UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q/A
(Amendment No. 1)
(Mark one)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 1998.
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
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Commission File Number 0-26392
LEVEL 8 SYSTEMS, INC.
---------------------
(Exact name of registrant as specified in its charter)
NEW YORK 11-2920559
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(State or other jurisdiction of incorporation (I.R.S Employer Identification
or organization) Number)
8000 Regency Parkway, Cary, NC 27511
- --------------------------------------------------------------------------------
(Address of principal executive offices) (Zip Code)
(919) 380-5000
----------------------------------------------------
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15d 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 the number of shares outstanding in each of the issuer's classes of
common stock, as of the latest practicable date.
7,639,822 common shares, $.01 par value, were outstanding as of July 31, 1998.
1
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<CAPTION>
LEVEL 8 SYSTEMS, INC.
INDEX
Page
<S> <C>
PART I. Financial Information Number
------
Item 1. Financial Statements
Consolidated balance sheets as of June 30, 1998 (unaudited)
and December 31, 1997 3
Consolidated statements of operations (unaudited) for the three and
six months ended June 30, 1998 and 1997 4
Consolidated statements of cash flows (unaudited) for the six months
ended June 30, 1998 and 1997 5
Notes to consolidated financial statements (unaudited) 6
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations 10
PART II. Other Information 12
SIGNATURES 14
</TABLE>
Introductory Note:
This Amendment on Form 10-Q/A amends the Registrant's Quarterly Report on Form
10-Q for the period ended June 30, 1998, as filed by the Registrant on August
14, 1998, and is being filed to reflect the restatement of the Registrant's
consolidated financial statements (the "Restatement"). The Restatement reflects
the revaluation of acquired in-process research and development from the
acquisition of Momentum Software Corporation on March 26, 1998, based upon
revised guidelines as set forth by the Securities and Exchange Commission (the
"SEC"); informal discussions with the SEC regarding the accounting for
renegotiations of royalty payments under a software development agreement which
the Company is now amortizing over the term of the agreement; and other
adjustments to properly reflect quarterly results. The adjustments to the
previously presented quarterly information, except for the revaluation of
acquired in-process research and development and the renegotiated royalty
payments, are between quarters within each of the years ended December 31, 1997
and 1998 and have no impact on year-end results.
2
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PART I.
ITEM1.
<TABLE>
<CAPTION>
LEVEL 8 SYSTEMS, INC.
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
(UNAUDITED)
<BTB>
June 30, December 31,
1998 1997
---- ----
<S> <C> <C>
Assets
Cash and cash equivalents $ 5,856 $ 7,062
Accounts receivable, less allowance for doubtful accounts
of $780 and $434 at June 30, 1998 and December 31,
1997, respectively 5,650 6,455
Income taxes receivable - 406
Inventory 336 336
Prepaid expenses and other current assets 1,045 421
Net assets from discontinued operations 1,769 3,577
Deferred income taxes 1,325 -
-------- --------
Total current assets 15,981 18,257
Property and equipment, net 1,566 974
Excess of cost over net assets acquired, net 6,729 1,793
Software development costs, net 2,747 2,168
Deposits and deferred costs 880 -
Other assets - 290
-------- --------
Total assets $27,903 $23,482
======== ========
Liabilities and stockholders' equity
Current maturities of loan and note payable from related company $ 1,047 $ 128
Current maturities of long-term debt 46 7
Accounts payable 1,174 1,936
Accrued expenses 625 224
Due to related company 75 -
Customer deposits and deferred revenue 893 42
Deferred taxes - 94
-------- --------
Total current liabilities 3,860 2,431
Long-term debt, net of current maturities 73 16
Loan and note payable from related company, net of current maturities 585 202
Deferred income taxes 353 462
Stockholders' equity
Preferred stock - -
Common stock 77 70
Additional paid-in-capital 27,650 20,603
Accumulated deficit (4,695) (184)
Unearned compensation - (118)
-------- --------
Total stockholders' equity 23,032 20,371
-------- --------
Total liabilities and stockholders' equity $27,903 $23,482
======== ========
The accompanying notes are an integral part of the consolidated financial statements.
