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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
----------------
FORM 10-Q
(Mark One)
[X]QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE
ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED DECEMBER 31, 1997
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: O-26886
OBJECTIVE SYSTEMS INTEGRATORS, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 68-0239619
(I.R.S. IDENTIFICATION NUMBER)
(STATE OR OTHER JURISDICTION
OF INCORPORATION OR ORGANIZATION)
100 BLUE RAVINE ROAD
FOLSOM, CALIFORNIA 95630
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICE, INCLUDING ZIP CODE)
(916) 353-2400
(REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE)
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
Number of shares of registrant's common stock outstanding as of January 31,
1998: 34,250,690
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OBJECTIVE SYSTEMS INTEGRATORS, INC.
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
----
<C> <S> <C>
PART I. FINANCIAL INFORMATION
Item 1. Condensed Consolidated Financial Statements.................... 3
Condensed Consolidated Balance Sheets at December 31, 1997 and
June 30, 1997............................................... 3
Condensed Consolidated Statements of Operations for the three
months and six months ended December 31, 1997 and 1996...... 4
Condensed Consolidated Statements of Cash Flows for the six
months ended December 31, 1997 and 1996..................... 5
Notes to Condensed Consolidated Financial Statements........... 6
Management's Discussion and Analysis of Financial Condition and
Item 2. Results of Operations....................................... 7
PART II. OTHER INFORMATION
Item 4. Submission of Matters to a Vote of Security Holders............ 15
Item 6. Exhibits and Reports on Form 8-K............................... 16
SIGNATURE................................................................ 17
Exhibit 27.1................................................... 18
</TABLE>
2
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PART I.FINANCIAL INFORMATION
ITEM 1.CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
OBJECTIVE SYSTEMS INTEGRATORS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
<TABLE>
<CAPTION>
DECEMBER 31, JUNE 30,
1997 1997(1)
------------ --------
(UNAUDITED)
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents............................. $ 16,189 $ 17,817
Short-term investments................................ 16,900 25,424
Accounts receivable (net of allowance of $1,544 and
$4,212).............................................. 16,372 21,029
Income tax refund receivable.......................... 2,334 2,334
Deferred income taxes................................. 22,471 16,812
Prepaid expenses and other current assets............. 1,186 860
-------- --------
Total current assets................................ 75,452 84,276
Property and equipment, net............................. 17,713 17,449
Other assets, net....................................... 4,059 6,306
-------- --------
Total assets........................................ $ 97,224 $108,031
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable...................................... $ 5,990 $ 7,344
Accrued liabilities................................... 6,722 7,245
Deferred revenue...................................... 6,584 6,518
-------- --------
Total current liabilities........................... 19,296 21,107
Deferred income taxes................................... 930 1,481
Stockholders' equity:
Common stock.......................................... 84,710 81,967
Deferred stock compensation........................... (396) (581)
Accumulated translation adjustment.................... (868) (326)
Retained earnings (deficit)........................... (6,448) 4,383
-------- --------
Total stockholders' equity.......................... 76,998 85,443
-------- --------
Total liabilities and stockholders' equity.......... $ 97,224 $108,031
======== ========
</TABLE>
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(1) Information in this column is derived from OSI's audited consolidated
balance sheet as of June 30, 1997.
See notes to condensed consolidated financial statements.
3
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OBJECTIVE SYSTEMS INTEGRATORS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED SIX MONTHS ENDED
DECEMBER 31, DECEMBER 31,
-------------------- --------------------
1997 1996 1997 1996
--------- --------- --------- ---------
<S> <C> <C> <C> <C>
Revenues:
License............................ $ 9,182 $ 13,902 $ 11,984 $ 27,007
Service and other.................. 6,292 6,121 10,893 10,571
--------- --------- --------- ---------
Total revenues................... 15,474 20,023 22,877 37,578
--------- --------- --------- ---------
Cost of revenues:
License............................ 576 445 887 805
Service and other.................. 6,555 4,969 11,634 8,410
--------- --------- --------- ---------
Total cost of revenues........... 7,131 5,414 12,521 9,215
--------- --------- --------- ---------
Gross profit......................... 8,343 14,609 10,356 28,363
--------- --------- --------- ---------
Operating expenses:
Sales and marketing................ 9,206 7,091 16,573 12,674
Research and development........... 3,623 3,726 7,065 6,697
General and administrative......... 2,050 3,626 3,902 5,642
--------- --------- --------- ---------
Total operating expenses......... 14,879 14,443 27,540 25,013
--------- --------- --------- ---------
Income (loss) from operations........ (6,536) 166 (17,184) 3,350
Other income, net.................... 337 659 852 1,342
--------- --------- --------- ---------
Income (loss) before income taxes.... (6,199) 825 (16,332) 4,692
Provision (benefit) for income taxes. (2,178) 291 (5,501) 1,805
--------- --------- --------- ---------
Net income (loss).................... $ (4,021) $ 534 $ (10,831) $ 2,887
========= ========= ========= =========
Average shares outstanding........... 33,402 32,060 33,032 31,770
========= ========= ========= =========
Basic net income (loss) per share.... $ (0.12) $ 0.02 $ (0.33) $ 0.09
========= ========= ========= =========
Average diluted shares outstanding... 33,402 34,216 33,032 34,142
========= ========= ========= =========
Diluted net income (loss) per share.. $ (0.12) $ 0.02 $ (0.33) $ 0.08
========= ========= ========= =========
</TABLE>
See notes to condensed consolidated financial statements.
