<PAGE> 1
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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
----------------
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED JUNE 30, 1999
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM _____________ TO _______________
------------------------------------
COMMISSION FILE NUMBER 0-21484
THE SANTA CRUZ OPERATION, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN THIS CHARTER)
CALIFORNIA 94-2549086
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
400 ENCINAL STREET, SANTA CRUZ, CALIFORNIA 95060
(Address of principal executive office) (Zip Code)
Registrant's telephone number, including area code (831) 425-7222
Indicate by check mark whether the registrant (1) has filed all reports to be
filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the
preceding 12 months (or for such shorter period that the registrant was required
to file such reports), and (2) has been subject to such filing requirements for
the past 90 days. Yes [X] No [ ]
The number of shares outstanding of the registrant's common stock as of
June 30, 1999 was 33,569,371.
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<PAGE> 2
THE SANTA CRUZ OPERATION, INC.
FORM 10-Q
FOR THE QUARTERLY PERIOD ENDED JUNE 30, 1999
TABLE OF CONTENTS
PART I. FINANCIAL INFORMATION
<TABLE>
<CAPTION>
ITEM 1.FINANCIAL STATEMENTS PAGE
----
<S> <C> <C>
a) CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE THREE AND NINE MONTHS ENDED JUNE 30, 1999 AND 1998........1
b) CONSOLIDATED BALANCE SHEETS
AS OF JUNE 30, 1999 AND SEPTEMBER 30, 1998........................2
c) CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE NINE MONTHS ENDED JUNE 30, 1999 AND 1998..................3
d) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS .......................4
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS.................................................6
PART II. OTHER INFORMATION
ITEM 6. EXHIBITS.............................................................11
SIGNATURES..........................................................................12
</TABLE>
<PAGE> 3
PART I. FINANCIAL INFORMATION
ITEM I. FINANCIAL STATEMENTS
THE SANTA CRUZ OPERATION, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except earnings per share)
<TABLE>
<CAPTION>
- ----------------------------------------------------------------------------------------------------------------------
THREE MONTHS ENDED NINE MONTHS ENDED
JUNE 30, JUNE 30,
1999 1998 1999 1998
(UNAUDITED) (UNAUDITED)
- ----------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
NET REVENUES $ 57,060 $ 25,241 $ 165,504 $ 123,278
COST OF REVENUES 12,353 10,126 36,648 35,425
- ----------------------------------------------------------------------------------------------------------------------
GROSS MARGIN 44,707 15,115 128,856 87,853
- ----------------------------------------------------------------------------------------------------------------------
OPERATING EXPENSES:
Research and development 10,265 10,157 30,442 31,327
Sales and marketing 24,267 20,445 70,936 59,251
General and administrative 5,691 4,626 16,041 13,480
- ----------------------------------------------------------------------------------------------------------------------
Total operating expenses 40,223 35,228 117,419 104,058
- ----------------------------------------------------------------------------------------------------------------------
OPERATING INCOME (LOSS) 4,484 (20,113) 11,437 (16,205)
OTHER INCOME (EXPENSE):
Interest income, net 458 679 1,532 1,624
Other income (expense), net 598 (53) 1,034 (4)
- ----------------------------------------------------------------------------------------------------------------------
Income (loss) before income taxes 5,540 (19,487) 14,003 (14,585)
Income taxes 1,005 1,482 2,520 2,759
- ----------------------------------------------------------------------------------------------------------------------
NET INCOME (LOSS) 4,535 (20,969) 11,483 (17,344)
OTHER COMPREHENSIVE INCOME, NET OF TAX
Foreign currency translation adjustment (26) (46) (879) 336
- ----------------------------------------------------------------------------------------------------------------------
COMPREHENSIVE INCOME (LOSS) $ 4,509 $ (21,015) $ 10,604 $ (17,008)
- ----------------------------------------------------------------------------------------------------------------------
EARNINGS (LOSS) PER SHARE:
Basic $ 0.13 $ (0.59) $ 0.33 $ (0.48)
Diluted $ 0.13 $ (0.59) $ 0.32 $ (0.48)
- ----------------------------------------------------------------------------------------------------------------------
SHARES USED IN EARNINGS (LOSS) PER SHARE CALCULATION:
Basic 33,951 35,611 34,351 36,018
Diluted 36,082 35,611 35,521 36,018
- ----------------------------------------------------------------------------------------------------------------------
</TABLE>
See accompanying notes to consolidated financial statements.
