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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended March 31, 2005
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: 000-20900
COMPUWARE CORPORATION
------------------------------------------
(Exact name of registrant as specified in its charter)
MICHIGAN 38-2007430
- -------------------------------- -------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
ONE CAMPUS MARTIUS, DETROIT, MI 48226-5099
------------------------------------------
(Address of principal executive offices including zip code)
Registrant's telephone number, including area code: (313) 227-7300
Securities registered pursuant to Section 12(b) of the Act: NONE
Securities registered pursuant to Section 12(g) of the Act:
COMMON STOCK, PAR VALUE $.01 PER SHARE
PREFERRED STOCK PURCHASE RIGHTS
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 if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of the registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act): Yes [X] No [ ]
The aggregate market value of the voting stock held by non-affiliates of the
registrant as of September 30, 2004, the last business day of the registrant's
most recently completed second fiscal quarter, was $1,645,029,944, based upon
the closing sales price of the common stock on that date of $5.15 as reported on
the NASDAQ Stock Market. For purposes of this computation, all executive
officers, directors and 10% beneficial owners of the registrant are assumed to
be affiliates. Such determination should not be deemed an admission that such
officers, directors and beneficial owners are, in fact, affiliates of the
registrant.
There were 388,464,724 shares of $.01 par value common stock outstanding as of
June 1, 2005.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the definitive Proxy Statement for the Registrant's 2005 Annual
Meeting of Shareholders (the "Proxy Statement") filed pursuant to Regulation 14A
are incorporated by reference in Part III.
COMPUWARE CORPORATION AND SUBSIDIARIES
FORM 10-K
TABLE OF CONTENTS
Item
Number Page
- ------ ----
PART I
1. Business 3
2. Properties 14
3. Legal Proceedings 14
4. Submission of Matters to a Vote of Security Holders 15
PART II
5. Market for the Registrant's Common Equity, Related Stockholder
Matters and Issuer Purchases of Equity Securities 16
6. Selected Consolidated Financial Data 17
7. Management's Discussion and Analysis of Financial Condition and
Results of Operations 18
7A. Quantitative and Qualitative Disclosure about Market Risk 31
8. Consolidated Financial Statements and Supplementary Data 33
9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure 61
9A. Controls and Procedures 61
9B. Other Information 63
PART III
10. Directors and Executive Officers of the Registrant 64
11. Executive Compensation 64
12. Security Ownership of Certain Beneficial Owners and Management and
Related Stockholder Matters 64
13. Certain Relationships and Related Transactions 64
14. Principal Accountant Fees and Services 64
PART IV
15. Exhibits and Financial Statement Schedule 65
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PART I
ITEM 1. BUSINESS
We deliver value to businesses worldwide by providing software products and
professional services that increase the productivity of information technology
(IT) departments. Originally founded as a professional services company, we in
the late 1970's began to offer mainframe productivity tools for fault management
and diagnosis, file and database management, and application debugging.
In the 1990's, IT moved toward distributed and web-based platforms. Our
solutions portfolio grew in response, and we now market a comprehensive
portfolio of IT solutions for both distributed and mainframe systems that help:
- Develop, test and deploy industrial-strength enterprise
applications.
- Proactively manage the availability and performance of key
applications and resolve problems before they impact the business.
- Govern, control and align the entire IT portfolio.
IT Governance was added to our solution portfolio in May 2004 with the
acquisition of Changepoint Corporation (Changepoint). Changepoint offerings help
IT organizations by providing critical insight into IT spending, operations and
management, helping technology leaders align IT investments with business
priorities.
Additionally, to be competitive in today's global economy, enterprises must
securely share applications, information and business processes. We address this
market need through our Covisint offerings, which help manage the supply chain
through the integration of vital business information and processes between
partners, customers and suppliers.
We were incorporated in Michigan in 1973. Our executive offices are located at
One Campus Martius, Detroit, Michigan 48226-5099, and our telephone number is
(313) 227-7300.
We operate in two business segments in the software and technology services
industries: products and professional services. See Note 13 of the Notes to
Consolidated Financial Statements, included in Item 8 of this report.
The following discussion may contain certain forward-looking statements within
the meaning of the federal securities laws. Numerous important factors,
including those discussed under Item 7 - Management's Discussion and Analysis of
Financial Condition and Results of Operations under the caption Forward-Looking
Statements could cause actual results to differ materially from those indicated
by such forward-looking statements.
Our Internet address is www.compuware.com. We make available, free of charge on
the web site, copies of reports we file with the Securities and Exchange
Commission as soon as reasonably practicable after we electronically file such
reports. The information contained on our web site should not be considered part
of this report.
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OUR BUSINESS STRATEGY
Our business strategy is to provide a broad range of software and professional
services offerings to the largest users of information technology in the world.
Our enterprise IT solutions are focused on providing a real return on investment
for our clients by increasing productivity, efficiency and visibility into their
IT applications throughout the application life cycle. We support the most
widely used technologies and platforms, including mainframe, distributed, Java,
..NET, Windows, UNIX, Linux, Oracle and SAP.
We offer software solutions and professional services in the four primary phases
of the application life cycle: 1) Application development, in which software
source code is created, integrated with existing applications and modified over
time; 2) Quality assurance, in which application software is executed, debugged,
tested and maintained in a series of repetitive, ongoing cycles to ensure it
will function well once implemented; 3) Application service management, in which
the performance and availability of operating systems, databases, servers,
applications and networks is monitored and managed; and 4) IT governance, which
provides IT executives with comprehensive capabilities to govern, control and
align the entire IT portfolio across development and operations.
PRODUCTS
The following table sets forth, for the periods indicated, a breakdown of
license and maintenance revenue by product line and the percentage of total
revenues for each line (dollars in thousands):
YEAR ENDED MARCH 31, PERCENTAGE OF TOTAL REVENUES
------------------------------------- ----------------------------
Product Revenue 2005 2004 2003 2005 2004 2003
--------- --------- --------- ---- ---- ----
File-AID $ 172,438 $ 169,063 $ 182,224 14.0% 13.4% 13.2%
Abend-AID 138,592 138,943 155,769 11.3 11.0 11.3
XPEDITER 108,762 113,647 110,880 8.8 9.0 8.1
QACenter Mainframe 23,343 20,004 24,527 1.9 1.6 1.8
STROBE 83,608 85,653 80,080 6.8 6.8 5.8
--------- --------- --------- ---- ---- ----
Total Mainframe Revenue 526,743 527,310 553,480 42.8 41.8 40.2
--------- --------- --------- ---- ---- ----
UNIFACE and Optimal 47,403 45,420 42,283 3.8 3.6 3.1
DevPartner 28,078 27,557 24,290 2.3 2.2 1.8
QACenter & File-AID/Client Server 42,688 39,141 34,691 3.5 3.1 2.5
Vantage 70,642 65,390 53,152 5.7 5.1 3.9
Changepoint 14,945 1.2
--------- --------- --------- ---- ---- ----
Total Distributed Product Revenue 203,756 177,508 154,416 16.5 14.0 11.3
--------- --------- --------- ---- ---- ----
Total Product Revenue $ 730,499 $ 704,818 $ 707,896 59.3% 55.8% 51.5%
========= ========= ========= ==== ==== ====
COMPUWARE SOFTWARE PRODUCTS AND THE APPLICATION LIFE CYCLE
Our software products enhance every step in the application life cycle, from
application development and testing to performance management and overall IT
governance, for mainframe, distributed and web-based platforms.
APPLICATION DEVELOPMENT -- Customers use our DevPartner, Optimal and Uniface
products to achieve productivity gains by building applications faster and with
higher quality.
QUALITY ASSURANCE -- QACenter and Xpediter tools and the Compuware Application
Reliability Solution (CARS) automate the multiple, complex steps of thorough
application testing.
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APPLICATION SERVICE MANAGEMENT -- The Abend-AID, File-AID, Strobe and Vantage
product lines are used to find and fix application, server and/or network
performance problems before they affect end users.
IT GOVERNANCE -- Changepoint equips IT executives to manage the business of IT,
with visibility into IT operations down to the level of individual performance.
MAINFRAME MARKET
We believe that our mainframe products will remain among the industry leaders.
The market for mainframe products is well-defined, and the drive to extend
legacy applications into distributed environments continues to underscore the
need for reliable, high-volume servers.
We intend to remain focused on developing, marketing and supporting high-quality
software tools, both to support traditional uses of the mainframe and to enhance
the efforts of IT staff who are working to web-enable their legacy application
portfolio. We believe that our longstanding customer relationships and brand
equity in this arena will help us continue to improve the benefits our customers
receive from our mainframe products. In addition, we continue to pursue product
integration opportunities to increase the value that our customers obtain from
the use of our products, to enhance the synergy among the functional groups
working on key application projects and to make the entire process more
streamlined, automated and repeatable.
MAINFRAME SOFTWARE PRODUCTS
Our mainframe products focus on improving the productivity of developers and
analysts in analysis, unit testing, functional testing, performance testing,
defect removal, fault management, file and data management and application
service management in the OS/390 and z/OS series environments.
Our mainframe products are functionally rich, are focused on user needs and
require minimal user training. We strive to ensure a common look and feel across
our products and emphasize ease of use in all aspects of product design and
functionality. Most products can be used immediately without modification of
customer development practices and standards. These products can be quickly
integrated into day-to-day testing, debugging and maintenance activities.
Our mainframe products are grouped into the following five product lines:
FILE-AID PRODUCTS
File-AID products provide a consistent, familiar and secure method for IT
professionals to access, analyze, edit, compare, move and transform data across
all strategic environments. File-AID is used to quickly resolve production data
problems and manage ongoing changes to data and databases at any stage of the
application life cycle, including building test data environments to provide the
right data in the shortest time.
ABEND-AID PRODUCTS
Abend-AID products assist IT professionals to quickly diagnose and resolve
application and system failures. The products automatically collect program and
environmental information, analyze the information and present diagnostic and
supporting data in a way that can be easily understood by all levels of IT
staff. Automated failure notification helps speed problem resolution and reduce
downtime.
XPEDITER PRODUCTS
Xpediter interactive debugging products help developers integrate enterprise
applications, build new applications and web-enable legacy ones, satisfying
corporate scalability, reliability and security
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requirements. Xpediter tools deliver powerful analysis and testing capabilities
across multiple environments, helping developers test more accurately and
reliably, in less time.
QACENTER MAINFRAME PRODUCTS
QACenter mainframe products deliver complete testing functionality for
automating test creation and execution, test results analysis and documentation.
The products simulate the on-line systems environment, allowing programmers to
test applications under production conditions without requiring actual users at
terminals. Their powerful functions and features enhance unit, concurrency,
integration, migration, capacity and stress testing.
STROBE PRODUCTS
Our Strobe and iStrobe are Application Performance Management products that work
together to help clients locate and eliminate sources of excessive resource
demands during every phase of an application's life cycle. Strobe products
measure the activity of z/OS-based online and batch applications, providing
reports on where and how time is spent during execution. Strobe products support
an extensive array of subsystems, databases and languages.
DISTRIBUTED SYSTEMS MARKET
In contrast to the mainframe market, the distributed systems market is
characterized by multiple hardware, software and network configurations.
Combined with the more recent push to web-enable applications, IT organizations
find themselves under increasing pressure to rapidly create reliable,
top-performing applications, despite an exponential increase in environment
complexity. We believe our distributed and web products address these challenges
and that we are well positioned to market distributed development, integration,
quality assurance and application service management software to our target
markets.
DISTRIBUTED SOFTWARE PRODUCTS
Our distributed products focus on improving the productivity of the entire
development team, including architects, developers, testers and operations
analysts. These products support requirements management, application
development, unit and functional testing and application performance analysis.
Our distributed products also help the development team in application profiling
and rapid new application rollout, as well as in managing server and network
application availability on multiple platforms including Microsoft Windows and
Microsoft .NET, J2EE, AIX, Solaris and DC2000.
Our distributed systems software products are grouped into five product lines:
Uniface and Optimal, DevPartner, QACenter and File-AID/CS, Vantage, and
Changepoint.
UNIFACE AND OPTIMAL PRODUCTS
Uniface, our distributed systems application development product, is designed to
assist software developers in the creation, integration, deployment and
maintenance of complex distributed applications. Uniface enables software
developers to create applications that are not tied to any specific hardware
platform, operating system, database management system or graphical user
interface. Application objects are captured in a central repository, which
permits their reuse in the development of technology-independent applications
and allows for easier management and maintenance of applications. In addition,
Uniface insulates application development and deployment from the individual
technical components that comprise a computing environment. This helps to reduce
development and maintenance costs and allows applications to be developed
rapidly using existing, proven legacy code.
Uniface View is our business integration portal product. As a packaged,
web-based portal application, Uniface View enables customers to quickly
implement an integrating platform to help bring together the
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diverse array of custom-built and packaged applications and web services that
many companies have assembled over a period of time. Uniface View brings these
applications together in a single desktop portal with powerful integration and
administrative functions, making it possible for a customer's IT department to
effectively manage the "home-base" desktop of every employee in its
organization.
Uniface Flow is our business process automation and business process modeling
product that automates the execution of business tasks running within and across
an organization. Uniface Flow helps solution architects model and automate
business processes and tasks by aligning and connecting the process to the
application environment for improved workflow execution. This creates a more
efficient and effective organization that benefits from faster process-cycle
times, improved time-to-market, greater cost effectiveness and better customer
service through improved response times.
OptimalJ is our Java development product. OptimalJ accelerates application
delivery by simplifying Java development, allowing developers of varying
experience levels to rapidly produce reliable J2EE business applications.
OptimalJ generates complete, working applications directly from a visual model,
using sophisticated patterns to implement accepted best practices for coding to
J2EE specifications.
OptimalAdvisor is a package and code analysis tool that delivers insight and
advice into the code structure and effectiveness of Java applications. This
helps developers to better understand code problems and solutions, assess and
monitor code quality, measure code properties and refactor code based on the
design analysis.
DEVPARTNER PRODUCTS
DevPartner Studio helps developers build reliable, high-performance applications
and components for Microsoft .NET and for native Windows by quickly solving
problems with .NET migration, legacy integration, locating errors in application
code and memory, tuning runtime performance across distributed applications, and
assuring thorough testing.
DevPartner Studio Enterprise Edition combines powerful error detection,
performance, memory, coverage and requirements management with comprehensive
project tracking, defect management, task management and workflow automation.
DevPartner SecurityChecker is a security analysis tool that helps quickly scan,
locate and fix security vulnerabilities in ASP.NET applications written in
either C# or Visual Basic .NET.
DevPartner Fault Simulator uses error simulation to emulate real-world
application error conditions, allowing developers and testers to proactively
analyze and debug application error-handling code.
DevPartner Java Edition pinpoints runtime errors, memory problems and
performance bottlenecks and identifies code coverage/stability across all tiers
of a Java application environment. Using DevPartner Java Edition, developers and
testers can quickly prioritize and focus on solving the complexity, quality and
performance problems associated with Java development.
DriverStudio products help developers create code that enables operating systems
to communicate with peripheral devices such as printers, scanners and the
Internet. The DriverStudio product line includes DriverStudio and SoftICE Driver
Suite.
QACENTER DISTRIBUTED PRODUCTS
QACenter delivers a unique offering of automated testing products and solutions
designed to validate applications running in the full spectrum of environments,
isolate and correct problems and ensure that systems can handle anticipated load
before applications go live. QACenter products suites include:
QACenter Enterprise Edition -- Compuware's automated functional testing and test
management solution includes the following products:
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QARun and TestPartner -- Functional test automation tools that allow
organizations to validate business-critical applications whether
distributed, e-commerce (web/Java) or CRM/ERP.
QADirector -- A test management solution for full life-cycle testing of
distributed large-scale applications. QADirector provides the framework
for managing the entire testing process, allowing users to measure and
analyze risk and improve efficiency with test management and analysis that
aligns quality assurance with business goals to maximize application
quality.
TrackRecord -- A defect management solution that serves as a central
repository and communication hub for all development-related activities
and test-related activities and data.
Reconcile -- An enterprise-wide requirements management system. Reconcile
provides a method for keeping planning, development and testing activities
synchronized with the business goals for accurate assessment of project
status.
FileAID/Client Server -- A comprehensive test data management tool that
provides repeatable and consistent testing by allowing QA teams to easily
reuse test cases with different test data.
QACenter Performance Edition -- Our automated load testing and server
and network performance monitoring solution pinpoints problems and optimizes
system performance for distributed, ERP and e-commerce applications.
Compuware Application Reliability Solution (CARS) -- Combines our software
products and professional services into a defined process used to instill
discipline, automate processes and ensure consistency and repeatability
throughout the testing life cycle. Results are reported to IT management through
the application quality workbench.
VANTAGE PRODUCTS
Vantage products enable IT organizations to deliver application service by
managing the performance of distributed applications from the end user's
perspective. Response-time metrics are integrated with deep performance
analytics, enabling IT organizations to proactively identify, resolve and
prevent performance problems. Working together to monitor performance at the
business, transaction and infrastructure level, Vantage products provide
enterprise-wide application service management.
ClientVantage -- Provides a complete measure of end-user experience for all
users, all the time, by tracking response times, resource usage, application
faults and availability. Now with additional capability provided by our May 2005
acquisition of Adlex, a leader in agentless performance monitoring of extremely
high-transaction web-based and enterprise applications, ClientVantage gives deep
insight into application performance.
NetworkVantage -- Shows how users and applications consume critical shared
network resources; provides the information necessary to troubleshoot problems
related to unplanned use, unauthorized use, or poor configuration of the
network; supports WAN bandwidth sizing decisions; and provides historical
trending data for use in network growth management.
ServerVantage -- Via agent-based or agentless technology, monitors the
availability and performance of applications, databases and servers, allowing
administrators to centrally manage events across all application components --
web servers, firewalls, application servers, file systems, databases, middleware
and operating systems.
VantageView -- Performance dashboard that provides an overall enterprise view of
application performance and availability across the customer's infrastructure,
as well as access to the underlying performance metrics.
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Vantage Analyzer for J2EE -- Directs users straight to the source of J2EE
performance problems, using visibility and detailed transaction analysis --
without draining production resources.
ApplicationVantage -- Pinpoints the source of poor performance and
infrastructure problems to the client, server or network in production and
pre-production environments, eliminating time-consuming guesswork. Predictive
analysis features enable IT organizations to ensure that new and modified
applications roll out successfully and provide crucial information for
establishing and meeting service requirements.
Predictor -- Delivers WAN provisioning and growth management information to help
IT organizations justify WAN and device upgrade expenditures and design network
layout for enhanced performance before response delays occur.
CHANGEPOINT PRODUCTS
Changepoint provides Chief Information Officers ("CIOs") and IT managers with
critical insight into IT spending, operations and management, helping them align
IT investments with business priorities. Changepoint automates core IT business
processes to reduce costs and increase efficiency and quality. Our IT governance
offering is an IT business management solution that enables integrated
management of all IT investments. It offers project, application and
infrastructure portfolio management with visibility, so that organizations can
select and prioritize the investments that best support business goals, even as
business conditions and market requirements change.
Changepoint Professional Services Application (PSA) provides total visibility
into the performance of an IT services organization from detailed analyses of
the performance of engagements, projects and customers to higher level views of
workgroups, the sales pipeline, engagements, project portfolios and financial
projections. A configurable Management Portal enables the consolidation of
business-critical information from Changepoint PSA, as well as other critical
business systems.
PRODUCT MAINTENANCE AND CUSTOMER SUPPORT
We believe that effective support of our customers and products during both the
trial period and for the license term is a substantial factor in product
acceptance and subsequent new product sales. We believe our installed base is a
significant asset and intend to continue to provide customer support and product
upgrades to assure a continuing high level of customer satisfaction. In fiscal
year 2005, we continued to experience a high customer maintenance renewal rate.
All customers who subscribe to our maintenance and support services are entitled
to receive technical support and advice, including problem resolution services
and support in product installation, error corrections and any product
enhancements released by us during the maintenance period. Maintenance and
support services are provided online, through our FrontLine technical support
web site, by telephone access to technical personnel located in our development
labs and by support personnel in the offices of our foreign subsidiaries and
distributors.
Licensees have the option of renewing their maintenance agreements each year for
an annual fee based on the license or list price of the product. They also have
the option of committing to maintenance for longer terms, generally up to five
years, on a contractual basis. For fiscal years 2005, 2004 and 2003, maintenance
fees represented approximately 34.5%, 32.3%, and 30.0%, respectively, of our
total revenues.
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TECHNOLOGY DEVELOPMENT AND SUPPORT
We have been successful in developing acquired products and technologies into
marketable software for our distribution channels. We believe that our future
growth lies in part in continuing to identify promising technologies from all
potential sources, including independent software developers, customers, small
startup companies and internal research and development.
Product development is performed primarily at our headquarters in Detroit,
Michigan; and at our development labs in Amsterdam, The Netherlands; Toronto,
Canada; Cambridge, Massachusetts; La Jolla, California; and Nashua, New
Hampshire. In May 2005, we acquired Adlex, Incorporated with a development lab
in Gdansk, Poland.
