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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
|X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2002
OR
| | TRANSITION REPORT PURSUANT SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
Commission File Number 0-27038
SCANSOFT, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 94-3156479
(STATE OR OTHER JURISDICTION (IRS EMPLOYER
OF INCORPORATION OR ORGANIZATION) IDENTIFICATION NUMBER)
9 CENTENNIAL DRIVE
PEABODY, MA 01960
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICE)
(978) 977-2000
(REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE)
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 | | No |X|
Notwithstanding the fact that ScanSoft is unable to indicate that it 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, the Securities and Exchange
Commission has indicated by letter that persons may continue to make sales of
ScanSoft's capital stock in reliance on Rule 144.
64,613,148 shares of the registrant's Common Stock, $0.001 par value, were
outstanding as of July 26, 2002.
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SCANSOFT, INC.
FORM 10-Q
SIX MONTHS ENDED JUNE 30, 2002
INDEX
PAGE
----
PART I: FINANCIAL INFORMATION
Item 1. Financial Statements (Unaudited)
a) Consolidated Balance Sheets at June 30, 2002 and December 31, 2001 ......................................... 3
b) Consolidated Statements of Operations for the three and six months ended June 30, 2002 and June 30, 2001 ... 4
c) Consolidated Statements of Cash Flows for the six months ended June 30, 2002 and June 30, 2001 ............. 5
d) Notes to Consolidated Financial Statements ................................................................. 6
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ......................... 12
Item 3. Quantitative and Qualitative Disclosures about Market Risk .................................................... 25
PART II: OTHER INFORMATION
Item 2. Changes in Securities and Use of Proceeds ..................................................................... 25
Item 4. Submission of Matters to a Vote of Security Holders ........................................................... 25
Item 5. Other Information ............................................................................................. 26
Item 6. Exhibits and Reports on Form 8-K .............................................................................. 26
Signatures ............................................................................................................ 27
2
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
SCANSOFT, INC.
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE DATA)
JUNE 30, DECEMBER 31,
2002 2001
----------- ------------
(UNAUDITED)
ASSETS
Current Assets:
Cash and cash equivalents ............................................. $ 18,272 $ 14,324
Accounts receivable, less allowances of $7,914 and $6,273, respectively 16,488 14,266
Inventory ............................................................. 1,893 507
Prepaid expenses and other current assets ............................. 2,745 1,614
--------- ---------
Total current assets ............................................. 39,398 30,711
Goodwill ................................................................... 63,308 65,231
Other intangible assets, net ............................................... 38,247 43,301
Property and equipment, net ................................................ 3,193 2,150
Other assets ............................................................... 936 677
--------- ---------
TOTAL ASSETS ............................................................... $ 145,082 142,070
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Accounts payable ...................................................... 7,506 5,320
Accrued expenses ...................................................... 10,763 14,471
Deferred revenue ...................................................... 990 1,375
Notes payable ......................................................... 627 227
Other current liabilities ............................................. 1,801 --
--------- ---------
Total current liabilities ........................................ 21,687 21,393
--------- ---------
Deferred revenue .......................................................... 313 2,534
Long-term note payable, net of current portion ............................ 3,162 3,273
Other liabilities ......................................................... 1,229 336
--------- ---------
Total liabilities ................................................ 26,391 27,536
--------- ---------
Commitments and contingencies (Note 10)
Stockholders' equity:
Preferred stock, $0.001 par value;
40,000,000 shares authorized; 3,562,238 shares issued and
outstanding (liquidation preference $4,631) ........................ 4,631 4,631
Common stock, $0.001 par value; 140,000,000 shares
authorized; 65,266,899 and 62,754,211 shares issued and
64,610,899 and 62,098,211 shares outstanding, respectively ......... 65 63
Additional paid-in capital ............................................ 269,612 264,893
Treasury stock, at cost (656,000 shares) .............................. (1,031) (1,031)
Deferred compensation ................................................. (225) (276)
Accumulated other comprehensive loss .................................. (170) (487)
Accumulated deficit ................................................... (154,191) (153,259)
--------- ---------
Total stockholders' equity ....................................... 118,691 114,534
--------- ---------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY ................................. $ 145,082 $ 142,070
========= =========
The accompanying notes are an integral part of these
consolidated financial statements.
3
SCANSOFT, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
-------------------------- --------------------------
2002 2001 2002 2001
-------- -------- -------- --------
Net revenue ................................................ $ 26,184 $ 14,864 $ 49,949 $ 27,365
Costs and expenses:
Cost of revenue ................................. 4,609 2,828 8,738 5,718
Research and development ........................ 7,067 3,238 14,053 6,434
Selling, general and administrative ............. 10,928 6,113 20,639 12,400
Amortization of intangible assets ............... 2,229 6,833 6,728 13,667
Restructuring and other charges ................. -- -- 1,041 --
-------- -------- -------- --------
Total costs and expenses ................................... 24,833 19,012 51,199 38,219
-------- -------- -------- --------
Income (loss) from operations .............................. 1,351 (4,148) (1,250) (10,854)
Other income (expense), net ................................ 65 (5) (10) (139)
-------- -------- -------- --------
Income (loss) before income taxes .......................... 1,416 (4,153) (1,260) (10,993)
Provision (benefit) for income taxes ...................... (534) 242 (328) 303
-------- -------- -------- --------
Net income (loss) .......................................... $ 1,950 $ (4,395) $ (932) $(11,296)
======== ======== ======== ========
Net income (loss) per share: basic ......................... $ 0.03 $ (0.09) $ (0.01) $ (0.24)
======== ======== ======== ========
Net income (loss) per share: diluted ....................... $ 0.03 $ (0.09) $ (0.01) $ (0.24)
======== ======== ======== ========
Weighted average common shares: basic ...................... 67,595 48,939 63,173 47,520
======== ======== ======== ========
Weighted average common shares: diluted .................... 76,677 48,939 63,173 47,520
======== ======== ======== ========
The accompanying notes are an integral part of these
consolidated financial statements.
4
SCANSOFT, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
SIX MONTHS
ENDED
JUNE 30,
--------------------------
2002 2001
-------- --------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss ....................................................................................... $ (932) $(11,296)
Adjustments to reconcile net loss to net cash provided by operating activities:
Depreciation and amortization ........................................................... 987 975
Accounts receivable and sales allowances ................................................ 1,641 (1,879)
Amortization of intangible assets ....................................................... 6,728 13,667
Non-cash portion of restructuring and other charges ..................................... 113 --
Loss (gain) on disposal or sale of property and equipment ............................... 12 (95)
Other ................................................................................... 50 --
Changes in operating assets and liabilities, net of effects of acquisitions:
Accounts receivable .................................................................... (3,889) 2,747
Inventory .............................................................................. (1,332) 350
Prepaid expenses and other assets ...................................................... (814) 166
Other assets ........................................................................... (436) --
Accounts payable ....................................................................... 1,594 (1,969)
Accrued expenses ....................................................................... 801 (715)
Deferred revenue ....................................................................... (2,616) 2,051
-------- --------
Net cash provided by operating activities ...................................................... 1,907 4,002
-------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures for property and equipment ........................................... (1,773) (345)
Proceeds from sale of property and equipment .............................................. -- 344
Payments of notes payable related to acquisition .......................................... (111) --
Payments under deferred payment agreement ................................................. (1,414) --
Payments of acquisition related liabilities ............................................... (1,887) --
Cash paid for acquisition ................................................................. (500) --
-------- --------
Net cash used in investing activities .......................................................... (5,685) (1)
-------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Payments on short-term borrowings ......................................................... -- (3,400)
Payments of capital lease obligation ...................................................... (158) --
Proceeds from private placement of common stock, net of issuance costs .................... 5,690 4,911
Proceeds from the issuance of common stock upon exercise of options ....................... 2,339 69
-------- --------
Net cash provided by financing activities ...................................................... 7,871 1,580
-------- --------
Effects of exchange rate changes on cash and cash equivalents .................................. (145) (245)
-------- --------
Net increase in cash and cash equivalents ...................................................... 3,948 5,336
Cash and cash equivalents at beginning of period ............................................... 14,324 2,571
-------- --------
Cash and cash equivalents at end of period ..................................................... $ 18,272 $ 7,907
======== ========
The accompanying notes are an integral part of these
consolidated financial statements.
