<PAGE> 1
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the Quarter ended JUNE 30, 1999
Commission file number:0-16641
RAINBOW TECHNOLOGIES, INC.
- --------------------------------------------------------------------------------
(Exact name of Registrant as specified in its charter)
DELAWARE 95-3745398
- ------------------------ ------------------------------------
(State of incorporation) (I.R.S. Employer Identification No.)
50 TECHNOLOGY DRIVE, IRVINE, CALIFORNIA 92618
- --------------------------------------- ----------
(Address of principal executive offices) (Zip Code)
Indicate by check mark whether the Registrant (i) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the Registrant was
required to file such reports), and (ii) has been subject to such filing
requirements for the past 90 days.
Yes [X] No [ ]
The number of shares of common stock, $.001 par value, outstanding as of August
10, 1999 was 11,288,574
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RAINBOW TECHNOLOGIES, INC.
TABLE OF CONTENTS
<TABLE>
<CAPTION>
Page
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<S> <C> <C>
PART I - FINANCIAL INFORMATION
Item 1. Condensed Consolidated Financial Statements
Condensed Consolidated Balance Sheets at
June 30, 1999 (unaudited) and December 31, 1998 4
Condensed Consolidated Statements of Income
for the three and six months ended June 30, 1999 and 1998 (unaudited) 5
Condensed Consolidated Statements of Comprehensive Income
for the three and six months ended June 30, 1999 and 1998 (unaudited) 6
Condensed Consolidated Statements of Cash Flows
for the six months ended June 30, 1999 and 1998 (unaudited) 7
Notes to Condensed Consolidated Financial Statements 8
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 11
PART II - OTHER INFORMATION
Item 1 to 5 - Not applicable
Item 6. Exhibits and reports on Form 8K 16
SIGNATURES 16
</TABLE>
2
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INTRODUCTORY NOTE
The Quarterly Report on Form 10-Q contains certain forward-looking
statements within the meaning of Section 27A of the Securities Act of 1933 and
Section 21E of the Securities Exchange Act of 1934 and the Company intends that
such forward-looking statements be subject to the safe harbors created thereby.
These forward-looking statements include (i) the existence and development of
the Company's technical and manufacturing capabilities, (ii) anticipated
competition, (iii) potential future growth in revenues and income, (iv)
potential future decreases in costs, and (v) the need for, and availability of
additional financing.
The forward-looking statements included herein are based on current
expectations that involve a number of risks and uncertainties. These
forward-looking statements are based on the assumption that the Company will not
lose a significant customer or customers or experience increased fluctuations of
demand or rescheduling of purchase orders, that the Company's markets will
continue to grow, that the Company's products will remain accepted within their
respective markets and will not be replaced by new technology, that competitive
conditions within the Company's markets will not change materially or adversely,
that the Company will retain key technical and management personnel, that the
Company's forecasts will accurately anticipate market demand, that there will be
no material adverse change in the Company's operations or business and that the
Company will not experience significant supply shortages with respect to
purchased components, sub-systems or raw materials. Assumptions relating to the
foregoing involve judgments with respect to, among other things, future
economic, competitive and market conditions, and future business decisions, all
of which are difficult or impossible to predict accurately and many of which are
beyond the control of the Company. In addition, the business and operations of
the Company are subject to substantial risks which increase the uncertainty
inherent in the forward-looking statements. In light of the significant
uncertainties inherent in the forward-looking information included herein, the
inclusion of such information should not be regarded as a representation by the
Company or any other person that the objectives or plans of the Company will be
achieved.
