<PAGE> 1
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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 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 QUARTERLY PERIOD ENDED AUGUST 31, 2000
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: 0-26880
VERITY, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
<TABLE>
<S> <C>
DELAWARE 77-0182779
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
</TABLE>
894 ROSS DRIVE
SUNNYVALE, CALIFORNIA 94089
(408) 541-1500
(ADDRESS AND TELEPHONE NUMBER OF PRINCIPAL EXECUTIVE OFFICES)
Indicate by check mark whether 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, $0.001
par value, was 33,039,000 as of September 15, 2000.
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<PAGE> 2
VERITY, INC.
FORM 10-Q
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C> <C>
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Condensed Consolidated Balance Sheets as of May 31, 2000 and
August 31, 2000............................................. 1
Condensed Consolidated Statements of Operations for the
Three Months Ended August 31, 1999 and 2000................. 2
Condensed Consolidated Statements of Cash Flows for the
Three Months Ended August 31, 1999 and 2000................. 3
Notes to Condensed Consolidated Financial Statements........ 4
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations................................... 7
Item 3. Quantitative and Qualitative Disclosures About Market
Risk........................................................ 20
PART II. OTHER INFORMATION
Item 1. Legal Proceedings........................................... 21
Item 2. Changes in Securities and Use of Proceeds................... 21
Item 3. Defaults upon Senior Securities............................. 21
Item 4. Submission of Matters to a Vote of Security Holders......... 21
Item 5. Other Information........................................... 21
Item 6. Exhibits and Reports on Form 8-K............................ 21
Signature............................................................ 22
</TABLE>
i
<PAGE> 3
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
VERITY, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE DATA)
ASSETS
<TABLE>
<CAPTION>
MAY 31, AUGUST 31,
2000 2000
-------- ----------
(UNAUDITED)
<S> <C> <C>
Current assets:
Cash and cash equivalents................................. $ 7,183 $ 6,093
Short-term investments.................................... 109,472 127,624
Trade accounts receivable, net............................ 23,418 25,802
Deferred tax assets....................................... 20,210 20,210
Prepaid and other......................................... 3,988 5,242
-------- --------
Total current assets.............................. 164,271 184,971
Property and equipment, net................................. 4,773 4,821
Long-term investments....................................... 37,616 42,152
Deferred tax assets......................................... 6,562 11,239
Other assets................................................ 156 117
-------- --------
Total assets...................................... $213,378 $243,300
======== ========
LIABILITIES
Current liabilities:
Accounts payable.......................................... $ 6,488 $ 7,057
Accrued compensation...................................... 9,327 9,421
Other accrued liabilities................................. 1,198 1,168
Deferred revenue.......................................... 12,731 13,240
-------- --------
Total current liabilities......................... 29,744 30,886
-------- --------
Commitments and contingencies (Note 6)
STOCKHOLDERS' EQUITY
Common stock, $0.001 par value:
Authorized: 100,000,000 shares
Issued and outstanding: 31,606,000 shares as of May 31,
2000 and 33,036,000 shares as of August 31, 2000....... 31 33
Additional paid-in capital.................................. 207,040 228,276
Other comprehensive loss.................................... (401) (104)
Accumulated deficit......................................... (23,036) (15,791)
-------- --------
Total stockholders' equity........................ 183,634 212,414
-------- --------
Total liabilities and stockholders' equity........ $213,378 $243,300
======== ========
</TABLE>
The accompanying notes are an integral part of these condensed consolidated
financial statements.
1
<PAGE> 4
VERITY, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<TABLE>
<CAPTION>
THREE MONTHS ENDED
AUGUST 31,
------------------
1999 2000
------- -------
(UNAUDITED)
<S> <C> <C>
Revenues:
Software products......................................... $14,474 $22,798
Service and other......................................... 5,291 8,492
------- -------
Total revenues.................................... 19,765 31,290
------- -------
Costs of revenues:
Software products......................................... 144 347
Service and other......................................... 1,620 2,558
------- -------
Total costs of revenues........................... 1,764 2,905
------- -------
Gross profit................................................ 18,001 28,385
------- -------
Operating expenses:
Research and development.................................. 3,726 4,585
Marketing and sales....................................... 8,064 12,024
General and administrative................................ 1,580 2,170
------- -------
Total operating expenses.......................... 13,370 18,779
------- -------
Income from operations...................................... 4,631 9,606
Other income, net........................................... 629 2,271
------- -------
Net income before provision for income taxes................ 5,260 11,877
Provision for income taxes.................................. 150 4,632
------- -------
Net income.................................................. $ 5,110 $ 7,245
======= =======
Net income per share -- basic............................... $ 0.19 $ 0.22
======= =======
Net income per share -- diluted............................. $ 0.16 $ 0.20
======= =======
Number of shares -- basic................................... 26,972 32,369
======= =======
Number of shares -- diluted................................. 31,612 36,916
======= =======
</TABLE>
The accompanying notes are an integral part of these condensed consolidated
financial statements.
2
<PAGE> 5
VERITY, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
THREE MONTHS ENDED
AUGUST 31,
----------------------
1999 2000
--------- ---------
(UNAUDITED)
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income................................................ $ 5,110 $ 7,245
ADJUSTMENTS TO RECONCILE NET INCOME TO NET CASH PROVIDED BY
OPERATING ACTIVITIES:
Depreciation and amortization............................. 777 625
Deferred income taxes..................................... -- 4,321
Provision for doubtful accounts........................... (48) 6
Amortization of discount on securities.................... (287) (305)
Other..................................................... (193) --
CHANGES IN OPERATING ASSETS AND LIABILITIES:
Trade accounts receivable................................. (223) (2,558)
Prepaid and other current assets.......................... (553) (1,296)
Accounts payable.......................................... -- 595
Accrued compensation and other accrued liabilities........ (251) 223
Deferred revenue.......................................... (978) 513
--------- ---------
Net cash provided by operating activities......... 3,354 9,369
--------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Acquisition of property and equipment..................... (600) (610)
Purchases of marketable securities........................ (150,275) (119,468)
Maturity of marketable securities......................... 59,183 39,900
Proceeds from sale of marketable securities............... 16,214 57,483
--------- ---------
Net cash used in investing activities............. (75,478) (22,695)
--------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from the sale of common stock, net............... 72,464 12,240
--------- ---------
Net cash provided by financing activities......... 72,464 12,240
--------- ---------
Effect of exchange rate changes on cash..................... 28 (4)
--------- ---------
Net increase (decrease) in cash and cash
equivalents..................................... 368 (1,090)
Cash and cash equivalents, beginning of period.............. 7,907 7,183
--------- ---------
Cash and cash equivalents, end of period.................... $ 8,275 $ 6,093
========= =========
</TABLE>
The accompanying notes are an integral part of these condensed consolidated
financial statements.
3
<PAGE> 6
VERITY, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(INFORMATION AS OF AUGUST 31, 2000 AND FOR THE THREE MONTHS ENDED
AUGUST 31, 1999 AND 2000 AND THEREAFTER IS UNAUDITED)
1. INTERIM FINANCIAL DATA (UNAUDITED)
The unaudited financial statements as of August 31, 2000 and for the
quarters ended August 31, 1999 and 2000 have been prepared on the same basis as
the audited financial statements and, in the opinion of management, include all
material adjustments, consisting of normal recurring adjustments, necessary for
a fair presentation of the financial position and results of operations in
accordance with generally accepted accounting principles. Although certain
information and footnote disclosures normally included in financial statements
prepared in accordance with generally accepted accounting principles have been
omitted pursuant to the rules and regulations of the Securities and Exchange
Commission, the Company believes the disclosures made are adequate to make the
information presented not misleading. The accompanying financial statements
should be read in conjunction with the Company's annual financial statements
contained in the Company's Annual Report on Form 10-K for the year ended May 31,
2000.
