UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended July 31, 2002
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM TO
Commission file number 000-29757
VERSATA, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 68-0255203
(State or other jurisdiction of (I.R.S. Employer
Incorporation or organization) Identification No.)
300 Lakeside Drive, Suite 1500
OAKLAND, CA 94612
(Address of principal executive offices)(Zip Code)
(510) 238-4100
(Registrant's telephone number, including area code)
----------------
December 31
(former fiscal year end)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Sections 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 [ ]
As of August 31, 2002, the total number of outstanding shares of the
Registrant's common stock was 7,343,470.
INDEX
PAGE NUMBER
-----------
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements:
Condensed Consolidated Balance Sheets at
July 31, 2002 and at October 31, 2001 (unaudited) ................... 3
Condensed Consolidated Statements of Operations and
Comprehensive Loss for the Three and Nine Months
Ended July 31, 2002 and June 30, 2001 (unaudited) ................... 4
Condensed Consolidated Statements of Cash Flows for the
Nine Months Ended July 31, 2002 and June 30, 2001 (unaudited) ....... 5
Notes to Condensed Consolidated Financial Statements ................... 6
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations .................. 10
Item 3. Quantitative and Qualitative Disclosures About Market Risk ..... 23
PART II. OTHER INFORMATION
Item 1. Legal Proceedings .............................................. 23
Item 4. Submission of Matters to a Vote of Security Holders ............ 24
Item 6. Exhibits and Reports on Form 8-K ............................... 24
Signatures ............................................................. 26
2
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
VERSATA, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands)
(unaudited)
July 31, October 31,
2002 2001
--------- ---------
ASSETS
Current assets:
Cash and cash equivalents $ 12,408 $ 21,871
Short-term investments 5,249 3,036
Accounts receivable, net 3,057 3,975
Unbilled receivables 114 236
Prepaid expenses and other assets 1,010 848
--------- ---------
Total current assets 21,838 29,966
Restricted cash 5,445 5,445
Property and equipment, net 4,512 6,257
Intangibles, net 2,469 3,898
Other assets 129 216
--------- ---------
Total assets $ 34,393 $ 45,782
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 726 $ 1,062
Accrued liabilities 4,029 6,177
Accrued restructuring 544 1,420
Deferred revenue 5,799 6,246
Current portion of long-term debt 167 237
--------- ---------
Total current liabilities 11,265 15,142
Accrued restructuring, less current portion 1,022 1,513
Long-term debt, less current portion 170 337
--------- ---------
Total liabilities 12,457 16,992
--------- ---------
Stockholders' equity
Common stock 43 42
Additional paid-in capital 216,238 217,379
Treasury stock (109) (1,383)
Notes receivable from shareholders (23) (301)
Unearned stock-based compensation (981) (2,585)
Accumulated other comprehensive loss (174) (210)
Accumulated deficit (193,058) (184,152)
--------- ---------
Total stockholders' equity 21,936 28,790
--------- ---------
Total liabilities and stockholders' equity $ 34,393 $ 45,782
========= =========
The accompanying notes are an integral part of these
condensed consolidated financial statements.
3
VERSATA, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS
(In thousands, except per share data)
(unaudited)
Three Months Ended Nine Months Ended
------------------ -----------------
July 31, 2002 June 30, 2001 July 31, 2002 June 30, 2001
---------------------------- ----------------------------
Revenue:
Software license $ 2,167 $ 5,991 $ 8,409 $ 18,160
Services 2,464 5,102 7,173 19,374
-------- -------- -------- --------
Total revenue 4,631 11,093 15,582 37,534
-------- -------- -------- --------
Cost of revenue:
Software license 63 149 169 603
Services (exclusive of stock-based compensation of 1,854 5,370 5,985 23,191
$68 and $549 for the three months ended July 31,
2002 and June 30, 2001, and $353 and $1,802 for the nine months
ended July 31, 2002 and June 31, 2001, respectively)
-------- -------- -------- --------
Total cost of revenue 1,917 5,519 6,154 23,794
-------- -------- -------- --------
Gross profit 2,714 5,574 9,428 13,740
-------- -------- -------- --------
Operating expense:
Sales and marketing (exclusive of stock-based compensation 1,716 8,657 7,048 33,562
of $70 and $1,297 for the three months ended July 31,
2002 and June 20, 2001, and $336 and $4,947 for the nine
months ended July 31, 2002 and June 30, 2001, respectively)
Product development (exclusive of stock-based compensation 1,228 2,650 4,106 9,509
of $36 and $297 for the three months ended July 31, 2002
and June 30, 2001, and $199 and $442 for the nine months ended
July 31, 2002 and June 30, 2001, respectively)
General and administrative (exclusive of stock-based compensation 1,154 3,045 3,836 11,378
of $90 and $83 for the three months ended July 31, 2002 and
June 30, 2001, and $286 and $446 for the nine months ended
July 31, 2002 and June 30, 2001, respectively)
Stock-based compensation 204 717 766 3,786
Amortization of intangibles 473 1,152 1,488 2,978
Restructuring and other non-recurring expenses (exclusive of the 428 3,504 1,316 12,106
benefit of $60 and $1,509 for the three months ended July 31, 2002,
and June 30, 2001, and $408 and $3,851 for the nine months and
June 30, 2002, relating to the reversal of previously recorded
stock-based compensation related to employees terminated in
the restructuring)
-------- -------- -------- --------
Total operating expense 5,203 19,725 18,560 73,319
-------- -------- -------- --------
Loss from operations (2,489) (14,151) (9,132) (59,579)
Interest income, net 91 489 334 2,691
Other income (expense), net (10) (53) (108) (115)
-------- -------- -------- --------
Net loss ($ 2,408) ($13,715) ($ 8,906) ($57,003)
======== ======== ======== ========
Unrealized gain (loss) on marketable securities (11) (37) (8) 21
Foreign currency translation gain (loss) (687) (195) 44 (472)
-------- -------- -------- --------
Comprehensive loss ($ 3,106) ($13,947) ($ 8,870) ($57,454)
======== ======== ======== ========
Basic and diluted net loss per share ($ 0.34) ($ 2.05) ($ 1.27) ($ 8.61)
======== ======== ======== ========
Weighted-average common shares 7,145 6,694 7,024 6,619
======== ======== ======== ========
The accompanying notes are an integral part of these
condensed consolidated financial statements.
4
VERSATA, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(unaudited)
Nine Months Ended
---------------------------
July 31, June 30,
2002 2001
-------- --------
Cash flows from operating activities:
Net loss $ (8,906) $(57,003)
Adjustments to reconcile net loss to net cash used in operating
activities:
Depreciation and amortization 3,220 5,250
Provision for doubtful accounts 227 2,931
Write-down of leashold improvements and office furniture
due to restructuring -- 2,894
Stock-based compensation expense 766 3,786
Cancellation of promissory note 263 598
Change in operating assets and liabilities:
Accounts receivable 785 (1,550)
Unbilled receivables 122 1,494
Prepaid expenses and other assets (162) 1,250
Restricted cash -- (162)
Other assets 15 1,033
Accounts payable and accrued liabilities (2,516) (4,128)
Accrued restructuring (1,438) 1,956
Deferred revenue (447) 1,108
-------- --------
Net cash used in operating activities (8,071) (40,543)
-------- --------
Cash flows from investing activities:
Net change in short-term investments (2,216) 29,725
Purchase of property and equipment (35) (11,572)
Proceeds from sale of property and equipment -- 283
Increase in notes receivable from related parties -- 26
Net cash used in connection with acquisition, net of cash acquired -- (1,884)
-------- --------
Net cash (used in) provided by investing activities (2,251) 16,578
-------- --------
Cash flows from financing activities:
Principal payments on capital lease obligations and equipment loan (166) (177)
Proceeds from issuance of common stock under employee stock
purchase plan -- 1,429
Proceeds from exercise of stock options and warrants 107 330
Repurchase of common stock from stockholders (24)
Purchase of treasury stock from former officer -- (464)
Proceeds from sale of common stock held by former officer 976 --
Net payments from stockholders on notes receivable 0 746
Loans provided to stockholders (94) (375)
-------- --------
Net cash provided by financing activities 823 1,929
-------- --------
Effects of exchange rate changes on cash 36 (195)
-------- --------
Decrease in cash and cash equivalents (9,463) (22,231)
Cash and cash equivalents at beginning of period $ 21,871 $ 42,837
-------- --------
Cash and cash equivalents at end of period $ 12,408 $ 20,142
======== ========
Supplemental disclosures of cash flow information
-------- --------
Cash paid during the period for interest $ 64 $ 76
======== ========
Supplemental schedule of noncash investing and financing activities
--------
Issuance of common stock in connection with acquisition -- $ 4,503
-------- ========
Assumption of stock options in connection with acquisition -- $ 2,098
======== ========
Notes receivable canceled in exchange for repurchase of common stock
from stockholders -- $ 1,518
======== ========
Acquisition of treasury stock in exchange for cancellation of note -- $ 919
======== ========
The accompanying notes are an integral part of these
condensed consolidated financial statements
5
VERSATA, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
1. The Company
Versata was incorporated in California on August 27, 1991, and was
reincorporated in the State of Delaware on February 24, 2000. Versata, Inc.
provides a business logic management system that enables the creation,
execution, change and re-use of business logic (the "heart" of the application)
for companies to build large, distributed applications in the J2EE (Java 2
Enterprise Edition) infrastructure. Versata, Inc. provides a declarative
approach for transaction and process logic, which enables companies to deliver
business logic as a key strategic asset of their enterprise architecture.
