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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 and
Exchange Act of 1934
For the quarterly period ended September 30, 1996 or
[_] Transition Report pursuant to Section 13 or 15(d) of the Securities and
Exchange Act of 1934
For the transition period from ________ to ________.
Commission file number 0-27168
METATOOLS, INC.
(Exact name of registrant as specified in its charter)
Delaware 95-4102687
(State of incorporation) (I.R.S. Employer Identification Number)
6303 Carpinteria Ave., Carpinteria, CA 93013
(Address of principal executive offices)
(805) 566-6200
(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 reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [X] No [_]
As of November 8, 1996, there were outstanding 11,895,614 shares of the
registrant's Common Stock, $0.001 par value per share, which is the only
outstanding class of common or voting stock of the registrant.
1
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METATOOLS, INC.
FORM 10-Q
Table of Contents
<TABLE>
<CAPTION>
Page
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<C> <S> <C>
PART I. FINANCIAL INFORMATION
Item 1. Consolidated Financial Statements (Unaudited)................... 3
Consolidated balance sheets - September 30, 1996 and
December 31, 1995
Consolidated statements of operations - Three and nine months
ended September 30, 1996 and 1995
Consolidated statements of cash flows - Nine months ended
September 30, 1996 and 1995
Notes to consolidated financial statements
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations..................................... 9
PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K................................. 17
SIGNATURES ................................................................. 19
</TABLE>
2
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PART I. FINANCIAL INFORMATION
Item 1. Consolidated Financial Statements
METATOOLS, INC.
CONSOLIDATED BALANCE SHEETS
(Unaudited)
<TABLE>
<CAPTION>
September 30, December 31,
1996 1995
----------------------------------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents......................................... $ 7,307,000 $ 46,885,000
Short-term investments............................................ 37,945,000 -
Accounts receivable, net.......................................... 6,465,000 2,775,000
Inventories....................................................... 510,000 912,000
Deferred income taxes and income taxes receivable................. 1,213,000 -
Prepaid expenses and other current assets......................... 1,301,000 890,000
----------------------------------
Total current assets........................................ 54,741,000 51,462,000
Property and equipment, net....................................... 2,078,000 1,577,000
Other assets...................................................... 801,000 496,000
----------------------------------
Total assets................................................ $ 57,620,000 $ 53,535,000
==================================
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable.................................................. $ 2,354,000 $ 1,795,000
Accrued expenses.................................................. 815,000 964,000
Royalties payable................................................. 403,000 588,000
----------------------------------
Total current liabilities................................... 3,572,000 3,347,000
Stockholders' equity:
Preferred stock, $.001 par value, 5,000,000 shares authorized - no
shares issued and outstanding at September 30, 1996 and
December 31, 1995, respectively................................. - -
Common stock, $.001 par value; 30,000,000 shares authorized -
11,874,848 and 11,597,908 shares issued and outstanding at
September 30, 1996 and December 31, 1995, respectively.......... 12,000 12,000
Paid-in capital................................................... 55,571,000 54,429,000
Accumulated deficit............................................... (1,535,000) (4,253,000)
----------------------------------
Total stockholders' equity.................................. 54,048,000 50,188,000
----------------------------------
Total liabilities and stockholders' equity.................. $ 57,620,000 $ 53,535,000
==================================
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
3
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METATOOLS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
---------------------------- ----------------------------
1996 1995 1996 1995
---------------------------- ----------------------------
<S> <C> <C> <C> <C>
Net revenues....................................................... $ 7,241,000 $ 4,404,000 $19,115,000 $11,795,000
Cost of revenues................................................... 1,188,000 1,094,000 3,408,000 3,771,000
---------------------------- ----------------------------
Gross profit....................................................... 6,053,000 3,310,000 15,707,000 8,024,000
Operating expenses:
Sales and marketing.............................................. 3,357,000 2,333,000 8,838,000 6,371,000
General and administrative....................................... 695,000 433,000 2,031,000 1,337,000
Research and development......................................... 875,000 447,000 2,427,000 1,088,000
Costs associated with acquisition and write-off of acquired in-
process technology............................................. 733,000 - 733,000 -
---------------------------- ----------------------------
Total operating expenses........................................... 5,660,000 3,213,000 14,029,000 8,796,000
---------------------------- ----------------------------
Income (loss) from operations...................................... 393,000 97,000 1,678,000 (772,000)
Other income (expense):
Interest and investment income (expense), net.................... 574,000 (13,000) 1,779,000 (9,000)
Other expense.................................................... - (4,000) (12,000) (5,000)
---------------------------- ----------------------------
Income (loss) before provision (benefit) for income taxes.......... 967,000 80,000 3,445,000 (786,000)
Provision (benefit) for income taxes............................... (25,000) - 727,000 -
---------------------------- ----------------------------
Net income (loss).................................................. $ 992,000 $ 80,000 $ 2,718,000 $ (786,000)
