<PAGE> 1
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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 SEPTEMBER 30, 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: 000-29678
SCC COMMUNICATIONS CORP.
(Exact Name of Registrant as Specified in Its Charter)
DELAWARE 84-0796285
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification Number)
6285 LOOKOUT ROAD
BOULDER, COLORADO 80301
(Address of Principal Executive Offices) (Zip Code)
Registrant's Telephone Number, Including Area Code: (303) 581-5600
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
As of October 31, 1998, there were 10,822,477 shares of the Registrant's
Common Stock outstanding.
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INDEX
PART 1 - FINANCIAL INFORMATION
Item 1 - Financial Statements
Balance Sheets as of September 30, 1998 (Unaudited) and December
31, 1997
Statements of Operations for the three-months ended September 30,
1998 and 1997 and the nine-months ended September 30, 1998 and
1997 (Unaudited)
Statements of Cash Flows for the nine-months ended September 30,
1998 and 1997 (Unaudited)
Notes to Financial Statements (Unaudited)
Item 2 - Management's Discussion and Analysis of Financial Condition and
Results of Operations
PART II - OTHER INFORMATION
Item 1 - Legal Proceedings
Item 2 - Changes in Securities
Item 3 - Defaults on Senior Securities
Item 4 - Submission of Matters to a Vote of Security Holders
Item 5 - Other Information
Item 6 - Exhibits and Reports on Form 8-K
Signatures
2
<PAGE> 3
SCC COMMUNICATIONS CORP.
BALANCE SHEETS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
1998 1997
------------ ------------
(UNAUDITED)
ASSETS
<S> <C> <C>
CURRENT ASSETS:
Cash and cash equivalents ................................... $ 8,522 $ 2,503
Short-term investments ...................................... 6,997 --
Accounts receivable, net of allowance for doubtful
accounts of approximately $49 and $50 in
1998 and 1997, respectively .............................. 4,427 2,328
Unbilled project revenue .................................... 1,135 996
Prepaids and other .......................................... 650 224
Deferred income taxes-- current portion ..................... 1,300 1,300
------------ ------------
Total current assets ................................ 23,031 7,351
------------ ------------
PROPERTY AND EQUIPMENT, at cost:
Computer hardware and equipment ............................. 22,711 18,844
Furniture and fixtures ...................................... 759 709
Leasehold improvements ...................................... 1,010 621
------------ ------------
24,480 20,174
Less -- Accumulated depreciation ............................ (10,012) (8,136)
------------ ------------
Total property and equipment ........................ 14,468 12,038
------------ ------------
OTHER ASSETS .................................................. 113 86
LONG-TERM INVESTMENTS ......................................... 5,744 --
DEFERRED INCOME TAXES-- NONCURRENT ............................ 1,200 1,200
SOFTWARE DEVELOPMENT COSTS, net of accumulated
amortization of $301 and $201 in 1998 and
1997, respectively ....................................... 582 431
------------ ------------
$ 45,138 $ 21,106
============ ============
</TABLE>
The accompanying notes to financial statements are an integral part of these
balance sheets.
3
<PAGE> 4
SCC COMMUNICATIONS CORP.
BALANCE SHEETS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
1998 1997
------------ ------------
(UNAUDITED)
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
<S> <C> <C>
CURRENT LIABILITIES:
Accounts payable................................................ $ 762 $ 965
Payroll-related accruals........................................ 1,017 780
Other accrued liabilities....................................... 3,070 3,039
Current portion of notes payable ............................... -- 986
Current portion of capital lease obligations.................... 2,216 1,638
Deferred contract revenue....................................... 1,054 2,613
----------- ----------
Total current liabilities............................... 8,119 10,021
LONG-TERM DEBT:
Notes payable, net of current portion........................... -- 4,000
Discount on long-term note payable.............................. -- (1,430)
Capital lease obligations, net of current portion .............. 5,895 4,321
----------- ---------
Total liabilities....................................... 14,014 16,912
----------- ---------
COMMITMENTS AND CONTINGENCIES (Note 4)
MANDATORILY REDEEMABLE CONVERTIBLE PREFERRED
STOCK (Note 3)
(Series A, B, C, D, E and F) $.001 par value; 6,188,575
shares authorized; 6,188,575 shares issued
and outstanding; entitled to $14,589 in 1997 in
liquidation or upon redemption if requested by the
holders after September 1, 1998, stated at
redemption value (Note 3).................................... -- 14,589
PUTABLE COMMON STOCK WARRANT (Note 3)............................. -- 1,472
STOCKHOLDERS' EQUITY (DEFICIT):
Preferred stock, $.001 par value; 15,000,000 shares
authorized; none issued or outstanding....................... -- --
Common stock, $.001 par value; 30,000,000 shares
authorized; 10,822,477 and 1,994,281
shares issued in 1998 and 1997, respectively (Note 3)........ 11 2
Additional paid-in capital...................................... 42,951 452
Treasury stock, 36,250 shares, at cost.......................... -- (3)
Stock subscriptions receivable.................................. (61) (99)
Accumulated deficit............................................. (11,777) (12,219)
----------- ---------
Total stockholders' equity (deficit).................... 31,124 (11,867)
----------- ---------
$ 45,138 $ 21,106
=========== =========
</TABLE>
The accompanying notes to financial statements are an integral part of these
balance sheets.
4
<PAGE> 5
SCC COMMUNICATIONS CORP.
STATEMENTS OF OPERATIONS
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
UNAUDITED
<TABLE>
<CAPTION>
THREE MONTHS ENDED SEPTEMBER 30, NINE MONTHS ENDED SEPTEMBER 30,
-------------------------------- -------------------------------
1998 1997 1998 1997
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
REVENUE:
Data management services ................................ $ 7,377 $ 6,394 $ 22,858 $ 16,496
Licenses and implementation services .................... 1,123 834 2,901 1,641
------------ ------------ ------------ ------------
Total revenue .................................... 8,500 7,228 25,759 18,137
COSTS AND EXPENSES:
Cost of data management services ........................ 5,260 4,174 15,299 10,732
Cost of licenses and implementation
services .............................................. 265 457 939 809
Sales and marketing ..................................... 1,073 901 3,109 2,901
General and administrative .............................. 1,243 930 3,574 1,940
------------ ------------ ------------ ------------
Total costs and expenses ......................... 7,841 6,462 22,921 16,382
------------ ------------ ------------ ------------
INCOME FROM OPERATIONS .................................... 659 766 2,838 1,755
OTHER INCOME (EXPENSE):
Interest and other income ............................... 298 17 362 86
Interest and other expense .............................. (118) (210) (764) (637)
------------ ------------ ------------ ------------
INCOME FROM CONTINUING OPERATIONS BEFORE INCOME
TAXES AND EXTRAORDINARY ITEM ............................ 839 573 2,436 1,204
PROVISION FOR INCOME TAXES ................................ 8 40 120 84
------------ ------------ ------------ ------------
NET INCOME FROM CONTINUING OPERATIONS BEFORE EXTRAORDINARY
ITEM .................................................... 831 533 2,316 1,120
DISCONTINUED OPERATIONS:
Loss from operations of discontinued division,
net of tax ............................................ -- -- -- (876)
Loss from disposal of discontinued division ............. -- -- -- (2,032)
------------ ------------ ------------ ------------
NET INCOME (LOSS) BEFORE EXTRAORDINARY ITEM ............... 831 533 2,316 (1,788)
EXTRAORDINARY LOSS FROM EARLY EXTINGUISHMENT OF DEBT ...... -- -- (1,442) --
------------ ------------ ------------ ------------
NET INCOME (LOSS) ......................................... $ 831 $ 533 $ 874 $ (1,788)
============ ============ ============ ============
Dividends accrued on Series D, E and F
mandatorily redeemable convertible preferred
stock ................................................... -- (185) (355) (555)
Common stock warrant put price adjustment ................. -- -- (77) --
------------ ------------ ------------ ------------
NET INCOME (LOSS) APPLICABLE TO COMMON STOCK .............. $ 831 $ 348 $ 442 $ (2,343)
============ ============ ============ ============
NET INCOME PER SHARE FROM CONTINUING OPERATIONS
BEFORE EXTRAORDINARY ITEM (Notes 2 and 3):
Basic ................................................... $ 0.08 $ 0.19 $ 0.36 $ 0.31
============ ============ ============ ============
Diluted ................................................. $ 0.07 $ 0.06 $ 0.24 $ 0.13
============ ============ ============ ============
NET INCOME (LOSS) PER SHARE BEFORE EXTRAORDINARY
ITEM (Notes 2 and 3):
Basic ................................................... $ 0.08 $ 0.19 $ 0.36 $ (1.28)
============ ============ ============ ============
Diluted ................................................. $ 0.07 $ 0.06 $ 0.24 $ (0.21)
============ ============ ============ ============
NET INCOME (LOSS) PER SHARE (Note 2):
Basic ................................................... $ 0.08 $ 0.19 $ 0.09 $ (1.28)
============ ============ ============ ============
Diluted ................................................. $ 0.07 $ 0.06 $ 0.09 $ (0.21)
============ ============ ============ ============
SHARES USED IN COMPUTING NET INCOME (LOSS) PER SHARE
(Note 2):
Basic ................................................... 10,746,425 1,850,992 5,172,500 1,824,396
============ ============ ============ ============
Diluted ................................................. 11,322,876 8,723,960 9,757,457 8,705,183
============ ============ ============ ============
</TABLE>
The accompanying notes to financial statements are an integral part of these
statements.
5
<PAGE> 6
SCC COMMUNICATIONS CORP.
