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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D. C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended: December 31, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from ____________ to ____________
COMMISSION FILE NUMBER: 0-27752
ANALOGY, INC.
(Exact name of registrant as specified in its charter)
OREGON 93-0892014
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
9205 SW GEMINI DRIVE
BEAVERTON, OREGON 97008
(Address of principal executive offices and zip code)
503-626-9700
(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 [ ]
COMMON STOCK, NO PAR VALUE 9,504,899
(Class) (Shares outstanding at February 2, 1999)
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ANALOGY, INC.
FORM 10-Q
INDEX
<TABLE>
<CAPTION>
PART I - FINANCIAL INFORMATION Page
----
<S> <C>
Item 1. Financial Statements:
Consolidated Balance Sheets - December 31, 1998
and March 31, 1998..............................................................................2
Consolidated Statements of Operations - Three Months and Nine Months
ended December 31, 1998 and 1997................................................................3
Consolidated Statements of Cash Flows -Nine Months
ended December 31, 1998 and 1997................................................................4
Notes to Consolidated Financial Statements......................................................5
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations........................................................7
Item 3. Quantitative and Qualitative Disclosure About Market Risk.............................15
PART II - OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K.......................................................15
</TABLE>
1
<PAGE>
PART I - FINANCIAL INFORMATION
ANALOGY, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In thousands)
(Unaudited)
<TABLE>
<CAPTION>
December 31, March 31,
1998 1998
------------------ -------------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 1,226 $ 8,130
Accounts receivable 6,534 3,946
Prepaid expenses 1,245 1,160
Other assets, net 1,772 506
---------- -----------
Total current assets 10,777 13,742
Furniture, fixtures and equipment, net of accumulated
depreciation and amortization of $9,803 and $8,073 2,789 3,811
Library costs, net 4,269 3,924
Other assets, net 2,027 1,498
---------- -----------
---------- -----------
$ 19,862 $ 22,975
---------- -----------
---------- -----------
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable and accrued expenses $ 1,290 $ 1,895
Current portion of capital leases 349 536
Accrued salaries and benefits 2,463 2,726
Unearned revenue 8,217 7,254
---------- -----------
Total current liabilities 12,319 12,411
Non-current portion of capital leases 287 454
Deferred contract revenue 1,485 1,308
Other liabilities 83 107
Shareholders' equity:
Common stock, no par value, authorized 35,000 shares;
9,438 and 9,330 shares issued and outstanding 18,346 17,906
Other comprehensive loss- foreign currency translation (188) (205)
Accumulated deficit (12,470) (9,006)
---------- -----------
Total shareholders' equity 5,688 8,695
---------- -----------
$ 19,862 $ 22,975
---------- -----------
---------- -----------
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
2
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ANALOGY, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share amounts)
(Unaudited)
<TABLE>
<CAPTION>
Three months ended Nine months ended
December 31, December 31,
----------------------------- -----------------------------
1998 1997 1998 1997
------------- ----------- ------------ -------------
<S> <C> <C> <C> <C>
Revenue:
Product licenses $ 4,316 $ 4,511 $ 11,196 $ 10,732
Service and other 2,942 3,335 7,891 9,068
--------- -------- --------- ----------
Total revenue 7,258 7,846 19,087 19,800
Cost of revenue:
Product licenses 478 364 1,407 1,344
Service and other 450 669 988 2,205
--------- -------- --------- ----------
Total cost of revenue 928 1,033 2,395 3,549
--------- -------- --------- ----------
Gross profit 6,330 6,813 16,692 16,251
Operating expenses:
Research and development 2,081 1,587 6,773 4,290
Sales and marketing 3,383 3,868 10,066 10,172
General and administrative 586 727 1,892 2,151
Amortization of intangibles 92 92 276 276
Restructuring charges - - 557 -
--------- -------- --------- ----------
Total operating expenses 6,142 6,274 19,564 16,889
--------- -------- --------- ----------
Operating income (loss) 188 539 (2,872) (638)
Other expense, net (15) (77) (246) (83)
--------- -------- --------- ----------
Income (loss) before income
taxes 173 462 (3,118) (721)
Income tax expense (benefit) 120 115 346 (180)
--------- -------- --------- ----------
Net income (loss) $ 53 $ 347 $ (3,464) $ (541)
--------- -------- --------- ----------
--------- -------- --------- ----------
Basic net income (loss) per share $ 0.01 $ 0.04 $ (0.37) $ (0.06)
--------- -------- --------- ----------
--------- -------- --------- ----------
Diluted net income (loss) per share $ 0.01 $ 0.04 $ (0.37) $ (0.06)
--------- -------- --------- ----------
--------- -------- --------- ----------
Shares used in per share calculations
Basic 9,437 9,193 9,404 9,164
--------- -------- --------- ----------
--------- -------- --------- ----------
Diluted 9,674 9,834 9,404 9,164
--------- -------- --------- ----------
--------- -------- --------- ----------
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
3
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ANALOGY, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
(In thousands)
(Unaudited)
<TABLE>
<CAPTION>
Nine months ended December 31,
-----------------------------------
1998 1997
-------------- --------------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $ (3,464) $ (541)
Adjustments to reconcile net loss to net cash
(used in) provided by operating activities:
