<PAGE>
================================================================================
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM TO .
COMMISSION FILE NUMBER: 000-29678
SCC COMMUNICATIONS CORP.
(Exact Name of Registrant as Specified in Its Charter)
<TABLE>
<S> <C>
DELAWARE 84-0796285
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification Number)
6285 LOOKOUT ROAD 80301
BOULDER, COLORADO
(Address of Principal Executive Offices) (Zip Code)
</TABLE>
Registrant's Telephone Number, Including Area Code: (303) 581-5600
Securities registered pursuant to Section 12 (b) of the Act: None
Securities registered pursuant to Section 12 (g) of the Act:
Common Stock, par value $.001 per share
---------------------------------------
(Title of Class)
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 [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Registration S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [X]
The aggregate market value of the voting stock held by non-affiliates of the
Registrant, based upon the closing sale price of the Common Stock on February
26, 1999 as reported on the Nasdaq National Market, was approximately
$19,190,000. Shares of Common Stock held by each officer and director and by
each person who owns 5% or more of the outstanding Common Stock have been
excluded in that such persons may be deemed to be affiliates. This
determination of affiliate status is not necessarily a conclusive determination
for other purposes. As of February 28, 1999, Registrant had outstanding
10,890,904 shares of Common Stock.
DOCUMENTS INCORPORATED BY REFERENCE
None.
================================================================================
<PAGE>
SCC COMMUNICATIONS CORP.
1998 ANNUAL REPORT ON FORM 10-K
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PART I
<S> <C>
Item 1. Business..................................................................... 3
Item 2. Properties................................................................... 21
Item 3. Legal Proceedings............................................................ 22
Item 4. Submission of Matters to a Vote of Security Holders.......................... 22
PART II
Item 5a. Market for Registrant's Common Equity and Related Stockholder Matters....... 22
Item 5b. Changes in Securities and Use of Proceeds................................... 22
Item 6. Selected Financial Data...................................................... 23
Item 7. Management's Discussion and Analysis of Financial Condition and Results of 24
Operations...................................................................
Item 7a. Quantitative and Qualitative Disclosures About Market Risk................... 30
Item 8. Financial Statements and Supplementary Data.................................. 31
Item 9. Changes In and Disagreements With Accountants on Accounting and Financial
Disclosure................................................................... 48
PART III
Item 10. Directors and Executive Officers of Registrant.............................. 48
Item 11. Executive Compensation...................................................... 49
Item 12. Security Ownership of Certain Beneficial Owners and Management.............. 53
Item 13. Certain Relationships and Related Transactions.............................. 54
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K............. 55
Signatures............................................................................ 56
</TABLE>
2
<PAGE>
ITEM 1. BUSINESS
The Company
SCC Communications Corp. ("SCC" or the "Company") is the leading provider of
9-1-1 operations support systems ("OSS") services to telecommunications
carriers, including incumbent local exchange carriers ("ILECs"), competitive
local exchange carriers ("CLECs") and wireless carriers in the United States.
The Company has redefined the U.S. market for 9-1-1 OSS by creating the first
and largest 9-1-1 service bureau, the SCC National Data Services Center
("NDSC"), with over 77 million subscriber data records under management
throughout North America.
Through the NDSC, the Company manages the data that enable a 9-1-1 call to be
routed to the appropriate public safety agency ("PSAP") with accurate and timely
information about the caller's identification, call-back number and location.
Through the NDSC, SCC performs the complex data screening and preparation
necessary to initialize properly the underlying systems for 9-1-1 call routing
and information display for the call taker. SCC's NDSC frequently receives and
processes electronic transmissions from telecommunications carriers detailing
subscriber and coverage updates and public safety jurisdiction boundary changes
from PSAPs. Records identified as potentially having problems are separated
automatically and reviewed and analyzed by SCC's data integrity team. This
complex and detailed process allows SCC's customers to comply with regulatory
mandates, and to provide additional value-added services.
The NDSC offers a comprehensive, cost-effective solution offering a high level
of security and survivability. Through the NDSC, SCC's customers may outsource
virtually all aspects of the operations of their 9-1-1 data management
operations, including system activation, routine data administration, event
transaction processing and performance management. Representative
telecommunications carriers using SCC's OSS services include Ameritech, AT&T
Wireless Services, BellSouth Inc., MCI Worldcom and Sprint PCS. In November
1998, the Company signed a contract with the General Services Commission of the
State of Texas to offer SCC's OSS services on a statewide basis. In addition,
the Company licenses its 9-1-1 OSS software to carriers that wish to manage the
delivery of 9-1-1 data management services in-house.
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.
Industry Background
Historically, telecommunications carriers in the United States operated in a
highly regulated environment, with both local and long distance service
providers operating as monopolies. Burgeoning long-distance competition in the
1970s led the government in 1984 to divest AT&T into a competitive long distance
company and seven independent Regional Bell Operating Companies ("RBOCs")
offering local service and local access to long distance service. In the early
1990's, these RBOCs and other ILECs, anticipating regulatory changes that would
introduce competition in their local exchange markets, began restructuring their
service models to provide increased operating efficiencies and new revenue
opportunities. Competitive pressures on the ILECs intensified with the passage
of the Telecommunications Act of 1996 (the "1996 Act"), which encouraged CLECs,
long distance carriers and wireless carriers to enter local exchange markets. In
addition, the 1996 Act required each ILEC to modify its technical infrastructure
to allow for fair and equal access by competitive carriers. Competition has
spurred telecommunications carriers to differentiate their service offerings,
improve service quality, decrease time to market, introduce new services and
increase cost efficiencies. To gain these advantages, carriers streamlined their
business practices, in part by updating technological infrastructure and
outsourcing certain functions such as 9-1-1 OSS services.
Previously, carriers operated effectively using closed and proprietary systems
to provision and manage their networks. In order to deliver services demanded by
an increasingly competitive market, service providers today require more
advanced service provisioning, operations, customer care and billing, and
planning and engineering systems. These systems that collectively constitute a
carrier's OSS directly support the routine processes and procedures of a
carrier's telecommunications operating infrastructure. Historically, carriers'
OSS have often been "legacy" mainframe-based systems using incompatible and
inflexible software and technologies. These OSS were further strained by the
many incremental changes made to accommodate new technologies, such as new
advanced switching capabilities, and to accommodate new value-added services.
Recent improvements in OSS, however, have allowed carriers to offer more
advanced services by incorporating new technologies to improve the reliability
of existing infrastructure and to comply with the regulatory requirements of the
1996 Act. For example, next-generation
3
<PAGE>
customer care and billing systems interact with multiple carriers' systems
across the increasingly complex telecommunications network environment, collect
and process customer data and generate invoices, enhance the billing collection
process, and provide information regarding customer behavior. 9-1-1, another
essential OSS service, similarly requires close coordination of data and network
elements, because changes in customer service information usually affect the
data needed for 9-1-1 services.
9-1-1 service involves the routing of emergency calls to the appropriate PSAP
responsible for dispatching police, fire and other emergency services. Most
jurisdictions in the United States now provide enhanced 9-1-1 services
("Enhanced 9-1-1 or E9-1-1"), which provides the caller's telephone number and
location to the call taker at the PSAP. When a caller dials 9-1-1, information
about the caller's location, telephone number and the jurisdictionally
appropriate PSAP must be accessed quickly from the network and from mission-
critical data servers. Current, accurate information about subscribers is needed
to facilitate a prompt response to a 9-1-1 call. Each service order received by
a carrier and each change in PSAP jurisdiction, including expansion to
accommodate new addresses, may affect the information required for the proper
handling of a 9-1-1 call. Thus, delivery of 9-1-1 service presents a difficult
OSS challenge because it requires the coordination of data from multiple
sources, the review and processing of the data, the resolution of data errors
and conflicts and the insertion of the data into network and mission-critical
data servers.
Today, 9-1-1 is a fundamental element of local exchange service and carriers'
OSS infrastructure. According to the National Emergency Number Association,
nearly 93% of the current wireline telephone subscribers in the United States
are covered by some type of 9-1-1 service and 95% of that coverage is E9-1-1
service. The provisioning of 9-1-1 services presents even greater challenges for
wireless carriers, since by definition, a mobile caller's location is constantly
changing. The Cellular Telephone Information Association estimates that
approximately 98,000 9-1-1 calls are made each day from wireless phones. The
Company believes that approximately 25% of wireless callers cannot identify the
location from where they are calling. Most wireless infrastructure requires
modification to enable wireless calls to be accurately routed to the appropriate
PSAP.
Recognizing the public safety need for improved wireless 9-1-1 services, the
Federal Communications Commission (the "FCC") issued Report & Order 94-102 (the
"Order") on June 12, 1996, a directive that mandated a two-phased adoption of E
9-1-1 technology by wireless carriers. Phase I requires wireless carriers to
provide to requesting PSAPs at the time of a 9-1-1 call, the caller's telephone
number and the location of the cell sector from where the call was received.
Wireless carriers must comply with the Phase I mandate by within six months
after a PSAP request. However, under the FCC rules, wireless carriers are not
required to provide Phase I or Phase II service without cost recovery.
Implementation of Phase I services has been slowed by a number of issues,
including carrier cost recovery and liability protection issues.
Phase II will require wireless carriers to locate a 9-1-1 caller to within 125
meters, subject to FCC guidelines. Under the Order, Wireless carriers must
comply with the Phase II mandates where the PSAP has requested it by October 1,
2001. However, the FCC is currently accepting waiver requests from wireless
carriers, which may result in compliance date extensions. The FCC wireless
mandates, wireless industry desire to continue to improve emergency services,
increasing pressure from public safety agencies and the opportunity to use the
underlying technology for market-differentiating commercial services are
providing an impetus for E9-1-1 wireless services.
SCC's customers require a 9-1-1 solution that cost effectively provides a high
degree of data integrity and reliability, allows them to comply with regulatory
mandates, and addresses their need to provide additional value-added services.
ILECs are seeking to reduce the significant capital expenditures associated with
supporting rapidly evolving 9-1-1 infrastructure and upgrading their 9-1-1 data
management and network control services to meet PSAP requirements and
technological advancements. CLECs and wireless carriers, many of which are
relatively small and new to the markets in which they are now competing, seek to
increase their subscriber bases while minimizing their investment in OSS
technology infrastructure and personnel, as well as in the relationships with
PSAPs necessary to provide 9-1-1 service. Many telecommunications carriers and
other service providers also seek a comprehensive 9-1-1 solution that
effectively operates in multiple geographic locations over a wide variety of
legacy systems. Several states are seeking to establish a consistent and
reliable 9-1-1 solution that is available on a non-discriminatory basis to all
telecommunications carriers, many of which are competitors. In addition, the 9-
1-1 OSS services offered by carriers and other service providers may include
complementary and synergistic add-on products and services, such as public
warning services, that enable them to reduce costs and generate added value for
their customers. Carriers and other service providers, including state entities,
with these requirements may choose to develop their own proprietary solutions,
to license the 9-1-1 OSS software and manage the delivery of the 9-1-1 services
themselves, or to outsource their 9-1-1 OSS needs.
4
<PAGE>
The SCC Solution
The Company has redefined the U.S. market for 9-1-1 OSS by creating the first
and largest 9-1-1 service bureau, the SCC National Data Services Center, with
over 77 million subscriber data records under management throughout North
America. Through its NDSC, the Company offers a comprehensive, cost-effective
outsourcing solution for 9-1-1 service provisioning needs. The NDSC covers
virtually all aspects of 9-1-1 data management services, including system
activation, routine data administration, event transaction processing and
performance management, with a high level of security and survivability. The
Company's solution can interface with each carrier's proprietary or open
systems. In addition, the Company licenses its 9-1-1 OSS software to carriers
that wish to control the delivery of 9-1-1 services in-house. The Company
believes that its NDSC solution offers the following principal features and
benefits:
Focus on Data Integrity. The accuracy of subscriber records that identify
and provide location information regarding the caller is an essential element
of 9-1-1 service. Using its specialized software, SCC conducts more than 60
logical tests to prepare the data for use in 9-1-1 operations. The Company's
systems interface with other elements of a carrier's OSS to provide timely and
accurate subscriber location information. Transactions identified by the
system as requiring further analysis are researched and resolved by a data
integrity team.
Survivability and Reliability. SCC offers large scale, mission-critical
transaction processing through reliable, scalable operating platforms. To
provide high assurance of continued service, SCC has designed systems that
provide critical 9-1-1 data with multiple layers of redundancy by deploying
over 20 fault-tolerant, geographically dispersed servers to provide multiple
sources of 9-1-1 data. Since the launch of its NDSC more than four years ago,
SCC's systems for 9-1-1 information delivery have provided uninterrupted
service to its customers. SCC has also developed a comprehensive disaster
recovery program for its central data administration operations.
Leading-Edge Technology. The Company believes it is the technological leader
in the 9-1-1 data management services industry based on its advances in the
areas of systems architecture, spatial data management and advanced network
integration. The Company's innovations include advance intelligent call
routing support, local number portability ("LNP") data transaction support,
technologies that improve 9-1-1 availability, a transaction-based map
maintenance system, a spatial coordinate-based E9-1-1 management system and
large-scale Internet applications for E9-1-1. The Company was the first to
demonstrate data management support for wireless systems that complied with
both Phase I and Phase II of the FCC mandate. The Company also has developed
systems for the use of spatial coordinate data for use in managing and routing
non-address specific 9-1-1 calls.
Flexible Business Model. PSAPs generally pay carriers a capitated rate based
on the number of subscribers located in a particular PSAP's jurisdiction. By
outsourcing its data management and service provisioning needs to the Company,
SCC's customers can avoid costly capital expenditures and fix their expenses
for 9-1-1 services on a per subscriber basis. Additionally, outsourcing allows
customers to customize their service packages both to meet the needs of their
subscribers and to comply with regulatory mandates. The Company provides CLECs
and wireless carriers with clearinghouse services to format and insert
subscriber data into the appropriate 9-1-1 systems. Alternatively, carriers
may elect to license 9-1-1 OSS software directly from the Company and manage
the 9-1-1 data themselves.
Strategy
The Company's objective is to be the leading national provider of 9-1-1 OSS
and other complementary and synergistic services to its customers. SCC focuses
on developing innovative and automated solutions to provide customers with a
comprehensive system for managing large amounts of dynamic subscriber
information. Key elements of the Company's strategy are to:
Maintain and Extend its Leadership Position in the Wireline 9-1-1 Data
Management Market. SCC currently manages more than 77 million wireline
subscriber data records out of an estimated 235 million total wireline
telephone subscriber records in the United States. The Company intends to
maintain and extend its market leadership in the wireline 9-1-1 OSS systems
market by adding new service and license customers, increasing the number of
subscriber data records under management, enhancing its existing 9-1-1
services and supporting the evolving telecommunications infrastructure.
Capitalize on Emerging Wireless Carrier Opportunities. The Company believes
there is a significant opportunity to offer outsourcing services to wireless
carriers given the growing public demand for effective wireless 9-1-1 services
and the FCC mandates for minimum service performance. The Company intends to
take advantage of this opportunity by leveraging its position as the first
company to offer both Phase I and Phase II
5
<PAGE>
compliant solutions and its large market share in both the wireline and
wireless data management services industry.
Maintain and Extend Leadership Position in National Clearinghouse Services.
The Company believes opportunities exist to sell 9-1-1 clearinghouse services
to CLECs which, in order to activate 9-1-1 service for their customers, must
provide subscriber and network information that is compatible with an ILEC's
9-1-1 OSS. CLECs and wireless carriers, many of which are relatively small and
new to the market, seek to grow their subscriber bases while minimizing their
investment in OSS technology infrastructure and personnel, as well as in the
relationships with PSAPs and others necessary to provide 9-1-1 services. SCC
plans to build upon its position as a neutral, carrier-independent service
provider by working cooperatively with newly emerging dial tone providers,
including CLECs, fixed-position wireless carriers and cable television
carriers, to increase its sales of 9-1-1 clearinghouse services.
Provide Additional Services. ILECs, CLECs and wireless carriers, as well as
state entities, all seek to apply emerging technologies in response to
competitive pressures and regulatory mandates. For example, the Company has
developed off-switch routing capabilities for carriers that have deployed the
advanced intelligent network and created LNP transaction sets in response to
the LNP mandates of the 1996 Act. By using the experience and economies of
scale it has obtained in managing the 9-1-1 OSS infrastructure for multiple
carriers, the Company is well-positioned to continue to develop and offer
flexible, scalable solutions that allow carriers to cost-effectively support
new technological developments and regulatory mandates.
Develop Applications for New Commercial Products. By leveraging its core
competency of managing dynamic subscriber location information, the Company
believes that it is well-positioned to expand into additional markets outside
9-1-1 OSS services. The Company currently has under development new products
and services such as dynamic call routing for multi-location call centers for
both telecommunications carriers and others and improved address information
for operations areas of telecommunications carriers such as their billing,
ordering and provisioning departments.
Expand International Operations. SCC believes that a significant opportunity
to generate additional long-term revenue may be created by partnering with
established telecommunications carriers and systems integration firms to
design, implement, maintain and operate effective, reliable emergency
communications systems in countries other than the United States and Canada.
The Company intends to expand internationally to address the needs of this
market for telecommunications emergency services.
There can be no assurance that the Company will achieve its objective or any of
the key elements of its strategy. See "Risk Factors."
Services and Products
SCC's 9-1-1 OSS solution enables a 9-1-1 call to be routed to the appropriate
PSAP along with accurate and timely information about the caller's
identification, call-back number and location. Complex data screening and
preparation is completed to initialize properly the underlying systems necessary
for 9-1-1 call routing and information display for the call taker. SCC's NDSC
frequently receives and processes electronic transmissions from ILECs, CLECs and
wireless carriers detailing subscriber and coverage updates and public safety
jurisdiction boundary changes from PSAPs. Records identified as potentially
problematic are automatically separated for review and analysis by SCC data
integrity analysts. Using the updated information, SCC's 9-1-1 OSS then provides
the information to route the 9-1-1 call and transmit essential information to
the emergency service provider.
An example of SCC's 9-1-1 OSS Services:
(1) When a caller dials 9-1-1, the call is directed to the 9-1-1 voice switch.
(2) The 9-1-1 switch queries SCC's dispersed 9-1-1 servers to determine the
jurisdictionally appropriate PSAP. The 9-1-1 OSS automatically responds with
call routing information.
(3) The 9-1-1 voice switch routes the call to the appropriate PSAP.
(4) Simultaneously, SCC's 9-1-1 OSS directs subscriber information, including
caller's address and call-back number, to call-taker's screen at the PSAP.
(5) PSAP dispatches personnel and equipment to assist.
6
<PAGE>
Base Services of SCC National Data Services Center
Through SCC's NDSC, the Company provides the data management services that its
customers need to deliver 9-1-1 calls to the appropriate PSAP, along with
critical information such as caller location and call-back number that PSAPs
need to respond effectively to emergencies. Services include:
System Preparation and Administration. Before providing 9-1-1 data
management services to its customers, SCC must collect, organize, review and
analyze the data necessary to initialize the system properly. Data preparation
includes collecting information on PSAP jurisdictional boundaries, performing
a full inventory of addresses located in an area and loading the subscriber
information into the Company's systems. To improve data quality and,
therefore, 9-1-1 service, the Company performs diagnostic reviews and analyses
of information loaded into the NDSC systems. SCC engages over 100 data
integrity analysts to facilitate the creation, maintenance and transition of
key information.
Routine Data Administration. SCC's NDSC receives and automatically processes
service order updates from telecommunications carriers on a regular basis to
maintain current data in the 9-1-1 OSS. Service order updates include address
changes, telephone number changes and other information pertinent to 9-1-1
call processing. To maintain reliable 9-1-1 service, SCC usually receives
between 150,000 and 180,000 service orders per day and frequently receives
boundary updates from PSAPs reflecting changes in jurisdiction boundaries for
PSAP responses. When SCC receives a service order update or jurisdiction
change, information received must be checked for complete and appropriate
data, and then distributed throughout SCC's network of geographically
dispersed servers.
Event Transaction Processing. When a caller dials 9-1-1 in an area served by
the Company, a request for information is automatically generated by the PSAP
answering the call and sent to one of the Company's fault-tolerant servers.
