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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-K
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_______ Annual report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934, [Fee required] for the fiscal year ended
_________________, or
XX Transition report pursuant to Section 13 or 15(d) of the Securities
- ------ Exchange Act of 1934, [No fee required] for the transition period from
April 1, 1996 to December 31, 1996
Commission File Number 1-10139
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NeTegrity, Inc.
(Exact name of registrant as specified in its charter)
DELAWARE 04-2911320
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
245 Winter Street
Waltham, MA 02154
(Address of principal executive offices) (Zip Code)
(617) 890-1700
(Registrant's Telephone Number)
Securities registered pursuant to Section 12(g) of the Act: NONE
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Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such other 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 XX Yes No
---- ----
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, in
definitive proxy or information statements incorporated by reference in
Part III of this Form 10-K or any amendment to this Form 10-K [______]
The aggregate market value of voting Common Stock held by non-affiliates of
the Registrant was approximately $23,647,000 based on the closing sale price of
the Registrant's Common Stock on January 31, 1997 as reported by the Nasdaq
Over-the-Counter Interdealer Automated Quotation System ($3.00 per share).
As of January 31, 1997 there were 9,254,946 shares of Common Stock outstanding.
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PART I
ITEM 1. BUSINESS
THE COMPANY
NeTegrity, Inc. ("NeTegrity" or the "Company") designs, develops, markets
and supports data and voice network security products combined with a full
range of professional services tailored to protect and manage access to
computer-based information resources. It works with leading organizations in
the financial services, insurance, high tech, manufacturing,
telecommunications and health care industries, as well as the government to
secure mission-critical systems against a wide range of security threats. Its
dedicated focus on network security enables the Company to help clients
design security solutions that effectively respond to ever-present and
constantly-arising security threats, while accommodating long-range,
enterprise-level technology goals. The Company's Network Consulting Business
provides a broad range of services that are customized to meet the complex
requirements of each customer, including design, implementation, systems
integration, and ongoing improvement of their security practices.
The Company has been involved in the network security market since 1994,
when it became the first North American distributor and reseller of Check
Point Software Technologies, Ltd.'s ("Check Point") FireWall-1-TM-. Today, the
Company is the leading U. S. value-added reseller of FireWall-1,
distinguishing itself by providing comprehensive pre- and post-sales support
and consulting services.
The Company's SiteMinder-TM- Enterprise Security Manager ("SiteMinder"),
will comprise a family of products and services to be developed by NeTegrity
for authentication, network authorization and application authorization.
SiteMinder was announced in October of 1996 as the industry's first open
solution for centralized administration and control of all user access
privileges for the various user-based security functions. It is a
comprehensive enterprise security management system that centrally monitors
and administers all network information access and usage, including Internet
and Intranet applications, and is designed be open, integrated, and
interoperable. The Company expects to distribute the SiteMinder products and
services through its own sales force and through the establishment of
reseller and OEM relationships.
In November, 1996, the Company expanded its portfolio of security
offerings by forming a joint venture with Encotone, Ltd., of Israel, the
leader in acoustic smart-card security solutions. The joint venture,
Encotone, Inc., will initially focus on marketing TeleID-TM- , an acoustic
smart card which delivers extremely cost-effective, easy-to-use absolute
identification over voice or data lines. TeleID generates a dynamic digital
signature across any voice or data line to provide absolute identification of
users as well as data encryption. TeleID is an inexpensive, user-friendly
means of positively identifying a particular person and confirming a
particular transaction anywhere in the world without the need for specialized
card readers or similar devices. Initial target markets include
telecommunications, banking and financial services firms.
The Company and its joint venture are headquartered at 245 Winter Street,
Waltham, Massachusetts, 02154, and the general telephone number is (617)
890-1700.
2
BUSINESS STRATEGY
NeTegrity's objective is to be a leader in the voice and data network
security market. The Company currently provides the security solutions
companies need to confidently conduct business over public networks, like
voice lines and the Internet, and to use their private networks as secure
Intranets. Its focus on end-users, and a clear understanding of its
customers' security requirements, have enabled the Company to become a major
source for access control products, as well as provide support and security
consulting services. The following are key elements of the Company's strategy:
- Develop, bring to market and continue to enhance SiteMinder Enterprise
Security Manager products. The Company plans to bring to market its
SiteMinder products during fiscal 1997. It plans to continue to add new
products and enhance other products to meet its customer's authentication
and authorization needs within the context of an evolving enterprise
environment.
- Expand its product capability for additional network operating platforms
and security products. The Company currently offers its SiteMinder server
software for the NT platform and expects to develop versions for other
platforms as market needs dictate. SiteMinder's open authentication server
currently supports many authentication schemes including passwords and
two-factor hardware tokens. The Company plans to add network authorization
management and provide application authorization for Internet-based
applications and many of the client/server platforms.
- Expand direct sales, marketing and support channels. The Company currently
sells Check Point's FireWall-1 and related support services in North
America through its direct sales force. Beginning in 1997, the Company
will also support its own SiteMinder product through a multi-channel
distribution strategy including OEM's, resellers, and direct sales to
current and future customers. The Company plans to expand its sales force
and support organization accordingly in order to differentiate the
Company's products from those of its competitors and to obtain insights
into the future security requirements of its customers. The Company
expects to continue to establish strategic marketing and other third-party
relationships with vendors of operating systems, remote access products,
Internet-related products and application software.
- Build Consulting Services. The Company 's consulting services organization
was formally launched in April, 1996 as a result of its customer support
efforts. The Company currently provides fee-based, on-site consulting
services that can provide an evaluation of existing security systems,
identify short-comings in the networks and suggest corrective action.
Services currently include: developing enterprise-wide security policies;
auditing existing security; performing assessment to determine security
vulnerability; and providing customization and integration support. With
the addition of its SiteMinder product, the Company anticipates this
organization to expand as it brings on new customers with additional
security requirements.
3
MARKETS AND PRODUCTS
The Market: Computer and network security has historically been the focus of
businesses engaged in security-conscious industries such as banking,
telecommunications, aerospace and defense. As a result of the increase in the
number of users having direct and remote access to enterprise networks and
corporate data, unauthorized access to information resources has become a
growing and costly problem for businesses of all types. Sensitive data that
requires protection from unauthorized use include financial results, medical
records, personnel files, customer files, research and development projects,
marketing plans and other business information. Unauthorized access to this
data may go undetected by the computer user or system administrator,
especially if the information is not altered by the unauthorized party.
Companies are vulnerable not only to unauthorized access to information
resources by suppliers, customers and other third parties, but also to abuse
by employees within their own organizations. As employees change jobs and
companies change vendors, organizations must be able to react quickly in
modifying or eliminating user access privileges.
Currently there are three different functions necessary for the
protection of information resources on a computer system or network: User
Identification (authentication), Enforcement (network authorization), and
Policy (application authorization).
User Identification (authentication) is the first line of defense to
prevent unauthorized users from accessing network resources. Products within
this category are designed to determine who a user is and to identify all
authorized users. Thus, even users who log onto a network from a node on the
network must also identify themselves by typing a password. The popular
systems today are relatively cost-effective and offer greater security than a
simple personal identification number (PIN).
The next line of defense is Enforcement (network authorization).
Enforcement manages where a user can go by controlling their access to
computers on the network and preventing them from gaining access to
unauthorized areas. While routers provide a basic level of privilege control,
they do not provide a sufficiently high level of security. Firewalls are the
most widely deployed solution in this category. Their software architecture
allows users to monitor traffic into and out of the network and to deny
access to all or specified domains within the enterprise. Remote access
servers are not served by firewalls and require additional capabilities to be
incorporated in order to provide for user enforcement.
The final level is Policy (application or information authorization),
which manages what information the user has access to and what changes they
can make to a particular piece of information.
Underlying these three functions is the requirement for a centralized
repository that provides for a single point of control for all user
privileges in order to simplify administration and facilitate rapid changes.
This centralized repository also provides a single point for auditing,
monitoring and recording user activities on the network.
The Company's SiteMinder product will address all of these functions by
managing all user privileges. It currently provides for authentication
management by integrating many of the authentication schemes available today.
Future releases will provide network authorization by integrating with many
remote access servers and firewalls and will manage application authorization
by supporting many Web- and client/sever-based application environments.
SiteMinder Enterprise Security Manager: SiteMinder is a product that will
integrate authentication, authorization, auditing and administration
capabilities on a single platform. As an open, standards-based platform,
SiteMinder is a security solution which is interoperable and scalable, and
offers centralized administration and auditing capabilities across the
enterprise.
4
The first release of SiteMinder focuses on the critical and inter-related
functions of enterprise-wide authentication and on the centralized auditing,
accounting, and administration of these functions across the organization.
Since SiteMinder is open and scalable, its authentication and network
authorization and application authorization products can be employed
separately or in combination. Because of its unique underlying architecture,
the combined use of its three products creates the most comprehensive central
repository of user access information available.
The Authentication Server currently provides centralized verification of
user identity for network access across the enterprise and accommodates a
wide variety of password and token schemes. By adopting the RADIUS standard,
SiteMinder manages authentication for network access devices such as Check
Point's FireWall-1 and Vasco Data Security, Inc.'s Access Key II. The Network
Authorization Server will allow security managers to centrally manage user
access to corporate network resources across the enterprise. The Application
Authorization Server will allow security managers to centrally control
activities at a very detailed level of granularity. The auditing, accounting
and administration foundation of SiteMinder centrally controls authentication
and authorization transactions and presents a consolidated view of these
transactions for accounting purposes. Additionally, it inter-operates with
security solutions from other vendors providing user management access for
firewalls and remote access communication servers.
Because the Company currently derives substantially all of its revenue
from sales of its network security products and related services, any factor
adversely affecting sales of these products and services would have a
material adverse effect on the company. The Company's future financial
performance will depend in part on the successful development, introduction
and customer acceptance of new and enhanced versions of its network security
products and its services. There can be no assurance that the Company will
continue to be successful in marketing its products or any new or enhanced
products. In addition, competitive pressures or other factors, including
entry into new markets may result in significant price erosion that could
have a material adverse effect on the Company's financial condition or
results of operations.
SALES, MARKETING AND SUPPORT
Sales: The Company directly markets its products and services domestically
through a telemarketing and telesales organization and indirectly markets
through other resellers. The Company's telesales organization is divided
into three territories in the United States. Its sales strategy involves
qualifying prospects initially to determine their information security
requirements, and strategic consultative selling once customers are
identified. The Company currently markets its product and consulting services
for network security solutions to large, corporate customers that desire to
connect their corporate network to a public network such as the Internet. A
customer's decision to use NeTegrity's products and services may involve a
substantial financial commitment including license costs, maintenance fees,
consulting fees and training, and in many cases the cost of a computer system
to implement network security. To date, the desire to connect securely to the
Internet as expeditiously as possible has minimized the length of the sales
cycle. The Company also has a major account program currently staffed with
one field sales representative where on-site meetings are conducted with
accounts that have substantial product and service requirements.