1
<PAGE> 4
THE SANTA CRUZ OPERATION, INC.
<TABLE>
<CAPTION>
JUNE 30, SEPTEMBER 30,
CONSOLIDATED BALANCE SHEETS 1999 1998
(In thousands, except for share data) (UNAUDITED)
- ------------------------------------------------------------------------------------------------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 25,110 $ 23,758
Short-term investments 28,772 27,318
Receivables, net 30,616 28,633
Deferred tax assets 3,487 3,487
Other current assets 5,336 8,052
- ------------------------------------------------------------------------------------------------
Total current assets 93,321 91,248
- ------------------------------------------------------------------------------------------------
Property and equipment, net 12,617 12,929
Purchased software and technology licenses, net 11,202 13,013
Other assets 12,334 13,999
- ------------------------------------------------------------------------------------------------
TOTAL ASSETS $ 129,474 $ 131,189
- ------------------------------------------------------------------------------------------------
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Trade accounts payable $ 7,396 $ 7,655
Royalties payable 6,458 5,062
Income taxes payable 2,936 1,876
Accrued expenses and other current liabilities 30,152 28,590
Deferred revenues 11,850 15,844
- ------------------------------------------------------------------------------------------------
Total current liabilities 58,792 59,027
- ------------------------------------------------------------------------------------------------
Other long-term liabilities 9,060 12,027
- ------------------------------------------------------------------------------------------------
SHAREHOLDERS' EQUITY
Common stock, no par value, net, authorized 100,000,000 shares
Issued and outstanding 33,569,371 and 35,048,916 shares 102,855 111,972
Accumulated other comprehensive income 413 1,292
Accumulated deficit (41,646) (53,129)
- ------------------------------------------------------------------------------------------------
Total shareholders' equity 61,622 60,135
- ------------------------------------------------------------------------------------------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 129,474 $ 131,189
- ------------------------------------------------------------------------------------------------
</TABLE>
See accompanying notes to consolidated financial statements.
2
<PAGE> 5
THE SANTA CRUZ OPERATION, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
<TABLE>
<CAPTION>
- ------------------------------------------------------------------------------------------
NINE MONTHS ENDED
JUNE 30,
1999 1998
- ------------------------------------------------------------------------------------------
(UNAUDITED)
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) $ 11,483 $(17,344)
Adjustments to reconcile net income to net cash
provided by operating activities -
Depreciation and amortization 9,434 10,434
Deferred tax assets -- (153)
Exchange gain (166) (699)
Changes in operating assets and liabilities -
Receivables (3,253) 22,925
Other current assets 3,519 (1,048)
Other assets 1,224 2,045
Royalties payable 1,397 (4,058)
Trade accounts payable (113) (155)
Income taxes payable 1,187 1,579
Accrued expenses and other current liabilities 2,932 (5,473)
Deferred revenues (3,968) (163)
- ------------------------------------------------------------------------------------------
Net cash provided by operating activities 23,676 7,890
- ------------------------------------------------------------------------------------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property and equipment (4,773) (602)
Purchases of software and technology licenses (2,266) (1,807)
Sales of short-term investments 20,576 21,725
Purchases of short-term investments (22,029) (22,252)
Changes in other assets (138) (152)
- ------------------------------------------------------------------------------------------
Net cash used for investing activities (8,630) (3,088)
- ------------------------------------------------------------------------------------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Payments on capital leases (2,678) (1,912)
Net proceeds from sale of common stock 1,690 1,064
Repurchases of common stock (10,806) (7,525)
Other long-term liabilities (1,184) 2,003
- ------------------------------------------------------------------------------------------
Net cash used for financing activities (12,978) (6,370)
- ------------------------------------------------------------------------------------------
Effects of exchange rate changes on cash and cash equivalents (716) 244
- ------------------------------------------------------------------------------------------
Change in cash and cash equivalents 1,352 (1,324)
Cash and cash equivalents at beginning of period 23,758 23,225
- ------------------------------------------------------------------------------------------
Cash and cash equivalents at end of period $ 25,110 $ 21,901
- ------------------------------------------------------------------------------------------
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid-
Income taxes $ 1,301 $ 1,099
Interest 353 635
Non-cash financing and investing activities-
Assets recorded under capital leases $ 21 $ 3,623
Assets written off against restructuring reserve -- 568
- ------------------------------------------------------------------------------------------
</TABLE>
See accompanying notes to consolidated financial statements.