STATEMENTS OF CASH FLOWS
(DOLLARS IN THOUSANDS)
UNAUDITED
<TABLE>
<CAPTION>
NINE MONTHS
ENDED SEPTEMBER 30,
----------------------
1998 1997
-------- --------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) ......................................................... $ 874 $ (1,788)
Adjustments to reconcile net income (loss) to net cash provided by
Operating activities --
Amortization and depreciation ........................................... 3,155 2,555
Amortization of note payable discount ................................... 148 --
Accretion of and interest accrued on investments ........................ (259) --
Loss on disposal of discontinued division ............................... -- 2,032
Gain on disposal of assets .............................................. -- (40)
Write off of note payable discount ...................................... 1,282 --
Provision for doubtful accounts ......................................... 17 --
Provision for estimated losses on contracts ............................. (38) (10)
Change in--
Accounts receivable .................................................... (2,116) (1,137)
Unbilled project revenue ............................................... (139) 294
Prepaids and other ..................................................... (453) (253)
Accounts payable ....................................................... (203) 857
Accrued liabilities .................................................... 278 725
Deferred contract revenue .............................................. (1,559) 337
Decrease in current assets and liabilities from discontinued
operations ............................................................ -- (263)
-------- --------
Net cash provided by operating activities ........................... 987 3,309
-------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Acquisition of property and equipment ..................................... (2,085) (1,545)
Proceeds from sale of net assets .......................................... -- 602
Purchase of investments.................................................... (12,482) --
Software development costs ................................................ (251) (80)
-------- --------
Net cash used in investing activities ............................... (14,818) (1,023)
-------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of notes payable ................................... -- 575
Principal payments on notes payable ....................................... (4,986) (418)
Principal payments on capital lease obligations ........................... (1,248) (2,413)
Exercise of stock options ................................................. 29 45
Payments received from stock subscriptions ................................ 38 --
Proceeds from initial public offering and overallotment,
net of underwriter's discount ............................................ 26,952 --
Costs related to initial public offering .................................. (935) --
-------- --------
Net cash provided by (used in) financing activities ................. 19,850 (2,211)
-------- --------
NET INCREASE IN CASH AND CASH EQUIVALENTS ................................... 6,019 75
CASH AND CASH EQUIVALENTS, beginning of period .............................. 2,503 32
-------- --------
CASH AND CASH EQUIVALENTS, end of period .................................... $ 8,522 $ 107
======== ========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid during the period for interest .................................. $ 943 $ 635
======== ========
Cash paid during the period for taxes ..................................... $ 92 $ 18
======== ========
SUPPLEMENTAL SCHEDULE OF NONCASH FINANCING AND INVESTING ACTIVITIES:
Dividends accrued on Series D, E and F Convertible Preferred
Stock ................................................................... $ 355 $ 555
======== ========
Property acquired with capital leases ..................................... $ 3,400 $ 2,099
======== ========
Accrual of costs related to initial public offering and overallotment ..... $ 28 $ --
======== ========
Conversion of preferred stock to common stock ............................. $ 14,944 --
======== ========
Conversion of common stock warrants to common stock ........................ $ 1,549 --
======== ========
</TABLE>
The accompanying notes to financial statements are an integral part of these
statements.
6
<PAGE> 7
NOTES TO FINANCIAL STATEMENTS
NOTE 1 - BASIS OF PRESENTATION
The unaudited financial statements included herein reflect all
adjustments, consisting only of normal recurring adjustments, which in the
opinion of management are necessary to fairly present the Company's financial
position, results of operations and cash flows for the periods presented.
Certain information and footnote disclosures normally included in audited
financial information prepared in accordance with generally accepted accounting
principles have been condensed or omitted pursuant to the Securities and
Exchange Commission's rules and regulations. The results of operations for the
period ended September 30, 1998 are not necessarily indicative of the results to
be expected for any subsequent quarter or for the entire fiscal year ending
December 31, 1998. These financial statements should be read in conjunction with
the financial statements and notes thereto for the year ended December 31, 1997,
which are included in the Company's Registration Statement on Form S-1 (File No.
333-49767) which was declared effective by the Securities and Exchange
Commission on June 23, 1998.
NOTE 2 - EARNINGS PER SHARE
The Company has adopted Statement of Financial Accounting
Standards No. 128, "Earnings Per Share," by retroactively restating income
(loss) per share amounts for all periods presented. "Basic income (loss) per
share" is determined by dividing net income (loss) available to common
shareholders by the weighted average number of common shares outstanding during
each period. "Diluted income (loss) per share" includes the effects of
potentially issuable common stock, but only if dilutive (i.e., a loss per share
is never reduced). The treasury stock method, using the average price of the
Company's common stock for the period, is applied to determine dilution from
options and warrants. The if-converted method is used for convertible
securities. Potentially dilutive common stock options that were excluded from
the calculation of diluted income per share because their effect is antidilutive
totaled 37,622 and 31,072 for the three months ended September 30, 1998 and
September 30, 1997, respectively and 149,270 and 39,442 for the nine months
ended September 30, 1998 and September 30, 1997, respectively.
A reconciliation of the numerators and denominators used in
computing per share net income from continuing operations before extraordinary
item is as follows:
<TABLE>
<CAPTION>
THREE MONTHS ENDED SEPTEMBER 30, NINE MONTHS ENDED SEPTEMBER 30,
-------------------------------- -------------------------------
1998 1997 1998 1997
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Numerator:
Net income from continuing
operations before extraordinary item
(numerator for diluted loss
per share)................................ $ 831,000 $ 533,000 $ 2,316,000 $ 1,120,000
Dividends on Convertible
Preferred Stock ........................... -- (185,000) (355,000) (555,000)
Common stock warrant put price
adjustment................................. -- -- (77,000) --
----------- ----------- ----------- -----------
Numerator for basic
income per share from
continuing operations
before extraordinary item............... $ 831,000 $ 348,000 $ 1,884,000 $ 565,000
=========== =========== =========== ===========
Denominator for basic income
(loss) per share:
Weighted average common shares
outstanding.................................. 10,746,425 1,850,992 5,172,500 1,824,396
=========== =========== =========== ===========
Denominator for diluted income
(loss) per share:
Convertible Preferred Stock .................. -- 6,188,575 3,921,698 6,188,575
Weighted average common shares
outstanding.................................. 10,746,408 1,849,148 5,172,493 1,824,396
Options issued to employees .................. 576,468 686,237 539,611 692,212
Putable common stock warrant ................. -- -- 123,655 --
----------- ----------- ----------- -----------
Denominator for diluted
income (loss) per
share ..................................... 11,322,876 8,723,960 9,757,457 8,705,183
=========== =========== =========== ===========
</TABLE>
7
<PAGE> 8
Income (loss) per common share was computed as follows:
<TABLE>
<CAPTION>
THREE MONTHS NINE MONTHS
ENDED SEPTEMBER 30, ENDED SEPTEMBER 30,
-------------------- --------------------
1998 1997 1998 1997
---------- -------- --------- -------
<S> <C> <C> <C> <C>
Basic income (loss) per share:
Income per share from continuing
operations.............................. $ 0.08 $ 0.19 $ 0.36 $ 0.31
Net loss per share from discontinued
operations.............................. -- -- -- (1.59)
Net loss per share from
extraordinary item...................... -- -- (0.27) --
-------- ------ ------- ------
Basic net loss per share........... $ 0.08 $ 0.19 $ 0.09 $(1.28)
======== ====== ======= ======
Diluted income (loss) per share:
Income per share from continuing
operations.............................. $ 0.07 $ 0.06 $ 0.24 $ 0.13
Net loss per share from discontinued
operations.............................. -- -- -- (0.34)
Net loss per share from extraordinary
item.................................... -- -- (0.15) --
-------- ------ ------- ------
Diluted income (loss) per share...... $ 0.07 $ 0.06 $ 0.09 $(0.21)
======== ====== ======= ======
</TABLE>
NOTE 3 - INITIAL PUBLIC OFFERING
In June 1998, the Company sold 2,100,000 shares of its common
stock in an initial public offering, which generated proceeds of $22.5 million,
net of the underwriter's discount and other estimated offering costs. The
Company used a portion of the proceeds to repay $4.0 million in bank debt, the
$450,000 balance on its line of credit, accrued interest on its bank debt and
the $160,000 prepayment penalty related the $4.0 million bank debt. Pursuant to
the prepayment of the Company's $4.0 million bank debt, unamortized discount on
the note related to the underlying common stock warrant of $1.3 million and the
$160,000 prepayment penalty were recorded as an extraordinary item in June 1998.
At the time of the initial public offering, 6,188,575 shares of
the Company's preferred stock of various classes were converted to common stock.
In addition, the warrant to purchase 195,148 shares of common stock related to
the $4.0 million bank debt was exercised for a nominal amount and the related
put option expired.
In July 1998, the Company sold an additional 315,000 shares of
its common stock pursuant to the exercise of the underwriter's over-allotment
option, which generated net proceeds to the Company of approximately $3.5
million.
NOTE 4 - CONTINGENCIES
The Company is, from time to time, subject to certain claims,
assertions or litigation by outside parties as part of its ongoing business
operations. The outcome of any such contingencies is not expected to have a
material adverse effect on the financial condition, operations or cash flows of
the Company. The Company is not currently a party to any material legal
proceedings.
8
<PAGE> 9
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
THIS QUARTERLY REPORT ON FORM 10-Q CONTAINS FORWARD-LOOKING
STATEMENTS THAT INVOLVE RISKS AND UNCERTAINTIES. THE COMPANY'S ACTUAL RESULTS
MAY DIFFER MATERIALLY FROM THE RESULTS DISCUSSED IN THE FORWARD-LOOKING
STATEMENTS. FACTORS THAT MIGHT CAUSE SUCH A DIFFERENCE INCLUDE, BUT ARE NOT
LIMITED TO, THOSE DISCUSSED UNDER THE CAPTION "FACTORS THAT MAY AFFECT FUTURE
RESULTS" CONTAINED HEREIN.
OVERVIEW
SCC is the leading provider of 9-1-1 operations support systems ("OSS")
services to incumbent local exchange carriers ("ILECs"), competitive local
exchange carriers ("CLECs") and wireless carriers in the United States. The
Company manages the data that enable a 9-1-1 call to be routed to the
appropriate public safety agency with accurate and timely information about the
caller's identification and location. The Company was incorporated in July 1979
in the State of Colorado under the name Systems Concepts of Colorado, Inc. and
was reincorporated in September 1993 in the State of Delaware under the name SCC
Communications Corp. Prior to 1995, substantially all of the Company's revenue
was derived from the sale of software licenses and related implementation
services to ILECs and public safety agencies. During 1994, the Company began
investing in infrastructure to provide its 9-1-1 OSS solution to telephone
operating companies seeking to outsource such operations. The Company signed its
first 9-1-1 data management services contract in August 1994 and added to the
number of records under management in subsequent years. The Company began to
recognize revenue from wireless carriers in the third quarter of 1997, and a
growing percentage of the Company's revenue has been derived from the management
of 9-1-1 data records for wireless carriers.