Total technology development and support costs were $172.7 million, $175.0
million and $154.7 million during fiscal 2005, 2004 and 2003, respectively, of
which $19.3 million, $11.3 million and $11.4 million, respectively, were
capitalized.
Our software products are distributed as object code on standard magnetic
cartridges, diskettes and CDs, together with printed documentation. We also
distribute product electronically. We purchase cartridges, diskettes, CDs
and documentation printing from outside vendors.
PROFESSIONAL SERVICES
We offer a broad range of IT services for distributed systems and mainframe
environments. Our offerings include technical staffing, application development,
quality assurance, project management and application maintenance. We also offer
professional services solutions that utilize Compuware's products for enhanced
efficiency, quality and performance.
We believe that the demand for professional services will continue to be driven
by the need to control costs, the significant level of resources necessary to
support complex and rapidly changing hardware, software and communication
technologies and the need for a larger technical staff for ongoing maintenance.
Our business approach to professional services delivery emphasizes hiring
experienced staff, ongoing training, high staff utilization and immediate,
productive deployment of new personnel at client accounts.
Our objective in the professional services division is to create long term
relationships with customers in which our professional staff joins with the
customer's IT organization to plan, design, program, implement and maintain
technology-based solutions that achieve customer business goals. Typically, the
professional services staff is integrated with the customer's development team
on a specific application or project. Professional services staff work primarily
at customer sites or at our professional services offices located throughout
North America and Europe. We also have professional services operations in other
international locations. In addition, Compuware offers a NearShore Development
Center that serves customers looking for flexible, cost-effective and
high-quality application services delivered remotely from our facility in
Montreal.
APPLICATION SERVICES
Professional services includes our business-to-business applications and
communication services, that are delivered via the Covisint Interoperability
Platform. This platform provides our customers with a comprehensive solution for
communicating real-time transactions and other vital information with their
suppliers, partners and customers. We work with our customers and industry trade
groups worldwide to define and implement effective common processes for sharing
business processes within an industry. Once connected through the Covisint
platform, customers are able to reduce costs, increase efficiency, enhance
quality and improve time to market.
Covisint Communicate portal solutions enable a company's business partners to
securely access the company's applications and vital information. Covisint
Communicate serves as the framework for web-based communications with a
business's extended enterprise. Individual users gain the synergistic advantage
of a single Covisint I.D. and password that can be used to access an entire
industry in a single consistent user interface.
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Covisint Connect data messaging service provides a single connection for a
company's computers to exchange data with the computers of its partners. The
proprietary, underlying technology can handle both traditional EDI and newer XML
communications in one environment. The single connection permits transfer of
data to customers and suppliers in the format that makes the most sense for
their company. This approach reduces the complexity of managing unique, multiple
formats and connection types that are often required by customers to conduct
business.
We are currently focused on expanding these services beyond the automotive
market to include clients in healthcare, logistics, banking and government
operations.
CUSTOMERS
Our products and professional services are used by the IT departments of a wide
variety of commercial and government organizations.
Ford Motor Company accounted for approximately 12% of total revenue during
fiscal 2003. This revenue was primarily associated with the professional
services segment of the business. No other single customer accounted for greater
than 10% of total revenue during fiscal 2005, 2004 or 2003, or greater than 10%
of accounts receivable at March 31, 2005 and 2004.
SALES AND MARKETING
We market software products primarily through a direct sales force in the United
States, Canada, Europe, Japan, Asia-Pacific, Brazil, Mexico and South Africa as
well as through independent distributors giving us a presence in 60 countries.
We market our professional services primarily through account managers located
in offices throughout North America, Europe, Asia-Pacific and Brazil. Senior
sales executives support branch marketing efforts by identifying new business
opportunities and making joint sales calls. This marketing structure enables us
to keep abreast of, and respond quickly to, the changing needs of our clients
and to call on the actual users of our products and services on a regular basis.
COMPETITION
The markets for our software products are highly competitive and characterized
by continual change and improvement in technology. We consider more than 40
firms to be directly competitive with one or more of our products. These
competitors include BMC Software, Inc., Borland Software Corp., Computer
Associates International, Inc., International Business Machines Corporation
(IBM), Mercury Interactive Corporation and Niku Corporation. Some of these
competitors have substantially greater financial, marketing, recruiting and
training resources than we do. The principal competitive factors affecting the
market for our software products include: responsiveness to customer needs,
functionality, performance, reliability, ease of use, quality of customer
support, vendor reputation and price.
The market for professional services is highly competitive, fragmented and
characterized by low barriers to entry. Our principal competitors in
professional services include Accenture Ltd., Computer Sciences Corporation,
Electronic Data Systems Corporation, IBM Global Services, Analysts International
Corporation, Keane, Inc., Infosys Technologies and numerous other regional and
local firms in the markets in which we have professional services offices.
Several of these competitors have substantially greater financial, marketing,
recruiting and training resources than we do. The principal competitive factors
affecting the market for our professional services include responsiveness to
customer needs, breadth and depth of technical skills offered, availability and
productivity of personnel and the ability to demonstrate achievement of results
and price.
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We believe, based on our current market position, that we have competed
effectively in the software products and professional services marketplaces.
Nevertheless, a variety of external and internal events and circumstances could
adversely affect our competitive capacity. Our ability to remain competitive
will depend, to a great extent, upon our performance in product development and
customer support, effective sales execution and our ability to acquire and
integrate new technologies. To be successful in the future, we must respond
promptly and effectively to the challenges of technological change and our
competitors' innovations by continually enhancing our own product and services
offerings.
PROPRIETARY RIGHTS
We regard our products as proprietary trade secrets and confidential
information. We rely largely upon a combination of trade secret, copyright and
trademark laws together with our license agreements with customers and our
internal security systems, confidentiality procedures and employee agreements to
maintain the trade secrecy of our products. We typically provide our products to
users under nonexclusive, nontransferable, perpetual licenses. Under the general
terms and conditions of our standard product license agreement, the licensed
software may be used solely for the licensee's own internal operations. Under
certain limited circumstances, we may be required to make source code for our
products available to our customers under an escrow agreement, which restricts
access to and use of the source code. Although we take steps to protect our
trade secrets, there can be no assurance that misappropriation will not occur.
In addition, the laws of some foreign countries do not protect our proprietary
rights to the same extent as the laws of the United States.
In addition to trade secret protection, we seek to protect our software,
documentation and other written materials under copyright law, which affords
only limited protection. We also assert trademark rights in our product names.
We have been granted 29 patents and have numerous patent applications pending
for certain product technology and have plans to seek additional patents in the
future. However, because the industry is characterized by rapid technological
change, we believe that factors such as the technological and creative skills of
our personnel, new product developments, frequent product enhancements, name
recognition and reliable product maintenance are more important to establishing
and maintaining a technology leadership position than the various legal
protections of our technology.
There can be no assurance that third parties will not assert infringement claims
against us in the future with respect to current and future products or that any
such assertion may not require us to enter into royalty arrangements which could
require a partial payment to the third party upon sale of the product, or result
in costly litigation.
12
EMPLOYEES
As of March 31, 2005, we employed 7,908 people worldwide, with 1,770 in products
sales, sales support and marketing; 1,400 in technology development and support;
3,995 in professional services and 743 in other general and administrative
functions. Only a small number of our international employees are represented by
labor unions. We have experienced no work stoppages and believe that our
relations with our employees are good. Our success will depend in part on our
continued ability to attract and retain highly qualified personnel in a
competitive market for experienced and talented software developers,
professional services staff and sales and marketing personnel.
EXECUTIVE OFFICERS OF THE REGISTRANT
Our current executive officers, who serve at the discretion of our Board of
Directors, are listed below:
Name Age Position
- ---- --- --------
Peter Karmanos, Jr. 62 Chairman of the Board, Chief Executive Officer and
President
Tommi A. White 54 Chief Operating Officer
Henry A. Jallos 56 Executive Vice President, Global Account Management
Laura L. Fournier 52 Senior Vice President, Chief Financial Officer
(Chief Accounting Officer) and Treasurer
Thomas M. Costello, Jr. 51 Senior Vice President, Human Resources, General
Counsel and Secretary
Robert C. Paul 42 Chief Executive Officer and President of the Covisint
Division
Peter Karmanos, Jr., is a founder of the Company and has served as Chairman of
the Board since November 1978, as Chief Executive Officer since July 1987 and as
President from January 1992 through October 1994 and October 2003 to present.
Tommi A. White has served as Chief Operating Officer since October 2001. Ms.
White joined Compuware in August 2001 as Executive Vice President. Before
joining Compuware, Ms. White was Executive Vice President, Chief Administration
and Technology Officer at Kelly Services, Inc. Ms. White was at Kelly Services,
Inc. for nearly nine years.
Henry A. Jallos has served as Executive Vice President, Global Account
Management since October 2001 and as Executive Vice President, Products Division
from September 1998 through October 2001. From August 1994 through August 1998,
Mr. Jallos served as Senior Vice President, Worldwide Sales.
Laura L. Fournier has served as Senior Vice President, Chief Financial Officer
and Treasurer since April 1998. Ms. Fournier was Corporate Controller from June
1995 through March 1998. From February 1990 through May 1995, Ms. Fournier was
Director of Internal Audit.
Thomas M. Costello, Jr., has served as General Counsel since January 1985, Vice
President from January 1995 to May 2003 and Secretary since May 1995. Mr.
Costello was appointed Senior Vice President of Human Resources in September
2003. Mr. Costello joined Compuware in June 1984 as Assistant General Counsel.
13
Robert C. Paul has served as Chief Executive Officer and President of Covisint
since its acquisition in March 2004. Mr. Paul had spent nearly three years at
Covisint prior to the acquisition. Before joining Covisint, Mr. Paul spent one
year as President of SYNAPZ, a division of Future Three Corporation, and nearly
two years as President and Chief Operating Officer at Coherent Networks
International.
SEGMENT INFORMATION, PAYMENT TERMS AND FOREIGN REVENUES
For a description of revenues and operating profit by segment for each of the
last three fiscal years, see Note 13 of the Notes to Consolidated Financial
Statements, included in Item 8 of this report. For a description of extended
payment terms offered to some customers, see Item 7 Management's Discussion and
Analysis of Financial Condition and Results of Operations - Results of
Operations - Software Products - Revenue. The Company's foreign operations are
subject to risks related to foreign exchange rates. For a discussion of this
risk, see Item 7A Quantitative and Qualitative Disclosure about Market Risk. For
financial information regarding geographic operations, see Note 13 of the Notes
to Consolidated Financial Statements, included in Item 8 of this report.
ITEM 2. PROPERTIES
Our executive offices, primary research and development lab, principal marketing
department, primary professional services office, customer service and support
teams are located in our corporate headquarters office building in Detroit,
Michigan. We own the facility, which is approximately 1.1 million square feet,
including approximately 60,000 square feet available for lease to third parties
for retail and related amenities. In addition, we lease approximately 217,000
square feet of land on which the facility resides.
We also own a Farmington Hills, Michigan facility, which is approximately
225,000 square feet. As discussed in Note 4 of the Notes to Consolidated
Financial Statements, included in Item 8 of this report, this facility is
classified in current assets as held for sale.
We lease approximately 93 professional services and sales offices in 29
countries, including six remote product research and development facilities.
ITEM 3. LEGAL PROCEEDINGS
On March 21, 2005, the Company entered into a definitive Settlement Agreement
with International Business Machines Corporation ("IBM") to settle all of the
outstanding litigation and related disputes among the parties in Michigan and
New York, which includes the following cases: Compuware Corp. v. Int'l Bus.
Mach. Corp., No. 02-70906 (E.D. Mich. filed March 12, 2002); Compuware Corp. v.
Int'l Bus. Mach. Corp., No. 02-72752 (E.D. Mich. filed July 3, 2002); and Int'l
Bus. Mach. Corp. v. Compuware Corp., No. 04-CV-000357 (CM)(LMS)(S.D.N.Y. filed
January 15, 2004).
Pursuant to the terms of the Settlement Agreement:
1) IBM will pay a minimum of $140 million over four years for licenses
and maintenance of Compuware software products, and will offer to
purchase a minimum of $260 million of Compuware services over four
years;
2) IBM and Compuware have entered into an irrevocable, perpetual patent
cross-licensing agreement, covering patents related to both
companies' businesses currently issued or to be issued on or prior
to March 21, 2009; and
3) The parties have agreed to dismiss all claims in the above
litigation with prejudice and have granted mutual releases.
14
Further information regarding this Settlement Agreement is included in the Form
8-K filed by the Company with the United States Securities and Exchange
Commission on March 22, 2005.
On January 21, 2003, the Company filed suit against Moody's Investors Services,
Inc. ("Moody's") in the United States District Court in the Eastern District of
Michigan alleging breach of contract, defamation, silent fraud, and violation of
the Investment Advisors Act. The Company claims, among other things, that
Moody's failed to deal fairly and did not operate in good faith when it lowered
the Company's credit rating two full levels on August 13, 2002. The suit seeks
$245,000 in compensatory damages (the total fees paid to Moody's during the
course of the business relationship), punitive damages, the costs related to the
litigation and reasonable attorney fees. On May 26, 2005, the Court dismissed
Compuware's claims. The Company intends to appeal this ruling.
The Company is a party to a consolidated class action proceeding filed in the
United States District Court for the Eastern District of Michigan. The original
lawsuits were filed on September 20, 2002 and October 10, 2002 respectively. On
May 1, 2003, the cases were consolidated. The matter is now titled In re
Compuware Securities Litigation. The suit was brought on behalf of purchasers of
the Company's common stock from January 1, 1999 to April 3, 2002. The defendants
are the Company and Peter Karmanos, Jr. The plaintiff alleges that the Company
failed to disclose under the securities laws its problems with the
misappropriation of its software source code by IBM. The plaintiff further
alleges that the Company omitted and/or disseminated materially false and
misleading statements concerning its deteriorating relationship with IBM. The
plaintiff requests that the court award them monetary damages and expenses of
litigation, including reasonable attorneys fees. The Company strongly disagrees
with the allegations and is vigorously defending against the lawsuit. On August
27, 2004, plaintiffs moved to certify a class. In January 2005, the Court ruled
in the Company's favor by denying plaintiff's motion for class certification.
The Company believes that the risk of loss resulting from these claims by the
plaintiff is remote. The lawsuit is currently in the discovery phase.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of our security holders during the fourth
quarter of the fiscal year covered by this report.
15
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER
MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
Our common stock is traded on the NASDAQ Stock Market's National Market under
the symbol CPWR. As of May 31, 2005, there were approximately 6,039 shareholders
of record of our common stock. We have not paid any cash dividends on our common
stock since fiscal 1986. Our revolving credit agreement contains a $1 billion
minimum tangible net worth covenant that could limit our ability to pay
dividends. The following table sets forth the range of high and low sale prices
for our common stock for the periods indicated, all as reported by NASDAQ.
FISCAL YEAR ENDED MARCH 31, 2005 HIGH LOW
Fourth quarter $ 7.60 $ 5.51
Third quarter 6.58 5.01
Second quarter 6.77 4.35
First quarter 8.95 6.37
FISCAL YEAR ENDED MARCH 31, 2004 HIGH LOW
Fourth quarter $ 8.65 $ 5.90
Third quarter 6.25 5.08
Second quarter 6.49 4.74
First quarter 6.52 3.30
The Company has several stock option plans pursuant to which it grants
performance-based stock options to employees, officers, and directors, as well
as an Employee Stock Ownership Plan (ESOP), an Employee Stock Purchase Plan, and
a Replacement Stock Option Award Program. For more information about our equity
compensation plans, see Note 15 of the Notes to Consolidated Financial
Statements, included in Item 8 of this report.
The following table sets forth certain information with respect to our equity
compensation plans at March 31, 2005 (shares in thousands):
Number of securities
Number of securities remaining available
to be issued Weighted-average for future issuance
upon exercise of exercise price of under equity
outstanding options outstanding options Compensation plans
-------------------- ------------------- --------------------
Equity compensation plans
approved by security holders 36,425 $13.50 8,365
Equity compensation plans not
approved by security holders 25,725 $ 8.68 23,735
16
ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA
The selected statement of operations and balance sheet data presented below are
derived from our audited consolidated financial statements and should be read in
conjunction with our audited consolidated financial statements and notes thereto
and Item 7 - Management's Discussion and Analysis of Financial Condition and
Results of Operations included in this report.
YEAR ENDED MARCH 31,
--------------------------------------------------------------------------
2005 2004 2003 2002 2001
------------ ------------ ------------ ------------ ------------
(In thousands, except earnings per share data)
STATEMENT OF OPERATIONS DATA:
Revenues:
Software license fees $ 305,189 $ 296,627 $ 295,720 $ 417,631 $ 495,572
Maintenance fees 425,310 408,191 412,176 433,751 456,534
Professional services fees 501,340 559,829 667,444 889,162 1,083,050
------------ ------------ ------------ ------------ ------------
Total revenues 1,231,839 1,264,647 1,375,340 1,740,544 2,035,156
------------ ------------ ------------ ------------ ------------
Operating expenses:
Cost of software license fees 27,293 31,579 30,740 34,102 37,885
Cost of professional services 444,996 513,621 611,644 840,149 973,854
Technology development and support 153,386 163,655 143,289 164,280 187,155
Sales and marketing 319,940 310,643 264,012 294,496 351,214
Administrative and general (5) 199,628 207,613 188,814 206,347 228,631
Goodwill amortization and impairment 426,344 42,092
(1 and 2)
Restructuring costs (2) 46,930
------------ ------------ ------------ ------------ ------------
Total operating expenses 1,145,243 1,227,111 1,238,499 2,012,648 1,820,831
------------ ------------ ------------ ------------ ------------
Income (loss) from operations 86,596 37,536 136,841 (272,104) 214,325
Other income (expense) (5) 19,629 18,481 19,374 21,257 (22,256)
------------ ------------ ------------ ------------ ------------
Income (loss) before income taxes 106,225 56,017 156,215 (250,847) 192,069
Income tax provision (benefit) 29,743 6,185 53,113 (5,592) 72,986
------------ ------------ ------------ ------------ ------------
Net income (loss) $ 76,482 $ 49,832 $ 103,102 $ (245,255) $ 119,083
============ ============ ============ ============ ============
Basic earnings (loss) per share (3) $ 0.20 $ 0.13 $ 0.27 $ (0.66) $ 0.33
Diluted earnings (loss) per share (3) 0.20 0.13 0.27 (0.66) 0.32
Shares used in computing net income (loss)
per share:
Basic earnings computation 386,701 382,630 377,028 371,786 365,192
Diluted earnings computation 388,501 384,608 378,440 371,786 372,809
BALANCE SHEET DATA (AT PERIOD END):
Working capital (5) $ 780,223 $ 616,628 $ 541,153 $ 474,947 $ 412,264
Total assets (5) 2,478,218 2,262,709 2,162,798 2,025,683 2,281,211
Long term debt - - - - 140,000
Total shareholders' equity (4) 1,516,155 1,413,591 1,331,691 1,189,851 1,377,372
(1) Effective April 1, 2002, in accordance with SFAS No. 142, the goodwill
balance is no longer being amortized. Instead it is tested at least
annually for impairment. In fiscal 2002 and 2001, net income (loss) and
earnings (loss) per share (diluted computation), exclusive of amortization
of goodwill, would have been ($212.4 million) and (57 cents) and $153.9
million and 41 cents, respectively.
(2) Amortization and impairment of goodwill during 2002 included impairment
charges of $342.9 million associated with restructuring, $35.2 million
associated with a change in technology related to distributed products and
$9.3 million associated with the transfer of the engineering business to
an unrelated third party. Restructuring costs in 2002 represent costs
incurred with the reorganization of the operating divisions during the
fourth quarter. See Note 7 of the Notes to Consolidated Financial
Statements, included in Item 8 of this report, for more details on these
charges.
(3) See Notes 1 and 11 of the Notes to Consolidated Financial Statements,
included in Item 8 of this report, for the basis of computing earnings per
share.
(4) No dividends were paid during the periods presented.
(5) Certain amounts in the fiscal 2004, 2003, 2002 and 2001 statement of
operations and balance sheet data have been reclassified to conform to the
fiscal 2005 presentation. Included in these reclassifications are income
tax reserves totaling $33.3 million, $40.1 million, $31.7 million and
$22.6 million at March 31, 2004, 2003, 2002 and 2001, respectively, that
have been reclassified from long term deferred taxes to accrued expenses
which thereby resulted in a corresponding increase in deferred tax assets.
These reclassifications do not have any impact on net income and are
immaterial to the financial statements overall.
17
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
FORWARD-LOOKING STATEMENTS
This discussion contains certain forward-looking statements within the meaning
of the federal securities laws which are identified by the use of the words
"believes," "expects," "anticipates," "will," "contemplates," "would" and
similar expressions that contemplate future events. Numerous important factors,
risks and uncertainties affect our operating results, including, without
limitation, those discussed below, and contained elsewhere in this report, and
could cause actual results to differ materially from the results implied by
these or any other forward-looking statements made by us, or on our behalf.