The server rapidly responds to the call taker with information from the OSS
database regarding the caller's location and call-back number. Automated
support is also available for real-time switch control to direct the routing
of the call.
Performance Management. SCC monitors and reports the performance of its
service operations by measuring response time, systems availability, data
accuracy and error resolution intervals, among other performance measurements.
Using these measurements as a basis, SCC designs and implements programs to
improve continuously the 9-1-1 OSS services provided by its NDSC.
Mapping Services. Since traditional mapping services do not provide the
frequent updates necessary for the provision of emergency services, SCC
maintains a team of geographic information system experts, who work with
carriers and public safety officials to document, review and analyze call
routing boundaries and specific address information. The mapping services
department uses advanced tools to improve existing mapping information with
new and more detailed geographical information for optimal management of 9-1-1
call records. The mapping services department also assists in system
preparation and quality control programs to provide the SCC's NDSC with
current geographical information.
Clearinghouse Services. SCC's clearinghouse department provides a single
point of contact to process and format 9-1-1 data for CLECs and independent
telephone companies. The Company's clearinghouse department helps CLECs and
independent telephone companies to offer service in many localities without
having to develop independently 9-1-1 OSS systems, procedures and expertise
for each community. CLECs and independent telephone companies electronically
transmit subscriber information to the clearinghouse department. The
information is then reformatted to comply with the destination community's
local standards, tested for detectable errors and delivered to the appropriate
9-1-1 data systems. The Company processes information for its clearinghouse
customers even where the data is inserted in a system operated by a carrier
that does not use the Company's services or products.
Enhanced Services of SCC National Data Services Center
The Company offers enhancements to its 9-1-1 OSS services that provide
additional features and functions. These services are targeted to specific
markets and are sold either directly by the Company or through the Company's
customers.
9-1-1Net. 9-1-1Net, an online tool, creates an active communication channel
serving the NDSC, the Company's customers and PSAPs. Through 9-1-1Net, users can
view live address routing rules, send address updates, review
7
<PAGE>
inbound call load, error statistics and Automatic Location Information ("ALI")
discrepancy reports, and receive new product updates.
Private Switch ALI. Private telephone switches, commonly known as PBX's,
create a challenge for E9-1-1 operations because information describing the
individual caller's phone station or extension within a PBX is usually not
available to the network receiving the 9-1-1 call. In the case of large
facilities such as campuses, hotels and hospitals, emergency response personnel
may not have adequate information to quickly determine the location of the
caller. Private Switch ALI allows PBX or CENTREX system managers to create and
transmit appropriate data records that identify a caller's extension or location
within a facility for the 9-1-1 OSS.
9-1-1Connect. SCC provides wireless carriers with 9-1-1 OSS services similar
to those provided to wireline customers and that fully comply with the FCC's
Phase I mandate. Once a wireless carrier receives an activation request from a
PSAP, SCC's program managers develop a plan with the wireless carrier to
activate service. This plan includes development of ILEC network
interconnections for both data and voice specific to the local wireless network
configuration and interface requirements. The program managers develop graphic
coverage area maps that are superimposed on current maps of public safety agency
boundaries. Routing recommendations can then be made and coordinated with the
appropriate PSAP.
Subscriber ALI. The Company is preparing to offer Subscriber ALI, which is
designed to allow subscribers to supply personal information in their 9-1-1
records such as medical condition, disability and language of choice and to
notify designated third parties that a 9-1-1 call has been made. When a
subscriber calls 9-1-1, data previously provided by the subscriber will be
displayed along with traditional 9-1-1 information to the PSAP. This
information, such as known allergies and medications being taken, may help the
emergency response personnel handle an incident with greater safety and more
effectiveness. This feature allows for notification of a designated loved one,
security team, remote property owner, etc. of a 9-1-1 call made from the
subscriber's telephone. For example, parents away from home would be notified
when a child or babysitter calls 9-1-1 from the home telephone. The Company
currently anticipates that this service will be available by the end of 1999.
Emergency Warning and Evacuation System. The Company is currently selling its
Emergency Warning and Evacuation System to initiate outbound calls selectively
in the event of potential disasters such as floods, hazardous materials
incidents, industrial accidents and localized weather events. The Emergency
Warning and Evacuation Service uses spatially classified location information
and up-to-date telephone subscriber data to deliver voice, fax and TDD warnings
to geographically targeted populations.
License Products
The Company offers 9-1-1 OSS software to customers that elect to manage their
own 9-1-1 data records rather than outsourcing such operations to SCC. SCC also
provides custom software development services to customers with specific or
local requirements through its engineering department. The engineering
department develops, customizes and enhances the software using a structured
approach to perform requirements analysis, software development and quality
assurance.
Commercial Services
Many of the underlying elements used by the Company in managing large volumes
of dynamic subscriber information have commercial applications in other
industries. For instance, the Company has developed and is testing a dynamic
call routing system that will support real-time assignment of routing
destinations for calls processed in public telecommunications or other networks.
Historically, calls have been routed pursuant to preplanned and preprogrammed
routing instructions. The Company's dynamic call assignment will allow greater
flexibility in call routing to respond to call load or other complex non-network
factors. The Company also intends to offer improved address information to other
operations areas of telecommunications carriers such as their billing, ordering
and provisioning departments. Carriers and other service providers can increase
efficiencies and improve customer service by responding to service calls with
more accurate subscriber location information. While the Company is researching
and developing various commercial applications, the Company does not expect to
realize revenue from such applications for at least the next year.
Service and Product Pricing
Pricing for SCC's NDSC services usually includes an initial fee due upon
execution of a contract with a customer. Thereafter, customers generally pay a
monthly fee based on the number of subscriber records maintained by the NDSC and
upon the services selected by the customer. The Company typically enters into
ten-year agreements for
8
<PAGE>
wireline base services and two to five-year agreements for wireless base
services, clearinghouse services and its contract with a state agency. During
the contract term, SCC may offer customers enhanced services, which may be
provided on a revenue sharing basis. SCC also licenses software, hardware and
professional services necessary for the management of 9-1-1 services to its
customers in exchange for license and implementation services fees and
maintenance fees.
Service Infrastructure and Architecture
The Company's operations include central data administration and distributed
systems for real-time 9-1-1 transaction support. Based on large scale, fault-
tolerant Compaq Tandem computers, the Company's major processing systems are
configured to provide high reliability. They are also designed to provide
significant capacity for continued growth using the Tandem NSK scalable message-
based architecture.
The Company's central data administration systems, located in Boulder,
Colorado, are a key element of its 9-1-1 OSS, and are used to perform routine
data maintenance and to support new customer transition and initial system
loads. SCC's NDSC also maintains a central monitoring facility in Boulder that
operates 24 hours a day, seven days a week. Data network access for the central
administration systems is provided using traditional T-1 connectivity to the
networks operated by SCC and its customers. To improve reliability and
survivability, the primary links are designed to have three or more backup paths
to access SCC's distributed networks, including VSAT satellite links. A "hot-
site" emergency business recovery facility has been established in New York and
can be activated to continue routine operations in the event of a disaster at
the Boulder site. Electronic processing necessary to handle actual 9-1-1 calls
is geographically distributed and remains a local service for each region, so
SCC's central data administration systems are not in the actual 9-1-1 call path.
Distributed throughout the U.S., the Company's real-time 9-1-1 OSS servers are
located in shared, hardened computer facilities. The systems are deployed in
pairs or quads. System pairs are intentionally distributed to different
geographic locations to provide an additional level of reliability. These
systems provide data display for thousands of public safety agencies throughout
the service areas of SCC's customers. Direct interface to telephone control
switches is also supported on these platforms, providing the information
necessary to route calls to the jurisdictionally appropriate PSAP. The Company
also uses a number of Microsoft NT servers for internal administrative
processing and extranet support.
Customers
The Company provides its services to a range of customers, including ILECs,
CLECs and wireless carriers and contracted with a state agency in late 1998 to
provide its services. The Company also licenses its software and provides 9-1-1
data clearinghouse services directly and indirectly to over 600 independent
telephone companies. During the year ended December 31, 1998, the Company
recognized approximately 73% of 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 periods. During the year ended
December 31, 1997, the Company recognized approximately 81% of total revenue
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 year ended
December 31, 1996, the Company recognized approximately 82% of total revenue
from continuing operations from Ameritech and U.S. WEST, each of which accounted
for greater than 10% of the Company's revenue in such periods. No other
customers accounted for more than 10% of the Company's total revenue in such
periods. See "Risk Factors -- Reliance on Significant Customers."
The Company typically enters into contracts with carriers and their affiliates
to provide services to some or all of the carrier's operating entities. The
Company has two segments, data management services and licenses and
implementation services. Set forth below is a list of carriers utilizing the
Company's services or products, which the Company believes are representative of
the Company's overall customer base. All of these customers are in the data
management services segment except for license customers, which are in the
licenses and implementation services segment. See Note 10 of the Company's
financial statements for further information regarding the Company's reportable
segments.
ILECs. The Company's customers include Ameritech, BellSouth Inc. and U.S.
WEST.
CLECs. The Company's customers include ICG Telecom, MCI Worldcom.
Wireless Carriers. The Company's customers include 360 Communications Company,
AT&T Wireless Services, Sprint PCS, US WEST Wireless and
Vanguard Cellular Systems.
9
<PAGE>
State Agency. The Company has a contract with the General Services Commission
of the State of Texas.
License Customers. The Company's license customers include Bell Canada,
Pacific Bell and GTE Network Services.
While the Company has signed a contract to provide 9-1-1 data management
services to the General Services Commission of the State of Texas, certain
issues have been causing delays in the implementation of the services. However,
an interim agreement among the involved parties was recently reached that will
allow the Company to begin conducting a field trial, which is required under the
contract, to test the interfacing technology in the Houston area. SBC
Communications, Inc. ("SBC"), which is currently responsible for the
provisioning of 9-1-1 OSS and data management services in the State of Texas, is
challenging whether the Company has a right to access SBC's source systems and
9-1-1 database and whether they are obligated by law to unbundle components of
their network functionality. As this is the first time that a state entity has
endeavored to centralize 9-1-1 OSS and data management services with a neutral
third party, federal and state regulations governing 9-1-1 service provisioning,
which have typically applied to certified telecommunications providers, are
being challenged and clarified for the first time. As part of the interim
agreement, this legal challenge and all related proceedings have been placed in
abeyance pending the outcome of the field trial. The Company believes that
these technological issues and their associated cost implications are likely to
resume and that the Public Utilities Commission of the State of Texas ("PUC")
will decide on these matters by the end of 1999. The Company believes that the
services that it will provide under its contract with the General Services
Commission are permitted within the scope of the existing regulations and that
the outcome of the matter before the PUC will be favorable to the Company and
the General Services Commission. However, there can be no assurance that the
PUC will decide in favor of the Company and the General Services Commission or
that SBC will not resume its desire to pursue this legal challenge, thus causing
further delay of the commencement of the services by exercising its right to
appeal the PUC's decision if the decision is in the Company and General Services
Commission's favor. If the PUC does not decide in the Company's favor or places
contingencies on the manner in which the services are provided, the Company may
be prohibited from delivering its services to the State of Texas, may expend
significant resources to appeal the PUC's decision or may expend additional
costs in redesigning the methodology by which the services are provided. In
addition, if SBC exercises its right to appeal, the Company may be required to
spend significant resources in defending its right to provide its services in
the State of Texas. See "- Risk Factors - Emerging Telecommunications Market
and New Carriers; Regulatory Uncertainty."
Sales and Marketing
The Company's marketing efforts are focused on targeting key carriers,
government bodies, and PSAPs in each geographical market through advertising in
telecommunications industry publications, participation in trade shows,
presentations at technical conferences and other initiatives. Additionally, SCC
employees serve as the chairpersons and members of key standards committees
related to emergency communications services. The Company's sales strategy
relies on direct channels of distribution for its services. The Company has
dedicated account teams to work with each existing and potential customer. The
Company's account teams develop relationships with 9-1-1 service providers
through a consultative, problem-solving sales process and work closely with
customers and potential customers to determine how their needs can be fulfilled
by the Company's services. As of February 28, 1999, the Company employed 24
persons in its sales and marketing organization. Sales cycles range from six
months to over two years. See "Risk Factors -- Significant Fluctuations in
Quarterly Results of Operations" and "-- Lengthy Sales Cycle."
Research and Development
The Company directs its research and development efforts toward providing
highly scalable applications that enable a more efficient 9-1-1 OSS process that
improves data quality. Development efforts currently in process are focused on
further embedding and using spatial coordinate data to manage geographic
assignment and other data, further enhancing the Company's wireless offerings.
These offerings include improving the Company's software, integrating standard
Web browser technology, and the development of decision support systems. The
Company continually develops new product offerings and improves its current
product offerings, including its base services offerings and enhanced services
offerings, such as EWE, PS/ALI and others. By the end of 1999, the Company
expects to introduce Subscriber ALI, which will allow subscribers to append
medical and other important data to their ALI record. Research and development
expenses totaled approximately $1,376,000, $738,000 and $230,000 for December
31, 1998, 1997, and 1996, respectively. See "-- Services and Products --
Enhanced Services of SCC National Data Services Center" and "Risk Factors --
Dependence on New Products; Rapid Technological Change."
10
<PAGE>
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 solutions
include effectiveness with existing infrastructure, 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, service support, technical and other competitive
resources.
The Company's principal competitors fall generally within one of three
categories:
1. internal development departments of major carriers or consulting firms
that support such departments;
2. relatively smaller companies that offer applications with limited scope;
and
3. 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.
Potential customers sometimes rely on their own internal development teams to
formulate 9-1-1 OSS systems or to retain consultants to undertake such a
project. The Company believes that its 9-1-1 OSS solution competes favorably
with internally developed systems, which may be expensive to develop and
maintain, may not provide a comprehensive, reliable approach to 9-1-1 OSS
services, and may not provide the flexibility to adapt readily to regulatory,
technological and market changes.
In addition, 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 relatively smaller companies, including XY Point
Corporation, for the provision of 9-1-1 OSS services to wireless carriers.
Although the Company expects more significant competition to emerge in the
future, the Company believes that, to date, none of these relatively smaller
companies offer products or services that are as robust in features or as
comprehensive in scope as the Company's products and services. While it is
likely that the product development efforts of these companies eventually will
enable them to offer a line of products or services to compete with the
Company's current service offerings, the Company intends to continue to dedicate
significant resources for product and service development to expand the
Company's capabilities and stay ahead of these competitors. Notwithstanding, the
Company expects additional competition from these established competitors and
from other emerging companies. 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 than the Company's current or future 9-1-1
data management 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 currently 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. The Company believes that the entry of these larger companies into its
market will require them to undertake operations that are currently not within
their core areas of expertise, and thus expose them to significant uncertainties
in the product development process or in providing a range of products and
services to comprehensively address the 9-1-1 requirements which the Company's
services addresses. However, 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.
11
<PAGE>
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 would materially and adversely affect the
Company's business, financial condition and results of operations. See "Risk
Factors -- Highly Competitive Market; Competition."
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
both in the United States and abroad, 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.
As the number of entrants to the Company's markets increases and the
functionality of the Company's products and services 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
products or services. 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.
Employees
As of February 28, 1999, the Company employed 291 full-time employees in nine
states. Of these employees, 32 were involved in research and development, 24 in
sales and marketing, 193 in technical support and operations and 42 in
administration and finance. No employees are covered by any collective
bargaining agreements. The Company believes that its relationships with its
employees are good.
Facilities
The Company's principal administrative, sales and marketing, research and
development and support facilities consist of approximately 80,000 square feet
of office space in Boulder, Colorado. The Company occupies these premises under
a lease expiring December 31, 2002. As of February 28, 1999, the annual base
rent for this facility was approximately $844,000; however, the lease agreement
provides for periodic defined increases in rent through the lease term. The
Company intends to lease additional office space in Texas during 1999.
Legal Proceedings
The Company is not a party to any litigation that it believes could have a
material adverse effect on the Company or its business.
12
<PAGE>
RISK FACTORS
IN EVALUATING THE COMPANY'S BUSINESS, READERS SHOULD CAREFULLY CONSIDER THE
BUSINESS RISKS DISCUSSED IN THIS SECTION, IN ADDITION TO THE OTHER INFORMATION
PRESENTED IN THIS ANNUAL REPORT ON FORM 10-K.
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 six of its last
eight 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.
Although the Company experienced a profit in 1998, the Company has experienced
significant fluctuations in its quarterly results and had a net loss of
approximately $453,000 in 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 continue to 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, rate of adoption of wireless services by Public Safety Answering
Points, efforts expended to accelerate the introduction of certain new products,
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
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 1998, and expects to continue hiring additional employees during 1999. 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
"Selected Financial Data" and "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 Company's business, financial condition
and results of operations and cause the Company's operating results to vary
13
<PAGE>
significantly from quarter to quarter. See "-- Significant Fluctuations in
Quarterly Results of Operations" and "Business -- Sales and Marketing."
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
year ended December 31, 1998, the Company recognized approximately 73% of 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
periods. During the year ended December 31, 1997, the Company recognized
approximately 81% of total revenue 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 year ended December 31, 1996, the Company recognized
approximately 82% of total revenue from continuing operations from Ameritech and
U.S. WEST, each of which accounted for greater than 10% of the Company's revenue
in such periods. 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 2004 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. 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. See "Business --
Customers."
Dependence on Key Personnel; Recent Management Turnover
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 and Nancy
Hamilton, Senior Vice President and 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's Chief Operating Officer, John Sims, resigned from the Company
effective February 26, 1999. There can be no assurance that the Company will be
able to replace Mr. Sims within a reasonable timeframe or that the Company will
not experience significant interruption in its business as a result of the
departure. Ms. Hamilton has recently entered into an agreement with the Company
providing for payments if she or the Company terminates her employment. See
"Executive Compensation - Employment Agreements and Compensation Plans." The
Company currently maintains key person life insurance policies with respect to
Mr. Heinrichs and Ms. Hamilton. The Company is the named beneficiary of these
policies, which are for $3,000,000 and $1,000,000, respectively. See "Business -
- - Employees."
Rate of Adoption by Public Safety Answering Points
The Company expects the percentage of the Company's revenue derived from the
management of 9-1-1 data records for wireless carriers to increase. 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 requires 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. However, under the FCC rules, wireless
carriers are not required to provide Phase I and Phase II service without
adequate cost recovery. Wireless carriers are required to comply with Phase I
within six months after the PSAP request. However, due to cost recovery and
liability concerns, there are very few live Phase I markets. Phase II requires
wireless carriers to locate a 9-1-1 caller to within 125 meters, subject to FCC
guidelines. Wireless
14
<PAGE>
carriers must comply with Phase II mandates for requesting PSAPs by October 1,
2001. However, the FCC is currently accepting waiver requests from wireless
carriers, which may result in compliance date extensions. 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. The number of PSAPs demanding services complying with the
Order from wireless carriers has been less than anticipated by the Company. If
the rate of adoption by PSAPs continues to be slow because of cost recovery
issues, extensions granted by the FCC or other reasons, the Company will
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 its Emergency Warning and Evacuation System, which will allow PSAPs to
call all numbers in a given area and warn of imminent danger, in the second
quarter of 1999. The Company intends to begin offering its Subscriber ALI
product, which will allow subscribers to enter personal information into their
9-1-1 records, by the end of 1999. 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 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.
15
<PAGE>
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. See "Business -- Strategy."
Fixed Price Contracts and Other Project Risks
During 1998, approximately 80% 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 base services and clearinghouse services. In
addition, the Company has a contract with a state agency. 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 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.
16
<PAGE>
9-1-1 services generally are funded by a locally imposed fee per subscriber
per month. A portion of this tax is paid to the local carrier providing the 9-1-
1 services. The Company generally receives a monthly fee per subscriber from its
customers for 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. Supreme Court in Iowa v. FCC invalidated the
unbundling requirements adopted by the FCC while upholding a portion of the
FCC's local competition rules. However, RBOCs have agreed to comply with the
invalidated unbundling requirements while the FCC drafts and proposes new rules
to comply with the decisions of the Supreme Court. 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 Act, the FCC or the Order could have a material
adverse 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.
