<PAGE> 1
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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
----------
FORM 10-Q
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(Mark One)
[X] Quarterly report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934.
For the Quarterly Period Ended August 31, 1998
OR
[ ] Transition report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934.
Commission File Number: 0-19417
PROGRESS SOFTWARE CORPORATION
(Exact name of registrant as specified in its charter)
MASSACHUSETTS 04-2746201
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
14 Oak Park
Bedford, Massachusetts 01730
(Address of principal executive offices)
Telephone Number: (781) 280-4000
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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
---- ----
As of October 9, 1998, there were 17,091,720 shares of the Registrant' Common
Stock, $.01 par value per share, outstanding.
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1
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PROGRESS SOFTWARE CORPORATION
FORM 10-Q
FOR THE THREE MONTHS ENDED AUGUST 31, 1998
TABLE OF CONTENTS
Page
----
PART I. FINANCIAL INFORMATION
ITEM 1. Condensed Consolidated Financial Statements
Condensed Consolidated Balance Sheets as of
August 31, 1998 and November 30, 1997 3
Condensed Consolidated Statements of Income for
the three and nine months ended August 31, 1998 and
August 31, 1997 4
Condensed Consolidated Statements of Cash Flows
for the nine months ended August 31, 1998 and
August 31, 1997 5
Notes to Condensed Consolidated Financial Statements 6
ITEM 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 8
PART II. OTHER INFORMATION
ITEM 1. Legal Proceedings 16
ITEM 6. Exhibits and Reports on Form 8-K 16
Signatures 17
2
<PAGE> 3
PART I. FINANCIAL INFORMATION
ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
PROGRESS SOFTWARE CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands, except share and per share data)
(Unaudited)
<TABLE>
<CAPTION>
August 31, 1998 November 30, 1997
--------------- -----------------
<S> <C> <C>
ASSETS
Current assets:
Cash and equivalents $ 33,096 $ 39,451
Short-term investments 74,598 54,034
Accounts receivable (less allowance for doubtful accounts
of $7,495 in 1998 and $4,928 in 1997) 36,151 35,651
Inventories 710 1,394
Other current assets 7,466 6,081
Deferred income taxes 5,579 5,166
--------- ---------
Total current assets 157,600 141,777
--------- ---------
Property and equipment-net 22,220 23,183
Capitalized software costs-net 4,287 4,545
Other assets 6,071 2,228
--------- ---------
Total $ 190,178 $ 171,733
========= =========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 9,150 $ 10,712
Accrued compensation and related taxes 18,355 17,088
Income taxes payable 7,522 6,450
Other current liabilities 9,312 6,924
Deferred revenue 47,981 32,843
--------- ---------
Total current liabilities 92,320 74,017
--------- ---------
Deferred income taxes 1,076 1,009
Minority interest in subsidiary 194 268
Commitments and contingent liabilities
Shareholders' equity:
Preferred stock, $.01 par value; authorized, 1,000,000 shares; issued, none
Common stock, $.01 par value; authorized, 50,000,000 shares; issued and
outstanding, 17,137,123 shares in 1998 and 11,832,023 shares in 1997 171 118
Additional paid-in capital 15,926 25,901
Retained earnings 80,812 70,673
Unrealized gain on short-term investments 411 245
Cumulative translation adjustments (732) (498)
--------- ---------
Total shareholders' equity 96,588 96,439
--------- ---------
Total $ 190,178 $ 171,733
========= =========
</TABLE>
See notes to condensed consolidated financial statements.
3
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PROGRESS SOFTWARE CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(In thousands, except per share data)
(Unaudited)
<TABLE>
<CAPTION>
Three Months Ended August 31, Nine Months Ended August 31,
----------------------------- ----------------------------
1998 1997 1998 1997
---- ---- ---- ----
<S> <C> <C> <C> <C>
Revenue:
Software licenses $ 27,171 $ 22,371 $ 82,503 $ 69,987
Maintenance and services 32,311 23,509 88,231 66,068
-------- -------- --------- ---------
Total revenue 59,482 45,880 170,734 136,055
-------- -------- --------- ---------
Costs and expenses:
Cost of software licenses 2,442 2,232 7,715 6,969
Cost of maintenance and services 11,571 7,879 33,042 22,059
Sales and marketing 23,422 21,963 68,010 64,885
Product development 7,276 6,667 22,523 19,848
General and administrative 6,803 5,818 20,669 17,394
Non-recurring charges - 11,537 - 11,537
-------- -------- --------- ---------
Total costs and expenses 51,514 56,096 151,959 142,692
-------- -------- --------- ---------
Income (loss) from operations 7,968 (10,216) 18,775 (6,637)
-------- -------- --------- ---------
Other income (expense):
Interest income 1,221 977 3,119 2,888
Foreign currency gain (loss) (32) 443 (469) 726
Minority interest 18 172 73 468
Other income (expense) 20 (5) (34) 17
-------- -------- --------- ---------
Total other income 1,227 1,587 2,689 4,099
-------- -------- --------- ---------
Income (loss) before provision for income taxes 9,195 (8,629) 21,464 (2,538)
Provision for income taxes 3,034 740 7,083 2,811
-------- -------- --------- ---------
Net income (loss) $ 6,161 $ (9,369) $ 14,381 $ (5,349)
======== ======== ========= =========
Basic earnings (loss) per share $ 0.36 $ (0.53) $ 0.83 $ (0.29)
======== ======== ========= =========
Weighted average shares outstanding (basic) 17,227 17,654 17,267 18,335
======== ======== ========= =========
Diluted earnings (loss) per share $ 0.31 $ (0.53) $ 0.75 $ (0.29)
======== ======== ========= =========
Weighted average shares outstanding (diluted) 19,633 17,654 19,193 18,335
======== ======== ========= =========
</TABLE>
See notes to condensed consolidated financial statements.
