<PAGE>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[ x ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTER ENDED MARCH 31, 1996
------------------------------------
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
---------------- ------------ .
Commission File Number: 0-26310
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NETSCAPE COMMUNICATIONS CORPORATION
(Exact name of registrant as specified in its charter)
Delaware 94-3200270
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
501 East Middlefield Road, Mountain View, California 94043
(Address of principal executive offices) (zip code)
Registrant's telephone number, including area code: (415) 254-1900
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 [ ]
The number of shares outstanding of the registrant's Common Stock as of April
30, 1996 was 83,701,246.
1
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INDEX
NETSCAPE COMMUNICATIONS CORPORATION
PART I. FINANCIAL INFORMATION
<TABLE>
<CAPTION>
Item 1. Financial Statements (Unaudited) Page
<S> <C> <C>
(a) Condensed Consolidated Balance Sheets
as of March 31, 1996 and December 31, 1995............. 3
(b) Condensed Consolidated Statements of Operations
for the Three Months Ended March 31, 1996 and 1995..... 4
(c) Condensed Consolidated Statements of Cash Flows
for the Three Months Ended March 31, 1996 and 1995..... 5
(d) Notes to Condensed Consolidated Financial Statements... 6
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations.................................. 8
PART II. OTHER INFORMATION
Item 1. Legal Proceedings............................................ 17
Item 2. Changes in Securities........................................ 17
Item 6. Exhibits and Reports on Form 8-K ............................ 17
Signature ................................................................ 18
</TABLE>
2
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PART I--FINANCIAL INFORMATION
-----------------------------
ITEM 1. FINANCIAL STATEMENTS
NETSCAPE COMMUNICATIONS CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands)
<TABLE>
<CAPTION>
March 31, December 31,
1996 1995 (1)
--------------------------
<S> <C> <C>
(unaudited)
ASSETS
Current assets:
Cash and cash equivalents $ 56,752 $ 51,664
Short-term investments 88,824 96,841
Accounts receivable, net 48,183 25,872
Other current assets 10,539 5,758
-------- --------
Total current assets 204,298 180,135
Property and equipment, net 32,426 20,596
Long-term investments 34,391 21,714
Other assets 2,425 2,947
-------- --------
$273,540 $225,392
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 19,450 $ 7,824
Accrued compensation and related liabilities 9,039 6,567
Other accrued liabilities 8,701 5,095
Deferred revenues 54,166 30,032
Current portion of long-term obligations
and installment notes payable 1,352 1,326
-------- --------
Total current liabilities 92,708 50,844
Long-term obligations and installment notes payable 1,031 1,198
Stockholders' equity:
Preferred stock, common stock and additional
paid-in capital 198,214 196,757
Notes receivable from stockholders (634) (763)
Deferred compensation (7,970) (8,584)
Unrealized gain on available-for-sale securities 1,712 2,157
Accumulated deficit (11,602) (16,314)
Accumulated translation adjustment 81 97
-------- --------
Total stockholders' equity 179,801 173,350
-------- --------
$273,540 $225,392
======== ========
</TABLE>
(1) The balance sheet at December 31, 1995 has been derived from the audited
consolidated financial statements at that date, but does not include all of
the information and footnotes required by generally accepted accounting
principles for complete financial statements.
See accompanying notes.
3
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NETSCAPE COMMUNICATIONS CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share data)
<TABLE>
<CAPTION>
Three Months Ended
March 31,
-------------------
1996 1995
------- -------
<S> <C> <C>
(unaudited)
Revenues:
Product revenues $48,113 $ 5,162
Service revenues 6,888 242
------- -------
Total revenues 55,001 5,404
Cost of revenues:
Cost of product revenues 6,797 304
Cost of service revenues 1,654 177
------- -------
Total cost of revenues 8,451 481
------- -------
Gross profit 46,550 4,923
Operating Expenses:
Research and development 13,245 2,574
Sales and marketing 24,666 3,626
General and administrative 4,755 2,151
Property rights agreement and related charges -- 500
------- -------
Total operating expenses 42,666 8,851
------- -------
Operating income (loss) 3,884 (3,928)
Interest income 2,469 104
Interest expense (76) (27)
------- -------
Interest income, net 2,393 77
------- -------
Income (loss) before income taxes 6,277 (3,851)
Provision for income taxes 1,565 -
------- -------
Net income (loss) $ 4,712 $(3,851)
======= =======
Net income (loss) per share $0.06 $(0.06)
======= =======
Shares used in computing net income
(loss) per share 85,080 66,752
======= =======
</TABLE>
See accompanying notes.
4
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NETSCAPE COMMUNICATIONS CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
<TABLE>
<CAPTION>
Three Months Ended
March 31,
-------------------
1996 1995
------- -------
(unaudited)
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net income (loss) $ 4,712 $(3,851)
Adjustments to reconcile net
income (loss) to net
cash (used in) provided by
operating activities:
Depreciation and amortization 2,335 293
Amortization of deferred 614 862
compensation
Changes in assets and liabilities:
Accounts receivable (22,311) (2,287)
Other current assets (4,781) 57
Accounts payable 11,626 (87)
Accrued compensation and 2,472 181
related liabilities
Other accrued liabilities 3,606 (45)
Deferred revenues 24,118 4,925
--------- -------
Net cash provided by operating activities 22,391 48
CASH FLOWS FROM INVESTING ACTIVITIES
Capital expenditures (13,562) (1,767)
Increase in deposits and other assets, net (81) (111)
Purchases of investments available-for-sale (168,839) -
Maturity of investments available-for-sale 137,608 -
Sale of investments available-for-sale 26,126 -
--------- -------
Net cash used in investing activities (18,748) (1,878)
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from issuance of installment notes payable - 2,101
Payments on installment notes payable (141) -
Proceeds from issuance of preferred and
common stock, net 1,586 482
--------- -------
Net cash provided by financing activities 1,445 2,583
Net increase in cash and cash equivalents 5,088 753
Cash and cash equivalents at beginning of period 51,664 8,152
--------- -------
Cash and cash equivalents at end of period $ 56,752 $ 8,905
========= =======
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Income taxes paid $ 19 $ -
========= =======
</TABLE>
See accompanying notes.
