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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1996
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM _____________ TO ____________
COMMISSION FILE NUMBER 0-28030
i2 TECHNOLOGIES, INC.
(Exact Name of Registrant as Specified in Its Charter)
DELAWARE 75-2294945
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
909 E. LAS COLINAS BLVD., 16TH FLOOR
IRVING, TEXAS 75039
(Address of principal executive offices) (Zip code)
Registrant's telephone number, including area code: (214) 860-6000
Securities registered pursuant to Section 12(b) of the Act:
NAME OF EACH EXCHANGE
TITLE OF EACH CLASS ON WHICH REGISTERED
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NONE NONE
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, $.00025 par value
(Title of Class)
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 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. [ ]
The aggregate market value of the voting stock held by non-affiliates of
the Registrant, based upon the closing sale price of Common Stock on January 28,
1997 as reported on the Nasdaq National Market, was approximately $134 million.
As of January 28, 1997, the Registrant had 24,731,820 outstanding shares of
Common Stock.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Proxy Statement for Registrant's 1997 Annual Meeting of
Stockholders are incorporated by reference into Part III of this Form 10-K.
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PART I
ITEM 1. BUSINESS
This Business section and other parts of this Form 10-K contain
forward-looking statements that involve risk and uncertainties. The Company's
actual results may differ significantly from the results discussed in the
forward-looking statements. Factors that might cause such a difference include,
but are not limited to, those discussed below and in "Management's Discussion
and Analysis of Financial Condition and Results of Operations" in Item 7 of this
Form 10-K.
i2 Technologies, Inc. ("i2" or the "Company") is the leading provider of
supply chain management software. Supply chain management encompasses the
planning and scheduling of manufacturing and related logistics, from raw
materials procurement through work-in-process to customer delivery. i2 believes
that its client/server software product, Rhythm, represents a fundamentally new
approach to supply chain management. Rhythm enables customers to model complex,
multi-site supply chains to rapidly generate integrated solutions to planning
and scheduling problems such as production bottlenecks, supply interruptions and
customer order changes. Rhythm utilizes a constraint-based methodology which
simultaneously considers a broad range of constraints -- from machine capacities
to individual customer commitments -- to derive an optimal solution. Rhythm's
advanced decision-support capabilities enable companies to make better informed,
more timely planning, scheduling and resource allocation decisions in order to
improve operating efficiency, customer satisfaction and return on assets.
The Company was incorporated in Texas as "Intellection, Inc." in 1989 and
was subsequently reincorporated in Delaware in 1992. In 1994, the Company's name
was changed to "i2 Technologies, Inc." The Company's executive offices are
located at 909 E. Las Colinas Blvd., 16th Floor, Irving, Texas 75039, and its
telephone number is (214) 860-6000.
"i2 Technologies" and "Rhythm" are registered trademarks of the Company.
INDUSTRY BACKGROUND
Today's increasingly competitive business environment has forced many
companies to increase manufacturing efficiency while at the same time improve
their flexibility and responsiveness to changing market conditions. In addition
to facing higher competitive standards with respect to product quality, variety
and price, businesses also recognize the need to shorten lead times, adjust
production for frequent changes in customer requirements and quote more accurate
and reliable delivery dates. Furthermore, a company's supply chain may span
multiple continents, tying suppliers in one part of the world with a plant in
another to serve customers in yet a third location. The combination of these
competitive and organizational forces has created a dynamic, complex and highly
interdependent business environment. In response to these evolving market
forces, many companies have sought to reengineer their business processes to
reduce manufacturing cycle times, shift from mass-production to order-driven
manufacturing, increase use of outsourcing and share information with vendors
and customers. The implementation of software solutions to manage various
elements of the supply chain has become a key component of these reengineering
initiatives.
THE TRADITIONAL APPROACH
Companies have historically applied information technology to supply chain
management through Manufacturing Resource Planning ("MRP") systems. MRP systems
are designed to calculate schedules for materials and production and function by
working backwards from an order due date, utilizing fixed production and
supplier lead times. Early MRP products were proprietary, mainframe or
mini-computer based systems and often required extensive customization to
support diverse manufacturing processes. As a result of their methodology and
architecture, such systems generally lack flexibility to accommodate rapidly
changing business conditions and customer requirements.
The advent of open-systems standards, client/server architectures and
relational databases has led to the development of second generation MRP
systems. While offering significant performance improvements and
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increased flexibility, second generation MRP systems continue to reflect similar
underlying data structures, methodologies and application logic and, therefore,
many of the limitations found in early MRP systems. Many of the techniques
developed for MRP systems were also applied to Distribution Resource Planning
("DRP") systems, which focus on the transportation and distribution of finished
goods. More recently, a number of software vendors have developed Enterprise
Resource Planning ("ERP") systems, which integrate MRP and DRP solutions with
other enterprise management applications such as financial, accounting and human
resources. Although ERP systems provide substantial benefits by integrating a
broad array of business functions, the supply chain decision support
capabilities of ERP systems remain limited by the planning and scheduling
methodologies utilized in their MRP and DRP modules. Various ERP vendors are
attempting to mitigate these limitations by internally developing, or by
acquiring or partnering with independent developers of, advanced planning and
scheduling software.
Some of the significant limitations of existing MRP systems and the MRP
modules of ERP systems are as follows:
LIMITED REPRESENTATION OF SUPPLY CHAIN. The Company believes that
traditional solutions lack the flexibility and functionality needed to create a
highly accurate model of the supply chain because they often employ fixed
assumptions regarding critical operating constraints such as available
production capacity and supplier lead times. Since this approach cannot
adequately capture complex real-world constraints and interdependencies, it may
result in the development of infeasible or suboptimal plans.
LOCAL OPTIMIZATION. Traditional solutions calculate plans and schedules for
individual, local segments of the production and supply process, without
considering the consequences to the entire process. For example, an increase in
customer demand might call for the purchase of additional raw materials without
determining whether manufacturing capacity is available to process those
materials. This approach incorrectly assumes that optimizing production for an
individual step within the production process will lead to an optimal result for
the manufacturing operation or supply chain as a whole.
SEQUENTIAL PLANNING. Traditional planning methodologies model the supply
chain as a sequence of discrete steps. For example, traditional solutions begin
by developing a master production schedule which is used to develop a materials
requirement plan, which in turn is used to arrive at a capacity requirements
plan. As resources become constrained, sequential planning requires that the
entire supply chain model be completely regenerated to identify and resolve
conflicts. As a result, the planning process often requires numerous iterations
to develop a feasible solution.
LIMITED ABILITY TO RESPOND TO CHANGE. Once an initial plan has been
developed, the time-consuming nature of sequential planning limits a manager's
ability to rapidly evaluate subsequent changes, such as material shortages and
revisions in customer orders. As a result, a manager's ability to respond to
changes and to effect corrective action may be delayed.
LIMITED DECISION SUPPORT. Traditional solutions were designed to facilitate
the collection and reporting of large amounts of data, rather than the analysis
of relevant information to support decisions. This, along with other limitations
of traditional solutions, impede a manager's ability to make timely supply chain
decisions.
THE i2 SOLUTION
i2 believes its Rhythm software represents a fundamentally new approach to
supply chain management which addresses many of the limitations inherent in
traditional systems. Rhythm enables businesses to plan and schedule the
principal elements of the supply chain by simultaneously considering internal
constraints, such as manufacturing facility capacities and human resource
availability, and external constraints, such as supplier lead times and customer
requirements. Rhythm utilizes object-oriented technology to model specific
characteristics of a customer's operations, and focuses primarily on supply
chain management functions such as raw materials procurement, capacity planning
and due date scheduling. The Company's recent emphasis has been on distribution
planning which is being implemented in various vertical markets. The Company is
also focusing on developing additional functionality for Rhythm to more fully
address certain areas of supply chain management, such as transportation
logistics.
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Rhythm is designed to help businesses increase throughput, reduce
inventory, decrease cycle times, improve customer delivery date performance and,
consequently, enhance return on assets. Rhythm extends the capabilities of
existing MRP solutions and, as a result, is often implemented in conjunction
with, or as a complement to, existing MRP and ERP solutions. Rhythm may also be
deployed as a stand-alone alternative to MRP products. Rhythm's data structures,
methodologies and application logic differentiate it from existing MRP solutions
in the following ways:
ACCURATE REPRESENTATION OF SUPPLY CHAIN. Rhythm is designed to incorporate
a broad range of specific, real-world constraints and thereby enhance the
accuracy of the supply chain model and improve its decision-making utility.
Rhythm distinguishes between hard constraints, those which are not subject to
change or flexibility (e.g., a machine's maximum rated production capacity), and
soft constraints, those which may be altered in order to arrive at an optimal
solution (e.g., preferred sources for materials). Rhythm's incorporation of
object-oriented data structures represents a significant advance in the creation
of complex supply chain models.
CONCURRENT PLANNING. In contrast to sequential planning, concurrent
planning views all the steps in the manufacturing process simultaneously.
Because Rhythm presents an integrated model of the supply chain, from raw
material procurement through work-in-process to customer delivery, it is able to
provide solutions which optimize the efficiency of the supply chain as a whole
rather than summing a series of local optimizations.
BI-DIRECTIONAL CHANGE PROPAGATION. Upon identification of a planning or
scheduling change, Rhythm immediately propagates the effect of the change
upstream and downstream, from the point of origin, throughout the supply chain
model to derive a revised, optimal solution. For example, an unforeseen loss of
production capacity would automatically signal for a reduction in raw material
procurement as well as the potential rescheduling of customer delivery dates.
DECISION SUPPORT. Rhythm's memory-resident, object-oriented design allows
for very rapid analysis and response to planning and scheduling issues. Rhythm
identifies production and scheduling problems as circumstances change, proposes
optimal solutions and allows for automatic or manual corrective action. i2's
software also allows managers to perform real-time simulations which gauge the
impact of potential local actions on the supply chain.
AVAILABLE-TO-PROMISE. Rhythm's integrated view of the supply chain allows
it to automatically determine whether a customer order can be promised for
delivery by a requested date based upon materials, capacities and related
business constraints. While traditional MRP systems generally process orders on
a first-come, first-served basis, Rhythm enables users to sequence, allocate and
adjust orders based on user-defined business objectives.
EASE OF IMPLEMENTATION. Rhythm is designed as a broadly applicable software
solution which is rapidly adaptable for customers in a wide range of industries.
In addition, Rhythm is designed to integrate easily with many existing MRP and
ERP systems, whether client/server or legacy systems. As a result, functional
implementation can occur within three to four months depending on the scope and
complexity of the installation project. The Company's goal is for the customer
to realize a significant return on their investment within a year of licensing.
STRATEGY
The Company's objective is to maintain its position as the leading global
provider of supply chain management software and to continue to increase its
market share of the supply chain management software market. The Company's
strategy for achieving this objective is as follows:
EXPAND PRODUCT OFFERINGS
i2 believes that it has gained significant experience in supply chain
management methodologies through its work with its existing customer base. The
Company intends to continue to leverage this experience, together with its
expertise in advanced software technology, to expand the scope of its supply
chain
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management software to more fully address certain components of the supply
chain. For example, the Company is currently developing additional functionality
for Rhythm in the area of transportation logistics. The Company is also focusing
on selected vertical markets such as Metals, Automotive, Consumer Packaged Goods
and other industries. Although the Rhythm software is standard across all
industries, the Company is forming groups to identify and understand the needs
of particular industries. The Company is leveraging the highly flexible nature
of Rhythm to develop a series of pre-configured user interfaces tailored to
address the requirements of such specific industries.
INVEST AGGRESSIVELY TO BUILD MARKET SHARE
The Company has made and continues to make substantial investments to
expand its sales and marketing, research and development, consulting and
administrative infrastructure. i2 believes that such investments are necessary
to increase its market share and to capitalize on the substantial growth
opportunities in the supply chain management software market.
COMPLEMENT AND LEVERAGE MRP AND ERP SYSTEMS
The Company has designed Rhythm to address the limitations of existing MRP
products and thereby enhance the functionality, accuracy and utility of MRP
systems and the MRP modules of ERP systems. Rhythm is designed to effectively
share information with existing MRP and ERP systems and to be easily implemented
in conjunction with solutions from vendors such as Baan Company, N.V. ("Baan"),
Oracle Corporation ("Oracle"), Marcam Corporation ("Marcam"), SAP AG ("SAP") and
System Software Associates, Inc. ("SSA"). The Company intends to continue to
position its products as being complementary to the products offered by major
MRP and ERP vendors. As of December 31, 1996, the Company and Baan had several
joint customers. The Company has also leveraged and expects to continue to
leverage the resources of SAP, Oracle, Baan, Marcam and SSA to sell and market
the Company's Rhythm software products through joint marketing and other
agreements. For example, during 1996, the Company and SAP entered into an
agreement to embed Rhythm's constraint-based planning engine into SAP's R/3
enterprise application software and the Company intends to leverage SAP's sales
and distribution resources to sell the embedded solution. See "-- Sales and
Marketing."