============================ ============================
Net income (loss).................................................. $ 992,000 $ 80,000 $ 2,718,000 $ (786,000)
Amortization of costs related to the issuance of mandatory
redeemable Series B convertible preferred stock................ - (29,000) - (89,000)
Preferred stock dividend requirement............................... - (42,000) - (126,000)
----------------------------- ----------------------------
Net income (loss) applicable to common stockholders................ $ 992,000 $ 9,000 $ 2,718,000 $(1,001,000)
============================= ============================
Net income (loss) per common share................................. $ .08 $ .00 $ .21 $ (.18)
============================= ============================
Weighted average number of shares outstanding...................... 13,039,000 6,699,000 13,032,000 5,632,000
============================= ============================
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
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METATOOLS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
<TABLE>
<CAPTION>
Nine Months Ended
September 30,
------------------------------------
1996 1995
------------------------------------
<S> <C> <C>
Cash flows from operating activities:
Net income (loss)................................................... $ 2,718,000 $ (786,000)
Adjustments to reconcile net income (loss) to net cash used in
operating activities:
Write-off of acquired in-process technology..................... 363,000 -
Deferred income taxes........................................... (483,000) -
Depreciation and amortization................................... 534,000 195,000
Reserves for receivables and product returns.................... 1,661,000 1,580,000
Reserves for inventory.......................................... 88,000 370,000
Changes in operating assets and liabilities:
Accounts receivable........................................... (5,351,000) (1,157,000)
Inventories................................................... 314,000 (719,000)
Income taxes receivable....................................... (263,000) -
Prepaid expenses and other assets............................. (691,000) (671,000)
Accounts payable and accrued expenses......................... 135,000 321,000
Royalties payable............................................. (185,000) (43,000)
------------------------------------
Net cash used in operating activities....................... (1,160,000) (910,000)
Cash flows from investing activities:
Purchases of short-term investments................................. (47,945,000) -
Proceeds from maturities of short-term investments.................. 10,000,000 -
Purchases of property and equipment................................. (897,000) (811,000)
Purchases of software technology and product rights................. (125,000) (290,000)
Purchase of certificate of deposit - restricted use................. - 240,000
------------------------------------
Net cash used in investing activities....................... (38,967,000) (861,000)
Cash flows from financing activities:
Increase in notes receivable from stockholders...................... - (49,000)
Proceeds from issuance of notes payable to stockholders............. - 8,000
Repayment of notes payable to stockholders.......................... - (8,000)
Proceeds from borrowings against notes payable to bank.............. - 419,000
Repayment of borrowings against notes payable to bank............... - (52,000)
Proceeds from exercise of stock warrants and options................ 549,000 57,000
------------------------------------
Net cash provided by financing activities................... 549,000 375,000
------------------------------------
Net decrease in cash and cash equivalents............................. (39,578,000) (1,396,000)
Cash and cash equivalents at beginning of period...................... 46,885,000 3,017,000
------------------------------------
Cash and cash equivalents at end of period............................ $ 7,307,000 $ 1,621,000
====================================
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
5
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METATOOLS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The accompanying unaudited consolidated financial statements include the
accounts of the Company and its wholly-owned subsidiaries. All significant
intercompany accounts and transactions have been eliminated in consolidation.
The accompanying unaudited consolidated financial statements have been prepared
in accordance with generally accepted accounting principles for interim
financial information and with instructions to Form 10-Q and Article 10 of
Regulation S-X. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statement presentation. In the opinion of management, the
accompanying consolidated balance sheets and related interim consolidated
statements of operations and cash flows include all adjustments (consisting only
of normal recurring items) considered necessary for their fair presentation.
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets, liabilities, revenues and expenses.
Actual results could differ from those estimates. The consolidated results of
operations for the period ended September 30, 1996 are not necessarily
indicative of results to be expected for the year ended December 31, 1996. The
information included in this Form 10-Q should be read in conjunction with
Management's Discussion and Analysis of Financial Condition and Results of
Operations and the Company's audited financial statements and notes thereto
included in the Company's Annual Report on Form 10-K for the year ended December
31, 1995.
Foreign Currency Translation
The Company uses the U.S. dollar as its functional currency. Financial
statements of the Company's foreign subsidiaries are translated to U.S. dollars
for consolidation purposes using current rates of exchange for monetary assets
and liabilities and historical rates of exchange for nonmonetary assets and
related elements of expense. Sales and other expense elements are translated at
rates that approximate the rates in effect on the transaction dates. Gains and
losses from this process are included in the Company's consolidated statement of
operations.
Cash Equivalents and Short-term Investments
The Company considers all highly liquid investments purchased with an original
maturity of three months or less to be cash equivalents.