</TABLE>
3
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<CAPTION>
LEVEL 8 SYSTEMS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
<BTB>
Three Months Ended Six Months Ended
June 30, June 30,
1998 1997 1998 1997
---- ---- ---- ----
<S> <C> <C> <C> <C>
Operating revenue:
Consulting and services $ 2,723 $2,022 $ 5,064 $3,984
Software 415 700 627 1,591
Other 17 45 557 45
-------- ------- -------- -------
Total operating revenue 3,155 2,767 6,248 5,620
Cost of revenue:
Consulting and services 1,152 997 2,740 1,853
Software 423 260 849 1,026
Other - 8 - 39
-------- ------- -------- -------
Total cost of revenue 1,575 1,265 3,589 2,918
Gross profit 1,580 1,502 2,659 2,702
Operating expenses:
Selling, general and administrative 3,808 1,267 5,665 2,367
Purchased research and development - - 1,200 -
-------- ------- -------- -------
Total operating expenses 3,808 1,267 6,865 2,367
Income (loss) from operations (2,228) 235 (4,206) 335
Other income (expense)
Interest income 80 94 154 209
Interest expense (35) (5) (39) (10)
-------- ------- -------- -------
Income (loss) before tax provision (2,183) 324 (4,091) 534
Income tax provision (benefit) (157) 127 (558) 221
-------- ------- -------- -------
Income (loss) from continuing operations (2,026) 197 (3,533) 313
Discontinued operations:
Income (loss) from discontinued operation, net
of taxes (benefit) of ($90) and $22 - 25 (135) 59
Loss on disposal, net of income tax expense of $519 - - (843) -
-------- ------- -------- -------
- 25 (978) 59
Net income (loss) $(2,026) $ 222 $(4,511) $ 372
======== ======= ======== =======
Net income (loss) per common share:
Income (loss) from continuing operations - basic $ (0.26) $ 0.03 $ (0.48) $ 0.04
Income (loss) from discontinued operations - basic $ - $ - $ (0.13) $ 0.01
-------- ------- -------- -------
Net income (loss) per share - basic $ (0.26) $ 0.03 $ (0.61) $ 0.05
======== ======= ======== =======
Net income (loss) per common share:
Income (loss) from continuing operations - diluted $ (0.26) $ 0.03 $ (0.48) $ 0.04
Income (loss) from discontinued operations - diluted $ - $ - $ (0.13) $ 0.01
-------- ------- -------- -------
Net income (loss) per share - diluted $ (0.26) $ 0.03 $ (0.61) $ 0.05
======== ======= ======== =======
Weighted shares outstanding - basic 7,689 6,967 7,401 6,963
======== ======= ======== =======
Weighted shares outstanding - diluted 7,689 7,483 7,401 7,506
======== ======= ======== =======
The accompanying notes are an integral part of the consolidated financial statements.
</TABLE>
4
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<CAPTION>
LEVEL 8 SYSTEMS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
<BTB>
Six Months Ended
June 30,
1998 1997
---- ----
<S> <C> <C>
Cash flows from operating activities:
Net income (loss) $(4,511) $ 473
Adjustments to reconcile net income (loss) to net cash
provided by (used in)operating activities:
(Income) loss from discontinued operations 135 (59)
Loss on disposal of discontinued operations 843 -
Depreciation and amortization 1,725 344
Deferred income taxes (825) 287
Purchased research and development 1,200 -
Write-off of capitalized software 294 -
Other 406 49
Changes in assets and liabilities, net of assets acquired
and liabilities assumed:
Trade accounts receivable 930 (1,470)
Prepaid expenses and other assets (72) (626)
Accounts payable and accrued expenses (615) (123)
Customer deposits and deferred revenue 391 36
-------- --------
Net cash used in operating activities (99) (1,089)
Cash flows from investing activities:
Cash received from acquisition 362 -
Purchase of marketable securities - (1,998)
Redemption of marketable securities - 6,497
Purchases of property and equipment (1,111) (144)
Capitalization of software development costs (95) (586)
-------- --------
Net cash provided by (used in) investing activities (844) 3,769
Cash flows from financing activities:
Issuance of common shares 59 58
Costs of issuance of common shares - (137)
Proceeds on long-term debt (150) -
Deferred income taxes (109) -
Payments on other long-term debt (63) (65)
-------- --------
Net cash used in financing activities (263) (144)
Net increase (decrease) in cash and cash equivalents (1,206) 2,536
Cash and cash equivalents:
Beginning of period 7,062 3,318
-------- --------
End of period $ 5,856 $ 5,854
======== ========
The accompanying notes are an integral part of the consolidated financial statements.