BUILD INDUSTRY ALLIANCES AND BROADEN DISTRIBUTION CHANNELS
The Company intends to seek additional strategic relationships with MRP and
ERP vendors to integrate Rhythm with their software products to create
joint-marketing opportunities. In addition, the Company intends to augment its
sales efforts by establishing and expanding relationships with other
complementary business application software vendors and systems consulting and
integration firms. The Company is leveraging third-party implementation services
with large, international consulting firms such as Andersen Consulting, Deloitte
& Touche and KPMG Peat Marwick to enable it to more rapidly penetrate its target
market. In addition, the Company has established direct sales offices in
international markets and intends to continue to expand its United States and
international sales forces.
ACQUIRE COMPLEMENTARY BUSINESSES, PRODUCTS OR TECHNOLOGIES
The Company is actively reviewing acquisition candidates with leading-edge
products and technologies that could enhance the Company's product offering. The
technologies associated with the products of the acquired businesses would be
incorporated into the Company's existing internally developed products or would
be used in developing new client/server, open systems products. The Company is
currently involved in the evaluation of, and discussions with, one or more
acquisition candidates, but the Company has not reached any agreements with
respect to any future acquisitions.
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PRODUCTS
Rhythm operates as a flexible, integrated supply chain management solution
and is available in single-site and multi-site configurations. Rhythm is
currently composed of the following modules and extensions:
MODULES
SUPPLY CHAIN PLANNER. Supply Chain Planner ("SCP") is the base product
required for all Rhythm applications. It coordinates and optimizes all planning
and scheduling scenarios and holds the object framework. SCP contains the logic
common to all Rhythm modules and extensions and provides the means to control
them concurrently.
FACTORY PLANNER. Factory Planner ("FP"), is designed to perform single-site
planning. FP manages complex manufacturing operations involving large numbers of
resources and operational steps, and is engineered to solve common factory
planning problems such as managing complex bills of materials and alternate
routings. Through FP, customers can input their manufacturing forecast, desired
levels of finished goods, back-orders and other demands or constraints, set
tolerances for changes in the levels of the manufacturing forecast and set
target inventory levels. Through an interactive user interface, FP allows the
user to reallocate materials, change quantities, expedite purchases, move
quantities and perform "what if" simulations under modified constraints to
produce a master production schedule.
MASTER PLANNER. Master Planner ("MP") integrates two or more Factory
Planner modules implemented at multiple sites. MP controls and enables
multi-site scheduling, sourcing, allocation and forecasting. MP facilitates the
development of an optimal solution for multi-site installations.
ADVANCED SCHEDULER. Advanced Scheduler ("AS") provides additional
scheduling functionality for plans produced by Factory Planner or Master
Planner. AS outputs a detailed schedule and sequencing plan which considers
set-up times, material availability and other user-defined constraints. AS's
planning algorithms include constraint-based routines to recommend sequencing of
work loads to optimize the user's key resources.
DISTRIBUTION PLANNER. Distribution Planner ("DP") integrates manufacturing
and distribution planning and scheduling. DP enables implementation of automated
allocation, sourcing and transportation solutions and provides planners with the
ability to manipulate distribution requirements to achieve strategic customer
service goals.
FORECAST PLANNER. Forecast Planner is used to forecast customer demand. It
uses many statistical techniques and multiple forecast approaches to anticipate
changes in demand as a result of promotions, advertising campaigns, pricing
policies or market perceptions. Forecast Planner is currently provided by a
third-party software vendor.
EXTENSIONS
AVAILABLE-TO-PROMISE. Available-to-Promise ("ATP") automatically determines
the quantity of goods deliverable by a requested date, as well as the date upon
which a complete order may be delivered based upon materials, capacity,
distribution capability, customer allocations, supplier allocations and related
business constraints. ATP is used to quote delivery dates to customers on a
real-time basis.
STRATEGY-DRIVEN PLANNER. Strategy-Driven Planner ("SDP") allows users to
specify business rules on how Rhythm will resolve problems found within the
supply chain. SDP incorporates "trade-off" logic which takes into account the
users preferences regarding operational, financial and other measures.
RHYTHMLINK. RhythmLink is used to shorten the implementation times of the
Company's products. RhythmLink makes it easier for Rhythm to communicate and
exchange data with other applications such as databases, report writers, and ERP
solutions by using industry accepted standard technologies and interfaces.
Rhythm is currently available in English, German, French, Japanese and
Spanish.
A typical Rhythm installation might involve three manufacturing sites, each
located in a different country and each having a number of personnel with
planning and scheduling responsibilities. A Rhythm product
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package for this customer may include the purchase of one Factory Planner
module, one Advanced Scheduler module and one Distribution Planner module for
each manufacturing site, one Master Planner module to integrate the various
Factory Planner modules and Available-to-Promise for order due date quoting.
Other modules and extensions may or may not be purchased depending on the size
and complexity of the customer's business model.
During 1996, the sales prices for Rhythm software packages, other than for
two significant large sales, generally ranged from approximately $150,000 to
approximately $3.6 million. The price for an individual Rhythm product package
is determined based upon a number of factors, including the memory requirements
of the customer's system as well as the number of Rhythm users, servers and
sites in the customer's system.
Rhythm is written in C++ language and utilizes a fully object-oriented data
structure for representing operations, resources and inventory buffer stocks in
supply chains. Once a model is defined, the entire representation is loaded into
random access memory ("RAM"). A typical supply chain model implemented in the
Company's system may occupy as much as two gigabytes of RAM. The Company
believes that the combination of its object-oriented and memory-resident
technologies permit Rhythm to achieve accuracy and speed advantages over
traditional planning and scheduling solutions.
PRODUCT DEVELOPMENT
The Company originally introduced its Rhythm software in 1992 and has
subsequently released a number of product enhancements. The Company has adopted
a strategy of periodically reinventing its products in order to meet its
customers' needs, and strives to ensure that each new generation of Rhythm is
compatible with previous releases. On-going product development efforts are
focused on broadening the functionality of Rhythm to more fully address certain
areas of supply chain management, including transportation logistics which, to a
limited extent, is currently available as part of Distribution Planner.
Subsequent enhancements are expected to include architectural improvements aimed
at enhancing certain multi-site planning capabilities, improving ease of use and
enabling easier customization. There can be no assurance that the Company will
be successful in developing these or any other new product enhancements, that
the Company will not experience difficulties that could delay or prevent
successful development, introduction and sales of these products, or that its
new products and enhancements will adequately meet the requirements of the
marketplace and achieve market acceptance.
Rhythm products have been developed by the Company's internal development
staff through small project teams focused on independent components of the
software under development. The Company maintains product release planning
procedures to ensure integration, testing and version control among the
different project development teams. The Company operates its research and
development department in a "technology neutral" environment which makes it
possible to operate within industry standards and yet be independent of
particular database formats, hardware platforms, network protocols and
interfaces.
Research and development expenses have increased significantly in recent
periods as the Company has continued to focus on development of new and enhanced
products. Research and development expenses were $1.7 million, $4.1 million and
$14.7 million in 1994, 1995 and 1996, representing 14.4%, 15.7% and 19.2% of
total revenues, respectively. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations -- Results of Operations -- Costs
and Expenses -- Research and Development" in Item 7 of this Form 10-K.
CUSTOMER SERVICE AND SUPPORT
The Company believes that providing a high level of customer service and
technical support is necessary to achieve rapid product implementation which, in
turn, is essential to customer satisfaction and continued license sales and
revenue growth. Accordingly, the Company is committed to continue recruiting and
maintaining a high-quality technical support team. During 1996, the Company
expanded its service and support centers geographically and now has major
support centers in Australia, Belgium, Canada, Japan and
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across the United States. The Company also has established support centers in
Denmark, Germany, Mexico and Singapore. The Company's customer service and
support activities consist of the following:
TRAINING
The Company offers an intensive education and training program for its
customers and its third-party implementation providers. Classes are offered at
in-house facilities at certain of the Company's offices and at customer
locations. These classes focus on supply chain management principles as well as
the implementation and use of Rhythm products.
CONSULTING
The Company offers its customers on-site consulting services aimed at
assisting in the implementation of Rhythm and integration with the customers'
existing systems. The Company receives hourly fees for these services. These
services are concentrated on making implementation cost-effective for customers
by enabling them to independently perform as many of the integration tasks as
possible.
MAINTENANCE AND PRODUCT UPDATES
The Company provides ongoing product support services under its license
agreements. Maintenance contracts are typically sold to customers for a one-year
term at the time of the initial Rhythm license and may be renewed for additional
periods. Under its maintenance agreements with its customers, the Company
provides, without additional charge, product updates and releases of new
versions to Rhythm products previously purchased by the customer. Customers that
do not elect to renew their maintenance agreements but wish to obtain product
updates and new version releases are generally required to purchase such items
from the Company at market prices. Ongoing support and maintenance services are
provided on up to a seven-day week, 24-hour day basis.
SALES AND MARKETING
The Company markets its software and services primarily through its direct
sales organization augmented by other sales channels, including business
application software vendors and systems consulting and integration firms. At
December 31, 1996, the Company conducted sales and other activities through
several offices in the United States and additional offices in Australia,
Belgium, Canada, Denmark, France, Germany, Japan, Singapore, and the United
Kingdom. The Company's direct sales organization consists of regionally based
sales representatives and sales engineers supported by personnel with experience
in the aerospace, apparel, automotive, consumer products, furniture, high-tech,
industrial, metals, paper, pharmaceuticals, process, retail and textiles
industries.
The Company currently has joint-marketing agreements with a number of
business application software vendors, including Baan, SAP, SSA and Marcam, and
systems consulting and integration firms. These joint-marketing agreements
generally provide the vendors with non-exclusive rights to market Rhythm
products and access to marketing materials and product training. Furthermore,
the vendors receive a specified commission for license revenues generated by the
vendor during the term of the agreement, which commissions vary from 10% to 40%
of the sales price of the license. By using these indirect sales channels, the
Company aims to capitalize on the installed base of other software vendors and
obtain favorable product recommendations from systems consulting and integration
firms, thereby increasing Rhythm's market coverage.
In addition, in 1996, the Company entered into an agreement with SAP to
integrate Rhythm with SAP's ERP solution and jointly develop an embedded
solution to be sold as a new SAP standard R/3 product ("PP-CBP"). The Company
and SAP have been jointly developing an integrated solution which is scheduled
to be available in early 1997. The embedded solution is scheduled to be
available towards the end of 1997 with the release of version 4.0 of SAP's R/3.
Under the terms of the SAP agreement, the Company is required to pay SAP a
commission on the integrated solution sold into SAP's installed base while SAP
will be required to pay the Company a royalty for sales of the embedded
solution. The Company's strategy is to sell the integrated solution to SAP's
large installed base and leverage the sale of the embedded solution through
SAP's
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substantial market presence. However, there can be no assurance that the
development of the embedded solution will be successful or that the agreement
with SAP will have a positive impact on the Company's future operating results.
CUSTOMERS
As of December 31, 1996, the Company had licensed Rhythm products to
approximately 100 customers. During 1996, one customer accounted for
approximately 15% of the Company's total revenues. During 1995, this same
customer accounted for approximately 14% of the Company's total revenues while
two additional customers accounted for approximately 12% and 11% of the
Company's total revenues. During 1994, one customer accounted for approximately
11% and two additional customers each accounted for approximately 10% of the
Company's total revenues. The Company believes that the loss of any of these
customers would not have a material adverse effect upon the Company's business,
operating results or financial condition. The following companies were among the
top six customers of the Company during at least one of the Company's last three
fiscal years:
3M Johnson & Johnson Medical Timken Company
Bristol-Myers Squibb Lucent Technologies Toshiba Corporation
Carpenter Technologies Motorola USX
Digital Equipment Siemens Worthington Steel
Herman Miller Sony
The Company provides its software products to customers under
non-exclusive, non-transferable license agreements. As is customary in the
software industry, in order to protect its intellectual property rights, the
Company does not sell or transfer title to its products to its customers. Under
the Company's current standard form of license agreement, licensed software may
be used solely for the customer's internal operations.
COMPETITION
The Company's products are targeted at the emerging market for supply chain
management software solutions. The Company's competitors are diverse and offer a
variety of solutions directed at various segments of the supply chain as well as
the enterprise as a whole. These competitors include (i) smaller independent
companies which have developed or are attempting to develop advanced planning
and scheduling software which complement or compete with MRP solutions, (ii)
other business application software vendors who may broaden their product
offerings by internally developing, or by acquiring or partnering with
independent developers of, advanced planning and scheduling software, (iii)
internal development efforts by corporate information technology departments,
(iv) companies offering standardized or customized products on mainframe and/or
mid-range computer systems, and (v) enterprise resource application software
vendors such as Baan, Oracle, PeopleSoft, Inc. and SAP which currently offer
sophisticated ERP solutions that incorporate MRP modules or advanced planning
and scheduling software. In connection with specific customer solicitations, ERP
vendors have from time to time jointly marketed the Company's products as a
complement to their own systems. However, the Company believes that many of
these ERP vendors are focusing significant resources on increasing the
functionality of their own MRP modules, and at least two ERP vendors have
recently acquired independent developers of advanced planning and scheduling
software utilizing object-oriented technology. Ultimately, such products may
permit ERP vendors to offer MRP modules with functionality comparable or
superior to Rhythm. To the extent such ERP vendors develop or acquire
functionally comparable or superior MRP modules, their larger installed base of
customers and ability to offer a complete enterprise-wide solution would provide
a significant competitive advantage over the Company.
