. BUSINESS
GENERAL
International Microcomputer Software, Inc. (IMSI(R) or the "Company") was
incorporated in California in November 1982. The Company's corporate
headquarters are in San Rafael, California, with subsidiary and branch offices
maintained in the United Kingdom, Germany, Australia, South Africa, France,
Sweden, Brazil, Japan and Canada.
The Company is a leading developer and publisher of PC productivity software in
the business applications, utilities and visual content categories targeted
primarily to small- and medium-sized businesses and consumers. The Company sells
its award winning software in up to 13 languages in up to 60 countries. The
Company's best-known product families include TurboCAD in the business
applications category, WinDelete in the utilities category and MasterClips in
the visual content category. The Company sold approximately 2.2 million units of
its software in fiscal 1998 compared to 1.8 million units sold in fiscal 1997.
The Company focuses on developing and marketing productivity software in
categories that extend the basic functionality of PCs beyond the word
processing, spreadsheet, electronic mail and database applications provided by
standard office productivity software suites. The Company's products enhance PC
functionality by providing and/or expanding capabilities in areas such as
precision drawing, forms automation, project management, scheduling and voice
recognition. The Company seeks to create product franchises by developing,
licensing or acquiring products in growing categories where it believes it can
capture market share with better technology, lower prices or its extensive
distribution network. The Company targets PC applications that appeal to a broad
variety of users, particularly small- to medium-sized businesses, in categories
under-served by major software vendors.
The Company distributes its products worldwide, primarily through the retail
channel. The Company has expanded its retail channel from approximately 3,000
stores offering up to three of its products at the end of fiscal 1995 to over
12,000 stores offering up to 40 of its products as of June 1998. In addition,
the Company sells its products through strategic partners and direct mail and is
extending its distribution channels to include direct sales to corporate
accounts and to take advantage of the distribution opportunities presented by
the Internet.
BACKGROUND
The Company completed its initial public offering in July 1987, raising net
proceeds of approximately $2,600,000. In August 1988, the Company acquired Milan
Systems America, Inc. and the rights to TurboCAD(R). In August 1993, the Company
acquired the rights to FormTool(R), and raised approximately $1,300,000 in a
private placement. The Company acquired the rights to ViewPoint, a project
management software product, in January 1995. In September 1995, the Company
acquired the rights to the FloorPlan(R) product line from Forte/ComputerEasy
International, Inc., and in April 1997 purchased the rights to Micro
Cookbook(TM), and in July 1997 the rights to MapLinx(R) and Hijaak(R) product
lines from Computer Concepts Corporation
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and Quarterdeck Corporation, respectively. In September 1997, the Company
acquired all the outstanding shares of MediaPaq(TM), Inc. On September 30, 1997,
the Company acquired the rights to three completed products (Corel(R) Flow(TM),
Lumiere(TM), and Corel(R) Family Tree(TM)) and four in-process technologies
(Corel(R)CAD, Click and Create, VisualCADD and Corel(R) Personal Architect) in
the CAD, diagramming and consumer categories from Corel. Subsequently in March
1998, the Company sold the rights to the Family Tree(TM) program subsequently
renamed as Family Heritage(TM), one of the completed products acquired from
Corel, to Mindscape, Inc. (which was subsequently acquired by The Learning
Company).
In order to emerge as a leader in the rapidly consolidating retail software
market, IMSI has since 1995 focused on building an extensive network of domestic
and international distribution relationships. This has allowed the Company to
reach more than 12,000 retail locations in the U.S. and in over 60 overseas
markets, to establish relationships with a variety of online resellers and to
build its own Web store. In order to appeal to the increasingly broad range of
business software purchasers, the Company has, through internal development and
acquisition, created a broad range of productivity applications with attractive
features and pricing, and has focused on enhancing customer awareness by
emphasizing strong brands and attractive, recognizable product packaging. The
Company believes that it has successfully built an extensive domestic and
international distribution network and created a broad variety of appealing
products with strong customer recognition, which have, together with its current
efforts to build a strong presence on the Internet, positioned the Company to be
at the forefront of the growth in the productivity applications market.
STRATEGY
The Company's objective is to be the leading developer and publisher of PC
productivity software in the business applications, utilities and visual content
categories targeted primarily to small- and medium-sized businesses and
consumers. To achieve its objective, the Company's strategy includes the
following key elements:
EXPAND EXISTING PRODUCT FRANCHISES. The Company seeks to expand its product
franchises and sell its products to a large and diverse customer base by
continuing to support and upgrade its products and by introducing multiple
versions of its products with a range of prices and functionalities that are
attractive to different market segments.
TARGET NEW PRODUCTS WITH BROAD APPEAL IN GROWING CATEGORIES. The Company seeks
to create new product franchises by developing, licensing and acquiring products
in growing segments of its existing product categories where it believes it can
capture market share with improved technology, lower prices or its extensive
distribution network.
FOCUS ON SMALL- AND MEDIUM-SIZED BUSINESSES. To take advantage of the rapidly
expanding installed base of PCs used by small- and medium-sized businesses, the
Company intends to deliver superior products and services designed to meet the
needs and address the concerns of these businesses. The Company's productivity
applications are designed to accomplish cost-effectively a variety of routine
tasks regularly performed by a broad range of small- and medium-sized businesses
to help entrepreneurs enhance productivity and competitiveness.
LEVERAGE GLOBAL DISTRIBUTION. The Company currently sells its products in North
America through over 12,000 retail locations and in approximately 60 other
countries through an established international distribution network of
subsidiary offices and a number of distribution relationships. International
sales represented 30% of the Company's net revenues in fiscal 1998 as compared
to 41% in fiscal 1997 and 34% in fiscal 1996. The Company expects that its
international revenues will continue to account for a significant percentage of
its net revenues. The Company plans to continue to expand both the number of
products distributed in international markets and its sales and marketing
offices and distribution relationships within those markets.
FOCUS ON BRAND AWARENESS. The Company believes that brand awareness is a key
factor in software purchase decisions and that, by increasing its marketing
efforts, the Company will increase its market share and encourage customer
loyalty and repeat purchases. The Company's strategy is to increase its brand
equity and visibility through marketing and promotions, including public
relations, retail promotions, trade shows, direct marketing, telemarketing and
strategic relationships.
EXPLOIT NEW CHANNEL OPPORTUNITIES. The Company has developed a strong global
presence in the retail distribution channel and is focusing on establishing
other distribution channels, such as sales to corporate accounts and sales via
the Internet. The Company has recently formed a corporate sales group to sell
directly to corporate customers through corporate resellers, direct marketing
and telemarketing. In addition, the Company intends to leverage the growth and
efficiency of the Internet by selling its products online. The Company has
developed its own Web store, has established relationships with online resellers
and is developing certain products that will be targeted for Internet
distribution.
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PRODUCTS
The Company is a leading developer and publisher of PC productivity software in
the business applications, utilities and visual content categories targeted
primarily to small- and medium-sized businesses and consumers. The Company
focuses on productivity software in categories that extend the basic
functionality of PCs beyond the word processing, spreadsheet, e-mail and
database applications offered by standard office productivity software suites.
The Company's products enhance PC functionality by providing capabilities in
areas such as precision drawing, forms automation, project management,
scheduling and voice recognition. In most instances, the Company has introduced
the first product within a product family to address the needs of its primary
customer base, generally small business users buying at retail. All of the
Company's products are compatible with the Microsoft Windows operating system
and are available on CD-ROM.
The Company's business applications, utilities and visual content software
generated approximately 43%, 19% and 29% respectively, of the Company's net
revenues in fiscal 1998, approximately 34%, 11% and 46% respectively, of the
Company's net revenues in fiscal 1997 and approximately 58%, 4% and 15%
respectively, of the Company's net revenues in fiscal 1996.
BUSINESS APPLICATIONS
The Company's business applications products include business drawing, business
graphics and general office products. These products accounted for 43%, 34% and
58% of the Company's net revenues in fiscal 1998, 1997 and 1996, respectively.
The Company's business applications products include the following:
- - TURBOCAD(R) is a computer aided design ("CAD") software product that
allows a user to create precision drawings. TurboCAD offers
comprehensive functionality for the technical professional combined with
ease-of-use for the novice user. TurboCAD is used by architects,
engineers and contractors in small- and medium-sized businesses, as well
as by workgroups within many large corporations such as Pennzoil, Dow
Chemical, Bechtel, Babcock & Wilcox, Houston Lighting & Power, Motorola
and Monsanto. TurboCAD includes voice recognition technology that allows
drawing by talking, integrated 3D construction capabilities, file
compatibility with other CAD software (including AutoCAD by Autodesk),
and integrated rastor-to-vector conversion. TurboCAD v5 Professional
includes a software development kit that permits end-user and
third-party developer customization of the software. In April 1997,
TurboCAD v4 received the Stellar Award from Windows Sources, and in
October 1997, TurboCAD was awarded "Editor's Pick" from Computer
Shopper.
- - TURBOCAD SOLID MODELER is a 3D CAD program that allows users to
conceptualize, construct and revise product models and prototypes.
Designed for engineering professionals, TurboCAD Solid Modeler uses the
industry-standard ACIS drawing engine and includes many advanced
features such as a recordable tree history, 2D and 3D constraint
systems, rendering, programmable scripting language, a customizable user
interface and dimensioning.
- - FLOW(TM) enables general business users to create a wide variety of
diagrams, including flowcharts, organization charts, timelines, block
diagrams, geographic maps and marketing charts. Flow also includes
features that allow the user to enhance the information content of
diagrams. Flow users can link diagrams to databases and associate
non-graphical data with shapes within a diagram.
- - FLOORPLAN(R) 3D is a software tool for residential and commercial space
layout that allows a user to view and walk through plans in three
dimensions.
- - MASTERPUBLISHER(TM) is a desktop publishing suite that allows users to
create custom, high-quality publications for both business and personal
use. MasterPublisher's design and layout tools include thousands of
fonts, professionally drawn images and hundreds of useful templates.
Completed documents can be easily published on the World Wide Web.
- - LUMIERE(TM) VIDEO STUDIO is a digital video editing software program
that enables users to assemble excerpts from a variety of media sources,
including video, audio and still images. Lumiere's easy to use
drag-and-drop features enable users to create professional looking audio
and video tracks for multimedia presentations, training demonstrations,
advertising campaigns, movies and home viewing. Lumiere was named the
best video editing package by Home Office Computing in January 1998.
- - MULTIMEDIA FUSION(TM) is an easy-to-use software application that allows
users to create multimedia presentations,
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applications, games and screen savers. This product includes a number of
powerful tools and comprehensive libraries to combine text, graphics,
video, animation and audio into professional multimedia projects,
without additional programming or scripting.
- - HIJAAK(R) is a professional 32-bit graphics toolkit that allows users to
convert, manage and view over 85 graphics file formats including 3D and
full Postscript files. In November 1997, HiJaak Pro received an Editors'
Picks Award from Home Office Computing.
- - TURBOPROJECT(TM) is a sophisticated project management tool that allows
users to create and manage a project schedule, allocate resources and
establish and track project budgets. TurboProject Professional allows
users to divide large projects into sub-projects and distribute the
sub-projects to individual managers over company networks. The
sub-projects can then be reintegrated to update a master project
schedule.
- - FORMTOOL(R) is a forms automation product that allows users to design
and print personal forms quickly, or choose from over 400 pre-built
templates. The user can then complete and electronically sign and route
the form over the company intranet to other users in the organization.
Data is automatically stored in an integrated relational database.
FormTool OCR & Scan includes optical character recognition and scanning
features for easier form design.
- - PEOPLESCHEDULER(R) is an application designed for an organization of any
size to manage and schedule hourly employees or resources.
PeopleScheduler includes the ability to manage budgeting, shifts,
breaks, lunches, vacations and attendance.
- - MAPLINX(R) allows users to map data and visualize geographical
information from a database, including data related to customers, branch
locations and personnel. MapLinx works with most contact management
programs, spreadsheets and databases.
- - WEB BUSINESS BUILDER(TM) guides business users through the creation of
an online store on the Web. Web Business Builder is an entry level
electronic commerce solution that provides features such as
pre-designed, customizable templates, an inventory wizard and a
step-by-step tutorial to guide users through the Web creation process.
This product permits secure Web-based transactions and includes a
built-in database to track customers and products.
UTILITIES PRODUCTS. The Company's utilities products enable the more efficient
and secure use of PCs. These products accounted for 19%, 11% and 4% of the
Company's net revenues in fiscal 1998, 1997 and 1996, respectively. The
Company's utilities products include the following:
- - VOICEDIRECT(TM) features discrete speech technology that allows users to
operate their PCs hands-free, giving greater efficiency and accuracy to
those who have difficulty typing or who need to use their hands for
other tasks while operating computers. VoiceDirect Professional includes
discrete speech dictation for use within most Windows applications.
- - NETACCELERATOR(TM) is a caching product that speeds up Web surfing by
pre-fetching links on a Web page and then simultaneously downloading
both the links' text and graphic content. This process maximizes the
efficiency of the PC modem, browser and Internet connection. When a link
is selected, if it has been pre-fetched, the downloaded page will appear
almost immediately. According to PC Data, as of March 1998, the
NetAccelerator family was the best selling Internet utility at retail.
- - WINDELETE(R) uninstalls, archives, moves and transports Windows
applications and manages their Internet cache to free up wasted hard
drive space, prevents accidental deletions and maximizes hard drive
performance. WinDelete also includes virus protection and compression
features. WinDelete received a 4-star rating from Computer Currents in
December 1997.
- - UPDATENOW!(TM) is designed to enable PC users to keep their systems
current, thereby enhancing overall system performance and avoiding the
problems frequently encountered as a result of outdated software and
device drivers. UpdateNow! allows PC users to easily locate many of the
most recent software updates and patches applicable to their systems and
download and install them automatically via the Internet.
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- - RAMSHIELD(TM) is a memory and system resource manager for Windows that
prevents many system crashes before they occur.
- - GRAPHICS CONVERTER converts most visual content, sound, font and video
files to one of over 65 file formats and allows users to organize,
browse, manipulate, compress and retrieve an array of file types and
formats. Users can also compress and catalog files to create custom
content libraries.
VISUAL CONTENT PRODUCTS. The Company's visual content products include art
images, photographs, video clips, animations and fonts stored in electronic form
that can be used to enhance communication by making online, onscreen and printed
output more visually appealing. These products accounted for 29%, 46% and 15% of
the Company's net revenues in fiscal 1998, 1997 and 1996, respectively. The
Company's visual content products include the following:
- - MASTERCLIPS(R) PREMIUM IMAGE COLLECTION includes collections of 303,000,
202,000, 150,000, 75,000 and 45,000 unique art and photographic images.
MasterClips Premium Image Collection include a browser, clip art editor
and design guide. A portion of the art in the MasterClips collection is
exclusive to MasterClips and cannot be found in any other clip art
package.
- - MASTERPHOTOS(TM) is a collection that includes high- and
medium-resolution professional photo images. The MasterPhotos 50,000 and
MasterPhotos 25,000 collections cover categories such as animals,
transportation, sports and foods and include unique historical images of
many subjects, such as famous people and major events.
- - MASTERPHOTOS(TM) STUDIO is a software suite that enables users to edit,
enhance, manage and catalog photographs. MasterPhotos Studio supports
scanners, digital cameras, Internet file formats and Adobe PhotoShop
plug-in filters.
OTHER PRODUCTS. The Company also markets other products, such as EASY LANGUAGE
for language learning, MICROCOOKBOOK for recipe and menu planning and the IMSI
MOUSE line of input devices. Other products (which included Family Heritage, a
product sold in March 1998) accounted for 9%, 9% and 23% of the Company's net
revenues in fiscal 1998, 1997 and 1996 respectively. The Company is focusing its
product development, licensing and acquisition strategy on PC productivity
software in the business applications, utilities and visual content categories.
As a result, the Company sold its Family Heritage product in March 1998.
SALES AND DISTRIBUTION
The Company sells its products primarily to small- and medium-sized businesses
and consumers through an extensive worldwide distribution network that has
largely focused on retail channels and direct mail. The Company has recently
expanded its distribution network to include a corporate sales channel and to
focus on sales via the Internet.
RETAIL. The Company sells its products primarily through a network of
distributors, including Ingram Micro, Tech Data, Merisel, GT Interactive and
Navarre, which in turn distribute the Company's products through over 12,000
retail stores in North America, such as Babbages Etc., Staples, Office Depot,
OfficeMax, PriceCostco, Sam's Club, CompUSA, Micro Center, Computer City,
WalMart and Best Buy. The Company and its distributors also sell its products
through catalog resellers and online stores. Ingram Micro represented 20.4%,
11.9% and 10.9% and Tech Data represented 12.7%, 10.9% and 12.5% of the
Company's net revenues for fiscal 1998, 1997 and 1996 respectively. No single
retail customer accounted for more than 10% of the Company's net revenues in
fiscal 1997 or fiscal 1998.
Internationally, the Company sells its products in approximately 60 countries
through a network of subsidiary offices and distributors. The Company maintains
sales offices in the United Kingdom, France, Germany, Sweden, Australia, South
Africa, Brazil and Japan and has distributors and republishers in several other
countries. The Company generally localizes its products for international
markets by translating the documentation, software and marketing programs into
up to 13 different languages, including French, Spanish, German, Italian,
Russian, Japanese and Portuguese. The Company expects that international
revenues will continue to account for a significant percentage of its net
revenues. This is a forward looking statement. The Company's international
business is subject to certain risks common to international operations, such as
government regulations, import restrictions, currency fluctuations and
restrictions and reduced protection for the Company's copyrights and trademarks.
The Company's agreements with its distributors are generally nonexclusive and
may be terminated by either party without
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cause. The Company's distributors are not within its control, are not obligated
to purchase products and represent other vendors' product lines, including
competing products. The Company's return policy allows its distributors, subject
to certain limitations, to return purchased products in exchange for new
products or for credit towards future purchases as part of stock balancing
programs. In addition, the Company provides price protection to its distributors
when it reduces the price of its products. End users may return products through
dealers and distributors either a reasonable period from the date of purchase
for a full refund, and retailers may return older versions of products. Various
distributors and resellers may have different return policies that adversely
affect the number of products that are returned to the Company. Product returns
often occur when the Company introduces upgrades and new versions of products or
when distributors or resellers overestimate demand. The Company's channel sales
force works closely with major customers to manage appropriate inventory levels.
DIRECT MAIL. The Company conducts direct mail campaigns to prospective and
existing customers for new products and upgrades of existing products. These
mailings generally offer a specially priced specific product, as well as
complementary or enhanced products for a further charge. The Company's database
of registered users includes 700,000 customers worldwide. Direct mail sales
represented approximately 11%, 13% and 33% of the Company's net revenues in
fiscal 1998, 1997 and 1996 respectively. The Company has reduced the volume of
its direct mailings because the retail channel has grown substantially and is
more profitable than the direct mail channel.