4
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OBJECTIVE SYSTEMS INTEGRATORS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
<TABLE>
<CAPTION>
SIX MONTHS ENDED
DECEMBER 31,
-----------------
1997 1996
-------- -------
<S> <C> <C>
Cash flows from operating activities:
Net income (loss)....................................... $(10,831) $ 2,887
Adjustments to reconcile net income (loss) to net cash
provided by (used for) operating activities:
Depreciation and amortization.......................... 4,261 1,971
Deferred income taxes.................................. (6,061) --
Stock compensation expense............................. 185 230
Effect of changes in:
Accounts receivable................................... 4,656 (2,777)
Income tax refund receivable.......................... -- 7,187
Prepaid expenses and other current assets............. (383) (2,087)
Accounts payable...................................... (1,355) 923
Accrued liabilities................................... (515) 1,828
Deferred revenue...................................... 66 (1,692)
-------- -------
Net cash provided by (used for) operating activities. (9,977) 8,470
-------- -------
Cash flows from investing activities:
Sales of short-term investments......................... 8,524 --
Purchases of property and equipment..................... (2,936) (6,479)
-------- -------
Net cash provided by (used for) investing activities. 5,588 (6,479)
-------- -------
Cash flows from financing activities:
Proceeds from issuance of common stock, net............. 2,586 125
-------- -------
Effect of exchange rate changes on cash.................. 175 --
-------- -------
Net increase (decrease) in cash and cash equivalents. (1,628) 2,116
Cash and cash equivalents:
Beginning of the period................................. 17,817 53,988
-------- -------
End of the period....................................... $ 16,189 $56,104
======== =======
</TABLE>
See notes to condensed consolidated financial statements.
5
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OBJECTIVE SYSTEMS INTEGRATORS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. BASIS OF PRESENTATION
These unaudited, condensed, consolidated financial statements have been
prepared by Objective Systems Integrators, Inc. ("OSI") under the rules and
regulations of the Securities and Exchange Commission. In accordance with
those rules and regulations, some of the information normally included in
financial statements prepared in accordance with generally accepted accounting
principles has been condensed or omitted.
The information in this report reflects all adjustments which we believe are
necessary to fairly state OSI's financial position, the results of its
operations and cash flows for the periods presented. These adjustments consist
of items that are of a normally recurring nature. In addition, certain
reclassifications have been made to last year's consolidated financial
statements to conform with this year's presentation.
These financial statements should be read in conjunction with the audited
financial statements and their notes contained in OSI's Annual Report on Form
10-K for the fiscal year ended June 30, 1997. Results for interim periods are
not necessarily indicative of the results expected for the full fiscal year or
for any other period.
2. NET INCOME (LOSS) PER SHARE
During this quarter, we adopted Statement of Financial Accounting Standards
No. 128 (SFAS 128), Earnings per Share. SFAS 128 requires that we compute net
income per share using two different calculations, basic and diluted, and
disclose the methods used for calculation. We have restated the amounts of all
prior-period earnings per share to conform with SFAS 128.
Under SFAS 128, basic net income (loss) per share is computed using the
weighted average of common shares outstanding while diluted net income per
share is computed using weighted average number of common and common
equivalent shares outstanding during the period. Common equivalent shares are
the incremental common shares that could be issued following the exercise of
stock options (using the treasury stock method). Common equivalent shares
outstanding are not included in the net loss per share computations as their
inclusion would be antidilutive. Common equivalent shares for the three and
six months ended December 31, 1996 are 2,156,000 and 2,372,000, respectively.
3. MAJOR CUSTOMER
For the three months and six months ended December 31, 1997, we received
more than ten percent of our revenues from one of our existing customers, a
global telecommunications company.
6
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
FORWARD-LOOKING STATEMENTS
Some of the statements in this Report are "forward-looking statements" as
defined in the Private Securities Litigation Reform Act of 1995 ("Reform
Act"). They have been identified with an asterisk (*). Underlying these
statements are a number of assumptions regarding risks, both known and
unknown. Our actual results may differ materially from those that are
expressed or implied. Some of these assumptions and risks involve, among other
things, the effects of fluctuations in OSI's quarterly results, our ability to
effectively manage growth, our ability to effectively expand professional
services and customer support, our ability to manage product transitions, the
effects of product and customer concentrations, our ability to retain and
attract key employees, growth rates in emerging markets and their ability to
absorb new technologies, management of product defects, the degree of
competition and technological change in our markets, the effects of the
current turmoil in international markets, our reliance on third-party
relationships and their continued viability, the uncertainty of proprietary
technology protection, changes in, or failure to comply with, government
regulations, and general economic and business conditions. See also the other
factors referred to in the "Factors That May Affect Future Results" section
and elsewhere in this Report.