The Company's balance sheet as of May 31, 2000 was derived from the
Company's audited financial statements, but does not include all disclosures
necessary for the presentation to be in accordance with generally accepted
accounting principles.
2. COMPUTATION OF NET INCOME AND EARNINGS PER SHARE
Basic earnings per share are computed using the weighted average number of
common shares outstanding during the period. Diluted earnings per share are
computed using the weighted average number of common and common equivalent
shares outstanding during the period. Dilutive common equivalent shares consist
of stock options.
Basic and diluted net income per share are calculated as follows for the
three months ended August 31, 1999 and 2000 (in thousands, except per share
data):
<TABLE>
<CAPTION>
THREE MONTHS ENDED
AUGUST 31,
------------------
1999 2000
------- -------
<S> <C> <C>
Basic:
Weighted-average shares................................... 26,972 32,369
======= =======
Net income................................................ $ 5,110 $ 7,245
======= =======
Net income per share...................................... $ 0.19 $ 0.22
======= =======
Diluted:
Weighted-average shares................................... 26,972 32,369
Common equivalent shares from stock options............... 4,640 4,547
------- -------
Shares used in per share calculation...................... 31,612 36,916
------- -------
Net income................................................ $ 5,110 $ 7,245
======= =======
Net income per share...................................... $ 0.16 $ 0.20
======= =======
</TABLE>
On October 21, 1999, the Company's board of directors authorized a
two-for-one split of its common stock effective December 3, 1999 in the form of
a stock dividend for stockholders of record at the close of business on November
17, 1999. All share data information in the accompanying condensed consolidated
financial statements and in these notes is restated to reflect the stock split.
4
<PAGE> 7
VERITY, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(INFORMATION AS OF AUGUST 31, 2000 AND FOR THE THREE MONTHS ENDED
AUGUST 31, 1999 AND 2000 AND THEREAFTER IS UNAUDITED)
3. COMPREHENSIVE INCOME
The Company has adopted SFAS 130, "Reporting Comprehensive Income;"
however, the effects of the adoption were immaterial to all periods presented.
4. BUSINESS SEGMENT
The Company has sales and marketing operations located outside the United
States in the Netherlands, United Kingdom, France, Germany, Australia, Sweden,
South Africa, Mexico and a development and technical support operation in
Canada. Foreign branch and subsidiary revenues consist primarily of maintenance
and consulting services.
<TABLE>
<CAPTION>
THREE MONTHS ENDED
AUGUST 31,
------------------
1999 2000
------- -------
<S> <C> <C>
Revenues:
USA....................................................... $18,535 $29,459
Europe.................................................... 1,230 1,831
ROW....................................................... -- --
Consolidated.............................................. 19,765 31,290
Long-lived assets:
USA....................................................... 5,013 3,930
Europe.................................................... 409 546
ROW....................................................... 405 462
Consolidated.............................................. 5,827 4,938
</TABLE>
Transfers between geographic areas are recorded at amounts generally above
cost and in accordance with the rules and regulations of the respective
governing tax authorities. Long-lived assets of geographic areas are those
assets used in the Company's operations in each area.
No single customer accounted for more than 10% of the Company's revenues
for the three months ended August 31, 2000. For the three months ended August
31, 1999, revenues derived from sales to one customer accounted for
approximately 12% of the Company's total revenues. Revenues derived from sales
to the federal government and its agencies were 13.8% and 6.5% of the Company's
total revenues for the three months ended August 31, 1999 and 2000,
respectively.
5. RECENT ACCOUNTING PRONOUNCEMENTS
In June 1998, the FASB issued Statement of Financial Accounting Standards
No. 133, Accounting for Derivative Instruments and Hedging Activities ("SFAS
133"), which establishes new standards of accounting and reporting for
derivative instruments and hedging activities. SFAS 133 requires that all
derivatives be recognized at fair value in the statement of financial position,
and that the corresponding gains or losses be reported either in the statement
of operations or as a component of comprehensive income, depending on the type
of hedging relationship that exists. SFAS 133 is effective for fiscal years
beginning after June 15, 2000. The Company is currently assessing the potential
impact of this pronouncement on its financial statements.
In December 1999, the Securities Exchange Commission ("SEC") issued Staff
Accounting Bulletin No. 101 ("SAB 101"), Revenue Recognition in Financial
Statements, which outlines the basic criteria that must be met to recognize
revenue and provides guidance for presentation of revenue and for disclosure
related to revenue recognition policies in financial statements filed with the
SEC. In June 2000, the SEC issued
5
<PAGE> 8
VERITY, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(INFORMATION AS OF AUGUST 31, 2000 AND FOR THE THREE MONTHS ENDED
AUGUST 31, 1999 AND 2000 AND THEREAFTER IS UNAUDITED)
SAB 101(B), which defers the implementation date of SAB 101 to no later than the
fourth fiscal quarter of fiscal years commencing after December 15, 1999. The
Company has evaluated the provision of SAB 101 and it is in compliance with SAB
101.
In March 2000, the FASB issued Interpretation No. 44, ("FIN 44"),
"Accounting for Certain Transactions Involving Stock Compensation -- an
Interpretation of APB 25." This Interpretation clarifies (a) the definition of
employee for purposes of applying Opinion 25, (b) the criteria for determining
whether a plan qualifies as a non-compensatory plan, (c) the accounting
consequence of various modifications to the terms of a previously fixed stock
option or award, and (d) the accounting for an exchange of stock compensation
awards in a business combination. This Interpretation was effective July 1,
2000, but certain conclusions in this Interpretation cover specific events that
occur after either December 15, 1998, or January 12, 2000. To the extent that
this Interpretation covers events occurring during the period after December 15,
1998, or January 12, 2000, but before the effective date of July 1, 2000, the
effects of applying this Interpretation are recognized on a prospective basis
from July 1, 2000. The adoption of FIN 44 did not have a material impact on the
Company's financial statements.
6. COMMITMENTS AND CONTINGENCIES
In December 1999, a number of complaints were filed in the United States
District Court for the Northern District of California seeking an unspecified
amount of damages on behalf of an alleged class of persons who purchased shares
of the Company's common stock during the period between December 1 and December
14, 1999. The complaints name as defendants the Company and certain of its
directors and officers, asserting that they violated federal securities laws by
misrepresenting Verity's business and earnings growth ability to continue to
achieve profitable growth, and failing to disclose certain information about the
Company's business. While management intends to defend the actions against the
Company vigorously, there can be no assurance that an adverse result or
settlement with regards to these lawsuits would not have a material adverse
effect on the Company's financial condition or results of operations.
6
<PAGE> 9
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion should be read in conjunction with the
consolidated financial statements and related notes, which appear in our Annual
Report on Form 10-K for the fiscal year ended May 31, 2000. The following
discussion contains forward-looking statements that involve risks and
uncertainties. Our actual results could differ materially from those anticipated
in these forward-looking statements as a result of certain factors, including
those discussed below and elsewhere in this Quarterly Report on Form 10-Q,
particularly under the heading "-- Risk Factors" below.
OVERVIEW
We derive substantially all of our revenues from the license of custom
search and retrieval applications and consulting and other services related to
such applications. In 1995, we began refining and enhancing our core technology
to add functionality and facilitate incorporation of our technology in a variety
of markets. Recently, we have begun offering solutions and technology that
address the business portal market. The business portal market includes
corporate portals used for sharing information within an enterprise, e-commerce
portals for online selling and market exchange portals for B2B activities.
Business portals provide personalized information to employees, partners,
customers and suppliers. We expect that for the foreseeable future we will
derive the largest portions of our revenues from licensing our technology for
enterprise applications and business portal solutions.