4
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PROGRESS SOFTWARE CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)
<TABLE>
<CAPTION>
Nine Months Ended August 31,
----------------------------
1998 1997
---- ----
<S> <C> <C>
Cash flows from operating activities:
Net income (loss) $ 14,381 $ (5,349)
Adjustments to reconcile net income (loss) to net cash
provided by operating activities:
Depreciation and amortization of property and equipment 8,837 8,002
Non-recurring charges - 11,537
Amortization of capitalized software costs 1,327 1,592
Amortization of intangible assets 844 201
Deferred income taxes (373) (260)
Minority interest in subsidiary (73) (468)
Noncash compensation - 16
Changes in operating assets and liabilities:
Accounts receivable (894) 3,182
Inventories 685 (369)
Other current assets (1,406) (4,360)
Accounts payable and accrued expenses 2,330 2,796
Income taxes payable 3,047 (1,222)
Deferred revenue 15,617 4,991
-------- --------
Total adjustments 29,941 25,638
-------- --------
Net cash provided by operating activities 44,322 20,289
-------- --------
Cash flows from investing activities:
Purchases of investments available for sale (44,278) (25,816)
Maturities of investments available for sale 23,455 26,000
Sales of investments available for sale 400 10,528
Purchase of property and equipment (8,012) (6,212)
Capitalized software costs (1,069) (1,778)
Acquisitions (5,000) (3,847)
Decrease in other noncurrent assets 35 102
-------- --------
Net cash used for investing activities (34,469) (1,023)
-------- --------
Cash flows from financing activities:
Proceeds from issuance of common stock 8,542 3,224
Repurchase of common stock (24,639) (26,453)
Contributions from minority interest - 603
Payment of obligations under capital leases - (116)
-------- --------
Net cash used for financing activities (16,097) (22,742)
-------- --------
Effect of exchange rate changes on cash (111) (499)
-------- --------
Net decrease in cash and equivalents (6,355) (3,975)
Cash and equivalents, beginning of period 39,451 30,872
-------- --------
Cash and equivalents, end of period $ 33,096 $ 26,897
======== ========
Supplemental disclosure of noncash financing activities:
Income tax benefit from employees' exercise of stock options $ 1,933 $ 1,033
======== ========
</TABLE>
See notes to condensed consolidated financial statements.
5
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PROGRESS SOFTWARE CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1. Basis of Presentation
The accompanying unaudited condensed consolidated financial statements have
been prepared by Progress Software Corporation (the Company) pursuant to
the rules and regulations of the Securities and Exchange Commission
regarding interim financial reporting. Accordingly, they do not include all
of the information and footnotes required by generally accepted accounting
principles for complete financial statements and should be read in
conjunction with the audited financial statements included in the Company's
Annual Report and Form 10-K for the fiscal year ended November 30, 1997.
In the opinion of management, the accompanying unaudited condensed
consolidated financial statements have been prepared on the same basis as
the audited financial statements, and include all adjustments, consisting
only of normal recurring adjustments, necessary for a fair presentation of
the results of the interim periods presented. The operating results for the
interim periods presented are not necessarily indicative of the results
expected for the full fiscal year.
Certain amounts for 1997 have been reclassified to conform to the 1998
presentation.
On June 17, 1998, the Board of Directors approved a three-for-two stock
split in the form of a 50% stock dividend, effective July 13, 1998 for
shareholders of record on June 29, 1998. All share and per share amounts
for all periods presented have been restated for the stock split.
2. Inventories
Inventories are stated at the lower of cost (first-in, first-out) or market
and are comprised of product media, documentation, and packaging.
3. Income Taxes
The Company provides for income taxes at the end of each interim period
based on the estimated effective tax rate for the full fiscal year.
Cumulative adjustments to the tax provision are recorded in the interim
period in which a change in the estimated annual effective rate is
determined.
4. Earnings Per Share
On December 1, 1997, the Company adopted Statement of Financial Accounting
Standards No. 128, "Earnings per Share" (SFAS 128). Basic earnings per
share is calculated using the weighted average number of common shares
outstanding. Diluted earnings per share is computed on the basis of the
weighted average number of common shares outstanding plus the effect of
outstanding stock options using the treasury stock method. Earnings per
share for all prior periods presented herein have been restated to conform
to SFAS 128.
5. Revenue Recognition
On December 1, 1997, the Company adopted American Institute of Certified
Public Accountants Statement of Position 97-2, "Software Revenue
Recognition." Adoption of this pronouncement did not have a material effect
on the revenue recognition practices of the Company.
6
<PAGE> 7
6. Litigation
Naf Naf S.A. commenced an expert proceeding in the Paris Trade Court,
Paris, France against Progress Software S.A., Timeless S.A. and Digital
Equipment France in May 1996. In June 1997, Naf Naf petitioned the court to
add Progress Software Corporation as a party to the expert proceeding,
which petition has been granted. The basis of the proceeding is alleged
late availability of products from Progress Software and alleged product
deficiencies after delivery by Timeless to Naf Naf of such products. At
this time, no specific damage claim has been formally filed under French
legal proceeding rules with the Paris Trade Court. The Company is
vigorously defending itself in this proceeding and the costs of such
defense are being reimbursed to the Company by the Company's insurer. The
Company's insurer has agreed to reimburse such costs under a reservation of
rights as to coverage. While the outcome of this claim cannot be predicted
with certainty, management does not believe that the outcome will have a
material adverse effect on the Company's consolidated financial position or
results of operations.
