<PAGE>
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
___________
FORM 10-K
(MARK ONE)
(X) ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934 (FEE REQUIRED)
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1996
OR
( ) TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934 (NO FEE REQUIRED) FOR THE TRANSITION PERIOD FROM ________ TO ________ .
COMMISSION FILE # 0-25526
___________
C-ATS SOFTWARE INC.
(Exact name of registrant as specified in its charter)
DELAWARE 77-0185283
(State of incorporation) (I.R.S. Employer
Identification Number)
___________
1870 EMBARCADERO ROAD
PALO ALTO, CALIFORNIA 94303
(415) 321-3000
(Address including zip code, and telephone number including area code of
principal executive offices)
___________
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT: None
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
Common Stock, $.001 Par Value
-----------------------------
(TITLE OF EACH 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 Regulation S-K is not contained in this form, and no disclosure will 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 as of
March 1, 1997 was approximately $21,000,000 (based upon the last sale price
for shares of the Registrants Common Stock as reported on the Nasdaq National
market). As of February 28, 1997 the number of shares of common stock of
the Registrant outstanding was 6,687,996.
DOCUMENTS INCORPORATED BY REFERENCE
The following documents are incorporated by reference into the parts of Form
10-K indicated: (1) C-ATS Software Inc.'s Annual Report to Stockholders for
the year ended December 31, 1996 for Parts I, II and IV; and (2) Proxy
Statement for Annual Meeting to be held May 20, 1997 for Part III.
<PAGE>
PART I
ITEM 1: BUSINESS
THIS ITEM CONTAINS CERTAIN FORWARD-LOOKING STATEMENTS WITHIN THE MEANING OF
SECTION 27A OF THE SECURITIES ACT OF 1933 AND SECTION 21E OF THE SECURITIES
EXCHANGE ACT OF 1934. THE COMPANY'S ACTUAL RESULTS COULD DIFFER MATERIALLY FROM
THE RESULTS ANTICIPATED IN THESE FORWARD-LOOKING STATEMENTS AS A RESULT OF
CERTAIN FACTORS SET FORTH IN "MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS" AND ELSEWHERE IN THIS REPORT.
A. BACKGROUND
Organizations face financial risks from changes in interest and foreign
exchange rates, changes in the commodity and equity markets, credit exposure
and liquidity. The risk exposure has increased with the globalization of the
world's economy and other factors. To help organizations manage these risks,
the financial industry has developed a variety of specialized financial
contracts, such as swaps, options, caps, floors, swaptions and futures,
collectively known as "derivative instruments." Interest rate swaps, for
example, allow a company to insure against unfavorable movements in interest
rates by exchanging variable interest rate exposure for a fixed interest
rate.
The need to manage financial risk has led to the development of software
products that serve the established market for derivatives risk management
and the markets for firm-wide risk management.
C-ATS Software Inc. (the "Company" or "C-ATS") is a supplier of
client/server software products for financial risk management. Since its
inception in 1986, the Company has provided software for derivatives risk
management. In late 1994, the Company introduced C-ATALYST, an enhanced
version of its product family which includes GLOBAL RISK MANAGER, a product
for portfolio risk management. In 1996, the Company acquired LOR/Geske Bock
Associates, Inc. ("LOR/Geske Bock"), a provider of integrated market and
credit risk management software, and introduced an enhanced version of its
CARMA product line. These products serve the established market for
derivatives risk management and the emerging market for firm-wide risk
management. At the end of 1996, the Company's products were licensed to more
than 70 clients at over 100 locations in 20 countries, including six of the
world's ten largest commercial banks and nine AAA-rated financial
institutions.
C-ATS' C-ATALYST product line is used in derivatives risk management to
provide "front office" software for structuring, pricing, trading and
simulating complex derivative instruments such as swaps, options, caps,
floors, swaptions and futures, and "back office" software for processing,
settlement, accounting and reporting. C-ATS' GLOBAL RISK MANAGER supports
risk management of individual portfolios by allowing users to value their
portfolios and to analyze the sensitivity of those portfolios to interest
rates, foreign exchange rates and other risks. The Company's clients use
these products on UNIX workstations and on personal computers.
C-ATS' CARMA product line is used to simulate the change in value of
financial instruments, including complex derivative instruments, and to
measure the firm-wide exposure to market and credit risk. In addition, the
software assists with the determination of capital requirements and
regulatory reporting of Value at Risk (VaR).
The Company typically licenses its software products to clients for
one-year renewable terms. C-ATS markets its products and services through its
direct sales and service organizations located in New York, Tokyo, London,
Geneva, Hong Kong and its headquarters in Palo Alto, California. Those
clients whose use of Company's products has been publicly disclosed include
Cassa di Risparmio di Torino, Credit Suisse, Dai-ichi Kangyo Bank, IMI Bank,
Kleinwort-Benson, Long-Term Capital Management, Merrill Lynch, Bank of
Tokyo-Mitsubishi and Tokai Bank, each of which represented more than $100,000
of annual contract value in 1996.
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B. PRODUCTS
C-ATALYST is a family of integrated application software products and
tools used for financial risk management. CARMA is an application used for
market and credit risk management. All of these products were either
introduced or enhanced in 1996.
The Company's clients use its products on UNIX workstations and on
personal computers running on Windows-TM- and Windows NT-TM- operating systems.
FICAD is used on the NEXTSTEP-TM- operating system to design new financial
instruments and applications. The Company licenses its products on a per
site basis, with the price per site varying based on the selection of
products licensed, the number of authorized users at each site, and the
number of licensed sites.
The Company's products, once installed, generally must be integrated
with the client's internal information systems. This integration can be
costly, time-consuming and require significant technical expertise,
particularly when multiple sites, a variety of internal systems or
international locations are involved.
The Company's products are summarized below in order of the date they
were first introduced:
<TABLE>
<CAPTION>
FIRM-WIDE RISK
DERIVATIVES MANAGEMENT
DATE DATE LAST RISK MARKET
INTRODUCED ENHANCED MANAGEMENT APPLICATIONS
---------- -------- ---------- ------------
<S> <C> <C> <C> <C>
CATALYST PRODUCTS
SwapWare Plus. . . . . . . . . . . 1986 1996 X X
Market Data. . . . . . . . . . . . 1987 1996 X X
Global Risk Manager. . . . . . . . 1989 1996 X X
Data Tools . . . . . . . . . . . . 1991 1996 X X
SQL Mirror . . . . . . . . . . . . 1991 1996 X X
C-ATS Link . . . . . . . . . . . . 1991 1996 X X
Shadow Audit . . . . . . . . . . . 1991 1996 X X
Operations Manager-Accounting. . . 1991 1996 X
Operations Manager-
Cash Flow Organizer. . . . . . . 1991 1996 X
Options-CapWare. . . . . . . . . . 1992 1996 X X
Options-Strike . . . . . . . . . . 1992 1996 X X
Futures and Bonds. . . . . . . . . 1992 1996 X X
VaR Simulator. . . . . . . . . . . 1996 1996 X X
CARMA PRODUCTS. . . . . . . . . . . 1993 1996 X
Carma Explorer . . . . . . . . . . 1996 1996 X
Carma Risk Engine. . . . . . . . . 1993 1996 X
Carma Connection . . . . . . . . . 1996 1996 X
FiCAD . . . . . . . . . . . . . . . 1995 1996 X X
</TABLE>
PRODUCTS FOR DERIVATIVES RISK MANAGEMENT
SWAPWARE PLUS. SWAPWARE PLUS prices and models a broad spectrum of
swaps, from the simplest interest rate swap to complex currency and commodity
swaps and highly sophisticated structures and basis swaps. Through its cash
flow architecture and six-level hierarchy for reset computations, SWAPWARE
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PLUS also models foreign exchange, debt and cash transactions, while
providing accurate portfolio revaluations and risk management support.
SWAPWARE was the Company's first product and is used by substantially all of
its clients.
MARKET DATA. MARKET DATA provides the market and pricing data for
C-ATALYST software applications and can be used with applications developed
with FICAD. MARKET DATA is a tool for inputing currency and interest rates
as well as bonds and futures prices, forward, equity and commodity prices,
swap spreads and money market rates needed to generate par, zero, synthetic
blended curves, and other price data. MARKET DATA contains a central archive
for international market prices and yields, multiple instrument support and a
historical database. In addition, MARKET DATA constructs open, flexible yield
curves which allow for user-definition.
DATA TOOLS. DATA TOOLS is a set of data import and export utilities,
including a real-time data feed, tools to generate reports and protect
information, and an audit trail to increase control and includes the
following modules: C-ATS Link, SQL Mirror, C-ATS-IQ Reports and Shadow Audit.
OPERATIONS MANAGER-ACCOUNTING. ACCOUNTING works with SWAPWARE PLUS,
OPTIONS, and FUTURES AND BONDS to generate profit and loss statements.
Accounting can also be used to automate payment processing, counterparty
notifications and regulatory reports.
OPERATIONS MANAGER-CASH FLOW ORGANIZER. CASH FLOW ORGANIZER works with
SWAPWARE PLUS, OPTIONS, and FUTURES AND BONDS to define complex quote, reset
and fixing structures, and calculate and process bulk resets, rate fixings
and rate reset notifications.
OPTIONS-CAPWARE. CAPWARE prices and models an extensive selection of
options, including fixed and variable rate caps, floors and forward rate
agreements (FRAs). CAPWARE utilizes the Black-Scholes options pricing models.
OPTIONS-STRIKE. STRIKE prices and models "swaptions" (options to
execute a swap) and bond options. STRIKE also supports receiver and payor
swaptions, swap cancellations and puts and calls on fixed-income securities.
STRIKE utilizes the Black-Scholes, Black-Commodity and Hull-White options
pricing models.
FUTURES AND BONDS. FUTURES AND BONDS prices and models an array of
futures contracts, as well as a broad range of government and corporate bonds
and Eurobonds across international markets. FUTURES AND BONDS employs bond
definition characteristics that combine a flexible modeling capacity with
coverage of most major bond markets.
FICAD. FICAD is an object-oriented Financial CAD system which uses
advanced visual programming techniques. FICAD enables users to design, model
and deploy new financial instrument that the user can logically define.
FICAD is analogous to the mechanical CAD products and electronic design
automation (EDA) products provided by independent software vendors for other
industries. With EDA, an engineer describes logic networks with graphic
symbols, and the software program automatically generates the layout for
semiconductor chips. FICAD enables users to link together various financial
objects to describe a new financial instrument, and FICAD automatically
creates the new application; there is no need to write traditional text-based
source code. As a result, the Company believes that new instruments can be
created more rapidly than is possible with conventional techniques. FICAD
allows the Company's clients to extend the functionality of the C-ATALYST
product line in advance of new releases. GLOBAL RISK MANAGER and FICAD, are
also used in derivatives risk management.
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PRODUCTS FOR FIRM-WIDE RISK MANAGEMENT
GLOBAL RISK MANAGER. GLOBAL RISK MANAGER can be used both for
derivatives risk management and for firm-wide risk management. GLOBAL RISK
MANAGER allows the user to link standard and custom financial instruments to
evaluate risk levels for a single transaction or an entire portfolio. In
addition to evaluating interest rate and foreign exchange risks, GLOBAL RISK
MANAGER also evaluates new types of risk defined by users. GLOBAL RISK
MANAGER utilizes mathematical and database analysis techniques, accurate
mark-to-market and hedging capabilities and risk scenario analysis. GLOBAL
RISK MANAGER permits users to define their sensitivity to interest rates,
foreign exchange rates, delta, gamma/convexity, theta, vega and duration.
GLOBAL RISK MANAGER also manages funds liquidity.
GLOBAL RISK MANAGER links to the various position-keeping systems that
the client uses for different portions of its portfolio. These may include
C-ATALYST products such as SWAPWARE PLUS or other systems developed
internally or licensed from third parties.
VAR SIMULATOR. THE VAR SIMULATOR generates multiple measures of risk
for diverse portfolios to address management and regulatory requirements.
Utilizing historical simulation methodology for value at risk, it segregates
diversified and undiversified risk and analyzes non-linear risk.
CARMA. CARMA simulates a financial institution's exposure to market and
credit risk using multiple methodologies. Through Monte Carlo simulation or
historical simulation, CARMA measures and reports the financial institution's
exposure to changes in market prices and counterparty defaults. The system
is designed to comply with the standards for measurement of exposure to
market risk promulgated by the Bank for International Settlements (BIS).
CARMA became part of the Company's product line through the acquisition of
LOR/Geske Bock in February 1996. The Company substantially enhanced CARMA
and released version 2.0 in December 1996.
C. CLIENTS, MARKETING, SALES AND SERVICE
The Company currently has more than 70 clients who license the Company's
products for use at over 100 locations in 20 countries. These clients operate
in a number of industries. They include more than 46 large commercial banks,
including 6 of the world's 10 largest banks, 13 major investment banks,
securities firms and fund managers, and 11 large industrial corporations and
insurance companies.
Those clients whose use of Company products has been publicly disclosed
include Cassa di Risparmio di Torino, Credit Suisse, Dai-ichi Kangyo Bank,
IMI Bank, Kleinwort-Benson, Long-Term Capital Management, Merrill Lynch,
Bank of Tokyo-Mitsubishi, and Tokai Bank, each of which represented more than
$100,000 of annual contract value in 1996. In 1996, 36% of the Company's
revenues were derived from clients in Japan, 18% from clients in the United
States and 19% from clients in the United Kingdom.
C-ATS employs a direct sales force and client services organization
located in New York, Tokyo, Hong Kong, London and Geneva. In support of its
sales force, the Company uses a variety of means to promote its software
products to potential clients, including advertising, articles in key
publications, direct mail, participation in major industry trade shows, and
seminars. Additionally, the Company is an associate
5
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member of the International Swaps and Derivatives Association. The Company
does not currently rely on value-added resellers or other third-party
distributors.
The Company's client services personnel provide pre-sale assistance in
applications engineering, product installation and client training, both on
the clients' premises and in classrooms, and provide post-sale service and
support in problem diagnosis. Product licenses also entitle clients to
receive updates and minor enhancements. The Company typically supports prior
versions of its products for a reasonable period to allow clients to upgrade
at the time they deem most convenient for their installation. The Company
also conducts periodic client satisfaction surveys.
The Company also provides certain professional services to clients on a
contract basis, including additional client training and assistance in the
generation of client-specific reports, database integration, and system
optimization. Although the Company does not pursue opportunities to perform
systems integration services for its clients, it has from time to time
agreed, and expects to continue to agree, to perform such projects for large
clients who may otherwise not license the Company's standard software
products.