During the quarterly periods ended August 31, 1997 to August 31, 1999 and
February 29, 2000 to August 31, 2000, we experienced increased revenues on a
quarterly basis. In addition, during the ten consecutive quarterly periods ended
August 31, 2000, we experienced nine quarters of record revenues. Due to a delay
in closing three large transactions, revenues for the quarter ended November 31,
1999 were lower than expected. In fiscal year 2000, we achieved net income of
$33.0 million. While our goal is to increase revenue and generate net income in
future periods, we cannot assure you that our strategy will be successful, that
we will experience the rate of revenue growth we experienced from August 31,
1997 to August 31, 2000 in future periods, or that we will continue to maintain
positive cash flow or profitability.
Our revenues are derived from license fees for our software products and
fees for services complementary to our products, including software maintenance,
consulting and training. Fees for services generally are charged separately from
the license fees for our software products. We recognize revenues in accordance
with the provisions of American Institute of Certified Public Accountants
Statement of Position No. 97-2, "Software Revenue Recognition." We recognize
maintenance revenues from ongoing customer support and product upgrades ratably
over the term of the applicable maintenance agreement, which is typically 12
months. Generally, we receive payments for maintenance fees in advance and they
are nonrefundable. We recognize revenues for consulting and training generally
when the services are performed.
We record revenue from licensing of software products when evidence of an
arrangement exists, the fee is fixed and determinable, collection is probable
and delivery of the product has occurred. For agreements, which include multiple
elements, such as license, maintenance, training and consulting services, we
allocate revenue to all undelivered elements, usually maintenance and other
services, based on objective evidence of its fair value, which is specific to
us. Any remaining amount is allocated to the delivered elements and recognized
as revenue when the conditions set forth above are met. We recognize revenue
allocated to maintenance fees for ongoing customer support and product updates
ratably over the period of the maintenance contract. Payments for maintenance
fees are generally made in advance and are non-refundable. For revenue allocated
to training and consulting services, we recognize revenue as the related
services are performed.
7
<PAGE> 10
RESULTS OF OPERATIONS
The following table sets forth the percentage of total revenues represented
by certain items in our Condensed Consolidated Statements of Operations for the
periods indicated:
<TABLE>
<CAPTION>
THREE MONTHS
ENDED
AUGUST 31,
--------------
1999 2000
----- -----
(UNAUDITED)
<S> <C> <C>
Revenues:
Software products......................................... 73.2% 72.9%
Service and other......................................... 26.8 27.1
----- -----
Total revenues.................................... 100.0 100.0
----- -----
Costs of revenues:
Software products......................................... 0.7 1.1
Service and other......................................... 8.2 8.2
----- -----
Total costs of revenues........................... 8.9 9.3
----- -----
Gross profit................................................ 91.1 90.7
----- -----
Operating expenses:
Research and development.................................. 18.9 14.7
Marketing and sales....................................... 40.8 38.4
General and administrative................................ 8.0 6.9
----- -----
Total operating expenses.......................... 67.7 60.0
----- -----
Income from operations...................................... 23.4 30.7
Interest and other expenses................................. 3.2 7.3
----- -----
Income before provision for income taxes.................... 26.6 38.0
Provision for income taxes.................................. 0.7 14.8
----- -----
Net income.................................................. 25.9% 23.2%
===== =====
</TABLE>
Revenues
Our total revenues increased 58.3% from $19.8 million for the three months
ended August 31, 1999, to $31.3 million for the three months ended August 31,
2000. The increase for the three-month period ended August 31, 2000 was due
principally to increased revenues from our enterprise application and business
portal solutions business as well as an increase in maintenance and consulting
services.
Software product revenues. Software product revenues increased 57.5% from
$14.5 million for the three months ended August 31, 1999 to $22.8 million for
the three months ended August 31, 2000. The increase for the three months ended
August 31, 2000 in comparison to the same period in fiscal 2000 was due
principally to increased revenues from our enterprise application and business
portal solutions business.
Service and other revenues. Our service and other revenues consist
primarily of fees for software, maintenance, consulting and training. Service
and other revenues increased 60.5% from $5.3 million for the three months ended
August 31, 1999 to $8.5 million for the three months ended August 31, 2000. The
increase in service and other revenues for the comparable periods was primarily
due to a growth in customer base.
Service and other revenues from foreign operations accounted for 6.2% and
6.0% of total revenues for three months ended August 31, 1999 and 2000,
respectively. Our export sales consist primarily of products licensed for
delivery outside of the United States. For the three months ended August 31,
1999 and 2000, export sales accounted for 14.5% and 21.1% of total revenues,
respectively. We expect that revenues derived from foreign operations and export
sales will continue to vary in future periods as a percentage of total revenues.
8
<PAGE> 11
No single customer accounted for more than 10% of our revenues for the
three months ended August 31, 2000. For the three months ended August 31, 1999,
revenues derived from sales to one customer accounted for approximately 12% of
our total revenues. Revenues derived from sales to the federal government and
its agencies were 13.8% and 6.5% of our total revenues for the three months
ended August 31, 1999 and 2000, respectively. We expect that revenues from such
government sales will continue to vary in future periods as a percentage of
revenues.
Costs of Revenues
Costs of software products. The cost of our software products consists
primarily of product media, duplication, manuals, packaging materials, shipping
expenses and royalties, and in certain instances, licensing of third-party
software incorporated in our products. Costs of software products increased
141.0% from $144,000 for the three months ended August 31, 1999 to $347,000 for
the same comparable period in fiscal 2001, representing 1.0% and 1.5%,
respectively, of the software product revenues. The increase in absolute dollars
and as a percentage of software product revenues was primarily attributable to
costs associated with the introduction of our Portal One suite of products. We
are currently re-negotiating third party software contracts. We cannot assure
you that such re-negotiations will be executed in a timely and successful
manner, which can have a material adverse effect on our business, results of
operations and financial condition.
Costs of service and other. Our costs of service and other revenues consist
of costs incurred in providing consulting services, customer training, telephone
support and product upgrades to customers. Costs of service and other revenues
increased 57.9% from $1.6 million for the three months ended August 31, 1999 to
$2.6 million for the same comparable period in fiscal 2001, representing 30.6%
and 30.1%, respectively, of service and other revenues during these periods. The
increase in absolute dollars during the three-month period ended August 31,
2000, was due to an increase in the staffing of our professional services
organization to support an increase in customer base.
Operating Expenses
Research and development. Research and development expenses increased 23.1%
from $3.7 million for the three months ended August 31, 1999 to $4.6 million for
the three months ended August 31, 2000, representing 18.9% and 14.7%,
respectively, of total revenues for these periods. The increase in absolute
dollars for the three-month period ended August 31, 2000 was primarily due to an
increase in research and development personnel and outside consulting services
to focus on enhancement of existing products and development of new products
addressing the business portal market. The decrease in costs as a percentage of
total revenues for the three months ended August 31, 2000 was primarily related
to the increased revenues during this period. We believe that research and
development expenses may increase in the future primarily due to the
introduction of new products and other anticipated product development efforts.
Our future research and development expenses may continue to vary as a
percentage of total revenues.
Marketing and sales. Marketing and sales expenses increased 49.1% from $8.1
million for the three months ended August 31, 1999 to $12.0 million for the
three months ended August 31, 2000, representing 40.8% and 38.4%, respectively,
of total revenues during these periods. The increase in absolute costs for the
three-month period ended August 31, 2000 was primarily related to the continuous
expansion of our marketing and sales organizations, the continued development of
our sales distribution channels in the United States and Europe and outbound
marketing activities associated with the re-branding of our company. The
decrease in costs as a percentage of total revenues for the three months ended
August 31, 2000 was primarily related to the increased revenues during the
period. We anticipate that we will continue to make significant investments in
marketing and sales.
