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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 March 31, 1998 or
[ ] 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: 0-20710
PEOPLESOFT, INC.
(Exact name of registrant as specified in its charter)
Delaware 68-0137069
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
4440 Rosewood Drive, Pleasanton, CA 94588
(Address of principal executive officers) (Zip Code)
Registrant's telephone number, including area code:
(925) 694-3000
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes [X] No [ ]
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date:
CLASS OUTSTANDING AT MARCH 31, 1998
----- -----------------------------
Common Stock, par value $.01 226,654,724
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PEOPLESOFT, INC.
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE NO.
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<S> <C> <C>
PART I FINANCIAL INFORMATION
ITEM 1 - Financial Statements (unaudited)
Condensed Consolidated Balance Sheets as of December 31, 1997 and March 3
31, 1998
Condensed Consolidated Statements of Income for the Three Months Ended
March 31, 1997 and March 31, 1998 4
Condensed Consolidated Statements of Cash Flows for the Three Months Ended
March 31, 1997 and March 31, 1998 5
Notes to Condensed Consolidated Financial Statements 6
ITEM 2 - Management's Discussion and Analysis of Financial Condition and 8
Results of Operations
PART II OTHER INFORMATION
ITEM 1 - Legal Proceedings 23
ITEM 2 - Changes in Securities and Use of Proceeds 23
ITEM 3 - Defaults upon Senior Securities 23
ITEM 4 - Submission of Matters to a Vote of Security Holders 23
ITEM 5 - Other Information 23
ITEM 6 - Exhibits and Reports on Form 8 - K 23
SIGNATURES 24
</TABLE>
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PART I - FINANCIAL INFORMATION
ITEM 1 - FINANCIAL STATEMENTS
PEOPLESOFT, INC.
----------------
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands)
(unaudited)
<TABLE>
<CAPTION>
DECEMBER 31, MARCH 31,
1997 1998
------------ ------------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 267,897 $ 300,635
Short term investments 124,565 120,571
Accounts receivable, net 299,243 335,730
Deferred income taxes 25,320 26,482
Other current assets 9,021 18,389
------------ ------------
Total current assets 726,046 801,807
Property and equipment, at cost 195,667 208,542
Less accumulated depreciation and amortization (78,492) (90,194)
------------ ------------
117,175 118,348
Investments 26,783 43,310
Deferred income taxes 7,371 7,371
Capitalized software, less accumulated amortization 9,706 9,384
Other assets 11,255 10,560
------------ ------------
$ 898,336 $ 990,780
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable and accrued liabilities $ 63,508 $ 77,403
Accrued compensation and related expenses 67,486 72,106
Income taxes payable 22,370 10,860
Deferred revenue 327,668 359,085
------------ ------------
Total current liabilities 481,032 519,454
Stockholders' equity:
Common stock 2,237 2,267
Additional paid-in capital 219,005 239,534
Accumulated foreign currency translation adjustment (1,292) (1,583)
Retained earnings 197,354 231,108
------------ ------------
417,304 471,326
------------ ------------
$ 898,336 $ 990,780
============ ============
</TABLE>
See notes to condensed consolidated financial statements
3
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PEOPLESOFT, INC.
----------------
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(In thousands, except per share amounts)
(unaudited)
<TABLE>
<CAPTION>
THREE MONTHS ENDED
MARCH 31,
--------------------------
1997 1998
-------- --------
<S> <C> <C>
Revenues:
License fees $ 83,413 $136,934
Services 70,241 140,740
-------- --------
Total revenues 153,654 277,674
Costs and expenses:
Cost of license fees 4,441 11,196
Cost of services 43,609 86,704
Sales and marketing 44,418 72,690
Product development 25,258 42,861
General and administrative 8,724 13,228
-------- --------
Total costs and expenses 126,450 226,679
-------- --------
Operating income 27,204 50,995
Other income, interest expense and other 2,039 3,486
-------- --------
Income before income taxes 29,243 54,481
Provision for income taxes 11,405 20,727
-------- --------
Net income $ 17,838 $ 33,754
======== ========
Basic income per share $ 0.08 $ 0.15
======== ========
Shares used in basic per share computation 216,495 225,402
======== ========
Diluted income per share $ 0.07 $ 0.13
======== ========
Shares used in diluted per share computation 247,693 256,331
======== ========
</TABLE>
See notes to condensed consolidated financial statements
4
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PEOPLESOFT, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(unaudited)
<TABLE>
<CAPTION>
THREE MONTHS ENDED
MARCH 31,
-----------------------------
1997 1998
--------- ---------
<S> <C> <C>
OPERATING ACTIVITIES
Net income $ 17,838 $ 33,754
Adjustments:
Depreciation and amortization 9,181 12,760
Provision for doubtful accounts 160 1,771
Provision for deferred income taxes (3,730) 1,163
Changes in operating assets and liabilities:
Accounts receivable (577) (38,258)
Other current assets and noncurrent assets (4,513) (8,673)
Accounts payable and accrued liabilities (8,361) 13,895
Accrued compensation and related expenses 135 4,620
Deferred revenue 21,641 31,417
Income taxes payable 7,783 (13,835)
Tax benefits from employee stock transactions 866 2,177
--------- ---------
Net cash provided by operating activities 40,423 40,791
INVESTING ACTIVITIES
Purchase of investments (22,214) (66,185)
Sale of investments 4,078 53,652
Purchase of property and equipment (8,821) (12,875)
Additions to capitalized software, net (410) (736)
--------- ---------
Net cash used in investing activities (27,367) (26,144)
FINANCING ACTIVITIES
Net proceeds from sale of common stock and
exercise of common stock options 7,508 18,382
--------- ---------
Net cash provided by financing activities 7,508 18,382
Effect of foreign exchange rate changes on cash (870) (291)
--------- ---------
Net increase in cash and cash equivalents 19,694 32,738
Cash and cash equivalents at beginning of period 169,875 267,897
--------- ---------
Cash and cash equivalents at end of period $ 189,569 $ 300,635
========= =========
</TABLE>
See notes to condensed consolidated financial statements
5
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PEOPLESOFT, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 1998
(UNAUDITED)
1. BASIS OF PRESENTATION
The information at March 31, 1997 and 1998 and for the three month periods
then ended is unaudited, but includes all adjustments (consisting only of
normal, recurring adjustments) which the Company's management believes to be
necessary for the fair presentation of the financial position, results of
operations, and changes in cash flows for the periods presented. The preparation
of financial statements in conformity with generally accepted accounting
principles requires management to make estimates and assumptions that affect the
reported amounts of assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the reported
period. Despite management's best effort to establish good faith estimates and
assumptions, and to manage the achievement of the same, actual results may
differ.
The accompanying interim financial statements should be read in
conjunction with the financial statements and related notes included in the
Company's Annual Report to Shareholders (Form 10-K) for the year ended December
31, 1997. Certain information and footnote disclosures normally included in
annual financial statements prepared in accordance with generally accepted
accounting principles have been condensed or omitted pursuant to the Securities
and Exchange Commission rules and regulations. Interim results of operations for
the three month period ended March 31, 1998 are not necessarily indicative of
operating results for the full fiscal year.
2. PER SHARE DATA
Share amounts for all prior periods presented reflect restatement for the
two-for-one stock split in December 1997. Basic income per share is computed
using the weighted average number of common shares outstanding during the
period. Diluted income per share is computed using the weighted average number
of common and dilutive common equivalent shares outstanding during the period.
Common equivalent shares consist of the shares issuable upon the exercise of
stock options and warrants (using the treasury stock method). The following
table sets forth the computation of basic and diluted income per share for the
three months ended March 31, (in thousands except per share amounts):
<TABLE>
<CAPTION>
1997 1998
-------- --------
<S> <C> <C>
Numerator:
Net income $ 17,838 $ 33,754
======== ========
Denominator:
Denominator for basic income per share -
weighted average shares 216,495 225,402
Employee stock options 28,787 27,026
Warrants 2,411 3,903
-------- --------
Denominator for diluted income per share -
adjusted weighted average shares and
assumed conversions 247,693 256,331
======== ========
Basic income per share $ 0.08 $ 0.15
======== ========
Diluted income per share $ 0.07 $ 0.13
======== ========
</TABLE>
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3. ACCOUNTS RECEIVABLE
Accounts receivable are comprised of billed receivables arising from
recognized and deferred revenues, and unbilled receivables, which include
accrued license fees for payments not yet due and accrued services. The
principal components of accounts receivable at December 31, 1997 and March 31,
1998 were as follows (in thousands):
<TABLE>
<CAPTION>
DEC. 31, MAR. 31,
1997 1998
----------- -----------
<S> <C> <C>
Billed receivables $ 200,081 $ 226,218
Unbilled receivables 118,655 130,776
----------- -----------
318,736 356,994
Allowance for doubtful accounts (19,493) (21,264)
----------- -----------
$ 299,243 $ 335,730
=========== ===========
</TABLE>
4. DEFERRED REVENUE
Deferred revenue is comprised of deferrals for license fees, maintenance,
training and other services. The principal components of deferred revenue at
December 31, 1997 and March 31, 1998 were as follows (in thousands):
<TABLE>
<CAPTION>
DEC. 31, MAR. 31,
1997 1998
----------- ----------
<S> <C> <C>
License fees $ 71,168 $ 78,037
Maintenance 184,171 197,401
Training 46,201 52,759
Other services 26,128 30,888
----------- ----------
$ 327,668 $ 359,085
=========== ==========
</TABLE>
5. TRANSFER OF FINANCIAL ASSETS
The Company finances certain software license and service agreements with
customers through the sale, assignment and transfer of the future payments under
those agreements to financing institutions, principally on a non-recourse basis.