Depreciation and amortization 3,050 2,843
Changes in operating assets and liabilities:
Accounts receivable (2,427) (477)
Prepaid expenses and other assets (449) (404)
Accounts payable and accrued expenses (1,014) (936)
Unearned revenue (751) 877
---------- ----------
Net cash (used in) provided by operating activities (5,055) 1,362
---------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Maturities of marketable securities -- 1,700
Capital expenditures for furniture, fixtures and equipment (597) (1,042)
Capital expenditures for library costs (1,367) (1,712)
---------- ----------
Net cash used in investing activities (1,964) (1,054)
---------- ----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Principal payments on capital lease obligations (431) (352)
Proceeds from exercise of stock options and warrants 441 243
---------- ----------
Net cash provided by (used in) financing activities 10 (109)
---------- ----------
Effect of exchange rate changes on cash and cash equivalents 105 (25)
---------- ----------
Net (decrease) increase in cash and cash equivalents (6,904) 174
Cash and cash equivalents at beginning of period 8,130 1,827
---------- ----------
Cash and cash equivalents at end of period $ 1,226 $ 2,001
---------- ----------
---------- ----------
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid for:
Interest $ 176 $ 103
Income taxes 348 125
SUPPLEMENTAL DISCLOSURE OF NONCASH INFORMATION:
Acquisition of equipment under capital lease obligations $ 78 $ 319
Recording of deferred and unearned contract revenue 2,560 --
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
4
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ANALOGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. BASIS OF PRESENTATION
The unaudited financial information included herein for the three and nine
months ended December 31, 1998 and 1997 was prepared in conformity with
generally accepted accounting principles. The financial information as of
March 31, 1998 is derived from the Analogy, Inc. (the "Company") consolidated
financial statements included in the Company's Annual Report on Form 10-K for
the year ended March 31, 1998. Certain information or footnote disclosures
normally included in financial statements prepared in accordance with
generally accepted accounting principles have been condensed or omitted,
pursuant to the rules and regulations of the Securities and Exchange
Commission. In the opinion of management, the accompanying consolidated
financial statements include all adjustments necessary (which are of a normal
and recurring nature) for the fair presentation of the results of the interim
periods presented. The accompanying consolidated financial statements should
be read in conjunction with the Company's audited consolidated financial
statements for the year ended March 31, 1998, as included in the Company's
Annual Report on Form 10-K for the year ended March 31, 1998.
Operating results for the three and nine months ended December 31, 1998 are
not necessarily indicative of the results that may be expected for the entire
fiscal year ending March 31, 1999, or any portion thereof.
2. RECLASSIFICATIONS
At September 30, 1998, the Company recorded deferred contract revenue
primarily related to a long term contract received during the second quarter
of fiscal year 1999, and reclassified certain similar prior period amounts to
conform with the second quarter presentation. Certain other prior period
amounts have been reclassified to conform with the current period
presentation.
3. COMPREHENSIVE INCOME (LOSS)
On April 1, 1998, the Company adopted Statement of Financial Accounting
Standards No. 130, "Reporting Comprehensive Income" ("SFAS 130"), which
establishes requirements for disclosure of comprehensive income. The
objective of SFAS 130 is to report all changes in equity that result from
transactions and economic events other than transactions with owners.
Comprehensive income is the total of net income and all other non-owner
changes in equity. Adoption of SFAS 130 did not impact the Company's
consolidated financial position, results of operations or cash flows for the
three and nine months ended December 31, 1998 and 1997. The reconciliation of
net income (loss) to comprehensive income (loss) is as follows (in thousands):
<TABLE>
<CAPTION>
Three Months Ended December 31,
--------------------------------------
1998 1997
--------- ---------
<S> <C> <C>
Net income $ 53 $ 347
Foreign currency translation adjustments (16) (49)
--------- ---------
Comprehensive income $ 37 $ 298
--------- ---------
--------- ---------
Nine Months Ended December 31,
--------------------------------------
1998 1997
--------- ---------
Net loss $ (3,464) $ (541)
Foreign currency translation adjustments 17 (68)
--------- ---------
Comprehensive loss $ (3,447) $ (609)
--------- ---------
--------- ---------
</TABLE>
5
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4. NET (LOSS) INCOME PER SHARE
The Company has adopted Financial Accounting Standards Board Statement of
Financial Accounting Standards No. 128, "Earnings per Share" ("SFAS 128").
Basic net loss per common share is computed by dividing net loss by the
weighted average number of shares of common stock outstanding for the period.
Diluted net loss per common share for all periods presented is the same as
basic net loss per share since all potential dilutive securities are excluded
because they are antidilutive. Basic earnings per common share is computed
using the weighted average number of shares of common stock outstanding for
the period. Diluted earnings per common share is computed using the weighted
average number of shares of common stock and potential common shares related
to stock options and warrants outstanding during the period. Potential common
shares of 237,000 and 641,000 were used in the calculation of diluted
earnings per share for the quarters ended December 31, 1998 and 1997,
respectively.
