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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-Q
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QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2003
Commission File Number 0-25346
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TRANSACTION SYSTEMS ARCHITECTS, INC.
(Exact name of registrant as specified in its charter)
Delaware 47-0772104
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
224 South 108th Avenue (402) 334-5101
Omaha, Nebraska 68154 (Registrant's telephone number,
(Address of principal executive offices, including area code)
including zip code)
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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 shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes x No
--- ---
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).
Yes No x
--- ---
As of April 30, 2003, there were 35,520,134 shares of the registrant's Class A
Common Stock, par value $.005 per share, outstanding (excluding 1,476,145 shares
held as Treasury Stock, and including 7,680 options to purchase shares of the
registrant's Class A Common Stock at an exercise price of one cent per share).
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TABLE OF CONTENTS
Page
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PART I - FINANCIAL INFORMATION
Item 1. Financial Statements................................................................................ 1
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations............... 20
Item 3. Quantitative and Qualitative Disclosures About Market Risk.......................................... 30
Item 4. Controls and Procedures............................................................................. 30
PART II - OTHER INFORMATION
Item 1. Legal Proceedings................................................................................... 32
Item 4. Submission of Matters to a Vote of Security Holders................................................. 33
Item 6. Exhibits and Reports on Form 8-K.................................................................... 33
Signature....................................................................................................... 35
Certification of Chief Executive Officer........................................................................ 36
Certification of Chief Financial Officer........................................................................ 37
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PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
Page
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Consolidated Balance Sheets as of March 31, 2003 and September 30, 2002...................................... 2
Consolidated Statements of Operations for the three and six months ended March 31, 2003 and 2002............. 3
Consolidated Statements of Cash Flows for the six months ended March 31, 2003 and 2002....................... 4
Notes to Consolidated Financial Statements................................................................... 5
1
TRANSACTION SYSTEMS ARCHITECTS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(in thousands, except share amounts)
March 31, September 30,
2003 2002
------------ ------------
(Unaudited)
ASSETS
Current assets:
Cash and cash equivalents........................... $ 91,408 $ 87,894
Marketable securities............................... 3,183 3,757
Billed receivables, net............................. 43,985 35,755
Accrued receivables................................. 7,337 13,132
Deferred income taxes, net.......................... 10,599 17,554
Other............................................... 8,024 4,560
------------ ------------
Total current assets.............................. 164,536 162,652
Property and equipment, net........................... 10,071 11,597
Software, net......................................... 3,116 5,609
Goodwill, net......................................... 56,387 55,947
Deferred income taxes, net............................ 22,469 27,546
Other................................................. 2,681 3,168
------------ ------------
Total assets...................................... $ 259,260 $ 266,519
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Current portion of debt - financing agreements...... $ 17,106 $ 18,444
Accounts payable.................................... 6,442 7,348
Accrued employee compensation....................... 7,095 7,583
Accrued liabilities................................. 8,669 11,494
Income taxes payable................................ - 7,847
Deferred revenue.................................... 72,950 59,598
Other............................................... 764 872
------------ ------------
Total current liabilities......................... 113,026 113,186
Debt - financing agreements........................... 15,228 24,866
Deferred revenue...................................... 19,463 23,860
Other................................................. 1,519 1,749
------------ ------------
Total liabilities................................. 149,236 163,661
------------ ------------
Contingencies (Note 11)
Stockholders' equity:
Class A Common Stock, $.005 par value;
50,000,000 shares authorized;
36,928,954 and 36,887,805 shares issued
at March 31, 2003 and
September 30, 2002, respectively.................. 183 183
Treasury stock, at cost, 1,476,145 shares........... (35,258) (35,258)
Additional paid-in capital.......................... 229,037 228,465
Accumulated deficit................................. (76,862) (83,927)
Accumulated other comprehensive loss, net........... (7,076) (6,605)
------------ ------------
Total stockholders' equity........................ 110,024 102,858
------------ ------------
Total liabilities and stockholders' equity........ $ 259,260 $ 266,519
============ ============
The accompanying notes are an integral part of the
consolidated financial statements.
2
TRANSACTION SYSTEMS ARCHITECTS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(unaudited and in thousands, except per share amounts)
Three Months Ended Six Months Ended
March 31, March 31,
---------------------- ----------------------
2003 2002 2003 2002
---------- ---------- ---------- ----------
(Restated) (Restated)
Revenues:
Software license fees.................................. $ 38,167 $ 39,615 $ 69,497 $ 80,446
Maintenance fees....................................... 19,461 18,699 38,065 37,481
Services............................................... 11,622 12,923 24,177 26,547
---------- ---------- ---------- ----------
Total revenues....................................... 69,250 71,237 131,739 144,474
---------- ---------- ---------- ----------
Expenses:
Cost of software license fees.......................... 6,289 7,947 12,228 17,165
Cost of maintenance and services....................... 15,693 16,375 30,501 32,413
Research and development............................... 8,357 8,918 16,307 17,967
Selling and marketing.................................. 13,529 13,481 27,265 27,738
General and administrative............................. 14,104 14,800 26,687 27,696
---------- ---------- ---------- ----------
Total expenses....................................... 57,972 61,521 112,988 122,979
---------- ---------- ---------- ----------
Operating income......................................... 11,278 9,716 18,751 21,495
---------- ---------- ---------- ----------
Other income (expense):
Interest income........................................ 285 329 595 640
Interest expense....................................... (787) (1,444) (1,743) (3,063)
Other, net............................................. 79 8,069 (1,060) 3,598
---------- ---------- ---------- ----------
Total other income (expense)......................... (423) 6,954 (2,208) 1,175
---------- ---------- ---------- ----------
Income before income taxes............................... 10,855 16,670 16,543 22,670
Income tax provision..................................... (6,785) (9,879) (9,478) (13,462)
---------- ---------- ---------- ----------
Net income............................................... $ 4,070 $ 6,791 $ 7,065 $ 9,208
========== ========== ========== ==========
Earnings per share information:
Weighted average shares outstanding:
Basic................................................ 35,486 35,299 35,462 35,277
========== ========== ========== ==========
Diluted.............................................. 35,573 35,531 35,562 35,496
========== ========== ========== ==========
Earnings per share:
Basic................................................ $ 0.11 $ 0.19 $ 0.20 $ 0.26
========== ========== ========== ==========
Diluted.............................................. $ 0.11 $ 0.19 $ 0.20 $ 0.26
========== ========== ========== ==========
The accompanying notes are an integral part of the
consolidated financial statements.
3
TRANSACTION SYSTEMS ARCHITECTS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited and in thousands)
Six Months Ended
March 31,
-------------------------------
2003 2002
------------ ------------
(Restated)
Cash flows from operating activities:
Net income..................................................... $ 7,065 $ 9,208
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation................................................. 2,586 3,330
Amortization................................................. 2,211 6,105
Gain on sale of business..................................... - (8,265)
Loss on sale of marketable equity securities................. 115 -
Impairments of marketable equity securities and software..... - 3,654
Changes in operating assets and liabilities:
Billed and accrued receivables, net........................ (2,435) 7,036
Other current and noncurrent assets........................ (2,259) (6,801)
Accounts payable........................................... (906) (6,689)
Deferred revenue........................................... 8,955 3,564
Income taxes............................................... 1,811 23,952
Other current and noncurrent liabilities................... (3,199) (3,117)
------------ ------------
Net cash provided by operating activities................ 13,944 31,977
------------ ------------
Cash flows from investing activities:
Purchases of property and equipment, net....................... (907) (2,758)
Purchases of software.......................................... (148) (659)
Net proceeds from sale of business............................. - 4,951
Other, net..................................................... 519 (88)
------------ ------------
Net cash provided by (used in) investing activities...... (536) 1,446
------------ ------------
Cash flows from financing activities:
Proceeds from issuance of Class A Common Stock................. 535 643
Proceeds from exercise of stock options........................ 37 40
Repayments on line of credit................................... - (12,000)
Proceeds from debt - financing agreements...................... - 5,777
Payments on debt - financing agreements........................ (10,976) (12,970)
Other, net..................................................... (452) 582
------------ ------------
Net cash used in financing activities.................... (10,856) (17,928)
------------ ------------
Effect of exchange rate fluctuations on cash..................... 962 (459)
------------ ------------
Net increase in cash and cash equivalents........................ 3,514 15,036
Cash and cash equivalents, beginning of period................... 87,894 32,004
------------ ------------
Cash and cash equivalents, end of period......................... $ 91,408 $ 47,040
============ ============
The accompanying notes are an integral part of the
consolidated financial statements.
4
TRANSACTION SYSTEMS ARCHITECTS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Summary of Significant Accounting Policies
Nature of Business
Transaction Systems Architects, Inc., a Delaware corporation, and its
subsidiaries (collectively referred to as "TSA" or the "Company"), develop,
market, install and support a broad line of software products and services
primarily focused on facilitating electronic payments and electronic commerce.
In addition to its own products, the Company distributes, or acts as a sales
agent for, software developed by third parties. These products and services are
used principally by financial institutions, retailers and e-payment processors,
both in domestic and international markets.
Consolidated Financial Statements
The consolidated financial statements include the accounts of the Company
and its wholly-owned subsidiaries. All significant intercompany balances and
transactions have been eliminated. The consolidated financial statements at
March 31, 2003, and for the three and six months ended March 31, 2003 and 2002,
are unaudited and reflect all adjustments (consisting only of normal recurring
adjustments) which are, in the opinion of management, necessary for a fair
presentation of the financial position and operating results for the interim
periods. Certain amounts previously reported have been reclassified to conform
to current presentation.
The consolidated financial statements contained herein should be read in
conjunction with the consolidated financial statements and notes thereto,
together with management's discussion and analysis of financial condition and
results of operations, contained in the Company's annual report on Form 10-K for
the fiscal year ended September 30, 2002. The results of operations for the
three and six months ended March 31, 2003 are not necessarily indicative of the
results that may be achieved for the entire fiscal year ending September 30,
2003.
During fiscal 2002, the Company identified transactions for which
accounting adjustments were necessary, which resulted in restatements of the
Company's consolidated financial statements, including previously reported
amounts for the three and six months ended March 31, 2002 (see Note 12 for
further discussion).
Use of Estimates in Preparation of Consolidated Financial Statements
The preparation of the consolidated financial statements in conformity with
accounting principles generally accepted in the United States requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities and disclosure of contingent assets and liabilities at
the date of the consolidated financial statements and the reported amounts of
revenues and expenses during the reporting period. Actual results could differ
from those estimates.
Revenue Recognition, Accrued Receivables and Deferred Revenue
Software License Fees. The Company recognizes software license fee revenue
in accordance with American Institute of Certified Public Accountants ("AICPA")
Statement of Position ("SOP") 97-2, "Software Revenue Recognition," SOP 98-9,
"Modification of SOP 97-2, Software Revenue Recognition With Respect to Certain
Transactions," and Securities and Exchange Commission ("SEC") Staff Accounting
Bulletin ("SAB") 101, "Revenue Recognition in Financial Statements." For
software license arrangements for which services rendered are not considered
essential to the functionality of the software, the Company recognizes revenue
upon delivery, provided (1) there is persuasive evidence of an arrangement, (2)
collection of the fee is considered probable and (3) the fee is fixed or
determinable. In most arrangements, vendor-specific objective evidence ("VSOE")
of fair value does not exist for the license element; therefore, the Company
uses the residual method under SOP 98-9 to determine the amount of revenue to be
allocated to the license element. Under SOP 98-9, the fair value of all
undelivered elements, such as postcontract customer support (maintenance or
"PCS") or other products or services, is deferred and subsequently recognized as
the products are delivered or the services are performed, with the residual
difference between the total arrangement fee and revenues allocated to
undelivered elements being allocated to the delivered element.
When a software license arrangement includes services to provide
significant production, modification, or
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customization of software, those services are not separable from the software
and are accounted for in accordance with Accounting Research Bulletin ("ARB")
No. 45, "Long-Term Construction-Type Contracts," and the relevant guidance
provided by SOP 81-1, "Accounting for Performance of Construction-Type and
Certain Production-Type Contracts." Accounting for services delivered over time
under ARB No. 45 and SOP 81-1 is referred to as contract accounting. Under
contract accounting, the Company uses the percentage-of-completion method. Under
the percentage-of-completion method, the Company records revenue for the
software license fee and services over the development and implementation
period, with the percentage of completion measured by the percentage of labor
hours incurred to-date to estimated total labor hours for each contract. For
those contracts subject to percentage-of-completion contract accounting,
estimates of total revenue under the contract, which are used in current
percentage-complete computations, exclude amounts due under extended payment
terms. In certain cases, the Company provides its customers with extended terms
where payment is deferred beyond when the services are rendered. Because the
Company is unable to demonstrate a history of enforcing payment terms under such
arrangements without granting concessions, the Company excludes revenues due on
extended payment terms from its current percentage of completion computation
because it cannot be presumed that those fees are fixed or determinable.
For software license arrangements in which a significant portion of the fee
is due more than 12 months after delivery, the software license fee is deemed
not to be fixed or determinable. For software license arrangements in which the
fee is not considered fixed or determinable, the software license fee is
recognized as revenue as payments become due and payable, if all other
conditions to revenue recognition have been met. For software license
arrangements in which the Company has concluded that collection of the fees is
not probable, revenue is recognized as cash is collected. In making the
determination of collectibility, the Company considers the creditworthiness of
the customer, economic conditions in the customer's industry and geographic
location, and general economic conditions.