On December 31, 2001, Versata announced a change in its fiscal year and
from December 31 to October 31. The change was effective for the ten-month
period ended October 31, 2001. Versata had previously released results for the
three months ended March 31, June 30 and September 20 of 2001. The comparisons
in this quarterly report will be for the three and nine month periods ended July
31, 2002 and June 30, 2001. The Company will not be restating prior quarters
results as this is not practicable and cannot be cost justified. Versata's
business is not seasonal, and we believe that the results as previously reported
are comparable.
On May 17, 2002, Versata stockholders approved a reverse split of Versata's
common stock, and on May 24, 2002 the Company implemented a one for six reverse
stock split. Although there were no guarantees, the reverse stock split was
implemented to allow the Company's common stock to trade above $1.00 per share
minimum bid price as required by NASDAQ Marketplace Rules, and therefore, to
help the Company to continue its listing on the NASDAQ National Market. All
shares and per share amounts were restated to give effect to this reverse stock
split. On August 16, 2002, Versata received notification from the NASDAQ Listing
Qualification Panel that the Company was in full compliance with the
requirements necessary for continued listing on the NASDAQ national Market. In
accordance with the decision, the Company will remain listed on the NASDAQ
National Market and the hearing file was closed.
Management believes our cash and cash equivalents and short-term
investments will be sufficient to meet general expenses, working capital and
capital expenditure requirements for at least the next twelve months. However,
we may find it necessary to obtain additional equity or debt financing. In the
event additional financing is required, we may not be able to raise it on
acceptable terms or at all.
2. Interim Financial Information and Basis of Presentation
The accompanying unaudited condensed consolidated financial statements as
of July 31, 2002, and for the three and nine months ended July 31, 2002 and June
30, 2001, have been prepared in accordance with accounting principles generally
accepted in the United States of America for interim financial statements and
pursuant to the rules and regulations of the Securities and Exchange Commission,
and include the accounts of Versata, Inc. and its wholly owned subsidiaries,
located in North America, Europe, Australia, and India. Versata, collectively
referred to as the "Company" or "Versata." Intercompany accounts have been
eliminated in consolidation. Certain information and footnote disclosures
normally included in annual consolidated financial statements prepared in
accordance with generally accepted accounting principles in the United States of
America have been condensed or omitted pursuant to such rules and regulations.
In the opinion of management, the unaudited condensed consolidated financial
statements reflect all adjustments (consisting of only normal recurring
adjustments) necessary for fair presentation of the financial position as of
July 31, 2002, and the operating results for the three and nine month periods
ended July 31, 2002 and June 30, 2001, respectively, and cash flows for the nine
months ended July 31, 2002 and June 30, 2001, respectively. These unaudited
condensed consolidated financial statements should be read in conjunction with
the Company's audited consolidated financial statements and notes for the ten
month period ended October 31, 2001.
6
3. Recent Accounting Pronouncements
In October 2001, the FASB issued SFAS No. 144, "Accounting for the Impairment or
Disposal of Long-Lived Assets". SFAS No. 144 supersedes SFAS No. 121,
"Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to
Be Disposed Of." SFAS No. 144 applies to all long-lived assets (including
discontinued operations) and consequently amends Accounting Principles Board
Opinion No. 30. SFAS No. 144 develops one accounting model for long-lived assets
that are to be disposed of by sale. SFAS No. 144 requires that long-lived assets
that are to be disposed of by sale be measured at the lower of book value or
fair value less cost to sell. Additionally, SFAS No. 144 expands the scope of
discontinued operations to include all components of an entity with operations
that (1) can be distinguished from the rest of the entity and (2) will be
eliminated from the ongoing operations of the entity in a disposal transaction
SFAS No. 144 is effective for the Company for all financial statements issued in
fiscal 2002. The Company adopted of SFAS No. 144 effective November 1, 2001. The
adoption did not have a significant impact on the Company's consolidated
financial statements.
In November 2001, the FASB Emerging Issues Task Force ("EITF") issued EITF Topic
D-103, Income Statement Characterization of Reimbursements Received for
out-of-pocket Expenses Incurred, renamed issue 01-14 in January 2002, which
requires companies to report reimbursements of "out-of-pocket" expenses as
revenue and the corresponding expenses incurred as costs of revenues within the
income statement. We adopted this provision during the current fiscal year and
added $158,000 and $375,000 in services revenue and cost of services revenue for
the three and nine months ended July 31, 2002, respectively. We have also
reclassified $234,000 and $619,000 for the three and nine months ended June 30,
2001. Prior to the adoption of Issue 01-14, these costs were netted.
In June 2002, the Financial Accounting Standards Board issued SFAS No. 146,
Accounting for Exit or Disposal Activities, or SFAS 146. SFAS 146 addresses
significant issues regarding the recognition, measurement, and reporting of
costs that are associated with exit and disposal activities, including
restructuring activities that are currently accounted for under EITF No. 94-3,
Liability Recognition for Certain Employee Termination Benefits and Other Costs
to Exit an Activity (including Certain Costs Incurred in a Restructuring). The
scope of SFAS 146 also includes costs related to terminating a contract that is
not a capital lease and termination benefits that employees who are
involuntarily terminated receive under the terms of a one-time benefit
arrangement that is not an ongoing benefit arrangement or an individual
deferred-compensation contract. SFAS 146 will be effective for exit or disposal
activities that are initiated after December 31, 2002 and early application is
encouraged. We will adopt SFAS 146 during the quarter ending January 31, 2003.
The provisions of EITF No. 94-3 shall continue to apply for an exit activity
initiated under an exit plan that met the criteria of EITF No. 94-3 prior to the
adoption of SFAS 146. The effect on adoption of SFAS 146 will change on a
prospective basis the timing of when restructuring charges are recorded from a
commitment date approach to when the liability is incurred.
4. Restructuring and Other Non-Recurring Expenses
During the three months ending July 31, 2002, we continued our
restructuring efforts, and reduced our US-based workforce by twenty four
employees. All departments were impacted by this reduction.
For the nine months ending July 31, 2002, our restructuring costs included,
in addition to the reductions above:
o a settlement of a note receivable with a former executive which
resulted in a charge of $192,000 to restructuring and other
non-recurring costs.
o additional staff reductions totaling forty two employees; impacting all
Company departments and including nineteen positions in the Americas;
seventeen positions in India and six positions in Europe.
7
The following table summarizes the Company's restructuring and other
nonrecurring expenses, by geographic region (in thousands):
Employee Office Closure and Other Costs Total
Severance Subleasing Costs
Accrual balance, October 31, 2001 905 1,845 346 3,096
------ ------ ------ ------
United States additions 205 -- -- 205
Europe, Middle East, Africa (EMEA)
additions 104 -- -- 104
------ ------ ------ ------
Consolidated expense 309 -- -- 309
Cash payment in the first quarter, 2002 1,014 592 129 1,735
------ ------ ------ ------
Accrual balance, January 31, 2002 $ 200 $1,253 $ 217 $1,670
------ ------ ------ ------
United States additions 238 41 192 471
Europe, Middle East, Africa (EMEA)
additions 78 30 -- 108
------ ------ ------ ------
Consolidated expense 316 71 192 579
Noncash portion in the second quarter, 2002 -- -- 192 192
Cash payments in the second quarter, 2002 405 -- 23 428
------ ------ ------ ------
Accrual balance, April 30, 2002 $ 111 $1,324 $ 194 $1,629
------ ------ ------ ------
United States additions 400 -- -- 400
Europe, Middle East, Africa (EMEA)
additions 28 -- -- 28
------ ------ ------ ------
Consolidated expense 428 -- -- 428
Noncash portion in the third quarter, 2002
Cash payments in the third quarter, 2002 290 70 131 491
------ ------ ------ ------
Accrual balance, July 31, 2002 $ 249 $1,254 $ 63 $1,566
------ ------ ------ ------
Subsequent to October 31, 2001, there have not been any significant changes
to the Company's estimate of the total costs of prior restructuring and other
nonrecurring activities.