While the Company has signed a contract to provide 9-1-1 data management
services to the General Services Commission of the State of Texas, certain
issues have been causing delays in the implementation of the services. However,
an interim agreement among the involved parties was recently reached that will
allow the Company to begin conducting a field trial, which is required under the
contract, to test the interfacing technology in the Houston area. SBC
Communications, Inc. ("SBC"), which is currently responsible for the
provisioning of 9-1-1 OSS and data management services in the State of Texas, is
challenging whether the Company has a right to access SBC's source systems and
9-1-1 database and whether they are obligated by law to unbundle components of
their network functionality. As this is the first time that a state entity has
endeavored to centralize 9-1-1 OSS and data management services with a neutral
third party, federal and state regulations governing 9-1-1 service provisioning,
which have typically applied to certified telecommunications providers, are
being challenged and clarified for the first time. As part of the interim
agreement, this legal challenge and all related proceedings have been placed in
abeyance pending the outcome of the field trial. The Company believes that
these technological issues and their associated cost implications are likely to
resume and that the Public Utilities Commission of the State of Texas ("PUC")
will decide on these matters by the end of 1999. The Company believes that the
services that it will provide under its contract with the General Services
Commission are permitted within the scope of the existing regulations and that
the outcome of the matter before the PUC will be favorable to the Company and
the General Services Commission. However, there can be no assurance that the
PUC will decide in favor of the Company and the General Services Commission or
that SBC will not resume its desire to pursue this legal challenge, thus causing
further delay of the commencement of the services by exercising its right to
appeal the PUC's decision if the decision is in the Company and General Services
Commission's favor. If the PUC does not decide in the Company's favor or places
contingencies on the manner in which the services are provided, the Company may
be prohibited from delivering its services to the State of Texas, may expend
significant resources to appeal the PUC's decision or may expend additional
costs in redesigning the methodology by which the services are provided. In
addition, if SBC exercises its right to appeal, the Company may be required to
spend significant resources in defending its right to provide its services in
the State of Texas. See "- Customers."
17
<PAGE>
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. See "Business --
Products and Services."
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 or additional demands
placed on the Company as a result of becoming a public 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 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.
18
<PAGE>
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. See "Business
- -- Competition."
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.
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
19
<PAGE>
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" and "Business -- Strategy."
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 one year, 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 has received
responses from most of those suppliers, including the suppliers that the Company
considers critical. The Company has received patches for the systems that are
not Year 2000 compliant and has installed approximately half of them. The
Company intends to complete the installation of such patches by the end of the
second quarter of 1999.
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 internal and third party software costs, will be approximately
$400,000, of which approximately 95% has been incurred. The Company expects to
complete the conversion of its production systems in the second quarter 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 become Year 2000 compliant, 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 has completed its assessment of its information technology ("IT")
and non-IT systems. Non-IT systems include fax machines, photocopiers,
telephone switches, security systems and other common office devices. The
Company's assessment included contacting third party suppliers regarding Year
2000 compliance. Patches are installed or are scheduled to be installed by the
end of the second quarter of 1999. Failure of one or more of these internal
systems to become Year 2000 compliant could impair the Company's ability to
communicate with its
20
<PAGE>
customers and perform critical business operations and could require the Company
to process information manually or limit access to data.
The Company is developing contingency plans with respect to Year 2000 issues
for certain of its systems and is continually monitoring the risks involved.
Some of these contingency plans include manual processing until such time that
the system becomes compliant. The Company will freeze all software changes in
the fourth quarter of 1999 and perform recontamination testing of its production
systems to ensure that any changes made to the systems since the last Year 2000
testing have not impaired the Year 2000 compliance of the systems. To
supplement the Company's normal on-call procedures, key employees of the Company
will be on site where critical systems are located through the Year 2000
changeover. The Company is also making support arrangements with its critical
third party suppliers to ensure that support is available if unanticipated
problems arise.
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 " Management's Discussion and Analysis of Financial Condition
and Results of Operations -- Year 2000 Capability."
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 has been relatively low.
There can be no assurance that an active public market for the Company's Common
Stock will develop or be sustained. 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.
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 52.1% of the outstanding shares of Common Stock of the Company.
Accordingly, these stockholders are 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. See "Directors and Executive
Officers of the Registrant" and "Security Ownership of Certain Beneficial Owners
and Management."
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.
ITEM 2. PROPERTIES
The Company's principal administrative, sales and marketing, research and
development and support facilities consist of approximately 80,000 square feet
of office space in Boulder, Colorado. The Company occupies these premises under
a lease expiring December 31, 2002. The Company intends to lease additional
office space in Texas during 1999.
21
<PAGE>
ITEM 3. LEGAL PROCEEDINGS
The Company is not a party to any litigation that it believes could have a
material adverse effect on the Company or its business.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
PART II
ITEM 5a. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS
The Company's Common Stock is traded on the Nasdaq National Market under the
symbol "SCCX." The Company commenced its initial public offering of the Common
Stock on June 24, 1998 at a price of $12 per share. Prior to such date, there
was no public market for the Common Stock. The following table sets forth the
high and low bid prices for the Common Stock for the periods indicated, as
reported on the Nasdaq National Market.
<TABLE>
<CAPTION>
HIGH LOW
---------------- ----------------
<S> <C> <C>
June 24, 1998 through June 30, 1998 $14.00 $12.00
Quarter ended September 30, 1998 16.00 2.88
Quarter ended December 31, 1998 5.56 2.88
</TABLE>
As of February 28, 1999, there were approximately 213 holders of record.
The Company has not paid any cash dividends on its capital stock since its
inception, and does not expect to pay cash dividends on its Common Stock in the
foreseeable future. Certain covenants contained in the Company's line of credit
agreement restrict the payment of dividends without the lender's prior consent.
Payments of future dividends, if any, will be at the discretion of the Company's
Board of Directors, subject to the restrictions discussed above, after taking
into account various factors, including the Company's financial condition,
operating results, cash needs and expansion plans. See "Management's Discussion
and Analysis of Financial Condition an Results of Operations - Liquidity and
Capital Resources."
ITEM 5b. - 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 December 31, 1998, the proceeds of the offering have been applied
as follows:
<TABLE>
<S> <C>
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
Capital lease payment to receive discount 2,878,500
Repayment of indebtedness 4,610,000
</TABLE>
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
22
<PAGE>
approximately $15 million of the offering proceeds in an investment portfolio
consisting mostly of high-grade bonds and commercial paper.
ITEM 6. SELECTED FINANCIAL DATA
The following selected financial data are qualified by reference to and should
be read in conjunction with the Company's Financial Statements and Notes thereto
and "Management's Discussion and Analysis of Financial Condition and Results of
Operations" included in Item 7. The statement of operations data for the years
ended December 31, 1998, 1997 and 1996 and the balance sheet data at December
31, 1998 and 1997 are derived from, and are qualified by reference to, the
audited Financial Statements and Notes included in Item 8. The statement of
operations data for the years ended December 31, 1995 and 1994 and the balance
sheet data at December 31, 1996, 1995 and 1994 are derived from audited
financial statements not included in this Annual Report on Form 10-K.
<TABLE>
<CAPTION>
December 31,
------------------------------------------------------
1998 1997 1996 1995 1994
--------- --------- --------- --------- ---------
Statement of Operations Data:
Revenue:
<S> <C> <C> <C> <C> <C>
Data management services.................................. $30,610 $24,005 $13,165 $ 3,531 $ 170
Licenses and implementation services...................... 3,839 3,067 1,637 3,882 1,830
------- ------- ------- ------- -------
Total revenue....................................... 34,449 27,072 14,802 7,413 2,000
Costs and expenses:
Cost of data management services.......................... 20,740 15,378 7,996 2,840 1,137
Cost of licenses and implementation services.............. 836 1,283 596 1,041 789
Sales and marketing....................................... 4,119 3,850 3,204 2,016 1,262
General and administrative................................ 4,959 3,227 1,533 830 227
------- ------- ------- ------- -------
Total costs and expenses............................ 30,654 23,738 13,329 6,727 3,415
------- ------- ------- ------- -------
Income (loss) from operations............................... 3,795 3,334 1,473 686 (1,415)
Other expenses, net......................................... 294 879 527 368 10
------- ------- ------- ------- -------
Income (loss) from continuing operations before
income taxes.............................................. 3,501 2,455 946 318 (1,425)
Provision (benefit) for income taxes........................ (379) (2,328) 9 16 53
------- ------- ------- ------- -------
Net income (loss) from continuing operations before
extraordinary item......................................... 3,880 4,783 937 302 (1,478)
Income (loss) from operations of discontinued
division, net of tax...................................... -- (876) (562) (1,746) (1,956)
Loss from disposal of discontinued division................. -- (2,032) -- -- --
------- ------- ------- ------- -------
Net income (loss) before extraordinary item................. 3,880 1,875 375 (1,444) (3,434)
Loss from early extinguishment of debt...................... (909) -- -- -- --
------- ------- ------- ------- -------
Net income (loss)........................................... $ 2,971 $ 1,875 $ 375 $(1,444) $(3,434)
======= ======= ======= ======= =======
Per Share Data(1):
Net income (loss) from continuing operations before
extraordinary item per share:
Basic..................................................... $ 0.53 $ 2.17 $ 0.15 $ (0.02) $ (1.36)
======= ======= ======= ======= =======
Diluted................................................... $ 0.38 $ 0.54 $ 0.11 $ (0.02) $ (1.36)
======= ======= ======= ======= =======
Net income (loss) per share:
Basic..................................................... $ 0.39 $ 0.61 $ (0.17) $ (1.07) $ (3.02)
======= ======= ======= ======= =======
Diluted................................................... $ 0.29 $ 0.21 $ 0.05 $ (1.07) $ (3.02)
======= ======= ======= ======= =======
</TABLE>
<TABLE>
<CAPTION>
December 31,
------------------------------------------------------------------------------
1998 1997 1996 1995 1994
------------- --------------- -------------- ------------- --------------
<S> <C> <C> <C> <C> <C>
Balance Sheet Data:
Cash and cash equivalents.............. $10,266 $ 2,503 $ 32 $ 1,004 $ 721
Working capital (deficit).............. 17,678 (2,670) (7,345) (8,135) (7,468)
Total assets........................... 45,095 21,106 18,482 11,755 6,422
Long-term debt......................... 2,791 6,891 3,318 1,934 494
Total stockholders' equity (deficit)... 33,591 (11,867) (13,068) (4,614) (5,845)
</TABLE>
(1) See Note 2 of Notes to Financial Statements for an explanation of the
determination of the shares used in computing net income (loss) per share.
23
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
THIS ANNUAL REPORT ON FORM 10-K 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 AND IN THE SECTION ENTITLED RISK FACTORS IN ITEM 1.
Overview
SCC is the leading provider of 9-1-1 OSS services to ILECs, 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 continues to add to the number of records under management. 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. In addition, the
Company signed a contract with the General Services Commission of the State of
Texas in November 1998, representing the first time that a state agency has
endeavored to centralize 9-1-1 OSS and data management services with a neutral
third party.
SCC's data management services revenue is derived from contracts with ILECs,
CLECs, wireless carriers and a state agency 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 to which the services are performed. Related costs are expensed as
they are incurred. Data management services revenue comprised 89% of the
Company's total revenue in each of the years ended December 31, 1998, 1997 and
1996.
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% of the Company's total revenue in each of the
years ended December 31, 1996, 1997 and 1998.
During the year ended December 31, 1998, the Company recognized approximately
73% 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 periods.
During the year ended December 31, 1997, the Company recognized approximately
81% 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 periods.
During the year ended December 31, 1996, the Company recognized approximately
82% of total revenue from continuing operations from Ameritech and U.S. WEST,
each of which accounted for greater than 10% of the Company's total revenue in
such periods.
24
<PAGE>
In the third quarter of 1998, one of the Company's licenses and implementation
services customers, Bell Atlantic, who had 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. In the fourth
quarter of 1998, the Company and Bell Atlantic entered into a Termination,
Settlement and Release Agreement, under which Bell Atlantic paid the Company for
work that had been performed prior to cancellation of the contract. This
transition will occur over the course of 1999, during which time the Company
will continue to support the systems installed in Bell Atlantic and will co-
operate fully to ensure a smooth transition of these systems. Bell Atlantic
comprised approximately 8% of the Company's total revenue in 1998. See "Risk
Factors -- Reliance on Significant Customers."
As of December 31, 1998, the Company had net operating loss carryforwards of
$8.5 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. The Company reversed $1.7 million and $2.4 million of the
valuation allowance on its deferred tax assets in the years ended December 31,
1998 and 1997, respectively, as the Company believes that it is more likely than
not that such tax benefits will be realized. Of the $912,000 tax benefit
recorded in 1998, $533,000 related to the extraordinary loss from early
extinguishment of debt. There is no assurance that the Company's remaining
deferred tax assets 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 and $562,000 in 1997 and 1996, respectively, 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 offering costs and including the exercise of
the underwriters' overallotment option. See Note 2 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 "Risk Factors --
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 six of its last eight
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 continue to 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, rate of adoption of wireless services by
Public Safety Answering Points, efforts expended to accelerate the introduction
of certain new products, 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 1996, 1997 and 1998, and expects to continue hiring
additional employees during 1999. The Company also began planning for office
space in Texas from which it will perform certain portions of its operations.
The Company expects that the costs related to the additional hiring and office
space will affect the Company's operating margins for the short term.
25
<PAGE>
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 "Risk Factors -- Significant Fluctuations in
Quarterly Results of Operations" and "-- Management of Change."
Results of Operations
Year Ended December 31, 1998 Compared to Year Ended December 31, 1997
Revenue
Total Revenue. Total revenue increased 27%, from $27.1 million in 1997 to
$34.4 million in 1998.
Data Management Services Revenue. Revenue from data management services
increased 28%, from $24.0 million in 1997 to $30.6 million in 1998, representing
approximately 89% of total revenue in both periods. The increase resulted
primarily from increases in (i) monthly fees from wireline customers due to an
increase in the number of subscribers under management, (ii) non-recurring and
monthly fees from wireless customers, as the Company did not begin to earn
revenue from wireless customers until the third quarter of 1997 and signed
several new contracts in 1998, (iii) non-recurring fees from enhanced services,
and (iv) non-recurring fees from new wireline customers that were transitioned
to the Company's systems.
Licenses and Implementation Services. Revenue from licenses and implementation
services increased 25%, from $3.1 million in 1997 to $3.8 million in 1998, due
to increased work performed on contracts that began in 1997 and were completed
or terminated during 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 35%, from
$15.4 million in 1997 to $20.7 million in 1998, representing 57% and 60% of
total revenue, respectively, and 64% and 68% of data management services
revenue, respectively. The dollar increase was due to the addition of personnel
and equipment and expansion of facilities to accommodate growth in the Company's
wireless and wireline operations. The Company intends to expend additional
resources in the first half of 1999 to accelerate the introduction of certain
new products.
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 35%, from $1.3 million in 1997 to $836,000 in 1998,
representing 5% and 2% of total revenue, respectively, and 42% and 22% of
licenses and implementation services revenue, respectively. The decrease in
dollars and as a percent of licenses and implementation services revenue was
primarily due to the reversal of accrued third party software fees that will not
be required and an increase in warranty revenue, both of which resulted from the
cancellation of the Company's contract with Bell Atlantic.
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 7%, from $3.9 million in 1997
to $4.1 million in 1998, representing 14% and 12% of total revenue,
respectively. The increase was primarily due to salaries and related costs
related to the hiring of additional sales and marketing personnel during 1998
and public relations costs incurred in 1998. These increases were partially
offset by decreases in sales commissions, as well as the transfer of a vice
president to a general and administrative position.
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 54%, from $3.2 million in 1997 to $5.0
million in 1998, representing 12% and 14% of total revenue, 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) addition of personnel and computer equipment in the
accounting, information systems, legal and human resources departments to
support the Company's growth, (iii) the transfer of a marketing vice president
to a general and administrative position, and (iv) strategic consulting costs
incurred in 1998. The increases were partially offset by a decrease in
executive bonuses.
Other Expenses, Net. Net other expenses consist 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. Other expenses
26
<PAGE>
decreased 67%, from $879,000 in 1997 to $294,000 in 1998, representing 3% and 1%
of total revenue, respectively. The dollar decrease was primarily due to the
repayment of certain bank debt and capital leases during 1998 and interest
earned from the investment of funds from the Company's initial public offering
in June and July of 1998.
Income Tax Benefit. The income tax benefit of $379,000 in 1998 consists of
the reversal of a portion of the Company's valuation allowance on its deferred
tax assets, compared to a reversal of valuation allowance of $2.4 million in
1997. The Company did not record a state income tax provision in 1998 primarily
due to the utilization of state net operating loss carryforwards. In 1997, the
Company recorded a state provision of $172,000 as more business was conducted in
states where net operating loss carryforwards were not available.
Loss from Early Extinguishment of Debt. The Company recorded a charge of
$909,000 in 1998, net of the related tax benefit, related to the write-off of
the remaining debt discount and other costs associated with the early
extinguishment of the Company's bank debt.
Year Ended December 31, 1997 Compared to Year Ended December 31, 1996
Revenue
Total Revenue. Total revenue increased 83%, from $14.8 million in 1996 to
$27.1 million in 1997.
Data Management Services Revenue. Revenue from data management services
increased 82%, from $13.2 million in 1996 to $24.0 million in 1997, representing
approximately 89% of total revenue in both years. This increase resulted from an
increase in non-recurring and monthly fees from existing customers, increased
sales of new services to existing customers, and the realization of non-
recurring and monthly fees from both wireline and wireless customers.
Licenses and Implementation Services Revenue. Revenue from licenses and
implementation services increased 87%, from $1.6 million in 1996 to $3.1 million
in 1997. The increase resulted from the addition of a new contract in 1997.
Costs and Expenses
Cost of Data Management Services. Cost of data management services increased
92%, from $8.0 million in 1996 to $15.4 million in 1997, representing 54% and
57%, respectively, of total revenue and 61% and 64%, respectively, of data
management services revenue. The increase as a percentage of total revenue and
data management services revenue resulted from the addition of employees and
other resources in early 1997 in anticipation of wireless contracts, although
the Company did not begin recognizing revenue from such contracts until the
third quarter of 1997.
Cost of Licenses and Implementation Services. Cost of licenses and
implementation services increased 115%, from $596,000 in 1996 to $1.3 million in
1997, representing 4% and 5%, respectively, of total revenue and 36% and 42%,
respectively, of licenses and implementation services revenue. The increase as a
percentage of associated revenue was due to the inclusion of higher cost
elements, including third-party software, in contracts performed in 1997.
Sales and Marketing. Sales and marketing expenses increased 20%, from $3.2
million in 1996 to $3.9 million in 1997, representing 22% and 14%, respectively,
of total revenue. The increase in dollar amount was primarily due to increases
in salaries, recruiting, relocation and travel costs caused by an increase in
the sales force and increased marketing activities in 1997. The remaining
increase was due to the reassignment of marketing resources and related expenses
to the Company's continuing operations.
General and Administrative. General and administrative expenses increased
111%, from $1.5 million in 1996 to $3.2 million in 1997, representing 10% and
12%, respectively, of total revenue. Approximately $1.0 million of the increase
is related to the reassignment of certain continuing resources, infrastructure
and related general and administrative expenses applicable to the Company's
continuing operations. The remaining dollar and percentage increases resulted
primarily from increased costs necessary to develop and maintain the internal
and customer support information systems, increased depreciation expense in
1997, increased executive bonuses paid and accrued in 1997, and expansion of the
Company's facilities to accommodate the Company's growth.
Other Expenses, Net. Other expenses increased 67%, from $527,000 in 1996 to
$879,000 in 1997, representing 4% and 3% of total revenue in 1996 and 1997,
respectively. The increase in dollar amount resulted from an increase
27
<PAGE>
in interest expense caused by an increase in capital leases, a higher average
balance outstanding on the Company's line of credit in 1997, and interest
expense related to a $4.0 million borrowing in November 1997. This increase was
partially offset by an increase in interest income recognized, as the Company's
average cash balance increased in 1997.
Provision (Benefit) for Income Taxes. The Company's income tax provision
(benefit) changed from a provision of $9,000 in 1996 to a benefit of
$(2,328,000) in 1997. In 1997, the Company recorded an income tax benefit of
$2.5 million due to the reversal of the Company's valuation allowance on its
deferred tax assets. Excluding this benefit, the Company had an income tax
provision of $172,000. This increase over 1996 was due to a foreign income tax
refund received in 1996. In addition, the Company's state income tax provision
increased in 1997, as the Company generated more income in states in which the
Company did not have net operating loss carryforwards available to offset net
income.