3
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RAINBOW TECHNOLOGIES, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
A S S E T S
<TABLE>
<CAPTION>
June 30, 1999 December 31, 1998
------------- -------------
(unaudited)
<S> <C> <C>
Current assets:
Cash and cash equivalents .................................... $ 21,914,000 $ 29,900,000
Marketable securities available-for-sale ..................... 1,126,000 6,495,000
Accounts receivable, net of allowance for doubtful accounts
of $410,000 and $291,000 in 1999 and 1998, respectively ..... 19,964,000 20,753,000
Inventories .................................................. 9,776,000 10,891,000
Unbilled costs and fees ...................................... 1,609,000 2,740,000
Prepaid expenses and other current assets .................... 5,155,000 3,815,000
------------- -------------
Total current assets .................................... 59,544,000 74,594,000
Property, plant and equipment, at cost:
Buildings .................................................... 7,649,000 8,580,000
Furniture .................................................... 1,517,000 1,338,000
Equipment .................................................... 15,889,000 13,738,000
Leasehold improvements ....................................... 1,555,000 1,177,000
------------- -------------
26,610,000 24,833,000
Less accumulated depreciation and amortization ............... 9,994,000 8,873,000
------------- -------------
Net property, plant and equipment ....................... 16,616,000 15,960,000
Goodwill, net of accumulated amortization of $11,743,000 and
$11,731,000 in 1999 and 1998, respectively .................. 14,565,000 6,318,000
Product licenses, net of accumulated amortization of $1,523,000
and $1,190,000 in 1999 and 1998, respectively ............... 5,539,000 5,855,000
Other assets, net of accumulated amortization of $2,122,000
and $1,463,000 in 1999 and 1998, respectively ............... 6,721,000 7,026,000
------------- -------------
$ 102,985,000 $ 109,753,000
============= =============
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable ............................................. $ 5,656,000 $ 5,542,000
Accrued payroll and related expenses ......................... 4,412,000 5,150,000
Other accrued liabilities .................................... 3,301,000 3,861,000
Long-term debt, due within one year .......................... 245,000 278,000
------------- -------------
Total current liabilities ............................... 13,614,000 14,831,000
Long-term debt, net of current portion ........................ 1,165,000 1,458,000
Other liabilities ............................................. 1,431,000 1,263,000
Shareholders' equity:
Common stock, $.001 par value, 20,000,000 shares
authorized, 11,280,153 and 11,773,595 shares
issued and outstanding in 1999 and 1998, respectively ...... 11,000 12,000
Additional paid-in capital ................................... 23,190,000 30,335,000
Accumulated other comprehensive loss ......................... (1,702,000) (447,000)
Retained earnings ............................................ 65,276,000 62,301,000
------------- -------------
Total shareholders' equity .............................. 86,775,000 92,201,000
------------- -------------
$ 102,985,000 $ 109,753,000
============= =============
</TABLE>
See accompanying notes.
4
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RAINBOW TECHNOLOGIES, INC.
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(unaudited)
<TABLE>
<CAPTION>
Three months ended Six months ended
-------------------------------- --------------------------------
June 30, 1999 June 30, 1998 June 30, 1999 June 30, 1998
------------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
Revenues:
Software protection products ............... $ 15,067,000 $ 14,450,000 $ 29,342,000 $ 28,620,000
Information security products .............. 11,029,000 12,211,000 22,078,000 23,013,000
Internet products and services ............. 3,268,000 91,000 4,003,000 139,000
Ion beam surface treatment ................. 60,000 8,000 87,000 18,000
------------ ------------ ------------ ------------
Total revenues ........................ 29,424,000 26,760,000 55,510,000 51,790,000
Operating expenses:
Cost of software protection products ....... 4,565,000 3,859,000 8,559,000 7,414,000
Cost of information security products ...... 9,746,000 9,235,000 20,016,000 17,808,000
Cost of internet products and services ..... 1,217,000 179,000 1,659,000 211,000
Cost of ion beam surface treatment ......... 7,000 -- 33,000 20,000
Selling, general and administrative ........ 7,952,000 6,411,000 14,505,000 12,008,000
Research and development ................... 2,830,000 1,935,000 5,459,000 4,657,000
Goodwill amortization ...................... 583,000 747,000 1,203,000 1,304,000
Provision for reorganized operations ....... -- -- -- 370,000
Acquired research and development .......... -- -- -- 1,500,000
------------ ------------ ------------ ------------
Total operating expenses .............. 26,900,000 22,366,000 51,434,000 45,292,000
------------ ------------ ------------ ------------
Operating income ............................. 2,524,000 4,394,000 4,076,000 6,498,000
Interest income .............................. 231,000 265,000 533,000 584,000
Interest expense ............................. (47,000) (53,000) (97,000) (109,000)
Other income (expense), net .................. 137,000 145,000 409,000 (989,000)
------------ ------------ ------------ ------------
Income before provision for taxes ............ 2,845,000 4,751,000 4,921,000 5,984,000
Provision for income taxes ................... 1,155,000 1,882,000 1,946,000 3,733,000
------------ ------------ ------------ ------------
Net income ................................... $ 1,690,000 $ 2,869,000 $ 2,975,000 $ 2,251,000
============ ============ ============ ============
Net income per share:
Basic ...................................... $ 0.15 $ 0.25 $ 0.26 $ 0.19
============ ============ ============ ============
Diluted .................................... $ 0.15 $ 0.23 $ 0.25 $ 0.19
============ ============ ============ ============
Shares used in computing net income per share:
Basic ...................................... 11,462,000 11,692,000 11,633,000 11,671,000
============ ============ ============ ============
Diluted .................................... 11,574,000 12,365,000 12,101,000 12,008,000
============ ============ ============ ============
</TABLE>
See accompanying notes.