The Company is also subject to various other legal proceedings and claims,
either asserted or unasserted, which arise in the ordinary course of
business. While the outcome of these claims cannot be predicted with
certainty, management does not believe that the outcome of any of these
legal matters will have a material adverse effect on the Company's
consolidated financial position or results of operations.
7. Acquisition
On December 10, 1997, the Company, through a wholly-owned subsidiary,
acquired certain assets of its distributor in Brazil for $5.0 million. The
acquisition was accounted for as a purchase, and accordingly, the results
of operations are included in the Company's operating results from the date
of acquisition. The purchase price was allocated primarily to goodwill,
which is being amortized over a seven-year period. If this acquisition had
been made at the beginning of the earliest period presented, the effect on
the consolidated financial statements would not have been significant.
8. New Accounting Pronouncements
In June 1997, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standard (SFAS) No. 130, "Reporting
Comprehensive Income" (SFAS 130) and SFAS No. 131, "Disclosures About
Segments of an Enterprise and Related Information" (SFAS 131). SFAS 130
requires the presentation of an additional primary financial statement in
the format prescribed by the standard. SFAS 131 requires disclosure about
the Company's operations on a disaggregated basis consistent with
management's internal reporting structure. The Company will adopt these
standards in the first quarter of fiscal 1999.
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities" (SFAS 133) which establishes standards
for derivative instruments and for hedging activities. It requires an
entity to recognize all derivatives as either assets or liabilities in the
statement of financial position and measure those instruments at fair
value. SFAS 133 is effective for fiscal years beginning after June 15,
1999. The Company is currently evaluating the requirements and impact of
SFAS 133.
7
<PAGE> 8
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
CAUTIONARY STATEMENTS
The Private Securities Litigation Reform Act of 1995 contains certain safe
harbors regarding forward-looking statements. From time to time, information
provided by the Company or statements made by its directors, officers or
employees may contain "forward-looking" information that involves risks and
uncertainties. Actual future results may differ materially. Statements
indicating that the Company "expects," "estimates," "believes," "is planning" or
"plans to" are forward-looking, as are other statements concerning future
financial results, product offerings or other events that have not yet occurred.
There are several important factors which could cause actual results or events
to differ materially from those anticipated by the forward-looking statements.
Such factors, some of which are described in greater detail below under the
heading "Factors That May Affect Future Results," include, but are not limited
to, the receipt and shipment of new orders, the timely release of enhancements
to the Company's products, which could be subject to software release delays,
the growth rates of certain market segments, the positioning of the Company's
products in those market segments, variations in the demand for customer
service, professional consulting services and technical support, pricing
pressures and the competitive environment in the software industry, the adoption
rate of Java for business application development, consumer use of the Internet,
issues related to the Year 2000 and the Company's ability to penetrate
international markets and manage its international operations. Although the
Company has sought to identify the most significant risks to its business, the
Company cannot predict whether, or to what extent, any of such risks may be
realized nor can there be any assurance that the Company has identified all
possible issues that it might face.
RESULTS OF OPERATIONS
The Company's total revenue and net income for the third quarter of fiscal 1998
increased 30% and 221%, respectively, from the total revenue and net income
(before non-recurring charges) for the third quarter of fiscal 1997. The
Company's total revenue and net income for the first nine months of fiscal 1998
increased 25% and 142%, respectively, from the total revenue and net income
(before non-recurring charges) for the first nine months of fiscal 1997. In the
third quarter of fiscal 1997, the Company recorded non-recurring charges of
$11.5 million related to the acquisition of Apptivity Corporation for in-process
software development and the writedown of certain capitalized software costs and
other intangible assets. The acquisition was accounted for as a purchase. After
including the effect of the non-recurring charges of $11.5 million, the Company
recorded a net loss for the three and nine months ended August 31, 1997 of $9.4
million and $5.3 million, respectively.
The following table sets forth certain income and expense items as a percentage
of total revenue, and the percentage change in dollar amounts of such items
compared with the corresponding period in the previous fiscal year.
8
<PAGE> 9
<TABLE>
<CAPTION>
Percentage of Total Revenue Period-to-Period Change
--------------------------------------------------------- -----------------------------
Three Months Ended Aug. 31, Nine Months Ended Aug. 31, Three Months Nine Months
-------------------------- -------------------------- 1998 Compared 1998 Compared
1998 1997 1998 1997 to 1997 to 1997
---- ---- ---- ---- ------------- -------------
<S> <C> <C> <C> <C> <C> <C>
Revenue:
Software licenses 46% 49% 48% 51% 21% 18%
Maintenance and services 54 51 52 49 37 34
--- ---- --- ---
Total revenue 100 100 100 100 30 25
--- ---- --- ---
Cost and expenses:
Cost of software licenses 4 5 5 5 9 11
Cost of maintenance and services 20 17 19 16 47 50
Sales and marketing 39 48 40 48 7 5
Product development 12 14 13 15 9 13
General and administrative 12 13 12 13 17 19
Non-recurring charges - 25 - 8 - -
--- ---- --- ---
Total costs and expenses 87 122 89 105 (8) 6
--- ---- --- ---
Income (loss) from operations 13 (22) 11 (5) * *
Other income 2 3 2 3 (23) (34)
--- ---- --- ---
Income (loss) before provision for
income taxes 15 (19) 13 (2) * *
Provision for income taxes 5 1 4 2 * *
--- ---- --- ---
Net income (loss) 10% (20)% 9% (4)% *% *%
=== ==== === ===
</TABLE>
- ----------------
*Not meaningful
The Company's total revenue increased 30% from $45.9 million in the third
quarter of fiscal 1997 to $59.5 million in the third quarter of fiscal 1998. The
Company's total revenue increased 25% from $136.1 million in the first nine
months of fiscal 1997 to $170.7 million in the first nine months of fiscal 1998.