Support Services: The Company believes that a customer's decision to purchase
products from the Company is based, in part, on the services provided by the
Company that help to quickly and effectively install and implement a network
security system, educate the customer's staff, and support its ongoing
operations. New services recently added assist the customer in developing,
implementing and testing its security policies. Annual maintenance contracts
are generally purchased for the first year of a customer's use of the Check
Point FireWall-1 product and are renewable on an annual basis. Maintenance
fees are typically equal to 20% of the list price for the product.
5
Marketing: In support of its sales efforts, the Company conducts its own
marketing programs intended to position and promote its products and
services. Marketing activities include direct mail, Internet marketing,
advertising, public relations and trade shows, as well as directing the
Company 's participation in industry programs and forums. The Company also
benefits from joint marketing programs conducted with strategic partners,
such as seminars, joint mailings, and lead swapping.
MERCHANDISING AND CUSTOMERS
For the nine-month transition period ended December 31, 1996, the Company
was a non-exclusive distributor of Check Point Software Technologies, Ltd.'s
FireWall-1 product and a support services organization. In addition to the
sale of FireWall-1 to end-users, the Company also distributed the product to
a channel of approximately 21 value added resellers. These value added
resellers accounted for approximately 17% of the license revenue achieved by
the Company during the nine-month transition period ended December 31, 1996.
The Company also benefits from the marketing programs conducted by Check
Point. Many of Check Point's activities result in the generation of qualified
leads, some of which are provided to the Company.
The sale of Check Point's FireWall-1-TM- represented 72% of the Company's
revenues in the nine-month transition period ended December 31, 1996, and 82%
in the twelve month period ended March 31, 1996. Sale of the Company's
services represented approximately 28% of revenues in nine-month transition
period ended December 31, 1996, and 18% in the twelve month period ended
March 31, 1996.
The Company also plans to market and sell its proprietary SiteMinder
Security Manager during fiscal 1997.
Customers: As of December 31, 1996, The Company licensed Check Point's
FireWall-1 to approximately 350 customers. The Company's customers represent
a broad cross-section of industries including financial, insurance,
telecommunications, technology and consumer products. Its customers include
Fortune 1000 companies, telecommunication companies, major financial
institutions and large insurance companies. The Company has been able to
increase its customer base by combining Check Point's FireWall-1 product with
post-sales support services, including training and customer support. The
Company expects that its customer base will grow with the addition of
SiteMinder into its product mix.
The Company's customers consist primarily of businesses and institutions.
As corporate networks proliferate and become more complex, the number of
industries concerned with system security and access to information will
grow. No single customer, including direct end-users or resellers, accounted
for more than 10% of the Company's total revenues during each of the years
ended December 31, 1996, 1995 and 1994.
PURCHASING
The Company purchases 100% of its FireWall-1 product directly through
Check Point Software Technologies, Ltd. and purchases accompanying hardware
through various manufacturers and distributors, where it can receive the most
favorable prices. The Company has not experienced any material difficulties
or delays in acquiring any of the products which it distributes.
6
DISTRIBUTION AND BACKLOG
The Company generally ships product within 24 hours of the receipt of an
order from a customer. Consequently, backlog is currently not a material
factor.
COMPETITION
The market for network security products is becoming highly competitive
and is subject to rapid technological change. The Company believes that
competition in this market is likely to intensify as a result of the
increasing demand for security products. It currently experiences competition
form a number of sources including competitors of Check Point's FireWall-1
product such as Raptor Systems, Inc., Trusted Information Systems, Inc.
(TIS), Border Network Technologies, Inc., as well as other resellers of Check
Point's FireWall-1 product such as Sun Microsystems. Competition for its
SiteMinder Security Manager product includes Security Dynamics Technologies,
Inc., Axent Technologies, Inc., IBM, and Hewlett Packard. Additional
competition for SiteMinder may develop as other companies in the industry
begin to offer similar security management products. As the Company's network
security product offerings expand to other segments of the security
marketplace, the Company will likely incur additional competition. Current
and potential competitors have established or may in the future establish
cooperative relationships among themselves or with third parties to increase
the availability of their products to the marketplace. Accordingly, it is
possible that new competitors or alliances may emerge and rapidly acquire
significant market share. Many of the Company's current and potential
competitors have significantly greater financial, marketing, technical and
other competitive resources than the Company.
PRODUCT RESEARCH AND DEVELOPMENT
The market for network security products is characterized by rapid
technological change, changes in customer requirements, new product
introductions and enhancements, and emerging industry standards. The Company
focuses significant resources on developing and improving its products in
response to changes in operating systems, application software, computer
hardware, networking software, and evolving customer requirements. The
Company began to develop its own proprietary products in 1996. For the
nine-month transition period ended December 31, 1996, the Company spent
approximately $705,000, or 19% of revenue, on research and development. The
Company is continuing its product development efforts for its current
products, as well as developing next generation versions of its current
products, in particular, SiteMinder Enterprise Security Manager.
The company believes significant investments in product development are
required to remain competitive. The Company intends to maintain the dollar
amount of its product development expenditures in 1997 within the range of
10% to 15% of its revenue.
The Company believes that its future success will depend in large part on
its ability to enhance and broaden its existing product line to meet the
evolving needs of the market. There can be no assurance that the Company will
be able to respond effectively to technological changes or new industry
standards or developments. In addition, the Company could be adversely
affected if it were to incur significant delays or be unsuccessful in
developing new products or enhancing its existing products, or if any such
enhancements or new products do not gain market acceptance. In addition, a
number of factors, including the timing of product introductions and
enhancements by the Company or its competitors, market acceptance of new
products, or customer order deferrals in anticipation of new products, may
cause variations in the Company's quarterly operating results.
7
PROPRIETARY RIGHTS
The Company depends upon a combination of patent and trademark laws,
license agreements, non-disclosure and other contractual provisions to
protect proprietary and distribution rights in its products. In addition, the
Company attempts to protect its proprietary information and those of its
vendors and partners through confidentiality and/or license agreements with
its employees and others. Despite these precautions, it may be possible for
unauthorized third parties to obtain information that the Company regards as
proprietary and/or confidential.
Management believes that, due to the rapid pace of innovation within the
high-tech industry, factors such as technical and creative skills of its
personnel and ongoing reliable services and support are as important in
establishing and maintaining a leadership position within the industry as are
the various forms of legal protections.
EMPLOYEES
At December 31, 1996, the Company had a total of 24 full-time employees,
of which 3 were involved in research and development, 14 in sales, marketing
and customer support, and 7 in administration and finance. None of the
Company's employees are represented by a labor union. The Company has not
experienced any work stoppages and believes that its relationships with
employees are good.
ITEM 2. PROPERTIES
The Company's sole facility consists of approximately 5,760 square feet
of leased office space in Waltham, Massachusetts. The Company occupies these
premises under a commercial lease with current monthly payments of $7,920
expiring in May, 2001.
During 1997 the Company may require additional space as it grows. The
Company believes that suitable alternative space will be available should it
need to expand.
ITEM 3. LEGAL PROCEEDINGS
From time to time, the Company is involved in litigation relating to
claims arising out of its operations in the normal course of business. The
Company is not presently a party to any legal proceedings, the adverse
outcome of which, in management's opinion, would have a material adverse
effect on the Company's results of operations or financial position.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of security holders, whether through
the solicitation of proxies or otherwise, during the quarter ended December
31, 1996.
8
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
The Company's Common Stock is traded principally on the Nasdaq SmallCap
Market-SM- tier of the Nasdaq Stock Market-SM- under the symbol "NETE" and is
also traded on the Boston Stock Exchange under the symbol "NTY." The
following table sets forth the range of quarterly high and low bid quotations
for the Company's Common Stock as reported by Nasdaq. The quotations
represent interdealer quotations without adjustment for retail markups,
markdowns or commissions, and may not necessarily represent actual
transactions.
QUARTERLY 1995 QUOTATIONS HIGH TRADE LOW TRADE
- ------------------------- ---------- ---------
January 1, 1995-March 31, 1995....................... $1.687 $0.375
April 1, 1995-June 30, 1995.......................... $2.00 $1.00
July 1, 1995-September 30, 1995...................... $2.375 $0.938
October 1, 1995-December 31, 1995.................... $3.25 $1.563
QUARTERLY 1996 QUOTATIONS HIGH TRADE LOW TRADE
- ------------------------- ---------- ---------
January 1, 1996-March 31, 1996.................... $1.938 $1.25
April 1, 1996-June 30, 1996....................... $5.813 $1.563
July 1, 1996-September 30, 1996................... $3.625 $1.938
October 1, 1996-December 31, 1996................. $3.125 $1.875
As of December 31, 1996, there were 135 holders of record and
approximately 1,500 beneficial owners of the Company's 9,204,946 shares of
Common Stock outstanding. The Company estimates that approximately 1,300
shareholders hold securities in street name.
ITEM 6. SELECTED FINANCIAL DATA
In August of 1996, the Company elected to change its fiscal year from
March 31 to December 31 to coincide with the calendar year. As a result, the
Company's most recent financial reporting period was the nine-month
transition period ended December 31, 1996. The following selected
consolidated financial information should be reviewed in conjunction with
Item 7--Management's Discussion and Analysis of Financial Condition and
Results of Operations and the Consolidated Financial Statements and Notes
thereto in Item 8 of this report.
9
NINE-MONTH TWELVE-MONTH FISCAL YEAR
TRANSITION PERIOD ENDED MARCH 31,
ENDED DECEMBER 31, --------------------------
1996 1996 1995 1994 1993
------------------- --------- --------- --------------- ---------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
INCOME STATEMENT DATA:
Net revenues..................................... $ 3,637 $ 3,725 $ 959 -- --
Cost of revenues................................. 2,176 2,173 488 -- --
------- ------- ------ ------- -------
Gross profit..................................... 1,461 1,552 471 -- --
Selling, general and administrative expenses..... 2,303 1,178 305 -- --
Research and development costs................... 705 -- -- -- --
------- ------- ------ ------- -------
Income (loss) from operations.................... (1,547) 374 166 -- --
Interest income (expense)........................ 181 20 (1) -- --
Share of loss from investment in Encotone,
Inc............................................ (40) -- -- -- --
-------- ------- ------- ------- -------
Income (loss) from continuing operations......... (1,406) 394 165 -- --
Income (loss) from operation of discontinued
operations..................................... (520) (240) 31 $ (270) $ (971)
Gain on sale of assets of discontinued
operations..................................... 6,000 -- -- -- --
-------- ------- ------- -------- --------
Income before provision for income taxes......... 4,074 154 196 (270) (971)
Provision for income taxes....................... 74 25 -- -- --
Net income............................ $ 4,000 $ 129 $ 196 $ (270) $ (971)
------------------- --------- --------- --------------- ---------
------------------- --------- --------- --------------- ---------
Per share amounts:
From continuing operations.................. $ (0.14) $ 0.05 $ 0.02 -- --
From operation of discontinued operations... (0.05) (0.03) -- (0.06) (0.44)
Gain on sale of assets...................... 0.61 -- -- -- --
------------------- --------- --------- --------------- ---------
Net income (loss) per share............ $ 0.40 $ 0.01 $ 0.02 $ (0.06) $(0.44)
------------------- --------- --------- --------------- ---------
------------------- --------- --------- --------------- ---------
Weighted average common shares outstanding.. 9,901 8,835 8,710 4,833 2,227
AS OF AS OF MARCH 31,
DECEMBER 31, ----------------------------------------
1996 1996 1995 1994 1993
------------- --------- --------- --------- ---------
(IN THOUSANDS)
BALANCE SHEET DATA:
Working capital (deficit)................... $ 4,629 $ 401 $ 651 $ 280 $ (196)
Total assets................................ 10,259 9,170 7,127 6,929 9,449
Long-term liabilities---.................... -- 187 300 385 153
Stockholders' equity........................ 6,149 1,903 1,950 1,701 451
10
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
RESULTS OF OPERATIONS
The Private Securities Litigation Reform Act of 1995 contains certain
safe harbors regarding forward-looking statements. In that context, the
discussion in this Item contains forward-looking statements which involve
certain degrees of risk and uncertainties, including statements relating to
liquidity and capital resources. Except for the historical information
contained herein, the matters discussed in this section are such
forward-looking statements that involve risks and uncertainties, including
the impact of competitive pricing within the software industry, the effect
any reaction to such competitive pressures has on current inventory
valuations, the need for and effect of any business restructuring, the
presence of competitors with greater financial resources, capacity and supply
constraints or difficulties, and the Company's continuing need for improved
profitability and liquidity.