5
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RAINBOW TECHNOLOGIES, INC.
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(unaudited)
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
------------------------------- -------------------------------
June 30, 1999 June 30, 1998 June 30, 1999 June 30, 1998
------------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
Net income ................................... $ 1,690,000 $ 2,869,000 $ 2,975,000 $ 2,251,000
Other comprehensive income (loss):
Foreign currency translation adjustment ... (539,000) 343,000 (2,033,000) 1,148,000
Unrealized gain (loss) on securities ...... 3,000 3,000 (43,000) (4,000)
Reclassification adjustment ............... -- -- -- (6,000)
----------- ----------- ----------- -----------
Other comprehensive income (loss),
before income taxes ..................... (536,000) 346,000 (2,076,000) 1,138,000
Provision for income taxes related to other
comprehensive income (loss) ............. 218,000 (135,000) 821,000 (444,000)
----------- ----------- ----------- -----------
Other comprehensive income (loss), net
of taxes ................................ (318,000) 211,000 (1,255,000) 694,000
----------- ----------- ----------- -----------
Comprehensive income ........................ $ 1,372,000 $ 3,080,000 $ 1,720,000 $ 2,945,000
=========== =========== =========== ===========
</TABLE>
See accompanying notes.
6
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RAINBOW TECHNOLOGIES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)
<TABLE>
<CAPTION>
Six Months Ended
-------------------------------
June 30, 1999 June 30, 1998
------------- -------------
<S> <C> <C>
Cash flows from operating activities:
Net income ............................................................ $ 2,975,000 $ 2,251,000
Adjustments to reconcile net income to net cash
provided by operating activities:
Amortization ........................................................ 2,343,000 1,899,000
Depreciation ........................................................ 1,775,000 1,405,000
Change in deferred income taxes ..................................... (945,000) (651,000)
Allowance for doubtful accounts ..................................... 130,000 (21,000)
Loss from retirement of property, plant, and equipment .............. 42,000 (12,000)
Write-down of long-term investment .................................. -- 1,320,000
Write-off of capitalized software ................................... -- 784,000
Minority interest in subsidiary's earnings .......................... (356,000) (306,000)
Write-off of in-process research and development .................... -- 1,500,000
Provision for restructured operations ............................... -- 370,000
Changes in operating assets and liabilities:
Accounts receivable ................................................ 103,000 (812,000)
Inventories ........................................................ 958,000 1,183,000
Unbilled costs and fees ............................................ 1,131,000 1,117,000
Prepaid expenses and other current assets .......................... (751,000) 188,000
Accounts payable ................................................... 212,000 (1,064,000)
Accrued liabilities ................................................ (1,153,000) (1,067,000)
Deferred revenues .................................................. (93,000) (76,000)
Income taxes payable ............................................... 772,000 (228,000)
------------ ------------
Net cash provided by operating activities ........................ 7,143,000 7,780,000
Cash flows from investing activities:
Purchase of marketable securities ................................... -- (1,636,000)
Sale of marketable securities ....................................... 5,369,000 4,220,000
Purchases of property, plant, and equipment ......................... (3,197,000) (1,983,000)
Net cash paid for acquisition of Systematic Systems Integration, Inc. (9,250,000)
Net cash paid for acquisition of Wyatt River Software, Inc. ......... -- (7,662,000)
Other non-current assets ............................................ (260,000) (1,660,000)
Capitalized software development costs .............................. (444,000) (584,000)
------------ ------------
Net cash used in investing activities ............................ (7,782,000) (9,305,000)
Cash flows from financing activities:
Exercise of Rainbow common stock options ............................ 660,000 1,231,000
Investment by new partners in QM Technologies, Inc. ................. 458,000 --
Payment of long-term debt ........................................... (158,000) (137,000)
Purchase of treasury stock .......................................... -- (149,000)
Purchase and retirement of common stock ............................. (7,974,000) (290,000)
------------ ------------
Net cash (used in) provided by financing activities .............. (7,014,000) 655,000
Effect of exchange rate changes on cash ............................... (333,000) 562,000
------------ ------------
Net decrease in cash and cash equivalents ............................. (7,986,000) (308,000)
Cash and cash equivalents at beginning of period ...................... 29,900,000 29,556,000
------------ ------------
Cash and cash equivalents at end of period ............................ $ 21,914,000 $ 29,248,000
============ ============
Supplemental disclosure of cash flow information:
Income taxes paid ................................................... $ 117,000 $ 4,064,000
Interest paid ....................................................... 98,000 108,000
</TABLE>
See accompanying notes.