The operations in Tokyo, London and Geneva are conducted by wholly-owned
subsidiaries incorporated in Japan, the United Kingdom and Switzerland,
respectively. The subsidiaries conduct sales representative activities under
the direction of the parent company. The subsidiaries also conduct some
client training and share responsibility with the parent for performing
certain other client service activities, although all software engineering is
performed by the parent company. All license agreements are entered into
between the parent company and the clients. All clients pay their license and
service fees directly to the parent company in U.S. dollars. All parent
company revenues are recognized as either domestic or export sales.
Subsidiary revenues consist solely of payments from the parent company for
services performed for the benefit of the parent company at a rate of cost
plus 10%.
D. TECHNOLOGY
VALUE AT RISK. VALUE AT RISK is an emerging industry standard for risk
management and regulatory reporting. Value at Risk represents the amount of
money a portfolio may lose in a given period of time at a specified
probability level. This amount varies based on the instruments in a
portfolio, changes in market prices and volatilities. A firm's Value at Risk
is calculated using estimates of likely price fluctuations of its portfolio.
The Company's products can be used to perform the simulations necessary to
support Value at Risk analysis. This calculation can be performed on a
departmental or firm-wide basis.
CASH FLOW ARCHITECTURE. In 1986, the Company introduced SWAPWARE, which
it believes was the first commercially available product that defined
financial instruments using cash flow architecture. The Company subsequently
enhanced its cash flow architecture by adding capability for six-level
hierarchical reset computations. This architecture can be used to calculate
the cash flows for a wide range of instruments across international markets,
and is fully integrated with the Company's products' pricing and risk
management functions.
COMPUTER TECHNOLOGIES. Relational and Object-Oriented Databases. The
C-ATALYST line of software applications read information from the C-ATS object
database and, in some cases, the Sybase relational database. In 1995, C-ATS
entered into agreement with Oracle Corporation to port C-ATALYST onto the Oracle
relational database.
6
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E. COMPETITION
The market for financial risk management software is intensely
competitive and is characterized by rapid technological change and frequent
introduction of new products and features. The Company competes generally on
the basis of product features and functions, product architecture, price, the
speed and accuracy of the product processing capability, client service, the
availability of sufficiently trained technical staff, and the vendor
financial stability. In order to maintain or improve its position in this
industry, the Company must continue to enhance its current products and
develop new products in a timely fashion. Because of the complexity of the
Company's products, from time to time development efforts have taken longer
than expected, causing delays in new products and enhancement releases, and
this may occur in the future. Any such delays could have a material adverse
effect on the Company's business, operating results or financial condition.
A major source of competition for the Company's products are
applications that are internally developed by the financial institutions
which are its potential clients. Many of these organizations have substantial
internal development resources with the capability to develop specific
products for their needs. Many of these organizations also value the ability
to control the source code for their software systems. The Company does not
typically make its source code available. The Company believes that its
products offer a number of advantages over internally developed alternatives,
including more rapid time-to-market, lower cost and more systematic and
complete reliability testing.
There are a significant number of independent commercial competitors for
the Company's products. Some of these competitors, including SunGard Data
Systems Inc., Infinity and ACT Group plc., are much larger than the Company
or have longer operating histories and significantly greater financial,
technical, sales and marketing and other resources, greater name recognition
and a larger installed client base.
Other competitors offer products that support more financial instruments
or have more features than the Company's products, some offer more
customization services, some offer source code and programming tools for
internal application development. Many of the Company's existing competitors
could in the future introduce new products with more features and lower
prices than the Company's product offerings. Furthermore, if the market for
financial risk management software products continues to grow, a number of
additional companies with significantly greater resources than the Company
could attempt to establish or increase their presence in this market by
acquiring or forming strategic alliances with competitors of the Company or
by developing and introducing products specifically designed for these
markets.
Despite this intensely competitive environment, the Company believes
that it competes favorably in its markets on the basis of product
functionality, price, performance characteristics, ease of product use, sales
and marketing expertise, financial stability, client support services and
corporate reputation.
F. PROPRIETARY RIGHTS
The Company relies on a combination of copyright, patent rights, trade
secret and trademark laws, license agreements and software security measures
to protect its proprietary technology and software products. The Company has
applied for a U.S. patent for its financial CAD technology. The Company's
patent application seeks protection for an object-oriented system for
creating, structuring, manipulating and evaluating financial instruments.
However, there can be no assurance that the patent will be granted.
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Despite these precautions, it may be possible for a third party to
independently develop the same or similar technology or otherwise obtain
access to the Company's proprietary technology. In addition, the Company does
not currently possess, and has not applied for, any foreign patents.
Moreover, the Company cannot be certain that others will not independently
develop substantially equivalent or superseding proprietary technology, or
that an equivalent product will not be marketed in competition with the
Company's products, thereby substantially reducing the value of the Company's
proprietary rights. There can be no assurance that any confidentiality
agreements between the Company and its employees will provide meaningful
protection for the Company's proprietary information in the event of any
unauthorized use or disclosure of such proprietary information. Although most
all of the Company's software product license agreements with its clients
protect the Company's proprietary information under the laws and jurisdiction
of the State of California where significant case law exists to protect such
information, the local laws of certain countries in which the Company's
products are licensed do not protect the Company's products and intellectual
property rights to the same extent. The Company believes that, due to the
rapid pace of innovation within the industry, factors such as the
technological and creative expertise of its personnel, the quality of its
products, the quality of its technical support and training courses, and the
frequency of its software product enhancements are more important to
establishing and maintaining a technology leadership position within the
industry than the various legal protections for its products and technology.
In January 1995, the Company received a letter claiming infringement of
trademark with regard to its use of the C-ATALYST name in the United Kingdom.
No further correspondence has been received since that date.
G. EMPLOYEES
As of December 31, 1996, the Company and its subsidiaries had a total of
103 employees, including 34 in product development, 53 in sales, marketing
and client services, and 16 in finance and administration. None of the
Company's employees are represented by a labor union. The Company has
experienced no work stoppages and believes that its employee relationships
are good.
ITEM 2 . PROPERTIES
C-ATS leases approximately 30,000 square feet of leased office space in
Palo Alto, California. This lease expires in April 2001. In addition, the
Company and its subsidiaries lease office space in New York, Los Angeles,
London, Geneva, Tokyo and Hong Kong. The Company believes that its current
and proposed facilities are adequate to meet its needs for the foreseeable
future. The Company believes that it can acquire additional space, if needed,
on acceptable terms.
ITEM 3 . LEGAL PROCEEDINGS
The Company is not a party to any material pending litigation.
ITEM 4 . SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The Company did not have any submissions of matters to a vote of
security holders during the fourth quarter of 1996.
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ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS
The Company's common stock has been traded in the Nasdaq National Market
under the symbol CATX since the Company's initial public offering on March
20, 1995. No public trading market in the Company's common stock existed
prior to fiscal 1995. Additional information is set forth under the caption
"Stock Trading Information" on page 32 of the Company's 1996 Annual Report to
Stockholders (the "Annual Report") and such information is hereby
incorporated herein by reference.
ITEM 6. SELECTED FINANCIAL DATA
This information is set forth under the caption "Selected Consolidated
Financial Data" in the Annual Report and such information is hereby incorporated
herein by reference.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
This information is set forth under the caption "Management's Discussion
and Analysis of Financial Condition and Results of Operations" on pages 3
through 16 of the Annual Report and such information is hereby incorporated
herein by reference.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The following financial statements of the Company and the auditors'
report appearing on pages 17 through 31 of the Annual Report are hereby
incorporated herein by reference.
- - Consolidated Statements of Operations for the years ended December 31,
1996, 1995, and 1994
- - Consolidated Balance Sheets as of December 31, 1996 and 1995
- - Consolidated Statements of Cash Flows for the years ended December 31,
1996, 1995, and 1994
- - Consolidated Statements of Stockholders' Equity for the years ended
December 31, 1996, 1995 and 1994
- - Notes to Consolidated Financial Statements
- - Report of Independent Public Accountants
- - Stock Trading Information
The Company's 1996 Annual Report, except for those portions which are
expressly incorporated by reference in this filing, is furnished for the
information of the Securities and Exchange Commission and is not to be deemed
as filed as part of this Report on Form 10-K.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
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PART III
ITEM 10. DIRECTORS AND EXECUTIVES OFFICERS OF THE REGISTRANT
Information required by this item relating to directors is contained in
the Company's Proxy Statement for its 1997 Annual Meeting of Stockholders
under the caption "Nominees for Director" and is hereby incorporated by
reference.
The executive officers of the Registrant are as follows:
NAME AGE POSITION
---- --- --------
Rod A. Beckstrom 36 Chief Executive Officer
and Chairman of the Board
David Gilbert 51 President and Chief
Operating Officer
G. Bradford Solso 40 Vice President of Finance
and Chief Financial
Officer
Robert L. Geske 52 Vice President of Research
and Development and
Director
Finn Christensen 33 Vice President of Marketing
Charles T. Marshall 52 Vice President of Corporate
Resources
Amos Barzilay 43 Vice President of Capital
Markets/Treasury
Dawnell Greene 40 Vice President of Risk
Management
Rod A. Beckstrom has served as Chief Executive Officer and Chairman of
the Board of the Company since founding the Company in 1985.
David Gilbert has served as President and Chief Operating Officer of the
Company since August 1996. From January 1996 to July 1996, he served as Vice
President of Risk Management of the Company. From 1988 to December 1995, he
served as the Senior Vice President of Logica, Inc., a financial services
Company.
G. Bradford Solso has served as Vice President of Finance and Chief
Financial Officer of the Company since December 1995. From March 1982 to
November 1995, he served as an officer and in various financial positions at
Visa International, Inc., a financial services company.
Robert L. Geske has served as Vice President of Research and Development
and director of the Company since February 1996. From 1986 to its acquisition
by the Company in February 1996, Mr. Geske served as Chairman of the Board
and Chief Executive Officer of LOR/Geske Bock Associates, Inc. Mr. Geske has
also served as Professor of Finance at the University of California at Los
Angeles since July 1977.
Finn Christensen has served as Vice President of Marketing since
February 1996. From March 1992 to January 1996, he served as Principal of
Risk Management and Derivatives Trading Systems at Fusion Systems Group,
Inc., a financial services company.
Charles T. Marshall has served as Vice President of Corporate Resources
of the Company since August 1994. From August 1989 to July 1994, he served as
Vice President of Administration and Chief Financial Officer of the Company.
Amos Barzilay has served as Vice President of Capital Markets/Treasury
since March 1996. From January 1994 to February 1996, he served as Director of
Industry Marketing at Informix Corporation, a database software company. From
April 1991 to December 1993, Mr. Barzilay served as Vice President of
Application at Syntelligence Systems, Inc., a financial services company.
Dawnell Greene was appointed to serve as Vice President of Risk
Management in March 1997. From 1985 to February 1997, she most recently
served as Vice President, Marketing and Product Services at Hogan Systems,
Inc., a financial services company.
ITEM 11. EXECUTIVE COMPENSATION
Information contained in the Company's Proxy Statement for its 1997
Annual Meeting of Stockholders under the caption "Executive Compensation" and
is hereby incorporated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Information contained in the Company's Proxy Statement for its 1997
Annual Meeting of Stockholders under the caption "Share Ownership of
Directors, Officers and Certain Beneficial Owners" is hereby incorporated
herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Information contained in the Company's Proxy Statement for its 1997
Annual Meeting of Stockholders under the caption "Certain Relationships and
Related Transactions" is hereby incorporated herein by reference.
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PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a). DOCUMENTS FILED AS PART OF THIS REPORT:
(1). Financial Statements:
The following financial statements of the Company included in Part II,
Item 8 of this Report on Form 10-K are hereby incorporated by reference from
its 1996 Annual Report to Stockholders, filed as Exhibit 13.l to this Report
on Form 10-K.
<TABLE>
<CAPTION>
Page(s) in 1996
Annual Report
---------------
<S> <C>
Report of Independent Public Accountants 18
Consolidated Balance Sheets 19
as of December 31, 1996 and 1995
Consolidated Statements of Operations for the 20
years ended December 31, 1996, 1995 and 1994
Consolidated Statements of Stockholders' Equity for 21
the years ended December 31, 1996, 1995 and 1994
Consolidated Statements of Cash Flows for the years 22
ended December 31, 1996, 1995 and 1994
Notes to Consolidated Financial Statements 23-33
Stock Trading Information 34
</TABLE>
(2). Financial Statement Schedules:
The following financial statement schedule of the Company for the
years ended December 31, 1996, 1995 and 1994 is filed as part of this report
and should be read in conjunction with the Consolidated Financial Statements
of the Company:
PAGE IN THIS
FORM 10-K
------------
Report of Independent Accountants on Financial
Statement Schedule S-1
Valuation and Qualifying Accounts S-2
All other financial statements and schedules not listed above are
omitted as the information is not required or is not material to require
submission of the schedule or because information is presented in the
consolidated financial statements or related notes.
11
<PAGE>
(3). Exhibits:
EXHIBIT
NUMBER EXHIBIT TITLE
------ -------------
3.1 Restated Certificate of Incorporation of
Registrant, as amended. (1)
3.2 Bylaws of Registrant. (1)
4.1 Form of Common Stock certificate. (1)
4.2 Amended Registration Rights Agreement dated
September 13, 1990 between Registrant and certain
investors named therein, as amended (1)
10.1 1988 Incentive Stock Plan, as amended, and forms
of Stock Option Agreement thereunder. (1)(4)
10.2 1995 Director Option Plan and form of option
agreement thereunder. (1)(4)
10.3 1995 Employee Stock Purchase Plan and forms of
subscription agreement and election
thereunder. (1)(4)
10.4 1995 Stock Plan, and forms of option and stock
purchase right agreements thereunder. (1)(4)
10.5 Form of Indemnification Agreement entered into
between Registrant and its directors and
officers. (1)
10.6 Registrant's 401(k) Plan. (1)(4)
10.7 Lease dated March 30, 1995 for facilities
located at 1870 Embarcadero Road, Palo Alto,
California. (2)
10.8 Agreement and Plan of Reorganization by and among
C-ATS Software, Inc., CATS Sub, Inc., and LOR/Geske
Bock Associates, Inc. dated January 30, 1996. (3)
11.1 Calculation of Earnings Per Share
13.1 1996 Annual Report to Shareholders
21.1 Subsidiaries of the Registrant
23.1 Consent of Independent Accountants
27.1 Financial Data Schedule
_________________
(1) Incorporated by reference to exhibits filed with the
Registrant's Registration Statement on Form S-1 (File
No. 33-89242) in the form declared effective on
March 20, 1995.