OVERVIEW
OSI develops, markets and supports object-oriented, client/server software
systems for network operations support and management. It was founded in June
1989 and began shipments of its NetExpert/R/ product in August 1990. As of
December 31, 1997, we had directly or indirectly licensed our products to more
than 190 customers around the world.
A typical NetExpert sale generally includes a combination of license fees,
fees for professional services, and fees for customer support and training.
Revenue from licensing, servicing and supporting the NetExpert product line
has accounted for substantially all of our revenues since we were founded. In
addition, a significant portion of our revenues have been derived from
substantial orders placed by large organizations. We believe that neither of
these factors will change in the near term.*
The timing of large orders and their fulfillment has caused material
fluctuations in OSI's operating results, particularly on a quarterly basis. We
do not believe that this situation is likely to change.* For this reason and
others, some of which are discussed in "Factors That May Affect Future
Results," you should expect that our quarterly revenues and operating results
will vary significantly in the future, that period-to-period comparisons of
our revenues and results of operations are not necessarily meaningful and that
quarterly revenues should not be relied upon as indications of future
performance.*
In the latter part of fiscal 1996 and continuing through the six months
ended December 31, 1997, there was a shift in our customer base and in its
product and services offerings. We made a growing percentage of our sales to
new, emerging communications service providers. These service providers, often
referred to as competitive local exchange carriers (CLECs), competitive access
providers (CAPs), and wireless personal communications service (PCS)
companies, were formed as a direct result of deregulation in the
telecommunications marketplace. Rather than buying point solutions, they
frequently procure a full suite of network operational support systems using
NetExpert and NetExpert-based application components. In addition, many of
them do not have adequate in-house staff to rapidly deploy a full suite of
NetExpert-based solutions. Therefore, they tend to rely increasingly on us for
help in the deployment of their operational support systems. The effects of
this shift have been an increase in the length of the sales cycle, an increase
in the relative percentage of our business involving professional services, an
increase in the time required for a successful implementation, and an increase
in customer credit risks.
7
<PAGE>
During fiscal 1997 and in fiscal 1998, we recognized this shift and changed
our approach to selling and deploying our products and services. One effect of
this change will be a relative increase in the time between when a customer
contract is executed and when we recognize revenue from that contract.*
Moreover, we expect that these effects will continue for the foreseeable
future.*
We distribute and sell our NetExpert products in North America primarily
through a direct sales organization. Outside of North America, we typically
sell our products and services through systems integrators, local
distributors, and to a lesser extent, through an in-region direct sales force.
We intend to enter into additional international markets and to continue to
grow our operations outside of North America by expanding our direct sales
force, opening additional in-region customer support and sales offices, adding
distributors, and pursuing additional strategic relationships.* In fiscal
1997, we acquired certain assets from our distributor in Australia. This
acquisition resulted in the establishment of a regional sales and support
headquarters for our Asia-Pacific operations. In the fiscal quarter ending
December 31, 1997, we recorded a charge to our Asia-Pacific operations in the
amount of $0.9 million-- see further discussion in the "Results of Operations"
section below. Also, in fiscal 1997, we opened an office in France to support
our operations in Europe, Africa and the Middle East.
For the second quarter of fiscal 1998, OSI had a net loss of $4.0 million
compared to net income of $0.5 million for the same period in fiscal 1997. For
the first half of fiscal 1998, we had a net loss of $10.8 million compared to
net income of $2.9 million for the same period in fiscal 1997. The reasons
underlying the losses are described in the following "Results of Operations"
section. To address this situation, we put into place a strategy that we
believe will return OSI to profitability and growth.* This strategy involves
(1) increasing our focus on the requirements of the emerging carrier and
wireless service provider markets, (2) narrowing our product development and
professional services efforts to achieve more reusable application components,
(3) building stronger sales and professional services organizations, and (4)
forging new strategic alliances while strengthening our existing
relationships. We cannot give any assurances that our strategy will be
successful.
RESULTS OF OPERATIONS
<TABLE>
<CAPTION>
FOR THE THREE MONTHS ENDED FOR THE SIX MONTHS ENDED
--------------------------------- ------------------------------
DEC. 31, DEC. 31, DEC. 31, DEC. 31,
1997 CHANGE 1996 1997 CHANGE 1996
---------- ---------- ---------- --------- --------- ---------
(IN THOUSANDS, EXCEPT PERCENTAGES)
<S> <C> <C> <C> <C> <C> <C>
REVENUES:
License................. $ 9,182 (34%) $ 13,902 $ 11,984 (56%) $ 27,007
Percentage of revenues.. 59% 69% 52% 72%
Service and other....... $ 6,292 3% $ 6,121 $ 10,893 3% $ 10,571
Percentage of revenues.. 41% 31% 48% 28%
Total revenues.......... $ 15,474 (23%) $ 20,023 $ 22,877 (39%) $ 37,578
</TABLE>
OSI's revenues are derived from license fees and fees for a full range of
services complementing its products, including professional services, software
maintenance, customer support and training. The decrease in total revenues for
the three months ended December 31, 1997, compared with the three months ended
December 31, 1996, can be attributed primarily to large orders not closing
within the period and the shift toward new emerging service providers. These
new emerging service providers have longer sales cycles which presents an
increased credit risk to OSI. The decrease in total revenues for the six
months ended December 31, 1997, compared with the six months ended December
31, 1996, can be attributed primarily to the same factors as noted in the
quarter-to-quarter comparison. See additional discussion in the "Overview"
section above. List prices for our products and services did not change
significantly during the comparison periods.