5
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NETSCAPE COMMUNICATIONS CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements reflect
all adjustments which, in the opinion of management, are necessary for a fair
presentation of the results for the periods shown. The results of operations
for such periods are not necessarily indicative of the results expected for the
full fiscal year or for any future period. The accompanying financial
statements should be read in conjunction with the audited consolidated financial
statements of Netscape Communications Corporation for the year ended December
31, 1995. Certain prior period balances have been reclassified to conform with
current period presentation.
PER SHARE DATA
Net income (loss) per share is computed using the weighted average number of
common and dilutive common equivalent shares outstanding during the period.
Dilutive common equivalent shares consist of the incremental common shares
issuable upon the exercise of stock options (using the treasury stock method).
In addition, pursuant to the Securities and Exchange Commission Staff Accounting
Bulletins and Staff policy, such computations include all dilutive and
antidilutive common and common equivalent shares issued within 12 months of the
public offering date as if they were outstanding for all periods presented using
the treasury stock method.
CASH, CASH EQUIVALENTS, SHORT AND LONG-TERM INVESTMENTS
Cash and cash equivalents consist of cash on deposit with banks and money market
instruments with original maturity dates of 90 days or less. Short and long-
term investments, all of which are classified as available-for-sale, consist of
high quality debt securities with original maturity dates between 90 days and
three years. Short and long-term investments are stated at fair value as
determined by the quoted market prices of the securities.
SUBSEQUENT EVENTS
Acquisition of InSoft, Inc. On April 25, 1996, the Company completed its
acquisition of InSoft, Inc. ("InSoft"), a provider of network-based
communications and collaborative multimedia software for the enterprise.
Netscape purchased all of the outstanding capital stock and assumed all of the
outstanding stock options of InSoft, a privately held company, for an aggregate
of 2.0 million shares of Netscape common stock. The acquisition will be
accounted for as a pooling of interests. The company estimates that it will
incur direct transactions costs of at least $5.0 million associated with the
acquisition, which will be charged to operations during the quarter ending June
30, 1996.
Acquisition of Netcode Corporation. On April 30, 1996, the Company completed
its acquisition of Netcode Corporation ("Netcode"), a creator of a Java-based
visual interface builder and object toolkit for rapidly developing Java
applications. The Company purchased all of the outstanding capital stock and
assumed all of the outstanding stock options of Netcode, a privately held
company. The acquisition will be accounted for as a pooling of interests. The
Company estimates that it will incur direct transactions costs of at least
$500,000 associated with the acquisition, which will be charged to operations
during the quarter ending June 30, 1996. The pro-forma effect of this
acquisition will have an immaterial impact on the historical financial results
of the Company.
6
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Acquisition of Paper Software, Inc. On February 12, 1996, the Company announced
the signing of a definitive agreement to acquire Paper Software Inc. ("Paper"),
a provider of distributed three-dimensional graphics and maker of WebFX VRML
software. Netscape intends to purchase all of the outstanding capital stock and
assume all of the outstanding stock options of Paper, a privately held company.
The acquisition is expected to be accounted for as a pooling of interests. The
Company estimates that it will incur direct transactions costs of at least $1
million associated with the acquisition, which will be charged to operations
during the quarter ending June 30, 1996. The Company expects the acquisition to
be completed in May 1996 and the pro-forma effect of this acquisition is
expected to have an immaterial impact on the historical financial results of the
Company.
7
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The Company's operating performance each quarter is subject to various risks and
uncertainties as discussed in the Company's Annual Report on Form 10-K for the
year ended December 31, 1995 (the "Form 10-K") and the First Annual Report 1995
to Stockholders (the "Annual Report"). The following discussion should be read
in conjunction with the section entitled "Factors Affecting the Company's
Business, Operating Results and Financial Condition" in the Form 10-K and the
section entitled "Management's Discussion and Analysis in the Annual Report". In
addition, the factors set forth below in "Factors Affecting Operating Results"
could affect the Company's operating results.
OVERVIEW
Netscape Communications Corporation ("Netscape" or the "Company") is a leading
provider of open client and server software, commercial applications and
development tools that link people and information over the Internet and private
transmission control protocol/internet protocol ("TCP/IP") networks. The Company
was incorporated in April 1994, and in November 1995 acquired Collabra Software
Inc., which was incorporated in February 1993. The acquisition was treated as a
pooling of interests for accounting purposes, and accordingly, the historical
financial statements for the Company have been restated as if the transaction
occurred at the beginning of the earliest period presented.
