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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
----------------
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED JUNE 30, 1997
[_] 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 : 0-22350
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MERCURY INTERACTIVE CORPORATION
(Exact name of registrant as specified in its charter)
DELAWARE 77-0224776
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
470 POTRERO AVENUE, SUNNYVALE, CALIFORNIA 94086
(Address of principal executive offices)
Registrant's telephone number, including area code: (408) 523-9900
----------------
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such a shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. YES [X] NO [_]
The number of shares of Registrant's Common Stock outstanding as of July 31,
1997 was 16,331,084.
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MERCURY INTERACTIVE CORPORATION
INDEX
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<CAPTION>
PAGE NO.
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PART I.FINANCIAL INFORMATION
<C> <S> <C>
ITEM 1. FINANCIAL STATEMENTS:
Condensed Consolidated Balance Sheets--June 30, 1997 and
December 31, 1996.......................................... 3
Condensed Consolidated Statements of Operations--Three and
six months ended June 30, 1997 and 1996.................... 4
Condensed Consolidated Statements of Cash Flows--Six months
ended June 30, 1997 and 1996............................... 5
Notes to Condensed Consolidated Financial Statements........ 6
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS.................................. 8
PART II.OTHER INFORMATION
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF STOCKHOLDERS............. 15
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K............................ 15
SIGNATURES........................................................... 16
EXHIBITS INDEX....................................................... 17
</TABLE>
2
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PART I.FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
MERCURY INTERACTIVE CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
<TABLE>
<CAPTION>
JUNE 30, DECEMBER 31,
1997 1996
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<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents............................. $ 43,761 $ 44,337
Short-term investments (Note 2)....................... 41,515 26,686
Trade accounts receivable (net of allowances of $1,950
and $1,136).......................................... 18,938 18,503
Government grant and other receivables................ 2,926 3,139
Inventories........................................... 646 560
Prepaid expenses and other assets..................... 3,624 3,307
-------- --------
Total current assets................................ 111,410 96,532
Long-term investments (Note 2).......................... 2,220 8,954
Property and equipment, net............................. 11,433 10,413
Deposits and other assets............................... 1,535 1,590
-------- --------
$126,598 $117,489
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable...................................... $ 3,124 $ 1,859
Accrued liabilities................................... 10,455 8,782
Deferred revenue...................................... 8,480 7,809
-------- --------
Total current liabilities........................... 22,059 18,450
-------- --------
Commitments and contingencies (Notes 5 and 6)
Stockholders' equity:
Common stock, par value $.002 per share, 25,000 shares
authorized; 16,326 and 16,056 shares issued and
outstanding.......................................... 33 32
Capital in excess of par value........................ 102,083 100,235
Cumulative translation adjustment..................... (375) (99)
Retained earnings (accumulated deficit)............... 2,798 (1,129)
-------- --------
Total stockholders' equity.......................... 104,539 99,039
-------- --------
$126,598 $117,489
======== ========
</TABLE>
See accompanying notes to condensed consolidated financial statements
3
<PAGE>
MERCURY INTERACTIVE CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
-------------------- ------------------
1997 1996 1997 1996
--------- --------- -------- --------
<S> <C> <C> <C> <C>
Revenue:
License............................ $ 12,300 $ 9,350 $ 23,583 $ 17,950
Service............................ 5,200 2,750 9,317 5,150
--------- --------- -------- --------
Total revenue.................... 17,500 12,100 32,900 23,100
--------- --------- -------- --------
Cost of revenue:
License............................ 992 709 1,896 1,205
Service............................ 1,612 786 2,826 1,418
--------- --------- -------- --------
Total cost of revenue............ 2,604 1,495 4,722 2,623
--------- --------- -------- --------
Gross profit......................... 14,896 10,605 28,178 20,477
--------- --------- -------- --------
Operating expenses:
Research and development........... 2,854 2,682 5,672 4,852
Less: grants....................... (379) (611) (1,055) (1,248)
--------- --------- -------- --------
Research and development, net.... 2,475 2,071 4,617 3,604
Marketing and selling.............. 9,027 7,278 17,215 13,868
General and administrative......... 1,563 1,054 2,993 1,861
Settlement of litigation........... -- -- -- 2,600
--------- --------- -------- --------
Total operating expenses......... 13,065 10,403 24,825 21,933
--------- --------- -------- --------
Income (loss) from operations........ 1,831 202 3,353 (1,456)
Other income, net.................... 846 776 1,555 1,621
--------- --------- -------- --------
Income before provision for income
taxes............................... 2,677 978 4,908 165
Provision for income taxes........... 535 198 981 35
--------- --------- -------- --------
Net income........................... $ 2,142 $ 780 $ 3,927 $ 130
========= ========= ======== ========
Net income per share................. $ 0.13 $ 0.05 $ 0.23 $ 0.01
========= ========= ======== ========
Weighted average common shares and
equivalents......................... 17,001 16,564 16,823 16,568
</TABLE>
See accompanying notes to condensed consolidated financial statements
4