License Revenues. Software licenses are generally granted and priced on a
- ----------------
per-seat basis, although we may grant site, network-wide or enterprise-wide
licenses for larger installations. License revenues are generally recognized
when a noncancellable license agreement has been signed, the product has been
shipped, there are no significant obligations to fulfill, there are no
uncertainties surrounding product acceptance, the fees are fixed and
8
<PAGE>
determinable, and collection is probable. Revenues and profits under contracts
requiring significant customization are recognized using the percentage-of-
completion method of contract accounting based on the ratio of incurred costs
to total estimated costs. Although our license agreements generally do not
provide for a right of return, we maintain reserves for returns and potential
credit losses.
The decrease in license revenues in absolute dollars and as a percentage of
total revenues for the three months and six months ended December 31, 1997,
compared with the three months and six months ended December 31, 1996, was due
primarily to the extended customer deployment periods and the timing of
fulfilling customer orders. In addition, we have experienced an increase in the
number of orders for our application rule-sets. These generally require a higher
level of installation and implementation services than does the NetExpert
framework. In the three months and six months ended December 31, 1997, this
decrease was offset by a large order from an existing customer, a global
telecommunications company, that exceeded ten percent of both periods' revenues.
Although service and other revenues represented the majority of total
revenues for the three and six months ended December 31, 1997, we anticipate
that license revenues will represent a majority of our total revenues in the
foreseeable future.* We also believe that historic growth rates in license
revenues should not be relied on as an indication of future growth rates.*
Finally, we believe that competition in our markets is likely to increase.*
This could result in price reductions, reduced gross margins, or loss of market
share, any of which would have a material adverse effect on our business,
operating results, and financial condition.*
Service and Other Revenues. Revenues for training, consulting, and
- --------------------------
professional services are recognized as the services are performed and
acceptance criteria have been met. We offer support contracts to our customers
which entitles them to unlimited telephone support, product updates and
product maintenance during the support period. Maintenance revenues from
ongoing customer support and product upgrades are deferred and recognized
ratably over the term of the maintenance agreement, typically 12 months.
Payments for maintenance fees are generally made in advance and are
nonrefundable.
The growth in service and other revenues in absolute dollars for the three
months and six months ended December 31, 1997, compared with the three months
and six months ended December 31, 1996, can be attributed to higher demand for
our professional services. These include requirements analysis, project
management and system design, and customization and installation services. To a
lesser extent the growth can also be attributed to an incremental increase in
maintenance, customer support, and training revenues as a result of our larger
installed base. The increase in service and other revenues as a percentage of
total revenues for the three months and six months ended December 31, 1997,
compared with the three months and six months ended December 31, 1996, can be
attributed to the factors described above in the "Overview" section regarding
a shift in our customer base and the products and services those customers are
demanding.
We expect that service and other revenues will continue to represent a
significant portion of our total revenues in future periods, primarily as a
result of continued demand for professional services in connection with
licenses of NetExpert, renewal of existing support contracts, and incremental
support revenues attributable to our growing installed base.* We also believe
that historic growth rates for our service and other revenues may not be
sustainable and should not be relied on as an indication of future growth
rates.*
International Revenues. International revenues represented 18% and 27% of
- ----------------------
total revenues for the three months ended December 31, 1997, and 1996,
respectively, and 22% and 32% of total revenues for the six months ended
December 31, 1997, and 1996, respectively. Decreased international revenues,
both as a percentage of total revenues and in absolute dollars, is due
primarily to the timing of order fulfillment.
A portion of our international revenues are derived from sales in our Asia-
Pacific region, which has experienced some economic uncertainty. There can be
no assurances that the economies in Asia-Pacific will recover in the near
term. The result could well be delayed payments for pending orders, a slowdown
in the rate of privatization of telecommunications services providers and a
reduction in future purchases of our products and services.*
9
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A majority of our international sales are currently denominated in U.S.
dollars. As a result, our current exchange rate exposure is not material.