The Company records such transfers as sales of the related accounts receivable
when it is considered to have surrendered control of such receivables under the
provisions of Statement of Financial Accounting Standards No. 125, "Accounting
for Transfers and Servicing of Financial Assets and Extinguishments of
Liabilities."
6. COMPREHENSIVE INCOME
Comprehensive income includes changes in the balances of items that are
reported directly in a separate component of Stockholders' equity on the
Consolidated Balance Sheets. The Company had comprehensive income comprised of
accumulated foreign currency translation adjustments totaling $870,000 and
$291,000 for the three months ended March 31, 1997 and March 31, 1998,
respectively.
7
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ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
The 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 safe harbor provisions of the Private Securities Litigation Reform Act of
1995. The following discussion sets forth certain factors 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.
STATEMENT OF FUTURE DIRECTION: THIS DOCUMENT CONTAINS STATEMENTS OF FUTURE
DIRECTION CONCERNING POSSIBLE FUNCTIONALITY FOR PEOPLESOFT'S SOFTWARE PRODUCTS
AND TECHNOLOGY. ALL FUNCTIONALITY AND SOFTWARE PRODUCTS WILL BE AVAILABLE FOR
LICENSE AND SHIPMENT FROM PEOPLESOFT ONLY IF AND WHEN GENERALLY COMMERCIALLY
AVAILABLE. PEOPLESOFT DISCLAIMS ANY EXPRESS OR IMPLIED COMMITMENT TO DELIVER
FUNCTIONALITY OR SOFTWARE UNLESS OR UNTIL ACTUAL SHIPMENT OF THE FUNCTIONALITY
OR SOFTWARE OCCURS. THE STATEMENTS OF POSSIBLE FUTURE DIRECTION ARE FOR
INFORMATIONAL PURPOSES ONLY AND PEOPLESOFT MAKES NO EXPRESS OR IMPLIED
COMMITMENTS OR REPRESENTATIONS CONCERNING THE TIMING AND CONTENT OF ANY FUTURE
FUNCTIONALITY OR RELEASES.
RESULTS OF OPERATIONS
The following table sets forth, for the periods indicated, the percentage
of total revenues and the percentage of period over period growth represented by
certain line items in the Company's consolidated statements of income:
<TABLE>
<CAPTION>
FOR THE THREE MONTHS ENDED MARCH 31,
- ---------------------------------------------------------------------------------------------------------------------------
PERCENTAGE OF TOTAL REVENUES PERCENTAGE OF
- ---------------------------------------------------------- DOLLAR INCREASE
1997 1998 YEAR OVER YEAR
- ------------------------ ------------------------------ ---------------
<S> <C> <C> <C>
Revenues:
54% 49% License fees 64%
46 51 Services 100
--- ---- ----
100 100 Total revenues 81
Costs and expenses:
3 4 Cost of license fees 152
28 31 Cost of services 99
29 26 Sales and marketing 64
16 16 Product development 70
6 5 General and administrative 52
--- ---- ----
82 82 Total costs and expenses 79
--- ---- ----
18 18 Operating income 87
1 1 Other income 71
--- ---- ----
19 19 Income before income taxes 86
7 7 Provision for income taxes 82
=== ==== ====
12% 12% Net income 89%
=== ==== ====
</TABLE>
A substantial portion of the Company's cost structure is employee-related.
The breakdown of employees by functional area is as follows:
<TABLE>
<CAPTION>
EMPLOYEE COUNT PERCENTAGE OF TOTAL EMPLOYEES PERCENTAGE OF
- ----------------------------------------- ---------------------------------------- INCREASE
12/31/97 3/31/98 12/31/97 3/31/98 SINCE 12/31/97
- ------------------- -------------------- ------------------ -------------------- ------------------
<S> <C> <C> <C> <C> <C>
2,114 2,456 Services 47% 48% 16%
1,006 1,206 Sales and marketing 23 23 20
918 1,004 Product development 21 20 9
414 456 General and administrative 9 9 10
------ ------ ---- ---- --
4,452 5,122 Total 100% 100% 15%
====== ====== === === ==
</TABLE>
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REVENUES
The Company recognizes revenue when a non-cancelable license agreement has
been signed, the software product has been shipped, there are no uncertainties
surrounding product acceptance, the fees are fixed and determinable, and
collection is considered probable. For customer license agreements which meet
the Company's revenue recognition policy, the portion allocated to software
license fees will generally be recognized in the current period, while the
portion allocated to services is recognized as the services are performed. When
the Company enters into a license agreement with a customer requiring
significant customization of the software products, the Company recognizes
revenue related to the license agreement using contract accounting. The total
dollar amount of customer license agreements executed ("contracting activity")
for software license fees and services increased from $145.6 million in the
quarter ended March 31, 1997 to $218.0 million for the same period in 1998.
Contracting activity with new customers which numbered 188 comprised
approximately 66% of the total contracting activity executed for the quarter
ended March 31, 1998, compared with 132 new customers and 65% for the same
period in the prior year. Average contract size, computed by dividing the number
of new customers into total contracting activity, increased to approximately
$1.2 million in the first quarter of 1998 compared to $1.1 million in the first
quarter of 1997, reflecting the ongoing emphasis the Company is placing on
achieving more selective and larger, enterprise oriented transactions.
Revenues from licensing fees increased by 64% from $83.4 million in the
three month period ended March 31, 1997 to $136.9 million for the same period in
1998. The increase in license fee revenues was attributable to continued
increased market acceptance of, and expanded breadth of, the Company's software
product offerings and the increased capacity created by continued growth in the
Company's sales, marketing and customer service organizations.
Revenues from services increased by 100% from $70.2 million in the three
month period ended March 31, 1997 to $140.7 million for the same period in 1998.
The Company's customer license agreements provide for initial maintenance,
training, and installation services for specified periods or amounts. Therefore
increases in customer licensing agreements have resulted in increases in
revenues from these services. Service revenues as a percentage of total revenues
were 46% and 51% for the quarters ended March 31, 1997 and 1998, respectively.
The increase in the relative percentage of service revenues to total revenues in
these periods was attributable to two primary factors: increases in the
installed base of customers receiving ongoing maintenance, training and other
support services; and a significant increase in consulting revenue as a result
of expanded demand for PeopleSoft's direct assistance during enterprise
implementation projects. In response to strong market demand, the Company
continues to rapidly expand its service delivery capacity, particularly for
consulting services.
Total revenues increased from $153.7 million in the three month period
ended March 31, 1997 to $277.7 million for the same period in 1998. Total
revenue growth period over period of 81% exceeded the Company's forecasted
growth of 75%, and on a sequential basis, increased approximately 7% over the
total revenues recorded in the fourth quarter of 1997. The higher than
forecasted growth rate was due primarily to greater than forecasted service
revenues. During the quarters ended March 31, 1997 and 1998, the Company's
international revenues were approximately 17% and 15% of total revenues,
respectively. Revenues from international operations increased 56% from $26.4
million in the three month period ended March 31, 1997 to $41.2 million in the
same quarter in 1998. The dollar increase in international revenues resulted
from expanded international operations and the introduction of Release 6 which
incorporated additional global features and functionality. The Company expects
international revenues to continue to grow in absolute dollars during 1998, and
accordingly, continues to invest heavily in international infrastructure, global
product functionality and translated versions of financial and other
products(1). In particular, the upcoming Release 7.5 product (See Statement of
Future Direction) is expected to provide stronger international functionality
for European businesses, including both new country specific functionality and
support for the European monetary unit(1). In the event international expansion
and/or product globalization are not successful, the Company's business,
operating results and financial condition may be adversely affected.