5. Impairment of Intangible Assets
During the ten-month period ended October 31, 2001, we performed an
impairment assessment of the identifiable intangibles and goodwill recorded in
connection with the acquisition of Verve, Inc. The assessment was performed
primarily due to the significant sustained decline in the Company's stock price
since the valuation date of the shares issued in the Verve, Inc. acquisition,
resulting in the net book value of its assets prior to the impairment charge
significantly exceeding the Company's market capitalization, the overall decline
in the industry growth rates, and projected operating results. As a result, the
Company recorded a $4.1 million impairment charge to reduce goodwill and other
identifiable intangibles. The charge was based upon the estimated discounted
cash flows over the remaining useful life of the goodwill using a discount rate
of 20%. The assumptions supporting the cash flows, including the discount rate,
were determined using the Company's best estimates as of such date. There is no
remaining goodwill balance at July 31, 2002.
8
In July 2001, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards No. 141 ("SFAS No. 141"), "Business
Combinations ." SFAS No. 141 requires the purchase method of accounting for
business combinations initiated after June 30, 2001 and eliminates the
pooling-of-interests method. In addition, the FASB issued SFAS No. 142,
"Goodwill and Other Intangible Assets," which is effective for fiscal years
beginning after March 15, 2001. SFAS No. 142 requires, among other things, the
discontinuance of goodwill amortization. In addition, the standard includes
provisions upon adoption for the reclassification of certain existing recognized
intangibles as goodwill, reassessment of the useful lives of existing recognized
intangibles, reclassification of certain intangibles out of previously reported
goodwill and the testing for the impairment of existing goodwill and other
intangibles. Versata adopted SFAS No. 142 effective November 1, 2001. The
adoption of SFAS No. 142 did not have a significant impact on our consolidated
financial statements as we had no goodwill recorded on our balance sheet on the
date of adoption.
The following table presents comparative information showing the effects that
non-amortization of goodwill would have had on the statements of operations for
the three and nine month periods ended June 30, 2001 (in thousands, except per
share amounts).
Three Months Ended Nine Months Ended
July 31, 2002 June 30, 2001 July 31, 2002 June 30, 2001
Reported net loss $ (2,408) $ (13,715) $ (8,906) $ (57,003)
Goodwill amortization -- 628 -- 1,538
------------ ----------- --------- ----------
Adjusted net loss $ (2,408) $ (13,087) $ (8,906) $ (55,465)
Basic and diluted net loss per share (0.34) (2.05) (1.27) (8.61)
Goodwill amortization -- 0.09 -- 0.23
------------ ----------- --------- ----------
Adjusted basic and diluted net loss per share $ (0.34) $ (1.96) $ (1.27) $ (8.38)
Intangible assets consist of purchased technology of $5.7 million, which is
being amortized on a straight-line basis over the expected life of 3 years.
6. Net Loss Per Share
Basic and diluted net loss per share is computed by dividing the net loss
available to holders of common stock for the period by weighted average number
of shares of common stock outstanding during the period. The calculation of
diluted net loss per share excludes potential common stock if their effect is
antidilutive. Potential common stock consists of unvested restricted common
stock, and incremental common or preferred shares issuable upon the exercise of
stock options and warrants.
The following table sets forth potential shares of common stock that
are not included in the diluted net loss per share calculation above because to
do so would be antidilutive for the periods presented (in thousands, except per
share amounts):
Three Months Ended Nine Months Ended
---------------------------- ----------------------------
July 31, 2002 June 30, 2001 July 31, 2002 June 30, 2001
---------------------------- ----------------------------
Numerator:
Net Loss ($2,408) ($13,715) ($8,906) ($57,003)
---------- --------- -------- ---------
Denominator:
Weighted average shares outstanding 7,342 7,150 7,286 6,959
Weighted average unvested shares of
common stock subject to repurchase (197) (456) (262) (340)
---------- --------- -------- ---------
Denominator for basic and diluted
calculation 7,145 6,694 7,024 6,619
Basic and diluted net loss per share $ (0.34) $ (2.05) $ (1.27) $ (8.61)
========== ========= ======== =========
9
7. Legal Proceedings
Securities Class Action
Since April 11, 2001, several securities class action complaints were filed
against us, and certain of our current and former officers and directors. In
August 2001, the class action lawsuits were consolidated before one judge in the
United States District Court for the Northern District of California. On October
19, 2001 the lead plaintiffs filed an amended class action complaint naming us,
certain of our former officers and a current director, as defendants. The
amended class action complaint alleges claims under section 10(b) and section
20(a) of the Securities Exchange Act of 1934 and claims under section 11 and 15
of the Securities Act of 1933. The amended complaint sought an unspecified
amount of damages on behalf of persons who purchased our stock during the class
period. In July 2002, we reached an agreement with the plaintiffs in principle
to settle the class action lawsuit to avoid protracted and expensive litigation
and the uncertainty of trial. The agreement for settlement does not constitute
any admission of wrongdoing on the part of Versata or the individual defendants.
Our settlement calls for a payment of $9.75 million in cash by our insurance
carriers and the issuance of 200,000 shares of our common stock. The settlement
agreement is subject to execution of definitive settlement document and Court
approval. Additional class members may opt out of the settlement and bring their
own suits, which could result in additional costs to the Company and distraction
to management. Accordingly, we expensed the minimum obligation equal to the
deductible amount of directors' and officers' liability insurance of $350,000 in
April 2001. Additional amounts, if any, will be recognized when they are
probable and estimable.
State Derivative Action
Since June 11, 2001, two derivative actions were filed on our behalf against
certain current and former officers and directors in Superior Court of Alameda
County, California. The complaints also name us as a nominal defendant. The
complaints allege that the defendants breached their fiduciary duties, abused
their control of the corporation, and engaged in gross mismanagement of the
corporation, by allegedly making or permitting the Company to make false
financial statements and seek, among other things, compensatory damages. On
November 7, 2001, the state court issued an Order granting Versata's Motion to
Stay Proceedings in the consolidated derivative action until the earlier of the
filing of an answer by Versata in the Federal action or dismissal of that
action. In July 2002, in conjunction with the settlement of the securities
litigation discussed above, we reached an agreement to settle the derivative
action. The agreement for settlement does not constitute any admission of
wrongdoing on the part of Versata or the individual defendants. Our settlement
calls for a certain corporate therapeutics to be implemented or continue to be
implemented by the Company. The settlement agreement is subject to execution of
definitive settlement document and Court approval
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion should be read in conjunction with the condensed
consolidated financial statements of Versata and the accompanying notes included
in this Form 10-Q. This Form 10-Q contains forward-looking statements within the
meaning of the Private Securities Litigation Reform Act of 1955. These
statements may contain words such as "expects," "anticipates," "intends,"
"plans," "believes," "estimates," or other words indicating future results.
These forward-looking statements include, without limitation, statements
regarding future revenue, expenses, and risks. These forward-looking
statements are based on management's current expectations, assumptions and
projections and entail various risks and uncertainties including those set forth
below under "Risk Factors That May Affect Future Results," that could cause
actual results to differ materially from those projceted in the forward-looking
statements. Versata undertakes no obligation to revise or publicly revise or
publicly release the results of any revision to these forward looking
statements. Given these risks and uncertainties, readers are cautioned not to
place undue reliance on the forward-looking statements.
We provide software and services that accelerate and simplify the way
business logic is developed and maintained for enterprise applications. Business
logic is an umbrella term referring to the aggregated set of business rules and
business processes that govern and define a business' operations. Business logic
is a critical part of today's new generation of enterprise applications, which
are increasingly built in the Java 2 Enterprise Edition (J2EE) programming
language.
From our incorporation in August 1991 through December 1994, we were a
professional services company and generated revenue from technical consulting
projects. In January 1995, we commenced development efforts on our initial
software products, from which we generated revenue from in late 1995 through
early 1998. In September 1996, we began development of our first Web-based
software product, which we began shipping commercially in September 1997. In
September 1998, we introduced the first generation of what is now our suite of
software products. To date, we have licensed our products and provided services
to approximately 500 customers around the world.
10
We derive our revenue from the sale of software product licenses and from
related services. Our software is generally priced on a per server basis.
Software license revenue also includes product maintenance, which provides the
customer with unspecified software upgrades over a specified term, typically
twelve months. Services revenue consists of fees from professional services, and
customer support. Professional services include consulting, training, mentoring,
staff augmentation and project management or rapid requirements development to
complete turnkey solution services. Customers typically purchase these
professional services from us to enlist our support by way of training and
mentoring activities directed at optimizing the customer's use of our software
product. Professional services are sold generally on a time-and-materials basis,
while customer support is priced based on the particular level of support chosen
by the customer.
We market our products and services through our direct sales force,
international distributors, consulting and system integration partners,
companies that sell pre-packaged software applications, companies that custom
develop and integrate software applications and companies that sell software
applications over the Internet on a subscription services basis, often referred
to as application service providers.
On December 31, 2001, Versata announced a change in its fiscal year from
December 31 to October 31. The change was effective for the ten-month period
ended October 31, 2001. Versata had previously released results for the three
months ended March 31, June 30 and September 30 of 2001. The comparisons in this
quarterly report will be for the three and nine month periods ended July 31,
2002 and June 30, 2001. We will not be restating prior quarters results as this
is not practicable and cannot be cost justified. Versata's business is not
seasonal, and we believe that the results as previously reported are comparable.