The following overview reflects the recent divestiture of the Company's
catalog related business. Any comments relating to operating results or
issues are reflective of the continuing network security business. The
Company's revenues were generated by the sale of network security products,
integration and support services to companies doing business on the Internet
and internal networks. The divestiture of the Company's catalog related
business is recorded as discontinued operations in the accompanying financial
statements contained in Item 8.
The Company plans to develop and introduce new products to address the
changing needs of the evolving network security market. There can be no
assurance that the Company will be able to develop new products or that such
products will achieve market acceptance, or, if market acceptance is
achieved, that the Company will be able to maintain such acceptance for a
significant period of time.
OVERVIEW
The following information should be read in conjunction with the
consolidated financial statements and notes thereto:
% TO NET REVENUES
-----------------------------------------------------------------
NINE-MONTH
TRANSITION PERIOD TWELVE-MONTH FISCAL YEAR
ENDED DECEMBER 31, ENDED MARCH 31,
------------------ ------------------------------------
1996 1996 1995 1994
------------------ ---- ---- ----
Net Revenues............................................. 100% 100% 100% ---
Gross Margin............................................. 40% 42% 49% ---
Selling, general and administrative expenses............. 63% 30% 32% ---
Research and development costs........................... 19% -- -- ---
Income (loss) from continuing operations............... (39%) 13% 17% ---
11
Nine-Month Transition Period ended December 31, 1996 vs. Twelve-Month Fiscal
Year ended March 31, 1996
The sale of Check Point Software Technologies, Ltd.'s FireWall-1-TM-
represented 72% of the Company's revenues in the nine-month transition period
ended December 31, 1996, and 82% in the twelve month period ended March 31,
1996. Sale of the Company's services represented approximately 28% of
revenues in the nine-month transition period ended December 31, 1996, and 18%
in the twelve month period ended March 31, 1996.
Asset Sale: As of June 28, 1996, the Company completed the
divestiture of its catalog related business, consisting of The Programmer's
SuperShop ("TPS") catalog, the TPS web site, the corporate sales group, SDC
Germany and SDC Communications. The Company completed the transaction for an
aggregate price of $10,035,000. The aggregate price consisted of payment of
$9,300,000 in immediately available funds and the deposit of $735,000 under
an escrow arrangement. During August, 1996, $135,000 of the escrow was
returned to the Company.
The aggregate price of $10,035,000 was in exchange for the Company's
tangible net assets of the catalog related business that at the time was
estimated at approximately $1,500,000. The values of these net assets are
currently being evaluated by a third party, and the Company expects that any
purchase price adjustments that could occur as a result of the evaluation
will have no material impact on the financial position or results of
operations presented herein.
The Company incurred $2,587,000 in expenses and write-offs related to the
divestiture. These expenses were primarily comprised of write-off of
goodwill, severance costs, professional fees, buy-outs of capital leases, and
facility shut-down costs for its corporate offices and distribution facility.
The Company reported a gain of $6,000,000 from the sale of the assets of its
catalog related business. The Company will utilize a portion of its available
operating loss carryforwards to decrease the amount of Federal and State
corporate income taxes.
Fiscal Year ended March 31, 1996 vs. Fiscal Year ended March 31, 1995
Revenues: Total net revenues increased by $2,766,000, or 288%, to
$3,725,000 in fiscal 1996 from $959,000 in fiscal 1995. The increase in
revenues resulted from significant growth in the Company's sales due to the
increasing need for network security as companies connected to the Internet.
Gross Margin: Total gross margin increased by $1,081,000, or 230%, to
$1,552,000 in fiscal 1996 as compared to $471,000 in fiscal 1995. The
increase in gross margin is directly attributable to the growth in revenues
as disclosed above.
Selling, General and Administrative Expense: Selling, general and
administrative ("SG&A") expenses increased by $872,000, or 286%, to
$1,177,000 in fiscal 1996 from $305,000 in fiscal 1995. This increase was a
result of the Company building its management and development staff
infrastructure to bring to market its proprietary product line and address
the growing network security marketplace.
Interest Expense: Net interest expenses, included as a
component of discontinued operations, decreased by $54,364, or 30%, to
$126,887 in fiscal 1996 from $181,251 in 1995. The decrease was primarily due
to lower borrowing levels in fiscal 1996 with respect to the Company's line
of credit.
12
LIQUIDITY AND CAPITAL RESOURCES
(in thousands, except ratios)
NINE-MONTH
TRANSITION PERIOD TWELVE-MONTH FISCAL
ENDED DECEMBER 31, YEAR ENDED MARCH 31,
------------------- ---------------------
1996 1996
------------------- ---------------------
Cash and cash equivalents................................................. $ 6,791 $ 1,410
Working capital........................................................... 4,629 401
Current ratio............................................................. 2.13 1.05
Net cash provided by (used for) continuing operating activities.......... $ (2,207) $ 1,253
Net cash provided by discontinued operating activities.................... 437 715
Net cash provided by (used for) investing activities...................... 7,928 (240)
Net cash used for financing activities.................................... (784) (989)
For the nine-month transition period ended December 31, 1996, the
Company's net cash flow from continuing operations decreased by $2,207,000.
This decrease was a result of the Company's loss from continuing operations,
which included research and development costs of $705,000, as well as
significant reductions in accrued expenses and payroll, which were incurred
prior to and in conjunction with the divestiture of its catalog operations.
Accounts receivable-trade, after allowances for doubtful accounts,
decreased by $4,888,000, or 86%, to $788,000 at December 31, 1996 from
$5,676,000 at March 31, 1996. This decrease was a direct result of the
divestiture of the Company's catalog operation. The Company is currently
experiencing a daily sales outstanding (DSO) of 37 days.
In prior years reported, the Company had a $2,000,000 secured bank line
of credit. This line of credit was repaid and expired on July 31, 1996 and
has not been renewed.
Working capital increased to $4,629,000 at December 31, 1996 from
$401,000 at March 31, 1996. This increase was a direct result of the
divestiture of the Company's catalog operation, which included a significant
inflow of cash to the Company.
The Company anticipates that its existing cash resources will be
sufficient to fund its operations through December 31, 1997. Future capital
requirements will depend on many factors, including cash flow from continuing
operations, competition from larger network security developers and vendors,
and the Company's ability to market and distribute products successfully. To
the extent cash flow from operations is insufficient to fund the Company's
activities, it may be necessary to raise additional funds through equity or
debt financing. Additional debt financings will result in higher interest
charges. Additional equity financings will result in dilution of
stockholders' interests. The Company's future ability to generate cash from
operations depends upon, among other things, revenue growth, improvements in
operating productivity, its credit and payment terms with vendors and
collections of accounts receivable. The Company currently anticipates that
its available cash, expected cash flows from operations, and its borrowing
capacity will be sufficient to fund operations through fiscal year 1997.
13
Inflation: To date, management believes that inflation has not had a
material impact on operations.
Environmental Liability: The Company has no known environmental violations
and assessments.
Accounting for Income Taxes: Effective April 1, 1993, the Company changed
its method of accounting for income taxes from the deferred method to the
liability method required by FASB Statement No. 109, "Accounting for Income
Taxes." The effect of the adoption of this statement had no impact on the
operating results, components of the income tax expense, or the financial
position of the Company.
Post-Retirement Benefits Other Than Pensions: The Company does not offer
post-employment benefits to its retirees and as a result, is unaffected by
Statement of Financial Accounting Standards No. 106 or No. 112 issued in
December 1990 and November 1992, respectively.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The Company's consolidated financial statements and the related
auditors' reports are presented in the following pages. The consolidated
financial statements filed in this Item 8 are as follows:
- - Report of Independent Auditors
- - Consolidated Balance Sheets--December 31, 1996 and March 31, 1996
- - Consolidated Statements of Operations for the nine-month transition
period ended December 31, 1996, and the fiscal years ended March 31,
1996 and 1995
- - Consolidated Statements of Stockholders' Equity for the nine-month
transition period ended December 31, 1996, and the fiscal years ended
March 31, 1996 and 1995
- - Consolidated Statements of Cash Flows for the nine-month transition
period December 31, 1996 and the fiscal years ended March 31, 1996 and
1995
- - Notes to Consolidated Financial Statements
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING
AND FINANCIAL DISCLOSURE
Not applicable.
14
REPORT OF INDEPENDENT AUDITORS
To the Board of Directors and Stockholders of
NeTegrity, Inc.
We have audited the accompanying consolidated balance sheets of NeTegrity,
Inc. as of December 31, 1996 and March 31, 1996 and the related consolidated
statements of operations, stockholders' equity and cash flows for the nine-month
transition period ended December 31, 1996 and the fiscal years ended March 31,
1996 and 1995. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial position of
NeTegrity, Inc. as of December 31, 1996 and March 31, 1996 and the consolidated
results of its operations and its cash flows for the nine-month transition
period ended December 31, 1996 and the fiscal years ended March 31, 1996 and
1995 in conformity with generally accepted accounting principles.
COOPERS & LYBRAND, L.L.P.
Boston, Massachusetts
January 29, 1997
15
NETEGRITY, INC.