CORPORATE. The Company believes that certain of its products, particularly its
TurboCAD, TurboProject, People Scheduler, MasterClips, Flow, MapLinx and utility
products, are well-suited for use within large corporations. To address this
opportunity, the Company has recently established a corporate sales group to
pursue volume sales to large corporate users. The Company is in the process of
expanding the size of this group and the scope of their activities. Net revenues
from this distribution channel have not been significant to date.
ONLINE. The Company markets its products via the Internet from its own Web site,
as well as through strategic partnerships with online resellers such as America
Online, Netscape Communications and Parson's Technology, a subsidiary of The
Learning Company, Inc. The Company also plans to develop versions of certain of
its products, such as its visual content products, that can be downloaded
directly from the Internet on a pay-per-use basis. Net revenues from this
distribution channel have not been significant to date.
OTHER. The Company also sells its products worldwide through hardware and
software OEMs, who republish or bundle its products for either a fixed royalty
or a per copy royalty. In addition, the Company has begun selling its TurboCAD
software through value added resellers and third-party developers. The Company
also sells its products to educational institutions through campus resellers,
bookstores and educational mail order companies. Finally, the Company sells
certain non-competitive products of other companies in its international
markets. Net revenues from these distribution channels have not been significant
to date.
MARKETING
The Company's marketing efforts include retail marketing and merchandising.
These efforts are directed at strengthening the Company's product and corporate
brands, building customer loyalty, maximizing upgrade and repeat purchases and
developing incremental revenue opportunities. The Company's retail marketing
strategy typically focuses on high impact product packaging and retail
promotions such as end-cap displays, special pricing and rebate coupons. In
addition, the Company actively participates in cooperative advertising programs
with its reseller customers, including advertising, brochures and catalogs. The
Company's team of merchandisers regularly visit retail stores to ensure that the
Company's products have premium positioning on retailer shelves, that the
retailer has sufficient inventory on hand and that store promotions are being
effectively carried out. Merchandisers also provide point of purchase marketing
materials, educate reseller salespeople about the Company's products and conduct
market intelligence activities on competitive products. In addition, the
merchandisers participate in computer user group demonstrations and local
computer software shows and events. The Company also seeks to increase market
share and brand recognition through public relations activities and
participation in popular trade and computer shows.
CUSTOMER SUPPORT
The Company provides customer support to its end-users by telephone, facsimile
and e-mail at no charge. The Company also offers extensive support on its Web
site by offering answers to frequently asked questions, providing product
discussion forums and making intelligent help and search engines available. In
addition, several newer products released by the Company contain
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an online link to Web-based support that automatically updates the user's
software via the Web to ensure that they are using the latest version. Support
representatives are extensively trained in the Company's products, and customer
feedback is shared among support representatives. This feedback is also made
available to product managers in order to track product shortcomings and enhance
the development of product improvements and upgrades. The Company's North
American customer support center is located in Albuquerque, New Mexico, and
customer support is provided internationally through the Company's various
subsidiary offices. Additional support staff are employed directly by the
Company's various international distributors.
PRODUCT DEVELOPMENT
The Company develops products primarily for the Microsoft Windows platform and,
in some cases, for the Macintosh operating system. The Company targets PC
applications that have been under-served by major software vendors but that have
immediate benefits and appeal to a broad variety of users, particularly small-
and medium-sized businesses. The Company generally creates product
specifications and manages the product development and quality assurance process
from its offices in San Rafael, California. Engineering management and certain
programming is carried out from the Company's development center in Ottawa,
Canada, and most program coding and quality testing is performed using contract
programmers in development centers in various locations in Russia, Ukraine and
India. Contract programmers located outside the United States are generally
dedicated on a full-time basis to the Company's products, and the cost of
programmers is generally lower than programmers available to the Company in the
United States. In addition, programming talent is generally more available
outside the United States than in the United States, where the market for
programmers is highly competitive. The Company makes extensive use of the
Internet and Internet-based development tools to facilitate programming in
remote locations. In addition to developing software, the Company's product
development personnel are also responsible for commissioning the creation of
original art for inclusion in its MasterClips visual content collections.
The Company's strategy is to own, either through internal development or
acquisition, the core technology of its principal products. Where appropriate,
the Company will augment its core technology with licensed technology. The
Company possesses and is continually enhancing its core technology in vector
graphics, 3D object modeling, image manipulation, file conversion and browsing,
data storage and compression, spatial data management, project and time
management processes, advanced data caching and Windows file and system
management. Additionally, the Company owns rights to a large portfolio of vector
and raster graphical image content.
As of June 30, 1998, the Company had 115 employees in its product development
organization, and had contracted with approximately 75 independent contractors,
substantially all of whom were located overseas. The Company's research and
development expenses represented $8.6 million (excluding purchased in-process
research and development expenses), $4.6 million and $3.2 million for fiscal
1998, 1997 and 1996, respectively.
ACQUISITION AND LICENSING
The Company seeks to create new product franchises in part by licensing and
acquiring products in growing segments of its existing product categories where
it believes it can capture market share with better technology, lower prices and
its extensive distribution. The Company seeks to acquire or license early stage
products, where it can add significant value through its global distribution
network and efficient, low-cost offshore development resources. The Company
targets product or company acquisitions or product or technology licenses when
time-to-market or cost considerations outweigh the value of developing the
product in-house or where the Company does not have the necessary development
expertise. Due to the skills, infrastructure and expense required to market
software products effectively, the Company is frequently approached by software
developers who desire that the Company license or acquire their products. In
addition, larger companies have approached the Company with products that they
wish to divest. The Company also may initiate discussions with such developers
or companies. The Company plans to continue acquiring companies and products and
licensing products and technologies to the extent that such companies, products
or technologies become available and the Company believes that they would
further enhance its product portfolio.
Currently, the Company licenses MasterClips E-Mail Animator, Voice Direct, Ram
Shield, MaterPhotos Studio and Web Business Builder. In 1997 the Company
acquired the technology for TurboCAD Solid Modeler and 3D Modeler, Visual CADD,
MapLinx, People Scheduler, Flow, FloorPlan Design Suite, Lumiere, Multimedia
Fusion, HiJaak and Update Now! The Company also licenses and acquires visual
contents from third parties, including artists, photographic agencies and visual
9
<PAGE> 10
content aggregators. Where feasible, the Company endeavors to acquire images on
a perpetual, worldwide basis and with electronic download rights. The licenses
have terms ranging from one year to perpetual and are generally not exclusive.
Licensing fees associated with licensed technology are generally paid by way of
sales-based royalties, which are included in the Company's cost of revenues.
OPERATIONS
The Company controls the purchasing, inventory and scheduling associated with
its products primarily from its headquarters in San Rafael, California. The
Company's product development organization produces master diskettes or CD-ROMs
and the documentation for each product. The duplication of such diskettes or
CD-ROMs, the printing of the documentation and the packaging for the products
and the assembly of purchased components are performed by third parties in
accordance with the Company's specifications. The Company warehouses and ships
the final products from its Richmond, California facility, as well as from
various international locations. The Company also contracts with third parties
in Europe to handle the duplication, printing, packaging and assembly of a
number of its products intended for international distribution. The Company
expects that the European production of its products will increase in the
future.
The Company has multiple sources of supply for substantially all components and
has a number of sources that handle the printing, packaging and assembly of its
products. To date, the Company has not experienced any material difficulties or
delays in the printing, packaging or assembly of its products. To the extent
that the Company's suppliers do not continue to perform printing, packaging and
assembly functions in a cost-efficient and timely manner, and transition to
substitute suppliers cannot be completed in a timely fashion, the Company's
business, operating results and financial condition could be adversely affected.
COMPETITION
The PC productivity software industry is highly competitive and is characterized
by rapid changes in technology and customer requirements. Important factors in
the market include product features and functionality, quality and performance,
reliability, brand recognition, ease of understanding and operation, advertising
and dealer merchandising, access to distribution channels and retail shelf
space, marketing, pricing and availability and quality of support services. The
Company believes that it competes effectively in all of these areas. However,
the Company faces competition from a large number of sources. There has been a
consolidation among competitors in the market for the Company's products, and
many of the Company's current and potential competitors have larger technical
staffs, more established and larger marketing and sales organizations,
significantly greater financial resources and greater name recognition and
better access to consumers than does the Company. The Company's relatively small
size could adversely affect its ability to compete with larger companies for
sales to dealers, distributors and retail outlets, to obtain shelf space for its
products in retail outlets and to acquire products from third parties, who may
desire to have their products sold or published by larger entities. The rapid
pace of technological change constantly creates new opportunities for existing
and new competitors and can quickly render existing technologies less valuable.
It also requires the Company to enhance its existing products and to offer new
products on a timely basis. The Company has limited resources and therefore must
restrict its product development efforts to a relatively small number of
projects.
The Company competes with other software companies in its efforts to acquire
products or companies and to publish software developed by third parties. The
competition to publish software developed by third parties is primarily on the
basis of brand-name reputation, the terms offered to software developers and the
ability to market new products.
Each of the Company's major products competes with one or more products from one
or more major independent software vendors. For example, TurboCAD competes with
AutoCAD from Autodesk Inc. and IntelliCAD from Visio Corporation. WinDelete
competes with Uninstaller from CyberMedia Inc., CleanSweep from Quarterdeck
Corporation and Norton Uninstaller from Symantec Corporation. MasterClips
competes with ClickArt from Broderbund Software Inc., MegaGallery from Corel
Corporation, Holy Cow! from Macmillan Digital Publishing USA and Art Explosion
from Nova Development. VoiceDirect competes with various speech recognition
products from IBM, Dragon Systems, Inc., Kurzweil and Lernout & Hauspie. Net
Accelerator competes with SurfExpress from Connectix, Speed Surfer from Kissco
and Net.jet from Peak Technologies. FloorPlan competes with Home Architech from
Cendant Corporation, Home Design Suite from Autodesk, Dream Home Designer from
Alpha Software Corporation and Home Design 3d from Expert Software, Inc.
TurboProject competes with MicrosoftProject. The Company's strategy has been to
develop productivity and utility applications that do not compete directly with
applications or features included in operating systems and applications suites
offered by major software vendors such as Microsoft, Lotus Development Corp. and
Corel. However, such software vendors may in the future choose to
10
<PAGE> 11
expand the scope and functionality of their products to support some or all of
the features currently offered by certain of the Company's products, which could
adversely affect demand for the Company's products. In particular, Microsoft has
periodically added utility features (e.g. disk compression utilities and
desk-top facing features) to its Windows operating systems that were previously
only supported by third-party vendors and that materially reduced demand for
third-party utility products. In addition, Microsoft's Windows 98 contains
features for the automatic updating of Windows 98 (including third party device
drivers) and many Microsoft applications via the Internet, which could adversely
impact sales of the Company's Update Now! product. Windows 98 also contains the
latest version of Microsoft's Internet Explorer which handles the caching of Web
pages more efficiently. This feature may adversely impact sales of the Company's
Net Accelerator product family.
The software industry has limited barriers to entry, and the availability of
personal computers with continuously expanding capabilities, at progressively
lower prices, contributes to the ease of market entry. The Company believes that
competition in the industry will continue to intensify as a number of software
companies extend their product lines into additional product categories and as
additional competitors enter the market. In addition, widespread use of the
Internet has reduced barriers to entry in the software market by allowing
software developers to distribute their products online without relying on
access to traditional distribution networks. As a result of the proliferation of
competing software developers, an increasingly large number of products are
competing for limited shelf space. There can be no assurance that the Company's
products will achieve and/or sustain market acceptance and generate significant
levels of revenues in subsequent quarters or that the Company will have the
resources required to compete successfully in the future.
The markets for the Company's products are characterized by significant price
competition, and the Company expects it will continue to face increasing pricing
pressures. In response to such competitive pressures, the Company has reduced
the price of some of its products, including its MasterClips family of products,
and there can be no assurance that product prices will not continue to decline
or that the Company will not respond to such declines with additional product
price reductions. If the Company significantly reduced the prices of one or more
of its products, there can be no assurance that such price reductions would
result in an increase in unit sales volume. Prolonged price competition would
have a material adverse effect on the Company's operating results, including
reduced profit margins and loss of market share.
Currently, approximately half of the Company's revenues depend upon sales of the
TurboCAD and MasterClips product lines. A significant decline in sales of or
margins on one or more of these products could adversely affect the Company's
results of operations. Thus, the Company is more vulnerable to market declines
and competition in the markets for such products than companies with more
diversified sources of revenues.
PROPRIETARY RIGHTS AND LICENSES
The Company's ability to compete effectively depends in part on its ability to
develop and maintain proprietary aspects of its technology. To protect its
technology, the Company relies on a combination of copyrights, trademarks, trade
secret laws, restrictions on disclosure and transferring title and other
methods. The Company holds no patents, and existing copyright and trade secret
laws afford only limited protection. The Company also generally enters into
confidentiality or license agreements with its employees and consultants, and
generally controls access to and distribution of its documentation and other
proprietary information.
Despite the foregoing precautions, it may be possible for a third-party to copy
or otherwise obtain and use the Company's products or technologies without
authorization, or to develop similar technologies independently. The Company
does not include in its products any mechanism to prevent or inhibit
unauthorized copying. Policing unauthorized use of the Company's technology is
difficult, and while the Company is unable to determine the extent to which
software piracy of its products exists, software piracy can be expected to be a
persistent problem. If a significant amount of unauthorized copying of the
Company's products were to occur, the Company's business, operating results and
financial condition could be adversely affected. In addition, effective
copyright, trademark and trade secret protection may be unavailable or limited
in certain foreign countries, and the global nature of the Internet makes it
virtually impossible to control the ultimate destination of the Company's
products. There can be no assurance that the steps taken by the Company will
prevent misappropriation or infringement of its technology. In addition,
litigation may be necessary to protect the Company's trade secrets or to
determine the validity and scope of the proprietary rights of others. Such
litigation could result in substantial costs and diversion of resources that
could have a material adverse effect on the Company's business, operating
results and financial condition.
As the number of software products in the industry increases and the
functionality of these products further overlaps, software
11
<PAGE> 12
developers and publishers may increasingly become subject to infringement
claims. From time to time, the Company has received, and may receive in the
future, notice of claims of infringement of other parties' proprietary rights.
Although the Company investigates claims and responds as it deems appropriate,
there can be no assurance that infringement or invalidity claims (or claims for
indemnification resulting from infringement claims) will not be asserted or
prosecuted against the Company. Irrespective of the validity or the successful
assertion of such claims, the Company would incur significant costs and
diversion of resources with respect to the defense thereof, which could have a
material adverse effect on the Company's business, operating results and
financial condition. If any valid claims or actions were asserted against the
Company, the Company might seek to obtain a license under a third-party's
intellectual property rights. There can be no assurance, however, that under
such circumstances a license would be available on commercially reasonable
terms, or at all.
The Company provides its products to end users under non-exclusive licenses,
which generally are non-transferable and have a perpetual term. The Company
makes source code available for certain of the Company's products. The provision
of source code may increase the likelihood of misappropriation or other misuse
of the Company's intellectual property. The Company licenses all of its products
pursuant to shrink-wrap licenses that are not signed by licensees and therefore
may be unenforceable under the laws of certain jurisdictions.
EMPLOYEES
As of June 30, 1998, the Company had approximately 338 employees, including 141
in sales and marketing, 115 in product development, 26 in operations and 56 in
administration and finance. In addition, none of the Company's employees are
represented by a labor union, and the Company has experienced no work stoppages.
The Company believes that its employee relations are good. The Company's success
depends to a significant extent upon the performance of its executive officers
and key technical and marketing personnel.
ITEM 2. PROPERTIES AND FACILITIES
The Company's principal administrative, sales and marketing, as well as certain
research and development, facilities are located in San Rafael, California,
occupying approximately 31,000 square feet of office space under a lease
expiring in October 1998, and 34,000 square feet of warehouse space in Richmond,
California, under a lease expiring on December 31, 1998. The Company has entered
into a lease for 36,000 square feet of office space in Novato, California
effective September 1998 to replace and expand the Company's headquarters.
In addition, the Company leases additional facilities in Albuquerque, New
Mexico; Sydney, Australia; Rio de Janeiro, Brazil; Paris, France; Munich,
Germany; Johannesburg, South Africa; Stockholm, Sweden; Tokyo, Japan; London,
the United Kingdom; and Ottawa, Canada.
ITEM 3. LEGAL PROCEEDINGS
There are no material pending legal proceedings to which the Company is a party
to or to which any of its property is subject.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
There were no matters submitted to a vote of security holders during the fiscal
year ended June 30, 1998 other than the election of nominees to the Company's
Board of Directors and approval of the amendment to the Company's Employee
Incentive Plan.
12
<PAGE> 13
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS
Presently, the common stock is traded on the NASDAQ National Market under the
symbol "IMSI(R)." Historically, trading volume of the common stock has been very
small and the market for the common stock has been materially less liquid than
that of most other publicly traded companies. Significant sales of common stock
by officers and directors or other shareholders could have an adverse effect on
the market price of the common stock.
The following table sets forth the quarterly high bid and low asked prices of
the common stock for fiscal 1997 and fiscal 1998, as quoted on the NASDAQ. Such
prices represent prices between dealers and do not include retail mark-ups,
markdowns or commissions and may not represent actual transactions.
<TABLE>
<CAPTION>
CLOSING SALES PRICES
Fiscal Year 1997 High Bid Low Asked
---------------- -------- ---------
<S> <C> <C>
First Quarter $ 7.42 $ 5.00
Second Quarter 10.42 6.50
Third Quarter 11.63 7.50
Fourth Quarter 10.75 7.38
Fiscal Year 1998
First Quarter 13.63 9.63
Second Quarter 18.38 13.00
Third Quarter 17.13 12.44
Fourth Quarter 18.00 14.00
</TABLE>
There were approximately 1,315 Holders of record of the common stock as of
September 18, 1998. The Company believes that additional beneficial owners of
its common stock hold their shares in street names.
The Company has not paid any cash dividends on its common stock and does not
plan to pay any such dividends in the foreseeable future. Its Board of Directors
will determine the Company's future dividend policy on the basis of many
factors, including results of operations, capital requirements and general
business conditions.