5
SCANSOFT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements of ScanSoft,
Inc. (the "Company", "we" or "ScanSoft") have been prepared in accordance with
accounting principles generally accepted in the United States of America. In the
opinion of management, these interim consolidated financial statements reflect
all adjustments, consisting of normal recurring adjustments, necessary for a
fair presentation of the financial position at June 30, 2002 and 2001 and the
results of operations and cash flows for the three and six months ended June 30,
2002 and 2001. Although the Company believes that the disclosures in these
financial statements are adequate to make the information presented not
misleading, certain information normally included in the footnotes prepared in
accordance with generally accepted accounting principles has been condensed or
omitted pursuant to the rules and regulations of the Securities and Exchange
Commission. The accompanying financial statements should be read in conjunction
with the audited financial statements and notes thereto included in the
Company's Annual Report on Form 10-K for the year ended December 31, 2001 filed
with the Securities and Exchange Commission on April 1, 2002 and all other
subsequent periodic filings including the Form 10-Q/A for the three months ended
March 31, 2002 filed on August 14, 2002.
The results for the three and six months ended June 30, 2002 are not
necessarily indicative of the results that may be expected for the year ending
December 31, 2002, or any future period.
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities on the date of the financial
statements and the reported amounts of revenue and expenses during the reporting
period. The most significant estimates and assumptions included in the financial
statements are revenue recognition, including estimating valuation allowances
(specifically sales returns and other allowances), the recoverability of
intangible assets, including goodwill, and valuation allowances for deferred tax
assets. Actual amounts could differ significantly from these estimates.
Certain prior year financial statement amounts have been reclassified to
conform with the current year presentation.
2. RECENT ACCOUNTING PRONOUNCEMENTS
In August 2001, the FASB issued Statement of Financial Accounting
Standards No. 144, "Accounting for the Impairment or Disposal of Long-Lived
Assets" (SFAS 144). The objectives of SFAS 144 are to address significant issues
relating to the implementation of FASB Statement No. 121, "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of"
(SFAS 121), and to develop a single accounting model, based on the framework
established in SFAS 121, for long-lived assets to be disposed of by sale,
whether previously held and used or newly acquired. SFAS 144 supersedes SFAS
121; however, it retains the fundamental provisions of SFAS 121 for (1) the
recognition and measurement of the impairment of long-lived assets to be held
and used and (2) the measurement of long-lived assets to be disposed of by sale.
SFAS 144 supersedes the accounting and reporting provisions of Accounting
Principles Board No. 30, "Reporting the Results of Operations -- Reporting the
Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and
Infrequently Occurring Events and Transactions" (APB 30), for segments of a
business to be disposed of. However, SFAS 144 retains the requirement of APB 30
that entities report discontinued operations separately from continuing
operations and extends that reporting requirement to "a component of an entity"
that either has been disposed of or is classified as "held for sale." SFAS 144
also amends the guidance of Accounting Research Bulletin No. 51, "Consolidated
Financial Statements," to eliminate the exception to consolidation for a
temporarily controlled subsidiary. SFAS 144 is effective for financial
statements issued for fiscal years beginning after December 15, 2001, including
interim periods, and, generally, its provisions are to be applied prospectively.
The Company adopted the provisions of SFAS 144 in 2002 and its adoption had no
impact on its financial position or results of operations.
In November 2001, the Emerging Issues Task Force ("EITF"), a committee of
the FASB, reached a consensus on EITF Issue 01-9, "Accounting for Consideration
Given by a Vendor to a Customer or Reseller of the Vendor's Products" (EITF
01-9). EITF 01-9 presumes that consideration from a vendor to a customer or
reseller of the vendor's products is a reduction of the selling prices of the
vendor's products and, therefore, should be characterized as a reduction of
revenue when recognized in the vendor's income statement and could lead to
negative revenue under certain circumstances. Revenue reduction is required
unless consideration relates to a separate identifiable benefit and the
benefit's fair value can be established, in which case such amounts may be
recorded as operating
6
SCANSOFT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
expenses. The Company implemented EITF 01-9 on January 1, 2002. The
implementation resulted in a $0.2 and $0.3 million reduction to net revenue and
a corresponding reduction to selling, general and administrative expenses for
the three and six months ended June 30, 2002, respectively. Additionally, it
resulted in the reclassification of $0.2 million and $0.5 million from selling,
general and administrative expenses to net revenue for the three and six months
ended June 30, 2001, respectively.
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities" (SFAS No. 146). This statement
addresses financial accounting and reporting for costs associated with exit or
disposal activities and nullifies EITF Issue No. 94-3, "Liability Recognition
for Certain Employee Termination Benefits and Other Costs to Exit an Activity
(including Certain Costs Incurred in a Restructuring)" (EITF 94-3). SFAS No. 146
requires that a liability for a cost associated with an exit or disposal
activity be recognized when the liability is incurred. EITF 94-3 allowed for an
exit cost liability to be recognized at the date of an entity's commitment to an
exit plan. SFAS 146 also requires that liabilities recorded in connection with
exit plans be initially measured at fair value. The provisions of SFAS 146 are
effective for exit or disposal activities that are initiated after December 31,
2002, with early adoption encouraged. The Company does not expect the adoption
of SFAS 146 will have a material impact on its financial position or results of
operations.
3. BALANCE SHEET COMPONENTS
The following table summarizes key balance sheet components (in thousands):
JUNE 30, DECEMBER 31,
2002 2001
-------- ------------
Inventory:
Raw materials ..................... $ -- $ 107
Finished goods .................... 1,893 400
------- -------
$ 1,893 $ 507
======= =======
Other accrued expenses:
Accrued compensation .............. $ 1,869 $ 2,775
Accrued sales and marketing ....... 1,558 1,160
Accrued restructuring ............. 1,094 634
Accrued royalties ................. 591 750
Accrued professional fees ......... 427 571
Accrued acquisition liabilities ... 2,205 6,065
Accrued income taxes and other .... 3,019 2,516
------- -------
$10,763 $14,471
======= =======
During the three months ended June 30, 2002, the Company entered into
settlement agreements related to certain contractual liabilities assumed in
connection with the acquisition of the majority of the speech and language
technology operations of Lernout & Hauspie (L&H acquisition), which occurred on
December 12, 2001. Upon settlement of these liabilities, $1.9 million of the
assumed liabilities recorded at the date of acquisition were reduced with a
corresponding reduction of the original purchase price. The reduction of the
original purchase price was allocated to goodwill.
4. GOODWILL AND OTHER INTANGIBLE ASSETS
In June 2001, the Financial Accounting Standards Board issued Statements
of Financial Accounting Standards No. 142 (SFAS 142), "Goodwill and Other
Intangible Assets." SFAS 142 addresses financial accounting and reporting for
acquired goodwill and other intangible assets, including how goodwill and other
intangible assets should be accounted for after they have been initially
recognized. SFAS 142 provides that goodwill and intangible assets that have
indefinite useful lives not be amortized but rather be tested at least annually
for impairment; intangible assets with finite useful lives will continue to be
amortized over their useful lives.
The Company adopted SFAS 142 on January 1, 2002 and discontinued the
amortization of goodwill (including acquired workforce) of approximately $65.2
million. Upon adoption, the Company reclassified $31,000 of previously
amortizable acquired workforce to goodwill. The Company had previously been
recording amortization expense on goodwill and acquired workforce of
7
SCANSOFT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
$10.4 million annually or $2.6 million per quarter.
Under SFAS 142, the Company is required to complete an impairment test on
all goodwill effective as of January 1, 2002 on a reporting unit basis. A
reporting unit is defined as an operating segment or one level below an
operating segment referred to as a component. A component of an operating
segment is a reporting unit if the component constitutes a business and discrete
financial information is prepared and regularly reviewed by management. The
Company determined that it operates in one reporting unit and, therefore, has
completed the goodwill impairment test on an enterprise-wide level.
SFAS 142 provides for a two-step impairment test to identify potential
goodwill impairment. The first step of the goodwill impairment test compares the
fair value of a reporting unit with its carrying value, including goodwill. If
the fair value of a reporting unit exceeds its carrying value, goodwill of the
reporting unit is considered not impaired, thus the second step of the
impairment test, which determines the amount of goodwill impairment, is
unnecessary.
The fair value of the reporting unit was determined using the Company's
market capitalization as of January 1, 2002. As the fair value of the reporting
unit as of January 1, 2002 was in excess of the carrying amount of the net
assets, the Company concluded that its goodwill was not impaired, and no
impairment charge was recorded. The Company will complete additional goodwill
impairment analyses at least annually, or more frequently when events and
circumstances occur indicating that the recorded goodwill might be impaired.