There can be no assurance that future results will meet expectations. While we
believe that our forward-looking statements are reasonable, you should not place
undue reliance on any such forward-looking statements, which speak only as of
the date made. Except as required by applicable law, we do not undertake any
obligation to publicly release any revisions which may be made to any
forward-looking statements to reflect events or circumstances occurring after
the date of this report.
- - While we are expanding our focus on distributed software products, a
majority of our revenue from software products is dependent on our
customers' continued use of IBM and IBM-compatible mainframe products and
on the acceptance of our pricing structure for software licenses and
maintenance. The pricing of our software licenses and maintenance is under
constant pressure from customers and competitive vendors.
- - There can be no assurance that third parties will not assert infringement
claims against us in the future with respect to current and future
products or that any such assertion may not require us to enter into
royalty arrangements or result in costly litigation.
- - Our operating margins may decline. We are aware that operating expenses
associated with our distributed systems products are higher than those
associated with our traditional mainframe products. Since we believe the
best opportunities for revenue growth are in the distributed systems
market, product operating margins could experience more pressure. In
addition, operating margins in the professional services business are
significantly impacted by small fluctuations in revenue since most costs
are fixed during any short term period.
- - Our results could be adversely affected by increased competition and
pricing pressures. We consider over 40 firms to be directly competitive
with one or more of our products. These competitors include but are not
limited to BMC Software, Inc., Borland Software Corp., Computer Associates
International, Inc., IBM, Mercury Interactive Corporation and Niku
Corporation. Some of these competitors have substantially greater
financial, marketing, recruiting and training resources than we do.
- - The market for professional services is highly competitive, fragmented and
characterized by low barriers to entry. Our principal competitors in
professional services include but are not limited to Accenture Ltd.,
Computer Sciences Corporation, Electronic Data Systems Corporation, IBM
Global Services, Analysts International Corporation, Keane, Inc., Infosys
Technologies and numerous other regional and local firms in the markets in
which we have professional services offices. Several of these competitors
have substantially greater financial, marketing, recruiting and training
resources than we do.
- - Our success depends in part on our ability to develop or acquire product
enhancements and new products that keep pace with continuing changes in
technology and customer preferences.
- - Approximately 30% of our total revenue is derived from foreign sources.
This exposes us to exchange rate risks on foreign currencies and to other
international risks such as the need to comply with foreign and U.S.
export laws, and the uncertainty of certain foreign economies.
- - We regard our software as proprietary and attempt to protect it with
copyrights, trademarks, trade secret laws and/or restrictions on
disclosure, copying and transferring title. Despite these precautions, it
may be possible for unauthorized third parties to copy certain portions of
our products or to obtain and use information that we regard as
proprietary. In addition, the laws of some foreign countries do not
protect our proprietary rights to the same extent as the laws of the
United States.
18
- - We depend on key employees and technical personnel. The loss of certain
key employees or our inability to attract and retain other qualified
employees could have a material adverse effect on our business.
- - Our quarterly financial results vary and may be adversely affected by
certain relatively fixed costs. Our product revenues vary from quarter to
quarter. Net income may be disproportionately affected by a fluctuation in
revenues because only a small portion of our expenses varies with
revenues.
- - Historical seasonality in license revenue cannot be relied on as an
indicator of future performance due to the current economic conditions
affecting the IT industry and to the varying structure of customer
arrangements and the associated revenue recognition requirements.
- - Changes in world economies could cause customers to further delay or
forego decisions to license new products or upgrades to their existing
environments or to reduce their requirements for professional services,
and this could adversely affect our operating results.
- - Acts of terrorism, acts of war and other unforeseen events may cause
damage or disruption to our properties, employees, suppliers,
distributors, resellers and customers which could adversely affect our
business and operating results.
19
OVERVIEW
In this section, we discuss our results of operations on a segment basis for
each of our financial reporting segments. We operate in two business segments in
the technology industry: products and professional services. We evaluate segment
performance based primarily on segment contribution before corporate expenses.
References to years are to fiscal years ended March 31. This discussion and
analysis should be read in conjunction with the audited consolidated financial
statements and notes included elsewhere in this report.
We provide software products and professional services designed to increase the
productivity of the IT departments of businesses worldwide. In the early years
of our company, we focused on offering professional services and mainframe
products in the testing and implementation environment where we gained extensive
experience and established long-term customer relationships. Over the past
several years, we have expanded our products and professional services offerings
to remain competitive in the IT market.
We focus on growing revenue and profit margins by enhancing and promoting our
current product lines, expanding our product and service offerings through key
acquisitions, developing strategic partnerships in order to provide clients with
our product solutions and managing our costs.
The following occurred since the beginning of fiscal 2005:
- Entered into a software, services and technology relationship with
IBM and settled all outstanding litigation between the companies.
According to the agreement, IBM will enter into license and
maintenance arrangements for $140 million of our software over four
years and offer to purchase $260 million of our services over four
years.
- Acquired Changepoint in May 2004. Changepoint offerings provide CIOs
with insight and visibility into their people, projects, resources
and applications, helping CIOs align IT investments with business
priorities.
- Acquired Adlex, Incorporated ("Adlex") in May 2005. Adlex has
pioneered service delivery management technology that enables
Internet Service Providers and enterprise customers to diagnose and
then manage the quality of service that business-critical
applications deliver to end-users. This technology complements the
Compuware Vantage product line by providing extremely high-capacity,
agentless end-user experience monitoring and deep insight into
application performance.
- Acquired the technology assets of DevStream Corporation
("Devstream"), based in Colorado Springs, Colorado. The privately
owned software company developed an advanced J2EE performance
analysis product, which we recently introduced as Vantage Analyzer
for J2EE.
- Released 13 mainframe and 37 distributed products, during fiscal
2005, designed to increase the productivity of the IT departments of
our customers.
- Achieved a products contribution margin of 31.5% in fiscal 2005
compared to 28.2% in fiscal 2004.
- Achieved a distributed product revenue increase of 14.8% in fiscal
2005 compared to fiscal 2004. Approximately 43% of the increase was
a reflection of our continued focus on promoting our distributed
products with the remainder attributable to the Changepoint
acquisition in the first quarter of 2005.
- Improved the professional services margin to 11.2% in fiscal 2005
from 8.3% in fiscal 2004 through improved utilization of
professional services personnel and, to a lesser extent, a concerted
effort to reduce low margin subcontractor arrangements.
Our ability to achieve our strategies and objectives is subject to a number of
factors some of which we may not be able to control. See "Forward-Looking
Statements".
20
RESULTS OF OPERATIONS
The following table sets forth, for the periods indicated, certain operational
data from the consolidated statements of operations as a percentage of total
revenues and the percentage change in such items compared to the prior period:
Percentage of Period-to-Period
Total Revenues Change
--------------------------- ---------------
Fiscal Year Ended
March 31, 2004 2003
--------------------------- to to
2005 2004 2003 2005 2004
---- ----- ----- ----- ----
REVENUE:
Software license fees 24.8% 23.5% 21.5% 2.9% 0.3%
Maintenance fees 34.5 32.3 30.0 4.2 (1.0)
Professional services fees 40.7 44.2 48.5 (10.4) (16.1)
----- ----- -----
Total revenues 100.0 100.0 100.0 (2.6) (8.0)
----- ----- -----
OPERATING EXPENSES:
Cost of software license fees 2.2 2.5 2.2 (13.6) 2.7
Cost of professional services 36.1 40.6 44.5 (13.4) (16.0)
Technology development and support 12.5 12.9 10.4 (6.3) 14.2
Sales and marketing 26.0 24.6 19.2 3.0 17.7
Administrative and general 16.2 16.4 13.7 (3.8) 10.0
----- ----- -----
Total operating expenses 93.0 97.0 90.0 (6.7) (0.9)
----- ----- -----
Income from operations 7.0 3.0 10.0 130.7 (72.6)
Other income 1.6 1.4 1.4 6.2 (4.6)
----- ----- -----
Income before income taxes 8.6 4.4 11.4 89.6 (64.1)
Income tax provision 2.4 0.5 3.9 380.9 (88.4)
----- ----- -----
Net income 6.2% 3.9% 7.5% 53.5% (51.7)%
===== ===== =====
SOFTWARE PRODUCTS
Revenue
Our products are designed to support the complete application lifecycle:
development and integration, quality assurance, production readiness and
performance management of the application to optimize performance in production.
Our Changepoint application provides CIOs with oversight for spending,
operations and management. Product revenue which consists of software license
fees and maintenance fees, comprised 59.3%, 55.8% and 51.5% of total revenue
during 2005, 2004 and 2003, respectively.
Distributed software product revenue increased $26.3 million or 14.8% during
2005 to $203.8 million from $177.5 million in 2004 and increased $23.1 million
or 15.0% during 2004 from $154.4 million in 2003. The increased revenue during
2005 was primarily due to an increase of $13.2 million in maintenance revenue
related to our DevPartner and Vantage product lines and to the addition of $14.9
million related to Changepoint, which was acquired during the first quarter of
2005. The increased revenue during 2004 was primarily due to an increase in
license and maintenance revenue related to our Vantage product lines.
Mainframe software product revenue decreased $567,000 or 0.1% during 2005 to
$526.7 million from $527.3 million in 2004 and decreased $26.2 million or 4.7%
during 2004 from $553.5 million in 2003. The decreased revenue during 2004 was
primarily due to a decrease in license and maintenance revenue related to our
File-Aid and Abend-Aid product lines.
21
License revenue increased $8.6 million or 2.9% during 2005 to $305.2 million
from $296.6 million in 2004 and increased $907,000 or 0.3% during 2004 from
$295.7 million in 2003. License revenue increased $9.3 million compared to 2004
due to fluctuations in foreign currencies. Excluding the favorable effect of
foreign currency fluctuations, license revenue decreased 0.2% during 2005. The
decrease, net of currency fluctuations, was primarily due to a reduction in
DevPartner license revenue offset by the addition of Changepoint as discussed
above.
Maintenance fees increased $17.1 million or 4.2% to $425.3 million during 2005
from $408.2 million in 2004 and decreased $4.0 million or 1.0% during 2004 from
$412.2 million in 2003. Maintenance fees increased $11.9 million compared to
2004 due to fluctuations in foreign currencies. Excluding the favorable effect
of foreign currency fluctuations, maintenance fees increased 1.3% during 2005.
The increased maintenance revenue in 2005 was primarily a result of revenue
growth in our distributed product lines and to the addition of Changepoint as
discussed above.
We license software to customers using two types of software licenses, perpetual
and term. Generally, perpetual software licenses allow customers a perpetual
right to run our software on hardware up to a licensed aggregate MIPS (Millions
of Instructions Per Second) capacity or to run our distributed software for a
specified number of users or servers. Term licenses allow customers a right to
run our software for a limited period of time on hardware up to a licensed
aggregate MIPS capacity. Also, our customers purchase maintenance services that
provide technical support and advice, including problem resolution services and
assistance in product installation, error corrections and any product
enhancements released during the maintenance period. Furthermore, based on
customers' business needs, customers are allowed to license additional software
and purchase multiple years of maintenance in a single transaction (multi-year
transactions). In support of these multi-year transactions, we allow extended
payment terms to qualifying customers.
To recognize revenue for these multi-year transactions the contract price is
allocated between maintenance revenue and license revenue. All license revenue
associated with perpetual license agreements is recognized when the customer
commits unconditionally to the transaction, the software products and quantities
are fixed, the software has been shipped to the customer and collection is
reasonably probable. License revenue associated with term transactions or with
transactions that include an option to exchange or select products in the future
is deferred and recognized over the term of the agreement. When the license
portion is paid over a number of years, the license portion of the payment
stream is discounted to its net present value. Interest income is recognized
over the payment term. The maintenance revenue associated with all sales is
deferred and is recognized over the applicable maintenance period.
Product revenue by geographic location is presented in the table below (in
thousands):
Year Ended March 31,
---------------------------------------
2005 2004 2003
--------- --------- ---------
United States $ 399,690 $ 375,670 $ 409,441
Europe and Africa 240,233 246,579 221,272
Other international operations 90,576 82,569 77,183
--------- --------- ---------
Total product revenue $ 730,499 $ 704,818 $ 707,896
========= ========= =========
22
PRODUCT CONTRIBUTION AND EXPENSES
Financial information for the product segment is as follows (in thousands):
Year Ended March 31,
------------------------------------------------
2005 2004 2003
--------- --------- ---------
Revenue $ 730,499 $ 704,818 $ 707,896
Expenses 500,619 505,877 438,041
--------- --------- ---------
Product contribution $ 229,880 $ 198,941 $ 269,855
========= ========= =========
The product segment generated contribution margins of 31.5%, 28.2% and 38.1%
during 2005, 2004 and 2003, respectively. Product expenses include cost of
software license fees, technology development and support costs, and sales and
marketing expenses. These factors are discussed below.
Cost of software license fees includes amortization of capitalized software, the
cost of duplicating and disseminating products to customers and the cost of
author royalties. As a percentage of software license fees, cost of software
license fees were 8.9%, 10.6% and 10.4% in 2005, 2004 and 2003, respectively.
The decrease in cost of software license fees for 2005 was primarily
attributable to a reduction in amortization expense related to capitalized
software acquired as a result of the Programart acquisition that became fully
amortized in September 2004.
Technology development and support includes, primarily, the costs of programming
personnel associated with product development and support excluding the amount
of software development costs capitalized during the period. Also included here
are personnel costs associated with developing and maintaining internal systems
and hardware/software costs required to support technology initiatives. As a
percentage of product revenue, costs of technology development and support were
21.0%, 23.2% and 20.2% in 2005, 2004 and 2003, respectively.
Capitalization of internally developed software products begins when
technological feasibility of the product is established. Before the
capitalization of internally developed software products, total technology
development and support expenditures during 2005 decreased $2.3 million or 1.3%,
to $172.7 million from $175.0 million in 2004 and increased $20.3 million or
13.1% during 2004 from $154.7 million in 2003.
The decrease in technology costs for 2005 was primarily attributable to lower
compensation and benefit costs of approximately $2.2 million due to reductions
in employee headcount in this area which occurred during the third and fourth
quarters of 2005.
The increase in technology costs for 2004 was primarily attributable to higher
compensation, benefit and bonus costs of approximately $23.1 million offset by a
decrease in depreciation expense of approximately $2.6 million. Compensation,
benefit and bonus costs were higher due to scheduled salary increases during
2004 and higher employee headcount in this area which increased by 5.9% to an
average headcount of 1,529 people during 2004. Depreciation expense declined due
to approximately $18 million of computer equipment becoming fully depreciated in
the first and second quarters of 2004. A portion of the increase was offset by
cost reduction strategies implemented in October 2003 that resulted in a
reduction of technology development and support costs totaling $2.0 million
during the third and fourth quarters of 2004.
Sales and marketing costs consist primarily of personnel related costs
associated with product direct sales and sales support, marketing for all our
offerings, and personnel costs associated with new sales initiatives. Sales and
marketing costs increased $9.3 million or 3.0%, during 2005 to $319.9 million
from $310.6 million in 2004 and increased $46.6 million or 17.7% during 2004
from $264.0 million in
23
2003. As a percentage of product revenue, sales and marketing costs were 43.8%,
44.1% and 37.3% in 2005, 2004 and 2003, respectively.
The increase in sales and marketing costs for 2005 was primarily attributable to
higher compensation and benefit costs and an increase in marketing seminar costs
related to the OJX seminar that was held at our Detroit world headquarters in
September 2004 to promote our OptimalJ product line. Compensation and benefit
costs were higher due to scheduled salary increases during 2005 and the negative
effect of foreign currency fluctuations on these costs as the U.S. dollar
continued to weaken throughout 2005. Approximately 50% of total sales and
marketing compensation and benefits were attributable to our foreign operations.
The increase in sales and marketing costs for 2004 was primarily attributable to
higher salary and benefit costs of approximately $27.1 million, increased
commission and bonus costs of approximately $12.5 million and higher advertising
costs of approximately $5.8 million. Compensation, benefit, commission and bonus
costs were higher due to salary increases during 2004, higher employee headcount
in this area which increased by 4.6% to an average headcount of 1,852 people
during 2004 and the negative effect of foreign currency fluctuations on these
costs as the U.S. dollar continued to weaken throughout 2004. Approximately 50%
of total sales and marketing compensation, benefit, commission and bonus costs
were attributable to our foreign operations. The change in advertising costs was
a result of increases in the promotion of our products in the distributed
software marketplace during 2004. In late October 2003, we implemented cost
reduction strategies that resulted in a reduction of sales and marketing costs
totaling $1.9 million during the third and fourth quarters of 2004.
In April 2005, the Company realigned the sales organization and eliminated a
layer of management with the intention of improving communication channels in
deal strategy, execution, forecasting and closing. The realignment will reduce
headcount and is expected to lower salaries and benefits by approximately $12
million during 2006, offset by severance and other implementation costs
associated with the realignment totaling approximately $5 million during the
first two quarters of 2006.
PROFESSIONAL SERVICES
REVENUE
We offer a broad range of IT services to help businesses make the most of their
IT assets. Some of these services include outsourcing and co-sourcing,
application management, product solutions, project management, enterprise
resource planning and customer relationship management services, and our unique
Compuware Application Reliability Solution, a comprehensive approach to
application quality assurance. Revenue from professional services decreased
$58.5 million or 10.4% during 2005 to $501.3 million from $559.8 million in 2004
and decreased $107.6 million or 16.1% during 2004 from $667.4 million in 2003.
The decrease in revenue for 2005 and 2004 was primarily due to a reduction in
demand for professional services as customers continue to postpone large
projects, continued downward pressure on our billing rates due to the highly
competitive nature of the professional services market and a reduction in
subcontractor arrangements, along with a strategic move away from non-core
professional services such as helpdesk, computer operations and non-technical
project management. As we move forward, we are focusing on higher margin project
development services and combined product and services solution arrangements.
24
Professional services revenue by geographic location is presented in the table
below (in thousands):
Year Ended March 31,
-------------------------------------
2005 2004 2003
--------- --------- ---------
United States $ 436,730 $ 499,670 $ 599,913
Europe and Africa 59,383 56,749 64,816
Other international operations 5,227 3,410 2,715
--------- --------- ---------
Total professional services revenue $ 501,340 $ 559,829 $ 667,444
========= ========= =========
Professional Services Contribution and Expenses
Financial information for the professional services segment is as follows (in
thousands):
Year Ended March 31,
-------------------------------------
2005 2004 2003
--------- --------- ---------
Revenue $ 501,340 $ 559,829 $ 667,444
Expenses 444,996 513,621 611,644
--------- --------- ---------
Professional services contribution $ 56,344 $ 46,208 $ 55,800
========= ========= =========
During 2005, the professional services segment generated a contribution margin
of 11.2%, compared to 8.3% and 8.4% during 2004 and 2003, respectively. The
increase from 2004 to 2005 was primarily due to improved utilization of
professional services personnel and, to a lesser extent, a concerted effort to
reduce low margin subcontractor projects.
Cost of professional services consists primarily of personnel-related costs of
providing services, including billable staff, subcontractors and sales
personnel. Cost of professional services decreased $68.6 million or 13.4%,
during 2005 to $445.0 million from $513.6 million in 2004 and decreased $98.0
million or 16.0% during 2004 from $611.6 million in 2003.
The decrease in cost of professional services for 2005 was primarily
attributable to lower compensation, benefit, bonus and travel costs of
approximately $56.1 million and a decrease in subcontractor costs of
approximately $11.4 million. Compensation, benefit, bonus and travel costs were
lower due to an 18.7% reduction in average employee headcount in this area to
4,029 people during 2005.
The decrease in cost of professional services for 2004 was primarily
attributable to lower compensation, benefit, bonus and travel costs of
approximately $86.8 million and a decrease in subcontractor costs of
approximately $12.2 million. Compensation, benefit, bonus and travel costs were
lower due to a 12.4% reduction in average employee headcount in this area to
4,956 people during 2004. In late October 2003, we implemented cost reduction
strategies that resulted in a reduction of professional services costs totaling
$14.1 million during the third and fourth quarters of 2004.
CORPORATE AND OTHER EXPENSES
Administrative and general expenses consist primarily of costs associated with
the corporate executive, finance, human resources, administrative, legal and
corporate communications departments. In addition, administrative and general
expenses include all facility-related costs, such as rent, building
depreciation, maintenance, utilities, etc., associated with all of our
locations. Administrative and general expenses decreased $8.0 million or 3.8%,
during 2005 to $199.6 million from $207.6 million in 2004 and increased $18.8
million or 10.0% during 2004 from $188.8 million in 2003.