The principal competitive factors affecting the market for the Company's
products include vendor and product reputation, architecture, functionality and
features, ease of use, quality of support, product quality, performance and
price. Based on these factors, the Company believes that it has competed
effectively to date. In order to be successful in the future, the Company must
continue to respond promptly and effectively to the challenges of technological
change and competitors' innovations. Many of the Company's competitors have
longer operating histories, significantly greater financial, technical,
marketing and other resources, greater
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name recognition, and a larger installed base of customers than the Company.
There can be no assurance that the Company will be able to compete successfully
with existing or new competitors or that competition will not have a material
adverse effect on the Company's business, operating results and financial
condition.
PROPRIETARY RIGHTS AND LICENSES
The Company relies primarily on a combination of copyright, trademark and
trade secret laws, confidentiality procedures and contractual provisions to
protect its proprietary rights. In addition, the Company generally licenses
Rhythm products to end users in object code (machine-readable) format, and the
Company's license agreements generally allow the use of Rhythm products solely
by the customer for internal purposes without the right to sublicense or
transfer the Rhythm products. However, the Company believes that the foregoing
measures afford only limited protection. Despite the Company's efforts to
protect its proprietary rights, unauthorized parties may attempt to copy aspects
of the Company's products or to obtain and use information that the Company
regards as proprietary. Policing unauthorized use of the Company's products is
difficult, and while the Company is unable to determine the extent to which
piracy of its software products exist, software piracy can be expected to be a
problem. In addition, the laws of some foreign countries do not protect the
Company's proprietary rights to the same extent as the laws of the United
States. Furthermore, there can be no assurance that the Company's competitors
will not independently develop technology similar to that of the Company. The
Company may increasingly be subject to claims of intellectual property
infringement as the number of products and competitors in the Company's industry
segment grows and the functionality of products in different industry segments
overlaps. Although the Company is not aware that any of its products infringes
upon the proprietary rights of third parties, there can be no assurance that
third parties will not claim infringement by the Company with respect to current
or future products. Any such claims, with or without merit, could be
time-consuming, result in costly litigation, cause product shipment delays or
require the Company to enter into royalty or licensing agreements. Such royalty
or licensing agreements, if required, may not be available on terms acceptable
to the Company or at all, which could have a material adverse effect upon the
Company's business, operating results and financial condition.
The Company has in the past and may in the future resell certain software
which it licenses from third parties. There can be no assurance that these third
party software licenses will continue to be available to the Company on
commercially reasonable terms. The loss of or inability to maintain or obtain
any of these software licenses could result in delays or reductions in product
shipments until equivalent software could be identified, licensed and
integrated, which could adversely affect the Company's business, operating
results and financial condition.
EMPLOYEES
As of December 31, 1996, the Company had 426 full-time employees, including
150 primarily engaged in research and development activities and 134 engaged in
sales and marketing activities. The Company's future success depends in
significant part upon the continued service of its key technical and senior
management personnel and its continuing ability to attract and retain highly
qualified technical and managerial personnel. Competition for such personnel is
intense and there can be no assurance that the Company can retain its key
managerial and technical employees or that it can attract, assimilate or retain
other highly qualified technical and managerial personnel in the future. None of
the Company's employees are represented by collective bargaining units and the
Company has never experienced a work stoppage. The Company believes that its
employee relations are excellent.
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ADDITIONAL FACTORS THAT MAY AFFECT FUTURE RESULTS
In addition to the other information in this Form 10-K, the following
factors should be considered in evaluating the Company and its business.
POTENTIAL FOR SIGNIFICANT FLUCTUATIONS IN QUARTERLY RESULTS; OPERATING
LEVERAGE
The Company's quarterly revenues, expenses and operating results have
varied significantly in the past and are likely to vary significantly from
quarter to quarter in the future. Because the purchase of a supply chain
management software solution generally involves a significant commitment of
capital, the sales cycle associated with the purchase of the Company's products
is typically six to nine months and subject to a number of significant risks,
including customers' budgetary constraints, timing of budget cycles and concerns
about the introduction of new products by the Company or its competitors,
factors over which the Company has little or no control. Furthermore, purchases
of the Company's products may be deferred or canceled in the event of a downturn
in any potential customer's business or the economy in general. As a result, the
timing of significant orders is unpredictable and, like many other software
companies, the Company typically realizes a significant portion of its software
license revenues in the last month of a quarter. In addition, the amount of
revenues associated with particular licenses can vary significantly based upon
the number of software modules purchased and the number of sites and users
involved in the installation. The Company has experienced and may continue to
experience from time to time very large, individual license sales which can
cause significant variations in quarterly license revenues. Moreover, small
delays in customer orders can cause significant variability in the Company's
license revenues and results of operations for any particular period.
The Company's expense levels are based, in part, on its expected future
revenues. If revenues are below expectations, operating results and net income
are likely to be adversely and disproportionately affected because a significant
portion of the Company's expenses do not vary with revenues. The Company may
choose to reduce prices or invest significant resources in research and
development efforts in response to competition or to pursue new market
opportunities. There can be no assurance that revenues will grow in future
periods, that they will grow at historical rates, or that the Company will
maintain positive operating margins in future quarters.
PRODUCT CONCENTRATION; DEPENDENCE ON EMERGING MARKET FOR SUPPLY CHAIN
MANAGEMENT SOFTWARE
The Company currently derives all of its revenues from Rhythm licenses and
related services. The Company expects that Rhythm-related revenues, including
maintenance and consulting contracts, will continue to account for substantially
all of the Company's revenues for the foreseeable future. As a result, the
Company's future operating results are dependent upon continued market
acceptance of Rhythm and enhancements thereto. There can be no assurance that
Rhythm will achieve continued market acceptance. A decline in demand for, or
market acceptance of, Rhythm as a result of competition, technological change or
other factors would have a material adverse effect on the Company's business,
operating results and financial condition.
Although demand for Rhythm has grown in recent years, the market for supply
chain management software is still emerging and there can be no assurance that
it will continue to grow or that, even if the market does grow, businesses will
continue to adopt Rhythm. The Company has spent, and intends to continue to
spend, considerable resources educating potential customers about supply chain
management in general and about the features and functions of Rhythm in
particular. However, there can be no assurance that such expenditures will
enable Rhythm to achieve any additional degree of market acceptance. If the
market for Rhythm fails to grow or grows more slowly than the Company currently
anticipates, the Company's business, operating results and financial condition
would be materially adversely affected. See "Management's Discussion and
Analysis of Financial Condition and Results of Operations" in Item 7 of this
Form 10-K.
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MANAGEMENT OF GROWTH
The Company's business has grown rapidly in the last three years, with
total revenues increasing from $4.7 million in 1993 to $76.3 million in 1996.
The Company's recent expansion has resulted in substantial growth in the number
of its employees (from 181 at December 31, 1995 to 426 at December 31, 1996),
the scope of its operating and financial systems and the geographic distribution
of its operations and customers. This recent rapid growth has placed, and if
such growth continues will continue to place, a significant strain on the
Company's management and operations. Accordingly, the Company's future operating
results will depend on the ability of its officers and other key employees to
continue to implement and improve its operational, customer support and
financial control systems, and to effectively expand, train and manage its
employee base. There can be no assurance that the Company will be able to manage
any future expansion successfully, and any inability to do so would have a
material adverse effect on the Company's business, operating results and
financial condition. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations" in Item 7 of this Form 10-K.
DEPENDENCE UPON KEY PERSONNEL
The Company's future operating results depend in significant part upon the
continued service of a relatively small number of key technical and senior
management personnel, none of whom is bound by an employment agreement. The
Company's future success also depends on its continuing ability to attract and
retain other highly qualified technical and managerial personnel. Competition
for such personnel is intense, and the Company has at times in the past
experienced difficulty in recruiting qualified personnel. There can be no
assurance that the Company will retain its key technical and managerial
employees or that it will be successful in attracting, assimilating and
retaining other highly qualified technical and managerial personnel in the
future. The loss of any member of the Company's key technical and senior
management personnel or the inability to attract and retain additional qualified
personnel could have a material adverse effect on the Company's business,
operating results and financial condition.
COMPLEXITY OF SOFTWARE PRODUCTS; RAPID TECHNOLOGICAL CHANGE AND NEW PRODUCTS
Rhythm is a client/server solution which can operate on platforms from
Digital Equipment, Hewlett-Packard, IBM, Sun Microsystems, Solaris and Microsoft
and can access data from most widely used SQL (structured query language)
databases, including Informix, Oracle and Sybase. Based upon demand in the
marketplace, the Company may identify additional platforms on which to port its
software products; however, such platforms may not be architecturally compatible
with Rhythm's software product design. Therefore, no assurance can be given
concerning the continued successful porting of the Company's software products
on these or additional platforms, the timing of completion of any such ports or
the acceptance of the Company's applications in the marketplace.
The market for the Company's software products is characterized by rapid
technological advances, evolving industry standards in computer hardware and
software technology, changes in customer requirements and frequent new product
introductions and enhancements. The Company's future success will depend upon
its ability to continue to enhance its current product line and to develop and
introduce new products that keep pace with technological developments, satisfy
increasingly sophisticated customer requirements and achieve market acceptance.
There can be no assurance that the Company will be successful in developing and
marketing, on a timely and cost-effective basis, fully functional product
enhancements or new products that respond to technological advances by others,
or that its new products will achieve market acceptance. The Company's failure
to successfully develop and market product enhancements or new products could
have a material adverse effect on the Company's business, operating results and
financial condition.
As a result of the complexities inherent in client/server computing
environments and the broad functionality and performance demanded by customers
for supply chain management products, major new products and product
enhancements can require long development and testing periods. In addition,
software programs as complex as those offered by the Company may contain
undetected errors or "bugs" when first introduced or as new versions are
released that, despite testing by the Company, are discovered only after a
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product has been installed and used by customers. While the Company has on
occasion experienced delays in the scheduled introduction of new and enhanced
products and products containing bugs, to date the Company's business has not
been materially adversely affected by delays or the release of products
containing errors. There can be no assurance, however, that errors will not be
found in future releases of the Company's software, or that any such errors will
not impair the market acceptance of these products and adversely affect the
Company's business, operating results and financial condition.
While the Company generally takes steps to avoid interruptions of sales
often associated with the pending availability of new products, customers may
delay their purchasing decisions in anticipation of the general availability of
new or enhanced Rhythm products, which could have a material adverse effect on
the Company's business and operating results. Moreover, significant delays in
the general availability of such new releases, significant problems in the
installation or implementation of such new releases, or customer dissatisfaction
with such new releases, could have a material adverse effect on the Company's
business, operating results and financial condition.
INTERNATIONAL OPERATIONS AND CURRENCY FLUCTUATIONS
The Company derived approximately 11%, 8% and 26% of its total revenues
from customers located outside of the United States in 1994, 1995 and 1996,
respectively. The Company believes that continued growth and profitability will
require expansion of its sales in international markets. In order to
successfully expand international sales, the Company has utilized, and will
continue to utilize substantial resources to expand existing foreign operations,
establish additional foreign operations and hire additional personnel.
International expansion of the Company's operations has required, and will
continue to require the Company to translate its software and manuals into
foreign languages. To date, the Company has translated its software into Asian,
European and Latin American languages. To the extent the Company is unable to
expand its international operations or translate its software and manuals into
foreign languages in a timely manner, it is likely to adversely impact the
Company's operating results. In addition, even if international operations are
successfully expanded, there can be no assurance that the Company will be able
to maintain or increase international market demand for its products.
The Company's international operations are subject to risks inherent in
international business activities, including, in particular, management of an
organization spread over various countries, longer accounts receivable payment
cycles in certain countries, compliance with a variety of foreign laws and
regulations, unexpected changes in regulatory requirements, overlap of different
tax structures, foreign currency exchange rate fluctuations and general economic
conditions. To date, the Company's revenues from international operations have
primarily been denominated in United States dollars. However, to the extent
significant sales have been in the past or are in the future denominated in
foreign currencies, the Company has implemented and intends in the future to
implement hedging programs to mitigate its exposure to foreign currency
fluctuations. As a result of the continued expansion of the Company's
international operations, the fluctuations in the value of foreign currencies in
which the Company conducts its business have caused and will continue to cause
currency transaction gains and losses. To date, currency transaction gains and
losses have not been material. However, due to the number of foreign currencies
involved, the constantly changing currency exposures and volatility of currency
exchange rates, the Company cannot predict the effect of exchange rate
fluctuations upon future operating results. Other risks associated with
international operations include import and export licensing requirements, trade
restrictions and changes in tariff rates.
PRODUCT LIABILITY
While the Company's license agreements with its customers typically contain
provisions designed to limit the Company's exposure to potential product
liability claims, it is possible that such limitation of liability provisions
may not be effective under the laws of certain jurisdictions. Although the
Company has not experienced any product liability claims to date, there can be
no assurance that the Company will not be subject to such claims in the future.