The dilutive effect of stock options outstanding for the purchase of
1,728,000 shares for the nine months ended December 31, 1998, and 1,491,000
shares for the nine months ended December 31, 1997; and warrants outstanding
for the purchase of 200,000 shares for the nine months ended December 31,
1998, and 410,000 shares for nine months ended December 31, 1997,
respectively, were not included in loss per share calculations, because to do
so would have been antidilutive.
5. RESTRUCTURING
Results of operations for the first quarter of fiscal year 1999 included a
$557,000 charge for costs associated with a restructuring plan undertaken to
improve profitability. The restructuring plan consisted of a work force
reduction primarily in the marketing and research and development functions
of the Company. All of the restructuring charges were paid in the first
quarter of fiscal year 1999.
6
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
GENERAL
The Company develops, markets and supports high-performance software and
model libraries for the top-down design and behavioral simulation of
mixed-signal and mixed-technology systems.
The Company's product license revenue consists of license fees for its
software products and template and component model library subscription fees.
Service and other revenue consists of software maintenance fees, training,
consulting and both commercial and governmental contract model development
and research and development contracts. The Company's software products are
shipped only after the Company has an executed software license agreement
with a customer. Revenue from software licenses is recognized upon shipment
to the customer. Revenue from sales to resellers is generally recognized upon
shipment to the reseller. In the case of certain long-term contracts, revenue
is recognized on a subscription basis over the life of the contract. Revenue
from library subscription fees is typically billed annually and the related
revenue is recognized ratably over the life of the contract, usually twelve
months. Maintenance is normally billed in advance and recognized ratably over
the life of the contract, which is usually twelve months. Training,
consulting and certain other services revenue is recognized as the services
or portions thereof have been provided. Revenue from contract model
development is generally recognized upon shipment of the underlying models,
or upon acceptance criteria as agreed to with the customer.
The Company received a modeling contract from the U.S. Air Force in fiscal
year 1997. The Company also received a contract from the Defense Advanced
Research Projects Agency ("DARPA") in fiscal year 1997 and a multi-year grant
from the National Institute of Standards and Technology ("NIST") in fiscal
year 1996 which provided funding to the Company for research and development.
The DARPA contract contains cost sharing provisions. The final models under
the U.S. Air Force contract were delivered in the fourth quarter of fiscal
year 1998, therefore, no further revenues will be received in fiscal year
1999 from this source. In addition, revenues from the NIST grant concluded at
the end of the first quarter of fiscal year 1999 and revenues from the DARPA
contract are expected to be minimal in fiscal year 1999, as this award nears
expiration. There can be no assurance that revenues from the U.S. Air Force,
DARPA or NIST will be replaced.
FACTORS THAT MAY AFFECT FUTURE RESULTS
This report, including the following discussion and analysis of financial
condition and results of operations, contains certain statements, trend
analysis and other information that constitute "forward looking statements"
within the meaning of the Private Securities Litigation Reform Act of 1995,
which may involve risks and uncertainties. Such forward looking statements
include, but are not limited to, statements including the words "anticipate,"
"believe," "estimate," "expect," "plan," "intend" and other similar
expressions. These forward looking statements involve risks and uncertainties
that could cause actual results to differ materially from the forward-looking
statements, including, without limitation, the receipt and timing of orders
for the Company's products, changes in capital spending plans by key
customers, the lengthy sales cycles for the Company's products, the effect of
the Asian economic situation, the impact of expense reductions on the
Company, increased adoption of behavioral modeling design methodologies for
mixed-signal and mixed-technology systems design, the Company's ongoing
ability to introduce new products and expand its markets, seasonal
fluctuations in the Company's order patterns and competitive initiatives,
unanticipated costs related to the Year 2000 issue, and other risks listed
from time to time in the Company's periodic reports filed with the Securities
and Exchange Commission, including without limitation the Company's Report on
Form 10-K for the year ended March 31, 1998, or otherwise disclosed by the
Company.
Results of operations for the periods discussed below should not be considered
indicative of the results to be expected in any future period, and fluctuations
in operating results may also result in fluctuations in the market price of the
Company's common stock. Like most high technology companies, the Company faces
certain
7
<PAGE>
business risks that could have adverse effects on the Company's results of
operations, including those discussed below, and those discussed elsewhere in
this Report.
The Company's quarterly operating results have in the past fluctuated as a
result of the large percentage of orders that are not received by the Company
until near the end of the quarter. The Company's expense levels are based, in
part, on its expectations as to future revenue. If revenue levels are below
expectations, results of operations may be disproportionately affected
because only a small portion of the Company's expenses varies with its
revenue. As a result, the Company may not learn of, or be able to confirm,
revenue or earnings shortfalls until late in the quarter or following the end
of the quarter. Seasonal factors, including decreases in revenues in European
markets in the second fiscal quarter resulting from European holidays in July
and August, and cyclical economic patterns in the aerospace, defense,
automotive or other end-user industries also contribute to quarter-to-quarter
fluctuations. Any shortfall in revenue or earnings from expected levels or
other failure to meet expectations of the financial markets regarding results
of operations could have an immediate and significant adverse effect on the
trading price of the Company's common stock in any given period.