The Company considers its investment portfolio available for sale as defined in
Statement of Financial Accounting Standards ("SFAS") No. 115. The amortized
cost of securities are adjusted for amortization of premiums and accretion of
discounts to maturity. Such amortization, realized gains and losses, interest
and dividends, and declines in value judged to be other than temporary
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METATOOLS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
are included in investment income. There were no material unrealized gains or
losses nor any material differences between the estimated fair values and costs
of securities in the investment portfolio at September 30, 1996. The cost of
securities sold is based on the specific identification method.
The Company invests its cash in accordance with a policy that seeks to maximize
returns while ensuring both liquidity and minimal risk of principal loss. the
policy limits investments to certain types of instruments issued by institutions
with investment grade credit ratings and places restrictions on maturities and
concentration by type and issuer. The majority of the Company's portfolio is
composed of fixed income investments which are subject to the risk of market
interest rate fluctuations, and all the Company's investments are subject to
risks associated with the ability of the issuers to perform their obligations
under the instruments.
Net Income (Loss) Per Common Share
Net income (loss) per common share is computed using the weighted average number
of shares of common stock and common equivalent shares outstanding. Common
equivalent shares related to stock options, warrants and preferred stock are
excluded from the computation when their effect is antidilutive, except that,
pursuant to the Securities and Exchange Commission Staff Accounting Bulletins,
common and common equivalent shares issued at prices below the public offering
price during the twelve months immediately preceding the initial filing date of
the Company's initial public offering have been included in the calculation as
if they were outstanding for all periods presented, using the treasury stock
method and the initial public offering price.
2. ACQUISITION
On August 31, 1996, the Company acquired Dive Laboratories, Inc. ("Dive"). In
connection with the acquisition, which was accounted for using the purchase
method, the Company recorded a one-time charge to earnings of $733,000, related
to relocation expenses of $215,000, acquisition costs of $155,000, and
in-process research and development expenses of $363,000, for the three months
ended September 30, 1996. The Company paid approximately $510,000 in cash and
assumed $223,000 of liabilities of Dive. The operating results of Dive have
been included in the accompanying consolidated financial statements from the
date of acquisition. The operating results are not considered material to the
consolidated financial statements and accordingly, pro forma information has not
been presented.
3. INVENTORIES
Inventories consist of the following:
<TABLE>
<CAPTION>
September 30, December 31,
1996 1995
------------------------------
<S> <C> <C>
Finished goods.............................. $ 482,000 $ 488,000
Materials and supplies...................... 28,000 424,000
-----------------------------
$ 510,000 $ 912,000
=============================
</TABLE>
7
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METATOOLS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
4. INCOME TAXES
The provision (benefit) for income taxes consists of the following:
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
------------------------- --------------------------
1996 1995 1996 1995
------------------------- --------------------------
<S> <C> <C> <C> <C>
Federal............................ $ (59,000) $ - $ 459,000 $ -
State.............................. 34,000 - 268,000 -
------------------------- --------------------------
$ (25,000) $ - $ 727,000 $ -
========================= ==========================
</TABLE>
The provision for income taxes for the three and nine months ended September 30,
1996 is based on the Company's estimated annualized effective tax rate for 1996
which considers utilization of available net operating loss and tax credit
carryforwards. During the three months ended September 30, 1996, the Company
recognized a deferred income tax asset in the amount of $483,000, in
accordance with SFAS No. 109, "Accounting for Income Taxes."
8
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Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
The following discussion should be read in conjunction with the consolidated
financial statements and notes thereto.
The discussion and analysis below contains trend analysis and other
forward-looking statements within the meaning of Section 27A of the Securities
Act of 1933, and Section 21E of the Securities Exchange Act of 1934, as
amended. The Company's actual results could differ materially from those
projected in the forward-looking statements. Factors that could cause or
contribute to such differences include, but are not limited to, those discussed
in the section entitled "Factors That May Affect Future Operating Results," as
well as those discussed elsewhere in the Company's SEC reports, including
without limitation, its Annual Report on Form 10-K for the year ended December
31, 1995.
OVERVIEW
The Company derives a substantial majority of its revenues from a limited number
of products. The Company's future revenues are substantially dependent upon the
continued market acceptance of Kai's Power Tools, Bryce, Convolver, Vector
Effects, KPT PowerPhotos, Final Effects, Kai's Power Goo, Studio Effects and
MetaPhotos. Revenue from the sale of Kai's Power Tools was 19% and 28% of net
revenues for the three months ended September 30, 1996 and 1995, respectively.
Revenue from the sale of Kai's Power Tools was 27% and 28% of net revenues for
the nine months ended September 30, 1996 and 1995, respectively. The Company
also has a number of new product development efforts in process, and a
significant portion of future revenues will be dependent upon the success of
these activities.
The Company develops its products either internally or through co-development
arrangements with third parties. These co-development arrangements generally
provide the Company with certain exclusive proprietary, copyright or marketing
rights for developed products in exchange for the payment of one-time and/or
ongoing royalties. The Company expects to continue fostering arrangements with
external developers as part of its strategy of expanding its product portfolio.