SCC's data management services revenue is derived from contracts with ILECs,
CLECs and wireless carriers pursuant to which the Company provides an
outsourcing solution for its customers' 9-1-1 data management. Revenue included
in data management services generally includes a non-recurring initial fee for
the design and implementation of the 9-1-1 OSS, conversion of the customer's
data to the Company's systems, hiring and training of personnel, and other costs
required to prepare for the processing of customer data. Non-recurring fees are
recognized on the percentage-of-completion method over the period required to
perform the tasks necessary to prepare for the processing of customer data. The
Company also generally receives a monthly service fee based on the number of
subscriber records under management, which is recognized in the period in which
the services are rendered. Data management services revenue also may include
revenue from enhanced products and services, which are recognized in the period
in which the services are performed. Related costs are expensed as they are
incurred. Data management services revenue comprised 89% and 91% of the
Company's total revenue in the nine months ended September 30, 1998 and 1997,
respectively.
SCC's licenses and implementation services revenue is derived from contracts
with ILECs pursuant to which the Company provides a 9-1-1 software license or
related products and services such as implementation, training, software
enhancements and interfaces to its customers' systems. Licenses and
implementation services revenue is recognized using the percentage-of-completion
method. The related costs include third-party licenses, direct labor and related
expenses, and are expensed as incurred. Subsequent to system installation, the
Company provides its customers with maintenance services that are recognized
ratably over the related contract period on a straight-line basis. The Company's
licenses and implementation services revenue is derived from a limited number of
customers and consequently the concentration of customers can result in
quarterly fluctuations based on the timing of the signing of new contracts and
completion of existing contracts. Margins on such contracts also may fluctuate
based on the elements included in the contract. Licenses and implementation
services revenue comprised 11% and 9% of the Company's total revenue in the nine
months ended September 30, 1998 and 1997, respectively.
During the nine months ended September 30, 1998, the Company recognized
approximately 84% of total revenue from continuing operations from Ameritech,
AT&T, BellSouth Inc and U.S. WEST, each of which accounted for greater than 10%
of the Company's total revenue in such period. During the nine months ended
September 30, 1997, the Company recognized approximately 86% of total revenue
from Ameritech, BellSouth Inc. and U.S. WEST, each of which accounted for
greater than 10% of the Company's total revenue in such period. In the third
quarter of 1998, one of the Company's licenses and implementation services
customers, Bell Atlantic, who recently merged with Nynex, announced its decision
to standardize its 9-1-1 hardware and software platform utilizing non-SCC
systems that had been used by Nynex prior to the merger. This transition will
occur over the course of approximately nine months, during which time SCC will
continue to support the systems installed in Bell Atlantic and will co-operate
9
<PAGE> 10
fully to ensure a smooth transition of these systems. Bell Atlantic comprised
approximately 7% of the Company's total revenue in the first nine months of
1998. See "Factors that May Affect Future Results -- Reliance on Significant
Customers."
As of December 31, 1997, the Company had net operating loss carryforwards of
$9.6 million available to offset future net income for U.S. federal income tax
purposes. Thus, the Company's income tax provision for past fiscal years
consisted of alternative minimum taxes, state income taxes in states where the
Company has not had net operating loss carryforwards to offset net income, and
foreign taxes. As of December 31, 1997, the Company reversed $2.5 million of the
valuation allowance on its deferred tax assets as the Company believes that it
is more likely than not that such tax benefits will be realized. The Company
evaluates the valuation allowance each accounting period and adjusted the
valuation allowance for the utilization of the net operating loss carryforward
for the nine months ended September 30, 1998. There is no assurance that the
Company's remaining deferred tax benefit will be offset by future taxable income
or will not be restricted in the future due to transactions entered into by the
Company or changes in tax legislation.
In June 1997, the Company sold the net assets of its Premise Products
Division. The sale of the Company's Premise Products Division resulted in a net
loss from the sale of $2.0 million. Net losses from operations of this division
totaled $876,000 in the nine months ended September 30, 1997 and are presented
in the Company's financial statements as loss from operations of discontinued
division.
In June and July 1998, the Company completed an initial public offering of
its common stock, which generated proceeds of $26.0 million, net of the
underwriter's discount and other estimated offering costs and including the
exercise of the underwriters' overallotment option. See Note 3 to the
accompanying financial statements and "Liquidity and Capital Resources."
Historically, substantially all of the Company's revenue has been generated
from sales to customers in the United States. However, the Company has generated
revenue in Canada and intends to enter additional international markets, which
may require significant management attention and financial resources.
International sales are subject to a variety of risks. See "Factors That May
Affect Future Results -- Risks Associated with International Sales."
The Company's quarterly and annual operating results have varied
significantly in the past. The variation in operating results will likely
continue and may intensify. Although the Company was profitable in nine of its
last ten quarters, there can be no assurance that the Company's profitability
will continue in the future or, if the Company is profitable, that its levels of
profitability will not vary significantly between quarters. Accordingly, the
Company believes that period to period comparisons of results of operations are
not necessarily meaningful and should not be relied upon as indications of
future performance. The Company's operating results may fluctuate as a result of
many factors, including the length of the sales cycles for new or existing
customers, the size, timing or duration of significant customer contracts,
fluctuations in number of subscriber records under management, timing or
duration of service offerings, ability of the Company to hire, train and retain
qualified personnel, increased competition, changes in operating expenses,
changes in Company strategy, the financial performance of the Company's
customers, changes in telecommunications legislation and regulations that may
affect the competitive environment for the Company's services, and general
economic factors. The Company's contracts for 9-1-1 OSS services generally
include a non-recurring initial fee, and therefore, the Company may recognize
significantly increased revenue for a short period of time upon commencing
services for a new customer.
The Company's expense levels are based in significant part on its
expectations regarding future revenue. The Company's revenue is difficult to
forecast because the market for the Company's 9-1-1 OSS services is rapidly
evolving. In addition, the Company's sales cycle and the size and timing of
significant customer contracts, license fees and non-recurring initial fees vary
substantially among customers depending on the level of service provided.
Accordingly, the Company may be unable to adjust spending in a timely manner to
compensate for any unexpected shortfall in revenue. Any significant shortfall
could therefore have a material adverse effect on the Company's business,
financial condition and results of operations. In addition, the Company hired
additional employees in recent fiscal years, and expects to continue hiring
additional employees during 1998. The Company expects that this increase will
affect the Company's operating margins for the short term. There can be no
assurance that the Company can continue to report operating profits, and failure
to do so is likely to have a material adverse effect on the Company's financial
results. See "Factors That May Affect Future Results -- Significant Fluctuations
in Quarterly Results of Operations" and "-- Management of Change."
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THREE MONTHS ENDED SEPTEMBER 30, 1998 COMPARED TO THREE MONTHS ENDED SEPTEMBER
30, 1997
Revenue
Total Revenue. Total revenue increased 18%, from $7.2 million
in the third quarter of 1997 to $8.5 million in the third quarter of 1998.
Data Management Services Revenue. Revenue from data management
services increased 15%, from $6.4 million in the third quarter of 1997 to $7.4
million in the third quarter of 1998, representing 88% and 87% of total revenue
for such periods, respectively. The increase resulted primarily from (i) monthly
fees from wireless customers in the third quarter of 1998, as the Company did
not begin to earn monthly fees from wireless carriers until the fourth quarter
of 1997, (ii) increased monthly fees from wireline customers, as the number of
records under management increased, and (iii) increased non-recurring and
monthly fees from enhanced services provided in the third quarter of 1998. These
increases were offset by a decrease in non-recurring fees for both wireless and
wireline customers.
Licenses and Implementation Services. Revenue from licenses
and implementation services increased 35%, from $834,000 in the third quarter of
1997 to $1.1 million in the third quarter of 1998, primarily due to an increase
in warranty fees recognized during the third quarter of 1998.
Costs and Expenses
Cost of Data Management Services. Cost of data management
services consists primarily of labor and costs of interconnection with
customers' systems and the Company's infrastructure. Cost of data management
services increased 26%, from $4.2 million in the third quarter of 1997 to $5.3
million in the third quarter of 1998, representing 58% and 62% of total revenue
for such periods, respectively, and 65% and 71% of data management services
revenue in the third quarter of 1997 and third quarter of 1998, respectively.
The dollar increase was due to the addition of personnel and installation of
equipment and telephone lines to accommodate growth in the Company's wireless
and wireline operations. The percentage increase occurred primarily because
demand for the Company's wireless and enhanced services has been slower than
anticipated, although the Company has built the infrastructure to service the
anticipated demand.
Cost of Licenses and Implementation Services. Cost of licenses
and implementation services consists primarily of labor, license fees for third
party software and related expenses. Cost of licenses and implementation
services decreased 42%, from $457,000 in the third quarter of 1997 to $265,000
in the third quarter of 1998, representing 6% and 3% of total revenue for such
periods, respectively. Additionally, cost of licenses and implementation
services revenue represented 55% and 24% of licenses and implementation services
revenue in the third quarter of 1997 and third quarter of 1998, respectively.
The decrease as a percent of licenses and implementation services revenue
resulted from a higher portion of warranty revenue in the third quarter of 1998
compared to the third quarter of 1997. Warranty revenue carries a higher margin
than installation services revenue. In addition, the Company's spending related
to certain projects was less than anticipated, resulting in a decrease in the
amount accrued.
Sales and Marketing. Sales and marketing expenses consist
primarily of expenses related to salaries and commissions, travel, trade shows
and sales collateral. Sales and marketing expenses increased 19%, from $901,000
in the third quarter of 1997 to $1.1 million in the third quarter of 1998,
representing 12% and 13% of total revenue in such quarters, respectively. The
dollar increase was due to the addition of personnel and the hiring of a public
relations firm in 1998. The increases were offset by the transfer of a vice
president to a general and administrative position in 1998.
General and Administrative. General and administrative
expenses consist primarily of expenses related to the Company's information
systems, finance, human resources, legal, executive and financial planning
departments. General and administrative expenses increased 34%, from $930,000 in
the third quarter of 1997 to $1.2 million in the third quarter of 1998,
representing 13% and 15% of total revenue in the third quarter of 1997 and third
quarter of 1998, respectively. The dollar increase was due to (i) addition of
personnel and computer equipment in the accounting, information systems and
human resources departments to support the Company's growth, (ii) strategic
consulting costs incurred in 1998, (iii) investor relations consulting costs
incurred as the Company went public in the second quarter of 1998, and (iv) the
transfer of a vice president from a marketing position to a general and
administrative position.