Net revenues from international sales represented 27% and 22% of our total
revenue for the three and nine months ended July 31, 2002 and 42% and 31% of our
total revenue for the three and nine months ended June 30, 2001.
Our cost of software license revenue consists of royalty payments to third
parties for technology incorporated into our products, the cost of manuals and
product documentation, as well as packaging, distribution and electronic
delivery costs. Our cost of service revenue consist of salaries of professional
service personnel, and payments to third party consultants incurred in providing
customer support, training, and consulting services. In accordance with Topic
D-103, we have also begun charging reimbursable expenses to cost of services
revenue. Cost of services revenue as a percentage of services revenue is likely
to vary significantly from period to period depending on overall utilization
rates, the mix of services we provide and whether these services are provided by
us or by third-party contractors.
Since our inception, we have incurred substantial costs to develop our
technology and products, to recruit and train personnel for our product
development, sales and marketing and professional services departments, and to
establish our administrative infrastructure. To date, all software development
costs have been expensed in the period incurred. Historically, our operating
expenses have exceeded the revenue generated by our products and services. As a
result, we have incurred net losses in each quarter since inception and had an
accumulated deficit of $193.1 million and $184.2 million at July 31, 2002 and at
October 31, 2001, respectively.
In January 2002, we eliminated 40 positions, or 23% of our workforce. We
expensed $309,000 to restructuring and other non-recurring expenses relating to
this reduction.
We eliminated another two positions in April of 2002, and expensed $579,000
to restructuring and other expenses.
In May 2002, we eliminated another 24 positions and expensed an additional
$428,000 in restructuring and other non-recurring expenses.
11
Segment Information
Versata identifies its operating segments based on the business activities,
management responsibility and geographical location. For both periods presented,
Versata operated in a single business segment, primarily in the United States.
Revenue for geographic regions reported below is based upon the customers'
locations. Following is a summary of the geographic information related to
revenues (in thousands):
Three Months Ended Nine Months Ended
----------------------------------- ----------------------------------
July 31, 2002 June 30, 2001 July 31, 2002 June 30, 2001
--------------------------------------------------------------------------
Software license revenue:
United States $ 1,441 $ 2,474 $ 6,504 $ 10,554
Europe 726 3,517 1,905 6,924
Other international -- -- -- 682
--------- --------- ---------- ----------
2,167 5,991 8,409 18,160
Services revenue:
United States $ 1,921 $ 3,980 $ 5,661 $ 15,464
Europe 543 1,122 1,512 3,137
Other international -- -- -- 773
--------- --------- ---------- ----------
2,464 5,102 7,173 19,374
Total revenue:
United States $ 3,362 $ 6,454 $ 12,165 $ 26,018
Europe 1,269 4,639 3,417 10,061
Other international -- -- -- 1,455
--------- --------- ---------- ----------
$ 4,631 $ 11,093 $ 15,582 $ 37,534
========= ========== ========== ==========
Long-lived assets, consisting of intangibles and property and equipment, are
based on the location of the assets, or, for intangibles, the location of the
entity owning the intangible asset. As of July 31, 2002, and October 31, 2001,
approximately $6.5 million and $9.4 million, respectively, of intangibles,
property and equipment were located in the United States, $337,000 and $644,000,
respectively, were located in Europe, and $95,000 and $107,000, respectively,
were located elsewhere.
12
Results of Operations
The following table sets forth for the periods indicated the percentage of
total revenue represented by certain lines in our Condensed Consolidated
Statements of Operations:
(In thousands)
(unaudited)
Three Months Ended Nine Months Ended
----------------------------- ---------------------------------
July 31, 2002 June 30, 2001 July 31, 2002 June 30, 2001
-------------- ------------- -------------- -------------
Revenue:
Software license 47% 54% 54% 48%
Services 53% 46% 46% 52%
-------------- ------------ -------------- -------------
Total revenue 100% 100% 100% 100%
Cost of revenue:
Software license 1% 1% 1% 2%
Services 40% 48% 38% 61%
-------------- ------------ -------------- -------------
Total cost of revenue 41% 49% 39% 63%
-------------- ------------ -------------- -------------
Gross profit 59% 51% 61% 37%
Operating expense:
Sales and marketing 37% 78% 45% 89%
Product development 27% 24% 26% 25%
General and administrative 25% 27% 25% 30%
Stock-based compensation 4% 6% 5% 10%
Amortization of intangibles 10% 10% 10% 8%
Restructuring and other
non-recurring expense 9% 32% 8% 32%
-------------- ------------ -------------- -------------
Total operating expense 112% 177% 119% 194%
Loss from operations (54)% (128)% (59)% (159)%
Interest expenses, net 2% 4% 2% 7%
Other income (expense), net -- -- (1)% --
-------------- ------------ -------------- -------------
Net loss (52)% (124)% (58)% (152)%
============== ============ ============== =============
Revenue
Total revenue consists of software license revenue and services revenue.
Total revenue decreased by $6.5 million, or 58%, to $4.6 million in the three
months ended July 31, 2002 from $11.1 million for the three months ended June
30, 2001. For the nine months ended July 31, 2002, total revenue decreased by
$22.0 million, or 58%, to $15.6 million from $37.5 million for the nine months
ended June 30, 2002.
Software License Revenue
Software license revenue decreased by $3.8 million, or 64% to $2.2 million
in the three months ended July 31, 2002 from $6.0 million for the three months
ended June 30, 2001. For the nine months ended July 31, 2002, software license
revenue decreased by $9.8 million, or 54%, to $8.4 million from $18.2 million
for the nine months ended July 31, 2002. The decrease is principally
attributable to a decrease in IT spending and overall market conditions.
13
Services Revenue
Services revenue decreased by $2.6 million, or 52%, to $2.5 million in the
three months ended July 31, 2002 from $5.1 million for the three months ended
June 30, 2001. For the nine months ended July 31, 2002, total services revenue
decreased by $12.2 million, or 63% to $7.2 million from $19.4 million for the
nine months ended June 30, 2001. This trend for professional services, and more
specifically for our consulting unit, represents our ongoing efforts to reduce
our volatility within this business by employing our partner organizations and
accepting only profitable assignments. Our services revenue is also impacted by
the level of our new software sales, which have decreased.
We adopted EITF Issue 01-14, Income Statement Characterization of
Reimbursements Received for out-of-pocket Expenses Incurred, which requires
companies to report reimbursements of "out-of-pocket" expenses as revenue and
the corresponding expenses incurred as costs of revenues within the income
statement, this fiscal year. In so doing, we increased revenue by $158,000 and
$375,000 for the three and nine months ended July 31, 2002, and $234,000 and
$619,000 for the three and nine months ended June 30, 2001.
Cost of Revenue
Total cost of revenue decreased by $3.6 million, or 65%, to $1.9 million in
the three months ended July 31, 2002 from $5.5 million for the three months
ended June 30, 2001. For the nine months ended July 31, 2002, total cost of
revenue decreased by $17.6 million, or 74% to $6.2 million from $23.8 million
for the nine months ended June 30, 2001. This decrease was mainly attributable
to management's restructuring plan initiated early 2001, which resulted in
savings in personnel, subcontracting, and office costs. We achieved positive
margins in our services organization for the third quarter in a row, for the
nine months ended July 31, 2002, though it is not guaranteed that this will
continue.
Cost of Software License Revenue
Cost of license revenue consists of royalties paid to third party vendors
for use of their product embedded in ours. Cost of software license revenue
decreased by $86,000, or 58%, to $63,000 for the three months ended July 31,
2002 from $149,000 for the three months ended June 30, 2001. For the nine months
ended July 31, 2002, cost of license revenue went down by $434,000, or 72%, to
$169,000 from $603,000 for the nine months ended July 31, 2001. The decrease is
a result of declining revenues and the result of us selling non royalty-bearing
product.
Cost of Services Revenue
Cost of service revenue consists of salaries of professional service
personnel and payments to third party consultants incurred in providing customer
support, training, and consulting services. Cost of service revenue decreased by
$3.3 million, or 65%, to $1.9 million for the three months ended July 31, 2002
from $5.4 million for the three months ended June 30, 2001. For the nine months
ended July 31, 2002, cost of services revenue went down by $17.2 million, or
74%, to $6.0 million from $23.2 million for the nine months ended June 30, 2001.
This decrease is as a result of the restructuring initiatives initiated by
management in January 2001 in response to the revenue declines.
Cost of services revenue includes $158,000 and $375,000 in reimbursable
expenses for the three and nine months ended July 31, 2002, and $234,000 and
$619,000 in reimbursable expenses for the three and nine months ended June 30,
2001 in accordance EITF Issue 01-14.