13
<PAGE> 14
ITEM 6. SELECTED FINANCIAL DATA
<TABLE>
<CAPTION>
STATEMENT OF OPERATIONS DATA: (Amounts in thousands except share and per share amounts)
Year ended June 30, 1998 1997 1996 1995 1994
- ------------------- ---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Net Revenues $62,472 $41,839 $25,679 $20,300 $23,118
Operating income (loss) 493 4,367 1,801 (370) 553
Income (loss) before
income taxes (266) 4,237 1,539 (424) 573
Cumulative effect of
accounting change -- -- -- -- 800
Net income (loss) (118) 2,597 954 (435) 1,120
Net income (loss) per share:
Basic ($0.02) $0.53 $0.20 ( $0.09) $0.25 (a)
Diluted ($0.02) $0.46 $0.18 ( $0.09) $0.23 (b)
Weighted average common
shares
Basic 5,513,334 4,946,155 4,795,296 4,704,841 4,517,620
Diluted 5,513,334 5,681,606 5,287,543 4,704,841 4,931,873
</TABLE>
<TABLE>
<CAPTION>
BALANCE SHEET DATA:
As of June 30, 1998 1997 1996 1995 1994
- -------------- ---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Working capital $6,824 $7,334 $3,092 $1,967 $1,918
Total assets 35,350 17,573 11,058 7,470 6,752
Long term debt and other
obligations 1,682 2,042 565 103 110
Stockholders' equity 13,663 7,495 4,522 3,397 3,674
</TABLE>
(a) Includes cumulative effect of accounting change of $0.18 per share.
(b) Includes cumulative effect of accounting change of $0.16 per share.
14
<PAGE> 15
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
RESULTS OF OPERATIONS
NET REVENUES
Net revenues were $62.5 million, $41.8 million, and $25.7 million in fiscal
1998, 1997, and 1996 respectively. This represented a 49% increase in fiscal
1998 revenue over fiscal 1997 and a 63% increase in fiscal 1997 over fiscal
1996. The increases in net revenues for the period was primarily due to
increases in unit sales, since prices for the Company's products generally
remained constant or increased slightly. Net revenues for each of the Company's
principal product categories in absolute dollars and as a percentage of net
revenues were as follows for the periods indicated:
<TABLE>
<CAPTION>
YEAR ENDED JUNE 30,
----------------------------------------------------
1998 1997 1996
-------------- -------------- --------------
(IN THOUSANDS) (IN THOUSANDS) (IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
Business
applications........ $27,110 43% $14,151 34% $14,916 58%
Utilities........... 11,762 19 4,814 11 1,050 4
Visual content...... 17,929 29 19,195 46 3,906 15
Other products...... 5,671 9 3,679 9 5,807 23
------- -- ------- -- ------- --
Total............... $62,472 100% $41,839 100% $25,679 100%
======= === ======= === ======= ===
</TABLE>
Net revenues from sales of products in the business applications category were
$27.1 million, $14.2 million and $14.9 million in fiscal 1998, 1997 and 1996
respectively. This represented an 92% increase in fiscal 1998 revenue over
fiscal 1997 and a 5% decrease in fiscal 1997 from fiscal 1996. The increase in
net revenues during fiscal 1998 was primarily due to higher unit sales of
TurboCAD Professional, HiJaak, MapLinx and FloorPlan. The decrease in net
revenues from fiscal 1996 to fiscal 1997 was primarily due to the fact that, in
fiscal 1996, a new version of the Company's TurboCAD product was introduced
early in the year, whereas, in fiscal 1997, a new version of TurboCAD was not
introduced until the fourth quarter.
Net revenues from sales of products in the utilities category increased 144% to
$11.8 million in fiscal 1998 from $4.8 million in fiscal 1997, which was an
increase of 358% from $1.1 million in fiscal 1996. The increase in net revenues
during fiscal 1998 was primarily due to higher unit sales of VoiceDirect and
NetAccelerator. The increase in net revenues from fiscal 1996 to fiscal 1997 was
primarily due to increased unit sales of WinDelete and, to a lesser extent, to
the introduction of NetAccelerator in the fourth quarter of fiscal 1997.
Net revenues from sales of products in the visual content category decreased 7%
to $17.9 million in fiscal 1998 from $19.2 million in fiscal 1997, which
represented an increase of 391% from $3.9 million in fiscal 1996. The decrease
in net revenues during fiscal 1997 was primarily due to increased competition in
this category, resulting in lower average selling prices for the Company's
MasterClips product line and decreased unit sales. The increase in net revenues
from fiscal 1996 to fiscal 1997 was primarily due to extremely rapid growth in
unit sales derived from the product line.
Net revenues from sales of products in the other products category increased 54%
to $5.7 million in fiscal 1998 from $3.7 million in fiscal 1997, which was a
decrease of 37% from $5.8 million in fiscal 1996. The increase in net revenues
during fiscal 1998 was primarily due to higher unit sales of products in the
Easy Language product line and the Company's disposition of the Family Heritage
product. The decrease in net revenues during fiscal 1997 was primarily due to
increased competition in this category, resulting in lower average selling
prices and decreased unit sales.
Approximately 49%, 68% and 60% of the Company's net revenues in fiscal 1998,
1997 and fiscal 1996, respectively, were comprised of net revenues derived from
the TurboCAD and MasterClips product families.
Net revenues from international sales increased 7% to $18.5 million in fiscal
1998 from $17.2 million in fiscal 1997, while net revenues from domestic sales
increased 79% to $44.0 million in fiscal 1998 from $24.6 million in fiscal 1997.
As a result, net revenues from international sales decreased as a percentage of
the Company's net revenues to 30% in fiscal 1998 from 41% in fiscal 1997. These
absolute dollar increases in net revenues from international sales were the
result primarily of increased sales through existing distribution channels and,
to a lesser extent, of continued penetration into geographic markets where the
Company had had no prior presence. The growth in domestic and international
sales was a result of continued channel penetration in the United States, as
well as strong revenues from international sales through the retail channel
(particularly in Germany), expansion into Latin American markets and new product
introductions. The Company's revenues from international
15
<PAGE> 16
sales in each of the periods were generated primarily from Germany, the United
Kingdom and Australia. Although the Company believes that the risks associated
with transactions in foreign currencies are mitigated by diversified exposure to
multiple currencies, the Company's operating results may be affected by the
risks customarily associated with international operations, including a
devaluation of the U.S. dollar, increases in duty rates, exchange or price
controls, longer collection cycles, government regulations, political
instability and changes in international tax laws.
The Company recognizes revenue, net of estimated returns and allowances, upon
shipment of a product and only when no significant obligations remain and
collectability is probable. The Company's return policy allows its distributors,
subject to certain limitations, to return purchased products in exchange for new
products or for credit towards future purchases as part of stock balancing
programs. In addition, the Company provides price protection to its distributors
when it reduces the prices of its products. End users may return products
through dealers and distributors within a reasonable period from the date of
purchase for a full refund, and retailers may return older versions of products
for a full refund. Various distributors and resellers may have different return
practices that adversely affect the number of products that are returned to the
Company. Product returns often occur when the Company introduces upgrades and
new versions of products or when distributors or resellers overestimate demand.
The Company's allowances for doubtful accounts and returns is based upon its
best judgment and estimates at the time and is comprised of both reserves for
expected bad debts and reserves for expected sales returns. Reserves for
doubtful accounts and expected sales returns is based primarily on historical
averages and were 24.3%, 28.1% and 24.0% of gross receivables at June 30, 1998,
1997 and 1996, respectively.
PRODUCT COSTS
The Company's product costs include the costs of diskette and CD-ROM
duplication, printing of manuals, packaging and assembly, freight-in, royalties
that the Company pays to third parties based on sales of published software and
amortization of capitalized software acquisition and development costs. Product
costs represented 37%, 40% and 32% of net revenues in fiscal 1998, 1997 and
fiscal 1996, respectively. The Company amortizes capitalized software
development costs on a product-by-product basis. The amortization recorded for
each product is the greater of the amount computed using (a) the ratio of
current gross revenues to the total of current and anticipated future gross
revenues for the product or (b) the economic life of such product. Aggregate
amortization of such costs was $1,196,000, $224,000 and $375,000 in fiscal 1998,
1997 and fiscal 1996, respectively. The reduction in product costs as a
percentage of net revenues in fiscal year 1998 was primarily attributable to a
shift in product mix to products and new versions of existing products that
yielded a higher overall gross margin and to purchasing efficiencies and better
bill-of-materials management. The Company expects that amortization of
capitalized costs will remain at current levels or increase in the near-term as
a result of recent product acquisitions.
SALES AND MARKETING EXPENSES
The Company's sales and marketing expenses consist primarily of salaries and
benefits for sales and marketing personnel, commissions, advertising, and
printing and direct mail expenses. Sales and marketing expenses increased 55% to
$18.6 million in fiscal 1998 from $12.0 million in fiscal 1997, which
represented an increase of 22% from $9.9 million in fiscal 1996. The increases
in sales and marketing during the fiscal years 1998 and 1997 were primarily due
to increased headcount, additional cooperative advertising and increased
commissions to support a higher level of sales. The Company had 141, 76 and 57
sales and marketing personnel at June 30, 1998, 1997 and 1996, respectively.
Sales and marketing expenses represented 30%, 29% and 39% of net revenues in
fiscal 1998, 1997 and fiscal 1996, respectively.
GENERAL AND ADMINISTRATIVE EXPENSES
The Company's general and administrative expenses consist primarily of salaries
and benefits for employees in the finance, accounting, human resources,
information systems and operations departments and fees to the Company's
professional advisors. General and administrative expenses increased 25% to $5.0
million in fiscal 1998 from $4.0 million in fiscal 1997, which represented a 56%
increase from $2.6 million in fiscal 1996. The Company had 56, 45 and 32
administrative personnel at June 30, 1998, 1997 and 1996, respectively. The
increases during fiscal 1998 and 1997 were primarily due to continued
infrastructure improvements and to headcount additions, primarily in the areas
of information systems, human resources, accounting and operations. General and
administrative expenses represented 8%, 10% and 10% of net revenues in fiscal
1998, 1997 and fiscal 1996, respectively. The decline in these percentages from
fiscal 1997 to fiscal 1998 was primarily attributable to the fixed nature of a
large portion of these expenses and the Company's growing revenues.
16
<PAGE> 17
RESEARCH AND DEVELOPMENT EXPENSES
The Company's research and development expenses consist primarily of salaries
and benefits for research and development employees and payments to independent
contractors. Research and development expenses increased 89% to $8.6 million in
fiscal 1998 from $4.6 million in fiscal 1997, which represented a 44% increase
from $3.2 million in fiscal 1996. These increases were due to domestic headcount
increases, utilization of additional software development contractors outside of
the United States and growth in other third-party development costs relating to
development and expansion of the Company's product offerings. The Company had
115, 80 and 41 research and development employees at June 30, 1998, 1997 and
1996, respectively. In addition, the Company used significant numbers of
independent research and development contractors outside of the United States.
The additional contractors hired were engaged primarily in enhancing and
modifying products and in-process technologies that the Company had acquired
from third parties and, to a lesser extent, in developing new products. For
fiscal 1998, 1997 and fiscal 1996, the Company capitalized software acquisition
and development costs of $3.2 million, $44,000 and $402,000, respectively.
Research and development expenses represented 14%, 11% and 12% of net revenues
in fiscal 1998, 1997 and 1996, respectively. The increase in these percentages
during fiscal 1998 reflected the Company's continued commitment to investing in
research and development and the additional research and development
expenditures associated with the in-process technologies acquired during the
quarter ended September 30, 1997. Given the Company's intention to continue to
invest in research and development, the Company anticipates that its research
and development expenses may continue in the near term at the higher percentage
level experienced in the fiscal year ended June 30, 1998.
WRITE OFF OF PURCHASED IN-PROCESS RESEARCH AND DEVELOPMENT
In the fiscal year ended June 30, 1998, the Company expensed $6.4 million of
purchased in-process research and development resulting from the acquisitions
from Quarterdeck, Computer Concepts, MediaPaq and Corel. See "Acquisitions and
Dispositions in Fiscal 1998" below.
INTEREST AND OTHER EXPENSE, NET
The Company's interest and other expenses, net are comprised of interest expense
and foreign currency transaction gains and losses. Other expense, net was
$759,000, $130,000 and $262,000 in fiscal 1998, fiscal 1997 and fiscal 1996,
respectively. Interest expense was $603,000, $164,000 and $180,000 in fiscal
1998, 1997 and fiscal 1996, respectively. Foreign currency transaction loss was
$153,000 in fiscal 1998 and $82,000 in fiscal 1996. There was a foreign
currency gain of $34,000 in fiscal 1997. Interest expense increased over time
as the Company increased its borrowings to fund it operations and support
its growth.
PROVISION (BENEFIT) FOR INCOME TAXES
The Company's effective tax rate was 56% (benefit), 39% and 38% in fiscal 1998,
fiscal 1997 and fiscal 1996, respectively. See Note 11 to the consolidated
financial statements.
ACQUISITIONS AND DISPOSITIONS IN FISCAL 1998
ACQUISITIONS
During the fiscal year ended June 30, 1998, the Company completed the following
four acquisitions of products, in-process technologies or companies. Each was
accounted for using purchase accounting. The aggregate purchase prices for the
acquisitions were comprised as follows:
17
<PAGE> 18
COMPONENTS OF PURCHASE PRICES FOR ACQUISITIONS
<TABLE>
<CAPTION>
NUMBER OF
SHARES OF VALUE OF ASSUMPTION AGGREGATE
COMMON COMMON NOTES OF NET PURCHASE
SELLER STOCK STOCK PAYABLE CASH LIABILITIES PRICE
------ ---------- ------------ -------- ---------- -------------- -- ------
<S> <C> <C> <C> <C> <C> <C>
Quarterdeck............. -- -- $ -- $1,000,000 $ -- $1,000,000
MapLinx................. -- -- 233,500 233,500 383,000 850,000
Mediapaq................ 20,000 $ 240,000 -- -- 160,000 400,000
Corel................... 346,020 5,000,000 640,000 -- -- 5,640,000
------- ---------- -------- ---------- --------- -----------
366,020 $5,240,000 $873,500 $1,233,500 $ 543,000 $7,890,000
======= ========== ======== ========== ========= ==========
</TABLE>
The Company allocated the purchase prices for the acquisitions as
follows:
ALLOCATION OF AGGREGATE PURCHASE PRICES OF ACQUISITIONS
<TABLE>
<CAPTION>
PURCHASED IN-PROCESS
RESEARCH AND
SELLER DEVELOPMENT CAPITALIZED SOFTWARE GOODWILL
------ --------------------- -------------------- --------
<S> <C> <C> <C>
Quarterdeck................ $ 517,000 $ 483,000 --
MapLinx.................... 506,000 331,000 $13,000
Mediapaq................... 300,000 100,000 --
Corel...................... 5,044,000 517,000 79,000
---------- ---------- -------
$6,367,000 $1,431,000 $92,000
========== ========== =======
</TABLE>
ACQUISITION OF PRODUCTS AND IN-PROCESS TECHNOLOGIES FROM QUARTERDECK CORPORATION
On July 1, 1997, the Company acquired certain products and in-process
technologies from Quarterdeck(R) for a cash payment of $1,000,000. The Company
utilized a discounted net cash flow model with various estimates and assumptions
to allocate the purchase price. The discounted net cash flow analysis as of July
1, 1997 was based upon management's estimates of future net revenue from the
products/technologies over the next three fiscal years, based upon expected unit
sales and average selling prices of comparable products, expected product costs
and other operating expenses. The expected future net cash flows were discounted
using a 23% rate for in-process technologies and 18% for existing products.
Based upon the Company's estimates of future cash flows and costs to have
certain of these technologies reach technological feasibility and based upon a
valuation, the Company allocated the purchase price as follows:
- - $517,000 was allocated to purchased in-process research and development
related to Quarterdeck's "EZ Impact" technology. At the time of the
acquisition, management believed that technological feasibility of EZ
Impact had not yet been established and that, as of July 1, 1997, this
technology had no alternative future uses. The most significant estimate
made by the Company in determining the amount to be allocated to
in-process research and development was that the Company estimated
future net revenues from EZ Impact over the next three years, based upon
expected unit sales and average selling prices of comparable products.
After the Company's in-depth review of the competitive marketplace and
the state of the EZ Impact technology acquired in late calendar 1997,
the Company determined that EZ Impact would not ever become an
economically viable product and abandoned further development efforts.
- - $483,000 was allocated to capitalized software to be amortized over the
shorter of the life of the products' expected revenues or 18 months,
pursuant to the Company's amortization policy for capitalized software
development costs discussed in Note 1. Such capitalized software related
to Quarterdeck's product Hijaak Pro. During the fiscal year ended June
30, 1998, the Company had net revenues from Hijaak Pro of approximately
$2.0 million. Such amount
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exceeded the Company's projected net revenues. If this product fails to
achieve projected results, the Company would accelerate the amortization
of capitalized software over the life of the product's expected
revenues.
ACQUISITION OF PRODUCTS AND IN-PROCESS TECHNOLOGIES FROM MAPLINX CORPORATION
On July 1, 1997, the Company acquired certain products and in-process
technologies from MapLinx(R) Corporation for a total purchase price of $850,000
as follows: $233,500 in cash, a note payable for $233,500 and $383,000 in
assumed net liabilities. The Company utilized a discounted net cash flow model
with various estimates and assumptions to allocate the purchase price. The
discounted net cash flow analysis as of July 1, 1997 was based upon management's
estimates of future net revenues from the product/technologies over the next
three fiscal years, based upon expected unit sales and average selling prices of
comparable products, expected product costs and other operating expenses. The
expected future net cash flows were discounted using a 23% rate for in-process
technologies and 18% for existing products. Based upon the Company's estimates
of future cash flows and costs to have certain technologies reach technological
feasibility and based upon a valuation, the Company allocated the purchase price
as follows:
- - $506,000 was allocated to purchased in-process research and development
related to MapLinx Mail. At the time of the acquisition, management
believed that technological feasibility of MapLinx Mail had not yet been
established and that, as of July 1, 1997, these technologies had no
alternative future uses. This technology required additional research
and developmental efforts to develop these products into commercially
viable products. During the fiscal year ended June 30, 1998, the Company
spent approximately $120,000 on research and development, and it expects
to spend an additional approximately $80,000 on research and development
to have the in-process technologies reach technological feasibility. The
most significant estimate made by the Company in determining the amounts
to be allocated to in-process research and development was the Company's
estimated net revenues over the next three years, based upon expected
unit sales and average selling prices of comparable products. MapLinx
Mail is expected to be released in the second quarter of fiscal 1999.
- - $331,000 was allocated to capitalized software to be amortized over the
shorter of the life of the products' expected revenues or 18 months,
pursuant to the Company's amortization policy for capitalized software
development costs discussed in Note 1. At July 1, 1997, the most
significant estimate made by the Company in determining the amounts to
be allocated to capitalized software was the Company's estimated net
revenues from MapLinx over the next three years, based upon expected
unit sales and average selling prices of comparable products. During the
fiscal year ended June 30, 1998, the Company had net revenues from
MapLinx of approximately $1.5 million. This amount exceeded the
Company's fiscal 1998 projected net revenues. If this product fails to
achieve projected results the Company would accelerate the amortization
of capitalized software over the life of the product's expected
revenues.
- - $13,000 was allocated to goodwill to be amortized over three years.
ACQUISITION OF MEDIAPAQ, INC.