Intangible assets are amortized on a straight-line basis over their
estimated useful lives of three to twelve years. As required, upon adoption of
SFAS 142, the Company reassessed the useful lives of its intangible assets and
has determined that no adjustments were required.
The following summary reflects the consolidated results of operations as
if SFAS 142 had been adopted at the beginning of the periods presented (in
thousands, except net income (loss) per share amounts):
THREE MONTHS ENDED, SIX MONTHS ENDED,
JUNE 30, JUNE 30,
------------------------ -----------------------
2002 2001 2002 2001
---------- ---------- ---------- ----------
Net income (loss):
Reported net income (loss) $ 1,950 $ (4,395) $ (932) $ (11,296)
Effect of goodwill amortization -- 2,597 -- 5,193
---------- ---------- ---------- ----------
Adjusted net income (loss) $ 1,950 $ (1,798) $ (932) $ (6,103)
========== ========== ========== ==========
Basic net income (loss) per share:
Reported basic net income (loss) per share $ 0.03 $ (0.09) $ (0.01) $ (0.24)
Effect of goodwill amortization -- .05 -- .11
---------- ---------- ---------- ----------
Adjusted basic net income (loss) per share $ 0.03 $ (0.04) $ (0.01) $ (0.13)
========== ========== ========== ==========
Diluted net income (loss) per share:
Reported diluted net income (loss) per share $ 0.03 $ (0.04) $ (0.01) $ (0.13)
========== ========== ========== ==========
8
SCANSOFT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
Other intangible assets consist of the following (in thousands):
JUNE 30, 2002 GROSS CARRYING ACCUMULATED NET CARRYING
AMOUNT AMORTIZATION AMOUNT
-------------- ------------- ------------
Core technology $ 48,130 $ 15,466 $ 32,664
Developed technology 16,340 16,340 --
Trademarks and patents 7,461 2,310 5,151
Non-competition agreement 4,048 4,048 --
Acquired favorable lease 553 553 --
OEM relationships 1,100 668 432
Other 200 200 --
------------ ---------- ----------
$ 77,832 $ 39,585 $ 38,247
============ ========== ==========
DECEMBER 31, 2001 GROSS CARRYING ACCUMULATED NET CARRYING
AMOUNT AMORTIZATION AMOUNT
-------------- ------------ ------------
Core technology $ 46,456 $ 11,771 $ 34,685
Developed technology 16,340 14,714 1,626
Trademarks and patents 7,461 1,784 5,677
Non-competition agreement 4,048 3,646 402
Acquired favorable lease 553 355 198
OEM relationships 1,100 524 576
Assembled workforce 374 270 104
Other 200 167 33
----------- ---------- ----------
$ 76,532 $ 33,231 $ 43,301
=========== ========== ==========
Aggregate amortization expense was $2.2 million and $6.7 million for the
three and six months ended June 30, 2002, respectively. Estimated amortization
expense for each of the five succeeding fiscal years as of June 30, 2002 is as
follows (in thousands):
YEAR ENDING AMOUNT
------------------ --------
Remainder of 2002 $ 4,424
2003 8,847
2004 7,977
2005 3,576
2006 2,327
2007 2,284
Thereafter 8,812
5. ACQUISITION
On February 22, 2002, the Company entered into a definitive asset purchase
agreement (the "Purchase Agreement") to acquire certain assets and intellectual
property from L&H Holdings USA. The transaction was completed on March 21, 2002.
Pursuant to the Purchase Agreement, the Company acquired patents and core
technology associated with the audiomining assets of the speech and language
technology assets of L&H and paid $1.5 million in total consideration to L&H as
follows: $0.5 million in cash, 121,359 shares of the Company's common stock
valued at $0.6 million (based on the average of the closing share price of the
Company's stock 5 days before and after the date the transaction was completed)
and a 9% promissory note in the principal amount of $0.4 million (the Note),
with principal and interest to be repaid in full on July 31, 2002. The Company
incurred $0.2 million of acquisition related costs. The purchase price including
acquisition costs of $1.7 million was allocated to core technology.
On July 31, 2002, the Company repaid all amounts due under the Note, which
included principal and interest of $414,000.
9
SCANSOFT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
6. RESTRUCTURING AND OTHER CHARGES
In January 2002, the Company announced and in March 2002 completed a
restructuring plan to consolidate facilities, world-wide sales organizations,
research and development teams and other personnel following the December 12,
2001 L&H acquisition. As a result, the Company exited facilities in both North
America and Europe eliminating 21 employee positions including 12 in research
and development and 9 in selling, general and administrative functions. In the
first quarter of 2002, the Company recorded a restructuring charge in the amount
of $0.6 million for severance payments to these employees, and a restructuring
charge of $0.4 million for certain termination fees to be incurred as a result
of exiting the facilities, including the write-off of previously recorded
assembled workforce of $0.1 million.
During the six months ended June 30, 2002, the Company paid a total of
$0.4 million in severance payments, of which $0.3 million related to the March
2002 restructuring and $0.1 million related to severance paid to the former
Caere President and CEO, pursuant to a 2000 restructuring.
At June 30, 2002, the remaining restructuring accrual from the current and
prior restructuring activities amounted to $1.1 million. This balance is
comprised of $0.6 million of severance and lease exit costs resulting from the
2002 restructuring and $0.5 million of severance to the former Caere President
and CEO. All amounts relating to the 2002 restructuring will be paid in full
over the course of 2002. The severance due to the former Caere President and CEO
will be paid through March 2005.
The following table sets forth activity under the 2002 and 2000
restructuring actions (in thousands):
RESTRUCTURING AND OTHER CHARGES RESERVE EMPLOYEE LEASE
RELATED EXIT COSTS TOTAL
--------- ---------- ---------
Balance at December 31, 2001........................................... $ 634 $ -- $ 634
Restructuring and other charges for March 2002 restructuring........... 576 465 1,041
Non cash write-offs.................................................... -- (113) (113)
Cash payments.......................................................... (441) (27) (468)
--------- -------- ---------
Balance at June 30, 2002............................................... $ 769 $ 325 $ 1,094
========= ======== =========
7. DEFERRED PAYMENT AGREEMENT
In connection with the Caere acquisition in the first quarter of 2000 and
pursuant to a concurrent non-competition and consulting agreement, the Company
agreed to pay in cash the former Caere President and CEO, a current director of
the Company, on the second anniversary of the merger, March 13, 2002, the
difference between $13.50 and the closing price per share of ScanSoft common
stock at that time, multiplied by 486,548. On March 5, 2002, the Company
negotiated a deferred payment agreement with the former Caere President and CEO
to terminate this agreement. Under the terms of the deferred payment agreement,
the Company paid $1.0 million in cash on March 5, 2002 and agreed to make future
cash payments totaling $3.3 million, with such amounts payable in equal
quarterly installments of approximately $0.4 million over the following two
years. The Company paid its first quarterly installment under this agreement of
$0.4 million on May 15, 2002.
The total consideration of this agreement was accounted for in the
original Caere purchase price and had no effect on the results of operations.
The remaining liability at June 30, 2002 is $2.8 million, of which $1.6 million
is included in other current liabilities and $1.2 million is included in other
long-term liabilities.
8. NET INCOME (LOSS) PER SHARE
Basic net income (loss) per share is computed using the weighted average
number of common shares outstanding during the period. Basic net income per
share for the three months ended June 30, 2002 includes the assumed conversion
of the Series B Preferred Stock, which participates in dividends with common
stock when and if declared. Diluted net income (loss) per share is computed
based on (i) the weighted average number of common shares outstanding, (ii) the
assumed conversion of the Series B Preferred Stock, and (iii) the effect, when
dilutive, of outstanding stock options, warrants, and restricted stock using the
treasury stock method.
10
SCANSOFT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
The following is a reconciliation of the shares used in the computation of
basic and diluted net income (loss) per share (in thousands):
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
-------- --------
2002 2001 2002 2001
------ ------ ------ ------
Basic net income (loss) per share:
Weighted average number of common shares outstanding ......... 64,033 48,939 63,173 47,520
Assumed conversion of Series B Preferred Stock ............... 3,562 -- -- --
------ ------ ------ ------
Weighted average common shares: basic 67,595 48,939 63,173 47,520
Effect of dilutive common equivalent shares:
Stock options ............................................... 8,498 -- -- --
Warrants .................................................... 480 -- -- --
Restricted stock ............................................ 104 -- -- --
------ ------ ------ ------
Weighted average common shares: diluted .......................... 76,677 48,939 63,173 47,520
====== ====== ====== ======
For the three months ended June 30, 2002, stock options to purchase 43,000
shares of common stock were outstanding but were excluded from the calculation
of diluted net income per share because the options' exercise prices were
greater than the average market price of the Company's common stock during the
period.