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MERCURY INTERACTIVE CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
<TABLE>
<CAPTION>
SIX MONTHS ENDED
JUNE 30,
-----------------
1997 1996
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<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income.................................................. $ 3,927 $ 130
Adjustments to reconcile net income to net cash provided by
(used in) operating activities:
Depreciation and amortization............................. 1,740 1,668
Net changes in assets and liabilities:
Trade accounts receivable............................... (435) 172
Government grant and other receivables.................. 213 (454)
Inventories............................................. (86) (368)
Prepaid expenses, deposits and other assets............. (262) (1,143)
Accounts payable........................................ 1,265 1,592
Accrued liabilities (including in 1996 the payment of
litigation-related accruals of $2,778 and acquisition
and restructuring accruals of $3,889).................. 1,673 (6,407)
Deferred revenue........................................ 671 (48)
-------- -------
Net cash provided by (used in) operating activities... 8,706 (4,858)
-------- -------
CASH FLOWS FROM INVESTING ACTIVITIES:
Investment (purchases) proceeds, net........................ (8,095) 1,597
Acquisition of property and equipment....................... (2,610) (2,491)
Capitalization of software development costs................ (150) (300)
-------- -------
Net cash used in investing activities................. (10,855) (1,194)
-------- -------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of common stock...................... 1,849 1,616
-------- -------
Net cash provided by financing activities............. 1,849 1,616
-------- -------
Effect of exchange rate changes on cash..................... (276) (80)
-------- -------
Net decrease in cash and cash equivalents................... (576) (4,516)
Cash and cash equivalents at beginning of period............ 44,337 45,850
-------- -------
Cash and cash equivalents at end of period.................. $ 43,761 $41,334
======== =======
Cash paid during the period for income taxes:............... $ 63 $ --
</TABLE>
See accompanying notes to condensed consolidated financial statements
5
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MERCURY INTERACTIVE CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
1. The unaudited financial information furnished herein reflects all
adjustments, consisting only of normal recurring adjustments, that in the
opinion of management are necessary to fairly state the Company's
consolidated financial position, the results of its operations, and its cash
flows for the periods presented. This Quarterly Report on Form 10-Q should
be read in conjunction with the Company's audited financial statements for
the year ended December 31, 1996, included in the 1996 Annual Report and
Form 10-K. The condensed consolidated statement of operations for the six
months ended June 30, 1997 is not necessarily indicative of results to be
expected for the entire fiscal year ending December 31, 1997. Certain items
have been reclassified to conform to the current period presentation.
2. The portfolio of short and long-term investments is carried at cost (which
approximates market) as of the balance sheet date which consists of
investments in high-quality financial, government and corporate securities.
In accordance with Statement of Financial Accounting Standards No. 115,
"Accounting for Certain Investments in Debt and Equity Securities", the
Company has categorized its marketable securities as "available-for-sale"
securities. Realized gains or losses are determined based on the specific
identification method and are reflected in income.
3. The effective tax rate for the six months ended June 30, 1997 differs from
statutory tax rates principally because of special reduced taxation programs
sponsored by the government of Israel.
4. Net income per common share has been computed using the weighted average
number of common and dilutive common equivalent shares outstanding during
the period. Dilutive common equivalent shares consist of common stock
issuable upon exercise of stock options (using the treasury stock method).
5. The Company obtained grants for research and development from the Office of
the Chief Scientist in the Israeli Ministry of Industry and Trade in the
amounts of $379,000 and $1.1 million in the quarter and six months ended
June 30, 1997, respectively, and $450,000 and $857,000 in the quarter and
the six months ended June 30, 1996, respectively. These grants are accounted
for using the cost reduction method, under which research and development
expenses are decreased by the amounts of the grants. The Company is not
obligated to repay these grants; however, it has agreed to pay royalties at
rates ranging from 2% to 5% of product sales resulting from the research, up
to the amount of the grants obtained and, for certain grants, up to 150% of
the grants obtained. Royalty expense under these agreements amounted to
approximately $519,000 and $933,000 for the quarter and six months ended
June 30, 1997, respectively, and $300,000 and $530,000 for the quarter and
six months ended June 30, 1996, respectively. As of June 30, 1997, the
Company is committed to pay, if and when earned, approximately $3.5 million
in royalties.
The Company did not receive any grants for research and development projects
from the Israel-U.S. Binational Industrial Research and Development
Foundation ("BIRD-F") during the quarter and the six-months ended June 30,
1997. During the quarter and the six months ended June 30, 1996, the Company
received grants in the amounts of $161,000 and $391,000, respectively. The
grants are accounted for using the cost reduction method, under which
research and development expenses are decreased by the amount of the grants
obtained. The Company is not obligated to repay these grants; however, it
has agreed to pay "BIRD-F" royalties at the rate of up to 5% of sales of any
product or development resulting from such research, but not in excess of
150% of the grant. The Company did not record any royalty expense under
"BIRD-F" projects for the quarter and the six months ended June 30, 1997.