Software license revenue increased 21% from $22.4 million in the third quarter
of fiscal 1997 to $27.2 million in the third quarter of fiscal 1998. Software
license revenue increased 18% from $70.0 million in the first nine months of
fiscal 1997 to $82.5 million in the first nine months of fiscal 1998.
The increase in software license revenue in the third quarter and first nine
months of fiscal 1998 as compared to the periods one year ago is due to greater
acceptance of the Company's flagship product family, PROGRESS, and, to a lesser
extent, new products such as WebSpeed, Apptivity and ProtoSpeed. PROGRESS
Version 8 is providing customers with increased capabilities through its 32-bit
architecture and enhanced database features. The Company also experienced an
increase in sales to Independent Software Vendors ("ISVs"), value-added
resellers who resell the Company's products in conjunction with the sale of
their applications. The increase in sales to ISVs is primarily due to greater
deployment revenue from database, dataservers and reporting tools products.
Maintenance and services revenue increased 37% from $23.5 million in the third
quarter of fiscal 1997 to $32.3 million in the third quarter of fiscal 1998.
Maintenance and services revenue increased 34% from $66.1 million in the first
nine months of fiscal 1997 to $88.2 million in the first nine months of fiscal
1998. The maintenance and services revenue increase was primarily a result of
growth in the Company's installed customer base, renewal of maintenance
contracts and increased consulting revenues. The Company is dedicating more
resources to its service businesses in order to take advantage of the market
opportunities associated with companies buying packaged applications and
engaging service providers to customize such packages to provide them with a
competitive advantage through systems that are uniquely designed for their
business.
Total revenue generated in markets outside North America increased 26% from
$26.2 million in the third quarter of fiscal 1997 to $33.1 million in the third
quarter of fiscal 1998 and represented 56% of total revenue in the third quarter
of fiscal 1998 as compared to 57% of total revenue in the third quarter of
fiscal 1997. Total revenue generated in markets outside North America would have
represented the same percentage of total revenue in the third quarter of fiscal
1998 if exchange rates had been constant as compared to the exchange rates in
effect in the third quarter of fiscal 1997.
9
<PAGE> 10
Total revenue generated in markets outside North America increased 21% from
$79.8 million in the first nine months of fiscal 1997 to $96.7 million in the
first nine months of fiscal 1998 and represented 57% of total revenue in the
first nine months of fiscal 1998 as compared to 59% in the first nine months of
fiscal 1997. Total revenue generated in markets outside North America would have
represented 58% of total revenue in the first nine months of fiscal 1998 if
exchange rates had been constant as compared to the exchange rates in effect in
the first nine months of fiscal 1997.
Cost of software licenses consists primarily of cost of product media,
documentation, duplication, packaging, royalties and amortization of capitalized
software costs. Cost of software licenses increased 9% from $2.2 million in the
third quarter of fiscal 1997 to $2.4 million in the third quarter of fiscal
1998, but decreased as a percentage of software license revenue from 10% to 9%.
Cost of software licenses increased 11% from $7.0 million in the first nine
months of fiscal 1997 to $7.7 million in the first nine months of fiscal 1998,
but decreased as a percentage of software license revenue from 10% to 9%. The
dollar increase was due to higher royalty expense for products and technologies
licensed from third parties. The percentage decrease was due to lower
documentation costs and less amortization of capitalized software costs. Cost of
software licenses as a percentage of software license revenue can vary depending
upon the relative product mix in a given period.
Cost of maintenance and services consists primarily of costs of providing
customer technical support, education and consulting. Cost of maintenance and
services increased 47% from $7.9 million in the third quarter of fiscal 1997 to
$11.6 million in the third quarter of fiscal 1998 and increased as a percentage
of maintenance and services revenue from 34% to 36%. Cost of maintenance and
services increased 50% from $22.1 million in the first nine months of fiscal
1997 to $33.0 million in the first nine months of 1998 and increased as a
percentage of maintenance and services revenue from 33% to 37%. The percentage
increase was due primarily to a change in the mix of maintenance and service
revenue as consulting revenue increased at a greater rate than maintenance and
education revenue. Consulting revenue generally has a lower margin than either
maintenance or education due to the amount of resources required to produce such
revenue. The dollar increase was due primarily to an increase in the technical
support, consulting and education staff in the first nine months of fiscal 1998
as compared to the first nine months of fiscal 1997 and greater usage of
third-party contractors to fulfill demand for consulting services. The Company
increased its technical support, education, and consulting staff from 212 at the
end of the third quarter of fiscal 1997 to 281 at the end of the third quarter
of fiscal 1998. The Company expects its headcount for technical support,
consulting and education to continue to increase through the remainder of fiscal
1998 primarily due to the need to satisfy increased demand for consulting and
training services. However, there can be no assurance that the Company will be
successful in recruiting and retaining such personnel.
Sales and marketing expenses increased 7% from $22.0 million in the third
quarter of fiscal 1997 to $23.4 million in the third quarter of fiscal 1998, but
decreased as a percentage of total revenue from 48% to 39%. Sales and marketing
expenses increased 5% from $64.9 million in the first nine months of fiscal 1997
to $68.0 million in the first nine months of fiscal 1998, but decreased as a
percentage of total revenue from 48% to 40%. The percentage decrease in sales
and marketing expenses was primarily due to improved productivity as revenue
increased at a greater rate than sales and marketing expenses during each period
of fiscal 1998 as compared to fiscal 1997. The dollar increase in sales and
marketing expenses was primarily due to higher average compensation costs,
including commissions, for the sales, sales support and marketing staff.