Consolidated Balance Sheets
DECEMBER 31, MARCH 31,
1996 1996
------------- -------------
ASSETS (Note D)
CURRENT ASSETS:
Cash and cash equivalents..................................... $ 6,791,057 $ 1,410,445
Escrow receivable (Note G).................................... 600,000 --
Accounts receivable-trade, net of allowance for doubtful
accounts of $67,797 and $274,272 at December 31, 1996 and
March 31, 1996, respectively................................. 787,780 5,676,239
Accounts receivable-product, net of valuation reserve of
$73,714 at March 31, 1996.................................... -- 83,237
Inventory..................................................... -- 1,292,961
Other current assets.......................................... 559,230 303,429
------------- ------------
TOTAL CURRENT ASSETS....................................... 8,738,067 8,766,311
EQUIPMENT AND LEASEHOLD IMPROVEMENTS, NET (Note B)............. 287,323 745,268
INTANGIBLE ASSETS, NET, INCLUDING GOODWILL (Note A)............ -- 834,266
OTHER ASSETS:
Investment in Encotone, LTD. (Note C)......................... 1,000,000 --
Investment in Encotone, Inc. (Note C)......................... 210,000 --
Other......................................................... 23,360 109,900
------------- -------------
TOTAL OTHER ASSETS......................................... 1,233,360 109,900
------------- -------------
TOTAL ASSETS................................................... $ 10,258,750 $ 10,455,745
------------- -------------
------------- -------------
The accompanying notes are an integral part of the consolidated financial
statements.
16
NETEGRITY, INC.
Consolidated Balance Sheets (cont.)
DECEMBER 31, MARCH 31,
1996 1996
------------- -------------
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable-trade......................................... $ 2,099,436 $ 4,631,213
Other accrued expenses......................................... 2,009,890 2,528,072
Line of credit (Note D)........................................ -- 723,470
Notes payable-related party (Note D)........................... -- 300,000
Current portion of capitalized lease obligations (Note G)...... -- 112,730
Customer advances.............................................. -- 69,480
------------- -------------
TOTAL CURRENT LIABILITIES...................................... 4,109,326 8,364,965
LONG-TERM CAPITAL LEASE OBLIGATIONS (Note G)................... -- 187,417
------------- -------------
TOTAL LIABILITIES.............................................. 4,109,326 8,552,382
COMMITMENTS AND CONTINGENCIES (Note E)......................... -- --
STOCKHOLDERS' EQUITY:
Preferred stock, Series C voting, non-cumulative, $.01 par
value, authorized 25,000,000 shares: 628,330 shares issued
and outstanding at March 31, 1996. (Liquidation preference of
$2.00 per share)............................................. -- 6,283
Common stock, voting, $.01 par value, authorized 25,000,000
shares: 9,204,946 shares issued and 9,179,845 shares
outstanding at December 31, 1996; 8,197,887 shares issued and
8,172,786 shares outstanding at March 31, 1996............... 92,049 81,979
Additional paid-in capital..................................... 10,460,554 10,024,710
Cumulative translation adjustment.............................. 28,028 21,569
Cumulative deficit............................................. (4,147,550) (8,147,521)
Loan to officer (Note F)....................................... (200,000) --
------------- -------------
6,233,081 1,987,020
Less--Treasury Stock, at cost: 25,101 shares................... (83,657) (83,657)
------------- -------------
TOTAL STOCKHOLDERS' EQUITY..................................... 6,149,424 1,903,363
------------- -------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY..................... $ 10,258,750 $ 10,455,745
------------- -------------
------------- -------------
The accompanying notes are an integral part of the consolidated financial
statements.
17
NETEGRITY, INC.
Consolidated Statements of Operations
MARCH 31,
DECEMBER 31, ------------------------
1996 1996 1995
(NINE MONTHS) (TWELVE MONTHS)
-------------- ------------ ----------
Net revenues...................................................... $ 3,637,037 $ 3,724,757 $ 958,744
Cost of revenues.................................................. 2,175,626 2,172,734 487,777
-------------- ------------ ----------
Gross profit...................................................... 1,461,411 1,552,023 470,967
Selling, general and administrative expenses...................... 2,303,478 1,177,438 305,344
Research and development costs.................................... 705,298 -- --
-------------- ------------ ----------
Income (loss) from operations..................................... (1,547,365) 374,585 165,623
Interest income (expense)......................................... 181,881 20,010 (526)
Share of loss from investment in Encotone, Inc.................... (40,000) -- --
-------------- ------------ ----------
Income (loss) from continuing operations.......................... (1,405,484) 394,595 165,097
Income (loss) from discontinued operations........................ (520,245) (240,477) 30,584
Gain on sale of assets of discontinued operations................. 6,000,000 -- --
-------------- ------------ ----------
Income before provision for income taxes.......................... 4,074,271 154,118 195,681
Provision for income taxes........................................ 74,300 25,200 --
-------------- ------------ ----------
NET INCOME.................................................... $ 3,999,971 $ 128,918 $ 195,681
-------------- ------------ ----------
-------------- ------------ ----------
Earnings (loss) per share:
Income (loss) from continuing operations........................ $ (0.14) $ 0.05 $ 0.02
Income (loss) from discontinued operations:
Discontinued operations....................................... (0.05) (0.03) 0.02
Gain on sale of assets........................................ 0.61 -- --
-------------- ------------ ----------
Net income...................................................... $ 0.40 $ 0.01 $ 0.02
-------------- ------------ ----------
-------------- ------------ ----------
Weighted average shares outstanding............................... 9,901,000 8,835,000 8,710,00
The accompanying notes are an integral part of the consolidated financial
statements.
18
NETEGRITY, INC.
Consolidated Statements of Stockholders' Equity
SERIES C ADDITIONAL CUMULATIVE TOTAL
PREFERRED COMMON PAID-IN TRANSLATION CUMULATIVE LOAN TO TREASURY STOCKHOLDERS'
STOCK STOCK CAPITAL ADJUSTMENT DEFICIT OFFICER STOCK EQUITY
----------- --------- ------------- ----------- ------------- ----------- ---------- ------------
BALANCE AT MARCH 31,
1995.............. $ 9,060 $ 77,875 $ 9,944,908 $ 22,242 $ (8,020,439) -- $ (83,657) $1,949,989
Net income.......... -- -- -- -- 128,918 -- -- 128,918
Conversion of
Preferred Stock
(277,638
shares)--Series
C................. (2,777) 2,777 -- -- -- -- -- --
Issuance of Common
Stock
(410,450 shares).... -- 1,327 79,802 -- -- -- -- 81,129
Translation
adjustment........ -- -- -- (673) -- -- -- (673)
Distributions....... -- -- -- -- (256,000) -- -- (256,000)
----------- --------- ------------- ----------- ------------- ----------- ---------- ------------
BALANCE AT MARCH 31,
1996.............. $ 6,283 $ 81,979 $ 10,024,710 $ 21,569 $ (8,147,521) -- $ (83,657) $1,903,363
----------- --------- ------------- ----------- ------------- ----------- ---------- ------------
----------- --------- ------------- ----------- ------------- ----------- ---------- ------------
Net income.......... -- -- -- -- 3,999,971 -- -- 3,999,971
Conversion of
Preferred Stock
(628,330
shares)--Series
C................. (6,283) 6,283 -- -- -- -- -- --
Issuance of Common
Stock
(378,729 shares).... -- 3,787 435,844 -- -- -- -- 439,631
Translation
adjustment........ -- -- -- 6,459 -- -- -- 6,459
Loan to officer
(Note F).......... -- -- -- -- -- $ (200,000) -- (200,000)
----------- --------- ------------- ----------- ------------- ----------- ---------- ------------
BALANCE AT DECEMBER
31, 1996.......... -- $ 92,049 $ 10,460,554 $ 28,028 $ (4,147,550) $ (200,000) $ (83,657) $6,149,424
----------- --------- ------------- ----------- ------------- ----------- ---------- ------------
----------- --------- ------------- ----------- ------------- ----------- ---------- ------------
The accompanying notes are an integral part of the consolidated financial
statements.
19
NETEGRITY, INC.
Consolidated Statements of Cash Flows
DECEMBER 31, MARCH 31,
-------------- -------------------------
1996 1996 1995
(NINE MONTHS) (TWELVE MONTHS)
-------------- ------------ -----------
OPERATING ACTIVITIES
Net (loss) income from continuing operations........................... $ (1,405,484) $ 468,915 $ 165,097
Adjustments to reconcile income (loss) to net cash provided by (used
for) operating activities:
Share of loss from investment........................................ 40,000 -- --
Depreciation and amortization........................................ 26,487 7,646 19,198
Provision for doubtful accounts receivable........................... 56,771 11,026 --
Change in operating assets and liabilities:
Escrow receivable.................................................... (600,000) -- --
Accounts receivable.................................................. 137,935 (671,897) (279,844)
Inventory............................................................ 21,400 (21,400) --
Other current assets................................................. 389,156 (117,249) (70,720)
Other assets......................................................... 52,053 (20,204) (1,275)
Accounts payable..................................................... 622,784 989,922 303,329
Other accrued expenses............................................... (1,542,083) 465,796 280,845
Customer advances.................................................... (6,000) 6,000 --
Intangible assets.................................................... -- 134,014 (1,018)
-------------- ------------ -----------
Total adjustments.................................................. (801,497) 783,654 250,515
-------------- ------------ -----------
Net cash (used for) provided by continuing operating activities.... (2,206,981) 1,252,569 415,612
Net cash provided by discontinued operating activities............. 436,859 715,305 380,664
-------------- ------------ -----------
Net cash (used for) provided by operating activities............... $ (1,770,122) $ 1,967,874 $ 796,276
-------------- ------------ -----------
The accompanying notes are an integral part of the consolidated financial
statements.
20
NETEGRITY, INC.
Consolidated Statements of Cash Flows (cont.)
MARCH 31,
DECEMBER 31, (TWELVE MONTHS)
1996 -------------------------
(NINE MONTHS) 1996 1995
--------------- ------------ -----------
INVESTING ACTIVITIES:
Proceeds from sale of certain assets................................ $ 9,435,000 -- --
Capital expenditures for equipment and leasehold improvements....... (256,886) $ (239,824) $ (252,835)
Investment in Encotone, LTD......................................... (1,000,000) -- --
Investment in Encotone, Inc......................................... (250,000) -- --
--------------- ------------ -----------
Net cash provided by (used for)
investing activities......................................... $ 7,928,114 $ (239,824) $ (252,835)
--------------- ------------ -----------
FINANCING ACTIVITIES:
Net proceeds from issuance of stock................................. 239,631 8,485 5,701
Payment on notes payable-related party.............................. (300,000) -- --
Net payments on line of credit...................................... (723,470) (700,000) (1,401,000)
Principal debt payments............................................. -- (22,092) (200,000)
Principal payments under capital leases............................. -- (44,711) (42,695)
Distributions to ISC shareholder.................................... -- (231,000) --
Proceeds from line of credit........................................ -- -- 1,423,470
Net proceeds from debt.............................................. -- -- 19,592
--------------- ------------ -----------
Net cash used for financing activities......................... (783,839) (989,318) (194,932)
--------------- ------------ -----------
Effect of exchange rate changes on cash............................. 6,459 (673) 50,317
NET INCREASE IN CASH AND
CASH EQUIVALENTS............................................... 5,380,612 738,059 398,826
Cash and cash equivalents at beginning of year...................... 1,410,445 672,386 273,560
--------------- ------------ -----------
CASH AND CASH EQUIVALENTS AT END OF YEAR............................ $ 6,791,057 $ 1,410,445 $ 672,386
--------------- ------------ -----------
--------------- ------------ -----------
Supplemental Disclosures of Cash Flow Information:
Interest paid..................................................... 17,778 $ 162,887 $ 217,251
--------------- ------------ -----------
--------------- ------------ -----------
Supplemental Disclosure of Non-Cash Activities:
Loan to officer in exchange for common stock...................... $ 200,000 -- --
Non-cash distributions to ISC shareholder......................... -- $ 25,000 --
Property purchased under capital leases........................... -- 317,847 --
Collection of products in satisfaction of accounts receivable-
product......................................................... -- $ 693,273 $ 1,203,640
--------------- ------------ -----------
--------------- ------------ -----------
The accompanying notes are an integral part of the consolidated financial
statements.