The Company has historically derived a significant portion of its revenue
from the aerospace and defense industries, which have been characterized by
significant technological changes, high cyclicality and the potential for
significant downturns in business activity resulting from changes in economic
conditions or governmental resources and spending policies. The Company also
has historically derived a significant portion of its revenue from the
automotive industry. The automotive industry is characterized by high
cyclicality, technological change, fluctuations in manufacturing capacity,
labor issues, and pricing and gross margin pressures. This industry has from
time to time experienced significant economic downturns characterized by
decreased product demand, production over-capacity, price erosion, work
slowdowns and layoffs. No assurance can be given that the industries served
by the Company will experience economic growth, will not experience a
downturn or that any downturn will not be severe, or that such conditions
would not have a material adverse effect on the Company's business, financial
condition and results of operations.
The Company's operating results have depended, and will continue to depend,
upon designers of mixed-signal and mixed-technology systems adopting methods
of design analysis and simulation which use behavioral modeling techniques.
The design analysis and simulation industry is characterized by rapid
technological change, frequent new product introductions and evolving
industry standards. The introduction of products embodying new technologies
and the emergence of new industry standards can render existing products
obsolete and unmarketable. The Company's future success will depend upon its
ability to enhance its current products and to develop or acquire new
products that keep pace with technological developments and emerging industry
standards and address the increasingly sophisticated needs of its customers.
8
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RESULTS OF OPERATIONS
The following tables set forth for the periods indicated selected items of the
Company's consolidated statements of operations and such items expressed as a
percentage of total revenue (dollars in thousands):
<TABLE>
<CAPTION>
- -----------------------------------------------------------------------------------------------------
THREE MONTHS THREE MONTHS
ENDED ENDED
STATEMENT OF OPERATIONS DATA: DECEMBER 31, 1998 DECEMBER 31,
1997
-------------------- ---------------------
<S> <C> <C> <C> <C>
Revenue:
Product licenses $ 4,316 59.5 % $ 4,511 57.5 %
Service and other 2,942 40.5 3,335 42.5
-------- -------- --------- --------
Total revenue 7,258 100.0 7,846 100.0
Cost of revenue:
Product licenses 478 6.6 364 4.7
Service and other 450 6.2 669 8.5
-------- -------- --------- --------
Total cost of revenue 928 12.8 1,033 13.2
-------- -------- --------- --------
Gross profit 6,330 87.2 6,813 86.8
Operating expenses:
Research and development 2,081 28.7 1,587 20.2
Sales and marketing 3,383 46.6 3,868 49.3
General and administrative 586 8.1 727 9.3
Amortization of intangibles 92 1.2 92 1.2
-------- -------- --------- --------
Total operating expenses 6,142 84.6 6,274 80.0
-------- -------- --------- --------
Operating income 188 2.6 539 6.8
Other expense, net (15) (0.2) (77) (0.9)
-------- -------- --------- --------
Income before income taxes 173 2.4 462 5.9
Income tax expense 120 1.7 115 1.5
-------- -------- --------- --------
-------- -------- --------- --------
Net income $ 53 0.7 % $ 347 4.4 %
-------- -------- --------- --------
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</TABLE>
9
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<TABLE>
<CAPTION>
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NINE MONTHS NINE MONTHS
ENDED ENDED
STATEMENT OF OPERATIONS DATA: DECEMBER 31, 1998 DECEMBER 31, 1997
-------------------- ---------------------
<S> <C> <C> <C> <C>
Revenue:
Product licenses $ 11,196 58.7 % $ 10,732 54.2 %
Service and other 7,891 41.3 9,068 45.8
-------- -------- ---------- -------
Total revenue 19,087 100.0 19,800 100.0
Cost of revenue:
Product licenses 1,407 7.4 1,344 6.8
Service and other 988 5.2 2,205 11.1
-------- -------- ---------- -------
Total cost of revenue 2,395 12.6 3,549 17.9
-------- -------- ---------- -------
Gross profit 16,692 87.4 16,251 82.1
Operating expenses:
Research and development 6,773 35.5 4,290 21.7
Sales and marketing 10,066 52.7 10,172 51.4
General and administrative 1,892 9.9 2,151 10.8
Amortization of intangibles 276 1.4 276 1.4
Restructuring charges 557 2.9 -- --
-------- -------- ---------- -------
Total operating expenses 19,564 102.4 16,889 85.3
-------- -------- ---------- -------
Operating loss (2,872) (15.0) (638) (3.2)
Other expense, net (246) (1.3) (83) (0.4)
-------- -------- ---------- -------
Loss before income taxes (3,118) (16.3) (721) (3.6)
Income tax expense (benefit) 346 1.8 (180) (0.9)
-------- -------- ---------- -------
Net loss $ (3,464) (18.1) % $ (541) (2.7) %
-------- -------- ---------- -------
-------- -------- ---------- -------
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</TABLE>
THIRD QUARTER AND FIRST NINE MONTHS OF FISCAL YEARS 1999 AND 1998
REVENUE
Total revenue decreased 7.5% to $7.3 million in the third quarter of fiscal year
1999 from $7.8 million in the third quarter of fiscal year 1998, and decreased
3.6% to $19.1 million in the first nine months of fiscal year 1999 from $19.8 in
the first nine months of fiscal year 1998. No one customer accounted for 10% or
more of total revenue in the third quarter or first nine months of fiscal years
1999 or 1998.