Royalty expense under "BIRD-F" grants amounted to less than $5,000 for the
quarter and six months ended June 30, 1996. As of June 30, 1997, the Company
is committed to pay, if and when earned, approximately $1.3 million in
royalties.
6. The Israeli Government, through the Fund for the Encouragement of Marketing
Activities, has, in prior periods, awarded the Company grants for
participation in marketing expenses incurred to increase export sales from
Israel. The grants were received from the government of Israel for approved
programs for marketing activities and were accounted for using the cost
reduction method, under which marketing expenses are decreased by the amount
of grants obtained. Under the terms of the marketing grants, if and
6
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MERCURY INTERACTIVE CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
when export sales from Israel to certain countries exceed historical export
sales from Israel in the base year for such grants, a royalty of 3% of the
increase in export sales from Israel must generally be paid, up to the
amount of the grant obtained. Royalty expense under these agreements
amounted to approximately $75,000 and $155,000 for the quarter and six
months ended June 30, 1997, respectively, and $40,000 and $227,000 for the
quarter and six months ended June 30, 1996, respectively. As of June 30,
1997, the Company is committed to pay, if and when earned, approximately
$395,000 in royalties.
7. In February 1997, the Financial Accounting Standards Board issued Statement
No. 128 (SFAS 128), "Earnings Per Share." The statement simplifies the
standards for computing earnings per share (EPS) previously found in APB
Opinion No. 15, "Earnings Per Share," and makes them comparable to
international EPS standards. It replaces the presentation of primary EPS
with a presentation of basic EPS. It also requires dual presentation of
basic and diluted EPS on the face of the financial statements for all
entities with complex capital structures. Basic EPS excludes dilution and
is computed by dividing income available to common stockholders by the
weighted-average number of common shares outstanding for the period.
Diluted EPS is computed similarly to fully diluted EPS under APB Opinion
No. 15. SFAS 128 becomes effective for all periods, including interim
periods, ending on or after December 15, 1997. SFAS 128 would have had an
immaterial impact on the Company's EPS computation for the periods ended
June 30, 1997 and 1996.
7
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
This Management's Discussion and Analysis of Financial Condition and Results
of Operations contains descriptions of the Company's expectations regarding
future trends affecting its business. These forward looking statements and
other forward looking statements made elsewhere in this document are made in
reliance upon the safe harbor provisions of the Private Securities Litigation
Reform Act of 1995. Please read the section below titled "Factors that may
affect future results" to review conditions which the Company believes could
cause actual results to differ materially from those contemplated by the
forward looking statements. Forward looking statements include, but are not
limited to, those items identified with a footnote (1) symbol. The Company
undertakes no obligation to update the information contained herein.
RESULTS OF OPERATIONS
Revenue
License revenue increased 32% to $12.3 million during the second quarter of
1997 from $9.4 million in the second quarter of 1996. License revenue
increased 31% to $23.6 million during the six months ended June 30, 1997 from
$18.0 million during the six months ended June 30, 1996. The Company's growth
in license revenue was primarily attributable to growth in license fees from
the LoadRunner product. License revenue in the second quarter of 1997 also
benefited from the Company's continuing expansion into alternate distribution
channels, such as referral partners, system integrators and value added
resellers. Revenue generated through alternate channels represented
approximately 45% of the license fees during both the quarter and the six
months ended June 30, 1997. Revenue generated through alternate channels
represented approximately 45% and 40% of the license fees during the quarter
and the six months ended June 30, 1996, respectively.
Service revenue increased to $5.2 million or 30% of total revenue in the
second quarter of 1997 from $2.8 million or 23% of total revenue in the second
quarter of 1996 and increased to $9.4 million, or 28% of total revenue in the
six months ended June 30, 1997, from $5.1 million, or 22% of total revenue in
the six months ended June 30, 1996. This increase in service revenue in 1997
compared to 1996 was primarily attributable to the growth of the Company's
installed customer base, the renewal of maintenance contracts and an increase
in training and consulting revenue. The Company expects that service revenue
will continue to increase in absolute dollars as long as the Company's
customer base continues to grow.(/1/)
International revenue in the quarter and the six months ended June 30, 1997
represented 36% and 35%, respectively, of total revenue. International revenue
was approximately 33% and 38% in the quarter and the six months ended June 30,
1996, respectively. The increase in international revenue resulted primarily
from increased direct sales in Europe.
Cost of revenue
License cost of revenue, as a percentage of license revenue, was 8% in both
the second quarter and six months ended June 30, 1997, respectively,
relatively unchanged from 8% and 7% in the second quarter and the six months
ended June 30, 1996. License cost of revenue consisted primarily of employee-
related costs.