COSTS AND EXPENSES
Cost of license fees consists principally of royalties, technology access
fees for certain third party software products and amortization of capitalized
software costs. Cost of license fees increased 152% from $4.4 million in the
three month period ended March 31, 1997 to $11.2 million for the same period in
1998, representing 3% and 4% of total revenues and 5% and 8% of license fee
revenues in each quarter, respectively. Royalty costs in the first quarter of
1998 included a one time $2.5 million partial buy out of royalty fees related
to the upcoming Release 7.5 product (See Statement of Future Direction). The
Company's system solutions are based on a combination of internally developed
technology and application products, as well as bundled third party software
products and technology. Cost of license fees as a percentage of license fee
revenues may fluctuate from period to period due principally to the mix of sales
of royalty-bearing software products in each period and seasonal fluctuations in
revenues contrasted with certain fixed expenses such as the amortization of
capitalized
- ----------
(1) Forward-Looking Statement
9
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software. Royalties associated with certain software products currently under
development by joint business arrangements and charges associated with software
products and technologies acquired from various third party vendors may cause
the cost of license fees as a percentage of license fee revenues to increase in
future periods.
Cost of services consists principally of account management field support,
training, consulting and product support. These costs increased 99% from $43.6
million in the three month period ended March 31, 1997 to $86.7 million for the
same period in 1998, representing 28% and 31% of total revenues in each quarter,
respectively, and 62% of service revenues in those quarters. Cost of services
increased as a percent of total revenues due to a mix shift toward relatively
more service revenues, and due to certain non-recurring expenses including those
associated with a meeting of its consulting organization. The dollar increase is
due to significant expansion of the Company's customer service resources across
all categories, including consulting, telephone support, training and account
management staff. In particular, the Company has made a significant investment
in its professional consulting services organization which has grown
substantially over the past two years in response to customer demand. The
Company anticipates cost of services will increase in dollar amount, and may
increase as a percentage of total revenues, in future periods.
Sales and marketing expenses increased by 64% from $44.4 million in the
three month period ended March 31, 1997 to $72.7 million for the same period in
1998, representing 29% and 26% of total revenues in each period, respectively.
As the Company's business mix shifts increasingly toward service revenue, the
Company expects sales and marketing expenses to decline as a percentage of total
revenues as these costs are primarily related to contracting activity. The
increase in sales and marketing expenses is attributable to the Company's
continued expansion of its direct sales force, increased commission expense
associated with higher revenue, increased depreciation from related equipment
and facility expenditures, continued investment in building an international
direct sales force and increased marketing expenses for the Company's expanded
software product offerings. The Company continues to increase its direct sales
and marketing expenditures to address certain international markets, establish
an industry focused enterprise sales force structure and fund both cross
industry and industry specific marketing and sales activities. Consequently,
such expenses may increase as a percentage of total revenues in future periods.
Product development expenses increased by 70% from $25.3 million in the
three month period ended March 31, 1997 to $42.9 million for the same period in
1998, representing 16% of total revenues in each quarter. Software product
development expenditure increases are directly attributable to increases in the
Company's staff of software engineers and consultants, and the associated
infrastructure costs required to support software product development
initiatives in the following areas: (i) expansion and enhancement of the
Company's core software product offerings in the areas of HRMS, Financial
Management Systems, and Distribution/Materials Management Systems and Supply
Chain Management software; (ii) the enhancement of the Company's platform
development, certification, software product testing and overall release
management capabilities; (iii) the continued enhancement of the Company's
client/server architecture including its software development tools and the
integration of these tools with various third party purchased or licensed
technologies; (iv) the localization and translation of certain versions of the
Company's software products for specific foreign markets; and, (v) the
development of certain vertical market products and versions of its core
products suitable to the unique needs of customers within certain industries. In
particular, the Company's development expenditure increases during 1998 are
being driven by expenditures associated with the Company's next major enterprise
application release (PeopleSoft 7.5 - See Statement of Future Direction),
expected to be available in the first half of 1998(1). The Company intends to
continue to invest significant resources in upcoming releases, and anticipates
software product development expenditures will significantly increase in future
periods due to continued incremental investment in all of the above areas, and
overall development expenditures may increase as a percentage of revenues.
General and administrative expenses increased 52% from $8.7 million in the
three month period ended March 31, 1997 to $13.2 million for the same period in
1998, representing 6% and 5% of total revenues in each quarter, respectively.
The dollar increase in general and administrative expenses resulted primarily
from increases in staffing and related infrastructure to support the Company's
growth, and increases in administrative expenses associated with the operation
of foreign subsidiaries.
Operating margins for the three month period ended March 31, 1998
increased to 18.4% compared to 17.7% for the same period last year. The 1998
first quarter operating margin percentage was higher than forecasted in the
Company's business outlook for the fourth quarter of 1997 due to lower expense
growth, primarily from lower than planned hiring, and higher revenue growth as
discussed above.
Other income, consisting primarily of interest, increased from $2.0
million in the three month period ended March 31, 1997 to $3.5 million for the
same period in 1998, primarily due to a higher balance of cash, cash equivalents
and investments. In January 1998, the Company initiated a foreign currency
transactions hedging program. The net of hedging transactions offset by foreign
currency transactions was not significant for the quarter.
- ----------
(1) Forward-Looking Statement
10
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PROVISION FOR INCOME TAXES
The Company's income tax provision increased from $11.4 million in the
three month period ended March 31, 1997 to $20.7 million for the same period in
1998. The provision for income taxes was 38% of income before taxes for the
three months ended March 31, 1998, which represents a .5% decline from the 1997
annual effective income tax rate of 38.5%. The effective tax rate is based on
management's current estimates and forecasts of the Company's taxable income in
multiple domestic and foreign taxing jurisdictions. The estimated annual
effective tax rate is relatively sensitive to the results of operations in
various jurisdictions, and because such projections may change in future
periods, the actual effective tax rate could differ from this estimate. The
Company has recorded $33.9 million in net deferred tax assets at March 31, 1998.
EARNINGS PER SHARE
The Company's earnings per share are calculated in accordance with
Statement of Financial Accounting Standards No. 128, "Earnings Per Share",
consistent with reporting for the fourth quarter of 1997. The new method
requires calculation of both a basic earnings per share and a diluted earnings
per share. The basic earnings per share excludes the dilutive effect of common
stock equivalents such as stock options and warrants, while the diluted earnings
per share includes such dilutive effects. Diluted earnings per share increased
from $ .07 in the three month period ended March 31, 1997 to $ .13 for the same
period in 1998. Earnings per share increased as a result of the 89% increase in
net income from $17.8 million for the three month period ended March 31, 1997 to
$33.8 million for the same period of 1998, partially offset by a 3% increase in
the number of shares used in the diluted per share computation from 247.7
million shares as of March 31, 1997 to 256.3 million shares as of the same date
in 1998. The increase in weighted average shares outstanding was due to the
exercise of stock options and the issuance of shares under the employee stock
purchase plan. Shares outstanding during 1998 will be impacted by the following
factors: (i) the ongoing issuance of common stock associated with stock option
exercises; (ii) the anticipated exercise during 1998 of warrants for
approximately 3.2 million shares; (iii) the issuance of common shares associated
with the Company's employee stock purchase program; (iv) any fluctuations in the
Company's stock price, which could cause changes in the number of common stock
equivalents included in the earnings per share computation; and, (v) the
issuance of common stock to affect business combinations should the Company
enter into such transactions.
LIQUIDITY AND CAPITAL RESOURCES
The Company's operating activities provided cash of $40.8 million during
the three month period ended March 30, 1998, compared to $40.4 million in the
same period in 1997. In both periods, cash provided by operating activities was
due principally to earnings and increases in deferred revenue which were
partially offset by increases in other assets and receivables. In the first
quarter of 1998, cash from operations was also provided by increases in accounts
payable and other accrued liabilities. From December 31, 1997 to March 31, 1998,
net accounts receivable increased from $299.2 million to $335.7 million,
respectively, and deferred revenues increased from $327.7 million to $359.1
million over the same period. The increase in net accounts receivable resulted
from the growth in customer licensing activity offset by cash collections.
Deferred revenue has increased as a result of the growth in customer licensing
activity and the associated deferrals of revenues related to services to be
provided to new licensees. In addition, the Company's expanded installed base
has resulted in increased deferred revenues related to ongoing maintenance and
other services. Increases in payables and other assets were due to general
growth in the Company's operations.
The Company calculates accounts receivable days sales outstanding ("DSO")
as the ratio of quarter-end accounts receivable to the sum of quarterly revenues
and the net change in quarter-end deferred revenues, multiplied by 90. The
Company believes this calculation is appropriate because license fees are
typically billable regardless of whether revenue has been recognized or
deferred. Under this method, DSO was 84 days as of March 31, 1997, 88 days as of
December 31, 1997, and 98 days as of March 31, 1998. The increase in the first
quarter of 1998 was due primarily to: (i) certain organizational and
administrative process issues, which the Company believes can be addressed
within a relatively short time frame. These issues were primarily related to a
lack of well-defined collection processes for a particular set of customers;
(ii) a relative decrease in contract execution payments received within the
quarter; and, (iii) slower collections of receivables in the Company's
Asia/Pacific region. Since billing terms of the Company's agreements typically
are spread out over a sequence of events (including contract execution through
standard acceptance) or dates that generally span four to nine months, and
contracting activity is concentrated at the end of each quarter, the Company
anticipates that its DSO will continue to be substantial in future periods.