General and administrative. General and administrative expenses increased
37.3% from $1.6 million in the three months ended August 31, 1999 to $2.2
million for the three months ended August 31, 2000, representing 8.0% and 6.9%,
respectively, of total revenues. The increase in absolute costs for the three
months ended August 31, 2000 was primarily related to increases in professional
service fees required to support our
9
<PAGE> 12
continued growth. The decrease in costs as a percentage of total revenues was
primarily related to the increased revenues for the three months ended August
31, 2000.
Income Taxes
Prior to the quarter ended May 31, 2000, we established a valuation
allowance as an offset to our deferred tax assets due to the uncertainty
surrounding the realization of such assets. On a regular basis, we review the
recoverability of the deferred tax assets. At May 31, 1999, we had a valuation
allowance totaling $18.9 million as an offset to our deferred tax assets. At May
31, 2000, we assessed the realizability of the deferred tax assets and the
entire valuation allowance was reclassified based on management's assessment. It
is more likely than not that all the net deferred tax assets will be realized
through future taxable earnings.
LIQUIDITY AND CAPITAL RESOURCES
As of August 31, 2000, we had $175.9 million in cash and cash equivalents
and available-for-sale securities compared to $154.3 million at May 31, 2000.
Our operating activities provided cash of $3.4 million and $9.4 million for
the three months ended August 31, 1999 and 2000, respectively. Cash provided by
operating activities in the three months ended August 31, 1999 was primarily due
to our net income and depreciation and amortization expense offset in part by
deferred revenue. Cash provided in connection with operating activities for the
three months ended August 31, 2000 was primarily due to our net income and
increase in liabilities offset in part by an increase in accounts receivable and
other current assets.
Our investing activities used cash of $75.5 million and $22.7 million for
the three months ended August 31, 1999 and August 31, 2000, respectively. For
the three months ended August 31, 1999 and 2000, cash used by investing
activities consisted primarily of purchases of marketable securities partially
offset by proceeds from the sale and maturity of marketable securities.
Cash provided by financing activities was $72.5 million and $12.2 million
for the three months ended August 31, 1999 and 2000, respectively. In the three
months ended August 31, 1999, financing activities consisted primarily of
proceeds from the public offering of our common stock, and the sales of common
stock as a result of stock options exercised. In the three months ended August
31, 2000, financing activities consisted primarily of proceeds from the sale of
common stock as a result of stock options exercised.
At August 31, 2000, our principal sources of liquidity were our cash and
cash equivalents and short-term investments of $133.7 million. As of August 31,
2000, we had no outstanding debt obligations.
Capital expenditures were approximately $600,000 and $610,000 for the three
months ended August 31, 1999 and 2000, respectively. For the three months ended
August 31, 1999 and 2000, these expenditures consisted principally of purchases
of property and equipment, primarily for computer hardware and software.
We believe that our current cash and cash equivalents and our funds
generated from operations, if any, will provide adequate liquidity to meet our
capital and operating requirements through at least fiscal 2002. Thereafter, or
if our spending plans change, we may find it necessary to seek to obtain
additional sources of financing to support our capital needs, but we cannot
assure you that such financing will be available on commercially reasonable
terms, or at all.
RECENT ACCOUNTING PRONOUNCEMENTS
In June 1998, the FASB issued Statement of Financial Accounting Standards
No. 133, Accounting for Derivative Instruments and Hedging Activities ("SFAS
133"), which establishes new standards of accounting and reporting for
derivative instruments and hedging activities. SFAS 133 requires that all
derivatives be recognized at fair value in the statement of financial position,
and that the corresponding gains or losses be reported either in the statement
of operations or as a component of comprehensive income, depending on the type
of hedging relationship that exists. SFAS 133 is effective for fiscal years
beginning after June 15, 2000. We are currently assessing the potential impact
of this pronouncement on our financial statements.
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In December 1999, the Securities Exchange Commission ("SEC") issued Staff
Accounting Bulletin No. 101 ("SAB 101"), Revenue Recognition in Financial
Statements, which outlines the basic criteria that must be met to recognize
revenue and provides guidance for presentation of revenue and for disclosure
related to revenue recognition policies in financial statements filed with the
SEC. In June 2000, the SEC issued SAB 101(B), which defers the implementation
date of SAB 101 to no later than the fourth fiscal quarter of fiscal years
commencing after December 15, 1999. We have evaluated the provision of SAB 101
and we are in compliance with SAB 101.
In March 2000, the FASB issued Interpretation No. 44, ("FIN 44"),
"Accounting for Certain Transactions Involving Stock Compensation -- an
Interpretation of APB 25." This Interpretation clarifies (a) the definition of
employee for purposes of applying Opinion 25, (b) the criteria for determining
whether a plan qualifies as a non-compensatory plan, (c) the accounting
consequence of various modifications to the terms of a previously fixed stock
option or award, and (d) the accounting for an exchange of stock compensation
awards in a business combination. This Interpretation was effective July 1,
2000, but certain conclusions in this Interpretation cover specific events that
occur after either December 15, 1998, or January 12, 2000. To the extent that
this Interpretation covers events occurring during the period after December 15,
1998, or January 12, 2000, but before the effective date of July 1, 2000 the
effects of applying this Interpretation are recognized on a prospective basis
from July 1, 2000. The adoption of FIN 44 did not have a material effect on the
financial statements.
IMPACT OF EUROPEAN MONETARY CONVERSION
We are aware of the issues associated with the changes in Europe resulting
from the formation of a European economic and monetary union. One change
resulting from this union required EMU member states to irrevocably fix their
respective currencies to a new currency, the Euro, as of January 1, 1999, at
which date the euro became a functional legal currency of these countries.
During the next three years, business in the EMU member states will be conducted
in both the existing national currencies, such as the French franc or the
Deutsche mark, and the euro. As a result, companies operating or conducting
business in EMU member states will need to ensure that their financial and other
software systems are capable of processing transactions and properly handling
these currencies, including the euro. The adoption of Euro by EMU member states
has had no material impact on our operations or financial results.
RISK FACTORS
The risks and uncertainties described below are not the only risks and
uncertainties we face. Additional risks and uncertainties not presently known to
us or that we currently deem immaterial also may impair our business operations.
If any of the following risks actually occur, our business, results of
operations and financial condition would suffer. In that event, the trading
price of our common stock could decline, and our stockholders may lose all or
part of their investment in our common stock. The risks discussed below also
include forward-looking statements and our actual results may differ
substantially from those discussed in these forward-looking statements.
RISKS RELATED TO OUR BUSINESS
OUR GROWTH RATE MAY SLOW AND WE MAY NOT BE ABLE TO MAINTAIN PROFITABILITY
Despite our recent financial performance, we have in the past incurred
significant losses and substantial negative cash flow. In the future, our
revenues may grow at a rate slower than was experienced in previous periods and,
on a quarter-to-quarter basis, our growth in net sales may be significantly
lower than our historical quarterly growth rate, particularly over the last ten
quarters. To achieve revenue growth, we must:
- increase market acceptance of our products;
- respond effectively to competitive developments;
- attract, retain and motivate qualified personnel; and
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- upgrade our technologies and commercialize our products and services
incorporating such technologies.
We cannot assure you that we will be successful in achieving any of these
goals or that we will experience increased revenues, positive cash flows, or
maintain profitability.