Product development expenses increased 9% from $6.7 million in the third quarter
of fiscal 1997 to $7.3 million in the third quarter of fiscal 1998, but
decreased as a percentage of total revenue from 14% to 12%. Product development
expenses increased 13% from $19.8 million in the first nine months of fiscal
1997 to $22.5 million in the first nine months of fiscal 1998, but decreased as
a percentage of total revenue from 15% to 13%. The dollar increase was primarily
due to increased personnel costs. The increase in personnel costs was primarily
due to higher average compensation costs and increased headcount to support
continued new product development efforts. The major product development efforts
in the first nine months of fiscal 1998 related to the development of the next
versions of the Company's various product lines, including the release of
PROGRESS Version 8.3 and Apptivity Version 2.1. The product development staff
increased from 207 at the end of third quarter of fiscal 1997 to 229 at the end
of third quarter of fiscal 1998.
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<PAGE> 11
The Company capitalized $1.8 million of software development costs in the first
nine months of fiscal 1997 and $1.1 million in the first nine months of fiscal
1998 in accordance with Statement of Financial Accounting Standards (SFAS) No.
86, "Accounting for the Costs of Computer Software to be Sold, Leased, or
Otherwise Marketed." The amounts capitalized represented 8% of total product
development costs in the first nine months of fiscal 1997 and 5% in the first
nine months of fiscal 1998. The decrease in the percentage of capitalized
software costs in the first nine months of fiscal 1998 as compared to the first
nine months of fiscal 1997 was due to the timing of when significant development
projects qualify for capitalization under the Company's software capitalization
policy. Capitalized software costs are amortized over the estimated life of the
product (four years) and amounts amortized are included in cost of software
licenses for the period.
General and administrative expenses include the costs of the finance, human
resources, legal, information systems and administrative departments of the
Company. General and administrative expenses increased 17% from $5.8 million in
the third quarter of fiscal 1997 to $6.8 million in the third quarter of fiscal
1998, but decreased as a percentage of total revenue from 13% to 12%. General
and administrative expenses increased 19% from $17.4 million in the first nine
months of fiscal 1997 to $20.7 million in the first nine months of fiscal 1998,
but decreased as a percentage of total revenue from 13% to 12%. The dollar
increase in general and administrative expenses was primarily due to higher
staff levels and average personnel costs, increased goodwill charges resulting
from recent acquisitions and increased bad debt reserves. The Company increased
its administrative staff from 185 at the end of the third quarter of fiscal 1997
to 192 at the end of the third quarter of fiscal 1998.
Other income decreased 23% from $1.6 million in the third quarter of fiscal 1997
to $1.2 million in the third quarter of fiscal 1998. Other income decreased 34%
from $4.1 million in the first nine months of fiscal 1997 to $2.7 million in the
first nine months of fiscal 1998. The decreases in each period were due
primarily to foreign currency gains in fiscal 1997 versus foreign currency
losses in fiscal 1998 and lower amounts for "other income-minority interest" in
fiscal 1998. All revenue, costs and expenses attributable to the Company's joint
venture in Japan are included in the Company's revenue, costs and expenses. To
account for the fact that the Company owns only a 51% interest in the joint
venture, other income (expense) reflects that portion of the joint venture's
income or loss which is attributable to the 49% minority interest in the joint
venture. The joint venture generated a net loss in each period presented and the
Company recorded as "other income - minority interest" an amount equal to 49% of
the joint venture's net loss. The foreign currency gain in each period of fiscal
1997 relates primarily to unrealized market gains on foreign currency option
contracts related to the Company's hedging programs.
The Company's effective tax rate was 34% in the each period of fiscal 1997
(excluding the impact of nondeductible, non-recurring charges) and 33% in each
period of 1998 and was based upon the estimated effective tax rate for the full
fiscal year. The Company expects the effective tax rate to remain at 33% for
fiscal 1998.
NEW ACCOUNTING PRONOUNCEMENTS
In June 1997, the Financial Accounting Standards Board (FASB) issued Statement
of Financial Accounting Standard (SFAS) No. 130, "Reporting Comprehensive
Income" (SFAS 130) and SFAS No. 131, "Disclosures About Segments of an
Enterprise and Related Information" (SFAS 131). SFAS 130 requires the
presentation of an additional primary financial statement in the format
prescribed by the standard. SFAS 131 requires disclosure about the Company's
operations on a disaggregated basis consistent with management's internal
reporting structure. The Company will adopt these standards in the first quarter
of fiscal 1999.
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities" (SFAS 133) which establishes standards for
derivative instruments and for hedging activities. It requires an entity to
recognize all derivatives as either assets or liabilities in the statement of
financial position and measure those instruments at fair value. SFAS 133 is
effective for fiscal years beginning after June 15, 1999. The Company is
currently evaluating the requirements and impact of SFAS 133.
11
<PAGE> 12
LIQUIDITY AND CAPITAL RESOURCES
The Company had $107.7 million in cash and short-term investments at August 31,
1998. The increase of $14.2 million in cash and short-term investments from
$93.5 million at November 30, 1997 was primarily due to cash generated from
operations, offset by common stock repurchases, the acquisition of the Company's
distributor in Brazil and the purchase of property and equipment.
In September 1997, the Board of Directors authorized, through September 30,
1998, the purchase of up to 4.5 million shares of the Company's common stock, at
such times as the Company deems such purchases to be an effective use of cash,
for various purposes including the issuance of shares pursuant to the Company's
stock option plans. The Company purchased 1.4 million shares of its common stock
for $24.6 million in the first nine months of fiscal 1998. At August 31, 1998,
there remained approximately 3.1 million shares of common stock available for
repurchase under this authorization.