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 December 31, 1998, the Company had $20.1 million in cash and
cash equivalents and investments in marketable securities.
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 offering costs. The
Company used approximately $4.4 million of the proceeds to repay its bank loans
and $160,000 for the 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.
In addition to the $4.4 million of debt repaid with the proceeds of the
initial public offering, the Company repaid $5.6 million and $798,000 of other
bank debt and capital lease obligations during 1998 and 1997, respectively, net
of borrowings of $4.3 million in 1997. Additionally, the Company used $3.4
million and $2.8 million during 1998 and 1997, respectively, for the purchase of
capital assets and software development. The Company anticipates that its level
of spending for capital expenditures in 1998 will continue during 1999, 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 80% 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
(7.75% at December 31, 1998) and are due April 15, 1999. The credit line is
collateralized by certain assets of the Company. As of December 31, 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 the next twelve months. 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.
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 one year, 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 has received
responses from most of those suppliers, including the suppliers that the Company
considers critical. The Company has received patches for
28
<PAGE>
the systems that are not Year 2000 compliant and has installed approximately
half of them. The Company intends to complete the installation of such patches
by the end of the second quarter of 1999.
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 internal and third party software costs, will be approximately
$400,000, of which approximately 95% has been incurred. The Company expects to
complete the conversion of its production systems in the second quarter 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 become Year 2000 compliant, 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 has completed its assessment of its information technology ("IT")
and non-IT systems. Non-IT systems include fax machines, photocopiers,
telephone switches, security systems and other common office devices. The
Company's assessment included contacting third party suppliers regarding Year
2000 compliance. Patches are installed or are scheduled to be installed by the
end of the second quarter of 1999. 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.
The Company is developing contingency plans with respect to Year 2000 issues
for certain of its systems and is continually monitoring the risks involved.
Some of these contingency plans include manual processing until such time that
the system becomes compliant. The Company will freeze all software changes in
the fourth quarter of 1999 and perform recontamination testing of its production
systems to ensure that any changes made to the systems since the last Year 2000
testing have not impaired the Year 2000 compliance of the systems. To
supplement the Company's normal on-call procedures, key employees of the Company
will be on site where critical systems are located through the Year 2000
changeover. The Company is also making support arrangements with its critical
third party suppliers to ensure that support is available if unanticipated
problems arise.
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 "Risk Factors -- 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.
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
29
<PAGE>
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
Statement No. 133 will not significantly affect its financial reporting.
Statement of Position 98-9
In December 1998, the American Institute of Certified Public Accountants
issued Statement of Position 98-9 ("SOP 98-9"), "Modification of SOP 97-2,
Software Revenue Recognition, With Respect to Certain Transactions." SOP 98-9
amends certain paragraphs of Statement of Position 97-2 ("SOP 97-2"), "Software
Revenue Recognition," to require the application of a residual method of
accounting for software revenue when certain conditions exist. SOP 98-9 also
amends Statement of Position 98-4 ("SOP 98-4"), "Deferral of the Effective Date
of a Provision of SOP 97-2" to extend the deferral of the application of certain
passages of SOP 97-2 provided by SOP 98-4 through fiscal years beginning on or
before March 15, 1999. All other provisions of SOP 98-9 are effective for
transactions entered into in fiscal years beginning after March 15, 1999.
Earlier adoption is permitted, however, retroactive application is prohibited.
The Company believes SOP 98-9 will not materially impact its financial
statements.
ITEM 7a. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market risk represents the risk of loss that may impact the financial
position, results of operations or cash flows of the Company due to adverse
changes in financial and commodity market prices and rates. The Company is
exposed to market risk in the areas of changes in United States interest rates.
These exposures are directly related to its normal operating and funding
activities. Historically and as of December 31, 1998, the Company has not used
derivative instruments or engaged in hedging activities.
Interest Rate Risk
The interest payable on the Company's line of credit is variable based on the
lender's prime rate, and, therefore, is affected by changes in market interest
rates. At December 31, 1998, no amounts were outstanding under the Company's
line of credit, however, the Company may borrow up to 80% of qualified accounts
receivable, not to exceed $2,000,000. In addition, the Company invests excess
funds in high-grade treasury bonds and commercial paper on which the Company
monitors interest rates frequently and as the investments mature. The Company
does not believe that reasonably possible near-term changes in interest rates
will result in a material effect on future earnings, fair values or cash flows
of the Company.
30
<PAGE>
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
SCC COMMUNICATIONS CORP.
INDEX TO FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
Page
------------
<S> <C>
Report of Independent Public Accountants.................................................................... 32
Balance Sheets as of December 31, 1998 and 1997............................................................. 33
Statements of Operations for the years ended December 31, 1998, 1997 and 1996............................... 34
Statements of Stockholders' Equity (Deficit) for the years ended December 31, 1998, 1997 and 1996........... 35
Statements of Cash Flows for the years ended December 31, 1998, 1997 and 1996............................... 36
Notes to Financial Statements............................................................................... 37
</TABLE>
31
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Board of Directors and Stockholders of SCC Communications Corp.:
We have audited the accompanying balance sheets of SCC Communications Corp. (a
Delaware corporation) as of December 31, 1998 and 1997, and the related
statements of operations, stockholders' equity (deficit) and cash flows for each
of the three years in the period ended December 31, 1998. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of SCC Communications Corp. as of
December 31, 1998 and 1997, and the results of its operations and its cash flows
for each of the three years in the period ended December 31, 1998, in conformity
with generally accepted accounting principles.
ARTHUR ANDERSEN LLP
Denver, Colorado,
February 19, 1999
32
<PAGE>
SCC COMMUNICATIONS CORP.
BALANCE SHEETS
(dollars in thousands)
<TABLE>
<CAPTION>
December 31,
----------------------------------
1998 1997
---------------- ----------------
<S> <C> <C>
ASSETS
CURRENT ASSETS:
Cash and cash equivalents......................................................... $ 10,266 $ 2,503
Short-term investments in marketable securities.................................. 7,761 --
Accounts receivable, net of allowance of approximately $50 in 1998 and 1997 for 4,820 2,328
doubtful accounts................................................................
Unbilled project revenue.......................................................... 1,035 996
Prepaids and other................................................................ 484 224
Deferred income taxes -- current portion.......................................... 2,025 1,300
-------- --------
Total current assets........................................................... 26,391 7,351
-------- --------
PROPERTY AND EQUIPMENT, at cost:
Computer hardware and equipment................................................... 23,687 18,844
Furniture and fixtures............................................................ 800 709
Leasehold improvements............................................................ 920 621
-------- --------
25,407 20,174
Less -- Accumulated depreciation.................................................. (11,056) (8,136)
-------- --------
Total property and equipment................................................... 14,351 12,038
-------- --------
OTHER ASSETS....................................................................... 112 86
LONG-TERM INVESTMENTS in marketable securities..................................... 2,054 --
DEFERRED INCOME TAXES -- NONCURRENT................................................ 1,504 1,200
SOFTWARE DEVELOPMENT COSTS, net of accumulated amortization of $346 and $201 in
1998 and 1997, respectively....................................................... 683 431
-------- --------
$ 45,095 $ 21,106
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
CURRENT LIABILITIES:
Accounts payable.................................................................. $ 1,211 $ 965
Payroll-related accruals.......................................................... 734 780
Other accrued liabilities......................................................... 2,546 2,671
Property and other taxes.......................................................... 696 368
Current portion of notes payable (Note 5)......................................... -- 986
Current portion of capital lease obligations (Note 5)............................. 1,618 1,638
Deferred contract revenue......................................................... 1,908 2,613
-------- --------
Total current liabilities...................................................... 8,713 10,021
LONG-TERM DEBT:
Notes payable, net of current portion (Note 5).................................... -- 4,000
Discount on long-term note payable (Note 5)....................................... -- (1,430)
Capital lease obligations, net of current portion (Note 5)........................ 2,791 4,321
-------- --------
Total liabilities.............................................................. 11,504 16,912
-------- --------
COMMITMENTS AND CONTINGENCIES (Notes 7 and 11)
MANDATORILY REDEEMABLE CONVERTIBLE PREFERRED
STOCK (Note 4):
Series A, B, C, D, E and F $.001 par value; 6,188,575 shares authorized, issued
and outstanding at December 31, 1997; entitled to $0 and $14,589 in 1998 and
1997, respectively, in liquidation or upon redemption if requested by the
holders after September 1, 1998, stated at redemption value.................... -- 14,589
PUTABLE COMMON STOCK WARRANT (Note 4).............................................. -- 1,472
STOCKHOLDERS' EQUITY (DEFICIT) (Note 4):
Preferred stock, $.001 par value; 15,000,000 shares authorized; none issued or
outstanding...................................................................... -- --
Common stock, $.001 par value; 30,000,000 shares authorized; 10,886,353 and
1,994,281 shares issued at December 31, 1998 and 1997, respectively.............. 10 2
Additional paid-in capital........................................................ 43,320 452
Treasury stock, 0 and 36,250 shares outstanding at December 31, 1998 and 1997,
respectively, at cost............................................................ -- (3)
Stock subscriptions receivable.................................................... (59) (99)
Accumulated deficit............................................................... (9,680) (12,219)
-------- --------
Total stockholders' equity (deficit)........................................... 33,591 (11,867)
-------- --------
$ 45,095 $ 21,106
======== ========
</TABLE>
The accompanying notes to financial statements are an integral part of these
balance sheets.
33
<PAGE>
SCC COMMUNICATIONS CORP.
STATEMENTS OF OPERATIONS
(dollars in thousands, except per share data)
<TABLE>
<CAPTION>
Year Ended December 31,
--------------------------------------------
1998 1997 1996
------------------ ----------- -----------
<S> <C> <C> <C>
REVENUE:
Data management services................................................ $ 30,610 $ 24,005 $ 13,165
Licenses and implementation services.................................... 3,839 3,067 1,637
----------- ---------- ----------
Total revenue.................................................... 34,449 27,072 14,802
COSTS AND EXPENSES:
Cost of data management services........................................ 20,740 15,378 7,996
Cost of licenses and implementation services............................ 836 1,283 596
Sales and marketing..................................................... 4,119 3,850 3,204
General and administrative.............................................. 4,959 3,227 1,533
----------- ---------- ----------
Total costs and expenses......................................... 30,654 23,738 13,329
----------- ---------- ----------
INCOME FROM OPERATIONS.................................................... 3,795 3,334 1,473
OTHER INCOME (EXPENSE):
Interest and other income............................................... 654 88 34
Interest and other expense.............................................. (948) (967) (561)
----------- ---------- ----------
INCOME FROM CONTINUING OPERATIONS BEFORE INCOME
TAXES AND EXTRAORDINARY ITEM............................................ 3,501 2,455 946
PROVISION (BENEFIT) FOR INCOME TAXES (Note 6)............................. (379) (2,328) 9
----------- ---------- ----------
NET INCOME FROM CONTINUING OPERATIONS BEFORE EXTRAORDINARY ITEM...........
3,880 4,783 937
DISCONTINUED OPERATIONS (Note 3):
Loss from operations of discontinued division, net of tax............... -- (876) (562)
Loss from disposal of discontinued division............................. -- (2,032) --
----------- ---------- ----------
NET INCOME BEFORE EXTRAORDINARY ITEM..................................... 3,880 1,875 375
EXTRAORDINARY LOSS FROM EARLY EXTINGUISHMENT OF DEBT, net of tax.......... (909) -- --
----------- ---------- ----------
NET INCOME................................................................ $ 2,971 $ 1,875 $ 375
=========== ========== ==========
Dividends accrued on Series D, E and F mandatorily redeemable
convertible preferred stock............................................. (355) (740) (673)
Common stock warrant put price adjustment................................. (77) (8) --
----------- ---------- ----------
NET INCOME (LOSS) APPLICABLE TO COMMON STOCK.............................. $ 2,539 $ 1,127 $ (298)
=========== ========== ==========
NET INCOME PER SHARE FROM CONTINUING OPERATIONS BEFORE EXTRAORDINARY ITEM
(Note 2):
Basic................................................................... $ 0.53 $ 2.17 $ 0.15
=========== ========== ==========
Diluted................................................................. $ 0.38 $ 0.54 $ 0.11
=========== ========== ==========
NET INCOME (LOSS) PER SHARE BEFORE EXTRAORDINARY ITEM (Note 2):
Basic................................................................... $ 0.53 $ 0.61 $ (0.17)
=========== ========== ==========
Diluted................................................................. $ 0.38 $ 0.21 $ 0.05
=========== ========== ==========
NET INCOME (LOSS) PER SHARE (Note 2):
Basic................................................................... $ 0.39 $ 0.61 $ (0.17)
=========== ========== ==========
Diluted................................................................. $ 0.29 $ 0.21 $ 0.05
=========== ========== ==========
SHARES USED IN COMPUTING NET INCOME (LOSS) PER SHARE (Note 2):
Basic................................................................... 6,433,564 1,857,413 1,790,230
=========== ========== ==========
Diluted................................................................. 10,334,556 8,788,816 8,299,362
=========== ========== ==========
</TABLE>
The accompanying notes to financial statements are an integral part of these
statements.
34
<PAGE>
SCC COMMUNICATIONS CORP.
STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
(dollars in thousands, except per share data)
<TABLE>
<CAPTION>
Total
Common Stock Additonal Stock Treasury Stock Stockholders'
-------------------- Paid-in Subscriptions -------------------- Accumulated Equity
Shares Amount Capital Receivable Shares Amount Deficit (Deficit)
---------- --------- --------- ------------- --------- --------- ----------- ------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
BALANCES, at December 31,
1995.............................. 1,821,448 $ 2 $ 278 $ (19) (36,250) $ (3) $ (13,049) $(12,791)
Dividends accrued on Series D, E
and F Convertible Preferred Stock -- -- -- -- -- -- (672) (672)
Exercise of stock options......... 19,451 -- 20 -- -- -- -- 20
Net income........................ -- -- -- -- -- -- 375 375
---------- --------- --------- ------------- --------- --------- ----------- ------------
BALANCES, at December 31,
1996.............................. 1,840,899 2 298 (19) (36,250) (3) (13,346) (13,068)
Dividends accrued on Series D, E
and F Convertible Preferred Stock -- -- -- -- -- -- (740) (740)
Exercise of stock options,
including options exercised in
exchange for notes receivable... 153,382 -- 154 (80) -- -- -- 74
Common stock warrant put price
adjustment (Note 4).............. -- -- -- -- -- -- (8) (8)
Net income........................ -- -- -- -- -- -- 1,875 1,875
---------- --------- --------- ------------- --------- --------- ----------- ------------
BALANCES, at December 31,
1997.............................. 1,994,281 2 452 (99) (36,250) (3) (12,219) (11,867)
Dividends accrued on Series D, E
and F Convertible Preferred Stock -- -- -- -- -- -- (355) (355)
Issuance of common stock through
Initial Public Offering, net of
issuance costs of $964.......... 2,415,000 2 25,985 -- -- -- -- 25,987
Conversion of preferred stock into
common stock...................... 6,188,575 6 14,938 -- -- -- -- 14,944
Conversion of common stock warrants 195,148 -- 1,549 -- -- -- -- 1,549
Issuance of common stock under
Employee Stock Purchase Plan.... 61,105 -- 243 -- -- -- -- 243
Exercise of stock options.......... 68,494 -- 39 -- -- -- -- 39
Common stock warrant put
price adjustment................ -- -- -- -- -- -- (77) (77)
Stock subscription payments
received........................ -- -- -- 40 -- -- -- 40
Tax benefit related to
disqualifying dispositions of
common stock...................... -- -- 117 -- -- -- -- 117
Retirement of treasury stock....... (36,250) -- (3) -- 36,250 3 -- --
Net income......................... -- -- -- -- -- -- 2,971 2,971
---------- --------- --------- ------------- --------- --------- ----------- ------------
BALANCES, at December 31, 1998...... 10,886,353 $ 10 $ 43,320 $ (59) -- $ -- $ (9,680) $ 33,591
========== ========= ========= ============= ========= ========= =========== ============
</TABLE>
The accompanying notes to financial statements are an integral part of these
statements.
35
<PAGE>
SCC COMMUNICATIONS CORP.
STATEMENTS OF CASH FLOWS
(dollars in thousands)
<TABLE>
<CAPTION>
Year Ended December 31,
--------------------------------------
1998 1997 1996
------------------ -------- --------
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income................................................................................ $ 2,971 $ 1,875 $ 375
Adjustments to reconcile net income to net cash provided by
operating activities --
Amortization and depreciation........................................................... 4,315 3,534 2,242
Amortization and write off of note payable discount..................................... 1,430 33 --
Accretion of investments in marketable securities....................................... (316) -- --
Gain on disposal of assets.............................................................. -- (40) --
Loss on disposal of discontinued division............................................... -- 2,032 --
Provision for estimated losses on contracts............................................. 7 (196) (321)
Provision for doubtful accounts......................................................... -- 25 --
Deferred income tax benefit............................................................. (912) (2,500) --
Change in --
Accounts receivable................................................................... (2,492) (977) 102
Unbilled project revenue.............................................................. (39) (190) (778)
Prepaids and other.................................................................... (286) (202) 327
Accounts payable...................................................................... 246 236 309
Accrued liabilities................................................................... 150 1,337 477
Deferred contract revenue............................................................. (705) 303 (1,932)
Decrease in current assets and liabilities from discontinued operations................. -- 110 (1,257)
-------- ------- -------
Net cash provided by (used in) operating activities................................. 4,369 5,380 (456)
-------- ------- -------
CASH FLOWS FROM INVESTING ACTIVITIES:
Acquisition of property and equipment..................................................... (2,995) (2,646) (2,361)
Proceeds from sale of net assets.......................................................... -- 603 --
Purchase of investments................................................................... (14,446) -- --
Sale of investments in marketable securities.............................................. 4,947 -- --
Software development costs................................................................ (397) (142) (226)
-------- ------- -------
Net cash used in investing activities............................................... (12,891) (2,185) (2,587)
-------- ------- -------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of notes payable................................................... -- 4,275 2,150
Principal payments on notes payable....................................................... (4,986) (1,439) (1,527)
Principal payments on capital lease obligations........................................... (5,038) (3,634) (2,528)
Exercise of stock options................................................................. 39 74 20
Stock subscription payments received...................................................... 40 -- --
Purchases through employee stock purchase plan............................................ 243 -- --
Proceeds from initial public offering and overallotment, net of underwriters' discount.... 26,951 -- --
Costs related to initial public offering.................................................. (964) -- --
Proceeds from issuance of Series F Convertible Preferred Stock............................ -- -- 3,956
-------- ------- -------
Net cash provided by (used in) financing activities................................. 16,285 (724) 2,071
-------- ------- -------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS........................................ 7,763 2,471 (972)
CASH AND CASH EQUIVALENTS, beginning of period.............................................. 2,503 32 1,004
-------- ------- -------
CASH AND CASH EQUIVALENTS, end of period.................................................... $ 10,266 $ 2,503 $ 32
======== ======= =======
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid during the period for interest.................................................. $ 801 $ 942 $ 611
======== ======= =======
Cash paid during the period for taxes..................................................... $ 95 $ 18 $ 4
======== ======= =======
SUPPLEMENTAL SCHEDULE OF NONCASH FINANCING AND INVESTING ACTIVITIES:
Dividends accrued on Series D, E and F Convertible Preferred Stock........................ $ 355 $ 740 $ 673
======== ======= =======
Common stock issued to employees in exchange for employee notes receivable................ $ -- $ 80 $ --
======== ======= =======
Property acquired with capital leases..................................................... $ 3,488 $ 3,074 $ 5,327
======== ======= =======
Conversion of debt and accrued interest thereon to Series F Convertible Preferred Stock... $ -- $ -- $ 1,044
======== ======= =======
Conversion of preferred stock............................................................. $ 14,943 $ -- $ --
======== ======= =======
Conversion of warrants.................................................................... $ 1,549 $ -- $ --
======== ======= =======
Retirement of treasury stock $ 3 $ -- $ --
======== ======= =======
</TABLE>
The accompanying notes to financial statements are an integral part of these
statements.