Other income (expense), net. Net other income (expense)
consists primarily of interest expense from the Company's borrowings and leases
for capital equipment, offset by interest income earned on the Company's cash
balances. Net other expense was $193,000 in the third quarter of 1997 compared
to net other income of
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<PAGE> 12
$180,000 in the third quarter of 1998, representing (3)% and 2% of total revenue
for such periods, respectively. The dollar increase was primarily due to a
decrease in interest expense related to the repayment of certain bank debt and
capital leases that were outstanding in the third quarter of 1997 and interest
earned from the investment of funds received from the Company's initial public
offering in June and July of 1998.
Provision for Income Taxes. The Company's income tax provision
decreased from $40,000 in the third quarter of 1997 to $8,000 in the third
quarter of 1998. The Company decreased its effective tax rate due to expected
utilization of net operating loss carryforwards in states where the Company is
generating taxable income.
NINE MONTHS ENDED SEPTEMBER 30, 1998 COMPARED TO NINE MONTHS ENDED SEPTEMBER 30,
1997
Revenue
Total Revenue. Total revenue increased 42%, from $18.1 million
in the nine months ended September 30, 1997 to $25.8 million in the nine months
ended September 30, 1998.
Data Management Services Revenue. Revenue from data management
services increased 39%, from $16.5 million in the nine months ended September
30, 1997 to $22.9 million in the nine months ended September 30, 1998,
representing 91% and 89% of total revenue for such periods, respectively. The
increase resulted primarily from (i) non-recurring and monthly fees from
wireless customers in the first nine months of 1998 due to the signing of
additional wireless contracts in 1998, (ii) increased monthly fees from wireline
customers, as the Company was in the process of transitioning the records of a
major customer during the first nine months of 1997 and due to an increase in
records under management for existing customers, and (iii) non-recurring and
monthly fees from enhanced services provided in the first nine months of 1998.
Licenses and Implementation Services Revenue. Revenue from
licenses and implementation services increased 77%, from $1.6 million in the
nine months ended September 30, 1997 to $2.9 million in the nine months ended
September 30, 1998, primarily due to a new contract that was signed in the
beginning of the second quarter of 1998.
Costs and Expenses
Cost of Data Management Services. Cost of data management
services increased 43%, from $10.7 million in the nine months ended September
30, 1997 to $15.3 million in the nine months ended September 30, 1998,
representing 59% of total revenue in each of such periods. Additionally, cost of
data management services represented 65% and 67% of data management services
revenue in the nine month periods ended September 30, 1997 and 1998,
respectively. The dollar increase was due to the addition of personnel,
installation of equipment and telephone lines and the expansion of facilities to
accommodate growth in the Company's wireless and wireline operations. The
percentage increase occurred primarily because demand for the Company's wireless
services has been slower than anticipated, although the Company has built the
infrastructure to service the anticipated demand.
Cost of Licenses and Implementation Services. Cost of licenses
and implementation services increased 16%, from $809,000 in the nine months
ended September 30, 1997 to $939,000 in the nine months ended September 30,
1998, representing 4% of total revenue in each of such periods. Additionally,
cost of licenses and implementation services represented 49% and 32% of licenses
and implementation services revenue in the nine months ended September 30, 1997
and nine months ended September 30, 1998, respectively. The dollar increase was
due to costs related to a new contract in the beginning of the second quarter of
1998. The decrease as a percent of licenses and implementation services revenue
resulted primarily from (i) the completion of contracts that were in process in
the first nine months of 1997, which had higher cost elements, including
third-party software, than the contracts that were in process in the first nine
months of 1998, (ii) a larger portion of the revenue related to maintenance in
1998, which has a higher gross margin than implementation services, and (iii)
the Company's spending related to certain projects was less than anticipated,
resulting in a decrease in the amount accrued.
Sales and Marketing. Sales and marketing expenses increased
7%, from $2.9 million for the nine months ended September 30, 1997 to $3.1
million for the nine months ended September 30, 1998, representing 16% and 12%
of total revenue for such periods, respectively. The dollar increase was due to
the addition of personnel and the hiring of a public relations firm in 1998. The
increases were partially offset by decreases related to recruiting-related costs
incurred in the second quarter of 1997 that did not recur in the first nine
months of 1998 and the transfer of a vice president to a general and
administrative position.
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<PAGE> 13
General and Administrative. General and administrative
expenses increased 84%, from $1.9 million for the nine months ended September
30, 1997 to $3.6 million in the nine months ended September 30, 1998,
representing 11% and 14% of total revenue for such periods, respectively. The
dollar increase was due to (i) the reassignment of certain continuing resources,
infrastructure and related general and administrative expenses applicable to
continuing operations, (ii) the addition of personnel and computer equipment in
the accounting, information systems and human resources departments to support
the Company's growth, (iii) strategic consulting costs incurred in 1998, (iv)
investor relations consulting costs incurred as the Company went public in the
second quarter of 1998, and (iv) the transfer of a vice president from a
marketing position to a general and administrative position.
Other Expenses, Net. Net other expenses decreased 27%, from
$551,000 in the nine months ended September 30, 1997 to $402,000 in the nine
months ended September 30, 1998, representing 3% and 2% of total revenue in the
nine months ended September 30, 1997 and nine months ended September 30, 1998,
respectively. The dollar decrease was primarily due to a decrease in interest
expense resulting from a lower average debt balance outstanding in 1998, as the
Company repaid certain bank debt and capital lease obligations. In addition, the
Company earned interest income on the proceeds from its initial public offering,
which occurred in June and July of 1998.
Provision for Income Taxes. The Company's income tax provision
increased from $84,000 in the nine months ended September 30, 1997 to $120,000
in the nine months ended September 30, 1998 due to an increase in taxable income
in states in which the Company did not have net operating loss carryforwards
available to offset net income. However, the effective tax rate decreased due to
the expected utilization of loss carryforwards in states where the Company is
generating taxable income.
Extraordinary Item. The Company recorded a charge of $1.4
million in the second quarter of 1998 related to the write-off of the remaining
debt discount and other costs associated with the early extinguishment of the
Company's bank debt.
LIQUIDITY AND CAPITAL RESOURCES
Since its inception the Company has funded its operations with cash
provided by operations, supplemented by equity and debt financing and leases on
capital equipment. As of September 30, 1998, the Company had $21.3 million in
cash and cash equivalents and investments and $4.4 million in net accounts
receivable.
In June 1998, the Company completed an initial public offering of
2,100,000 shares of its Common Stock, which generated proceeds of $22.5 million
to the Company, net of the underwriter's discount and other estimated offering
costs. The Company used approximately $4.6 million of the proceeds to repay its
bank loans and related prepayment penalty. In July 1998, the underwriters of the
Company's initial public offering exercised their over-allotment option. Under
the over-allotment option, the Company sold an additional 315,000 shares of its
Common Stock, generating net proceeds of $3.5 million.
The Company repaid $2.3 million and $1.8 million of other bank debt and
capital lease obligations during the nine months ended September 30, 1997 and
nine months ended September 30, 1998, respectively, net of borrowings of
$575,000 in the nine months ended September 30, 1997. Additionally, the Company
used $1.6 million and $2.3 million during the nine months ended September 30,
1997 and nine months ended September 30, 1998, respectively, for the purchase of
capital assets and software development. The Company anticipates that its level
of spending for capital expenditures in the first nine months of 1998 will
continue during 1998, although it currently has no material commitments for
capital expenditures.
The Company has a line of credit with a bank equal to the lesser of 75% of
qualifying accounts receivable or $2.0 million available to meet operating
needs. Amounts borrowed under the line of credit bear interest at prime rate
(8.25% at September 30, 1998) and are due April 15, 1999. The credit line is
collateralized by certain assets of the Company. As of September 30, 1998, no
borrowings were outstanding on the line of credit.
The Company believes that the remaining net proceeds from its initial
public offering, together with cash generated from operations, will be
sufficient to fund its anticipated working capital needs, capital expenditures
and any potential future acquisitions through at least 1999. In the event the
Company's plans or assumptions change or prove to be inaccurate, or if the
Company consummates any unplanned acquisitions of businesses or assets, the
Company may be required to seek additional sources of capital. Sources of
additional capital may include public and private equity and debt financings,
sales of nonstrategic assets and other financing arrangements.
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YEAR 2000 CAPABILITY
Many currently installed computer and software products are coded to accept
only two digit entries in the date code field. These date code fields will need
to accept four digit entries to distinguish twenty-first century dates from
twentieth century dates. As a result, in less than two years, computer systems
and/or software used by many companies may need to be upgraded to comply with
such "Year 2000" requirements. Significant uncertainty exists in the software
industry concerning the potential effects associated with such compliance.
The Company uses off-the-shelf and custom software developed internally
and by third parties for its production systems. The Company has completed its
assessment of and begun implementing a plan for the programming and testing of
its internally developed software to make it Year 2000 compliant. In addition,
the Company has identified which of its third party production systems it
believes have date-sensitive applications to determine where Year 2000 issues
may exist. The Company has contacted the third-party suppliers and is awaiting
responses to determine whether the hardware and software is Year 2000 compliant
and, if not, what steps must be taken to make such systems compliant. The
Company has begun to upgrade and test certain third party systems for which an
upgrade is currently available.
The Company estimates that its total costs to convert its production
systems to be Year 2000 compliant, including primarily internal labor and third
party hardware and software costs, will be approximately $400,000, of which
approximately 70% has been incurred. The Company expects to complete the
conversion of its production systems in the first half of 1999. However, there
can be no assurance that unidentified Year 2000 problems will not cause the
Company to incur material expenses in responding to such problems or otherwise
have a material adverse effect on the Company's business, financial condition
and results of operations. In addition, to the extent that such software and
systems do not comply with Year 2000 requirements, there can be no assurance
that potential systems interruptions, the Company's potential inability to meet
its contractual obligations or the cost necessary to update such software will
not have a material adverse effect on the Company's business, financial
condition and results of operations. Certain of the Company's current contracts
with its customers require that the Company warrant Year 2000 capability by a
certain date. Any failure to achieve Year 2000 compliance by such date could
have a material adverse effect on the Company's business, financial condition
and results of operations.