The decrease in administrative and general expenses for 2005 was primarily
attributable to a decrease in legal fees of approximately $15.9 million due to
reduced legal costs associated with the IBM litigation offset by an increase in
charitable contributions of $3.1 million, increase in compensation and benefits
25
of $2.2 million due to scheduled salary increases and higher depreciation
expense associated with the Detroit headquarters building of approximately $2.1
million.
The increase in administrative and general expenses for 2004 was primarily
attributable to an increase in legal fees of approximately $10.4 million and
higher depreciation expense associated with the Detroit headquarters building of
approximately $5.6 million. In late October 2003, we implemented cost reduction
strategies that resulted in a reduction to administrative and general costs
totaling $1.7 million during the third and fourth quarters of 2004.
External legal fees for all litigation, including IBM and other matters were
$29.1 million, $45.0 million and $34.6 million in 2005, 2004 and 2003.
Litigation expense was impacted significantly over the last three fiscal years
by the IBM litigation. In March 2005, we entered into a software, services and
technology relationship with IBM and settled all outstanding litigation between
the companies. With the settlement of the IBM litigation, we anticipate that
legal costs should decline significantly in 2006 compared to the last three
fiscal years, barring any unforeseen litigation claims against us.
Other income consists primarily of interest earnings on deferred customer
receivables, interest income realized from investments and income/losses
generated from our investments in partially owned companies. Other income for
2005 was $19.6 million compared to $18.5 million in 2004 and $19.4 million in
2003.
Income taxes are accounted for using the asset and liability approach. Deferred
income taxes are provided for the differences between the tax bases of assets or
liabilities and their reported amounts in the financial statements. The income
tax provision was $29.7 million, $6.2 million and $53.1 million, respectively,
in 2005, 2004 and 2003 which represents an effective tax rate of 28%, 11% and
34%, respectively.
During the quarter ended December 31, 2003, we adjusted our reserves related to
various tax matters. This adjustment resulted in an income tax benefit of $9.5
million relating primarily to favorable tax settlements with the U.S. Internal
Revenue Service (IRS) and developments in other tax matters both in the U.S. and
other taxing jurisdictions. We recorded a net benefit of $4.7 million related to
the completion of an IRS exam which challenged the deductibility of interest
paid on Corporate Owned Life Insurance (COLI) policies. We entered into a
Closing Agreement with the IRS on this matter in October 2003. All COLI policies
have been cancelled. The balance of the adjustment related to revisions in
estimates for reserves related to the U.S. Research and Experimentation tax
credit, an audit of our Australian operations for fiscal years 1996 through
2001, and other income tax reserves no longer deemed necessary. Excluding the
$9.5 million tax benefit, the effective tax rate for 2004 was 28%.
The effective income tax rates for 2005 and 2004 are below the statutory rate
due to the impact of certain tax benefits discussed in Note 12 of the Notes to
Consolidated Financial Statements, included in Item 8 of this report. We expect
changes in pre-tax net income and in the domestic/foreign composition of revenue
to change the relative effect of these tax benefits and to result in an increase
in the effective income tax rate for fiscal 2006.
The decrease in the effective tax rate from 2003 to 2004, excluding the $9.5
million income tax benefit, is primarily due to the higher percentage impact of
certain tax benefit items as a result of the decline in income.
26
RESTRUCTURING CHARGE
In the fourth quarter of 2002, we adopted a restructuring plan to reorganize our
operating divisions, primarily the professional services segment. These changes
were designed to increase profitability by better aligning cost structures with
current market conditions. See Note 7 of the Notes to Consolidated Financial
Statements, included in Item 8 of this report, for changes in the restructuring
accrual for 2003, 2004 and 2005.
MANAGEMENT'S DISCUSSION OF CRITICAL ACCOUNTING POLICIES AND ESTIMATES
Note 1 of the Notes to Consolidated Financial Statements, included in Item 8 of
this report, contains a summary of our significant accounting policies.
Our consolidated financial statements are prepared in accordance with accounting
principles generally accepted in the United States (U.S. GAAP). The preparation
of these financial statements requires us to make estimates and judgments that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
Assumptions and estimates were based on facts and circumstances existing at
March 31, 2005. However, future events rarely develop exactly as forecast, and
the best estimates routinely require adjustment. The accounting policies
discussed below are considered by management to be the most important to an
understanding of our financial statements, because their application places the
most significant demands on management's judgment and estimates about the effect
of matters that are inherently uncertain.
Revenue Recognition - A basic criteria for revenue recognition is that
collectibility is reasonably assured. We evaluate collectibility based on past
customer history, external credit ratings and payment terms within various
customer agreements. Future events or inaccuracies in reported credit data that
result in a change to collectibility expectations could have a negative effect
on our operating results.
Perpetual license fee revenue is recognized using the residual method, under
which the fair value, based on vendor specific objective evidence (VSOE) of all
undelivered elements of the agreement (e.g. maintenance and professional
services) is deferred. VSOE is based on rates charged for maintenance and
professional services when sold separately. Based on market conditions, we
periodically change pricing methodologies for license, maintenance and
professional services. Changes in rates charged for stand alone maintenance and
professional services could have an impact on how bundled revenue agreements are
characterized as license, maintenance or professional services and therefore, on
the timing of revenue recognition in the future. Pricing modifications made
during the years covered by this report have not had a significant impact on the
timing or characterization of revenue recognized.
We have an increasing need for flexibility in licensing rights and offerings to
our customers. As our contractual arrangements evolve to meet the needs of our
customers, an increasing percentage of our license arrangements must be
recognized over the terms of the arrangement. While this ratable recognition has
no impact on our results over time, it may change the timing of forecasted
revenue and impact quarterly results.
Generally, revenues from license and maintenance transactions that include
installment payment terms are recognized in the same manner as those requiring
current payment. This is because we have an established business practice of
offering installment payment terms to customers and have a history of
successfully enforcing original payment terms without making concessions.
However, because a significant portion of our license fee revenue is earned in
connection with installment sales, changes in future economic conditions or
technological developments could adversely affect our ability to immediately
record license fees for these types of transactions and/or limit our ability to
collect these receivables.
27
Professional Services Fees - Professional services fees are generally based on
hourly or daily rates. However, for services rendered under fixed-price
contracts, revenue is recognized using the percentage of completion method.
Unforeseen events that result in additional time or costs being required to
complete such projects could affect the timing of revenue recognition for the
balance of the project as well as services margins going forward, and could have
a negative effect on our results of operations.
Based on our interpretation of U.S. GAAP including Statement of Position 97-2
"Software Revenue Recognition" and 98-9 "Modifications of SOP 97-2, "Software
Revenue Recognition," With Respect to Certain Transactions", Securities and
Exchange Commission Staff Accounting Bulletin 104 and Emerging Issues Task Force
Issue 00-21 "Revenue Arrangements with Multiple Deliverables", we believe our
revenue has been properly reported. New interpretations or pronouncements
related to software revenue recognition policies could result in changes to our
method of revenue recognition in the future.
Allowance for Doubtful Accounts - The collectibility of accounts receivable is
regularly evaluated and we believe our allowance for doubtful accounts is
appropriate for our accounts receivable balances. In evaluating the allowance,
we consider historical loss experience, including the need to adjust for current
conditions, and the aging of outstanding receivables. Larger accounts are
reviewed on a detail basis, giving consideration to collection experience and
any information on the financial viability of the customer. The allowance is
reviewed and adjusted each quarter based on the best information available at
the time. Unforeseen events which negatively affect the ability of our customers
to meet their payment obligations would negatively impact our ability to collect
outstanding amounts due from customers and may cause a material impact on our
financial position and results of operations due to a change in the assumptions
and judgment on which we base this estimate.
Capitalized Software - The cost of purchased and internally developed software
is capitalized and stated at the lower of unamortized cost or expected net
realizable value. We compute annual amortization using the straight-line method
over the remaining estimated economic life of the software product which is
generally five years. Software is subject to rapid technological obsolescence
and future product revenue estimates supporting the capitalized software cost
can be negatively affected based upon competitive products and pricing. Such
adverse developments could reduce the estimated net realizable value of our
capitalized software and could result in impairment or a shorter estimated life.
Such events would require us to take a charge in the period in which the event
occurred or to increase the amortization expense in future periods and would
have a negative effect on our results of operations.
Impairment of Goodwill - We are required to assess the impairment of goodwill
annually, or more frequently if events or changes in circumstances indicate that
the carrying value may exceed the fair value. To analyze goodwill, we measure
its fair value using an estimate of the related business's discounted cash flow.
The discounted cash flow approach uses significant assumptions, including
projected future cash flows, the discount rate reflecting the risk inherent in
future cash flows, and a terminal growth rate.
The fair value of the reporting unit including the goodwill is then compared to
the carrying value of each reporting unit (Products and Professional Services).
If the carrying amount of the reporting unit goodwill exceeds the implied fair
value of the goodwill, the impairment loss is recognized as an operating expense
in an amount equal to that excess. Changes in any of these estimates and
assumptions, and unknown future events or circumstances (e.g. economic
conditions or technological developments), could have a significant impact on
whether or not an impairment charge is recognized and the magnitude of any such
charge.
Investments in Partially Owned Companies - As discussed in Note 5 of the Notes
of Consolidated Financial Statements, included in Item 8 of this report, we have
minority investments in and advances to certain privately held companies for
strategic purposes. At March 31, 2005, the net carrying value of
28
our investments and advances to these entities totaled $21.5 million.
Additionally, we have guaranteed outstanding lease obligations of $5.4 million
at March 31, 2005. We regularly evaluate the financial condition of these
partially owned companies to assess potential impairment in the carrying value
of our investments in and advances to these entities. We consider their current
financial situation, including their ability to meet current cash requirements,
expected future cash flows and any other information known to us in determining
whether an impairment charge is appropriate. Unknown factors or unforeseen
events that impair their ability to pay their obligations or to operate
profitably could have an impact on our ability to recoup our investments in and
outstanding advances to these companies and could require us to expense all or a
portion of the outstanding investments and advances in that period.
Deferred Tax Assets Valuation Allowance and Tax Liabilities - We estimate income
taxes in each of the jurisdictions in which we operate, net deferred tax assets
based on expected future taxable benefits in such jurisdictions and our
valuation allowance for deferred tax assets. For additional information
regarding these estimates see Note 12 of the Notes to Consolidated Financial
Statements, included in Item 8 of this report. Changes in estimates of projected
future operating results or in assumptions regarding our ability to generate
future taxable income during the periods in which temporary differences are
deductible could result in significant changes to these accruals and, therefore,
to our net income.
In addition, we recognize contingent tax liabilities through tax expense for
estimated exposures related to our current tax positions. We evaluate the need
for contingent tax liabilities on a quarterly basis and any change in the amount
will be recorded in our results of operations, as appropriate. It could take
several years to resolve certain of these contingencies.
Other - Other accounting policies, although not generally subject to the same
level of estimation as those discussed above, are nonetheless important to an
understanding of the financial statements. Many assets, liabilities, revenue and
expenses require some degree of estimation or judgment in determining the
appropriate accounting.
LIQUIDITY AND CAPITAL RESOURCES
As of March 31, 2005, cash and cash equivalents and investments totaled
approximately $866.6 million. During 2005 and 2004, cash flow from operations
was $242.3 million and $258.1 million, respectively. During these periods,
capital expenditures for the Detroit Headquarters facility totaled $10.7 million
and $65.2 million, respectively, and capital expenditures for other property and
equipment and capitalized research and software development totaled $37.3
million and $20.7 million, respectively.
We hold a $100 million revolving credit facility maturing on July 28, 2005. See
Note 9 of the Notes to Consolidated Financial Statements, included in Item 8 of
this report, for a description of the facility. No borrowings have occurred
under this facility.
During fiscal 2005, we implemented a plan to market and sell the former
headquarters building in Farmington Hills, Michigan. The building is classified
in current assets as held for sale. We evaluated whether the current carrying
value of the building was impaired and, based on an independent appraisal of the
building, concluded that no impairment charge should be recorded at March 31,
2005.
On May 6, 2003, the Board of Directors authorized the repurchase of up to $125
million of our common stock. Our purchases of stock may occur on the open
market, through negotiated or block transactions based upon market and business
conditions. There were no purchases under this program during 2005.
Approximately $124 million remains for future purchases under this program.
29
In May 2005, the Company acquired privately held Adlex, Incorporated, a
technology development company, for approximately $36 million in cash. The
acquisition will be accounted for as a purchase and, accordingly, assets and
liabilities acquired will be recorded at fair value as of the acquisition date.
During fiscal 2005, we acquired Changepoint and Devstream for approximately $108
million and estimated future payments of $1.9 million. During fiscal 2004, we
acquired certain assets of Covisint LLC for approximately $8.6 million in cash
and liabilities assumed. For more information about these acquisitions, see Note
2 of the Notes to Consolidated Financial Statements, included in Item 8 of this
report.
We continue to evaluate business acquisition opportunities that fit our
strategic plans.
We believe available cash resources, together with cash flow from operations,
will be sufficient to meet cash needs for the foreseeable future.
Contractual Obligations
The following table summarizes our payments under contractual obligations and
our other commercial commitments as of March 31, 2005 (in thousands):
Payment Due by Period as of March 31,
------------------------------------------------------------------------------
2011 and
Total 2006 2007 2008 2009 2010 Thereafter
-------- ------- ------- ------- ------- ------- ----------
Contractual obligations:
Operating leases $347,240 $34,038 $27,108 $23,138 $20,077 $11,572 $ 231,307
Other (1) 9,175 7,575 200 200 200 200 800
-------- ------- ------- ------- ------- ------- ---------
Total $356,415 $41,613 $27,308 $23,338 $20,277 $11,772 $ 232,107
======== ======= ======= ======= ======= ======= =========
(1) - Other includes $7.3 million of commitments to various Detroit area
charities and a $1.9 million advertising agreement.
Off-Balance Sheet Arrangements
As discussed in Note 5 of the Notes to Consolidated Financial Statements,
included in Item 8 of this report, we have guaranteed lease obligations of
CareTech of up to $12.5 million. We have not recorded any liability related to
these guarantees since we believe that CareTech will continue to meet its
obligations. At March 31, 2005, CareTech's outstanding lease obligations were
approximately $5.4 million.
We currently do not have any non-consolidated special purpose entity
arrangements.
30
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
We are exposed primarily to market risks associated with movements in interest
rates and foreign currency exchange rates. We believe that we take the necessary
steps to appropriately reduce the potential impact of interest rate and foreign
exchange exposures on our financial position and operating performance. We do
not use derivative financial instruments or forward foreign exchange contracts
for investment, speculative or trading purposes. Immediate changes in interest
rates and foreign currency rates discussed in the following paragraphs are
hypothetical rate scenarios used to calibrate risk and do not currently
represent management's view of future market developments. A discussion of our
accounting policies for derivative instruments is included in Note 1 of the
Notes to Consolidated Financial Statements, included in Item 8 of this report.
INTEREST RATE RISK
Exposure to market risk for changes in interest rates relates primarily to our
cash investments and installment receivables. Derivative financial instruments
are not a part of our investment strategy. Investments are placed with high
quality issuers to preserve invested funds by limiting default and market risk.
In addition, marketable debt securities and long term debt investments are
classified as held-to-maturity or as available-for-sale which does not expose
the consolidated statements of operations to fluctuations in interest rates.
The table below provides information about our investment portfolio. For
investment securities, the table presents principal cash flows and related
weighted average interest rates by expected maturity dates (in thousands, except
interest rate):
Year Ended March 31, Fair Value at
-------------------------------
2006 2007 2008 Total March 31, 2005
-------- ------- ---- -------- --------------
Cash Equivalents $497,687 $497,687 $497,687
Average Interest Rate 2.35% 2.35%
Investments $299,715 $69,169 $368,884 $367,277
Average Interest Rate 1.89% 2.06% 1.92%
Average Interest Rate (tax equivalent) 2.46% 2.84% 2.53%
We offer financing arrangements with installment payment terms in connection
with our multi-year software sales. Installment accounts are generally
receivable over a two to five year period. As of March 31, 2005, non-current
accounts receivable amounted to $248.7 million, and are due approximately $144.6
million, $69.2 million, $27.2 million, $7.1 million and $573,000 in each of the
years ending March 31, 2007 through 2011, respectively. The fair value of
non-current accounts receivable is estimated by discounting the future cash
flows using the current rate at which the company would finance a similar
transaction. At March 31, 2005, the fair value of such receivables is
approximately $246.5 million. Each 25 basis point increase in interest rates
would have an associated $450,000 and $600,000 negative impact on the fair value
of non-current accounts receivable based on the balance of such receivables at
March 31, 2005 and 2004, respectively. A change in interest rates will have no
impact on cash flows or net income associated with non-current accounts
receivable.
FOREIGN CURRENCY RISK
We have entered into forward foreign exchange contracts primarily to hedge
amounts due to or from select subsidiaries denominated in foreign currencies
(mainly in Europe and Asia-Pacific) against fluctuations in exchange rates. Our
accounting policies for these contracts are based on our designation of the
contracts as hedging transactions. The criteria we use for designating a
contract as a hedge include the contract's effectiveness in risk reduction and
one-to-one matching of derivative instruments to underlying transactions. Gains
and losses on forward foreign exchange contracts are
31
recognized in income, offsetting foreign exchange gains or losses on the foreign
balances being hedged. If the underlying hedged transaction is terminated
earlier than initially anticipated, the offsetting gain or loss on the related
forward foreign exchange contract would be recognized in income in the same
period. In addition, since we enter into forward contracts only as a hedge, any
change in currency rates would not result in any material net gain or loss, as
any gain or loss on the underlying foreign currency denominated balance would be
offset by the gain or loss on the forward contract. We operate in certain
countries in Latin America and Asia-Pacific where there are limited forward
currency exchange markets and thus we have unhedged transaction exposures in
these currencies.
The table below provides information about our foreign exchange forward
contracts at March 31, 2005. The table presents the value of the contracts in
U.S. dollars at the contract maturity date and the fair value of the contracts
at March 31, 2005 (in thousands, except contract rates):
Contract Maturity Forward Fair
date in date in Contract Position in Value at
2005 2005 Rate U.S. Dollars March 31, 2005
-------- -------- -------- ------------ --------------
Forward Sales
Pounds Sterling March 31 April 30 0.5320 $ 6,109 $ 6,145
Forward Purchases
Danish Krone March 31 April 30 5.7597 434 435
Euro Dollar March 31 April 30 0.7705 15,536 15,515
Hong Kong Dollar March 31 April 30 7.7901 5,584 5,577
Japanese Yen March 31 April 30 106.5080 2,019 2,006
Singapore Dollar March 31 April 30 1.6475 971 969
-------- -------
$ 24,544 $24,502
======== =======
Approximately 30% of our revenue is derived from foreign sources. This exposes
us to exchange rate risks on foreign currencies related to the fair value of
foreign assets and liabilities, net income and cash flows.
32
ITEM 8. CONSOLIDATED FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Shareholders of Compuware Corporation:
We have audited the accompanying consolidated balance sheets of Compuware
Corporation and subsidiaries (the "Company") as of March 31, 2005 and 2004, and
the related consolidated statements of operations, shareholders' equity, and
cash flows for each of the three years in the period ended March 31, 2005. Our
audits also included the financial statement schedule listed in the Index at
Item 15(a)2. These financial statements and the financial statement schedule are
the responsibility of the Company's management. Our responsibility is to express
an opinion on the financial statements and the financial statement schedule
based on our audits.
We conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in all
material respects, the financial position of the Company as of March 31, 2005
and 2004, and the results of its operations and its cash flows for each of the
three years in the period ended March 31, 2005, in conformity with accounting
principles generally accepted in the United States of America. Also, in our
opinion, such financial statement schedule, when considered in relation to the
basic consolidated financial statements taken as a whole, presents fairly, in
all material respects, the information set forth therein.
We have also audited, in accordance with the standards of the Public Company
Accounting Oversight Board (United States), the effectiveness of the Company's
internal control over financial reporting as of March 31, 2005, based on the
criteria established in Internal Control -- Integrated Framework issued by the
Committee of Sponsoring Organizations of the Treadway Commission and our report
dated June 7, 2005 expressed an unqualified opinion on management's assessment
of the effectiveness of the Company's internal control over financial reporting
and an unqualified opinion on the effectiveness of the Company's internal
control over financial reporting.