3
<PAGE> 6
THE SANTA CRUZ OPERATION, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
1. BASIS OF PRESENTATION
In the opinion of management, the accompanying unaudited, consolidated
statements of operations, balance sheets and statements of cash flows have
been prepared in accordance with generally accepted accounting principles
and include all material adjustments (consisting of only normal recurring
adjustments) necessary for their fair presentation. The financial statements
include the accounts of the Company and its wholly owned subsidiaries after
all material intercompany balances and transactions have been eliminated.
The Notes to Consolidated Financial Statements contained in the fiscal year
1998 report on Form10-K should be read in conjunction with these
Consolidated Financial Statements. The consolidated interim results
presented are not necessarily indicative of results to be expected for a
full year. Certain reclassifications have been made for consistent
presentation. The September 30, 1998 balance sheet was derived from audited
financial statements, and is included for comparative purposes.
For software arrangements entered into on or after October 1, 1998, the
Company recognizes revenue in accordance with Statement of Position (SOP)
97-2, Software Revenue Recognition, as amended by SOP 98-9. SOP 97-2
supercedes SOP 91-1, Software Revenue Recognition, and requires that if an
arrangement to deliver software or a software system does not require
significant production, modification, or customization of software, then
revenue should be recognized when persuasive evidence of an arrangement
exists, delivery has occurred, the vendor's fee is fixed or determinable,
and collectibility is probable. Accordingly, the Company will generally
recognize license fee revenue upon product shipment provided there are no
contingencies and collection is probable.
Effective October 1, 1998 the Company has adopted the provisions of
Statement of Financial Accounting Standards No. 130 (SFAS 130), Reporting
Comprehensive Income. Accordingly, the total for comprehensive income as
defined by SFAS 130 has been reported for the three months and nine months
ended June 30, 1999 and 1998.
2. EARNINGS PER SHARE (EPS) DISCLOSURES
The Company calculates earnings per share in accordance with the provisions
of Statement of Financial Accounting Standards No. 128 (SFAS 128), Earnings
Per Share. SFAS 128 requires the presentation of basic and diluted earnings
per share. Basic EPS is computed by dividing income available to common
shareholders by the weighted average number of common shares outstanding for
the period. Diluted EPS is computed giving effect to all dilutive potential
common shares that were outstanding during the period. Dilutive potential
common shares consist of the incremental common shares issuable upon the
exercise of stock options for all periods. Basic and diluted earnings per
share were calculated as follows during the three month and nine month
periods ended June 30, 1999 and 1998:
4
<PAGE> 7
<TABLE>
<CAPTION>
(In thousands, except per share and option data) Three Months Ended Nine Months Ended
June 30, June 30,
1999 1998 1999 1998
---------------------------- ----------------------------
(unaudited)
<S> <C> <C> <C> <C>
Basic:
Weighted average shares 33,951 35,611 34,351 36,018
Net income (loss) $ 4,535 $ (20,969) $ 11,483 $ (17,344)
Net income (loss) per share $ 0.13 $ (0.59) $ 0.33 $ (0.48)
Diluted:
Weighted average shares 33,951 35,611 34,351 36,018
Common equivalent shares from
stock options and warrants 2,131 0 1,170 0
----------- ----------- ----------- -----------
Shares used in per share calculation 36,082 35,611 35,521 36,018
----------- ----------- ----------- -----------
Net income (loss) $ 4,535 $ (20,969) $ 11,483 $ (17,344)
Net income (loss) per share $ 0.13 $ (0.59) $ 0.32 $ (0.48)
Options outstanding at 6/30/99 and at 6/30/98
not included in computation of diluted EPS
because the exercise price was greater
than the average market price 1,608,397 9,530,455 2,381,153 9,530,455
Price range of options not used in
diluted EPS calculation $6.00-12.00 $0.41-12.00 $5.13-12.00 $0.41-12.00
</TABLE>
3. RECENT ACCOUNTING PRONOUNCEMENTS
On December 31, 1998, the Accounting Standards Executive Committee issued SOP
98-9, Modification of SOP 97-2 Software Revenue Recognition. SOP 98-9 amends
paragraphs 11 and 12 of SOP 97-2 to require revenue recognition using the
"residual method" under certain circumstances. This statement is effective for
transactions entered into for fiscal years beginning after March 15, 1998 and
will be adopted by the Company in fiscal year 2000. Management does not
anticipate that the adoption of this SOP will have a material impact on the
Company's financial position or the results of its operations.