Operating Expenses
Operating expenses decreased $14.5 million, or 74%, to $5.2 million in the
three months ended July 31, 2002 from $19.7 million for the three months ended
June 30, 2001. For the nine months ended July 31, 2002, operating expenses
decreased by $54.8 million, or 75%, to $18.6 million from $73.3 million for the
nine months ended June 30, 2001. The majority of the decrease was due to our
cost-cutting initiatives and reductions in our workforce.
Sales and Marketing
Sales and marketing expense consists of salaries, commissions, and expense
from our sales offices, travel and entertainment expense, marketing programs,
and recruitment expenses. Sales and marketing expense decreased by $6.9 million,
or 80%, to $1.7 million in the three months ended July 31, 2002 from $8.7
million for the three months ended June 30, 2001. For the nine months
14
ended July 31, 2002, sales and marketing expenses decreased by $26.5 million, or
79%, to $7.0 million from $33.6 million for the nine months ended June 30, 2001.
These decreases were largely attributable to a $4.1 million and $13.9 million
reduction in salary and benefit expense for the three and nine months ending
July 31, 2002 due to the reduction in workforce during 2001. In addition, these
expenses were lower as a result of decreased spending on marketing programs and
other expenses of $1.1 million and $4.7 million for the three and nine months
ending July 31, 2002.
Product Development
Product development expense includes costs associated with the development
of new products, enhancements to existing products, quality assurance and
technical publication activities. These costs consist primarily of employee
salaries and the cost of consulting resources that supplement our product
development teams. Product development expense decreased by $1.4 million, or
54%, to $1.2 million in the three months ended July 31, 2002 from $2.7 million
for the three months ended June 30, 2001. For the nine months ended July 31,
2002, product development costs decreased by $5.4 million, or 57%, to $4.1
million from $9.5 million for the nine months ended June 30, 2001. All software
development costs are expensed in the period incurred. The decrease in costs is
mainly attributable to the reduction in workforce in 2001. We anticipate reduced
product development costs over the short term, although these expenses may
increase over the long term.
General and Administrative
General and administrative expense consists of salaries for executive,
finance and administrative personnel, information systems costs and bad debt
expense. General and administrative expense decreased by $1.9 million, or 62%,
to $1.2 million in the three months ended July 31, 2002 from $3.0 million for
the three months ended June 30, 2001. For the nine months ended July 31, 2002,
general and administrative costs decreased by $7.5 million, or 66%, to $3.8
million from $11.4 million for the three months ended June 30, 2001. The
decrease was due to a reduction in salary and benefit expense of $933,000 and
$2.8 million for the three and nine months ending July 31, 2002 versus the three
and nine months ending June 30, 2001 related to the recent reductions in the
number of general and administrative employees. Versata terminated 17 general
and administrative employees, from 32 employees at June 2001 to 15 at July 2002.
In addition, bad debt expense decreased by $321,000 and $2.1 million for the
three and nine months ending July 31, 2002 versus the three and nine months
ending June 30, 2001 as a result of our lower sales volume.
Stock-Based Compensation
Stock-based compensation expense includes the amortization of unearned
employee stock-based compensation, offset by reversals of previously expensed
amounts for cancellations of the related options. Employee stock-based
compensation expense is amortized on an accelerated basis over the vesting
period of the related options, generally 50 months. Stock-based compensation
expense also includes expenses for stock granted to consultants in exchange for
services. Stock-based compensation expense decreased by $513,000, or 72%, to
$204,000 for the three months ended July 31, 2002 from $717,000 for the three
months ended June 30, 2001. For the nine months ended July 31, 2002, stock-based
compensation expense decreased $3.0 million, or 80%, to $766,000 from $3.8
million for the nine months ended June 30, 2001. Additional unvested outstanding
options will continue to vest over the next 22 months, which will result in
additional compensation expense of approximately $981,000 in the aggregate in
periods subsequent to July 31, 2002. This future expense will be reduced in the
event of related option cancellations for employee terminations.
Amortization of Intangibles
Amortization expense decreased by $679,000, or 59%, to $473,000 for the
three months ended July 31, 2002 from $1.2 million for the three months ended
June 30, 2001. For the nine months ended July 31, 2002, amortization of
intangibles decreased by $1.5 million, or 50%, to $1.5 million from $3.0 million
for the nine months ended June 30, 2001. This decrease is the result of
Versata's goodwill impairment charge of $4.1 million recognized in October 2001.
Restructuring and Other Non-Recurring Expenses
During the three months ended July 31, 2002, we continued our restructuring
efforts, which resulted in a reduction of 24 employees. Restructuring expense
for the three months ended July 31, 2002 was $428,000, down $3.1 million, or
88%, from $3.5 million for the three months ended June 30, 2001. For the nine
months ended July 31, 2002, restructuring expenses decreased $10.8 million, or
89%, to $1.3 million from $12.1 million for the nine months ended June 30, 2001.
The reduction occurred as most of the initial expense taken for office closures,
fixed asset write-offs, and larger reductions in force which occurred during
fiscal 2001.
15
Interest Income, Net
Interest income, net, is primarily comprised of interest income from our
cash and investments. We had net interest income of $91,000 for the three months
ended July 31, 2002, a decrease of $398,000, or 81%, compared to net interest
income of $489,000 for the three months ended June 30, 2001. For the nine months
ended July 31, 2002, interest income, net, decreased $2.4 million, or 88%, to
$334,000 from $2.7 million for the nine months ended June 30, 2001. The
reduction in interest income is primarily due to our reduced cash balance and
lower interest rates earned.
Provision for Income Taxes
We have incurred operating losses for all periods from inception through
July 31, 2002. We have recorded a valuation allowance for the full amount of our
deferred tax assets, as the future realization of the tax benefits is uncertain.
Liquidity and Capital Resources
Since inception, we have funded our operations primarily through the private
sale of our equity securities and our initial public offering, resulting in
aggregate net proceeds of $167.2 million. We have also funded our operations
through equipment financing. As of July 31, 2002, we had $17.7 million in cash
and cash equivalents and short-term investments and $10.6 million in working
capital. Net cash used in operating activities was $8.1 million in the nine
months ended July 31, 2002, and $40.6 million for the nine months ended June 30,
2001. Net cash flows used by operating activities in each period reflect net
losses, offset by non-cash expenses including stock-based compensation,
depreciation and amortization, and provision for doubtful accounts. The use of
operating cash was also impacted by changes in working capital.
Net cash used in investing activities purchase was $2.2 million for the nine
months ending July 31, 2002. The decrease is primarily due to the maturity of
short-term investments. For the nine months ending June 2001, net cash provided
by investing activities was $29.7 million.
Net cash provided by financing activities was $823,000 in the nine months
ended July 31, 2002, as compared to $1.9 million for the nine months ended June
30, 2001. The decrease from last year is due to proceeds from the issuance of
stock under the employee stock purchase plan in 2001. Versata suspended employee
participation in this plan in August 2001.
We believe that our cash and cash equivalents and short-term investments
will be sufficient to meet our general expenses, working capital and capital
expenditure requirements for at least the next twelve months. However, we may
find it necessary to obtain additional equity or debt financing. In the event
additional financing is required, we may not be able to raise it on acceptable
terms or at all.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
Versata's discussion and analysis of its financial condition and results of
operations are based upon Versata's consolidated financial statements, which
have been prepared in accordance with accounting principles generally accepted
in the United States of America. The preparation of these financial statements
requires Versata to make estimates and judgments that affect the reported
amounts of assets, liabilities, revenues and expenses, and related disclosure of
contingent assets and liabilities. On an on-going basis, Versata evaluates its
estimates. Versata bases its estimates on historical experience and on various
other assumptions that are believed to be reasonable under the circumstances.
Actual results may differ from these estimates under different assumptions or
conditions.
We believe the following are critical accounting policies and estimates used
in the preparation of our condensed consolidated financial statements.
Revenue Recognition
We derive revenue from two sources as follows: (i) sale of software licenses
to end users, value added resellers (VARs), distributors, system integrators,
independent software vendors, and application service providers; and (ii)
services which include consulting, training, and post-contract customer support.
We recognize revenue in accordance with Statement of Position 97-2, "Software
Revenue Recognition." We record revenue from licensing of software products to
end-users when a license agreement is signed by both parties, the fee is fixed
or determinable, collection is reasonably assured and delivery of the product
has occurred. Generally, we provide payment terms that range from thirty days to
ninety days from the invoice date. Accordingly, payment terms that exceed ninety
days are not considered fixed or determinable and revenue is recognized as
payments become due. When contracts contain multiple elements, and for which
vendor specific objective evidence ("VSOE") of fair value exists for the
undelivered elements, we recognize revenue for the delivered elements based upon
the residual method. Undelivered elements consist primarily of
16
post contract customer support ("PCS") and other services such as consulting,
mentoring and training. Services are generally not considered essential to the
functionality of the software. We recognize revenue allocated to post-contract
customer support ratably over the period of the contracts, which is generally
twelve months. For revenue related to consulting services, we recognize revenue
as the related services are performed. In instances where services are deemed
essential to the software, both the software license fee and consulting fees are
recognized using the percentage-of-completion method of contract accounting.