The Company includes such royalty expenses in cost of revenues as such royalties
are earned. The Company believes that co-development arrangements represent an
important component of the Company's research and development investment. There
can be no assurance, however, that the Company will be able to continue to
supplement its product development efforts in the future through such
relationships on favorable terms or at all. If the Company were unable to
maintain its existing co-development arrangements or to attract new co-
development partners, the Company would, at a minimum, have to increase its
research and development expenditures, which could have a material adverse
effect on the Company's business, operating results and financial condition.
The Company sells its products primarily to domestic and international
distributors, including mail order resellers and, to a lesser extent, retail
outlets. The Company also sells its products to Original Equipment Manufacturers
("OEMs") for bundling with their hardware or software products and directly to
end users, generally through telesales and direct mail campaigns. Fluctuations
in distributor purchases can cause significant volatility in the Company's
revenues. Distributors generally stock the Company's products at levels which
may fluctuate significantly for a variety of reasons, including the
distributors' ability to finance the purchase of products and
9
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to devote shelf space, catalog space or attention to the products. Distributor
purchases may also be affected by the Company's introduction of a new product or
new version of a product, the Company's end user promotions programs,
anticipated product price increases, the Company's purchases of display space at
retail outlets and other factors.
Since 1992, the Company has focused on building its product portfolio and
establishing brandname awareness of its products. These activities have
resulted in significant increases in all expense categories. In particular, the
Company's shift from direct sales to end users toward expanded indirect
distribution channels has required a substantial increase in the Company's sales
and marketing activities. The Company's recent product development efforts have
also entailed significant research and development expenditures. These higher
expense levels combined with fluctuations in net revenues have contributed to
the Company's annual losses and quarterly losses through September 30, 1995, as
well as fluctuations in its operating results. The Company intends to continue
to invest significant amounts both in expanding its product portfolio and in
maintaining and enhancing brand awareness of its products, and accordingly may
continue to experience losses and volatility of net revenues and operating
results in future periods.
OPERATING RESULTS
The following table sets forth certain selected financial information expressed
as a percentage of net revenues for the periods indicated:
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
-------------------- --------------------
1996 1995 1996 1995
-------------------- --------------------
<S> <C> <C> <C> <C>
Net revenues........................................ 100.0% 100.0% 100.0% 100.0%
Cost of revenues.................................... 16.4 24.8 17.8 32.0
-------------------- --------------------
Gross profit................................... 83.6 75.2 82.2 68.0
Operating expenses:
Sales and marketing............................... 46.4 53.0 46.3 54.0
General and administrative........................ 9.6 9.9 10.6 11.3
Research and development.......................... 12.1 10.1 12.7 9.2
Costs associated with acquisition and write-off
of acquired in-process technology................ 10.1 0.0 3.8 0.0
-------------------- --------------------
Total operating expenses........................ 78.2 73.0 73.4 74.5
-------------------- --------------------
Income (loss) from operations....................... 5.4 2.2 8.8 (6.5)
Other income (expense), net......................... 7.9 (0.4) 9.2 (.1)
-------------------- --------------------
Net income (loss) before provision (benefit) for
income taxes...................................... 13.3 1.8 18.0 (6.6)
Provision (benefit) for income taxes................ (0.4) 0.0 3.8 0.0
-------------------- --------------------
Net income (loss)................................... 13.7% 1.8% 14.2% (6.6)%
==================== ====================
</TABLE>
10
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Net Revenues
The Company recognizes revenue from the sale of its products upon shipment to
the customer and satisfaction of significant Company obligations, if any. Net
revenues increased 64% from $4.4 million for the three months ended September
30, 1995 to $7.2 million for the three months ended September 30, 1996. Net
revenues increased as a result of the Company's release of new products and new
versions of its existing products, along with increased expansion of sales
through its domestic and international distribution channels. In particular,
since the third quarter of 1995, the Company has released KPT PowerPhotos Series
III and IV, Final Effects, Final Effects AP, Kai's Power Tools 3, Bryce 2, Kai's
Power Goo, MetaPhotos, and Studio Effects. International sales increased in
absolute dollars, but decreased as a percentage of net revenues from 35% for the
three months ended September 30, 1995 to 30% for the three months ended
September 30, 1996. International revenues for the three months ended September
30, 1995 benefited from large volume licensing sales in Japan.
Net revenues increased 62% from $11.8 million for the nine months ended
September 30, 1995 to $19.1 million for the nine months ended September 30,
1996. The increase in net revenues was the result of the development and
release of new products, the enhancement and release of new versions of the
Company's existing products, and significant increases in the Company's
distribution channels and marketing activities. International sales increased
in absolute dollars, but decreased as a percentage of net revenues from 28% to
26%, for the nine months ended September 30, 1995 and 1996, respectively.