For software license arrangements in which the Company's ability to enforce
payment terms depends on customer acceptance provisions, software license fee
revenue is recognized upon the earlier of the point at which (1) the customer
accepts the software products or (2) the acceptance provisions lapse.
For software license arrangements in which VSOE of the fair value of
undelivered elements does not exist to allocate the total fee to all elements of
the arrangement, revenue is deferred until the earlier of the point at which (1)
such sufficient VSOE of the fair value of undelivered elements does exist or (2)
all elements of the arrangement have been delivered.
Gross versus Net. For software license arrangements in which the Company
acts as a sales agent for another company's products, revenues are recorded on a
net basis. These include arrangements in which the Company does not take title
to the products, is not responsible for providing the product or service, earns
a fixed commission, and assumes credit risk only to the extent of its
commission. For software license arrangements in which the Company acts as a
distributor of another company's product, and in certain circumstances, modifies
or enhances the product, revenues are recorded on a gross basis. These include
arrangements in which the Company takes title to the products and is responsible
for providing the product or service.
Subscriptions and Usage Fees. For software license arrangements in which
the Company permits the customer to vary their software mix, including the right
to receive unspecified future software products during the software license
term, the Company recognizes revenue ratably over the license term, provided all
other revenue recognition criteria have been met. For software license
arrangements in which the customer is charged software license fees based on
usage of the product, the Company recognizes revenue as usage occurs over the
term of the licenses, provided all other revenue recognition criteria have been
met.
Maintenance Fees. Revenues for PCS are recognized ratably over the
maintenance term specified in the contract. In arrangements where a multi-year
time-based software license has a duration of one year or less or the initial
PCS term is relatively long (i.e. greater than fifty percent) compared to the
term of the software license, the Company recognizes revenue for the entire
arrangement ratably over the PCS term as VSOE of fair value cannot be
established.
Services. Revenues from arrangements to provide professional services on a
time and materials basis are recognized as the related services are performed.
Revenues from professional services provided on a fixed fee basis are recognized
using the percentage-of-completion method.
6
Non-monetary Transactions. Non-monetary transactions are accounted for in
accordance with Accounting Principles Board ("APB") Opinion No. 29, "Accounting
for Non-monetary Transactions," which requires that the transfer or distribution
of a non-monetary asset or liability generally be based on the fair value of the
asset or liability that is received or surrendered, whichever is more clearly
evident. In those cases where fair value of the assets exchanged is not readily
determinable, the exchange is recorded at the historical cost of the asset
surrendered.
Accrued Receivables. Accrued receivables represent amounts to be billed in
the near future (less than 12 months).
Deferred Revenue. Deferred revenue represents (1) payments received from
customers for software licenses, maintenance and/or services in advance of
providing the product or performing services, (2) amounts deferred whereby VSOE
does not exist, or (3) amounts deferred if other conditions to revenue
recognition have not been met.
Debt - Financing Agreements
The Company periodically sells rights to future payment streams under
software license arrangements with extended payment terms. In accordance with
the Financial Accounting Standards Board's ("FASB") Emerging Issues Task Force
("EITF") 88-18, "Sales of Future Revenues," the Company records the proceeds
received from these arrangements as debt and reduces the debt principal as
payments are made. Interest on the debt accrues monthly and is computed using
the effective interest method.
Recent Accounting Pronouncements
In October 2002, the Company adopted EITF 01-14, "Income Statement
Characterization of Reimbursements Received for "Out-of-Pocket" Expenses
Incurred," which requires (1) that reimbursements received for out-of-pocket
expenses be classified as revenue, rather than as a reduction of expenses, and
(2) upon adoption, comparative financial statements for prior periods be
reclassified to comply with the guidance of EITF 01-14. As a result of adopting
EITF 01-14, results for the three and six months ended March 31, 2002 were
restated to increase revenues and increase operating expenses by $483,000 and
$969,000, respectively. The adoption of EITF 01-14 had no effect on net income.
In December 2002, the FASB issued Statement of Financial Accounting
Standard ("SFAS") No. 148, "Accounting for Stock-Based Compensation - Transition
and Disclosure," which amends SFAS No. 123, "Accounting for Stock-Based
Compensation," to provide alternative methods of transition for a voluntary
change to the fair value based method of accounting for stock-based employee
compensation. In addition, SFAS No. 148 amends the disclosure requirements of
SFAS No. 123 to require prominent disclosures in both annual and interim
financial statements about the method of accounting for stock-based employee
compensation and the effect of the method used on reported results. SFAS No. 148
is effective for the Company's fiscal year ending September 30, 2003, with
disclosure provisions for interim periods beginning after December 15, 2002. The
Company does not expect to voluntarily adopt the fair value based method of SFAS
No. 123 and, therefore, does not expect the measurement provisions of SFAS No.
148 to affect the Company's financial position or results of operations. The
Company has adopted the disclosure provisions required by SFAS No. 148 (see Note
2).
2. Stock-Based Compensation Plans
The Company accounts for its stock-based compensation plans under the
intrinsic value method in accordance with APB Opinion No. 25, "Accounting for
Stock Issued to Employees" and follows the disclosure provisions of SFAS No.
123, as amended by SFAS No. 148. In accordance with APB No. 25, no compensation
expense has been recognized in the Company's consolidated statements of
operations for the three and six months ended March 31, 2003 and 2002 related to
its stock-based compensation plans. Had compensation cost for the Company's
stock-based compensation plans been determined based on the fair value at the
grant date of the stock options awarded under those plans, consistent with the
fair value method of SFAS No. 123, the Company's net income and earnings per
share for the three and six months ended March 31, 2003 and 2002 would have
approximated the following pro forma amounts (in thousands, except per share
amounts):
7
Three Months Ended Six Months Ended
March 31, March 31,
---------------------- ----------------------
2003 2002 2003 2002
---------- ---------- ---------- ----------
(Restated) (Restated)
Net income:
As reported............................................ $ 4,070 $ 6,791 $ 7,065 $ 9,208
Deduct: stock-based employee compensation expense
determined under fair value based
method for all awards, net of related tax effects.... (1,488) (427) (3,027) (674)
---------- ---------- ---------- ----------
Pro forma.............................................. $ 2,582 $ 6,364 $ 4,038 $ 8,534
========== ========== ========== ==========
Earnings per share:
Basic and diluted, as reported......................... $ 0.11 $ 0.19 $ 0.20 $ 0.26
========== ========== ========== ==========
Basic and diluted, pro forma........................... $ 0.07 $ 0.18 $ 0.11 $ 0.24
========== ========== ========== ==========
The fair value of each option grant was estimated on the date of grant
using the Black-Scholes option-pricing model, a pricing model acceptable under
SFAS No. 123. The effects of applying SFAS No. 123 in this pro forma disclosure
are not indicative of future amounts. SFAS No. 123 applies only to options
granted since fiscal 1996, and additional future awards are anticipated.
3. Corporate Restructuring Charges and Asset Impairment Losses
During fiscal 2001, the Company closed or significantly reduced the size of
certain product development organizations and geographic sales offices,
resulting in restructuring charges and asset impairment losses. The following
table shows activity related to these exit activities since September 30, 2002
(in thousands):
Lease
Obligations
-----------
Balance, September 30, 2002........................ $ 1,047
Amounts paid year-to-date during fiscal 2003....... (158)
-----------
Balance, March 31, 2003............................ $ 889
===========
The liability for lease obligations relates to the abandonment or reduction
of office facilities with lease terms ending on various dates through March
2005, net of expected third-party purchases or sub-leases, and an estimated
lease termination loss for the corporate aircraft. The Company continues to seek
subleases for certain of the properties as well as an exit to the corporate
aircraft lease. The final settlement of these obligations may result in
adjustments to these liabilities.
4. Line of Credit Agreement
The Company has a $15.0 million bank line of credit agreement with a United
States bank that expires in June 2003. This credit agreement is secured by
certain trade receivables and provides that the Company must satisfy certain
specified earnings, working capital and minimum tangible net worth requirements,
as defined, and places restrictions on the Company's ability to, among other
things, sell assets, incur debt, pay dividends, participate in mergers and make
investments or guarantees. As a result of the restatement of its consolidated
financial statements during fiscal 2002, the Company is not in compliance with
the debt covenants as of March 31, 2003. Interest on this credit facility, which
is payable monthly, accrues at an annual rate, selected by the Company, equal to
either the bank's prime rate or the LIBOR rate plus 2%. The Company had no line
of credit borrowings outstanding on this credit facility during the six months
ended March 31, 2003. During the three and six months ended March 31, 2002, the
Company recorded interest expense and related fees of $36,000 and $164,000,
respectively, related to its line of credit facilities.
8
5. Goodwill and Software
Changes to the carrying amount of goodwill during the six months ended
March 31, 2003 resulted only from foreign currency translation adjustments.
The gross carrying amount and accumulated amortization of the Company's
intangible assets that are subject to amortization at each balance sheet date,
consisting only of software, are as follows (in thousands):
March 31, Sept. 30,
2003 2002
------------ ------------
Internally-developed software............... $ 15,494 $ 15,372
Purchased software.......................... 43,596 43,312
------------ ------------
59,090 58,684
Less: accumulated amortization.............. (55,974) (53,075)
------------ ------------
Software, net............................... $ 3,116 $ 5,609
============ ============
Amortization of software is computed using the greater of the ratio of
current revenues to total estimated revenues expected to be derived from the
software or the straight-line method over an estimated useful life of three
years. Software amortization expense recorded in the three and six months ended
March 31, 2003 was $0.8 million and $1.6 million, respectively. Based on
capitalized software at March 31, 2003, and assuming no impairment of these
software assets, estimated amortization expense for the remainder of fiscal 2003
and in succeeding fiscal years is as follows (in thousands):
2003................................................... $1,235
2004................................................... 1,680
2005................................................... 181
2006................................................... 20
Thereafter............................................. -
6. Debt - Financing Agreements
During the six months ended March 31, 2002, the Company sold the rights to
future payment streams under software license arrangements with extended payment
terms to financial institutions and received cash of approximately $5.8 million.
The Company did not sell any rights to future payment streams under software
license arrangements with extended payment terms during the six months ended
March 31, 2003. The amount of the proceeds received from the financing
arrangements is typically determined by applying a discount rate to the gross
future payments to be received from the customer. The discount rates used to
determine the proceeds during the six months ended March 31, 2002 ranged from
6.81% to 7.75%. The Company recorded interest expense of $0.8 million and $1.3
million during the three months ended March 31, 2003 and 2002, respectively, and
$1.7 million and $2.7 million during the six months ended March 31, 2003 and
2002, respectively, related to debt - financing agreements.
7. Common Stock and Earnings Per Share
Exchangeable shares, and options to purchase shares of TSA Class A Common
Stock ("Common Stock") at an exercise price of one cent per share, received by
shareholders of MessagingDirect Ltd. ("MDL"), that have not yet been converted
into Common Stock are included in Class A Common Stock for presentation purposes
on the March 31, 2003 and September 30, 2002 consolidated balance sheets.
Exchangeable shares and MDL options included in Common Stock totaled 7,680
options as of March 31, 2003, and 73,909 shares and 11,010 options as of
September 30, 2002. There were no outstanding exchangeable shares at March 31,
2003.
Earnings per share ("EPS") has been computed in accordance with SFAS No.
128, "Earnings Per Share." Basic EPS is calculated by dividing net income
available to common stockholders (the numerator) by the weighted average number
of common shares outstanding during the period (the denominator). Diluted EPS is
computed by dividing net income available to common stockholders (the
numerator), by the weighted average number of common shares
9
outstanding, adjusted for the dilutive effect of outstanding dilutive securities
(the denominator). Exchangeable shares and options received by shareholders of
MDL that have not yet been converted into Common Stock are included in common
shares outstanding for EPS computations. The differences between the basic and
diluted EPS denominators for the three months ended March 31, 2003 and 2002,
which amounted to approximately 87,000 and 232,000 shares, respectively, and for
the six months ended March 31, 2003 and 2002, which amounted to approximately
100,000 and 219,000 shares, respectively, were due to the dilutive effect of the
Company's outstanding stock options using the treasury stock method. Weighted
average shares from stock options of 5,149,000 and 1,680,000 were excluded from
the computation of diluted EPS for the three months ended March 31, 2003 and
2002, respectively, and weighted average shares from stock options of 5,137,000
and 1,666,000 were excluded from the computation of diluted EPS for the six
months ended March 31, 2003 and 2002, respectively, because the exercise prices
of the stock options were greater than the average market price of the Company's
common shares.
8. Comprehensive Income/Loss
The Company's components of other comprehensive income were as follows (in
thousands):
Three Months Ended Six Months Ended
March 31, March 31,
---------------------- ----------------------
2003 2002 2003 2002
---------- ---------- ---------- ----------
(Restated) (Restated)
Net income.......................................... $ 4,070 $ 6,791 $ 7,065 $ 9,208
Other comprehensive income (loss):
Foreign currency translation adjustments.......... (76) 584 (531) 1,277
Change in unrealized loss on investments.......... 456 143 60 2,606
---------- ---------- ---------- ----------
Comprehensive income................................ $ 4,450 $ 7,518 $ 6,594 $ 13,091
========== ========== ========== ==========
The Company's components of accumulated other comprehensive income/loss at
each balance sheet date were as follows (in thousands):
Foreign Unrealized Accumulated
Currency Investment Other
Translation Holding Comprehensive
Adjustments Loss Income (Loss)
------------- ------------ -------------
Balance, September 30, 2002......................... $ (6,162) $ (443) $ (6,605)
Fiscal 2003 year-to-date activity................... (531) 60 (471)
----------- ---------- -----------
Balance, March 31, 2003............................. $ (6,693) $ (383) $ (7,076)
=========== ========== ===========
9. Income Taxes
The effective tax rate for the first six months of fiscal 2003 was
approximately 57.3% as compared to 59.4% for the same period of fiscal 2002. The
effective tax rate for the first six months of fiscal 2003 was primarily
impacted by non-recognition of tax benefits for operating losses in certain
foreign locations and recognition of a valuation allowance for foreign tax
credits. The effective tax rate for the first six months of fiscal 2002 was
primarily impacted by non-recognition of tax benefits for operating losses in
certain foreign locations, recognition of a valuation allowance for foreign tax
credits, foreign tax rate differentials and gain on sale of subsidiary.