21
NETEGRITY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE A: NATURE OF THE BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES
Operations: The Company currently operates in the network security market.
During June, 1996, the Company completed a full divestiture of its catalog
business and changed its name from The Software Developer's Company, Inc. to
NeTegrity, Inc. The results of operations of the divested catalog business is
presented as discontinued operations herein.
Principles of Consolidation: The financial statements of the Company also
include the accounts and operations of its subsidiaries, Software Developers
Company, GmbH ("SDC Germany") and Personal Computing Tools (PCT), of which the
Company acquired 94% of the outstanding capital stock on June 29, 1993. The 6%
equity interest in PCT not acquired by the Company would be shown as minority
interest in the December 31, 1996 and March 31, 1996 consolidated balance sheets
and the statements of operations for the nine-month transition period ended
December 31, 1996 and the fiscal years ended March 31, 1996 and 1995,
respectively. As of June 30, 1996, the Company discontinued all operations
related to its SDC Germany and PCT catalog operation. The operating loss
incurred in 1996 is accounted for in loss from discontinued operations.
The Company accounts for its investment in Encotone, Inc. under the equity
method of accounting (see Note C), and accordingly, the Company's share of the
equity and net loss from operations for the initial period ended December 31,
1996 are consolidated into these financial statements.
Cash and Cash Equivalents: Cash and cash equivalents include time deposits
with a maturity of three months or less at the date of purchase.
Concentration of Credit Risk: Financial instruments that potentially subject
the Company to concentration of credit risk consist primarily of cash and cash
equivalents and trade receivables. The Company restricts investment of temporary
cash investments to financial institutions with high credit standing. Credit
risk on trade receivables is minimal.
Revenue Recognition: The Company's revenues from continuing operations are
primarily generated from licensing the rights to use software products developed
by Checkpoint Software Technologies to end users and resellers. The Company also
generates revenues from consulting and training services performed for customers
and from support and software update rights (i.e., maintenance).
Revenues from perpetual software license agreements are recognized as
revenue upon delivery of the software as long as there are no significant
post-delivery obligations.
Revenues for maintenance are recognized ratably over the term of the support
period. If maintenance is included in a license agreement, such amounts are
unbundled from the license fee at their fair market value based on the value
established by independent sale of such maintenance to customers. Consulting
revenues are primarily related to implementation services performed under
separate service arrangements related to the installation of software products.
Such services do not include customization or modification of the underlying
software code. If included in a license agreement, such services are unbundled
at their fair market value based on the value established by the independent
sale of such services to customers. Revenues from consulting and training
services are recognized as the services are performed.
22
Intangible Assets: Intangible assets consist of goodwill, customer lists and
non-compete agreements arising from a business acquisition. The values assigned
to intangible assets, based in part on independent appraisals, are being
amortized on a straight-line basis.
Goodwill representing the purchase price over the estimated fair value of
the net assets of the acquired business is being amortized over a fifteen-year
period. Other intangible assets are being amortized over a five-year period.
Equipment and Leasehold Improvements: Equipment and leasehold improvements
are stated at cost, less accumulated depreciation and amortization. Depreciation
is provided using the straight-line method over estimated useful lives from five
to seven years. Amortization of leasehold improvements is provided using the
straight-line method over the lives of the respective leases or the useful lives
of the improvements, whichever is shorter.
Maintenance and repairs are charged to operations as incurred. Renewals and
betterments which materially extend the life of assets are capitalized and
depreciated. Upon disposal, the asset cost and related accumulated depreciation
are removed from their respective accounts. Any resulting gain or loss is
reflected in earnings.
Inventories: Inventories are stated at the lower of cost (first-in,
first-out) on market and consist of products held for sale.
Customer Advances: Prepayments made by customers are included as customer
advances and recorded as sales when shipments are made.
Income Taxes: The Company adopted Statement of Financial Accounting
Standards No. 109 "Accounting for Income Taxes" (SFAS 109) in fiscal 1994.
The adoption of SFAS 109 changes the Company's method of accounting for
income taxes from the deferred method (APB 11) to an asset and liability method.
Previously, the Company deferred the tax effects of timing differences between
financial reporting and taxable income. The asset and liability method requires
the recognition of deferred tax liabilities and assets for the expected future
tax consequences of temporary differences between tax bases and financial
reporting bases of other assets and liabilities.
Investments: Investments in equity securities, other than investments
accounted for by the equity method are recorded at cost. Management determines
the appropriate classification of its investments at the time of purchase and
reevaluates such determinations, as well as potential impairments of value on a
periodic basis, but at a minimum, quarterly.
Marketing Expenses: Marketing expenses are charged to sales & marketing
expenses as incurred.
Support Services: In conjunction with the sale of Check Point Software
Technologies' products, the Company provides, free of charge, pre-sale telephone
technical support and product literature. The Company provides post-sales
support to its customers who are covered under maintenance agreements. The costs
relating to these services are expensed as incurred and included in Selling,
General & Administrative expenses.
Earnings (Loss) Per Share: Income per share of common stock is based upon
the weighted average number of common shares outstanding excluding the effects
of options and warrants, which are deemed to be anti-dilutive.
Export Sales: The Company generates some revenues from international
business. For all periods reported herein, the Company's export sales are deemed
immaterial.
23
Foreign Currency Translation: The functional currency of the Company's only
foreign subsidiary is the local currency. Balance sheet accounts of the
Company's foreign subsidiary are translated into U.S. dollars at current
exchange rates. Income statement items are translated at the average rates
during the year. Net translation gains or losses are recorded directly to a
separate component of stockholders' equity. Foreign currency transaction gains
and losses are included in the determination of net income for the nine-month
transition period ended December 31, 1996 and the fiscal years ended March 31,
1996 and 1995, respectively.
Post-Retirement Benefits Other Than Pensions: The Company does not offer
post-employment benefits to its retirees and as a result, is unaffected by
Statement of Financial Accounting Standards No. 106 or 112 issued in December
1990 and November 1992, respectively.
401K Plan: The Company maintains a 401K Plan for its employees. The Plan
is intended as a retirement and tax deferred savings vehicle. All employees
of the Company whose customary employment is for more than 20 hours per week
are eligible to participate in the 401K Plan. Employees make their
contributions through semi-monthly payroll deductions which are invested in
any combination of several investment funds. The Company has made no matching
contributions and has no current plans to do so.
Fair Value of Financial Instruments: Statement of Financial Accounting
Standards No. 107, "Disclosures About Fair Value of Financial Instruments,"
requires the Company to disclose estimated fair values for its financial
instruments, exclusive of leases, for which it is practicable to estimate fair
value.
For financial instruments including cash, accounts receivable and payable,
and accrued expenses it is assumed that the carrying amount approximates fair
value due to their short maturities.
Risks and Uncertainties: The preparation of financial statements in
conformity with generally accepted accounting principles requires management to
make estimates and assumptions that affect the reported amount of assets and
liabilities and disclosures of contingent assets and liabilities at the date of
the financial statements and the reported amount of revenues and expenses during
the reported period. Actual results could differ from those estimates.
Reclassifications: Certain items on the March 31, 1996 and 1995 financial
statements presented herein have been reclassified to conform to the
presentation used at December 31, 1996.
NOTE B: EQUIPMENT AND LEASEHOLD IMPROVEMENTS
Equipment and leasehold improvements are stated at cost and consist of the
following:
DECEMBER 31 MARCH 31,
1996 1996
------------ ------------
Computer equipment...................... $ 240,714 $ 1,757,049
Leasehold improvements.................. 10,650 581,336
Furniture and fixtures.................. 72,467 330,070
------------ ------------
323,831 2,668,455
Less accumulated depreciation
and amortization...................... (36,508) (1,923,187)
------------ ------------
$ 287,323 $ 745,268
------------ ------------
------------ ------------
The depreciation expense recognized for the nine-month transition period
ended December 31, 1996 and the fiscal years ended March 31, 1996 and 1995 was
$26,487, $328,374 and $340,389, respectively.
24
NOTE C: INVESTMENT AND JOINT VENTURE
In October of 1996, the Company invested $1,000,000 for a 10% equity
interest in Encotone, LTD., a Jerusalem, Israel high-technology firm which
develops technology and products that provide enhanced security for both
voice and data network transactions. Its first product, TeleIDTM is a credit
card-sized acoustical smart card. Since it is a 50% shareholder, the Company
accounts for its investment in Encotone, LTD. under the cost method. The
Company evaluates the value of its investments on an ongoing basis relying on
a number of factors including operating results, business plans, budgets and
economic projections. In addition, the Company's evaluation considers
non-financial data such as market trends, customer relationships, technology
developments and product development cycles.
In October of 1996, the Company and Encotone, LTD. formed a joint venture
in the U.S., Encotone, Inc., which was equally funded by both companies.
Encotone, Inc. markets Encotone, LTD's smart card technology products in
North, Central and South America. Since it is a 50% shareholder, the Company
accounts for its investment in Encotone, Inc. under the equity method, and as
of December 31, 1996, has reduced its investment by $40,000, its share of
Encotone, Inc.'s operating loss for the initial period ended December 31,
1996.
NOTE D: BORROWINGS
During March 1995, the Company entered into a working capital line of
credit (the "Line") with Silicon Valley Bank. Under the agreement, the
Company could have borrowed up to a maximum of $2,000,000 based upon the
availability of eligible accounts receivable. The Line's interest was set at
Prime plus 2.5%. Prime was 8.25% at March 31, 1996. The Line has been paid in
full and was allowed to expire on July 31, 1996.
On October 19, 1993, the Company exchanged and extended a term loan (the
"Loan") with Stephen L. Watson, the Company's Chairman of the Board of
Directors. The Loan was collateralized by all assets of the Company. The Loan
was due and payable in December 1993 with interest payable monthly at 16% per
annum. The principal of $300,000 was extended to December 1996, with interest
accruing at 12% per annum, interest payable monthly in arrears. The Loan was
subordinated to any commercial bank or other financial institution debt up to
$4,000,000. As of September 30, 1996, the Company had repaid the Loan in full.