In June 1998, the FASB issued Statement of Financial Accounting Standards No.
133, (SFAS 133), Accounting for Derivative Instruments and Hedging Activities,
which establishes accounting and reporting standards for derivative instruments
and hedging activities. It requires that an entity recognize all derivatives as
either assets or liabilities in the statement of financial position and measure
those instruments at fair value. Management has not yet evaluated the effects of
this change on its operations. The Company will adopt SFAS 133 as required for
its first quarterly filing of fiscal year 2001.
In June 1997, The Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 131 (SFAS 131), Disclosures about Segments of
an Enterprise and Related Information. This statement establishes standards for
disclosure about operating segments in annual financial statements and selected
information in interim financial reports. It also establishes standards for
related disclosures about products and services, geographic areas and major
customers. This statement supersedes Statement of Financial Accounting Standards
No. 14, Financial Reporting for Segments of a Business Enterprise. The new
standard became effective for the Company's fiscal year 1999. The Company will
adopt the requirements of and provide all disclosures necessary in the Company's
annual report for fiscal year 1999.
5
<PAGE> 8
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
In addition to historical information contained herein, this Discussion and
Analysis may contain forward-looking statements that involve risks and
uncertainties. The Company's actual results could differ materially. Readers are
cautioned not to place undue reliance on these forward-looking statements, which
reflect management's analysis only as of the date hereof. The Company undertakes
no obligation to publicly update these forward-looking statements in response to
events or circumstances after the date hereof.
RESULTS OF OPERATIONS
NET REVENUES
Net revenues for the three months ended June 30, 1999 increased 126% to $57.1
million from $25.2 million in the same period in fiscal 1998. For the nine
months ended June 30, 1999, net revenues increased 34% to $165.5 million from
$123.3 million for the nine months ended June 30, 1998. The positive trends in
our business are directly related to the increasing importance of server-based
computing. The stronger revenue performance across all geographies is
attributable to factors including increased electronic licensing revenues and
more contact with customers as a result of added sales resources. During this
quarter in fiscal 1998, the Company reduced channel inventories and recorded a
reserve against remaining channel inventory in connection with its preparations
for electronic licensing and distribution. No one customer accounted for more
than 10% of net revenues for the three and nine month periods ended June 30,
1999 and June 30, 1998.
International revenues continue to represent a significant portion of total net
revenues comprising 56% of the revenues for the third fiscal quarter of 1999 and
50% for the same quarter in fiscal 1998.
COSTS AND EXPENSES
Cost of revenues as a percentage of net revenues decreased to 22% in the third
quarter of fiscal 1999 from 40% in the same period of 1998. For the nine month
periods ended June 30, 1999 and 1998, cost of revenues represented 22% and 29%,
respectively. These decreases were due to reduced royalty rates and reduced
technology costs coupled with the impact of stable fixed costs over higher unit
sales volume. In addition, material costs continue to decline as a result of
increasing e-commerce trade.
Research and development expenses increased 1% to $10.3 million in the third
quarter of fiscal 1999 from $10.2 million in the comparable quarter of fiscal
1998, or 18% and 40% of net revenues, respectively. For the nine months ended
June 30, 1999, research and development expenses decreased 3% to $30.4 million
compared to $31.3 million for the same period in 1998. This represented 18% of
net revenues in fiscal 1999 and 25% in fiscal 1998. The nine month spending
decrease was primarily due to reduced staffing levels and reduced depreciation.