10. Segment Information
The Company has three operating segments, referred to as business units.
These three business units are ACI Worldwide, Insession Technologies and
IntraNet. ACI Worldwide products represent the Company's largest product line
and include its most mature and well-established applications, which are used
primarily by financial institutions, retailers and e-payment processors. Its
products are used to route and process transactions for automated teller machine
networks; process transactions from point-of-sale devices, wireless devices and
the Internet; control fraud and money laundering; authorize checks; establish
frequent shopper programs; automate transaction settlement, card management and
claims processing; and issue and manage multi-functional applications on smart
cards.
10
Insession Technologies products facilitate communication, data movement,
monitoring of systems, and business process automation across computing systems
involving mainframes, distributed computing networks and the Internet. IntraNet
products offer high value payments processing, bulk payments processing, global
messaging and continuous link settlement processing.
The Company's chief operating decision makers review business unit
financial information presented on a consolidated basis, accompanied by
disaggregated information about revenues and operating income by business unit.
The Company does not track assets by business unit. No single customer accounted
for more than 10% of the Company's consolidated revenues during the three and
six months ended March 31, 2003 and 2002. The following are revenues and
operating income for these business units for the periods indicated (in
thousands):
Three Months Ended Six Months Ended
March 31, March 31,
---------------------- ----------------------
2003 2002 2003 2002
---------- ---------- ---------- ----------
(Restated) (Restated)
Revenues:
ACI Worldwide..................................... $ 48,665 $ 52,351 $ 94,271 $ 107,676
Insession Technologies............................ 8,828 9,973 15,828 18,069
IntraNet.......................................... 11,757 8,913 21,640 18,729
---------- ---------- ---------- ----------
$ 69,250 $ 71,237 $ 131,739 $ 144,474
========== ========== ========== ==========
Operating income:
ACI Worldwide..................................... $ 5,350 $ 7,503 $ 10,260 $ 16,938
Insession Technologies............................ 2,379 2,308 3,228 3,239
IntraNet.......................................... 3,549 (95) 5,263 1,318
---------- ---------- ---------- ----------
$ 11,278 $ 9,716 $ 18,751 $ 21,495
========== ========== ========== ==========
Most of the Company's products are sold and supported through distribution
networks covering the geographic regions of the Americas, Europe/Middle
East/Africa ("EMEA") and Asia/Pacific. The following are revenues for the
periods indicated and long-lived assets at each balance sheet date for these
geographic regions (in thousands):
Three Months Ended Six Months Ended
March 31, March 31,
---------------------- ----------------------
2003 2002 2003 2002
---------- ---------- ---------- ----------
(Restated) (Restated)
Revenues:
United States................................ $ 27,975 $ 30,488 $ 57,850 $ 63,747
Other Americas............................... 8,142 10,766 15,609 20,569
---------- ---------- ---------- ----------
Total Americas............................ 36,117 41,254 73,459 84,316
EMEA......................................... 24,946 23,492 41,835 46,200
Asia/Pacific................................. 8,187 6,491 16,445 13,958
---------- ---------- ---------- ----------
$ 69,250 $ 71,237 $ 131,739 $ 144,474
========== ========== ========== ==========
11
March 31, Sept. 30,
2003 2002
---------- ----------
Long-lived assets:
United States............................................ $ 54,978 $ 57,616
Other Americas........................................... 6,437 6,098
---------- ----------
Total Americas......................................... 61,415 63,714
EMEA..................................................... 9,913 11,805
Asia/Pacific ............................................ 927 802
---------- ----------
$ 72,255 $ 76,321
========== ==========
11. Contingencies
Legal Proceedings
Class Action Litigation. The Company is aware of announcements for three
class action complaints in connection with the re-audit and restatement of the
Company's prior period financial statements. The Company has obtained copies of
two class action complaints. The Company and its external legal advisors have
searched for the third announced class action complaint but have not found it
filed in the court where it was stated to be filed and have concluded that the
third announced complaint has not been filed. The two complaints obtained by the
Company are Desert Orchid Partners v. the Company, et al and Nancy Rosen v. the
Company, et al. Based on the two complaints which are publicly available, the
Company understands that the plaintiffs allege violations of Sections 10(b) and
20(a) of the Securities Exchange Act of 1934 (the "Exchange Act") and Rule 10b-5
thereunder, on the grounds that certain of the Company's Exchange Act reports
and press releases contained untrue statements of material facts, or omitted to
state facts necessary to make the statements therein not misleading, with regard
to the Company's revenues and expenses during the class period. The complaints
allege that during the purported class periods, the Company and the named
officers and directors misrepresented the Company's historical financial
condition, results of operations and its future prospects, and failed to
disclose facts that could have indicated an impending decline in the Company's
revenues. The plaintiffs are seeking unspecified damages, interest, fees, costs
and rescission. The class periods stated in the two complaints are January 21,
1999 through November 18, 2002 and December 29, 1999 through August 14, 2002.
The Company and four of the individual defendants have been served with process
with respect to the Rosen case only. The Company and the individual defendants
that have been served plan on filing a motion to dismiss on or before their
required answer dates.
Derivative Litigation. On January 10, 2003, Samuel Naito filed the suit of
"Samuel Naito, Derivatively on behalf of Nominal Defendant Transaction Systems
Architects, Inc. v. Roger K. Alexander, Gregory D. Derkacht, Gregory J. Duman,
Larry G. Fendley, Jim D. Kever, and Charles E. Noell, III and Transaction
Systems Architects, Inc." in the State District Court in Douglas County,
Nebraska (the "Naito matter"). The suit is a shareholder derivative action that
generally alleges that the named individuals breached their fiduciary duties of
loyalty and good faith owed to the Company and its shareholders by causing the
Company to conduct its business in an unsafe, imprudent and unlawful manner
resulting in damage to the Company. More specifically, the plaintiff alleges
that the individual defendants, and particularly the members of the Company's
audit committee, failed to implement and maintain an adequate internal
accounting control system that would have enabled the Company to discover
irregularities in its accounting procedures of certain transactions prior to
August 2002, thus violating their fiduciary duties of loyalty and good faith,
generally accepted accounting principles and the Company's audit committee
charter. The plaintiff seeks to recover an unspecified amount of money damages
allegedly sustained by the Company as a result of the individual defendants'
breaches of fiduciary duties, as well as the plaintiff's costs and disbursements
related to the suit.
On January 24, 2003, Michael Russiello filed the suit of "Michael
Russiello, Derivatively on behalf of Nominal Defendant Transaction Systems
Architects, Inc. v. Roger K. Alexander, Gregory D. Derkacht, Gregory J. Duman,
Larry G. Fendley, Jim D. Kever, and Charles E. Noell, III and Transaction
Systems Architects, Inc." in the State District Court in Douglas County,
Nebraska (the "Russiello matter"). The suit is a shareholder derivative action
that generally alleges that the named individuals breached their fiduciary
duties of loyalty and good faith owed to the Company and its shareholders by
causing the Company to conduct its business in an unsafe, imprudent and unlawful
manner resulting in damage to the Company. More specifically, the plaintiff
alleges that the individual
12
defendants, and particularly the members of the Company's audit committee,
failed to implement and maintain an adequate internal accounting control system
that would have enabled the Company to discover irregularities in its accounting
procedures of certain transactions prior to August 2002, thus violating their
fiduciary duties of loyalty and good faith, generally accepted accounting
principles and the Company's audit committee charter. The plaintiff seeks to
recover an unspecified amount of money damages allegedly sustained by the
Company as a result of the individual defendants' breaches of fiduciary duties,
as well as the plaintiff's costs and disbursements related to the suit.
The Company filed a Motion to Dismiss in the Naito matter on February 14,
2003, and a Motion to Dismiss in the Russiello matter on February 21, 2003. A
hearing was scheduled on those Motions for March 14, 2003. Just prior to that
date, Plaintiffs' counsel requested that the derivative lawsuits be stayed
pending a determination of an anticipated motion to dismiss to be filed in the
class action lawsuits when and if service of process is achieved. The Company,
by and through its counsel, agreed to that stay. As a result, no other
defendants have been served and no discovery has been commenced.
These class action and derivative lawsuits were brought in the United
States District Court for the District of Nebraska and the Nebraska District
Courts, respectively, and are at preliminary stages. The Company is currently in
the process of preparing to respond to the claims made in the lawsuits. The
Company intends to defend the foregoing lawsuits vigorously, but, since the
lawsuits have only recently been filed and are in the very early stages, the
Company cannot predict the outcome and is not currently able to evaluate the
likelihood of success or the range of potential loss, if any, that might be
incurred in connection with such actions. However, if the Company were to lose
any of these lawsuits or if they were not settled on favorable terms, the
judgment or settlement may have a material adverse effect on the Company's
consolidated financial position, results of operations and cash flows. The
Company has insurance that provides an aggregate coverage of $20.0 million for
the period during which the claims were filed, but cannot evaluate at this time
whether such coverage will be available or adequate to cover losses, if any,
arising out of these lawsuits.
Additional suits against the Company may be commenced in the future. The
Company will fully analyze these allegations once all of the complaints are
received and intends to vigorously defend against them. There is a risk that
such litigation could result in substantial costs and divert management
attention and resources from its business, which could adversely affect the
Company's business.
In connection with the re-audit and restatement of the Company's prior
period financial statements, the Company has been in contact with the Securities
and Exchange Commission Enforcement Division. On December 9, 2002, certain of
the Company's officers and external legal counsel held a telephone conference
with representatives of the SEC Enforcement Division. The Company had a
follow-up meeting with the SEC Enforcement Division on March 14, 2003. At this
meeting, the SEC representatives asked questions about the restatement. The SEC
Enforcement Division also requested that the Company provide additional written
information regarding the restatement. The Company supplied this information on
March 21, 2003. The Company has not received any follow-up inquiries from the
SEC Enforcement Division since March 21, 2003. To the knowledge of the Company,
the SEC Enforcement Division has not issued a formal order of investigation. The
Company intends to cooperate fully with the SEC on any additional inquiries.
In addition to the foregoing, 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 currently a party to any such legal proceedings,
other than as described above, the adverse outcome of which, individually or in
the aggregate, would have a material adverse effect on the Company's financial
condition or results of operations
12. Restatement of Consolidated Financial Results
During fiscal 2002, in the course of the Company's review of its
consolidated financial statements, the Company identified transactions for which
accounting adjustments were necessary, which resulted in restatements of the
Company's consolidated financial statements for fiscal 2001 and 2000, as well as
restatements of previously reported quarterly results for the first three
quarters of fiscal 2002 and each quarter during fiscal 2001 and 2000. The
following is a description of the restatement adjustment categories. The dollar
effect of adjustments within each category for the three and six months ended
March 31, 2002 is shown below under the heading Presentation of Restated
Consolidated Financial Information.
13
Revenue Recognition
Fixed or Determinable. In fiscal 1999, the Company adopted SOP 97-2, which
requires that a software vendor's fee be fixed or determinable before it can
recognize the license fee revenue upon shipment of the software. SOP 97-2 states
that if payment of a significant portion of the software license fee is not due
until after expiration of the license or more than twelve months after delivery,
the license fee should be presumed not to be fixed or determinable. However, SOP
97-2 provides that the software vendor can overcome the presumption that the
software license fees are not fixed or determinable if the vendor has a standard
business practice of using long-term or installment contracts and has a history
of successfully collecting the software license fees under the original payment
terms of the software license arrangement without making concessions.
Previously, the Company concluded that for certain BASE24 and ICE software
arrangements where the customer is contractually committed to make license
payments that extend beyond twelve months, the fixed or determinable presumption
had been overcome and software license fee revenue should be recognized upon
delivery of the software, assuming that all other revenue recognition criteria
had been met. Software license fee revenues recognized under these arrangements
were referred to in the Company's previous filings with the SEC as
"Recognized-Up-Front MLFs ("RUFs")." Software license fee revenues previously
recognized as RUFs totaled approximately $2.8 million and $6.9 million during
the three and six months ended March 31, 2002.
Subsequently, it was determined that upon adoption of SOP 97-2, the Company
lacked a history of successfully collecting software license fees under the
original terms of the software license arrangement without making concessions,
which would have enabled it to recognize software license fee revenue upon
delivery of the software products. In addition, certain contracts previously
accounted for under the RUF policy contained cancellation clauses and MLFs that
vary with customer usage (i.e., usage-based fees). Therefore, license fees for
these arrangements were also not fixed and determinable at the outset of the
arrangement. As a result, the Company's consolidated financial statements have
been restated to recognize revenues under software license arrangements with
extended payment terms over the term of the underlying license arrangements, as
payments become due and payable rather than up-front (or ratably for
subscription arrangements).