On August 22, 1997, the Company acquired 100% of the common stock of
MediaPaq(TM) for a total purchase price of $400,000 as follows: $240,000 in IMSI
common stock (20,000 shares at $12.00 per share) and $160,000 in assumed
liabilities. MediaPaq's products and in-process technologies consisted primarily
of browser software features that the Company believed it could incorporate into
existing products and future products under development in the Company's
MasterClips family of products. The expected future net cash flows as of August
22, 1997 were based upon management's estimates of future net revenues from the
product/technologies, based upon expected unit sales and average selling prices
of comparable products, expected product costs and other operating expenses. The
expected future net cash flows were discounted using a 23% rate for in-process
technologies and 18% for existing products. Based upon the Company's estimates
of future cash flows and costs to have certain of MediaPaq's products and
in-process technologies reach technological feasibility, the Company allocated
the purchase price as follows:
- - $300,000 was allocated to purchased in-process research and development
related to browser software features that were expected to be
incorporated into the next version of MasterClips. At the time of the
acquisition, management believed that technological feasibility of
certain of the acquired technologies had not yet been established and
that, as of August 22, 1997, these technologies had no alternative
future uses. This technology required additional research and
developmental efforts to develop these products into commercially viable
products. From August 22, 1997 through June 30, 1998, the Company spent
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approximately $100,000 on research and development to have the
in-process technologies reach technological feasibility. In March 1998,
the Company released MasterClips 303,000 incorporating such browser
software features.
- - $100,000 was allocated to capitalized software related primarily to
browser software features that were incorporated into existing products
MasterClips 202,000 and MasterClips 150,000 to be amortized over the
shorter of the products' expected revenues or 18 months, pursuant to the
Company's amortization policy for capitalized software development costs
discussed in Note 1.
ACQUISITION OF PRODUCTS AND IN-PROCESS TECHNOLOGIES FROM COREL
On September 30, 1997, the Company acquired the rights to three completed
products (Corel(R)Flow, Lumiere(TM) and Family Heritage(TM)(formerly, Corel
Family Tree(TM))) and four in-process technologies (CorelCAD(TM), Corel Click
and Create(TM), Visual CADD(TM) and Corel Personal Architect(TM)) in the CAD,
diagramming and consumer categories from Corel (the "Acquisition"), for
$5,000,000 in IMSI common stock (346,020 shares valued at approximately $14.45
per share) and $640,000 in notes payable due in two installments, $140,000 due
in March 1998 (which was paid on June 3, 1998 with the proceeds from the
Company's borrowings under its new May 4, 1998 bank credit line), and $500,000
due in September 1998. The Company allocated the $5,640,000 as described below,
based upon a discounted net cash flow analysis utilizing management's estimates
and costs to enable such technologies to reach technological feasibility and
upon a valuation.
The discounted net cash flow analysis as of September 30, 1997 was based upon
management's estimates of future net revenues from each of the three products
and four in-process technologies over the next four fiscal years, based upon
expected product costs and other operating expenses. The expected future net
cash flows were discounted using a 23% rate from in process technologies and 18%
for existing products. As of September 30, 1997, the Company estimated that
total future revenues from all seven products/technologies acquired from Corel
could exceed approximately $20 million (approximately $17 million related to the
in-process technologies and approximately $3 million related to the developed
technologies) over the next four fiscal years. This is a forward-looking
statement. There can be no assurance that any revenues from such
products/technologies will be generated by the Company.
- - $5,044,000 relating to the four in-process technologies was expensed as
purchased in-process research and development in the quarter ended
September 30, 1997. At the time of the Acquisition, the Company
determined that the technological feasibility of the four in-process
technologies had not yet been established and that, as of September 30,
1997, such technologies had no alternative future uses. These
technologies required additional research and developmental efforts to
develop these products into commercially viable products. From September
30, 1997 through June 30, 1998, the Company spent approximately $300,000
on research and development, to have the four in-process technologies
reach technological feasibility. CorelCAD products (now called TurboCAD
Solid Modeler and TurboCAD 3D Modeler) were released in March 1998.
Sales for the two products for fiscal year ended June 30, 1998 were
approximately $700,000. Products formerly called Click and Create and
Personal Architect were released in June 1998. Visual CADD is expected
to be released in the second quarter of fiscal 1999. However, there can
be no assurance that such products will obtain market acceptance or
generate significant sales revenues for the Company. If the products
fail to achieve projected results, the Company's future results may be
negatively impacted.
- - $517,000 relating to the three completed products was allocated to
capitalized software ($206,000 of which was attributable to the Family
Heritage product, see Note 3) to be amortized over the shorter of the
life of the products' respective expected revenues or 18 months,
pursuant to the Company's amortization policy for capitalized software
development costs discussed in Note 1. The Family Heritage product was
released in two versions, Family Heritage and Family Heritage Deluxe,
which were released in November and December of 1997, respectively.
During the fiscal year ended June 30, 1998, the Company had net revenues
of approximately $300,000 from Family Heritage products. Such actual
revenues were approximately the same as the Company's projected net
revenues. The Family Heritage product was sold on March 13, 1998. If the
remaining two products fail to achieve projected results, the Company
would accelerate the amortization of capitalized software over the life
of the products' expected revenues. The Company released the products
formerly known as Corel's Lumiere and Flow on June 30, 1998.
- - $79,000 was allocated to goodwill to be amortized over 3 years.
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SALE OF FAMILY HERITAGE PRODUCT
On March 13, 1998, the Company sold the rights to Family Heritage, one of the
completed products acquired from Corel, to Mindscape, Inc. (which was
subsequently acquired by The Learning Company) for a purchase price of
$2,500,000 (plus $115,000 for inventories and prepaid royalties). The purchase
price was divided into four equal payments of $625,000, the first of which was
paid upon closing and the second on July 15, 1998. The remaining three $625,000
payments are due on October 15, 1998 and January 15, 1999; however, no separate
notes payable for such amounts were issued by Mindscape. In the quarter ended
March 31, 1998, the Company recognized a net gain of $409,000 on the sale, which
gain was included in net revenues. The remaining $1,875,000, will be recognized
as revenues upon receipt of cash payment from Mindscape, a subsidiary of The
Learning Company. While the Company believes it will collect the additional
installments due from The Learning Company, Management also believes recording
the sale of Family Heritage to the Learning Company on the cash basis is the
preferable accounting treatment because the ultimate collectibility of the
remaining $1,875,000 cannot be reasonably estimated or assured.
The sale of the Family Heritage product enables the Company to further focus its
sales and marketing and further product development efforts on its core product
lines - business applications: (TurboCAD, Hijaak, MapLinx, FloorPlan, etc.),
utilities: (Net Accelerator, WinDelete, etc.) and visual content: (MasterClips
and MasterPhotos). While the Company believes it will collect the additional
installments due from The Learning Company, the ultimate collectibility of the
remaining $1,875,000 cannot be reasonably estimated or assured; management
believes that any shortfall would not seriously impair the Company's liquidity.
LIQUIDITY AND CAPITAL RESOURCES
The Company has financed its working capital and capital expenditure
requirements primarily from net income before depreciation and amortization,
short-term and long-term bank borrowings, capitalized leases and sales of common
stock pursuant to the exercise of options.
The Company's operating activities provided (used) net cash of ($1.7 million),
($486,000) and $717,000, respectively in fiscal 1998, 1997, and 1996. In fiscal
1998, net cash used by operating activities resulted primarily from a $5.4
million increase in receivables, a $3.1 million increase in inventories and a
$3.4 million increase in prepaid royalties and licenses, which were not entirely
offset by the Company's net income before depreciation and amortization of $4.0
million. In fiscal 1997, net cash used by operating activities resulted
primarily from increases in receivables of $3.4 million, inventories of $934,000
and prepaid royalties and licenses of $1.9 million, offset in part by the
Company's income before depreciation and amortization of $4.7 million and
increases in trade accounts payable of $1.4 million and smaller increases in
other payables.
The Company's investing activities used net cash of $3.9 million, $367,000 and
$1.1 million in fiscal 1998, 1997 and fiscal 1996, respectively. In fiscal 1997,
net cash used by investing activities resulted primarily from addition of $2.2
million to capitalized software acquisition and development costs and $1.0
million of equipment purchases. In fiscal 1997, net cash used by investing
activities resulted primarily from $323,000 of equipment purchases.
Net cash provided by financing activities was $6.6 million, $1.6 million and
$236,000 in fiscal 1998, 1997 and fiscal 1996, respectively. In fiscal 1998, net
cash provided by financing activities resulted primarily from $16.4 million of
borrowings under the Company's credit line, offset in part by $11.8 million of
repayments under capital leases, term loans and other obligations, and $928,000
from the issuance of common stock. In fiscal 1997, net cash provided by
financing activities resulted primarily from $1.5 million of net borrowings
under a term loan and $481,000 from sales of common stock, offset in part by
$373,000 of capital lease and other obligations repayments.
At June 30, 1998, the Company had cash and cash equivalents of $2.1 million and
working capital of $6.8 million. In May 1998, the Company entered into a new
line of credit agreement with a bank under which it can borrow the lesser of
$10.0 million or 80% of net accounts receivable, at the bank's reference rate
plus 1/2% or LIBOR plus 2%, at the Company's option. The line of credit
agreement requires the Company to comply with certain financial covenants,
including maintenance of net worth and working capital requirements. Under the
terms of the agreement, all assets not subject to liens of other financial
institutions are pledged as collateral to secure the line of credit. The line of
credit expires on October 31, 1999. In May 1998, the Company also secured a term
loan commitment from the same bank in the amount of $1.5 million, which provided
for borrowings to bear interest at the bank's reference rate plus 1/2 percent or
LIBOR plus 2%, at the Company's option. In May 1998, the Company borrowed $7.9
million under the line of credit and $1.5 million under the term loan. The
Company selected
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90 day LIBOR (5.72% at June 30, 1998) plus 2% as the interest rate option for
both the line of credit and the term loan. The term loan matures on April 30,
2000 and is to be repaid in eight equal quarterly installments of $188,000, plus
interest. The Company used the proceeds from these borrowings to repay the
amounts outstanding under its previous bank line of credit and previous term
loan, which were then terminated. On September 24, 1998, the Company's bank line
of credit was increased to the lesser of $13.5 million or 80% of net accounts
receivable. All other significant terms of such agreement as discussed above
were unchanged.
At June 30, 1998, the Company had no material commitments for capital
expenditures. However, the Company currently expects to make approximately $2.7
million of equipment purchases over the next 12 months. In addition, as of that
date, the Company had obligations totaling $2.0 million and $5.2 million over
the next five years under capital and operating leases, respectively. The
Company believes that its existing cash and cash equivalents, any cash flow from
operations and any remaining availability under its line of credit, will be
sufficient to satisfy the Company's working capital and capital expenditure
requirements for at least the next 12 months. However, in order to support
expansion of the Company's operating future acquisitions of products or
companies, increases in expenses or other factors, the Company is currently
seeking additional debt or equity financing. The Company's forecast period of
time through which its financial resources will be adequate to support its
working capital and capital expenditure requirements is a forward-looking
statement that involves risks and uncertainties, and actual results could vary.
The factors described in "Risk Factors" will affect the Company's future capital
requirements and the adequacy of its available funds. The Company may be
required to raise additional funds through public or private financing, or other
arrangements. There can be no assurance that such funding, if needed, will be
available on terms attractive to the Company, or at all. Furthermore, any
additional equity financing may be dilutive to shareholders, and debt financing,
if available, may involve restrictive covenants. The failure of the Company to
raise capital when needed could have a material adverse effect on the Company's
business, operating results and financial condition.
Most of the Company's international revenues are denominated in foreign
currencies of the Company's subsidiaries. Consequently, a decrease in the value
of a relevant foreign currency in relation to the U.S. dollar can adversely
affect the Company's net revenues. Further, a decrease in the value of a
relevant foreign currency in relation to the U.S. dollar occurring after prices
and before receipt of payment by the Company would have an adverse effect on the
Company's results of operations. The Company experienced no material gains on
losses related to foreign currency transactions in fiscal 1998.
FUTURE PERFORMANCE AND ADDITIONAL RISK FACTORS
FLUCTUATIONS IN PERFORMANCE AND OPERATING RESULTS. The Company has experienced,
and expects to continue to experience, significant fluctuations in operating
results due to a variety of factors. The Company experienced growth during
fiscal 1997 and 1998. However, for the quarter ended September 30, 1997, the
Company reported a net loss of approximately $3.1 million, reflecting in part
charges, accounted for primarily as a write-off of in-process research and
development, amounting to approximately $6.4 million relating to several product
acquisition and licensing transactions. Factors that may cause fluctuations in
operating results in the future include, but are not limited to, market
acceptance of the Company's products or those of its competitors; the timing of
introductions of new products and new versions of existing products; the
successful acquisition and integration of new businesses, products and
technologies; the timing of any write-offs in connection with acquisition; the
timing of orders or order cancellations from major customers; expenses relating
to the development and promotion of such new product and new version
introductions; product returns and reserves; changes in pricing policies by the
Company or its competitors; changes in product mix; difficulty in securing
retail shelf space for the Company's products; the accuracy of forecasts of, and
fluctuations in, demand; market seasonality; the rate of growth of the consumer
software market; fluctuations in foreign exchange rates; changes or disruptions
in the consumer software distribution channels; the extent of third-party
royalty payments; projected and actual changes in platforms and technologies;
timely and successful adaptation to such platforms or technologies; and economic
conditions, both generally and within the Company's industry. In addition, the
Company's strategy is to increase the focus of its sales efforts on volume
licensing to corporate accounts, and, if this strategy is successful, the timing
of such licenses could significantly affect quarterly results of operations. The
Company may also be required to pay fees in advance or to guarantee royalties,
which may be substantial, or to obtain software licenses from third parties
before the commercial viability of such software has been determined, which
could cause operating results to fluctuate. As a result of these and other
factors, the Company's operating results in any given period are inherently
difficult to predict. Any significant shortfall in revenues and earnings from
the levels expected by securities analysts and shareholders could result in a
substantial decline in the trading price of the Company's common stock.
The Company's business has been affected somewhat by seasonal trends, including
higher net revenues in the fiscal quarter
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ended December 31 as a result of strong calendar year-end holiday purchases by
end users of its products. As a result, the Company may experience lower net
revenues in the fiscal quarters ended March 31, June 30 and September 30. The
seasonality of the European, Asia/Pacific and other international markets could
also impact the Company's operating results and financial condition in a
particular quarter given the significant portion of net revenues contributed by
international operations. These seasonal patterns may be overshadowed in
particular quarters by the timing of new product introductions, expansion into
international markets and other factors affecting the Company's business. For
example, the Company's net revenues in the quarter ended June 30, 1997 were
favorably impacted by the Company's launch of TurboCAD v4 and TurboCAD v4
Professional. Furthermore, the markets for the Company's products are
characterized by significant price competition, which may cause the Company's
operating results to fluctuate. See "Intense Competition." In addition to
seasonal and product pricing factors, the Company anticipates that its operating
results for fiscal 1999 will be affected by the timing and the number of new
product releases or upgraded versions of existing products, as well as marketing
and promotional expenditures in connection with the product releases and the
timing of product announcements or introductions by the Company's competitors.
Products are generally shipped as orders are received. Therefore, the Company
has historically operated with little order backlog and sales and operating
results for any quarter have depended on the volume and timing of orders
received during that quarter, which cannot be predicted with any degree of
certainty. A significant portion of the Company's operating expenses are
relatively fixed, and planned expenditures are based on sales forecasts. Thus,
if revenue levels are below expectations due either to the timing of orders
received or to delays in product releases, operating results are likely to be
materially adversely affected. Without growth in revenues in any particular
quarter, the Company's increasing fixed operating expenses could cause net
income to decline when compared to the same period in the previous year or the
immediately preceding quarter. In such event, the market price of the Company's
common stock might be materially adversely affected. Due to all of the foregoing
factors, the Company believes that quarter to quarter comparisons of its
operating results are not necessarily meaningful and should not be relied upon
as indications of future performance.
INTENSE COMPETITION. The PC productivity software industry is highly competitive
and is characterized by rapid changes in technology and customer requirements.
Important factors in the market include product features and functionality,
quality and performance, reliability, brand recognition, ease of understanding
and operation, advertising and dealer merchandising, access to distribution
channels and retail shelf space, marketing, pricing and availability and quality
of support services. The Company faces competition from a large number of
sources. There has been a consolidation among competitors in the market for the
Company's products, and many of the Company's current and potential competitors
have larger technical staffs, more established and larger marketing and sales
organizations, significantly greater financial resources and greater name
recognition and better access to consumers than does the Company. The Company's
relatively small size could adversely affect its ability to compete with larger
companies for sales to dealers, distributors and retail outlets, to obtain shelf
space for its products in retail outlets and to acquire products from third
parties, who may desire to have their products sold or published by larger
entities. The rapid pace of technological change constantly creates new
opportunities for existing and new competitors and can quickly render existing
technologies less valuable. It also requires the Company to enhance its existing
products and to offer new products on a timely basis. The Company has limited
resources and therefore must restrict its product development efforts to a
relatively small number of projects.
The Company competes with other software companies in its efforts to acquire
products or companies and to publish software developed by third parties. The
competition to publish software developed by third parties is primarily on the
basis of brand-name reputation, the terms offered to software developers and the
ability to market new products.
Each of the Company's major products competes with one or more products from one
or more major independent software vendors. For example, TurboCAD competes with
AutoCAD from Autodesk Inc. and IntelliCAD from Visio Corporation. WinDelete
competes with Uninstaller from CyberMedia Inc., CleanSweep from Quarterdeck
Corporation and Norton Uninstaller from Symantec Corporation. MasterClips
competes with ClickArt from Broderbund Software Inc., MegaGallery from Corel
Corporation, Holy Cow! from Macmillan Digital Publishing USA and Art Explosion
from Nova Development. VoiceDirect competes with various speech recognition
products from IBM, Dragon Systems, Inc., Kurzweil and Lernout & Hauspie. Net
Accelerator competes with SurfExpress from Connectix, Speed Surfer from Kissco
and Net.jet from Peak Technologies. FloorPlan competes with Home Architect from
Cendant Corporation, Home Design Suite from Autodesk, Dream Home Designer from
Alpha Software Corporation and Home Design 3D from Expert Software, Inc.
TurboProject competes with MicrosoftProject. The Company's strategy has been to
develop productivity and utility applications that do not compete directly with
applications or features included in operating systems and applications suites
offered by major software
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vendors such as Microsoft, Lotus Development Corp. and Corel. However, such
software vendors may in the future choose to expand the scope and functionality
of their products to support some or all of the features currently offered by
certain of the Company's products, which could adversely affect demand for the
Company's products. In particular, Microsoft has periodically added utility
features (e.g. disk compression utilities and desk-top facing features) to its
Windows operating systems that were previously only supported by third-party
vendors and that materially reduced demand for third-party utility products. In
addition, Microsoft's Windows 98 contains features for the automatic updating of
Windows 98 (including third party device drivers) and many Microsoft
applications via the Internet, which could adversely impact sales of the
Company's Update Now! product. Windows 98 also contains the latest version of
Microsoft's Internet Explorer which handles the caching of Web pages more
efficiently. This feature may adversely impact sales of the Company's Net
Accelerator product family.