As of December 31, 1996, the Company had no outstanding debt agreements.
NOTE E: COMMITMENTS AND CONTINGENCIES
On June 1, 1996, the Company entered into a sixty month operating lease
for its new office location in Waltham, Massachusetts. For the period ending
December 31, 1996, the Company incurred rent expense of $55,440. Future
minimum lease payments under the lease are as follows:
Year ending December 31,
------------------------
1997 $ 98,400
1998 100,800
1999 100,800
2000 100,800
2001 42,000
-------
$ 442,800
-------
-------
25
NOTE F: LOAN TO OFFICER
In May, 1996, Barry N. Bycoff, the Company's President and CEO, exercised
an option to purchase 200,000 shares of the Company's common stock at a price
of $1.00 per share. The Company's Board of Directors approved a loan to Mr.
Bycoff as payment for this transaction. Mr. Bycoff issued the Company a full
recourse note that is secured by the 200,000 shares of common stock. This
note has an interest rate of 7% per annum.
NOTE G: ASSET SALE
As of June 28, 1996, the Company completed the divestiture of its catalog
related business, consisting of The Programmer's SuperShop ("TPS") catalog,
the TPS web site, the corporate sales group, SDC Germany and SDC
Communications. The Company completed the transaction for an aggregate price
of $10,035,000. The aggregate price consisted of payment of $9,300,000 in
immediately available funds and the deposit of $735,000 under an escrow
arrangement. During August, 1996, $135,000 of the escrow was returned to the
Company.
The aggregate price of $10,035,000 was in exchange for the Company's
tangible net assets of the catalog related business that at the time was
estimated at approximately $1,500,000. The values of these net assets are
currently being evaluated by a third party, and the Company expects that any
purchase price adjustments that could occur as a result of the evaluation
will have no material impact on the financial position or results of
operations presented herein. The revenues of the divested catalog business
were $11,800,000 for the nine-month transition period ended December 31, 1996
and $52,382,000 and $39,698,000 for the fiscal years ended March 31, 1996 and
1995, respectively. These revenues are a component of the net income (loss)
from discontinued operations.
The Company incurred $2,587,000 in expenses and write-offs related to the
divestiture. These expenses were primarily comprised of write-off of
goodwill, severance costs, professional fees, buy-outs of capital leases, and
facility shut-down costs for its corporate offices and distribution facility.
The Company reported a gain of $6,000,000 from the sale of the assets of its
catalog related business. The Company utilized a deferred tax benefit related
to net operating loss carryforwards of approximately $2,200,000 to offset
Federal and State corporate income taxes.
NOTE H: INCOME TAXES
As discussed in Note A, the Company adopted SFAS 109 in fiscal 1994. SFAS
109 requires the recognition of deferred tax assets and liabilities for the
future tax consequences attributable to the differences between the financial
statement carrying amounts of existing assets and liabilities and their
respective tax bases. In addition, the new accounting standard requires the
recognition of future tax benefits, such as net operating loss carryforwards,
to the extent that realization of such benefits is more likely than not.
The cumulative effect of initial adoption on prior years' retained
earnings was not significant. Additionally, the effect of the adoption of
SFAS 109 upon income before taxes for fiscal 1994 was not significant.
26
The components of the provision for income taxes are as follows:
MARCH 31,
DECEMBER 31, ----------------------
1996 1996 1995
------------------ --------- -----
Current tax expense:
Federal................................................................ $ 74,300 $ 6,200 --
State.................................................................. -- 19,000 --
--------- -------- --------
Total................................................................ $ 74,300 $ 25,200 --
Deferred tax expense (benefit):
Federal................................................................ $ -- -- --
State.................................................................. -- -- --
--------- -------- --------
Total................................................................ $ 74,300 $25,200 --
--------- -------- --------
--------- -------- --------
Significant components of the deferred tax assets are as follows:
MARCH 31,
DECEMBER 31, --------------------------
1996 1996 1995
------------------ ------------ ------------
Net operating loss carryforward................................... $ 1,726,954 $ 3,368,243 $ 3,004,321
Accruals and reserves............................................. 458,357 258,662 180,012
Research and development tax credits.............................. 193,375 154,238 86,600
Depreciation...................................................... -- 65,524 184,573
Other, net........................................................ 79,339 -- 10,060
Valuation allowance............................................... (2,458,025) (3,846,667) (3,465,566)
----------- ----------- -----------
$ -- $ -- $ --
----------- ----------- -----------
----------- ----------- -----------
The provision for income taxes differs from the federal statutory rate of
34% as follows:
MARCH 31,
DECEMBER 31, ------------------------------
1996 1996 1995
------------ ------------------ ----------
Federal provision at 34%........................................... $ 1,385,160 $ 43,832 $ 66,532
State income taxes................................................. -- 19,000 --
Alternative minimum tax on asset sale--Federal..................... 74,300 6,200 --
Meals and entertainment............................................ 3,482 6,913 3,826
Foreign loss, not benefitted....................................... -- 8,431 77,233
Goodwill........................................................... -- 45,219 --
Utilization of previously unrecognized NOL......................... (1,388,642) (75,787) (192,813)
S-Corporation income not subject to tax............................ -- (28,608) --
---------- --------- --------
$ 74,300 $ 25,200 $ --
---------- --------- --------
---------- --------- --------
Due to the uncertainty surrounding the realization of tax benefits in future
tax returns of the continuing business, the net deferred tax assets at December
31, 1996, March 31, 1996 and 1995 have been offset by a valuation allowance.
27
At December 31, 1996, the Company has available for Federal income tax
purposes net operating tax loss carryforwards of approximately $4,288,000
that are available to offset future taxable income at various dates through
fiscal 2011. Certain provisions in the Internal Revenue Code may limit the
net operating loss available for use in any given year in the event of any
significant change of ownership.
NOTE I: POOLING OF INTERESTS
On November 16, 1995, the Company acquired 100% of the outstanding
capital stock of Internet Security Corporation ("ISC") in exchange for
465,838 shares of the Company's Common Stock. ISC, a Massachusetts
corporation, markets and distributes certain software products and services
under distribution and reseller agreements with third party software
companies. A Form 8-K was duly filed with the Securities and Exchange
Commission on November 30, 1995, a Form 8-KA was subsequently filed on
January 30, 1996.
Prior to the consummation of the transaction, ISC made an allowable
distribution of $256,000 to its sole shareholder. The distribution consisted
of cash of $231,000 and a vehicle with a net book value of $25,000. ISC was a
subchapter S corporation prior to the consummation of the transaction, and
therefore did not pay U.S. Federal income taxes. ISC will be included in the
Company's U.S. Federal income tax return effective November 16, 1995, and
therefore, a corresponding charge to income tax expense was recorded to
reflect the anticipated tax due on net income generated from the date of
consummation through March 31, 1996.
The acquisition was accounted for as a "pooling of interest" transaction
and, accordingly, the Company's current financial statements reflect the
results of ISC in "continuing operations."
NOTE J: CAPITAL STOCK AND CAPITAL STOCK WARRANTS
Common Stock: On January 13, 1993 the Company completed a private
placement of 537,898 shares of Common Stock for net proceeds of approximately
$992,173.
On June 29, 1993 the Company acquired 94% of the outstanding capital
stock of Personal Computing Tools, Inc. (PCT) of Campbell, California in
exchange for 392,996 shares of the Company's Common Stock. This agreement
became effective on June 29, 1993 and was accounted for under the purchase
method of accounting. If the actual selling price of the Company's Common
Stock failed to average less than two dollars ($2.00) per share (adjusted for
stock splits or stock dividends or other similar events) for any consecutive
thirty-day period within eighteen months of the June 29, 1993 closing date,
additional shares of the Company's Common Stock would have been issued to the
PCT selling stockholders (on a pro-rata basis) such that the total aggregate
number of shares of the Company's Common Stock to be issued to the PCT
selling stockholders (including the initial shares) would be the number of
shares calculated by dividing $850,000 by the average actual selling price
per share of the Company's Common Stock during the thirty-day period
immediately prior to the completion of eighteen months from the June 29, 1993
closing date.
The actual selling price of the Company's Common Stock did fail to
average less than two dollars ($2.00) per share for a consecutive thirty-day
period within the eighteen-month period ended December 29, 1994. Per the
terms of the Agreement, the amount of additional shares that would have been
issued equaled 575,000 shares. On June 26, 1995 the Company and
representatives of the former PCT shareholders signed a Stock Issuance and
Settlement Agreement whereby only an additional 79,460 shares of Common Stock
would be issued.
28
Series C Preferred Stock: On October 19, 1993, the Company completed a
private placement of Series C Preferred Stock and a recapitalization
transaction. Private investors purchased 905,968 shares of Series C Preferred
Stock at a price of $1.00 per share, resulting in net proceeds of approximately
$781,000. The Series C Preferred Stock was convertible into Common Stock on a
one-for-one basis and voted with the Common Stock on the same basis. The Series
C Preferred Stock contained a number of features including a fixed liquidation
preference of $2.00 per share, anti-dilution rights and two (2) Board of
Director positions. The Company used the net proceeds from the private placement
for working capital and general corporate purposes.
The recapitalization transaction involved the exchange of all of the
Company's Series A Preferred Stock and Series B Senior Preferred Stock for
4,288,890 shares of Common Stock, increasing the total number of shares of
Common Stock outstanding to 7,292,453. This recapitalization removed the
liquidation preference, including cumulative dividends, payable to the preferred
holders of approximately $7,000,000. In the recapitalization, holders of the
Company's previously existing preferred stock exchanged their shares for Common
Stock, terminating all prior agreements, but retaining certain registration
rights.
Included in the aggregate of 905,968 shares of Series C Preferred Stock
issued by the Company were 26,877 shares of Series C Preferred Stock issued in
complete satisfaction of a $25,000 note payable plus $1,877 of accrued interest
to Trinity Ventures I, L.P. The note was acquired in the Company's prior
purchase of the capital stock of Personal Computing Tools, Inc.
As of September 30, 1996 all of the Company's Series C Preferred Stock has
been converted into Common Stock on a one-to-one basis.
Warrants: In fiscal 1987, warrants to purchase 31,500 shares of Common Stock
exercisable at $2.57 were issued and expire June 30, 1997.
During fiscal 1991, the Company issued warrants to purchase 300,000 shares
of Common Stock at $4.00 per share. These warrants expire June 30, 1997.
At December 31, 1996, the Company has reserved 331,500 shares of Common
Stock for the issuance upon exercise of these warrants.
NOTE K: STOCK OPTION PLANS
The Company has stock option plans as described hereunder. Options are
granted at fair market value at the date of grant being the average of the
closing bid and asked prices of the Common Stock on the day preceding the date
of grant.
1986 Nonstatutory Stock Option Plan: The 1986 Nonstatutory Stock
Option Plan provides for the issuance of options to purchase shares of Common
Stock, up to an aggregate of 52,500 shares which are reserved for issuance.