</TABLE>
5
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LEVEL 8 SYSTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(IN THOUSANDS,EXCEPT SHARES)
(UNAUDITED)
1. Basis of Presentation -
In the opinion of the Company, these unaudited consolidated financial statements
contain all normal, recurring adjustments necessary to present fairly the
financial position of the Company as of June 30, 1998 and December 31, 1997 and
the results of operations and cash flows for the three and six months ended June
30, 1998 and 1997. The results of operations and cash flows for the three and
six months ended June 30, 1998 are not necessarily indicative of the results to
be expected for the year ending December 31, 1998, or any other period
This amendment on Form 10-Q/A amends the Company's Quarterly Report on Form 10-Q
originally filed on August 14, 1998 and is being filed to reflect the
restatement of the Company's consolidated financial statements. See Note 3.
The Company filed its annual report on Form 10-K for the year ended December 31,
1998 which contains subsequent information regarding certain matters disclosed
herein. For further information, refer to the 1998 consolidated financial
statements and notes included therein.
Additionally, for further information, refer to the consolidated financial
statements and notes included in the Company's annual report on Form 10-K/A for
the year ended December 31, 1997, filed September 11, 1998.
2. Principles of Consolidation -
The June 30, 1998 consolidated financial statements include the accounts of
Level 8 Systems, Inc. ("Level 8") and its wholly-owned subsidiaries, Level 8
Technologies, Inc. ("Level 8 Technologies") and ProfitKey International, Inc.
("ProfitKey") and its new wholly-owned subsidiary, Momentum Software
Corporation, from the date of acquisition of March 26, 1998. The June 30, 1997
condensed consolidated financial statements include the accounts of Level 8,
Level 8 Technologies, ProfitKey, and its ASU consulting division. On April 6,
1998, the Company sold its wholly-owned subsidiary, ProfitKey. ProfitKey has
been accounted for as a discontinued operation and the results of its operations
have been excluded from continuing operations in the condensed consolidated
financial statements for all periods presented. All inter-company accounts and
transactions are eliminated in consolidation.
3. Restatement
Purchased research and product development
Subsequent to the issuance of the Company's Quarterly Report on Form 10-Q for
quarterly period ended June 30, 1998, the Company's management revised the
amount of the purchase price which was allocated to in-process research and
development ("IPR&D") in accounting for the acquisition of Momentum Software
Corporation in March of 1998. See Note 4. The revised allocation is based upon
methods prescribed in a letter from the Securities and Exchange Commission
("SEC") sent to the American Institute of Certified Public Accountants in
September 1998. The letter sets forth the SEC's views regarding the valuation
methodology to be used in allocating a portion of the purchase price to IPR&D at
the date of the acquisition.
The Company's initial calculations to value the acquired IPR&D were based upon a
methodology that estimated the costs to develop the IPR&D into commercially
viable products, and discounted the net cash flows back to their present value.
The increase in selling, general and administrative is primarily due to the
additional goodwill related to the purchase of Momentum Software Corp. due to
the change in the valuation of IPR&D discussed above. Goodwill and amortization
was approximately $408 for the quarter ended June 30, 1998. An increase to
acquisition research of $112 and $244 for the three and six month periods ended,
respectively was recorded.
The Company also adjusted the value and shares of stock issued for the purchase
of Momentum. This adjustment resulted in a $668 increase to goodwill.
The change in weighted average shares outstanding for the three and six month
period ending June 30, 1998 is due to the recomputation of shares taking into
effect the purchase of Momentum Software Corporation.
6
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Royalty agreement
During 1995, the Company and Liraz, the Company's majority shareholder, entered
into a custom computer programming agreement for the joint development of
certain software. Liraz and the Company were each to pay 50% of the total
project development costs. In exchange for providing 50% of the project
development costs, Liraz was to receive royalties of 30% of the first $2,000 in
contract revenue from the sale of products developed under this agreement, 20%
of the next $1,000, and 8% thereafter.