A successful product liability claim brought against the Company could have a
material adverse effect on the Company's business, operating results and
financial condition. Moreover, defending such a suit, regardless of its merits,
could entail substantial expense and require the time and
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attention of key management personnel, either of which could have a material
adverse effect on the Company's business, operating results and financial
condition.
POSSIBLE VOLATILITY OF MARKET PRICE
The market price of the Common Stock may be significantly affected by
factors such as quarterly variations in the Company's results of operations, the
announcement of new products or product enhancements by the Company or its
competitors, technological innovation by the Company or its competitors, and
general market conditions or market conditions specific to particular
industries. In particular, the stock prices for many companies in the technology
and emerging growth sectors have experienced wide fluctuations which have often
been unrelated to the operating performance of such companies. Such fluctuations
may adversely affect the market price of the Common Stock.
CONTROL BY MANAGEMENT
Messrs. Sidhu and Sharma beneficially own approximately 65% and 16%,
respectively, of the Company's outstanding Common Stock. Consequently, Messrs.
Sidhu and Sharma (and Mr. Sidhu in particular) are able to control the outcome
of all matters submitted for stockholder action, including the election of
members to the Company's Board of Directors and the approval of significant
change in control transactions, and effectively control the management and
affairs of the Company, which may have the effect of delaying or preventing a
change in control of the Company. Messrs. Sidhu and Sharma constitute two of the
four directors and therefore, have significant influence in directing the
actions of the Board of Directors.
ANTI-TAKEOVER PROVISIONS
The Company's Certificate of Incorporation, as amended (the "Charter"), and
Bylaws, as amended (the "Bylaws"), contain certain provisions that may have the
effect of discouraging, delaying or preventing a change in control of the
Company or unsolicited acquisition proposals that a stockholder might consider
favorable, including provisions: authorizing the issuance of "blank check"
preferred stock; providing for a Board of Directors with staggered, three-year
terms; requiring super-majority voting to effect certain amendments to the
Charter and Bylaws; limiting the persons who may call special meetings of
stockholders; prohibiting stockholder action by written consent; and
establishing advance notice requirements for nominations for election to the
Board of Directors or for proposing matters that can be acted upon at
stockholders meetings. Certain provisions of Delaware law and the Company's 1995
Stock Option/Stock Issuance Plan may also have the effect of discouraging,
delaying or preventing a change in control of the Company or unsolicited
acquisition proposals.
ITEM 2. PROPERTIES
The Company's primary offices are located in approximately 84,000 square
feet of space in Irving, Texas and approximately 23,000 square feet in Dallas,
Texas under leases expiring in October 2000 and December 1998, respectively. The
Company also leases space for its other offices in the United States, Australia,
Belgium, Canada, Denmark, France, Germany, Japan, Singapore and the United
Kingdom. These leases expire at various dates through 2001.
ITEM 3. LEGAL PROCEEDINGS
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
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PART II
ITEM 5. MARKET FOR REGISTRANTS COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
The Company's Common Stock has traded on the Nasdaq National Market under
the symbol "ITWO" since its initial public offering on April 25, 1996. Prior to
the initial public offering, there had been no public market for the Common
Stock. The following table lists the high and low sales by quarter subsequent to
the initial public offering:
HIGH LOW
------ ------
Fourth quarter of 1996..................................... $44.50 $33.00
Third quarter of 1996...................................... 43.50 23.75
Second quarter of 1996..................................... 58.50 20.00
As of January 28, 1997, there were 24,731,820 shares of the Company's
Common Stock outstanding held by 318 stockholders of record. The Company
believes there are approximately 2,000 beneficial owners of the Company's Common
Stock.
The Company has never declared or paid cash dividends on its capital stock.
The Company currently intends to retain any earnings for use in its business and
does not anticipate paying any cash dividends in the foreseeable future. Future
dividends, if any, will be determined by the Company's Board of Directors.
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ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA
The following selected consolidated financial data should be read in
conjunction with "Management's Discussion and Analysis of Financial Condition
and Results of Operations" in Item 7 of this Form 10-K and the Consolidated
Financial Statements and Notes thereto included in Item 14 of this Form 10-K.
YEAR ENDED DECEMBER 31,
---------------------------------------------------
1992 1993 1994 1995 1996
------- ------- ------- ------- -------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
STATEMENT OF INCOME DATA:
Revenues:
Software licenses...................... $ 218 $ 3,073 $ 8,562 $18,711 $50,855
Services............................... 1,705 1,444 2,249 4,656 18,196
Maintenance............................ -- 138 687 2,579 7,291
------- ------- ------- ------- -------
Total revenues...................... 1,923 4,655 11,498 25,946 76,342
------- ------- ------- ------- -------
Costs and expenses:
Cost of software licenses.............. 1 9 26 65 2,896
Cost of services and maintenance....... 763 948 1,333 3,814 15,315
Sales and marketing.................... 314 1,002 3,779 8,611 28,634
Research and development............... 274 653 1,653 4,067 14,661
General and administrative............. 481 748 1,202 3,620 6,715
------- ------- ------- ------- -------
Total costs and expenses............ 1,833 3,360 7,993 20,177 68,221
------- ------- ------- ------- -------
Operating income......................... 90 1,295 3,505 5,769 8,121
Other income (expense), net.............. (12) (24) (24) (36) 1,788
------- ------- ------- ------- -------
Income before income taxes............... 78 1,271 3,481 5,733 9,909
Provision for income taxes............... 22 456 1,295 1,959 3,817
------- ------- ------- ------- -------
Net income............................... $ 56 $ 815 $ 2,186 $ 3,774 $ 6,092
======= ======= ======= ======= =======
Net income per share..................... $ 0.00 $ 0.04 $ 0.10 $ 0.15 $ 0.22
Shares used in computing net income per
share.................................. 18,867 20,944 22,528 25,038 27,262
BALANCE SHEET DATA:
Working capital.......................... $ 404 $ 1,038 $ 3,352 $ 5,875 $53,268
Total assets............................. 990 2,776 7,887 19,910 89,074
Long-term debt, less current portion..... 289 283 670 1,075 100
Total stockholders' equity............... 390 1,206 3,392 7,560 61,321
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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The discussion and analysis below contains forward-looking statements that
involve risks and uncertainties. These forward-looking statements and other
statements made elsewhere in this document are made in reliance upon safe harbor
provisions of the Private Securities Litigation Reform Act of 1995. The section
below entitled "Factors That May Affect Future Results" sets forth and
incorporates by reference certain factors that could cause actual future results
of the Company to differ materially from those statements.
OVERVIEW
The Company develops, markets and sells client/server based decision
support software products for supply chain management and other applications.
The Company also provides services such as consulting, training and maintenance
related to these products. Supply chain management encompasses the planning and
scheduling of manufacturing and related logistics, from raw materials
procurement through work-in-process to customer delivery. Incorporated in 1989,
the Company's primary business initially consisted of providing software
development services for customers with proprietary mainframe or mini-computer
systems. The Company's activities during its early stages of operations focused
on the development of standard software solutions to provide decision support to
manufacturing companies. These efforts culminated in the development of a supply
chain management software solution that was introduced into the market in 1992
as Rhythm. Since the introduction of Rhythm, the Company has continued to focus
significant resources on the development of additional functionalities and
features to the Rhythm software. As a result, the Company has transitioned its
primary business from that of a provider of services to a provider of software
products.
Rhythm enables customers to model complex, multi-site supply chains and
rapidly generate integrated solutions to planning and scheduling problems such
as production bottlenecks, supply interruptions and customer order changes.
Rhythm utilizes a unique, constraint-based methodology which simultaneously
considers a broad range of constraints -- from machine capabilities to
individual customer commitments -- to optimize all aspects of the supply chain
including manufacturing and logistics.
Since inception, the Company has significantly increased its investment in
sales and marketing, service and support, research and development and general
and administrative staff and accelerated such investment beginning in the last
quarter of 1995. In addition, during 1996, the Company recognized license
revenues from software license agreements which included complementary software
provided by a third-party vendor. As a result of the foregoing, the Company's
revenues in 1996 were substantially higher than the levels achieved in 1995.
However, the Company has experienced decreases in operating margins in 1995 and
1996 as a result of such increased staffing and the royalty fees associated with
the third-party software included with the sales of Rhythm in 1996. In order to
capture additional market share, the Company expects to continue to increase
staffing levels and incur additional associated costs in future periods.
However, there can be no assurance that the Company's revenues will grow in
future periods or that the Company will maintain the substantial growth rates in
revenues it realized in 1996.
The sales cycle for the Company's products is typically six to nine months,
and license fee revenues for a particular period are substantially dependent on
orders received and software functionality delivered in that period.
Furthermore, the Company has experienced, and expects to continue to experience,
significant variation in the size of individual sales. As a result of these and
other factors, the Company's results have varied significantly in the past and
are likely to be subject to significant fluctuations in the future. Accordingly,
the Company believes that period-to-period comparisons of its results of
operations are not necessarily indicative of the results to be expected for any
future period.
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RESULTS OF OPERATIONS
The following table sets forth, for the periods indicated, the percentages
of total revenues represented by certain items reflected in the Company's
Consolidated Statements of Income:
YEAR ENDED DECEMBER 31,
-----------------------------
1994 1995 1996
------- ------- -------
Revenues:
Software licenses.................................. 74.5% 72.1% 66.6%
Services........................................... 19.6 17.9 23.8
Maintenance........................................ 5.9 10.0 9.6
------- ------- -------
Total revenues.................................. 100.0 100.0 100.0
------- ------- -------
Costs and expenses:
Cost of software licenses.......................... 0.2 0.2 3.8
Cost of services and maintenance................... 11.6 14.7 20.1
Sales and marketing................................ 32.9 33.2 37.5
Research and development........................... 14.4 15.7 19.2
General and administrative......................... 10.4 14.0 8.8
------- ------- -------
Total costs and expenses........................ 69.5 77.8 89.4
------- ------- -------
Operating income..................................... 30.5 22.2 10.6
Other income (expense), net.......................... (0.2) (0.1) 2.4
------- ------- -------
Income before income taxes........................... 30.3 22.1 13.0
Provision for income taxes........................... 11.3 7.6 5.0
------- ------- -------
Net income........................................... 19.0% 14.5% 8.0%
======= ======= =======
REVENUES
The Company's revenues consist of software license revenues, service
revenues and maintenance revenues. Software license revenues consist of sales of
software licenses which are recognized upon execution of a contract and shipment
of the software, provided that no significant vendor obligations remain
outstanding, amounts are due within one year and collection is considered
probable by management. Service revenues are primarily derived from fees for
consulting and training services and are recognized as the services are
performed. Maintenance revenues are derived from customer support agreements
generally entered into in connection with initial license sales and subsequent
renewals. Maintenance revenues are recognized ratably over the term of the
maintenance period. Payments for maintenance fees are generally made in advance.
Total revenues increased 194.2% to $76.3 million in 1996 from $25.9 million
in 1995, and increased 125.6% in 1995 from $11.5 million in 1994. The Company
currently derives all of its revenues from Rhythm licenses and related services
and maintenance. The Company expects that Rhythm related revenues will continue
to account for substantially all of the Company's revenues in the foreseeable
future. As a result of the Company's dependence on the continued market
acceptance of Rhythm and enhancements thereto, there can be no assurance that
total revenues will continue to increase at the rates experienced in prior
periods, if at all.
SOFTWARE LICENSES. Revenues from software licenses increased 171.8% to
$50.9 million in 1996 from $18.7 million in 1995, and increased 118.5% in 1995
from $8.6 million in 1994. Software license revenues constituted 66.6%, 72.1%
and 74.5% of total revenues in 1996, 1995 and 1994, respectively. The
significant increases in software license revenues were primarily due to growing
market acceptance of the Company's software products, a substantial investment
in the Company's infrastructure and continued expansion into new geographic and
vertical markets. To date, sales of software licenses have principally been
derived from direct sales to customers. Although the Company believes that
direct sales will continue to account for a majority of software license
revenues, the Company's strategy is to increase the level of indirect sales
activities. In this regard, the Company has entered into reselling agreements
with other software providers such as SAP AG and Systems Software Associates. As
a result, the Company expects that sales of its software products through
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sales alliances, distributors, resellers and other indirect channels will
increase as a percentage of software license revenues. However, there can be no
assurance that the Company's efforts to expand indirect sales will be
successful.
SERVICES. Revenues from services increased 290.8% to $18.2 million in 1996
from $4.7 million in 1995, and increased 107.0% in 1995 from $2.2 million in
1994. Service revenues constituted 23.8%, 17.9%, and 19.6% of total revenues in
1996, 1995, and 1994, respectively. The significant increases in the dollar
amount of service revenues were primarily due to the significant increase in the
number of Rhythm licenses sold and a significant investment in the Company's
consulting organization as a result of the increased demand for the Company's
products. The increases in 1996 were also due to an increase in the use of third
party consultants to provide implementation services to the Company's customers
which has allowed the Company to more rapidly penetrate international markets.
Service revenues as a percentage of total revenues have fluctuated, and are
expected to continue to fluctuate on a period-to-period basis based upon the
demand for implementation, training and consulting services.