7
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RAINBOW TECHNOLOGIES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 1999
(unaudited)
1. Basis of presentation
Rainbow Technologies, Inc. (the Company) develops, manufactures, programs and
markets products which prevent the unauthorized use of intellectual property,
including software programs; develops and manufactures information security
products for satellite communications; and develops and manufactures internet
security products to provide privacy and security for network communications.
The accompanying financial statements consolidate the accounts of the Company
and its wholly-owned subsidiaries. All significant intercompany balances and
transactions have been eliminated. Certain amounts previously reported have been
reclassified to conform with the 1999 presentation. Share amounts for all
periods presented have been adjusted to reflect the impact of a 3-for-2 stock
split effective July 1, 1998.
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the amounts reported in the accompanying financial statements. Actual
results could differ from those estimates. Significant estimates made in
preparing these financial statements include the allowance for doubtful
accounts, the reserve for inventory obsolescence, accrued warranty costs, the
allowance for deferred tax assets, and total estimated contract costs associated
with billed and unbilled contract revenues.
In the opinion of the Company's management, the accompanying condensed
consolidated financial statements include all adjustments, consisting only of
normal recurring adjustments, necessary for a fair presentation of the financial
position at June 30, 1999 and results of operations for the three and six months
ended June 30, 1999 and 1998. The condensed consolidated financial statements do
not include footnotes and certain financial information normally presented
annually under generally accepted accounting principles and, therefore, should
be read in conjunction with the Company's December 31, 1998 Annual Report on
Form 10-K. Results of operations for the three and six months ended June 30,
1999 are not necessarily indicative of results to be expected for the full year.
The Company has subsidiaries in the United Kingdom, Germany, France, the
Netherlands, India, Russia, Australia, China and Taiwan. The Company utilizes
the currencies of the countries where its foreign subsidiaries operate as the
functional currency. Balance sheet accounts denominated in foreign currency are
translated at exchange rates as of the date of the balance sheet and income
statement accounts are translated at average exchange rates for the period.
Translation gains and losses are accumulated as a component of Accumulated Other
Comprehensive Income (Loss) within Shareholders' Equity. The Company has adopted
local currencies as the functional currencies for its subsidiaries because their
principal economic activities are most closely tied to the respective local
currencies.
The Company applies the provisions of Statement 130, "Reporting Comprehensive
Income" (FAS 130) for the reporting and display of comprehensive income and its
components. FAS 130 requires unrealized gains or losses on the Company's
available-for-sale securities and foreign currency translation adjustments to be
reported as Comprehensive Income and included in Accumulated Other Comprehensive
Income within Shareholders' Equity.
2. Earnings per share
Basic earnings per share is computed by dividing income available to common
shareholders by the weighted-average number of common shares outstanding for the
period. Diluted earnings per share reflects the assumed conversion of all
diluted securities.
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3. Government Contracts
The Company is both a prime contractor and a subcontractor under fixed-price and
cost-plus-fixed-fee contracts with the U.S. Government (Government). At the
commencement of each contract or contract modification, the Company submits
pricing proposals to the Government to establish indirect cost rates applicable
to such contracts. These rates, after audit and approval by the Government, are
used to settle costs on completed contracts.
To facilitate interim billings during the performance of its contracts, the
Company establishes provisional billing rates, which are used in recognizing
contract revenue and contract accounts receivable amounts in these financial
statements. These provisional billing rates are adjusted to actual at year-end
and are subject to adjustment after Government audit.
4. Inventories
Inventoried costs relating to long-term contracts are stated at the actual
production costs, including pro-rata allocations of factory overhead and general
and administrative costs incurred to date, reduced by amounts identified with
revenue recognized on units delivered. The costs attributed to units delivered
under such long-term contracts are based on the estimated average cost of all
units expected to be produced.
Inventories, other than inventoried costs relating to long-term contracts, are
stated at the lower of cost (first-in, first-out basis) or market. Inventories
consist of the following:
<TABLE>
<CAPTION>
June 30, 1999 December 31, 1998
------------- -----------------
<S> <C> <C>
Inventoried costs related
to long-term contracts $ 3,915,000 $ 5,237,000
Finished goods .......... 3,453,000 4,426,000
Work in process ......... 1,477,000 311,000
Raw materials ........... 931,000 917,000
----------- -----------
$ 9,776,000 $10,891,000
=========== ===========
</TABLE>
5. Acquisitions
On May 12, 1999, the Company completed the acquisition of Systematic Systems
Integration (Systematic) in a cash transaction valued at $9.25 million.