(2) Incorporated by reference to exhibits filed with the
Registrant's Annual Report on Form 10-K for the fiscal
year ended December 31, 1995.
(3) Incorporated by reference to exhibits filed with the
Registrant's Form 8-K filed on February 13, 1996, as
amended on April 10, 1996.
(4) Management contract or compensatory plan or
arrangement.
(b). REPORTS ON FORM 8-K:
No reports on Form 8-K were filed during the 4th quarter of fiscal 1996.
(c) EXHIBITS:
See Item 14(a)(3) above.
(d) FINANCIAL STATEMENT SCHEDULES:
See Item 14(a)(2) above.
12
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
and Exchange Act of 1934, the Registrant has duly caused this report to be
signed on its behalf by the undersigned, thereunto duly authorized, in the
City of Palo Alto, State of California, on this 28th day of March, 1997.
C-ATS SOFTWARE INC.
By: /s/ G. Bradford Solso
-------------------------------
VICE PRESIDENT, CHIEF FINANCIAL OFFICER
AND TREASURER (PRINCIPAL FINANCIAL AND
ACCOUNTING OFFICER)
Pursuant to the requirements of Section 13 or 15(d) of the Securities
and Exchange Act of 1934 this report has been signed by the following persons
in the capacities and on the dates indicated:
SIGNATURE TITLE DATE
--------- ----- ----
/s/ Rod A. Beckstrom Chief Executive Officer and March 27, 1997
- ----------------------
Rod A. Beckstrom Chairman of the Board (Principal
Executive Officer)
/s/ David Gilbert President and Chief Operating March 27, 1997
- ---------------------- Officer
David Gilbert
/s/ G. Bradford Solso Vice President, Chief Financial Officer March 27, 1997
- ---------------------- and Treasurer
G. Bradford Solso (Principal Financial and Accounting
Officer)
/s/ Mario M. Rosati Director and Secretary March 27, 1997
- ----------------------
Mario M. Rosati
/s/ Robert L. Geske Director and Officer March 27, 1997
- ----------------------
Robert L. Geske
/s/ Manuel Correia Director March 27, 1997
- ----------------------
Manuel Correia
/s/ Mark P. Kalkus Director March 27, 1997
- ----------------------
Mark P. Kalkus
/s/ Andrew S. Rachleff Director March 27, 1997
- ----------------------
Andrew S. Rachleff
/s/ William F. Sharpe Director March 27, 1997
- ---------------------
William F. Sharpe
13
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS ON SCHEDULE
We have audited, in accordance with generally accepted auditing
standards, the financial statements included in C-ATS Software Inc.'s annual
report to shareholders, incorporated by reference in this Form 10-K, and have
issued our report thereon dated January 20, 1997. Our audit was made for the
purpose of forming an opinion on the basic financial statements taken as a
whole. The schedule listed in the index above is the responsibility of the
Company's management and is presented for purposes of complying with the
Securities and Exchange Commission's rules and is not part of the basic
financial statements. This schedule has been subjected to the auditing
procedures applied in the audit of the basic financial statements and, in our
opinion, fairly states in all material respects the financial data required
to be set forth therein in relation to the basic financial statements taken
as a whole.
ARTHUR ANDERSEN LLP
San Jose, California
January 20, 1997
S-1
<PAGE>
SCHEDULE II
C-ATS SOFTWARE INC.
VALUATION AND QUALIFYING ACCOUNTS
(IN THOUSANDS)
<TABLE>
<CAPTION>
BALANCE AT ADDITIONS
BEGINNING OF CHARGED TO COSTS BALANCE AT
DESCRIPTION YEAR AND EXPENSES DEDUCTIONS END OF YEAR
- ----------- ------------ ---------------- ---------- -----------
<S> <C> <C> <C> <C>
Year ended December 31, 1994
Allowance for doubtful accounts... $ -- $100 $ -- $100
Year ended December 31, 1995
Allowance for doubtful accounts... $100 $ 32 $ -- $132
Year ended December 31, 1996
Allowance for doubtful accounts... $132 $ -- $ 32 $100
</TABLE>
S-2
<PAGE>
EXHIBIT 11.1
CALCULATION OF EARNING PER SHARE
In the calculation of earning per share for the years ended December 31,
1996 and 1995, weighted shares outstanding have been computed as follows:
For the Year Ended
December 31,
------------------------
1996 1995
--------- ---------
Weighted Average shares outstanding -
Shares outstanding from beginning of period 5,548,402 4,212,499
Sale of 19,007 shares of Common Stock
through Employee Stock Purchase Plan 26,483 --
Acquisition of LOR/GB with issuance of
578,651 shares on Common Stock on
February 13, 1996 509,086 --
Issuance of 1,300,000 shares of Common Stock
for initial public offering on March 20, 1995 -- 1,015,068
Weighted options outstanding(1) -- 621,175
Stock Options exercised during the period 144,003 213,544
--------- ---------
Weighted Average Common and Common equivalent
shares outstanding 6,527,974 6,062,288
(1) EXCLUDES ANTI-DILUTIVE COMMON SHARE EQUIVALENTS IN THE WEIGHTED
AVERAGE SHARES OUTSTANDING CALCULATION FOR 1996.
<PAGE>
EXHIBIT 13.1
C-ATS SOFTWARE, INC.
1996
ANNUAL REPORT
<PAGE>
SELECTED CONSOLIDATED FINANCIAL DATA
The statement of operations data set forth below for the years
ended December 31, 1994, 1995 and 1996 and the balance sheet data at December
31, 1995 and 1996, are derived from, and are qualified by reference to,
the audited financial statements and should be read in conjunction with
the Consolidated Financial Statements and the Notes to the Consolidated
Financial Statements ("Notes").
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-------------------------------------------
1992 1993 1994 1995 1996
---- ---- ---- ---- ----
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C> <C>
CONSOLIDATED STATEMENT OF OPERATIONS DATA:
License revenue $11,358 $14,103 $17,342 $20,359 $19,322
Service and other Revenue 25 200 1,120 1,939 823
------- ------- ------- ------- -------
Total revenues 11,383 14,303 18,462 22,298 20,145
------- ------- ------- ------- -------
Costs and expenses:
Cost of revenues 464 20 556 1,174 272
Research and development 2,261 2,452 3,117 3,582 6,166
Sales and marketing 5,878 6,965 8,551 10,273 11,084
General and administrative 1,658 1,958 2,533 2,838 2,617
In-process research and development of
acquired business -- -- -- -- 7,066
------- ------- ------- ------- -------
Total costs and expenses 10,261 11,395 14,757 17,867 27,205
------- ------- ------- ------- -------
Operating income (loss) 1,122 2,908 3,705 4,431 (7,060)
Interest income 218 174 269 931 863
------- ------- ------- ------- -------
Income (loss) before provision for income taxes 1,340 3,082 3,974 5,362 (6,197)
Provision (benefit) for income taxes (53) 1,602 1,391 1,877 0
------- ------- ------- ------- -------
Net income (loss) $ 1,393 $ 1,480 $ 2,583 $ 3,485 $(6,197)
------- ------- ------- ------- -------
------- ------- ------- ------- -------
Net income (loss) per share (1) $ .33 $ .34 $ .52 $ .57 $ (0.95)
------- ------- ------- ------- -------
------- ------- ------- ------- -------
Weighted average common shares outstanding (1) 4,250 4,416 4,942 6,062 6,528
------- ------- ------- ------- -------
------- ------- ------- ------- -------
DECEMBER 31,
-------------------------------------------
1992 1993 1994 1995 1996
---- ---- ---- ---- ----
(IN THOUSANDS)
CONSOLIDATED BALANCE SHEET DATA:
Cash, cash equivalents and short-term
investments $ 5,975 $ 8,585 $ 9.964 $26,701 $22,129
Working capital 8 997 3,920 21,564 19,846
Total assets 10,279 15,321 18,906 38,500 32,999
Total stockholders' equity 388 2,094 5,002 22,892 21,911
</TABLE>
(1) See Note 2 of Notes to Consolidated Financial Statements for an
explanation of the determination of the number of shares used in computing
per share amounts.
2
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
THIS REPORT CONTAINS CERTAIN FORWARD-LOOKING STATEMENTS WITHIN THE MEANING OF
SECTION 27A OF THE SECURITIES ACT OF 1933 AND SECTION 21E OF THE SECURITIES
EXCHANGE ACT OF 1934. THE COMPANY'S ACTUAL RESULTS COULD DIFFER MATERIALLY FROM
THE RESULTS ANTICIPATED IN THESE FORWARD-LOOKING STATEMENTS AS A RESULT OF
CERTAIN FACTORS SET FORTH IN "MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS" UNDER "FACTORS THAT MAY AFFECT FUTURE
RESULTS" AND ELSEWHERE IN THIS REPORT.
OVERVIEW
C-ATS Software Inc. (the "Company" or "C-ATS") was organized in 1988 as
a successor to a partnership formed in 1986. The Company's first product,
SWAPWARE-Registered Trademark-, was released in 1986. The Company has since
introduced additional products such as OPTIONS, FUTURES AND BONDS, MARKET
DATA, RISK MANAGER and OPERATIONS MANAGER. In late 1994, the Company
introduced C-ATALYST, an enhanced version of its product family which
includes GLOBAL RISK MANAGER, a product for firm-wide risk management, and
FICAD, a software tool for financial computer-aided design (CAD). These
products serve the established market for derivatives risk management and the
emerging market for firm-wide risk management. During February 1996, the
Company acquired the assets of LOR/Geske Bock Associates, Inc. ("LOR/Geske
Bock" or "LORGB") and released an enhanced version of CARMA, which extends
the Company's offerings for Firm-wide risk management applications. While the
Company was profitable on an annual basis from 1992 through 1995, R&D
expenses associated with the acquisition of LOR/Geske Bock resulted in a net
loss for 1996. The Company's revenues are derived primarily from annual
renewable license fees. International revenues accounted for 80%, 80% and 76%
of total revenues in 1996, 1995 and 1994, respectively.
RESULTS OF OPERATIONS
The following table sets forth for the periods indicated the percentage
of revenues represented by certain line items in the Company's Consolidated
Statements of Operations:
PERCENT OF TOTAL REVENUE
-------------------------
YEAR ENDED DECEMBER 31,
-------------------------
1994 1995 1996
---- ---- ----
Revenues:
License revenue 94% 91% 96%
Service and other revenue 6 9 4
--- --- ---
Total revenues 100 100 100
--- --- ---
Costs and expenses:
Cost of revenues 3 5 1
Research and development 17 16 31
Sales and marketing 46 46 55
General and administrative 14 13 13
In-process research and development
of acquired business -- -- 35
--- --- ---
Total costs and expenses 80 80 135
--- --- ---
Operating income (loss) 20 20 (35)
Interest income (loss) 2 4 4
--- --- ---
Income (loss) before provision for
income taxes 22 24 (31)
Provision for income taxes 8 8 0
--- --- ---
Net income (loss) 14% 16% (31%)
--- --- ---
--- --- ---
3
<PAGE>
LICENSE AND SERVICE REVENUE
Total revenues were $20.1 million in 1996, down from $22.3 million in
1995 and up from $18.5 million in 1994. The Company's revenues are derived
primarily from annual renewable license fees. These fees are non-refundable,
are typically payable in full at the beginning of the annual term and are
recognized pro-rata over the term of the license. The annual renewable
license fee includes rights to use the Company's software products, updates
to the products, if any, product installation, initial client training,
documentation and software support services for one year. In addition to its
annual licenses, the Company makes available its services on a contract basis
to assist clients with services beyond those included in its licenses. These
services typically include additional client training and assisting clients
in their generation of client-specific reports, data base integration and
system optimization. Although the Company does not pursue opportunities to
perform systems integration services for its clients, it has from time to
time performed or subcontracted such limited projects for large clients who
might not otherwise license the Company's standard software products.
Revenues from such projects are included in service and other revenues. They
are recognized when delivered or based upon the percentage-of-completion
method and are typically affected by the commencement or completion of
significant services projects.
License revenue decreased to $19.3 million in 1996 from $20.4 million
in 1995 and increased from $17.3 million in 1994. License revenue decreased
in 1996 primarily as a result of several large customers deciding not to
renew their license agreements in favor of utilizing in-house developed
programs. The increase in license revenue from 1994 to 1995 resulted from
increases in the number of customer sites where the Company's products are
licensed.
The Company licenses its products on a per site basis with the price
per site varying based upon the selection of products licensed, the number of
authorized users for each product at each site and the number of licensed
sites. As a result, total revenues in any year depend upon the number of new
and renewed annual licenses, the number of sites which use the Company's
products, product prices, and the number of users per site. The Company
renewed licenses for 82% of its existing clients in 1996, 94% of its existing
clients in 1995, and 87% of its existing clients in 1994. Average revenue per
site increased by 6% in 1996, 8% in 1995 and 6% in 1994. The Company believes
the average revenue per site has increased because the Company continues to
offer new products and enhancements to existing products, and because clients
have increased the number of users licensed per site, which factors have been
partially offset by declines in unit pricing per product. Although the
Company has historically been able to offset declines in unit pricing with
increases in functionality and new product introductions, there can be no
assurance that the Company will continue to introduce new products or
enhancements to existing products or that such products when introduced will
result in increased revenue per client site.
Service and other revenue decreased to $0.8 million in 1996 from
$1.9 million in 1995 and $1.1 million in 1994. Service and other revenue
decreased in 1996 primarily due to completion in late 1995 of a $1.5 million
systems integration project that was undertaken and subcontracted by the Company
in the middle of 1994. Service and other revenue increased in 1995 from 1994
primarily due to the initiation of this project and increases in the Company's
installed client base.
4
<PAGE>
COST OF REVENUES
Cost of revenues includes the cost of documentation materials, royalties
and the cost of subcontracted services. Costs of revenues in 1996 were $0.3
million versus $1.2 million in 1995, the decrease being attributable to
reductions in the cost of subcontracted services, referred to above, for a
systems integration project that was completed in the fourth quarter of 1995.
In 1994, the cost of revenues was principally comprised of the cost of
subcontracted services for a systems integration project and the cost of
documentation materials.
RESEARCH AND DEVELOPMENT
Most of the Company's research and development expenditures are
personnel related. Total expenditures for research and development increased
to $6.2 million in 1996 from $3.6 million in 1995 and $3.1 million in 1994.