The Company offers two principal product types consisting of plug-in extensions
(including Kai's Power Tools, Convolver, Vector Effects, Final Effects, and
Studio Effects) and stand-alone applications and application platforms
(principally consisting of Kai's Power Goo, Bryce, KPT PowerPhotos, and
MetaPhotos). The following table reflects the net revenue contribution by each
product family for the fiscal periods presented:
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
----------------------------- -----------------------------
1996 1995 1996 1995
----------------------------- -----------------------------
<S> <C> <C> <C> <C>
Plug-in extensions............................. $ 2,342,000 $ 3,007,000 $ 8,323,000 $ 7,475,000
Stand-alone applications and application
platforms.................................... 4,899,000 1,397,000 10,792,000 4,320,000
------------------------------ ------------------------------
Total..................................... $ 7,241,000 $ 4,404,000 $ 19,115,000 11,795,000
============================== ==============================
</TABLE>
The Company has migrated most of its existing products to run on Windows-based
computers as well as on Macintosh computers, and recently it has begun bundling
both Windows and Macintosh versions on the same CD to minimize production and
distribution costs. For the third quarter of 1996, cross platform and Windows
products represented 71% of net revenues, compared with 32% for the third
quarter of 1995. Cross platform and Windows products represented 58% and 26% of
net revenues for the nine months ended September 30, 1996 and 1995,
respectively.
The Company provides an allowance for estimated returns at the time of product
shipments and adjusts this allowance as needed based on actual returns history.
Such reserves as a percentage of net revenues have varied significantly over
recent years, reflecting the Company's experience
11
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in product returns as it has significantly expanded the proportion of its sales
through third-party distribution channels and increased its product portfolio.
The Company expects that reserves will continue to vary in the future. The
Company's agreements with its distributors generally provide the distributors
with limited rights to return unsold inventories under a stock balancing
program. The Company monitors the activities of its distributors in an effort
to minimize excessive returns and establishes its reserves based on its
estimates of expected returns. While historically the Company's returns have
been within management's expectations, the establishment of reserve levels
requires judgments regarding such factors as future competitive conditions and
product life cycles, which can be difficult to predict. As a result, there can
be no assurance that established reserves will be adequate to cover actual
future returns.
Cost of Revenues
Cost of revenues includes the costs of goods sold, royalties paid to external
developers, inventory management costs, freight and handling costs and reserves
for inventory obsolescence. Cost of revenues increased from $1.1 million to $1.2
million, but decreased from 25% to 16% of net revenues, for the three months
ended September 30, 1995 and 1996, respectively. Cost of revenues as a
percentage of net revenues decreased as a result of a changing mix of product
sales toward lower royalty products, improved management of production and
inventory levels, and higher OEM licensing sales. Royalties represented 7% and
3% of net revenues for the three months ended September 30, 1995 and 1996,
respectively.
Cost of revenues decreased from $3.8 million to $3.4 million, or from 32% to 18%
of net revenues, for the nine months ended September 30, 1995 and 1996,
respectively. The decrease in cost of revenues as a percentage of net revenues
resulted from increased sales of lower royalty products, improved production and
inventory management, and increased OEM licensing sales. Royalties represented
11% and 3% of net revenues for the nine months ended September 30, 1995 and
1996, respectively.
Sales and Marketing
Sales and marketing expenses include advertising, promotional materials, mail
campaigns, tradeshows and the compensation costs of sales, marketing, customer
service and public relations personnel who promote the Company's products,
including related facilities costs. Sales and marketing expenses increased from
$2.3 million to $3.4 million, but decreased as a percentage of net revenues from
53% to 46% for the three months ended September 30, 1995 and 1996, respectively.
The increase was a result of the continued efforts to expand sales and
marketing activities and distribution channels. The Company intends to continue
such expansion and anticipates that sales and marketing expenses will continue
to increase significantly in future periods as the Company's product offerings
and distribution channels expand, although such expenses may vary as a
percentage of net revenues.
Sales and marketing expenses increased from $6.4 million to $8.8 million for the
nine months ended September 30, 1995 and 1996, respectively, but decreased as a
percentage of net revenues from 54% to 46%. The increase reflected the
Company's efforts to expand its sales and marketing presence and distribution
channels through the hiring of additional personnel and increased advertising,
mail campaigns, and tradeshow expenditures.
12
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General and Administrative
General and administrative expenses include compensation costs related to
executive management, finance, and administration personnel of the Company,
along with other administrative costs including legal and accounting fees,
insurance, and bad debt expenses. General and administrative expenses increased
from $433,000 to $695,000 for the three months ended September 30, 1995 and
1996, respectively, but remained consistent as a percentage of net revenues at
10%. The increase in general and administrative expenses resulted from
increased headcount and increased incentive compensation. The Company expects
that its general and administrative expenses will continue to increase in the
future as the Company expands its staffing to support expanded operations and to
comply with the responsibilities of a public company, but may vary as a
percentage of net revenues.