However, an increase in the value of the U.S. dollar relative to foreign
currencies could make our products more expensive and potentially less
competitive in foreign markets.* In addition, there can be no assurances that
we will continue to be successful in avoiding exchange rate exposures.*
OSI's international business involves a number of inherent risks, including
longer receivable collection periods, greater difficulty in collections,
difficulty in staffing and managing operations, a longer sales cycle,
potentially unstable political conditions, language barriers, cultural
differences, unexpected changes in regulatory requirements, the burden of
complying with a wide variety of foreign laws, including, reduced protection
for intellectual property rights, potentially adverse tax consequences,
tariffs, and other trade barriers. We expect that international revenues will
continue to provide a significant portion of our total revenues.* There can be
no assurances that the factors outlined above will not have a material adverse
affect on our future international sales and therefore our overall operating
results and financial condition.
<TABLE>
<CAPTION>
FOR THE THREE MONTHS ENDED FOR THE SIX MONTHS ENDED
---------------------------------- --------------------------
DEC. 31, DEC. 31, DEC. 31, DEC. 31,
1997 CHANGE 1996 1997 CHANGE 1996
---------- ------- ---------- -------- ------ --------
(IN THOUSANDS, EXCEPT PERCENTAGES)
<S> <C> <C> <C> <C> <C> <C>
COST OF REVENUES:
Cost of license reve-
nues................... $ 576 29% $ 445 $ 887 10% $ 805
Percentage of revenues.. 4% 2% 4% 2%
Cost of service and
other revenues......... $ 6,555 32% $ 4,969 $ 11,634 38% $ 8,410
Percentage of revenues.. 42% 25% 51% 23%
Total cost of revenues.. $ 7,131 32% $ 5,414 $ 12,521 36% $ 9,215
Percentage of revenues.. 46% 27% 55% 25%
Gross profit............ $ 8,343 (43%) $ 14,609 $ 10,356 (63%) $28,363
Percentage of revenues.. 54% 73% 45% 75%
</TABLE>
Cost of License Revenues. Cost of license revenues consists primarily of
- ------------------------
license fees paid to third-party software vendors and the costs of product
media and duplication, manuals, packaging materials, shipping expenses,
amortization of capitalized software costs, amortization of intangible costs,
and related labor costs. For the three months and six months ended December
31, 1997, compared with the three months and six months ended December 31,
1996, cost of license revenues remained relatively consistent in absolute
dollars due to our consistent level of fixed production costs. These costs,
coupled with decreased revenues, led to a decline in license revenue gross
profit. License revenue gross profit declined to 94% from 97%, and 93% from
97%, for the three months and six months ended December 31, 1997 compared with
the three months and six months ended December 31, 1996, respectively.
Cost of Service and Other Revenues. Cost of service and other revenues
- ----------------------------------
consists primarily of personnel costs related to providing professional
services and maintenance services in connection with the licensing of our
products. It also includes outside service fees paid to third-party providers
of professional services, related travel costs, and overhead. We continued to
build our professional service and customer support organizations for the
three months and six months ended December 31, 1997, compared with the three
months and six months ended December 31, 1996.
Costs increased for the three months and six months ended December 31, 1997,
compared with the three months and six months ended December 31, 1996, due
mainly to increased salaries and related expenses from increased head count.
This includes employees who joined us as a result of our acquiring of certain
assets of our Australian distributor and increased costs related to third-
party providers of professional services. Gross margin (deficit) percentages
from service and other revenues were (4%) and 19% for the three months ended
December 31, 1997, and 1996, respectively, and (7%) and 20% for the six months
ended December 31, 1997, and 1996, respectively. The loss was due primarily to
our continued build-up of professional service personnel and related costs,
including recruiting and training, in order to provide for current and future
professional service requirements.
10
<PAGE>
See comments in the "Overview" section for further discussion on services and
other revenues. We believe that the cost of service and other revenues may
increase in absolute dollars and may continue to result in losses in this
segment of our business.*
<TABLE>
<CAPTION>
FOR THE THREE MONTHS ENDED FOR THE SIX MONTHS ENDED
---------------------------------- --------------------------
DEC. 31, DEC. 31, DEC. 31, DEC. 31,
1997 CHANGE 1996 1997 CHANGE 1996
---------- ------- ---------- -------- ------ --------
(IN THOUSANDS, EXCEPT PERCENTAGES)
<S> <C> <C> <C> <C> <C> <C>
OPERATING EXPENSES:
Sales and marketing..... $ 9,206 30% $ 7,091 $16,573 31% $12,674
Percentage of revenues.. 60% 35% 72% 34%
Research and develop-
ment................... $ 3,623 (3%) $ 3,726 $ 7,065 5% $ 6,697
Percentage of revenues.. 23% 19% 31% 18%
General and administra-
tive................... $ 2,050 (43%) $ 3,626 $ 3,902 (31%) $ 5,642
Percentage of revenues.. 13% 18% 17% 15%
Total operating ex-
penses................. $ 14,879 3% $ 14,443 $27,540 10% $25,013
Percentage of revenues.. 96% 72% 120% 67%
</TABLE>
Sales and Marketing. Sales and marketing expenses consist mainly of salaries,
- -------------------
commissions and bonuses for sales and marketing personnel, facilities costs
associated with our sales and customer support offices, and promotional
expenses. The increase in sales and marketing expenses for the three months and
six months ended December 31, 1997, compared with the three months and six
months ended December 31, 1996, mainly resulted from the expansion our sales and
marketing organization, expansion of our indirect sales channels, particularly
outside of North America, increases in facility costs related to that expansion
and increased expenses for trade shows, and advertising and other marketing
programs. The increase also reflects amortization expense related to our
acquisition of certain assets from our distributor in Australia. In the quarter
ended December 31, 1997, we recorded an additional charge of $0.9 million to our
Asia-Pacific sales operations due to uncertainty in the economic conditions in
the area.