Product license revenue decreased 4.3% to $4.3 million in the third quarter of
fiscal year 1999 from $4.5 million in the third quarter of fiscal year 1998, and
increased 4.3% to $11.2 million in the first nine months of fiscal year 1999
from $10.7 million in the first nine months of fiscal year 1998. Throughout
fiscal year 1999, the Company has experienced increased demand for its products
from customers in the U.S. and Europe, offset by reduced demand from customers
in Asia.
Service and other revenue decreased 11.8% to $2.9 million in the third quarter
of fiscal year 1999 from $3.3 million in the third quarter of fiscal year 1998,
and decreased 13.0% to $7.9 million in the first nine months of fiscal year 1999
from $9.1 million in the first nine months of fiscal year 1998. The decreases
were due primarily to decreased revenues under the NIST grant and U.S.
government contracts, offset by increasing demand for the Company's maintenance,
consulting and other services resulting from growth in the Company's installed
base. The final models under the U.S. Air Force contract were delivered in the
fourth quarter of fiscal year 1998, therefore, no further revenues will be
received in fiscal year 1999 from this source.
10
<PAGE>
In addition, revenues from the NIST grant concluded at the end of the first
quarter of fiscal year 1999 and revenues from the DARPA contract are expected
to be minimal in fiscal year 1999, as this award nears expiration. There can
be no assurance that revenues from the U.S. Air Force, DARPA or NIST will be
replaced. Revenues recognized under these contracts, in the aggregate, were
not significant as a percentage of total revenue in the three months and nine
months ended December 31, 1998, and were approximately $1.0 million and $2.6
million in the three months and nine months ended December 31, 1997,
respectively.
Total revenues from U.S. government-related sources, including the previously
mentioned specific awards, were not significant as a percentage of total
revenues in the first nine months of fiscal year 1999, and were approximately
13% of total revenues in the first nine months of fiscal year 1998.
The Company sells its products and services through its wholly-owned
subsidiaries in Europe and through distributors in Asia. International
revenue was $10.1 million (53% of total revenue) in the first nine months of
fiscal year 1999 compared to $8.1 million (41% of total revenue) in the first
nine months of fiscal year 1998. Throughout fiscal year 1999 the Company has
experienced reduced demand from customers in Asia and is continuing to
monitor the Asian financial situation and the impact on its customers.
COST OF REVENUE
Total cost of revenue decreased 10.2% to $928,000 in the third quarter of
fiscal year 1999 from $1.0 million in the third quarter of fiscal year 1998,
and decreased 32.5% to $2.4 million in the first nine months of fiscal year
1999 from $3.5 million in the first nine months of fiscal year 1998.
Cost of product license revenue consists primarily of documentation expense,
media manufacturing costs, supplies, shipping expense, amortization of
component and template model library costs and royalty payments. The Company
does not capitalize development costs for software products since the time
between the establishment of a working model of the software product and its
commercialization is typically of a short duration. Cost of product license
revenue increased to 11.1% of product license revenue in the third quarter of
fiscal year 1999 from 8.1% in the third quarter of fiscal year 1998, and
increased slightly to 12.6% of product license revenue in the first nine
months of fiscal year 1999 from 12.5% in the first nine months of fiscal year
1998. Costs such as documentation expense and supplies are expensed as
incurred, and development costs associated with creating the library of
component and template models are capitalized and amortized over the
estimated product life. These costs and amortization expenses may not
necessarily relate to the number of product licenses shipped during the
period.
Cost of service and other revenue consists primarily of maintenance and
customer support expenses (including product enhancements and improvements,
bug fixes, telephone support, installation assistance and on-site support),
certain contract model development costs associated with the U.S. Air Force
and DARPA contracts and the NIST grant (primarily in the fiscal year 1998
periods), and the direct cost of providing services such as training and
consulting. As a percentage of service and other revenue, cost of service and
other revenue decreased to 15.3% of service and other revenue in the third
quarter of fiscal year 1999 from 20.1% in the third quarter of fiscal year
1998, and decreased to 12.5% of service and other revenue in the first nine
months of fiscal year 1999 from 24.3% of service and other revenue in the
first nine months of fiscal year 1998. The decreases were primarily
attributable to decreased activity under the NIST grant, and the U.S. Air
Force and DARPA contracts, which had higher costs associated with them than
the Company's other services. The decrease in costs associated with the
government grant and contracts in the third quarter of fiscal year 1999 was
partially offset by increased outside services necessary in connection with
consulting revenue. The final models under the U.S. Air Force contract were
delivered in the fourth quarter of fiscal year 1998, therefore, no further
costs will be incurred in fiscal year 1999 in connection with this contract.