Due to a change in the Company's development plans for this product, during the
first quarter of 1998, the Company and Liraz orally agreed to amend the original
custom computer programming agreement. Under the new agreement signed April 1,
1998, the Company agreed to reimburse Liraz's costs of development of $1,500 and
to pay Liraz royalties of 3% of program revenues, as defined in the agreement,
generated from January 1, 1998 until December 31, 2000. The Company originally
recorded the transaction as a purchase of technology with an offsetting note to
Liraz for $1,500 during the first quarter of 1998. Additionally, the Company
recorded an impairment loss related to the capitalized cost of the joint
development agreement due to the net realizable value of the future cash flows
expected from the product. Based on informal discussions with the SEC, the
Company has restated its quarterly financial statements to amortize the cost of
reimbursement over the term of the agreement beginning on April 1, 1998 with the
signing of the agreement.
The increase in prepaid expenses and other current assets is primarily related
to recognition of current deferred royalty expenses of $500 for the quarter
ended June 30, 1998.
Other adjustments
In connection with the audit of the Company's 1998 annual consolidated financial
statements, certain adjustments were identified in order to
recognize revenue in the proper quarter of 1998 in accordance with Statement of
Position 97-2, "Software Revenue Recognition," issued by the American
Institute of Certified Public Accountants. For the six months ended
June 30, 1998, revenues totaling $930 have been deferred until subsequent
quarters of 1998 along with $234 of expenses related to the revenues. The
nature of this transaction also impacts accounts receivable and deferred
revenues.
The adjustments to the current maturities of loan from related company, current
maturities of long-term debt, long-term debt, net of current maturities and loan
from related company, net of current maturities was a reclassification among
those accounts and has no impact on the consolidated balance sheet as of June
30, 1998.
<TABLE>
<CAPTION>
A summary of the significant effects of the restatement is as follows:
<BTB>
As of June 30, 1998
As
Previously As
Reported Restated
-------- --------
<S> <C> <C>
BALANCE SHEET DATA
Accounts receivable, net $ 6,234 $ 5,650
Prepaid expenses and other current assets 545 1,045
Property and equipment, net 1,524 1,566
Excess of cost over net assets acquired, net 2,299 6,729
Software development costs, net 2,730 2,747
Customer deposits and deferred costs 279 880
Total assets 22,897 27,903
Accounts payable 1,408 1,174
Current maturities of loan from related company 128 1,047
Current maturities of long-term debt 497 46
Deferred revenue 318 890
Long-term debt, net of current maturities 988 73
Loan from related company, net of current maturities 138 585
Additional paid-in-capital 28,362 27,650
Accumulated deficit (9,956) (4,695)
Unearned compensation (118) -
Total shareholders' equity (deficiency) 18,364 23,032
Total liabilities 22,897 27,903
</TABLE>
7
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<CAPTION>
<BTB>
Three Months Ended Six Months Ended
June 30,1998 June 30, 1998
Previously Previously
Reported Restated Reported Restated
------ ------ ------ ------
<S> <C> <C> <C> <C>
CONSOLIDATED STATEMENT OF OPERATIONS
Consulting and services $ 3,066 $ 2,723 $ 5797 $ 5,064
Software 534 415 824 627
Cost of consulting and services 1,386 1,152 2,974 2,740
Cost of software 318 423 470 849
Gross profit 1,913 1,580 3,734 2,659
Selling, general and administrative 3,288 3,808 4,896 5,665
Purchased research and development - - 6,510 1,200
Write-off of capitalized software - - 1,794 -
Income (loss) from operations (1,375) (2,228) (9,466) (4,205)
Income tax provision (157) (157) (762) (558)
Income (loss) from continuing operations (1,173) (2,026) (8,589) (3,532)
Loss on disposal, net of income tax expense of $519 - - (1,047) (843)
Net income (loss) (1,173) (2,026) (9,771) (4,510)
Net loss per common share - basic and diluted (0.15) (0.26) (1.33) (0.61)
Weighted average shares outstanding - basic and diluted 7,618 7,689 7,351 7,401
</TABLE>
An adjustment has also been made to restate the second quarter results for 1997
to reflect salary expense related to the issuance of stock options to a
non-employee consultant. This adjustment was originally recorded in the fourth
quarter of 1997. This transaction has no impact on the total results for the
year ended December 31, 1997.