Increased expenses in these areas reflect implementation of the third and
fourth elements of our strategy as described in the "Overview" section. The
increase in sales and marketing expenses as a percentage of revenues for the
three months and six months ended December 31, 1997, compared with the three
months and six months ended December 31, 1996, resulted from the absolute
increase in those expenses coupled with the decrease in revenues over the same
period. We expect that sales and marketing expenses in future periods may
continue to increase in absolute dollars.*
Research and Development. Research and development expenses remained
- ------------------------
consistent for the three months ended December 31, 1997, compared with the
three months ended December 31, 1996. The increase in research and development
expenses for the six months ended December 31, 1997, compared with the six
months ended December 31, 1996, was primarily the result of increased staffing
and associated equipment, facilities and support for software engineers. We
expect to continue committing significant resources to research and
development in future periods to enhance and extend our core technology and
product lines.* We also expect that research and development expenses in the
future periods will continue to increase in absolute dollars.*
General and Administrative. General and administrative expenses consist
- --------------------------
mainly of personnel costs for finance, human resources, and general
management. Also included are outside professional service fees, corporate
insurance expense, and provision for bad debts. The decrease in general and
administrative expenses for the three months and six months ended December 31,
1997, compared with the three months and six months ended December 31, 1996,
was due primarily to a decrease in the provision for bad debts and the absence
of certain extraordinary expenses incurred in the earlier period. See
discussion regarding allowance for doubtful accounts in the "Liquidity and
Capital Resources" section.
General and administrative expenses may increase in the future with our
continued growth and the hiring of additional executive personnel.* Although
we believe the allowance for doubtful accounts is adequate as of
11
<PAGE>
December 31, 1997, we will continue to review this allowance and adjust it as
needed. This may result in additional charges to general and administrative
expense.*
OTHER INCOME, NET:
<TABLE>
<CAPTION>
FOR THE THREE MONTHS ENDED FOR THE SIX MONTHS ENDED
----------------------------------- -------------------------
DEC. 31, DEC. 31, DEC. 31, DEC. 31,
1997 CHANGE 1996 1997 CHANGE 1996
--------- -------- --------- -------- ------ --------
(IN THOUSANDS, EXCEPT PERCENTAGES)
<S> <C> <C> <C> <C> <C> <C>
Other income, net....... $ 337 (49%) $ 659 $852 (37%) $1,342
Percentage of revenues.. 2% 3% 4% 4%
</TABLE>
Other Income, Net. The decrease in other income, net was due to reductions in
- -----------------
interest income earned on decreased levels of cash, cash equivalents and short-
term investments for the three months and six months ended December 31, 1997,
compared with the three months and six months ended December 31, 1996. This
decrease was caused primarily by the use of funds for operations and capital
expenditures over the twelve-month period ended December 31, 1997.
PROVISION (BENEFIT) FOR INCOME TAXES:
<TABLE>
<CAPTION>
FOR THE THREE MONTHS ENDED FOR THE SIX MONTHS ENDED
------------------------------- -------------------------
DEC.31, DEC. 31, DEC. 31, DEC. 31,
1997 CHANGE 1996 1997 CHANGE 1996
----------- ------- --------- -------- ------ --------
(IN THOUSANDS, EXCEPT PERCENTAGES)
<S> <C> <C> <C> <C> <C> <C>
Provision (benefit) for
income taxes........... $ (2,178) NM $ 291 $ (5,501) NM $ 1,805
Percentage of revenues.. (14%) 1% (24%) 5%
</TABLE>
- --------
NM -- Not meaningful.
Provision (Benefit) for Income Taxes. The provision (benefit) for income
- ------------------------------------
taxes includes federal, state, and foreign income taxes. The effective tax
(benefit) rate for the six months ended December 31, 1997, compared with the
six months ended December 31, 1996, was (34%) and 38%, respectively. The
effective tax rates for these periods differ from the federal statutory rate
due mainly to state income taxes and losses in certain state and foreign
jurisdictions for which no tax benefit is recorded. This is partially offset by
certain research and development tax credits.