The increase in research and development expenditures was due primarily to
increases in expenditures for continuation and completion of in-process
research ($2.0 million in 1996) and new product development. The increase in
1996 includes the addition of research staff from the acquired firm of
LOR/Geske Bock during the first quarter of 1996. In connection with the
LOR/Geske Bock acquisition, the Company recognized a one-time expense
amounting to $7.1 million of in-process research and development as the
technology had not yet reached technological feasibility and does not have
alternative future uses (See Note 3 of the Notes to the Consolidated
Financial Statements). The amounts of software development costs which could
have been capitalized were immaterial and, therefore, no software development
costs have been capitalized by the Company to date. The Company believes that
significant investment for product research and development is essential to
product and technical leadership, and the Company anticipates that it will
continue to commit substantial resources to research and development in the
future. The focus of this increased research and development spending will be
to expand the platforms upon which the Company's products operate; to
integrate the acquired products from LORGB; and to continue to enhance the
features and functionality of the company's products. The Company anticipates
that research and development expenditures will increase in dollar amount in
1997.
SALES AND MARKETING
Sales and marketing expenses consist principally of salary, commissions
and facilities related costs. Sales and marketing expenditures increased to
$11.1 million in 1996 from $10.3 million in 1995 and $8.6 million in 1994.
The increase in sales and marketing in 1996 was primarily due to increases
associated with the sales and marketing of the Company's expanded product
line. The increase in sales and marketing expenditures in 1995 was due to
increases in personnel, commissions, marketing communication programs and the
continued expansion of the Company's Hong Kong office. The Company
anticipates that sales and marketing expenses will continue to increase in
dollar amount in 1997 as it expands its sales and service organization and
promotes its recently introduced products.
GENERAL AND ADMINISTRATIVE
General and administrative expenses consist primarily of personnel costs
for finance, contract administration, human resources and general management,
as well as legal, accounting and auditing expenses. General and
administrative expenses decreased to $2.6 million in 1996 from
5
<PAGE>
$2.8 million in 1995 and $2.5 million in 1994. The decrease in general and
administrative expenses in 1996 was due to reduced costs of professional
services subsequent to becoming a publicly held company. The increase in
general and administrative expenses in 1995 was due to an increase in
personnel and costs associated with becoming a publicly held company. The
Company anticipates that general and administrative expenses will increase in
dollar amount in 1997.
INTEREST INCOME
Interest income is comprised primarily of interest earned on the
Company's excess cash and short-term investment balances, net of interest
expense. Interest income remained at $0.9 million in 1996 and 1995 and
increased from $0.3 million in 1994. Interest income increased in 1995 and
has remained the same in 1996 due to higher cash and short-term investment
balances which were generated from the initial public offering of stock on
March 20, 1995 and cash generated from operations.
PROVISION FOR INCOME TAXES
The Company accounts for income taxes in accordance with Statement of
Financial Accounting Standards No. 109, "Accounting for Income Taxes," which
provides for a liability approach under which deferred income taxes are
provided based upon enacted laws and rates applicable to the periods in which
the taxes become payable. The provision for income taxes was 0% of income
(loss) before the provision for income taxes in 1996 due to the Company's
operating loss position, 35% in 1995 and 35% in 1994. The provision for
income taxes takes into account the effects of foreign income taxes and state
income taxes, offset by utilization of research and development and foreign
tax credits.
As of December 31, 1996, the Company had $5.3 million of deferred tax
assets. Due to certain limitations of benefits related to tax carrybacks, the
current year operating loss position, and the uncertainty of future results,
the Company has provided a valuation allowance of $1.5 million related to the
deferred tax asset. Accrued taxes payable include reserves for tax
liabilities. The Company's tax returns for 1990 through 1993 are currently
being examined by the Internal Revenue Service. Such examination may result
in adjustments to previously filed tax returns. While the Company believes
that it has reserves sufficient to cover any actual tax liabilities as a
result of this examination, no assurance can be given that the reserves will
be adequate. See Note 6 of the Notes to Consolidated Financial Statements.
QUARTERLY INFORMATION
The following table presents unaudited quarterly financial information
for the eight quarters ended December 31, 1996. Management believes this
information has been prepared on the same basis as the audited Consolidated
Financial Statements and that all necessary adjustments (consisting only of
normal recurring adjustments) have been included to present fairly the
unaudited quarterly results. The following should be read in conjunction with
the audited Consolidated Financial Statements of the Company and the Notes
appearing elsewhere in these Consolidated Financial Statements. These
operating results are not necessarily indicative of results for any future
period.
6
<PAGE>
<TABLE>
<CAPTION>
THREE MONTHS ENDED
-----------------------------------------------------------------
MAR. 31, 1995 JUNE 30, 1995 SEPT. 30, 1995 DEC. 31,1995
-------------- -------------- -------------- --------------
(UNAUDITED) (UNAUDITED) (UNAUDITED) (UNAUDITED)
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C>
Revenues:
License revenue $ 4,754 $4,984 $5,114 $5,507
Service and other revenue 429 482 661 367
------- ------ ------ ------
Total revenues 5,183 5,466 5,775 5,874
------- ------ ------ ------
Costs and expenses:
Cost of revenues 289 190 422 273
Research and development 881 863 933 905
Sales and marketing 2,289 2,590 2,662 2,732
General and administrative 679 723 703 733
------- ------ ------ ------
Total costs and expenses 4,138 4,366 4,720 4,643
------- ------ ------ ------
Operating income 1,045 1,100 1,055 1,231
Interest income 86 315 273 257
------- ------ ------ ------
Income before provision for income taxes 1,131 1,415 1,328 1,488
Provision for income taxes 396 495 465 521
------- ------ ------ ------
Net income $ 735 $ 920 $ 863 $ 967
------- ------ ------ ------
------- ------ ------ ------
Net income per share $ 0.14 $ 0.14 $ 0.14 $ 0.15
------- ------ ------ ------
------- ------ ------ ------
Weighted average common shares
outstanding 5,229 6,418 6,387 6,279
------- ------ ------ ------
------- ------ ------ ------
MAR. 31, 1996 JUNE 30, 1996 SEPT. 30, 1996 DEC. 31,1996
-------------- -------------- -------------- --------------
(UNAUDITED) (UNAUDITED) (UNAUDITED) (UNAUDITED)
Revenues:
License revenue $ 5,386 $4,939 $4,599 $4,398
Service and other revenue 308 134 304 77
------- ------ ------ ------
Total revenues 5,694 5,073 4,903 4,475
------- ------ ------ ------
Costs and expenses:
Cost of revenues 54 74 78 66
Research and development 1,224 1,567 1,692 1,683
Sales and marketing 2,669 2,761 2,959 2,695
General and administrative 710 650 645 612
In-process research and development of
acquired business 7,066 -- -- --
------- ------ ------ ------
Total costs and expenses 11,723 5,052 5,374 5,056
------- ------ ------ ------
Operating income (loss) (6,029) 21 (471) (581)
Interest income 231 240 198 194
------- ------ ------ ------
Income (loss) before provision for taxes (5,798) 261 (273) (387)
Provision (benefit) for income taxes 469 97 (101) (465)
------- ------ ------ ------
Net income (loss) $(6,267) $ 164 $ (172) $ 78
------- ------ ------ ------
------- ------ ------ ------
Net income (loss) per share $ (1.00) $ 0.02 $(0.03) $ 0.01
------- ------ ------ ------
------- ------ ------ ------
Weighted average common shares
outstanding 6,260 6,797 6,623 6,971
------- ------ ------ ------
------- ------ ------ ------
</TABLE>
7
<PAGE>
<TABLE>
<CAPTION>
THREE MONTHS ENDED
-----------------------------------------------------------------
MAR. 31, 1995 JUNE 30, 1995 SEPT. 30, 1995 DEC. 31,1995
-------------- -------------- -------------- --------------
<S> <C> <C> <C> <C>
AS A PERCENTAGE OF TOTAL REVENUES:
Revenues:
License revenue 92% 91% 89% 94%
Service and other revenue 8 9 11 6
------- ------ ------ ------
Total revenues 100 100 100 100
------- ------ ------ ------
Costs and expenses:
Cost of revenues 6 4 7 5
Research and development 17 16 16 15
Sales and marketing 44 47 47 47
General and administrative 13 13 12 12
------- ------ ------ ------
Total costs and expenses 80 80 82 79
------- ------ ------ ------
Operating income 20 20 18 21
Interest income 2 6 5 4
------- ------ ------ ------
Income before provision for income taxes 22 26 23 25
Provision for income taxes 8 9 8 9
------- ------ ------ ------
Net income 14% 17% 15% 16%
------- ------ ------ ------
------- ------ ------ ------
MAR. 31, 1996 JUNE 30, 1996 SEPT. 30, 1996 DEC. 31, 1996
-------------- ------- ------- -------
AS A PERCENTAGE OF TOTAL REVENUES:
Revenues:
License revenue 94% 97% 94% 98%
Service and other revenue 6 3 6 2
------- ------ ------ ------
Total revenues 100 100 100 100
------- ------ ------ ------
Costs and expenses:
Cost of revenues 1 1 2 1
Research and development 22 31 35 38
Sales and marketing 47 55 60 60
General and administrative 12 13 13 14
In-process research and development of
acquired business 124 -- -- --
------- ------ ------ ------
Total costs and expenses 206 100 110 113
------- ------ ------ ------
Operating income (loss) (106) 0 (10) (13)
Interest income 4 5 4 4
------- ------ ------ ------
Income (loss) before provision for taxes (102) 5 (6) (9)
Provision (benefit) for income taxes 8 2 (2) (11)
------- ------ ------ ------
Net income (loss) (110%) 3% (4%) 2%
------- ------ ------ ------
------- ------ ------ ------
</TABLE>
The Company's license revenue declined on a quarterly basis throughout
1996 as the Company had several large customers who chose not to renew annual
licenses in favor of utilizing systems developed in-house. The Company's
practice is to recognize revenue from its annually renewable license fees
pro-rata over the license term. Therefore the revenue impact from adding new
customers is reflected over several quarters following sales consummation.
Service and other revenue is recognized when delivered or using the
percentage-of-completion method and is typically affected by the commencement
or completion of significant services projects. Service and other revenue was
higher in 1995 due to a systems integration project undertaken for a client
that was completed in the last quarter of 1995.
Cost of revenues has been relatively minor with the exception that the
four quarters of 1995 reflect the cost of subcontracting the systems
integration project referred to above. This project
8
<PAGE>
was completed in the fourth quarter of 1995. The Company has generally
increased operating expenses to support higher revenue levels and product
development efforts. Research and development costs were higher in each
quarter of 1996 as compared to 1995 due to increases in staffing and the
integration of Research and Development personnel from the acquisition of
LOR/Geske Bock. Sales and marketing costs were higher in each quarter of 1996
as compared to 1995 due to increases in staffing, commissions, marketing
communications programs and the continued expansion of the Company's Hong
Kong sales and service offices. General and administrative costs were lower
on a dollar basis in each subsequent quarter of 1996 as compared to 1995 due
to efficiencies in utilizing professional service providers, but higher on a
percentage basis due to lower revenues in each quarter.
Although the Company has increased its installed base in terms of number
of clients and maintained its number of client sites, there can be no
assurance that the Company will continue to be able to renew its existing
client base or expand the number of clients or client sites where the
Company's products are licensed. A number of factors affect a client's
decision to license or continue to license the Company's products. These
factors include the status of a client's internal systems development
programs, competitiveness of the Company's current product offerings,
pricing, and level of satisfaction with the Company's sales, service and
support staff. From time to time in the past, the Company has experienced
delays in developing and introducing new products, which has slowed the rate
of growth. There can be no assurance that similar delays may not occur in the
future. The Company's expense levels are based, in part, on expectations of
future revenues. If revenues do not meet expectations, operating results
could be adversely affected. Net income may be disproportionately affected by
a reduction in revenues because only a small portion of the Company's
expenses varies with revenues.
LIQUIDITY AND CAPITAL RESOURCES
The Company has funded its operations to date through cash flow from
operations and its initial public offering of stock effective March 20, 1995.
As of December 31, 1996, the Company had $22.1 million in cash, cash
equivalents and short-term investments, and no long-term debt. Short-term
investments consist principally of auction market preferred stock and
tax-preferred securities.
Net cash utilized by operating activities totaled $0.4 million in 1996,
while $3.1 million and $1.6 million was provided by operating activities in
1995 and 1994, respectively. Net cash of $2.9 million was provided by
investing activities in 1996, whereas investing activities used net cash of
$21.0 million in 1995 and $1.8 million in 1994. The Company's investments in
short-term investments decreased by $7.4 million in 1996, whereas they
increased by $20.2 million in 1995 and $1.3 million in 1994. The Company
purchased $0.7 million of property and equipment in 1996, $0.7 million in
1995 and $0.6 million in 1994. The Company has no other significant capital
commitments and currently anticipates that normal additions and replacements
to property and equipment for 1997 will be approximately $0.8 million.
On February 13, 1996, C-ATS Sub, Inc. (a wholly owned subsidiary of the
Company), merged with LOR/Geske Bock Associates, Inc. (LORGB), a California
Corporation, pursuant to an "Agreement and Plan of Reorganization" dated
January 30, 1996. LORGB designs, develops, and markets integrated,
organization-wide market and credit risk management software systems. As a
result of the merger, LORGB, Inc. ceased to exist while C-ATS Sub continued
as the surviving corporation. The transaction was accounted for as a
"purchase" and accordingly,
9
<PAGE>
the operating results of the acquired business have been included in the
consolidated statement of operations from the date of the acquisition.
At the consummation of the merger, the outstanding LORGB common stock
was exchanged for an aggregate of approximately 578,651 shares of the
Company's common stock (the stock price was valued at $7.00 as of the merger
date) and approximately $3,294,000 in cash. In addition, the Company assumed
all options to purchase LORGB capital stock outstanding at the effective time
of the merger. Additionally, the Company assumed options representing the
right to purchase approximately 167,000 shares of the Company's common stock.
Historically, more client licenses are generally due for renewal in the
second and fourth quarters of each year than in the first and third quarters.
Because of the Company's pro-rata revenue recognition policy, this pattern
has not had a significant impact on quarterly revenues. However, this pattern
has and will likely continue to impact the timing of cash flows and the
Company's cash and accounts receivable balances. Any decline or delay in
contract renewals could have a material adverse effect on the Company's cash
balances.
Financing activities including the issuance of stock during the
Company's initial public offering on March 20, 1995 provided cash of $14.3
million. The Company believes that the net proceeds from the initial public
offering, together with available funds, and the cash flow expected to be
generated from operations will be adequate to meet the Company's anticipated
working capital and capital expenditure requirements for at least the next
twelve months.
FACTORS THAT MAY AFFECT FUTURE RESULTS
The Company's business, financial condition and results of operations
can be impacted by a number of factors including without limitation the
following factors.