In addition, the NIST grant concluded at the end of the first quarter of
fiscal year 1999 and costs incurred under the DARPA contract are expected to
be minimal in fiscal year 1999 as this award nears expiration.
11
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RESEARCH AND DEVELOPMENT
Research and development expense includes all costs associated with
development of new products and technology research. Costs classified in this
category primarily include such items as salaries, fringe benefits and an
allocation of facilities and systems support costs including depreciation of
capital equipment used in research and development. Research and development
expenses increased 31.1% to $2.1 million in the third quarter of fiscal year
1999 from $1.6 million in the third quarter of fiscal year 1998, and
increased 57.9% to $6.8 million in the first nine months of fiscal year 1999,
from $4.3 million in the first nine months of fiscal year 1998. As discussed
under "Revenue" and "Cost of Revenue" above, the final models under the U.S.
Air Force contract were delivered in the fourth quarter of fiscal year 1998,
the NIST grant concluded at the end of the first quarter of fiscal year 1999
and the DARPA contract expires in fiscal 1999. Accordingly, payroll and
overhead related to research and development personnel performing work under
these contracts was matched with related revenues and recorded as cost of
service and other revenue in fiscal year 1998, whereas similar costs in the
first nine months of fiscal year 1999 were recorded as research and
development expense, which increased research and development expense in
fiscal 1999. This increase was partially offset by the work force reduction
which occurred in the first quarter of fiscal 1999, pursuant to the Company's
restructuring plan. As a percentage of total revenue, research and
development costs increased to 28.7% in the third quarter of fiscal year 1999
from 20.2% in the third quarter of fiscal year 1998, and increased to 35.5%
in the first nine months of fiscal year 1999 from 21.7% in the first nine
months of fiscal year 1998.
SALES AND MARKETING
Sales and marketing expense consists primarily of salaries, commissions,
travel and costs of promotional activities. Sales and marketing expense
decreased 12.5% to $3.4 million in the third quarter of fiscal year 1999 from
$3.9 million in the third quarter of fiscal year 1998, and decreased 1.0% to
$10.1 million in the first nine months of fiscal year 1999 from $10.2 million
in the first nine months of fiscal year 1998. Sales and marketing expenses
decreased in the third quarter and first nine months of fiscal year 1999
primarily as a result of the work force reduction which occurred in the first
quarter of fiscal 1999, pursuant to the Company's restructuring plan. The
decrease in the first nine months of fiscal year 1999 was offset by costs
associated with the Company's corporate image marketing campaign, which
occurred primarily in the fourth quarter of fiscal year 1998 and the first
quarter of fiscal year 1999. As a percentage of total revenue, sales and
marketing expenses decreased to 46.6% in the third quarter of fiscal year
1999 from 49.3% in the third quarter of fiscal year 1998, and increased to
52.7% in the first nine months of fiscal year 1999 from 51.4% in the first
nine months of fiscal year 1998.
GENERAL AND ADMINISTRATIVE
General and administrative expenses include costs associated with the
Company's executive staff, legal, accounting, corporate systems, facilities
and human resources departments. General and administrative expenses
decreased 19.4% to $586,000 in the third quarter of fiscal year 1999 compared
to $727,000 in the third quarter of fiscal year 1998, and decreased 12.0% to
$1.9 million in the first nine months of fiscal year 1999 compared to $2.2
million in the first nine months of fiscal year 1998. The decreases primarily
resulted from work force reductions implemented during the first quarter of
fiscal year 1999. As a percentage of total revenue, general and
administrative expenses decreased to 8.1% in the third quarter of fiscal year
1999 from 9.3% in the third quarter of fiscal year 1998, and decreased to
9.9% in the first nine months of fiscal year 1999 from 10.8% in the first
nine months of fiscal year 1998.
RESTRUCTURING CHARGES
Results of operations for the first quarter of fiscal year 1999 included a
$557,000 charge for costs associated with a restructuring plan undertaken to
improve profitability. The restructuring plan consisted of a work force
reduction primarily in the marketing and research and development functions
of the Company. All of the restructuring charges were paid in the first
quarter of fiscal year 1999.
12
<PAGE>
OTHER EXPENSE, NET
Other expense, net primarily consists of interest expense associated with
capital leases, the effects of foreign currency transaction gains and losses,
and interest income on cash, cash equivalents and marketable securities.
Other expense, net was $15,000 and $77,000 in the third quarters of fiscal
years 1999 and 1998, respectively. Other expense, net was $246,000 and
$83,000 in the first nine months of fiscal years 1999 and 1998, respectively.