FACTORS THAT MAY AFFECT FUTURE RESULTS
OSI's quarterly operating results have varied significantly in the past and
we believe that they will vary significantly in the future.* The fluctuation in
quarterly license revenues is caused by the timing of fulfilling large orders
by our customers, including global telecommunications providers and the new
emerging communications service providers as described more fully in the
"Overview" section. Large orders are typically preceded by long sales cycles,
and accordingly, it has been and will continue to be difficult to predict when
these orders will be received.* We expect that quarterly license revenues will
continue to vary significantly depending on the timing of large orders.* The
failure to obtain a large order during any given reporting period, for whatever
reason, will have a material adverse effect on our business, operating
results, and financial condition.*
OSI's quarterly operating results have also varied significantly in the past
and we believe that they will vary significantly in the future.* This variance
results from factors such as the capital spending patterns of our customers,
changes in our pricing policies or those of our competitors, increased
competition, cancellation of licenses or support agreements, changes in
operating expenses, personnel changes, fluctuation in the demand for NetExpert,
the number, timing and significance of new product and product enhancement
announcements by OSI and our competitors, our ability to develop, introduce and
market new and enhanced versions of NetExpert on a timely basis, the mix of
direct and indirect sales, our assessment of our allowance for bad debts or
sales returns, and general economic factors, among others.* Due to these
factors, our quarterly revenue and operating results are difficult to
forecast.*
12
<PAGE>
Revenues are also difficult to forecast because our sales cycle, from
initial evaluation to product installation, varies substantially from customer
to customer. The purchase of network operations support and network
management applications generally involves a significant commitment of
capital. This may add significant time to the cycle due to internal approval
procedures. It also may involve testing and acceptance of new technologies
that affect crucial customer operations. For these and other reasons, the
sales cycle for our products is often lengthy and subject to a number of
significant risks over which we have little or no control. See further
discussion of the shift of our customer base in the "Overview" section.
In addition, we typically receive a significant portion of our orders and
record the resulting revenue, in the last weeks or even days of a quarter.
Expense levels are based, in part, on our expectations of future revenues. If
actual revenues are below expectations, operating results can be adversely
affected. In particular, because only a small portion of our expenses vary
with revenue, net income may be disproportionately affected by a shortfall in
anticipated revenue. We believe this pattern will continue.*
OSI's transactions have been primarily in U.S. dollars through December 31,
1997. As we expand our operations and establish more sales offices in foreign
countries, transactions in foreign currencies may increase.* This would result
in a corresponding increase in exchange rate risk. If exchange rates change
unfavorably, this could result in charges to operations.*
Our customers operate in a variety of environments, many of which contain
computer systems that were not designed to process dates beyond 1999.
Accordingly, computer software and hardware will have to be modified before
the year 2000 to remain functional. If our customers and potential customers
must allocate substantial resources to resolve their Year 2000 problems, we
could experience a reduced demand for our products and services.* This would
result in a material adverse impact on our financial condition.
We are currently identifying Year 2000 dependencies in our internal systems.
As these dependencies are identified, changes will be implemented to make
internal systems Year 2000 compliant. We are not currently aware of any
material operational issues or costs associated with preparing our internal
systems for the Year 2000. However, we can give no assurances that we will not
experience unanticipated material costs caused by undetected errors or defects
in our internal systems. Delays in the implementation of new information
systems, or a failure to identify all of our Year 2000 dependencies could
result in material adverse consequences including delays in the delivery or
sale of our products.*
We are taking measures to bring our products into Year 2000 compliance in a
timely way. We are currently coding and testing the changes required to make our
framework products compliant. However, we can give no assurances that our
efforts will be successful or that our compliant products will be able to
function when they are integrated with other noncompliant products, including
third party software and hardware. If our products are not able to manage and
manipulate data related to the Year 2000, the result could be a material
adverse affect on our business, operating results, and financial condition.
Based upon all of the above, we believe our quarterly revenues and operating
results are likely to vary significantly in the future.* We also believe that
period-to-period comparisons of our results are not necessarily meaningful and
should not be relied upon as indications of future performance.* Further, it
is likely that in some future quarter our revenues or operating results will
be below the expectations of public market analysts and investors.* If that
occurs, the price of our Common Stock could be materially, adversely
affected.*
LIQUIDITY AND CAPITAL RESOURCES
For the six months ended December 31, 1997, we experienced net cash used for
operations of $10.0 million compared with net cash provided by operations of
$8.5 million for the six months ended December 31, 1996. The cash used for
operations was due mainly to our net loss and increases in deferred income
taxes receivable and accounts payable. Accounts receivable decreased from
increased collection efforts which offset the net cash used for operations. In
the six months ended December 31, 1997, sales of short-term investments
provided $8.5
13
<PAGE>
million of cash while cash was used for purchases of property and equipment
for our growing operations. We currently expect to make capital expenditures
of $8.0 million to $12.0 million in the next twelve months, primarily for the
purchase of computer equipment and related software, furniture and fixtures,
and leasehold improvements.*
As of December 31, 1997, we had working capital of approximately $56.2
million, including $33.1 million in cash, cash equivalents, and short-term
investments. In addition, we have a $2.5 million unsecured revolving line of
credit which expires in December 1998. Under the line of credit, borrowings
bear interest at either (1) a fluctuating rate equal to the prime lending rate
in effect or (2) a fixed rate that is 2% above the London Inter-Bank Offered
Rate. As of December 31, 1997, we had not borrowed under our line of credit.