The software industry has limited barriers to entry, and the availability of
personal computers with continuously expanding capabilities, at progressively
lower prices, contributes to the ease of market entry. The Company believes that
competition in the industry will continue to intensify as a number of software
companies extend their product lines into additional product categories and as
additional competitors enter the market. In addition, widespread use of the
Internet has reduced barriers to entry in the software market by allowing
software developers to distribute their products online without relying on
access to traditional distribution networks. As a result of the proliferation of
competing software developers, an increasingly large number of products are
competing for limited shelf space. There can be no assurance that the Company's
products will achieve and/or sustain market acceptance and generate significant
levels of revenues in subsequent quarters or that the Company will have the
resources required to compete successfully in the future.
The markets for the Company's products are characterized by significant price
competition, and the Company expects it will continue to face increasing pricing
pressures. In response to such competitive pressures, the Company has reduced
the price of some of its products, including its MasterClips family of products,
and there can be no assurance that product prices will not continue to decline
or that the Company will not respond to such declines with additional product
price reductions. If the Company significantly reduced the prices of one or more
of its products, there can be no assurance that such price reductions would
result in an increase in unit sales volume. Prolonged price competition would
have a material adverse effect on the Company's operating results, including
reduced profit margins and loss of market share.
Currently, approximately half of the Company's revenues depends upon sales of
the TurboCAD and MasterClips product lines. A significant decline in sales of or
margins on one or more of these products could adversely affect the Company's
results of operations. Thus, the Company is more vulnerable to market declines
and competition in the markets for such products than companies with more
diversified sources of revenues.
RAPID TECHNOLOGICAL CHANGE AND FREQUENT PRODUCT INTRODUCTIONS. The markets for
the Company's products are characterized by rapidly changing technology,
frequent new product introductions and uncertainty due to new and emerging
technologies, as well as changes in customer requirements and preferences.
Changes in technologies and customer requirements and preferences, product
obsolescence and advances in computer software and hardware will require the
Company to develop or acquire new products and to enhance its products in a
timely manner at improved price/performance levels in order to remain
competitive. The pace of change has recently accelerated due to the Internet,
corporate intranets, the introduction of 32-bit operating systems such as
Windows 95 and Windows NT 4.0, and new programming languages, such as Java. PC
hardware, in particular, is steadily advancing in power and function,
facilitating expansion of the market for increasingly complex and flexible
software products. This, in turn, has resulted in escalating development costs,
longer periods necessary for development of new products and a greater degree of
unpredictability in the time necessary to develop products. Due to potential
difficulties in the development process, there can be no assurance that future
products and upgrades will be released in a timely manner or that they will
receive market acceptance, if and when released. Despite significant testing by
the Company and by current and potential customers, errors or "bugs" may still
be found in new products or upgrades after commencement of commercial shipments,
especially when first introduced. Delays in the commencement of commercial
shipments of new products or upgrades, as well as the discovery of errors or
bugs after release, may result in adverse publicity, customer dissatisfaction
and delay or loss of product revenues. In addition, such errors or "bugs" could
require significant design modification or corrective releases and could result
in an increase in products returns. Furthermore, from time to time the Company
and others may announce new products, capabilities or technologies that have the
potential to replace or shorten the life cycles of the Company's existing
products. There can be no assurance that announcement of currently planned or
other new products by the Company or by the Company's competitors will not cause
customers to defer purchasing existing Company products or cause distributors to
return products to the Company. In addition, rapid changes in the market and
increasing numbers of new products available to consumers have increased the
degree of consumer acceptance risk with respect
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to any specific title that the Company may publish. It is expected that this
trend will continue and may become more pronounced in the future. Consumer
preferences are difficult to predict, and few consumer products achieve
sustained market acceptance.
There can be no assurance that the Company will be successful in its product
development efforts or that the Company will have the resources required to
respond to technological changes or to compete successfully in the future.
Delays or difficulties associated with new product introductions or upgrades
could have a material adverse effect on the Company's business, operating
results and financial condition. In addition, because the Company expects that
the cost of developing and introducing new products will continue to increase,
the financial risks associated with new product development will increase as
will the risks associated with material delays in the introduction of such new
products. If the Company is unable to develop or acquire new products in a
timely manner as revenues decrease from products reaching the end of their
natural life cycles, the Company's operating results will be adversely affected.
Because of the Company's small size and capital resources relative to some of
its competitors, its ability to avoid technological obsolescence through
acquisition or development of new products or upgrades of existing products may
be more limited than companies with greater funds.
PRODUCT CONCENTRATION. During fiscal 1998, 43%, 19% and 29%, and during fiscal
1997, 34%, 11% and 46%, of the Company's net revenues were derived from sales of
the Company's business applications, utilities and visual content products,
respectively. Within the business applications category, the products within the
business drawing category (primarily the TurboCAD product line) accounted for
approximately 20% and 22% of the Company's net revenues during fiscal 1998 and
fiscal 1997, respectively. Within the visual content category, the MasterClips
product family accounted for approximately 29% and 46% of the Company's net
revenues during fiscal 1998 and fiscal 1997. These were the leading products in
their respective categories and, although the Company publishes a broad range of
products, these product lines are expected to continue to account for a material
percentage of net revenues in fiscal 1999 and thereafter. Accordingly, the
Company's future operating results will depend, in part, on continued and
expanded market acceptance of these product lines, as well as the Company's
ability to continue to enhance these product lines and to introduce new
products. There can be no assurance that sales levels of any of these families
of products will increase or be sustained, especially in light of increased
competition in the marketplace. Any circumstances adversely affecting sales of
these families of products, including such factors as product life cycles,
market acceptance, product performance and reliability, reputation, price
competition and the availability of third-party applications, could have a
material adverse effect on the Company's business, operating results and
financial condition. The failure of new products in these families to achieve
market acceptance could also have a material adverse effect on the Company's
business, operating results and financial condition.
DISTRIBUTION RISKS. The distribution channels through which consumer software
products are sold have been characterized by intense competition and continuing
uncertainties, including consolidations and financial difficulties of certain
distributors and resellers, the emergence of new resellers such as general mass
merchandisers and superstores, the development of new channels such as the
Internet and the desire of large customers such as retail chains and corporate
users to purchase directly from software developers. Competition for access to
distribution channels and for retail shelf space is intense. The Company has no
long-term distribution agreements with any reseller. There can be no assurance
that the Company's distributors and retailers will continue to purchase the
Company's products or provide the Company's products with adequate levels of
shelf space and promotional support or that the Company will be able to
distribute its products effectively through new distribution channels. The
Company's distributors and retailers carry competing product lines, and there is
increasing pressure from distributors and retailers to obtain marketing and
promotional funds, price discounts and favorable return policies in connection
with access to shelf space, in-store promotions and sales of products, which has
an adverse impact on the Company's net revenues and profitability. In addition,
consolidation among the companies within the Company's distribution channels has
reduced the number of available distributors, which has increased the
competition for shelf-space. There can be no assurance that these pressures will
not continue or increase. The Company's return policy allows its distributors,
subject to certain limitations, to return purchased products in exchange for new
products or for credit towards future purchases as part of stock balancing
programs. In addition, the Company provides price protection to its distributors
when it reduces the price of its products. End users may return products through
dealers and distributors within a reasonable period from the date of purchase
for a full refund, and retailers may return older versions of products. Various
distributors and resellers may have different return policies that adversely
affect the number of products that are returned to the Company. Product returns
often occur when the Company introduces upgrades and new versions of products or
when distributors or resellers overestimate demand. The Company anticipates that
product returns in future periods will continue to be adversely affected by
product update cycles, new product releases and software quality. The Company
establishes allowances based on estimated future returns of products after
considering various factors, and accordingly, if the level of actual returns
exceeds the Company's estimates, it could have a
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<PAGE> 26
material adverse impact on the Company's operating results and financial
condition. While the Company maintains strict measures to monitor channel
inventories and to provide appropriate reserves, actual product returns may
differ from the Company's reserve estimates, and such differences could be
material to the Company's operating results and financial condition. The Company
manufactures its products based upon estimated future sales, and accordingly, if
the level of actual orders of products falls short of management's estimates,
inventory levels could be excessive, which could add to inventory write-offs and
have an adverse impact on the Company's business, operating results and
financial condition.
CUSTOMER CONCENTRATION. Sales to a limited number of distributors and retailers
have constituted and are expected to continue to constitute a substantial amount
of the Company's revenues. Sales to the Company's two largest distributors
during fiscal 1998 and fiscal 1997 accounted for an aggregate of 33.1% and 22.8%
of the Company's revenues, respectively. Arrangements with the Company's
distributors and retailers generally may be terminated at any time by the
distributor or retailer. The loss of, a significant reduction in sales to, the
inability to collect receivables from, or any other adverse change in the
Company's relationship with, any of the Company's principal distributors or
retailers, or principal accounts sold through such distributors, could
materially adversely affect the Company's operating results and financial
condition. In addition, sales of the Company's products are typically made on
credit, with terms that vary depending upon the customer and the nature of the
product. The Company's distributors and retailers compete in a volatile industry
and are subject to the risk of bankruptcy or other business failure, and certain
distributors and retailers have experienced difficulties. Although the Company
maintains a reserve for uncollectible receivables that it believes is adequate,
there can be no assurance that its reserve will prove to be sufficient or that
the difficulties for these or additional distributors and retailers will not
continue, which could have an adverse effect on the Company's business,
operating results and financial condition.
DEPENDENCE ON PROPRIETARY TECHNOLOGY AND POTENTIAL LITIGATION. The Company's
ability to compete effectively depends in part on its ability to develop and
maintain proprietary aspects of its technology. To protect its technology, the
Company relies on a combination of copyrights, trademarks, trade secret laws,
restrictions on disclosure and transferring title and other methods. The Company
holds no patents, and existing copyright and trade secret laws afford only
limited protection. The Company also generally enters into confidentiality or
license agreements with its employees and consultants, and generally controls
access to and distribution of its documentation and other proprietary
information.
Despite the foregoing precautions, it may be possible for a third party to copy
or otherwise obtain and use the Company's products or technologies without
authorization, or to develop similar technologies independently. The Company
does not include in its products any mechanism to prevent or inhibit
unauthorized copying. Policing unauthorized use of the Company's technology is
difficult, and while the Company is unable to determine the extent to which
software piracy of its products exists, software piracy can be expected to be a
persistent problem. If a significant amount of unauthorized copying of the
Company's products were to occur, the Company's business, operating results and
financial condition could be adversely affected. In addition, effective
copyright, trademark and trade secret protection may be unavailable or limited
in certain foreign countries, and the global nature of the Internet makes it
virtually impossible to control the ultimate destination of the Company's
products. There can be no assurance that the steps taken by the Company will
prevent misappropriation or infringement of its technology. In addition,
litigation may be necessary to protect the Company's trade secrets or to
determine the validity and scope of the proprietary rights of others. Such
litigation could result in substantial costs and diversion of resources that
could have a material adverse effect on the Company's business, operating
results and financial condition.
As the number of software products in the industry increases and the
functionality of these products further overlaps, software developers and
publishers may increasingly become subject to infringement claims. From time to
time, the Company has received, and may receive in the future, notice of claims
of infringement of other parties' proprietary rights. Although the Company
investigates claims and responds as it deems appropriate, there can be no
assurance that infringement or invalidity claims (or claims for indemnification
resulting from infringement claims) will not be asserted or prosecuted against
the Company. Irrespective of the validity or the successful assertion of such
claims, the Company would incur significant costs and diversion of resources
with respect to the defense thereof, which could have a material adverse effect
on the Company's business, operating results and financial condition. If any
valid claims or actions were asserted against the Company, the Company might
seek to obtain a license under a third-party's intellectual property rights.
There can be no assurance, however, that under such circumstances a license
would be available on commercially reasonable terms, or at all.
The Company provides its products to end users under non-exclusive licenses,
which generally are non-transferable and have a perpetual term. The Company
makes source code available for certain of the Company's products. The provision
of source code may increase the likelihood of misappropriation or other misuse
of the Company's intellectual property. The Company
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<PAGE> 27
licenses all of its products pursuant to shrink-wrap licenses that are not
signed by licensees and therefore may be unenforceable under the laws of certain
jurisdictions.
DEPENDENCE ON THIRD-PARTY DEVELOPERS. The Company's business strategy has
historically depended in part on its relationships with third-party developers,
who provide products that expand the functionality of the Company's software.
Many of these licenses require payment of royalties based on the number of
products sold. In other cases, the Company may be required to pay substantial
up-front royalties and development fees to software developers before the
commercial viability of their products has been tested. Failure of such products
to achieve commercial success could result in substantial charges against the
Company's earnings. Licenses from third parties for several of the Company's
products have limited terms and are non-exclusive. There can be no assurance
that these third-party software licenses for current products or for new
products will continue to be available on commercially reasonable terms, or that
the software will be appropriately supported, maintained or enhanced by the
licensors. The loss of licenses to, or the inability to support, maintain and
enhance, any such software, could result in increased costs, or in delays or
reductions in product shipments until equivalent software could be developed,
identified, licensed and integrated, which would have a material adverse effect
on the Company's business, operating results and financial condition. In
addition, because talented development personnel are in high demand, there can
be no assurance that independent developers, including those who have developed
products for the Company in the past, will be able to provide development
support to the Company in the future. If sales of software utilizing third-party
technology increase disproportionately, operating income as a percent of revenue
may be below historical levels due to third-party royalty obligations.
RISKS ASSOCIATED WITH DEVELOPMENT TEAMS OUTSIDE THE UNITED STATES. Most program
coding and quality testing of the Company's products are performed using
contract programmers in development centers in various locations in Russia,
Ukraine, India, and several other countries. Although the cost of programmers
outside of the United States is significantly lower than the cost of programmers
available to the Company domestically, the Company's reliance on such
programmers presents a number of risks. Due to the geographic distance between
the Company's engineering management personnel in California and the contract
programmers overseas, it is more difficult for the Company to manage, oversee
and control the programming process. In addition, cultural and language
differences make coordination of the Company's United States management and
overseas programming efforts more difficult. While the Company's agreement with
the entity through which the Company compensates these programmers provides that
the Company owns the code developed by the programmers, the location of the
source code outside the United States may make it more difficult for the Company
to ensure that access to its source code is adequately restricted. Given the
Company's reliance on programmers outside the United States, the Company's
business, operating results and financial condition would be materially
adversely affected if the Company were to lose the services of these
programmers. Although the Company would likely be able to locate alternative
programmers within the United States or in other countries to the extent that
the overseas programmers were no longer available, the costs associated with
such alternative programmers could significantly increase the Company's
operating expenses.
POTENTIALLY ADVERSE IMPACT FROM ACQUISITIONS. The Company has in the past
acquired, and expects to continue from time to time in the future to acquire,
businesses, technologies, services, product lines and/or content databases that
are complementary to the Company's business in order to broaden its product
lines and geographic sales channels. For example, during the first quarter of
fiscal 1998, the Company acquired a number of products in the CAD, diagramming
and consumer categories from Corel Corporation; entered into a technology
licensing agreement with Dragon Systems, a developer of speech recognition
products; acquired from Quarterdeck Corporation exclusive worldwide licensing
rights to the HiJaak graphics utility products; acquired certain assets of
MediaPaq, Inc., including its browser technology; and acquired certain assets of
MapLinx, Inc., including a mapping software program. The Company believes that
its future growth will depend, in part, upon the success of its recent and
possible future acquisitions. There can be no assurance that the anticipated
benefits of recently concluded business combinations and product acquisitions
will be realized, or that the Company will be successful in identifying suitable
acquisition opportunities in the future. The Company may in the future face
increased competition for acquisition opportunities, which may inhibit the
Company's ability to consummate suitable acquisitions and increase the costs of
completing such acquisitions. Further, there can be no assurance that the
Company will be able successfully to integrate acquired technologies, services,
product lines or businesses. Acquisitions entail a number of risks, including
managing a larger and more geographically disparate business; diversion of
management attention; successfully completing development of and marketing
acquired products to markets with which the Company may not be familiar;
integrating the acquired products into the Company's product lines; coordinating
diverse operating structures, policies and practices; and integrating the
employees of the acquired companies into the Company's organization and culture.
Failure of the Company to integrate and manage acquired businesses successfully,
to retain their employees and to address successfully new markets associated
with such acquired
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<PAGE> 28
businesses would have a material adverse effect on the Company's business,
operating results and financial condition. Certain of the Company's acquisitions
have involved issuances of equity securities and resulted in various charges and
expenses that have adversely affected, and will continue to adversely affect,
the Company's operating results and financial condition. Future acquisitions may
also result in potential charges that may adversely affect the Company's
earnings and may involve the issuance of shares of the Company's stock to owners
of acquired businesses, resulting in dilution in the percentage of the Company's
stock owned by other shareholders.
MANAGEMENT OF GROWTH. In recent years, the Company has experienced changes in
its operations that have placed significant demands on the Company's
administrative, operational and financial resources. The growth in the Company's
customer base and expansion of its product families, together with its
acquisition of other businesses and their employees, have challenged and are
expected to continue to challenge the Company's management and operations,
including its sales, marketing, customer support, research and development and
finance and administrative operations. In order to address certain of these
challenges, the Company is in the process of upgrading its information systems.
There can be no assurance that the Company will not face difficulties with such
upgrade, which could adversely affect the Company's ability to continue to
manage the growth of its operations. The Company's future performance will
depend in part on its ability to manage change successfully, in both its
domestic and its international operations, and to adapt its operational and
financial control systems, if necessary, to respond to changes in its business
and to facilitate the integration of acquired businesses with the Company's
operations. The failure of the Company's management to effectively respond to
and manage growth could have a material adverse effect on the Company's
business, operating results and financial condition.
RISKS ASSOCIATED WITH THE INTERNET. The Company's marketplace has recently
experienced a higher emphasis on online and Internet-related services and
content tailored for this new delivery vehicle. The Company has initiated steps,
at significant cost, to take advantage of opportunities created by the Internet
and online networks, and the Company expects to incur significant additional
costs in connection with its Internet infrastructure. There can be no assurance
that the Company's Internet strategy will be successful, or that the costs and
investments in this area will provide adequate, or any, results. Delivery of
software using online services or the Internet will necessitate certain changes
in the Company business and operations including addressing operational
challenges such as improving download time for pictures, images and programs,
ensuring proper regulation of content quality and developing sophisticated
security for transmitting payments. The Company's failure to adapt to and
utilize such technologies and media successfully and in a timely manner could
materially and adversely affect its competitive position and its financial
results.