Sales and marketing expenses increased 19% to $24.3 million in the third quarter
of fiscal 1999 from $20.4 million for the comparable quarter of the prior year.
Sales and marketing expenses represented 43% of net revenues in the third
quarter of fiscal 1999 and 81% in 1998. For the nine months ended June 30, 1999,
sales and marketing expenses increased to $70.9 million (43% of net revenues)
from $59.3 million (48% of net revenues) for the same period of the prior fiscal
year. Added staffing as well as sales program costs that vary directly with
increased sales drove the increase.
General and administrative expenses increased 23% to $5.7 million for the third
quarter of fiscal 1999 from $4.6 million in the comparable quarter of fiscal
1998, representing 10% and 18% of net revenues, respectively. For the nine
months ended June 30, 1999, general and administrative expenses increased 19% to
$16.0 million, or 10% of net revenues, compared to $13.5 million, or 11% of net
revenues, for the same period in 1998. Increased bonuses as a result of
exceeding Company performance goals and higher legal costs all contributed to
the change.
Other income consists of net interest income, foreign exchange gain and loss as
well as other miscellaneous income and expense items. For the third quarter of
fiscal 1999, other income was $1.1 million, compared to $0.6 million for the
same quarter of fiscal 1998. For the nine months ended June 30, 1999, other
income was $2.6 million as compared to $1.6 million for the same period in 1998.
The growth in other income was primarily due to the gain on the sale of an
investment position in a domestic channel distribution partner.
6
<PAGE> 9
The provision for income taxes was $1.0 million for the third quarter of fiscal
1999 compared to $1.5 million for the same period of the prior fiscal year, and
$2.5 million for the nine months ended June 30, 1999 compared to $2.8 million
for the corresponding fiscal 1998 period. The tax provisions for the third
quarter and nine month periods of the current and prior fiscal years resulted
from foreign taxes paid and reflect the realization of certain U.S. deferred tax
assets for which a valuation allowance was previously established.
Net income for the third quarter of fiscal 1999 was $4.5 million compared to a
loss of $21.0 million for 1998. For the nine months ended June 30, 1999, net
income was $11.5 million compared to a loss of $17.3 million in the same period
in 1998.
FACTORS THAT MAY AFFECT FUTURE RESULTS
The Company's future operating results may be affected by various uncertain
trends and factors which are beyond the Company's control. These include adverse
changes in general economic conditions and rapid or unexpected changes in the
technologies affecting the Company's products. The process of developing new
high technology products is complex and uncertain and requires accurate
anticipation of customer needs and technological trends. The industry has become
increasingly competitive and, accordingly, the Company's results may also be
adversely affected by the actions of existing or future competitors, including
the development of new technologies, the introduction of new products, and the
reduction of prices by such competitors to gain or retain market share. The
Company's results of operations could be adversely affected if it were required
to lower its prices significantly.
The Company participates in a highly dynamic industry and future results could
be subject to significant volatility, particularly on a quarterly basis. The
Company's revenues and operating results may be unpredictable due to the
Company's shipment patterns. The Company operates with little backlog of orders
because its products are generally shipped as orders are received. In general, a
substantial portion of the Company's revenues have been booked and shipped in
the third month of the quarter, with a concentration of these revenues in the
latter half of that third month. In addition, the timing of closing of large
license contracts and the release of new products and product upgrades increase
the risk of quarter to quarter fluctuations and the uncertainty of quarterly
operating results. The Company's staffing and operating expense levels are based
on an operating plan and are relatively fixed throughout the quarter. As a
result, if revenues are not realized in the quarter as expected, the Company's
expected operating results could be adversely affected, and such effect could be
substantial and could result in an operating loss.
The Company experiences seasonality of revenues for both the European market and
the U.S. federal government market. European revenues during the quarter ending
June 30 are historically lower or relatively flat compared to the prior quarter.
This reflects a reduction of customer purchases in anticipation of reduced
selling activity during the summer months. Sales to the U.S. federal government
generally increase during the quarter ending September 30. This seasonal
increase is primarily attributable to increased purchasing activity by the U.S.
federal government prior to the close of its fiscal year. Additionally, net
revenues for the first quarter of the fiscal year are typically lower or
relatively flat compared to net revenues of the prior quarter.