General and administrative expenses increased from $1.3 million to $2.0 million,
but remained consistent as a percentage of net revenues at 11% for the nine
months ended September 30, 1995 and 1996, respectively. The increase in general
and administrative expenses reflects increased headcount and associated
personnel costs related to the expansion of the Company's executive, accounting,
and administrative staffing required to support the Company's growth.
Research and Development
Research and development expenses consist primarily of personnel costs,
consultant fees, the amortization of purchased technology, and required
equipment and facilities costs related to the Company's product development
efforts. To date, the Company has not capitalized any internal software
development costs since costs qualifying for such capitalization have not been
significant.
Research and development expenses increased from $447,000, or 10% of net
revenues, for the three months ended September 30, 1995, to $875,000, or 12% of
net revenues, for the three months ended September 30, 1996, as a result of the
Company's focus on expanding its product portfolio, enhancing its products, and
migrating its existing products to multiple operating systems, which required
the hiring of additional personnel. The Company expects research and
development expenses will continue to increase in future periods, but may vary
as a percentage of net revenues.
Research and development expenses increased from $1.1 million to $2.4 million,
or from 9% to 13% of net revenues, for the nine months ended September 30, 1995
and 1996, respectively. The increase in research and development expenses
results from the development and release of new products and the enhancement and
release of new versions of the Company's existing products, which required the
hiring of additional personnel.
Costs Associated with Acquisition and Write-off of Acquired In-process
Technology
On August 31, 1996, the Company acquired Dive Laboratories, Inc. ("Dive"). In
connection with the acquisition, which was accounted for using the purchase
method, the Company recorded a one-time charge to earnings of $733,000, related
to relocation expenses of $215,000, acquisition costs of $155,000, and
in-process research and development expenses of $363,000, for the three months
ended September 30, 1996. The Company paid approximately $510,000 in cash and
assumed $223,000 of liabilities of Dive.
13
<PAGE>
Provisions for Income Taxes
The provision for income taxes for the three and nine months ended September 30,
1996 is based on the Company's estimated annualized effective tax rate for 1996
which considers utilization of available net operating loss and tax credit
carryforwards. During the three months ended September 30, 1996, the Company
recognized a deferred income tax asset in the amount of $483,000 in accordance
with SFAS No. 109, "Accounting for Income Taxes."
FACTORS THAT MAY AFFECT FUTURE OPERATING RESULTS
Limited Operating History; History of Losses; Variability of Operating Results
The Company was incorporated in March 1987 and did not introduce its first
internally developed product until January 1993. The Company experienced losses
in each quarter of 1994 and the first two quarters of 1995, and the Company's
revenues and operating results have varied substantially from period to period.
There can be no assurance that the Company's future revenue and operating
results will not also vary substantially. The Company's revenues are relatively
difficult to forecast due to a number of available factors, including the timing
of the introduction of new products by the Company and its competitors,
seasonality of customer purchases, other general economic conditions, and the
Company's ability to capture sufficient interest and commitment by distributors
to market the Company's products or product enhancements. The Company's
operating results also vary significantly depending on changes in pricing,
changes in customer budgets and the volume and timing of orders received and
shipments made during a quarter, which are difficult to forecast. Customers
generally order on an as-needed basis, and the Company's software generally is
shipped as orders are received. Consequently, the Company typically operates
with little or no backlog. The Company experiences some effect of seasonality in
its business, as demand for its products tends to increase during the fourth
calendar quarter as a result of the year-end holiday buying season. Further, as
the Company has recently released its first consumer products, Kai's Power Goo,
the year-end holiday buying season may have a larger impact on revenues in the
future than it has in the past. A disproportionate percentage of the Company's
quarterly revenues is typically generated in the last month of the quarter
principally due to customer buying patterns. As a result of the foregoing and
other factors, the Company anticipates that it may experience material and
adverse fluctuations in future operating results on a quarterly or annual basis.
Therefore, the Company believes that period to period comparisons of its
revenues and operating results are not necessarily meaningful and that such
comparisons cannot be relied upon as indicators of future performance.
Evolving Markets for Computer Graphic Imaging and Internet / Online Design
Tools; Rapid Technological Change
Since the markets for computer graphic imaging and Internet/online design tools
are still emerging, there can be no assurance that the markets for the Company's
existing products will grow, that digital graphic and Internet/online content
developers will adopt the Company's products, that sufficient distribution
resources will be available to market the Company's products in a timely manner,
or that such products will be successful in achieving market acceptance.
Additionally, since the computer graphic imaging and Internet/online design tool
14
<PAGE>
markets, and the personal computer industry in general, are characterized by
rapidly changing technology, resulting in short product life cycles and price
declines, the Company must continuously update its existing products to keep
them current with changing technology and must develop new products to take
advantage of new technologies that could render the Company's existing products
obsolete. The Company's future prospects are highly dependent on its ability to
keep pace with its competitors' innovations, to adapt to new operating systems,
hardware platforms and emerging industry standards, and to provide additional
functionality to the Company's existing products.