MAINTENANCE. Revenues from maintenance increased 182.7% to $7.3 million in
1996 from $2.6 million in 1995, and increased 275.6% in 1995 from $687,000 in
1994. Maintenance revenues constituted 9.6%, 10.0% and 5.9% of total revenues in
1996, 1995 and 1994, respectively. The significant increases in maintenance
revenues were primarily due to the continued increase in the number of Rhythm
licenses sold and a high percentage of maintenance agreement renewals. The
Company expects that the dollar amount of maintenance revenues will continue to
increase, but should not vary significantly from the percentage of total
revenues achieved in 1996.
CONCENTRATION OF REVENUES. During 1996, one customer accounted for
approximately 15% of total revenues. During 1995, this same customer accounted
for approximately 14% of total revenues, while two other customers accounted for
approximately 12% and 11% of total revenues. During 1994, one customer accounted
for approximately 11% of total revenues and two customers each individually
accounted for approximately 10% of total revenues. The Company believes that the
loss of any of these customers would not have a material adverse effect upon the
Company's business, operating results or financial condition.
INTERNATIONAL REVENUES. The Company recognized $20.0 million, $2.0 million
and $1.3 million of international revenues in 1996, 1995 and 1994, representing
approximately 26%, 8% and 11% of total revenues, respectively. The Company's
international revenues were primarily generated from customers located in Asia,
Canada and Europe. In 1996, revenues from customers located in Europe accounted
for approximately 14% of total revenues. The significant increase in
international revenues in 1996 was primarily due to the international expansion
of the Company's sales operations which began in the last quarter of 1995. The
Company believes that continued growth and profitability will require expansion
of its sales in international markets. In order to successfully increase
international sales, the Company has utilized and will continue to utilize
substantial resources to expand existing foreign operations, establish
additional foreign operations and hire additional personnel.
COSTS AND EXPENSES
COST OF SOFTWARE LICENSES. Cost of software licenses consists primarily of
(i) the cost of reproduction and delivery of the software, (ii) the cost of user
documentation and (iii) royalty fees associated with third-party software
included with the sales of Rhythm. Cost of software licenses was $2.9 million,
$65,000 and $26,000 in 1996, 1995 and 1994, representing 5.7%, 0.3% and 0.3% of
software license revenues, respectively. The significant increase in cost of
software licenses both in dollar amount and as a percentage of revenues were
primarily due to royalties paid to a third-party vendor during 1996 in
connection with software license sales that included complementary software
provided by such vendor. Royalty fees were $2.8 million in 1996. Although the
Company did not incur expense obligations during 1995 and 1994 under its
agreements with third-party software vendors, the Company expects to continue to
include third-party software with sales of Rhythm to the extent requested by
customers.
COST OF SERVICES AND MAINTENANCE. Cost of services and maintenance consists
primarily of costs associated with consulting and training services. Costs of
services and maintenance also includes the cost of
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providing software maintenance to customers such as hotline telephone support,
new releases of software and updated user documentation, none of which costs
have been significant to date. Cost of services and maintenance was $15.3
million, $3.8 million and $1.3 million in 1996, 1995 and 1994, representing
60.1%, 52.7% and 45.4% of service and maintenance revenues, respectively. The
increases in cost of services and maintenance both in dollar amount and as a
percentage of service and maintenance revenues were primarily due to the
increase in the number of consultants, product support and training staff and
the increased use of third-party consultants to provide implementation services.
In addition, consultants were hired during 1995 and 1996 to expand into
different geographic and vertical markets and major consulting and support
centers were established in Canada, Europe and Japan in 1996. The Company
expects to continue to increase the number of its consulting, product support
and training staff in the foreseeable future as a means to expand into these
different geographic and vertical markets. To the extent that the Company's
license sales do not increase at anticipated rates, the hiring of additional
consultants could adversely affect the Company's gross margins.
SALES AND MARKETING. Sales and marketing expenses include personnel costs,
commissions, office facilities, travel, promotional events such as trade shows,
seminars and technical conferences, advertising and public relations programs.
Sales and marketing expenses were $28.6 million, $8.6 million and $3.8 million
in 1996, 1995 and 1994, representing 37.5%, 33.2% and 32.9% of total revenues,
respectively. The increases in sales and marketing expenses both in dollar
amount and as a percentage of total revenues were primarily due to (i) increased
staffing as the Company established new domestic and international sales offices
and expanded its existing direct sales force, (ii) increased sales commissions
as a result of significantly higher revenues and (iii) increased marketing and
promotional activities. The Company expects to continue to significantly
increase its sales and marketing activities in order to expand its international
sales operations and to enter into new vertical markets. The Company believes
that the dollar amount of sales and marketing expenses will continue to
increase, but should not vary significantly as a percentage of total revenues
from the level experienced in 1996.
RESEARCH AND DEVELOPMENT. Research and development expenses were $14.7
million, $4.1 million and $1.7 million in 1996, 1995 and 1994, representing
19.2%, 15.7% and 14.4% of total revenues, respectively. The increases in
research and development expenses both in dollar amount and as a percentage of
total revenues were primarily due to the hiring of additional research and
development personnel and other related costs incurred in connection with
expanding the Company's research and development department. The Company expects
that the dollar amount of research and development expenses will continue to
increase as the Company continues to invest in developing new products,
applications and product enhancements for new industrial markets.
In accordance with Statement of Financial Accounting Standards No. 86,
software development costs are expensed as incurred until technological
feasibility has been established, at which time such costs are capitalized until
the product is available for general release to customers. To date, the
establishment of technological feasibility of the Company's products and general
release of such software have substantially coincided. As a result, software
development costs qualifying for capitalization have been insignificant, and
therefore, the Company has not capitalized any software development costs.
GENERAL AND ADMINISTRATIVE. General and administrative expenses include the
personnel and other costs of the finance, human resources, information systems,
administrative and executive departments of the Company and the fees and
expenses associated with the legal, accounting and other requirements. General
and administrative expenses were $6.7 million, $3.6 million and $1.2 million in
1996, 1995 and 1994, representing 8.8%, 14.0% and 10.4% of total revenues,
respectively. The increases in the dollar amount of general and administrative
expenses were primarily the result of increased staffing and related costs
associated with the growth of the Company's business during these periods. The
decrease in general and administrative expenses as a percentage of total
revenues in 1996 was primarily due to the substantial increase in total revenues
and the Company's ability to leverage its base of resources to support a larger
organization. The increase in general and administrative expenses as a
percentage of total revenues in 1995 was primarily due to the continued
development of its corporate management and related support functions and its
move to a larger facility. The Company expects that the dollar amount of general
and administrative expenses will continue to increase in the foreseeable future.
19
21
OTHER INCOME (EXPENSE). Other income (expense) consists primarily of
interest income on short-term investments and overnight repurchase agreements
offset by interest expense on the Company's outstanding debt. Other income
(expense) was $1.8 million, ($36,000) and ($24,000) in 1996, 1995 and 1994,
representing 2.4%, (0.1%) and (0.2%) of total revenues, respectively. The
increases in other income (expense) both in dollar amount and as a percentage of
total revenues in 1996 were primarily due to interest earned on higher balances
of cash, cash equivalents and short-term investments resulting from net proceeds
of the initial public offering of the Company's common stock which was completed
in May 1996 and a decrease in interest expense due to the repayment of a
majority of the Company's outstanding debt in June 1996.
PROVISION FOR INCOME TAXES. The Company recorded income tax expense of $3.8
million, $2.0 million and $1.3 million in 1996, 1995 and 1994, respectively. The
Company's effective income tax rates were 38.5%, 34.2% and 37.2% in 1996, 1995
and 1994, respectively. The Company's effective income tax rate was higher in
1996 due to the non-deductibility of the amortization of deferred compensation
expense and higher effective state income tax rates. The Company's effective
income tax rate was lower in 1995 due to Canadian research and development tax
credits and lower effective state income tax rates.
LIQUIDITY AND CAPITAL RESOURCES
Since its inception, the Company has primarily financed its operations and
met its capital expenditure requirements through cash flows from operations,
long-term borrowings and during 1996, through sales of equity securities. Cash
flows from operations were $6.4 million, $4.6 million and $3.2 million in 1996,
1995 and 1994, respectively. Total repayments of borrowings were $1.3 million in
1996 and net proceeds from borrowings were $467,000 and $561,000 in 1995 and
1994, respectively. Cash flows from sales of equity securities were $45.5
million and $324,000 in 1996 and 1995, respectively. The Company purchased
approximately $6.8 million, $2.9 million and $1.0 million of computer and office
equipment in 1996, 1995 and 1994, respectively. At December 31, 1996, the
Company did not have any material commitments for capital expenditures.
At December 31, 1996, the Company had $53.3 million of working capital,
including $31.8 million in cash and cash equivalents and $18.0 million in
short-term investments, as compared to $5.9 million of working capital as of
December 31, 1995. The increase in working capital was primarily attributed to
the Company's initial public offering which was completed in May 1996 which
generated net proceeds of $43.7 million after deducting offering expenses and
the underwriting discount.
Accounts receivable, net of allowance for doubtful accounts, increased to
$25.5 million at December 31, 1996 from $7.9 million at December 31, 1995
primarily due to a significant increase in revenues during 1996. Contract
receivables consist primarily of contractually scheduled amounts due from
customers that, based on negotiations with the individual customers, provide for
terms which are longer than typical trade terms. Contract receivables, net of
allowance for doubtful accounts, increased to $3.1 million at December 31, 1996
from $1.2 million at December 31, 1995 primarily due to the extended payment
terms of several new license agreements partially offset by collections of
contract receivables outstanding at December 31, 1995. Based upon the nature of
the Company's customers and its past collection experience, the Company does not
expect to encounter collection difficulties with respect to such accounts that
would have a material effect on the Company's financial position or results of
operations.
Average days' sales outstanding, including contract receivables, was 74
days for the year ended December 31, 1996 as compared to 84 days for the year
ended December 31, 1995. The decrease in average days outstanding was primarily
due to the collection of several large trade receivable balances outstanding at
December 31, 1995. Average days' sales outstanding increased in the second half
of 1996 primarily due to a significant increase in receivables from customers
located in foreign countries which tend to have longer payment terms compared to
customers located in the United States. Average days' sales outstanding can
fluctuate for a variety of reasons including the timing and billing of
receivables in which the related revenues may not yet be recognizable. Total
deferred revenue increased to $16.4 million at December 31, 1996 from $7.8
million at December 31, 1995 primarily as a result of payments received from
several customers for software expected to be delivered during 1997.
20
22
The Company's revolving credit agreement with NationsBank of Texas, N.A.
(the "Lender"), which was amended and extended until June 1, 1998, is unsecured
and contains customary restrictive covenants, including covenants requiring the
Company to maintain certain financial ratios. The revolving credit agreement is
not subject to a borrowing base limitation and the borrowings thereunder bear
interest at the Lender's prime lending rate (8.25% at December 31, 1996). At
December 31, 1996, the Company had $100,000 of borrowings outstanding under the
revolving credit agreement, and the maximum amount of borrowings allowable under
the revolving credit agreement was $3.0 million. In June 1996, the Company
repaid approximately $1.2 million of the outstanding borrowings under the other
credit agreements with the Lender.
The Company is actively reviewing acquisition candidates with leading-edge
products and technologies that could enhance the Company's product offering. The
technologies associated with the products of the acquired businesses would be
incorporated into the Company's existing internally developed products or would
be used in developing new client/server, open systems products. The Company is
currently involved in the evaluation of, and discussions with, one or more
acquisition candidates, but the Company has not reached any agreements with
respect to any future acquisitions. Any material acquisition or joint ventures
could result in a decrease to the Company's working capital depending on the
amount, timing and nature of the consideration to be paid.
The Company believes that existing cash and cash equivalent balances,
short-term investment balances, available borrowings under the revolving credit
agreement and potential cash flow from operations will satisfy the Company's
working capital and capital expenditure requirements for at least the next 12
months. However, any material acquisitions of complementary businesses, products
or technologies could require the Company to obtain additional sources of
financing.
FACTORS THAT MAY AFFECT FUTURE RESULTS
Numerous factors may affect the Company's business and its results of
operations. These factors include the potential for significant fluctuations in
quarterly results; the reliance on Rhythm and related products and services for
substantially all of its revenues; the level and intensity of competition in the
supply chain management market; the Company's ability to continue to improve its
infrastructure (including personnel and systems) to manage the substantial
growth of the Company; the timing of the release and market acceptance of new or
enhanced versions of the Company's software products; the international
expansion of the Company's operations; the complexity of the Company's existing
software products and new products expected to be developed; and general
economic and business conditions. For a discussion of these and other factors
that may affect the Company's future results, see "Business" in Item 1 of this
Form 10-K.
ITEM 8. CONSOLIDATED FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The information required by this item is included in Part IV Item 14(a)(1)
and (2).
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
21
23
PART III
Certain information required by Part III is omitted from this Form 10-K
because the Company will file a definitive Proxy Statement pursuant to
Regulation 14A (the "Proxy Statement") not later than 120 days after the end of
the fiscal year covered by this Form 10-K, and certain information to be
included therein is incorporated herein by reference.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information required by this Item is incorporated by reference to the
Proxy Statement under the headings "Proposal 1 -- Election of Directors," and
"Executive Compensation -- Executive Officers" and "-- Compliance with Section
16(a) of the Exchange Act."