Under the Company's previous accounting, the license fee revenue
recognized-up-front was generally the net present value of the monthly license
fee ("MLF") payments. The difference between the payments to be received from
the customer and the amount of license fee revenue recognized was accounted for
as interest income using the effective interest rate method. The revised
treatment for these arrangements has resulted in a reduction in interest income
for the amounts previously recorded under these arrangements. In addition, the
Company previously sold the MLF payment stream for certain of these previously
recognized software license arrangements. The previous treatment resulted in the
derecognition of the transferred asset accounts receivable following the sale of
the MLF receivable. The revised treatment for these arrangements has resulted in
the recording of periodic interest expense for the difference between the
proceeds received under the factoring arrangements and the license fee revenues
recognized under the arrangements. Due to the Company's continuing involvement
in the maintenance services, the cash proceeds have been recorded as debt -
financing agreements.
VSOE. The Company's software license arrangements typically include the
licensing of software and providing of PCS. The bundled software license
arrangements generally have a separate stated term for the software license and
the PCS. The software license term generally ranges from 12 to 60 months,
although some arrangements have a software license term extending beyond 60
months. The PCS term is generally 12 to 24 months, although certain of these
arrangements have a PCS term that is the same as the software license term.
SOP 97-2 requires the seller of software that includes PCS to establish
VSOE of fair value of the undelivered element of the contract in order to
account separately for the PCS revenue. For certain of the Company's products,
VSOE of the fair value of PCS is determined by a consistent pricing of PCS and
PCS renewals as a percentage of the software license fees. In other products,
the Company determines VSOE by reference to contractual renewals, when the
renewal terms are substantive. In those cases where VSOE of the fair value of
PCS is determined by reference to contractual renewals, the Company considers
factors such as whether the period of the initial PCS term is relatively long
when compared to the term of the software license or whether the PCS renewal
rate is significantly below the Company's normal pricing practices. In
arrangements where a one-year term license is bundled with PCS or the initial
PCS term is relatively long (i.e., greater than fifty percent) compared to the
license term, the Company has
14
determined that it does not have VSOE of the PCS element from renewal terms,
and license fee and PCS revenues have been restated and recognized ratably
over the PCS period.
Customer Acceptance. Certain of the Company's software arrangements
(primarily those in the Asia/Pacific region) include payment terms that are
enforceable only upon the passage of time or customer acceptance. Historically,
for most of the software license arrangements that contain customer acceptance
provisions, the Company recognized software license fee revenue upon delivery of
the software products, assuming that all other revenue recognition criteria had
been met. The Company's consolidated financial statements have been restated to
recognize revenues under software license arrangements with customer acceptance
provisions upon the earlier of the point at which (1) the customer accepts the
software products or (2) the acceptance provisions lapse. For those software
license arrangements in which acceptance did not ultimately occur, this restated
treatment resulted in a reduction in previously recognized revenues.
Collectibility. It has been determined that certain software license
revenue was recognized for which collection was not reasonably assured. The
Company's consolidated financial statements have been restated to recognize
revenue from these arrangements as cash was received. For those software license
arrangements in which collectibility was not probable at the onset of the
arrangement and for which the Company received no cash or only a portion of the
fees, this restated treatment resulted in a reduction of previously recognized
revenues and bad debts expense.
Contract Accounting. SOP 97-2 requires that an arrangement to deliver
software that requires significant production, modification, or customization of
software should be accounted for in accordance with ARB No. 45 and the relevant
guidance provided by SOP 81-1. This guidance is often referred to as contract
accounting. The Company has certain software license arrangements, which are
subject to contract accounting. Although payment terms are generally spread out
over time in contract accounting, the concepts and risks of extended payment
terms also apply to arrangements accounted for under contract accounting. The
Company has determined that certain of its contract accounting arrangements
contain extended payment terms and therefore the associated fees are not
considered fixed or determinable. In addition, the Company previously recognized
revenue up-front on certain contracts that required significant production,
modification, or customization. The Company's consolidated financial statements
have been restated to (1) revise the estimated total revenue under the contract
which was used in the current percentage complete computations to exclude
amounts due under extended payment terms, and (2) recognize revenue based on
percentage completion estimated for those contracts in which revenue was
previously recorded when the software was delivered even though significant
customization of the delivered software was required.
Subscription Accounting. The Company has certain software license
arrangements in which the customer has the ability to receive additional
unspecified products over a limited period. Previously the Company recognized
software license fee revenue upon delivery of the initial products specified in
the software license arrangement. SOP 97-2 states that the software license
revenue under these arrangements should be recognized ratably over the term of
the arrangement, beginning with the delivery of the first product. One of the
software license arrangements identified is Digital Courier Technologies, Inc.
("DCTI"). The Company's consolidated financial statements have been restated to
recognize revenue from these arrangements ratably over the term of the
arrangement.
Multiple-Element Arrangements. The Company has certain multiple-product
arrangements of which only a portion of the software products are delivered to
the customer. Previously, the Company recognized license fee revenue for the
portion of the total fee that related to the delivered products as determined by
stated contract values. SOP 97-2, as amended by SOP 98-9, states that for
arrangements that involve multiple elements either (1) the entire fee from the
arrangement must be allocated to each of the individual elements, based on each
element's VSOE of fair value, or (2) VSOE of the fair value must be established
for the undelivered elements with the entire discount allocated to the delivered
elements. In addition, the Company occasionally enters into more than one
contract with a single customer within a short period of time. Certain of these
arrangements are so closely related that they are, in substance, parts of a
single arrangement. If VSOE of fair value does not exist, all revenue from the
arrangement must be deferred until the earlier of when (1) such evidence does
exist for each element, (2) all the elements have been delivered, or (3) the
evidence of fair value exists for the undelivered elements. For certain software
license arrangements in which only a portion of the products are delivered, it
has been determined that VSOE of fair value for the undelivered products does
not exist. The Company's consolidated financial statements have been restated
for these arrangements to defer recognition of revenue for the entire
arrangement until all the products in the arrangement have been delivered or at
such time that it has been determined that the additional products will not be
15
delivered, as evidenced by customer acknowledgement of credits due, if any.
Delivery/Term Commencement. The Company has identified certain arrangements
in which delivery of the software products and/or commencement of the license
term had not occurred prior to revenue being recognized. The Company has
restated its consolidated financial statements for these arrangements to
recognize revenue upon delivery to the customer and commencement of the license
term.
Gross versus Net, Distributor Arrangements. The Company has inconsistently
classified revenues generated from arrangements in which it has acted as a sales
agent for another company's product. The Company has restated its revenues
related to arrangements previously reported gross. This has resulted in the
reduction of previously reported costs of software licenses in which the Company
does not take title to the products, is not responsible for providing the
product or service, earns a fixed commission, and assumes credit risk only to
the extent of its commissions.
Operating Expenses and Other
Purchase Accounting. The Company has adjusted the purchase accounting for
the acquisitions of Insession Inc., SDM International, Inc. ("SDM") and MDL,
which were made in fiscal 2001, 2000 and 1999, respectively. The adjustments
relate to the determination of the fair market value of the Common Stock issued
to the shareholders of SDM and MDL and the determination of the fair value of
deferred revenue of Insession, Inc. These adjustments resulted in a net increase
to the amount of purchase price allocated to goodwill. The Company based the
valuation of the SDM and MDL acquisitions on the fair market value of the Common
Stock given as consideration for the acquisitions. The acquisition of SDM was
valued based upon the Company's stock price on the third day subsequent to the
announcement of the transaction. The acquisition of MDL was valued based on an
average of the Company's stock price for one day prior to and four days after
the announcement of the transaction. The Company has re-measured the purchase
price of each acquisition based on the average closing sale price of a share of
Common Stock using a period beginning two days before and ending two days after
the date of the announcement. Additionally, the deferred revenue of Insession
Inc. has been reduced to fair market value resulting in a reduction in
previously recorded goodwill and previously recorded revenues.
In addition, SFAS No. 109, "Accounting for Income Taxes," requires the
recognition of deferred tax liabilities for the tax consequences of differences
between the assigned values of identifiable intangible assets acquired in a
business combination and the tax basis of such assets. Previously, the Company
did not record the deferred tax liability for certain identifiable intangible
assets acquired in the Insession Inc. and MDL transactions. The Company's
consolidated financial statements have been restated to recognize the deferred
tax liabilities for these identifiable intangible assets. This treatment results
in an increase in the allocation of purchase price to goodwill for these
transactions.
These purchase accounting adjustments resulted in increases to goodwill,
goodwill amortization expense for all periods prior to the adoption of SFAS No.
142, "Goodwill and Other Intangible Assets," on October 1, 2001, and the
subsequent impairment losses recorded for those acquisitions.
Capitalized Software. Regency Systems, Inc. ("Regency"), a wholly-owned
subsidiary of the Company until February 2002, previously capitalized costs
associated with the development of its Internet banking product. Regency began
amortizing the capitalized software in the second quarter of fiscal 2001.
Subsequent to the Internet banking product being made generally available for
sale, Regency continued to capitalize software development costs that should
have been expensed. Therefore, previously capitalized software development costs
have been charged to research and development costs, and software amortization
expense has been reversed. In addition, the Company was previously capitalizing
costs associated with the development of the IntraNet CO-ach software product.
It has been determined that these software costs should not have been
capitalized as the underlying product was also part of an on-going international
customer project under which the Company was recognizing revenue using
percentage-of-completion contract accounting. Therefore, previously capitalized
software development costs have been reclassified to cost of software license
fees.
Bad Debts. The allowance for doubtful accounts and bad debts expense has
been reduced for the various revisions the Company has made to its revenue
recognition policies (described above). The changes to revenue recognition have
generally resulted in the deferral or elimination of previously recognized
revenue and accounts
16
receivable. The Company has restated its allowance for doubtful accounts and
bad debts expense to take into account changes to revenue recognition for those
accounts for which revenue was previously recognized and subsequently written
off as bad debts expense.
Accrued Liabilities. Certain accounting differences were discovered with
respect to the recorded amount of accrued liabilities when compared to amounts
actually paid out related to these accrued liabilities, resulting in a reduction
in accrued liabilities in fiscal 2002 and 2001, and an increase in accrued
liabilities in fiscal 2000 and 1999. Such differences included adjustments for
commission liabilities, variable compensation and other accrued expenses.
Facilities Management Set-up Costs. In fiscal 1999, the Company capitalized
set-up costs associated with a facilities management arrangement. These set-up
costs were being amortized over the three-year term of the arrangement although
the Company had previously recognized up-front fees related to initial
installation. In the third quarter of fiscal 2002, the Company wrote-off the
unamortized balance of the previously capitalized set-up costs. It was
subsequently determined that these costs should have been expensed as incurred
in the absence of deferral of the installation revenues. Therefore, previously
capitalized set-up costs have been reclassified to operating expenses, and
amortization expense has been reduced. In addition, the previously recorded
write-off of the unamortized balance has been reversed.
Distributor Commissions. Certain of the revenue adjustments described
previously resulted in changes to the amount of royalty expense owed to the
owners of third-party products.
Corporate Restructuring. The Company has determined that certain previously
recognized restructuring liabilities associated with the Company's fiscal 2001
restructuring plan did not meet the requirements for liability recognition at
the commitment date. In certain cases, the original plan of workforce reductions
was not in sufficient detail to ensure that significant changes to the plan were
unlikely before completion and, in other cases, the requirements for notifying
employees of the workforce reductions did not occur. The liabilities for
restructuring activities also included other human resource, bad debt, warranty
and operating expenses that either benefited future periods or were unrelated to
exit activities in the restructuring plan. As a result, the Company has restated
the consolidated financial statements to reduce the fiscal 2001 restructuring
charge. Costs unrelated to exit activities under the restructuring plan have
been reclassified to recognize the expense as incurred and classified separately
from restructuring charges.
The Company also determined that certain previously recognized impairment
losses and other charges were unrelated to restructuring and exit plans. Those
entries included corrections of previous purchase price allocations for an
acquisition, unrecoverable software development costs, and impairments of notes
receivable and equity investments. As a result, the Company has reclassified the
previously reported impairment losses for items unrelated to exit activities
and, where appropriate, corrected the measurement and timing of loss
recognition.
Software Impairment. In connection with the restatement, the Company
performed an analysis of the carrying value of the MDL software as of September
30, 2001. From this analysis, it was determined recovery of the MDL software was
impaired. Consequently, the MDL software was written off to impairment of
long-lived assets in the fourth quarter of fiscal 2001 and entries have been
made to reduce amortization expense previously recognized.
Interest Income and Interest Expense. As discussed above under the heading
Fixed or Determinable, certain revenue recognition restatements also resulted in
restatements of interest income and interest expense. Proceeds from the
factoring of extended payment term license arrangements have been recorded as
debt, whereas the Company's previous accounting had resulted in the
derecognition of unbilled receivables. Interest income has been reduced as a
result of adjustments related to RUF accounting (described above). Interest
expense has been increased as a result of the amortization of discounts on
proceeds from factored license arrangements classified as debt.
Investments. The Company has licensed its products to certain customers
immediately prior to, contemporaneously with, or immediately after it had made
an investment in those customers. It was subsequently determined that fair value
of the underlying equity investments could not be readily determined. Therefore,
these transactions should have been accounted for as non-monetary exchanges in
accordance with APB Opinion No. 29. Under APB Opinion No. 29, the exchange of
assets when fair value cannot be readily determined is recorded at the
historical cost of the asset surrendered. In addition, in certain circumstances
it was not clear that the investee/customer could satisfy the cash requirements
of the license arrangement absent the cash investment. As a
17
result, the carrying value of certain investments was reduced by the amount of
license revenue recognized prior to October 1, 1999 in the restatement of the
Company's consolidated financial statements. This restated treatment has
resulted in a reduction in previously recognized revenues and, in certain cases
reduced previously reported impairment losses for other than temporary declines
in the related investments.