Service cost of revenue, as a percentage of service revenue was 31% and 30%
in the quarter and the six months ended June 30, 1997, respectively, compared
to 29% and 28% in the quarter and the six months ended June 30, 1996,
respectively. The increased service cost of revenue in 1997 reflected
increases in technical support headcount to support the growth in the customer
base and increased outsourcing of training and consulting activities. Service
cost of revenue consisted primarily of costs of customer technical support,
education and consulting.
- --------
(1) Forward looking statement
8
<PAGE>
Research and development
Research and development expenditures, before reductions for grants,
increased to $2.9 million or 16% of total revenue in the quarter ended June
30, 1997 from $2.7 million or 22% of total revenue in the quarter ended June
30, 1996, and increased to $5.7 million or 17% of total revenue in the six
months ended June 30, 1997 from $4.9 million or 21% in the six months ended
June 30, 1996. The increase in research and development expenses was
attributable to increases in personnel-related costs, as well as depreciation
of equipment purchased to support the expanded research and development staff.
The Company capitalized $150,000 and $300,000 of software development costs
during the quarter and the six months ended June 30, 1997, respectively, and
$300,000 and $550,000 in the quarter and the six months ended June 30, 1996,
respectively, in accordance with Statement of Financial Accounting Standards
No. 86, "Accounting for the Costs of Computer Software to be Sold, Leased, or
Otherwise Marketed." At June 30, 1997, the Company had a net balance in
capitalized software development costs of approximately $1.5 million.
The Company obtained grants for research and development from the Office of
the Chief Scientist in the Israeli Ministry of Industry and Trade in the
amounts of $379,000 and $1.1 million in the quarter and the six months ended
June 30, 1997, respectively, and $450,000 and $857,000 in the quarter and the
six months ended June 30, 1996, respectively. These grants are accounted for
using the cost reduction method, under which research and development expenses
are decreased by the amounts of the grants. The Company is not obligated to
repay these grants; however, it has agreed to pay royalties at rates ranging
from 2% to 5% of product sales resulting from the research, up to the amount
of the grants obtained and, for certain grants, up to 150% of the grants
obtained. Royalty expense under these agreements amounted to approximately
$519,000 and $933,000 for the quarter and the six months ended June 30, 1997,
respectively, and $300,000 and $530,000 for the quarter and the six months
ended June 30, 1996, respectively. As of June 30, 1997, the Company is
committed to pay, if and when earned, approximately $3.5 million in royalties.
The Company did not receive any grants for research and development projects
from the Israel-U.S. Binational Industrial Research and Development Foundation
("BIRD-F") during the quarter and the six months ended June 30, 1997. During
the quarter and the six months ended June 30, 1996, the Company received
grants in the amounts of $161,000 and $391,000, respectively. The grants are
accounted for using the cost reduction method, under which research and
development expenses are decreased by the amount of the grants obtained. The
Company is not obligated to repay these grants; however, it has agreed to pay
"BIRD-F" royalties at the rate of up to 5% of sales of any product or
development resulting from such research, but not in excess of 150% of the
grant. The Company did not record any royalty expense under "BIRD-F" projects
for the quarter and the six months ended June 30, 1997. Royalty expense under
"BIRD-F" grants amounted to less than $5,000 for the quarter and the six
months ended June 30, 1996. As of June 30, 1997, the Company is committed to
pay, if and when earned, approximately $1.3 million in royalties.
The Company intends to continue making significant expenditures on research
and development to develop new products and expand the platforms and operating
systems on which its products are offered.(/1/) While the Company believes
that these current research and development expenditures will be beneficial in
the long term development of its business, there can be no assurances that the
development of products will be successful. Research and development
expenditures are incurred substantially in advance of related revenue and in
some cases do not result in the generation of revenue.
Marketing and selling
Marketing and selling expenses increased to $9.0 million, or 52% of total
revenue, and $17.2 million, or 52% of total revenue, in the quarter and the
six months ended June 30, 1997, respectively, from $7.3 million, or 60% of
total revenue, and $13.9 million, or 60% of total revenue, in the quarter and
the six months ended June
- --------
(1) Forward looking statement
9
<PAGE>
30, 1996, respectively. The Company expects marketing and selling to increase
in absolute dollars as total revenues increase, but such expenses may vary as a
percentage of revenue.(/1/)
In prior years, the Company received grants from the Government of Israel
through the Fund for the Encouragement of Marketing Activities ("the Marketing
Fund") which were used to offset marketing expenses in the years received.
Under the terms of the marketing grants, if and when export sales from Israel
to certain countries exceed a predetermined base of historical export sales
from Israel, a royalty of 3% of the increase in export sales from Israel must
generally be paid, up to the amount of the grants obtained. Royalty expense
under these agreements amounted to approximately $75,000 and $155,000 in the
quarter and the six months ended June 30, 1997, respectively, and $40,000 and
$227,000 in the quarter and the six months ended June 30, 1996, respectively.