For the six months ended June 30, 2002, diluted net loss per share
excludes 11,722,362 common share equivalents. For the three and six months ended
June 30, 2001, diluted net loss per share excludes 4,341,409 and 4,226,626
common share equivalents, respectively. These potential common shares were
excluded from the calculation of diluted net loss per share as their inclusion
would have been antidilutive for all periods presented.
9. COMPREHENSIVE LOSS
Total comprehensive income (loss), net of taxes, was approximately $2.2
million and ($0.6) million for the three and six months ended June 30, 2002,
respectively, and was approximately ($4.5) million and ($11.5) million for the
three and six months ended June 30, 2001, respectively. Total comprehensive
income (losses) consisted of net income or losses and foreign currency
translation adjustments for the respective periods.
10. COMMITMENTS AND CONTINGENCIES
As a normal incidence of the nature of the Company's business, various
claims, charges and litigation have been asserted or commenced against the
Company arising from or related to employee relations and other business
matters. Management does not believe these claims will have a material effect on
the financial position or results of operations of the Company.
11. EQUITY TRANSACTION
On April 12, 2002, the Company completed a private placement of 1.0
million shares of common stock at a purchase price of $6.00 per share with SF
Capital Partners Ltd., resulting in proceeds, net of issuance costs, of $5.7
million.
11
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
FORWARD-LOOKING STATEMENTS
Certain statements made in this report as well as oral statements made by
ScanSoft from time to time, which are prefaced with words such as, "expects",
"anticipates", "believes", "projects", "intends", "plans", and similar words and
other statements of similar sense, are forward-looking statements within the
meaning of the federal securities laws. These statements are based on ScanSoft's
current expectations and estimates as to prospective events and circumstances,
which may or may not be in ScanSoft's control and as to which there can be no
firm assurance given.
In this quarterly report, forward-looking statements include those
concerning the following: ScanSoft's expectations regarding revenue mix, cost of
revenue, research and development expenses and selling, general and
administrative expenses for the period ending December 31, 2002; ScanSoft's
beliefs and expectations regarding future positive cash flow and the sufficiency
of future cash levels; and ScanSoft's ability to reduce expenses as necessary or
to find additional sources of liquidity as needed. These forward-looking
statements, like any other forward-looking statement, involve risks and
uncertainties that could cause actual results to differ materially from those
projected or anticipated. Such risks and uncertainties are outlined later in
this document and should not be construed as exhaustive. ScanSoft disclaims any
obligation to subsequently revise forward-looking statements or to reflect
events or circumstances after the date of such statements or to reflect the
occurrence of anticipated or unanticipated events. Further discussions of risk
factors are also available in ScanSoft's registration statements filed with the
Securities and Exchange Commission. ScanSoft wishes to caution readers not to
place undue reliance upon such forward-looking statements, which speak only as
of the date made.
OVERVIEW
ScanSoft is a leading supplier of imaging, speech and language solutions
that make businesses more productive. Our portfolio of solutions and
technologies automate a range of manual processes to help consumers,
professionals and enterprises save time, increase productivity and improve
customer service.
Historically, ScanSoft has been a leader in paper-to-digital solutions and
document imaging applications and technologies. Our optical character
recognition, digital paper management and eForms applications are used by
leading corporations, government organizations and technology vendors to
instantly convert paper documents into digital information.
With the acquisition of the speech and language technology operations of
Lernout & Hauspie (L&H acquisition) in December 2001, ScanSoft added speech and
language solutions to its portfolio of productivity-enhancing applications and
technologies. The group of assets acquired includes the RealSpeak text-to-speech
technology, Dragon speech recognition software and other speech and
voice-related technologies aimed at the rapidly growing telecommunications,
automotive and mobile device markets. ScanSoft believes that its speech-based
technology and intellectual property is widely considered the finest in the
industry.
ScanSoft, Inc. was incorporated as Visioneer, Inc. in March 1992 and
through December 1998, developed and sold scanner hardware and software
products. On January 6, 1999, Visioneer sold the hardware business and the
Visioneer brand name to Primax Electronics, Ltd., and on March 2, 1999,
Visioneer acquired ScanSoft, in a cash election merger, from Xerox Corporation.
The corporate entity "Visioneer" survived the merger, but changed its name to
"ScanSoft, Inc." In addition, Visioneer changed the ticker symbol for its common
stock that trades on the NASDAQ, to "SSFT."
Our success in the future will depend on our ability to maintain and
improve software gross margins and to increase sales of our software products.
This will depend in part on our ability and the ability of our distributors,
resellers and OEM partners to convince end-users to adopt paper and image input
systems for the desktop and to educate end-users about the benefits of our
products. We have attained operating income and reported net income for the
three months ended June 30, 2002 for the first time since the Caere acquisition.
There can be no assurance that we will be able to maintain quarterly
profitability or attain annual profitability in the near future. As of June 30,
2002, we had an accumulated deficit of $154.2 million.
RECENT ACCOUNTING PRONOUNCEMENTS
Effective January 1, 2002, we adopted Statement of Financial Accounting
Standards No. 142, "Goodwill and Other Intangible Assets" or SFAS 142. SFAS 142
requires, among other things, the discontinuance of goodwill amortization. The
standard also includes provisions for the reassessment of the useful lives of
existing recognized intangible assets and the identification of reporting units
for purposes of assessing potential future impairments of goodwill. SFAS 142
required the Company to complete a transitional goodwill impairment test within
six months of the date of adoption. We have reassessed the useful lives of our
existing intangible assets, other than goodwill, and believe that the original
useful lives remain appropriate. In addition, we have determined that the
12
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Company operates in one reporting unit and, therefore, have completed our
goodwill impairment test on an enterprise-wide level. Based on this analysis, we
have determined that goodwill recorded was not impaired, and no impairment
charge has been recorded. The Company will complete additional impairment
analyses at least annually, or more frequently when events and circumstances
occur indicating that the recorded goodwill might be impaired. Significant
judgments and estimates are involved in determining the useful lives of our
intangible assets, determining what reporting units exist and assessing when an
event or circumstances has occurred which would require an interim impairment
analysis to be performed. Changes in circumstances could result in materially
different results, including but not limited to technological advances or
competition which result in shorter useful lives, additional reporting units
which may require alternative methods of estimating fair value, or economic or
market conditions which affect previous assumptions and estimates, any of which
could have a significant impact on the Company's results of operations or
financial position through accelerated amortization expense or impairment
charges.
In August 2001, the FASB issued Statement of Financial Accounting
Standards No. 144, "Accounting for the Impairment or Disposal of Long-Lived
Assets" (SFAS 144). The objectives of SFAS 144 are to address significant issues
relating to the implementation of FASB Statement No. 121, "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of"
(SFAS 121), and to develop a single accounting model, based on the framework
established in SFAS 121, for long-lived assets to be disposed of by sale,
whether previously held and used or newly acquired. SFAS 144 supersedes SFAS
121; however, it retains the fundamental provisions of SFAS 121 for (1) the
recognition and measurement of the impairment of long-lived assets to be held
and used and (2) the measurement of long-lived assets to be disposed of by sale.
SFAS 144 supersedes the accounting and reporting provisions of Accounting
Principles Board No. 30, "Reporting the Results of Operations -- Reporting the
Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and
Infrequently Occurring Events and Transactions" (APB 30), for segments of a
business to be disposed of. However, SFAS 144 retains the requirement of APB 30
that entities report discontinued operations separately from continuing
operations and extends that reporting requirement to "a component of an entity"
that either has been disposed of or is classified as "held for sale." SFAS 144
also amends the guidance of Accounting Research Bulletin No. 51, "Consolidated
Financial Statements," to eliminate the exception to consolidation for a
temporarily controlled subsidiary. SFAS 144 is effective for financial
statements issued for fiscal years beginning after December 15, 2001, including
interim periods, and, generally, its provisions are to be applied prospectively.
We adopted the provisions of SFAS 144 in 2002 and its adoption had no impact on
our results of operations.