DELOITTE & TOUCHE LLP
Detroit, Michigan
June 7, 2005
33
COMPUWARE CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
AS OF MARCH 31, 2005 AND 2004
(IN THOUSANDS, EXCEPT SHARE DATA)
NOTES 2005 2004
----- ---------- ----------
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 497,687 $ 454,916
Investments 3 299,715 149,654
Accounts receivable, less allowance for doubtful
accounts of $18,084 and $22,565 448,611 452,057
Deferred tax asset, net 12 35,726 32,460
Income taxes refundable, net 32,609 33,946
Prepaid expenses and other current assets 24,369 19,976
Building - held for sale 4 19,702
---------- ----------
Total current assets 1,358,419 1,143,009
---------- ----------
INVESTMENTS 3 69,169 162,484
---------- ----------
PROPERTY AND EQUIPMENT, LESS ACCUMULATED
DEPRECIATION AND AMORTIZATION 4 418,241 444,401
---------- ----------
CAPITALIZED SOFTWARE, LESS ACCUMULATED
AMORTIZATION OF $215,869 AND $193,491 8 54,043 45,489
---------- ----------
OTHER:
Accounts receivable 248,686 198,742
Goodwill 2,8 293,391 213,359
Deferred tax asset, net 12 1,804 28,628
Other assets 5,8 34,465 26,597
---------- ----------
Total other assets 578,346 467,326
---------- ----------
TOTAL ASSETS $2,478,218 $2,262,709
========== ==========
Notes 2005 2004
----- ---------- ----------
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable $ 36,439 $ 35,298
Accrued expenses 7 102,275 115,786
Income tax reserve 12 27,646 33,317
Accrued bonuses and commissions 38,679 39,176
Deferred revenue 373,157 302,804
---------- ----------
Total current liabilities 578,196 526,381
---------- ----------
DEFERRED REVENUE 364,270 300,664
ACCRUED EXPENSES 7 19,597 22,073
---------- ----------
Total liabilities 962,063 849,118
---------- ----------
COMMITMENTS AND CONTINGENCIES 14
SHAREHOLDERS' EQUITY:
Preferred stock, no par value - authorized
5,000,000 shares 10
Common stock, $.01 par value - authorized
1,600,000,000 shares; issued and outstanding
388,403,454 and 385,343,692 shares in 2005
and 2004, respectively 10,15 3,884 3,853
Additional paid-in capital 744,747 722,206
Retained earnings 757,597 681,115
Accumulated other comprehensive income 9,927 6,417
---------- ----------
Total shareholders' equity 1,516,155 1,413,591
---------- ----------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $2,478,218 $2,262,709
========== ==========
See notes to consolidated financial statements.
34
COMPUWARE CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
YEARS ENDED MARCH 31, 2005, 2004 and 2003
(IN THOUSANDS, EXCEPT PER SHARE DATA)
NOTES 2005 2004 2003
------------- ------------ -----------
REVENUES:
Software license fees $ 305,189 $ 296,627 $ 295,720
Maintenance fees 425,310 408,191 412,176
Professional services fees 501,340 559,829 667,444
------------- ------------ -----------
Total revenues 1,231,839 1,264,647 1,375,340
------------- ------------ -----------
OPERATING EXPENSES:
Cost of software license fees 27,293 31,579 30,740
Cost of professional services 444,996 513,621 611,644
Technology development and support 153,386 163,655 143,289
Sales and marketing 319,940 310,643 264,012
Administrative and general 199,628 207,613 188,814
------------- ------------ -----------
Total operating expenses 1,145,243 1,227,111 1,238,499
------------- ------------ -----------
INCOME FROM OPERATIONS 86,596 37,536 136,841
OTHER INCOME, NET 5 19,629 18,481 19,374
------------- ------------ -----------
INCOME BEFORE INCOME TAXES 106,225 56,017 156,215
INCOME TAX PROVISION 12 29,743 6,185 53,113
------------- ------------ -----------
NET INCOME $ 76,482 $ 49,832 $ 103,102
============= ============ ===========
Basic earnings per share 11 $ 0.20 $ 0.13 $ 0.27
============= ============ ===========
Diluted earnings per share 11 $ 0.20 $ 0.13 $ 0.27
============= ============ ===========
See notes to consolidated financial statements.
35
COMPUWARE CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
YEARS ENDED MARCH 31, 2005, 2004 and 2003
(IN THOUSANDS, EXCEPT SHARE DATA)
Accumulated
Common Stock Additional Other Total
--------------------- Paid-In Retained Comprehensive Shareholders' Comprehensive
Shares Amount Capital Earnings Income (Loss) Equity Income
----------- -------- ---------- ---------- ------------- ------------- -------------
BALANCE AT APRIL 1, 2002 375,820,254 $ 3,758 $ 676,617 $ 528,804 $ (19,328) $ 1,189,851
Net income 103,102 103,102 $ 103,102
Foreign currency translation, net of tax 11,099 11,099 11,099
------------
Comprehensive income $ 114,201
============
6,010,067 60 18,868 18,928
Issuance of common stock
Acquisition tax benefits 7,056 7,056
Exercise of employee stock options
and related tax benefit (Note 15) 536,835 6 1,649 1,655
----------- -------- ---------- ---------- ------------- -------------
BALANCE AT MARCH 31, 2003 382,367,156 3,824 704,190 631,906 (8,229) 1,331,691
Net income 49,832 49,832 $ 49,832
Foreign currency translation, net of tax 14,646 14,646 14,646
------------
Comprehensive income $ 64,478
============
Issuance of common stock 2,340,171 23 8,189 8,212
Acquisition tax benefits 6,579 6,579
Repurchase of common stock (200,500) (2) (371) (623) (996)
Exercise of employee stock options
and related tax benefit (Note 15) 836,865 8 3,494 3,502
Other 125 125
----------- -------- ---------- ---------- ------------ -------------
BALANCE AT MARCH 31, 2004 385,343,692 3,853 722,206 681,115 6,417 1,413,591
Net income 76,482 76,482 $ 76,482
Foreign currency translation, net of tax 3,510 3,510 3,510
------------
Comprehensive income $ 79,992
============
Issuance of common stock 2,536,030 26 13,154 13,180
Acquisition tax benefits 6,986 6,986
Exercise of employee stock options
and related tax benefit (Note 15) 523,732 5 2,401 2,406
----------- -------- ---------- ---------- ------------ -------------
BALANCE AT MARCH 31, 2005 388,403,454 $ 3,884 $ 744,747 $ 757,597 $ 9,927 $ 1,516,155
=========== ======== ========== ========== ============ =============
See notes to consolidated financial statements.
36
COMPUWARE CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED MARCH 31, 2005, 2004 and 2003
(IN THOUSANDS)
2005 2004 2003
----------- ----------- ----------
CASH FLOWS PROVIDED BY OPERATING ACTIVITIES:
Net income $ 76,482 $ 49,832 $ 103,102
Adjustments to reconcile net income to cash provided by
operations:
Depreciation and amortization 56,388 55,175 53,808
Tax benefit from exercise of stock options 634 704 152
Issuance of common stock to Employee Stock Ownership Trust 4,872 9,425
Acquisition tax benefits 6,986 6,579 7,056
Deferred income taxes 27,731 30,571 28,209
Other 3,189 3,774 6,212
Net change in assets and liabilities, net of effects from
acquisitions:
Accounts receivable (32,614) 163,479 182,502
Prepaid expenses and other current assets (2,307) (1,404) (9)
Other assets 2,346 4,887 776
Accounts payable and accrued expenses (25,110) (8,085) (42,194)
Deferred revenue 122,316 (24,378) 4,464
Income taxes 1,374 (23,014) 16,870
----------- ----------- ----------
Net cash provided by operating activities 242,287 258,120 370,373
----------- ----------- ----------
CASH FLOWS USED IN INVESTING ACTIVITIES:
Purchase of:
Businesses, net of cash acquired (104,993) (6,939)
Property and equipment:
Headquarters facility (10,738) (65,240) (219,071)
Other (17,964) (9,358) (6,222)
Capitalized software (19,299) (11,287) (11,369)
Investments:
Proceeds 208,427 356,713 201,938
Purchases (267,740) (404,048) (267,502)
----------- ----------- ----------
Net cash used in investing activities (212,307) (140,159) (302,226)
----------- ----------- ----------
CASH FLOWS PROVIDED BY FINANCING ACTIVITIES:
Net proceeds from exercise of stock options 1,772 2,798 1,503
Employee contribution to stock purchase plans 8,288 8,293 9,563
Repurchase of common stock (996)
----------- ----------- ----------
Net cash provided by financing activities 10,060 10,095 11,066
----------- ----------- ----------
EFFECT OF EXCHANGE RATE CHANGES ON CASH 2,731 7,394 6,948
----------- ----------- ----------
NET INCREASE IN CASH AND CASH EQUIVALENTS 42,771 135,450 86,161
CASH AND CASH EQUIVALENTS AT BEGINNING OF YEAR 454,916 319,466 233,305
----------- ----------- ----------
CASH AND CASH EQUIVALENTS AT END OF YEAR $ 497,687 $ 454,916 $ 319,466
=========== =========== ==========
See notes to consolidated financial statements.
37
COMPUWARE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED MARCH 31, 2005, 2004 and 2003
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Business - Compuware Corporation develops, markets and supports an integrated
set of systems software products designed to improve the productivity of
information technology (IT) professionals in application development,
implementation and maintenance. In addition, the Company's professional services
include business systems analysis, design, communication, programming and
implementation as well as software conversion and systems planning and
consulting. The Company's products and services are offered worldwide across a
broad spectrum of technologies, including mainframe and distributed systems
platforms.
Basis of Presentation - The consolidated financial statements include the
accounts of Compuware Corporation and its wholly owned subsidiaries after
elimination of all significant intercompany balances and transactions. The
financial statements have been prepared in conformity with accounting principles
generally accepted in the United States of America (U.S. GAAP), which require
management to make estimates and assumptions that affect the reported amounts of
assets, liabilities and the disclosure of contingencies at March 31, 2005 and
2004 and the results of operations for the years ended March 31, 2005, 2004 and
2003. While management has based their assumptions and estimates on the facts
and circumstances existing at March 31, 2005, final amounts may differ from
estimates.
Certain amounts in the fiscal 2004 and 2003 financial statements have been
reclassified to conform to the fiscal 2005 presentation. Included in these
reclassifications are income tax reserves totaling $33.3 million at March 31,
2004 that have been reclassified from long term deferred taxes to accrued
expenses which thereby resulted in a corresponding increase in long term
deferred tax assets. These reclassifications do not have any impact on net
income and are immaterial to the financial statements overall.
Revenue Recognition - The Company earns revenue from licensing software
products, providing maintenance and support for those products and rendering
professional services. The Company's revenue recognition policies are consistent
with U.S. GAAP including Statements of Position 97-2 "Software Revenue
Recognition" and 98-9 "Modification of SOP 97-2, "Software Revenue Recognition,"
With Respect to Certain Transactions", Securities and Exchange Commission Staff
Accounting Bulletin 104 and Emerging Issues Task Force Issue 00-21 "Revenue
Arrangements with Multiple Deliverables". Accordingly, the Company recognizes
revenue when all of the following criteria are met: persuasive evidence of an
arrangement exists, delivery has occurred or services have been rendered, the
fee is fixed or determinable, and collectibility is reasonably assured.
Software license fees - The Company's software license agreements provide its
customers with a right to use its software perpetually (perpetual licenses) or
during a defined term (term licenses). Perpetual license fee revenue is
recognized using the residual method, under which the fair value, based on
vendor specific objective evidence (VSOE) of all undelivered elements of the
agreement (e.g., maintenance and professional services) is deferred. VSOE is
based on rates charged for maintenance and professional services when sold
separately. The remaining portion of the fee, net of discretionary discounts
(the residual), is recognized as license fee revenue upon shipment of the
products, provided that no significant obligations remain and collection of the
related receivable is deemed probable. For term licenses and for agreements in
which the fair value of the undelivered elements cannot be determined using VSOE
(e.g., transactions that include an option to exchange or select products in the
future), the Company recognizes the license fee revenue on a ratable basis over
the term of the license agreement.
38
The Company offers flexibility to customers purchasing licenses for its products
and related maintenance. Terms of these transactions range from standard
perpetual license sales to large multi-year (generally two to five years),
multi-product contracts. The Company allows deferred payment terms on multi-year
contracts, with installments collectible over the term of the contract. Based on
the Company's successful collection history for deferred payments, the license
fee portion of the receivable is discounted to its net present value and
recognized as discussed above. The discount is recognized as interest income
over the term of the receivables, and amounted to $8.2 million, $12.6 million
and $15.5 million for fiscal 2005, 2004 and 2003, respectively. At March 31,
2005, current accounts receivable includes installments on multi-year contracts
totaling $230.4 million due within the year ending March 31, 2006. Non-current
accounts receivable at March 31, 2005 amounted to $248.7 million, and are due
approximately $144.6 million, $69.2 million, $27.2 million, $7.1 million and
$573,000 in each of the years ending March 31, 2007 through 2011, respectively.
Maintenance fees - The Company's maintenance agreements provide for technical
support and advice, including problem resolution services and assistance in
product installation, error corrections and any product enhancements released
during the maintenance period. Through December 31, 2004, maintenance was
included with all mainframe software license agreements for one year, and for
most distributed product agreements for three months. Effective January 1, 2005,
maintenance is included with all license agreements for up to one year.
Maintenance is renewable thereafter for an annual fee. Maintenance fees are
deferred and recognized as revenue on a ratable basis over the maintenance
period.
Professional services fees - Professional services fees are generally based on
hourly or daily rates; therefore, revenues from professional services are
recognized in the period the services are performed, provided that collection of
the related receivable is deemed probable. However, for development services
rendered under fixed-price contracts, revenue is recognized using the percentage
of completion method. Certain professional services contracts include a project
and on-going support for the project. Revenue associated with these contracts is
recognized over the support period as the customer derives value from the
services, consistent with the proportional performance method.
Deferred revenue - Deferred revenue consists primarily of maintenance fees
related to the remaining term of maintenance agreements in effect at those
dates. Deferred license fees and services fees are also included in deferred
revenue for those contracts that are being recognized on a ratable basis. Long
term deferred revenue at March 31, 2005 amounted to $364.3 million, and is
expected to be recognized approximately $192.0 million, $103.0 million, $44.3
million, $18.1 million, $5.9 million and $1.0 million in each of the years
ending March 31, 2007 through 2012, respectively.
Cash and Cash Equivalents - The Company considers all investments with an
original maturity of three months or less to be cash equivalents.
Investments consist of bank certificates of deposit, municipal obligations, tax
free zero coupon bonds, U.S. Treasury securities, and tax free and tax advantage
auction rate securities. Those investments that mature within one year from the
balance sheet date are classified as current assets. The auction rate securities
are classified as available-for-sale and are recorded at fair value. Net
unrealized gains or losses associated with available-for-sale investments are
recorded as a component of accumulated other comprehensive income (loss). All
other investments are classified as held-to-maturity and carried at amortized
cost. The amortization of bond premiums and discounts is included in "other
income" in the consolidated statements of operations.
Allowance for Doubtful Accounts - The Company considers historical loss
experience, including the need to adjust for current conditions, the aging of
outstanding accounts receivable and information available related to specific
customers when estimating the allowance for doubtful accounts. The allowance is
reviewed and adjusted each quarter based on the Company's best estimates. As of
March 31, 2005 and 2004, the allowance for doubtful accounts totaled $18.1
million and $22.6 million,
39
respectively. The decrease of $4.5 million is primarily due to a reduction in
the reserve related to accounts receivable balances from CareTech Solutions,
Inc. (See Note 5.)
Property and Equipment are stated at cost. Depreciation is provided using the
straight-line method over the estimated useful lives of the related assets,
which are generally estimated to be 40 years for buildings and three to ten
years for furniture and fixtures, computer equipment and software. Leasehold
improvements are amortized over the term of the lease, or the estimated life of
the improvement, whichever is less. Depreciation and amortization of property
and equipment totaled $31.9 million, $28.4 million and $24.8 million for the
years ended March 31, 2005, 2004 and 2003, respectively.
Capitalized Software includes the costs of purchased and internally developed
software products and is stated at the lower of unamortized cost or net
realizable value. Net purchased software included in capitalized software at
March 31, 2005 and 2004 is $14.8 million and $12.5 million, respectively.
Capitalization of internally developed software products begins when
technological feasibility of the product is established. Technology development
and support includes primarily the costs of programming personnel associated
with product development and support net of amounts capitalized. Total
technology development and support costs incurred internally by the Company were
$172.7 million, $175.0 million and $154.7 million in fiscal 2005, 2004 and 2003,
respectively, of which $19.3 million, $11.3 million and $11.4 million,
respectively, were capitalized.
The amortization for both internally developed and purchased software products
is computed on a product-by-product basis. The annual amortization is the
greater of the amount computed using (a) the ratio of current gross revenues
compared with the total of current and anticipated future revenues for that
product or (b) the straight-line method over the remaining estimated economic
life of the product, including the period being reported on. Amortization begins
when the product is available for general release to customers. The amortization
period for capitalized software is generally five years. Capitalized software
amortization amounted to $22.4 million, $26.4 million and $25.9 million in
fiscal 2005, 2004 and 2003, respectively, which is primarily included in "cost
of software license fees" in the consolidated statements of operations.
Goodwill - Goodwill and those intangible assets with indefinite lives are tested
for impairment annually and/or when events or circumstances indicate that their
fair value may have been reduced below carrying value. The Company evaluated its
goodwill as of March 31, 2005 and 2004 and determined there was no impairment.
Fair Value of Financial Instruments - The carrying value of cash equivalents,
current accounts receivable and accounts payable approximated fair values due to
the short-term maturities of these instruments. At March 31, 2005, the fair
value of non-current receivables is approximately $246.5 million compared to the
carrying amount of $248.7 million. At March 31, 2004, the fair value of
non-current receivables was approximately $198.4 million compared to the
carrying amount of $198.7 million. Fair value is estimated by discounting the
future cash flows using the current rate at which the Company would finance a
similar transaction.
Income Taxes - The Company accounts for income taxes using the asset and
liability approach. Deferred income taxes are provided for the differences
between the tax bases of assets or liabilities and their reported amounts in the
financial statements.
Foreign Currency Translation - The Company's foreign subsidiaries use their
respective local currency as their functional currency. Accordingly, assets and
liabilities in the consolidated balance sheets have been translated at the rate
of exchange at the respective balance sheet dates, and revenues and expenses
have been translated at average exchange rates prevailing during the period the
transactions occurred. Translation adjustments have been excluded from the
results of operations and are reported as accumulated other comprehensive
income.
40
Foreign Currency Transactions and Derivatives - Gains and losses from foreign
currency transactions are included in the determination of net income. To
partially offset the risk of future currency fluctuations on balances due to or
from foreign subsidiaries, the Company enters into foreign exchange contracts to
sell or buy currencies at specified rates on specific dates. Market value gains
and losses on these contracts are recognized, offsetting foreign exchange gains
or losses on foreign receivables or payables. The Company does not use foreign
exchange contracts to hedge anticipated transactions. The net foreign currency
transaction loss was $1.7 million, $934,000 and $1.7 million for the years ended
March 31, 2005, 2004 and 2003, respectively. These amounts are included in
"administrative and general" in the consolidated statements of operations.
At March 31, 2005, the Company had contracts maturing through April 2005 to sell
$6.1 million and purchase $24.5 million in foreign currencies. At March 31,
2004, the Company had contracts maturing through April 2004 to sell $1.5 million
and purchase $55.9 million in foreign currencies.
Stock-Based Compensation - Through March 31, 2005, in accordance with SFAS No.
148, "Accounting for Stock-Based Compensation - Transition and Disclosure - an
amendment of FASB Statement No. 123" and SFAS No. 123, "Accounting for
Stock-Based Compensation", the Company applied APB Opinion No. 25 and related
Interpretations in accounting for its plans. Stock options are granted at
current market prices at the date of grant. Therefore, no compensation cost has
been recognized for its fixed stock option plans and its stock purchase plan.
If compensation cost for the Company's stock-based compensation plans had been
determined based on the fair value at the grant dates for fiscal 2005, 2004 and
2003 consistent with the method prescribed by SFAS No. 123, Compuware's net
income and earnings per share would have been adjusted to the pro forma amounts
indicated below (in thousands, except earnings per share data):
Year Ended March 31,
----------------------------------------------------
2005 2004 2003
------------ ------------ ------------
Net income, as reported $ 76,482 $ 49,832 $ 103,102
Less total stock-based employee
compensation expense determined under fair
value based method for all awards, net of
tax (29,912) (40,117) (51,881)
------------ ------------ ------------
Pro forma net income $ 46,570 $ 9,715 $ 51,221
============ ============ ============
Earnings per share:
As reported:
Basic earnings per share $ 0.20 $ 0.13 $ 0.27
Diluted earnings per share 0.20 0.13 0.27
Pro forma:
Basic earnings per share 0.12 0.03 0.14
Diluted earnings per share 0.12 0.03 0.14
The pro forma amounts for compensation cost may not be indicative of the effects
on net income and earnings per share for future years.
Under SFAS No. 123, the fair value of each option grant is estimated on the date
of grant using the Black-Scholes option-pricing model with the following
weighted-average assumptions for grants in fiscal 2005, 2004 and 2003,
respectively: expected volatility of 47.78%, 72.40%, and 94.46%; risk-free
interest rates of 3.9%, 2.7%, and 2.9%; and expected lives at date of grant of
5.0 years. Dividend yields were not a factor as the Company has never issued
cash dividends. The weighted-average fair value of the option rights granted
during fiscal 2005, 2004 and 2003 was $3.48, $3.22 and $5.24, respectively.