<TABLE>
<CAPTION>
<BTB>
Three Months Ended Six Months Ended
June 30, 1997 June 30, 1997
Previously Previously
Reported Restated Reported Restated
----- ----- ----- -----
<S> <C> <C> <C> <C>
CONSOLIDATED STATEMENT OF OPERATIONS
Selling, general and administrative $1,166 $1,267 $2,266 $2,367
Net income 323 222 473 372
Net income per common share - basic 0.05 0.03 0.07 0.05
Net income per common share - diluted 0.04 0.03 0.06 0.05
Weighted average shares outstanding - basic 6,967 6,967 6,963 6,963
Weighted average shares outstanding - diluted 7,483 7,483 7,506 7,506
</TABLE>
4. Acquisition -
On March 26, 1998, the Company acquired Momentum Software Corporation
("Momentum"). Under the agreement, Level 8 issued 594,866 shares of common
stock and warrants to purchase 200,000 common shares at an exercise price of
$13.108 per share, subject to adjustment based on the value of the Level 8
common shares on December 1, 1998. The amount of contingent consideration, if
any, will be determined in the fourth quarter of 1998. The total cost of the
acquisition, excluding additional contingent consideration paid in the fourth
quarter, was approximately $7,717 and is treated as a purchase. As a result of
the acquisition of Momentum, the Company incurred a nonrecurring charge to
earnings of an estimate of approximately $1.2 million related to the purchase
of in-process research and development costs. The remaining amount was allocated
to goodwill and software development costs. The results of operations of
Momentum are included in the financial statements since the date of acquisition.
The purchase price was preliminarily allocated to the assets acquired and
liabilities assumed based on the Company's estimates of fair value at the
acquisition date. The fair value assigned to intangible assets acquired was
based on a valuation prepared by an independent third-party appraisal company of
the purchased in-process research and development, developed technology, and
assembled workforce of Momentum. The purchase price exceeded the amounts
allocated to tangible and intangible assets acquired less liabilities assumed by
approximately $5,615. This excess of the purchase price over the fair values of
assets acquired less liabilities assumed was allocated to goodwill.
8
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The cost of the acquisition was allocated as follows:
<BTB>
<S> <C>
Cash $ 437
Accounts receivable 125
Prepaid expenses and other current assets 52
Property and equipment 174
In-process research and development 1,200
Developed technology 1,100
Goodwill and other intangibles 5,615
Accounts payable (507)
Deferred revenue (367)
Long-term debt (112)
-------
Cost of net assets acquired $7,717
=======
</TABLE>
Approximately $1,200 of the purchase price represents purchased in-process
research and development that had not yet reached technological feasibility and
had no alternative future use. Accordingly, this amount was immediately
expensed in the Consolidated Statement of Operations upon consummation of the
acquisition. The value assigned to in-process research and development, based
on a valuation prepared by an independent third-party appraisal company, was
determined by identifying research projects, all of which related to either
add-ons or enhancements of Momentum's existing XIPC product, in areas for which
technological feasibility had not been established. The value of in-process
projects was adjusted to reflect the relative value and contributions of the
required research and development. In doing so, consideration was given to the
stage of completion, the complexity of the work completed to date, the
difficulty of completing the remaining development costs already incurred, and
the projected cost to complete projects. The discount rate included a factor
that takes into account the uncertainty surrounding successful development of
the purchased in-process research and development.
5. Discontinued Operations -
On April 6, 1998, the Company sold its wholly owned subsidiary, ProfitKey. The
disposition of ProfitKey was accounted for as a discontinued operation as of
March 31, 1998. The Company received $464 at the closing and a $2,000 note from
the buyer. The purchase price is subject to adjustment to reflect any variance
in working capital from a specified amount. The buyer has notified the Company
that it believed there was a variance of $1,466, which would require a reduction
in the purchase price of that amount. Based on information available to the
Company at this time, management believes that an adjustment, if any, is not
determinable and if any is ultimately required, it should not have a material
adverse effect on the Company. In connection with the sale, the Company
recorded a loss from the discontinued operation of approximately $1,362 million
including a tax expense of $519.
6. Related Party Agreement
During 1995, the Company and Liraz entered into a custom computer programming
agreement for the joint development of certain software. Liraz and the Company
were each to pay 50% of the total project development costs. In exchange for
providing 50% of the project development costs, Liraz was to receive royalties
of 30% of the first $2,000 in contract revenue from the sale of products
developed under this agreement, 20% of the next $1,000, and 8% thereafter.