Systematic Systems is a leading California-based eCommerce integration services
firm that enables companies to seamlessly integrate diverse software and
hardware platforms, communication systems and Internet technologies. This
acquisition has been accounted for under the purchase method of accounting. The
purchase price has been allocated based upon estimated fair values at the date
of acquisition.
On February 26, 1998, the Company completed the acquisition of Wyatt River
Software, Inc. (Wyatt). Wyatt develops, manufactures, and markets network
license management software. The total transaction value was $9 million,
including $3.9 million paid in cash to Wyatt stockholders and $5.1 million in
assumed liabilities. This acquisition has been accounted for under the purchase
method of accounting. The purchase price has been allocated based upon estimated
fair values at the date of acquisition. Approximately $1.5 million of the
purchase price was written off as in-process research and development at the
acquisition date, approximately $2.7 million was allocated to developed
software, and the remaining $4.8 million was allocated to goodwill and other
intangibles. The goodwill and other intangibles are being amortized on a
straight-line basis over five years.
On March 6, 1998, the Company entered into an agreement to purchase certain
assets from Elan Computer Group, Inc. (Elan) for $800,000. The assets included
Elan's license manager software technology, which the Company had previously
licensed from Elan, and Elan's end-user maintenance and support relationships.
In connection with the transaction, the Company entered into a Litigation
Cooperation Agreement with Elan in connection with a patent infringement lawsuit
entitled Globetrotter Software, Inc. vs. Elan Computer Group, Inc. No. 97-4176CW
which is
9
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currently pending in the United States District court for the Northern District
of California. The action claims that the Elan technology infringes upon patents
owned by Globetrotter. The lawsuit is deemed to include any and all claims made
now or in the future by Globetrotter Software, Inc. The Company does not expect
that this matter will have a material adverse effect on its financial position
or results of operations. Prior to the asset purchase agreement with Elan, the
Company had an investment in Elan of $1.3 million. The Company owned less than
20% of Elan's stock and accounted for the investment under the cost method.
During the first quarter of 1998 the Company wrote-off its investment in Elan,
as it was determined that the Company's original investment was fully impaired.
The write-off is included in other income (expense), net in the income statement
for the quarter ended March 31, 1998.
6. Other assets
Included in other assets are certain investments in early-stage companies. The
Company closely monitors the operations and cash flows of these companies to
evaluate their status and ensure that amounts reported for these investments do
not exceed net realizable value. If the Company determines that impairment in
the investment of any such company exists, an adjustment would be made to reduce
the investment amount to net realizable value.
Also included in other assets are capitalized software development costs. Based
on the Company's product development process, technological feasibility is
established upon completion of a working model. Amortization of capitalized
software development costs commence when the products are available for general
release to customers and are determined using the straight line method over the
expected useful lives of the respective products. These amounts are written-off
if it is determined that the projects can not be brought to market.
7. Stock split
On March 17, 1998 the Company announced that its Board of Directors approved a
3-for-2 split of its common stock. The effective date was July 1, 1998 and the
payout date was July 15, 1998. These financial statements have been adjusted to
reflect the impact of the stock split.
8. Industry segments
The company operates in three industry segments. The first segment is the
development and sale of devices which protect data and software from
unauthorized use (Software Protection Products segment). The second segment is
the development and sale of information security products to provide privacy and
security for voice communication and data transmission (Information Security
Products segment). The third segment is the development and sale of services
which accelerate performance of security servers and virtual private networks
and services which provide access control to computer networks, Internet Web
sites and virtual private networks (Internet Products and Services segment). The
identifiable assets for each segment as of June 30, 1999 were $86,838,000,
$26,254,000, and $12,735,000, respectively, as compared with $86,860,000,
$31,104,000, and $634,000 as of December 31, 1998.
10
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RAINBOW TECHNOLOGIES, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following is management's discussion and analysis of certain significant
factors which have affected the consolidated results of operations and the
consolidated financial position of the Company during the periods included in
the accompanying condensed consolidated financial statements. This discussion
should be read in conjunction with the related condensed consolidated financial
statements and associated notes.