During the first three months of 1997 and 1998, the Company's principal
use of cash for investing activities included investments and the purchase of
property and equipment, comprised of computer and network equipment, to
accommodate employee and facility expansions and to support the Company's
growing training capacity requirements.
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Financing activity for the first quarter of 1997 and 1998 related to the
proceeds from the exercise of common stock options by employees and stock
issuances under the employee stock purchase program. The Company believes
granting stock options is essential in attracting and retaining key employees
who are critical to the Company's success. The Company anticipates that it will
continue to grant a significant number of options each year. The actual number
of options granted each year is based on a variety of factors including the
Company's historical and anticipated employee count, the level of hiring
activity, competitive factors associated with the labor market, and comparison
of the Company's compensation philosophy and practice to other similar
technology companies. There can be no assurance that employee stock activity
will continue to generate substantial funds in the future.
As of March 31, 1998, the Company had $282.4 million in working capital,
including $300.6 million in cash and cash equivalents, $120.6 million in short
term investments, and $43.3 million in long term investments, consisting
primarily of high quality municipal bonds and tax-advantaged money market funds.
The Company believes that existing cash and short term investment balances,
proceeds from sales of stock under the employee purchase plan and stock option
exercises, potential proceeds from issuance of stock for warrants, and potential
cash flow from operations will be sufficient to meet its operating cash
requirements, at least through March 1999(1) .
FINANCIAL RISK MANAGEMENT
FOREIGN EXCHANGE
PeopleSoft's revenue originating outside the United States was 15% of
total revenues in the first quarter of 1998, the same as for the full year in
1997. International sales are made mostly from the Company's foreign sales
subsidiaries in the local countries and are typically denominated in the local
currency of each country. These subsidiaries also incur most of their expenses
in the local currency. Accordingly, all foreign subsidiaries use the local
currency as their functional currency.
The Company's international business is subject to risks typical of an
international business, including, but not limited to: differing economic
conditions, changes in political climate, differing tax structures, other
regulations and restrictions, and foreign exchange rate volatility. Accordingly,
the Company's future results could be materially adversely impacted by changes
in these or other factors.
The Company's exposure to foreign exchange rate fluctuations arise in part
from intercompany accounts in which cost of software, including certain
development costs, incurred in the United States is charged to the Company's
foreign sales subsidiaries. These intercompany accounts are typically
denominated in the functional currency of the foreign subsidiary in order to
centralize foreign exchange risk with the parent company in the United States.
The Company is also exposed to foreign exchange rate fluctuations as the
financial results of foreign subsidiaries are translated into U.S. Dollars in
consolidation. As exchange rates vary, these results, when translated, may vary
from expectations and adversely impact overall expected profitability.
In the first quarter of 1998, the Company initiated a hedging program
designed to mitigate the potential for future adverse impact due to changes in
foreign exchange rates. The program uses forward foreign exchange contracts as
the vehicle for hedging these intercompany balances. In general, these forward
foreign exchange contracts have three months or less to maturity. Gains and
losses on these hedges are recorded in Other income and offset against losses
and gains on the underlying exposures. Management of the foreign exchange
hedging program is done in accordance with a corporate policy approved by the
Company's Board of Directors.
At March 31, 1998, hedge positions totaled U.S. Dollar 11.6 million
equivalent. All hedge positions are carried at fair value and all hedge
positions had maturity dates within three months.
INTEREST RATES
The Company invests its cash in a variety of financial instruments,
including bank time deposits, and taxable and tax-advantaged variable rate and
fixed rate obligations of corporations, municipalities, and local, state and
national governmental entities and agencies. These investments are denominated
in U.S. Dollars. Cash balances in foreign currencies overseas are operating
balances and are invested in short term time deposits of the local operating
bank.
Interest income on the Company's investments is carried in Other income. The
Company accounts for its investment instruments in accordance with Statement of
Financial Accounting Standards No. 115, "Accounting for Certain Investments in
Debt and Equity
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(1) Forward-Looking Statement
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Securities" ("SFAS 115"). All of the cash equivalent, short term, and long term
investments are treated as available-for-sale under SFAS 115.
Investments in both fixed rate and floating rate interest earning
instruments carries a degree of interest rate risk. Fixed rate securities may
have their fair market value adversely impacted due to a rise in interest rates,
while floating rate securities may produce less income than expected if interest
rates fall. Due in part to these factors, the Company's future investment income
may fall short of expectations due to changes in interest rates or the Company
may suffer losses in principal if forced to sell securities which have seen a
decline in market value due to changes in interest rates.
The Company's investments are made in accordance with an investment policy
approved by the Board of Directors. At March 31, 1998, the average maturity of
the Company's investment securities was roughly four months. No investment
securities had maturities exceeding two years. The following table presents
certain information about the Company's financial instruments held at March 31,
1998 that are sensitive to changes in interest rates. These instruments are not
leveraged and are held for purposes other than trading. For available-for-sale
investment securities, the table presents principal cash flows and related
weighted average interest rates by expected maturity dates. The Company believes
its available-for-sale securities, comprised of highly liquid debt securities of
corporations, municipalities, and the U.S. Government, are similar enough to
aggregate. Because of the Company's effective tax rate, the Company finds it
advantageous to invest largely in tax-advantaged securities, therefore the
average interest rates below are most comparable to tax-exempt interest rates.
Below is a tabular presentation of the maturity profile of the
available-for-sale investment securities held by the Company at March 31, 1998:
<TABLE>
<CAPTION>
INTEREST RATE SENSITIVITY
PRINCIPAL AMOUNT BY EXPECTED MATURITY
WEIGHTED AVERAGE INTEREST RATE
FAIR VALUE
(DOLLARS IN MILLIONS) 1 YEAR OR LESS MORE THAN 1 YEAR TOTAL 3/31/98
- ---------------------------------------------- ------------------ ------------------ -------------- ------------------
<S> <C> <C> <C> <C>
Available-for-sale securities $257.1 $43.3 $300.4 $300.4
Weighted average interest rate 4.0% 4.0%
</TABLE>
The Company is not an issuer of any corporate debt nor does it have any
bank borrowings outstanding.
BUSINESS OUTLOOK
The following forward-looking statements are based on current expectations
which are subject to material change due to a variety of factors including but
not limited to, those which are listed below and in the section titled "Factors
That May Affect Future Results". These forward-looking statements and other
forward-looking statements made elsewhere in this document are made in reliance
upon safe harbor provisions of the Private Securities Litigation Reform Act of
1995. 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.
- Based on its current expectations of contracting activity, and an
analysis of the Company's service delivery capacity and the expected
customer utilization of such services, the Company expects total
revenues for the second quarter of 1998 to increase approximately
65% over total revenues recorded in the same quarter of the prior
year(1). For the 1998 calendar year, the Company expects total
revenues to increase between 55% and 65% over the total revenues
recorded in the 1997 calendar year(1). As with any forecast, actual
results could vary within a few percentage points on either side of
these estimates even if there are no material changes to the
underlying assumptions, and longer term forecasts can be expected to
have relatively higher variability. The key assumptions on which
this forecast is based include, but are not limited to, the
following: (i) total actual available market opportunities must be
reasonably consistent with those forecasted by certain major
information technology market research firms; (ii) the preservation
of the Company's ability to generate a sufficient number of
qualified leads through its ongoing marketing programs; (iii) an
increase in the Company's direct sales capacity through the
successful recruitment, hiring, training and retention of additional
sales and sales support personnel; (iv) no significant adverse
changes in the competitive landscape; and (v) the continued demand
for the Company's applications as an alternative to modification of
legacy systems where prospects have issues relating to data
processing in the Year 2000. In addition, the achievement of
expected contracting activity and total revenues is highly dependent
upon the Company's ability to successfully manage the potential
risks detailed below in the section titled "Factors That May Affect
Future Results" including, but not limited to, fluctuations in
quarterly operating results; changes in customer demand; the timing
and complexity of large transactions including the bundling of
significant amounts of professional services; ability to recognize
contracting activity in
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(1) Forward-Looking Statement
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the current quarter under revenue recognition accounting rules;
success of international operations; reliance on third parties for
sales, marketing and implementation assistance; timing and
acceptance of software products and product development; and the
ability to execute hiring and facility expansion plans.