The Company is also in the process of assessing its IT and non-IT (fax
machines, photocopiers, telephone switches, security systems and other common
office devices) related systems. The Company is performing an inventory of
systems used in the Company's IT and non-IT applications and is determining
which applications have a mission critical effect on the Company's ability to
continue operations. The Company intends to complete this assessment by January
1999. In addition, the Company has begun to contact third party suppliers
regarding Year 2000 compliance but has only recently begun to receive responses.
The Company believes that it may be required to upgrade certain third party
systems, some of which may have otherwise been necessary for normal operating
purposes. Failure of one or more of these internal systems to become Year 2000
compliant could impair the Company's ability to communicate with its customers
and perform critical business operations and could cause the Company to process
information manually or limit access to data.
Although the Company does not have a formal contingency plan with respect
to Year 2000 issues, it is continually monitoring the risks involved. Although
the Company expects to identify and resolve all Year 2000 issues that could
materially affect its business operations, the Company believes it is not
possible to determine with complete certainty that all Year 2000 issues will be
identified or corrected in time. If the costs to convert the Company's systems
to be Year 2000 compliant are greater than anticipated or if the Company's
systems do not contain all necessary date code changes in time, there is no
assurance that system interruptions or an inability to meet contractual
obligations would not occur or that such occurrences would not have a material
adverse effect on the Company's business, financial condition and results of
operations. See "Factors That May Affect Future Results -- Year 2000
Capability."
RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
Statement of Position 98-1
In March 1998, the AICPA issued Statement of Position 98-1 ("SOP 98-1"),
"Accounting for the Costs of Computer Software Developed or Obtained for
Internal Use". In general, SOP 98-1 requires that certain costs to develop
software for internal use be capitalized. This statement is effective for fiscal
years beginning after December 15, 1998, although earlier adoption is permitted.
These requirements are to be applied prospectively from the date of adoption.
The Company believes SOP 98-1 will not materially impact its financial
statements.
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Statement of Position 98-5
In April 1998, the AICPA issued Statement of Position 98-5 ("SOP 98-5"),
"Reporting on the Costs of Start-Up Activities". SOP 98-5 provides guidance on
the financial reporting of start-up and organization costs and requires costs of
start-up activities and organization costs to be expensed as incurred. SOP 98-5
is effective for fiscal years beginning after December 15, 1998 and the Company
believes SOP 98-5 will not materially impact its financial statements.
Statement of Financial Accounting Standards No. 133
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133, "Accounting for Derivative Instruments
and Hedging Activities". The Statement establishes accounting and reporting
standards requiring that every derivative instrument (including certain
derivative instruments embedded in other contracts) be recorded in the balance
sheet as either an asset or liability measured at its fair value. The statement
requires that changes in the derivative's fair value be recognized currently in
earnings unless specific hedge accounting criteria are met. Special accounting
for qualifying hedges allows a derivative's gains and losses to offset related
results on the hedged item in the income statement, and requires that a company
must formally document, designate, and assess the effectiveness of transactions
that receive hedge accounting.
Statement No. 133 is effective for fiscal years beginning after June 15,
1999. A company may also implement the Statement as of the beginning of any
fiscal quarter after issuance (that is, fiscal quarters beginning June 16, 1998
and thereafter). Statement No. 133 cannot be applied retroactively. Statement
No. 133 must be applied to (a) derivative instruments and (b) certain derivative
instruments embedded in hybrid contracts that were issued, acquired, or
substantively modified after December 31, 1997 (and, at the company's election,
before January 1, 1998).
The Company does not typically enter into arrangements that would fall
under the scope of Statement No. 133. The Company's management has not yet
quantified the impacts of adopting Statement 133 on the Company's financial
statements and has not determined the timing of or method of the Company's
adoption of Statement No. 133. However, should the Company determine to utilize
the arrangements covered by Statement No. 133, the Statement could increase
volatility in earnings and other comprehensive income. Because the Company has
not historically entered into such arrangements, management believes that the
Statement No. 133 will not significantly affect its financial reporting.
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FACTORS THAT MAY AFFECT FUTURE RESULTS
THIS QUARTERLY REPORT ON FORM 10-Q CONTAINS FORWARD-LOOKING STATEMENTS THAT
INVOLVE RISKS AND UNCERTAINTIES. THE COMPANY'S ACTUAL RESULTS MAY DIFFER
MATERIALLY FROM THE RESULTS DISCUSSED IN THE FORWARD-LOOKING STATEMENTS. FACTORS
THAT MIGHT CAUSE SUCH A DIFFERENCE INCLUDE, BUT ARE NOT LIMITED TO, THOSE
DISCUSSED BELOW.
SIGNIFICANT FLUCTUATIONS IN QUARTERLY RESULTS OF OPERATIONS
The Company has experienced fluctuations in its quarterly operating results
and anticipates that such fluctuations will continue and could intensify.
Fluctuations in operating results may result in volatility in the price of the
Company's Common Stock. Although the Company was profitable in nine of its last
ten quarters, there can be no assurance that the Company's profitability will
continue in the future or, if the Company is profitable, that its levels of
profitability will not vary significantly between quarters.
The Company experienced a net loss of approximately $453,000 for the year
ended December 31, 1997, exclusive of the benefit for income taxes, as a result
of losses from discontinued operations of approximately $876,000 and losses on
the disposal of such operations of approximately $2.0 million. The Company's
operating results may fluctuate as a result of many factors, including the
length of the sales cycle for new or existing customers, the size, timing or
duration of significant customer contracts, fluctuations in the number of
subscriber records under management, timing of new service offerings, demand by
license customers for new development services, customer acceptance of service
offerings, ability of the Company to hire, train and retain qualified personnel,
increased competition, changes in operating expenses, changes in the Company's
strategy, the financial performance of the Company's customers, changes in
telecommunications legislation and regulations that may affect the competitive
environment for the Company's services, and general economic factors. The
Company's contracts for data management services generally include a
non-recurring initial fee, and therefore, the Company may recognize
significantly increased revenue for a short period of time upon commencing
services for a new customer.
The Company's expense levels are based in significant part on its
expectations regarding future revenue. The Company's revenue is difficult to
forecast because the market for the Company's services is evolving rapidly and
the length of the Company's sales cycle, the size and timing of significant
customer contracts and license fees and the timing of recognition of
non-recurring initial fees vary substantially among customers. Accordingly, the
Company may be unable to adjust spending in a timely manner to compensate for
any unexpected shortfall in revenue. Any significant shortfall could therefore
have a material adverse effect on the Company's business, financial condition
and results of operations. In addition, the Company hired a significant number
of employees in 1996, 1997 and the first three quarters of 1998, and expects to
continue hiring additional employees during the remainder of 1998. The Company
expects that this increase will affect the Company's operating margins for the
short term. There can be no assurance that the Company can continue to report
operating profits, and failure to do so could have a material adverse effect on
the Company's business, financial condition and results of operations.
Based on all of the foregoing, the Company believes that future revenue,
expenses and operating results are likely to vary significantly from quarter to
quarter. As a result, quarter-to-quarter comparisons of operating results are
not necessarily meaningful or indicative of future performance. Furthermore, it
is possible that in some future quarter the Company's operating results will be
below the expectations of public market analysts or investors. In such event, or
in the event that adverse conditions prevail, or are perceived to prevail, with
respect to the Company's business or generally, the market price of the
Company's Common Stock would likely be materially adversely affected. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations."
LENGTHY SALES CYCLE
Potential customers of the Company typically commit significant resources
to the technical evaluation of the Company's services and products and the
Company typically spends substantial time, effort and money providing education
regarding the Company's 9-1-1 OSS solution. The evaluation process often results
in an extensive and lengthy sales cycle, typically ranging between six months
and two years, making it difficult for the Company to forecast the timing and
magnitude of sales contracts. Delays associated with customers' internal
approval and contracting procedures, procurement practices, and testing and
acceptance processes are common. For example, customers' budgetary constraints
and internal acceptance reviews may cause potential customers to delay or forego
a purchase. The delay or failure to complete one or more large contracts could
have a material adverse effect on the
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Company's business, financial condition and results of operations and cause the
Company's operating results to vary significantly from quarter to quarter. See
"-- Significant Fluctuations in Quarterly Results of Operations."
RELIANCE ON SIGNIFICANT CUSTOMERS
The Company historically has depended on, and expects to continue to depend
on, large contracts from a limited number of significant customers. During the
nine months ended September 30, 1998, the Company recognized approximately 84%
of its total revenue from continuing operations from Ameritech, BellSouth Inc.
and U.S. WEST, each of which accounted for greater than 10% of the Company's
revenue in such period. During the nine months ended September 30, 1997, the
Company recognized approximately 86% of its total revenue from continuing
operations from Ameritech, AT&T, BellSouth Inc. and U.S. WEST, each of which
accounted for greater than 10% of the Company's revenue in such period. The
Company believes that these customers will continue to represent a substantial
portion of the Company's total revenue in the future. Certain of the Company's
contracts with these customers allow them to cancel their contracts with the
Company in the event of changes in regulatory, legal, labor or business
conditions. The Company's contracts with these customers expire between 2002 and
2005. The loss of any of these customers would have a material adverse effect on
the Company's business, financial condition and results of operations. Recently
SBC Communications, Inc., which is not a customer of the Company, agreed to
acquire Ameritech. The Company cannot predict what effect, if any, this
acquisition will have on the Company and there can be no assurance that this
acquisition or any future consolidation in the telecommunications industry will
not have a material adverse effect on the Company's business, financial
condition and results of operation. None of the Company's major customers has
any obligation to purchase additional products or additional services beyond
those currently contemplated by their existing contracts. Consequently, the
failure by the Company to develop relationships with significant new customers
could have a material adverse effect on the rate of growth in the Company's
revenue, if any. If the Company fails to monitor and maintain adequately the
quality and expand the breadth of its services and products, advance its
technology or continue to price its services and products competitively, one or
more of its major customers may select alternative providers or seek to develop
services and products internally.
RATE OF ADOPTION BY PUBLIC SAFETY ANSWERING POINTS
A growing percentage of the Company's revenue is derived from the
management of 9-1-1 data records for wireless carriers. Recognizing the public
safety need for improved wireless 9-1-1 service, the Federal Communications
Commission (the "FCC") issued Report & Order 94-102 (the "Order") on June 12,
1996, a directive that mandated the adoption of 9-1-1 technology by wireless
carriers in two phases. Phase I required wireless carriers to provide to
requesting PSAPs at the time of a 9-1-1 call, the caller's telephone number and
location of the receiving cell site. Wireless carriers had to comply with Phase
I mandates by the later of April 1, 1998, or six months after the PSAP request.