RESULTS OF OPERATIONS (dollars in thousands)
<TABLE>
<CAPTION>
Three Months Ended June 30,
---------------------------
1999 1998
-------- --------
<S> <C> <C>
Revenues
Software Protection .......... $ 15,067 $ 14,450
Information Security ......... 11,029 12,211
Internet Products and Services 3,268 91
Ion Beam Surface Treatment ... 60 8
-------- --------
Total revenues ........ $ 29,424 $ 26,760
======== ========
Operating Income
Software Protection .......... $ 2,855 $ 2,604
Information Security ......... 1,067 2,773
Internet Products and Services (960) (796)
Ion Beam Surface Treatment ... (438) (187)
-------- --------
Total operating income $ 2,524 $ 4,394
======== ========
<CAPTION>
Six Months Ended June 30,
-------------------------
1999 1998
-------- --------
<S> <C> <C>
Revenues
Software Protection .......... $ 29,342 $ 28,620
Information Security ......... 22,078 23,013
Internet Products and Services 4,003 139
Ion Beam Surface Treatment ... 87 18
-------- --------
Total revenues ........ $ 55,510 $ 51,790
======== ========
Operating Income
Software Protection .......... $ 5,521 $ 4,418
Information Security ......... 1,638 4,914
Internet Products and Services (2,222) (2,360)
Ion Beam Surface Treatment ... (861) (474)
-------- --------
Total operating income $ 4,076 $ 6,498
======== ========
</TABLE>
11
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REVENUES
Revenues from Software Protection Products for the three and six months ended
June 30, 1999 increased by 4% to $15,067,000 and 3% to $29,342,000,
respectively, when compared to the same period in 1998. Revenues from Europe
decreased by 3% while revenues from the U.S. increased by 3% for the three
months ended June 30, 1999. The average selling price per product in the quarter
ended June 30, 1999 was consistent with the same period in 1998. Unit volume for
the three months ended June 30, 1999 increased by 3% when compared to the
corresponding 1998 period.
Information Security Products revenues for the three and six months ended June
30, 1999 decreased by 10% to $11,029,000 and 4% to $22,078,000, respectively,
when compared to the same periods in 1998. The revenue decline was primarily due
to a shift in government spending from security products to defense products.
Internet Products and Services revenues for the three and six months ended June
30, 1999 increased by $3,177,000 and $3,864,000, respectively, when compared to
the same periods in 1998. The revenue growth was primarily due to the increase
in sales of Cryptoswift products and revenues generated from the acquisition of
Systematic Systems Integration, Inc.
GROSS PROFIT
Gross profit from Software Protection Products for the three months ended June
30, 1999 decreased to 70% of revenues compared to 73% of revenues for the
corresponding period in 1998. Gross profit for the six months ended June 30,
1999 decreased to 71% of revenues compared to 74% of revenues for the six months
ended June 30,1998. The decrease in gross profit was due to higher costs of
sales as a result of increased labor and overhead costs.
Gross profit from Information Security Products for the three months ended June
30, 1999 decreased to 12% of revenues compared to 24% for the three months ended
June 30, 1998. Gross profit for the six months ended June 30, 1999 decreased to
9% of revenues compared to 23% of revenues for the six months ended June 30,
1998. The decrease was due to the change in mix from more profitable product
contracts to less profitable research and development contracts.
Gross profit from Internet Products and Services for the three and six months
ended June 30, 1999 were 63% and 59% of revenues, respectively. The increase in
gross profit was due to a decrease in unit costs of internet products.
SELLING, GENERAL AND ADMINISTRATIVE
Selling, general and administrative expenses for the three months ended June 30,
1999 increased to 27% of revenues compared to 24% of revenues for the
corresponding period in 1998. Selling, general and administrative expenses for
the six months ended June 30, 1999 increased to 26% of revenues compared to 23%
of revenues for the six months ended June 30,1998. The increase was primarily
due to additional staff and higher marketing expenses for new product
introductions.
RESEARCH AND DEVELOPMENT
Research and development expenses for the three months ended June 30, 1999
increased to 10% of revenues compared to 7% of revenues for the corresponding
period in 1998. Research and development expenses for the six months ended June
30, 1999 increased to 10% of revenues compared to 9% of revenues for the six
months ended June 30,1998. The increase in research and development expenses was
due primarily to increased staffing and professional expenses related to
internet products and services.
12
<PAGE> 13
ACQUIRED RESEARCH AND DEVELOPMENT
During the quarter ended March 31, 1998, the Company wrote-off $1,500,000 of
in-process research and development acquired in the Wyatt River Software, Inc.
("Wyatt") acquisition.
OTHER INCOME (EXPENSE)
Other income for the three months ended June 30, 1999 was $137,000 compared to
$145,000 for the corresponding period in 1998. For the six months ended June 30,
1999, other income was $409,000 compared to other expense of $989,000 for the
corresponding period in 1998. During the first quarter of 1998, the Company
wrote-off a $1,320,000 investment which was determined to be fully impaired.