CONTINUED DEPENDENCE ON DERIVATIVES RISK MANAGEMENT PRODUCT
C-ATS has derived substantially all of its revenues from the sale of
software products and services for derivatives risk management, and its
future growth is critically dependent on increased revenues from products for
this use. The target clients for the Company's products include large banks
and financial institutions, many of whom rely on internally developed
derivative risk management systems. Their acceptance of the Company's
products depends, among other things, on the products' functionality and
performance characteristics, the ability of these clients to achieve cost
savings by using third party software, the development time and cost of
internally developed software, the willingness of these institutions to rely
on third party software for mission critical financial applications, and
their assessment of C-ATS' financial resources as well as its technical,
managerial, service and support capabilities. The Company has generally found
that the costs of switching to a new derivatives risk management system are
so substantial that clients will generally not change systems unless they
perceive a significant deficiency with their existing system.
A number of factors could adversely affect market acceptance of the
Company's products for derivatives risk management applications. First,
although the Company's products include software applications for a number of
widely traded derivatives, such as swaps, options, swaptions and futures,
they do not include software applications for many other derivative
instruments. Although applications for these derivatives can be developed
using FiCAD or may be included in the Company's future products, the absence
of applications for specific derivatives may
10
<PAGE>
reduce market acceptance of the Company's products. Second, some financial
institutions may require a higher level of product customization and
technical support than is customarily provided by C_ATS. To the extent these
clients cannot obtain this support from C-ATS or third party service
organizations, they may be reluctant to use the Company's products. Finally,
C-ATALYST has a long sales cycle that can adversely affect sales and increase
marketing costs. As a result of these and other factors, there can be no
assurance that C-ATALYST will achieve significant market acceptance.
EARLY STAGE OF DEVELOPMENT OF MARKET FOR FIRM-WIDE RISK MANAGEMENT; NO
ASSURANCE OF MARKET ACCEPTANCE OF FIRM-WIDE RISK MANAGEMENT PRODUCTS
The market for firm-wide risk management software products is in an
early stage of development. Although many financial institutions and
organizations are exploring firm-wide risk management, C-ATS believes that
only a small number of firms have actually implemented firm-wide risk
management systems. A number of factors will determine when and if a
significant market for firm-wide risk management software products develops,
including regulatory actions, client education and awareness of the need for
firm-wide risk management and the availability of commercially accepted
firm-wide risk management systems. Even if a significant market develops,
there can be no assurance that the Company's products will achieve commercial
acceptance.
First, there can be no assurance that the Company's approach to
firm-wide risk management will be accepted in the marketplace. Although
several companies are using prior versions of the Company's products for
site-wide or firm-wide risk management, the newest version of CARMA was
released for commercial sales in December 1996. This product is a substantial
enhancement of the product obtained in the acquisition of LOR/Geske Bock,
designed for firm-wide market and credit risk management. While financial
institutions are potentially subject to regulatory guidelines to implement a
firm-wide market risk management system, there can be no assurance that the
Company's products will achieve substantial acceptance in the marketplace.
Second, although the Company's products facilitates firm-wide risk
management, the process of creating a firm-wide risk management system can be
extremely complex and in most cases requires substantial additional software
engineering in order to connect the many independent systems in place at most
institutions and to link these systems to the Company's products. The cost of
such a process is likely to far exceed the cost of licensing the Company's
products. There is no assurance that a significant number of institutions
will be willing to undertake such a large project or to incur such costs.
Third, many institutions implementing firm-wide risk management will require
substantial outside assistance in software engineering. The Company intends
primarily to provide standard products and to rely on third parties to
provide such assistance. Revenues from firm-wide risk management products
will be limited if such third-party support is not readily available. Fourth,
the development of sophisticated firm-wide risk management systems will
depend on the availability of extensive price and risk data which the client
must provide for portfolios not managed with the Company's products. Lack of
access to such data may restrict an institution's ability to perform
firm-wide risk management.
Finally, many of the factors that affect market acceptance of the
Company's products for derivatives risk management, such as the decision to
develop software internally or rely on third-party software, also will affect
market acceptance of the Company's products for firm-wide risk management.
See "Factors That May Affect Future Results-Continued Dependence on
Derivatives Risk Management Products." Failure of a significant market for
firm-wide risk management products to develop or, if it does, failure of the
11
<PAGE>
Company's products to achieve broad market acceptance could have a material
adverse affect on the Company's business, operating results and financial
condition.
LIMITED SUPPORT, TRAINING AND CUSTOMIZATION
Some financial institutions may require a higher level of product
customization and technical support and training than the Company customarily
provides or can provide. The Company intends primarily to rely on third
parties to provide such customization and support. Additionally, the Company
has limited resources to devote to training. To the extent financial
institutions cannot obtain desired levels of customization, support and
training, they may be reluctant to use the Company's products, which could
slow market acceptance of the Company's products. This could impede the
Company's growth and could have a material adverse effect on the Company's
business, operating results and financial condition.
POTENTIAL FLUCTUATIONS IN QUARTERLY RESULTS
The Company's quarterly operating results may fluctuate substantially as
a result of a variety of factors including the volume and timing of license
renewals by existing clients, license agreements with new clients, the timing
and market acceptance of new products or technological advances by the
Company or its competitors, price levels, and unexpected expenses. The
Company's expense levels are based, in part, on expectations of future
revenues. If revenues in a particular quarter do not meet expectations,
operating results could be adversely affected. The Company expects that its
operating results will fluctuate in the future as a result of these and other
factors. Additionally, the Company has accrued a reserve for tax liabilities
in connection with an Internal Revenue Service examination. There can be no
assurance that such reserve will be adequate to cover any liabilities. See
Note 6 of the Notes to Consolidated Financial Statements. Results of past
quarters should not be relied on as an indication of future results.
DEPENDENCE ON RENEWABLE LICENSES; SIGNIFICANT POTENTIAL PRICE COMPETITION
The Company's revenues are derived primarily from annual renewable
license fees. These fees are non-refundable, typically paid in full at the
beginning of the annual term and recognized as revenue pro-rata over the term
of license. In 1996, 82% of the Company's existing licenses were renewed.
Although the Company has been successful to date in negotiating renewable
licenses rather than perpetual licenses, the Company may encounter resistance
to renewable licenses in the future. In such event, the Company's business
model may cause it to decline market opportunities. A significant decline in
the percentage of clients who renew their license or the failure of the
Company to continue to enter into renewable licenses would have a material
adverse effect on the business, operating results and financial condition of
the Company.
Because the software industry is intensely competitive, software
products have often experienced price erosion. As is typical in the industry,
the Company's fixed costs as a percentage of revenues are high, and
significant price erosion could have a material adverse effect on the
Company's business, operating results and financial condition. Although to
date any price decline in unit prices of the Company's products has been
offset by the introduction of new or enhanced products, there can be no
assurance that significant price erosion will not occur in the future.
12
<PAGE>
DEPENDENCE ON INTERNATIONAL OPERATIONS AND SALES
Clients outside the United States accounted for approximately 80%, 80%
and 76% of the Company's revenues in 1996, 1995 and 1994, respectively. The
Company anticipates that its revenues for the next several years will also
substantially derive from international sales. The Company markets and
licenses its products outside the United States through its international
branch offices and subsidiaries. The Company has offices in Tokyo, London,
Hong Kong and Geneva as well as the United States, and the Company has
licensed clients in 19 countries. International sales and operations may be
limited or disrupted by the imposition of government controls, export license
requirements, political instability, trade restrictions, changes in tariffs
and exchange rates, difficulties in staffing, coordinating communications,
managing international operations and other factors. The Company prices its
products in U.S. dollars, but it incurs expenses in local currencies for its
overseas operations.
The Company attempts to reduce its exposure to exchange rate
fluctuations by purchasing foreign currencies every three to six months in
amounts equal to the operating expenses estimated to be payable in such
currencies during the next six to twelve months. However, no assurance can be
given that this strategy will be sufficient to offset any dramatic declines
in the value of the U.S. dollar. Regulatory compliance requirements differ
among foreign countries and are also different from those established in the
United States, and any inability to obtain necessary foreign regulatory
approvals on a timely basis could have an adverse effect on the Company's
international sales, and thereby on its business, financial condition and
results of operations. Additionally, the Company's business, financial
condition and international operating results may be adversely affected by
fluctuations in currency exchange rates as well as increases in duty rates,
difficulties in obtaining export licenses, ability to maintain or increase
prices and competition.
DEPENDENCE ON KEY PERSONNEL; SUBSTANTIAL EXECUTIVE COMPENSATION
The Company's success depends to a significant extent upon the
contributions of its executive officers, and key sales, marketing, technical
service and engineering personnel. None of the Company's personnel are
subject to a noncompetition agreement or other long-term employment contract
with the Company. Further, in order to attract and retain its executive
officers, the Company has in the past paid to its executive officers
substantial compensation and bonuses. In addition, the Company's future
success will depend significantly on its continuing ability to attract and
retain highly qualified technical, sales and marketing personnel. Because the
Company's business requires that many of these personnel have specialized
knowledge of advanced computer programming and financial theory, and because
the pool of such qualified personnel is extremely limited, competition for
such personnel is intense, particularly among the Company's clients who have
substantially greater financial resources than the Company. Failure to
attract and retain such personnel could have a material adverse affect on the
Company's business, operating results and financial condition.
NEW MANAGEMENT RESPONSIBILITIES; GROWTH
Many of the Company's executive officers have joined the Company in the
last twelve months. Although each of the new executives brings significant
prior experience to the Company, some are new to the Company's specific
business segment. In addition, future growth will require increased
personnel, expanded information systems and additional financial and
administrative control procedures, particularly because the Company has
significant international
13
<PAGE>
operations. There can be no assurance that the Company would be able to
attract and retain additional qualified personnel or successfully manage
expanding operations, including an increasing number of client relationships
and geographically dispersed locations or maintain adequate managerial,
financial and operating systems and controls.
DEPENDENCE ON DIRECT SALES FORCE; ABSENCE OF INDIRECT SALES CHANNELS.
C-ATS currently distributes its products exclusively through its direct
sales force. As is typical of many companies, the Company has experienced
turnover of its sales force in the past, and there can be no assurance that
the Company will be able to attract and retain adequate sales and marketing
personnel. Moreover, there can be no assurance that the Company will be able
to adequately address its markets without establishing indirect distribution
channels such as distributors, value-added resellers and system integrators.
Although the Company may seek to add indirect distribution channels in the
future, there can be no assurance that the Company will establish and
maintain such indirect distribution channels, or if it seeks to do so, that
such distribution channels, if established, will provide effective sales and
marketing support for the Company. Failure to increase the Company's direct
sales force or establish effective indirect sales channels could have a
material adverse effect on the Company's business, operating results or
financial condition.
DEPENDENCE ON FINANCIAL INDUSTRY; CHANGE IN DERIVATIVES MARKET AND REGULATORY
ENVIRONMENT
Substantially all of the Company's current clients are domestic and
international financial institutions. An economic downturn in the commercial
and investment banking industries or in the level of derivatives trading
could have a material adverse effect on the Company's business, operating
results and financial condition. Any adverse change in the derivatives market
affecting demand for the Company's products, whether by regulation,
consolidation within the financial industry, negative publicity or otherwise,
could have a material adverse effect on the Company's business, operating
results and financial condition.
Derivative instruments have been involved in a number of well-publicized
financial losses, including those involving Barings Bank and Orange County of
California. Such losses have led to increasing governmental scrutiny and
potential regulation of derivatives markets generally. Current legislative
and regulatory measures reportedly being considered include additional
reporting requirements pertaining to the current values of and risks
associated with derivatives positions, and regulation of the mathematical
models used to measure such values and risks. The Company believes that
regulations which impose requirements of increased management controls or
increased reporting may increase the demand for the Company's products.
However, some legislators have questioned whether certain types of
derivatives trading should be prohibited. Prohibitions on trading activities
could reduce the size of the Company's markets.
COMPETITION
The market for financial risk management software is intensely
competitive and is characterized by rapid technological change and frequent
introduction of new products and features. The Company competes generally on
the basis of product features and functions, product architecture, price, the
speed and accuracy of the product processing capability, client service, the
availability of sufficiently trained technical staff, and the vendor
financial stability. In order to maintain or improve its position in this
industry, the Company must continue to enhance its current
14
<PAGE>
products and develop new products in a timely fashion. There can be no
assurance that the Company will succeed in this effort.
A major source of competition for the Company's products are
applications that are internally developed by the financial institutions
which are its potential clients, as well as institutions that are current
clients. Even those financial institutions, including the Company's clients,
that use the Company's products or other third-party software for some
applications usually use internally developed software for the same or
related applications. Many of these organizations have substantial internal
development resources with the capability to develop specific products for
their needs. Many of these organizations also value the ability to control
the source code for their software systems. The Company does not typically
make its source code available. There can be no assurance that the Company
will successfully market its products to these organizations.
There are a significant number of independent commercial competitors for
the Company's products. Some of these competitors, including SunGard Data
Systems Inc., Infinity, Inc., and ACT Group plc., are larger than the Company
and have longer operating histories and significantly greater financial,
technical, sales and marketing and other resources, greater name recognition
and a larger installed client base.
TECHNOLOGICAL CHANGE
The financial risk management software industry is characterized by
rapid technological advances, changes in client requirements and preferences,
and frequent new product introductions and enhancements. Historically, the
Company has released product enhancements at intervals of one to three years.
The Company's future success will depend, in significant part, upon its
ability to enhance its current products and to develop and market new
products on a timely basis that keep pace with technological developments,
respond to evolving client requirements and achieve market acceptance. In
particular, the Company believes it must continue to respond quickly to
users' needs for additional functionality and to advances in hardware and
software platforms. Any failure by the Company to anticipate or respond
adequately to technological developments and client requirements, or any
significant delays or excessive costs in product development or introduction,
could have a material adverse effect on the Company's operating results and
financial condition. Because of the complexity of the Company's products,
from time to time development efforts have taken longer than expected,
causing delays in the release of new products and product enhancements, and
this may occur again in the future. Any such delays could have a material
adverse effect on the Company's business, operating results or financial
condition. There can be no assurance that the Company will be successful in
developing and marketing new products or product enhancements on a timely
basis or that the Company will not experience significant delays or excessive
costs in the future that could have a material adverse effect on the
Company's operating results and financial condition.
Because the Company has limited resources, the Company must restrict its
product development efforts and its porting efforts to a relatively small
number of products and operating platforms. There can be no assurance that
these efforts will be successful or, even if they are successful, that any
resulting products or operating platforms will achieve market acceptance.