Limited Product Lines; Risk of Product Delays
The Company's growth will be dependent upon the introduction of new products and
new versions of existing products. There can be no assurance that any such new
products or versions will achieve market acceptance. In addition, the Company
has in the past experienced delays in the development of new products and the
enhancement of existing products, and such delays may occur in the future.
Dependence on Third Parties
Certain of the Company's products operate as plug-in extensions and enhancements
for specific print, animation, video, and multimedia application platforms.
Market acceptance of the Company's plug-in products is dependent upon market
acceptance of these third-party application platforms, as well as the
willingness of the manufacturers of such platforms to permit their platforms to
be extended and enhanced by plug-in products such as those of the Company.
Distribution Risks
The Company sells its products worldwide through multiple distribution channels,
including traditional software distributors, hardware and software OEMs,
international distributors, educational distributors, Value Added Resellers
("VARs"), hardware superstores, retail dealers, and direct marketers.
Accordingly, the Company is dependent on the continued viability and financial
stability of these third parties, including certain of the traditional software
distributors who have recently experienced significant margin pressure.
Competition
The Company faces competition from a number of sources, including other vendors
of personal computer graphic imaging and Internet/online design application
platforms and tools, other personal computer software industry participants, and
companies that offer graphic and Internet/online design solutions that are not
personal computer based. If these or other competitors develop products,
technologies or solutions that offer significant performance, price, or other
advantages over those of the Company, the Company's business, operating results,
and financial condition would be materially affected.
15
<PAGE>
LIQUIDITY AND CAPITAL RESOURCES
Historically, the Company satisfied its cash requirements principally through
the private sale of its securities, borrowings from stockholders, and bank
borrowings. In December 1995, the Company raised $45.2 million, net of offering
costs, in connection with an initial public offering of its common stock.
The Company has a $3.0 million revolving line of credit with a bank which
expires during December 1996, if not renewed, and is collateralized by
substantially all of the assets of the Company. Borrowings under the credit
facility are limited to a percentage of eligible accounts receivable, as defined
in the credit agreement. As of September 30, 1996, the Company had no
outstanding borrowings under the line of credit.
Historically, net cash used in operating activities has been significant due to
operating losses and working capital requirements resulting from the growth of
the Company. Non-cash assets have increased significantly, particularly
accounts receivable. Net cash used in investing activities has also increased
substantially due to the purchase of $47.9 million of short-term investments
during the second and third quarters of 1996. The Company expects that its
working capital requirements will continue to increase to the extent the Company
continues to grow.
The Company believes that its current cash balances and any cash provided by
future operations will be sufficient to meet its cash requirements through at
least the next twelve months.
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
None
Item 2. Changes in Securities
None
Item 3. Defaults upon Senior Securities
None
Item 4. Submission of Matters to a Vote of Security Holders
None
Item 5. Other Information
None
16
<PAGE>
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
Exhibit
Number Exhibit Title
------- -------------
2.1 Form of Agreement and Plan of Merger by and between the
Registrant and MetaTools, Inc., a California corporation (1)
3.4 Restated Certificate of Incorporation of Registrant (3)
3.6 Bylaws of Registrant, as amended (3)
4.1 Specimen of Common Stock Certificate of Registrant (3)
10.1 Indemnification Agreement for Executive Officers and
Directors (1)
10.2 Investors' Rights Agreement, as amended (1)
10.3 1992 Incentive Stock Plan (1)
10.4 1994 Incentive Stock Option, Non-Qualified Stock Option and
Restricted Stock Purchase Plan (1)
10.5 1995 Stock Plan (2)
10.6 1995 Employee Stock Purchase Plan (2)
10.7 1995 Director Option Plan (2)
10.8 Employment Agreement between the Registrant and John J. Wilczak
dated April 15, 1992, as amended (1)
10.9 Employment Agreement between the Registrant and Kai Krause
dated January 26, 1994 (1)
10.10 Employment Agreement between the Registrant and Terance A.
Kinninger dated September 27, 1995 (1)
10.11 Employment Agreement between the Registrant and James Mervis
dated April 3, 1995 (1)
10.13 Secured Promissory Note between the Registrant and Kai Krause
dated November 28, 1994 (1)
10.14 Secured Promissory Note between the Registrant and Kai Krause
dated November 28, 1994 (1)
10.15 Loan and Security Agreement between the Registrant and Silicon
Valley Bank dated September 25, 1994, as amended on December 15,
1995 (3)
10.16 * Distribution Agreement between the Registrant and Ingram Micro
Inc. dated October 19, 1992, as amended (1)
10.17 * Distribution Agreement between the Registrant and Merisel
Distributing (formerly, Softsel Computer Products, Inc.) dated
March 12, 1990, as amended (1)
10.18 Sublease Agreement between Digital Sound Corporation and
Registrant dated as of September 8, 1994 (1)
10.19 Form of Employee Invention, Copyright, and Secrecy Agreement (1)
10.20 Employment Agreement between the Registrant and Fred Brown dated
November 13, 1995 (1)
10.21 * Software Licensing Agreement between the Registrant and Marubeni
Corporation dated as of January 31, 1996 (3)
17
<PAGE>
10.22 Turnkey / Inventory Agreement between the Registrant and
Stream International Inc. dated as of April 18, 1996 (4)
11.1 Statement Regarding Computations of Earnings per Common
Share
27.1 Financial Data Schedule
- -----------------
* Confidential treatment for this exhibit has been requested pursuant to Rule
24b-2 under the Securities Exchange Act of 1934, as amended.