In the first quarter of 1996, Netscape experienced significant growth in many
aspects of its business. Revenues of $55 million reflected an increase of 35%
over the prior quarter. In addition, the Company made heavy investments in all
aspects of its business in order to enable growth. Such investments included
the hiring of permanent and contract labor, the expansion of facilities in both
the United States and abroad, ongoing investment in sales and marketing
programs, and the implementation of management information systems across the
majority of the Company's functional areas. Operating income of $3.9 million
reflected an increase of 70% over the prior quarter, after adjusting for $2.0
million in merger related charges in the prior quarter.
The Company believes that significant ongoing investment in all areas of the
business will continue to be critical to the success of Netscape. Specifically,
the Company (i) plans to increase its operating expenses to fund greater levels
of research and development, expand its international sales and marketing
operations, continue developing new distribution channels, improve its
operational and financial systems and broaden its customer support capabilities
and (ii) will incur significant merger-related charges and other increases in
operating expenses associated with acquisitions. As a result, the Company
allocates a significant percentage of its revenues towards operating expenses
and anticipates continuing to do so for the near future with the goal of
achieving a minimal level of growth in earnings per share after adjusting for
the impact of merger related charges. Net income was 9% of total revenues in
the first quarter of 1996 as compared to 11% in the prior quarter, after
adjusting for the impact of merger related charges. Earnings per share in the
first quarter of 1996 were $0.06 as compared to $0.05 in the prior quarter,
after adjusting for merger related charges.
Although Netscape achieved earnings per share growth in prior quarters, the
Company's expenses are relatively fixed in the near term and unexpected
variances in planned revenues, which are difficult to forecast, can result in
variations in operating margins and earnings. Any significant shortfall in
demand for, or any significant reduction in the prices of, the Company's
products and services in relation to the Company's expectations would have an
immediate material adverse impact on the Company's business, operating results
and financial condition.
The Company has only a limited operating history upon which an evaluation of the
Company and its prospects can be based. The Company's prospects must be
considered in light of the risks, expenses and difficulties frequently
encountered by companies in their early stage of development, particularly
companies in new and rapidly evolving markets. To address these risks, the
Company must, among other things, respond to competitive developments, continue
to attract, retain and motivate qualified persons, and continue to upgrade its
technologies and commercialize products and services incorporating such
technologies. There can be no assurance that the Company will be successful in
addressing such risks. The Company incurred net losses in each quarter from
inception through the quarter ended June 30, 1995. As of March 31, 1996, the
Company had an accumulated deficit of $11.6 million. Although the Company has
experienced revenue growth in recent periods, such growth rates will not be
sustainable and are not indicative of future operating results. There can be no
assurance that the Company will sustain profitability.
8
<PAGE>
The Company completed its acquisitions of InSoft. and Netcode in April 1996 and
expects to complete its acquisition of Paper Software in May 1996. See Notes to
Condensed Consolidated Financial Statements.
RESULTS OF OPERATIONS
The following table sets forth operating results as a percentage of net revenues
for the three month periods ended March 31, 1996 and December 31, 1995. Due to
the significant growth in revenues and operating expenses between the three
month periods ended March 31, 1995 and March 31, 1996, the Company believes that
a comparison of operating results between such periods is not meaningful.
<TABLE>
<CAPTION>
(in thousands, except per share data)
Three Months Ended
---------------------------------------------------------------
March 31, 1996 December 31, 1995
---------------------------------------------------------------
(unaudited)
<S> <C> <C> <C> <C>
Total revenues $55,001 100% $40,616 100%
Total cost of revenues 8,451 15% 6,268 15%
-------------------------- ---------------------------
Gross profit 46,550 85% 34,348 85%
Operating expenses:
Research and development 13,245 24% 10,937 27%
Sales and marketing 24,666 45% 17,935 44%
General and administrative 4,755 9% 3,195 8%
Merger related charges - 0% 2,033 5%
-------------------------- ---------------------------
Total operating expenses 42,666 78% 34,100 84%
Operating income 3,884 7% 248 1%
Interest income 2,469 4% 2,690 7%
Interest expense (76) 0% (82) 0%
-------------------------- ---------------------------
Interest income, net 2,393 4% 2,608 6%
Income before income taxes 6,277 11% 2,856 7%
Provision for income taxes 1,565 2% 498 1%
-------------------------- ---------------------------
Net income $ 4,712 9% $ 2,358 6%
========================== ===========================
Net income per share $0.06 $0.03
================= ====================
Shares used in computing net income per share 85,080 84,928
================= ====================
</TABLE>
9
<PAGE>
<TABLE>
<CAPTION>
NET REVENUES
(in thousands)
Three Months Ended
-------------------------------------------------------------
March 31, 1996 December 31, 1995
-------------------------------------------------------------
(unaudited)
<S> <C> <C> <C> <C>
Client $34,072 62% $23,733 58%
Server, Commercial Applications and Other 14,064 26% 11,704 29%
-------------------- ---------------------------
Total Product Revenues 48,136 88% 35,437 87%
Service 6,865 12% 5,179 13%
-------------------- ---------------------------
Total Revenues 55,001 100% 40,616 100%
==================== ===========================
</TABLE>
The Company derives its revenues from two product categories, product and
service. Product revenues consist of product licensing fees, and service
revenues consist of fees for maintenance and support services, training,
consulting and advertising space.
The Company experienced absolute growth in both major product groups and in
service revenues in the first quarter of 1996 as compared to the immediately
prior quarter. The total revenue growth between periods was attributable to unit
volume increases from existing products and the introduction of new products.