Phase II requires wireless carriers to locate a 9-1-1 caller to within 125
meters, subject to FCC guidelines. Wireless carriers must comply with Phase II
mandates for requesting PSAPs by October 1, 2001. The Company believes that the
technological challenges confronting wireless carriers attempting to comply with
the Order will encourage them to outsource their 9-1-1 services. If many
wireless carriers decide not to outsource such services, the Company's business,
financial condition and results of operations could be materially and adversely
affected. If PSAPs delay demanding services complying with the Order from
wireless carriers, the Company would experience a delay in receiving revenue
under its current wireless contracts that, because the Company has already
incurred costs in expectation of such revenue, could have a material adverse
effect on the Company's business, financial condition and results of operations.
DEPENDENCE ON NEW PRODUCTS AND SERVICES; RAPID TECHNOLOGICAL CHANGE
The market for the Company's services is characterized by rapid
technological change, frequent new product or service introductions, evolving
industry standards and changing customer needs. The Company currently intends to
begin offering in late 1998 both its Subscriber ALI product, which will allow
subscribers to enter personal information into their 9-1-1 records, and its
Emergency Warning and Evacuation System, which will allow PSAPs to call all
numbers in a given area and warn of imminent danger. The introduction of
products and services embodying new technologies and the emergence of new
industry and technology standards can render existing products and services
obsolete and unmarketable in short periods of time. The Company expects other
vendors regularly to introduce new products and services, as well as
enhancements to their existing products and services, that will compete with the
services and products offered by the Company. As a result, the life cycles of
the Company's services and products are difficult to estimate. The Company
believes that its future success will depend in large part on its ability to
maintain and enhance its current service and product offerings, to develop and
introduce regularly new services and products that will keep pace with
technological advances and satisfy evolving customer requirements, and to
achieve acceptable levels of sales of its new services and products through its
current customers that resell the Company's solutions to their subscribers.
However, there can be no assurance that the Company will
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not experience difficulties that could delay or prevent the successful
development, introduction or marketing of such new services and products or that
its new services and products will adequately meet the requirements of the
marketplace and achieve market acceptance. Announcements of currently planned or
other new service and product offerings by the Company or its competitors may
cause customers to defer the purchase of existing Company services and products.
The Company's inability to develop on a timely basis new services or products,
or the failure of such new services or products to achieve market acceptance,
could have a material adverse effect on the Company's business, financial
condition and results of operations. The development of new, technologically
advanced products and services is a complex and uncertain process requiring high
levels of innovation, as well as the accurate anticipation of technological and
market trends. There can be no assurance that the Company will successfully
develop, introduce or manage the transition to new services and products.
Furthermore, services and products such as those offered by the Company may
contain undetected or unresolved errors when they are first introduced or as new
versions are released. There can be no assurance that, despite extensive testing
by the Company, errors will not be found in new services and products after
commencement of commercial availability, resulting in delay in or loss of market
acceptance and sales, diversion of development resources, injury to the
Company's reputation or increased service and warranty costs, any of which could
have a material adverse effect on the Company's business, financial condition
and results of operations. Significant delays in meeting deadlines for announced
service or product introductions or performance problems with such products or
upgrades could result in an undermining of customer confidence in the Company's
services and products, which would materially adversely affect its customer
relationships as well.
In addition, the Company plans to introduce transaction-based services and
software products to industries different from those the Company has
traditionally supported. There can be no assurance that the Company will be
successful in developing and marketing these new services and products or that
its current or new services and products will adequately meet the demands of its
new markets. Because it is generally not possible to predict the time required
and costs involved in reaching certain research, development and engineering
objectives related to entering new markets, actual development costs could
exceed budgeted amounts and estimated development schedules could require
extensions. Furthermore, there can be no assurance that the Company will not
experience difficulties that could delay or prevent the successful development,
introduction and marketing of these services and products. If the Company is
unable to develop and introduce new services and products to these new markets
in a timely manner, or if a new release of a product or service to such new
markets does not achieve market acceptance, the Company's business, financial
condition and results of operations could be materially adversely affected.
DEPENDENCE ON A SINGLE SERVICE OFFERING; SUSTAINABILITY OF GROWTH
The Company currently derives substantially all of its revenue from the
provision of its 9-1-1 OSS solution to ILECs, CLECs and wireless carriers.
Accordingly, the Company is susceptible to adverse trends affecting this market
segment, such as government regulation, technological obsolescence and the entry
of new competition. The Company expects that this market will continue to
account for substantially all of its revenue in the near future. As a result,
the Company's future success will depend on its ability to continue to sell its
9-1-1 OSS solution to ILECs, CLECs and wireless carriers, maintain and increase
its market share by providing other value-added services to the market, and
successfully adapt its technology and services to other related markets. There
can be no assurance that markets for the Company's existing services and
products will continue to expand or that the Company will be successful in its
efforts to penetrate new markets.
FIXED PRICE CONTRACTS AND OTHER PROJECT RISKS
During the nine months ended September 30, 1998 and year ended December 31,
1997, approximately 80% and 75%, respectively, of the Company's revenue was
generated on a fixed price per subscriber basis. The Company generally enters
into contracts with a ten-year term for wireline data management services and
with a two-to-five-year term for wireless data management services for which the
Company generally receives a fixed monthly fee based upon the number of
subscribers and upon the services selected by the customer. Therefore, the
Company's failure to estimate accurately the resources required for a fixed
price per subscriber contract could have a material adverse effect on the
Company's business, financial condition and results of operations. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations -- Overview."
The Company provides 9-1-1 OSS services that are critical to the public's
perception of its customers. The Company's failure to meet a customer's
expectations in the performance of its services could damage the Company's
reputation and adversely affect its ability to attract new business, and may
have a material adverse effect upon its business, financial condition and
results of operations. The Company has undertaken, and in the future may
undertake, projects in which the Company guarantees performance based upon
defined operating specifications. Unsatisfactory performance may result in
client dissatisfaction and a reduction in payment to, or payment of damages
18
<PAGE> 19
by, SCC, any of which could have a material adverse effect on the Company's
business, financial condition and results of operations.
Because the Company's services and products are utilized by its customers
to provide critical 9-1-1 services, the provision of services and licensing of
software by the Company may entail the risk of product liability and related
claims. The Company's agreements with its customers typically require the
Company to indemnify its customers for the Company's own acts of negligence. The
Company currently has product liability insurance that, subject to liability
limitations and customary exclusions, covers claims resulting from the failure
of the Company's services or products to perform the function or serve the
purpose intended. To the extent that any claims are not covered by such
insurance, the Company's business, financial condition and results of operations
may be materially and adversely affected by a successful product liability
claim.
EMERGING TELECOMMUNICATIONS MARKET AND NEW CARRIERS; REGULATORY UNCERTAINTY
The Company provides its 9-1-1 OSS solution to telecommunications carriers
in the wireline and wireless markets. Although these markets have experienced
significant growth and have been characterized by increased deregulation and
competition in recent years, there can be no assurance that such trends will
continue at similar rates or that the Company will be able to market and sell
effectively its products and services in such markets. In addition, many of the
new entrants in the telecommunications market are companies that lack
significant financial and other resources. To cultivate relationships with such
new market entrants, the Company may be required to offer alternative pricing
arrangements, which may provide for deferred payments. However, there can be no
assurance that the Company will be able to develop such relationships or that
new carriers that become customers of the Company will gain market acceptance
for their telecommunications services. If the Company permits customers that do
not have adequate financial resources to pay the Company for its services on a
deferred basis, the Company ultimately may be unable to collect payments for
such services. Because the Company historically has depended on a limited number
of long-term customer relationships, the failure of the Company to develop
relationships with, make sales to, or collect payments from new
telecommunications carriers, or the failure of the Company's customers to
compete effectively in the telecommunications market, could have a material
adverse effect on the Company's business, financial condition and results of
operations. In addition, the telecommunications industry is experiencing
substantial consolidations and changes that are unpredictable, and any such
consolidation or change could have a material adverse effect on the Company's
business, financial condition and results of operations.
9-1-1 services generally are funded by a locally imposed fee per subscriber
per month. A portion of this tax is paid to management of 9-1-1 data records,
allowing the carrier to match its fixed revenue stream for 9-1-1 services with a
fixed cost for record management. Changes by local governments in the funding
mechanism for 9-1-1 services or the parties responsible for the provision of
such services could have a material adverse effect on the Company's business,
financial condition and results of operations.
The market for the Company's services and products has been influenced by
the adoption of regulations under the Telecommunications Act of 1996 (the "1996
Act"), the new duties imposed on ILECs by the 1996 Act to open the local
telephone markets to competition, and the new requirements imposed on wireless
carriers by the Order. Therefore, any changes to such legal requirements, the
adoption of new regulations by federal or state regulatory authorities under the
1996 Act or any legal challenges to the 1996 Act could have a material adverse
effect upon the market for the Company's services and products. Although the
1996 Act was designed to expand competition in the telecommunications industry,
the realization of the objectives of the 1996 Act is subject to many
uncertainties, including judicial and administrative proceedings designed to
define rights and obligations pursuant to the 1996 Act, actions or inactions by
ILECs and other carriers that affect the pace at which changes contemplated by
the 1996 Act occur, resolution of questions concerning which parties will
finance such changes, and other regulatory, economic and political factors.
The Company is aware of certain litigation challenging the validity of the
1996 Act and the local telephone competition rules adopted by the FCC to
implement the 1996 Act. The U.S. Eighth Circuit Court of Appeals has invalidated
the pricing methodology and unbundling requirements adopted by the FCC while
upholding a portion of the FCC's local competition rules, and both the U.S.
federal government and ILECs have filed petitions for review with the U.S.
Supreme Court. In a recent decision, a U.S. District Court in Texas declared
unconstitutional the provisions of the 1996 Act requiring the Regional Bell
Operating Companies (the "RBOCs") to comply with certain conditions, including
local number portability ("LNP"), in order to receive regulatory approval to
enter long distance markets. The U.S. Department of Justice, representing the
FCC, has appealed this decision. Such litigation may serve to delay
implementation of the 1996 Act, which could adversely affect demand for the
Company's services and products. Any delays in the deadlines imposed by the 1996
Act, the FCC or the Order, or any invalidation, repeal or modification in the
requirements imposed by the 1996 Act, the FCC or the Order, could have a
material adverse
19
<PAGE> 20
effect on the Company's business, financial condition and results of operations.