OUR REVENUES AND OPERATING RESULTS MAY FLUCTUATE IN FUTURE PERIODS, WHICH COULD
ADVERSELY AFFECT OUR STOCK PRICE
The results of operations for any quarter are not necessarily indicative of
results to be expected in future periods. We expect our stock price to vary with
our operating results and, consequently, any adverse fluctuations in our
operating results could have an adverse effect on our stock price. Our operating
results have in the past been, and will continue to be, subject to quarterly
fluctuations as a result of a number of factors. These factors include:
- the size and timing of orders;
- changes in the budget or purchasing patterns of corporations and
government agencies, foreign country exchange rates, or pricing pressures
from competitors;
- increased competition in the software and Internet industries;
- the introduction and market acceptance of new technologies and standards
in search and retrieval, Internet, document management, database,
networking, and communications technology;
- variations in sales channels, product costs, the mix of products sold, or
the success of quality control measures;
- the integration of people, operations, and products from acquired
businesses and technologies;
- changes in operating expenses and personnel;
- the overall trend toward industry consolidation; and
- changes in general economic conditions and specific economic conditions
in the computer and software industries.
Any of the factors, some of which are discussed in more detail below, could
have a material adverse impact on our operations and financial results, and
consequently our stock price.
THE SIZE AND TIMING OF LARGE ORDERS MAY MATERIALLY AFFECT OUR QUARTERLY
OPERATING RESULTS
The size and timing of individual orders may cause our operating results to
fluctuate. The dollar amounts of large orders for our products have been
increasing, and therefore the operating results for a quarter could be
materially adversely affected if one or more large orders are either not
received or are delayed or deferred by customers. A significant portion of our
revenues in recent quarters has been derived from these relatively large sales
to a limited number of customers, and we currently anticipate that future
quarters will continue to reflect this trend. Sales cycles for these customers
can be up to six months or longer. In addition, customer order deferrals in
anticipation of new products may cause our operating results to fluctuate. Like
many software companies, we have generally recognized a substantial portion of
our revenues in the last month of each quarter, with these revenues concentrated
in the last weeks of the quarter. Accordingly, the cancellation or deferral of
even a small number of purchases of our products could have a material adverse
effect on our business, results of operations and financial condition in any
particular quarter. In addition, to the extent that significant sales occur
earlier than expected, operating results for subsequent quarters may fail to
keep pace or even decline.
OUR EXPENDITURES ARE TIED TO ANTICIPATED REVENUES, AND THEREFORE IMPRECISE
FORECASTS MAY RESULT IN POOR OPERATING RESULTS
Revenues are difficult to forecast because the market for search and
retrieval software is uncertain and evolving. Because we generally ship software
products within a short period after receipt of an order, we
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typically do not have a material backlog of unfilled orders, and revenues in any
quarter are substantially dependent on orders booked in that quarter. In
addition, a portion of our revenues is derived from royalties based upon sales
by third-party vendors of products incorporating our technology. These revenues
may be subject to extreme fluctuation and are difficult for us to predict. Our
expense levels are based, in part, on our expectations as to future revenues and
are to a large extent fixed. Therefore, we may be unable to adjust spending in a
timely manner to compensate for any unexpected revenue shortfall. Any
significant shortfall of demand in relation to our expectations or any material
delay of customer orders would have an almost immediate adverse affect on our
operating results and on our ability to achieve profitability.
WE HAVE BEEN SUED, AND ARE AT RISK OF FUTURE SECURITIES CLASS ACTION LITIGATION,
DUE TO OUR PAST AND EXPECTED STOCK PRICE VOLATILITY
In the past, securities class action litigation has often been brought
against a company following a decline in the market price of its securities. For
example, in December 1999 our stock price dramatically declined, and a number of
lawsuits were filed against us. See "Part II -- Item 1. Legal Proceedings" for a
description of these lawsuits. Because we expect our stock price to continue to
fluctuate significantly, we may be the target of similar litigation in the
future. This and other securities litigation could result in substantial costs
and divert management's attention and resources, and could seriously harm our
business.
WE MUST SUCCESSFULLY INTRODUCE NEW PRODUCTS OR OUR CUSTOMERS WILL PURCHASE OUR
COMPETITORS PRODUCTS AND OUR BUSINESS WILL BE ADVERSELY AFFECTED
During the past few years, management and other personnel have focused on
modifying and enhancing our core technology to support a broader set of search
and retrieval solutions for use on enterprise-wide systems, over online
services, the Internet and on CD-ROM. In order for our strategy to succeed and
to remain competitive, we must leverage our core technology to develop new
product offerings by us and by our original equipment manufacturer, or OEM,
customers that address the needs of these new markets. These development efforts
are expensive. If these products do not generate substantial revenues, our
business and results of operations will be adversely affected. We cannot assure
you that such products will be successfully completed on a timely basis or at
all, will achieve market acceptance or will generate significant revenues.
Our development efforts are focused on expanding our suite of products,
designing enhancements to our core technology and addressing additional
technical challenges inherent in integrating our products with those of our
strategic partners and developing new applications for enterprise, e-commerce,
OEM and sophisticated CD-ROM publishing markets. We plan to undertake
development of further enhancements of the search performance, scalability,
functionality and deployability of our products. We cannot assure you that these
products will be developed and released on a timely basis, or that these
products will achieve market acceptance.
Our future operating results will depend upon our ability to increase the
installed base of our information retrieval technology and to generate
significant product revenues from our core products. Our future operating
results will also depend upon our ability to successfully market our technology
to online and Internet publishers who use this technology to index their
published information in our format. To the extent that customers do not adopt
our technology for indexing their published information, users will be unable to
search such information using our search and retrieval products, which in turn
will limit the demand for our products.
WE FACE INTENSE COMPETITION FROM COMPANIES WITH SIGNIFICANTLY GREATER FINANCIAL,
TECHNICAL, AND MARKETING RESOURCES, WHICH COULD ADVERSELY AFFECT OUR ABILITY TO
MAINTAIN OR INCREASE SALES OF OUR PRODUCTS
The business portal software market is intensely competitive and we cannot
assure you that we will maintain our current position of market share. A number
of companies offer competitive products addressing this market. We compete with
Alta Vista, Autonomy, Excalibur, Inktomi, Dataware, Hummingbird/PC Docs/Fulcrum,
Infoseek, Lotus, Mercado, Viador, Epicentric, Thunderstone and Microsoft, among
others. We also compete indirectly with database vendors, such as Oracle, that
offer information search and retrieval capabilities with their core database
products and web platform companies, such as Netscape.
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In the future, we may encounter competition from a number of companies.
Many of our existing competitors as well as a number of other potential new
competitors, have significantly greater financial, technical and marketing
resources than we do. Because the success of our strategy is dependent in part
on the success of our strategic partners, competition between our strategic
partners and the strategic partners of our competitors, or failure of our
strategic partners to achieve or maintain market acceptance could have a
material adverse effect on our competitive position. Although we believe that
our products and technologies compete favorably with competitive products, we
cannot assure you that we will be able to compete successfully against our
current or future competitors or that competition will not have a material
adverse effect on our results of operations and financial condition.
WE RELY ON REGENT PACIFIC MANAGEMENT CORPORATION FOR THE MANAGEMENT OF VERITY,
AND THE LOSS OF THESE SERVICES COULD ADVERSELY AFFECT OUR BUSINESS
Regent Pacific Management Corporation, a management firm of which Gary J.
Sbona is chairman and chief executive officer, provides management services for
our company. The management services provided under our agreement with Regent
Pacific include the services of Mr. Sbona as chairman of the board and chief
executive officer of Verity, and other Regent Pacific personnel as part of
Verity's management team. On February 10, 2000, we extended our agreement with
Regent Pacific Management Corporation through August 31, 2001. This is the third
amendment to the retainer agreement between Regent Pacific Management
Corporation and Verity, Inc. since the original agreement dated July 31, 1997.
Under this amended agreement, Regent Pacific continues to provide the services
of Gary J. Sbona as Chairman and Chief Executive Officer of Verity, and
continues to provide additional Regent Pacific management services to our
company. The agreement provides us with an option to further extend the term of
this agreement through February 2002. If the agreement with Regent Pacific were
canceled or not renewed, the loss of the Regent Pacific personnel could have a
material adverse effect on our operations, especially during the transition
phase to new management. Similarly, if any adverse change in Verity's
relationship with Regent Pacific occurs, it could hinder management's ability to
direct our business and materially and adversely affect our results of
operations and financial condition.