As of June 30, 1997, the Company is committed to pay, if and when earned,
approximately $395,000 in royalties.
General and administrative
General and administrative expenses increased to $1.6 million, or 9% of total
revenue, and $3.0 million, or 9% of total revenue, in the quarter and the six
months ended June 30, 1997, respectively, from $1.1 million, or 9% of total
revenue, and $1.9 million, or 8% of total revenue, in the quarter and the six
months ended June 30, 1996, respectively. The increase reflected infrastructure
investments to support the growth of the Company, including increases in
personnel-related costs and increased costs related to worldwide information
systems, telecommunications and insurance.
Other income, net
Other income, net consisted primarily of interest income. In the quarter and
the six months ended June 30, 1997 and June 30, 1996, the Company earned
interest income on its investments in money market accounts and marketable
securities, which consisted of investments in high-quality financial,
government and corporate institutions. The increase in other income, net to
$846,000 in the quarter ended June 30, 1997 from $776,000 in the quarter ended
June 30, 1996 resulted primarily from a higher average investment balance.
Provision for income taxes
The Company has accounted for income taxes in accordance with the provisions
of Statement of Financial Accounting Standards No. 109, "Accounting for Income
Taxes". The Company recorded tax expense of $535,000 and $981,000 in the
quarter and the six months ended June 30, 1997, respectively, compared to
$198,000 and $35,000 in the quarter and the six months ended June 30, 1996,
respectively.
The Company participates in special programs sponsored by the government of
Israel relating to taxation. Future provisions for taxes will depend upon the
mix of worldwide income and the tax rates in effect for various tax
jurisdictions.
Net income
The Company reported net income of $2.1 million and $3.9 million in the
quarter and the six months ended June 30, 1997, respectively, compared to net
income of $780,000 and $130,000 in the quarter and the six months ended June
30, 1996, respectively. The Company's operating expenses are based, in part, on
its expectations of future revenues, and expenses are generally incurred in
advance of revenues. The Company plans to continue to expand and increase its
operating expenses to support anticipated revenue growth.(/1/) If revenue does
not materialize in a quarter as expected, the Company's results from operations
for that quarter are likely to be materially adversely affected. Net income may
be disproportionately affected by a reduction in revenue because only a small
portion of the Company's expenses varies with its revenue.
- --------
(1) Forward looking statement
10
<PAGE>
Inflation
Inflation has not had a significant impact on the Company's operating
results to date, nor does the Company expect it to have a significant impact
during the year.(/1/)
Factors that may affect future results
The Company has identified certain forward looking statements in the
Management's Discussion and Analysis of Financial Condition and Results of
Operations with a footnote (1) symbol. The Company may also make oral forward
looking statements from time to time. Actual results may differ materially
from those projected in any such forward looking statements due to a number of
factors, including those set forth below and elsewhere in this Form 10-Q.
The Company operates in a dynamic and rapidly changing environment that
involves numerous risks and uncertainties. The following section lists some,
but not all, of those risks and uncertainties which may have a material
adverse effect on the Company's business, financial condition or results of
operations. This section should be read in conjunction with the unaudited
Condensed Consolidated Financial Statements and Notes thereto included in Part
I--Item 1 of this Quarterly Report on Form 10-Q and the audited Consolidated
Financial Statements and Notes thereto and Management's Discussion and
Analysis of Financial Condition and Results of Operations for the year ended
December 31, 1996, contained in the Company's 1996 Annual Report to
Stockholders on Form 10-K.
The market for software products is generally characterized by rapidly
changing technology, frequent new product introductions and changes in
customer requirements, which can render existing products obsolete or
unmarketable. The Company believes that a major factor in its future success
will be its ability to continue to develop and introduce in a timely and cost-
effective manner enhancements to its existing products and new products that
will gain market acceptance. There can be no assurance that the Company will
be able to identify, develop, manufacture, market or support new products or
enhancements successfully, that any such new products or enhancements will
gain market acceptance, or that the Company will be able to respond
effectively to technological changes. There can be no assurance that the
Company will not encounter technical or other difficulties that could delay
introduction of new products in the future. If the Company is unable to
introduce new products or enhancements and respond to industry changes on a
timely basis, its business could be materially adversely affected.
On August 11, 1997, the Company announced its intent to purchase certain
technologies which will be integrated into its next version of load-testing
products. These transactions are currently anticipated to close in the third
quarter of 1997, subject to negotiation of definitive agreements and customary
conditions of closing, including certain approvals. As a result of these
purchases, the Company expects to take a one-time charge for in-process
research and development expense and related charges of approximately $5
million in its statement of operations in the third quarter of 1997. There can
be no assurance that the Company will complete the proposed acquisitions, will
be successful in its efforts to integrate the acquired technologies or will
not incur additional charges in subsequent quarters to reflect costs
associated with the acquisitions. Although the Company believes the proposed
acquisitions described above are in the best interests of the Company and its
stockholders, there are significant risks involved with these transactions,
including, but not limited to, difficulties or delays in achieving product and
technology integration benefits and difficulties in maintaining revenue levels
during transitions to new products.