On January 1, 2002, we adopted EITF 01-9, which requires amounts paid to
resellers to be treated as a reduction of revenue, unless the consideration
relates to an identifiable benefit, in which case such consideration may be
recorded as an operating expense. We evaluate our marketing programs quarterly
to ensure criteria are met for expense classification. The implementation
resulted in a $0.2 million and $0.3 million reduction to net revenue and a
corresponding reduction of selling, general and administrative expenses for the
three and six months ended June 30, 2002, respectively. Additionally, it
resulted in the reclassification of $0.2 million and $0.5 million from selling,
general and administrative expenses to net revenue for the three and six months
ended June 30, 2001, respectively.
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities," or SFAS 146. This statement
addresses financial accounting and reporting for costs associated with exit or
disposal activities and nullifies EITF Issue 94-3, "Liability Recognition for
Certain Employee Termination Benefits and Other Costs to Exit an Activity
(including Certain Costs Incurred in a Restructuring)," or EITF 94-3. SFAS 146
requires that a liability for a cost associated with an exit or disposal
activity be recognized when the liability is incurred. EITF 94-3 allowed for an
exit cost liability to be recognized at the date of an entity's commitment to an
exit plan. SFAS 146 also requires that liabilities recorded in connection with
exit plans be initially measured at fair value. The provisions of SFAS 146 are
effective for exit or disposal activities that are initiated after December 31,
2002, with early adoption encouraged. We do not expect the adoption of SFAS 146
will have a material impact on our financial position or results of operations.
13
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
RESULTS OF OPERATIONS
The following table presents, as a percentage of net revenue, certain
selected financial data for the three and six months ended June 30, 2002 and
2001:
THREE MONTHS ENDED JUNE 30, SIX MONTHS ENDED JUNE 30,
--------------------------- --------------------------
2002 2001 2002 2001
-------- ------- -------- --------
Net revenue .............................................. 100.0% 100.0% 100.0% 100.0%
Cost and expenses:
Cost of revenue ..................................... 17.6% 19.0% 17.5% 20.9%
Research and development ............................ 27.0% 21.8% 28.1% 23.5%
Selling, general and administrative ................. 41.7% 41.1% 41.3% 45.3%
Amortization of intangible assets ................... 8.5% 46.0% 13.5% 50.0%
Restructuring and other charges, net ................ -- 0.0% 2.1% 0.0%
-------- ------- -------- --------
Total costs and expenses ..................... 94.8% 127.9% 102.5% 139.7%
-------- ------- -------- --------
Income (loss) from operations ............................ 5.2% (27.9)% (2.5)% (39.7)%
-------- ------- -------- --------
Other income (expense), net .............................. 0.2% (0.0)% (0.0)% (0.5)%
-------- ------- -------- --------
Income (loss) before income taxes ........................ 5.4% (27.9)% (2.5)% (40.2)%
Provision (benefit) for income taxes ..................... (2.0)% 1.6% (0.6)% 1.1%
-------- ------- -------- --------
Net income (loss) ........................................ 7.4% (29.5)% (1.9)% (41.3)%
======== ======= ======== ========
NET REVENUE
Net revenue for the three months ended June 30, 2002 increased by $11.3
million or 76% from the comparable period in 2001. The increase in net revenue
for the three months ended June 30, 2002 was the result of revenues generated by
our speech and language technology products, including the release of Dragon
Naturally Speaking 6.0 in North America and Dragon Naturally Speaking XP in
Europe to retail channels. In addition, licensing fees from our RealSpeak
text-to-speech technology (TTS) and embedded TTS revenues continued to grow
steadily throughout the quarter. The revenue growth was offset by a decrease in
revenues generated by our digital imaging products due to lower royalties from
certain OEM customers. Revenues generated by our digital imaging products were
higher for the three months ended June 30, 2001 as a result of the OmniPage Pro
11 launch, which occurred in the second quarter of 2001.
Net revenue for the six months ended June 30, 2002 increased by $22.6
million or 83% from the comparable period in 2001. The growth in revenue for the
six months ended June 30, 2002 was the result of revenues generated from our
speech and language technology products, particularly from sales of Dragon
Naturally Speaking, licensing of our RealSpeak text-to-speech technology, and
embedded TTS revenues. Additionally, revenue from our digital imaging products
increased from the comparable period in 2001, due to growth in our paper
management product line, as well as the recognition of revenue, previously
deferred, on a significant long-term OEM contract.
Geographic revenue classification is based on the country in which the
sale is invoiced. Revenue for the three months ended June 30, 2002 was 71% North
America and 29% international versus 82% and 18%, respectively for the
comparable period in 2001. Revenue for the six months ended June 30, 2002 was
75% North America and 25% international, versus 79% North America and 21%
international for the comparable period in 2001.
A number of the Company's OEM partners distribute their products
throughout the world and do not provide us with the geographical dispersion of
their products. We believe, if provided with this information, our geographical
revenue classification would indicate a higher international percentage. Based
on an estimate that factors our OEM partners' geographical revenue mix to our
revenues generated from these OEM partners, revenue for the three months ended
June 30, 2002 is approximately 66% North America and 34% international, compared
to 77% and 23%, respectively, for 2001. Revenue for the six months ended June
30, 2002, based on this estimate, is approximately 68% North America and 32%
international, compared to 74% North America and 26% international. The increase
in our international revenue is driven primarily from Europe and Asia. The
increase is the result of increased sales and marketing resources, the addition
of resellers, the release of Dragon Naturally Speaking 6.0 and Dragon Naturally
Speaking XP, as well as increased revenues from embedded TTS speech and language
technologies.
The breakdown of net revenue for the three months ended June 30, 2002 was
52% VAR/retail, 11% direct and 37% licensing compared to 45% VAR/retail, 26%
direct and 29% licensing for the same period in 2001. The breakdown of revenue
for the six
14
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
months ended June 30, 2002 was 50% VAR/retail, 13% direct, and 37% licensing
compared to 51% VAR/retail, 20% direct, and 29% licensing for the same period in
2001. The increase in VAR/retail for the three months ended June 30, 2002 is
attributable to the increase in sales from our speech and language technology
products, primarily as a result of the releases of Dragon Naturally Speaking 6.0
in North America and Dragon Naturally Speaking XP in Europe. The increase in
licensing for both the three and six months ended June 30, 2002 is the result of
increased contracts with our OEM partners, including the recognition of revenue
previously deferred on a significant long-term OEM contract. Direct revenues are
higher for the three and six months ended June 30, 2001 as a result of the
launch of OmniPage Pro 11, which occurred in the second quarter of 2001. We
anticipate the overall mix of revenue to remain consistent with the first six
months ended June 30, 2002.
COST OF REVENUE
Cost of revenue consists primarily of material costs, third party
royalties, fulfillment costs, and salaries for product support personnel. Cost
of revenue for the three months ended June 30, 2002 was $4.6 million or 17.6% of
revenue, compared to $2.8 million or 19.0% of revenue in the comparable period
of 2001. Cost of revenue for the six months ended June 30, 2002 was $8.7 million
or 17.5% of revenue, compared to $5.7 million or 20.9% for the same period in
2001. The increase in cost of revenue in absolute dollars for both the three and
six months ended June 30, 2002 is directly attributable to the increase in the
volume of product sales to the VAR/retail customers as well as increased
embedded TTS revenues which bear a higher cost than our normal software products
due to a firmware component. The decrease in cost of revenue as a percentage of
revenue for both the three and six months ended June 30, 2002 is due to a higher
proportion of OEM and corporate licensing revenues and lower supply chain
logistics and direct fulfillment costs.
RESEARCH AND DEVELOPMENT EXPENSES
Research and development expenses consist primarily of salary and benefit
costs of engineers. Research and development costs were $7.1 million or 27.0% of
revenue for the three months ended June 30, 2002, compared to $3.2 million or
21.8% of revenue for the comparable period in 2001. Research and development
costs for the six months ended June 30, 2002 were $14.1 million or 28.1% of
revenue, compared to $6.4 million or 23.5% for the comparable period in 2001.
The increase in research and development expenses for both the three and six
months ended June 30, 2002 is the result of increased headcount and costs
associated with the L&H acquisition. Headcount was increased by approximately
138 employees with the L&H acquisition. Cost savings from the restructuring
actions taken in 2002 for the three months ended June 30, 2002 was $0.2 million.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
Selling expenses include salaries, commissions, advertising, direct mail,
public relations, trade shows, travel and other related sales and marketing
expenses. General and administrative expenses include personnel costs for
administration, finance, human resources, information systems, and general
management in addition to legal and accounting expenses and other professional
services.