In September 1998, the Board of Directors authorized, for the period October 1,
1998 through September 30, 1999, the purchase of up to 5.0 million shares of the
Company's common stock, at such times as the Company deems such purchases to be
an effective use of cash, for various purposes including the issuance of shares
pursuant to the Company's stock option plans.
The Company purchased $8.0 million of property and equipment in the first nine
months of fiscal 1998 and $6.2 million in the first nine months of fiscal 1997.
The purchases consisted primarily of computer equipment and software, furniture
and fixtures, and leasehold improvements. The property and equipment purchases
were primarily for replacement of older equipment, renovations to various
locations and to support the growth in the business.
On December 10, 1997, the Company, through a wholly-owned subsidiary, acquired
certain assets of its distributor in Brazil for $5.0 million. The acquisition
was accounted for as a purchase, and accordingly, the results of operations are
included in the Company's operating results from the date of acquisition. The
purchase price was allocated primarily to goodwill, which will be amortized over
a seven-year period. If this acquisition had been made at the beginning of the
earliest period presented, the effect on the consolidated financial statements
would not have been significant.
The Company is party to one significant legal proceeding. Such proceeding is
detailed in Item 1 - Legal Proceedings in Part II of this report on Form 10-Q.
The Company is also subject to various other legal proceedings and claims,
either asserted or unasserted, which arise in the ordinary course of business.
While the outcome of these claims cannot be predicted with certainty, management
does not believe that the outcome of any of these legal matters will have a
material adverse effect on the Company's consolidated financial position or
results of operations.
The Company believes that existing cash balances together with funds generated
from operations will be sufficient to finance the Company's operations and meet
its foreseeable cash requirements (including planned capital expenditures and
lease commitments) through the next twelve months.
FACTORS THAT MAY AFFECT FUTURE RESULTS
The Company operates in a rapidly changing environment that involves certain
risks and uncertainties, some of which are beyond the Company's control. The
following discussion highlights some of these risks.
The Company may experience significant fluctuations in future quarterly
operating results that may be caused by many factors, including changes in
demand for the Company's products, introduction, enhancement or announcement of
products by the Company and its competitors, market acceptance of new products,
size and timing of significant orders, budgeting cycles of customers, mix of
distribution channels, mix of products and services sold, mix of international
and North American revenues, fluctuations in currency exchange rates, changes in
the level of operating expenses, changes in the Company's sales incentive plans,
customer order deferrals in
12
<PAGE> 13
anticipation of new products announced by the Company or its competitors and
general economic conditions. Revenue forecasting is uncertain, in large part,
because the Company generally ships its products upon receipt of orders. This
uncertainty is compounded because each quarter's revenue is derived
disproportionately from orders booked and shipped during the third month, and
disproportionately in the latter half of that month. In contrast, most of the
Company's expenses are relatively fixed, including costs of personnel and
facilities, and are not easily reduced. Thus, an unexpected reduction in the
Company's revenue, or a decrease in the rate of growth of such revenue, would
have a material adverse effect on the profitability of the Company.
The Company develops, markets and supports its core product line, the PROGRESS
Application Development Environment, the PROGRESS RDBMS and the PROGRESS
Dataserver Architecture (collectively, "PROGRESS"). In May 1997, the Company
began shipping the latest major enhancement to the PROGRESS product line,
PROGRESS Version 8.2 and the Company began shipping PROGRESS Version 8.3 in
August 1998. In October 1996, the Company began shipments of WebSpeed, an open
development and deployment environment that enables organizations to build
transaction processing applications on the Internet and corporate intranets. The
Company began shipments of WebSpeed Version 2.0 in July 1997. The Company's
Crescent Division develops and markets a collection of advanced tools and
components to Visual Basic and Visual J++ development teams. The Company began
commercial shipments of ProtoSpeed, an internally developed distributed
debugging tool, in September 1997. The Company acquired Apptivity Corporation, a
developer of multi-tier, Java-based business application tools, in July 1997.
The Apptivity product line consists of Apptivity Developer and Apptivity Server.
The Company began commercial shipments of Apptivity Version 2.1 in May 1998.
The Company believes that PROGRESS, WebSpeed, Apptivity, ProtoSpeed and the
Crescent line of products have features and functionality that enable the
Company to compete effectively with other vendors of application development
products. Ongoing enhancements to these product lines will be required to enable
the Company to maintain its competitive position. There can be no assurance that
the Company will be successful in developing and marketing enhancements to its
products on a timely basis, or that the enhancements will adequately address the
changing needs of the marketplace. Delays in the release of enhancements could
have a material adverse effect on the Company's business and its financial
results.
The Company has derived most of its revenue from PROGRESS and other products
which complement PROGRESS and are generally licensed only in conjunction with
PROGRESS. Accordingly, the Company's future results depend on continued market
acceptance of PROGRESS and any factor adversely affecting the market for
PROGRESS could have a material adverse effect on the Company's business and its
financial results. Future results may also depend upon the Company's continued
successful distribution of PROGRESS through its ISV channel and may be impacted
by downward pressure on pricing, which may not be offset by increases in volume.
ISVs resell PROGRESS along with their own applications, and any adverse effect
on their business related to competition, pricing and other factors could have a
material adverse effect on the Company's business, financial condition, and
operating results.
The Company experiences significant competition from a variety of sources with
respect to the marketing and distribution of its products. Some of these
competitors have greater financial, marketing or technical resources than the
Company and may be able to adapt more quickly to new or emerging technologies
and changes in customer requirements or to devote greater resources to the
promotion and sale of their products than can the Company. Increased competition
could make it more difficult for the Company to maintain its market presence.