PROVISION FOR INCOME TAXES
The effective tax rate was 41% for the three months ended June 30, 1999 compared
to 40% for the corresponding period in 1998. The effective tax rate for the six
months ended June 30, 1999 was 40% compared to 62% for the corresponding period
in 1998. The effective tax rate for the first six months of 1998 was negatively
affected due to the non-deductibility of the charges related to the acquired
in-process research and development. Excluding the effect of these charges, the
effective tax rate was 39% for the six months ended June 30, 1998.
LIQUIDITY AND CAPITAL RESOURCES
The Company's principal sources of operating funds have been from operations and
proceeds from sales of the Company's equity securities. The Company's cash flow
from operations for the six months ended June 30, 1999 and 1998 were $7,143,000
and $7,780,000, respectively.
Net cash used in investing activities for the six months ended June 30, 1999 and
1998 was $7,782,000 and $9,305,000, respectively. Investing activities in 1999
included the acquisition of Systematic Systems Integration, Inc. while investing
activities in 1998 included the acquisition of Wyatt River Software and certain
assets of Elan Computer Group.
Net cash used in financing activities for the six months ended June 30, 1999 was
$7,014,000 while net cash provided by financing activities was $655,000 for the
corresponding period in 1998. Financing activities in 1999 included the purchase
and retirement of approximately $8 million of treasury stock.
The Company intends to use its capital resources to expand its product lines and
for possible acquisitions of additional products and technologies. The Company
has no significant capital commitments or requirements at this time.
The Company's subsidiary in France carries approximately $9,300,000 in interest
earning deposits which may result in foreign exchange gains or losses due to the
fact that the functional currency is the French franc.
The Company believes that its current working capital of $45,930,000 and
anticipated working capital to be generated by future operations will be
sufficient to support the Company's working capital requirements for at least
the next twelve months.
13
<PAGE> 14
IMPACT OF YEAR 2000
The Year 2000 issue exists because many computer systems, applications and
embedded microprocessors use two rather than four digits to define the
applicable year. Because this issue has the potential to disrupt the Company's
business operations, a comprehensive, company wide, Year 2000 program was
initiated to identify and remediate the potential issues surrounding the Year
2000 problem. The Year 2000 program addresses the problems that may arise in
computer technologies, which include both information technology ("IT") and
non-IT systems, and those Year 2000 issues related to third parties with which
the Company has a material relationship.
One of the Company's first priorities was communicating to customers the Year
2000 compliance status of the Company's products. To aid in this effort, the
Company developed an Internet web site that describes the type of date-related
processing in the products (if any), which products have been tested for Year
2000 compliance, and the results of that testing. The site is updated as new
products and new information become available. In addition, the Company's Year
2000 program includes a process for responding to customer inquiries and for
handling special customer requests.
For the purposes of process management and progress reporting, the Year 2000
program activities are divided into 5 phases, some of which are being conducted
concurrently:
AWARENESS - This phase included definition of the systems, project and scope,
overall approach, determination of teams, briefings, and setting of a compliance
standard. The awareness phase has been completed.
ASSESSMENT - The assessment phase included the development of a comprehensive
inventory and assessment of the criticality of systems, prioritization,
determination of resource requirements, and estimation of costs. General
decisions were made about modification, re-engineering, replacement or removal
of systems and business partners. The validation approach and schedule was
determined.
RENOVATION - The renovation phase includes the re-engineering, replacement, or
retirement of systems. Test plans are developed for revised and replaced
systems.
VALIDATION - Tests are run in an isolated test environment to determine
functionality.
IMPLEMENTATION - In this phase, the implementation dates are scheduled, and the
need for parallel processing, back-up, recovery and contingency plans are
determined. Following implementation, there is a review for effectiveness.
STATE OF READINESS
IT and Non-IT Systems
The Company's IT systems principally consist of business information systems
(such as mainframe and other shared computers and associated business
application software) and infrastructure (such as personal computers, operating
systems, networks and devices like switches and routers). As of June 30, 1999,
the inventory of these systems is complete and the assessment and validation of
systems deemed "business critical" is more than 80% complete. The implementation
of upgraded, renovated or replacement business critical systems is scheduled to
be completed by October of 1999. All of the remaining, non-critical, IT systems
are being evaluated on the basis of tests (if deemed necessary), and
manufacturer statements regarding Year 2000 compliance. The Company expects that
the assessment and, when required, renovation or replacement of all IT systems
will be completed in time to ensure no significant adverse effect on business
operations.
Non-IT systems are those business tools that may contain embedded
microprocessors, such as elevators, phones, security systems and climate control
systems. The inventory of these items is completed and the vendors have been
contacted to obtain Year 2000 compliance information. The decision to remediate,
replace or otherwise address equipment that poses a material Year 2000 impact is
based primarily upon analysis of the information received from the manufacturer.