Determining Functional Currencies for the Purpose of Consolidation
We have several foreign subsidiaries, which together accounted for
approximately 27% of our net revenues for the three months ended July 31, 2002,
and 6% of our assets and liabilities as of July 31, 2002.
In preparing our consolidated financial statements, we are required to
translate the financial statements of the foreign subsidiaries from the currency
in which they keep their accounting records, generally the local currency, into
United States dollars. This process results in exchange gains and losses which,
under the relevant accounting guidance, are either included within the statement
of operations or as a separate part of our net equity under the caption
"cumulative translation adjustment."
If any subsidiary's functional currency is deemed to be the local currency,
then any gain or loss associated with the translation of that subsidiary's
financial statements is included in cumulative translation adjustments. If we
dispose of any of our subsidiaries, any cumulative translation gains or losses
would be realized in our statement of operations. If we determine that there has
been a change in the functional currency of a subsidiary to the United States
dollar, any translation gains or losses arising after the date of change would
be included within our statement of operations.
The magnitude of these gains or losses is dependent upon movements in the
exchange rates of the foreign currencies in which we transact business against
the United States dollar. These currencies include the United Kingdom Pound
Sterling, the Euro, the Indian Rupee, Australian and Canadian dollars. Any
future translation gains or losses could be significantly higher than those
noted in each of these quarters. In addition, if we determine that a change in
the functional currency of one of our subsidiaries has occurred at any point in
time, we would be required to include any translation gains or losses from the
date of change in our statement of operations.
Allowance for Doubtful Accounts
We must make estimates as to the overall collectibility of accounts
receivable and provide an allowance for amounts deemed to be uncollectible.
Specifically, we analyze our accounts receivable and historical bad debt
pattern, customer concentrations, customer credit-worthiness, current economic
trends and changes in its customer payment terms when evaluating the adequacy of
our allowance for doubtful accounts.
RISK FACTORS THAT MAY AFFECT FUTURE RESULTS
We operate in a rapidly changing environment that involves numerous risks,
some of which are beyond our control. The following discussion highlights some
of these risks.
Weakening of World Wide Economic Conditions Realized in the Internet
Infrastructure Software Market May Result in Decreased Revenues or Lower Revenue
Growth Rates.
The revenue growth of our business depends on the overall demand for
computer software, particularly in the product segments in which we compete. Any
slowdown of the worldwide economy affects the buying decision of corporate
customers. Because our sales are primarily to Global 2000 customers, our
business also depends on general economic and business conditions. A reduction
in demand for computer software, caused by a weakening of the economy, such as
occurred in 2001 and continues in 2002, or otherwise, may result in decreased
revenues or lower revenue growth rates.
The Internet Infrastructure Software Market is Highly Competitive and We May
Lose Market Share to Larger Competitors With Greater Resources.
The Internet infrastructure software market in general, and the market for
our software and related services in particular, are new, rapidly evolving and
highly competitive. Many of our competitors have longer operating histories and
significantly greater financial, technical, marketing and other resources than
we do. As a result, they may be able to respond more quickly to new or changing
17
opportunities, technologies and customer requirements. Many of our competitors
also have more extensive customer bases, broader customer relationships and
broader industry alliances that they could leverage, thereby establishing
relationships with many of our current and potential customers. These companies
also have significantly more established customer support and professional
service organizations. In addition, these companies may adopt aggressive pricing
policies or offer more attractive terms to customers, may bundle their
competitive products with broader product offerings or may introduce new
products and enhancements. Furthermore, current and potential competitors may
establish cooperative relationships among themselves or with third parties to
enhance their products. As a result, it is possible that new competitors or
alliances among competitors may emerge and rapidly acquire significant market
share. If we fail to compete successfully with our competitors, the demand for
our products would decrease. Any reduction in demand could lead to loss of
market share, a decrease in the price of our products, fewer customer orders,
reduced revenues, reduced margins, and increased operating losses. These
competitive pressures could seriously harm our business and operating results.
New Versions and Releases of Our Products May Contain Errors or Defects and
Result in Loss of Revenue.
The software products we offer are complex and, despite extensive testing
and quality control, may have had, and in the future could have errors or
defects, especially when we first introduce them. Typically we need to issue
corrective releases of our software products to fix any defects or errors.
Defects or errors could also cause damage to our reputation, loss of revenues,
product returns or order cancellations, lack of market acceptance of our
products, and expose us to litigation. Accordingly, defects or errors
particularly if they are more numerous than expected could have a material and
adverse effect on our business, results of operations and financial condition.
Our Failure to Accurately Forecast Sales May Lead to a Disappointment of Market
Expectations.
Our Company uses a "pipeline" system, a common industry practice, to
forecast sales and trends in our business. Our sales personnel monitor the
status of all proposals, such as the date when they estimate that a customer
will make a purchase decision and the potential dollar amount of the sale. We
aggregate these estimates periodically in order to generate a sales pipeline. We
compare the pipeline at various points in time to look for trends in our
business. While this pipeline analysis may provide us with some guidance in
business planning and budgeting, these pipeline estimates are necessarily
speculative and may not consistently correlate to revenues in a particular
quarter or over a longer period of time. A variation in the conversion of the
pipeline into contracts or in the pipeline itself such as occurred in the fourth
quarter of 2001 and first quarter of 2002 could cause our Company to improperly
plan or budget and thereby adversely affect our business or results of
operations. In particular, the current slowdown in the economy is causing
purchasing decisions to be delayed, reduced in amount or cancelled which will
therefore reduce the overall license pipeline conversion rates in a particular
period of time.
The Price of Our Common Stock is Volatile and It May Fluctuate Significantly.
The market price of our common stock has fluctuated significantly and has
declined sharply since our initial public offering in March 2000 and more
recently in 2002. Our Company's stock price is affected by a number of factors,
some of which are beyond our control, including:
o quarterly variations in results, announcements that our revenue or
income are below analysts' expectations;
o the competitive landscape;
o technological innovations by us or our competitors;
o changes in earnings estimates or recommendations by analysts;
o sales of large blocks of our common stock, sales or the intention to
sell stock by our executives and directors;
o general economic and market conditions;
o additions or departures of key personnel;
o estimates and projections by the investment community; and
o fluctuations in our stock trading volume, which is particularly common
among highly volatile securities of software companies.
18
As a result, our stock price is subject to significant volatility. In the
past, following periods of volatility or decline in the market price of a
company's securities, securities class action litigation has at times been
instituted against that company. We are currently subject to securities
litigation, and may be subject to additional litigation. This could cause us to
incur substantial costs and experience a diversion of management's attention and
resources.
Our Quarterly Revenues and Operating Results May Fluctuate in Future Periods.
Our revenues are relatively difficult to forecast and vary from quarter to
quarter due to various factors including the:
o relatively long sales cycles for our products;
o size and timing of individual license transactions, the closing of
which tend to be delayed by customers until the end of a fiscal quarter
as a negotiating tactic;
o introduction of new products or product enhancements by us or our
competitors;
o potential for delay or deferral of customer implementations of our
software;
o changes in customer budgets;
o seasonality of technology purchases and other general economic
conditions; and
o changes in our pricing policies or those of our competitors.
Accordingly, our quarterly results are difficult to predict until the end of
the quarter. Delays in product delivery or closing of sales near the end of a
quarter caused quarterly revenues and net income to fall significantly short of
anticipated levels in the three months ended July 31, 2002, and given the
current economic slowdown, may well occur in future quarters.
Our license revenues in any quarter are substantially dependent on orders booked
and shipped in that quarter. We typically receive and fulfill a majority of our
orders within the quarter, with the substantial majority of our orders received
in the last month of each fiscal quarter. As a result, we may not learn of
revenue shortfalls until late in a fiscal quarter, after it is too late to
adjust expenses for that quarter. Since our operating expenses are relatively
fixed and are based on anticipated revenue levels, a delay in bookings from even
a small number of license transactions could cause significant variations in
revenues quarter to quarter and could cause net income to fall significantly
short of anticipated levels. Revenue shortfalls below our expectations could
have an immediate and significant adverse effect on our results of operations.
Our services revenue in any quarter is substantially dependent on our license
revenue. Services are normally purchased in conjunction with software, although
it is not a requirement. Should our license revenues decrease, there will be a
reduced market for our services. Any revenue shortfall in services could have an
immediate and significant adverse effect on our results of operations.
Our operating results have in the past been, and will continue to be,
subject to quarterly fluctuations as a result of a number of factors. These
factors include:
o competition in the Internet infrastructure software market;
o the integration of people, operations, and products from acquired
businesses and technologies;
o the overall trend toward industry consolidation;
o the introduction and market acceptance of new technologies and
standards;
o variations in mix of products sold; and
19
o changes in general economic conditions and specific economic conditions
in the Internet infrastructure software market.