In addition, current and potential competitors may make strategic acquisitions
or establish cooperative relationships among themselves or with third parties,
thereby increasing their ability to deliver products that address the needs of
the Company's prospective customers. Current and potential competitors also may
be more successful than the Company in having their products or technologies
widely accepted. There can be no assurance that the Company will be able to
compete successfully against current and future competitors and its failure to
do so could have a material adverse effect upon the Company's business,
prospects, financial condition and operating results.
13
<PAGE> 14
The Company hopes that WebSpeed, Apptivity and other new products will
contribute positively to the Company's future results. The market for Internet
transaction processing products, such as WebSpeed, is highly competitive and
will depend in large part on the commercial acceptance of the Internet as a
medium for all types of commerce. Because global commerce and online exchange of
information on the Internet and other similar open wide area networks are new
and evolving, it is difficult to predict with any assurance that the
infrastructure or complementary products necessary to make the Internet a viable
medium for all types of commerce will be developed. The market for Java-based
business application tools, such as Apptivity, is in the early stages of
commercial adoption. There can be no assurance that Java will emerge as a viable
programming language for large-scale business application deployment
environments.
Overlaying the risks associated with the Company's existing products and
enhancements are ongoing technological developments and rapid changes in
customer requirements. The Company's future success will depend upon its ability
to develop and introduce in a timely manner new products that take advantage of
technological advances and respond to new customer requirements. The Company is
currently developing new products intended to help organizations meet the future
needs of application developers. The development of new products is increasingly
complex and uncertain, which increases the risk of delays. There can be no
assurance that the Company will be successful in developing new products
incorporating new technology on a timely basis, or that its new products will
adequately address the changing needs of the marketplace. The marketplace for
these new products is intensely competitive and characterized by low barriers to
entry. As a result, new competitors possessing technological, marketing or other
competitive advantages may emerge and rapidly acquire market share.
The Year 2000 presents potential concerns and issues for the Company as well as
other companies in the information technology industry. In general, Year 2000
compliance issues typically arise in computer software and hardware systems that
use two digit date formats, instead of four digits, to represent a particular
year. Users must test their unique combination of hardware, system software
(databases, transaction processors and operating systems) and application
software in order for Year 2000 compliance to be achieved.
With the exception of the products discussed below, the Company believes that
its current products are Year 2000 compliant. For example, the Company's
PROGRESS products use four digit years for all internal manipulations and
representations. In addition, for customers who require the entry and display of
two digit years, the Company's PROGRESS products provide the ability to specify
a range of years for comparison and calculation. Therefore, the Company does not
believe that the Company's products, except those discussed below, will be
adversely affected by date changes in the Year 2000. However, there can be no
assurance that the Company's products contain and will contain all features and
functionality considered necessary by customers, including ISVs, end users and
distributors, to be Year 2000 compliant. In addition, there can be no assurances
that the Company's current products do not contain undetected errors or defects
associated with Year 2000 date functions that may result in material costs to
the Company.
While the Company believes that its products are Year 2000 compliant, other
factors may result in an application created using the Company's products not
being Year 2000 compliant. Some of these factors include improper programming
techniques used in creating the application or non-compliance of the underlying
hardware or operating system on which the software runs. The Company does not
believe that it would be liable in such an event. However, due to the
unprecedented nature of potential litigation related to Year 2000 compliance as
discussed in the industry and popular press, the most likely worst case scenario
is that the Company would be subject to litigation. It is uncertain whether or
to what extent the Company may be affected by such litigation.
The Company has tested the current versions of its three Crescent products and
determined that one product is not Year 2000 ready. A free patch for that
product will be available on the Company's website near the end of October 1998
that fixes the Year 2000 issues. The Company does not intend to test earlier
versions of those Crescent products or retired Crescent products. The Company
cautions users of such products to conduct their own testing to determine if the
continued use of such products allows them to meet their own Year 2000 readiness
objectives. The Company does not believe that the cost of any potential upgrades
or modifications will have a material adverse effect on the Company's business,
financial condition and operating results.
14
<PAGE> 15
Although the Company is not aware of any material operational issues or costs
associated with preparing its internal systems, both information technology (IT)
and non-IT systems, for the Year 2000, there can be no assurance that the
Company will not experience unanticipated negative consequences or material
costs caused by undetected errors or defects in the technology used in its
internal systems, which are based primarily on the Company's own software
products with respect to applications and which also include third party
software and hardware technology. The Company has not assessed fully the Year
2000 readiness of material third parties, such as public utilities and key
suppliers, who provide external services to the Company. The Company expects to
complete these assessments and testing, as well as the testing of its internal
systems, by the Fall of 1999 and does not anticipate that any of these potential
issues will have a material adverse effect on the Company's business, financial
condition and operating results. All costs related to Year 2000 issues are being
expensed as incurred and the Company does not expect the total costs of
evaluation and testing to be material. The Company has not yet developed any
detailed contingency plans, but intends to evaluate the necessity of such plans
based on the outcome of its assessment and testing of the Year 2000 readiness of
material third parties.
Approximately 52% of the Company's total revenue in the first nine months of
fiscal 1998 was attributable to international sales made through its
subsidiaries. Because a substantial portion of the Company's total revenue is
derived from such international operations which are conducted in foreign
currencies, changes in the value of these foreign currencies relative to the
United States dollar may affect the Company's results of operations and
financial position. The Company engages in certain currency-hedging transactions
intended to reduce the effect of fluctuations in foreign currency exchange rates
on the Company's results of operations. However, there can be no assurance that
such hedging transactions will materially reduce the effect of fluctuation in
foreign currency exchange rates on such results. If for any reason exchange or
price controls or other restrictions on the conversion of foreign currencies
were imposed, the Company's business could be adversely affected. Other
potential risks inherent in the Company's international business generally
include longer payment cycles, greater difficulties in accounts receivable
collection, unexpected changes in regulatory requirements, export restrictions,
tariffs and other trade barriers, difficulties in staffing and managing foreign
operations, political instability, reduced protection for intellectual property
rights in some countries, seasonal reductions in business activity during the
summer months in Europe and certain other parts of the world, and potentially
adverse tax consequences, any of which could adversely impact the success of the
Company's international operations. There can be no assurance that one or more
of such factors will not have a material adverse effect on the Company's future
international operations, and, consequently, on the Company's business,
financial condition, and operating results.