Additionally, the Company offers standardized products designed for use
worldwide. These products do not include general ledger systems or certain
other product features tailored for specific regional markets or industry
segments. The failure to include these features may adversely affect market
acceptance of the Company's products. Furthermore, there can be no assurance
that the cost of
15
<PAGE>
research and development efforts required to keep pace with technological
changes will not have an adverse effect on the Company's business, operating
results or financial condition.
New software products often contain undetected defects, or "bugs," that
can adversely affect the performance of the product or otherwise disrupt a
user's operations. If the Company's products contain material defects, client
acceptance of such products could be adversely affected. Further, the Company
could be subject to liability claims (for which it may not carry adequate
insurance) that could have a material adverse effect on the Company's
operating results and financial condition.
LIMITED INTELLECTUAL PROPERTY PROTECTION
The Company's ability to compete effectively depends in large part on
its ability to develop and maintain proprietary aspects of its technology.
The Company relies on a combination of trade secret, copyright and trademark
law, nondisclosure agreements and various measures including physical and
logical access controls, to protect its proprietary rights in its software
products. Despite these precautions it may be possible for unauthorized third
parties to copy aspects of the Company's products or to obtain and use
information that the Company regards as proprietary. Moreover, the laws of
some foreign countries do not protect the Company's proprietary rights in its
products to the same extent as do the laws of the United States. In addition,
some aspects of the Company's products are not subject to intellectual
property protection.
There can be no assurance that others may not independently develop the
same or similar technology or otherwise obtain access to the Company's
proprietary technology. In addition, the Company cannot be certain that
others will not independently develop substantially equivalent or superseding
proprietary technology, or that an equivalent product will not be marketed in
competition with the Company's products, thereby substantially reducing the
value of the Company's proprietary rights. There can be no assurance that any
confidentiality agreements between the Company and its employees will provide
adequate protection for the Company's proprietary information in the event of
any unauthorized use or disclosure of such proprietary information.
While the Company is not currently engaged in any intellectual property
litigation or proceedings, there can be no assurance that the Company will
not become involved in such proceedings. An adverse outcome in litigation or
similar adversarial proceedings could subject the Company to significant
liabilities to third parties, require disputed rights to be licensed from
others or require the Company to cease the marketing or use of certain
products, any of which could have a material adverse effect on the Company's
business, financial condition and results of operations. The Company may be
required to obtain licenses to patents or proprietary rights of others, and
there can be no assurance that any licenses required under any patents or
proprietary rights would be made available on terms acceptable to the
Company, if at all. In January 1995, the Company received a letter claiming
infringement of trademark with regard to its use of the C-ATALYST name in the
United Kingdom; however, although the Company has not received any further
correspondence on the matter and does not believe that the outcome of the
claim will have a material adverse effect on its business, there can be no
assurance as to how the matter will be resolved.
16
<PAGE>
FUTURE ACQUISITIONS
Future acquisitions by the Company may result in potentially dilutive
issuances of equity securities, the incurrence of additional debt and
amortization expenses related to goodwill and other intangible assets, which
could adversely affect the Company's profitability. For example, the Company
acquired LOR/Geske Bock Associates, Inc. on February 13, 1996. In addition,
acquisitions involve numerous risks, including difficulties in the
assimilation of the operations, products and personnel of the acquired
company, the diversion of management's attention from other business
concerns, risks of entering markets in which the Company has little or no
direct prior experience, and the potential loss of key employees of the
acquired company. The Company has, from time to time, engaged in discussions
with a number of parties to acquire products complementary to its existing
products, and may in the future pursue acquisitions of complementary
products, technologies or businesses. While there are currently no
commitments or agreements with respect to any acquisition, in the event that
such an acquisition does occur, there can be no assurance as to the effect
thereof on the Company's business, operating results or financial condition.
17
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
TO C-ATS SOFTWARE INC.:
We have audited the accompanying consolidated balance sheets of C-ATS
Software Inc. (a California corporation) and subsidiaries as of December 31,
1996 and 1995, and the related consolidated statements of operations,
shareholders' equity and cash flows for each of the three years in the period
ended December 31, 1996. These consolidated financial statements are the
responsibility of the Company's management. Our responsibility is to express
an opinion on these consolidated 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 consolidated financial statements referred to above
present fairly, in all material respects, the financial position of C-ATS
Software Inc. and subsidiaries as of December 31, 1996 and 1995, and the
results of their operations and their cash flows for each of the three years
in the period ended December 31, 1996 in conformity with generally accepted
accounting principles.
ARTHUR ANDERSEN LLP
San Jose, California
January 20, 1997
18
<PAGE>
C-ATS SOFTWARE INC.
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
DECEMBER 31,
-------------------
ASSETS 1996 1995
------- -------
CURRENT ASSETS:
Cash and cash equivalents.................... $ 7,041 $ 4,199
Short-term investments....................... 15,088 22,502
Accounts receivable, net of allowance
for doubtful accounts of $100 and $132
in 1996 and 1995, respectively............. 4,558 7,153
Prepaid expenses............................. 457 430
Deferred income taxes........................ 3,790 2,888
------- -------
Total current assets...................... 30,934 37,172
------- -------
PROPERTY AND EQUIPMENT:
Equipment.................................... 2,754 2,472
Leasehold improvements....................... 134 306
Furniture and fixtures....................... 457 470
------- -------
3,345 3,248
Less- Accumulated depreciation and amortization (2,367) (2,293)
------- -------
Net property and equipment.................. 978 955
Purchased software, at cost..................... 1,464 376
Accumulated amortization.................. (660) (321)
------- -------
Net purchased software.................... 804 55
OTHER ASSETS.................................... 283 318
------- -------
$32,999 $38,500
------- -------
------- -------
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable............................. $ 573 $ 1,093
Accrued liabilities.......................... 720 1,159
Accrued compensation......................... 1,217 1,019
Accrued taxes payable........................ 37 1,058
Deferred revenue............................. 8,541 11,279
------- -------
Total current liabilities................. 11,088 15,608
------- -------
COMMITMENTS (see Note 4)
SHAREHOLDERS' EQUITY:
Preferred stock, 5,000,000 shares authorized,
no par value............................... -- --
Common stock, $.001 par value
Authorized 40,000,000 shares
Outstanding 6,639,587 shares in 1996
and 5,868,402 shares in 1995........... 7 6
Additional paid-in capital.................. 22,758 18,205
Cumulative translation adjustment........... 398 319
Retained earnings (deficit)................. (1,252) 4,362
------- -------
Total shareholders' equity............... 21,911 22,892
------- -------
$32,999 $38,500
------- -------
------- -------
THE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS ARE AN INTEGRAL PART
OF THESE CONSOLIDATED BALANCE SHEETS.
19
<PAGE>
C-ATS SOFTWARE INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
------------------------------
1996 1995 1994
-------- -------- --------
<S> <C> <C> <C>
REVENUES:
License revenue....................... $ 19,322 $ 20,359 $ 17,342
Service and other revenue............. 823 1,939 1,120
-------- -------- --------
Total revenues........................ 20,145 22,298 18,462
-------- -------- --------
COSTS AND EXPENSES:
Cost of revenues...................... 272 1,174 556
Research and development.............. 6,166 3,582 3,117
Sales and marketing................... 11,084 10,273 8,551
General and administrative............ 2,617 2,838 2,533
In-Process research and development of
acquired business................... 7,066 -- --
-------- -------- --------
Total costs and expenses............ 27,205 17,867 14,757
-------- -------- --------
Operating income (loss)............. (7,060) 4,431 3,705
INTEREST INCOME......................... 863 931 269
-------- -------- --------
INCOME (LOSS) BEFORE PROVISION FOR
INCOME TAXES.......................... (6,197) 5,362 3,974
PROVISION FOR INCOME TAXES.............. 0 1,877 1,391
-------- -------- --------
NET INCOME (LOSS)....................... $ (6,197) $ 3,485 $ 2,583
-------- -------- --------
-------- -------- --------
NET INCOME (LOSS) PER SHARE............. $ (0.95) $ 0.57 $ 0.52
-------- -------- --------
-------- -------- --------
WEIGHTED AVERAGE COMMON AND COMMON
EQUIVALENT SHARES OUTSTANDING (1)..... 6,528 6,062 4,942
-------- -------- --------
-------- -------- --------
</TABLE>
(1) EXCLUDES ANTI-DILUTIVE COMMON SHARE EQUIVALENTS IN THE WEIGHTED AVERAGE
SHARES OUTSTANDING CALCULATION FOR 1996.
THE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS ARE AN INTEGRAL PART
OF THESE CONSOLIDATED STATEMENTS.
20
<PAGE>
C-ATS SOFTWARE, INC.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
FOR THE THREE YEARS ENDED DECEMBER 31, 1996
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
NOTE
COMMON COMMON ADDITIONAL RECEIVABLE RETAINED
STOCK STOCK PAID-IN FROM SALE OF EARNINGS
SHARES AMOUNT CAPITAL COMMON STOCK (DEFICIT) TOTAL
---------- ------- -------- ------------ --------- --------
<S> <C> <C> <C> <C> <C> <C>
BALANCE, DECEMBER 31, 1993.............. 4,025,000 $ 4 $ 3,803 $ (22) $(1,706) $ 2,094
Exercise of stock options for cash at
$.10 to $5.00 per share............... 187,499 -- 96 -- -- 96
Repayment of note receivable from sale
of common stock ...................... -- -- -- 22 -- 22
Foreign currency translation
adjustment............................ -- -- -- -- -- 207
Net income.............................. -- -- -- -- 2,583 2,583
---------- ------- -------- ----- --------- --------
BALANCE, DECEMBER 31, 1994.............. 4,212,499 4 3,899 -- 877 5,002
Exercise of stock options for cash at
$.10 to $5.00 per share............... 268,159 -- 290 -- -- 290
Exercise of warrants at $3.10 per
share................................. 67,744 -- 210 -- -- 210
Issuance of common stock for cash at
$12.00 per share, net of offering
costs of $1,792....................... 1,300,000 2 13,806 -- -- 13,808
Foreign currency translation
adjustment............................ -- -- -- -- -- 97
Net income.............................. -- -- -- -- 3,485 3,485
---------- ------- -------- ----- --------- --------
BALANCE, DECEMBER 31, 1995.............. 5,848,402 6 18,205 -- 4,362 22,892
Tax benefit related to employee stock
options............................... -- -- -- -- 583 583
Stock issued for LORGB acquisition...... 578,651 1 4,206 -- -- 4,207
Exercise of stock options for cash at
$.10 to $8.00 per share............... 178,472 -- 156 -- -- 156
Purchase of common stock from ESPP for
cash at $5.10 to $6.06................ 34,062 -- 191 -- -- 191
Foreign currency translation
adjustment............................ -- -- -- -- -- 79
Net (loss).............................. -- -- -- -- (6,197) (6,197)
---------- ------- -------- ----- --------- --------
BALANCE, DECEMBER 31, 1996.............. 6,639,587 $ 7 $22,758 $ -- $(1,252) $ 21,911
---------- ------- -------- ----- --------- --------
---------- ------- -------- ----- --------- --------
</TABLE>
THE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS ARE AN INTEGRAL PART
OF THESE CONSOLIDATED STATEMENTS.
21
<PAGE>
C-ATS SOFTWARE INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
------------------------------
1996 1995 1994
-------- -------- --------
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss)..................... $ (6,197) $ 3,485 $ 2,583
Adjustments to reconcile net income
(loss) to net cash provided (used)
by operating activities-
Depreciation and amortization....... 919 582 582
In-process research and development
of acquired business............... 7,066 -- --
Change in assets and liabilities-
(Increase) decrease in accounts
receivable....................... 2,595 (2,072) (1,345)
(Increase) decrease in prepaid
expenses......................... 556 (34) (239)
(Increase) in deferred tax
asset............................ (902) (473) (637)
(Increase) decrease in other
assets........................... 35 (127) --
Increase (decrease) in accounts
payable.......................... (520) 731 139
Increase (decrease) in accrued
liabilities and accrued
compensation..................... (241) 339 (177)
(Decrease) in accrued taxes
payable.......................... (1,021) (42) (274)
Increase (decrease) in deferred
revenue.......................... (2,738) 676 989
-------- -------- --------
Net cash provided (used) by
operating activities............ (448) 3,065 1,621
-------- -------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Sale (purchase) of short-term
investments, net.................... 7,414 (20,227) (1,273)
Investment in acquisition of LORGB.... (8,084) -- --
Purchases of property and equipment... (673) (733) (567)
-------- -------- --------
Net cash provided (used) by
investing activities............. 1,343 (20,960) (1,840)
-------- -------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Repayment of note receivable from sale
of common stock..................... -- -- 22
Proceeds from issuance of common
stock............................... 4,554 16,100 96
Common stock offering costs........... -- (1,792) --
-------- -------- --------
Net cash provided by financing
activities....................... 4,554 14,308 118
-------- -------- --------
EFFECT OF EXCHANGE RATE CHANGES ON CASH
AND CASH EQUIVALENTS.................. 79 97 207
-------- -------- --------
NET INCREASE (DECREASE) IN CASH AND CASH
EQUIVALENTS........................... 2,842 (3,490) 106
CASH AND CASH EQUIVALENTS AT BEGINNING
OF PERIOD............................. 4,199 7,689 7,583
-------- -------- --------
CASH AND CASH EQUIVALENTS AT END OF
PERIOD................................ $ 7,041 $ 4,199 $ 7,689
-------- -------- --------
-------- -------- --------
SUPPLEMENTAL DISCLOSURE OF CASH FLOW
INFORMATION:
Cash paid for interest................ $ -- $ -- $ 2
-------- -------- --------
-------- -------- --------
Cash paid for income taxes............ $ 818 $ 1,417 $ 697
-------- -------- --------
-------- -------- --------
</TABLE>
THE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS ARE AN INTEGRAL PART
OF THESE CONSOLIDATED STATEMENTS.
22
<PAGE>
C-ATS SOFTWARE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1996
1. NATURE OF OPERATIONS:
C-ATS Software Inc. (the "Company") was organized in 1988 as a
successor to a partnership formed in 1986. The Company develops and markets
client/server software for financial risk management. The majority of the
Company's current clients are domestic and international financial
institutions. On March 20, 1995, the Company completed an initial public
offering of 1,300,000 shares of common stock at $12.00 per share. Total
proceeds to the Company (net of offering costs) were $13.8 million.