Options can be granted to employees, consultants or others as approved by the
Board of Directors. These options have exercise prices of 100% of the fair
market value of Common Stock on the date of grant. The options terminate for
employees with respect to all shares of stock not previously purchased within 30
days upon the date of termination of the employee's employment or for
non-employees at the end of ten years from the date of grant.
29
1987 Stock Plan: The 1987 Stock Plan reserves for issuance 750,000 shares of
Common Stock for the benefit of all employees as authorized by the Board of
Directors. Incentive stock options may be granted to employees and officers,
and non-qualified options may be granted to directors, officers, employees and
consultants of the Company under the 1987 Stock Plan. The exercise price is set
at 100% of the fair market value of Common Stock on the date of grant. The
aggregate fair market value of shares issuable under the 1987 Stock Plan due to
the exercising of incentive stock options by an employee or officer may not
exceed $100,000 in any calendar year.
1988 Non-Employee Director Stock Option Plan: The 1988
Non-Employee Director Stock Option Plan ("1988 Director Plan") offers options to
members of the Board of Directors who are neither employees nor officers of the
Company in appreciation of their service. The 1988 Director Plan is administered
by the Compensation Committee of the Company.
This plan authorizes the grant of options for 70,000 shares of Common Stock.
Each newly elected non-employee director will automatically receive an option to
purchase 8,750 shares. The exercise price per share of options granted under the
1988 Director Plan is 100% of the fair market value of Common Stock on the date
of grant. The options shall expire six years from the date of the option grant.
They terminate thirty days (or one hundred and eighty days if due to disability
or death) following the date on which the optionee ceases to be a member of the
Board of Directors. They are exercisable in installments, with 20% becoming
exercisable on each anniversary of the date of grant.
1990 Employee Stock Purchase Plan: The 1990 Employee Stock Purchase Plan
("Stock Purchase Plan") is intended as an incentive to, and to encourage stock
ownership by, all eligible employees of the Company and participating
subsidiaries and to encourage them to remain in the employ of the Company.
Substantially all employees of the Company and any participating subsidiary
who have completed six months of employment with the Company or any subsidiary
and whose customary employment is for more than 20 hours per week and more than
five months per calendar year are eligible to participate in the Stock Purchase
Plan.
The Stock Purchase Plan presently authorizes the issuance of 100,000 shares
of Common Stock (subject to adjustment for capital changes) pursuant to the
exercise of nontransferable options granted to participating employees. During
the years ended March 31, 1996 and 1995 1,216, and 4,045 shares, respectively,
of the Company's Common Stock were issued under the Stock Purchase Plan.
1991 Non-Employee Director Stock Option Plan: The 1991 Non-Employee Director
Stock Option Plan authorizes the grant of options for up to 70,000 shares of
Common Stock. This plan is identical to the 1988 Director Plan, except that
options shall expire ten years from the date of the option grant. On
May 15, 1991, each of the non-employee directors was granted options to
purchase 8,750 shares of Common Stock. After May 15, 1991, each new director
also received an option to purchase 8,750 shares of Common Stock.
1993 Non-Employee Director Stock Option Plan: The 1993 Non-Employee Director
Stock Option Plan authorizes the grant of options of up to 60,000 shares of
Common Stock. This plan is identical to the 1988 and 1991 Director Plans,
except the options shall expire ten years from the date of the option grant and
options are granted after the performance of services. On each of April 1, 1993
(fiscal year 1994), April 1, 1994 (fiscal year 1995), and April 1, 1995 (fiscal
year 1996) each of the non-employee directors was granted 3,500 shares of
Common Stock.
30
1994 Stock Plan: The 1994 Stock Plan is authorized to grant up to 2,000,000
(500,000 subject to approval at the Annual Meeting of Stockholders on
April 9, 1997) options to purchase shares of Common Stock as incentives to
officers, directors, employees and consultants of the Company, as approved by
the Board of Directors. The options have an exercise price of 100% of the fair
market value of Common Stock on the date of the grant and vest over periods as
determined by the Board of Directors. At December 31, 1996, 1,914,000 options
have been granted under the plan.
1994 Non-Employee Director Plan: The 1994 Non-Employee Director Plan authorizes
the grant of up to 105,000 shares to directors who are not employees or
officers of the Company as an inducement to obtain and retain the services of
qualified persons. Each director who is neither an officer nor employee of the
Company was automatically granted an option to purchase 17,500 shares of the
Company's Common Stock at an exercise price equal to 100% of the fair market
value of the Company's Common Stock on the date of grant. Options vest ratably
over five years from the date of grant and expire ten years from the date of
grant. During fiscal 1994, each of the six (6) qualified directors received an
option to purchase 17,500 shares of the Company's Common Stock.
Information as to the Company's stock options is as follows:
DECEMBER 31, MARCH 31,
--------------------------------
1996 1996 1995
------------ ------------ -----------
Options outstanding at beginning of year 1,523,845 1,389,404 768,330
Option activity during the year:
Granted 1,125,250 417,500 845,052
Exercised (374,360) (75,450) --
Canceled (78,640) (207,600) (223,978)
--------- -------- ---------
Options outstanding at end of year 2,196,095 1,523,854 1,389,404
--------- --------- ---------
--------- --------- ---------
Price range of outstanding options $0.78-4.50 $0.50-8.13 $0.50-8.13
--------- --------- ---------
--------- --------- ---------
Price range of options exercised $0.50-1.72 $0.50-1.25 --
--------- --------- ---------
--------- --------- ---------
Options exercisable at end of year 1,179,937 852,636 717,495
--------- --------- ---------
--------- --------- ---------
Options available for grant at end of year -- 1,083,646 1,218,096
--------- --------- ---------
--------- --------- ---------
31
NOTE L: COMPARATIVE FINANCIAL INFORMATION
As reported on Form 8-K, dated August 21, 1996, the Company's Board of
Directors approved on August 14, 1996 a change in the Company's fiscal year
from March 31 to December 31. The following represents unaudited comparative
financial information for the period April 1, 1995 to December 31, 1995, which
may be read in conjunction with the audited transition period, April 1, 1996 to
December 31, 1996, presented on the consolidated statements of operations.
Nine Months ended
December 31, 1995
(Unaudited)
-----------------
Net revenue $2,395,846
Cost of revenues 1,414,329
---------
Gross profit 981,517
Selling, general and administrative expenses 708,233
Research and development costs --
---------
Income (loss) from operations 273,284
Interest income 13,689
Share of loss from investment --
---------
Income (loss) from continuing operations 286,973
Income (loss) from discontinued operations (26,034)
Gain on sale of assets of discontinued operations --
---------
Income before provision for income taxes 260,939
Provision for income taxes 98,979
---------
Net income $ 161,960
---------
---------
32
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS
The information required by this item is incorporated by reference to the
information under the caption "Election of Directors" contained in the Company's
definitive Proxy Statement filed on or before March 10, 1997 with the Securities
and Exchange Commission in connection with the solicitation of proxies for the
Company's Annual Meeting of Stockholders to be held on April 9, 1997 (the "Proxy
Statement").
ITEM 11. EXECUTIVE COMPENSATION
The information required by this item is incorporated by reference to the
information under the caption "Executive Compensation and Other Information
Concerning Directors and Officers" contained in the Proxy Statement.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS
AND MANAGEMENT
The information required by this item is incorporated by reference to the
information under the caption "Management and Principal Holders of Voting
Securities" contained in the Proxy Statement.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this item is incorporated by reference to the
information under the caption "Certain Relationships and Related Transactions"
contained in the Proxy Statement.
33
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS
ON FORM 8-K
A. The following documents are filed as part of this report:
1. FINANCIAL STATEMENTS
The following financial statements are included in Item 8:
a. Report of Independent Auditors
b. Consolidated Balance Sheets--December 31, 1996 and March 31, 1996
c. Consolidated Statements of Operations for the nine-month
transition period ended December 31, 1996 and the fiscal years
ended March 31, 1996 and 1995
d. Consolidated Statements of Stockholders' Equity (Deficit) for
the nine-month transition period ended December 31, 1996 and the
fiscal years ended March 31, 1996 and 1995
e. Consolidated Statements of Cash Flows for the nine-month
transition period ended December 31, 1996 and the fiscal years
ended March 31, 1996 and 1995
f. Notes to Consolidated Financial Statements
2. FINANCIAL STATEMENT SCHEDULES
The following financial statement schedules are included in Item
14(d):
a. Report of Independent Auditors
b. Schedule VIII: Valuation of Qualifying Accounts and Reserves
Schedules other than those listed above have been omitted since they
are either not required or the information is otherwise included.
3. LIST OF EXHIBITS
The following exhibits, required by Item 601 of Regulation S-K, are
filed as a part of this Annual Report on Form 10-K. Exhibit numbers,
where applicable, in the left column correspond to those of Item 601
of Regulation S-K.
34
EXHIBIT
ITEM NO. ITEM AND REFERENCE
- -------- ---------------------------------------------------------------------
3.01 Restated Certificate of Incorporation, as amended, of the Registrant
(filed as Exhibit 3.01 to Registrant's Registration Statement of Form
S-18, No. 33-24446-B, and incorporated by reference).
3.02 Certificate of Designations, Preferences and Rights of the Series C
Preferred Stock of the Registrant (filed as Exhibit 7.03 to Report on
Form 8-K filed on November 12, 1993 and incorporated by reference).
3.03 Amended By-Laws of the Registrant (filed as Exhibit 3.03 to Annual
Report on Form 10-K for the fiscal year ended March 31, 1991, and
incorporated by reference).
4.01 Specimen certificate for shares of Common Stock of the Registrant
(filed as Exhibit 4.01 to the Registrant's Registration Statement on
Form S-18, No. 33-24446-B, and incorporated by reference).
4.02 Series C Preferred Stock Purchase, Recapitalization and Exchange
Agreement among the Registrant and the persons named therein
regarding the issuance of the Series C Preferred Stock and the
retirement of the Series A Preferred Stock and Series B Senior
Preferred Stock (filed as exhibit 7.01 to Current Report on Form 8-K
filed on November 12, 1993 and incorporated by reference).
4.03 Voting Agreement among the Registrant and the holders of Series C
Preferred Stock (filed as Exhibit 7.02 to Current Report on Form 8-K
filed on November 12, 1993 and incorporated by reference).
10.01 1986 Nonstatutory Stock Option Plan of the Registrant (filed as
Exhibit 10.01 to the Registrant's Registration Statement on Form
S-18, No. 33-24446-B, and incorporated by reference).
10.02 Form of Nonstatutory Stock Option Agreement under the Registrant's
1986 Nonstatutory Stock Option Plan (filed as Exhibit 10.02 to the
Registrant's Registration Statement on Form S-18, No. 33-24446-B, and
incorporated by reference).
10.03 1987 Amended Stock Plan of the Registrant (filed as Exhibit 4.1 to
Registration Statement on Form S-18, No. 33-24446-B, and incorporated
by reference).
10.04 Form of Incentive Stock Option Agreement under the Registrant's 1987
Amended Stock Plan (filed as Exhibit 10.04 to Annual Report on Form
10-K for the fiscal year ended March 31, 1991, and incorporated by
reference).