- The Company's operating model is based on a rolling four quarter
target operating margin of between 18% and 20%. The Company expects
that the 1998 full year results will fall within this range and
anticipates that the second quarter operating margin, consistent
with seasonal patterns, will come in around the low end of this
range(1). Due to the significant operating leverage which is
characteristic of the software industry, any deviation in the
expected revenues could significantly impact the Company's ability
to meet the target operating margins. Achievement of forecasted
operating margins is highly dependent upon the Company's ability to
successfully manage the potential risks detailed below in the
section titled "Factors That May Affect Future Results" including,
but not limited to, achievement of revenue forecasts as discussed
above; continued introduction and marketing of new and enhanced
versions of software products; successful penetration of
international markets; continued acceptance of the Company's
software products, particularly its proprietary software development
tools; successful porting and acceptance of its software products on
a variety of platforms; continued acceptance of its application
security architecture and intellectual property, preservation of its
proprietary rights and product liability protections; and continued
success in hiring, training and retaining key personnel and
completing expansion of facilities.
- Based on projected cash and investment balances, constant interest
rates and no unusual items of other income or expense, the Company
expects other income on a quarterly basis to remain flat to slightly
higher in absolute dollars compared to the first quarter of 1998(1).
The achievement of forecasted other income targets is dependent on:
(i) stable financial markets which preclude a significant overall
decline in investment yields, or a significant fluctuation in
foreign currency exchange rates, and (ii) avoidance of default on
any individual significant investment. Should the Company decide to
utilize a significant portion of its current cash and investments to
acquire complementary businesses, products, technologies or to
acquire additional facilities through purchase of land and/or
buildings, interest income may decline significantly causing other
income to deviate from forecasted amounts.
- Based on current tax law and the Company's present forecast of
operating results by country, the effective tax rate in 1998 is
expected not to exceed 38%(1) . The estimated annual effective tax
rate is relatively sensitive to the results of operations in various
foreign legal entities, and because such projections may change in
future periods, the actual effective tax rate could differ from this
estimate.
Please read the section below titled "Factors That May Affect Future
Results" for additional information and discussion of conditions which the
Company believes could cause actual results to differ materially from those
contemplated by forward-looking statements.
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 (which includes the Business Outlook Section) 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 these 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 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, 1997, contained in the
Company's 1997 Annual Report to Stockholders (Form 10-K).
FLUCTUATIONS IN QUARTERLY OPERATING RESULTS
The Company's revenues and operating results can vary substantially from
quarter to quarter. License revenues in any quarter are substantially dependent
on aggregate contracting activity and the Company's ability to recognize revenue
in that quarter in accordance with its revenue recognition policies.
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(1) Forward-Looking Statement
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Contracting activity is difficult to forecast for a variety of reasons
including: (i) a significant portion of the Company's license agreements are
completed within the last few weeks of each quarter; (ii) the duration of the
Company's sales cycle is relatively long and increasingly variable because the
Company has broadened its marketing emphasis to encompass software product
solutions for the customer's overall enterprise, thereby increasing the
financial value of individual transactions and the complexity of the customer
selection, negotiation and approval process; (iii) the size of license
transactions can vary significantly; (iv) system replacement projects and new
system evaluations may be postponed or canceled at any time due to changes in a
customer's project, company management, budgetary constraints or strategic
priorities; (v) customer evaluations and procurement processes vary
significantly from company to company, and a customer's internal approval and
expenditure authorization process can be arduous, even subsequent to actual
vendor selection; (vi) the number, timing and significance of software product
enhancements and new software product announcements by the Company and its
competitors; (vii) as the Year 2000 approaches, many potential customers are
evaluating their legacy systems and must decide whether to repair or replace
existing applications which have Year 2000 operability issues. While the Company
believes that such evaluations are favorably impacting demand for its
applications, such demand is subject to change as the Year 2000 draws closer
since lead times required to complete systems implementations preclude system
replacement as a timely solution to the Year 2000 issue. Given the lack of
precedent for an issue of this magnitude, the Company's ability to accurately
forecast the impact of the issue on quarter to quarter revenue achievement is
limited; (viii) changes in the Company's sales incentive plans have had and may
continue to have an unpredictable impact on seasonal business patterns; and (ix)
changes in economic, political and market conditions can adversely impact
business opportunities without any notice.
The correlation between license fee revenues recognized and contracting
activity can vary significantly because of factors which may cause revenue to be
initially deferred including: (i) the license agreement may be entirely related
to then currently undeliverable software products; (ii) enterprise transactions
may include software products that are then currently deliverable, as well as
software products that are still under development. To the extent the Company
enters into a license agreement for the provision of both software product
categories, the Company must have established separate values for all elements
under the license agreement, and the license agreement and supporting schedules
to the license agreement must contain very precise contractual provisions
consistent with generally accepted accounting principles to permit any revenue
recognition under the license agreement; (iii) the customer may demand services
that include significant modifications, customizations or complex interfaces;
(iv) the license agreement may include non-standard acceptance criteria which
may preclude revenue recognition prior to customer acceptance; and, (v) the
license agreement may include fees with extended payment terms or fees that are
dependent upon acceptance of services or other contingencies. All of the above
factors, as well as other specific requirements under recently published
generally accepted accounting standards for software revenue recognition, create
circumstances under which the Company must have very precise contractual
agreements in order to recognize revenue upon initial software product delivery.
Although the Company has a standard license agreement which meets the demanding
criteria under generally accepted accounting principles, the Company must often
negotiate and revise certain terms and conditions in large enterprise
transactions. Negotiation of mutually acceptable language can extend the sales
cycle, and in certain situations, the Company does not always obtain terms and
conditions which permit recognition of revenue at the time of delivery or
ratably using contract accounting.
Services revenues may vary from quarter to quarter due to variances in
prior quarter contracting activity which impacts consulting services revenue on
a lag. The Company's ability to increase services revenue is dependent on its
ability to grow licensing activity which provides opportunities for consulting,
training, and subsequent maintenance revenues. Additionally the Company may not
be able to recruit, hire, and train sufficient numbers of qualified consultants
to perform such services.
Due to the foregoing, it is likely that in one or more future quarters the
Company's operating results will be below the expectations of public securities
market analysts. In such event, the price of the Company's common stock would
likely be materially adversely affected.
POSSIBLE ADVERSE IMPACT OF RECENT ACCOUNTING PRONOUNCEMENT
Statement of Position ("SOP") 97-2, "Software Revenue Recognition" was
issued in October 1997 and addresses software revenue recognition matters. The
SOP supersedes SOP 91-1 and is effective for transactions entered into for
fiscal years beginning after December 15, 1997. Based upon its reading and
interpretation of SOP 97-2 the Company believes its current revenue recognition
policies and practices are materially consistent with the SOP. However,
implementation guidelines for this standard have not yet been issued and a wide
range of potential interpretations are being discussed by the accounting
profession. Once available, such implementation guidance could lead to
unanticipated changes in the Company's current revenue accounting practices, and
such changes could materially adversely affect the Company's future revenue and
earnings.
Such implementation guidance may necessitate substantial changes in the
Company's business practices in order for the Company to continue to recognize a
substantial portion of its license fee revenue upon delivery of its software
products. Such changes may reduce
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<PAGE> 16
demand, extend sales cycles, increase administrative costs and otherwise
adversely affect operations. In addition, the Company may be put at a
competitive disadvantage relative to foreign based competitors not subject to
U.S. generally accepted accounting principles.
OPERATING LEVERAGE
Consistent with many companies in the software industry, the Company's
business model is characterized by a very high degree of operating leverage.
Employee and facility related expenditures comprise a significant portion of the
Company's operating costs and expenses, and over the short term are relatively
fixed. In addition, the Company's expense levels and hiring plans are based, in
significant part, on the Company's projections of future revenue levels. If
revenue levels fall below expectations, net income is likely to be
disproportionately adversely affected. There can be no assurance that the
Company will be able to increase or even maintain its current level of
profitability on a quarterly or annual basis in the future.
FUTURE OPERATING RESULTS UNCERTAIN
Segments of the software industry have experienced significant economic
downturns characterized by decreased product demand, price erosion,
technological shifts, work slowdowns and layoffs. The Company's operations may,
in the future, experience substantial fluctuations from period to period as a
consequence of such industry patterns, general economic conditions affecting the
timing of orders from customers, and other factors affecting capital spending.
There can be no assurance that such factors will not have a materially adverse
effect on the Company's business, operating results or financial condition.
Although the Company's 1998 operating budget is based on projections of a
material increase in total revenues over the corresponding actual results for
1997, the Company does not believe that the percentage increases in revenues
achieved in prior periods should be anticipated in future periods.
The operating results of many software companies reflect seasonal trends,
and the Company has been, and expects to continue to be, affected by such trends
in the future. The Company's seasonal patterns of revenue achievement, which are
typically characterized by relatively weaker first and second quarters and
relatively stronger third and fourth quarters, can be caused by a variety of
factors, including sales incentives, customer demand based on available capital
budgets and release of new technologies.