Selling, general and administrative expenses for the three months ended
June 30, 2002 were $11.0 million or 41.7% of revenue, compared to $6.1 million
or 41.1% of revenue for the same period in 2001. Selling, general and
administrative expenses for the six months ended June 30, 2002 were $20.7
million or 41.3% of revenue, compared to $12.4 million or 45.3% for the six
months ended June 30, 2001. The increase in selling, general and administrative
expenses in absolute dollars for both the three and six months ended June 30,
2002 is the result of increased headcount of approximately 74 employees, added
facility costs, and legal expenses related to our increased patent and trademark
portfolio acquired from L&H. The decrease in selling, general and administrative
expenses as a percentage of revenue for the six months ended June 30, 2002 is
the result of synergies associated with the L&H acquisition, focused marketing
spending and revenue growth.
AMORTIZATION OF INTANGIBLE ASSETS
Amortization of intangible assets for the three months ended June 30, 2002
was $2.2 million compared to $6.8 million for the comparable period in 2001.
Amortization of intangible assets for the six months ended June 30, 2002 was
$6.7 million compared to $13.7 million for the comparable period in 2001. The
decrease in amortization expense is partially attributable to the adoption of
SFAS 142, as a result of which, the Company ceased the amortization of goodwill
and acquired workforce of approximately $2.6 million per quarter. Additionally,
amortization expense decreased $2.6 million in the three and six months ended
June 30, 2002, due to certain intangible assets that became fully amortized in
the first quarter of 2002. This reduction was offset by additional amortization
of approximately $0.6 million and $1.1 million for the three and six months
ended June 30, 2002 from the L&H acquisition as well as the acquisition of the
audiomining assets in February 2002.
15
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
RESTRUCTURING AND OTHER CHARGES
In January 2002, the Company announced and in March 2002 completed a
restructuring plan to consolidate facilities, world-wide sales organizations,
research and development teams and other personnel following the December 12,
2001 L&H acquisition. As a result, the Company exited facilities in both North
America and Europe, eliminating 21 employee positions including 12 in research
and development and 9 in selling, general and administrative functions. In the
first quarter of 2002, the Company recorded a restructuring charge in the amount
of $0.6 million for severance payments to these employees, and a restructuring
charge of $0.4 million for certain termination fees to be incurred as a result
of exiting the facilities, including the write-off of previously recorded
assembled workforce of $0.1 million.
For the six months ended June 30, 2002, the Company paid a total of $0.4
million in severance payments, of which $0.3 million relates to the March 2002
restructuring and $0.1 million relates to severance paid to the former Caere
President and CEO, pursuant to a 2000 restructuring charge.
At June 30, 2002, the remaining restructuring accrual from the current and
prior restructuring activities amounted to $1.1 million. This balance is
comprised of $0.6 million of severance and lease exit costs resulting from the
2002 restructuring and $0.5 million of severance to the former Caere President
and CEO. All amounts relating to the 2002 restructuring will be paid in full
over the course of 2002. The severance due to the former Caere President and CEO
will be paid through March 2005.
The Company anticipates that the 2002 restructuring action will provide
future cost savings of $0.9 million, for the remaining six months of 2002, of
which $0.7 million relates to employee related costs and $0.2 million relates to
lease exit costs.
OTHER INCOME (EXPENSE), NET
Other income (expense), net consists primarily of interest earned on cash
and cash equivalents, offset by interest incurred for borrowings under notes
payable, and foreign currency exchange gains and losses. Other income (expense),
net was $65,000 for the three months ended June 30, 2002, compared to ($5,000)
for the same period in 2001. Other income (expense), net was ($10,000) for the
six months ended June 30, 2002 compared to ($139,000) for the same period in
2001. The change in other income (expense), net for both the three and six
months ended June 30, 2002 from the comparable periods of 2001 is the result of
higher interest income, $113,000 of which was earned on an IRS tax refund
received in the second quarter of 2002, and lower foreign currency losses,
offset by higher interest expense.
TAXATION
The (benefit) for income taxes was ($534,000) for the three months ended
June 30, 2002 and consisted of foreign and state tax provisions of $123,000 and
$243,000, respectively for which no operating loss carryforwards are available
to offset the related taxable income, offset by a federal tax benefit of
($900,000) related to a refund of taxes paid by Caere Corporation prior to the
acquisition by the Company. The provision for income taxes of $242,000 for the
three months ended June 30, 2001 consisted of foreign and state tax provisions
of $67,000 and $175,000, respectively.
The (benefit) for income taxes of ($328,000) for the six months ended June
30, 2002 consisted of foreign and state tax provisions of $171,000 and $401,000,
respectively, offset by the federal tax benefit of ($900,000). The provision for
income taxes of $303,000 for the six months ended June 30, 2001 consisted of
foreign and state tax provisions of $108,000 and $214,000, respectively, and a
state tax benefit of ($19,000).
LIQUIDITY AND CAPITAL RESOURCES
As of June 30, 2002, we had cash and cash equivalents of $18.3 million and
net working capital of $17.7 million, as compared to $14.3 million in cash and
cash equivalents and net working capital of $9.3 million at December 31, 2001.
Net cash provided by operating activities for the six months ended June
30, 2002 was $1.9 million and $4.0 million for the same period in 2001. The cash
provided by operations in 2002 came primarily from operating results, as well as
higher balances in accounts payable and accrued expenses, net of
acquisition-related liabilities. These increases were offset by higher balances
in accounts receivable, inventory, prepaid expenses and other current assets as
well as the recognition of revenue on a long-term contract that was classified
as deferred revenue at December 31, 2001, and for which cash was collected in a
prior period.
16
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Net cash used in investing activities during the six months ended June 30,
2002, was $5.7 million compared to $1,000 for the same period in 2001. Net cash
used in investing activities during 2002 consisted of $1.8 million in capital
expenditures, which included costs to build-out facilities in both North America
and Europe and $2.5 million of payments associated with acquisitions.
Additionally, the Company paid $1.4 million to the former Caere President and
CEO in connection with the settlement of the non-competition and consulting
agreement. The comparable period in 2001 included capital expenditures of $0.3
million, offset by $0.3 million in proceeds from the sale of property and
equipment.
Net cash provided by financing activities for the six months ended June
30, 2002 was $7.9 million compared to $1.6 million for the same period in 2001.
Net cash provided by financing activities during 2002 consisted of proceeds of
$2.3 million from the exercise of stock options and net proceeds of $5.7 million
from the private placement of our common stock. This was offset by a $0.2
million payment on our capital lease obligation. The comparable period in 2001
included payments of $3.4 million to repay in full our prior line of credit and
proceeds of $5.0 million from the issuance of common stock.
The Company has sustained recurring losses, with the exception of net
income for the three months ended June 30, 2002, and has an accumulated deficit
of $154.2 million at June 30, 2002. We believe that operating expense levels in
combination with expected future revenues will continue to result in positive
cash flows from operations for 2002. We also believe that we have the ability to
maintain operating expenses at levels commensurate with revenues to maintain
positive cash flows from operations. Therefore, we believe that cash flows from
future operations in addition to cash on hand will be sufficient to meet our
working capital, investing, financing and contractual obligations as they become
due, including stock repurchase programs, for the foreseeable future.
The following table outlines our contractual payment obligations as of
June 30, 2002:
PAYMENTS DUE BY PERIOD
---------------------------------------------------------------
WITHIN WITHIN
CONTRACTUAL OBLIGATIONS TOTAL 1 YEAR 2 YEARS THEREAFTER
--------- --------- --------- ----------
(IN THOUSANDS)
Notes payable including interest........................ $ 4,504 $ 948 $ 3,556 $ --
Operating leases........................................ 8,042 1,778 3,573 2,691
Caere acquisition related costs......................... 2,868 1,638 1,230 --
--------- --------- --------- ---------
Total contractual cash obligations...................... $ 15,414 $ 4,364 $ 8,359 $ 2,691
========= ========= ========= =========
We have not entered into any arrangements or transactions with
unconsolidated entities or other persons that would require the disclosure of
off-balance sheet arrangements. As of June 30, 2002 no such arrangements
existed.
FOREIGN OPERATIONS
We develop and sell our products throughout the world. As a result of the
Caere acquisition in March 2000, and the L&H acquisition in December 2001, we
significantly increased our presence in Europe and added operations in Asia.