In addition, the Company made investments in publicly-traded companies.
Previously the Company recorded charges to earnings for the other than temporary
declines in market values for these investments. The Company revised the amount
of charges to earnings for these other than temporary declines of these
investments to adjust the carrying value of the securities to quoted market
value on the date of impairment.
Foreign Currency. As a result of the adjustments, the computed amount of
transaction gains and losses has changed.
Income Taxes
The tax provision for all periods presented was adjusted for (1) the impact
of adjustments described above, (2) a previously recognized tax benefit for the
MDL impairment loss which was a permanent difference for accounting purposes,
and (3) adjustments to previously reported current income tax expense for the
effects of changes in accrued tax reserves for tax exposure items.
Presentation of Restated Consolidated Financial Information
The following table sets forth selected unaudited consolidated quarterly
financial data for the Company, showing previously reported amounts (as
reclassified pursuant to the adoption of EITF 01-14, as discussed in Note 1),
restatement adjustments and restated amounts, for the three and six months ended
March 31, 2002 (in thousands, except per share amounts):
Three Months Six Months
Ended Ended
March 31, March 31,
2002 2002
----------- -----------
(Unaudited) (Unaudited)
Total revenues, as previously reported.............................. $ 66,156 $ 131,952
Fixed or determinable............................................ 7,017 13,360
VSOE............................................................. (1,490) (842)
Customer acceptance.............................................. (44) (316)
Collectibility................................................... 842 501
Contract accounting.............................................. (433) (368)
Subscription accounting.......................................... 449 980
Multiple-element arrangements.................................... (329) 191
Delivery/term commencement....................................... 56 (222)
Gross versus net distributor arrangements........................ (359) (624)
Other............................................................ (628) (138)
----------- -----------
Revenue adjustments........................................... 5,081 12,522
----------- -----------
Total revenues, restated............................................ 71,237 144,474
----------- -----------
Total operating expenses, as previously reported.................... 64,454 131,011
Purchase accounting.............................................. 1 (41)
Capitalized software............................................. 90 (18)
Bad debts........................................................ (137) (1,424)
Accrued liabilities.............................................. (1,393) (3,438)
FM set-up costs.................................................. (152) (418)
Distributor commissions.......................................... (125) (297)
Corporate restructuring.......................................... 263 356
Software impairment.............................................. (930) (1,870)
Gross versus net distributor arrangements........................ (359) (624)
Other............................................................ (191) (258)
----------- -----------
Operating expense adjustments................................. (2,933) (8,032)
----------- -----------
Total operating expenses, restated.................................. 61,521 122,979
----------- -----------
18
Operating income, as previously reported............................ 1,702 941
Revenue adjustments.............................................. 5,081 12,522
Operating expense adjustments.................................... 2,933 8,032
----------- -----------
Operating income, restated.......................................... 9,716 21,495
----------- -----------
Total other income (expense), as previously reported................ 5,068 1,982
Interest income.................................................. (572) (1,420)
Interest expense................................................. (1,271) (2,652)
Investments...................................................... (475) (647)
Foreign currency................................................. (25) (54)
Regency gain..................................................... 4,142 4,142
Other............................................................ 87 (176)
----------- -----------
Total other income (expense) adjustments...................... 1,886 (807)
----------- -----------
Total other income (expense), restated.............................. 6,954 1,175
----------- -----------
Income before income taxes, as previously reported.................. 6,770 2,923
----------- -----------
Income before income taxes, restated................................ 16,670 22,670
----------- -----------
Income tax provision, as previously reported........................ (2,220) (1,173)
----------- -----------
Income tax provision, restated...................................... (9,879) (13,462)
----------- -----------
Net income (loss), as previously reported........................... 4,550 (23,954)
----------- -----------
Net income (loss), restated......................................... 6,791 9,208
=========== ===========
Earnings (loss) per share:
Basic, as previously reported.................................... 0.13 (0.68)
=========== ===========
Basic, restated.................................................. 0.19 0.26
=========== ===========
Diluted, as previously reported................................... 0.13 (0.68)
=========== ===========
Diluted, restated................................................. 0.19 0.26
=========== ===========
19
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations
Overview
The Company develops, markets, installs and supports a broad line of
software products and services primarily focused on facilitating e-payments and
e-commerce. In addition to its own products, the Company distributes, or acts as
a sales agent for, software developed by third parties. These products and
services are used principally by financial institutions, retailers and e-payment
processors, both in domestic and international markets.
Restatement of Consolidated Financial Results
During fiscal 2002, the Company identified transactions for which
accounting adjustments were necessary, which resulted in restatements of the
Company's consolidated financial statements for fiscal 2001 and 2000, as well as
restatements of previously reported quarterly results for the first three
quarters of fiscal 2002 and each quarter during fiscal 2001 and 2000. A
description of the restatement adjustment categories and the dollar effect of
adjustments within each category, for the three and six months ended March 31,
2002, are shown in Note 12 to the Consolidated Financial Statements.
Business Units
The Company's products and services are currently organized within three
operating segments, referred to as business units. These three business units
are ACI Worldwide, Insession Technologies and IntraNet. Most of the Company's
products and services are marketed and supported through distribution networks
covering three geographic regions: the Americas, Europe/Middle East/Africa
("EMEA") and Asia/Pacific. Each distribution network has its own sales force and
supplements this with reseller and/or distributor networks. The following are
revenues and operating income for these business units for the three and six
months ended March 31, 2003 and 2002 (in thousands):
Three Months Ended Six Months Ended
March 31, March 31,
---------------------- ----------------------
2003 2002 2003 2002
---------- ---------- ---------- ----------
(Restated) (Restated)
Revenues:
ACI Worldwide..................................... $ 48,665 $ 52,351 $ 94,271 $ 107,676
Insession Technologies............................ 8,828 9,973 15,828 18,069
IntraNet.......................................... 11,757 8,913 21,640 18,729
---------- ---------- ---------- ----------
$ 69,250 $ 71,237 $ 131,739 $ 144,474
========== ========== ========== ==========
Operating income:
ACI Worldwide..................................... $ 5,350 $ 7,503 $ 10,260 $ 16,938
Insession Technologies............................ 2,379 2,308 3,228 3,239
IntraNet.......................................... 3,549 (95) 5,263 1,318
---------- ---------- ---------- ----------
$ 11,278 $ 9,716 $ 18,751 $ 21,495
========== ========== ========== ==========
Backlog
The Company defines recurring revenue backlog to be all monthly license
fees, maintenance fees and facilities management fees specified in executed
contracts to the extent that the Company believes that recognition of the
related revenue will occur within one year. The Company includes in its
non-recurring revenue backlog all fees (other than recurring) specified in
executed contracts to the extent that the Company believes that recognition of
the related revenue will occur within one year.
The following table sets forth the Company's recurring and non-recurring
revenue backlog, by business unit, as of March 31, 2003 (in thousands):
20
March 31, 2003
---------------------------
Recurring Non-Recurring
----------- -------------
ACI Worldwide................................ $ 129,641 $ 47,154
Insession Technologies....................... 19,662 6,131
IntraNet, Inc................................ 13,086 17,428
----------- -----------
$ 162,389 $ 70,713
=========== ===========
Customers may request that their contracts be renegotiated or terminated
due to a number of factors, including mergers, changes in their financial
condition, or general changes in economic conditions in the customer's industry
or geographic location, or the Company may experience delays in the development
or delivery of products or services specified in customer contracts.
Accordingly, there can be no assurance that contracts included in recurring or
non-recurring revenue backlog will actually generate the specified revenues or
that the actual revenues will be generated within the one-year period. In
evaluating the Company's revenue backlog, the risk factors described below in
Forward-Looking Statements should be considered.
Critical Accounting Policies and Estimates
Management's discussion and analysis of financial condition and results of
operations are based upon the Company's consolidated financial statements, which
have been prepared in accordance with accounting principles generally accepted
in the United States. The preparation of these financial statements requires
that the Company make estimates and assumptions that affect the reported amounts
of assets, liabilities, revenues and expenses, and related disclosure of
contingent assets and liabilities. The Company bases its estimates on historical
experience and other assumptions that are believed to be proper and reasonable
under the circumstances. The Company continually evaluates the appropriateness
of its estimates and assumptions, including those related to revenue
recognition, provision for doubtful accounts, fair value of investments, fair
value of goodwill and software, useful lives of intangible and fixed assets,
income taxes, and contingencies and litigation, among others. Actual results
could differ from those estimates.
The Company believes that there are several accounting policies that are
critical to understanding the Company's historical and future performance, as
these policies affect the reported amounts of revenue and the more significant
areas involving management's judgments and estimates. These critical policies,
and the Company's procedures related to these policies, are described in detail
below.
Revenue Recognition, Accrued Receivables and Deferred Revenue
Software License Fees. The Company recognizes software license fee revenue
in accordance with American Institute of Certified Public Accountants ("AICPA")
Statement of Position ("SOP") 97-2, "Software Revenue Recognition," SOP 98-9,
"Modification of SOP 97-2, Software Revenue Recognition With Respect to Certain
Transactions," and Securities and Exchange Commission ("SEC") Staff Accounting
Bulletin ("SAB") 101, "Revenue Recognition in Financial Statements." For
software license arrangements for which services rendered are not considered
essential to the functionality of the software, the Company recognizes revenue
upon delivery, provided (1) there is persuasive evidence of an arrangement, (2)
collection of the fee is considered probable and (3) the fee is fixed or
determinable. In most arrangements, vendor-specific objective evidence ("VSOE")
of fair value does not exist for the license element; therefore, the Company
uses the residual method under SOP 98-9 to determine the amount of revenue to be
allocated to the license element. Under SOP 98-9, the fair value of all
undelivered elements, such as postcontract customer support (maintenance or
"PCS") or other products or services, is deferred and subsequently recognized as
the products are delivered or the services are performed, with the residual
difference between the total arrangement fee and revenues allocated to
undelivered elements being allocated to the delivered element.
When a software license arrangement includes services to provide
significant production, modification, or customization of software, those
services are not separable from the software and are accounted for in accordance
with Accounting Research Bulletin ("ARB") No. 45, "Long-Term Construction-Type
Contracts," and the relevant guidance provided by SOP 81-1, "Accounting for
Performance of Construction-Type and Certain Production-Type Contracts."
Accounting for services delivered over time under ARB No. 45 and SOP 81-1 is
referred to as contract accounting. Under contract accounting, the Company uses
the percentage-of-completion method. Under the
21
percentage-of-completion method, the Company records revenue for the software
license fee and services over the development and implementation period, with
the percentage of completion measured by the percentage of labor hours incurred
to-date to estimated total labor hours for each contract. For those contracts
subject to percentage-of-completion contract accounting, estimates of total
revenue under the contract, which are used in current percentage-complete
computations, exclude amounts due under extended payment terms. In certain
cases, the Company provides its customers with extended terms where payment is
deferred beyond when the services are rendered. Because the Company is unable
to demonstrate a history of enforcing payment terms under such arrangements
without granting concessions, the Company excludes revenues due on extended
payment terms from its current percentage of completion computation because it
cannot be presumed that those fees are fixed and determinable.
For software license arrangements in which a significant portion of the fee
is due more than 12 months after delivery, the software license fee is deemed
not to be fixed or determinable. For software license arrangements in which the
fee is not considered fixed or determinable, the software license fee is
recognized as revenue as payments become due and payable, if all other
conditions to revenue recognition have been met. For software license
arrangements in which the Company has concluded that collection of the fees is
not probable, revenue is recognized as cash is collected. In making the
determination of collectibility, the Company considers the creditworthiness of
the customer, economic conditions in the customer's industry and geographic
location, and general economic conditions.
For software license arrangements in which the Company's ability to enforce
payment terms depends on customer acceptance provisions, software license fee
revenue is recognized upon the earlier of the point at which (1) the customer
accepts the software products or (2) the acceptance provisions lapse.
For software license arrangements in which VSOE of the fair value of
undelivered elements does not exist to allocate the total fee to all elements of
the arrangement, revenue is deferred until the earlier of the point at which (1)
such sufficient VSOE of the fair value of undelivered elements does exist or (2)
all elements of the arrangement have been delivered.
Gross versus Net. For software license arrangements in which the Company
acts as a sales agent for another company's products, revenues are recorded on a
net basis. These include arrangements in which the Company does not take title
to the products, is not responsible for providing the product or service, earns
a fixed commission, and assumes credit risk only to the extent of its
commission. For software license arrangements in which the Company acts as a
distributor of another company's product, and in certain circumstances, modifies
or enhances the product, revenues are recorded on a gross basis. These include
arrangements in which the Company takes title to the products and is responsible
for providing the product or service.
Subscriptions and Usage Fees. For software license arrangements in which
the Company permits the customer to vary their software mix, including the right
to receive unspecified future software products during the software license
term, the Company recognizes revenue ratably over the license term, provided all
other revenue recognition criteria have been met. For software license
arrangements in which the customer is charged software license fees based on
usage of the product, the Company recognizes revenue as usage occurs over the
term of the licenses, provided all other revenue recognition criteria have been
met.
Maintenance Fees. Revenues for PCS are recognized ratably over the
maintenance term specified in the contract. In arrangements where a multi-year
time-based software license has a duration of one year or less or the initial
PCS term is relatively long (i.e. greater than fifty percent) compared to the
term of the software license, the Company recognizes revenue for the entire
arrangement ratably over the PCS term as VSOE of fair value cannot be
established.