36
<PAGE>
SCC COMMUNICATIONS CORP.
NOTES TO FINANCIAL STATEMENTS
(1) ORGANIZATION, BUSINESS AND LIQUIDITY
SCC Communications Corp., (the "Company"), is a Delaware corporation. The
Company is the leading provider of 9-1-1 operations support systems services to
incumbent local exchange carriers ("ILECs"), competitive local exchange carriers
("CLECs") and wireless carriers in the United States. The Company manages the
data which enables 9-1-1 calls to be routed to the appropriate public safety
agency with accurate and timely information about the caller's identification
and location. In addition, the Company licenses its 9-1-1 software to carriers
that wish to manage the delivery of 9-1-1 data management services in-house.
(2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Operating Cycle
Assets and liabilities related to contracts are included in current assets and
liabilities in the accompanying balance sheets since they will be liquidated in
the normal course of contract completion, although this may require more than
one year.
Property and Equipment
Depreciation of property and equipment is computed using the straight-line
method over estimated useful lives of three to five years for computer hardware
and equipment, seven years for furniture and fixtures and the life of the lease
for leasehold improvements. The costs of repairs and maintenance are expensed
while enhancements to existing assets are capitalized.
Software Development Costs
The Company expenses the costs of developing computer software until
technological feasibility is established and capitalizes all costs incurred from
that time until the software is available for general customer release.
Technological feasibility for the Company's computer software products is based
upon the earlier of the achievement of (a) a detailed program design free of
high-risk development issues or (b) completion of a working model. Costs of
major enhancements to existing products with a wide market are capitalized while
routine maintenance of existing products is charged to expense as incurred. The
establishment of technological feasibility and the ongoing assessment of the
recoverability of capitalized computer software development costs requires
considerable judgment by management with respect to certain external factors,
including, but not limited to, technological feasibility, anticipated future
gross revenues, estimated economic life and changes in software and hardware
technology.
Capitalized software costs are amortized on a product-by-product basis. The
annual amortization is the greater of the amount computed using (a) the ratio
that current gross revenues for a product bear to the total of current and
anticipated future gross revenues for that product, or (b) the straight-line
method over the remaining estimated economic life of the product which is
typically five years. Amortization expense related to capitalized software costs
from continuing operations totaled $145,000, $107,000 and $55,000, respectively,
for the years ended December 31, 1998, 1997 and 1996, respectively, and is
included in cost of data management services and licenses and implementation
services in the statements of operations.
Revenue Recognition
The Company reports revenue based on its two segments, data management
services and licenses and implementation services. Revenue from data management
services generally consists of a non-recurring initial fee and monthly recurring
revenue. The non-recurring initial fee is recognized using the percentage-of-
completion method over the period required to convert the customer's data to the
Company's system and otherwise prepare for implementation. Revenue from
recurring monthly services is recognized in the period the services are
rendered. Related expenses are recognized as they are incurred and are included
in cost of data management services in the accompanying statements of
operations.
37
<PAGE>
Because the Company's software requires significant modification for each
customer, revenue related to software license fees and implementation of the
Company's 9-1-1 systems at customer sites is recognized using the percentage-of-
completion method. Such contracts include a license fee for the use of the
Company's software and service fees for the installation and customization of
the system. The Company's costs to install its systems include direct labor,
third party license fees and miscellaneous expenses. Such costs are included in
cost of licenses and implementation services.
In applying the percentage-of-completion method, revenue and related costs are
recognized based on the percentage that labor hours incurred to date bear to
total estimated labor hours. Revenue recognized in excess of amounts billed is
reflected as unbilled project revenue and amounts billed in excess of revenue
recognized are reflected as deferred contract revenue in the accompanying
balance sheets. The Company recognizes any known or anticipated loss on
contracts in process when such losses are determined to exist.
Revenue from licenses and implementation services includes customer support
revenue which is recognized ratably over the related contract period on a
straight-line basis. Costs related to customer support revenue are included in
cost of licenses and implementation services in the accompanying statements of
operations.
Concentration of Credit Risk
Financial instruments which potentially subject the Company to concentrations
of credit risk are primarily accounts receivable and investments in high-grade
treasury bonds and commercial paper. The Company's accounts receivable are from
customers that are generally telecommunications service providers; accordingly,
the Company's accounts receivable are concentrated in the telecommunications
industry. The Company's principal customers (Note 10) accounted for 30% and 40%
of the Company's accounts receivable as of December 31, 1998 and 1997,
respectively. The Company has no significant financial instruments with off-
balance sheet risk of accounting loss, such as foreign exchange contracts,
option contracts or other foreign currency hedging arrangements.
Research and Development
Research and development efforts consist of salaries, supplies and other
related costs. These costs are expensed as incurred and totaled approximately
$1,376,000, $738,000 and $230,000 for the years ended December 31, 1998, 1997
and 1996, respectively. These costs are included in cost of data management
services and licenses and implementation services in the accompanying statements
of operations and do not include development costs incurred as part of the
efforts performed under licenses and implementation services contracts with the
Company's customers.
Cash and Cash Equivalents
For purposes of reporting cash flows, cash and cash equivalents include highly
liquid investments with original maturities of 90 days or less.
Use of Estimates
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions.
These estimates affect the reported amounts of assets and liabilities,
disclosure of contingent assets and liabilities at the date of the financial
statements, and the reported amounts of revenue and expenses during the
reporting period. Actual results could differ from those estimates.
Fair Market Value of Financial Instruments
Financial instruments include cash and cash equivalents, corporate debt
securities, accounts receivable and debt obligations. The carrying amounts for
cash and cash equivalents and accounts receivable approximate fair market value
because of the short maturity of these instruments. The fair value of notes and
capital lease obligations are estimated based on current rates available for
debt with similar maturities and securities, and at December 31, 1998 and 1997,
approximates the carrying value.
38
<PAGE>
Investments in Marketable Securities
The Company's investments in corporate debt securities are classified as held-
to-maturity and are carried at the amortized cost basis. The investments had
the following values at December 31, 1998:
<TABLE>
<CAPTION>
Amortized/ Gross Unrealized Gross Unrealized
Accreted Cost Accrued Interest Holding Gains Holding Losses Fair Value
------------- ----------------- ---------------- ---------------- ----------
<S> <C> <C> <C> <C> <C>
Corporate Debt Securities, maturing
within one year $7,761,000 $(237,000) $13,000 $(2,000) $7,535,000
Corporate Debt Securities, maturing
after one year through five years 2,054,000 (33,000) 3,000 -- 2,024,000
------------- ----------------- ---------------- ---------------- ----------
$9,815,000 $(270,000) $16,000 $(2,000) $9,559,000
============= ================= ================ ================ ==========
</TABLE>
Income Taxes
The Company follows Statement of Financial Accounting Standards No. 109 ("SFAS
109"), which requires recognition of deferred income tax assets and liabilities
for the expected future income tax consequences, based on enacted tax laws, of
temporary differences between the financial reporting and tax bases of assets
and liabilities. SFAS 109 also requires recognition of deferred tax assets for
the expected future tax effects of loss carryforwards and tax credit
carryforwards. Deferred tax assets are then reduced, if deemed necessary, by a
valuation allowance for the amount of any tax benefits which, on a more likely
than not basis, are not expected to be realized (Note 6).
Stock Based Compensation Plans
The Company applies APB Opinion No. 25, "Accounting for Stock Issued to
Employees," in accounting for its stock option and other stock-based
compensation plans for employees and directors. The Company has adopted the
disclosure provisions of Statement of Financial Accounting Standards No. 123
("SFAS 123"), "Accounting for Stock-Based Compensation," for such options and
stock-based plans for employees and directors (Note 4).
Impairment of Long-Lived Assets
The Company reviews its long-lived assets for impairment whenever events or
changes in circumstances indicate that the carrying amount of an asset may not
be recoverable from future undiscounted cash flows. Impairment losses are
recorded for the excess, if any, of the carrying value over the fair value of
the long-lived assets.
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 51,000, 298,017 and 230,316 in 1998, 1997
and 1996, respectively.
A reconciliation of the numerators and denominators used in computing per
share net income from continuing operations is as follows:
<TABLE>
<CAPTION>
Year Ended December 31,
----------------------------------------------------------
1998 1997 1996
------------------ ------------------ ------------------
<S> <C> <C> <C>
Numerator:
Net income from continuing
operations before extraordinary
item (numerator for diluted loss
per share for 1998, 1997 and 1996).. $3,880,000 $4,783,000 $ 937,000
Dividends on Convertible Preferred
Stock............................... (355,000) (740,000) (673,000)
Common stock warrant put price
adjustment............................ (77,000) (8,000) --
---------- ---------- ---------
Numerator for basic income (loss)
per share before extraordinary item. $3,448,000 $4,035,000 $ 264,000
========== ========== =========
</TABLE>
39
<PAGE>
<TABLE>
<S> <C> <C> <C>
Denominator for basic income (loss)
per share:
Weighted average common shares
outstanding......................... 6,433,564 1,857,413 1,790,230
Denominator for diluted income (loss) ========== ========= =========
per share:
Convertible Preferred Stock.......... 3,051,900 6,188,575 5,970,710
Weighted average common shares
outstanding......................... 6,433,564 1,857,413 1,790,230
Options issued to employees.......... 752,863 720,605 538,422
Putable common stock warrant......... 96,229 22,223 --
---------- --------- ---------
Denominator for diluted
income (loss) per share..... 10,334,556 8,788,816 8,299,362
========== ========= =========
</TABLE>
Income (loss) per common share was computed as follows:
<TABLE>
<CAPTION>
Year Ended December 31,
-------------------------------------------------
1998 1997 1996
---------------- --------------- --------------
<S> <C> <C> <C>
Basic income (loss) per share:
Income per share from continuing operations
before extraordinary item.................... $ 0.53 $ 2.17 $ 0.15
Loss per share from discontinued operations... -- (1.56) (0.32)
Loss per share from extraordinary item........ (0.14) -- --
------ ------ ------
Basic income (loss) per share....... $ 0.39 $ 0.61 $(0.17)
====== ====== ======
Diluted income (loss) per share:
Income per share from continuing operations... $ 0.38 $ 0.54 $ 0.11
Loss per share from discontinued operations... -- (0.33) (0.06)
Loss per share from extraordinary item........ (0.09) -- --
------ ------ ------
Diluted income per share............ $ 0.29 $ 0.21 $ 0.05
====== ====== ======
</TABLE>
Reverse Stock Split
On March 18, 1998, the Company's Board of Directors authorized a one-for-three
reverse stock split which was effective June 23, 1998. All share amounts,
equivalent share amounts and per share amounts have been adjusted retroactively
to reflect the reverse stock split.
Recently Issued Accounting Pronouncements
Statement of Position 98-1
In March 1998, the American Institute of Certified Public Accountants
("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.
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
40
<PAGE>
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
Statement No. 133 will not significantly affect its financial reporting.
Statement of Position 98-9
In December 1998, the AICPA issued Statement of Position 98-9 ("SOP 98-9"),
"Modification of SOP 97-2, Software Revenue Recognition, With Respect to Certain
Transactions." SOP 98-9 amends certain paragraphs of Statement of Position 97-2
("SOP 97-2"), "Software Revenue Recognition," to require the application of a
residual method of accounting for software revenue when certain conditions
exist. SOP 98-9 also amends Statement of Position 98-4 ("SOP 98-4"), "Deferral
of the Effective Date of a Provision of SOP 97-2" to extend the deferral of the
application of certain passages of SOP 97-2 provided by SOP 98-4 through fiscal
years beginning on or before March 15, 1999. All other provisions of SOP 98-9
are effective for transactions entered into in fiscal years beginning after
March 15, 1999. Earlier adoption is permitted, however, retroactive application
is prohibited. The Company believes SOP 98-9 will not materially impact its
financial statements.
Reclassifications
Certain reclassifications have been made to prior year balances to conform to
the current year presentation.
(3) DISCONTINUED OPERATIONS
On June 30, 1997, the Company sold the net assets of its Premise Products
Division. The sale resulted in a net loss of $2,032,000. The net losses of this
division are included in the statements of operations as loss from operations of
discontinued division. Revenue from the division for the six months ended June
30, 1997 and for the year ended December 31, 1996 was $5,785,000 and
$12,274,000, respectively.
(4) STOCKHOLDERS' EQUITY (DEFICIT)
Common Stock and Preferred Stock
In March 1998, the Company's Board of Directors authorized an increase in
common stock to 30,000,000 shares and authorized 15,000,000 shares of
undesignated preferred stock. In 1998 the Company also retired 36,250 shares of
treasury stock.
Mandatorily Redeemable Convertible Preferred Stock
At December 31, 1997, the Company had the following series of preferred stock
outstanding:
<TABLE>
<CAPTION>
Shares Liquidation
Authorized, or Original
Issued and Redemption Purchase
Outstanding Price Price
---------------- ---------------- ----------------
<S> <C> <C> <C>
Series A........................ 1,515,152 $ 1,500,000 $ 1,500,000
Series B........................ 1,010,101 1,000,000 1,000,000
Series C........................ 442,328 730,000 730,000
Series D........................ 912,123 2,371,000 1,614,458
Series E........................ 1,083,381 3,255,000 2,632,617
Series F........................ 1,225,490 5,733,000 5,000,000
--------- ----------- -----------
6,188,575 $14,589,000 $12,477,075
========= =========== ===========
</TABLE>
In connection with the Company's initial public offering in June 1998, the
Company's mandatorily redeemable convertible preferred stock was converted on a
one-for-one basis to common stock. Activity for 1996, 1997 and 1998 is as
follows:
41
<PAGE>
<TABLE>
<CAPTION>
Shares Issued and Outstanding
------------------------------------------------------------------------------------------
Series A Series B Series C Series D Series E Series F Total
---------------- ----------- --------- --------- ----------- ----------- -----------
<S> <C> <C> <C> <C> <C> <C> <C>
BALANCES, at December 31,
1995.............................. 1,515,152 1,010,101 442,328 912,123 1,083,381 -- 4,963,085
Series F Convertible Preferred
Stock issued at $4.08 per share
in exchange for cash and notes
payable.......................... -- -- -- -- -- 1,225,490 1,225,490
---------- ---------- -------- -------- ---------- ---------- ----------
BALANCES, at December 31,
1996 and 1997..................... 1,515,152 1,010,101 442,328 912,123 1,083,381 1,225,490 6,188,575
---------- ---------- -------- -------- ---------- ---------- ----------
Conversion of preferred stock to
common stock..................... (1,515,152) (1,010,101) (442,328) (912,123) (1,083,381) (1,225,490) (6,188,575)
---------- ---------- -------- -------- ---------- ---------- ----------
BALANCES, at December 31,
1998............................ -- -- -- -- -- -- --
========== ========== ======== ======== ========== ========== ==========
</TABLE>
The activity related to the liquidation or redemption value of Series A
through Series F Convertible Preferred Stock for the periods ended December 31,
1998, 1997 and 1996 is as follows:
<TABLE>
<CAPTION>
Liquidation or Redemption Value
------------------------------------------------------------------------------------------------
Series A Series B Series C Series D Series E Series F Total
---------------- ------------ ---------- ------------ ------------ ----------- -------------
<S> <C> <C> <C> <C> <C> <C> <C>
BALANCES, at December 31,
1995............................ $ 1,500,000 $ 1,000,000 $ 730,000 $ 2,113,000 $ 2,833,000 $ -- $ 8,176,000
Series F Convertible
Preferred Stock
issued at $4.08 per
share in exchange for
cash and notes
payable....................... -- -- -- -- -- 5,000,000 5,000,000
Dividends accrued on
Series D, E and F
Convertible Preferred
Stock......................... -- -- -- 129,000 211,000 333,000 673,000
---------------- ------------ ---------- ------------ ------------ ----------- -------------
BALANCES, at December 31,
1996............................ 1,500,000 1,000,000 730,000 2,242,000 3,044,000 5,333,000 13,849,000
Dividends accrued on
Series D, E and F
Convertible Preferred
Stock......................... -- -- -- 129,000 211,000 400,000 740,000
---------------- ------------ ---------- ------------ ------------ ----------- -------------
BALANCES, at December 31,
1997............................ 1,500,000 1,000,000 730,000 2,371,000 3,255,000 5,733,000 14,589,000
Dividends accrued on
Series D, E and F
Convertible Preferred
Stock......................... -- -- -- 62,000 101,000 192,000 355,000
Conversion of Series A-F
Convertible Preferred Stock to
Common Stock.................... (1,500,000) (1,000,000) (730,000) (2,433,000) (3,356,000) (5,925,000) (14,944,000)
---------------- ------------ ---------- ------------ ------------ ----------- -------------
BALANCES, at December 31,
1998............................ $ -- $ -- $ -- $ -- $ -- $ -- $ --
================ ============ ========== ============ ============ =========== =============
</TABLE>
Until the mandatorily redeemable convertible preferred stock was converted,
dividends of 8% per year were accrued that would be due upon liquidation or
redemption.
Putable Common Stock Warrant
In November 1997, the Company borrowed $4,000,000 from Banc One Capital
Partners II, LLC (the "Lender") (Note 5). In connection with the loan, the
Lender received a warrant to purchase 195,148 shares of the Company's common
stock for $100. In June 1998, the Lender exercised this warrant. Because of the
put feature of the warrant, the Company recorded an amount equal to the number
of shares under the warrant times the difference between the current market
value, as defined, and the market value of the shares at the time the warrant
was issued. This amount was recorded as an increase in the value of the putable
common stock warrant and charged to accumulated deficit in the accompanying
financial statements through the time that the warrant was exercised. The
amount recorded was $77,000 and $8,000 in 1998 and 1997, respectively.
Stock Subscriptions Receivable
In September 1997, in connection with the sale of the Company's Premise
Products Division, several former employees of the Company signed full recourse
promissory notes to the Company to exercise their vested stock options. The
notes accrue interest at 6.07% per annum. The Company extended the due date on
the notes to March 20, 1999 and is pursuing collection of the notes that remain
unpaid.
42
<PAGE>
Stock Option Plan
The Company adopted the 1998 Stock Incentive Plan ("1998 Plan") effective June
23, 1998, which is a successor to the Company's 1990 Option Plan. A total of
2,928,872 shares have been authorized for issuance under the 1998 Plan,
including shares authorized under the 1990 Option Plan. The shares reserved for
issuance will increase automatically on the first trading day of each calendar
year, beginning with the 1999 calendar year, by 3% of the number of shares of
common stock outstanding on the last trading day of the immediately preceding
calendar year. The 1998 Plan allows for issuances of options to officers, non-
employee Board members and consultants, as provided for under the terms of the
1998 Plan.
In October 1995, the Company granted an option to purchase 66,666 shares of
common stock to an officer of the Company. The option is exercisable at $6.00
per share and was issuable contingent on the attainment of certain objectives.
During 1997, the Company's Board of Directors determined that the officer had
met the objectives required under the agreement, causing the options to be
issued. No compensation expense was recorded on this option because the exercise
price exceeded the fair market value of the shares.
Employee Stock Purchase Plan
On March 18, 1998, the Company adopted an employee stock purchase plan
("ESPP") under which eligible employees may contribute up to 10% of their
salaries through payroll deductions to purchase shares of the Company's common
stock. The first offering period of the ESPP began March 1, 1998 and ended on
December 31, 1998. Thereafter, offering periods will be successive six month
periods. At the end of each offering period, amounts contributed by employees
will be used to purchase shares of the Company's common stock at a price equal
to 85% of the lower of the closing price of the common stock on the first day or
last day of the offering period. The Company's Board of Directors has authorized
the issuance of up to 200,000 shares under the ESPP and may terminate the ESPP
at any time. At January 1 of each year, the shares available under the ESPP will
be restored to 200,000, although the Company's Board of Directors may elect to
restore a lesser number of shares. In 1998, the Company issued 61,105 shares
under the ESPP.