On April 1, 1998, the Company and Liraz entered into an amendment to the
original custom computer programming agreement, whereby the original royalty
payment provisions were rescinded. Under the new agreement, the Company agreed
to reimburse Liraz's costs of development of $1,500 and to pay Liraz royalties
of 3% of program revenues, as defined in the agreement, generated from January
1, 1998 until December 31, 2000. The Company issued a note to Liraz for $1,500
for cost reimbursement pursuant to this agreement and is amortizing the cost of
reimbursement over the term of the agreement. The amortization of the cost
reimbursement is included as a component of cost of software in the consolidated
statement of operations.
9
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ITEM 2.
LEVEL 8 SYSTEMS, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
Results of Operations
Overview
Level 8 Systems, Inc. ("Level 8") develops and sells proprietary vertical
application software packages and provides software consulting and support
services to customers located primarily in the United States and Canada. Level
8 Technologies, Inc. ("Level 8 Technologies") is a wholly-owned subsidiary
specializing in transactional messaging middleware and distributed object
technology.
On March 26, 1998, Level 8 acquired all the stock of Momentum Software
Corporation ("Momentum") for 594,866 shares of Level 8 common stock and 200,000
warrants, subject to additional consideration based upon the Level 8 common
stock price on December 1, 1998. The results of Momentum are included in the
financial statements since the date of acquisition.
On April 6, 1998, Level 8 sold its wholly-owned subsidiary, ProfitKey
International, Inc. ("ProfitKey"). The sale resulted in a loss of approximately
$1,362. Level 8 recorded the loss in the first quarter of 1998 for the disposal
of the business and the anticipated operating losses until disposal. ProfitKey
is reported as a discontinued operation for 1998 and 1997, and, accordingly, the
loss from operations is recorded as a loss from a discontinued operation. Level
8's operating results for prior periods were restated to reflect the continuing
operations.
In connection with the sale of ProfitKey, the parties agreed to adjust the
purchase price to reflect any variance in ProfitKey's closing date working
capital from a specified amount. The buyer has notified the Company that it
believed there was a variance of $1,466, which would require a reduction in the
purchase price of that amount. Based on information available to the Company at
this time, management believes that an adjustment, if any, is not determinable
and should not have a material adverse effect on the Company.
During 1995, the Company and Liraz entered into a custom computer
programming agreement for the joint development of certain software. Liraz and
the Company were each to pay 50% of the total project development costs. In
exchange for providing 50% of the project development costs, Liraz was to
receive royalties of 30% of the first $2,000 in contract revenue from the sale
of products developed under this agreement, 20% of the next $1,000, and 8%
thereafter. On April 1, 1998, the Company and Liraz entered into an amendment
to the original custom computer programming agreement, whereby the original
royalty payment provisions were rescinded. Under the new agreement, the Company
agreed to reimburse Liraz's costs of development of $1,500 and to pay Liraz
royalties of 3% of program revenues, as defined in the agreement, generated from
January 1, 1998 until December 31, 2000. The Company issued a note to Liraz for
$1,500 for cost reimbursement pursuant to this agreement and is amortizing the
cost of reimbursement over the term of the agreement. The amortization of the
cost reimbursement is included as a component of cost of software in the
consolidated statement of operations.
See Note 3 to the Company's consolidated financial statements in Item 1 for
additional information regarding the restatement of the Company's consolidated
financial statements.
Three Months Ended June 30, 1998 Compared With Three Months Ended June 30, 1997
Revenue for the three months ended June 30, 1998 was approximately $3,155 as
compared to $2,767 for the three months ended June 30, 1997, an increase of $388
or 14%. The increase is primarily related to an increase from consulting,
services and maintenance revenue of $701, of which $350 represents deferred
maintenance revenue recognized in this period, offset by a decrease in software
product and other revenue of $285 associated with MQSeries licenses.
Cost of revenue for the three months ended June 30, 1998 was approximately
$1,575 as compared to $1,265 for the three months ended June 30, 1997, an
increase of $310 or 25%. The increase was due to Level 8 Technologies' increase
in the cost of consulting, services and maintenance of approximately $155, and a
$163 increase in the cost of software products.
The gross margin for the three months ended June 30, 1998 was 50% as
compared to 54.3% for the three months ended June 30, 1997. The decrease was
due primarily to an increase in cost of software related to amortization of
capitalized software and the amortization of the cost reimbursement agreement
with Liraz.