Under SFAS No. 123, the fair value of the employees' stock purchase rights
acquired by participation in the Employee Stock Purchase Plan were estimated
using the Black-Scholes model with assumptions
41
comparable to the stock option plans above. The weighted-average fair value of
the purchase rights granted in fiscal 2005, 2004 and 2003 were $1.21, $1.07 and
$1.11 per share, respectively.
Earnings Per Share (EPS) - Basic EPS is computed by dividing earnings available
to common stockholders by the weighted-average number of common shares
outstanding for the period. Diluted EPS assumes the issuance of common stock for
all potentially dilutive equivalent shares outstanding.
Business Segments - The Company's principal operating segments are products and
professional services. The Company provides software products and professional
services that help information technology professionals of the world's largest
IT organizations efficiently develop, implement and support the applications
that run their businesses.
Recently Issued Accounting Pronouncements - In December 2004, the Financial
Accounting Standards Board (FASB) issued Statement of Financial Accounting
Standards No. 123 (R), Share-Based Payment. This Statement requires companies to
expense the value of employee stock options and other forms of stock-based
compensation effective for annual periods beginning after June 15, 2005. The
Company expects to adopt the provisions of the Statement as of April 1, 2006 and
expects to use the modified prospective method to recognize compensation
expense. Company management is currently evaluating whether the adoption of this
Statement will change its compensation strategies.
In December 2004, the FASB issued SFAS No. 153, "Exchanges of Nonmonetary
Assets," an amendment of APB Opinion No. 29. SFAS No. 153 addresses the
measurement of exchanges of nonmonetary assets and redefines the scope of
transactions that should be measured based on the fair value of the assets
exchanged. SFAS No. 153 is effective for nonmonetary asset exchanges for periods
beginning after June 15, 2005. The Company does not believe that the adoption of
SFAS No. 153 will have a material effect on the Company's consolidated financial
statements.
In March 2005, the FASB issued Interpretation No. 47 (FIN 47), "Accounting for
Conditional Asset Retirement Obligations", to clarify the term "conditional
retirement obligation" as used in FASB Statement No. 143, "Accounting for Asset
Retirement Obligations". The Interpretation is effective for fiscal years ending
after December 15, 2005. The Company does not believe that the adoption of FIN
47 will have a material effect on the Company's consolidated financial
statements.
42
2. ACQUISITIONS
In October 2004, the Company acquired certain assets and liabilities of
DevStream Corporation ("DevStream"), a privately owned software company, for $8
million in cash and estimated future payments of $1.9 million. The additional
payments will be calculated based on a percentage of the revenue associated with
the DevStream products during the first 27 months after the acquisition date.
The acquisition has been accounted for using the purchase method in accordance
with SFAS No. 141, "Business Combinations" and, accordingly, the assets and
liabilities acquired have been recorded at fair value as of the acquisition
date.
In May 2004, the Company acquired privately held Changepoint Corporation, a
market-leading provider of IT Governance application software for approximately
$100 million in cash. The acquisition has been accounted for as a purchase and,
accordingly, assets and liabilities acquired have been recorded at fair value as
of the acquisition date.
Effective March 1, 2004, the Company purchased certain assets and assumed
certain liabilities of Covisint, LLC (Covisint), related to Covisint's
Communicate and Connect businesses for approximately $7 million plus certain
lease obligations originally estimated at $2.1 million. Final lease obligations
were $1.6 million and the purchase price has been adjusted accordingly. The
acquisition has been accounted for as a purchase and, accordingly, assets and
liabilities acquired have been recorded at fair value as of the acquisition
date. Covisint's application services include business-to-business applications
and communication services which, at the time of the acquisition, targeted the
global automotive industry.
43
3. INVESTMENTS
A summary of securities at March 31, 2005 and 2004 is set forth below (in
thousands):
Gross Gross
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
---------- ---------- ---------- ----------
March 31, 2005
- --------------
Held-to-maturity securities:
Municipal obligations $ 129,537 $ 556 $ 128,981
U.S. Treasury securities and obligations
of U.S. government agencies 132,545 1,051 131,494
Bank certificate of deposit 2,000 2,000
---------- ---------- ---------- ----------
Total held-to-maturity 264,082 1,607 262,475
Available-for-sale:
Tax free auction rate securities 104,802 104,802
---------- ---------- ---------- ----------
Total investments $ 368,884 $ 1,607 $ 367,277
========== ========== ========== ==========
March 31, 2004
- --------------
Held-to-maturity securities:
Municipal obligations $ 127,964 $ 145 $ 48 $ 128,061
U.S. Treasury securities and obligations
of U.S. government agencies 67,000 91 21 67,070
Zero coupon bonds 2,285 4 2,289
---------- ---------- ---------- ----------
Total held-to-maturity 197,249 240 69 197,420
Available-for-sale:
Tax advantage auction rate securities 5,000 5,000
Tax free auction rate securities 109,889 11 109,900
---------- ---------- ---------- ----------
Total investments $ 312,138 $ 251 $ 69 $ 312,320
========== ========== ========== ==========
The Company has historically considered the auction date as the maturity date
for auction rate securities. Under this assumption, the securities were
classified as held-to-maturity. Consistent with the Company's interpretation and
intent, a significant portion of these securities were classified as current.
During the current fiscal year, additional guidance became available to the
Company regarding the classification of these securities. This information
clarified that the auction date should not be used as the maturity date.
Therefore, consistent with the Company's original intent, these securities were
reclassified as available-for-sale. This reclassification had no effect on the
Company's balance sheet, statements of operations and statements of cash flows.
44
Scheduled maturities of securities classified as held-to-maturity and
available-for-sale at March 31, 2005 were as follows (in thousands):
Amortized Fair
Cost Value
--------- ---------
Held-to-maturity
Due in:
2006 $ 216,918 $ 215,898
2007 47,164 46,577
--------- ---------
Total $ 264,082 $ 262,475
========= =========
Available-for-sale
Due in:
2006 $ 82,797 $ 82,797
2007 22,005 22,005
--------- ---------
Total $ 104,802 $ 104,802
========= =========
4. PROPERTY AND EQUIPMENT
Property and equipment, summarized by major classification, is as follows (in
thousands):
March 31,
---------------------------
2005 2004
---------- ----------
Buildings and improvements $ 370,927 $ 393,141
Leasehold improvements 21,644 18,552
Furniture and fixtures 75,620 75,837
Computer equipment and software 91,200 79,872
Land 1,776
---------- ----------
559,391 569,178
Less accumulated depreciation and
amortization 141,150 124,777
---------- ----------
Total $ 418,241 $ 444,401
========== ==========
During fiscal 2005, the Company implemented a plan to market and sell the former
headquarters building in Farmington Hills, Michigan. The building is classified
in current assets as held for sale. The Company evaluated whether the current
carrying value of the building was impaired and, based on an independent
appraisal of the building, concluded that no impairment charge should be
recorded at March 31, 2005.
45
5. INVESTMENTS IN PARTIALLY OWNED COMPANIES
At March 31, 2005, the Company held a 33.3% interest in CareTech Solutions, Inc.
(CareTech) and a 49% interest in ForeSee Results, Inc. (ForeSee).
CareTech provides information technology outsourcing for healthcare
organizations including data, voice, applications and data center operations.
This investment is accounted for under the equity method.
At March 31, 2005 and 2004, the Company's carrying value of its investments in
and advances to CareTech was $18.4 million and $22.0 million, respectively.
Included in the net investment at March 31, 2005 and 2004, is a note receivable
with an adjusted basis of $13.9 million and $14.7 million, respectively, and
accounts receivable due from CareTech of $4.5 million and $7.3 million,
respectively. The note is payable in quarterly installments through January 2012
and bears interest at 5.25%. At March 31, 2005, CareTech was current with the
terms of the note.
Since 1999, the Company has guaranteed lease obligations of CareTech up to $12.5
million. The Company has not recorded any liability related to these guarantees
since it believes that CareTech will continue to meet its obligations. At March
31, 2005, CareTech's outstanding lease obligations were approximately $5.4
million.
The Company reviewed CareTech's financial situation at March 31, 2005 and
concluded that no impairment charge or valuation allowance related to its
investment in CareTech was warranted. For the years ended March 31, 2005, 2004
and 2003, the Company recognized net income (loss) of $784,000, $177,000 and
$(64,000), respectively, from its investment in CareTech.
ForeSee was incorporated in October 2001 to provide online customer satisfaction
management. This investment is also accounted for under the equity method
including consideration of EITF 98-13, "Accounting by an Equity Method Investor
for Investee Losses When the Investor has Loans to and Investments in Other
Securities of an Investee".
At March 31, 2005 and 2004, the Company's carrying value of its investments in
and advances to ForeSee was $3.1 million and $3.9 million, respectively.
Included in the net investment at March 31, 2005 and 2004, are notes receivable
from ForeSee totaling $5.6 million and $5.3 million with an adjusted basis of
$2.8 million and $3.7 million, respectively. The ForeSee notes bear interest at
the prime rate (5.75% at March 31, 2005) and are due between June 2007 and
October 2009. The Company has pledged $367,000 in additional loans to ForeSee,
if needed, subject to approval by the ForeSee shareholders. During the second
quarter of fiscal 2004, the Company's equity investment in ForeSee was reduced
to zero. At that point, the Company began recording 100 percent of the losses
sustained by ForeSee as a reduction to the Company's outstanding advances to
ForeSee since the Company is uncertain whether the other shareholders are
willing or able to sustain their share of the losses. The Company continues to
monitor the financial situation of ForeSee on a regular basis and has concluded
that no impairment reserve was warranted at March 31, 2005. For the years ended
March 31, 2005, 2004 and 2003, the Company recognized net losses of $1.2
million, $2.4 million and $2.2 million, respectively, from its investment in
ForeSee.
Professional services revenue for the years ended March 31, 2005, 2004 and 2003
included approximately $20.5 million, $21.3 million and $27.5 million,
respectively, from services provided to CareTech customers on a subcontractor
basis. Professional services revenue for the years ended March 31, 2005, 2004
and 2003 included approximately $844,000, $932,000 and $1.2 million,
respectively, from services provided to ForeSee.
46
6. RELATED PARTY TRANSACTIONS
The Company sells and purchases products and services from companies associated
with certain officers or directors of the Company.
G. Scott Romney, Director of the Company, is a partner in the law firm of
Honigman Miller Schwartz and Cohn LLP (Honigman). Honigman provides legal
services to the Company. For the years ended March 31, 2005, 2004 and 2003,
legal services provided by Honigman to the Company were approximately $2.9
million, $4.4 million and $4.6 million, respectively. These costs are included
in "administrative and general" in the consolidated statements of operations.
Dennis W. Archer, Director of the Company, is a partner in the law firm of
Dickinson Wright PLLC (Dickinson). Dickinson provides legal services to the
Company. For the years ended March 31, 2005, 2004 and 2003, legal services
provided by Dickinson to the Company were approximately $291,000, $117,000 and
$259,000, respectively. These costs are included in "administrative and general"
in the consolidated statements of operations.
Peter Karmanos, Jr., Chairman of the Board and Chief Executive Officer of the
Company, and Thomas Thewes, Vice-Chairman of the Board through September 2002,
are the sole shareholders of Compuware Sports Corporation (CSC). CSC operates an
amateur hockey program in Southeastern Michigan. On September 8, 1992, the
Company entered into a Promotion Agreement with CSC to promote the Company's
business. The promotion agreement automatically renews each year, unless
terminated with 60 days prior notice by either party. For the years ended March
31, 2005, 2004 and 2003, advertising costs related to this agreement were
approximately $840,000, $840,000 and $858,000, respectively. These costs are
included in "sales and marketing" in the consolidated statements of operations.
Peter Karmanos, Jr. and Thomas Thewes control the entities that own and/or
manage various sports arenas. The Company entered into an advertising agreement
with one arena to promote the Company's business, including the right to name
the arena "Compuware Arena" and the right to place advertising in and around the
facility. The Company also rents suites at two arenas. Total advertising costs
related to these agreements were approximately $415,000, $364,000 and $269,000
for the years ended March 31, 2005, 2004 and 2003, respectively. These costs are
included in "sales and marketing" in the consolidated statements of operations.
The Company utilizes Karmanos Printing and Graphics, Inc. for certain printing
services. Karmanos Printing and Graphics, Inc. is owned by the brother and
sister-in-law of Peter Karmanos, Jr. For the years ended March 31, 2005, 2004
and 2003, printing charges from Karmanos Printing and Graphics, Inc. were
approximately $301,000, $649,000 and $625,000, respectively. These costs are
primarily included in "sales and marketing" in the consolidated statements of
operations.
47
7. RESTRUCTURING CHARGES
In the fourth quarter of fiscal 2002, the Company adopted a restructuring plan
to reorganize its operating divisions, primarily the professional services
segment. These changes were designed to increase profitability in the future by
better aligning cost structures with current market conditions.
The restructuring plan included a reduction of professional services staff at
certain locations, the closing of entire professional services offices and a
reduction of sales support personnel, lab technicians and related administrative
and financial staff. Approximately 1,600 employees worldwide were terminated as
a result of the reorganization.
The following table summarizes the restructuring accrual and charges against the
accrual during fiscal 2002, 2003, 2004 and 2005 (in thousands):
Employee Facilities costs Legal, consulting and Total
termination (primarily lease outplacement restructuring
benefits abandonments) costs Other charge
------------ ---------------- --------------------- ------------ -------------
Restructuring charge $ 19,012 $ 26,341 $ 1,299 $ 278 $ 46,930
Incurred during year ended
March 31, 2002 (553) (676) (1,229)
------------ ------------ ----------------- ------------ ------------
Accrual at March 31, 2002 18,459 25,665 1,299 278 45,701
Incurred during year ended
March 31, 2003 (16,405) (8,589) (691) (215) (25,900)
Adjustment (1,356) 2,012 (593) (63)
------------ ------------ ------------ ------------ ------------
Accrual at March 31, 2003 698 19,088 15 19,801
Incurred during year ended
March 31, 2004 (591) (5,600) (4) (6,195)
------------ ------------ ------------ ------------ ------------
Accrual at March 31, 2004 107 13,488 11 13,606
Incurred during year ended
March 31, 2005 (82) (2,695) (1) (2,778)
------------ ------------ ------------ ------------ ------------
Accrual at March 31, 2005 $ 25 $ 10,793 $ 10 $ $ 10,828
============ ============ ============ ============ ============
During the year ended March 31, 2003, the Company determined the accruals
associated with employee terminations, legal and outplacement were in excess of
actual costs incurred. These excess accruals have been reduced. The accrual for
facilities costs was increased, since the Company had not been as successful in
subleasing abandoned leased space as originally anticipated.
Approximately $7.4 million and $9.2 million of the accrual related to facilities
costs is included in "long term accrued expenses" in the consolidated balance
sheet at March 31, 2005 and 2004, respectively.
48
8. GOODWILL AND INTANGIBLE ASSETS
The components of the Company's intangible assets were as follows (in
thousands):
March 31, 2005
----------------------------------------------------
Gross Carrying Accumulated Net Carrying
Amount Amortization Amount
-------------- ------------ ------------
Unamortized intangible assets:
Trademarks (1) $ 5,821 $ 5,821
============== ============ ============
Amortized intangible assets:
Capitalized software (2) $ 269,912 $ (215,869) $ 54,043
Customer relationship agreements (3) 5,123 (939) 4,184
Non-compete agreements (3) 1,626 (497) 1,129
Other (4) 7,185 (5,071) 2,114
-------------- ------------ ------------
Total amortized intangible assets $ 283,846 $ (222,376) $ 61,470
============== ============ ============
March 31, 2004
----------------------------------------------------
Gross Carrying Accumulated Net Carrying
Amount Amortization Amount
-------------- ------------ ------------
Unamortized intangible assets:
Trademarks (1) $ 370 $ 370
============== ============ ============
Amortized intangible assets:
Capitalized software (2) $ 238,980 $ (193,491) $ 45,489
Other (4) 7,220 (4,413) 2,807
-------------- ------------ ------------
Total amortized intangible assets $ 246,200 $ (197,904) $ 48,296
============== ============ ============
(1) Certain trademarks were acquired as part of the Covisint and Changepoint
acquisitions in fiscal 2004 and 2005. These trademarks are deemed to have an
indefinite life and therefore are not being amortized.
(2) Amortization of capitalized software is included in "cost of software
license fees" in the consolidated statements of operations. Capitalized
software is generally amortized over five years.
(3) Customer relationship agreements and non-compete agreements were acquired as
part of the Changepoint acquisition in fiscal 2005. The customer
relationship agreements are being amortized over five years. The non-compete
agreements are being amortized over three years.
(4) Other amortized intangible assets include trademarks associated with past
product acquisitions and Covisint customer contracts. These trademarks are
being amortized over ten years. The Covisint customer contracts are being
amortized over three years.
49
Amortization expense of intangible assets for the years ended March 31, 2005,
2004 and 2003 was $24.5 million, $26.8 million, and $26.2 million, respectively.
Annual amortization expense, based on identified intangible assets at March 31,
2005, is expected to be as follows (in thousands):
Year Ended March 31,
-------------------------------------------------------------------------------------
2006 2007 2008 2009 2010 Thereafter
---------- ---------- ---------- ---------- ---------- ----------
Capitalized software $ 16,441 $ 13,785 $ 11,232 $ 8,765 $ 3,334 $ 486
Customer relationships 1,025 1,025 1,025 1,025 84
Non-compete agreements 542 542 45
Other 658 631 330 330 165
---------- ---------- ---------- ---------- ---------- ----------
Total $ 18,666 $ 15,983 $ 12,632 $ 10,120 $ 3,583 $ 486
========== ========== ========== ========== ========== ==========
The Company evaluated its goodwill at March 31, 2005 and 2004 and determined
there was no impairment in either fiscal year. Changes in the carrying amounts
of goodwill for the years ended March 31, 2005 and 2004 are as follows (in
thousands):
Products Services Total
---------- ---------- ----------
Goodwill:
Balance at March 31, 2003, net $ 72,182 $ 140,106 $ 212,288
Acquisition 201 201
Effect of foreign currency translation 870 870
---------- ---------- ----------
Balance at March 31, 2004, net 72,182 141,177 213,359
Acquisitions 79,856 79,856
Adjustment to previously recorded purchase price (1) (201) (201)
Effect of foreign currency translation 6 371 377
---------- ---------- ----------
Balance at March 31, 2005, net $ 152,044 $ 141,347 $ 293,391
========== ========== ==========
(1) During fiscal 2005, within the allocation period, the Company settled
certain leasehold obligations assumed as part of the Covisint acquisition
for less than originally estimated. This resulted in an elimination of the
goodwill associated with the Covisint acquisition.
9. DEBT
The Company has no long term debt.
The Company holds a $100 million revolving credit facility maturing on July 28,
2005. If at any time the combined unencumbered liquid assets of the Company (as
defined in the credit facility) are less than $200 million, the credit facility
will be reduced to $50 million. Interest is payable at 2% over the Eurodollar
rate or at the prime rate (5.75% at March 31, 2005), at the Company's option.
The terms of the credit facility contain, among other provisions, a covenant to
maintain a minimum $1 billion consolidated net worth, and specific limitations
on additional indebtedness, liens and merger activity. No borrowings have
occurred or are planned under this facility.
The Company incurs interest expense primarily related to the accrual for certain
abandoned leases. Cash paid for interest totaled approximately $2.0 million,
$2.2 million and $2.2 million for the years ended March 31, 2005, 2004 and 2003,
respectively.
50
10. CAPITAL STOCK
Preferred Stock Purchase Rights - Under the Company's shareholder rights plan,
each shareholder receives one right to purchase one two-thousandth of a share of
Series A Junior Participating Preferred Stock (a right) for each share of common
stock owned by the shareholder. Holders of the rights are entitled to purchase
for $40.00 one two-thousandth of one share of the Company's Series A Junior
Participating Preferred Stock in certain limited circumstances involving
acquisitions of, or offers for, 15% or more of the Company's common stock. After
any such acquisition is completed, each right entitles its holder to purchase
for $40.00 an amount of common stock of the Company, or in certain circumstances
securities of the acquirer, having a then current market value of two times the
exercise price of the right. In connection with the shareholder rights plan, the
Company has designated 800,000 shares of its 5,000,000 shares of authorized but
unissued Preferred Stock as "Series A Junior Participating Preferred Stock."
Each one two-thousandth of each share of Series A Junior Participating Preferred
Stock will generally be afforded economic rights similar to one share of the
Company's common stock. The rights are redeemable for a specified period at a
price of $0.001 per right and expire on November 9, 2010 unless extended or
earlier redeemed by the Board of Directors.
Common Stock Warrant - In November 2001, the Company issued a non-transferable
warrant entitling a customer to purchase one million shares of common stock at
$10.51 per share in exchange for approximately $2.8 million in cash, which was
the warrant's fair value at the date of issue. The warrant was not exercised and
expired on November 16, 2004.