RISKS ASSOCIATED WITH INTERNATIONAL OPERATIONS. International sales represented
30% and 41% of the Company's revenues during fiscal 1998 and fiscal 1997,
respectively, and the Company expects that international sales will account for
an increasing portion of its revenues in the future. Most of the Company's
international revenues are denominated in foreign currencies. Consequently, a
decrease in the value of a relevant foreign currency in relation to the U.S.
dollar can adversely affect the Company's net revenues. Further, a decrease in
the value of a relevant foreign currency in relation to the U.S. dollar
occurring after prices and before receipt of payment by the Company would have
an adverse effect on the Company's results of operations. Additionally, the
Company may be materially and adversely affected by increases in duty rates,
exchange or price controls, changes in tariffs, difficulties managing accounts
receivable, longer collection cycles, repatriation restrictions or other
restrictions on foreign currencies. The Company's international operations are
subject to certain other risks common to international operations, including
without limitation, difficulties managing foreign operations, the timely and
successful launch of foreign products, government regulations, import and export
restrictions, changes in international tax laws, political instability and, in
certain jurisdictions, reduced protection for the Company's intellectual
property rights. The Company has committed and continues to commit significant
time and development resources to customizing certain of its products for
selected international markets and to developing international sales and support
channels. There can be no assurance that the Company's efforts to develop
products for targeted international markets or to develop additional
international sales and support channels will be successful. The failure of such
efforts, which can entail considerable expense, could have a material adverse
effect on the Company's business, operating results and financial condition.
RISKS ASSOCIATED WITH CORPORATE SALES STRATEGY. The Company is beginning to
focus on sales directly to corporate customers through volume, installment and
enterprise licensing arrangements. Direct sales to corporate customers typically
involve a longer cycle (up to 18 months from first contact to execution of an
initial license) than sales through other distribution channels, require a
greater investment of resources in establishing the corporate relationship and
result in lower operating margins. The timing of the execution of volume
licenses, or their nonrenewal or renegotiation by large customers, could cause
volatility in, and materially adversely affect, the Company's quarterly
operating results. There can be no assurance that the Company's investments in
establishing a corporate sales force will result in a profitable means of
distributing the Company's products to
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corporate customers. If this strategy is unsuccessful, the Company's business
and operating results could be adversely affected.
DEPENDENCE ON KEY PERSONNEL. The Company's success depends to a significant
extent on the performance and continued service of its senior management and
certain key employees, in particular Martin Sacks, the Company's President. The
Company maintains no key person insurance and has no employment agreements and
no noncompetition agreements with its employees. Competition for highly skilled
employees with technical, management, marketing, sales, product development and
other specialized training is intense, and the supply is limited. In particular,
the Company has historically experienced difficulty in attracting highly
qualified programmers and software engineers in the U.S. There can be no
assurance that the Company will be successful in attracting, motivating and
retaining such personnel. In addition, there can be no assurance that one or
more key employees will not leave the Company or compete against the Company.
The Company's failure to attract qualified employees or to retain the services
of key personnel could materially adversely affect the Company's business,
operating results and financial condition.
OWNERSHIP BY DIRECTORS AND EXECUTIVE OFFICERS. As of June 30, 1998, the present
directors and executive officers of the Company and their respective affiliates,
in the aggregate, beneficially own approximately 25% of the outstanding common
stock. As a result, these shareholders will possess significant influence over
the Company. Such influence may have the effect of delaying or preventing a
change in control of the Company, impeding a merger, consolidation, takeover or
other business combination involving the Company or discouraging a potential
acquiror from making a tender offer or otherwise attempting to obtain control of
the Company.
RELIANCE ON OUTSOURCING. The Company outsources most of the production of its
products, which primarily involves duplication of various media and the printing
of user manuals and packaging materials. So long as it remains economically
advantageous to do so, the Company intends to continue, and possibly to
increase, outsourcing in the future. Although the Company believes that it has
adequate alternative suppliers of such services, the loss of a supplier or its
inability to perform contract services could materially adversely affect the
Company's operating results.
FUTURE CAPITAL NEEDS, UNCERTAINTY OF ADDITIONAL FINANCING. The Company currently
anticipates that the available funds and cash flows generated from operations,
will be sufficient to meet its anticipated needs for working capital and capital
expenditures for at least the next 12 months. Thereafter, the Company may need
to raise additional funds. The Company could need additional funds sooner in
order to fund business expansion, develop new or enhanced products, respond to
competitive pressures or acquire complementary products, businesses or
technologies. If additional funds are raised through the issuance of equity or
convertible debt securities, the percentage of ownership of the shareholders
will be reduced, shareholders may experience additional dilution and such
securities may have rights, preferences or privileges senior to those of the
holders of the Company's common stock. There can be no assurance that additional
financing will be available on terms favorable to the Company, or at all. If
adequate funds are not available or are not available on acceptable terms, the
Company may not be able to fund expansion, take advantage of unanticipated
acquisition opportunities, develop or enhance services or products or respond to
competitive pressures. Such inability could have a material adverse effect on
the Company's business, operating results and financial condition. See
"Liquidity and Capital Resources."
POSSIBLE VOLATILITY OF STOCK PRICE. The market price of the Company's common
stock is highly volatile and could be subject to wide fluctuations in response
to factors such as actual or anticipated variations in the Company's operating
results, announcements of technological innovations, new products or services
introduced by the Company or its competitors, changes in financial estimates by
securities analysts, conditions and trends in the software market, general
market conditions and other factors. Historically, the trading volume of the
common stock has been very small and the market for the common stock has been
materially less liquid than that of most other publicly traded companies.
Significant sales of common stock could have an adverse effect on the market
price of the common stock. Further, the stock markets, and in particular the
NASDAQ National Market, have experienced extreme price and volume fluctuations
that have particularly affected the market prices of equity securities of many
technology companies and that often have been unrelated or disproportionate to
the operating performance of such companies. The trading prices of many
technology companies' stocks, including the Company, are at or near historical
highs and reflect price to earnings ratios substantially above historical
levels. There can be no assurance that these trading prices and price to
earnings ratios will be sustained. These broad market factors may adversely
affect the market price of the Company's common stock. These market
fluctuations, as well as general economic, political and market conditions such
as recessions, interest rates or international currency fluctuations, may
adversely affect the market price of the common stock.
YEAR 2000 RISKS. The Company recognizes the need to ensure its operations will
not be adversely impacted by Year 2000 software failures. Software failures due
to processing errors potentially arising from calculations using the Year 2000
date are a known risk. The Company has established procedures for evaluating and
managing the risks and costs associated with this
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problem, and, as part of the general upgrade of the Company's information
systems, the Company is putting in place systems which will be Year 2000
compliant.
The Company has communicated with others with whom it does significant business
to determine their Year 2000 compliance readiness and the extent to which the
Company is vulnerable to any third party Year 2000 issues. However, there can be
no guarantee that the systems of other companies on which the Company's systems
rely will be timely converted, or that a failure to convert by another company,
or a conversion that is incompatible with the Company's systems, would not have
a material adverse effect on the Company.
The total cost to the Company of these Year 2000 compliance activities has not
been and is not anticipated to be material to its financial position or results
of operations in any given year. The Company anticipates completing these Year
2000 compliance activities by September of 1999. These costs and the date on
which the Company plans to complete Year 2000 modification and testing
procedures are based on management's best estimates, which were derived
utilizing numerous assumptions of future events including the continued
availability of certain resources, third party modification plans and other
factors. However, there can be no guarantee that these estimates will be
achieved, and actual results could differ from those plans.
Although the Company believes that its products are Year 2000 compliant, there
can be no assurance that coding errors will not be discovered in the future. In
such instance, the cost of product returns or warranty claims could be material
to the Company's business and operating results. In addition, the Company
believes that the purchasing patterns of customers and potential customers may
be affected by Year 2000 issues as companies expend significant resources to
correct or patch their current software systems for Year 2000 compliance. These
expenditures may result in reduced funds available to purchase software products
such as those offered by the Company, which could result in a material adverse
effect on the Company's business, operating results and financial condition. The
Company is currently in the process of distributing mailings to all its vendors
and customers regarding Year 2000 compliance.
FACTORS INHIBITING TAKEOVER. The Board of Directors is authorized to issue up to
20,000,000 shares of Preferred Stock and to determine the price, rights,
preferences, privileges and restrictions, including voting rights, of those
shares without any further vote or action by the shareholders. The rights of the
holders of common stock will be subject to, and may be adversely affected by,
the rights of the holders of any Preferred Stock that may be issued in the
future. The issuance of Preferred Stock, while providing desirable flexibility
in connection with possible acquisitions and other corporate purposes, could
have the effect of delaying, deferring or preventing a change in control of the
Company. The Company has no current plans to issue shares of Preferred Stock.
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ITEM 7a. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company is exposed to the impact of interest rate and foreign currency
fluctuations. The Company's objective in managing its exposure to interest rate
changes and foreign currency fluctuations is to limit the impact of interest
rate changes on earnings and cash flow and to lower its overall borrowing costs.
The Company's major market risk exposure is changing interest rates in the
United States, which would change interest expense on the Company's line of
credit and term loan.
Most of the Company's international revenues are denominated in foreign
currencies. Consequently a decrease in the value of a relevant foreign currency
in relation to the U.S. dollar could adversely affect the Company's net
revenues. The Company's foreign currency transactional exposures exist primarily
with the U.K. pound and German mark.
The Company does not utilize interest rate swaps or hedge exposures with foreign
currency forward contracts.
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ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Financial Statements and the financial statement schedule are attached as an
exhibit at Item 13(a).
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ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Not applicable.
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PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information required by this item will be contained in the Company's
definitive proxy statement to be filed with the Securities and Exchange
Commission no later than 120 days after the end of the fiscal year covered by
this Annual Report on Form 10-K and is incorporated by reference herein.
ITEM 11. EXECUTIVE COMPENSATION
The information required by this item will be contained in the Company's
definitive proxy statement to be filed with the Securities and Exchange
Commission no later than 120 days after the end of the fiscal year covered by
this Annual Report on Form 10-K and is incorporated by reference herein.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by this item will be contained in the Company's
definitive proxy statement to be filed with the Securities and Exchange
Commission no later than 120 days after the end of the fiscal year covered by
this Annual Report on Form 10-K and is incorporated by reference herein.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this item will be contained in the Company's
definitive proxy statement to be filed with the Securities and Exchange
Commission no later than 120 days after the end of the fiscal year covered by
this Annual Report on Form 10-K and is incorporated by reference herein.
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PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENTS, SCHEDULES AND REPORTS ON FORM 8-K
(a) DOCUMENTS FILED AS PART OF THIS ANNUAL REPORT ON FORM 10-K:
1. Financial Statements
<TABLE>
<S> <C>
Independent Auditors' Report 36
Consolidated Balance Sheets at June 30, 1998 and 1997 37
Consolidated Statements of Operations for the years ended June 30, 1998, 1997
and 1996 38
Consolidated Statements of Shareholders' Equity for the years ended June 30,
1998, 1997 and 1996 39
Consolidated Statements of Cash Flows for the years ended June 30, 1998 1997
and 1996 40
Notes to Consolidated Financial Statements 41
2. Financial Statement Schedule
Schedule II - Valuation and Qualifying Accounts for the years ended June
30, 1998, 1997 and 1996 54
(b) REPORTS ON FORM 8-K: NONE.
(c) EXHIBITS: SEE EXHIBIT INDEX 56
</TABLE>
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INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Shareholders
International Microcomputer Software, Inc.
We have audited the accompanying consolidated balance sheets of International
Microcomputer Software, Inc. and subsidiaries (the "Company") as of June 30,
1998 and 1997 and the related consolidated statements of operations,
shareholders' equity, and cash flows for each of the three fiscal years in the
period ended June 30, 1998. Our audits also included the financial statement
schedule, listed in the Index at Item 13(a) 2. These financial statements and
financial statement schedule are the responsibility of the Company's management.
Our responsibility is to express an opinion on these financial statements and
financial statement schedule based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in all
material respects, the financial position of International Microcomputer
Software, Inc. and subsidiaries as of June 30, 1998 and 1997, and the results of
their operations and their cash flows for each of the three fiscal years in the
period ended June 30, 1998 in conformity with generally accepted accounting
principles. Also, in our opinion, such financial statement schedule, when
considered in relation to the basic consolidated financial statements taken as a
whole, presents fairly, in all material respects, the information set forth
therein.
/s/ DELOITTE & TOUCHE LLP
- -------------------------
San Francisco, California
August 5, 1998 (September 24, 1998 as to the third paragraph of Note 10)
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INTERNATIONAL MICROCOMPUTER SOFTWARE, INC.
AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
JUNE 30, 1998 AND 1997
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
<TABLE>
<CAPTION>
1998 1997
-------- --------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 2,093 $ 1,126
Receivables, less allowances for doubtful
accounts and returns of $4,231 and $2,943 13,149 7,536
Inventories, net 6,549 3,473
Prepaid royalties and licenses 2,517 1,285
Deferred tax assets, net 1,762 1,472
Other current assets 759 478
-------- --------
Total current assets 26,829 15,370
Furniture and equipment, net 3,430 1,693
Deferred tax assets, net 2,676 265
Capitalized software development costs, net 2,101 92
Other assets, net 314 153
-------- --------
Total assets $ 35,350 $ 17,573
======== ========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Credit line payable 7,948 --
Short term debt and other obligations 842 402
Trade accounts payable 6,915 4,501
Current portion of notes payable 1,434 558
Wages, benefits and sales tax payable 932 515
Contracts payable 1,621 1,318
Income taxes payable 313 742
-------- --------
Total current liabilities 20,005 8,036
Long term debt and other obligations 1,682 2,042
-------- --------
Total liabilities 21,687 10,078
Commitments and contingencies
Shareholders' equity:
Common stock, no par value; 300,000,000 authorized;
issued and outstanding 5,684,179 and 5,128,759 shares 12,718 6,453
Retained earnings 1,255 1,373
Cumulative translation adjustment (25) (46)
Notes receivable from shareholders (285) (285)
-------- --------
Total shareholders' equity 13,663 7,495
-------- --------
Total liabilities and shareholders' equity $ 35,350 $ 17,573
======== ========
</TABLE>
See Notes to Consolidated Financial Statements
37
<PAGE> 38
INTERNATIONAL MICROCOMPUTER SOFTWARE, INC.
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
YEARS ENDED JUNE 30, 1998, 1997 AND 1996
(IN THOUSANDS EXCEPT FOR PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
1998 1997 1996
-------- -------- --------
<S> <C> <C> <C>
Net revenues $ 62,472 $ 41,839 $ 25,679
Product costs 23,382 16,893 8,262
-------- -------- --------
Gross margin 39,090 24,946 17,417
-------- -------- --------
Costs and expenses:
Sales and marketing 18,611 12,026 9,888
General and administrative 5,005 3,988 2,557
Research and development 8,614 4,565 3,171
Write off purchased in process
research and development 6,367 -- --
-------- -------- --------
Total operating expenses 38,597 20,579 15,616
-------- -------- --------
Operating income 493 4,367 1,801
Interest and other expense, net 759 130 262
-------- -------- --------
Income (loss) before income taxes (266) 4,237 1,539
Income tax provision (benefit) (148) 1,640 585
-------- -------- --------
Net income (loss) $ (118) $ 2,597 $ 954
======== ======== ========
Basic income (loss) per share ($ 0.02) $ 0.53 $ 0.20
Diluted income (loss) per share ($ 0.02) $ 0.46 $ 0.18
Shares used in calculating:
Basic income (loss) per share 5,513,334 4,946,155 4,795,296
Diluted income (loss) per share 5,513,334 5,681,606 5,287,543
</TABLE>
See Notes to Consolidated Financial Statements
38
<PAGE> 39
INTERNATIONAL MICROCOMPUTER SOFTWARE, INC.
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
YEARS ENDED JUNE 30, 1998, 1997 AND 1996
(IN THOUSANDS EXPECT FOR SHARE AMOUNTS)
<TABLE>
<CAPTION>
Retained Notes
Earnings Cumulative Receivable
Common Stock (Accumulated Translation from
Shares Amount Deficit) Adjustment Shareholders Total
------ ------ ------------ ----------- ------------- -----
<S> <C> <C> <C> <C> <C> <C>
Balance at July 1, 1995 4,759,957 $ 5,864 $ (2,177) $ (24) $ (265) $ 3,398
Issuance of common stock
under stock bonus and
option plans 74,732 109 -- -- (20) 89
Net income -- -- 953 -- -- 953
Foreign currency
translation -- -- -- 90 -- 90
Loan to shareholder -- -- -- -- (8) (8)
--------- --------- --------- --------- --------- ---------
Balance at June 30, 1996 4,834,689 $ 5,973 $ (1,224) $ 66 $ (293) $ 4,522
Issuance of common stock
under stock bonus and
option plans 294,070 480 -- -- -- 480
Net income -- -- 2,597 -- -- 2,597
Foreign currency
translation -- -- -- (112) -- (112)
Payment of note receivable -- -- -- -- 8 8
--------- --------- --------- --------- --------- ---------
Balance at June 30, 1997 5,128,759 $ 6,453 $ 1,373 $ (46) $ (285) $ 7,495
Issuance of common stock
under stock bonus and
option plans and for
exercise of warrants 189,400 623 -- -- -- 623
Issuance of common stock
- acquisition of assets
from Corel 346,020 5,000 -- -- -- 5,000
Issuance of common stock
- acquisition of MediaPaq 20,000 240 -- -- -- 240
Deferred compensation
amortization -- 30 -- -- -- 30
Tax benefit from exercise of
stock options -- 372 -- -- -- 372
Net loss -- -- (118) -- -- (118)
Foreign currency translation -- -- -- 21 -- 21
--------- --------- --------- --------- --------- ---------
Balance at June 30, 1998 5,684,179 $ 12,718 $ 1,255 ($ 25) ($ 285) $ 13,663
========= ========= ========= ========= ========= =========
</TABLE>
See Notes to Consolidated Financial Statements
39
<PAGE> 40
INTERNATIONAL MICROCOMPUTER SOFTWARE, INC.