Services. Revenues from arrangements to provide professional services on a
time and materials basis are recognized as the related services are performed.
Revenues from professional services provided on a fixed fee basis are recognized
using the percentage-of-completion method.
Non-monetary Transactions. Non-monetary transactions are accounted for in
accordance with Accounting Principles Board ("APB") Opinion No. 29, "Accounting
for Non-monetary Transactions," which requires that the transfer or distribution
of a non-monetary asset or liability generally be based on the fair value of the
asset or liability that is received or surrendered, whichever is more clearly
evident. In those cases where fair value of the assets
22
exchanged is not readily determinable, the exchange is recorded at the
historical cost of the asset surrendered.
Accrued Receivables. Accrued receivables represent amounts to be billed in
the near future (less than 12 months).
Deferred Revenue. Deferred revenue represents (1) payments received from
customers for software licenses, maintenance and/or services in advance of
providing the product or performing services, (2) amounts deferred whereby VSOE
does not exist, or (3) amounts deferred if other conditions to revenue
recognition have not been met.
Provision for Doubtful Accounts
The Company maintains a general allowance for doubtful accounts based on
its historical experience, along with additional customer-specific allowances.
The Company regularly monitors credit risk exposures in its accounts receivable.
In estimating the necessary level of its allowance for doubtful accounts,
management considers the aging of its accounts receivable, the creditworthiness
of the Company's customers, economic conditions within the customer's industry,
and general economic conditions, among other factors. Should any of these
factors change, the estimates made by management will also change, which in turn
impacts the level of the Company's future provision for doubtful accounts.
Specifically, if the financial condition of the Company's customers were to
deteriorate, affecting their ability to make payments, additional
customer-specific provision for doubtful accounts may be required. Also, should
deterioration occur in general economic conditions, or within a particular
industry or region in which the Company has a number of customers, additional
provision for doubtful accounts may be recorded to reserve for potential future
losses. A portion of the Company's allowance is related to issues other than
creditworthiness, such as disagreements with customers.
Impairment of Investments
The Company records a non-cash charge to earnings when it determines that
an investment has experienced an "other than temporary" decline in market value.
To make this determination, the Company reviews the carrying value of its
marketable equity security investments at the end of each reporting period for
impairment. Other-than-temporary impairments are generally recognized if the
market value of the investment is below its current carrying value for an
extended period, which the Company generally defines as six to nine months, or
if the issuer has experienced significant financial declines or difficulties in
raising capital to continue operations, among other factors. Future adverse
changes in market conditions or poor operating results of underlying investments
could result in an inability to recover the carrying value of the recorded
marketable securities, thereby possibly requiring additional impairment charges
in the future.
Impairment of Goodwill
In accordance with SFAS No. 142, goodwill is tested for impairment at the
reporting unit level and must be tested at least annually, utilizing a two-step
methodology. The initial step requires the Company to determine the fair value
of each reporting unit and compare it to the carrying value, including goodwill,
of such reporting unit. If the fair value exceeds the carrying value, no
impairment loss is to be recognized. However, if the carrying value of the
reporting unit exceeds its fair value, the goodwill of this unit may be
impaired. The amount of impairment, if any, is then measured in the second step.
For impairment testing purposes, the Company has utilized the services of an
independent consultant to perform valuations of the Company's reporting units
that contained goodwill. Under SFAS No. 142, goodwill is no longer amortized.
Software Amortization and Impairment
Software consists of internally-developed software and purchased software.
The Company capitalizes costs related to certain internally-developed software
when the resulting products reach technological feasibility. Technological
feasibility is determined upon completion of a detailed program design or
internal specification. The internal specification establishes that the product
can be produced to meet its design specifications including functions, features
and technical performance requirements. Purchased software consists of software
to be marketed externally that was acquired primarily as the result of a
business acquisition ("acquired software") and costs of computer software
obtained for internal use that were capitalized.
Amortization of internally-developed software costs begins when the
products are available for licensing to
23
customers and is computed separately for each product as the greater of (a) the
ratio of current gross revenue for a product to the total of current and
anticipated gross revenue for the product or (b) the straight-line method over
three years. Due to competitive pressures, it may be possible the anticipated
gross revenue or remaining estimated economic life of the software products will
be reduced significantly. As a result, the carrying amount of the software
product may be reduced accordingly. Amortization of acquired and internal-use
software is generally computed using the straight-line method over its estimated
useful life of approximately three years.
The Company reviews its long-lived assets for impairment whenever events or
changes in circumstances indicate that the carrying amount of a long-lived asset
may not be recoverable. An impairment loss is recorded if the sum of the future
cash flows expected to result from the use of the asset (undiscounted and
without interest charges) is less than the carrying amount of the asset. The
amount of the impairment charge is measured based upon the fair value of the
asset.
Accounting for Income Taxes
Accounting for income taxes requires significant judgments in the
development of estimates used in income tax calculations. Such judgments
include, but would not be limited to, the likelihood the Company would realize
the benefits of net operating loss carryforwards, the adequacy of valuation
allowances, and the rates used to measure transactions with foreign
subsidiaries. As part of the process of preparing the Company's financial
statements, the Company is required to estimate its income taxes in each of the
jurisdictions in which the Company operates. The judgments and estimates used
are subject to challenge by domestic and foreign taxing authorities. It is
possible that either domestic or foreign taxing authorities could challenge
those judgments and estimates and draw conclusions that would cause the Company
to incur tax liabilities in excess of those currently recorded. Changes in the
geographical mix or estimated amount of annual pretax income could impact the
Company's overall effective tax rate.
To the extent recovery of deferred tax assets is not likely based on
estimation of future taxable income in each jurisdiction, the Company records a
valuation allowance to reduce its deferred tax assets to the amount that is more
likely than not to be realized. Although the Company has considered future
taxable income along with prudent and feasible tax planning strategies in
assessing the need for the valuation allowance, if the Company should determine
that it would not be able to realize all or part of its deferred tax assets in
the future, an adjustment to deferred tax assets would be charged to income in
the period any such determination was made. Likewise, in the event the Company
was able to realize its deferred tax assets in the future in excess of the net
recorded amount, an adjustment to deferred tax assets would increase income in
the period any such determination was made.
24
Results of Operations
The following table sets forth certain financial data and the percentage of
total revenues of the Company for the periods indicated (in thousands):
Three Months Ended March 31, Six Months Ended March 31,
------------------------------------------ ------------------------------------------
2003 2002 2003 2002
------------------- ------------------- ------------------- -------------------
% of % of % of % of
Amount Revenue Amount Revenue Amount Revenue Amount Revenue
---------- -------- ---------- -------- ---------- -------- ---------- --------
(1) (1) (1) (1)
Revenues:
Initial license fees (ILFs). $ 16,238 23.4% $ 18,554 26.0% $ 27,481 20.9% $ 38,277 26.5%
Monthly license fees (MLFs). 21,929 31.7 21,061 29.6 42,016 31.9 42,169 29.2
---------- -------- ---------- -------- ---------- -------- ---------- --------
Software license fees....... 38,167 55.1 39,615 55.6 69,497 52.8 80,446 55.7
Maintenance fees............ 19,461 28.1 18,699 26.3 38,065 28.9 37,481 25.9
Services.................... 11,622 16.8 12,923 18.1 24,177 18.3 26,547 18.4
---------- -------- ---------- -------- ---------- -------- ---------- --------
Total revenues............ 69,250 100.0 71,237 100.0 131,739 100.0 144,474 100.0
---------- -------- ---------- -------- ---------- -------- ---------- --------
Expenses:
Cost of software license
fees..................... 6,289 9.1 7,947 11.2 12,228 9.3 17,165 11.9
Cost of maintenance and
services................. 15,693 22.6 16,375 23.0 30,501 23.1 32,413 22.4
Research and development.... 8,357 12.1 8,918 12.5 16,307 12.4 17,967 12.4
Selling and marketing....... 13,529 19.5 13,481 18.9 27,265 20.7 27,738 19.2
General and administrative.. 14,104 20.4 14,800 20.8 26,687 20.3 27,696 19.2
---------- -------- ---------- -------- ---------- -------- ---------- -------
Total expenses............ 57,972 83.7 61,521 86.4 112,988 85.8 122,979 85.1
---------- -------- ---------- -------- ---------- -------- ---------- -------
Operating income............... 11,278 16.3 9,716 13.6 18,751 14.2 21,495 14.9
---------- -------- ---------- -------- ---------- -------- ---------- -------
Other income (expense):
Interest income............. 285 0.4 329 0.5 595 0.5 640 0.4
Interest expense............ (787) (1.1) (1,444) (2.0) (1,743) (1.3) (3,063) (2.1)
Other, net.................. 79 0.1 8,069 11.3 (1,060) (0.8) 3,598 2.5
---------- -------- ---------- -------- ---------- -------- ---------- --------
Total other income
(expense)............... (423) (0.6) 6,954 9.8 (2,208) (1.6) 1,175 0.8
---------- -------- ---------- -------- ---------- -------- ---------- --------
Income before income taxes..... 10,855 15.7 16,670 23.4 16,543 12.6 22,670 15.7
Income tax provision........... (6,785) (9.8) (9,879) (13.9) (9,478) (7.2) (13,462) (9.3)
---------- -------- ---------- -------- ---------- -------- ---------- --------
Net income..................... $ 4,070 5.9% $ 6,791 9.5% $ 7,065 5.4% $ 9,208 6.4%
========== ======== ========== ======== ========== ======== ========== ========
- ----------------------
(1) The Company has reclassified and restated its consolidated financial
information. See Notes 1 and 12 to the consolidated financial statements
for further details.
Revenues. Total revenues for the second quarter of fiscal 2003 decreased
$2.0 million, or 2.8%, as compared to the same period of fiscal 2002. Total
revenues for the first six months of fiscal 2003 decreased $12.7 million, or
8.8%, as compared to the same period of fiscal 2002. The three-month decrease is
the result of a $1.4 million, or 3.7%, decrease in software license fee revenues
and a $1.3 million, or 10.1%, decrease in services revenues, offset by a $0.8
million, or 4.1%, increase in maintenance fee revenues. The six-month decrease
is the result of a $10.9 million, or 13.6%, decrease in software license fee
revenues and a $2.4 million, or 8.9%, decrease in services revenues, offset by a
$0.6 million, or 1.6%, increase in maintenance fee revenues. Approximately $0.8
million of the decrease in total revenues for second quarter of fiscal 2003, and
$2.3 million of the decrease in total revenues for first six months of fiscal
2003, was due to the sale of Regency Systems, Inc. ("Regency") in February 2002,
which was part of the ACI Worldwide business unit.
ACI Worldwide's software license fee revenues decreased primarily due to a
shift in sales focus from the Company's more-established products to its newer
BASE24-es product and its Payments Management products. As a result of this
shift to newer products, absent other factors, the Company will experience a
decrease in revenues due to differences in the timing of revenue recognition for
the respective products. Revenues under less-established products are typically
recognized upon acceptance, or first production use by the customer due to
uncertainties surrounding customer acceptance of the product, whereas revenues
from mature products, such as
25
BASE24, are generally recognized upon delivery of the product. In addition,
demand for ACI Worldwide's products in the EMEA region has decreased due to
depressed economic conditions that have caused customers to forecast a slowing
of electronic transaction volume growth. As a result, these customers have
reduced their information technology budgets and spending commitments. Insession
Technologies' software license fee revenues decreased primarily due to system
consolidations and company consolidations. In addition, as customers within the
Insession Technologies business unit renew existing contracts, the renewal
contract generally has a higher proportion of the total fees that relate to
maintenance. IntraNet software license fee revenues increased due to the
completion of the final phase of an ACH project with a large European bank,
allowing the Company to recognize approximately $3.6 million in revenues.
The increase in maintenance fee revenues is primarily due to growth in the
installed base of software products within the ACI Worldwide business unit,
along with the higher proportion of maintenance revenues resulting from contract
renewals within the Insession Technologies business unit, as discussed above,
offset by decreases resulting from the sale of Regency.
The decrease in services revenues for the second quarter and first six
months of fiscal 2003, as compared to the same periods in fiscal 2002, is
primarily the result of a decreased demand in the ACI Worldwide and Insession
Technologies business units for technical and project management services. This
decreased demand is primarily due to (1) increased competition in the
marketplace by companies that offer services work at lower rates, (2) many
larger customers increasing their internal staffs in order to reduce their
dependence on external resources and (3) general decreases in worldwide demand
for services as a result of depressed economic conditions. Offsetting the
decreased services revenues in the ACI Worldwide and Insession Technologies
business units is an increase in demand for services in the IntraNet business
unit resulting from the migration of its customers from the Digital VAX-based
Money Transfer System ("MTS") product to the new RS6000-based MTS product.
Expenses. Total operating expenses for the second quarter of fiscal 2003
decreased $3.5 million, or 5.8%, as compared to the same period of fiscal 2002.
Total operating expenses for the first six months of fiscal 2003 decreased $10.0
million, or 8.1%, as compared to the same period of fiscal 2002. During fiscal
2002, the Company put an emphasis on reducing overall staffing levels through
attrition or delayed hiring decisions in an attempt to reduce operating
expenses. In addition, approximately $1.4 million of the decrease in operating
expenses for the second quarter of fiscal 2003, and $4.0 million of the decrease
in operating expenses for first six months of fiscal 2003, was due to the sale
of Regency.