Stock Repurchase Plan - On May 6, 2003, the Company's Board of Directors
authorized the repurchase of up to $125 million of the Company's common stock.
Purchases of common stock occur on the open market, through negotiated or block
transactions, periodically, based upon market and business conditions. The
Company regularly evaluates market conditions for an opportunity to repurchase
common stock. There were no Company common shares purchased under this program
during fiscal 2005. During fiscal 2004, approximately 200,000 shares of Company
common stock were acquired under this program.
11. EARNINGS PER COMMON SHARE
Earnings per common share data were computed as follows (in thousands, except
for per share data):
Year Ended March 31,
----------------------------------------
2005 2004 2003
---------- ---------- ----------
Basic earnings per share:
Numerator: Net income $ 76,482 $ 49,832 $ 103,102
---------- ---------- ----------
Denominator:
Weighted-average common shares outstanding 386,701 382,630 377,028
---------- ---------- ----------
Basic earnings per share $ 0.20 $ 0.13 $ 0.27
========== ========== ==========
Diluted earnings per share:
Numerator: Net income $ 76,482 $ 49,832 $ 103,102
---------- ---------- ----------
Denominator:
Weighted-average common shares outstanding 386,701 382,630 377,028
Dilutive effect of stock options and warrant 1,800 1,978 1,412
---------- ---------- ----------
Total shares 388,501 384,608 378,440
---------- ---------- ----------
Diluted earnings per share $ 0.20 $ 0.13 $ 0.27
========== ========== ==========
During the years ended March 31, 2005, 2004 and 2003, the warrant and stock
options to purchase approximately 58,492,000, 60,345,000 and 61,917,000 shares,
respectively, were excluded from the diluted EPS calculation because they were
anti-dilutive.
51
12. INCOME TAXES
Temporary differences and carryforwards which give rise to a significant portion
of deferred tax assets and liabilities are as follows (in thousands):
March 31,
---------------------------
2005 2004
---------- ----------
Deferred tax assets:
Deferred maintenance $ 3,800 $ 8,506
Amortization of intangible assets 45,061 50,601
Restructuring accrual 3,790 4,762
Allowance for doubtful accounts 3,983 5,740
U.S. tax credit carryforwards 36,535 16,849
Deferred taxes of foreign affiliates 21,437 19,172
Other 29,050 34,769
---------- ----------
143,656 140,399
Less valuation allowance 15,367 9,497
---------- ----------
Net deferred tax assets 128,289 130,902
Current portion 36,164 32,832
---------- ----------
Long term portion $ 92,125 $ 98,070
========== ==========
Deferred tax liabilities:
Amortization of intangible assets $ 12,620 $ 11,343
Capitalized research and development costs 13,740 11,544
Depreciation 60,566 42,186
Other 3,833 4,741
---------- ----------
Total deferred tax liabilities 90,759 69,814
Current portion 438 372
---------- ----------
Long term portion $ 90,321 $ 69,442
========== ==========
52
Income before income taxes and the income tax provision include the following
(in thousands):
Year Ended March 31,
---------------------------------------------
2005 2004 2003
---------- ---------- ----------
Income before income taxes:
U.S. $ 82,115 $ 30,313 $ 132,398
Foreign 24,110 25,704 23,817
---------- ---------- ----------
Total income before income taxes $ 106,225 $ 56,017 $ 156,215
========== ========== ==========
Income tax provision
Current:
Federal $ 2,353 $ (32,994) $ 15,314
Foreign 747 10,591 9,785
State 294 (1,215) 465
---------- ---------- ----------
Total current tax provision (benefit) 3,394 (23,618) 25,564
---------- ---------- ----------
Deferred:
Federal 19,287 27,078 22,566
Foreign 6,256 765 2,642
State 806 1,960 2,341
---------- ---------- ----------
Total deferred tax expense 26,349 29,803 27,549
---------- ---------- ----------
Total income tax provision $ 29,743 $ 6,185 $ 53,113
========== ========== ==========
The Company's income tax expense differed from the amount computed on pre-tax
income at the U.S. federal income tax rate of 35% for the following reasons (in
thousands):
Year Ended March 31,
---------------------------------------------
2005 2004 2003
---------- ---------- ----------
Federal income tax at
statutory rates $ 37,179 $ 19,606 $ 54,675
Increase (decrease) in taxes:
Export sales benefit (6,541) (3,679) (4,065)
State income taxes, net 715 484 1,824
Settlement of prior year tax matters (1) (9,500)
Research and development credit (5,760) (4,726) (5,437)
Valuation allowance 5,870 2,582 5,229
Other, net (1,720) 1,418 887
---------- ---------- ----------
Provision for income taxes $ 29,743 $ 6,185 $ 53,113
========== ========== ==========
(1) During the quarter ended December 31, 2003, the Company adjusted its
reserves related to various tax matters. This adjustment resulted in an
income tax benefit of $9.5 million relating primarily to favorable tax
settlements with the U.S. Internal Revenue Service (IRS) and recent
developments in other tax matters both in the U.S. and other taxing
jurisdictions. The Company recorded a net benefit of $4.7 million related to
the completion of an IRS exam which challenged the deductibility of interest
paid on Corporate Owned Life Insurance policies. The Company entered into a
Closing Agreement with the IRS on this matter in October 2003. The balance
of the adjustment related to revisions in estimates for reserves related to
the U.S. Research and Experimentation tax credit, an audit of the Company's
Australian operations for fiscal years 1996 through 2001, and other reserves
no longer deemed necessary.
53
At March 31, 2005 the Company has foreign net operating loss carryforwards for
income tax purposes of $11.4 million which expire as follows (in thousands):
Year ending March 31:
2006 $ 443
2008 1,269
2009 3,012
2010 28
2011 1
2016 84
2017 3
Unlimited carryforward 6,537
The deferred tax asset for these foreign loss carryforwards has been reduced by
a valuation allowance of $300,000.
For U.S. tax purposes, $741,000 (expiring 2010 through 2020) of net operating
losses is available to reduce U.S. federal income taxes. In addition, $24.3
million (expiring in 2008 through 2010) of foreign tax credits are available to
offset future U.S. federal income tax liabilities; the deferred tax asset for
these foreign tax credits has been reduced by a valuation allowance of $12.1
million. Deferred tax assets related to charitable contribution and general
business credit carryforwards are available to offset future U.S. federal income
tax liabilities of $19.4 million (expiring in 2009 through 2025). A capital loss
carryforward is available to offset future U.S. federal capital gains of
$300,000 (expiring in 2007 through 2010); this asset has been reduced entirely
by a valuation allowance.
In addition, the Company has $600,000 (expiring 2009 through 2011) of Canadian
tax credits available to offset future Canadian income tax liabilities. The
deferred tax asset for these Canadian tax credits has been reduced by a
valuation allowance of $100,000.
Cash paid (received) for income taxes totaled $55,000, $4.6 million and ($7.9
million) for the years ended March 31, 2005, 2004 and 2003, respectively.
The Company has open tax years, primarily 1996 and forward, with various
significant taxing jurisdictions including the U.S., France and Australia. These
open years contain matters that could be subject to differing interpretations of
applicable tax laws and regulations. As of March 31, 2005 and 2004, the Company
has reserved $27.6 million and $33.3 million, respectively, for those matters
where the amount of loss is probable and estimable. The change in the reserve
includes a reduction of $3.9 million due to changes in estimated losses related
to various items. The reserve also decreased $1.8 million due to state tax
payments. The amount of the liability is based on management's best estimate
given the Company's history with similar matters and interpretations of
applicable laws and regulations.
54
13. SEGMENT INFORMATION
Compuware operates in two business segments in the software industry: products
and professional services. The Company provides software products and
professional services to the world's largest IT organizations that help IT
professionals efficiently develop, implement and support the applications that
run their businesses.
The Company's products are designed to support five key activities within the
application development process: IT governance, development and integration,
quality assurance, production readiness and performance management of the
application to optimize performance in production. The Company also offers a
broad range of IT professional services including business systems analysis,
design, communication, programming, software conversion and system planning and
consulting.
Ford Motor Company accounted for approximately 12% of total revenue during
fiscal 2003. This revenue was primarily associated with the professional
services segment of the business. No other single customer accounted for greater
than 10% of total revenue during fiscal 2005, 2004 or 2003, or greater than 10%
of accounts receivable at March 31, 2005 and 2004.
The Company evaluates the performance of its segments based primarily on
operating profit before corporate expenses and other charges. The allocation of
income taxes is not evaluated at the segment level. Financial information for
the Company's business segments is as follows (in thousands):
Year Ended March 31,
----------------------------------------------------
2005 2004 2003
------------ ------------ ------------
Revenues:
Products:
Mainframe $ 526,743 $ 527,310 $ 553,480
Distributed systems 203,756 177,508 154,416
------------ ------------ ------------
Total products revenue 730,499 704,818 707,896
Professional services 501,340 559,829 667,444
------------ ------------ ------------
Total revenues $ 1,231,839 $ 1,264,647 $ 1,375,340
============ ============ ============
Income (loss) from operations:
Products $ 229,880 $ 198,941 $ 269,855
Professional services 56,344 46,208 55,800
Corporate expenses (199,628) (207,613) (188,814)
------------ ------------ ------------
Income from operations 86,596 37,536 136,841
Other income 19,629 18,481 19,374
------------ ------------ ------------
Income before income taxes $ 106,225 $ 56,017 $ 156,215
============ ============ ============
55
Financial information regarding geographic operations are presented in the table
below (in thousands):
Year Ended March 31,
--------------------------------------------------
2005 2004 2003
------------ ------------ ------------
Revenues:
United States $ 836,420 $ 875,340 $ 1,009,354
Europe and Africa 299,616 303,328 286,088
Other international operations 95,803 85,979 79,898
------------ ------------ ------------
Total revenue $ 1,231,839 $ 1,264,647 $ 1,375,340
============ ============ ============
Long-lived assets (1):
United States $ 661,951 $ 678,518 $ 628,920
Europe and Africa 14,304 14,964 15,070
Barbados 77,422
Other international operations 11,998 9,767 9,491
------------ ------------ ------------
Total long-lived assets $ 765,675 $ 703,249 $ 653,481
============ ============ ============
(1) Long-lived assets are comprised of property, plant and equipment, goodwill
and capitalized software. The long-lived assets in Barbados consist of $71.6
million of goodwill and $5.8 million of capitalized software associated with
the Changepoint acquisition.
The Company does not evaluate assets and capital expenditures on a segment
basis, and accordingly such information is not provided.
14. COMMITMENTS AND CONTINGENCIES
The Company leases office space, equipment and land under various operating
lease agreements extending through fiscal 2100. Total rent payments under these
agreements were approximately $40.7 million, $38.1 million and $48.1 million for
the years ended March 31, 2005, 2004 and 2003. Certain of these leases contain
provisions for renewal options and escalation clauses. The Company also has
commitments under various contribution and advertising agreements. The following
is a schedule of future minimum commitments in total and for the next five years
and thereafter (in thousands):
Payment Due by Period as of March 31,
----------------------------------------------------------------------------------------------
2011 and
Total 2006 2007 2008 2009 2010 Thereafter
---------- ---------- ---------- ---------- ---------- ---------- ----------
Contractual obligations:
Operating leases $ 347,240 $ 34,038 $ 27,108 $ 23,138 $ 20,077 $ 11,572 $ 231,307
Other (1) 9,175 7,575 200 200 200 200 800
---------- ---------- ---------- ---------- ---------- ---------- ----------
Total $ 356,415 $ 41,613 $ 27,308 $ 23,338 $ 20,277 $ 11,772 $ 232,107
========== ========== ========== ========== ========== ========== ==========
(1) - Other includes $7.3 million of commitments to various Detroit area
charities and a $1.9 million advertising agreement. Expenses related to
other for the years ended March 31, 2005, 2004 and 2003 were $6.4 million,
$4.3 million and $8.6 million, respectively.
56
The Company also leases a portion of the new headquarters facility to retail
tenants. The following is a schedule of future minimum lease income commitments
in total and for the next five years and thereafter (in thousands):
Payment Due by Period as of March 31,
----------------------------------------------------------------------------------------------
2011 and
Total 2006 2007 2008 2009 2010 Thereafter
---------- ---------- ---------- ---------- ---------- ---------- ----------
Lease income commitments:
Operating lease income $ 5,753 $ 531 $ 533 $ 537 $ 560 $ 500 $ 3,092
Director Compensation - Effective April 1, 2002, the Board of Directors approved
the 2002 Directors Phantom Stock Plan (the Plan) for external Board members to
provide increased incentive to make contributions to the long term growth of the
Company, to align the interests of directors with the interests of shareholders,
and to facilitate attracting and retaining directors of exceptional ability. The
Plan provides for issuance of rights to receive the value of a share of the
Company's common stock in cash upon vesting which occurs upon the retirement of
the director from the Board. Phantom shares are granted automatically at the
beginning of each fiscal year and at the discretion of the Board. As of March
31, 2005, approximately 215,000 phantom shares were outstanding. The expense
incurred related to this program was approximately $397,000, $968,000 and
$275,000 for the years ended March 31, 2005, 2004 and 2003, respectively, and is
included in "administrative and general" in the consolidated statements of
operations. Any fluctuation in the Company's stock price as quoted on the NASDAQ
will result in a change to the expected payments under the Plan.
Legal Matters - In March 2005, the Company settled all of its outstanding
litigation with International Business Machines Corporation (IBM). Under the
settlement agreement, IBM and the Company entered into a business arrangement
whereby IBM will purchase software licenses and maintenance from the Company
valued at $140 million over the next four years. IBM will also offer to purchase
an additional $260 million of professional services from the Company during that
time. In addition to settling all outstanding legal claims between the two
companies, the Company and IBM entered into reciprocal patent license agreements
related to both Companies' software products. In fiscal 2005, IBM prepaid $20
million toward their license and maintenance commitment. This amount is included
in current deferred revenue as of March 31, 2005.
The Company is subject to various legal proceedings and claims, either asserted
or unasserted, which arise in the ordinary course of business. The Company does
not believe that the outcome of any of these legal matters will have a material
adverse effect on the Company's consolidated financial position, results of
operations and cash flows.
15. BENEFIT PLANS
Employee Stock Ownership Plan - In July 1986, the Company established an
Employee Stock Ownership Plan (ESOP) and Trust. Under the terms of the ESOP, the
Company makes annual contributions to the Plan for the benefit of substantially
all U.S. employees of the Company. The contribution may be in the form of cash
or common shares of the Company. The Board of Directors may authorize
contributions between a maximum of 25% of eligible compensation and a minimum
sufficient to cover current obligations of the Plan. There were no contributions
to the Plan during fiscal 2005. Contributions totaled $4.9 million and $9.4
million in fiscal 2004 and 2003, respectively. This is a non-leveraged ESOP
plan.
Employee Stock Purchase Plan - During fiscal 2002, the shareholders approved
international and domestic employee stock purchase plans under which the Company
was authorized to issue up to 15 million shares of common stock to eligible
employees. Currently, the offering periods are based on calendar quarters. Under
the terms of the plan, employees can elect to have up to ten percent of their
compensation withheld to purchase Company stock at the close of the offering
period. The value of the
57
stock purchased in any calendar year cannot exceed $25,000 per employee. The
purchase price is 85% of the first or last day's average high and low price for
each offering period, whichever is lower. During fiscal 2005, 2004 and 2003, the
Company sold approximately 1,901,000, 2,340,000 and 3,482,000 shares,
respectively, to eligible employees under the plan.
Employee Stock Option Plans - The Company adopted five employee stock option
plans dating back to 1991. These plans provide for grants of options to purchase
up to 91,000,000 shares of the Company's common stock to employees and directors
of the Company, of which approximately 35,323,000 options were outstanding at
March 31, 2005. Under the terms of the plans, the Company may grant nonqualified
options at the fair market value of the stock on the date of grant. During
fiscal 2005, the Company granted approximately 607,000 options under these
Plans. Options granted under these plans vest in cumulative annual installments
over a three to five year period. All options were granted at fair market value
and expire ten years from the date of grant.
In March 2001, the Company adopted the 2001 Broad Based Stock Option Plan. The
plan was approved by the Board of Directors, but was not submitted to the
shareholders for approval (at March 2001, shareholder approval was not
required). The plan provides for grants of options to purchase up to 50,000,000
shares of the Company's common stock to employees or directors of the Company.
Under the terms of the plan, the Company may grant nonqualified stock options at
the fair market value of the stock on the date of grant. During fiscal 2005, the
Company granted approximately 2,538,000 options under the Broad Based Stock
Option Plan. Approximately 25,725,000 options were outstanding at March 31,
2005. Options granted under the Broad Based Stock Option Plan either vest every
six months over a four year period or in cumulative annual installments over a
three to five year period. All options were granted at fair market value and
expire ten years from the date of grant.
Non-Employee Director Stock Option Plan - In July 1992, the Company adopted the
Stock Option Plan for Non-Employee Directors. Under this plan, 2,400,000 shares
of common stock are reserved for issuance to non-employee directors of the
Company who have not been employees of the Company, any subsidiary of the
Company or any entity which controls more than 10% of the total combined voting
power of the Company's capital stock for at least one year prior to becoming
director. During fiscal 2005, no options were granted under the Non-Employee
Director Stock Option Plan. Approximately 1,087,000 options were outstanding at
March 31, 2005.
At March 31, 2005, approximately 15,000 options were outstanding under plans
that were terminated by the Company, of which virtually all are fully vested.
All outstanding options under the terminated plans remain in effect in
accordance with the terms under which they were granted.
During fiscal 1999, the Company implemented a Replacement Stock Option Award
program. The program allows selected participants to pay the option exercise
price with shares of currently owned Company stock. The Company grants a new
stock option award to replace the shares exchanged in the transaction. During
fiscal 2005, no options were exercised under the Replacement Stock Option Award
program.
The Company applied the intrinsic value method of recognition and measurement
under APB Opinion No. 25 to its stock-based compensation plans. Accordingly, no
compensation expense related to employee stock options is reflected in net
income, as all options granted had an exercise price equal to the market value
of the underlying common stock on the date of the grant. See Note 1 for the
Company's pro forma net income and earnings per share in accordance with SFAS
No. 123.
58
A summary of the status of fixed stock option grants under Compuware's
stock-based compensation plans as of March 31, 2005, 2004 and 2003, and changes
during the years ending on those dates is as follows (shares in thousands):
2005 2004 2003
----------------------------- ----------------------------- -----------------------------
Shares Shares Shares
Under Weighted-Avg. Under Weighted-Avg. Under Weighted-Avg.
Option Exercise Price Option Exercise Price Option Exercise Price
-------- -------------- -------- -------------- -------- --------------
Outstanding at
beginning of year 63,626 $ 11.62 64,233 $ 11.75 65,864 $ 12.30
Granted 3,145 7.56 2,854 5.45 5,975 7.17
Exercised (524) 3.46 (837) 3.37 (552) 2.82
Exchanged (15) (37) 6.06 (12) 8.35
Forfeited (4,082) 11.02 (2,587) 10.84 (7,042) 13.79
-------- -------- --------
Outstanding at
year end 62,150 $ 11.51 63,626 $ 11.62 64,233 $ 11.75
======== ======== ========
Options exercisable
at year end 47,391 $ 12.71 42,128 $ 13.06 34,510 $ 12.78
======== ======== ========
The following table summarizes information about stock options outstanding at
March 31, 2005 (shares in thousands):
Options Outstanding Options Exercisable
----------------------------------------- ------------------------
Shares Shares
Under Weighted-Avg. Weighted-Avg. Under Weighted-Avg.
Option Remaining Life Exercise Price Option Exercise Price
------ -------------- -------------- ------ --------------
Range of Exercise Prices
$ 0.01 to $5.00 3,581 3.58 $ 3.41 2,144 $ 3.04
5.01 to 10.00 39,762 5.62 8.53 26,728 8.82
10.01 to 20.00 10,546 3.43 14.91 10,262 14.99
20.01 to 30.00 7,675 2.99 24.41 7,671 24.41
30.01 to 42.00 586 3.09 32.25 586 32.25
------ ------
62,150 4.78 11.51 47,391 12.71
====== ======
Number of securities
Number of securities remaining available
to be issued Weighted-average for future issuance
upon exercise of exercise price of under equity
outstanding options outstanding options compensation plans
-------------------- ------------------- --------------------
Equity compensation plans
approved by security holders 36,425 $13.50 8,365
Equity compensation plans not
approved by security holders 25,725 8.68 23,735
The maximum number of shares for which additional options may be granted was
32,100,201, 31,275,605 and 31,596,483 at March 31, 2005, 2004 and 2003,
respectively. At March 31, 2005, a total of 94,250,632 shares of the Company's
common stock are reserved for issuance under all option plans. Income tax
benefits associated with the exercise of stock options are reflected as
adjustments to additional paid-in capital.