Any of the above factors could have a material adverse impact on our
operations and financial results.
The Private Securities Class Action Lawsuits and State Derivative Action Against
Us and Certain of Our Directors and Officers Could Have a Material Adverse
Effect On Our Business, Financial Condition and Results of Operations.
Although we have reached an agreement in principle to settle the private
securities class action lawsuit against our Company and certain of our former
officers and a director and the two derivative actions brought on behalf of our
Company against certain current and former officers and directors, the agreement
is still subject to execution of a definitive settlement document and Court
approval. Additional class members may opt out of the settlement and bring their
own suits, which could result in additional costs to the Company and distraction
to management.
We Have Incurred Increasing Operating Losses Since Our Inception and are Likely
to Incur Net Losses and Negative Cash Flows for the Foreseeable Future.
We have experienced operating losses in each quarterly and annual period
since inception, and we expect to incur significant losses in the future. If our
revenue grows less than we anticipate or if our operating expenses increase more
than expected or are not reduced in the event of lower revenue, we may never
achieve profitability. As of July 31, 2002, we had an accumulated deficit of
$193.1 million. Although we have an objective of achieving profitability as soon
as practical, we cannot assure you that we will be successful. In order to
achieve and maintain profitability, we will need to increase revenues while
decreasing expenses.
We May Require Future Additional Funding to Stay in Business.
We may require additional financing for our operations. We have not been
operating on a profitable basis and have relied on the sale of stock to finance
our operations. We may need to return to the capital markets in order to receive
additional financing.
This additional financing may not be available to us on a timely basis if at
all, or, if available, on terms acceptable to us. Moreover, additional financing
will cause dilution to existing stockholders.
If We Do Not Develop and Enhance New and Existing Products to Keep Pace With
Technological, Market and Industry Changes, Our Revenues May Decline.
The markets for our products are characterized by rapid technological
advances in software development, evolving standards in software technology and
frequent new product introductions and enhancements. Product introductions and
short product life cycles necessitate high levels of expenditures for research
and development. To maintain our competitive position, we must:
o enhance and improve existing products and continue to introduce new
products that keep pace with technological developments;
o satisfy increasingly sophisticated customer requirements; and
o achieve market acceptance.
The success of new products is dependent on several factors including proper
new product definition, product cost, timely completion and introduction of new
products, differentiation of new products from those of our competitors, and
market acceptance of
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these products. There can be no assurance that we will successfully identify new
product opportunities, develop and bring new products to market in a timely
manner, and achieve market acceptance of our products or that products and
technologies developed by others will not render our products or technologies
obsolete or noncompetitive. Our inability to run on new or increasingly popular
operating systems, and/or our failure to successfully enhance and improve our
products in a timely manner could have a material adverse effect on our
business, results of operations, financial condition or cash flows.
If the Versata Products and Related Services Do Not Achieve Widespread Market
Acceptance, the Source of Substantially All of Our Revenue Will be at Risk.
We cannot predict the level of market acceptance that will be achieved or
maintained by our products and services. If either the Internet infrastructure
software market in general, or the market for our software or related services
in particular, fails to grow or grows more slowly than we anticipate, or if
either market fails to accept our products and related services, the source of
substantially all of our revenue will be at risk. We expect to continue to
derive substantially all our revenue from and be dependent upon the Versata
products and related services in the future. The market for the Versata products
and related services is new, rapidly evolving and highly competitive, and we
cannot be certain that a viable market for our products will ever develop or be
sustained. Our future financial performance will depend in large part on the
successful development, introduction and customer acceptance of our new
products, product enhancements and related services in a timely and cost
effective manner. We expect to continue to commit significant resources to
market and further develop our products and related services and to enhance the
brand awareness of our software and services.
If Java Technology Does Not Continue to be Widely Adopted for E-business
Application Development, Our Business Will Suffer.
Our products are based on Java technology, an object-oriented software
programming language and distributed computing platform developed by Sun
Microsystems. Java is a relatively new language and was developed primarily for
the Internet and corporate intranet applications. It is still too early to
determine whether Java will achieve greater acceptance as a programming language
and platform for enterprise applications. Alternatives to Java include
Microsoft's C# language and .net computing platform. Should Java not continue to
be widely adopted, or is adopted more slowly than anticipated, our business will
suffer. Alternatively, if Sun Microsystems makes significant changes to the Java
language or its proprietary technology, or fails to correct defects and
limitations in these products, our ability to continue improving and shipping
our products could be impaired. In the future, our customers also may require
the ability to deploy our products on platforms for which technically acceptable
Java implementations either do not exist or are not available on commercially
reasonable terms.
We Depend On Increased Business From Our Current and New Customers and If We
Fail to Generate Repeat and Expanded Business or Grow Our Customer Base, Our
Product and Services Revenue Will Likely Decline.
In order to be successful, we need to broaden our business by selling
product licenses and services to current and new customers. Many of our
customers initially make a limited purchase of our products and services for
pilot programs. These customers may not choose to purchase additional licenses
to expand their use of our products. These and other potential customers also
may not yet have developed or deployed initial software applications based on
our products. If these customers do not successfully develop and deploy these
initial software applications, they may choose not to purchase deployment
licenses or additional development licenses. In addition, as we introduce new
versions of our products or new products, our current customers may not require
the functionality of our new products and may not license these products.
If we fail to add new customers who license our products, our services
revenue will also likely decline. Our service revenue is derived from fees for
professional services and customer support related to our products. The total
amount of services and support fees we receive in any period depends in large
part on the size and number of software licenses that we have previously sold as
well as our customers electing to renew their customer support agreements. In
the event of a further downturn in our software license revenue such as it
occurred during 2001 and more recently in 2002 or a decline in the percentage of
customers who renew their annual support agreements, our services revenue could
become flat or further decline.
Our Failure to Maintain Ongoing Sales Through Distribution Channels Will Result
in Lower Revenues.
To date, we have sold our products principally through our direct sales
force, as well as through indirect sales channels, such as packaged application
software vendors (ISVs), systems integrators and independent consultants,
application service providers (ASPs) and distributors, particularly IBM. Our
ability to achieve revenue growth in the future will depend in part on our
success in making our direct sales force more efficient and in further
establishing and expanding relationships with distributors, ASPs, ISVs, OEMs and
21
systems integrators. We intend to seek distribution arrangements with additional
ISVs to embed our Versata Logic Suite and Versata Interaction Suite in their
products. It is possible that we will not be able to increase the efficiency of
our direct sales force or other distribution channels, or secure license
agreements with additional ISVs on commercially reasonable terms. Moreover, even
if we succeed in these endeavors, it still may not increase our revenues. If we
invest resources in these types of expansion and our revenues do not
correspondingly increase, our business, results of operations and financial
condition will be materially and adversely affected.
We rely on informal relationships with a number of consulting and systems
integration firms to enhance our sales, support, service and marketing efforts,
particularly with respect to implementation and support of our products as well
as lead generation and assistance in the sales process. We will need to expand
our relationships with third parties in order to support license revenue growth.
Many such firms have similar, and often more established, relationships with our
principal competitors. It is possible that these and other third parties will
not provide the level and quality of service required to meet the needs of our
customers, that we will not be able to maintain an effective, long term
relationship with these third parties, and that these third parties will not
successfully meet the needs of our customers.
Our Business is Subject to Risks From International Operations.
We conduct business internationally. Accordingly, a portion of our revenues
is derived from international sales and is therefore subject to the related
risks including the general economic conditions in each country, the overlap of
different tax structures, the difficulty of managing an organization spread over
various countries, changes in regulatory requirements, compliance with a variety
of foreign laws and regulations, longer payment cycles and volatilities of
exchange rates in certain countries. There can be no assurances that we will be
able to successfully address each of these challenges. Other risks associated
with international operations include import and export licensing requirements,
trade restrictions and changes in tariff rates.
A portion of our business is conducted in currencies other than the U.S.
dollar. Changes in the value of major foreign currencies relative to the value
of the U.S. dollar may adversely affect revenues and operating results.
As a result of the recent terrorist activities and related military and
security operations, economic activity throughout the United States and much of
the world was substantially disrupted. This significantly adversely impacted our
operations and our ability to generate revenues. Any future terrorist activities
or any continued military or security operations involving the U.S. could have a
similar or worse effect on our operating results, particularly if such attacks
or operations occur in the last month or weeks of our fiscal quarter or are
significant enough to further weaken the U.S. or global economy. In particular,
such activities and operations could result in reductions in information
technology spending, and deferrals, reductions or cancellations of customer
orders for our products and services.
If We Infringe the Patents or Proprietary Rights of Others Our Business,
Financial Condition and Operating Results Would Be Harmed.
We do not believe our products infringe the proprietary rights of third
parties, but third parties may nevertheless assert infringement claims against
us in the future. Regardless of whether these claims have merit, they can be
time consuming and expensive to defend or settle, and can harm our business and
reputation. Furthermore, we may initiate claims or litigation against third
parties for infringement of our proprietary rights or to establish the validity
of our proprietary rights. Litigation, whether resolved in our favor or not,
could be time-consuming to defend, result in increased costs, divert
management's attention and resources, cause product shipment delays or require
us to enter into unfavorable royalty or licensing agreements.