The market for the automated software testing products is relatively new and
undeveloped. Marketing and sales techniques in the automated software testing
marketplace, as well as the bases for competition, are not well established.
There can be no assurance that a significant market for automated software
testing products will be developed or that the Company's products will be
accepted in any expanded market. Although the Company
- --------
(1) Forward looking statement
11
<PAGE>
believes that the current trend toward increased use of automated software
testing will continue, a majority of software testing is still carried out
manually, and there can be no assurance that the automated software market
will enjoy continued growth.
The Company's current products and products under development are limited in
number and concentrated exclusively in the software testing market. The life
cycles of the Company's products are difficult to estimate due, in large
measure, to the recent emergence of the Company's market as well as the
unknown future effect of product enhancements and competition. Price
reductions or declines in demand for the Company's software testing products,
whether as a result of competition, technological change or otherwise, would
have a material adverse effect on the Company's results of operations or
financial position.
The Company may from time to time experience significant fluctuation in
quarterly operating results due to a variety of factors. Such fluctuations in
quarterly operating results may occur in the future due to many factors, some
of which are outside of the Company's control. Products are generally shipped
as orders are received, and, consequently, quarterly sales and operating
results depend primarily on the volume and timing of orders received during
the quarter, which are difficult to forecast. In particular, the Company has
historically received a substantial portion of its orders at the end of a
quarter, up to and including the last day of a quarter. If an unanticipated
order shortfall occurs at the end of a quarter, the Company's operating
results for the quarter could be materially adversely affected. In addition,
product orders are affected by the buying patterns of customers and the
potential budgetary impact of Year 2000 remediation efforts on the buying
trends of customers. A significant portion of the Company's operating expenses
are relatively fixed, and planned expenditures are based on sales forecasts.
All of the foregoing may result in unanticipated quarterly earning shortfalls
or losses. Accordingly, the Company believes that period-to-period comparisons
of its results of operations are not necessarily meaningful and should not be
relied upon as indications of future performance.
The Company faces direct competition from several public and privately-held
companies. The market for software products, in general, is highly competitive
and the Company faces competition from established and emerging companies. In
the past year, a number of the Company's competitors have consolidated through
acquisitions. There could be a material adverse effect on the Company's
results of operations or financial position if any of the major software
manufacturers, which have significantly greater resources than the Company,
decided to devote substantial resources to entering the software testing
market or if there is an increase in developing testing utilities internally
by the Company's customers or potential customers. A variety of external and
internal factors could materially adversely affect the Company's ability to
compete. These include the relative functionality, price, performance and
reliability of the products offered by the Company and its competitors, the
timing and success of new product development or enhancement efforts of the
Company and its competitors, and the effectiveness of the marketing efforts of
the Company and its competitors. There can be no assurance that the Company
will be able to compete successfully in the future or that competitive
pressures will not materially adversely affect the Company's business.
Sales to customers located outside the United States have historically
accounted for a significant percentage of revenue and the Company anticipates
that such sales will continue to be a significant percentage of the Company's
total revenue. Accordingly, such factors as currency fluctuations, political
and economic instability and trade restrictions could have a negative impact
on the Company's financial performance. The Company is continuing to
strengthen its European sales organization in order to enhance that
organization's contribution to revenue. However, the success of these efforts
is not assured and depends, in part, on the Company's ability to develop and
retain successful sales personnel in that region. If European revenue does not
materialize in a quarter as expected, the Company's results from operations
for that quarter are likely to be materially adversely affected. A significant
portion of the Company's operating expenses are relatively fixed, and planned
expenditures are based on sales forecasts. All of the foregoing may result in
unanticipated quarterly earning shortfalls or losses.
Certain of the Company's sales are made in currencies other than the U.S.
Dollar and its financial results are reported in U.S. Dollars. Fluctuations in
the rates of exchange between the U.S. Dollar and other currencies
12
<PAGE>
may have a material adverse effect on the Company's results of operations and
financial position. To date, the Company has not hedged against currency
translation risks.
As part of its growth strategy, the Company may from time to time acquire or
invest in complementary businesses, products or technologies. While there are
currently no commitments with respect to any particular acquisition, except as
described above, the Company's management frequently evaluates the strategic
opportunity available related to complimentary products, technologies or
businesses. The process of integrating an acquired company's business into the
Company's operations may result in unforeseen operating difficulties and
expenditures and may absorb significant management attention that would
otherwise be available for the ongoing development of the Company's business.
Moreover, there can be no assurance that the anticipated benefits of any
acquisition will be realized. Future acquisitions by the Company could result
in potentially dilutive issuances of equity securities, the incurrence of debt
and contingent liabilities, amortization expenses related to goodwill and
other intangible assets, any of which could materially adversely affect the
Company's operating results and financial condition.