59
16. QUARTERLY FINANCIAL INFORMATION (UNAUDITED)
Quarterly financial information for the years ended March 31, 2005 and 2004 is
as follows (in thousands, except for per share data):
First Second Third Fourth
Quarter Quarter Quarter Quarter Year
---------- ---------- ---------- ---------- ----------
Fiscal 2005:
Revenues $ 287,053 $ 295,468 $ 330,535 $ 318,783 $1,231,839
Operating income (loss) (2,921) 6,124 52,850 30,543 86,596
Pre-tax income 895 10,291 57,920 37,119 106,225
Net income 644 7,410 41,702 26,726 76,482
Basic earnings per share 0.00 0.02 0.11 0.07 0.20
Diluted earnings per share 0.00 0.02 0.11 0.07 0.20
Fiscal 2004:
Revenues $ 306,012 $ 302,753 $ 318,185 $ 337,697 $1,264,647
Operating income (loss) (764) (15,849) 12,771 41,378 37,536
Pre-tax income (loss) 3,615 (11,830) 17,119 47,113 56,017
Net income (loss) 2,603 (8,518) 21,825 33,922 49,832
Basic earnings (loss) per share 0.01 (0.02) 0.06 0.09 0.13
Diluted earnings (loss) per share 0.01 (0.02) 0.06 0.09 0.13
The change in operating income (loss) compared to the amounts recorded in the
respective 10-Q and 10-K Forms previously filed with the SEC relates to a
reclassification of the income or loss resulting from our investments in
partially owned companies from administrative and general to other income, net.
These reclassifications do not have any impact on net income and are immaterial
to the financial statements overall.
17. SUBSEQUENT EVENT
In May 2005, the Company acquired privately held Adlex, Incorporated, a
technology development company, for approximately $36 million in cash. The
acquisition will be accounted for as a purchase and, accordingly, assets and
liabilities acquired will be recorded at fair value as of the acquisition date.
60
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
ITEM 9A. CONTROLS AND PROCEDURES
EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES
The Company maintains disclosure controls and procedures that are designed to
ensure material information required to be disclosed in the Company's 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 the SEC's rules and forms, and that such information is
accumulated and communicated to the Company's management, including its Chief
Executive Officer and Chief Financial Officer, as appropriate, to allow timely
decisions regarding required financial disclosure. In designing and evaluating
the disclosure controls and procedures, management recognized that a control
system, no matter how well designed and operated, can provide only reasonable,
not absolute, assurance that the objectives of the control system are met.
Because of the inherent limitations in all control systems, no evaluation of
controls can provide absolute assurance that all control issues and instances
of fraud, if any, with a company have been detected.
As of the end of the period covered by this report, the Company carried out an
evaluation, under the supervision and with the participation of the Company's
management, including its Chief Executive Officer and Chief Financial Officer,
of the effectiveness of the design and operation of the Company's disclosure
controls and procedures pursuant to Rule 13a-15 of the Securities Exchange Act
of 1934 (the "Exchange Act"). Based upon that evaluation, the Company's Chief
Executive Officer and Chief Financial Officer concluded that the Company's
disclosure controls and procedures are effective, at the reasonable assurance
level, to cause the material information required to be disclosed by the
Company in the reports that it files or submits under the Exchange Act to be
recorded, processed, summarized and reported within the time periods specified
in the Commission's rules and forms.
MANAGEMENT'S REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING
The Company's management is responsible for establishing and maintaining
adequate internal control over financial reporting as defined in Rules
13a-15(f) and 15d-15(f) under the Exchange Act. Internal control over
financial reporting is defined under applicable Securities and Exchange
Commission rules as a process designed under the supervision of the Company's
Chief Executive Officer and Chief Financial Officer and effected by the
Company's Board of Directors, management and other personnel to provide
reasonable assurance regarding the reliability of financial reporting and the
preparation of the Company's financial statements for external purposes in
accordance with U.S. generally accepted accounting principles. Internal
control over financial reporting includes those policies and procedures that:
- pertain to the maintenance of records that, in reasonable detail,
accurately and fairly reflect the transactions and dispositions of the
assets of the Company;
- provide reasonable assurance that transactions are recorded as
necessary to permit preparation of financial statements in accordance
with U. S. generally accepted accounting principles, and that receipts
and expenditures of the Company are being made only in accordance with
authorizations of management and directors of the Company; and
- provide reasonable assurance regarding prevention or timely detection
of unauthorized acquisition, use or disposition of the Company's assets
that could have a material effect on the financial statements.
61
Because of its inherent limitations, internal control over financial reporting
may not prevent or detect misstatements. In addition, projections of any
evaluation of effectiveness to future periods are subject to the risk that
controls may become inadequate because of changes in conditions and that the
degree of compliance with the policies or procedures may deteriorate.
As of March 31, 2005, management, with the participation of the Company's
Chief Executive Officer and Chief Financial Officer, assessed the
effectiveness of the Company's internal control over financial reporting based
on the criteria for effective internal control over financial reporting
established in "Internal Control -- Integrated Framework," issued by the
Committee of Sponsoring Organizations (COSO) of the Treadway Commission. Based
on the assessment, management determined that the Company's internal control
over financial reporting was effective, as of March 31, 2005, to provide
reasonable assurance regarding the reliability of financial reporting and the
preparation of the Company's financial statements for external purposes in
accordance with U.S. generally accepted accounting principles.
Deloitte & Touche LLP, the independent registered public accounting firm that
audited the consolidated financial statements of the Company included in this
Annual Report on Form 10-K, has issued an attestation report on management's
assessment of the Company's internal control over financial reporting as of
March 31, 2005. The report, which expresses unqualified opinions on
management's assessment and on the effectiveness of the Company's internal
control over financial reporting as of March 31, 2005, is included in this
Item under the heading "Report of Independent Registered Public Accounting
Firm."
CHANGES IN INTERNAL CONTROL OVER FINANCIAL REPORTING
No changes in the Company's internal control over financial reporting occurred
during the quarter ended March 31, 2005 that have materially affected, or are
reasonably likely to materially affect, the Company's internal control over
financial reporting.
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Shareholders of Compuware Corporation:
We have audited management's assessment, included in the accompanying
Management's Report on Internal Control Over Financial Reporting, that
Compuware Corporation and subsidiaries (the "Company") maintained effective
internal control over financial reporting as of March 31, 2005, based on
criteria established in Internal Control -- Integrated Framework issued by the
Committee of Sponsoring Organizations of the Treadway Commission. The
Company's management is responsible for maintaining effective internal control
over financial reporting and for its assessment of the effectiveness of
internal control over financial reporting. Our responsibility is to express an
opinion on management's assessment and an opinion on the effectiveness of the
Company's internal control over financial reporting based on our audit.
We conducted our audit in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we
plan and perform the audit to obtain reasonable assurance about whether
effective internal control over financial reporting was maintained in all
material respects. Our audit included obtaining an understanding of internal
control over financial reporting, evaluating management's assessment, testing
and evaluating the design and operating effectiveness of internal control, and
performing such other procedures as we considered necessary in the
circumstances. We believe that our audit provides a reasonable basis for our
opinions.
A company's internal control over financial reporting is a process designed
by, or under the supervision of, the company's principal executive and
principal financial officers, or persons performing similar functions, and
effected by the company's board of directors, management, and other personnel
to provide reasonable assurance regarding the reliability of financial
reporting and the preparation of
62
financial statements for external purposes in accordance with generally
accepted accounting principles. A company's internal control over financial
reporting includes those policies and procedures that (1) pertain to the
maintenance of records that, in reasonable detail, accurately and fairly
reflect the transactions and dispositions of the assets of the company; (2)
provide reasonable assurance that transactions are recorded as necessary to
permit preparation of financial statements in accordance with generally
accepted accounting principles, and that receipts and expenditures of the
company are being made only in accordance with authorizations of management
and directors of the company; and (3) provide reasonable assurance regarding
prevention or timely detection of unauthorized acquisition, use, or
disposition of the company's assets that could have a material effect on the
financial statements.
Because of the inherent limitations of internal control over financial
reporting, including the possibility of collusion or improper management
override of controls, material misstatements due to error or fraud may not be
prevented or detected on a timely basis. Also, projections of any evaluation
of the effectiveness of the internal control over financial reporting to
future periods are subject to the risk that the controls may become inadequate
because of changes in conditions, or that the degree of compliance with the
policies or procedures may deteriorate.
In our opinion, management's assessment that the Company maintained effective
internal control over financial reporting as of March 31, 2005, is fairly
stated, in all material respects, based on the criteria established in
Internal Control -- Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission. Also in our opinion, the Company
maintained, in all material respects, effective internal control over
financial reporting as of March 31, 2005, based on the criteria established in
Internal Control -- Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission.
We have also audited, in accordance with the standards of the Public Company
Accounting Oversight Board (United States), the consolidated financial
statements and financial statement schedules as of and for the year ended
March 31, 2005 of the Company and our report dated June 7, 2005 expressed an
unqualified opinion on those financial statements and the financial statement
schedule.
DELOITTE & TOUCHE LLP
Detroit, Michigan
June 7, 2005
ITEM 9B. OTHER INFORMATION
None.
63
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information required by this Item is contained in the Proxy Statement
under the captions "Corporate Governance" (excluding the Report of the Audit
Committee), "Election of Directors" and "Other Matters - Section 16(a)
Beneficial Ownership Reporting Compliance" and is incorporated herein by
reference.
ITEM 11. EXECUTIVE COMPENSATION
The information required by this Item is contained in the Proxy Statement
under the caption "Compensation of Executive Officers and Directors"
(excluding the Compensation Committee Report on Executive Compensation and the
Performance Graph) and is incorporated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS
The information required by this Item is contained in the Proxy Statement
under the caption "Security Ownership of Management and Major Shareholders"
and is incorporated herein by reference. In addition, the information
contained in the Equity Compensation table under Item 5 of this report and in
Note 15 in the Notes to Consolidated Financial Statements which are included
in this report in Item 8 is incorporated herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this Item is contained in the Proxy Statement
under the caption "Other Matters - Related Party Transactions" and is
incorporated herein by reference.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
The information required by this Item is contained in the Proxy Statement
under the caption "Ratification of Appointment of the Independent Registered
Public Accounting Firm" and is incorporated herein by reference.
64
PART IV
ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULE
(a) DOCUMENTS FILED AS PART OF THIS REPORT.
1. CONSOLIDATED FINANCIAL STATEMENTS
The following consolidated financial statements of the Company and
its subsidiaries are filed herewith:
Page
-----
Report of Independent Registered Public Accounting Firm 33
Consolidated Balance Sheets as of March 31, 2005 and 2004 34
Consolidated Statements of Operations for each of the years
ended March 31, 2005, 2004, and 2003 35
Consolidated Statements of Shareholders' Equity for each of
the years ended March 31, 2005, 2004, and 2003 36
Consolidated Statements of Cash Flows for each of the years
ended March 31, 2005, 2004, and 2003 37
Notes to Consolidated Financial Statements 38-60
2. FINANCIAL STATEMENT SCHEDULE INCLUDED IN PART IV OF THIS FORM:
Schedule II - Valuation and Qualifying Accounts and Reserves 69
All other financial statement schedules not listed above are omitted
as the required information is not applicable or the information is
presented in the consolidated financial statements or related notes.
3. EXHIBITS
The exhibits filed in response to Item 601 of Regulation S-K are
listed in the Exhibit Index attached to this report. The Exhibit
Index is incorporated herein by reference.
65
SIGNATURES
Pursuant to the requirements of Sections 13 or 15(d) of the Securities Exchange
Act of 1934, the Registrant has duly caused this Annual Report on Form 10-K to
be signed on its behalf by the undersigned, thereunto duly authorized, in the
City of Farmington Hills, State of Michigan on June 7, 2005.
COMPUWARE CORPORATION
By: /S/ PETER KARMANOS, JR.
-----------------------------
Peter Karmanos, Jr.
Chairman of the Board, Chief
Executive Officer
(Principal Executive Officer)
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed by the following persons on behalf of the Registrant and in the
capacities and on the dates indicated:
Signature Title Date
--------- ----- ----
/S/ PETER KARMANOS, JR. Chairman of the Board, Chief Executive Officer June 7, 2005
- --------------------------
Peter Karmanos, Jr. And Director (Principal Executive Officer)
/S/ LAURA L. FOURNIER Senior Vice President, Chief Financial Officer June 7, 2005
- --------------------------
Laura L. Fournier and Treasurer (Chief Financial and Accounting Officer)
/S/ DENNIS W. ARCHER Director June 7, 2005
- --------------------------
Dennis W. Archer
/S/ GURMINDER S. BEDI Director June 9, 2005
- --------------------------
Gurminder S. Bedi
/S/ ELAINE K. DIDIER Director June 2, 2005
- --------------------------
Elaine K. Didier
/S/ WILLIAM O. GRABE Director June 7, 2005
- --------------------------
William O. Grabe
/S/ WILLIAM R. HALLING Director June 2, 2005
- --------------------------
William R. Halling
/S/ FAYE A. NELSON Director June 6, 2005
- --------------------------
Faye A. Nelson
/S/ GLENDA D. PRICE Director June 7, 2005
- --------------------------
Glenda D. Price
/S/ W. JAMES PROWSE Director June 2, 2005
- --------------------------
W. James Prowse
/S/ G. SCOTT ROMNEY Director June 7, 2005
- --------------------------
G. Scott Romney
/S/ LOWELL P. WEICKER, JR. Director June 7, 2005
- --------------------------
Lowell P. Weicker, Jr.
66
EXHIBITS
The following exhibits are filed herewith or incorporated by reference. Each
management contract or compensatory plan or arrangement filed as an exhibit to
this report is identified below with an asterisk before the exhibit number. The
Company's SEC file number is 000-20900.
Exhibit
Number Description of Document
- ------- -----------------------
2.3 Asset Purchase Agreement, dated February 4, 2004, by and between
Compuware Corporation and Covisint, LLC. (12)
2.4 Amended and Restated Share Purchase Agreement among 3087769 Nova
Scotia Company and Compuware Corporation and Changepoint
Corporation and Each of the Sellers, dated as of April 27, 2004.
(12)
2.5 Asset Purchase Agreement among Compuware Corporation, DevStream
Corporation, Mario Ciabarro, Jaimie Ciabarro and Thomas Cross,
dated as of October 1, 2004. (14)
2.6 Agreement and Plan of Merger dated May 6, 2005 by and among
Compuware Corporation, Compuware Acquisition Corp., Adlex, Inc.,
and with respect to Article VIII, Tad Witkowicz, as Shareholder
Representative. (16)
3(i).1 Restated Articles of Incorporation of Compuware Corporation, as
amended, as of October 25, 2000. (9)
3(i).1 Amended and Restated Bylaws of Compuware Corporation, as of
January 3, 2002. (13)
4.0 Rights Agreement dated as of October 25, 2000 between Compuware
Corporation and Equiserve Trust Company, N.A., as Rights Agent.
(7)
4.1 Warrant dated November 16, 2001 (10)
4.2 Revolving Credit Agreement dated as of May 2, 2003, between
Compuware Corporation and Comerica Bank (11)
4.3 Amendment No. 1 to Credit Agreement, dated as of April 30, 2004.
(12)
4.4 Amendment No. 2, dated as of July 29, 2004, Revolving Credit
Agreement dated as of May 2, 2003, between Compuware Corporation
and Comerica Bank. (14)
*10.4 1992 Stock Option Plan. (1)
10.24 Promotion Agreement, dated September 8, 1992, between Compuware
Sports Corporation and the Company. (1)
*10.35 Fiscal 1993 Stock Option Plan. (1)
*10.36 Stock Option Plan for Non-Employee Directors. (1)
*10.37 Fiscal 1998 Stock Option Plan (3)
*10.51 Fiscal 1996 Stock Option Plan (6)
10.52 Advertising Agreement, dated December 1, 1996, between Arena
Management Company and the Company (6)
*10.83 Fiscal 1999 Stock Option Plan (8)
*10.85 2001 Broad Based Stock Option Plan (5)
*10.86 First Amendment to 1992 Stock Option Plan (2)
*10.87 First Amendment to 1993 Stock Option Plan (2)
*10.88 First Amendment to 1996 Stock Option Plan (2)
*10.89 First Amendment to Stock Option Plan For Non-Employee Directors
(4)
*10.90 Phantom Stock Plan (11)
*10.91 Nonqualified Stock Option Agreement for Executive Officers (14)
*10.92 Nonqualified Stock Option Agreement for Outside Directors (14)
*10.93 Phantom Share Award Agreement (14)
67
*10.94 Executive Incentive Plan - Corporate (14)
*10.95 Settlement Agreement dated March 21, 2005 by and among Compuware
Corporation and International Business Machines Corporation (15)
*10.96 First Amendment to the Compuware Corporation 2002 Directors
Phantom Stock Plan (17)
21.1 Subsidiaries of the Registrant (18)
23.1 Consent of Independent Registered Public Accounting Firm (18)
31.1 Certification of Chief Executive Officer, Pursuant to Section 302
of the Sarbanes-Oxley Act of 2002. (18)
31.2 Certification of Chief Financial Officer, Pursuant to Section 302
of the Sarbanes-Oxley Act of 2002. (18)
32 Certification Pursuant to 18 U.S.C. Section 1350, as adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. (18)
- ----------
(1) Incorporated by reference to the corresponding exhibit to the Registration
Statement on Form S-1, as amended (Registration No. 33-53652).
(2) Incorporated by reference to exhibits 12.0, 12.1 and 12.2 to the Quarterly
Report on Form 10-Q for the quarterly period ended June 30, 1997.
(3) Incorporated by reference to exhibit 4.1 to the Registration Statement on
Form S-8 (Registration Statement No. 333-37873).
(4) Incorporated by reference to exhibit 12.3 to the 1998 Annual Report on
Form 10-K.
(5) Incorporated by reference to exhibit 4.10 to the Registration Statement on
Form S-8 (Registration Statement No. 333-57984).
(6) Incorporated by reference to the corresponding exhibit to the fiscal 2000
Annual Report on Form 10-K.
(7) Incorporated by reference to Exhibit 1 to the Company's Registration
Statement on Form 8-A filed with the Securities and Exchange Commission on
October 26, 2000.
(8) Incorporated by reference to Exhibit 10 to the Quarterly Report on Form
10-Q for the quarterly period ended December 31, 2000.
(9) Incorporated by reference to the corresponding exhibit to the fiscal 2001
Annual Report on Form 10-K.
(10) Incorporated by reference to the corresponding exhibit to the Quarterly
Report on Form 10-Q for the quarterly period ended December 31, 2001.
(11) Incorporated by reference to the corresponding exhibit to the fiscal 2003
Annual Report on Form 10-K.
(12) Incorporated by reference to the corresponding exhibit to the fiscal 2004
Annual Report on Form 10-K.
(13) Incorporated by reference to the corresponding exhibit to the Quarterly
Report on Form 10-Q for the quarterly period ended June 30, 2004.
(14) Incorporated by reference to the corresponding exhibit to the Quarterly
Report on Form 10-Q for the quarterly period ended September 30, 2004.
(15) Incorporated by reference to the corresponding exhibit to the Form 8-K
filed on March 21, 2005
(16) Incorporated by reference to the corresponding exhibit to the Form 8-K
filed on May 9, 2005.
(17) Incorporated by reference to the corresponding exhibit to the Form 8-K/A
filed on May 17, 2005.
(18) Filed herewith
68
COMPUWARE CORPORATION AND SUBSIDIARIES
SCHEDULE II
VALUATION AND QUALIFYING ACCOUNTS AND RESERVES
YEARS ENDED MARCH 31, 2005, 2004 AND 2003
(IN THOUSANDS)
COLUMN A COLUMN B COLUMN C COLUMN D COLUMN E
- -------------------------------- ---------- ------------------------------ ----------- ----------
ADDITIONS
------------------------------
(2)
CHARGED
BALANCE AT CHARGED TO OTHER (1) BALANCE AT
BEGINNING TO COSTS ACCOUNTS- DEDUCTIONS- END OF
DESCRIPTION OF PERIOD AND EXPENSES DESCRIBE DESCRIBE PERIOD
- -------------------------------- ---------- ------------ ---------- ----------- ----------
Allowance for doubtful accounts:
Year ended March 31, 2005 $ 22,565 $ (2,393) $ 300 $ 2,388 $ 18,084
Year ended March 31, 2004 26,543 2,711 6,689 22,565
Year ended March 31, 2003 23,190 10,139 6,786 26,543
(1) Write-off of uncollectible accounts, product maintenance cancellations and
service cost overruns.
(2) Allowance for doubtful accounts related to the Changepoint acquisition.
69
Exhibit Index
Exhibit Number Description
- -------------- -----------
21.1 Subsidiaries of the Registrant
23.1 Consent of Independent Registered Public Accounting Firm
31.1 Certification of Chief Executive Officer, Pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
31.2 Certification of Chief Financial Officer, Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32 Certification Pursuant to 18 U.S.C. Section 1350, as adopted Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.