OUR BUSINESS MAY SUFFER DUE TO RISKS ASSOCIATED WITH INTERNATIONAL SALES
Historically, our foreign operations and export sales account for a
significant portion of our annual revenues. Our international business
activities are subject to a number of risks, each of which could impose
unexpected costs on us that would have an adverse effect on our operating
results. These risks include:
- difficulties in complying with regulatory requirements and standards;
- tariffs and other trade barriers;
- costs and risks of localizing products for foreign countries;
- reliance on third parties to distribute our products;
- longer accounts receivable payment cycles;
- potentially adverse tax consequences;
- limits on repatriation of earnings; and
- burdens of complying with a wide variety of foreign laws.
We currently engage in only limited hedging activities to protect against
the risk of currency fluctuations. Fluctuations in currency exchange rates could
cause sales denominated in U.S. dollars to become relatively more expensive to
customers in a particular country, leading to a reduction in sales or
profitability in that country. Also, these fluctuations could cause sales
denominated in foreign currencies to affect a reduction in the current U.S.
dollar revenues derived from sales in a particular country. Furthermore, future
international activity may result in increased foreign currency denominated
sales and, in such event, gains and losses on the conversion to U.S. dollars of
accounts receivable and accounts payable arising from international operations
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may contribute significantly to fluctuations in our results of operations. The
financial stability of foreign markets could also affect our international
sales. In addition, revenues earned in various countries where we do business
may be subject to taxation by more than one jurisdiction, thereby adversely
affecting our earnings. We cannot assure you that such factors will not have an
adverse effect on the revenues from our future international sales and,
consequently, our results of operations.
Service and other revenues derived from foreign operations accounted for
6.4%, 6.7% and 6.0% of total revenues, respectively, in fiscal 1999, 2000 and
three months ended August 31, 2000. Our export sales consist primarily of
products licensed for delivery outside of the United States. In fiscal years
1999, 2000 and three months ended August 31, 2000, export sales accounted for
27.1%, 19.0% and 21.1% of total revenues. We expect that revenues derived from
foreign operations and export sales will continue to account for a significant
percentage of our revenues for the foreseeable future. These revenues may
fluctuate significantly as a percentage of revenues from period to period. In
addition, a portion of these revenues was derived from sales to foreign
government agencies, which may be subject to risks similar to those described
immediately below.
A SIGNIFICANT PORTION OF OUR REVENUES IS DERIVED FROM SALES TO THE FEDERAL
GOVERNMENT, WHICH ARE SUBJECT TO BUDGET CUTS AND, CONSEQUENTLY, THE POTENTIAL
LOSS OF REVENUES UPON WHICH WE HAVE HISTORICALLY RELIED
Revenues derived from sales to the federal government and its agencies were
8.1%, 7.8% and 6.5% of total revenues in fiscal years 1999, 2000 and three
months ended August 31, 2000, respectively. Future reductions in United States
spending on information technologies could have a material adverse effect on our
operating results. Sales to government agencies declined as a percentage of
revenues during these periods, and may decline in the future. In recent years,
budgets of many government agencies have been reduced, causing certain customers
and potential customers of our products to re-evaluate their needs. These budget
reductions are expected to continue over at least the next several years.
Almost all of our government contracts contain termination clauses, which
permit contract termination upon our default or at the option of the other
contracting party. We cannot assure you such a cancellation will not occur in
the future, and any termination would adversely affect our operating results.
IF WE ARE UNABLE TO ENHANCE OUR EXISTING PRODUCTS AND DEVELOP NEW PRODUCTS TO
RESPOND TO OUR RAPIDLY CHANGING MARKETS, OUR PRODUCTS MAY BECOME OBSOLETE
The computer software industry is subject to rapid technological change,
changing customer requirements, frequent new product introductions, and evolving
industry standards that may render existing products and services obsolete. As a
result, our position in our existing markets or other markets that we may enter
could be eroded rapidly by product advancements by competitors. If we are unable
to develop and introduce products in a timely manner in response to changing
market conditions or customer requirements, our financial condition and results
of operations would be materially and adversely affected.
The life cycles of our products are difficult to estimate. Our future
success will depend upon our ability to enhance existing products and to develop
new products on a timely basis. In addition, our products must keep pace with
technological developments, conform to evolving industry standards, particularly
client/server and Internet communication and security protocols, as well as
publishing formats such as Hypertext Markup Language, or HTML, and Extensible
Markup Language, or XML, and address increasingly sophisticated customer needs.
We cannot assure you that we will not experience difficulties that could delay
or prevent the successful development, introduction and marketing of new
products, or that new products and product enhancements will meet the
requirements of the marketplace and achieve market acceptance.
We strive to achieve compatibility between our products and the text
publication formats we believe are or will become popular and widely adopted. We
invest substantial resources in development efforts aimed at achieving such
compatibility. Any failure by us to anticipate or respond adequately to
technology or market developments could result in a loss of competitiveness or
revenue. For instance, to date we have focused our efforts on integration with
the Adobe PDF and Lotus Notes environments and, more recently, the Microsoft
Exchange environment. Should any of these products or technologies lose or fail
to achieve acceptance in the
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marketplace or be replaced by other products or technologies, our business could
be materially and adversely affected.
We embed our basic search engine in key OEM application products and,
therefore, our sales of information retrieval products depend on our ability to
maintain compatibility with these OEM applications. We cannot assure you that we
will be able to maintain compatibility with these vendors' products or continue
to be the search technology of choice for OEMs. The failure to maintain
compatibility with or be selected by OEMs would materially and adversely affect
our sales. Further, the failure of the products of our key OEM partners to
achieve market acceptance could have a material adverse effect on our results of
operations.
OUR SOFTWARE PRODUCTS ARE COMPLEX AND MAY CONTAIN ERRORS THAT COULD DAMAGE OUR
REPUTATION AND DECREASE SALES
Our complex software products may contain errors that may be detected at
any point in the products' life cycles. We have in the past discovered software
errors in some of our products and have experienced delays in shipment of
products during the period required to correct these errors. We cannot assure
you that, despite our testing and quality assurance efforts and similar efforts
by current and potential customers, errors will not be found. The discovery of
an error may result in loss of or delay in market acceptance and sales,
diversion of development resources, injury to our reputation, or increased
service and warranty costs, any of which could have a material adverse effect on
our business, results of operations and financial condition. Although we
generally attempt by contract to limit our exposure to incidental and
consequential damages, and to cap our liabilities to our proceeds under the
contract, if a court fails to enforce the liability limiting provisions of our
contracts for any reason, or if liabilities arise which are not effectively
limited, our operating results could be materially and adversely affected.
IF WE LOSE KEY PERSONNEL, OR ARE UNABLE TO ATTRACT ADDITIONAL QUALIFIED
PERSONNEL, OUR ABILITY TO CONDUCT AND GROW OUR BUSINESS WILL BE IMPAIRED
We believe that hiring and retaining qualified individuals at all levels is
essential to our success, and we cannot assure you that we will be successful in
attracting and retaining the necessary personnel. In addition, we are highly
dependent on our direct sales force for sales of our products as we have limited
distribution channels. Continuity of technical personnel is an important factor
in the successful completion of development projects, and any turnover of our
research and development personnel could materially and adversely impact our
development and marketing efforts.
Our future success also depends on our continuing ability to identify,
hire, train and retain other highly qualified sales, technical and managerial
personnel. Competition for this type of personnel is intense, and we cannot
assure you that we will be able to attract, assimilate or retain other highly
qualified technical and managerial personnel in the future. The inability to
attract, hire or retain the necessary sales, technical and managerial personnel
could have a material adverse effect upon our business, operating results and
financial condition.