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED JUNE 30, 1998, 1997 AND 1996
(IN THOUSANDS)
<TABLE>
<CAPTION>
1998 1997 1996
-------- -------- --------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income (loss) ($ 118) $ 2,597 $ 954
Adjustments to reconcile net income (loss) to net
cash provided (used) by operating activities
Depreciation and amortization 4,147 2,098 934
Amortization of deferred compensation 402 -- --
Deferred taxes (2,700) (602) (402)
Write-off of prepaid royalties 84 160
Write-off of purchased in-process research and development 6,367 -- --
Changes in:
Receivables, net (5,443) (3,414) (1,531)
Inventories (3,061) (934) (912)
Prepaid royalties and licenses (3,361) (1,939) (499)
Other current assets (281) (8) 61
Trade accounts payable 1,942 1,424 879
Wages, benefits and sales tax payable 416 251 75
Contracts payable 303 263 302
Income taxes payable (429) (270) 766
Currency translation adjustment 22 (112) 90
-------- -------- --------
Net cash provided (used) by operating activities (1,710) (486) 717
-------- -------- --------
Cash flows from investing activities:
Purchase of equipment (1,026) (323) (343)
Cash paid for acquisitions of software development (2,708) (44) (746)
costs and in-process technologies
Other (170) -- --
-------- -------- --------
Net cash (used) by investing activities (3,904) (367) (1,089)
-------- -------- --------
Cash flows from financing activities:
Credit line borrowings 16,358 4,869 1,525
Credit line repayments (8,410) (4,869) (1,925)
Term loan borrowings 1,500 2,000 946
Term loan repayments (2,782) (524) (178)
Capital lease and other obligations repayment (611) (373) (241)
Notes receivable from shareholders -- 8 --
Proceeds from issuance of common stock 526 481 109
-------- -------- --------
Net cash provided by financing activities 6,581 1,592 236
Net increase (decrease) in cash and cash equivalents 967 739 (136)
Cash and cash equivalents at beginning of year 1,126 387 523
-------- -------- --------
Cash and cash equivalents at end of the year $ 2,093 $ 1,126 $ 387
======== ======== ========
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
Interest paid $ 552 $ 178 $ 180
Income taxes paid $ 2,592 $ 1,910 $ 165
SUPPLEMENTAL DISCLOSURES OF NON-CASH
FINANCING AND INVESTING ACTIVITIES
Equipment acquired through capital lease obligations $ 1,462 $ 768 $ 401
Acquisition of products and in-process technologies in exchange for:
Long term debt 300 -- --
Trade payables 383 -- --
Notes payable 1,034 -- --
Common stock 5,240 -- --
</TABLE>
See Notes to Consolidated Financial Statements
40
<PAGE> 41
INTERNATIONAL MICROCOMPUTER SOFTWARE, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
ORGANIZATION
International Microcomputer Software, Inc. (IMSI(R) or the "Company") was
incorporated in California in November 1982. The Company has wholly-owned
subsidiaries located in Munich, Germany; Sydney, Australia; London, England;
Johannesburg, South Africa; Paris, France; Stockholm, Sweden; and Rio de
Janeiro, Brazil.
The Company develops and publishes PC productivity software in the business
applications, utilities and visual content categories targeted primarily to
small- and medium-size businesses and consumers.
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of IMSI(R) and its
wholly owned subsidiaries. All significant intercompany balances and
transactions have been eliminated in consolidation.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amount of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
Significant estimates used in the consolidated financial statements include the
estimates of (i) doubtful accounts and returns, (ii) anticipated future gross
revenues from products for which software development costs have been
capitalized, (iii) provision for income taxes, (iv) the life of identifiable
intangible assets from acquisitions, and (v) realizability of the deferred tax
asset. The amounts the Company will ultimately incur or recover could differ
materially from the Company's current estimates. The underlying assumptions and
facts supporting these estimates could change in fiscal 1999 or thereafter.
REVENUE RECOGNITION
The Company recognizes revenue, net of estimated returns and allowances, upon
shipment of a product and only when no significant obligations remain and
collectability is probable. Certain of the Company's sales are made to customers
under agreements permitting rights of return for stock balancing.
CONCENTRATIONS OF CREDIT RISK
The Company sells its products principally through a network of distributors and
also on a direct customer basis. The Company performs ongoing credit evaluations
of its distributors and customers' financial condition and generally requires no
collateral.
41
<PAGE> 42
ROYALTY AGREEMENTS
The Company has entered into certain agreements whereby it is obligated to pay
royalties on software published. Software royalties are expensed as product
costs during the period in which related revenues are recorded.
CASH AND CASH EQUIVALENTS
The Company considers all highly liquid investments purchased with an original
maturity of 90 days or less to be cash equivalents.
CAPITALIZED SOFTWARE DEVELOPMENT COSTS
Costs incurred in the initial design phase of software development are expensed
as incurred as research and development. Once the point of technological
feasibility is reached, direct production costs are capitalized. The Company
ceases capitalizing computer software costs when the product is available for
general release to customers. Costs associated with acquired completed software
are capitalized. Total capitalized software development costs at June 30, 1998
and 1997 were $5,261,000 and $2,056,000, respectively, less accumulated
amortization of $3,160,000 and $1,965,000, respectively.
The Company amortizes capitalized software development costs on a
product-by-product basis. The amortization for each product is the greater of
the amount computed using (a) the ratio of current gross revenues to the total
of current and anticipated future gross revenues for the product or (b) 18 or 36
months. In addition, the Company evaluates the net realizable value of each
software product at each balance sheet date and records write-downs to net
realizable value for any products for which the carrying value is in excess of
the estimated net realizable value.
During the fourth quarter of the fiscal year ended June 30, 1998, the Company
reevaluated the economic lives of products for which it capitalized software
acquisition or development costs. As a result, effective April 1, 1998, the
Company increased the amortization period from 18 to 36 months for acquired
software development costs related to visual content products. The effect of
this change in accounting estimate was $236,000 in the fourth quarter of fiscal
1998. Total amortization expense, charged to product costs, was $1,196,000,
$224,000, and $375,000 in fiscal years 1998, 1997, and 1996, respectively.
OTHER CURRENT ASSETS
Other current assets include $215,000 of deferred offering costs, which the
Company expects to offset from the proceeds of a planned equity offering.
INVENTORIES
Inventories, consisting primarily of diskettes, manuals, hardware, freight in,
production costs and packing supplies, are valued at the lower of cost or market
and are accounted for on the first-in, first-out basis.
Management performs periodic assessments to determine the existence of obsolete,
slow moving and non-salable inventories, and records necessary provisions to
reduce such inventories to net realizable value.
42
<PAGE> 43
FURNITURE AND EQUIPMENT
Furniture and equipment are stated at cost. Depreciation of furniture and
equipment is computed using the straight-line method over the estimated useful
lives of the respective assets of 3 to 5 years. Depreciation of software and
computer equipment is computed using the straight-line method over an estimated
useful life of 3 years.
INCOME TAXES
The Company adheres to Statement of Financial Accounting Standards (SFAS) No.
109 "Accounting for Income Taxes," which requires an asset and liability
approach to financial accounting and reporting for income taxes. Valuation
allowances are established when necessary to reduce deferred tax assets to the
amount expected to be realized.
FOREIGN CURRENCY TRANSLATION
The asset and liability accounts of foreign subsidiaries are translated from
their respective functional currencies at the rates in effect at the balance
sheet date, and revenue and expense accounts are translated at weighted average
rates during the periods. Foreign currency translation adjustments are reflected
as a separate component of shareholders' equity. There was a loss resulting from
foreign currency transactions of $153,000 and $82,000 in fiscal 1998 and 1996,
respectively, and a gain of $34,000 in fiscal 1997.
STOCK-BASED COMPENSATION
The Company accounts for stock-based awards to employees using the intrinsic
value method in accordance with APB No. 25, Accounting for Stock Issued to
Employees.
NEW ACCOUNTING STANDARDS
In June 1997, the Financial Accounting Standard Board issued SFAS No. 130
"Reporting Comprehensive Income", which requires that an enterprise report, by
major components and as a single total, the change in its net assets during the
period from nonowner sources; and SFAS No. 131 ("Disclosures about Segments of
an Enterprise and Related Information"), which establishes annual and interim
reporting standards for an enterprise's operating segments and related
disclosures about its products, services, geographic areas, and major customers.
Adoption of these statements will not impact the Company's consolidated
financial position, results of operations or cash flows, and any effect will be
limited to the form and content of its disclosures. Both statements are
effective for the Company's 1999 fiscal year.
On October 27, 1997, the Accounting Standards Executive Committee issued
Statement of Position ("SOP") 97-2, "Software Revenue Recognition," which
provides guidance on applying generally accepted accounting principles in
recognizing revenue on software transactions. The Statement of Position 97-2
supersedes SOP 91-1, "Software Revenue Recognition," under which the Company's
revenues were recognized. SOP 97-2 is effective prospectively for transactions
entered into in fiscal years beginning after December 15, 1997. Certain
provisions of SOP 97-2 may be deferred until 1999. The Company is currently
evaluating SOP 97-2 to determine what effect, if any, SOP 97-2 may have on its
revenue recognition policies.
RECLASSIFICATIONS
Certain fiscal 1997 and 1996 amounts have been reclassified to conform to the
fiscal 1998 presentation.
43
<PAGE> 44
2. ACQUISITION OF PRODUCTS AND IN-PROCESS TECHNOLOGIES FROM COREL CORPORATION
On September 30, 1997, the Company acquired the rights to three completed
products (Corel(R)Flow, Lumiere(TM) and Family Heritage(TM)(formerly, Corel
Family Tree(TM))) and four in-process technologies (CorelCAD(TM), Corel Click
and Create(TM), Visual CADD(TM) and Corel Personal Architect(TM)) in the CAD,
diagramming and consumer categories from Corel (the "Acquisition"), for
$5,000,000 in IMSI common stock (346,020 shares valued at approximately $14.45
per share) and $640,000 in notes payable due in two installments, $140,000 due
in March 1998 (which was paid on June 3, 1998 with the proceeds from the
Company's borrowings under its new May 4, 1998 bank credit line), and $500,000
due in September 1998. The Company allocated the $5,640,000 as described below,
based upon a discounted net cash flow analysis utilizing management's estimates
and costs to enable such technologies to reach technological feasibility and
upon a valuation.
The discounted net cash flow analysis as of September 30, 1997 was based upon
management's estimates of future net revenues from each of the three products
and four in-process technologies over the next four fiscal years, based upon
expected product costs and other operating expenses. The expected future net
cash flows were discounted using a 23% rate from in process technologies and 18%
for existing products. As of September 30, 1997, the Company estimated that
total future revenues from all seven products/technologies acquired from Corel
could exceed approximately $20 million (approximately $17 million related to the
in-process technologies and approximately $3 million related to the developed
technologies) over the next four fiscal years. This is a forward-looking
statement. There can be no assurance that any revenues from such
products/technologies will be generated by the Company.
- - $5,044,000 relating to the four in-process technologies was expensed as
purchased in-process research and development in the quarter ended
September 30, 1997. At the time of the Acquisition, the Company
determined that the technological feasibility of the four in-process
technologies had not yet been established and that, as of September 30,
1997, such technologies had no alternative future uses. These
technologies required additional research and developmental efforts to
develop these products into commercially viable products. From September
30, 1997 through June 30, 1998, the Company spent approximately $300,000
on research and development to have the four in-process technologies
reach technological feasibility. CorelCAD products (now called TurboCAD
Solid Modeler and TurboCAD 3D Modeler) were released in March 1998.
Sales for the two products for fiscal year ended June 30, 1998 were
approximately $700,000. Products formerly called Click and Create and
Personal Architect were released in June 1998. Visual CADD is expected
to be released in the second quarter of fiscal 1999. However, there can
be no assurance that such products will obtain market acceptance or
generate significant sales revenues for the Company. If the products
fail to achieve projected results, the Company's future results may be
negatively impacted.
- - $517,000 relating to the three completed products was allocated to
capitalized software ($206,000 of which was attributable to the Family
Heritage product, see Note 3) to be amortized over the shorter of the
life of the products' respective expected revenues or 18 months,
pursuant to the Company's amortization policy for capitalized software
development costs discussed in Note 1. The Family Heritage product was
released in two versions, Family Heritage and Family Heritage Deluxe,
which were released in November and December of 1997, respectively.
During the fiscal year ended June 30, 1998, the Company had net revenues
of approximately $300,000 from Family Heritage products. Such actual
revenues were approximately the same as the Company's projected net
revenues. The Family Heritage product was sold on March 13, 1998. If the
remaining two products fail to achieve projected results, the Company
would accelerate the amortization of capitalized software over the life
of the products' expected revenues. The Company released products
formerly known as Corel's Lumiere and Flow in June 1998.
- - $79,000 was allocated to goodwill to be amortized over 3 years.
44
<PAGE> 45
3. SALE OF FAMILY HERITAGE PRODUCT
On March 13, 1998, the Company sold the rights to Family Heritage, one of the
completed products acquired from Corel, to Mindscape(R), Inc. (which was
subsequently acquired by The Learning Company(R)) for a purchase price of
$2,500,000 (plus $115,000 for inventories and prepaid royalties). The purchase
price was split into four equal payments of $625,000, the first of which was
paid upon closing, and the second payment was paid July 15, 1998. The remaining
$625,000 payments are due October 15, 1998, and January 15, 1999, pursuant to
the sale agreement with Mindscape. However, no separate notes payable for such
amounts were issued by Mindscape. The Company recognized a net gain on such sale
of $409,000 which was included in net revenues in the quarter ended March 31,
1998. The remaining $1,875,000, will be recognized as revenues upon receipt of
cash payments from Mindscape, a subsidiary of The Learning Company. While the
Company believes it will collect the additional installments due from The
Learning Company, Management also believes recording the sale of Family Heritage
to The Learning Company on the cash basis is the preferable accounting
treatment, because the ultimate collectibility of the remaining $1,875,000
cannot be reasonably estimated or assured.
4. ACQUISITION OF PRODUCTS AND IN-PROCESS TECHNOLOGIES FROM QUARTERDECK
CORPORATION
On July 1, 1997, the Company acquired certain products and in-process
technologies from Quarterdeck(R) for a cash payment of $1,000,000. The Company
utilized a discounted net cash flow model with various estimates and assumptions
to allocate the purchase price. The discounted net cash flow analysis as of July
1, 1997 was based upon management's estimates of future net revenue from the
products/technologies over the next three fiscal years, based upon expected unit
sales and average selling prices of comparable products, expected product costs
and other operating expenses. The expected future net cash flows were discounted
using a 23% rate for in-process technologies and 18% for existing products.
Based upon the Company's estimates of future cash flows and costs to have
certain of these technologies reach technological feasibility and based upon a
valuation, the Company allocated the purchase price as follows:
- - $517,000 was allocated to purchased in-process research and development
related to Quarterdeck's "EZ Impact" technology. At the time of the
acquisition, management believed that technological feasibility of EZ
Impact had not yet been established and that, as of July 1, 1997, this
technology had no alternative future uses. The most significant estimate
made by the Company in determining the amount to be allocated to
in-process research and development was that the Company estimated
future net revenues from EZ Impact over the next three years, based upon
expected unit sales and average selling prices of comparable products.
After the Company's in-depth review of the competitive marketplace and
the state of the EZ Impact technology acquired in late calendar 1997,
the Company determined that EZ Impact would not ever become an
economically viable product and abandoned further development efforts.
- - $483,000 was allocated to capitalized software to be amortized over the
shorter of the life of the products' expected revenues or 18 months,
pursuant to the Company's amortization policy for capitalized software
development costs discussed in Note 1. Such capitalized software related
to Quarterdeck's product Hijaak Pro. During the fiscal year ended June
30, 1998, the Company had net revenues from Hijaak Pro of approximately
$2.0 million. Such amount exceeded the Company's projected net revenues.
If this product fails to achieve projected results, the Company would
accelerate the amortization of capitalized software over the life of the
product's expected revenues.
5. ACQUISITION OF PRODUCTS AND IN-PROCESS TECHNOLOGIES FROM MAPLINX CORPORATION
On July 1, 1997, the Company acquired certain products and in-process
technologies from MapLinx(R) Corporation for a total purchase price of $850,000
as follows: $233,500 in cash, a note payable for $233,500 and $383,000 in
assumed net liabilities. The Company utilized a discounted net cash flow model
with various estimates and assumptions to allocate the purchase price. The
discounted net cash flow analysis as of July 1, 1997 was based upon management's
estimates of future net revenues from the product/technologies over the next
three fiscal years, based upon expected unit sales and average selling prices of
comparable products, expected product costs and other operating expenses. The
expected future net cash flows were discounted using a 23% rate for in-process
technologies and 18% for existing products. Based upon the Company's estimates
of future cash flows and costs to have certain technologies reach technological
feasibility and based upon a valuation, the Company allocated the purchase price
as follows:
45
<PAGE> 46
- - $506,000 was allocated to purchased in-process research and development
related to MapLinx Mail. At the time of the acquisition, management
believed that technological feasibility of MapLinx Mail had not yet been
established and that, as of July 1, 1997, these technologies had no
alternative future uses. This technology required additional research
and developmental efforts to develop these products into commercially
viable products. During the fiscal year ended June 30, 1998, the Company
spent approximately $120,000 on research and development, and it expects
to spend an additional approximately $80,000 on research and development
to have the in-process technologies reach technological feasibility. The
most significant estimate made by the Company in determining the amounts
to be allocated to in-process research and development was the Company's
estimated net revenues over the next three years, based upon expected
unit sales and average selling prices of comparable products. MapLinx
Mail is expected to be released in the second quarter of fiscal 1999.
- - $331,000 was allocated to capitalized software to be amortized over the
shorter of the life of the products' expected revenues or 18 months,
pursuant to the Company's amortization policy for capitalized software
development costs discussed in Note 1. At July 1, 1997, the most
significant estimate made by the Company in determining the amounts to
be allocated to capitalized software was the Company's estimated net
revenues from MapLinx over the next three years, based upon expected
unit sales and average selling prices of comparable products. During the
fiscal year ended June 30, 1998, the Company had net revenues from
MapLinx of approximately $1.5 million. Such amount exceeded the
Company's fiscal 1999 projected net revenues. If this products fails to
achieve projected results the Company would accelerate the amortization
of capitalized software over the life of the product's expected
revenues.
- - $13,000 was allocated to goodwill to be amortized over three years.
6. ACQUISITION OF MEDIAPAQ, INC.
On August 22, 1997, the Company acquired 100% of the common stock of
MediaPaq(TM) for a total purchase price of $400,000 as follows: $240,000 in IMSI
common stock (20,000 shares at $12.00 per share) and $160,000 in assumed
liabilities. MediaPaq's products and in-process technologies consisted primarily
of browser software features that the Company believed it could incorporate into
existing products and future products under development in the Company's
MasterClips family of products. The expected future net cash flows as of August
22, 1997 were based upon management's estimates of future net revenues from the
product/technologies, based upon expected unit sales and average selling prices
of comparable products, expected product costs and other operating expenses. The
expected future net cash flows were discounted using a 23% rate for in-process
technologies and 18% for existing products. Based upon the Company's estimates
of future cash flows and costs to have certain of MediaPaq's products and
in-process technologies reach technological feasibility, the Company allocated
the purchase price as follows:
- - $300,000 was allocated to purchased in-process research and development
related to browser software features that were expected to be
incorporated into the next version of MasterClips. At the time of the
acquisition, management believed that technological feasibility of
certain of the acquired technologies had not yet been established and
that, as of August 22, 1998, these technologies had no alternative
future uses. This technology required additional research and
developmental efforts to develop these products into commercially viable
products. From August 22, 1997 through March 1998, the Company spent
approximately $100,000 on research and development to have the
in-process technologies reach technological feasibility. In March 1998,
the Company released MasterClips 303,000 incorporating such browser
software features.