INTERNATIONAL OPERATIONS
The Company has utilized, and will continue to utilize substantial
resources and funding to build its international service and support
infrastructure. Operating costs in many countries, including many of those in
which the Company operates, are higher than in the United States. In order to
increase international sales in 1998 and subsequent periods, the Company must
continue to globalize its software product lines, expand existing and establish
additional foreign operations, hire additional personnel, identify suitable
locations for sales, marketing, customer service and development, and recruit
international distributors and resellers in selected territories. In the event
international expansion and/or product globalization are not successful, it is
likely to have a negative impact on the Company's operating results.
The Company's sales through its foreign operations are generally
denominated in each respective subsidiary's functional currency. Unexpected
changes in the exchange rates for these foreign currencies could result in
significant fluctuations in the foreign currency transaction and translation
gains and losses in future periods. The Company implemented a hedging program
designed to mitigate the potential impact of exchange rate fluctuations in
January 1998. In addition to hedging existing transaction exposures, the
Company's foreign exchange management policy allows for the hedging of
anticipated transactions, and exposure resulting from the translation of foreign
subsidiary financial results into U.S. Dollars. Such hedges can only be
undertaken to the extent that the exposures are highly certain, reasonably
estimable, and significant in amount. These hedges will only be undertaken
should the Company deem them necessary to protect the U.S. Dollar value of the
underlying exposure. The Company foresees that hedges of such anticipated
transactions and translation exposures will be done in the future using forward
and option contracts(1), however in the event the Company is unable to hedge
potential significant exposures due to lack of certainty or ability to
reasonably estimate the foreign exchange exposure, there could be a material
adverse impact to the Company's operating results.
COMPETITION
The market for business application software is intensely competitive. The
Company faces competition from a variety of software vendors including
enterprise application software vendors, manufacturing application software
vendors, enterprise resource optimization application software vendors,
financial management systems and HRMS application software vendors and software
tools vendors. Although the Company believes its success has been due in part to
its early emphasis on the client/server architecture, virtually all of the
Company's
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(1) Forward-Looking Statement
16
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competitors now offer software products based on a client/server architecture.
Consequently, competitive differentiators now include more subtle architectural
and technological factors, such as web enablement, enterprise software product
breadth and individual product features, service reputation, product
flexibility, ease of implementation, international software product version
availability and support, and price.
In the enterprise application software market, PeopleSoft faces
significant competition from SAP AG and Oracle Corporation and to a lesser
degree, Geac Computer Systems, Inc., Computer Associates International, Inc. and
other companies such as System Software Associates who previously focused
primarily on the AS/400 marketplace. In this market, the chief competitive
factors include the breadth and completeness of the enterprise solution offered
by each vendor, the extent of software product integration across the enterprise
solution and the availability of localized software products and technical
support in key markets outside the United States. Primarily due to their
significant worldwide presence and longer operating and product development
history, both SAP and Oracle have certain competitive advantages over PeopleSoft
in each of these areas. In addition, both SAP and Oracle have substantially
greater financial, technical and marketing resources, and a larger installed
base than PeopleSoft. Furthermore, Oracle's RDBMS (relational database
management system) is a supported platform underlying a significant share of
PeopleSoft's installed applications.
In the manufacturing software application market, in which PeopleSoft
recently began competing, PeopleSoft faces competition from several of its
existing competitors including those listed immediately above and others such as
Baan Company N.V., QAD, Ross Systems and J.D. Edwards and a large number of
niche competitors already in the manufacturing market.
In the emerging enterprise resource optimization software solutions
market, in which the Company now competes since its acquisition of Red Pepper
Software during the fourth quarter of 1996, PeopleSoft faces several current and
potential competitors including: (i) companies such as i2 Technologies,
Manugistics and Numetrix Software which have developed or are attempting to
develop advanced planning and scheduling software products which complement or
compete with MRP (material requirements planning) solutions; (ii) other
companies that provide specialized planning and scheduling software for niche
markets, including Chesapeake Systems, Waterloo Manufacturing Software, MAPICS,
Inc. (formerly Marcam Corporation), Marcam Solutions, Inc. and Cap Logistics;
(iii) other business application software vendors that may broaden their product
offerings by internally developing (such as SAP's recently announced initiatives
in this area), or by acquiring (such as Baan's acquisitions of Berclain Group,
Inc. and Antalys, Inc.) or partnering with independent developers of advanced
planning and scheduling software; (iv) internal development efforts by corporate
information technology departments; and (v) companies offering standardized or
customized products on mainframe and/or mid-range computer systems.
PeopleSoft also faces competition from providers of HRMS software products
including Cyborg, Lawson, Integral Systems, Inc., InPower and Ceridian, and from
providers of financial management systems software products including Hyperion,
Computron Software, Inc., Lawson Associates and other smaller companies. In
addition, ADP, Inc. and Shared Medical Systems, Inc. ("SMS") have the right to
sublicense selected PeopleSoft software products in competition with
PeopleSoft's marketing efforts in selected markets. Pursuant to the terms of the
SMS agreement, PeopleSoft provided termination notice to SMS on March 19, 1998.
As of March 27, 1998, SMS contested the notice of termination.
In addition, as the Year 2000 approaches, enterprises may consider
outsourcing options including data center outsourcing and service bureaus as
viable alternatives to purchasing the Company's software products which may
result in increased competition from outsource services including Computer
Science Corporation, Electronic Data Systems Corporation, IBM, ADP, Ceridian,
and other smaller companies.
Intense competition could potentially lead to increased price competition
in the market, forcing the Company to reduce prices which may result in reduced
gross margins and loss of market share by the Company which therefore, could
materially adversely affect the Company's business, operating results and
financial condition. In recent quarters the Company has observed increasingly
aggressive pricing practices on the part of its competitors. There can be no
assurance that the Company will continue to compete successfully with its
existing competitors or will be able to compete successfully with new
competitors.
CERTAIN RISKS ASSOCIATED WITH ACQUISITIONS
As part of its overall strategy, the Company plans to continue to acquire
or invest in complementary companies, products, or technologies and to enter
into joint ventures and strategic alliances with other companies. Risks commonly
encountered in such transactions include the difficulty of assimilating the
operations and personnel of the combined companies, the potential disruption of
the Company's ongoing business, the inability to retain key technical and
managerial personnel, the inability of management to maximize the financial and
strategic position of the Company through the successful integration of acquired
businesses, decreases in reported earnings as a result of charges for in-process
research and development and amortization of acquired intangible assets, adverse
impact on the Company's annual effective tax rate, dilution of existing equity
holders, difficulty in maintaining controls, procedures, and policies, and the
impairment of relationships with employees and customers as a result of any
integration of new personnel. There can be no assurance that the Company would
be successful
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<PAGE> 18
in overcoming these risks or any other problems encountered in connection with
such business combinations, investments, or joint ventures, or that such
transactions will not materially adversely affect the Company's business,
financial condition, or operating results.
RELIANCE ON PROPRIETARY SOFTWARE DEVELOPMENT TOOLS
The Company's software products include a suite of proprietary software
development tools known as "PeopleTools," which are fundamental to the effective
use of the Company's software products. While no industry standard exists for
software development tools, several companies are focused specifically on
providing software development tools and are attempting to establish their
software development tools as accepted industry standards. In the event that a
software product other than the Company's PeopleTools software product becomes
the clearly established and widely accepted industry standard, the Company may
need to abandon or modify PeopleTools in favor of such an established standard,
may be forced to redesign its software products to operate with such third
party's software development tools, or may be faced with the potential sales
obstacle of marketing a proprietary software product against other vendors'
software products incorporating a standardized software development toolset or
components. Accordingly, in any of these cases, the Company's results of
operations could be materially adversely affected.
RELIANCE ON THIRD PARTIES FOR SALES AND MARKETING
A key aspect of the sales and marketing strategy for the Company is to
build and maintain strong working relationships with businesses the Company
believes play an important role in the successful marketing of its software
products. The Company's customers and potential customers often rely on third
party system integrators to develop, deploy and manage client/server
applications. These include: (i) RDBMS software vendors; (ii) hardware vendors
which offer both hardware platforms and, in the case of IBM, proprietary RDBMS
products on which the Company's software products run; (iii) technology
consulting firms and systems integrators, some of which are active in the
selection and implementation of large information systems for the
information-intensive organizations that comprise the Company's principal
customer base; and (iv) benefits consulting firms that are active in the
implementation of HRMS. The Company believes that its marketing and sales
efforts are enhanced by the worldwide presence of these companies. However,
there can be no assurance that these companies, most of which have significantly
greater financial and marketing resources than PeopleSoft, will not start, or in
some cases increase, the marketing of business application software in
competition with PeopleSoft, or will not otherwise discontinue their
relationships with or support of PeopleSoft. If the Company or its partners are
unable to recruit and adequately train a sufficient number of consulting
personnel to support the implementation of the Company's software products,
demand for these software products could subsequently be materially adversely
affected. In addition, PeopleSoft's software application architecture, including
PeopleTools, may facilitate reduced implementation efforts for customers
compared to the competitive alternatives. Consequently, PeopleSoft's software
products may be a less desirable recommendation alternative for integrators who
both provide selection advice and generate consulting fees from customers by
providing implementation services. If PeopleSoft's relationship with its
partners were to deteriorate, the Company's business and operating results could
be materially adversely impacted.