ITEM 11. EXECUTIVE COMPENSATION
The information required by this Item is incorporated by reference to the
Proxy Statement under the heading "Executive Compensation."
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by this Item is incorporated by reference to the
Proxy Statement under the heading "Principal Stockholders."
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this Item is incorporated by reference to the
Proxy Statement under the heading "Executive Compensation -- Certain
Transactions with Management."
22
24
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) The following documents are filed as part of the Report:
1. Consolidated Financial Statements. The following consolidated
financial statements of i2 Technologies, Inc. are filed as part of
this report:
PAGE
----
Report of Independent Auditors........................... F-1
Covered by Report of Independent Auditors:
Consolidated Balance Sheets at December 31, 1995 and
1996................................................... F-2
Consolidated Statements of Income for the years ended
December 31, 1994, 1995 and 1996....................... F-3
Consolidated Statements of Stockholders' Equity for the
years ended December 31, 1994, 1995 and 1996........... F-4
Consolidated Statements of Cash Flows for the years ended
December 31, 1994, 1995 and 1996....................... F-5
Notes to Consolidated Financial Statements (except Note
11)....................................................... F-6
Not Covered by Report of Independent Auditors:
Note 11 of the Notes to Consolidated Financial
Statements................................................ F-14
2. Consolidated Financial Statements Schedules. None.
3. Exhibits.
3.1* Certificate of Incorporation, as amended (filed as Exhibit 3.1 to the Company's
Registration Statement on Form S-1 (Reg. No. 333-1752) (the "Form S-1")
3.2* Bylaws, as amended (filed as Exhibit 3.2 to the Form S-1)
4.1* Specimen Common Stock certificate (filed as Exhibit 4.1 to the Form S-1)
10.1* Form of Registration Rights Agreement, dated April 1, 1996, among the Company, Sanjiv
S. Sidhu and Sidhu-Singh Family Investments, Ltd. (filed as Exhibit 10.2 to the Form
S-1)
10.2*+ 1995 Stock Option/Stock Issuance Plan (filed as Exhibit 10.3 to the Form S-1)
10.3* Form of Indemnification Agreement between the Company and each of its officers and
directors (filed as Exhibit 10.4 to the Form S-1)
10.4* Loan Agreement, dated August 11, 1994, between the Company and NationsBank of Texas,
N.A. (filed as Exhibit 10.5 to the Form S-1)
10.5* Loan Increase and First Modification Agreement, between the Company and NationsBank of
Texas, N.A., and acknowledged and consented to by Sanjiv S. Sidhu and Lekha Singh
(filed as Exhibit 10.6 to the Form S-1)
10.6* Second Modification Agreement, dated December 31, 1995, between the Company and
NationsBank of Texas, N.A., and acknowledged and consented to by Sanjiv S. Sidhu and
Lekha Singh (filed as Exhibit 10.7 to the Form S-1)
10.7* Form of Employee Proprietary Information Agreement between the Company and each of its
employees (filed as Exhibit 10.9 to the Form S-1)
10.8* Lease Agreement, dated July 14, 1995, between the Company and TRST Irving, Inc. (filed
as Exhibit 10.10 to the Form S-1)
23
25
10.9* Lease Agreement, dated June 29, 1990, as amended, between the Company and Park West E-2
Associates (filed as Exhibit 10.11 to the Form S-1)
10.10*# Software License Agreement, dated August 31, 1995, between the Company and Minnesota
Mining and Manufacturing (filed as Exhibit 10.12 to the Form S-1)
10.11* Second Amendment of Lease Agreement between the Company and TRST Irving, Inc. dated as
of February 23, 1996 (filed as Exhibit 10.1 to the Company's Quarterly Report on Form
10-Q for the quarter ended March 31, 1996)
10.12* Third Modification Agreement, dated April 26, 1996, between the Company and NationsBank
of Texas, N.A. (filed as Exhibit 10.1 to the Company's Quarterly Report on Form 10-Q
for the quarter ended June 30, 1996 (the "June 10-Q")
10.13* Fourth Modification Agreement, dated June 26, 1996, between the Company and NationsBank
of Texas, N.A. (filed as Exhibit 10.2 to the June 10-Q)
10.14* Fifth Extension and Modification Agreement, dated June 30, 1996, between the Company
and NationsBank of Texas, N.A. (filed as Exhibit 10.3 to the June 10-Q)
10.15* Third Amendment to Lease Agreement between the Company and TRST Irving, Inc. dated as
of July 25, 1996 (filed as Exhibit 10.1 to the Company's Quarterly Report for the
quarter ended September 30, 1996 (the "September 10-Q")
10.16* Fifth Amendment to Lease Agreement between the Company and Principal Mutual Life
Insurance Company dated as of August 29, 1996 (filed as Exhibit 10.2 to the September
10-Q)
10.17 Fourth Amendment to Lease Agreement between the Company and TRST Irving, Inc. dated as
of December 19, 1996
11.1 Statement of Computation of Net Income Per Share
21.1 List of subsidiaries
23.1 Consent of Ernst & Young LLP
24.1 Power of Attorney, pursuant to which amendments to this Form 10-K may be filed, is
included on the signature page contained in Part IV of this Form 10-K.
27.1 Financial Data Schedule
- ---------------
* Incorporated herein by reference to the indicated filing.
+ Management contract or compensation plan.
# Confidential treatment previously granted.
(b) Reports on Form 8-K. No reports on Form 8-K were filed during the
quarter ended December 31, 1996.
24
26
SIGNATURES
Pursuant to the requirements of the Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this Report to be signed on
its behalf by the undersigned, thereunto duly authorized.
i2 TECHNOLOGIES, INC.
By: /s/ DAVID F. CARY
------------------------------------
David F. Cary
Vice President and Chief Financial
Officer
POWER OF ATTORNEY
KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature
appears below constitutes and appoints jointly and severally, Sanjiv S. Sidhu
and David F. Cary, and each one of them, his attorneys-in-fact, each with the
power of substitution, for him in any and all capacities, to sign any and all
amendments to this Annual Report (Form 10-K) and to file the same, with exhibits
thereto and other documents in connection therewith, with the Securities and
Exchange Commission, hereby ratifying and confirming all that each said
attorneys-in-fact, or his substitute or substitutes, may do or cause to be done
by virtue hereof.
Pursuant to the requirements of the Securities Exchange Act of 1934, this
Report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.
SIGNATURE TITLE DATE
--------- ----- ----
/s/ SANJIV S. SIDHU Chairman of the Board and Chief February 4, 1997
- ----------------------------------------------------- Executive Officer (Principal
Sanjiv S. Sidhu executive officer)
/s/ KANNA N. SHARMA Vice Chairman of the Board, February 4, 1997
- ----------------------------------------------------- Executive Vice President and
Kanna N Sharma Secretary
/s/ DAVID F. CARY Vice President and Chief Financial February 4, 1997
- ----------------------------------------------------- Officer (Principal finance and
David F. Cary accounting officer)
/s/ HARVEY B. CASH Director February 4, 1997
- -----------------------------------------------------
Harvey B. Cash
/s/ THOMAS J. MEREDITH Director February 4, 1997
- -----------------------------------------------------
Thomas J. Meredith
25
27
REPORT OF INDEPENDENT AUDITORS
The Board of Directors and Stockholders
i2 Technologies, Inc.
We have audited the accompanying consolidated balance sheets of i2
Technologies, Inc. and its subsidiaries (the Company) as of December 31, 1995
and 1996, and the related consolidated statements of income, stockholders'
equity, and cash flows for each of the three years in the period ended December
31, 1996. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial position of
i2 Technologies, Inc. and its subsidiaries at December 31, 1995 and 1996, and
the results of their operations and their cash flows for each of the three years
in the period ended December 31, 1996, in conformity with generally accepted
accounting principles.
/s/ ERNST & YOUNG LLP
Dallas, Texas
January 18, 1997
F-1
28
i2 TECHNOLOGIES, INC.
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE DATA)
DECEMBER 31,
----------------------
1995 1996
--------- ---------
ASSETS
Current assets:
Cash and cash equivalents................................. $ 5,930 $ 31,759
Short-term investments.................................... -- 18,031
Accounts receivable, net of allowance for doubtful
accounts of $294 and $963, respectively................ 7,919 25,504
Contract receivables, net of allowance for doubtful
accounts of $129 at December 31, 1995 and 1996......... 1,176 3,050
Income tax receivable..................................... 1,151 --
Prepaid and other current assets.......................... 341 1,898
Deferred income taxes..................................... 202 385
--------- ---------
Total current assets................................... 16,719 80,627
Furniture and equipment, net................................ 3,127 7,636
Deferred income taxes and other assets...................... 64 811
--------- ---------
Total assets........................................... $ 19,910 $ 89,074
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable.......................................... $ 1,048 $ 4,310
Accrued liabilities....................................... 665 3,333
Accrued compensation and related expenses................. 953 3,253
Current portion of long-term debt......................... 278 --
Current portion of deferred revenue....................... 7,474 16,113
Income taxes payable...................................... 425 350
--------- ---------
Total current liabilities.............................. 10,843 27,359
Long-term debt.............................................. 1,075 100
Deferred revenue............................................ 291 266
Deferred income taxes....................................... 141 28
--------- ---------
Total liabilities................................. 12,350 27,753
--------- ---------
Commitments
Stockholders' equity:
Preferred Stock, $.001 par value, 5,000,000 shares
authorized, none issued................................ -- --
Common Stock, $.00025 par value, 50,000,000 shares
authorized, 21,703,242 and 24,612,117 shares issued and
outstanding, respectively.............................. 5 6
Additional paid-in capital................................ 2,169 49,963
Deferred compensation..................................... (1,739) (1,865)
Retained earnings......................................... 7,125 13,217
--------- ---------
Total stockholders' equity............................. 7,560 61,321
--------- ---------
Total liabilities and stockholders' equity............. $ 19,910 $ 89,074
========= =========
See accompanying notes.
F-2
29
i2 TECHNOLOGIES, INC.
CONSOLIDATED STATEMENTS OF INCOME
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
YEAR ENDED DECEMBER 31,
---------------------------------
1994 1995 1996
--------- --------- ---------
Revenues:
Software licenses........................................ $ 8,562 $ 18,711 $ 50,855
Services................................................. 2,249 4,656 18,196
Maintenance.............................................. 687 2,579 7,291
--------- --------- ---------
Total revenues........................................ 11,498 25,946 76,342
--------- --------- ---------
Costs and expenses:
Cost of software licenses................................ 26 65 2,896
Cost of services and maintenance......................... 1,333 3,814 15,315
Sales and marketing...................................... 3,779 8,611 28,634
Research and development................................. 1,653 4,067 14,661
General and administrative............................... 1,202 3,620 6,715
--------- --------- ---------
Total costs and expenses.............................. 7,993 20,177 68,221
--------- --------- ---------
Operating income........................................... 3,505 5,769 8,121
Other income (expense), net................................ (24) (36) 1,788
--------- --------- ---------
Income before income taxes................................. 3,481 5,733 9,909
Provision for income taxes................................. 1,295 1,959 3,817
--------- --------- ---------
Net income................................................. $ 2,186 $ 3,774 $ 6,092
========= ========= =========
Net income per share....................................... $ 0.10 $ 0.15 $ 0.22
Weighted average common and common equivalent shares
outstanding.............................................. 22,528 25,038 27,262
See accompanying notes.
F-3
30
i2 TECHNOLOGIES, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(IN THOUSANDS)
COMMON STOCK ADDITIONAL TOTAL
------------------ PAID-IN DEFERRED RETAINED STOCKHOLDERS'
SHARES AMOUNT CAPITAL COMPENSATION EARNINGS EQUITY
--------- ------ ---------- ------------ ---------- -------------
Balance at December 31, 1993... 16,000 $ 4 $ 36 $ -- $ 1,166 $ 1,206
Net income................... -- -- -- -- 2,186 2,186
--------- ------ ---------- --------- ---------- ----------
Balance at December 31, 1994... 16,000 4 36 -- 3,352 3,392
Exercise of stock options.... 5,703 1 323 -- -- 324
Deferred compensation related
to stock options.......... -- -- 1,810 (1,810) -- --
Amortization of deferred
compensation.............. -- -- -- 71 -- 71
Net income................... -- -- -- -- 3,773 3,773
--------- ------ ---------- --------- ---------- ----------
Balance at December 31, 1995... 21,703 5 2,169 (1,739) 7,125 7,560
Exercise of stock options and
issuance under stock
purchase plan............. 519 -- 1,816 -- -- 1,816
Common stock issued, net of
offering costs of
$4,288.................... 2,390 1 43,715 -- -- 43,716
Tax benefit of stock
options................... -- -- 1,353 -- -- 1,353
Deferred compensation related
to stock options.......... -- -- 910 (910) -- --
Amortization of deferred
compensation.............. -- -- -- 784 -- 784
Net income................... -- -- -- -- 6,092 6,092
--------- ------ ---------- --------- ---------- ----------
Balance at December 31, 1996... 24,612 $ 6 $ 49,963 $ (1,865) $ 13,217 $ 61,321
========= ====== ========== ========= ========== ==========
See accompanying notes.