- - $100,000 was allocated to capitalized software related primarily to
browser software features that were incorporated into existing products
MasterClips 202,000 and MasterClips 150,000 to be amortized over the
shorter of the products' expected revenues or 18 months, pursuant to the
Company's amortization policy for capitalized software development costs
discussed in Note 1.
46
<PAGE> 47
7. INFORMATION ABOUT FOREIGN OPERATIONS
Total assets, net revenues and net income (loss) of U.S., United Kingdom (UK),
Australia, Germany, and Rest of World (which includes France, South Africa,
Japan, the Pacific rim and Latin America) as of and for the years ended June 30
were as follows (in thousands):
<TABLE>
<CAPTION>
Total Assets: 1998 1997 1996
-------- -------- --------
<S> <C> <C> <C>
U.S. $ 29,111 $ 12,799 $ 8,901
U.K 1,224 1,280 790
Australia 1,453 1,147 541
Germany 2,787 1,334 276
Rest of World 775 1,013 550
-------- -------- --------
$ 35,350 $ 17,573 $ 11,058
======== ======== ========
Net Revenues:
U.S. $ 44,001 $ 24,632 $ 17,065
U.K 5,193 3,923 2,911
Australia 3,584 2,685 1,891
Germany 7,195 5,724 2,095
Rest of World 2,499 4,876 1,717
-------- -------- --------
$ 62,472 $ 41,840 $ 25,679
======== ======== ========
Net Income (loss):
U.S. $ (353) $ 2,329 $ 1,021
U.K 68 49 (4)
Australia 15 (37) (29)
Germany 143 76 75
Rest of World 9 180 (109)
-------- -------- --------
$ (118) $ 2,597 $ 954
======== ======== ========
</TABLE>
8. INVENTORIES
At June 30, inventories consist of (in thousands):
<TABLE>
<CAPTION>
1998 1997
------- -------
<S> <C> <C>
Raw materials $ 2,882 $ 1,379
Finished goods 4,282 2,252
------- -------
7,164 3,631
Reserves for obsolescence (615) (159)
------- -------
$ 6,549 $ 3,472
======= =======
</TABLE>
47
<PAGE> 48
9. FURNITURE AND EQUIPMENT
At June 30, furniture and equipment consist of (in thousands):
<TABLE>
<CAPTION>
1998 1997
------- -------
<S> <C> <C>
Computer and office equipment $ 4,965 $ 2,824
Software 701 355
------- -------
5,666 3,179
Accumulated depreciation (2,236) (1,485)
------- -------
$ 3,430 $ 1,694
======= =======
</TABLE>
Included in computer and office equipment at June 30, 1998, and 1997 is
equipment acquired under capital leases of $1,462,000 and $768,00, respectively,
with accumulated depreciation of $871,000 and $465,000, respectively.
10. NEW BANK LINE OF CREDIT AND NEW TERM LOAN
In May 1998, the Company entered into a new line of credit agreement with a bank
under which it can borrow the lesser of $10.0 million or 80% of net accounts
receivable, at the bank's reference rate plus 1/2 % or LIBOR plus 2%, at the
Company's option. The line of credit agreement requires the Company to comply
with certain financial covenants, including maintenance of net worth and working
capital requirements. Under the terms of the agreement, all assets not subject
to liens of other financial institutions are pledged as collateral to secure the
line of credit. The line of credit expires on October 31, 1999. In May 1998, the
Company also secured a term loan commitment from the same bank in the amount of
$1.5 million, which provided for borrowings to bear interest at the bank's
reference rate plus 1/2 percent or LIBOR plus 2%, at the Company's option.
In May 1998, the Company borrowed $7.8 million under the line of credit and $1.5
million under the term loan. The Company selected 90 day LIBOR (5.72% on June
30, 1998) plus 2% as the interest rate option for both the line of credit and
the term loan. The term loan matures on April 30, 2000 and is to be repaid in
eight equal quarterly installments of $188,000, plus interest. The Company used
the proceeds from these borrowings to repay the amounts outstanding under its
previous bank line of credit and previous term loan, which were then terminated.
The amount of the unused credit line at June 30, 1998 was $2,052,000.
On September 24, 1998, the Company's bank line of credit was increased to the
lesser of $13.5 million or 80% of net accounts receivable. All other significant
terms of such agreement as discussed above were unchanged.
As of June 30, 1998, principal repayments on the term loans under these credit
agreements are required as follows (in thousands):
<TABLE>
<S> <C>
FISCAL YEAR:
1999 $ 750
2000 750
------
Total 1,500
======
</TABLE>
48
<PAGE> 49
11. INCOME TAXES
Taxes on income was based on income (loss) before taxes as follows (in
thousands):
<TABLE>
<CAPTION>
1998 1997 1996
------- ------- -------
<S> <C> <C> <C>
Domestic $ (532) $ 4,134 $ 1,383
Foreign 266 103 156
------- ------- -------
$ (266) $ 4,237 $ 1,539
======= ======= =======
</TABLE>
The provision (benefit) for taxes on income for the years ended June 30, 1998,
1997, and 1996 was comprised of the following (in thousands):
<TABLE>
<CAPTION>
1998 1997 1996
------- ------- -------
<S> <C> <C> <C>
Current:
Federal $ 2,065 $ 1,779 $ 821
State 397 324 133
Foreign 211 140 34
------- ------- -------
$ 2,673 $ 2,243 $ 988
Deferred
Federal $(2,269) $ (285) $ (335)
State (431) (63) (68)
Foreign (121) (254) --
------- ------- -------
$(2,821) $ (602) $ (403)
Total tax provision (benefit) $ (148) $ 1,641 $ 585
======= ======= =======
</TABLE>
49
<PAGE> 50
eDeferred tax balances consisted of the following (in thousands):
<TABLE>
<CAPTION>
JUNE 30,
1998 1997
------- -------
<S> <C> <C>
Current assets
Allowance for doubtful accounts and returns $ 1,362 $ 1,016
Accrued vacation 138 70
Foreign reserves and other 349 427
------- -------
1,849 1,513
Noncurrent assets
Package design costs 176 77
NOL carryforward 58 116
Purchased intangibles 2,596 152
Other 80 159
------- -------
2,910 504
Total assets 4,759 2,017
------- -------
Current liabilities (87) (41)
Noncurrent liabilities
Capitalized software development costs (5) (166)
Deferred state taxes (229) (73)
------- -------
(234) (239)
Total liabilities (321) (280)
------- -------
Net deferred tax assets $ 4,438 $ 1,737
======= =======
</TABLE>
At June 30, 1998, the Company had an operating loss carryforward of
approximately $169,000 for federal tax purposes, which expires in various
amounts in 2000-2005. The effective tax rate of a benefit of 56% in fiscal 1998
and a provision of 39% in fiscal 1997 and fiscal 1996 differs from the federal
statutory rate of 34% for the years ended June 30 as follows (in thousands):
<TABLE>
<CAPTION>
1998 1997 1996
------- ------- -------
<S> <C> <C> <C>
Federal tax at statutory rate on
net income (loss) $ (91) $ 1,441 $ 523
State tax provision, net of
federal benefit (22) 172 94
Change in valuation allowance -- (138) 74
Cost (benefit) related to offshore
intellectual property (335) 335 --
In-process technology write off,
nondeductible for tax 102 -- --
Foreign sales corporation benefit -- (68) --
Other 198 (101) (106)
------- ------- -------
Total income tax provision (benefit) $ (148) $ 1,641 $ 585
======= ======= =======
</TABLE>
50
<PAGE> 51
12. EARNINGS PER SHARE
The Company adopted SFAS No. 128, "Earnings per share," in fiscal 1998 and has
restated all prior periods. Basic EPS is computed by dividing net income (loss)
by the weighted average number of common shares outstanding for the period.
Diluted EPS reflects the potential dilution that could occur from common shares
issuable as a result of the exercise or conversion of stock options, restricted
stock warrants or other convertible securities. Diluted securities for the year
ending June 30, 1998 have not been included in the table below because their
inclusion would be anti-dilutive.
The weighted average numbers of shares outstanding (denominator) used to
calculate basic earnings per share are reconciled to the numbers of shares used
in calculating diluted earnings (loss) per share as follows (in thousands):
<TABLE>
<CAPTION>
FOR THE YEARS ENDED JUNE 30,
1998 1997 1996
----- ----- -----
<S> <C> <C> <C>
Shares used to compute basic EPS 5,513 4,946 4,795
Add effect of dilutive securities:
Stock options -- 736 493
----- ----- -----
Shares used to compute diluted EPS 5,513 5,682 5,288
===== ===== =====
</TABLE>
51
<PAGE> 52
13. STOCK OPTIONS AND EMPLOYEE STOCK INCENTIVE PLANS
The Company's 1992 Stock Option Plan, authorizes the issuance of up to 900,000
shares of common stock under the Plan. The 1993 Employee Incentive Plan, as
amended (the Option Plan), permits the Company to grant options to purchase up
to 1,927,200 shares of common stock to employees, directors and consultants at
prices not less than the fair market at date of grant for incentive stock
options and not less than 85% of fair market value for nonstatutory stock
options. These options generally expire 10 years from the date of grant and
become exercisable ratably over a 5-year period. The Company has qualified and
non-qualified employee stock option plans, as amended, that reserve shares of
common stock for issuance to employees and consultants. Under the terms of the
Plan, the Board may grant options to purchase common stock of the Company over a
period of ten years at the fair market value at the time of grant.
Option activity under the plans is as follows:
<TABLE>
<CAPTION>
NUMBER OF WEIGHTED AVERAGE
SHARES EXERCISE PRICE
<S> <C> <C>
Outstanding, July 1, 1995 (169,128 exercisable at a weighted average price of $.60) 795,441 $ 2.24
Granted (weighted average fair value of $3.18) 742,433 $ 4.60
Exercised (66,810) 3.04
Canceled (147,402) 5.23
---------- ---------
Outstanding, June 30, 1996 (259,567 exercisable at a weighted average price of $1.27) 1,323,662 $ 3.19
Granted (weighted average fair value of $5.65) 316,914 $ 7.69
Exercised (133,456) 1.80
Canceled (239,500) 4.21
---------- ---------
Outstanding, June 30, 1997 (298,693 exercisable at a weighted average price of $2.13) 1,267,620 $ 4.27
Granted (weighted average fair value of $7.58) 925,525 $ 13.13
Exercised (171,952) 2.77
Canceled (173,055) 11.39
---------- ---------
Outstanding, June 30, 1998 (635,804 exercisable at a weighted average price of $3.20) 1,848,138 $ 8.18
========== =========
</TABLE>
Additional information regarding options outstanding as of June 30, 1998 is as
follows:
<TABLE>
<CAPTION>
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
------------------- -------------------
WEIGHTED AVG.
REMAINING
RANGE OF EXERCISE NUMBER CONTRACTUAL LIFE WEIGHTED AVG. NUMBER WEIGHTED AVG.
PRICES OUTSTANDING (YRS) EXERCISE PRICE EXERCISABLE EXERCISE PRICE
<S> <C> <C> <C> <C> <C>
$0.23 - 3.56 408,972 5.6 $1.99 360,142 $1.91
$3.66 - 5.92 410,465 7.6 $4.55 221,977 $4.34
$6.00 - 12.08 546,501 8.5 $9.52 53,685 $7.17
$12.09 - 18.38 482,200 9.5 $15.00 - -
-----------------------------------------------------------------------------------
1,848,138 7.9 $8.18 635,804 $3.20
========= === ===== ======== =====
</TABLE>
At June 30, 1998, 547,360 shares were available for future grants under the
Option Plan.
52
<PAGE> 53
ADDITIONAL STOCK PLAN INFORMATION
As discussed in Note 1, the Company continues to account for its stock-based
awards using the intrinsic value method in accordance with Accounting Principles
Board No. 25, Accounting for Stock Issued to Employees and its related
interpretations. Accordingly, no compensation expense has been recognized in the
financial statements for employee stock arrangements. SFAS No. 123, Accounting
for Stock-Based Compensation, requires the disclosure of pro forma net income
and earnings per share had the Company adopted the fair value method as of the
beginning of fiscal 1996. Under SFAS 123, the fair value of stock-based awards
to employees is calculated through the use of option pricing models, even though
such models were developed to estimate the fair value of freely tradable, fully
transferable options without vesting restrictions, which significantly differ
from the Company's stock option awards. These models also require subjective
assumptions, including future stock price volatility and expected time to
exercise, which greatly affect the calculated values. The Company's calculations
were made using the Black-Scholes option pricing model with the following
weighted average assumptions: expected life of 5 years in 1998 and 7 years in
1997 and 1996, stock volatility, 57% in fiscal 1998, 72% in fiscal 1997 and 73%
in fiscal 1996; risk free interest rates, 5.77% in 1998, 6.70% in 1997, and
6.61% in 1996; and no dividends during the expected term. The Company's
calculations are based on a single option valuation approach and forfeitures are
recognized as they occur. If the computed fair values of the 1998, 1997 and 1996
awards had been amortized to expense over the vesting period of the awards, pro
forma net loss would have been $1,587,000 ($.29 per diluted share) in 1998,
$2,074,000 ($.37 per diluted share) in 1997, and $649,000 ($.12 per diluted
share) in 1996. However, the impact of outstanding non-vested stock options
granted prior to 1996 has been excluded from the pro forma calculation;
accordingly, the 1998 and 1997 pro forma adjustments are not indicative of
future period pro forma adjustments, when the calculation will apply to all
applicable stock options.
14. COMMITMENTS
The Company leases its facilities and certain equipment under various
noncancelable operating lease agreements. The Company also leases equipment
under capital equipment leases, which expire at various dates through 2001. The
Company is required to pay property taxes, insurance, and normal maintenance
costs on certain leases. Future minimum payments for capital leases and other
obligations and rental commitments for noncancelable operating leases with
remaining terms of over one year at June 30, 1998 are as follows (in thousands):
<TABLE>
<CAPTION>
Capital Lease Operating
Obligations Leases
<S> <C> <C>
Fiscal:
1999 $914 $1,227
2000 786 1,227
2001 292 1,023
2002 - 941
2003 774
-
---- ------
Total minimum lease payments 1,992 5,192
======
Less amount representing interest 218
-----
Capital lease obligations 1,774
Less current portion 842
-----
Long term portion $932
=====
</TABLE>
Total rent expense for all operating leases was $965,000, $727,000, and $467,000
for the fiscal years ended June 30, 1998, 1997, and 1996 respectively.
On July 1, 1998, the Company entered into a lease agreement to rent 36,000
square feet of office space in Novato, California where it plans to relocate its
headquarters in October 1998. The lease term is for five years and requires
monthly payments totaling approximately $920,000 per year.
53
<PAGE> 54
SCHEDULE II
INTERNATIONAL MICROCOMPUTER SOFTWARE, INC.
AND SUBSIDIARIES
Valuation and Qualifying Accounts
Years ended June 30, 1998, 1997 and 1996 (in thousands)
<TABLE>
<CAPTION>
Column A Column B Column C Column D Column E
Additions
Balance at charged to
beginning of costs and Balance at
Description period Expenses Deductions end of period
<S> <C> <C> <C> <C>
Year ended June 30, 1998
Allowance for doubtful
accounts and returns $2,943 $5,501 $4,213 $4,231
------ ------ ------ ------
Year ended June 30, 1997
Allowance for doubtful
accounts and returns $1,302 $6,793 $5,151 $2,943
------ ------ ------ ------
Year ended June 30, 1996
Allowance for doubtful
accounts and returns $ 778 $4,017 $3,493 $1,302
------ ------ ------ ------
</TABLE>
54
<PAGE> 55
SIGNATURES
Pursuant to the requirement of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the Registrant caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized, in the City of San Rafael, State of
California on September 28, 1998.
INTERNATIONAL MICROCOMPUTER SOFTWARE, INC.
By: ____________________________
Martin Sacks
Chief Executive Officer, President and Director
Pursuant to the Requirement of the Securities Exchange Act of 1934, the
following persons in the capacities and on September 28, 1998 have signed this
report below.
By: ____________________________
Martin Sacks
Chief Executive Officer, President and Director
By: ____________________________
Geoffery Koblick
Chairman of the Board of Directors, Secretary and General Counsel
By: ____________________________
Robert Mayer
Executive Vice President Sales and Director
By: ____________________________
Kenneth Fineman
Vice President of Finance and Chief Financial Officer
(Principal Financial and Accounting Officer)
By: ____________________________
Charles Federman
Director
By: ____________________________
Earl Hamlin
Director
By: ____________________________
Abraham Ostrovsky
Director
55
<PAGE> 56
INTERNATIONAL MICROCOMPUTER SOFTWARE, INC.
1998 FORM 10-K ANNUAL REPORT
EXHIBIT INDEX
<TABLE>
<CAPTION>
Exhibit Number EXHIBIT TITLE Page
- -------------- ------------- ----
<S> <C> <C>
21.1 Subsidiaries of the Registrant 57
23.1 Independent Auditors' Consent 58
27.1 Financial Data Schedule
</TABLE>
56
<PAGE> 1
EXHIBIT 21.1
SUBSIDIARIES OF THE REGISTRANT
IMSI (UK) Limited
IMSI Australia (PTY) Ltd.
IMSI Germany (GmbH)
IMSI South Africa Pty Ltd.
IMSI France
IMSI Sweden
IMSI Brazil
57
<PAGE> 1
EXHIBIT 21.1
SUBSIDIARIES OF THE REGISTRANT
IMSI (UK) Limited
IMSI Australia (PTY) Ltd.
IMSI Germany (GmbH)
IMSI South Africa Pty Ltd.
IMSI France
IMSI Sweden
IMSI Brazil
57
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1,000
<CURRENCY> U.S.
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> JUN-30-1998
<PERIOD-START> JUL-01-1997
<PERIOD-END> JUN-30-1998
<EXCHANGE-RATE> 1
<CASH> 2,093
<SECURITIES> 0
<RECEIVABLES> 17,380
<ALLOWANCES> 4,231
<INVENTORY> 6,549
<CURRENT-ASSETS> 26,829
<PP&E> 5,666
<DEPRECIATION> 2,236
<TOTAL-ASSETS> 35,350
<CURRENT-LIABILITIES> 20,005
<BONDS> 0
0
0
<COMMON> 12,718
<OTHER-SE> 945
<TOTAL-LIABILITY-AND-EQUITY> 35,350
<SALES> 62,472
<TOTAL-REVENUES> 62,472
<CGS> 23,832
<TOTAL-COSTS> 23,382
<OTHER-EXPENSES> 38,597
<LOSS-PROVISION> 1,288
<INTEREST-EXPENSE> 759
<INCOME-PRETAX> (266)
<INCOME-TAX> (148)
<INCOME-CONTINUING> (118)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (118)
<EPS-PRIMARY> (.02)
<EPS-DILUTED> (.02)
</TABLE>