The increase in the first nine months of fiscal year 1999 was primarily
attributable to amortization of finance charges in the first quarter of
fiscal year 1999, related to the sale of approximately $4.0 million of
accounts receivable to a financial institution in the fourth quarter of
fiscal year 1998, reduced interest income resulting from lower levels of cash
and cash equivalents held during the periods and the effect of foreign
currency transaction gains and losses. The decrease in the third quarter of
fiscal year 1999 primarily related to the effect of foreign currency
transaction gains and losses.
INCOME TAX EXPENSE (BENEFIT)
The Company provided for foreign income and withholding taxes of $346,000 and
$225,000 in the first nine months of fiscal years 1999 and 1998,
respectively. In the first nine months of fiscal year 1998, the Company also
recorded a benefit from the utilization of net operating loss carryforwards
of $405,000. The Company's effective tax rate is sensitive to shifts in
income and losses among the various countries in which the Company does
business, since in some countries the Company is in a tax paying position
while in other countries the Company has operating loss carryforwards
available to offset taxable income.
LIQUIDITY AND CAPITAL RESOURCES
Net cash used in operating activities was $5.1 million in the first nine
months of fiscal year 1999. This primarily resulted from a net loss for the
period, decreases in accounts payable and accrued expenses as a result of the
timing of payments, a decrease in unearned revenue due to revenue recognized
during the period, and an increase in accounts receivable, offset by
adjustments for depreciation and amortization. Accounts receivable increased
compared to the balance at March 31, 1998 which was net of a March 1998 sale
of approximately $4.0 million of accounts receivable to a financial
institution. Deferred contract revenue, unearned contract revenue and other
assets increased due to the recording of unearned and deferred revenue during
the second quarter of fiscal year 1999, primarily related to a long term
contract received during that quarter. (See Note 2 of Notes to Consolidated
Financial Statements.)
Net cash used in investing activities was $1.9 million in the first nine
months of fiscal year 1999, which primarily included expenditures associated
with the investment in the Company's component and template model libraries
and capital expenditures for the upgrade of corporate information systems.
Net cash provided by financing activities was $10,000 in the first nine
months of fiscal year 1999, which included proceeds from the exercise of
stock options and warrants offset by principal payments on capital lease
obligations.
The Company has an operating line of credit with a bank which allows the Company
to receive advances of up to $5.0 million based on 80% of eligible domestic
accounts receivable, and is secured by accounts receivable, furniture, fixtures
and equipment and general intangibles. Interest is payable monthly at the bank's
prime rate plus 0.5%. The line of credit facility requires the Company to
maintain certain financial and other covenants including minimum net worth,
results of operations and ratio of current assets to current liabilities. The
Company was in compliance with all covenants at December 31, 1998. At December
31, 1998, the Company had no amounts outstanding under the operating line and
available borrowing capacity of approximately $1.9 million. At February 11,
1999, the Company had borrowings outstanding under the operating line of
approximately $400,000, additional borrowing capacity of approximately $1.5
million (based on borrowing capacity as calculated at December 31, 1998) and
cash and cash equivalents of approximately $1.9 million. The line of credit
matures on March 4, 1999. The
13
<PAGE>
Company believes it will be able to successfully negotiate a renewal of this
line of credit in the fourth quarter of fiscal year 1999. If the Company
cannot successfully negotiate a renewal of the line of credit, the Company
may explore other financing alternatives, including factoring of accounts
receivable and equity financing.
The Company believes its existing cash and cash equivalents, combined with
amounts available under its operating line of credit and cash flows expected
to be generated by operations, will be sufficient to meet its anticipated
cash needs for working capital and capital expenditures through the end of
the current fiscal year. Beyond the end of the current fiscal year, depending
on a variety of factors which cannot be predicted with certainty, including
the Company's results of operations, receipt and timing of orders for the
Company's products, changes in capital spending plans by key customers, the
impact of expense reductions on the Company, the Company's ongoing ability to
introduce new products and expand its markets, seasonal fluctuations in the
Company's order patterns and unanticipated costs related to the Year 2000
issue, the Company may need to raise additional funds. Such additional
funding, if through factoring of accounts receivable or debt, could be more
costly than the Company's current line of credit or, if equity, could be
materially dilutive to existing shareholders. There can be no assurance that
additional financing would be available and, if available, that the terms
would be acceptable to the Company or that such financing could be obtained
in a timely manner. If adequate funds are not available as required, the
Company's ability to continue its research and product development efforts,
as well as the Company's financial condition and results of operations will
be adversely affected.
YEAR 2000 ISSUE
The Company is assessing its computer software programs and operating systems
used in its internal operations including development and accounting systems,
to determine their readiness for the Year 2000. The inability of computer
software programs and operating systems to accurately recognize, interpret
and process date data designating the Year 2000 and beyond could cause
systems to yield inaccurate results or encounter operating problems,
including disruption of the business operations these systems control. The
Company is approximately 90% complete with its internal assessment and
expects to complete the internal assessment by March 31, 1999.