The Netscape Navigator family continued to show strong demand with the release
of Netscape Navigator 2.0 and Netscape Navigator Personal Edition 2.0 during the
quarter, particularly among the Company's OEM partners and direct corporate
customers. Additionally, the Company's core server and Commercial Applications
products experienced dollar growth quarter to quarter, although absolute revenue
growth in this product group was limited by (i) significant price decreases
announced on all of the Company's core server products in March 1996, and (ii) a
shift towards subscription purchases due to the announcement of five major
upgrades to core server products which are expected to be released in the second
quarter of 1996. The impact of these price decreases and product announcements
was mitigated by increased demand for the Company's Commercial Applications
products through direct domestic and European sales channels. From time to
time, the Company may further reduce prices of its products. If the price
reductions in its core server products and any future price reductions do not
generate sufficient increases in the volume of its software licenses, the
Company's operating results will be materially adversely affected.
The Company believes that the increased mix of client product sales versus
server and Commercial Applications product sales quarter to quarter resulted
from the impact of core server price reductions and new core server product
announcements, as well as strong demand associated with the major upgrade of
Netscape Navigator products. The Company expects that the percentage of revenues
attributable to its server and Commercial Applications software products as
compared to its client product line will fluctuate in future periods depending
upon consumer buying patterns, pricing actions taken by the Company and the
timing of new product introductions.
The Company distributes substantially all of its products through a combination
of direct sales (including field sales, Internet-based sales and telesales),
OEM, VAR and retail channels. In the first quarter of 1996, direct sales
accounted for 48% of total revenues as compared to 44% in the immediately prior
quarter. The Company believes that the growth in the direct channel was related
to increased demand among corporate end-user customers, as well as a greater
number of direct sales personnel in both the US and Europe. Retail sales
experienced absolute revenue growth quarter to quarter, although they accounted
for 10% of total revenues in the first quarter of 1996 as compared to 13% in the
immediately prior quarter. The Company believes that the decline in retail
sales as a percentage of revenues in the first quarter of 1996 was associated
with consumer buying patterns leading to higher demand during the holiday season
and the impact of a higher total revenue base. The Company expects indirect
channels to account for an increasing percentage of revenues in future periods
as such reseller channels become more established. The absolute distribution of
revenues among channels will fluctuate depending upon consumer buying patterns,
which typically impact revenues in the retail channel, and the Company's ability
to establish new distribution and OEM reseller channels.
10
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Service revenues continued to show absolute revenue growth quarter to quarter
due primarily to increased maintenance and support provided to a larger
installed base. The Company believes that service revenues may account for an
increasing percentage of total revenues in future periods as a result of
continued growth in the installed base of maintenance and support contracts as
well as an increase in advertising revenues associated with the placement of
advertising banners and other content on the Company's web site.
International revenues (sales outside of North America) were approximately 27%
of total revenues in the first quarter of 1996 as compared to 20% in the
immediately prior quarter. The increase in international revenues was due
primarily to increased sales and marketing efforts in Europe and Japan, as well
as increased demand for Internet related products in international markets.
The Company invoices the customers of its international subsidiaries in both
U.S. dollars and the local currencies of its subsidiaries. The Company has not
engaged in foreign currency hedging activities and international revenues are
currently subject to currency exchange fluctuation risk. The Company
anticipates that international revenues will increase as a percentage of total
revenues in the future, and, as a result, foreign currency exposure may
increase.
GROSS MARGIN
The Company's gross margin of 85% remained flat in the first quarter of 1996 as
compared to the immediately prior quarter. Total cost of product revenues in
both periods consisted primarily of the cost of product materials, licensed
technology and amounts paid to third party vendors for sales administration,
order fulfillment and telephone support to customers. Cost of service revenues
in both periods consisted primarily of outside consulting services and personnel
related costs incurred in providing customer support, consulting services and,
to a lesser extent, fees paid to a third party related to the sale of
advertising.
Gross margins on total revenues may be impacted by the mix of distribution
channels used by the Company, the mix of products or services sold, the mix of
product revenues versus service revenues, the mix of international versus North
American revenues and the prices charged for products. The Company typically
realizes higher gross margins on direct sales than on sales through indirect
channels and higher gross margins on product revenues than on service revenues.
In addition, the Company earns lower gross margins on shrink-wrap product
licenses than on right-to-copy licenses. The Company believes that gross
margins may be adversely impacted in the future due to increased sales through
indirect channels, increased international revenues as a percentage of total
revenues and increased service revenues as a percentage of total revenues. In
addition, the Company believes that the total gross margin may decrease in
future periods due to increased costs associated with licensed technology and
product warranty, which includes free telephone support for Netscape Navigator
products.
OPERATING EXPENSES
The Company's operating expenses, excluding Property Rights Agreement and
Related Charges and Merger Related Charges, have increased in absolute dollar
amounts in every consecutive quarter through the quarter ended March 31, 1996.
This trend reflects the Company's rapid growth and expansion in all operating
areas. The Company believes that continued expansion of operations is essential
to achieving and maintaining market leadership. In addition, the Company
anticipates increases in infrastructure-related expenses, such as costs for
facilities, telecommunications and management information systems. As a
consequence, the Company intends to continue to increase expenditures in all
operating areas. Further, the Company will incur significant merger related
charges and other increases in operating expenses associated with its
acquisitions. See Notes to Condensed Consolidated Financial Statements.