The overall cost of revenues may be affected by changes in the mix of net
revenue contribution between licenses and services, product families,
geographical regions and channels of distribution, as the costs associated with
these revenues may have substantially different characteristics. The Company may
also experience a change in margin as net revenues increase or decrease since
technology costs, service costs and production costs are fixed within certain
volume ranges.
The Company's results of operations could be adversely affected if it were to
lower its prices significantly. In the event the Company reduced its prices, the
Company's standard terms for selected distributors provide credit for inventory
ordered in the previous 180 days, such credits to be applied against future
purchases. The Company, as a matter of policy, does not allow product returns
for refund. Product returns are generally allowed for stock balancing and are
accompanied by compensating and offsetting orders. Revenues are net of a
provision for estimated future stock balancing and excess quantities above
levels the Company believes are appropriate in its distribution channels. The
Company monitors the quantity and mix of its product sales.
The Company depends on information received from external sources in evaluating
the inventory levels at distribution partners in the determination of reserves
for the return of materials not sold, stock rotation and price
7
<PAGE> 10
protection. Significant effort has gone into developing systems and procedures
for determining the appropriate reserve level.
As the Company determines whether its tax carryforwards will more likely than
not be utilized in the future, or as new tax legislation is enacted, the
Company's effective tax rate is subject to change. In the event that the Company
does not show sufficient profitability in the future, the Company may be
required to write off portions of the net deferred tax assets previously
recognized up to the entire amount of $7.8 million.
Substantial portions of the Company's revenues are derived from sales to
customers outside the United States. Trade sales to international customers
represented 56% and 50% of total revenues for the third quarter of fiscal 1999
and 1998, respectively. A substantial portion of these international revenues
are denominated in the U.K. pound sterling, and operating results can vary with
changes in the U.S. dollar exchange rate for such currency. The Company's
revenues can also be affected by general economic conditions in the United
States, Europe and other international markets. The Company's operating strategy
and pricing take into account changes in exchange rates over time. However, the
Company's results of operations may be significantly affected in the short term
by fluctuations in foreign currency exchange rates.
The Company's policy is to amortize purchased software and technology licenses
using the straight-line method over the remaining estimated economic life of the
product, or on the ratio of current revenues to total projected product
revenues, whichever is greater. Due to competitive pressures, it is reasonably
possible that those estimates of anticipated future gross revenues, the
remaining estimated economic life of the product, or both, will be reduced
significantly in the near future. As a result, the book value of the Company's
purchased software and technology licenses may be reduced materially in the near
future and, therefore, could create an adverse impact on the Company's future
reported earnings.
The Company continually evaluates potential acquisition candidates. Such
candidates are selected based on products or markets which are complementary to
those of the Company's. Acquisitions involve a number of special risks,
including the successful combination of the companies in an efficient and timely
manner, the coordination of research and development and sales efforts, the
retention of key personnel, the integration of the acquired products, the
diversion of management's attention to assimilation of the operations and
personnel of the acquired companies, and the difficulty of presenting a unified
corporate image. The Company's operations and financial results could be
significantly affected by such an acquisition.
The Company's continued success depends to a significant extent on senior
management and other key employees. None of these individuals is subject to a
long-term employment contract or a non-competition agreement. Competition for
qualified people in the software industry is intense. The loss of one or more
key employees or the Company's inability to attract and retain other key
employees could have a material adverse effect on the Company.
The stock market in general, and the market for shares of technology companies
in particular, have experienced extreme price fluctuations, which have often
been unrelated to the operating performance of the affected companies. In
addition, factors such as new product introductions by the Company or its
competitors may have a significant impact on the market price of the Company's
Common Stock. Furthermore, quarter-to-quarter fluctuations in the Company's
results of operations caused by changes in customer demand may have a
significant impact on the market price of the Company's stock. These conditions,
as well as factors which generally affect the market for stocks of high
technology companies, could cause the price of the Company's stock to fluctuate
substantially over short periods.