10
<PAGE>
Selling, general, and administrative expenses for the three months ended
June 30, 1998 were approximately $3,808 as compared to approximately $1,267 for
the three months ended June 30, 1997, an increase of approximately $2,541. The
increase is a result of additional development expenses of approximately $820;
additional operational costs associated with Momentum of $770; additional
amortization of goodwill for Momentum of $428; acquisition research expenses of
$112; and other overall increases of $411.
Six Months Ended June 30, 1998 Compared With Six Months Ended June 30, 1997
Revenue for the six months ended June 30, 1998 was approximately $6,248 as
compared to $5,620 for the six months ended June 30, 1997, an increase of $628
or 11%. The increase is primarily related to increases from consulting,
services and maintenance revenue of $1,080, of which $370 represents deferred
maintenance revenue recognized in this period, and an increase in other revenue
of $512, offset by a decrease in software product revenue of $964 relating
primarily to lower MQSeries sales.
Cost of revenue for the six months ended June 30, 1998 was approximately
$3,589 as compared to $2,918 for the six months ended June 30, 1997, an increase
of $671 or 23%. The increase was due to Level 8 Technologies' increase in the
cost of consulting, services and maintenance of approximately $887 offset by a
decrease of $177 in the purchase of MQSeries products for resale.
The gross margin for the six months ended June 30, 1998 was 43% as compared to
48% for the six months ended June 30, 1997. The decrease was primarily due to a
gross loss in software.
Selling, general, and administrative expenses for the six months ended June
30, 1998 were approximately $5,665 as compared to approximately $2,367 for the
six months ended June 30, 1997, an increase of approximately $3,298. The
increase is a result of additional development expense of approximately $974
relating to new product development; $182 in selling and marketing expenses
which reflects the build-up of Level 8's sales organization; $850 of additional
operational costs associated with Momentum; additional amortization of goodwill
for Momentum of $428; capitalized software cost of $390; acquisition research
costs totaling $244; and other overall increases of $230.
As a result of the acquisition of Momentum, the Company recorded a $1,200
nonrecurring charge for purchased in-process research and development costs
based on the results of third-party appraisals. In the opinion of management and
the appraiser, the acquired in-process research and development had not yet
reached technological feasibility and had no alternative future uses. The value
of the in-process projects was adjusted to reflect the relative value and
contribution of the acquired research and development. In doing so, management
gave consideration to the stage of completion, the complexity of the work
completed to date, the difficulty of completing the remaining development costs
already incurred, and the projected cost to complete the projects. The value
assigned to purchased in-process technology was based on key assumptions,
including revenue growth rates for each technology considering, among other
things, current and expected industry trends, acceptance of the technologies and
historical growth rates for similar industry products.
Other income decreased by approximately $84 for the six months ended June
30, 1998 and $44 for the three months ended June 30, 1998 due to a decrease in
interest income from fewer funds being invested and an increase of interest
expense associated with long-term debt.
Income taxes represent a benefit of 13.6% of the loss from continuing
operations before income taxes. The rate is below the expected tax rate
primarily due to the non-deductibility of the purchased research and development
costs of $1,200, and a valuation allowance.
The loss on disposal from the discontinued operations of ProfitKey totaled
approximately $1,362 including a tax expense of $519.
Liquidity and Capital Resources
Continuing operating activities for the six months ended June 30, 1998 used
Net cash of approximately $99. Level 8 used approximately $844 for investing
activities in the six months ended June 30, 1998 primarily as a result of
purchases of property and equipment. Continuing financing activities for the
six months ended June 30, 1998 used net cash of $263. At June 30, 1998, Level 8
had working capital of approximately $12,121 and a current ratio of 4.1. Level
8 believes that the existing working capital and the anticipated funds generated
from operations will be sufficient to fund its working capital and capital
expenditure requirements at least through the end of 1998.
11
<PAGE>
Part II
LEVEL 8 SYSTEMS, INC.
OTHER INFORMATION
Item 1. Legal Proceedings
None
Item 2. Changes in Securities
None
Item 3. Default Upon Senior Securities
None
Item 4. Submission of Matters to a Vote of Security-Holders
(a) The annual meeting of shareholders of Level 8 Systems, Inc. was held on
May 11, 1998.