With our increased international presence in a number of geographic locations
and with international revenues projected to increase in 2002, we are exposed to
changes in foreign currencies including the Euro, Japanese Yen and Hungarian
Forint. Changes in the value of the Euro or other foreign currencies relative to
the value of the U.S. Dollar could adversely affect future revenues and
operating results. We do not generally hedge any of our foreign-currency
denominated transactions or expected cash flows.
17
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
RISK FACTORS THAT MAY AFFECT FUTURE RESULTS OF OPERATIONS
Keep these risk factors in mind when you read "forward-looking" statements
elsewhere in this Quarterly Report. These are statements that relate to our
expectations for future events and time periods. Generally, the words,
"anticipate," "expect," "intend" and similar expressions identify
forward-looking statements. Forward-looking statements involve risks and
uncertainties, and future events and circumstances could differ significantly
from those anticipated in the forward-looking statements. If any of the
following risks actually occur, our business, financial condition and results of
operations could be harmed. In that case, the trading price of our common stock
could decline, and you could lose all or part of your investment.
OUR BUSINESS COULD BE HARMED IF WE DO NOT SUCCESSFULLY MANAGE THE INTEGRATION OF
THE BUSINESSES THAT WE ACQUIRE, INCLUDING OUR RECENT ACQUISITION OF THE SPEECH
AND LANGUAGE ASSETS OF L&H.
- As part of our business strategy, we have in the past and expect to
continue to acquire other businesses and technologies. Our recent
acquisition of the speech and language technology assets of L&H
required substantial integration and management efforts.
Acquisitions involve a number of risks, including:
- the difficulty of integrating the operations and personnel of the
acquired businesses;
- the potential disruption of our ongoing business and distraction of
management;
- the difficulty in incorporating acquired technology and rights into
our products and technology;
- unanticipated expenses and delays relating to completing acquired
development projects and technology integration;
- the management of geographically remote units;
- the maintenance of uniform standards, controls, procedures and
policies;
- the impairment of relationships with employees and customers as a
result of any integration of new management personnel;
- risks of entering markets or types of businesses in which we have
limited experience;
- the potential loss of key employees of the acquired company; and
- potential unknown liabilities or other difficulties associated with
acquired businesses.
As a result of these and other risks, we may not realize anticipated
benefits from our acquisitions. Failure to achieve these benefits or failure to
successfully integrate these acquired businesses and technologies could
materially harm our business.
THE PRICE OF OUR SECURITIES MAY BE AFFECTED BY A WIDE RANGE OF FACTORS.
Some of the factors that may cause volatility in the price of our securities
include:
- quarterly variations in our financial results;
- changes in revenue or earnings estimates or publication of research
reports by analysts;
- failure to meet analysts' revenue or earnings estimates;
- speculation in the press or investment community;
- strategic actions by us or our competitors, such as acquisitions or
restructurings;
- actions by institutional and other significant shareholders;
- business and product market cycles;
- the timing of new product introductions;
- our ability to develop, implement and successfully market new
products and technologies, including the speech products and
technologies acquired from L&H; and
- domestic and international economic factors unrelated to our
performance, such as the effects of the September 11, 2001 terrorist
attacks on the United States and the related political and military
actions.
The price of our securities may also be affected by the estimates and
projections of the investment community, general economic and market conditions,
and the cost of operations in one or more of our product markets. While we
cannot predict the individual effect that these factors may have on the price of
our securities, these factors, either individually or in the aggregate, could
result in significant variations in price during any given period of time.
18
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
THE IMAGING AND SPEECH AND LANGUAGE TECHNOLOGY SOFTWARE MARKETS ARE HIGHLY
COMPETITIVE.
Competitors in the speech and language technology market include: IBM;
Lucent Technologies; Microsoft; Motorola; Nuance Communications; Philips
Electronics; SpeechWorks International, and Locus Dialogue;.
IBM and Philips have introduced dictation products which compete directly
with our dictation products. We also compete with other smaller companies that
have developed advanced speech and language technology products. Current and
potential competitors have established, or may establish, cooperative
relationships among themselves or with third parties to increase the abilities
of their advanced speech and language technology products to address the needs
of our prospective customers. Accordingly, new competitors or alliances among
competitors may emerge.
The imaging market is also highly competitive and our competitors in this
area include Adobe, ABBYY, I.R.I.S., and Microsoft.
The competition in these markets could adversely affect our operating
results by reducing the volume of imaging and speech and language products we
sell or the prices we can charge. Some of our competitors or potential
competitors in this market have significantly greater financial, technical and
marketing resources than we do. These competitors may be able to respond more
rapidly than we can to new or emerging technologies or changes in customer
requirements. They may also devote greater resources to the development,
promotion and sale of their products than we do. There is no assurance that the
price and performance of our products and technologies will be superior relative
to the products of our competitors. As a result, we may experience a loss of
competitive position that could result in lower prices, fewer customer orders,
reduced revenues, reduced gross margins, and loss of market share. We may not
meet our design, development, and introduction schedules for new products or
enhancements to our existing and future products. In addition, our products and
technologies may not achieve market acceptance or sell at favorable prices which
could hurt our revenues, results of operations and the price of our common
stock.
Our future competitive performance depends on a number of factors,
including our ability to: penetrate target markets;
- identify emerging technological trends and demand for product
features and performance characteristics;
- enhance our products by adding innovative features that
differentiate our products from those of our competitors;
- bring products to market on a timely basis at competitive prices;
- respond effectively to technological changes or new product
announcements by others; and
- adopt and/or set emerging industry standards.
SPEECH AND LANGUAGE TECHNOLOGY PRODUCTS MAY NOT ACHIEVE WIDESPREAD ACCEPTANCE BY
BUSINESSES, WHICH COULD LIMIT OUR ABILITY TO GROW OUR SPEECH AND LANGUAGE
TECHNOLOGY BUSINESS.
The market for speech and language technology products is relatively new and
rapidly evolving. Sales of our speech and language technology products would be
harmed if the use of speech-activated and voice interactive software does not
continue to develop, or develops more slowly than we expect. Our ability to
increase revenue in the future for our speech and language technology products
depends on the acceptance by both our customers and their end users of speech
technology. In order to achieve commercial acceptance, we may have to educate
prospective customers about the uses and benefits of speech technology and our
products in particular. If these efforts fail, or if speech technology platforms
do not achieve commercial acceptance, our business could be harmed.
The continued development of the market for our speech and language
technology products will also depend on the following factors:
- widespread deployment of voice interface applications by third
parties, which is driven by consumer demand for services having a
voice user interface;
- demand for new uses and applications of voice interactive
technology, including adoption of voice user interfaces by companies
that operate web sites;
- adoption of industry standards for voice interface and related
technologies; and
- continuing improvements in hardware technology that reduce the cost
of voice interface software solutions.
IF THE STANDARDS FOR OUR SPEECH TECHNOLOGIES ARE NOT ADOPTED AS THE STANDARDS
FOR VOICE INTERFACE SOFTWARE AND SPEECH-ACTIVATED SYSTEM SOLUTIONS, BUSINESSES
MIGHT NOT USE OUR SOFTWARE PLATFORMS FOR DELIVERY OF APPLICATIONS AND SERVICES.
19
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The markets for voice interface software and speech-activated system
solutions is new and emerging and industry standards have not been established.
We may not be competitive unless our products support changing industry
standards. The emergence of industry standards, whether through adoption by
official standards committees or widespread usage, could require costly and
time-consuming redesign of our speech and language technologies and products. If
these standards become widespread and our products do not support them, our
customers and potential customers may not purchase our products. Multiple
standards in the marketplace could also make it difficult for us to ensure that
our products will support all applicable standards, which could in turn result
in decreased sales of our products.
OUR FAILURE TO RESPOND TO RAPID CHANGE IN THE MARKET FOR SPEECH TECHNOLOGY
PRODUCTS COULD CAUSE US TO LOSE REVENUE AND HARM OUR BUSINESS.
The speech technology industry is new and rapidly evolving. We are new to
this market as a result of the acquisition of technology and assets of L&H. Our
success will depend substantially upon our ability to enhance our existing
products and technologies and to develop and introduce, on a timely and
cost-effective basis, new products and features that meet changing customer
requirements and incorporate technological advancements. If we are unable to
develop new products and enhance functionalities or technologies to adopt to
these changes, our business will suffer.
IF WE ARE UNABLE TO HIRE AND RETAIN TECHNICAL, SALES AND MARKETING, AND
OPERATIONAL PERSONNEL, OUR BUSINESS COULD BE HARMED.