We May Incur Substantial Expenses If We are Sued for Product Liability.
Our license agreements with our customers typically contain provisions
designed to limit our exposure to potential product liability claims. It is
possible, however, that the limitation of liability provisions contained in our
license agreements may not be effective as a result of existing or future
federal, state or local laws or ordinances or unfavorable judicial decisions.
Although we have not experienced any product liability claims to date, sale and
support of our products entails the risk of such claims, which could be
substantial in light of customers' use of such products in mission-critical
applications. If a claimant brings a product liability claim against us, it
could have a material adverse effect on our business, results of operations and
financial condition. Our products interoperate with many parts of complicated
computer systems, such as mainframes, servers, personal computers, application
software, databases, operating systems and data transformation software. Failure
of any one of these parts could cause all or large
22
parts of computer systems to fail. In such circumstances, it may be difficult to
determine which part failed, and it is likely that customers will bring a
lawsuit against several suppliers. Even if our software was not at fault, we
could suffer material expense and material diversion of management time in
defending any such lawsuits.
Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Versata is exposed to a variety of risks, including changes in interest rates
affecting the return on its investments and, to a lesser extent, foreign
currency fluctuations. In the normal course of business Versata establishes
policies and procedures to manage its exposure to fluctuations in interest rates
and foreign currency values.
INTEREST RATE RISKS. Our exposure to interest rate risks results primarily from
short-term investments. These securities have been classified as cash and cash
equivalents when the maturity dates are less than 90 days at the date of
issuance, and as short-term investments when the maturity dates are between 90
and 365 days at the date of issuance. Based on our balance of cash and cash
equivalents and short-term investments at July 31, 2002, our interest risk,
based on a hypothetical increase in interest rates of 50 basis points for the
financial instruments included in our portfolio, would be a decrease of
approximately $13,532 in the value of our portfolio.
FOREIGN CURRENCY RISKS. As of July 31, 2002, Versata had operating subsidiaries
located in the United Kingdom, Canada, Germany, Australia, and France.
Internationally, Versata invoices customers primarily in local currency and we
maintain only nominal foreign currency cash balances. Working funds necessary to
facilitate the short-term operations of our subsidiaries are kept in local
currencies in which they do business. We do not currently enter into foreign
currency hedge transactions. Through July 31, 2002, foreign currency
fluctuations have not had a material impact on our financial position or results
of operations.
PART II
OTHER INFORMATION
Item 1. Legal Proceedings
Securities Class Action
Since April 11, 2001, several securities class action complaints were filed
against us, and certain of our current and former officers and directors. In
August 2001, the class action lawsuits were consolidated before one judge in the
United States District Court for the Northern District of California. On October
19, 2001 the lead plaintiffs filed an amended class action complaint naming us,
certain of our former officers and a current director, as defendants. The
amended class action complaint alleges claims under section 10(b) and section
20(a) of the Securities Exchange Act of 1934 and claims under section 11 and 15
of the Securities Act of 1933. The amended complaint sought an unspecified
amount of damages on behalf of persons who purchased our stock during the class
period. In July 2002, we reached an agreement with the plaintiffs in principle
to settle the class action lawsuit in order to avoid protracted and expensive
litigation and the uncertainty of trial. The agreement for settlement does not
constitute any admission of wrongdoing on the part of Versata or the individual
defendants. Our settlement calls for a payment of $9.75 million in cash by our
insurance carriers and the issuance of 200,000 shares of our common stock. The
settlement agreement is subject to execution of definitive settlement document
and Court approval. Additional class members may opt out of the settlement and
bring their own suits, which could result in additional costs to the Company and
distraction to management. Accordingly, we expensed the minimum obligation equal
to the deductible amount of directors' and officers' liability insurance of
$350,000 in April 2001. Additional amounts, if any, will be recognized when they
are probable and etstimable.
State Derivative Action
Since June 11, 2001, two derivative actions were filed on our behalf against
certain current and former officers and directors in Superior Court of Alameda
County, California. The complaints also name us as a nominal defendant. The
complaints allege that the defendants breached their fiduciary duties, abused
their control of the corporation, and engaged in gross mismanagement of the
corporation, by allegedly making or permitting the Company to make false
financial statements and seek, among other things, compensatory damages. On
November 7, 2001, the state court issued an Order granting Versata's Motion to
Stay Proceedings in the consolidated derivative action until the earlier of the
filing of an answer by Versata in the Federal action or dismissal of that
action. In July 2002, in conjunction with the settlement of the securities
litigation discussed above, we reached an agreement to settle the derivative
action. The agreement for settlement does not constitute any admission of
wrongdoing on the part of Versata or the individual defendants. Our settlement
calls for a certain corporate therapeutics to be implemented or continue to be
implemented by the Company. The settlement agreement is subject to execution of
definitive settlement document and Court approval.
23
Litigation and other claims
We are also subject to legal proceedings and claims, either asserted or
unasserted, which arise in the ordinary course of business. While the outcome of
these proceedings and claims cannot be predicted with certainty, management does
not believe that the outcome of any of these legal matters will have a material
adverse effect on our consolidated results of operations or consolidated
financial position. We intend to defend these actions vigorously.
Item 4. Submission of Matters to a Vote of Security Holders
The annual Shareholder Meeting of the Company was held on May 17, 2002. Proxies
for the meeting were solicited pursuant to Regulation 14A under the Exchange
Act. On the proposal to elect one Class III Director of the Company, 35,849,493
shares of the Company's voting securities voted on the matter, of which 35,767,
602 shares were voted for Mr. Robert Davoli. The Class II director and Class I
director positions were not up for re-election at the Shareholder Meeting. Mr.
Donald W. Feddersen, a Class II director, resigned his position from the board
of directors effective at the annual Shareholder Meeting, and Mr. John W.
Larson's, a Class III Director of the Company, term of office expired at the
annual Shareholder Meeting. Mr. Kanwal Rekhi and Mr. Eugene Wong are Class I
directors and their term will expire at the annual meeting following the close
of the 2002 fiscal year. Mr. Gary Morgenthaler's, Class II director of the
Company, term of office will expire at the annual meeting following the close of
the 2003 fiscal year. On the proposal to ratify the selection of
PricewaterhouseCoopers LLP, as independent public accountants for the Company
for the fiscal year ending October 31, 2002, 24,418 shares of the Company's
voting securities were abstaining, 35,809,104 shares voted for the proposal and
15,971 shares voted against the proposal. On the proposal to approve an
amendment to the Company's Second Amended and Restated Certificate of
Incorporation which effected a reverse split of our outstanding common stock at
a ratio of not less than 1-for-2 and not more than 1-for-6 and to authorize the
Board of Directors to file such amendment prior to the next annual meeting of
stockholder of the Company to be held after the close of the 2002 fiscal year,
94,512 shares of the Company's voting securities were abstaining, 35,336,620
shares voted for the proposal and 418,361 shares voted against the proposal.
Item 6. EXHIBITS AND REPORTS ON FORM 8-K
6(a) The following exhibits are included herein:
EXHIBIT
NUMBER DESCRIPTION OF DOCUMENT
------ -----------------------
99.1 Certification of Chief Executive Officer Pursuant to 18
U.S.C.ss.1350, as Adopted Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002
99.2 Certification of Chief Financial Officer Pursuant to 18
U.S.C.ss.1350, as Adopted Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002
24
6(b) Reports on Form 8-K:
The registrant did not file any reports on Form 8-K during the three months
ended July 31, 2002.
25
VERSATA, INC.
SIGNATURES
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.
VERSATA, INC.
Date: September 13, 2002 By: /s/ EUGENE WONG
--------------------
Eugene Wong
Interim Chief Executive Officer and Director
By:/s/ JAMES DOEHRMAN
----------------------
James Doehrman
Chief Operating Officer,
Chief Financial Officer, Secretary
and Executive Vice President
CERTIFICATION OF INTERIM CHIEF EXECUTIVE OFFICER
REQUIRED PURSUANT TO RULES 13A-14 OR
15-D14 OF THE 1934 SECURITIES EXCHANGE ACT
I, Eugene Wong, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Versata, 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.
Date: September 13, 2002 By: /s/ EUGENE WONG
--------------------
Eugene Wong
Interim Chief Executive Officer and Director
CERTIFICATION OF CHIEF FINANCIAL OFFICER
REQUIRED PURSUANT TO RULES 13A-14 OR
15-D14 OF THE 1934 SECURITIES EXCHANGE ACT
I, James Doehrman, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Versata, 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.
Date: September 13, 2002 By: /s/ JAMES DOEHRMAN
-----------------------
James Doehrman
Executive Vice President,
Chief Operating Officer and
Chief Financial Officer
26