The Company recorded deferred compensation of $11.1 million for the difference
between the grant price and the deemed fair value of the Company's common stock
for stock options granted in the first six months of 1995. Operating expenses in
each of the quarters ended March 31, 1996 and December 31, 1995 included
$600,000 of non-cash charges associated with the amortization of deferred
compensation. The Company will continue to record additional operating expenses
of $600,000 associated with deferred compensation amortization in each quarter
of 1996.
11
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Research and Development. Research and development expenses consist primarily
of salaries and consulting fees to support product development. Research and
development expenses in the first quarter of 1996 increased in absolute dollars
as compared to the immediately prior quarter, although declined as a percentage
of revenues as compared to the immediately prior quarter. The dollar increases
in the period were primarily attributable to increased staffing and consulting
costs. The company intends to increase the level of research and development
expenses in future periods.
Sales and Marketing. Sales and marketing expenses consist primarily of
compensation, consulting fees, trade show expenses and advertising. Sales and
marketing expenses in the first quarter of 1996 increased in absolute and as a
percentage of revenues as compared to the immediately prior quarter. The
increases in the first quarter of 1996 were primarily attributable to increased
staffing, marketing programs, costs associated with opening new sales offices
and sales commissions on increased sales. In addition, the Company incurred
certain one time charges associated with the reorganization of distribution
relationships. The Company intends to increase the level of sales and marketing
expenses in future periods.
General and Administrative. General and administrative expenses consist
primarily of salaries and fees for professional services. General and
administrative expenses in the first quarter of 1996 increased in absolute
dollars and as a percentage of revenues dollars as compared to the immediately
prior quarter. The increases in the period were primarily attributable to
increased staffing and legal expenditures to support higher revenue levels. The
Company intends to increase the level of general and administrative expenses in
future periods.
Merger Related Charges. The Company incurred certain expenses totaling $2.0
million for the quarter ended December 31, 1995. These expenses relate to the
Company's merger with Collabra in November 1995 and were primarily associated
with fees for investment banking, legal, accounting, and other related charges
incurred in conjunction with the merger. The Company does not anticipate
incurring any additional charges associated with the Collabra merger, however,
there can be no assurance that such charges will not be incurred in subsequent
quarters. Further, the Company expects to incur direct transaction costs of at
least $6.5 million in connection with the acquisitions of InSoft, Netcode and
Paper. See Notes to Condensed Consolidated Financial Statements.
INTEREST INCOME, NET
Net interest income decreased $200,000 in the first quarter of 1996 as compared
to the immediately prior quarter primarily as a result of the lower pre-tax
interest income earned on investment balances. The Company began to transition
its investment portfolio to tax-exempt investment instruments in the fourth
quarter of 1995 in order to achieve higher after-tax earnings. Pre-tax interest
income in future periods may continue to decline as a result of this change in
the portfolio composition.
PROVISION FOR INCOME TAXES
The Company's effective tax rate increased to 25.0% of pretax income in the
first quarter of 1996 from 17.4% percent in the immediately prior quarter. The
higher effective tax rate for the first quarter of 1996 was primarily due to the
Company's transition to profitable operations in 1996, after giving
consideration to federal and state net operating loss carryforwards.
The Company anticipates its fiscal 1996 effective tax rate to be approximately
25% percent; however, this rate could change based on a change in the geographic
mix of the Company's earnings, the amount of permanent reinvestment offshore of
a portion of the 1996 earnings of the Company's lower-taxed Irish operations,
the potential reinstatement of the U.S. federal research and development tax
credit and the tax effect of future acquisitions.
12
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FACTORS AFFECTING OPERATING RESULTS
SECURITY RISKS
The Company has included in its products security protocols which operate in
conjunction with encryption and authentication technology licensed from RSA.
Despite the existence of these technologies, the Company's products have been
found to be vulnerable to break-ins and similar disruptive problems caused by
Internet users. In the last several months, there have been several instances
in which weaknesses or vulnerabilities in the Company's security implementation
were discovered, the most significant of which was the discovery of the
information used to generate the keys for secure communications between two
computers using Netscape products with relatively minimal computing power. In
each instance in which a vulnerability or weakness was discovered in the
Company's security implementation, the Company attempted to address the
vulnerability or weakness by making the various design changes in its security
and reviewing those changes both internally and with a broad set of outside
industry experts. The design changes appear to have resolved known security
vulnerabilities and weaknesses in the Companys products.
In addition, the Company's products incorporate technology from other software
companies which could be vulnerable to security flaws. For example, in March
1996, certain security flaws were discovered in the Java programming language;
in particular, one security flaw was discovered which could have jeopardized the
security of information stored in the computer of Netscape Navigator users. Sun
Microsystems Inc. ("Sun"), the licenser of Java, has corrected this particular
security flaw and has distributed the software fix to the Company. However,
there can be no assurance that the Company's products will not be susceptible to
other security flaws, whether in Java or other technology incorporated into the
Company's products.
Despite the Company's attempts to address the vulnerabilities and weaknesses in
its security implementation, the Company's products and licensed technology
incorporated in such products may continue to be vulnerable to break-ins and
similar disruptive problems caused by Internet users. Further, as is generally
known, weaknesses in the environment in which Netscape products are used may
compromise the security of confidential electronic information exchanges across
the Internet. This includes, but is not limited to, the security of the
physical network, security of the physical machines used for the information
transfer and the security of the operating system on top of which the Netscape
products are running. Any such flaws in the Internet or the end-user
environment, or weaknesses or vulnerabilities in the Company's products or
licensed technology incorporated in such products, would jeopardize the security
of confidential information sent over the Internet using Netscape software, such
as e-mail and credit card numbers, and might enable others to dismantle the
special security techniques meant to protect such transactions.