OUR ABILITY TO COMPETE SUCCESSFULLY WILL DEPEND, IN PART, ON OUR ABILITY TO
PROTECT OUR INTELLECTUAL PROPERTY RIGHTS, WHICH WE MAY NOT BE ABLE TO PROTECT
We rely on a combination of patent, trade secrets, copyright and trademark
laws, nondisclosure agreements and other contractual provisions and technical
measures to protect our intellectual property rights. The source code for our
proprietary software is protected both as a trade secret and as a copyrighted
work. Policing unauthorized use of our products, however, is difficult.
Litigation may be necessary in the future to enforce our intellectual property
rights, to protect our trade secrets, to determine the validity and scope of the
proprietary rights of others, or to defend against claims of infringement or
invalidity. Litigation could result in substantial costs and diversion of
resources and could have a material adverse effect on our business, operating
results and financial condition regardless of the outcome of the litigation.
Effective copyright and trade secret protection may be unavailable or
limited in some foreign countries. To license our products, we frequently rely
on "shrink wrap" licenses that are not signed by the end user and,
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therefore, may be unenforceable under the laws of several jurisdictions. In
addition, employees, consultants and others who participate in the development
of our products may breach their agreements with us regarding our intellectual
property, and we may not have adequate remedies for any such breach. We also
realize that our trade secrets may become known through other means not
currently foreseen by us. Notwithstanding our efforts to protect our
intellectual property, our competitors may be able to develop products that are
equal or superior to our products without infringing on any of our intellectual
property rights.
OUR PRODUCTS EMPLOY TECHNOLOGY THAT MAY INFRINGE ON THE PROPRIETARY RIGHTS OF
THIRD PARTIES, WHICH MAY EXPOSE US TO LITIGATION
Third parties may assert that our products infringe their proprietary
rights, or may assert claims for indemnification resulting from infringement
claims against us. Any such claims may cause us to delay or cancel shipment of
our products, which could materially adversely affect our business, financial
condition and results of operations. In addition, irrespective of the validity
or the successful assertion of such claims, we could incur significant costs in
defending against such claims.
WE ARE DEPENDENT ON PROPRIETARY TECHNOLOGY LICENSED FROM THIRD PARTIES, THE LOSS
OF WHICH COULD DELAY SHIPMENTS OF PRODUCTS INCORPORATING THIS TECHNOLOGY AND
COULD BE COSTLY
Some of the technology used by our products is licensed from third parties,
generally on a nonexclusive basis. We believe that there are alternative sources
for each of the material components of technology we license from third parties.
However, the termination of any of these licenses, or the failure of the
third-party licensors to adequately maintain or update their products, could
result in delay in our ability to ship these products while we seek to implement
technology offered by alternative sources. Any required replacement licenses
could prove costly. Also, any delay, to the extent it becomes extended or occurs
at or near the end of a fiscal quarter, could result in a material adverse
effect on our quarterly results of operations. While it may be necessary or
desirable in the future to obtain other licenses relating to one or more of our
products or relating to current or future technologies, we cannot assure you
that we will be able to do so on commercially reasonable terms or at all.
POTENTIAL ACQUISITIONS MAY HAVE UNEXPECTED CONSEQUENCES OR IMPOSE ADDITIONAL
COSTS ON US
Our business is highly competitive and our growth is dependent upon market
growth and our ability to enhance our existing products and introduce new
products on a timely basis. One of the ways we will address the need to develop
new products is through acquisitions of complementary businesses and
technologies. From time to time, we consider and evaluate potential business
combinations both involving our acquisition of another company and transactions
involving the sale of Verity through, among other things, a possible merger or
consolidation of our business into that of another entity. Acquisitions involve
numerous risks, including the following:
- difficulties in integration of the operations, technologies, and products
of the acquired companies;
- the risk of diverting management's attention from normal daily operations
of the business;
- accounting consequences, including changes in purchased research and
development expenses, resulting in variability in our quarterly earnings;
- potential difficulties in completing projects associated with purchased
in process research and development;
- risks of entering markets in which we have no or limited direct prior
experience and where competitors in such markets have stronger market
positions;
- the potential loss of key employees of the acquired company; and
- the assumption of unforeseen liabilities of the acquired company.
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We cannot assure you that our previous or future acquisitions will be
successful and will not adversely affect our financial condition or results of
operations. In fiscal 1997, we experienced difficulties in integrating and
leveraging our acquisitions of Cognisoft Corporation and 64K Incorporated. We
must also maintain our ability to manage any such growth effectively. Failure to
manage growth effectively and successfully integrate acquisitions we make could
harm our business and operating results.
RISKS RELATED TO OUR INDUSTRY
WE DEPEND ON INCREASING USE OF THE INTERNET, INTRANETS, EXTRANETS AND PORTALS
AND ON THE GROWTH OF ELECTRONIC COMMERCE. IF THE USE OF THE INTERNET, INTRANETS,
EXTRANETS AND PORTALS AND ELECTRONIC COMMERCE DO NOT GROW AS ANTICIPATED, OUR
BUSINESS WILL BE SERIOUSLY HARMED
The products of most of our customers depend on the increased acceptance
and use of the Internet as a medium of commerce and on the development of
corporate intranets and extranets and portals. As a result, acceptance and use
may not continue to develop at historical rates and a sufficiently broad base of
business customers may not adopt or continue to use the Internet as a medium of
commerce. The lack of such development would impair demand for our products and
would adversely affect our ability to sell our products. Demand and market
acceptance for recently introduced services and products over the Internet and
the development of corporate intranets and extranets and portals are subject to
a high level of uncertainty, and there exist few proven services and products.
The business of most of our customers would be seriously harmed if:
- use of the Internet, the Web and other online services does not continue
to increase or increases more slowly than expected;
- the infrastructure for the Internet, the Web and other online services
does not effectively support expansion that may occur; or
- the Internet, the Web and other online services do not create a viable
commercial marketplace, inhibiting the development of electronic commerce
and reducing the need for our products and services.
CAPACITY CONSTRAINTS MAY RESTRICT THE USE OF THE INTERNET AS A COMMERCIAL
MARKETPLACE, WHICH WOULD RESTRICT OUR GROWTH
The Internet may not be accepted as a viable long-term commercial
marketplace for a number of reasons. These include:
- potentially inadequate development of the necessary communication and
network infrastructure, particularly if rapid growth of the Internet
continues;
- delayed development of enabling technologies and performance
improvements;
- delays in the development or adoption of new standards and protocols; and
- increased governmental regulation.
Our ability to grow our business is dependent on the growth of the Internet
and, consequently, any such adverse events would impair our ability to grow our
business.
SECURITY RISKS AND CONCERNS MAY DETER THE USE OF THE INTERNET FOR CONDUCTING
ELECTRONIC COMMERCE, WHICH WOULD ADVERSELY AFFECT THE DEMAND FOR OUR PRODUCTS
A significant barrier to electronic commerce and communications is the
secure transmission of confidential information over public networks. Advances
in computer capabilities, new discoveries in the field of cryptography or other
events or developments could result in compromises or breaches of our security
systems or those of other web sites to protect proprietary information. If any
well-publicized compromises of
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security were to occur, it could have the effect of substantially reducing the
use of the Internet for commerce and communications, resulting in reduced demand
for our products, thus adversely affecting our revenues.
SECURITY RISKS EXPOSE US TO ADDITIONAL COSTS AND TO LITIGATION
Anyone who circumvents our security measures could misappropriate
proprietary information or cause interruptions in our services or operations.
The Internet is a public network, and data is sent over this network from many
sources. In the past, computer viruses, software programs that disable or impair
computers, have been distributed and have rapidly spread over the Internet. We
may be required to expend significant capital and other resources to protect
against the threat of security breaches or to alleviate problems caused by
breaches. To the extent that our activities may involve the storage and
transmission of proprietary information, such as credit card numbers, security
breaches could expose us to a risk of loss or litigation and possible liability.