Cost of software license fees for the second quarter of fiscal 2003
decreased $1.7 million, or 20.9%, as compared to the same period of fiscal 2002.
Cost of software license fees for the first six months of fiscal 2003 decreased
$4.9 million, or 28.8%, as compared to the same period of fiscal 2002. The
decrease in cost of software license fees for the second quarter and first six
months of fiscal 2003, as compared to the same periods in fiscal 2002, was due
primarily to a decrease in amortization of software products that are now fully
amortized of $1.5 million and $3.5 million, respectively, for the three and six
months ended March 31, 2003, as well as decreases in personnel-related expenses
due to reduced staff levels. In addition, distributor commissions decreased due
to lower revenue levels.
Cost of maintenance and services for the second quarter of fiscal 2003
decreased $0.7 million, or 4.2%, as compared to the same period of fiscal 2002.
Cost of maintenance and services for the first six months of fiscal 2003
decreased $1.9 million, or 5.9%, as compared to the same period of fiscal 2002.
The decrease in cost of maintenance and services for the second quarter and
first six months of fiscal 2003, as compared to the same periods in fiscal 2002,
was primarily the result of fewer staff (internal and external) needed to
support the Company's ACI Worldwide and Insession Technologies services-related
business, which experienced declines in demand.
Research and development ("R&D") costs for the second quarter of fiscal
2003 decreased $0.6 million, or 6.3%, as compared to the same period of fiscal
2002. Research and development ("R&D") costs for the first six months of fiscal
2003 decreased $1.7 million, or 9.2%, as compared to the same period of fiscal
2002. R&D costs as a percentage of total revenues for the first six months of
fiscal 2003 and 2002 were 12.4% and 12.4%, respectively.
Selling and marketing costs for the second quarter of fiscal 2003 were
comparable to the same period of fiscal 2002. Selling and marketing costs for
the first six months of fiscal 2003 decreased $0.5 million, or 1.7%, as compared
to the same period of fiscal 2002, resulting primarily from a decreased emphasis
on advertising and promotional
26
programs, offset by increased marketing commissions. Selling and marketing costs
as a percentage of total revenues for the first six months of fiscal 2003 and
2002 were 20.7% and 19.2%, respectively. This increase is primarily due to lower
revenue levels and the shift in sales focus from the Company's more-established
products to its newer BASE24-es product and its Payments Management products.
General and administrative costs for the second quarter of fiscal 2003
decreased $0.7 million, or 4.7%, as compared to the same period of fiscal 2002.
General and administrative costs for the first six months of fiscal 2003
decreased $1.0 million, or 3.6%, as compared to the same period of fiscal 2002.
The decrease in general and administrative costs for the second quarter and
first six months of fiscal 2003, as compared to the same periods in fiscal 2002,
is primarily due to the sale of Regency during the second quarter of fiscal
2002.
Other Income and Expense. Interest expense for the second quarter of fiscal
2003 decreased $0.7 million, or 45.5%, as compared to the same period of fiscal
2002. Interest expense for the first six months of fiscal 2003 decreased $1.3
million, or 43.1%, as compared to the same period of fiscal 2002. The decrease
was attributable to a reduction in debt - financing agreements (balance at March
31, 2003 of $32.3 million as compared to $50.0 million at March 31, 2002) and a
change in the amount of borrowings outstanding under the line of credit (there
were no borrowings under the line of credit during the six months ended March
31, 2003).
Other income (net) for the second quarter of fiscal 2003 decreased $8.0
million as compared to the same period of fiscal 2002. Results from the second
quarter of fiscal 2002 included a gain on $8.3 million from the sale of Regency.
Other income (net) for the first six months of fiscal 2003 decreased by $4.7
million as compared to the same period of fiscal 2002. During the first six
months of fiscal 2002, the Company recorded a gain of $8.3 million from the sale
of Regency offset by impairments of marketable equity securities totaling $3.7
million, which resulted in the decrease between corresponding periods.
Income Taxes. The effective tax rate for the second quarter of fiscal 2003
was approximately 62.5% as compared to 59.3% for the same period of fiscal 2002.
The effective tax rate for the first six months of fiscal 2003 was approximately
57.3% as compared to 59.4% for the same period of fiscal 2002. The effective tax
rate for the second quarter and first six months of fiscal 2003 was primarily
impacted by non-recognition of tax benefits for operating losses in certain
foreign locations and recognition of a valuation allowance for foreign tax
credits. The effective tax rate for the second quarter and first six months of
fiscal 2002 was primarily impacted by non-recognition of tax benefits for
operating losses in certain foreign locations, recognition of a valuation
allowance for foreign tax credits, foreign tax rate differentials and gain on
sale of subsidiary.
Each quarter, the Company evaluates its historical operating results as
well as its projections for the future to determine the realizability of its
deferred tax assets. As of March 31, 2003, the Company has deferred tax assets
of $33.1 million (net of $54.1 million valuation allowance). The Company
analyzes the recoverability of its net deferred tax assets at each reporting
period. Because unforeseen factors may affect future taxable income, additional
increases to the valuation reserve may be required in future periods.
The Company has retained tax professionals to review the Company's overall
tax position and make recommendations for reducing the effective tax rate. The
tax professionals are in the initial stages of their review. It is possible that
the Company will be able to reduce its current effective tax rate, which could
have a positive impact on net income (loss). There can be no assurance that the
Company will be able to reduce its effective tax rate, and assuming the Company
is successful in reducing the rate, there can be no assurance of the timing and
amount of any such reduction.
Liquidity and Capital Resources
As of March 31, 2003, the Company's principal sources of liquidity
consisted of $94.6 million in cash, cash equivalents and marketable securities.
The Company has a $15.0 million line of credit agreement that expires in June
2003. This credit agreement is secured by certain trade receivables and provides
that the Company must satisfy certain specified earnings, working capital and
minimum tangible net worth requirements, as defined, and places restrictions on
the Company's ability to, among other things, sell assets, incur debt, pay
dividends, participate in mergers and make investments or guarantees. Interest
on this credit facility, which is payable monthly, accrues at an annual rate,
selected by the Company, equal to either the bank's prime rate or the LIBOR rate
plus 2%. As a result of the restatements of its consolidated financial
statements, the Company is not in compliance with the debt covenants
27
as of March 31, 2003 and the line is unavailable for borrowing purposes. The
Company had no line of credit borrowings outstanding as of March 31, 2003, and
currently does not intend to renew the line of credit agreement.
The Company's net cash flows provided by operating activities for the first
six months of fiscal 2003 amounted to $13.9 million as compared to $32.0 million
provided by operating activities during the same period of fiscal 2002. The
decrease in operating cash flows resulted primarily from changes in billed and
accrued receivables, accounts payable, deferred revenue and income taxes.
The Company's net cash flows used in investing activities totaled $0.5
million for the first six months of fiscal 2003 as compared to $1.4 million
provided by investing activities during the same period of fiscal 2002. During
the first six months of fiscal 2003, the Company purchased software, property
and equipment of $1.1 million as compared to $3.4 million for the same period of
fiscal 2002. The Company also realized net proceeds of $5.0 million related to
the sale of Regency during the second quarter of fiscal 2002.
The Company's net cash flows used in financing activities totaled $10.9
million for the first six months of fiscal 2003 as compared to $17.9 million
used in financing activities during the same period of fiscal 2002. In the past,
an important contributor to the cash management program was the Company's
factoring of future revenue streams, whereby interest in its future monthly
license payments under installment or long-term payment arrangements is
transferred on a non-recourse basis to third-party financial institutions in
exchange for cash. The Company did not factor any future revenue streams during
the first six months of fiscal 2003. During the first six months of fiscal 2002,
the Company generated cash flows from the factoring of future revenue streams of
$5.8 million. During the first six months of fiscal 2003 and 2002, payments made
to the third-party financial institutions were $11.0 million and $13.0 million,
respectively. In addition, during the first six months of fiscal 2002, the
Company made payments on its bank line of credit facilities of $12.0 million.
The Company believes that its existing sources of liquidity, including cash
on hand, marketable securities and cash provided by operating activities, will
satisfy the Company's projected liquidity requirements for the foreseeable
future.
Forward-Looking Statements
This report contains forward-looking statements based on current
expectations that involve a number of risks and uncertainties. Generally,
forward-looking statements do not relate strictly to historical or current
facts, and include words or phrases such as "management anticipates," "the
Company believes," "the Company anticipates," "the Company expects," "the
Company plans," "the Company will," and words and phrases of similar impact, and
include but are not limited to statements regarding operations, business
strategy and business environment. The forward-looking statements are made
pursuant to safe harbor provisions of the Private Securities Litigation Reform
Act of 1995. Actual results could differ materially. Factors that could cause
actual results to differ include, but are not limited to, the following:
o The Company's calculation of backlog is based on customer contracts
that exist on the date of the calculation. A number of factors may
change after the date of calculation that could result in actual
revenues being less than the amounts contained in backlog. The
Company's customers may attempt to renegotiate or terminate their
contracts due to a number of factors, including mergers, changes in
their financial condition, or general changes in economic conditions
in the customer's industry or geographic location, or the Company may
experience delays in the development or delivery of products or
services specified in customer contracts. Accordingly, there can be
no assurance that contracts included in recurring or non-recurring
revenue backlog will actually generate the specified revenues or that
the actual revenues will be generated within the one-year period.
o The Company is currently in the process of evaluating the claims made
in various lawsuits filed against the Company relating to its recent
restatement of financial results. The Company intends to defend the
foregoing lawsuits vigorously, but cannot predict the outcome and is
not currently able to evaluate the likelihood of its success or the
range of potential loss, if any. However, if the Company were to lose
these lawsuits or if they were not settled on favorable terms, the
judgment or settlement would likely have a material adverse effect on
its consolidated financial position, results of operations and cash
flows.
28
The Company has insurance that provides an aggregate coverage of $20.0
million for the period during which the lawsuits were filed, but cannot
evaluate at this time whether such coverage will be available or
adequate to cover losses, if any, arising out of these lawsuits. If
these policies do not adequately cover expenses and certain liabilities
relating to these lawsuits, the Company's consolidated financial
condition, results of operations and cash flows could be materially
harmed. The Company's certificate of incorporation provides that it
will indemnify and advance expenses to its directors and officers to
the maximum extent permitted by Delaware law. The indemnification
covers any expenses and liabilities reasonably incurred by a person, by
reason of the fact that such person is or was or has agreed to be a
director or officer, in connection with the investigation, defense and
settlement of any threatened, pending or completed action, suit,
proceeding or claim.
o The Company has restated certain of its prior financial statements as a
result of reevaluating the accounting for several historical
transactions. The Company is uncertain whether the lawsuits, change in
the application of accounting principles and/or the restatement of
prior period financial results will have a material adverse effect on
the Company's customer, supplier or other business relationships.
o As a result of the Company's restatement of its prior consolidated
financial statements, it is likely that the Company will be subject
to investigation by governmental authorities, including the
Securities and Exchange Commission. The Securities and Exchange
Commission has been in contact with the Company about the restatement
process, but the Company has not been notified of a formal
investigation. In the event that the Company is subject to such a
formal investigation, the Company intends to cooperate with such
investigation. There is risk that such an investigation could result
in substantial costs and divert management attention and resources,
which could adversely affect the Company's business.
o New accounting standards, or additional interpretations or guidance
regarding existing standards, could be issued in the future, which
could lead to unanticipated changes in the Company's current financial
accounting policies. These changes could affect the timing of revenue
or expense recognition and cause fluctuations in operating results.
o No assurance can be given that operating results will not vary.
Fluctuations in quarterly operating results may result in volatility
in the Company's stock price. The Company's stock price may also be
volatile, in part, due to external factors such as announcements by
third parties or competitors, inherent volatility in the
high-technology sector and changing market conditions in the
industry. The Company's stock price may also become volatile, in
part, due to the announced change in the application of certain
accounting principles and/or the restatement of prior period
financial results.
o The Company will continue to derive a majority of its total revenue
from international operations and is subject to risks of conducting
international operations including: difficulties in staffing and
management, reliance on independent distributors, longer payment
cycles, volatilities of foreign currency exchange rates, compliance
with foreign regulatory requirements, variability of foreign economic
conditions, and changing restrictions imposed by U.S. export laws.
o The Company will continue to derive a substantial majority of its total
revenue from licensing its BASE24 family of software products and
providing services and maintenance related to those products. Any
reduction in demand for, or increase in competition with respect to,
BASE24 products would have a material adverse effect on the Company's
financial condition and results of operations.
o Prior to its May 2002 merger with HP, Compaq Computer Corporation
announced a plan to consolidate its high-end performance enterprise
servers on the Intel Corp. Itanium microprocessor by 2004. The Company
has not determined whether consolidation of the high-end servers, if it
occurs as announced, will materially affect the Company's business,
financial position or results of operations.
o The Company will continue to derive a substantial portion of its
revenues from licensing of software products that operate on HP NonStop
Himalaya servers. Any reduction in demand for these servers or in HP's
ability to deliver products on a timely basis could have a material
adverse effect on the Company's financial condition and results of
operations.
29
o The Company's business is concentrated in the banking industry, making
it susceptible to a downturn in that industry. Further, banks are
continuing to consolidate, decreasing the overall number of potential
buyers of the Company's products and services.
Any or all of the forward-looking statements may turn out to be wrong. They
can be affected by inaccurate assumptions or by known or unknown risks and
uncertainties. Many of these factors will be important in determining the
Company's actual future results. Consequently, no forward-looking statement can
be guaranteed. Actual future results may vary materially from those expressed or
implied in any forward-looking statements.