Any further computer break-ins or other disruptions would jeopardize the
security of information stored in and transmitted through the computer systems
of end-users of the Company's products, which may result in significant
liability to the Company and may also deter potential customers. Moreover, the
security and privacy of existing and potential customers, as well as concerns
related to computer viruses, may inhibit the growth of the Internet marketplace
generally, and the Company's customer base and revenues in particular. The
Company attempts to limit its liability to its customers, including liability
arising from failure of the security implementation contained in the Company's
products, through contractual provisions. However, there can be no assurance
that such limitations will be effective. The Company currently does not have
product liability insurance to protect against risks associated with forced
break-ins or disruptions. There can be no assurance that additional security
vulnerabilities and weaknesses will not be discovered in the Company's products
or licensed technology incorporated in such products or that weaknesses in the
end-user environments will not limit the use of the Internet as a commercial
medium. Any additional security related problems in the Company's products or
licensed technology incorporated in such products may require significant
expenditures of capital and resources by the Company to alleviate such problems,
may result in lawsuits against the Company, may result in loss of customers and
may cause interruptions, delays or cessations of product shipments to the
Company's customers. Any such expenditures, lawsuits, loss of customers,
interruptions, cessations or delays would likely have a material adverse effect
on the Company's business, operating results and financial condition.
13
<PAGE>
COMPETITION
The market for Internet-based software and services is new, intensely
competitive, rapidly evolving and subject to rapid technological change. The
Company expects competition to persist, intensify and increase in the future.
Almost all of the Company's current and potential competitors have longer
operating histories, greater name recognition, larger installed customer bases
and significantly greater financial, technical and marketing resources than the
Company. Such competition could materially adversely affect the Company's
business, operating results or financial condition. The Company's current and
potential competitors can be divided into several groups: Microsoft Corporation
("Microsoft"), browser software vendors, Web server software and service
vendors, and PC and Unix software vendors.
Microsoft Corporation. Microsoft has bundled its own browser with its Windows
95 operating system. Microsoft's browser can also be downloaded for free over
the Internet and is being offered as a free product to distributors and end-
users, including distributors and end-users of the Company's products. The
penetration of this software into Microsoft's installed base of PC users has
increased the competitive pressures on the Company, which may result in price
reductions for Netscape's client software and may also materially reduce
Netscape's market share. Further, in February 1996, Microsoft introduced its
Internet server software (ISS) that is bundled with Microsoft's Windows NT
Advanced Server operating system at no additional cost, which may cause further
price pressure on Netscape's server products. Moreover, Microsoft has announced
its intention to develop commercial applications software which will compete
directly with Netscape's commercial applications software. The Company believes
that Microsoft has attempted to create competitive advantages for its browser
and server products by bundling these products with its operating systems. The
Company also believes that microsoft is attempting to use its dominant position
in desktop software to secure preferential contracts with third parties,
including third parties with whom the Company has relationships. In addition,
the Company believes that Microsoft may promote technologies and standards with
which Netscape's products are not compatible. Further, Microsoft is devoting a
portion of its substantial resources to developing, marketing and distributing
Internet software and services in an attempt to gain market share. Microsoft
has a longer operating history, a much larger installed base and number of
employees and dramatically greater financial, technical and marketing resources,
access to distribution channels and name recognition than the Company. As a
result of Microsoft's ability to leverage all of the foregoing to its advantage,
there can be no assurance that Netscape's business, operating results and
financial condition will not be materially adversely affected.
Browser Software Vendors. Several companies are currently offering client-based
Web browser products, including Spry, Inc. (a subsidiary of CompuServe),
Spyglass, Inc. ("Spyglass"), NetManage Inc., Network Computing Devices, Inc. and
Quarterdeck Office Systems, Inc. ("Quarterdeck"). Other companies, such as
Oracle Corporation ("Oracle"), have announced their intention to offer Web
browser products. In addition, the NCSA at the University of Illinois
distributes its product, NCSA Mosaic, for free for noncommercial use. Further,
Spyglass has an exclusive license for NCSA Mosaic and is actively sublicensing
it to other commercial vendors. These sublicensees are expected to offer
derivative products that will compete with the Company's Netscape Navigator
product line.
Server Software and Service Vendors. Several companies are currently offering
Web server software products that compete directly with the Company's Web server
products, and others are offering Web server software that they install and
operate on behalf of their customers or bundle with other services. Companies
offering competing Web server products include Microsoft, IBM, Oracle, Novell,
Inc., Spyglass, Open Market, Inc. ("Open Market"), Quarterdeck and O'Reilly &
Associates, Inc., among others. In addition, some of these companies are
enhancing the functionality of their existing products through their Web product
offerings. In addition to Microsoft's bundling of ISS with its Windows NT
Advanced Server, Lotus Development Corporation ("Lotus"), a subsidiary of IBM,
has developed a Web server based on its popular Notes group software program,
and Oracle has introduced a Web server product that works with its large
installed base of database software. Service companies include Open Market and
Internet Media Services, which publish content from third parties on their own
Web servers. In the future, software companies which have server products in
other product categories, such as database vendors, may choose to enhance the
functionality of existing products or develop new products which are competitive
with the Company's Web server and Commercial Applications products.