Since its inception, the Company has obtained royalty-bearing grants from
various Israeli government agencies. While the Company expects to receive
additional grants in the future, any such grants will likely decline as a
percentage of gross research and development spending and there can be no
assurance that the Company will receive any such grants. Termination or
substantial reduction of such grants or changes in revenue classification
could have a material adverse effect on the Company. The terms of certain
grants prohibit the manufacture of products developed under these grants
outside of Israel and the transfer of technology developed pursuant to the
terms of these grants to any person, without the prior written consent of the
government of Israel. As a result, if the Company is unable to obtain the
consent of the government of Israel, the Company may not be able to take
advantage of strategic manufacturing and other opportunities outside of
Israel.
Since 1991, the Company has experienced significant annual increases in
revenue. This growth has placed and, if it continues, will place a significant
strain on the Company's management, resources and operations. To accommodate
its recent growth, the Company is implementing a variety of new or expanded
business and financial systems, procedures and controls, including the
improvement of its accounting and other internal management systems. There can
be no assurance that the implementation of such systems, procedures and
controls can be completed successfully, or without disruption of the Company's
operations. If the Company's growth continues, the Company will be required to
hire and integrate substantial numbers of new employees. The market has become
increasingly competitive both in the United States and Israel and may require
the Company to pay higher salaries. The Company's failure to manage growth
effectively could have a material adverse effect on the Company's results of
operations or financial position.
The Company's success depends to a significant extent on the performance of
its senior management and certain key employees. Competition for highly
skilled employees, including sales, technical and management personnel, is
intense in the computer industry. The Company's failure to attract additional
qualified employees or to retain the services of key personnel could
materially adversely affect the Company's business.
The Company currently relies on a combination of trademark, copyright and
trade secret laws and contractual provisions to protect its proprietary rights
in its products. The Company presently has no registered copyrights. The
Company holds one patent for an element contained in certain of its products,
and it has filed several other U.S. and foreign patent applications on various
elements of its products. There can be no assurance that any of the Company's
patent applications will result in an issued patent or that, if issued, such
patent would be upheld if challenged. There can be no assurance that the
Company's competitors will not independently develop technologies that are
substantially equivalent or superior to the Company's technology. There can
also be no assurance that the measures taken by the Company to protect its
propriety rights will be adequate to prevent misappropriation of the
technology or independent development by others of similar technology. In
addition, the laws of various countries in which the Company's products may be
sold may not protect the Company's products and intellectual property rights
to the same extent as the laws of the United States. There can be no assurance
that third parties will not assert intellectual property infringement claims
against the Company or that any such
13
<PAGE>
claims will not require the Company to enter into royalty or cross-license
arrangements or result in costly litigation.
In selling its products, the Company frequently relies on "shrink wrap"
licenses that are not signed by licensees. The provisions in such licenses
limiting the Company's exposure to potential product liability claims may
therefore be unenforceable under the laws of certain jurisdictions. Although,
the Company has carried errors and omissions insurance against such claims,
there can be no assurance that such insurance will continue to be available on
acceptable terms, if at all, or that such insurance will provide the Company
with adequate protection against any such claims. Although the Company has not
experienced any product liability claims to date, the sale and support of
products by the Company may entail the risk of such claims. A significant
product liability claim against the Company could have a material adverse
effect upon the Company's business, financial condition and results of
operations.
The Company's stock price, like that of other technology companies, is
subject to significant volatility. Past financial performance should not be
considered a reliable indicator of future performance, and investors should
not use historical trends to anticipate results or trends in future periods.
If revenues or earnings in any quarter fail to meet expectations of the
investment community, there could be an immediate and significant impact on
the Company's stock price. In addition, the Company's stock price may be
affected by broader market trends that may be unrelated to the Company's
performance.
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the recorded amounts of assets and liabilities,
disclosure of those assets and liabilities at the date of the financial
statements and the recorded amounts of expenses during the reporting period. A
change in the facts and circumstances surrounding these estimates could result
in a change to the estimates and impact future operating results.
Liquidity and Capital Resources
Cash, cash equivalents and investments increased to $87.5 million at June
30, 1997 from $80.0 million at December 31, 1996. The Company generated
approximately $8.7 million in cash from operations due primarily to profits
from operations and increases in the accounts payable and accrued liability
balances arising from the timing of payments. In addition, in the quarter
ended June 30, 1997, the Company received $1.8 million from the issuance of
Common Stock under employee stock option and purchase plans. The Company's
short-term and long-term investments consist of investments in high-quality
financial, government and corporate securities.