The Company's future success will depend in large part upon its ability to
attract and retain highly skilled technical, managerial and marketing personnel.
Competition for such personnel in the software industry is intense. There can be
no assurance that the Company will continue to be successful in attracting and
retaining the personnel it requires to successfully develop new and enhanced
products and to continue to grow and operate profitably.
The Company's success is heavily dependent upon its proprietary software
technology. The Company relies principally on a combination of contract
provisions and copyright, trademark and trade secret laws to protect its
proprietary technology. Despite the Company's efforts to protect its proprietary
rights, unauthorized parties may attempt to copy aspects of the Company's
products or to obtain and use information that the Company regards as
proprietary. Policing unauthorized use of the Company's products is difficult.
There can be no assurance that the steps taken by the Company to protect its
proprietary rights will be adequate to prevent misappropriation of its
technology or independent development by others of similar technology. In
addition, litigation may be necessary in the future to enforce the Company's
intellectual property rights, to protect the Company's trade secrets, to
determine the validity and scope of the proprietary rights of others, or to
defend against claims of infringement. Although the Company believes that its
products and technology do not infringe on any existing proprietary rights of
others, there can be no assurance that third parties will not assert
infringement claims in the future. Such litigation could result in substantial
costs and diversion of resources and could have a material adverse effect on the
Company's business, financial condition and operating results.
The Company also utilizes certain technology which it licenses from third
parties, including software which is integrated with internally developed
software and used in the Company's products to perform key functions. There
15
<PAGE> 16
can be no assurance that functionally similar technology will continue to be
available on commercially reasonable terms in the future.
The market price of the Company's common stock, like that of other technology
companies, is highly volatile and is subject to wide fluctuations in response to
quarterly variations in operating results, announcements of technological
innovations or new products by the Company or its competitors, changes in
financial estimates by securities analysts, or other events or factors. The
Company's stock price may also be affected by broader market trends unrelated to
the Company's performance.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Naf Naf S.A. commenced an expert proceeding in the Paris Trade Court, Paris,
France against Progress Software S.A., Timeless S.A. and Digital Equipment
France in May 1996. In June 1997, Naf Naf petitioned the court to add Progress
Software Corporation as a party to the expert proceeding, which petition has
been granted. The basis of the proceeding is alleged late availability of
products from Progress Software and alleged product deficiencies after delivery
by Timeless to Naf Naf of such products. At this time, no specific damage claim
has been formally filed under French legal proceeding rules with the Paris Trade
Court. The Company is vigorously defending itself in this proceeding and the
costs of such defense are being reimbursed to the Company by the Company's
insurer. The Company's insurer has agreed to reimburse such costs under a
reservation of rights as to coverage. While the outcome of this claim cannot be
predicted with certainty, management does not believe that the outcome will have
a material adverse effect on the Company's consolidated financial position or
results of operations.
The Company is also subject to various other legal proceedings and claims,
either asserted or unasserted, which arise in the ordinary course of business.
While the outcome of these claims cannot be predicted with certainty, management
does not believe that the outcome of any of these legal matters will have a
material adverse effect on the Company's consolidated financial position or
results of operations.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
a) Exhibits
27.1 - Financial Data Schedule (EDGAR Version Only)
b) Reports on Form 8-K
No reports on Form 8-K were filed during the quarter ended August 31, 1998.
16
<PAGE> 17
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.
PROGRESS SOFTWARE CORPORATION
(Registrant)
Dated:October 14, 1998 /s/ Joseph W. Alsop
-------------------
Joseph W. Alsop
President and Treasurer
(Principal Executive Officer)
Dated:October 14, 1998 /s/ Norman R. Robertson
-----------------------
Norman R. Robertson
Vice President, Finance and Administration
and Chief Financial Officer
(Principal Financial Officer)
Dated:October 14, 1998 /s/ David H. Benton, Jr.
------------------------
David H. Benton, Jr.
Corporate Controller
(Principal Accounting Officer)
17
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
CONDENSED CONSOLIDATED FINANCIAL STATEMENTS CONTAINED IN THE COMPANY'S FORM 10-Q
FOR THE PERIOD ENDING AUGUST 31, 1998 AND IS QUALIFIED IN ITS ENTIRETY BY
REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> NOV-30-1998
<PERIOD-START> DEC-01-1997
<PERIOD-END> AUG-31-1998
<CASH> 33,096
<SECURITIES> 74,598
<RECEIVABLES> 43,646
<ALLOWANCES> 7,495
<INVENTORY> 710
<CURRENT-ASSETS> 157,600
<PP&E> 59,667
<DEPRECIATION> 37,447
<TOTAL-ASSETS> 190,178
<CURRENT-LIABILITIES> 92,320
<BONDS> 0
0
0
<COMMON> 171
<OTHER-SE> 96,417
<TOTAL-LIABILITY-AND-EQUITY> 190,178
<SALES> 82,503
<TOTAL-REVENUES> 170,734
<CGS> 7,715
<TOTAL-COSTS> 151,959
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 0
<INCOME-PRETAX> 21,464
<INCOME-TAX> 7,083
<INCOME-CONTINUING> 14,381
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<NET-INCOME> 14,381
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