F-4
31
i2 TECHNOLOGIES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
YEAR ENDED DECEMBER 31,
--------------------------------------
1994 1995 1996
---------- ---------- ----------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income.......................................... $ 2,186 $ 3,774 $ 6,092
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization.................... 342 922 2,277
Provision for losses on receivables.............. -- 423 669
Amortization of deferred compensation............ -- 71 784
Deferred income taxes............................ 108 (269) (431)
Tax benefit of stock options..................... -- -- 1,353
Changes in operating assets and liabilities:
Accounts receivable............................ (853) (6,051) (18,254)
Contract receivables........................... (647) (379) (1,874)
Income tax receivable.......................... -- (1,151) 535
Prepaid and other assets....................... (117) (215) (1,553)
Accounts payable............................... 47 905 3,262
Accrued liabilities............................ 274 163 2,668
Accrued compensation and related expenses...... 391 547 2,300
Income taxes payable........................... (106) 327 (75)
Deferred revenue............................... 1,596 5,506 8,614
---------- ---------- ----------
Net cash provided by operating activities... 3,221 4,573 6,367
---------- ---------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of furniture and equipment................ (987) (2,857) (6,786)
Proceeds from the sale of furniture and equipment... 23 -- --
Purchases of short-term investments................. -- -- (37,531)
Proceeds from maturities of short-term
investments...................................... -- -- 19,500
---------- ---------- ----------
Net cash used in investing activities....... (964) (2,857) (24,817)
---------- ---------- ----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from revolving line of credit.............. 100 -- --
Proceeds from long-term debt........................ 550 3,110 --
Payments on long-term debt.......................... (89) (2,642) (1,253)
Net proceeds from sale of common stock and exercise
of stock options................................. -- 324 45,532
---------- ---------- ----------
Net cash provided by financing activities... 561 792 44,279
---------- ---------- ----------
Net increase in cash and cash equivalents............. 2,818 2,508 25,829
Cash and cash equivalents at beginning of period...... 604 3,422 5,930
---------- ---------- ----------
Cash and cash equivalents at end of period............ $ 3,422 $ 5,930 $ 31,759
========== ========== ==========
See accompanying notes.
F-5
32
i2 TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. THE COMPANY
i2 Technologies, Inc. (the "Company"), incorporated in 1989, develops,
markets and supports client/ server based decision support software products for
supply chain management and other applications. The Company also provides
services such as consulting, training and maintenance. The Company's products
and services are primarily provided to large and medium sized manufacturing and
distribution companies which operate in many industries and are located
throughout the world.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
PRINCIPLES OF CONSOLIDATION. The accompanying consolidated financial
statements include the accounts of the Company and its subsidiaries. All
significant intercompany balances and transactions have been eliminated in
consolidation.
USE OF ESTIMATES. The preparation of financial statements in conformity
with generally accepted accounting principles requires management to make
estimates and assumptions that affect the amounts reported in the financial
statements and accompanying notes. Actual results could differ from those
estimates.
CASH, CASH EQUIVALENTS AND SHORT-TERM INVESTMENTS. Cash equivalents are
highly liquid investments with insignificant interest rate risk and original
maturities of 90 days or less and are stated at amounts which approximate fair
value, based on quoted market prices. At December 31, 1995, cash equivalents
consist principally of overnight repurchase agreements. At December 31, 1996,
cash equivalents consist principally of overnight repurchase agreements and
highly liquid debt securities of corporations, municipalities and the U.S.
Government.
The Company accounts for its cash equivalents and short-term investments
under Statement of Financial Accounting Standards ("SFAS") No. 115, "Accounting
for Certain Investments in Debt and Equity Securities." Management determines
the appropriate classification of debt securities at the time of purchase and
reevaluates such designation as of each subsequent balance sheet date. The
Company considers its debt securities as "available-for-sale" and, in accordance
with SFAS No. 115, would record its investments at fair value. However, as the
difference between cost and fair value was immaterial at December 31, 1996, no
adjustment has been made to the historical carrying value of the investments and
no unrealized gains or losses have been recorded as a separate component of
stockholders' equity. Realized gains and losses to date have not been material.
The cost of debt securities sold is based on the specific identification method.
At December 31, 1995, the Company had no debt securities. At December 31,
1996, the Company's debt securities include $14.5 million of the U.S.
Government, $16.7 million of state and local municipalities and $9.0 million of
corporations, all of which mature within one year. At December 31, 1996, $22.2
million of debt securities were included in cash equivalents.
CONCENTRATION OF CREDIT RISK. Financial instruments which potentially
subject the Company to a concentration of credit risk principally consist of
accounts receivable and contract receivables. As of December 31, 1995,
approximately 53% of accounts and contract receivables were concentrated with
three customers. As of December 31, 1996, approximately 32% of accounts and
contract receivables were concentrated with three different customers. The
Company generally does not require collateral on accounts or contract
receivables as the Company's customers are generally large, well established
companies. The Company periodically performs credit evaluations of its customers
and maintains reserves for potential losses.
FURNITURE AND EQUIPMENT. Furniture and equipment are stated at cost.
Depreciation expense is calculated using the straight-line method over seven
years for office furniture and fixtures and three years for computer equipment.
F-6
33
i2 TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
REVENUE RECOGNITION. The Company's revenues consist of software license
revenues, service revenues and maintenance revenues. Software license revenues
consist of sales of software licenses which are recognized upon execution of a
contract and shipment of the software, provided that no significant vendor
obligations remain outstanding, amounts are due within one year and collection
is considered probable by management. Service revenues are derived from fees for
consulting and training services and are recognized as services are performed.
Maintenance revenues are derived from customer support agreements generally
entered into in connection with the initial license sales and subsequent
renewals. Maintenance revenues are recognized ratably over the term of the
maintenance period. Payments for maintenance fees are generally made in advance.
Customer payment terms vary. Amounts received in advance of satisfying
revenue recognition criteria are classified in current and long-term liabilities
as deferred revenue in the accompanying consolidated balance sheets. Contract
receivables consist primarily of contractually scheduled amounts due from
customers on specific dates which are longer than typical trade receivable
terms.
The Company generally warrants that its products will function
substantially in accordance with documentation provided to customers for
approximately six to twelve months following initial shipment to the customer.
As of December 31, 1996, the Company had not incurred any significant expenses
related to warranty claims.
COST OF SERVICES AND MAINTENANCE REVENUES. Cost of services and maintenance
consists primarily of costs associated with consulting and training services.
Cost of services and maintenance also includes the cost of providing software
maintenance to customers such as hotline telephone support, new releases of
software and updated user documentation, none of which costs have been
significant to date.
SOFTWARE DEVELOPMENT COSTS. In accordance with SFAS No. 86, "Accounting for
the Costs of Computer Software to Be Sold, Leased, or Otherwise Marketed,"
software development costs are expensed as incurred until technological
feasibility has been established, at which time such costs are capitalized until
the product is available for general release to customers. To date, the
establishment of technological feasibility of the Company's products and general
release of such software have substantially coincided. As a result, software
development costs qualifying for capitalization have been insignificant and
therefore, the Company has not capitalized any software development costs.
NET INCOME PER SHARE. Net income per common share is computed based upon
the weighted average number of common shares outstanding and the effect of
dilutive common stock equivalents from the exercise of stock options using the
treasury stock method. In accordance with Securities and Exchange Commission
Staff Accounting Bulletins and Staff Policy, common and common equivalent shares
issued during the twelve month period prior to the date of the initial filing of
the Company's Registration Statement on Form S-1 have been included in the net
income per share calculations for 1994 and 1995 as if they were outstanding for
the entire period using the treasury stock method. Share and per share amounts
for 1994 and 1995 have been adjusted to reflect both stock splits during 1995
(see Note 6). Fully diluted earnings per share is the same as, or not materially
different from, primary earnings per share and accordingly, is not presented.
STOCK-BASED COMPENSATION PLANS. The Company has elected to continue to
account for its stock-based compensation plans utilizing the provisions of
Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to
Employees," because, as discussed in Note 6, the alternative fair value
accounting provided for under SFAS No. 123, "Accounting for Stock-Based
Compensation," requires use of option valuation models that were not developed
for use in valuing employee stock options. However, SFAS No. 123 requires
disclosure of pro forma information regarding net income and net income per
share based on fair value accounting for stock-based compensation plans.
F-7
34
i2 TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
FOREIGN CURRENCY TRANSLATION. The Company has determined that the
functional currency of each of its foreign subsidiaries is the local currency.
The financial statements of its foreign subsidiaries are translated into U.S.
dollars using the current rate method in accordance with SFAS No. 52, "Foreign
Currency Translation." To date, translation adjustments and foreign currency
gains and losses have not been significant and accordingly, have not been
separately presented.
3. FURNITURE AND EQUIPMENT
Furniture and equipment consists of the following (in thousands):
DECEMBER 31,
------------------------
1995 1996
---------- ----------
Computer equipment......................................... $ 3,888 $ 8,793
Furniture and fixtures..................................... 729 2,088
---------- ----------
4,617 10,881
Less accumulated depreciation.............................. (1,490) (3,245)
---------- ----------
$ 3,127 $ 7,636
========== ==========
4. BORROWINGS
Long-term debt consists of the following (in thousands):
DECEMBER 31,
------------------------
1995 1996
---------- ----------
Revolving Credit Agreement................................. $ 100 $ 100
Term Note.................................................. 753 --
New Equipment Credit Agreement............................. 500 --
---------- ----------
1,353 100
Less current maturities.................................... (278) --
---------- ----------
$ 1,075 $ 100
========== ==========
The Company's revolving credit agreement (the "Revolving Credit Agreement")
with NationsBank of Texas, N.A. (the "Lender"), which was amended and extended
until June 1, 1998, is unsecured and is no longer subject to a borrowing base
limitation. The maximum amount of borrowings under the Revolving Credit
Agreement is $3.0 million, and the Revolving Credit Agreement provides for a
commitment fee of 1/2 of 1% of the average daily unused portion of the
commitment amount. At December 31, 1996, the Company had $100,000 of borrowings
outstanding under the Revolving Credit Agreement which bear interest at the
Lender's prime lending rate (8.25% at December 31, 1996). The Revolving Credit
Agreement contains certain financial covenants and restrictions as to various
matters including the Company's ability to make certain investments or incur
additional indebtedness and the maintenance of specified levels of tangible net
worth and certain financial ratios. At December 31, 1996, the Company was in
compliance with such covenants and restrictions.
In June 1996, the Company repaid all of the outstanding balances under the
Term Note and the New Equipment Credit Agreement of approximately $1.2 million.
Cash paid for interest in 1994, 1995 and 1996 was approximately $71,000,
$160,000 and $81,000, respectively.
F-8
35
i2 TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
5. COMMITMENTS
The Company leases its office facilities and certain office equipment under
operating leases which expire at various dates through 2001. Some of the
Company's leases provide for escalating minimum rent. Rent expense is recognized
on a straight-line basis over the life of such leases. The Company has renewal
options for most of its operating leases. Total rent expense incurred during
1994, 1995 and 1996 was approximately $122,000, $345,000 and $1.7 million,
respectively.
Future minimum lease payments under all noncancellable operating leases as
of December 31, 1996 are as follows (in thousands):
1997........................................................ $ 2,642
1998........................................................ 2,522
1999........................................................ 1,972
2000........................................................ 1,691
2001........................................................ 161
--------
Total minimum lease payments...................... $ 8,988
========
6. STOCKHOLDERS' EQUITY
INITIAL PUBLIC OFFERING. In May 1996, the Company completed the initial
public offering of its Common Stock. A total of 2,390,400 shares of Common Stock
were sold by the Company resulting in net proceeds to the Company of $43.7
million after deducting expenses of the offering of $745,000 and the
underwriting discount.
STOCK SPLITS. In April 1995 and again in December 1995, the Company's
Common Stock was split two-for-one. All share and per share amounts have been
adjusted to reflect both stock splits as though they had occurred at the
beginning of the initial period presented.
EMPLOYEE STOCK PURCHASE PLAN. In March 1996, the Board adopted and the
stockholders approved an Employee Stock Purchase Plan. In November 1996, the
Board adopted an International Employee Stock Purchase Plan for employees of its
wholly-owned subsidiaries. The Employee Stock Purchase Plan and the
International Employee Stock Purchase Plan (the "Purchase Plans") are designed
to allow eligible employees of the Company to purchase shares of Common Stock
through periodic payroll deductions. The Company has reserved 500,000 shares of
Common Stock for issuances under the Purchase Plans.
Payroll deductions may not exceed the lessor of 15% of a participant's base
salary or $21,250 per year, and employees may purchase a maximum of 1,000 shares
per purchase period under the Purchase Plans. The purchase price per share will
be 85% of the lesser of the fair market value of the Common Stock on the start
of the purchase period or the fair market value on the semi-annual purchase
date. Participation may be terminated at any time by the employee and
automatically ends upon termination of employment with the Company. Six month
offering periods will commence on each November 1 and May 1, except for the
initial offering period which commenced on April 25, 1996 and ended on October
31, 1996. Under the Purchase Plans, 60,145 shares were issued in connection with
the offering period ended October 31, 1996.