The Company is aware of the issues associated with the on-going changes in
Europe aimed at forming a European economic and monetary union (the "EMU"). One
of the changes resulting from this union required EMU member states to
irrevocably fix their respective currencies to a new currency, the Euro, on
January 1, 1999. On that day, the Euro became a functional legal currency within
these countries. During the next three years, business in the EMU member states
will be conducted in both the 25 existing national currencies, such as the Franc
or Deutsche Mark, and the Euro. As a result, companies operating in or
conducting business in EMU member states will need to ensure that their
financial and other software systems are capable of processing transactions and
properly handling these currencies, including the Euro. The Company is still
assessing the impact the EMU formation will have on both its internal systems
and the products it sells. The Company will take appropriate corrective actions
based on the results of such assessment. The Company has not yet determined the
cost related to addressing this issue, and
8
<PAGE> 11
there can be no assurance that this issue and its related costs will not have a
materially adverse affect on the company's business, operating results and
financial condition.
YEAR 2000 ISSUES
The approach of Year 2000 is causing a great deal of concern and discussion in
the computer industry. There are many varieties of Year 2000 problems. One major
concern is the accurate dating of files and transactions after January 1, 2000.
For many years, software has represented dates using the MM/DD/YY format (or
some variant), which allows for the display of only the last two digits of the
year. With the upcoming transition from 99 to 00, dating problems may occur on
systems that interpret a YY value of 00 incorrectly. The Company must address
the millennium issues from a perspective of both developing and selling software
products and also maintaining internal Company operations.
The Company has taken steps to mitigate operating system date processing errors
that might occur with the onset of the Year 2000 (Y2K). The Company has:
- - issued a Year 2000 Date Processing Limited Warranty for Designated Software
that defines how we expect our products to perform when processing dates in
the Year 2000;
- - produced an SCO Year 2000 White Paper detailing how the Year 2000 affects
SCO products and what products are covered by the Year 2000 Date Processing
Limited Warranty;
- - performed Year 2000 testing of all current SCO products;
- - issued fixes for Year 2000 problems that we have detected in current SCO
supported products;
- - created a project team to maintain a consistent Year 2000 policy for our
customers and to coordinate cross functional activities;
- - created a Year 2000 committee to test, verify or upgrade internal systems
and third party vendor software to insure continued operation of our
infrastructure;
- - established and maintained a website address for customer queries
(http://www.sco.com/year 2000); and
- - provided an email service where customers can subscribe to receive notice of
Year 2000 information updates.
SCO believes that it has substantially identified and resolved all potential
Year 2000 problems in software products under warranty that it develops and
markets. However, management also believes that it is not possible to determine
with complete certainty that all Year 2000 problems affecting the Company's
software products have been identified or corrected due to 1) the complexity of
these products, 2) the fact that these products interact with other third party
vendor products and 3) the operation on computer systems which are not under the
Company's control.
The Company believes that it has identified substantially all of the major
computers, software applications, telephony equipment and other related
equipment used in connection with its internal operations that must be modified,
upgraded, or replaced to minimize the possibility of a material disruption to
its business. The Company has commenced modifying, upgrading, and replacing
major systems that have been identified as adversely affected, and expects to
complete this process by fall 1999.
Further, the Company has initiated communications with third party suppliers of
the major computers, software, and other equipment used, operated, or maintained
by the Company to identify and, to the extent possible, to resolve issues
involving the Year 2000. However, the Company has limited or no control over the
actions of these third party suppliers. Thus, while the Company expects that it
will be able to resolve any significant Year 2000 problems with these systems,
there can be no assurance that these suppliers will resolve any or all Year 2000
problems with these systems before the occurrence of a material disruption to
the business of the Company or any of its customers. Any failure of these third
parties to resolve Year 2000 problems with their systems in a timely manner
could have a material adverse effect on the Company's business, financial
condition, and results of operation.
The Company expects to identify and resolve all Year 2000 problems that could
materially adversely affect its business operations and products. The exposure
on the product side is the cost of free software upgrades to many customers.