Statement of Financial Accounting Standards No. 123 ("SFAS 123")
SFAS 123, "Accounting for Stock-Based Compensation," defines a fair value
based method of accounting for employee stock options or similar equity
instruments. However, SFAS 123 allows the continued measurement of compensation
cost for such plans using the intrinsic value based method prescribed by APB
Opinion No. 25, "Accounting for Stock Issued to Employees" ("APB 25"), provided
that pro forma disclosures are made of net income or loss assuming the fair
value based method of SFAS 123 had been applied. The Company has elected to
account for its stock-based compensation plans under APB 25; accordingly, for
purposes of the pro forma disclosures presented below, the Company has computed
the fair values of all options granted under the 1998 Option Plan, which
succeeds the 1997 Option Plan, during 1998, 1997 and 1996, using the Black-
Scholes pricing model and the following weighted average assumptions:
<TABLE>
<CAPTION>
1998 1997 1996
----------------- ----------------- -----------------
<S> <C> <C> <C>
Risk-free interest rate........................ 4.71% 6.41% 6.16%
Expected dividend yield........................ 0.00% 0.00% 0.00%
Expected lives outstanding..................... 4.4 years 5.0 years 5.0 years
Expected volatility............................ 66.004% 0.001% 0.001%
</TABLE>
To estimate lives of options for this valuation, it was assumed options will
be exercised upon becoming fully vested. All options are initially assumed to
vest. Cumulative compensation costs recognized in pro forma net income or loss
with respect to options that are forfeited prior to vesting is adjusted as a
reduction of pro forma compensation expense in the period of forfeiture. Because
the Company's common stock was not yet publicly traded, the expected market
volatility was assumed to be zero in 1996 and 1997. In 1998, the Company's
common stock was not yet traded for an extended period of time, thus the
expected market volatility was based on the stock prices of companies whose
operations are similar to the Company's. Actual volatility of the Company's
common stock may vary. Fair value computations are highly sensitive to the
volatility factor assumed; the greater the volatility, the higher the computed
fair value of options granted.
The total fair value of options granted under the 1998 Option Plan was
computed to be approximately $1,406,000, $499,000 and $187,000 for the years
ended December 31, 1998, 1997 and 1996, respectively. These amounts are
amortized ratably over the vesting periods of the options or recognized at date
of grant if no vesting period is required. Pro forma stock-based compensation,
net of the effect of forfeitures, was $417,000, $232,000 and $80,000 for 1998,
1997 and 1996, respectively.
43
<PAGE>
A summary of stock options under the 1998 Option Plan as of December 31, 1998,
1997 and 1996 and changes during the years then ended are presented below:
<TABLE>
<CAPTION>
1998 1997 1996
--------------------- --------------------- ---------------------
Weighted Weighted Weighted
Average Average Average
Exercise Exercise Exercise
Shares Price Shares Price Shares Price
----------- -------- ----------- -------- ----------- --------
<S> <C> <C> <C> <C> <C> <C>
Outstanding at beginning
of year................... 1,106,610 $3.03 1,073,908 $1.68 919,958 $1.35
Granted................... 379,211 5.81 270,016 6.93 231,983 3.12
Exercised................. (68,494) 0.54 (153,382) 1.00 (19,450) 0.99
Canceled.................. (77,447) 8.64 (83,932) 2.46 (58,583) 1.92
---------- ---------- ----------
Outstanding at end of
year...................... 1,339,880 $3.62 1,106,610 $3.03 1,073,908 $1.68
========== ========== ==========
Weighted average fair
value of options
granted................... $3.19 $ 1.80 $ 0.81
========== ========== ==========
</TABLE>
The following table summarizes information about the options outstanding at
December 31, 1998:
<TABLE>
<CAPTION>
Options Outstanding Options Exercisable
------------------------------------------------------ -------------------------------
Weighted
Average Weighted Weighted
Number Remaining Average Number Average
Range of Outstanding Contractual Exercise Exercisable Exercise
Exercise Prices At 12/31/98 Life Price at 12/31/98 Price
- -------------------------------- ------------------- ----------------- --------------- ----------------- -------------
<S> <C> <C> <C> <C> <C>
$0.12 -- 0.30................... 191,841 2.22 years $ .18 191,841 $ .18
$0.75 -- 3.00................... 505,819 6.25 years 1.97 415,031 1.52
$3.75 -- 4.50................... 314,053 9.61 years 4.06 14,893 .20
$6.00 -- 7.50................... 284,844 8.65 years 7.10 90,075 2.20
$9.00 -- 12.75.................. 43,323 9.31 years 12.01 606 .13
--------- -------
1,339,880 7.07 years $ 3.62 712,408 $1.12
========= =======
</TABLE>
If the Company had accounted for its stock-based compensation plan in
accordance with SFAS 123, the Company's net income from continuing operations
would have been reported as follows:
<TABLE>
<CAPTION>
1998 1997 1996
--------------- ---------------- ------------
<S> <C> <C> <C>
Net income from continuing operations:
As reported.......................................... $3,880,000 $4,783,000 $937,000
Pro forma............................................ $3,463,000 $4,551,000 $857,000
Basic income (loss) from continuing operations per
share:
As reported.......................................... $ 0.53 $ 2.17 $ 0.15
Pro forma............................................ $ 0.47 $ 2.05 $ 0.10
Diluted net income (loss) from continuing
operations per share:
As reported.......................................... $ 0.38 $ 0.54 $ 0.11
Pro forma............................................ $ 0.34 $ 0.52 $ 0.10
</TABLE>
(5) LONG-TERM DEBT
At December 31, 1998 and 1997, notes payable and long-term debt consisted of
the following:
<TABLE>
<CAPTION>
December 31,
------------------
1998 1997
------------------ ------------------
<S> <C> <C>
Borrowings on revolving line of credit bearing interest at prime (9.50% at December
31, 1997), due April 15, 1999. Collateralized by certain assets of the Company.
Maximum borrowing amount of 80% of qualified accounts receivable up to $2,000,000.
Paid in full in June, 1998............................................................ $ -- $ 950,000
Secured promissory note to a bank, bearing interest at prime plus 1% (9.50% at
December 31, 1997), minimum monthly payments in varying amounts, including imputed
interest of 9.50% per annum, collateralized by certain assets of the Company. Paid in
full in February, 1998................................................................ -- 36,000
Note payable to Banc One Capital Partners II, LLC, bearing interest at 11% through May
31, 1999, and 12% thereafter. Note paid in full in June, 1998. (Note 4)............. -- 4,000,000
Capitalized lease obligations for equipment due on various dates through October 1,
2002, minimum monthly payments in varying amounts, currently $211,000 including
imputed interest ranging from 8.50% to 9.50% per annum, collateralized by the related
assets with a net book value of $4,273,000 and $5,943,000, respectively............... 4,409,000 5,959,000
----------- -----------
4,409,000 10,945,000
Less -- Current portion................................................................ (1,618,000) (2,624,000)
----------- -----------
$ 2,791,000 $ 8,321,000
=========== ===========
</TABLE>
44
<PAGE>
The Company prepaid the $4,000,000 note payable with Banc One Capital Partners
II, LLC on June 30, 1998 and incurred a prepayment premium equal to 4% of the
amount, totaling $160,000. In addition, the company wrote off the remaining
debt discount related to the note payable of $1,282,000. The prepayment penalty
and write off of the debt discount totaling $1,442,000 were recorded as an
extraordinary item, net of the related income tax benefit of $533,000.
Debt maturities of long-term debt as of December 31, 1998, are as follows:
<TABLE>
<CAPTION>
Capital
Leases
------------------
<S> <C>
1999................................................... $ 1,954,000
2000................................................... 1,692,000
2001................................................... 1,073,000
2002................................................... 305,000
-----------
5,024,000
Less -- Amount related to interest..................... (615,000)
-----------
Principal portion of future obligations................ 4,409,000
Less -- Current portion................................ (1,618,000)
-----------
$ 2,791,000
===========
</TABLE>
(6) INCOME TAXES
The Company has operated in three countries, the United States, Canada and
Australia. For income tax return reporting purposes, the Company has
approximately $8,500,000 of net operating loss carryforwards and approximately
$467,000 of research and development tax credit carryforwards available to
offset future federal taxable income or federal tax liabilities in the United
States. The research and development credit and net operating loss carryforwards
expire at various dates through 2011. The Company also has $208,000 of foreign
tax credit carryforwards.
The Tax Reform Act of 1986 contains provisions which may limit the net
operating loss and credit carryforwards available to be used in any given year
upon the occurrence of certain events including significant changes in ownership
of the Company. In accordance with certain provisions of the Internal Revenue
Code of 1986, as amended (the "Code"), a greater than 50% change in ownership of
a company within a three year period results in an annual limitation on the
Company's ability to utilize its net operating loss carryforwards from tax
periods prior to the ownership change.
Deferred income tax assets and liabilities at December 31, 1998 and 1997, were
as follows:
<TABLE>
<CAPTION>
December 31,
----------------------------------------------------
1998 1997
------------------------- -------------------------
<S> <C> <C>
Current -
Accrued liabilities and other....... $ 852,000 $ 656,000
Deferred revenue.................... 200,000 438,000
Net operating loss carryforwards.... 1,179,000 1,097,000
Less - Valuation allowance.......... (206,000) (891,000)
---------- -----------
2,025,000 1,300,000
---------- -----------
Noncurrent -
Depreciation differences............ (901,000) (630,000)
Net operating loss carryforwards.... 1,974,000 2,467,000
Tax credit carryforwards............ 675,000 611,000
Less -- Valuation allowance......... (244,000) (1,248,000)
---------- -----------
1,504,000 1,200,000
---------- -----------
$3,529,000 $ 2,500,000
========== ===========
</TABLE>
As of December 31, 1998 and 1997, the Company reversed $1,689,000 and
$2,413,000, respectively, of the valuation allowance on part of its deferred tax
assets, as the Company believes it is more likely than not that such tax
benefits will be realized. Approximately $533,000 of the income tax benefit in
1998 was allocated to the extraordinary loss on early extinguishment of debt.
Management believes the remaining tax assets of $450,000 as of December 31,
1998 relate to tax credits that do not satisfy the realization criteria set
forth in SFAS No. 109 and has recorded a valuation allowance for such net tax
assets.
The components of the provision (benefit) for income taxes attributable to
income from operations as of December 31, 1998, 1997 and 1996, were as follows:
45
<PAGE>
<TABLE>
<CAPTION>
December 31,
-------------------------------------------------------------
1998 1997 1996
------------------ ------------------ ---------------------
<S> <C> <C> <C>
Current provision (benefit) --
State...................................... $ -- $ 172,000 $ 69,000
Foreign.................................... -- -- (60,000)
--------- ----------- --------
$ -- $ 172,000 $ 9,000
Deferred benefit, federal and state.......... (912,000) (2,500,000) --
--------- ----------- --------
Income tax provision (benefit)............... $(912,000) $(2,328,000) $ 9,000
========= =========== ========
</TABLE>
The components of the provision (benefit) for income taxes attributable to
income from discontinued operations as of December 31, 1998, 1997 and 1996, were
as follows:
<TABLE>
<CAPTION>
December 31,
----------------------------------------------
1998 1997 1996
-------------- -------------- --------------
<S> <C> <C> <C>
Current provision --
Foreign............... $ -- $100,000 $146,000
============== ======== ========
</TABLE>
A reconciliation of income tax provision (benefit) computed by applying the
federal income tax rate of 34% to income from continuing operations before
income taxes as of December 31, 1998, 1997 and 1996, is as follows:
<TABLE>
<CAPTION>
December 31,
----------------------------------------
1998 1997 1996
------------- ------------- ----------
<S> <C> <C> <C>
Computed normal tax provision................................................... $ 700,000 $ 835,000 $ 322,000
Tax effect of permanent differences and other................................... 9,000 34,000 21,000
State tax, net of federal tax impact............................................ 68,000 113,000 44,000
Change in valuation allowance attributable to
continuing operations......................................................... (1,689,000) (3,310,000) (378,000)
----------- ----------- ---------
Income tax provision (benefit).................................................. $ (912,000) $(2,328,000) $ 9,000
=========== =========== =========
</TABLE>
The provision for income taxes is attributable to continuing operations and
discontinued operations in 1997 and 1996 is as follows. The entire 1998
provision (benefit) is related to continuing operations.
<TABLE>
<CAPTION>
December 31,
-------------------------------------
1997 1996
---------------- -------------------
<S> <C> <C>
Provision attributable to continuing operations....... $ 982,000 $ 387,000
Change in valuation allowance attributable to (3,310,000) (378,000)
continuing operations................................ ----------- ---------
Net provision (benefit) attributable to continuing (2,328,000) 9,000
operations........................................... ----------- ---------
Benefit attributable to discontinued operations....... (797,000) (432,000)
Change in valuation allowance attributable to
discontinued operations.............................. 897,000 578,000
----------- ---------
Net provision attributable to discontinued operations. 100,000 146,000
----------- ---------
Total income tax provision (benefit)........ $(2,228,000) $ 155,000
=========== =========
</TABLE>
(7) COMMITMENTS
The Company leases its office and research facilities and certain equipment
under operating lease agreements which expire through December 2002. Rent
expense for the years ended December 31, 1998, 1997 and 1996 was approximately
$1,030,000, $718,000 and $621,000, respectively. Future minimum lease
obligations under these agreements are as follows:
<TABLE>
<S> <C>
1999.................. $1,667,000
2000.................. 1,493,000
2001.................. 1,478,000
2002.................. 1,489,000
----------
Total....... $6,127,000
==========
</TABLE>
(8) EMPLOYEE BENEFIT PLAN
The Company has a 401(k) plan under which eligible employees may defer up to
15% of their compensation. The Company may make matching contributions and
discretionary contributions if approved by the Board of Directors. For 1998,
1997 and 1996, no employer matching or discretionary contributions were made to
the 401(k) plan. However, in February 1999, the Company's Board of Directors
approved a matching contribution for employees, which is effective April 1,
1999. The Company will match 50% of employee contributions up to 6% of the
employee's salary, not to exceed $1,000 in 1999. Matching contributions will
vest 35%, 70% and 100% for one, two and three years of service, respectively.
(9) RELATED PARTY TRANSACTION
The Company provides data management and certain consulting services to and
leases equipment from entities in which a stockholder of the Company has an
ownership interest. A representative of the stockholder is a member of
46
<PAGE>
the Company's Board of Directors. The Company received net proceeds of
approximately $6,735,000, $6,959,000 and $6,606,000 in 1998, 1997 and 1996,
respectively, pursuant to these agreements. Amounts due to the stockholder under
the lease agreements net of amounts due to the Company for services rendered as
of December 31, 1998 and 1997 were $3,962,000 and $5,148,000, respectively. The
leases have interest rates ranging from 8.50% to 9.50%, require monthly payments
and have expiration dates varying through October 2002.
(10) REPORTABLE SEGMENTS AND MAJOR CUSTOMERS
Reportable Segments
The Company has two reportable segments, data management services and licenses
and implementation services. The Company measures its reportable segments based
on revenue for each segment and costs directly related to each segment. General
and administrative, sales and marketing and other costs are not measured by
segment. Data management services include the provisioning of an outsourcing
solution for 9-1-1 data management to customers, including ILECs, CLECs and
wireless carriers. Licenses and implementation services include the licensing,
customization and installation of the Company's 9-1-1 software solutions.
Substantially all of the Company's customers are in the United States.
These segments are managed separately because the nature of and resources used
for each segment is unique. Data management services include ongoing data
management and monitoring of systems and other enhanced services. Under data
management services, the customer's data is transferred to the Company's systems
and the Company owns the systems used to manage the data. Under licenses and
implementation services, the customer performs data management and systems
monitoring activities. The customer also owns the hardware, licenses the
Company's software and maintains the data on its internal systems under this
segment.
Revenue and costs are segregated in the Statement of Operations for the two
reportable segments. The Company does not segregate assets between the segments
as it is impractical to do so.
Major Customers
Revenue from certain customers exceeded 10% of total revenue for the
respective year as follows: 27%, 25% and 21% in 1998; 30%, 29% and 22% in 1997
and 47% and 35% in 1996. Contracts with certain of these customers have a ten-
year duration and provide for fixed monthly fees based upon the number of
subscriber records managed and upon the services selected by the customer. All
of these customers are in the Company's data management services segment.
(11) LEGAL MATTERS
The Company is subject to various claims and business disputes in the ordinary
course of business. While the outcome of these matters cannot be predicted with
certainty, management anticipates that the ultimate outcome of the issues will
not have a material impact on the financial statements.
47
<PAGE>
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The Company's Directors and executive officers and their ages as of February 28,
1999 are as follows:
<TABLE>
<CAPTION>
Name Age Position
- ---------------------------- ------ ------------------------------------------
<S> <C> <C>
George K. Heinrichs......... 41 President, Chief Executive Officer and
Director
Nancy K. Hamilton........... 46 Chief Financial Officer
John G. Hill (1)............ 57 Director
Darrell A. Williams (1)(2).. 39 Director
David Kronfeld (2).......... 51 Director
</TABLE>
(1) Member of Compensation Committee
(2) Member of Audit Committee
George K. Heinrichs has been the President and a Director of the Company since
he cofounded the Company in 1979, and also has served as Chief Executive Officer
since February 1995. Prior to founding the Company, Mr. Heinrichs served in a
variety of public safety and criminal justice positions.
Nancy K. Hamilton has been the Chief Financial Officer and Senior Vice
President of the Company since December 1993. Prior to joining the Company, Ms.
Hamilton was Vice President and Chief Financial Officer of Fischer Imaging
Corp., a manufacturer of medical imaging systems, from January 1993 to November
1993. Prior to January 1993, Ms. Hamilton served in a variety of senior
management positions, including Chief Financial Officer, at NBI, Incorporated,
which at that time was a developer of hardware and software and a systems
integrator.
John G. Hill has been a Director of the Company since January 1990. Since
1989, Mr. Hill has been a general partner of Hill, Carman Ventures, a limited
partnership which is the general partner of The Hill Partnership III, a venture
capital fund and a stockholder of the Company. Since 1981, Mr. Hill has been the
General Partner of Hill Ventures. Mr. Hill currently serves as a director of
Genicom Corporation, a provider of midrange printer solutions, network
integration and multivendor services.
David Kronfeld has been a Director of the Company since March 1998 and
previously served as a Director of the Company from February 1992 until July
1996. Mr. Kronfeld has been a manager of JK&B Management L.L.C. since its
founding in October 1995. Since 1989, Mr. Kronfeld has been a general partner of
Boston Capital Ventures Limited Partnership, Boston Capital Ventures II Limited
Partnership, and Boston Capital Ventures III, L.P., all of which are venture
capital funds and stockholders of the Company, and a general partner of Boston
Capital Ventures, a venture capital fund.
Darrell A. Williams has been a Director of the Company since February 1998.
Mr. Williams is Vice President, Venture Capital in the Ameritech Development
Corporation, which he joined in January 1995. From 1992 to 1995, Mr. Williams
was Director, Investment Acquisitions and Divestitures of Ameritech Corporation.
Board Committees
The Company has a standing Audit Committee currently composed of Darrell A.
Williams and David Kronfeld. The Audit Committee reviews and supervises the
Company's financial controls, including selecting the Company's auditors,
reviewing the books and accounts of the Company, meeting with the officers of
the Company regarding the Company's financial controls, acting upon
recommendations of auditors, and taking such further action as the Committee
deems necessary to complete an audit of the books and accounts of the Company,
as well as other matters that may come before it or as directed by the Board of
Directors of the Company.
48
<PAGE>
The Company has a standing Compensation Committee currently composed of John
G. Hill and Darrell A. Williams. The Compensation Committee reviews and acts on
matters relating to compensation levels and benefits plans for the Company's
executive officers and key employees. The Compensation Committee is also
responsible for granting stock awards, stock options, stock appreciation rights
and other awards to be made under the Company's existing incentive compensation
plans.
ITEM 11. EXECUTIVE COMPENSATION
Executive Compensation
The following table sets forth the compensation earned during the 1998 fiscal
year for services rendered in all capacities to the Company and its subsidiaries
during such fiscal year by the Company's Chief Executive Officer and each of the
two other executive officers whose annual bonus and salary for such fiscal year
exceeded $100,000 (collectively, the "Named Officers").
Summary Compensation Table
<TABLE>
<CAPTION>
Annual Compensation
-----------------------------------
Name and Present Principal Position Salary Bonus
- ---------------------------------------------- ------------ ---------------------
<S> <C> <C>
George K. Heinrichs, President and Chief
Executive Officer............................ $233,333 $84,812 (1)
John J. Sims, Chief Operating Officer......... 233,333 65,965 (1) (2)
Nancy K. Hamilton, Chief Financial Officer.... 179,167 47,118 (1)
</TABLE>
(1) Bonuses were earned in 1998 and will be paid in 1999.