COMPLEXITY OF SOFTWARE PRODUCTS AND PRODUCT DEVELOPMENT
The market for the Company's software products is characterized by rapid
technological change, evolving industry standards, changes in customer
requirements and frequent new product introductions and enhancements. The
Company's future success will depend in part upon its ability to continue to
enhance and expand its core applications, to continue to provide enterprise
solutions, to enter new markets and to develop and introduce new products that
keep pace with technological developments, satisfy increasingly sophisticated
customer requirements and achieve market acceptance. If the Company is unable to
enhance existing products or develop and introduce new products in a timely
manner, the Company's business and results of operations could be materially
adversely affected.
PeopleSoft's software products can be licensed for use with a variety of
popular industry standard RDBMSs. There may be future or existing RDBMS
platforms which achieve popularity within the business application marketplace
and on which PeopleSoft may desire to offer its applications. Such future or
existing RDBMS products may or may not be architecturally compatible with
PeopleSoft's software product design. No assurance can be given concerning the
successful development of PeopleSoft software products on additional platforms,
the specific timing of the releases of any future software products, the
performance characteristics of PeopleSoft applications on additional platforms
or their acceptance in the marketplace.
Beginning with Release 6, the Company integrated certain features of BEA's
Tuxedo product into its applications. Over the next several releases, additional
Tuxedo features will be integrated to allow applications to run on a distributed
basis using a multi-tiered client/server architecture(1) . Cognos' Powerplay
product and Arbor's Essbase product will be bundled to incorporate desktop
on-line analytical processing
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(1) Forward-Looking Statement
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("OLAP") capabilities(1). Such enhancements may be critical to the
competitiveness of the Company's software products in the future. Integration of
these and other products is complex and no assurance can be made that these
efforts will be successful or result in significant software product
enhancements (see Statement of Future Direction).
Software programs as complex as those offered by the Company are likely to
contain a number of undetected errors or "bugs" when they are first introduced
or as new releases are thereafter released. Despite testing by the Company and
by third parties, errors or system performance issues may arise with the
possible result of reduced acceptance of the Company's software products in the
marketplace. Due to the increasing number of possible combinations of vendor
hardware platforms, operating systems and updated versions, PeopleSoft
application software products and updated versions, and RDBMS platforms and
updated versions, the effort and expense of developing, testing and maintaining
these software product lines in an increasing number of combinations will
increase, and the ability to develop consistent software product performance
characteristics across all of these combinations could place a significant
strain on the Company's development resources and software product release
schedules.
RELIANCE ON CLIENT PLATFORMS
At the present time, the Company supports client platforms utilizing
browsers certified to run our Java based Web client, or Microsoft's Windows
family of software products, including Windows 3.1 (PeopleSoft releases prior to
Release 6 only), Windows NT and Windows 95. If Microsoft were to fundamentally
change the architecture of its software product such that users of PeopleSoft's
software applications experienced significant performance degradation or were
rendered incompatible with future versions of Microsoft's Windows Operating
System, the Company's results of operations could be materially adversely
affected. The use of a Web browser (running on either a PC or network computer)
to access client/server systems is emerging as an alternative client to the
traditional desktop access through Microsoft Windows based personal computers.
Such client access via the Internet will be subject to numerous risks inherent
in utilizing the Internet including security, availability and reliability.
There may be future or existing client platforms which achieve popularity within
the business application marketplace and on which PeopleSoft may desire to offer
its applications. Such future or existing client platforms may or may not be
architecturally compatible with PeopleSoft's software product design. No
assurance can be given concerning the Company's successful support for new
client platforms, the specific timing of their availability or their acceptance
in the marketplace.
RELIANCE ON JOINT BUSINESS ARRANGEMENTS
The Company has, and may in the future, enter into various development or
joint business arrangements for the purpose of developing new software products
or extensions to existing software products. Under these development
arrangements, the Company is generally the exclusive remarketer of the developed
software products and pays a royalty to the funding entities based on license
fees received from end user licenses of these software products. Under joint
business arrangements, the Company may distribute or jointly sell with its
business partner an integrated software product offering. While the intent of
such arrangements is to develop business applications which are integrated with
the Company's software products, there can be no assurance that such software
products will in fact be integrated or that an integrated enterprise solution
will be accepted by the market. In addition, should such arrangements require
additional investments from third parties or business partners to complete
development or enhance the software product, there can be no assurance that
investments will be available on terms mutually acceptable to the Company and
the business partner, or the existing or other potential third party funding
source(s). Should PeopleSoft acquire title to the software products or
technology from the third party entity, such an acquisition might be accounted
for using the purchase method which is likely to result in either or both of the
following accounting treatments: (i) a charge to earnings for in-process
research and development which would be recorded in the Statement of Income in
the period such acquisition was completed; or (ii) the creation of significant
intangible assets by virtue of an allocation of a substantial portion of the
purchase price to the acquired technology or other intangible assets. Such
intangible assets would be amortized in future periods as a cost of operations.
Should either of these scenarios occur, the results of operations of one or more
future periods could be materially adversely impacted. For example, in
connection with its acquisition of PeopleSoft Manufacturing, Inc. in 1996, the
Company incurred a one time charge to earnings of $22.5 million for in-process
research and development.
APPLICATION SECURITY ARCHITECTURE
The Company's application software products incorporate extensive security
features designed to protect certain sensitive data managed by these
applications from unauthorized retrieval or modification. The Company has
developed a security architecture utilizing the capabilities of its own
applications, the client operating system software, some of the security
features contained in the RDBMS platforms on which the applications run, as well
as certain third party security products. To date, the Company is not aware of
any violations of its application security architecture within its installed
base. Although these security features are subject to constant review and
enhancement,
- ----------
(1) Forward-Looking Statement
19
<PAGE> 20
no assurances can be given concerning the successful implementation of these
security features and their effectiveness within a particular customer's
operating environment. Should a breach of security or a suspected breach of
security occur, the accompanying publicity or any subsequent claims against the
Company could have an adverse impact on the demand for the Company's software
products and/or cause a decline in the market price of the Company's stock
and/or adversely impact the Company's financial results due to lost or delayed
closing of software licensing opportunities.
INTELLECTUAL PROPERTY AND PROPRIETARY RIGHTS
The Company regards certain aspects of its internal operations, software
and documentation as proprietary, and relies on a combination of contract,
patent, copyright, trademark and trade secret laws and other measures to protect
its proprietary information. The Company received its first patent in June 1995
and its second patent in August 1995. In July 1995, the Company received title
to a third patent as part of a teaming and development agreement. The Company
also has four additional patent applications pending. There can be no assurance
that any issued patents will result from such applications or that, if issued,
such patents will provide any meaningful competitive advantage. Existing
copyright laws afford only limited protection. The Company believes that,
because of the rapid pace of technological change in the computer software
industry, patent, trade secret and copyright protection are less significant
than factors such as the knowledge, ability and experience of the Company's
employees, frequent software product enhancements and the timeliness and quality
of support services. There can be no assurance that these protections will be
adequate or that PeopleSoft's competitors will not independently develop
technologies that are substantially equivalent or superior to the Company's
technology. Many customers of PeopleSoft are beneficiaries of a source code
escrow arrangement to enable the customer to acquire a future limited right to
use the Company's source code solely for their internal provision of maintenance
services. This possible access to the Company's source code may increase the
likelihood of misappropriation or other misuse of the Company's intellectual
property. In addition, the laws of certain countries in which the Company's
software products are or may be licensed do not protect the Company's software
products and intellectual property rights to the same extent as the laws of the
United States.
The Company does not believe that its software products, third party
software products the Company offers under sublicense agreements, Company
trademarks or other Company proprietary rights infringe the property rights of
any third parties. However, there can be no assurance that third parties will
not assert infringement claims against the Company in the future with respect to
current or future software products or that any such assertion may not require
the Company to enter into royalty arrangements or result in costly litigation.
PRODUCT LIABILITY
The Company's license agreements with its customers contain provisions
designed to limit the exposure to potential product liability claims. It is
possible, however, that the limitation of liability provisions contained in such
license agreements may not be valid as a result of federal, state, local laws or
ordinances or unfavorable judicial decisions. Although the Company has not
experienced any product liability claims to date, the license and support of its
software for use in mission critical applications creates the risk of a claim
being pursued against the Company. Damage or injunctive relief resulting under
such a successful claim could cause a materially adverse impact on the Company's
business, operating results and financial condition. In addition, as PeopleSoft
begins to compete in the manufacturing software application market, the mission
critical nature of such software products may increase PeopleSoft's exposure to
product liability claims against the Company.