(b) A vote was proposed to (1) elect the Board of Directors to serve for the
ensuing year, and (2) to approve an amendment to the Company's 1997
Stock Option Plan.
<TABLE>
<CAPTION>
The shareholders voting results are as follows:
<BTB>
<S> <C> <C> <C> <C>
Votes For Against Withheld Abstained
--------- ------- -------- ---------
(1) Arie Kilman 6,372,998 N/A 231,995 N/A
Samuel Somech 6,373,093 N/A 231,900 N/A
Theodore Fine 6,373,093 N/A 231,900 N/A
Lenny Recanati 6,373,093 N/A 231,900 N/A
Frank J. Klein 6,373,093 N/A 231,900 N/A
Michel Berty 6,373,093 N/A 231,900 N/A
Robert Brill 6,373,093 N/A 231,900 N/A
(2) Amendment to
Stock Option
Plan 5,219,489 336,997 N/A 4,830
</TABLE>
Item 5. Other Information
None
12
<PAGE>
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits:
11.0 Statement regarding computation of earnings per share
27.0 Financial Data Schedule
(b) Reports on Form 8-K:
The Company filed the following reports with the Securities and Exchange
Commission on Form 8-K during the quarter ended June 30, 1998:
The Company's current report on Form 8-K and Form 8-K/A filed on April 10, 1998
and June 8, 1998, respectively, reported under Item 2, concerning the Company's
acquisition of Momentum Software Corporation, a Delaware corporation.
The Company's current report on Form 8-K and Form 8-K/A filed on April 21, 1998
and June 19, 1998, respectively, reported under Item 2, concerning the Company's
disposition of its wholly-owned subsidiary,
ProfitKey International, Inc.
13
<PAGE>
SIGNATURES
Pursuant to the requirements 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.
Date April 21, 1999 LEVEL 8 SYSTEMS, INC.
--------------------
------------------------------
(Registrant)
/s/ Arie Kilman
------------------------------
Arie Kilman
Chief Executive Officer
14
<PAGE>
EXHIBIT 11.0
LEVEL 8 SYSTEMS, INC.
WEIGHTED AVERAGE COMMON AND COMMON EQUIVALENTS
<BTB>
Three Months Ended
June 30,
1998 1997
----- -----
BASIC
WEIGHTED AVERAGE COMMON SHARES 7,689 6,967
----- -----
----- -----
DILUTED
WEIGHTED AVERAGE COMMON SHARES 7,689 6,967
COMMON STOCK EQUIVALENTS (1) 516
----- -----
WEIGHTED AVERAGE COMMON AND
COMMON EQUIVALENT SHARES 7,689 7,483
----- -----
----- -----
Six Months Ended
June 30,
1998 1997
----- -----
BASIC
WEIGHTED AVERAGE COMMON SHARES 7,401 6,963
----- -----
----- -----
DILUTED
WEIGHTED AVERAGE COMMON SHARES 7,401 6,963
COMMON STOCK EQUIVALENTS (1) 543
----- -----
WEIGHTED AVERAGE COMMON AND
COMMON EQUIVALENT SHARES 7,401 7,506
----- -----
----- -----
(1) Anti-dilutive
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
CONSOLIDATED BALANCE SHEET AND CONSOLIDATED STATEMENT OF INCOME FIELD AS PART OF
THE ANNYUAL REPORT ON FORM 10-k AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO
SUCH FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> JUN-30-1998
<CASH> 5,856
<SECURITIES> 0
<RECEIVABLES> 6,430
<ALLOWANCES> 780
<INVENTORY> 336
<CURRENT-ASSETS> 15,981
<PP&E> 2,181
<DEPRECIATION> 615
<TOTAL-ASSETS> 27,903
<CURRENT-LIABILITIES> 3,860
<BONDS> 0
0
0
<COMMON> 77
<OTHER-SE> 22,955
<TOTAL-LIABILITY-AND-EQUITY> 27,903
<SALES> 0
<TOTAL-REVENUES> 6,248
<CGS> 0
<TOTAL-COSTS> 3,589
<OTHER-EXPENSES> 6,865
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 39
<INCOME-PRETAX> (4,091)
<INCOME-TAX> (558)
<INCOME-CONTINUING> (3,533)
<DISCONTINUED> (978)
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (4,511)
<EPS-PRIMARY> (0.61)
<EPS-DILUTED> (0.61)
</TABLE>