Our security measures may be inadequate to prevent security breaches, and our
business would be harmed if we do not prevent them.
RISKS RELATED TO OWNERSHIP OF OUR COMMON STOCK
THE MARKET PRICE OF OUR COMMON STOCK WILL FLUCTUATE AND YOU MAY LOSE ALL OR PART
OF YOUR INVESTMENT
Our common stock is quoted for trading on the Nasdaq National Market. The
market price for our common stock may continue to be highly volatile for a
number of reasons including:
- future announcements concerning Verity or its competitors;
- quarterly variations in operating results;
- announcements of technological innovations;
- the introduction of new products or changes in product pricing policies
by us or competitors;
- proprietary rights or other litigation; and
- changes in earnings estimates by analysts or other factors.
In addition, stock prices for many technology companies fluctuate widely
for reasons, which may be unrelated to operating results. These fluctuations, as
well as general economic, market and political conditions, such as recessions or
military conflicts, may materially and adversely affect the market price of our
common stock.
WE HAVE IMPLEMENTED CERTAIN ANTI-TAKEOVER PROVISIONS THAT MAY PREVENT OR DELAY
AN ACQUISITION OF VERITY THAT MIGHT BE BENEFICIAL TO OUR STOCKHOLDERS
Provisions of our certificate of incorporation and bylaws, as well as
provisions of Delaware law, could make it more difficult for a third party to
acquire us, even if doing so would be beneficial to our stockholders. These
provisions include:
- establishment of a classified board of directors such that not all
members of the board may be elected at one time;
- the ability of the board of directors to issue without stockholder
approval up to 1,999,995 shares of preferred stock to increase the number
of outstanding shares and thwart a takeover attempt;
- no provision for cumulative voting in the election of directors, which
would otherwise allow less than a majority of stockholders to elect
director candidates;
- limitations on who may call special meetings of stockholders;
- prohibiting stockholder action by written consent, thereby requiring all
stockholder actions to be taken at a meeting of our stockholders; and
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- establishing advance notice requirements for nominations for election to
the board of directors or for proposing matters that can be acted upon by
stockholders at stockholder meetings.
In September 1996, our Board of Directors adopted a Share Purchase Rights
Plan, commonly referred to as a "poison pill." In addition, the anti-takeover
provisions of Section 203 of the Delaware General Corporations Law and the terms
of our stock option plan may discourage, delay or prevent a change in control of
Verity.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Interest Rate Risk. The primary objective of our investment activities is
to preserve the principal while at the same time maximizing yields without
significantly increasing the risk. To achieve this objective, we maintain our
portfolio of cash equivalents and investments in a variety of securities,
including both government and corporate obligations and money market funds. As
of August 31, 2000, approximately 76% of our portfolio matures in one year or
less, with the remainder maturing in less than two years. We do not use
derivative financial instruments in our investment portfolio. We place our
investments with high credit quality issuers and, by policy, limit the amount of
credit exposure to any one issuer.
The following table presents the amounts of our cash equivalents and
investments that are subject to interest rate risk by year of expected maturity
and average interest rates as of August 31, 2000:
<TABLE>
<CAPTION>
FY2001 FY2002 FY2003 TOTAL FAIR VALUE
-------- ------- ------ -------- ----------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
Cash equivalents............... $ 6,093 -- -- $ 6,093 $ 6,093
Average interest rate.......... 4.2%
Short-term investments......... $112,116 $15,508 -- $127,624 $127,624
Average interest rate.......... 6.6% 6.5%
Long-term investments.......... -- $38,098 $4,054 $ 42,152 $ 42,152
Average interest rates......... -- 6.7% 6.9%
</TABLE>
Foreign Currency Risk. We transact business in various foreign currencies,
including the British pound, the French franc, the German mark, the Dutch
guilder, the Canadian dollar, the Australian dollar, the Swedish krona, the
South African rand and the Mexican peso. We have established a foreign currency
hedging program utilizing foreign currency forward exchange contracts to hedge
certain sales contracts denominated in foreign currency. Under this program,
fluctuations in foreign currencies during the period from the signing of the
contract until payment are partially offset by realized gains and losses on the
hedging instruments. The goal of this hedging program is to lock in exchange
rates on our sales contracts denominated in foreign currencies. The notional
amount of hedged contracts and the estimated fair value are not material.
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PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
In December 1999, a number of complaints were filed in the United States
District Court for Northern District of California seeking an unspecified amount
of damages on behalf of an alleged class of persons who purchased shares of
Verity's common stock during the period between December 1 and December 14,
1999. The actions were consolidated into one action and a consolidated amended
complaint was filed. The complaint names as defendants Verity and certain of its
directors and officers, asserting that they violated federal securities laws by
misrepresenting Verity's business and earnings growth ability to continue to
achieve profitable growth, and failing to disclose certain information about
Verity's business. In August 2000, the complaint was dismissed without prejudice
with leave to amend, and the plaintiffs have until September 27, 2000 to re-file
an amended complaint. While management intends to defend the actions against
Verity vigorously, there can be no assurance that an adverse result or
settlement with regards to this lawsuit would not have a material adverse effect
on Verity's financial condition or results of operations.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
Not Applicable.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Not Applicable.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not Applicable.
ITEM 5. OTHER INFORMATION
Not Applicable.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K:
A. Exhibits -- See Exhibit Index
B. Reports on Form 8-K
No Current Reports on Form 8-K were filed during the quarter covered by
this report.
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<PAGE> 24
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.
VERITY, INC.
By: /s/ TODD K. YAMAMI
------------------------------------
Todd K. Yamami
Vice President & Corporate
Controller
(Principal Accounting Officer)
Dated: September 27, 2000
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INDEX TO EXHIBITS
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION OF DOCUMENT
------- -----------------------
<C> <S>
2.1 Form of Agreement and Plan of Merger between Verity, Inc., a
California corporation, and Verity Delaware Corporation, a
Delaware corporation, filed September 22, 1995.(1)
3.1 Certificate of Incorporation of the Company. Reference is
made to Section 2 of Exhibit 2.1.
3.2 By-Laws.(1)
3.3 Certificate of Retirement of Series of Preferred Stock.(2)
3.4 Certificate of Designation, Preferences and Rights of Series
A Preferred Stock.(2)
3.5 Certificate of Amendment of Certificate of Incorporation of
Verity, Inc., dated September 21, 1999 and filed with the
Secretary of State of the State of Delaware.(3)
4.1 Amended and Restated Rights Agreement dated August 1, 1995,
as amended.(1)
4.2 Form of Rights Agreement between Verity, Inc. and First
National Bank of Boston dated September 18, 1996.(4)
4.3 First Amendment to Rights Agreement dated as of July 23,
1999 among Verity, Inc. and BankBoston, N.A.(5)
10.27 1996 Non-Statutory Stock Incentive Plan, as amended.
27.1 Financial Data Schedule
</TABLE>
---------------
(1) Incorporated by reference from the exhibits with corresponding numbers from
the Company's Registration Statement (No. 33-96228), declared effective on
October 5, 1995.
(2) Incorporated by reference from the exhibits with corresponding numbers from
the Company's Form 10-Q for the quarter ended August 31, 1996.
(3) Incorporated by reference to the like-numbered exhibit from the Company's
Form 10-Q for the quarter ended November 30, 1999.
(4) Incorporated by reference from Exhibit No. 1 to the Company's Form 8-K as
filed with the Securities and Exchange Commission on October 10, 1996.
(5) Incorporated by reference to Exhibit 99.2 from the Company's Current Report
on Form 8-K filed on July 29, 1999.
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