To date, all of the manufacturers have responded and indicated that no Year 2000
related problems will be experienced with the equipment as provided. The Company
has completed, in all material respects, the non-IT infrastructure portion of
its program.
14
<PAGE> 15
EXTERNAL RELATIONSHIPS
The Company also faces a potential risk should one or more of its principal
suppliers, service providers or other parties with whom the Company has a
material business relationship suffer a Year 2000 related problem. A
comprehensive inventory of business partners was made, and the Company has
initiated contact with them in an effort to determine their state of readiness.
Assessment of the risk posed to the Company will be based on the level of
criticality to the Company (the potential business impact, available
alternatives and resources required to replace) and the response received from
each party. A cut-off date has been assigned to each business critical third
party by which time that company must be assessed as "Year 2000 Ready" or a
contingency plan will be implemented to ensure the Company will suffer no
material impact to its ability to provide products and services to customers.
Approximately 900 companies were contacted, about 100 of which are considered
business critical. To-date, more than 75% of the total and more than 80% of the
business critical suppliers have responded. The Company anticipates that this
evaluation will be ongoing through 1999.
CONTINGENCY PLANNING
The Company recognizes the need for contingency planning in those areas where it
is known, or is reasonably likely that an event or an uncertainty will create a
Year 2000 system-related failure with a significant negative impact on its
business operations. The Company has identified the date by which each business
critical IT system, non-IT system, and business partner must be validated for
Year 2000 readiness, and by which a contingency plan must be implemented to
ensure uninterrupted business operations. Contingency planning is expected to be
completed for each of these systems no later than that date, and in all cases,
no later than October 1999.
COSTS
The Company has incurred approximately $766,000 as of June 30, 1999, to address
its Year 2000 issues. The Company presently estimates that the total cost of
addressing its Year 2000 issues will be approximately $800,000 to $1,000,000.
This estimate was derived utilizing numerous assumptions. First, the current
staff is adequate to finish the project. Second, the product is already Year
2000 compliant. Next, to the best of its knowledge, the Company estimates that
approximately 80% of the work is already done and that no system changes are
anticipated. However, there can be no guarantee that these assumptions are
accurate, and actual results could differ materially from those anticipated.
RISKS
The Company's Year 2000 program is designed to discover and remediate or reduce
the risks associated with the Year 2000 issue. The Company anticipates that it
will complete the remediation, risk assessment and contingency planning for its
internal IT and non-IT systems, and immediate, business critical third-party
providers. The most reasonably likely worst case scenario involves the
disruption of operations caused by the Company's reliance upon a network of
critical suppliers (such as utility, telecommunications, and transportation
service providers) whose own systems unexpectedly fail. While such failures
could directly or indirectly affect important operations of the Company, in a
significant manner, the Company does not have sufficient information about or
control over its third party suppliers to determine either the likelihood or
potential costs of these failures. Accordingly, the costs and results of the
Company's Year 2000 program and the extent of the impact on operations could
materially differ from the Company's expectations.
15
<PAGE> 16
PART II OTHER INFORMATION
Item 6 Exhibits and Reports on Form 8-K
(a) Exhibits
27 -- Financial Data Schedule
(b) Reports on Form 8-K
None
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereto duly authorized.
Dated: August 12, 1999
RAINBOW TECHNOLOGIES, INC.
By: /s/ Patrick Fevery
-------------------------------------
Patrick Fevery
Chief Financial Officer
16
<PAGE> 17
EXHIBIT INDEX
<TABLE>
<CAPTION>
Exhibit
Number Description
- ------ -----------
<C> <S>
27 Financial Data Schedule
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-1999
<PERIOD-END> JUN-30-1999
<CASH> 21,914
<SECURITIES> 1,126
<RECEIVABLES> 20,374
<ALLOWANCES> (410)
<INVENTORY> 9,776
<CURRENT-ASSETS> 59,544
<PP&E> 26,610
<DEPRECIATION> 9,994
<TOTAL-ASSETS> 102,985
<CURRENT-LIABILITIES> 13,614
<BONDS> 0
0
0
<COMMON> 11
<OTHER-SE> 86,764
<TOTAL-LIABILITY-AND-EQUITY> 102,985
<SALES> 29,424
<TOTAL-REVENUES> 29,424
<CGS> 15,535
<TOTAL-COSTS> 26,900
<OTHER-EXPENSES> 137
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> (47)
<INCOME-PRETAX> 2,845
<INCOME-TAX> 1,155
<INCOME-CONTINUING> 1,690
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 1,690
<EPS-BASIC> 0.15
<EPS-DILUTED> 0.15
</TABLE>