Moreover, customers may require, or the Company otherwise may deem it necessary
or advisable, that the Company modify its services and products to address
actual or anticipated changes in the regulatory environment. Any other delays in
implementation of the 1996 Act, or other regulatory changes, could materially
adversely affect the Company's business, financial condition and results of
operations.
RISK OF SYSTEM FAILURES
The Company's operations are dependent upon its ability to maintain its
computer and telecommunications equipment and systems in effective working
order, and to protect its systems against damage from fire, natural disaster,
power loss, telecommunications failure or similar events. Although all of the
Company's mission-critical systems and equipment are designed with built-in
redundancy and security, there can be no assurance that a fire, natural
disaster, power loss, telecommunications failure or similar event would not
result in an interruption of the Company's services. Any damage, failure or
delay that causes interruptions in the Company's operations could have a
material adverse effect on the Company's business, financial condition and
results of operations. Furthermore, any future addition or expansion of the
Company's facilities to increase capacity could increase the Company's exposure
to damage from fire, natural disaster, power loss, telecommunications failure or
similar events. There can be no assurance that the Company's property and
business interruption insurance will be adequate to compensate the Company for
any losses that may occur in the event of a system failure or that such
insurance will continue to be available to the Company at all or, if available,
that it will be available on commercially reasonable terms.
MANAGEMENT OF CHANGE
The Company has expanded its operations rapidly over the past several
years, placing significant demands on its administrative, operational and
financial personnel and systems. Additional expansion by the Company may further
strain its management, operational, financial reporting, and other systems and
resources. There can be no assurance that the Company's systems, resources,
procedures, controls and existing space will be adequate to support such
expansion of the Company's operations. The Company's future operating results
will depend substantially on the ability of its officers and key employees to
manage changing business conditions and to implement and improve its management,
operational, financial control and other reporting systems. In addition, the
Company's future operating results depend on its ability to attract, train and
retain qualified consulting, technical, sales, financial, marketing and
management personnel. Failure to hire, train or retain qualified personnel
necessary to keep pace with the Company's development of products and services
could have a material adverse effect on the Company's business, financial
condition and results of operations. Continued expansion will require the
Company's management to: enhance management information and reporting systems;
standardize implementation methodologies of SCC's NDSC; further develop its
infrastructure; and continue to maintain customer satisfaction. If the Company
is unable to respond to and manage changing business conditions, the quality of
the Company's products and services, its ability to retain key personnel and its
business, financial condition and results of operation could be materially
adversely affected. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations."
HIGHLY COMPETITIVE MARKET; COMPETITION
The market for 9-1-1 OSS solutions is intensely competitive and the Company
expects competition to increase in the future. The Company believes that the
principal competitive factors affecting the market for 9-1-1 OSS services
include flexibility, reliability, manageability, technical features, wireless
support, performance, ease of use, price, scope of product offerings, and
customer service and support. Although the Company believes that its solution
competes favorably with respect to such factors, there can be no assurance that
the Company can maintain its competitive position against current and potential
competitors, especially those with significantly greater financial, marketing,
support service, technical and other competitive resources.
The Company's principal competitors generally fall within one of three
categories: internal development departments of major carriers or consulting
firms that support such departments; relatively smaller companies that offer
applications with limited scope; and larger companies that are either in the
process of entering the Company's market or have the potential to develop
products and services that compete with the Company's service offerings.
A number of companies currently market or have under development software
products and services to provide 9-1-1 administration. The Company competes with
a few smaller companies, including XYPoint Corporation, for the provision of
9-1-1 data management services to wireless carriers, although the Company
expects more significant competition in the future. Mergers or consolidations
among these competitors or acquisitions of these companies by larger competitors
would make them more formidable competitors to the Company. There can be no
assurance that the Company's current and potential competitors will not develop
products and services that may be more effective
20
<PAGE> 21
than the Company's current or future 9-1-1 solutions or that the Company's
technologies and offerings will not be rendered obsolete by such developments.
Finally, there are a number of companies that market and sell various
products and services to telecommunications carriers, such as billing software
and advanced telecommunications equipment, that have been broadly adopted by the
Company's customers and potential customers. In addition, vendors of
telecommunications software and hardware in the future may enhance their
products to include functionality that is currently provided by the Company's
solutions. The widespread inclusion of the functionality of the Company's
service offerings as standard features of other telecommunications software or
hardware could render the Company's services obsolete and unmarketable,
particularly if the quality of such functionality were comparable to that of the
Company's services. Furthermore, even if the 9-1-1 functionality provided as
standard features by telecommunications software or networking hardware is more
limited than that of the Company's services, there can be no assurance that a
significant number of customers would not elect to accept more limited
functionality in lieu of purchasing additional products or services. For
example, Lucent Technologies offers carriers software systems with functionality
similar to the Company's services. Many of these larger companies have longer
operating histories, greater name recognition, access to larger customer bases
and significantly greater financial, technical and marketing resources than the
Company. As a result, they may be able to adapt more quickly to new or emerging
technologies and changes in customer requirements, or to devote greater
resources to the promotion and sale of their products and services, than the
Company. If these companies were to introduce products or services that
effectively compete with the Company's service offerings, they could be in a
position to substantially lower the price of their 9-1-1 products and services
or to bundle such products and services with their other product and service
offerings.
For the foregoing reasons, there can be no assurance that the Company will
be able to compete successfully against its current and future competitors.
Increased competition may result in price reductions, reduced gross margins and
loss of market share, any of which could materially and adversely affect the
Company's business, financial condition and results of operations.
DEPENDENCE ON KEY PERSONNEL
The Company's future success depends in large part on the continued service
of its key management, sales, product development and operational personnel,
including George Heinrichs, President and Chief Executive Officer, John Sims,
Chief Operating Officer, and Nancy Hamilton, Chief Financial Officer, and on the
Company's ability to continue to attract, motivate and retain highly qualified
employees, including technical, managerial and sales and marketing personnel.
Additionally, the Company expects to continue to expand the number of employees
engaged in sales, marketing and product development. However, competition in the
recruitment of highly qualified personnel in the software and telecommunications
services industry is intense and has become particularly significant in the
Denver metropolitan area. The inability to hire and retain qualified personnel
or the loss of the services of key personnel could have a material adverse
effect upon the Company's current business, development efforts and future
business prospects. If such personnel do not remain active in the Company's
business, the Company's operations could be materially adversely affected. The
Company currently maintains key person life insurance policies with respect to
Mr. Heinrichs, Mr. Sims and Ms. Hamilton, with coverage amounts of $3 million,
$2 million and $1 million, respectively. The Company is the named beneficiary on
these policies.
DEPENDENCE ON PROPRIETARY RIGHTS
The Company's success and its ability to compete depends significantly upon
its proprietary rights. The Company relies primarily on a combination of
copyright, trademark and trade secret laws, as well as confidentiality
procedures and contractual restrictions to establish and protect its proprietary
rights. There can be no assurance that such measures will be adequate to protect
the Company's proprietary rights. Further, the Company may be subject to
additional risks as it enters into transactions in foreign countries where
intellectual property laws are not well developed or are difficult to enforce.
Legal protections of the Company's proprietary rights may be ineffective in such
countries. Litigation to defend and enforce the Company's intellectual property
rights could result in substantial costs and diversion of resources, and could
have a material adverse effect on the Company's business, financial condition
and results of operations, regardless of the final outcome of such litigation.
Despite the Company's efforts to safeguard and maintain its proprietary rights,
there can be no assurance that the Company will be successful in doing so or
that the steps taken by the Company in this regard will be adequate to deter
misappropriation or independent third-party development of the Company's
technology, or to prevent an unauthorized third party from copying or otherwise
obtaining and using the Company's technology. There also can be no assurance
that others will not independently develop similar technologies or duplicate any
technology developed by the Company. Any such events could have a material
adverse effect on the Company's business, financial condition and results of
operations.
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<PAGE> 22
As the number of entrants to the Company's markets increases and the
functionality of the Company's services and products increases and overlaps with
the products and services of other companies, the Company may become subject to
claims of infringement or misappropriation of the intellectual property rights
of others. In certain of its customer agreements, the Company agrees to
indemnify its customers for any expenses or liabilities resulting from claimed
infringements of patents, trademarks or copyrights of third parties. In certain
limited instances, the amount of such indemnities may be greater than the
revenue the Company may have received from the customer. There can be no
assurance that third parties will not assert infringement or misappropriation
claims against the Company in the future with respect to current or future
product or service offerings. Any claims or litigation, with or without merit,
could be time consuming, result in costly litigation or require the Company to
enter into royalty or licensing arrangements. Such royalty or licensing
arrangements, if required, may not be available on terms acceptable to the
Company, if at all, and could have a material adverse effect on the Company's
business, financial condition and results of operations.
RISKS ASSOCIATED WITH INTERNATIONAL SALES
Although substantially all of the Company's revenue is generated from sales
to customers in the United States, the Company has generated revenue in Canada
and intends to enter additional international markets, which will require
significant management attention and financial resources. International sales
are subject to a variety of risks, including difficulties in establishing and
managing international distribution channels, and in translating products and
related materials into foreign languages. International operations are also
subject to difficulties in collecting accounts receivable, staffing, managing
personnel and enforcing intellectual property rights. Other factors that can
adversely affect international operations include fluctuations in the value of
foreign currencies and currency exchange rates, changes in import/export duties
and quotas, introduction of tariff or non-tariff barriers and economic or
political changes in international markets. There can be no assurance that these
factors will not have a material adverse effect on the Company's future
international sales and, consequently, on the Company's business, financial
condition and results of operations. Furthermore, any inability to obtain
foreign regulatory approvals on a timely basis could have a material adverse
effect on the Company's business, financial condition and results of operations.
See "Management's Discussion and Analysis of Financial Condition and Results of
Operations -- Overview."