The Company intends to contact major suppliers of products and services to
determine that the products and services provided to the Company are Year
2000 compliant. As the majority of the Company's major customers are "Fortune
100" companies, the Company intends to review Year 2000 public disclosures
made by its major customers to determine whether their operations are Year
2000 compliant. If the Company's major suppliers of products and services and
its major customers are not Year 2000 compliant, their noncompliance may
cause a material disruption to their businesses which could negatively impact
the Company in many ways, including the inability to collect payments from
customers and the delay or cessation of deliveries of products or services.
Additionally, risks associated with parties located outside the U.S. may be
higher as it is generally believed than non-U.S. businesses may not be
addressing their Year 2000 issues on as timely a basis as U.S. businesses.
There can be no assurance that major suppliers of products and services and
major customers will adequately address their Year 2000 issues. The Company
expects to complete its assessment of its major suppliers of products and
services and its major customers by November 30, 1999.
Like all businesses, the Company will be at risk from other external
infrastructure failures that could arise from Year 2000 failures. It is not
clear that electrical power, telephone and computer networks, for example,
will be fully functional in the countries in which the Company does business
in the year 2000. Investigation and assessment of infrastructures, like
national power grids, transportation systems, communications systems or major
institutions such as government or banking systems is beyond the scope and
resources of the Company. Investors should use their own awareness of
potential problems regarding infrastructure issues and their potential impact
on the Company's performance.
The Company has assessed its products to determine their readiness for the Year
2000. The Company's products do not require date-specific calculations and
therefore the Company believes they will be unaffected
14
<PAGE>
by the Year 2000 transition. The Company believes that its 5.0 product
version, scheduled for release near the end of fiscal year 1999 (March 31,
1999) or the beginning of fiscal year 2000 (April 1999), when used in
combination with compliant operating systems and development environment
software of third parties, will be Year 2000 compliant. To the extent that a
user of the Company's products does not have Year 2000 compliant operating
systems, the Company can give no assurance as to Year 2000 compliance of its
products used on such operating systems.
The Company has not incurred, and does not expect to incur material
incremental costs to ensure Year 2000 compliance of its systems or products.
Certain systems have been targeted for replacement based on Year 2000 and
other technology considerations. The Company anticipates that affected
systems will be replaced prior to June 30, 1999. However, related
expenditures are not anticipated to be material. At this time, the Company
foresees nominal incremental spending for the Year 2000 issue.
Based on the Company's assessment to date, the Company currently believes
that Year 2000 issues will not pose significant risks for the Company.
However, if all Year 2000 issues are not properly identified, or assessment,
remediation and testing are not effected timely with respect to Year 2000
problems that are identified, there can be no assurance that the Year 2000
issue will not have a material adverse impact on the Company's business,
financial condition or results of operations, or adversely affect the
Company's relationships with customers, vendors or others.
The Company has not yet developed a contingency plan for dealing with the
most likely worst-case scenario as such scenario has not yet been clearly
identified. The Company currently plans to complete such contingency planning
by November 30, 1999.
The costs of the Company's Year 2000 assessment, remediation and testing
efforts and the dates on which the Company believes it will complete such
efforts and the timing and effectiveness of the Company's future product
releases are forward-looking statements that are based upon management's best
estimates. Such estimates were derived using numerous assumptions regarding
future events, including the continued availability of certain resources,
third party remediation plans and compliance assurances, and other factors.
There can be no assurance that these estimates will prove to be accurate, and
actual results could differ materially from those currently anticipated.
EFFECT OF RECENT ACCOUNTING PRONOUNCEMENTS
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities." SFAS No. 133 establishes accounting and
reporting standards requiring that every derivative instrument be recorded in
the balance sheet as either an asset or liability measured at its fair value.
SFAS No. 133 also requires that changes in the derivative's fair value be
recognized currently in results of operations unless specific hedge
accounting criteria are met. SFAS No. 133 is effective for fiscal years
beginning after June 15, 1999. The Company does not expect SFAS No. 133 to
have a material impact on its consolidated financial statements.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
Not applicable.
PART II - OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) The exhibit filed as part of this report:
Exhibit 27 Financial Data Schedule
(b) Reports on Form 8-K:
No Reports on Form 8-K were filed during the quarter ended
December 31, 1998.
15
<PAGE>
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Dated: February 12, 1999
ANALOGY, INC.
By: /s/ GARY P. ARNOLD
-----------------------------
Gary P. Arnold
Chairman of the Board, President
and Chief Executive Officer
(Principal Executive Officer)
(Principal Financial Officer)
16
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
CONSLIDATED FINANCIAL STATEMENTS FOUND IN THE COMPANY'S REPORT ON FORM 10Q FOR
THE NINE MONTHS ENDED DECEMBER 31, 1998, AND IS QUALIFIED IN ITS ENTIRETY BY
REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
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<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> MAR-31-1999
<PERIOD-START> APR-01-1998
<PERIOD-END> DEC-31-1998
<CASH> 1,226
<SECURITIES> 0
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<PP&E> 12,592
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<COMMON> 18,346
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<SALES> 11,196
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<CGS> 1,407
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