In the quarter ended June 30, 1997, the Company began construction of a
research and development facility on land previously purchased in Israel. As
of June 30, 1997, the Company had expenditure commitments of approximately
$700,000 related to this construction. The Company expects to make additional
capital expenditures of approximately $10.0 million for the facility over the
next eighteen months.(/1/)
In August 1997, the Company purchased a new headquarters building in
Sunnyvale, California for approximately $6.5 million. The Company expects to
make additional capital expenditures of approximately $1.5 million for
improvement of the facility before relocating in late 1997 or in early
1998.(/1/)
On August 11, 1997, the Company announced its intent to purchase certain
technologies which will be integrated into its next version of load-testing
products. As a result of these purchases, the Company expects to take a one-
time charge for in-process research and development expense and related
charges of approximately $5 million in its statement of operations in the
third quarter of 1997.
Assuming there is no significant change in the Company's business, the
Company believes that its current cash and investment balances and cash flow
from operations, will be sufficient to fund the Company's cash needs for at
least the next twelve months.(/1/)
- --------
(1) Forward looking statement
14
<PAGE>
MERCURY INTERACTIVE CORPORATION
PART II.OTHER INFORMATION
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF STOCKHOLDERS
(a) The 1997 Annual Meeting of the Stockholders of Mercury Interactive
Corporation was held at the Company's offices at 470 Potrero
Avenue, Sunnyvale, California 94086 on April 30, 1997 at 2:00 p.m.
(b) At the Annual Meeting, the following five persons were elected to
the Company's Board of Directors, constituting all members of the
Board of Directors.
<TABLE>
<CAPTION>
BROKER NON-
NOMINEE VOTES VOTES
------- ---------- -----------
<S> <C> <C>
Aryeh Finegold...................................... 12,194,253 200,269
Igal Kohavi......................................... 12,195,653 198,869
Amnon Landan........................................ 12,194,483 200,039
Yair Shamir......................................... 12,194,753 199,769
Giora Yaron......................................... 12,194,783 199,739
</TABLE>
(c) The following additional proposal was considered at the Annual
Meeting and was approved according to the respective vote of the
stockholders:
Ratification and approval of the appointment of Price Waterhouse LLP
as independent accountants of the Company for the year ending
December 31, 1997.
<TABLE>
<CAPTION>
CAST FOR AGAINST ABSTENTIONS BROKER NON-VOTES
-------- ------- ----------- ----------------
<S> <C> <C> <C>
12,376,432 8,375 9,715 0
</TABLE>
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
<TABLE>
<C> <C> <S>
(a) 11.1 - Computation of net income per common share for the three months
and the six months ended June 30, 1997.
27 - Financial Data Schedule.
</TABLE>
(b) No reports on Form 8-K were filed during the quarter ended June 30,
1997.
15
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Date: August 11, 1997 MERCURY INTERACTIVE CORPORATION
(Registrant)
/s/ Sharlene Abrams
_____________________________________
Sharlene Abrams
Vice-President of Finance and
Administration, Chief Financial
Officer and Secretary
(Principal Financial and Accounting
Officer)
16
<PAGE>
INDEX TO EXHIBITS
<TABLE>
<CAPTION>
EXHIBIT
NO. DESCRIPTION
------- -----------
<C> <S>
11.1 Computation of net income per common share
27 Financial Data Schedule
</TABLE>
17
<PAGE>
EXHIBIT 11.1
MERCURY INTERACTIVE CORPORATION
COMPUTATION OF NET INCOME (LOSS) PER COMMON
AND COMMON EQUIVALENT SHARE
(PRIMARY AND FULLY DILUTED)
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
Three months ended Six months ended
June 30, June 30,
1997 1996 1997 1996
------- ------- ------- -------
<S> <C> <C> <C> <C>
Weighted average common shares outstanding 16,267 15,837 16,202 15,798
Weighted average common equivalent shares from dilutive
options 734 727 621 770
------- ------- ------- -------
Weighted average common shares and equivalents 17,001 16,564 16,823 16,568
======= ======= ======= =======
Net income $ 2,142 $ 780 $ 3,927 $ 130
======= ======= ======= =======
Net income per share $ 0.13 $ 0.05 $ 0.23 $ 0.01
======= ======= ======= =======
</TABLE>
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-START> APR-01-1997
<PERIOD-END> JUN-30-1997
<CASH> 43,761
<SECURITIES> 41,515
<RECEIVABLES> 20,888
<ALLOWANCES> 1,950
<INVENTORY> 646
<CURRENT-ASSETS> 111,410
<PP&E> 20,337
<DEPRECIATION> 8,904
<TOTAL-ASSETS> 126,598
<CURRENT-LIABILITIES> 22,059
<BONDS> 0
0
0
<COMMON> 33
<OTHER-SE> 104,506
<TOTAL-LIABILITY-AND-EQUITY> 126,598
<SALES> 17,500
<TOTAL-REVENUES> 17,500
<CGS> 2,604
<TOTAL-COSTS> 2,604
<OTHER-EXPENSES> 13,065
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 0
<INCOME-PRETAX> 2,677
<INCOME-TAX> 535
<INCOME-CONTINUING> 2,142
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 2,142
<EPS-PRIMARY> 0.13
<EPS-DILUTED> 0.13
</TABLE>