RISKS RELATING TO POTENTIAL ACQUISITIONS
As part of its overall strategy, the Company regularly evaluates
opportunities to enter into strategic acquisitions, including potential business
combinations and significant investments in complementary companies, assets,
products and technologies, although the Company has no present arrangements,
commitments or agreements with respect to any acquisition. Acquisitions involve
a number of operating risks that could materially adversely affect the Company's
business, financial condition and results of operations, including the diversion
of management's attention to assimilate the operations, products and personnel
of the acquired companies, the amortization of acquired intangible assets, and
the potential loss of key employees of the acquired companies. Furthermore,
acquisitions may involve businesses in which the Company lacks experience.
Because management has limited experience in acquisitions and the Company has no
experience in integrating acquired companies or technologies into its
operations, there can be no assurance that the Company will be able to manage
one or more acquisitions successfully, or that the Company will be able to
integrate the operations, products or personnel gained through any such
acquisitions without a material adverse effect on the Company's business,
financial condition and results of operations.
YEAR 2000 CAPABILITY
Many currently installed computer and software products are coded to accept
only two digit entries in the date code field. These date code fields will need
to accept four digit entries to distinguish twenty-first century dates from
twentieth century dates. As a result, in less than two years, computer systems
and/or software used by many companies may need to be upgraded to comply with
such "Year 2000" requirements. Significant uncertainty exists in the software
industry concerning the potential effects associated with such compliance.
The Company uses off-the-shelf and custom software developed internally
and by third parties for its production systems. The Company has completed its
assessment of and begun implementing a plan for the programming and testing of
its internally developed software to make it Year 2000 compliant. In addition,
the Company has identified which of its third party production systems it
believes have date-sensitive applications to determine where Year 2000 issues
may exist. The Company has contacted the third-party suppliers and is awaiting
responses to determine whether the hardware and software is Year 2000 compliant
and, if not, what steps must be taken to make such systems compliant. The
Company has begun to upgrade and test certain third party systems for which an
upgrade is currently available.
22
<PAGE> 23
The Company estimates that its total costs to convert its production
systems to be Year 2000 compliant, including primarily internal labor and third
party hardware and software costs, will be approximately $400,000, of which
approximately 70% has been incurred. The Company expects to complete the
conversion of its production systems in the first half of 1999. However, there
can be no assurance that unidentified Year 2000 problems will not cause the
Company to incur material expenses in responding to such problems or otherwise
have a material adverse effect on the Company's business, financial condition
and results of operations. In addition, to the extent that such software and
systems do not comply with Year 2000 requirements, there can be no assurance
that potential systems interruptions, the Company's potential inability to meet
its contractual obligations or the cost necessary to update such software will
not have a material adverse effect on the Company's business, financial
condition and results of operations. Certain of the Company's current contracts
with its customers require that the Company warrant Year 2000 capability by a
certain date. Any failure to achieve Year 2000 compliance by such date could
have a material adverse effect on the Company's business, financial condition
and results of operations.
The Company is also in the process of assessing its IT and non-IT (fax
machines, photocopiers, telephone switches, security systems and other common
office devices) related systems. The Company is performing an inventory of
systems used in the Company's IT and non-IT applications and is determining
which applications have a mission critical effect on the Company's ability to
continue operations. The Company intends to complete this assessment by January
1999. In addition, the Company has begun to contact third party suppliers
regarding Year 2000 compliance but has only recently begun to receive responses.
The Company believes that it may be required to upgrade certain third party
systems, some of which may have otherwise been necessary for normal operating
purposes. Failure of one or more of these internal systems to become Year 2000
compliant could impair the Company's ability to communicate with its customers
and perform critical business operations and could cause the Company to process
information manually or limit access to data.
Although the Company does not have a formal contingency plan with respect
to Year 2000 issues, it is continually monitoring the risks involved. Although
the Company expects to identify and resolve all Year 2000 issues that could
materially affect its business operations, the Company believes it is not
possible to determine with complete certainty that all Year 2000 issues will be
identified or corrected in time. If the costs to convert the Company's systems
to be Year 2000 compliant are greater than anticipated or if the Company's
systems do not contain all necessary date code changes in time, there is no
assurance that system interruptions or an inability to meet contractual
obligations would not occur or that such occurrences would not have a material
adverse effect on the Company's business, financial condition and results of
operations. See "Factors That May Affect Future Results -- Year 2000
Capability."
NO PRIOR PUBLIC MARKET; POTENTIAL VOLATILITY OF STOCK PRICE
Prior to the Company's initial public offering in June 1998, there was no
public market for the Company's Common Stock. Since completion of the Company's
initial public offering, average daily trading volume of the Company's Common
Stock in the Nasdaq National Market has been relatively low. There can be no
assurance that a more active public market for the Company's Common Stock will
develop or be sustained in the future. The trading price of the Company's Common
Stock could be subject to wide fluctuations in response to variations in
operating results, announcements of technological innovations or new products by
the Company or its competitors, changes in financial estimates by securities
analysts, and other events or factors. In addition, the stock market has
experienced volatility that has particularly affected the market prices of
equity securities of many high technology companies and that often has been
unrelated to the operating performance of such companies. These broad market
fluctuations may materially adversely affect the market price of the Company's
Common Stock.
SHARES ELIGIBLE FOR FUTURE SALE; REGISTRATION RIGHTS
Sales of a substantial number of shares of Common Stock in the public market
could adversely affect the market price for the Company's Common Stock. The
number of shares of Common Stock available for sale in the public market is
limited by restrictions under the Securities Act of 1933, as amended (the
"Securities Act"), and lock-up agreements under which the holders of such shares
agreed not to sell or otherwise dispose of any of their shares for a period of
180 days after the date of the prospectus for the Company's initial public
offering (June 24, 1998) without the prior written consent of the BancAmerica
Robertson Stephens. However, BancAmerica Robertson Stephens, in its sole
discretion and at any time without notice, may release all or any portion of the
securities subject to lock-up agreements. When determining whether or not to
release shares from the lock-up agreements, BancAmerica Robertson Stephens may
consider, among other factors, the holder's reasons for requesting the release,
the number of shares for which the release is being requested and market
conditions at the time. As a result of these restrictions, based on shares
outstanding and options granted as of September 30, 1998, the following shares
of Common Stock will be eligible for future sale: 4,507,773 shares are freely
tradeable and an additional 8,147,559 shares will be
23
<PAGE> 24
eligible for sale upon expiration of the lock up agreements. In addition, the
Company registered on a registration statement on Form S-8, during the third
quarter of 1998, a total of 1,901,055 shares of Common Stock subject to
outstanding options or reserved for issuance under the 1998 Stock Incentive
Plan. Upon expiration of the lock-up agreements referred to above, holders of
approximately 5,441,669 shares of Common Stock will be entitled to certain
registration rights with respect to such shares. If such holders, by exercising
their registration rights, cause a large number of shares to be registered and
sold in the public market, such sales could have a material adverse effect on
the market price for the Company's Common Stock.
CONTROL BY EXISTING STOCKHOLDERS; EFFECTS OF CERTAIN ANTI-TAKEOVER PROVISIONS
Members of the Board of Directors and the executive officers of the
Company, together with members of their families and entities that may be deemed
affiliates of or related to such persons or entities, beneficially own
approximately 54.2% of the outstanding shares of Common Stock of the Company.
Accordingly, these stockholders would, if acting in concert, be able to elect
all members of the Company's Board of Directors and determine the outcome of
corporate actions requiring stockholder approval, such as mergers and
acquisitions. This level of ownership by such persons and entities may have a
significant effect in delaying, deferring or preventing a change in control of
the Company and may adversely affect the voting and other rights of other
holders of Common Stock. Certain provisions of the Company's Amended and
Restated Certificate of Incorporation, Amended and Restated Bylaws, Delaware law
and equity incentive plans also may discourage certain transactions involving a
change in control of the Company. This level of ownership by such persons and
entities, when combined with the ability of the Board of Directors to issue
"blank check" preferred stock without further stockholder approval, may have the
effect of delaying, deferring or preventing a change in control of the Company.
NO DIVIDENDS
The Company has not paid any cash or other dividends on its Common Stock,
nor does it expect to pay dividends in the foreseeable future.
24
<PAGE> 25
PART II - OTHER INFORMATION
Item 1 - Legal Proceedings.
None.
Item 2 - Changes in Securities and Use of Proceeds.
On June 29, 1998, the Company consummated its initial public offering (the
"Offering") of its common stock, par value $.001 per share (the "Common Stock").
The estimated net offering proceeds to the Company after deducting the foregoing
discounts, commissions, fees and expenses were $25,988,400, of which $3,510,400
relates to the exercise of the underwriters' over-allotment option on July 22,
1998. Through September 30, 1998, the proceeds of the offering have been applied
as follows:
Aggregate offering price $28,980,000
Direct and indirect payment to others for:
Underwriting discounts and commissions 2,028,600
Other offering expenses * 963,000
Construction of building and facilities 300,000
Repayment of indebtedness 4,610,000
None of such payments were direct or indirect payments to directors, officers,
general partners of the Company or their associates or to persons owning 10% or
more of any class of equity securities of the Company or to affiliates of the
Company. The Company expects to use its remaining net proceeds for product
development and general corporate purposes, including working capital. A portion
of the net proceeds also may be used for the acquisition of businesses, products
and technologies that are complementary to those of the Company. The Company
invested approximately $15 million of the offering proceeds in an investment
portfolio consisting mostly of high grade bonds and commercial paper.
* Estimated; approximately $935,000 of the estimated other offering expenses
were paid through September 30, 1998.
25
<PAGE> 26
Item 3 - Defaults upon Senior Securities.
None.
Item 4 - Submission of Matters to a Vote of Security Holders.
None.
Item 5 - Other Information.
None.
Item 6 - Exhibits and Reports on Form 8-K.
(a) Exhibits.
27 Financial Data Schedule
(b) Reports on Form 8-K.
None.
26
<PAGE> 27
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934 as amended,
the Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
SCC Communications Corp.
(Registrant)
November 5, 1998 \s\ George K. Heinrichs
- ---------------- -------------------------
Date George K. Heinrichs, President
and Chief Executive Officer
November 5, 1998 \s\ Nancy K. Hamilton
- ---------------- -------------------------
Date Nancy K. Hamilton, Chief
Financial Officer
<PAGE> 28
EXHIBIT INDEX
EXHIBIT
NUMBER DESCRIPTION
- ------ -----------
27 Financial Data Schedule
<TABLE> <S> <C>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-START> JAN-01-1998
<PERIOD-END> SEP-30-1998
<CASH> 8,522,000
<SECURITIES> 12,741,000
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0
0
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</TABLE>