On February 13, 1996, C-ATS Sub, Inc. (a wholly owned subsidiary of the
Company), merged with LOR/Geske Bock Associates, Inc. (LORGB), a California
Corporation, pursuant to an "Agreement and Plan of Reorganization" dated
January 30, 1996. LORGB designs, develops, and markets integrated,
organization-wide market and credit risk management software systems. As a
result of the merger, LORGB, ceased to exist while C-ATS Sub, Inc. continued
as the surviving corporation. The transaction was accounted for as a
"purchase". Accordingly, the operating results of the acquired business have
been included in the consolidated statement of operations from the date of
the acquisition. (See Note 3)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
BASIS OF FINANCIAL STATEMENT PRESENTATION
The accompanying consolidated financial statements include the accounts
of the Company and its wholly owned subsidiaries. All significant
intercompany balances and transactions have been eliminated.
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during
reporting periods. Actual results could differ from those estimates.
REVENUE RECOGNITION
The Company licenses its products to end users under annual license
agreements which include rights to maintenance support services and product
upgrades. Accordingly, license revenues are recognized ratably over twelve
months. In addition, the Company provides training and consulting services
to its clients. Revenue from such services is generally recognized as the
services are performed.
23
<PAGE>
SOFTWARE DEVELOPMENT COSTS
The Company capitalizes software development costs incurred after
technological feasibility has been demonstrated. To date, amounts that could
have been capitalized have been immaterial and, therefore, no software
development costs have been capitalized.
NET INCOME (LOSS) PER SHARE
Net income (loss) per share has been computed using the weighted
average number of shares of common stock, common equivalent shares from the
convertible preferred stock (when dilutive using the if converted method at
date of issuance) and common equivalent shares from stock options and
warrants outstanding (when dilutive using the treasury stock method).
Pursuant to certain Securities and Exchange Commission Staff Accounting
Bulletins, common and common equivalent shares issued during the twelve-month
period prior to the Company's initial public offering at a price less than
the initial public offering price have been included in the calculation as if
they were outstanding for all periods presented (even if antidilutive using
the treasury stock method). Common share equivalents, if included on
quarterly and annual net loss per share calculations, would have an
anti-dilutive effect, and are therefore excluded from both the primary and
fully diluted calculations for certain quarterly and the annual 1996 per
share calculations.
CONCENTRATIONS OF CREDIT RISK
Financial instruments which potentially subject the Company to
concentrations of credit risk consist principally of cash investments,
short-term investments and trade receivables. The Company has cash investment
policies that limit investments to short-term low risk instruments.
24
<PAGE>
CASH EQUIVALENTS AND MARKETABLE SECURITIES
The Company considers all highly liquid investments including treasury
bills and money market fund investments purchased with an original maturity
of three months or less to be cash equivalents.
The Company accounts for its investments pursuant to the provisions of
Statement of Financial Accounting Standards No. 115, "Accounting for Certain
Investments in Debt and Equity Securities". Under Statement No. 115, debt and
marketable securities are required to be classified in one of three
categories: trading, available-for-sale, or held to maturity. The Company has
no investment securities held for "trading". Securities classified as
"available-for-sale" are primarily investment grade municipal and corporate
bonds, amounting to $8.1 million and $12.3 million as of December 31, 1996
and December 31, 1995, respectively, and recorded at fair value. Under
Statement No. 115, unrealized holding gains and losses, net of the related
tax effect, are not to be reflected in earnings, but are to be reported as a
separate component of shareholders equity until realized. At December 31,
1996 and 1995, the unrealized gain was not material.
Investments classified as "held-to-maturity" amounting to $7.0 million
and $10.2 million at December 31, 1996 and 1995 respectively, are short-term
in nature (typically 3-7 days) and changes in market interest rates would not
have a significant impact on fair value of these securities. These securities
are carried at amortized cost which approximate fair value. At December 31,
1996 and 1995, the Company did not hold any debt or equity securities from a
single issuer that exceeded 10 percent of the Company's investments or
shareholders' equity.
FOREIGN CURRENCY TRANSLATION
The functional currency of foreign operations is deemed to be the local
country's currency. Consequently, assets and liabilities of the Company's
foreign operations are translated at each balance sheet date into United
States dollars using exchange rates in effect at that date in accordance with
Statement of Financial Accounting Standards No. 52. Income and expenses of
the foreign operations are translated at average exchange rates for the
period. Company revenues and corresponding receivables are typically U.S
dollar denominated and therefore are not impacted by translation adjustments.
The effects of foreign currency translation adjustments are included as a
component of shareholders' equity.
To fund its foreign operations, the Company purchases local currency at
current exchange rates in amounts sufficient to cover three to six month
operating expenses; therefore no transaction gain or loss is realized at the
time of purchase. The currency is used to fund actual operating expenses as
they are incurred. The annual amounts purchased for each country are
approximately equivalent to the annual revenue by geographic region (see
Note 8). At December 31, 1996 and 1995, the Company held approximately
$106,000 and $970,000, respectively, in these local denominated currency
accounts, sufficient to cover at least one months operating expenses in each
of the operating countries.
25
<PAGE>
PROPERTY AND EQUIPMENT
Property and equipment are stated at cost. The cost of equipment and
furniture and fixtures is depreciated using the straight-line method over the
estimated useful lives of the assets, ranging from three to five years.
Betterments, renewals and extraordinary repairs that extend the life of the
asset are capitalized; other repairs and maintenance are expensed. Leasehold
improvements are amortized using the straight-line method over the lesser of
the remaining term of the lease or the estimated economic life of the
improvement. The cost and accumulated depreciation applicable to assets
retired are removed from the accounts and the gain or loss on disposition
recognized in income. During 1996, computer equipment, software, and property
acquired during the years 1988 through 1991 with original cost and
accumulated depreciation of $869,000 was retired.
CAPITAL STOCK
The Company follows the practice of recording amounts received upon the
exercise of options by crediting common stock and additional capital. No
charges are reflected in the consolidated statements of operations as a
result of the grant or exercise of stock options. The Company realizes an
income tax benefit from the exercise or early disposition of certain stock
options. This benefit results in a decrease in current income taxes payable
and an increase in additional capital.
CHANGE IN CAPITAL STOCK
Upon the consummation of the Company's initial public offering of common
stock (March 20, 1995), all of the preferred stock outstanding as of that
date was converted into an aggregate of 3,029,918 shares of common stock and
the Company's authorized preferred stock was increased to 5,000,000 shares
from 4,615,000 shares. Common stock was established at a par value of $0.001.
Accordingly, all share and per share amounts presented in the accompanying
consolidated financial statements have been retroactively restated to reflect
the conversion, and the change in par value.
ACCOUNTING FOR STOCK BASED COMPENSATION
The Company has two stock option plans which reserve shares of common
stock for issuance to executives, key employees, consultants and directors.
The Company accounts for stock-based compensation under the provisions of
Accounting Board Opinion No. 25 "Accounting for Stock Issued to Employees"
(APB 25). The exercise price of options granted under these plans is equal to
the market price of the Company's stock on the date of grant, and
accordingly, no compensation cost is recorded under APB 25. The Company has
adopted the disclosure only provisions of Statement of Financial Accounting
Standards No. 123 "Accounting for Stock-Based Compensation," effective
January 1, 1996.
RECLASSIFICATIONS
Certain reclassifications have made to prior year amounts to conform
to current year presentation.
26
<PAGE>
3. ACQUISITION OF LORGB:
On February 13, 1996, the Company completed the acquisition of all the
outstanding common stock of LORGB. The purchase price of approximately $8.2
million included an issuance of 578,651 shares of the Company's common stock,
approximately $3.3 million in cash and assumption of options to purchase
approximately 167,000 shares of the Company's common stock. The acquisition
has been recorded using the purchase method of accounting. The aggregate
purchase price has been allocated to the acquired assets and liabilities of
LORGB, of which the net tangible assets were not significant. The allocation
resulted in $8,044,000 allocated to purchased technology, $7,066,000 of which
represented in-process research and development. The $7,066,000 was
expensed in the accompanying statements of operations as the technology had
not yet reached technological feasibility and does not have alternative
future uses. The capitalized amount of $977,000 is included in "Purchased
software" in the accompanying balance sheets and is amortized over four years.
The following unaudited pro forma results of operations assume the
acquisition occurred as of January 1, 1995 (in thousands, except per share
amounts):
Year Ended December 31, 1996 1995
------- -------
Revenues............................ $20,254 $25,006
Net income (loss)................... (6,664) 2,884
Income (loss) per share............. (1.01) 0.43
The pro forma financial information is not necessarily indicative of the
operating results that would have occurred had the LORGB acquisition been
consummated as of January 1, 1995, nor are they necessarily indicative of
future operating results.
4. COMMITMENTS:
The Company and its subsidiaries lease facilities under certain
noncancellable lease agreements accounted for as operating leases. Future
minimum rental payments under these leases are as follows (in thousands):
YEAR ENDING DECEMBER 31, AMOUNT
------------------------ -------
1997................................... $ 1,112
1998................................... 883
1999................................... 707
2000................................... 641
2001 and thereafter.................... 246
-------
$ 3,589
-------
-------
Total rental expense was approximately $1,061,000, $898,000 and
$762,000 for the years ended December 31, 1996, 1995 and 1994, respectively.
27
<PAGE>
5. COMMON STOCK:
As of December 31, 1996, the Company had reserved shares of its common
stock for the following purposes:
1988 Incentive Stock Plan.................................... 360,013
1995 Stock Plan.............................................. 1,499,958
1995 Employee Stock Purchase Plan............................ 165,938
1995 Director Option Plan.................................... 105,000
---------
2,130,909
---------
---------
1988 INCENTIVE STOCK PLAN
The Company's 1988 Incentive Stock Plan (the "1988 Plan") provided for
the grant of incentive stock options to employees of the Company, and for the
grant of nonstatutory stock options or stock purchase rights to employees and
consultants of the Company. The exercise price of all incentive stock options
granted under the 1988 Plan are at least equal to the fair market value (as
determined by the Board of Directors) of the common stock on the date of
grant, subject to subsequent repricing actions. The exercise price of all
nonstatutory stock options granted under the 1988 Plan is required to be at
least 85% of the fair market value of the common stock on the date of grant.
The term of options granted under the 1988 Plan shall be ten years for an
incentive stock option and ten years and one day for a nonstatutory stock
option.
As of November 7, 1996, the Board of Directors authorized a repricing of
the 1988 Plan. All stock options granted under the Plan with an option
exercise price greater than 85% of the fair market value of the Company's
stock on November 7, 1996 were repriced. There were 85,292 stock options
under the 1988 Plan with an exercise prices of $5.00 - $8.00 that were
canceled and repriced at an exercise price of $4.69. No further grants will
be made under this plan.
Option activity under the 1988 Plan was as follows:
OPTIONS
AVAILABLE NUMBER WEIGHTED
FOR GRANT OF SHARES RANGE AVERAGE
--------- --------- ------------- --------
Balance, December 31, 1993..... 64,034 872,750 $0.10 - $1.00 $0.64
--------- --------- ------------- --------
Authorized.................. 378,300 -- -- --
Granted..................... (319,792) 319,792 $3.00 - $5.00 $4.02
Canceled.................... 16,626 (16,626) $0.35 - $1.00 $0.94
Exercised................... -- (187,499) $0.10 - $5.00 $0.51
--------- --------- ------------- --------
Balance, December 31, 1994..... 139,168 988,417 $0.10 - $5.00 $1.74
--------- --------- ------------- --------
Granted..................... (120,242) 120,242 $3.10 - $8.00 $5.24
Canceled.................... 169,758 (169,758) $0.70 - $8.00 $3.79
Exercised................... -- (335,903) $0.10 - $8.00 $1.49
--------- --------- ------------- --------
Balance, December 31, 1995..... 188,684 602,998 $0.10 - $8.00 $2.03
--------- --------- ------------- --------
Granted..................... -- -- -- --
Canceled.................... 64,555 (64,555) $1.00 - $8.00 $3.88
Exercised................... -- (178,430) $0.10 - $8.00 $0.90
Repriced grants............. (85,292) 85,292 $4.69 $4.69
Repriced canceled........... 85,292 (85,292) $5.00 - $8.00 $5.58
--------- --------- ------------- --------
Balance, December 31, 1996..... 253.239 360,013 $0.20 - $4.69 $2.03
--------- --------- ------------- --------
--------- --------- ------------- --------
28
<PAGE>
At December 31, 1996, options to purchase 304,960 shares were
exercisable at a weighted average share price of $1.71 under the 1988 Plan.
1995 STOCK PLAN
In January 1995, the Company adopted the 1995 Stock Plan (the "1995
Plan"). The Company had initially reserved 500,000 common shares for issuance
under the 1995 Plan. Under the 1995 Plan, the Company may grant incentive
stock options or grant nonstatutory stock options and stock purchase rights
(SPR) to employees, officers and consultants. Nonqualified options and SPRs
granted under the 1995 Plan have a term of ten years and will be issued at a
price determined by the Company's Board of Directors at the date of grant.
Incentive stock options granted under the 1995 Plan may be granted only to
employees of the Company, may have a term of up to ten years, and must be
issued at a price equal to the fair market value of the Company's common
stock at the date of grant. In 1995, the Board of Directors authorized, and
in May 1996, shareholders approved an additional 1,000,000 shares under the
1995 Plan.
As of November 7, 1996, the Board of Directors authorized a repricing of
the 1995 Plan. All stock options granted under the Plan with an option
exercise price greater than 85% of the fair market value of the Company's
stock on November 7, 1996 were repriced. There were 699,100 stock options
under the 1995 Plan with an exercise prices of $5.50-$12.00 that were
canceled and repriced at an exercise price of $4.69.
Option activity under the 1995 Plan was as follows:
<TABLE>
<CAPTION>
OPTIONS
AVAILABLE NUMBER WEIGHTED
FOR GRANT OF SHARES RANGE AVERAGE
---------- --------- --------------- ------
<S> <C> <C> <C> <C>
Balance, January 1, 1995 500,000 -- -- --
Authorized 1,000,000 -- -- --
Granted (397,000) 397,000 $6.88 - $12.00 $8.09
Canceled 5,937 (5,937) $11.75 - $12.00 $11.83
Exercised -- -- -- --
Balance, December 31, 1995 1,108,937 391,063 $6.88 - $12.00 $8.03
---------- --------- --------------- ------
Granted (1,032,200) 1,053,200 $4.69 - $7.13 $5.52
Granted (LORGB assumed
options) (167,861) 167,861 $0.08 - $0.16 $0.08
Canceled 202,020 (202,020) $4.69 - $12.00 $6.96
Exercised -- (42) $7.13 $7.13
Repriced Grants (699,100) 699,100 $4.69 $4.69
Repriced Canceled 699,100 (699,100) $5.50 - $12.00 $7.02
---------- --------- --------------- ------
Balance, December 31, 1996 110,896 1,389,062 $0.08 - $4.69 $4.13
---------- --------- --------------- ------
---------- --------- --------------- ------
</TABLE>
At December 31, 1996, options to purchase 244,638 shares were
exercisable at a weighted average share price of $1.59 under the 1995 Plan.