14
<PAGE>
PC and Unix Software Vendors. The Company believes that PC software vendors may
become particularly formidable competitors. In addition to Microsoft, IBM is
currently incorporating client software, and may incorporate Web server
software, in its OS/2 operating system, and the Company believes that other PC
operating system vendors, including Apple Computer, Inc., will also incorporate
some Web client or server functionality into their operating systems as standard
features. The Company also expects Unix operating systems vendors, such as Sun,
Hewlett-Packard Company, IBM, Digital Equipment Corporation, Santa Cruz
Operations, Inc. and Silicon Graphics, Inc., to incorporate Web client and
server software into their operating systems. If these companies incorporate
Web client or server functionality into their software products and to the
extent such technology is not licensed from Netscape or is licensed from
Netscape at significantly reduced prices, the Company's revenues could be
materially, adversely affected.
Additional competition could come from client/server applications and tools
vendors, multimedia companies, document management companies, networking
software companies, network management companies and educational software
companies. Further, the Company's current products are designed around certain
standards, and industry acceptance of competing standards could decrease the
demand for the Company's products.
Competitive factors in the Internet-based software and services market include
core technology, breadth of product features, product quality, marketing and
distribution resources, and customer service and support. The Company believes
it presently competes favorably with respect to each of these factors. However,
the market and competition are still new and rapidly emerging, and there can be
no assurance that the Company will be able to compete successfully
against current or future competitors, nor can there be any assurance that this
competition will not result in price reductions of the Company's products or
loss of market share or otherwise will not materially adversely affect the
Company's business, operating results and financial condition.
POTENTIAL FLUCTUATIONS IN QUARTERLY RESULTS
As a result of the Company's limited operating history, the Company does not
have historical financial data for a significant number of periods on which to
base planned operating expenses. Accordingly, the Company's expense levels are
based in part on its expectations as to future revenues and to a large extent
are fixed. However, the Company typically operates with minimal backlog. As a
result, quarterly sales and operating results generally depend on the volume and
timing of and ability to fulfill orders received within the quarter, which are
difficult to forecast. The Company may be unable to adjust spending in a timely
manner to compensate for any unexpected revenues shortfall. Accordingly, any
significant shortfall of demand for the Company's products and services in
relation to the Company's expectations would have an immediate adverse impact on
the Company's business, operating results and financial condition. In addition,
the Company (i) plans to increase its operating expenses to fund greater levels
of research and development, increase its sales and marketing operations,
develop new distribution channels, improve its operational and financial systems
and broaden its customer support capabilities and (ii) will incur significant
merger-related charges and other increases in operating expenses associated with
recently completed and proposed acquisitions. To the extent that such expenses
precede or are not subsequently followed by increased revenues, the Company's
business, operating results and financial condition will be materially adversely
affected.
The Company expects to experience significant fluctuations in future quarterly
operating results that may be caused by many factors, including demand for the
Company's products, introduction or enhancement of products by the Company and
its competitors, market acceptance of new products, price reductions by the
Company (such as those made in October 1995 and March 1996) or its competitors,
mix of distribution channels through which products are sold, mix of products
and services sold, mix of international and North American revenues, and general
economic conditions. In addition, as a strategic response to changes in the
competitive environment, the Company may from time to time make certain pricing
or marketing decisions or acquisitions (such as the InSoft, Netcode and Paper
Software acquisitions) that could have a material adverse effect on the
Company's business, results of operations or financial condition. As a result,
the Company believes that period-to-period comparisons of its results of
operations are not necessarily meaningful and should not be relied upon as any
indication of future performance. Due to all of the foregoing factors, it is
likely that in some future quarters the Company's operating results will be
below the expectations of public market analysts and investors. In such event,
the price of the Company's common stock would likely be materially adversely
affected.
15
<PAGE>
LIQUIDITY AND CAPITAL RESOURCES
At March 31, 1996, the Company's principal source of liquidity was approximately
$145.6 million in cash, cash equivalents and short-term investments and $34.4
million in long-term investments, a $9.8 million increase over December 31, 1995
cash and investment balances. The increase in cash and investment balances was
primarily attributable to operating activities including an increase in the
number of deferred non-refundable prepayments received pursuant to product
licensing arrangements and an increase in current liabilities, partially offset
by the impact of capital expenditures and an increase in accounts receivable.
For the quarter ended March 31, 1996, cash used in investing activities of $18.7
million was primarily due to capital expenditures of $13.6 million and a net
increase in investments available-for-sale of $5.1 million. Cash provided by
financing activities of $1.4 million in the first quarter of 1996 was primarily
attributed to the net proceeds from the issuance of common stock in conjunction
with stock option exercises.
Deferred revenues primarily consist of the unrecognized portion of service
revenues received pursuant to maintenance and support contracts and the
unrecognized portion of non-refundable prepaid license royalties received
pursuant to reseller agreements. Deferred revenues increased from $30.0 million
at December 31, 1995 to $54.2 million at March 31, 1996 due to an increase in
the number of reseller agreements, the amount of prepayments received pursuant
to reseller agreements, the number of software license subscription contracts
sold and, to a lesser extent, to an increase in the number of training,
consulting and maintenance and support contracts.