10.05 Form of Non-Qualified Stock Option Agreement under the Registrant's
1987 Amended Stock Plan (filed as Exhibit 10.05 to Annual Report on
Form 10-K for the fiscal year ended March 31, 1991, and incorporated
by reference).
10.06 1988 Amended Non-Employee Director Stock Option Plan (filed as
Exhibit 10.22 to Annual Report on Form 10-K for the fiscal year ended
March 31, 1990, and incorporated by reference).
35
10.07 Form of Non-Qualified Stock Option Agreement for the Registrant's
1988 Amended Non-Employee Director Stock Option Plan (filed as
Exhibit 10.07 to Annual Report on Form 10-K for the fiscal year
ended March 31, 1991, and incorporated by reference).
10.08 1990 Employee Stock Purchase Plan of the Registrant (filed as Exhibit
4.1 to Registration Statement No. 33-35225, and incorporated by
reference).
10.10 1991 Director Stock Plan (filed as Exhibit 10.10 to Annual Report on
Form 10-K for the fiscal year ended March 31, 1991, and incorporated
by reference).
10.11 1993 Non-Employee Director Stock Option Plan (filed as Exhibit 10.11
to Annual Report on Form 10-K for the fiscal year ended March 31,
1993 and incorporated by reference).
10.12 Form of Non-Qualified Stock Option Agreement for the Registrant's
1993 Non-Employee Director Stock Option Plan (filed as Exhibit 10.12
to Annual Report on Form 10-K for the fiscal year ended March 31,
1993 and incorporated by reference).
10.13 1994 Stock Plan (filed as Exhibit 10.13 to Annual Report on Form 10-K
for the fiscal year ended March 31, 1994 and incorporated by
reference).
10.14 1994 Non-Employee Director Plan (filed as Exhibit 10.14 to Annual
Report on Form 10-K for the fiscal year ended March 31, 1994 and
incorporated by reference).
10.15 Commercial Lease dated as of June 1, 1996 between the Registrant and
K/B Fund c/o Koll Management Services, Inc. (filed herewith).
10.16 Credit Agreement dated as of March 16, 1995 between the Registrant
and Silicon Valley Bank (filed as Exhibit 10.16 to Annual Report on
Form 10-K for the fiscal year ended March 31, 1995 and incorporated
by reference).
10.17 Promissory Note of the Registrant issued to Silicon Valley Bank in
the principal amount of $2,000,000 due June 5, 1996 (filed as Exhibit
10.17 to Annual Report on Form 10-K for the fiscal year ended March
31, 1995 and incorporated by reference).
10.18 Promissory Note of the Registrant issued to Silicon Valley Bank in
the principal amount of $200,000 due June 5, 1998 (filed as Exhibit
10.18 to Annual Report on Form 10-K for the fiscal year ended March
31, 1995 and incorporated by reference).
10.19 Security Agreement dated as of March 16, 1996 between the Registrant
and Silicon Valley Bank (filed as Exhibit 10.19 to Annual Report on
Form 10-K for the fiscal year ended March 31, 1995 and incorporated
by reference).
10.20 Subordination Agreement dated as of March 16, 1995 among the
Registrant, Silicon Valley Bank, and Stephen L. Watson and Beverly F.
Watson as Joint Tenants with the Right of Survivorship (filed as
Exhibit 10.20 to Annual Report on Form 10-K for the fiscal year ended
March 31, 1995 and incorporated by reference).
10.21 Amended and Restated Security Agreement dated as of March 16, 1995
among the Registrant and Stephen L. Watson and Beverly F. Watson as
Joint Tenants with the Right of Survivorship (filed as Exhibit 10.21
to Annual Report on Form 10-K for the fiscal year ended March 31,
1995 and incorporated by reference).
36
10.22 Secured Subordinated Term Note of the Registrant in the principal
amount of $300,000 dated as of October 19, 1993 (filed as Exhibit
10.18 to Annual Report on Form 10-K for the fiscal year ended March
31, 1994 and incorporated by reference).
10.23 Agreement of Purchase and Sale of Assets by and between Programmer's
Paradise, Inc. and The Software Developer's Company, Inc and Software
Developer's Company GmbH, as Selling Parties dated May 16, 1996
(filed as Appendix A to Consent Solicitation Statement dated June 4,
1996 and incorporated by reference).
10.24 Agreement and Plan of Merger among the Registrant, ISC Acquisition
Corporation, Internet Security Corporation and Richard J. Kosinski
dated as of October 17, 1995 (filed as Exhibit 7.01 to Report on
Form 8-K filed on November 30, 1995 and incorporated by reference).
10.25 Amendment No. 1 to the Agreement and Plan of Merger among the
Registrant, ISC Acquisition Corporation, Internet Security
Corporation and Richard J. Kosinski, dated as of November 16, 1995
(filed as Exhibit 7.02 to Report on Form 8-K filed on November 30,
1995 and incorporated by reference).
10.26 Employment and Noncompetition Agreement by and among Richard J.
Kosinski and the Registrant and Internet Security Corporation (filed
as Exhibit 7.03 to Report on Form 8-K filed on November 30, 1995 and
incorporated by reference).
10.27 Holdback Agreement by and among the Registrant and Richard J.
Kosinski dated November 16, 1995 (filed as Exhibit 7.04 to Report on
Form 8-K filed on November 30, 1995 and incorporated by reference).
11.01 Computation of Earnings Per Share (filed herewith).
22.01 Subsidiaries of the Registrant (filed herewith).
24.01 Consent of Coopers & Lybrand (filed herewith).
B. Reports on Form 8-K:
The Company filed a Report on Form 8K/A on January 30, 1996 in connection
with the Agreement and Plan of Merger among The Software Developer's Company,
Inc., ISC Acquisition Corporation, Internet Security Corporation and Richard
Kosinski dated as of October 17, 1995 (see Exhibits 10.24, 10.25, 10.26, and
10.27 above).
C. Exhibits:
The Company hereby files as part of this Form 10-K the exhibits listed in 14
(a)(3) above.
D. Financial Statement Schedules:
The Company hereby files as part of this Form 10-K in Item 14(d) attached
hereto the financial statement schedules listed in Item 14 (a)(2) above.
37
NETEGRITY, INC.
ANNUAL REPORT ON FORM 10-K
Year Ended March 31, 1996
ITEM 14(D)
FINANCIAL STATEMENT SCHEDULES
38
Exhibit 24.01
REPORT OF INDEPENDENT AUDITORS
In connection with our audits of the consolidated financial statements of
NeTegrity, Inc. as of December 31, 1996 and March 31, 1996 and for the
nine-month transition period ended December 31, 1996 and fiscal years ended
March 31, 1996 and 1995, we have also audited the consolidated schedules
included in this Annual Report (Form 10-K) for the nine-month transition
period ended December 31, 1996 as listed in Item 14(a)(2).
In our opinion, the consolidated schedules referred to above, when
considered in relation to the basic financial statements taken as a whole,
present fairly, in all material respects, the information required to be
stated therein.
COOPERS & LYBRAND, L.L.P
Boston, Massachusetts
January 29, 1997
39
NETEGRITY, INC.
SCHEDULE VIII--VALUATION AND QUALIFYING ACCOUNTS
ALLOWANCE FOR
ALLOWANCE FOR DOUBTFUL
DOUBTFUL ACCOUNTS ACCOUNTS RESERVE
RECEIVABLE RECEIVABLE--PRODUCT FOR INVENTORY
----------------- ------------------- -------------
Balance as of March 31, 1994 468,146 259,715 323,150
----------------- ------------------- -------------
Additions charged to costs and expenses (A) 188,261 152,490 57,480
Charge offs (308,975) (351,460) (238,516)
----------------- ------------------- -------------
Balance as of March 31, 1995 347,432 60,745 142,114
----------------- ------------------- -------------
Additions charged to costs and expenses (A) 597,515 124,900 267,030
Charge offs (670,675) (111,931) (268,986)
----------------- ------------------- -------------
Balance as of March 31, 1996 $ 274,272 $ 73,714 $ 140,158
----------------- ------------------- -------------
----------------- ------------------- -------------
Amount transferred through divestiture (184,663) (73,714) (140,158)
Charge offs (21,812) -- --
----------------- ------------------- -------------
Balance as of December 31, 1996 $ 67,797 $ -- $ --
----------------- ------------------- -------------
----------------- ------------------- -------------
(A) Additions to the valuation and qualifying accounts are reflected either as
reductions in net marketing services income for accounts receivable-
products, as reductions in selling, general and administrative expenses
for accounts receivable-trade, or as charges to cost of sales-product for
inventory.
40
SIGNATURES
Pursuant to the requirements of Section 13 or 15 (d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report on Form 10-K
to be signed on its behalf by the undersigned, thereunto duly authorized.
NETEGRITY, INC.
/S/ Barry N. Bycoff
--------------------------------------
February 28, 1997 Barry N. Bycoff, President,
Chief Executive Officer and Director
(Principal Executive Officer)
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report on Form 10-K has been signed below by the following persons on behalf
of the Registrant and in the capacities and on the dates indicated.
February 28, 1997 /s/ Barry N. Bycoff
--------------------------------------
Barry N. Bycoff, President,
Chief Executive Officer and Director
(Principal Executive Officer)
February 28, 1997 /s/ James O'Connor, Jr
--------------------------------------
James O'Connor, Jr., Vice President,
Chief Financial Officer and Treasurer
(Principal Accounting and Financial Officer)
February 28, 1997 /s/ Eric R. Giler
--------------------------------------
Eric R. Giler, Director
February 28, 1997 /s/ Michael L. Mark
--------------------------------------
Michael L. Mark, Director
February 28, 1997 /s/ Milton J. Pappas
--------------------------------------
Milton J. Pappas, Director
February 28, 1997 /s/ Ralph B. Wagner
--------------------------------------
Ralph B. Wagner, Director
February 28, 1997 /s/ Stephen L. Watson
--------------------------------------
Stephen L. Watson
Chairman of the Board of Directors
41
Exhibit 11.01
NETEGRITY, INC.
COMPUTATION OF EARNINGS PER SHARE
(in thousands, except per share data)
MARCH 31,
DECEMBER 31, --------------------
1996 1996 1995
------------ -------- --------
PRIMARY:
- -------
Average shares outstanding 8,944 8,354 8,688
Net effect of stock options and warrants,
if dilutive, based on the treasury stock
method using the average market price 957 481 22
----- ----- -----
Total 9,901 8,835 8,710
----- ----- -----
----- ----- -----
Net income for EPS computation $4,000 $ 129 $ 196
----- ----- -----
----- ----- -----
Net income (loss) per share $0.40 $0.01 $0.02
---- ---- ----
---- ---- ----
42
Exhibit 22.01
NETEGRITY, INC.
SUBSIDIARIES OF THE REGISTRANT
Encotone, Inc. (50% ownership)
245 Winter Street
Waltham, Massachusetts 02154
(617) 890-1700
43