The agreement for the line contains certain financial covenants. As of
December 31, 1997, we were in compliance with those covenants.
From time to time, some of our accounts receivable are beyond their payment
terms. We maintain an allowance for doubtful accounts that we believes is
adequate to cover potential credit losses.* In fiscal 1997, we increased this
allowance by approximately $8.8 million to reflect increased exposure on
certain accounts receivable. We increased our allowance for doubtful accounts
in the six months ended December 31, 1997, by approximately $0.4 million. On
December 31, 1997, our reserves for bad debt and sales returns were $1.5
million and $1.0 million, respectively. We believe this is adequate to provide
for potential credit losses or sales returns.*
We believe that our cash balances and cash flow from operations are
sufficient to support our working capital requirements for at least the next
twelve months.* Thereafter, if cash generated from operations cannot satisfy
our working capital requirements, we may need to raise additional funds.
Financing may not be available or, if it is, may not be obtainable on terms
favorable to us or our stockholders.* If we raise additional capital by
issuing equity or convertible debt securities, ownership dilution to
stockholders will result. If funds are unavailable, our business may be
adversely affected.
14
<PAGE>
PART II.OTHER INFORMATION
ITEM 4.SUBMISSION OF MATTERS TO A VOTE OF SECURITIES HOLDERS
On November 21, 1997, we held our Annual Meeting of Stockholders. At the
meeting, the stockholders elected as directors Richard G. Vento (with
29,582,682 affirmative votes, and 28,007 votes withheld), Tom L. Johnson (with
29,582,582 affirmative votes, and 28,107 votes withheld), George F. Schmitt
(with 29,582,776 affirmative votes, and 27,913 votes withheld), Jonathan B.
Shantz (with 29,582,646 affirmative votes, and 28,043 votes withheld) and Dr.
Kornel Terplan (with 29,429,978 affirmative votes, and 180,711 votes
withheld).
An amendment to our 1994 Stock Option Plan was approved increasing the
number of shares of Common Stock reserved for issuance by 3,000,000 shares
(with 22,639,829 affirmative votes, 1,658,715 negative votes, 96,895
abstaining and 5,215,250 non-broker votes).
An amendment to our 1995 Employee Stock Purchase Plan was approved
increasing the number of shares of Common Stock reserved for issuance by
800,000 shares (with 23,882,882 affirmative votes, 848,541 negative votes,
106,372 abstaining and 4,772,894 non-broker votes).
The stockholders also ratified the appointment of Deloitte & Touche LLP, as
our independent public accountants for fiscal year 1998 (with 29,568,807
affirmative votes, 17,410 negative votes, 24,472 abstaining and 0 non-broker
votes).
15
<PAGE>
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits:
27.1Financial Data Schedule
(b) Reports on Form 8-K
None.
16
<PAGE>
SIGNATURE
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.
OBJECTIVE SYSTEMS INTEGRATORS, INC.
Dated: February 12, 1998 By: /s/ David M. Allen
-------------------------------------
David M. Allen, Chief Financial
Officer
(Principal Financial and Accounting
Officer and Duly Authorized Officer)
17
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM DECEMBER 31,
1997 FINANCIAL STATEMENTS AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH
FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C> <C>
<PERIOD-TYPE> 3-MOS 6-MOS
<FISCAL-YEAR-END> JUN-30-1998 JUN-30-1998
<PERIOD-START> OCT-01-1997 JUL-01-1997
<PERIOD-END> DEC-31-1997 DEC-31-1997
<CASH> 16,189 16,189
<SECURITIES> 16,900 16,900
<RECEIVABLES> 16,372 16,372
<ALLOWANCES> (1,544) (1,544)
<INVENTORY> 0 0
<CURRENT-ASSETS> 75,452 75,452
<PP&E> 29,840 29,840
<DEPRECIATION> (12,127) (12,127)
<TOTAL-ASSETS> 97,224 97,224
<CURRENT-LIABILITIES> 19,296 19,296
<BONDS> 0 0
0 0
0 0
<COMMON> 84,710 84,710
<OTHER-SE> (7,712) (7,712)
<TOTAL-LIABILITY-AND-EQUITY> 97,224 97,224
<SALES> 0 0
<TOTAL-REVENUES> 15,474 22,877
<CGS> 7,131 12,521
<TOTAL-COSTS> 22,010 40,061
<OTHER-EXPENSES> (337) (852)
<LOSS-PROVISION> 0 0
<INTEREST-EXPENSE> 0 0
<INCOME-PRETAX> (6,199) (16,332)
<INCOME-TAX> (2,178) (5,501)
<INCOME-CONTINUING> (4,021) (10,831)
<DISCONTINUED> 0 0
<EXTRAORDINARY> 0 0
<CHANGES> 0 0
<NET-INCOME> (4,021) (10,831)
<EPS-PRIMARY> (0.12) (0.33)
<EPS-DILUTED> (0.12) (0.33)
</TABLE>