However, management believes that it is not possible to determine with complete
certainty that all Year 2000 problems affecting the Company have been identified
or corrected. The number of devices and permutations are too numerous. The
Company is prepared for the likelihood of a few operational inconveniences and
diversion of
9
<PAGE> 12
attention from ordinary business. However, the Company feels confident that
there will be no adverse material effect on the Company's business or results of
operations.
YEAR 2000 CONTINGENCY PLANS
The Company is in the process of developing contingency plans in the event that
the Company's systems or products prove to not be Year 2000 compliant. The
Company is currently reviewing its key business activities to develop plans to
support ongoing business operations in the event of a disruption and expects
these plans to be completed shortly. However, the Company cannot give any
assurance that these contingency plans will be effective in preventing Year 2000
related disruptions in the business which could have a material adverse impact
on the Company's business, operating results and financial condition.
The discussion of the Company's efforts and management's expectations relating
to the Year 2000 compliance include forward-looking statements. The Company's
ability to achieve Year 2000 readiness and the level of incremental costs
associated therewith, could be adversely impacted by, among other things, the
availability and cost of programming and testing resources, vendor's ability to
modify proprietary software, and unanticipated problems identified in the
ongoing review.
LIQUIDITY AND CAPITAL RESOURCES
The Company's cash and short-term investments totaled $53.9 million at June 30,
1999, representing 42% of total assets. The nine month increase in cash and
short-term investments of $2.8 million was primarily attributable to an increase
in collections. As of June 30, 1999, the Company had available lines of credit
of approximately $0.9 million under which the Company had $0.3 million in
outstanding borrowings. The Company believes that its existing cash and
short-term investments, funds generated from operations and available borrowing
capabilities will be sufficient to meet its operating requirements for at least
the next twelve months.
The Company's third quarter ended June 30, 1999 Days Sales Outstanding (DSO) was
48.3 days, a decrease of 4.9 days from the second quarter of fiscal 1999.
The Company is engaged in a systematic repurchase of the Company's Common Stock
for the funding of its employee stock programs. Additionally, the Company is
authorized to buy back up to 6,000,000 additional shares. As of June 30, 1999,
3,104,050 shares had been repurchased and retired under this non-systematic
program.
10
<PAGE> 13
PART II. OTHER INFORMATION
ITEM 6. EXHIBITS
(a) Exhibits
27 Financial Data Schedule.
ITEMS 1, 2, 3, 4 AND 5 ARE NOT APPLICABLE AND HAVE BEEN OMITTED.
11
<PAGE> 14
Signatures
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
The Santa Cruz Operation, Inc.
Date: August 12, 1999 By: /s/ John W. Luhtala
----------------------------------------
John W. Luhtala
Senior Vice President, Operations,
and Chief Financial Officer
By: /s/ Jenny Twaddle
----------------------------------------
Jenny Twaddle
Corporate Controller
12
<PAGE> 15
INDEX TO EXHIBITS
<TABLE>
<CAPTION>
Exhibit
Number Description
- ------ -----------
<S> <C>
27 Financial Data Schedule
</TABLE>
13
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> SEP-30-1999
<PERIOD-START> APR-01-1999
<PERIOD-END> JUN-30-1999
<CASH> 25,110
<SECURITIES> 28,772
<RECEIVABLES> 39,292
<ALLOWANCES> (8,676)
<INVENTORY> 1,005
<CURRENT-ASSETS> 93,321
<PP&E> 57,847
<DEPRECIATION> (45,230)
<TOTAL-ASSETS> 129,474
<CURRENT-LIABILITIES> 58,792
<BONDS> 0
0
0
<COMMON> 102,855
<OTHER-SE> (41,233)
<TOTAL-LIABILITY-AND-EQUITY> 129,474
<SALES> 53,218
<TOTAL-REVENUES> 57,060
<CGS> 7,593
<TOTAL-COSTS> 12,353
<OTHER-EXPENSES> 40,223
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 1,056
<INCOME-PRETAX> 5,540
<INCOME-TAX> 1,005
<INCOME-CONTINUING> 4,535
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 4,535
<EPS-BASIC> 0.13<F1>
<EPS-DILUTED> 0.13
<FN>
<F1>FOR PURPOSES OF THIS EXHIBIT, BASIC MEANS PRIMARY</FN>
</TABLE>