Capital expenditures in the first quarter of 1996 were $13.6 million. The
Company estimates that total 1996 capital expenditures will be at least $50
million, which includes planned purchases of computer hardware and software as
well as planned leasehold improvements related to additional leased facilities.
Management believes existing cash and investments together with cash
flows expected to be generated from operations will be sufficient to meet the
Company's operating requirements for the next twelve months.
16
<PAGE>
PART II -- OTHER INFORMATION
----------------------------
ITEM 1. LEGAL PROCEEDINGS
On April 2, 1996, Elk Industries Inc. ("Elk") filed suit in the United States
District Court for the Southern District of Florida against the Company alleging
infringement of U.S. Patent No. 4,124,773 titled "Audio Storage and
Distribution" (the "Elk Patent"). The complaint alleges that Netscape
Navigator and possibly other Company products infringe the Elk Patent, and also
that the Company is inducing infringement and contributing to the infringement
of the Elk Patent.
The complaint does not describe how the Company's products allegedly infringe
the Elk Patent or how the Company allegedly induces or contributes to such
infringement. Netscape believes that the complaint is without merit and intends
to defend the litigation vigorously.
There can be no assurance that the Company will not be held to infringe, induce
infringement or contribute to the infringement of the Elk Patent. In such case,
the Company could incur additional costs and liability, including costs and
liability from claims for indemnification resulting from infringement. The
assertion of these patent rights by Elk, if successful, could also prevent the
Company's products from enabling users to retrieve and transmit digital files
that contain audio information, where such audio information has been processed
in accordance with the techniques described in the Elk Patent.
ITEM 2. CHANGES IN SECURITIES
On January 23, 1996, the Company effected a two-for-one split of its outstanding
common stock and correspondingly increased the Company's authorized common stock
from 100 million to 200 million shares. The stock split was originally approved
by the Company's Board of Directors on November 13, 1995, and the stockholders
approved the stock split at a special meeting of stockholders held on January
23, 1996. The stock split was reflected in the Nasdaq National Market on
February 7, 1996. Share and per share data for all periods presented in this
report have been adjusted to give effect to the stock split.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits:
Exhibit 11.1 - Statement of Computation of Earnings Per Share (page 16).
Exhibit 27 - Financial Data Schedule.
(b) Reports on Form 8-K:
No reports on Form 8-K were filed by Netscape during the quarter ended
March 31, 1996.
ITEMS 3, 4 AND 5 ARE NOT APPLICABLE AND HAVE BEEN OMITTED.
17
<PAGE>
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
NETSCAPE COMMUNICATIONS CORPORATION
Date: May 13, 1996 By: /s/ PETER L.S. CURRIE
------------ ----------------------------
Peter L.S. Currie,
Senior Vice President and Chief Financial Officer
(Principal Financial Officer)
Date: May 13, 1996 By: /s/ NOREEN G. BERGIN
------------ -----------------------------
Noreen G. Bergin
Vice President and Corporate Controller
(Principal Accounting Officer)
18
<PAGE>
EXHIBIT 11.1
NETSCAPE COMMUNICATIONS CORPORATION
STATEMENTS OF EARNING PER SHARE
(unaudited)
<TABLE>
<CAPTION>
Three Months Ended
March 31,
-------------------
1996 1995
------- -------
<S> <C> <C>
Primary:
Weighted average common stock outstanding 81,263 37,101
Stock related to SAB No.64 and 83 - 29,651
Net effect of dilutive stock options based on the
treasury stock method using average market price 3,817 -
-------- --------
Total weighted average common and
common equivalent shares outstanding 85,080 66,752
======= =======
Net income (loss) $ 4,712 $(3,851)
======= =======
Net income (loss) per share $ 0.06 $ (0.06)
======= =======
Fully diluted:
Weighted average common stock outstanding 81,263 37,101
Stock related to SAB No.64 and 83 - 29,651
Net effect of dilutive stock options based on the
treasury stock method using quarter-end market price 3,817 -
-------- --------
Total weighted average common and
common equivalent shares outstanding 85,080 66,752
======= =======
Net income (loss) $ 4,712 $(3,851)
======= =======
Net income (loss) per share $ 0.06 $ (0.06)
======= =======
</TABLE>
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
FINANCIAL STATEMENTS IN THE QUARTERLY REPORT ON FORM 10Q OF NETSCAPE
COMMUNICATIONS CORPORATION FOR THE QUARTER ENDED MARCH 31, 1996.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1996
<PERIOD-START> JAN-01-1996
<PERIOD-END> MAR-31-1996
<CASH> 56,752
<SECURITIES> 123,215
<RECEIVABLES> 48,183
<ALLOWANCES> 0
<INVENTORY> 0
<CURRENT-ASSETS> 204,298
<PP&E> 32,426
<DEPRECIATION> 0
<TOTAL-ASSETS> 273,540
<CURRENT-LIABILITIES> 92,708
<BONDS> 0
0
0
<COMMON> 198,214
<OTHER-SE> (18,413)
<TOTAL-LIABILITY-AND-EQUITY> 273,540
<SALES> 48,113
<TOTAL-REVENUES> 55,001
<CGS> 6,797
<TOTAL-COSTS> 42,666
<OTHER-EXPENSES> 76
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 0
<INCOME-PRETAX> 6,277
<INCOME-TAX> 1,565
<INCOME-CONTINUING> 6,277
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 4,712
<EPS-PRIMARY> 0.06
<EPS-DILUTED> 0.06
</TABLE>