(2) Mr. Sims resigned effective February 26, 1999.
Aggregate Option Exercises in Last Fiscal Year and Fiscal Year-End Option Values
The following table sets forth information concerning option exercises and
option holdings for the 1998 fiscal year with respect to each of the Named
Officers.
<TABLE>
<CAPTION>
Shares Number of Securities
Acquired Value Underlying Value of Unexercised In-the
on Exercise Realized Unexercised Options at Money Options at
(#) ($) December 31, 1998 December 31, 1998
------------------------------------------------------------------------------------------------------
Name Exercisable Unexercisable Exercisable Unexercisable
- ---- --------------- -------------------- ---------------- -----------------
<S> <C> <C> <C> <C> <C> <C>
George K.
Heinrichs..... -- -- 262,009 74,290 $912,490 $44,364
John J. Sims
(1)........... -- -- 125,239 104,820 212,640 73,084
Nancy K.
Hamilton...... 15,000 $180,000 113,319 46,831 311,949 77,305
</TABLE>
(1) Mr. Sims resigned effective February 26, 1999.
Compensation Committee Interlocks and Insider Participation
The Compensation Committee of the Company's Board was formed in 1995, and the
current members of the Compensation Committee are John G. Hill and Darrell A.
Williams. Prior to April 1998, George K. Heinrichs and Mr. Hill were the members
of the Compensation Committee. Throughout the year ended December 31, 1998, Mr.
Heinrichs was an officer of the Company. No executive officer of the Company
serves as a member of the Board of Directors or Compensation Committee of any
entity that has one or more executive officers serving as a member of the
Company's Board of Directors or Compensation Committee.
Director Compensation
Directors currently are not compensated for serving on the Board of Directors.
The Company reimburses its directors for all reasonable and necessary travel and
other incidental expenses incurred in connection with their
49
<PAGE>
attendance at meetings of the Board of Directors. The Company has not previously
granted non-employee Board members options to purchase shares of Common Stock,
although the Company may grant options to its non-employee directors in the
future at the discretion of the Board. See "-- Benefit Plans -- 1998 Stock
Incentive Plan."
The Company has not previously granted non-employee Board members options to
purchase shares of Common Stock. However, under the Automatic Option Grant
Program, each individual who first becomes a non-employee Board member will
automatically be granted an option to purchase 15,000 shares of Common Stock on
the date such individual joins the Board, provided such individual has not been
in the prior employ of the Company. In addition, on the date of each Annual
Stockholders Meeting, each non-employee Board member who is to continue to serve
as a non-employee Board member will automatically be granted an option to
purchase 3,000 shares of Common Stock, provided such individual has served on
the Board for at least six months.
Benefit Plans
1998 Stock Incentive Plan
The Company's 1998 Stock Incentive Plan (the "1998 Plan") is intended to serve
as the successor equity incentive program to the Company's 1990 Stock Option
Plan, as amended (the "Predecessor Plan"). The 1998 Plan was adopted by the
Board and the stockholders on April 7, 1998 (the "Plan Effective Date").
A total of 2,928,872 shares of Common Stock have been authorized for issuance
under the 1998 Plan. The share reserve will automatically be increased on the
first trading day of each calendar year, beginning with the 1999 calendar year,
by an amount equal to 3% of the total number of shares of Common Stock
outstanding on the last trading day in December of the immediately preceding
calendar year, but in no event shall any such annual increase exceed 731,000
shares. To the extent any unvested shares of Common Stock issued under the
Predecessor Plan are repurchased by the Company after the date on which the
Common Stock is first registered under Section 12 of the Securities Exchange Act
of 1934, as amended (the "Exchange Act"), at the exercise price paid per share,
in connection with the holder's termination of service, those repurchased shares
will be added to the reserve of Common Stock available for issuance under the
1998 Plan, but in no event shall more than 476,776 shares be added to the
reserve from such repurchases. In no event may any one participant in the 1998
Plan receive option grants, separately exercisable stock appreciation rights or
direct stock issuances for more than 500,000 shares of Common Stock in the
aggregate per calendar year.
On the date on which the Common Stock was first registered under Section 12 of
the Exchange Act, outstanding options issued under the Predecessor Plan were
incorporated into the 1998 Plan. No further option grants will be made under the
Predecessor Plan. The incorporated options will continue to be governed by their
existing terms, unless the Plan Administrator elects to extend one or more
features of the 1998 Plan to those options. Except as otherwise noted below, the
incorporated options have substantially the same terms as will be in effect for
grants made under the Discretionary Option Grant Program of the 1998 Plan.
The 1998 Plan is divided into five separate components: (i) the Discretionary
Option Grant Program, under which eligible individuals in the Company's employ
or service (including officers, non-employee Board members and consultants) may,
in the Plan Administrator's discretion, be granted options to purchase shares of
Common Stock at an exercise price not less than their fair market value on the
grant date; (ii) the Stock Issuance Program, under which such individuals may,
in the Plan Administrator's discretion, be issued shares of Common Stock
directly, through the purchase of such shares at a price not less than their
fair market value at the time of issuance or as a bonus tied to the performance
of services; (iii) the Salary Investment Option Grant Program, which may, in the
Plan Administrator's discretion, be activated for one or more calendar years and
thereby allow executive officers and other highly compensated employees the
opportunity to invest a portion of their base salary in special below-market
stock option grants; (iv) the Automatic Option Grant Program, under which option
grants will automatically be made at periodic intervals to eligible non-employee
Board members to purchase shares of Common Stock at an exercise price equal to
their fair market value on the grant date; and (v) the Director Fee Option Grant
Program, which may, in the Plan Administrator's sole discretion, be activated
for one or more calendar years and thereby allows non-employee Board members the
opportunity to apply all or any portion of the annual retainer fee otherwise
payable to them in cash each year to the acquisition of special below-market
option grants. The Discretionary Option Grant, Stock Issuance Program and
Automatic Option Program are effective. The implementation date of the Salary
Investment Option Grant Program and the Director Fee Option Program will be
decided by the Compensation Committee.
The Discretionary Option Grant Program and the Stock Issuance Program will be
administered by the Compensation Committee. The Compensation Committee as Plan
Administrator will have complete discretion to determine which eligible
individuals are to receive option grants or stock issuances under those
programs, the time or
50
<PAGE>
times when such option grants or stock issuances are to be made, the number of
shares subject to each such grant or issuance, the status of any granted option
as either an incentive stock option or a non-statutory stock option under the
Federal tax laws, the vesting schedule to be in effect for the option grant or
stock issuance, and the maximum term for which any granted option is to remain
outstanding. The Compensation Committee will also have the exclusive authority
to select the executive officers and other highly compensated employees who may
participate in the Salary Investment Option Grant Program in the event that
program is activated for one or more calendar years, but neither the
Compensation Committee nor the Board will exercise any administrative discretion
with respect to option grants made under the Salary Investment Option Grant
Program or under the Automatic Option Grant or Director Fee Option Grant Program
for the non-employee Board members.
In the event the Plan Administrator elects to activate the Salary Investment
Option Grant Program for one or more calendar years, each executive officer and
other highly compensated employee of the Company selected for participation may
elect, prior to the start of the calendar year, to reduce his or her base salary
for that calendar year by a specified dollar amount not less than $10,000 nor
more than $50,000. If such election is approved by the Plan Administrator, the
individual will automatically be granted, on the first trading day in January of
the calendar year for which that salary reduction is to be in effect, a non-
statutory option to purchase that number of shares of Common Stock determined by
dividing the salary reduction amount by two-thirds of the fair market value per
share of Common Stock on the grant date. The option will be exercisable at a
price per share equal to one-third of the fair market value of the option shares
on the grant date. As a result, the total spread on the option shares at the
time of grant (the fair market value of the option shares on the grant date less
the aggregate exercise price payable for those shares) will be equal to the
amount of salary invested in that option. The option will vest in a series of 12
equal monthly installments over the calendar year for which the salary reduction
is to be in effect and will be subject to full and immediate vesting upon
certain changes in the ownership or control of the Company.
The Company has not previously granted non-employee Board members options to
purchase shares of Common Stock. However, under the Automatic Option Grant
Program, each individual who first becomes a non-employee Board member will
automatically be granted an option to purchase 15,000 shares of Common Stock on
the date such individual joins the Board, provided such individual has not been
in the prior employ of the Company. In addition, on the date of each Annual
Stockholders Meeting, each non-employee Board member who is to continue to serve
as a non-employee Board member will automatically be granted an option to
purchase 3,000 shares of Common Stock, provided such individual has served on
the Board for at least six months.
Each automatic grant for the non-employee Board members will have a term of 10
years, subject to earlier termination following the optionee's cessation of
Board service. Each automatic option will be immediately exercisable for all of
the option shares; however, any unvested shares purchased under the option will
be subject to repurchase by the Company at the exercise price paid per share
should the optionee cease Board service prior to vesting in those shares. The
shares subject to each initial 15,000 share automatic option grant will vest
over a four-year period, as follows: (i) 25% of the option shares upon the
optionee's completion of one year of Board service measured from the grant date
and (ii) the balance of the option shares in a series of 36 successive equal
monthly installments upon the optionee's completion of each additional month of
service measured from the first anniversary of the grant date. The shares
subject to each annual 3,000 share grant will vest upon the optionee's
completion of one year of Board service measured from the grant date. However,
the shares subject to each automatic option grant will immediately vest in full
upon certain changes in control or ownership of the Company or upon the
optionee's death or disability while a Board member.
Should the Director Fee Option Grant Program be activated in the future, each
non-employee Board member will have the opportunity to apply all or a portion of
the annual retainer fee otherwise payable in cash to the acquisition of a below-
market option grant. The option grant will automatically be made on the first
trading day in January in the calendar year for which the retainer fee would
otherwise be payable in cash. The option will have an exercise price per share
equal to one-third of the fair market value of the option shares on the grant
date, and the number of shares subject to the option will be determined by
dividing the amount of the retainer fee applied to the program by two-thirds of
the fair market value per share of Common Stock on the grant date. As a result,
the total spread on the option (the fair market value of the option shares on
the grant date less the aggregate exercise price payable for those shares) will
be equal to the portion of the retainer fee invested in that option. The option
will become exercisable for the option shares in a series of twelve (12) equal
monthly installments over the calendar year for which the election is to be in
effect. However, the option will become immediately exercisable for all the
option shares upon (i) certain changes in the ownership or control of the
Company or (ii) the death or disability of the optionee while serving as a Board
member.
The Board may amend or modify the 1998 Plan at any time, subject to any
required stockholder approval. The 1998 Plan will terminate on the earliest of
(i) April 30, 2008, (ii) the date on which all shares available for issuance
51
<PAGE>
under the 1998 Plan have been issued as fully-vested shares or (iii) the
termination of all outstanding options in connection with certain changes in
control or ownership of the Company.
1998 Employee Stock Purchase Plan
The Company's Employee Stock Purchase Plan (the "Purchase Plan") was adopted
by the Board of Directors in March 1998 and approved by the Company's
stockholders in April 1998. A total of 200,000 shares of Common Stock have been
reserved for issuance under the Purchase Plan. There is automatically added to
the Purchase Plan in March of each year (i) that number of shares needed to
restore the maximum aggregate shares available to 200,000 shares or (ii) a
lesser amount determined by the Board. The Purchase Plan, which is intended to
qualify under Section 423 of the Code, provides for two six-month offering
periods each year beginning on the first of January and the first of July,
respectively; however, the initial offering period began on March 1, 1998 and
continued through December 31, 1998. The Purchase Plan is administered by a
committee of at least two disinterested Directors appointed by the Board.
Employees (including officers and employee directors) of the Company are
eligible to participate if they are employed by the Company on a regular full
time or part time basis and if they are regularly scheduled to work more than 20
hours per week. The Purchase Plan permits eligible employees to purchase shares
of Common Stock through periodic payroll deductions at a price equal to the
lower of 85% of the fair market value of the Company's Common Stock at the
beginning or end of the offering period. Employees may end their participation
in the offering at any time during the offering period, and participation ends
automatically on termination of employment with the Company. The Board of
Directors has the power to amend or terminate the Purchase Plan as long as such
action does not adversely affect any outstanding rights to purchase stock
thereunder.
Limitations on Liability and Indemnification Matters
The Company's Amended and Restated Certificate of Incorporation eliminates,
subject to certain exceptions, directors' personal liability to the Company or
its stockholders for monetary damages for breaches of fiduciary duties. The
Amended and Restated Certificate of Incorporation does not, however, eliminate
or limit the personal liability of a Director for (i) any breach of the
Director's duty of loyalty to the Company or its stockholders, (ii) acts or
omissions not in good faith or which involve intentional misconduct or a knowing
violation of law, (iii) unlawful payments of dividends or unlawful stock
repurchases or redemptions as provided in Section 174 of the Delaware General
Corporation Law or (iv) any transaction from which the Director derived an
improper personal benefit.
The Company's Restated Bylaws, which became effective June 23, 1998, provide
that the Company shall indemnify its Directors and executive officers to the
fullest extent permitted under the Delaware General Corporation Law and may
indemnify its other officers, employees and other agents as set forth in the
Delaware General Corporation Law. In addition, the Company entered into
indemnification agreements (the "Indemnification Agreements") with each of its
Directors and executive officers, which became effective on June 23, 1998. The
indemnification agreements contain provisions that require the Company, among
other things, to indemnify its Directors and executive officers against certain
liabilities (other than liabilities arising from intentional or knowing and
culpable violations of law) that may arise by reason of their status or service
as Directors or executive officers of the Company or other entities to which
they provide service at the request of the Company and to advance expenses they
may incur as a result of any proceeding against them as to which they could be
indemnified. The Company believes that these provisions and agreements are
desirable to attract and retain qualified Directors and officers. The Company
has obtained an insurance policy covering Directors and officers for claims that
such Directors and officers may otherwise be required to pay or for which the
Company is required to indemnify them, subject to certain exclusions.
Employment Agreements and Compensation Plan
Nancy Hamilton is employed as the Company's Senior Vice President and Chief
Financial Officer pursuant to an Employment Agreement with the Company dated
February 9, 1999. Pursuant to the terms of the Employment Agreement, Ms.
Hamilton will serve as a full-time employee of the Company until either Ms.
Hamilton or the Company notifies the other party of its intent to terminate her
full-time employment. After the termination of her full-time employment, unless
she elects otherwise or is terminated for cause, Ms. Hamilton shall work as a
part-time employee of the Company for a period of twelve months, with a
continuation of her full-time salary and benefits. In addition, during her
full-time employment, Ms. Hamilton is eligible to participate in any bonus plan
approved by the Company's Board of Directors.
52
<PAGE>
Management Incentive Compensation Plan
In early 1998, the Compensation Committee of the Board of Directors approved a
Management Incentive Compensation Plan, under which the Named Officers were
eligible to receive bonus payments. At the beginning of the year, financial
objectives were established and approved by the Compensation Committee for each
participant in the program. A minimum performance level was required to be
achieved by the Company before any bonus was earned by a participant.
Thereafter, an established progression rewards higher levels of achievement with
greater bonus payments. Aggregate bonuses payable under the Management Incentive
Compensation Plan were limited to a pre-determined percentage of each
participant's salary. The Company exceeded the minimum performance levels of
the Management Incentive Compensation Plan in the first and second quarters of
1998, therefore the Named Officers will receive the bonus amounts specified in
the Summary Compensation Table above.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth certain information regarding the beneficial
ownership of the Company's Common Stock as of February 28, 1999, by (i) each
person who is known by the Company to beneficially own more than 5% of the
Company's Common Stock, (ii) each of the Company's Directors, (iii) each of the
Named Officers, and (iv) all current executive officers and Directors as a
group.
<TABLE>
<CAPTION>
Shares Percent
Beneficially of
Owned Class
------------ ---------
Name and Address of Beneficial Owner
- -------------------------------------------------------------
<S> <C> <C>
5% Stockholders, Directors, Named Officers and All Directors
and Executive Officers as a Group
The Hill Partnership III, 885 Arapahoe, Boulder, Colorado
80302 (2) 1,794,932 16.5%
John G. Hill (2) 1,794,932 16.5
Boston Capital Ventures Limited Partnership, 45 School
Street, Boston, Massachusetts 02109 (3) 1,807,658 16.0
David Kronfeld (3) 1,807,658 16.0
Ameritech Development Corporation, 30 S. Wacker Drive, 37th
Floor, Chicago, Illinois 60606 (4) 1,645,214 15.1
Darrell A. Williams (4) 1,645,214 15.1
George K. Heinrichs (5) 447,819 3.9
Nancy K. Hamilton (6) 121,331 1.1
John J. Sims (7) 137,690 1.2
All Directors and executive officers as a
group (6 persons) (8) 5,954,644 52.1
Other Stockholders with Greater than 5% Ownership
Joel M. Greenblatt, 100 Jericho Quadrangle, Suite 212,
Jericho, NY 11753 (9) 595,000 5.5
</TABLE>
(1) Except as otherwise indicated, the persons named in the table have sole
voting and investment power with respect to the shares of Common Stock
shown as beneficially owned by them, subject to community property laws
where applicable. Beneficial ownership as reported in the above table has
been determined in accordance with Rule 13d-3 under the Exchange Act,
based on information furnished by the persons listed, and represents the
number of shares of Common Stock for which a person, directly or
indirectly, through any contract, management, understanding, relationship
or otherwise, has or shares voting power, including the power to vote or
direct the voting of such shares, or investment power, including the power
to dispose or to direct the disposition of such shares, and includes
shares which may be acquired upon the exercise of options within 60 days
following February 28, 1999. Where an officer or director has resigned,
the number of shares which may be acquired is calculated as of the earlier
of the individual's effective resignation date or 60 days following
February 28, 1999. Shares that may be acquired upon the exercise of
options are not deemed outstanding for the purposes of computing the
percentage ownership of any other person. The address for Messrs.
Heinrichs, Sims, Hill, Williams and Kronfeld and Ms. Hamilton is c/o SCC
Communications Corp., 6285 Lookout Road, Boulder, Colorado 80301.
Percentage of ownership is based on 10,890,904 shares of Common Stock
outstanding as of February 28, 1999.
53
<PAGE>
(2) The general partner of the Hill Partnership III, L.P., is Hill Carman
Ventures, L.P. John G. Hill, a Director of the Company, and Carl D. Carman
are the general partners of Hill Carman Ventures, L.P., and have joint
voting and investment control over the shares held by the Hill Partnership
III, L.P. Mr. Hill and Mr. Carman disclaim beneficial ownership of such
shares except to the extent of their pecuniary interest in Hill Carman
Ventures, L.P.
(3) Includes 264,016 shares held by Boston Capital Ventures, Limited
Partnership, 264,016 shares held by Boston Capital Ventures II, Limited
Partnership, 1,219,626 shares held by Boston Capital Ventures III Limited
Partnership, 40,000 shares held by JK&B Capital Limited Partnership and
20,000 shares held by JK&B Capital II Limited Partnership. The general
partner of Boston Capital Ventures Limited Partnership is BC&V Limited
Partnership. The general partner of Boston Capital Ventures II Limited
Partnership is Boston Capital Partners II. The general partner of Boston
Capital Ventures III Limited Partnership is BD Partners Limited
Partnership. David Kronfeld, a Director of the Company, is a general
partner of certain of the entities associated with the Boston Capital
Ventures entities. The general partner of JK&B Capital Limited Partnership
and of JK&B Capital II Limited Partnership is JK&B Management LLC and Mr.
Kronfeld is the manager of JK&B Management LLC. Mr. Kronfeld disclaims
beneficial ownership of any of the shares owned by Boston Capital Ventures
Limited Partnership, Boston Capital Ventures II Limited Partnership,
Boston Capital Ventures III Limited Partnership, JK&B Capital Limited
Partnership and JK&B Capital II Limited Partnership, except to the extent
of his pecuniary interest in certain of such entities.