These cautionary statements and any other cautionary statements that may
accompany such forward-looking statements, whether written or oral, expressly
qualify all of the forward-looking statements. In addition, the Company
disclaims any obligation to update any forward-looking statements after the date
of this report unless applicable securities laws require it to do so.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
There have been no material changes to the Company's market risk for the
six months ended March 31, 2003. See the Company's annual report on Form 10-K
for the fiscal year ended September 30, 2002 for additional discussions
regarding quantitative and qualitative disclosures about market risk.
Item 4. Controls and Procedures
As noted in the Company's Form 10-K for the fiscal year ended September 30,
2002 and the Form 10-Q for the quarter ended December 31, 2002, management and
KPMG advised the Company's Audit Committee that within the 90-day period prior
to the date of filing those reports, they noted deficiencies in internal
controls relating to:
o revenue recognition procedures;
o formal policies and procedures for significant transactions;
o centralized oversight for international operations;
o timely reconciliation of general ledger accounts; and
o staffing and training of personnel.
KPMG has advised the Audit Committee that these internal control
deficiencies constitute reportable conditions and, collectively, a material
weakness as defined in Statement of Auditing Standards No. 60. Certain of these
internal control weaknesses may also constitute deficiencies in the Company's
disclosure controls. Within the 90-day period prior to the date of filing this
quarterly report on Form 10-Q, management has advised the Company's Audit
Committee that the previously noted deficiencies in internal controls continue
to exist although corrective actions have been taken and additional corrective
actions will be implemented in the future. The Company has performed substantial
additional procedures designed to ensure that these internal control
deficiencies do not lead to material misstatements in its consolidated financial
statements and to enable the completion of KPMG's quarterly review of its
consolidated financial statements, notwithstanding the presence of the internal
control weaknesses noted above. Based on these additional procedures, the Chief
Executive Officer and Chief Financial Officer have concluded that the Company's
disclosure controls and procedures are effective to ensure that information
required to be disclosed by the Company in reports that it files or submits
under the Securities Exchange Act of 1934 is recorded, processed, summarized and
reported within the time periods specified in Securities and Exchange Commission
rules and forms.
The corrective actions that have been taken by the Company are as follows:
1. The Company has retained an independent accounting firm to assist in
the evaluation of the Company's existing internal controls and
disclosure controls and make suggestions for improvement;
2. The Company has reviewed and revised certain of its revenue recognition
practices and contracting management policies and procedures;
3. The Company has conducted formalized training of finance, sales and
other staffs;
30
4. The Company has enhanced its internal audit department and hired two
full-time professionals;
5. The Company has established a disclosure control committee to review
all public reporting; and
The Company intends to implement additional corrective actions to enhance
the previously adopted corrective actions. In connection with the requirements
of Section 404 of the Sarbanes-Oxley Act, the Company has begun to evaluate its
internal controls over financial reporting and has retained an independent
accounting firm to assist in this evaluation. The Company will also continue to
evaluate the effectiveness of its disclosure controls and internal controls and
procedures on an ongoing basis, and will take further action as appropriate.
31
PART II--OTHER INFORMATION
Item 1. Legal Proceedings
Class Action Litigation. The Company is aware of announcements for three
class action complaints in connection with the re-audit and restatement of the
Company's prior period financial statements. The Company has obtained copies of
two class action complaints. The Company and its external legal advisors have
searched for the third announced class action complaint but have not found it
filed in the court where it was stated to be filed and have concluded that the
third announced complaint has not been filed. The two complaints obtained by the
Company are Desert Orchid Partners v. the Company, et al and Nancy Rosen v. the
Company, et al. Based on the two complaints which are publicly available, the
Company understands that the plaintiffs allege violations of Sections 10(b) and
20(a) of the Securities Exchange Act of 1934 (the "Exchange Act") and Rule 10b-5
thereunder, on the grounds that certain of the Company's Exchange Act reports
and press releases contained untrue statements of material facts, or omitted to
state facts necessary to make the statements therein not misleading, with regard
to the Company's revenues and expenses during the class period. The complaints
allege that during the purported class periods, the Company and the named
officers and directors misrepresented the Company's historical financial
condition, results of operations and its future prospects, and failed to
disclose facts that could have indicated an impending decline in the Company's
revenues. The plaintiffs are seeking unspecified damages, interest, fees, costs
and rescission. The class periods stated in the two complaints are January 21,
1999 through November 18, 2002 and December 29, 1999 through August 14, 2002.
The Company and four of the individual defendants have been served with process
with respect to the Rosen case only. The Company and the individual defendants
that have been served plan on filing a motion to dismiss on or before their
required answer dates.
Derivative Litigation. On January 10, 2003, Samuel Naito filed the suit of
"Samuel Naito, Derivatively on behalf of Nominal Defendant Transaction Systems
Architects, Inc. v. Roger K. Alexander, Gregory D. Derkacht, Gregory J. Duman,
Larry G. Fendley, Jim D. Kever, and Charles E. Noell, III and Transaction
Systems Architects, Inc." in the State District Court in Douglas County,
Nebraska (the "Naito matter"). The suit is a shareholder derivative action that
generally alleges that the named individuals breached their fiduciary duties of
loyalty and good faith owed to the Company and its shareholders by causing the
Company to conduct its business in an unsafe, imprudent and unlawful manner
resulting in damage to the Company. More specifically, the plaintiff alleges
that the individual defendants, and particularly the members of the Company's
audit committee, failed to implement and maintain an adequate internal
accounting control system that would have enabled the Company to discover
irregularities in its accounting procedures of certain transactions prior to
August 2002, thus violating their fiduciary duties of loyalty and good faith,
generally accepted accounting principles and the Company's audit committee
charter. The plaintiff seeks to recover an unspecified amount of money damages
allegedly sustained by the Company as a result of the individual defendants'
breaches of fiduciary duties, as well as the plaintiff's costs and disbursements
related to the suit.
On January 24, 2003, Michael Russiello filed the suit of "Michael
Russiello, Derivatively on behalf of Nominal Defendant Transaction Systems
Architects, Inc. v. Roger K. Alexander, Gregory D. Derkacht, Gregory J. Duman,
Larry G. Fendley, Jim D. Kever, and Charles E. Noell, III and Transaction
Systems Architects, Inc." in the State District Court in Douglas County,
Nebraska (the "Russiello matter"). The suit is a shareholder derivative action
that generally alleges that the named individuals breached their fiduciary
duties of loyalty and good faith owed to the Company and its shareholders by
causing the Company to conduct its business in an unsafe, imprudent and unlawful
manner resulting in damage to the Company. More specifically, the plaintiff
alleges that the individual defendants, and particularly the members of the
Company's audit committee, failed to implement and maintain an adequate internal
accounting control system that would have enabled the Company to discover
irregularities in its accounting procedures of certain transactions prior to
August 2002, thus violating their fiduciary duties of loyalty and good faith,
generally accepted accounting principles and the Company's audit committee
charter. The plaintiff seeks to recover an unspecified amount of money damages
allegedly sustained by the Company as a result of the individual defendants'
breaches of fiduciary duties, as well as the plaintiff's costs and disbursements
related to the suit.
The Company filed a Motion to Dismiss in the Naito matter on February 14,
2003, and a Motion to Dismiss in the Russiello matter on February 21, 2003. A
hearing was scheduled on those Motions for March 14, 2003. Just prior to that
date, Plaintiffs' counsel requested that the derivative lawsuits be stayed
pending a determination of an anticipated motion to dismiss to be filed in the
class action lawsuits when and if service of process is achieved.
32
The Company, by and through its counsel, agreed to that stay. As a result, no
other defendants have been served and no discovery has been commenced.
These class action and derivative lawsuits were brought in the United
States District Court for the District of Nebraska and the Nebraska District
Courts, respectively, and are at preliminary stages. The Company is currently in
the process of preparing to respond to the claims made in the lawsuits. The
Company intends to defend the foregoing lawsuits vigorously, but, since the
lawsuits have only recently been filed and are in the very early stages, the
Company cannot predict the outcome and is not currently able to evaluate the
likelihood of success or the range of potential loss, if any, that might be
incurred in connection with such actions. However, if the Company were to lose
any of these lawsuits or if they were not settled on favorable terms, the
judgment or settlement may have a material adverse effect on the Company's
consolidated financial position, results of operations and cash flows. The
Company has insurance that provides an aggregate coverage of $20.0 million for
the period during which the claims were filed, but cannot evaluate at this time
whether such coverage will be available or adequate to cover losses, if any,
arising out of these lawsuits.
Additional suits against the Company may be commenced in the future. The
Company will fully analyze these allegations once all of the complaints are
received and intends to vigorously defend against them. There is a risk that
such litigation could result in substantial costs and divert management
attention and resources from its business, which could adversely affect the
Company's business.
In connection with the re-audit and restatement of the Company's prior
period financial statements, the Company has been in contact with the Securities
and Exchange Commission Enforcement Division. On December 9, 2002, certain of
the Company's officers and external legal counsel held a telephone conference
with representatives of the SEC Enforcement Division. The Company had a
follow-up meeting with the SEC Enforcement Division on March 14, 2003. At this
meeting, the SEC representatives asked questions about the restatement. The SEC
Enforcement Division also requested that the Company provide additional written
information regarding the restatement. The Company supplied this information on
March 21, 2003. The Company has not received any follow-up inquiries from the
SEC Enforcement Division since March 21, 2003. To the knowledge of the Company,
the SEC Enforcement Division has not issued a formal order of investigation. The
Company intends to cooperate fully with the SEC on any additional inquiries.
In addition to the foregoing, 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 currently a party to any such legal proceedings,
other than as described above, the adverse outcome of which, individually or in
the aggregate, would have a material adverse effect on the Company's financial
condition or results of operations
Item 4. Submission of Matters to a Vote of Security Holders
The Company's Annual Meeting of Stockholders was held on February 27, 2003.
The only matter voted upon at such meeting and the number of shares cast for, or
withheld, are as follows:
1. Election of directors to hold office until the next Annual Meeting of
Stockholders:
Nominee For Withheld
Harlan F. Seymour 33,417,419 927,959
Frank R. Sanchez 33,889,407 455,971
Jim D. Kever 33,298,171 1,047,207
Roger K. Alexander 33,366,290 979,088
Gregory D. Derkacht 33,244,644 1,100,734
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits:
10.01 First Amended and Restated Employment Agreement between Transaction
Systems Architects, Inc. and Gregory D. Derkacht
10.02 Severance Compensation Employment Agreement between Transaction
Systems Architects, Inc. and Gregory D. Derkacht
33
99.01 Certification of Chief Executive Officer pursuant to
18 U.S.C. Section 1350, as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002
99.02 Certification of Chief Financial Officer pursuant to
18 U.S.C. Section 1350, as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002
(b) Reports on Form 8-K:
The Company filed a current report on Form 8-K on January 8, 2003
announcing that it received an extension to January 13, 2003 to file restated
financial information for fiscal 2002, 2001 and 2000 with the SEC and Nasdaq,
and that it will continue to be listed on the NASDAQ National Market during the
extension period.
The Company filed a current report on Form 8-K on January 14, 2003
announcing the completion of its re-audit and the January 13, 2003 filing of its
Form 10-K, including fourth quarter results and restated financial statements
for prior periods.
The Company filed a current report on Form 8-K on January 16, 2003
announcing that NASDAQ Listing Qualifications Panel determined to continue the
listing of the Company's common stock on the NASDAQ National Market and that the
delisting proceedings have been closed.
The Company filed a current report on Form 8-K on February 18, 2003
announcing that on February 13, 2003, the Company issued a press release with
its fiscal 2003 first quarter results.
The Company filed a current report on Form 8-K on March 5, 2003 announcing
the issuance of a reminder notice to its Directors and Executive Officers that
March 20th is the beginning of the Company's Stock Trading Black-Out Period for
the current quarter, continuing through and including the third business day
after the quarter's financial results have been publicly released.
The Company filed a current report on Form 8-K on March 13, 2003 announcing
the addition of John D. Curtis and John E. Stokely to the Company's Board of
Directors, bringing the total number of board members to seven, effective March
11, 2003.
34
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
TRANSACTION SYSTEMS ARCHITECTS, INC.
(Registrant)
Date: May 14, 2003 By: /s/ DWIGHT G. HANSON
------------------------------------
Dwight G. Hanson
Chief Financial Officer, Treasurer
and Senior Vice President
35
CERTIFICATION OF CHIEF EXECUTIVE OFFICER
I, Gregory D. Derkacht, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Transaction Systems
Architects, Inc.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that material
information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities,
particularly during the period in which this quarterly report is being
prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the registrant's auditors and the audit committee of
registrant's board of directors (or persons performing the equivalent function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to record,
process, summarize and report financial data and have identified for the
registrant's auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
Date: May 14, 2003 By: /s/ GREGORY D. DERKACHT
------------------------------------
Gregory D. Derkacht
Chief Executive Officer, President
and Director
36
CERTIFICATION OF CHIEF FINANCIAL OFFICER
I, Dwight G. Hanson, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Transaction Systems
Architects, Inc.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that material
information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities,
particularly during the period in which this quarterly report is being
prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the registrant's auditors and the audit committee of
registrant's board of directors (or persons performing the equivalent function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to record,
process, summarize and report financial data and have identified for the
registrant's auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
Date: May 14, 2003 By: /s/ DWIGHT G. HANSON
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Dwight G. Hanson
Chief Financial Officer, Treasurer
and Senior Vice President
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