GROWTH IN OPERATIONS
The Company has experienced an extended period of significant revenue
growth, growth in the Company's customer base, expansion of its software product
lines and supported platforms both through internal development and merger and
acquisition, a significant expansion in the number of its employees, and
expansion in the geographic scope of its operations. This growth has resulted in
new and increased responsibilities for management personnel, and has placed and
is expected to continue to place a significant strain upon the Company's
management, operating, and financial controls and resources. To accommodate
recent growth, compete effectively, and manage potential future growth, the
Company must continue to implement and improve its operational and financial
systems, procedures and controls. In addition, the Company must continue to
expand, train and manage its employee base. There can be no assurance that the
Company will be able to manage this expansion effectively, or that the Company's
personnel, procedures, systems and controls will be adequate to support the
Company's future operations.
KEY PERSONNEL
PeopleSoft believes that its continued success will depend in large part
upon its ability to attract, train and retain highly-skilled technical,
managerial and marketing personnel. The Company continues to hire a significant
number of additional sales, services and technical
20
<PAGE> 21
personnel. Competition for the hiring of such personnel in the software industry
is intense, and the Company from time to time experiences difficulty in locating
candidates with appropriate qualifications within various desired geographic
locations, or with certain industry specific domain expertise. Growth in
contracting activity could be impacted by the Company's ability to attract,
train, retain and manage productive sales and sales support personnel.
The loss of services of one or more of the Company's key employees could
have a materially adverse effect on the Company's business, operating results
and financial condition. The Company has historically experienced a very low
attrition rate amongst all of its employees, especially those in critical
positions. The Company has several retention programs in place to retain such
key personnel including granting of stock with annual vesting periods over five
years. A number of key employees have vested stock options which have a
relatively low price when compared to the Company's current stock price. These
potential gains provide these employees the economic freedom to explore personal
objectives both within and outside the Company which may result in the loss of
one or more key employees during the coming years.
It is widely held that the technology industry is at or beyond a condition
of full employment. There can be no assurance that the Company will be
successful in attracting, training and retaining the personnel it requires to
develop, market, sell and support new or existing software or to continue to
grow. In addition, the Company's success in penetrating key vertical markets is
dependent upon its ability to attract, train and retain personnel with industry
specific domain expertise.
YEAR 2000 COMPLIANCE
The Company's internal business information systems are primarily
comprised of the same commercial application software products generally offered
for license by the Company to end user customers. These applications have been
tested for Year 2000 compliance and are certified by the Information Technology
Association of America (ITAA) as Year 2000 compliant, therefore the Company does
not expect any Year 2000 compliance issues to arise related to its primary
internal business information systems. PeopleSoft is not aware of any material
operational issues or costs associated with preparing internal systems for the
Year 2000. However, the Company utilizes other third party vendor network
equipment, telecommunication products, and other third party software products
which may or may not be Year 2000 compliant. Although the Company is currently
taking steps to address the impact, if any, of the Year 2000 issue surrounding
such third party products, failure of any critical technology components to
operate properly in the Year 2000 may have an adverse impact on business
operations or require the Company to incur unanticipated expenses to remedy any
problems.
EXPANSION OF FACILITIES
The Company has experienced an extended period of growth which has
resulted in a significant expansion in the number of its employees. Commercial
building vacancy rates have significantly dropped in many of the markets where
the Company has significant operations. As a consequence, the Company expects to
experience increasing difficulty in obtaining additional space within which to
expand its operations. Failure to either obtain space, or obtain it on
reasonably attractive commercial terms, may inhibit the Company's ability to
grow, or otherwise adversely affect the Company's operations and financial
results.
Additionally, the Company may commit to real estate projects in order to
expand its operations to accommodate expected growth. Such real estate projects
typically have a lead time of over one year from commit date to occupancy. There
can be no assurance that the anticipated growth projections will be realized,
and therefore, the Company may be subject to increased fixed costs which cannot
be recovered from operations, resulting in material reductions to net income and
cash flows.
VOLATILITY OF STOCK PRICE
As is frequently the case with stock of high technology companies, the
market price of PeopleSoft's stock has been and may continue to be quite
volatile. Factors such as quarterly fluctuations in results of operations,
announcements of technological innovations by the Company or its competitors or
the introduction of new software products by PeopleSoft or its competitors, and
macroeconomic conditions in the computer hardware and software industries
generally, may have a significant impact on the market price of the stock of
PeopleSoft. If revenue or earnings in any quarter fail to meet the expectations
(published or otherwise) of the investment community, there could be an
immediate impact on PeopleSoft's stock price. In addition, as described in the
Possible Adverse Effects of Recent Securities Issuances section below, the
Company has issued shares, stock options and warrants which, if sold directly or
exercised and sold on the open market in large concentrations, could cause the
Company's stock price to decline in the short term. The Company makes no
assurance as to when and if such a short term stock price decline may recover.
Furthermore, the stock market has from time to time experienced extreme price
and volume fluctuations which have particularly affected the market price for
many high technology companies and which, on occasion, have
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<PAGE> 22
been unrelated to the operating performance of those companies. These broad
market fluctuations may materially adversely affect the market price of the
stock of PeopleSoft.
POSSIBLE ADVERSE EFFECTS OF RECENT SECURITIES ISSUANCES
The Company has outstanding warrants to purchase 6,400,000 shares of its
common stock which have exercise prices below the current market price of the
common stock. The exercise of these warrants and resale of the underlying shares
could adversely affect the market price of the Company's common stock. At
December 31, 1997 the Company had 13,121,129 outstanding exercisable options to
purchase common stock issued pursuant to employee stock plans which have
exercise prices below the current market price of the common stock. The exercise
of such stock options and sale of a significant number of the underlying shares
could adversely affect the market price of the Company's common stock.
INVESTMENTS AND LIQUIDITY
The Company's short term and long term investments consist primarily of
high quality municipal bonds, U.S. government securities, corporate debt
securities and tax-advantaged money market funds. Despite favorable credit
ratings on these investments there can be no assurance the issuing agencies will
not default on their obligations which may result in losses of principal and
accrued interest by PeopleSoft. While operating activities may provide cash in
certain periods, to the extent the Company experiences growth in the future,
operating and investing activities may use cash, and, consequently, such growth
may require the Company to obtain additional sources of financing. In addition,
material acquisitions of complementary businesses, products or technologies and
capital expenditures may require additional sources of financing. There can be
no assurance that the Company would be able to obtain additional sources of
financing or additional financing at terms favorable to the Company.
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<PAGE> 23
PART II - OTHER INFORMATION
Item 1. Legal Proceedings
The Company is a party to various legal disputes and proceedings
arising from the ordinary course of general business activities. In the
opinion of management, resolution of these matters is not expected to have
a material adverse effect on the financial position, results of operations
and cash flows of the Company. However, depending on the amount and
timing, an unfavorable resolution of some or all of these matters could
materially affect the Company's future results of operations or cash flows
in a particular period.
Item 2. Changes in Securities and Use of Proceeds
None
Item 3. Defaults Upon Senior Securities
None
Item 4. Submission of Matters to a Vote of Security Holders
None
Item 5. Other Information
None
Item 6. Exhibits and Reports on Form 8 - K
(a) Exhibits
27.1 Financial Data Schedule - Three months ended March 31, 1998
(b) Reports on Form 8 - K
No reports on Form 8 - K were filed during the quarter ended March 31,
1998.
23
<PAGE> 24
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.
Dated: May 13, 1998
PEOPLESOFT, INC.
By: /s/ ALFRED J. CASTINO
---------------------------------------------
Alfred J. Castino
Vice President of Finance and
Corporate Controller
(Principal Accounting Officer)
24
<PAGE> 25
PEOPLESOFT, INC.
INDEX OF EXHIBITS
EXHIBIT # EXHIBIT TITLE
- --------- -------------
27.1 Financial Data Schedule - March 31, 1998
25
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS AND RELATED NOTES
CONTAINED IN THIS FILING AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE
TO SUCH FINANCIAL INFORMATION.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> MAR-31-1998
<CASH> 300,635
<SECURITIES> 120,571
<RECEIVABLES> 356,994
<ALLOWANCES> 21,264
<INVENTORY> 0
<CURRENT-ASSETS> 801,807
<PP&E> 208,542
<DEPRECIATION> 90,194
<TOTAL-ASSETS> 990,780
<CURRENT-LIABILITIES> 519,454
<BONDS> 0
0
0
<COMMON> 2,267
<OTHER-SE> 469,059
<TOTAL-LIABILITY-AND-EQUITY> 990,780
<SALES> 0
<TOTAL-REVENUES> 277,674
<CGS> 0
<TOTAL-COSTS> 226,679
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 1,771
<INTEREST-EXPENSE> 69
<INCOME-PRETAX> 54,481
<INCOME-TAX> 20,727
<INCOME-CONTINUING> 33,754
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 33,754
<EPS-PRIMARY> .15
<EPS-DILUTED> .13
</TABLE>