(4) Ameritech Development Corporation is a wholly-owned subsidiary of
Ameritech Corporation, a publicly traded company. Darrell A. Williams, a
Director of the Company, is a Vice President of Ameritech Development
Corporation. Ameritech Corporation, as the sole stockholder of Ameritech
Development Corporation, has voting and investment control over the shares
held by Ameritech Development Corporation. Mr. Williams disclaims
beneficial ownership of such shares.
(5) Includes options to purchase 273,528 shares of Common Stock, all of which
were immediately exercisable or exercisable within 60 days of February 28,
1998. Includes 1,539 shares held by Mr. Heinrichs' minor daughter and
1,539 shares held by Mr. Heinrichs' minor son. Mr. Heinrichs disclaims
beneficial ownership of his children's shares. Excludes options to
purchase 62,771 shares of Common Stock, none of which were exercisable
within 60 days of February 28, 1999.
(6) Includes options to purchase 121,331 shares of Common Stock, all of which
were immediately exercisable or exercisable within 60 days of February 28,
1999. Excludes options to purchase 38,819 shares of Common Stock, none of
which were exercisable within 60 days of February 28, 1999.
(7) Includes options to purchase 132,775 shares of Common Stock, all of which
were exercisable as of Mr. Sims effective resignation date of February 26,
1999. Excludes options to purchase 97,285 shares of Common Stock, none of
which were exercisable as of February 26, 1999.
(8) See Notes (2) through (7). Includes options to purchase 527,634 shares of
Common Stock, all of which were immediately exercisable or exercisable as
of the earlier of 60 days from February 28, 1999, or the resignation date
of the individual. Excludes options to purchase 198,874 shares of Common
Stock, none of which were exercisable as of such date.
(9) Based on a Schedule 13G dated October 2, 1998 and filed with the
Securities and Exchange Commission on October 14, 1998. Shares reported
for Joel M. Greenblatt represent shares beneficially owned by Gotham
Capital V, LLC, which may be deemed to be controlled by Mr. Greenblatt who
is the manager thereof.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
In connection with the Company's Series F Preferred Stock Financing on March
5, 1996, the Company and the holders of Convertible Preferred Stock entered into
a Fourth Amended and Restated Registration Rights Agreement (the "Registration
Rights Agreement"). Pursuant to the Registration Rights Agreement, shares of
Convertible Preferred Stock were converted into Common Stock in connection with
the Company's initial public offering of its Common Stock. Also pursuant to the
Registration Rights Agreement, the Company filed a registration statement under
the Securities Act in September 1998 to register all of the shares of Common
Stock covered under the Registration Rights Agreement at the Company's expense.
Ameritech Development Corp., which holds in the aggregate 15.1% of the
outstanding capital stock of the Company, The Hill Partnership III, L.P. (the
"Hill
54
<PAGE>
Partnership"), which holds in the aggregate 16.5% of the outstanding capital
stock of the, Boston Capital Ventures Limited Partnership and its affiliates,
which hold in the aggregate 16.0% of the outstanding capital stock of the
Company, were parties to the Registration Rights Agreement. John G. Hill, an
affiliate of The Hill Partnership, David Kronfeld, an affiliate of Boston
Capital Ventures Limited Partnership and its affiliates and Darrell A. Williams,
an affiliate of Ameritech Development Corp., are Directors of the Company.
The Company provides 9-1-1 OSS services pursuant to a 9-1-1 Services Agreement
dated as of August 31, 1994, as amended, between Ameritech Information Systems,
Inc. and the Company. Pursuant to a Master Lease dated as of March 11, 1996,
with Ameritech Credit Corporation, the Company also leases certain personal
property. Additionally, the Company is a party to a Consulting Agreement dated
October 27, 1997 with Ameritech Mobile Communications, Inc. pursuant to which
the Company performed a market survey regarding the provision of 9-1-1 service
to cellular telephone subscribers. Ameritech Information Systems, Inc.,
Ameritech Credit Corporation and Ameritech Mobile Communications, Inc. are
affiliates of Ameritech Development Corp. The Company received net proceeds of
approximately $6,735,000, $6,959,000 and $6,606,000 in 1998, 1997 and 1996,
respectively, pursuant to these agreements.
The Company believes that the terms of the transactions described above were
no less favorable to the Company than would have been obtained from an
unaffiliated third party. Any future transactions between the Company and any of
its officers, Directors or principal stockholders will be on terms no less
favorable to the Company than could be obtained from unaffiliated third parties
and will be approved by a majority of the independent and disinterested members
of the Board of Directors.
The Company entered into the Indemnification Agreements with its Directors and
executive officers, which were effective June 23, 1998. Subject to the
provisions of the Indemnification Agreements, the Company shall indemnify and
advance expenses to such Directors and executive officers in connection with
their involvement in any event or occurrence that arises in their capacity as,
or as a result of, their positions with the Company. See "Executive Compensation
- - Limitations on Liability and Indemnification Matters."
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES & REPORTS ON FORM 8-K
(1) Financial Statements
The financial statements filed as part of this report are listed on the
Index to Financial Statements on page 31.
(2) Financial Statement Schedules
All Financial Statement Schedules have been omitted because they are not
required, are not applicable or the information is included in the Financial
Statements or Notes thereto.
55
<PAGE>
(3) Exhibits
INDEX TO EXHIBITS
<TABLE>
<CAPTION>
Exhibit
Number Description
- ---------------- ----------------------------------------------------------------------------------
<S> <C>
3.1* -- Amended and Restated Certificate of Incorporation of the
Company
3.2* -- Restated Bylaws of the Company to be effective upon the
closing of the offering.
4.1* -- Form of Certificate for Common Stock.
4.2* -- Reference is made to Exhibits 3.1 and 3.2.
10.1* -- Fourth Amended and Restated Registration Rights Agreement, dated
March 5, 1996.
10.2* -- 1990 Stock Option Plan.
10.3* -- 1998 Stock Incentive Plan.
10.4* -- 1998 Employee Stock Purchase Plan, as amended.
10.5* -- Form of Directors' and Officers' Indemnification Agreement.
10.6*+ -- 9-1-1 Services Agreement between Ameritech Information Systems,
Inc. and SCC Communications Corp., signed August 31, 1994.
10.7*+ -- Agreement for Services between SCC Communications Corp. and U S
West Communications, Inc. dated December 28, 1995.
10.8*+ -- Services Agreement No. PR-9026-L between SCC Communications Corp.
and BellSouth Telecommunications, Inc. dated October 13, 1995.
10.9*+ -- Wireless E9-1-1 Agreement between SCC Communications Corp. and
Ameritech Mobile Communications, Inc. dated April 1998
10.10*+ -- Asset Purchase Agreement between SCC Communications Corp. and
Printrak International, Inc., dated July 18, 1997.
10.11* -- Amendment One to Asset Purchase Agreement between SCC
Communications Corp. and Printrak International, Inc.
10.12* -- Bank One Loan Agreement dated April 15, 1997, effective as of July
1, 1996.
10.13* -- Banc One Capital Partners and SCC Communications Corp. Senior
Subordinated Note and Warrant Purchase Agreement, dated November 20,
1997.
10.14* -- Banc One Senior Subordinated Note due November 30, 2003.
10.15* -- Banc One Warrant Certificate.
10.16* -- Banc One and SCC Communications Corp. Option Agreement, dated
November 20, 1997.
10.17* -- Banc One and SCC Communications Corp. Registration Rights
Agreement, dated November 20, 1997.
10.18* -- Co-Sale Agreement, dated November 20, 1997, between SCC
Communications Corp., George Heinrichs, John Sims, Nancy Hamilton,
The Hill Partnership III, Ameritech Development Corporation and
Boston Capital Ventures Limited Partnership and Banc One Capital
Partners.
10.19* -- Preemptive Rights Agreement between Banc One Capital Partners and
SCC Communications Corp.
10.20* -- Master Lease Agreement Between Ameritech Credit Corporation and SCC
Communications Corp., dated March 11, 1996.
10.21*+ -- Consulting Agreement Between SCC Communications Corp. and Ameritech
Mobile Communications, Inc. dated October 27, 1997.
10.22* -- Bank One Loan Change in Terms Agreement effective as of April 15,
1998.
10.23 -- Employment Agreement between Nancy Hamilton and SCC Communications Corp.
23.1 -- Consent of Arthur Andersen LLP, Independent Public Accountants.
27.1 -- Financial Data Schedule
</TABLE>
* Incorporated by reference to identically numbered exhibits included in the
Registrant's Registration Statement on Form S-1 (File No. 333-49767), as
amended.
+ Confidential treatment has been requested for a portion of these Exhibits.
(4) Reports on Form 8-K
None.
56
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, therunto duly authorized.
<TABLE>
<CAPTION>
SCC COMMUNICATIONS CORP.
<S> <C>
By: /s/ Nancy K. Hamilton
-----------------------------------------------------------
Nancy K. Hamilton
Chief Financial Officer and
Senior Vice President
March 30, 1999
</TABLE>
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the registrant and
in the capacities and on the dates indicated.
<TABLE>
<CAPTION>
Signature Title
- --------------------------------------------------------------- -------------------------------------
<S> <C>
/s/ George K. Heinrichs President, Chief Executive Officer
- ---------------------------------------------------------------
George K. Heinrichs and Director (Principal Executive
Officer)
/s/ Nancy K. Hamilton Chief Financial Officer and Senior
- ---------------------------------------------------------------
Nancy K. Hamilton Vice President (Principal Financial
and Accounting Officer)
/s/ John G. Hill Director
- ---------------------------------------------------------------
John G. Hill
/s/ Darrell A. Williams Director
- ---------------------------------------------------------------
Darrell A. Williams
/s/ David Kronfeld Director
- ---------------------------------------------------------------
David Kronfeld
</TABLE>
57
<PAGE>
EXHIBIT 10.23
EMPLOYMENT AGREEMENT
THIS EMPLOYMENT AGREEMENT (the "Agreement") is made and entered into as of
this 9th day of February, 1999, by and between SCC Communications Corp., a
Delaware corporation (the "Company") and Nancy K. Hamilton, an individual (the
"Executive").
RECITAL
-------
The Company desires to continue to employ Executive, and Executive desires
to continue her employment with the Company, both pursuant to the terms and
conditions set forth herein.
AGREEMENT
---------
NOW THEREFORE, in consideration of the premises and the mutual covenants
and agreements set forth herein, the Company and Executive, intending to be
legally bound, hereby agree as follows:
1. Employment. The Company hereby employs Executive as the Vice President
-----------
- - Finance (Chief Financial Officer) of the Company, reporting directly to the
Chief Executive Officer and the Board of Directors, and Executive accepts such
employment and agrees to devote substantially all her business time and efforts
and skills diligently and on such basis as shall be assigned to her by the
Company as provided herein in performing her duties hereunder for the benefit of
the Company.
2. Term and Termination. The term of Executive's employment hereunder
---------------------
shall be for a period commencing on the date of this Agreement and extending
until the Part-Time Termination Date, as hereafter defined.
2.1 Subject to Section 2.3, Executive's last day of full-time
employment with the Company will be the earlier to occur of (i) the date thirty
(30) days after receipt by the Company of notice from Executive of termination
of her full-time employment, or (ii) the date five (5) days after receipt by the
Executive of notice from the Company of termination of her full-time employment
(the "Full-Time Termination Date"). Until the Full-Time Termination Date, the
Executive will continue to perform her duties as a full-time employee of the
Company.
2.2 Subject to Section 2.3, after the Full-Time Termination Date and
until the date twelve (12) months after the Full-Time Termination Date (the
"Part-Time Termination Date," and the period from the Full-Time Termination Date
to the Part-Time Termination Date being the "Part-Time Employment Period"), the
Executive shall be employed on a part-time basis. During the Part-Time
Employment Period, she hereby agrees to use her best efforts to assist the
Company and to provide services to the Company as may be requested from time to
time by the Chief Executive Officer or the Board of Directors of the Company.
In addition, at the request of the Company, she agrees to testify in any legal
proceeding involving the Company. The Company will provide her with legal
counsel at its expense for the duration of
<PAGE>
any such litigation; however, she will be free to choose to be represented by
independent counsel in any such legal proceeding at her own expense. During the
Part-Time Employment Period, the Executive shall continue to receive: (i) the
salary she was receiving as of the Full-Time Termination Date, subject to the
Company's normal payroll practices, and (ii) medical and dental insurance and
other benefits she was receiving as of the Full-Time Termination Date, on
substantially the same terms and conditions.
2.3 Notwithstanding Sections 2.1 and 2.2 above, the Executive's
employment with the Company may be terminated at any time (i) by her, effective
immediately upon receipt of notice of such termination by her to the Company, or
(ii) by the Company for Cause (defined below), effective immediately upon
receipt of notice of such termination by the Company to her (such date of
receipt being the "Earlier Termination Date"). In the event the Executive's
employment is terminated pursuant to this Section 2.3, she shall be entitled to
compensation only up until the Earlier Termination Date. The Company's
termination of the Executive under this Section 2.3 for any of the following
reasons shall constitute a termination by the Company for Cause: (i) a material
breach by her of any of the terms of this Employment Agreement; (ii) any
intentional misconduct or fraud on her part in the performance of her duties as
an employee of the Company; and (iii) her conviction of, or her entering a plea
of guilty or no contest to, any felony or any business related malfeasance that
could materially impair the reputation of the Company.
2.4 Until the earlier of (i) the Part-Time Termination Date or (ii)
the Earlier Termination Date, any options to purchase common stock of the
Company held by the Executive not previously vested will continue to vest
according to the terms and conditions of the agreements under which such options
were granted. On the earlier to occur of (i) the Part-Time Termination Date or
(ii) the Earlier Termination Date, all options to purchase the Company's common
stock held by Executive and exercisable as of such date shall remain exercisable
until the earlier of (i) the date ninety (90) days after such date or (ii) the
date ten (10) years from the date such stock options were granted to her. Any
stock options held by Executive and not exercised within such time period shall
thereafter be deemed to have been forfeited and be of no further force or
effect. Executive acknowledges that, other than options to purchase 175,150
shares of the Company's common stock, she owns no other securities of the
Company, or options to purchase such securities. The Executive further
acknowledges that the exercise of her options will be subject to satisfaction of
any applicable income and employment taxes.
3. Position and Duties.
--------------------
3.1 Service with the Company. During the term of this Agreement,
Executive agrees to perform such duties and on such basis as shall be assigned
to her from time to time by the Chief Executive Officer and the Board of
Directors; such duties, however to be commensurate with Executive's position as
Chief Financial Officer of the Company.
3.2 No Conflicting Duties. During the term hereof up until the Full-
Time Termination Date, Executive shall not serve as an officer, director,
employee, consultant or advisor to any other business, unless such other service
is approved by the Board of Directors of the Company. Executive hereby confirms
that she is under no contractual commitments
<PAGE>
inconsistent with his obligations set forth in this Agreement, and agrees that
during the term of this Agreement she will not render or perform services, or
enter into any contract to do so, for any other corporation, firm, entity or
person which are inconsistent with the provisions of this Agreement.
4. Compensation.
-------------
4.1 Base Salary. As compensation for all services to be rendered
by Executive under this Agreement, the Company shall pay to Executive a base
annual salary of One Hundred Eighty-Five Thousand Dollars ($185,000) ("Base
Salary"), which shall be paid on a regular basis in accordance with the
Company's normal payroll procedures and policies. The amount of the Base Salary
shall be reviewed annually by the Board of Directors. Executive's performance,
the performance of the Company and such other factors as the Board of Directors
deem appropriate shall be considered in such review. Executive shall also
participate in any bonus plan as recommended by the Chief Executive Officer and
approved by the Board of Directors, up until the Full-Time Termination Date.
4.2 Participation in Benefit Plans. Executive shall be entitled to
participate in all employee benefit plans or programs generally available to
employees of the Company, to the extent that her position, title, tenure,
salary, age, health and other qualifications make her eligible to participate
therein. The Executive's participation in any such plan or program shall be
subject to the provisions, rules, and regulations thereof that are generally
applicable to all participants therein. Following the earlier of the (i) Part-
Time Termination Date and (ii) the Earlier Termination Date, the Executive shall
have the right to continue medical and dental coverage under the Consolidated
Omnibus Budget Reconciliation Act of 1985, as amended ("COBRA"). If she elects
to continue coverage under COBRA, such coverage shall be at her expense.
4.3 Expenses. In accordance with the Company's policies established
from time to time, the Company will pay or reimburse the Executive for all
reasonable and necessary out-of-pocket expenses incurred by her in the
performance of her duties under this Agreement.
4. Confidentiality. At all times in the future, the Executive will remain
----------------
bound by any SCC non-disclosure or confidentiality agreement to which she is a
party.
5. No Disparagement. The Executive agrees that, during and after her
-----------------
employment with the Company, she will not make any derogatory or disparaging
remarks about the Company, or its products, business practices, officers,
directors or employees at any time in the future. The officers and directors of
the Company also agree that they will not make any derogatory or disparaging
remarks about the Executive. Upon her request, verbal references regarding her
employment with the Company will be provided.
6. Full Consideration. The Executive agrees that she is not entitled to
------------------
any other payments or benefits except as provided in this Employment Agreement,
including upon any termination of her employment.
<PAGE>
7. Release. In consideration for receiving the payments and benefits
-------
described above, the Executive waives and releases and promises never to assert,
either during or after her employment with the Company, any claim or cause of
action, whether or not now known, against SCC or its predecessors, successors,
subsidiaries, officers, directors, agents, employees and assigns, with respect
to any matter arising out of or connected with her employment with the Company
or the termination of that employment, including without limitation, claims of
wrongful discharge, emotional distress, defamation, breach of contract, breach
of the covenant of good faith and fair dealing, any claims of discrimination
based on sex, race, national origin, or on any other basis under Title VII of
the Civil Rights Act of 1964, as amended, the Colorado Labor Code and Colorado
Anti-Discrimination Act, the Age Discrimination in Employment Act of 1967, and
all other laws and regulations relating to employment.
8. Governing Law. This agreement shall be governed by and construed and
--------------
enforced in accordance with the laws of the State of Colorado. The Company may
seek to enforce this Employment Agreement in any court of competent
jurisdiction, including the District Court in Denver, Colorado, to which the
Executive consents to personal jurisdiction. If the Company is required to
enforce this Employment Agreement, the Company will be entitled to recover from
the Executive its reasonable costs and attorneys' fees in seeking the
enforcement.
9. Entire Agreement. Except as set forth in Section 5, this Employment
-----------------
Agreement contains the entire understanding of the parties regarding its subject
matter, and supersedes all other agreements, either oral or in writing, between
the parties.
SCC COMMUNCATIONS CORP. ("Company") "Executive"
__________________________________ ___________________________________
George K. Heinrichs, President and Nancy K. Hamilton
Chief Executive Officer
<PAGE>
EXHIBIT 23.1
CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS
As independent public accountants, we hereby consent to the use of our report
and to all references to our Firm included in or made part of this Form 10-K and
to the incorporation by reference of our report included in this Form 10-K into
the Company's previously filed Registration Statement on Form S-8 (File No. 333-
63995).
ARTHUR ANDERSEN L.L.P.
Denver, Colorado
March 30, 1999
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> DEC-31-1998
<CASH> 10,266,000
<SECURITIES> 9,815,000
<RECEIVABLES> 4,870,000
<ALLOWANCES> 50,000
<INVENTORY> 0
<CURRENT-ASSETS> 26,391,000
<PP&E> 25,407,000
<DEPRECIATION> 11,056,000
<TOTAL-ASSETS> 45,095,000
<CURRENT-LIABILITIES> 8,713,000
<BONDS> 0
0
0
<COMMON> 10,000
<OTHER-SE> 33,581,000
<TOTAL-LIABILITY-AND-EQUITY> 45,095,000
<SALES> 0
<TOTAL-REVENUES> 34,449,000
<CGS> 0
<TOTAL-COSTS> 21,576,000
<OTHER-EXPENSES> 9,078,000
<LOSS-PROVISION> 34,000
<INTEREST-EXPENSE> 948,000
<INCOME-PRETAX> 3,501,000
<INCOME-TAX> (379,000)
<INCOME-CONTINUING> 3,880,000
<DISCONTINUED> 0
<EXTRAORDINARY> (909,000)
<CHANGES> 0
<NET-INCOME> 2,971,000
<EPS-PRIMARY> .39
<EPS-DILUTED> .29
</TABLE>