(1) Incorporated by reference to the Company's Registration Statement on Form
SB-2, filed December 11, 1995, as amended (File No. 33-98628LA).
(2) Incorporated by reference to the Company's Registration Statement on Form
S-8, filed on or about April 1, 1996.
(3) Incorporated by reference to the Company's Annual Report on Form 10-K for
the year ended December 31, 1995.
(4) Incorporated by reference to the Company's Form 10-Q for the quarter ended
June 30, 1996.
(b) Reports on Form 8-K
The Company did not file any reports on Form 8-K with the Securities and
Exchange Commission during the third quarter ended September 30, 1996.
18
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this Report to be signed on its behalf by the
undersigned, thereunto duly authorized.
METATOOLS, INC.
(Registrant)
Date: November 14, 1996 /s/TERANCE A. KINNINGER
---------------------------
Terance A. Kinninger
Vice President and
Chief Financial Officer
19
<PAGE>
METATOOLS, INC. Exhibit 11.1
STATEMENT REGARDING COMPUTATION OF
NET INCOME (LOSS) PER COMMON SHARE
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
------------------------------ -----------------------------
1996 1995 1996 1995
------------------------------ -----------------------------
<S> <C> <C> <C> <C>
Primary and Fully Diluted (1)
Weighted average shares outstanding for
the period............................. 11,845,000 3,178,000 11,706,000 3,155,000
Common equivalent shares, including
items pursuant to Staff Accounting
Bulletin No. 83........................ 1,194,000 3,521,000 1,326,000 2,477,000
------------------------------ -----------------------------
Shares used in per share calculation..... 13,039,000 6,699,000 13,032,000 5,632,000
============================== =============================
Net income (loss) before dividends and
amortization........................... $ 992,000 $ 80,000 $ 2,718,000 $ (786,000)
Preferred stock dividend requirements
and amortization of issuance costs..... - (71,000) - (215,000)
------------------------------ -----------------------------
Net income (loss) available for common
stockholders........................... $ 992,000 $ 9,000 $ 2,718,000 $ (1,001,000)
============================== =============================
Net income (loss) per common share....... $ .08 $ .00 $ .21 $ (.18)
============================== =============================
</TABLE>
(1) Primary and fully diluted calculations are substantially the same.
20
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
ACCOMPANYING FINANCIAL STATEMENTS AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE
TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<S> <C> <C>
<PERIOD-TYPE> 3-MOS 9-MOS
<FISCAL-YEAR-END> DEC-31-1995 DEC-31-1995
<PERIOD-START> JUL-01-1996 JAN-01-1996
<PERIOD-END> SEP-30-1996 SEP-30-1996
<CASH> 7,307,000 7,307,000
<SECURITIES> 37,945,000 37,945,000
<RECEIVABLES> 6,465,000 6,465,000
<ALLOWANCES> 0 0
<INVENTORY> 510,000 510,000
<CURRENT-ASSETS> 54,741,000 54,741,000
<PP&E> 2,946,000 2,946,000
<DEPRECIATION> 868,000 868,000
<TOTAL-ASSETS> 57,620,000 57,620,000
<CURRENT-LIABILITIES> 3,572,000 3,572,000
<BONDS> 0 0
0 0
0 0
<COMMON> 12,000 12,000
<OTHER-SE> 54,036,000 54,036,000
<TOTAL-LIABILITY-AND-EQUITY> 57,620,000 57,620,000
<SALES> 7,241,000 19,115,000
<TOTAL-REVENUES> 7,241,000 19,115,000
<CGS> 1,188,000 3,408,000
<TOTAL-COSTS> 1,188,000 3,408,000
<OTHER-EXPENSES> 5,660,000 14,029,000
<LOSS-PROVISION> 0 0
<INTEREST-EXPENSE> 0 0
<INCOME-PRETAX> 967,000 3,445,000
<INCOME-TAX> (25,000) 727,000
<INCOME-CONTINUING> 992,000 2,718,000
<DISCONTINUED> 0 0
<EXTRAORDINARY> 0 0
<CHANGES> 0 0
<NET-INCOME> 992,000 2,718,000
<EPS-PRIMARY> .08 .21
<EPS-DILUTED> .08 .21
</TABLE>