1992 STOCK PLAN. Under the Company's 1992 Stock Plan, the Company's Board
of Directors (the "Board") granted incentive stock options to employees of the
Company and nonqualified options to a consultant of the Company. The options
generally vest over a four year period commencing on or before the date of
grant.
1995 STOCK OPTION/STOCK ISSUANCE PLAN. In September 1995, the stockholder
and the Board approved the 1995 Stock Option/Stock Issuance Plan (the "1995
Plan") which replaced the 1992 Stock Plan. All options outstanding under the
1992 Stock Plan were incorporated into the 1995 Plan. Under the 1995 Plan, the
F-9
36
i2 TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
amount of shares of Common Stock originally reserved for issuance was 10,000,000
shares which was increased to 12,000,000 shares, subject to the approval of the
Company's stockholders. The 1995 Plan is divided into the following three equity
programs: (i) the Discretionary Option Grant Program, (ii) the Stock Issuance
Program and (iii) the Automatic Option Grant Program.
The Discretionary Option Grant Program provides for the grant of incentive
stock options ("Incentive Options") to employees of the Company and for the
grant of nonqualified stock options to employees, directors and consultants of
the Company. Exercise prices may not be less than 100% and 85% of the fair
market value at the date of grant for Incentive Options and nonqualified
options, respectively. Options granted under the Discretionary Option Grant
Program generally vest in four equal annual increments and expire after ten
years. Some options granted under the Discretionary Option Grant Program are
immediately exercisable, subject to a right of repurchase by the Company at the
original exercise price for all unvested shares.
Under the Stock Issuance Program, the Board or a committee of the Board
(the "Plan Administrator") may grant shares of the Company's Common Stock to any
person at any time, at such price and on such terms as established by the Plan
Administrator. The purchase price per share cannot be less than 85% of the fair
market value of the Company's Common Stock on the issuance date.
Under the Automatic Option Grant Program, each person who is first elected
or appointed as a non-employee Board member shall automatically be granted a
nonqualified option to purchase 1,000 common shares of the Company. On the date
of each Annual Stockholders Meeting each non-employee Board member shall
automatically be granted an additional option to purchase 1,000 shares of the
Company's Common Stock, subject to certain conditions.
Option activity under the 1992 Stock Plan and 1995 Plan is as follows:
OPTIONS OUTSTANDING
SHARES ------------------------------
AVAILABLE NUMBER WEIGHTED-AVERAGE
FOR GRANT OF SHARES EXERCISE PRICE
---------- ---------- ----------------
Balance, December 31, 1993................. 784,668 7,612,180 $ 0.02
Granted.................................. (1,124,132) 1,124,132 0.10
Canceled................................. 486,000 (486,000) 0.03
---------- ----------
Balance, December 31, 1994................. 146,536 8,250,312 0.03
Authorized............................... 1,603,152 -- --
Granted.................................. (1,125,667) 1,125,667 0.63
Exercised................................ -- (5,703,242) 0.06
Canceled................................. 23,300 (23,300) 0.05
---------- ----------
Balance, December 31, 1995................. 647,321 3,649,437 0.17
Authorized............................... 2,000,000 -- --
Granted.................................. (894,124) 894,124 15.99
Issued................................... (615) -- 14.33
Exercised................................ -- (458,058) 1.66
Canceled................................. 52,426 (52,426) 17.78
---------- ----------
Balance, December 31, 1996................. 1,805,008 4,033,077 3.28
========== ==========
Under the 1995 Plan, each outstanding option and unvested stock issuance
will be subject to accelerated vesting under certain circumstances upon an
acquisition of the Company in a stockholder-approved merger or asset sale. In
addition, the Plan Administrator has the discretion to accelerate vesting of
outstanding options upon consummation of any other transaction which results in
a change in control of the Company.
F-10
37
i2 TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
During 1995 and 1996, 595,359 shares were purchased under options with a
weighted-average exercise price of $1.44 per share for which the optionee was
not vested as of December 31, 1996. These purchased but unvested shares are held
in escrow until the optionee vests in the shares and the optionee has all rights
as a shareholder with respect to these shares. These shares are reported as
issued and outstanding in the accompanying consolidated financial statements.
All options outstanding at December 31, 1996 are Incentive Options except
for 206,380 options which are nonqualified options. Other information regarding
options outstanding as of December 31, 1996 is as follows:
WEIGHTED AVERAGE
NUMBER OF WEIGHTED AVERAGE REMAINING
SHARES EXERCISE PRICE CONTRACTUAL LIFE
--------- ---------------- ----------------
Exercise price of $0.0175 - $12.11....... 3,715,027 $ 1.00 6.41yrs.
Exercise price of $24.375 - $37.50....... 318,050 29.88 9.77
---------
Total options outstanding...... 4,033,077 3.28 6.68
=========
As of December 31, 1996, 2,979,000 shares underlying options were
exercisable at prices ranging from $0.0175 to $12.11 per share with a weighted
average exercise price of $1.05 per share, and 1,000 shares underlying options
were exercisable at a price of $29.00 per share. As of December 31, 1995,
2,467,172 shares underlying options were exercisable at a weighted average
exercise price of $0.16 per share.
The Company recorded deferred compensation expense of $1.8 million and
$910,000 in 1995 and in the first quarter of 1996, respectively, for the
difference between the grant price and the deemed fair market value of the
Company's Common Stock underlying certain options granted. These amounts are
being amortized over the vesting period of the individual options, generally
four years.
PRO FORMA NET INCOME AND NET INCOME PER SHARE. Pro forma information
regarding net income and net income per share has been determined as if the
Company had accounted for its employee stock options and shares issued under the
Purchase Plans using the fair value method of SFAS No. 123. The fair value for
the employee stock options was estimated at the date of grant using a
Black-Scholes option pricing model with the following weighted-average
assumptions for 1995 and 1996, respectively: risk-free interest rates of 6.32%
and 6.17%; a volatility factor of the expected market price of the Company's
Common Stock of 0.46; a weighted-average expected life of the option of 4 years;
and no dividend yields. The fair value for the shares issued under the Purchase
Plans was estimated as of the initial day of the purchase period using a
Black-Scholes option pricing model with the following weighted-average
assumptions: a risk free interest rate of 5.22%; a volatility factor of the
expected market price of the Company's Common Stock of 0.46; a weighted-average
expected life of the purchase right of 0.5 years; and no dividend yields. The
weighted-average fair value of the purchase rights granted under the Purchase
Plans during 1996 was $6.15.
The Black-Scholes option valuation model was developed for use in
estimating the fair value of traded options which have no vesting restrictions
and are fully transferable. In addition, option valuation models require the
input of highly subjective assumptions including the expected stock price
volatility. Because the Company's employee stock options have characteristics
significantly different from those of traded options, and because changes in the
subjective input assumptions can materially affect the fair value estimate, in
management's opinion, the existing models do not necessarily provide a reliable
single measure of the fair value of its employee stock options and Purchase Plan
shares.
F-11
38
i2 TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
For purposes of pro forma disclosures, the estimated fair value of the
options is amortized to expense over the options' vesting period and the
estimated fair value of the Purchase Plan shares is amortized to expense over
the purchase period. The Company's pro forma information follows (in thousands,
except per share amounts):
1995 1996
---------- ----------
Pro forma net income....................................... $3,791 $5,274
Pro forma net income per share............................. 0.15 0.19
The pro forma disclosures only include the effect of options granted
subsequent to January 1, 1995. Accordingly, the effects of applying SFAS No. 123
for the pro forma disclosures are not indicative of future effects of such
application.
Information regarding exercise prices and fair values of options granted is
as follows:
1995 1996
---------- ----------
Number of options issued at fair market value of stock..... 181,800 583,854
Weighted-average exercise price per share.................. $0.13 $22.52
Weighted-average fair value of options..................... 0.06 9.75
Number of options issued at less than fair market value of
stock.................................................... 943,867 310,270
Weighted-average exercise price per share.................. $0.72 $3.69
Weighted-average fair value of options..................... 2.10 4.21
7. INCOME TAXES
The Company's provision for income taxes consists of the following (in
thousands):
1994 1995 1996
-------- -------- --------
Current:
Federal......................................... $ 1,175 $ 1,736 $ 3,594
State........................................... 11 455 390
Foreign......................................... -- 37 264
Deferred:
Federal......................................... (71) (43) (264)
State........................................... 179 (166) (32)
Foreign......................................... -- (60) (135)
-------- -------- --------
Total................................... $ 1,294 $ 1,959 $ 3,817
======== ======== ========
The Company's provision for income taxes reconciles to the amount computed
by applying the statutory U.S. federal rate of 34% to income before income taxes
as follows (in thousands):
1994 1995 1996
-------- -------- --------
Expense computed at statutory rate................ $ 1,183 $ 1,949 $ 3,369
State taxes, net of federal tax benefit........... 106 139 266
Stock option compensation......................... -- -- 215
Research and development tax credits.............. (24) (175) (144)
Other............................................. 29 46 111
-------- -------- --------
Provision for income taxes.............. $ 1,294 $ 1,959 $ 3,817
======== ======== ========
F-12
39
i2 TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Deferred tax assets and liabilities at December 31, 1995 and December 31,
1996 are comprised of the following (in thousands):
1995 1996
-------- --------
Deferred tax assets:
Foreign tax credits....................................... $ -- $ 612
Deferred revenue.......................................... 61 78
Accrued liabilities....................................... 42 136
Bad debt allowance........................................ 163 229
International net operating loss carryforwards............ -- 118
Research and development tax credits...................... 67 78
Other..................................................... 19 129
-------- --------
Total deferred tax asset.......................... 352 1,380
-------- --------
Deferred tax liabilities:
Depreciation.............................................. (86) (116)
State income taxes........................................ (35) (28)
Other..................................................... (110) (68)
-------- --------
Total deferred tax liability...................... (231) (212)
-------- --------
Net deferred tax asset............................ $ 121 $ 1,168
======== ========
The Company considers the earnings of foreign subsidiaries to be
permanently reinvested outside the United States. Accordingly, no United States
income tax on these earnings has been provided. The Company believes that any
United States income taxes due upon the repatriation of such earnings would be
fully offset by foreign tax credits.
At December 31, 1996, certain foreign subsidiaries of the Company have net
operating loss carryforwards for tax purposes totaling approximately $625,000
which may be used to offset future taxable income of the subsidiaries.
Approximately $95,000 and $178,000 expire in the years 2002 and 2003,
respectively. The remaining carryforwards have no expiration.
The Company paid income taxes of approximately $1.3 million, $3.1 million
and $2.0 million in 1994, 1995 and 1996, respectively.
8. EMPLOYEE RETIREMENT PLAN
In 1994, the Company approved a 401(k) retirement plan (the "Retirement
Plan") that covers substantially all of the Company's employees. Each eligible
employee may contribute up to 18% of their compensation, subject to certain
limitations, to the Retirement Plan. The Company may make contributions to the
Retirement Plan at the discretion of the Board. As of December 31, 1996, no
contributions had been made by the Company.
9. INTERNATIONAL OPERATIONS
International revenues were approximately $1.3 million, $2.0 million and
$20.0 million in 1994, 1995 and 1996, respectively. The Company's international
revenues were primarily generated from customers located in Asia, Canada and
Europe. In 1996, revenues from customers located in Europe accounted for 14% of
total revenues. Total assets from international operations, composed primarily
of accounts receivable, were $10.5 million or 12% of total assets as of December
31, 1996.
F-13
40
i2 TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
10. MAJOR CUSTOMERS
During 1994, one customer accounted for approximately 11% of total revenues
and two customers each individually accounted for approximately 10% of total
revenues. During 1995, three different customers accounted for approximately
14%, 12% and 11% of total revenues. During 1996, one customer accounted for
approximately 15% of total revenues. This customer also accounted for
approximately 14% of total revenues in 1995.
11. QUARTERLY INFORMATION (UNAUDITED)
Summarized quarterly consolidated financial information for 1995 and 1996
is as follows (in thousands, except per share amounts):
QUARTER ENDED
---------------------------------------------------------
MARCH 31 JUNE 30 SEPTEMBER 30 DECEMBER 31
------------ ------------ ------------ ------------
1995
Total revenues................... $ 3,939 $ 5,438 $ 7,309 $ 9,260
Operating income................. 1,187 1,362 1,779 1,441
Net income....................... 783 880 1,162 949
Net income per share............. 0.03 0.03 0.05 0.04
Shares used in per share
computation................... 23,268 24,804 25,030 25,149
1996
Total revenues................... $12,672 $15,591 $21,530 $26,549
Operating income................. 697 1,466 2,255 3,703
Net income....................... 507 1,180 1,747 2,658
Net income per share............. 0.02 0.04 0.06 0.09
Shares used in per share
computation................... 25,110 27,427 28,102 28,214
F-14
41
INDEX TO EXHIBITS
10.17 Fourth Amendment to Lease Agreement between the Company and TRST Irving, Inc. dated as
of December 19, 1996
11.1 Statement of Computation of Net Income Per Share
21.1 List of subsidiaries
23.1 Consent of Ernst & Young LLP
24.1 Power of Attorney, pursuant to which amendments to this Form 10-K may be filed, is
included on the signature page contained in Part IV of this Form 10-K.
27.1 Financial Data Schedule