29
<PAGE>
1995 EMPLOYEE STOCK PURCHASE PLAN
In January 1995, the Company adopted the 1995 Employee Stock Purchase
Plan and reserved 200,000 shares of the Company's common stock for issuance
under this plan. Under the terms of this plan, the Company allows eligible
employees to purchase shares of common stock at 85% of the lower of the fair
market value of the common stock at the beginning or at the end of each
offering period. Offering periods under this plan will commence on January 1
and July 1 of each year and end on June 30 and December 31, respectively.
The first offering commenced on July 3, 1995. During 1995, 19,007 shares were
subscribed under the plan and issued on January 1, 1996 at an average
purchase price of $6.06 per share. During 1996, 15,055 and 20,815 shares were
subscribed under the plan and issued on July 1, 1996 and January 1, 1997 at
average purchase prices of $5.10 and $4.375 per share, respectively.
1995 DIRECTOR OPTION PLAN
In January 1995, the Company adopted the 1995 Director Option Plan. The
Company has authorized 105,000 shares of the Company's common stock for
issuance under the 1995 Director Option Plan, and 80,000 options were granted
under this plan at an exercise price of $8.00 per share. Options must be
issued at the fair market value of the Company's common stock at date of
grant, have a term of ten years and vest 33% each year following the date of
grant. At December 31, 1996, options to purchase 46,667 shares were
exercisable at $8.00 per share under the 1995 Director Option Plan.
OPTION FAIR VALUE
The Company has adopted Statement of Financial Accounting Standards
(SFAS) No. 123, "Accounting for Stock-Based Compensation," issued in October
1995. In accordance with the provisions of SFAS No. 123, the Company applies
Opinion 25 and related interpretations in accounting for its stock option
plans and, accordingly, does not recognize compensation cost. If the Company
had elected to recognize compensation cost based on the fair value of the
options granted at grant date as prescribed by SFAS No. 123, net income
(loss) and income (loss) per share would have been changed to the pro forma
amounts indicated in the table below. The pro forma effect on net income
(loss) for 1996 and 1995 is not representative of the pro forma effect on net
income (loss) in future years because it does not take into consideration pro
forma compensation expense related to grants made prior to 1995.
<TABLE>
<CAPTION>
1996 1995
------ ------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<S> <C> <C>
Net income (loss) - as reported.......... $ (6,197) $ 3,485
Net income (loss) - pro forma............ $ (6,985) $ 3,309
Income (loss) per share - as reported.... $ (0.95) $ 0.57
Income (loss) per share - pro forma...... $ (1.07) $ 0.55
</TABLE>
The fair value of each grant is estimated on the date of grant using the
Black-Scholes option pricing model with the following assumptions: risk-free
interest rate ranging from 5.14% to 6.5%, corresponding to government
securities with original maturities similar to the estimated option life of
approximately one year; annual volatility of the Company's stock price of
65%; and a dividend yield of 0.0%. The effects of applying the provisions of
SFAS No. 123 are not likely to be representative of the effects on the pro
forma net income (loss) in future years. The weighted average of fair values
of options
30
<PAGE>
granted during 1996 and 1995 were $5.16 and $7.41, respectively. The options
outstanding and exercisable are as follows:
<TABLE>
<CAPTION>
OPTIONS OUTSTANDING AT DECEMBER 31, 1996 OPTIONS EXERCISABLE AT DECEMBER 31, 1996
- ------------------------------------------------ ----------------------------------------
WEIGHTED WEIGHTED
NUMBER WEIGHTED AVERAGE AVERAGE
RANGE OF OF SHARES AVERAGE REMAINING NUMBER EXERCISE
EXERCISE PRICE OUTSTANDING EXERCISE PRICE CONTRACT LIFE EXERCISABLE PRICE
- -------------- ----------- -------------- ------------- ----------- ---------
<S> <C> <C> <C> <C> <C>
$0.08 - $3.00 442,582 $0.78 5.92 421,228 $0.69
$4.69 1,306,493 $4.69 9.34 132,370 $4.69
$8.00 80,000 $8.00 3.01 46,667 $8.00
- ------------- --------- ----- ---- ------- -----
$0.08 - $8.00 1,829,075 $3.89 8.23 596,265 $2.15
- ------------- --------- ----- ---- ------- -----
- ------------- --------- ----- ---- ------- -----
</TABLE>
6. INCOME TAXES:
The Company accounts for income taxes in accordance with Statement of
Financial Accounting Standards No. 109, "Accounting for Income Taxes." This
statement provides for a liability approach under which deferred income taxes
are provided based upon enacted tax laws and rates applicable to the periods
in which the taxes become payable.
The provision for income taxes consisted of the following components for
the years ended December 31 (in thousands):
1996 1995 1994
------ ------ ------
Current provision:
Federal........................ $ --- $1,034 $ 784
State and local................ --- 312 300
Foreign........................ 902 1,004 944
------ ------ ------
902 2,350 2,028
Deferred benefit:
Federal........................ (818) (426) (574)
State and local................ (84) (47) (63)
------ ------ ------
(902) (473) (637)
Total provision for income taxes.. $ --- $1,877 $1,391
------ ------ ------
------ ------ ------
The provision for income taxes for the years ended December 31, 1996,
1995 and 1994 differs from the amount obtained by applying the statutory
Federal income tax rate to income before taxes as follows (in thousands):
1996 1995 1994
------- ------ ------
Federal tax expense at statutory rate....... $(2,169) $1,877 $1,390
State income taxes, net of Federal benefit.. -- 166 122
Foreign income taxes incurred............... 902 799 840
Foreign tax credits utilized................ (818) (763) (750)
Change in valuation allowance.............. (171) -- --
FSC benefit................................. -- (73) (59)
Non-deductible write-off of in-process
research and development.................. 2,473 -- --
Tax credits................................. (234) (137) (177)
Other....................................... 17 8 25
------- ------ ------
Total provision for income taxes........... $ -- $1,877 $1,602
------- ------ ------
------- ------ ------
31
<PAGE>
The components of the net deferred tax asset at December 31, 1996 and
1995 are as follows (in thousands):
1996 1995
------ -------
Revenue deferred for financial reporting purposes......... $3,156 $ 4,323
Items not currently deductible for tax purposes........... 171 227
Foreign tax credits....................................... 818 ---
General business credits.................................. 234 ---
Net operating loss carryforward........................... 902 ---
------ -------
5,281 4,550
Valuation allowance....................................... (1,491) (1,662)
------ -------
Net deferred tax asset.................................... $3,790 $ 2,888
------ -------
------ -------
For income tax reporting purposes, the Company has Federal and State net
operating loss carryforwards of approximately $2,500,000 and $1,000,000,
respectively, and Federal and State research and development tax credit
carryforwards of approximately $110,000 and $124,000, respectively, all of
which will expire on various dates through 2011. The Internal revenue Code
contains provisions which may limit the amount of tax carryforwards available
to be used in any given year upon the occurrence of certain events,
including changes in ownership interests. Due to certain limitations of the
benefits related to tax carrybacks, the current year operating loss, and the
uncertainty regarding future results, the Company has provided a valuation
allowance related to a portion of the deferred tax asset.
The Company's tax returns for 1990 through 1993 are currently being
examined by the Internal Revenue Service (IRS) which has issued a notice of
assessment related to its position on certain items. If the IRS position were
to prevail in full, the net tax cost for this assessment at December 31, 1996
would be approximately $2.3 million, excluding interest and penalties. In
management's opinion the ultimate resolution of this matter will not have a
material adverse effect on the results of operations.
7. WORLDWIDE OPERATIONS:
The Company operates in a single industry segment and has wholly-owned
foreign subsidiaries in the United Kingdom and Switzerland that conduct sales
representative activities in Europe and a wholly-owned subsidiary that
conducts sales representative activities in Japan. All license agreements are
entered into between the parent company and the clients, and all license and
service fees are paid directly to the parent company in U.S. dollars. United
States operations include revenue and results of operations in the United
States as well as export revenue from all clients recognized on a worldwide
basis. Subsidiary revenues consist solely of payments from the parent company
for services performed for the benefit of the parent company at a rate of
cost plus 10%. Such transfers are eliminated in the consolidated financial
statements. Identifiable assets are those assets that can be directly
associated with a particular geographic area and subsidiary. The Company's
operations by geographic area were as follows (in thousands):
32
<PAGE>
<TABLE>
<CAPTION>
1996 1995 1994
-------- -------- --------
<S> <C> <C> <C>
Revenue:
United States......................... $ 20,145 $ 22,298 $ 18,462
United Kingdom........................ 2,405 2,050 1,334
Japan................................. 1,723 2,059 1,653
Switzerland........................... 450 798 991
Eliminations.......................... (4,578) (4,907) (3,978)
-------- -------- --------
Consolidated............................ $ 20,145 $ 22,298 $ 18,462
-------- -------- --------
-------- -------- --------
Operating income:
United States......................... $ (7,377) $ 4,000 $ 3,430
United Kingdom........................ 162 190 194
Japan................................. 117 134 108
Switzerland........................... 38 107 (27)
-------- -------- --------
Consolidated............................ $ (7,060) $ 4,431 $ (3,705)
-------- -------- --------
-------- -------- --------
<CAPTION>
1996 1995 1994
-------- -------- --------
<S> <C> <C> <C>
Identifiable assets:
United States......................... $ 32,079 $ 37,418 $ 18,156
United Kingdom........................ 1,048 1,045 573
Japan................................. 587 560 458
Switzerland........................... 79 79 197
Eliminations.......................... (794) (602) (478)
-------- -------- --------
Consolidated............................ $ 32,999 $ 38,500 $ 18,906
-------- -------- --------
-------- -------- --------
The Company's export sales to unaffiliated non-U.S. customers are as
follows (in thousands):
<CAPTION>
1996 1995 1994
-------- -------- --------
<S> <C> <C> <C>
Japan................................. $ 7,269 $ 7,468 $ 5,855
United Kingdom........................ 3,915 4,006 2,886
Europe, excluding United Kingdom...... 3,571 4,460 3,517
Other................................. 1,671 1,864 1,744
-------- -------- --------
$ 16,426 $ 17,798 $ 14,002
-------- -------- --------
-------- -------- --------
</TABLE>
Sales to a major client accounted for 10% of revenues in 1995 and in
1994, respectively. No major client accounted for more than 10% of revenues
in 1996.
33
<PAGE>
********************************************************************************
STOCK The Company's common stock is traded on the Nasdaq National Market
TRADING under the symbol CATX. C-ATS Software, Inc. completed its initial
INFORMATION public offering on March 20, 1995. The quarterly high and low bid
prices over the past eight quarters were as follows
HIGH LOW
---- ---
Fiscal 1996
Fourth Quarter 5 1/8 4 3/8
Third Quarter 6 1/4 4 7/8
Second Quarter 7 1/2 5 5/8
First Quarter 7 7/8 6 1/8
Fiscal 1995
Fourth Quarter 8 7/8 6
Third Quarter 13 8
Second Quarter 15 1/4 9 3/4
First Quarter (3/20/95-3/31/95) 16 1/4 13 3/4
BID PRICE QUOTATIONS ARE AS REPORTED BY THE NATIONAL ASSOCIATION
OF SECURITY DEALERS, INC. ALL BID PRICES REFLECT INTERDEALER
PRICES, WITHOUT RETAIL MARKUP, MARKDOWN, OR COMMISSION AND MAY NOT
REPRESENT ACTUAL TRANSACTIONS.
AS OF DECEMBER 31, 1996, THERE WERE APPROXIMATELY 975 SHAREHOLDERS
OF RECORD OF COMMON STOCK OF THE COMPANY. C-ATS SOFTWARE INC. HAS
NEVER PAID DIVIDENDS AND HAS NO PRESENT PLANS TO DO SO. ON
FEBRUARY 28, 1997, THE CLOSING BID PRICE WAS $5.00 PER SHARE.
********************************************************************************
34
<PAGE>
Exhibit 21.1
C*ATS SOFTWARE, INC.
LIST OF SUBSIDIARIES
C*ATS SOFTWARE UK LTD.
Roman House
Wood Street
London, EC2Y SBA UK
C*ATS SOFTWARE AG
10 Route de L'Englise
CH-1291 Commungny, Switzerland
C*ATS SOFTWARE JAPAN K.K.
NTF Takebashi Bldg, 8th Floor
3-15 Kanda-Nishikicho
Chlyode-ku, Tokyo 101 Japan
C*ATS SUB, INC.
1825 Century Park East
Suite 2120
Los Angeles, CA 90067
<PAGE>
EXHIBIT 23.1
CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS
As independent public accountants, we hereby consent to the
incorporation by reference of our reports included in or incorporated by
reference into this Form 10-K into the Company's previously filed
Registration Statement (File No. 33-39242) on Form S-8.
/s/ ARTHUR ANDERSEN LLP
------------------------
ARTHUR ANDERSEN LLP
San Jose, California
March 27, 1997
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> DEC-31-1996
<PERIOD-START> JAN-01-1996
<PERIOD-END> DEC-31-1996
<CASH> 7,041
<SECURITIES> 15,088
<RECEIVABLES> 4,558
<ALLOWANCES> 0
<INVENTORY> 0
<CURRENT-ASSETS> 30,934
<PP&E> 4,809
<DEPRECIATION> 3,027
<TOTAL-ASSETS> 32,999
<CURRENT-LIABILITIES> 11,088
<BONDS> 0
0
0
<COMMON> 7
<OTHER-SE> 21,904
<TOTAL-LIABILITY-AND-EQUITY> 32,999
<SALES> 20,145
<TOTAL-REVENUES> 20,145
<CGS> 272
<TOTAL-COSTS> 20,145
<OTHER-EXPENSES> 7,066<F1>
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 863
<INCOME-PRETAX> (6,197)
<INCOME-TAX> 0
<INCOME-CONTINUING> (6,197)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (6,197)
<EPS-PRIMARY> (0.95)
<EPS-DILUTED> (0.95)<F2>
<FN>
<F1>In connection with the acquisition of Lor/Geske Bock Associates, Inc., the
Company recognized a one-time expense amounting to $7.1 million of in process
research and development.
<F2>In the first nine months of 1996, common share equivalents, if included, would
have an anti-dilutive effect on the net loss per share calculation, and are
therefore excluded from the fully diluted calculation. If included, the net
loss per share would be $0.82 per share.
</FN>
</TABLE>