We intend to continue to hire additional personnel, including software
engineers, sales and marketing personnel and operational personnel. We may not
be able to attract, assimilate, or retain additional highly qualified personnel
in the future. The failure to attract, integrate, motivate and retain these
employees could harm our business.
MATURE MARKETS FOR IMAGING PRODUCTS MAY NOT PRODUCE GROWTH.
The markets for our imaging products are relatively mature and may not
experience significant growth or expansion in the future.
OUR SPEECH TECHNOLOGY PRODUCTS ARE NOT 100% ACCURATE WHICH COULD RESULT IN
DELAYED OR LOST REVENUE, EXPENSIVE CORRECTION, LIABILITY TO OUR CLIENTS AND
CLAIMS AGAINST US.
Complex software products such as our speech technology products may contain
errors, defects and bugs. Defects in the solutions or products that we develop
and sell to our customers could result in delayed or lost revenue, adverse
client reaction and negative publicity about us or our products and services, or
require expensive corrections. Also, due to the developing nature of speech
recognition technology and text-to-speech technology, our products are not
currently, and may never be accurate, in every instance. Customers who are not
satisfied with our products could bring claims against us for damages, which,
even if unsuccessful, would likely be time-consuming, and could result in costly
litigation and payment of damages. Such claims could have an adverse effect on
our financial results and competitive position.
WE DEPEND ON SALES THROUGH DISTRIBUTION CHANNELS FOR A MAJORITY OF OUR REVENUE,
AND A SIGNIFICANT PORTION OF OUR REVENUE COMES FROM A SMALL NUMBER OF CUSTOMERS
IN THESE DISTRIBUTION CHANNELS. ANY DECREASE IN REVENUES FROM THESE CUSTOMERS
COULD HARM OUR RESULTS OF OPERATIONS.
A substantial portion of our revenue is derived from the sale of our software
products through a variety of distribution channels, including traditional
software distributors, direct fulfillment partners, Value-Added Resellers
(VARs), Original Equipment Manufacturers (OEMs), hardware and software
superstores, retail dealers, and direct sales. Our products are sold primarily
through distributors, direct fulfillment partners, VARs, and OEMs. In
particular, one U.S. based distributor, Ingram Micro accounted for 28% of
consolidated revenues, and Digital River, our direct fulfillment partner,
accounted for 15% of our consolidated revenues, respectively, during the year
ended December 31, 2001. For the six months ended June 30, 2002, Ingram Micro
and Digital River accounted for 27% and 10% of our consolidated revenues,
respectively. In addition, one of our OEM customers, Xerox Corporation, which is
also one of our significant stockholders and a related party, accounted for 11%
and 5% of our consolidated revenues during the year ended December 31, 2001 and
the six months ended June 30, 2002, respectively. Our resellers generally offer
products of several different companies, including in some cases, products that
are competitive with our products. There can be no assurance that our software
resellers will continue to purchase our products or provide them with adequate
levels of support. The loss of, or a significant reduction in sales volume to, a
significant reseller could have a material adverse effect on our results of
operations.
20
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OUR DISTRIBUTORS ARE SUBJECT TO ECONOMIC AND COMPETITIVE RISK.
Our distributors in the retail channel are experiencing competition both
among themselves and from the shift to electronic commerce. A failure by any one
of our distributors could result in a material adverse effect on our results of
operations including:
- recognition of material bad debts;
- loss of associated sales; and
- significant costs incurred in connection with establishing new
product distribution channels.
WE RELY ON OUR CUSTOMERS, SOME OF WHOM ARE OUR COMPETITORS, TO DEVELOP
APPLICATIONS FOR OUR PRODUCTS, MARKET PRODUCTS INCORPORATING OUR TECHNOLOGY AND
GENERATE LICENSE REVENUES FOR US.
Many of our software development kits are licensed primarily to
application developers, OEMs, component manufacturers and software vendors who
incorporate our technology into applications developed by them and sold to
end-users. The success of these licensed products depends to a substantial
degree on the efforts of others in developing and marketing products
incorporating our technologies. Our customers often require several months to
integrate our technologies into their products. Products incorporating our
technologies may not necessarily be successfully implemented or marketed by our
customers.
Our customers, such as Microsoft, have also developed or acquired products
or technologies that compete with our products and technologies. These customers
may give higher priority to the sale of these competitive products or
technologies.
OUR QUARTERLY OPERATING RESULTS ARE SUBJECT TO FLUCTUATIONS AND SEASONALITY, AND
IF WE FAIL TO MEET THE EXPECTATIONS OF SECURITIES ANALYSTS OR INVESTORS, OUR
SHARE PRICE MAY DECREASE SIGNIFICANTLY.
Our revenue and operating results have fluctuated in the past. Our future
quarterly operating results may fluctuate significantly and may not meet the
expectations of securities analysts or investors. If this occurs, the price of
our stock would likely decline. Factors that may cause fluctuations in our
operating results include the following:
- volume, timing and fulfillment of customer orders;
- reduction in the prices of our products in response to competition
or market conditions;
- increased expenditures incurred in connection with the pursuit of
new product or market opportunities;
- inability to adjust our operating expenses to compensate for
shortfalls in revenue against forecast;
- returns and allowance charges in excess of recorded amounts;
- demand for products;
- seasonality;
- general economic trends as they affect retail and corporate sales;
- customers delaying their purchase decisions in anticipation of new
versions of products including new operating systems;
- introduction of new products by us or our competitors; and
- timing of significant marketing and sales promotions.
Due to the foregoing factors, among others, our revenue and operating
results are difficult to forecast. Our expense levels are based in significant
part on our expectations of future revenue. Our failure to meet revenue
expectations would have a material adverse effect on our business, operating
results, financial condition and cash flows. Further, an unanticipated decline
in revenue for a particular quarter may disproportionately affect our
profitability because a relatively small amount of our expenses are intended to
vary with our revenue in the short term. We experienced net losses during the
years ended December 31, 1999, 2000 and 2001, and during the quarter ended March
31, 2002. We achieved profitability for the first time during the quarter ended
June 30, 2002. However, we may not be able to sustain profitability.
OUR REVENUE HAS BEEN DEPENDENT ON DEMAND FOR A FEW PRODUCTS.
Historically, a substantial portion of our revenue has been generated by a
few products. For the fiscal year ended December 31, 2001, our OCR product
family represented approximately 63% of revenue, and our paper management
represented approximately 16% of revenue. For the six months ended June 30,
2002, our speech and language technologies represented 41% of revenue, our OCR
product family represented 33% of revenue and our paper management represented
12%. We believe that a reduction in revenue contribution from any of these
product families could have a material adverse impact upon our business, results
of operations, financial condition and our stock price.
21
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
WE HAVE GROWN, AND MAY CONTINUE TO GROW THROUGH ACQUISITIONS, WHICH MAY RESULT
IN SIGNIFICANT INTANGIBLE ASSETS, DILUTION OF OUR EXISTING STOCKHOLDERS, USE OF
CASH AND OTHER RISKS.
We made significant acquisitions within the last two years and may
complete material acquisitions in the future. Our past acquisitions have given
rise to, and future acquisitions may result in, substantial levels of intangible
assets that will be amortized in future years and our future results will be
adversely affected if we do not achieve benefits from these acquisitions
commensurate with these charges. In addition, our acquisition of Caere
Corporation (Caere) included a substantial write-off of acquired in-process
research and development costs and this also may occur as a result of future
acquisitions. In connection with our acquisition of Caere and the L&H assets, we
issued 19.0 million and 7.4 million shares of ScanSoft common stock,
respectively. We may continue to issue equity securities for future acquisitions
and working capital purposes that could be dilutive to our existing
stockholders. In connection with the L&H acquisition, we paid $10.0 million of
cash and issued a promissory note for $3.5 million. Future acquisitions may also
require us to expend significant funds or incur debt. If we expend funds or
incur additional debt, our ability to obtain financing for working capital or
other purposes could decrease.
WE DEPEND ON CONTINUED DEMAND FOR OUR IMAGING PRODUCTS FROM ORIGINAL EQUIPMENT
MANUFACTURERS AND ON THE CONTINUED GROWTH OF SCANNER SALES.
We have OEM relationships with a number of companies that provide scanners
and other imaging hardware. OEM revenue has historically represented
approximately 15-30% of our consolidated revenue and represented 30% and 31% of
our consolidated revenues for the fiscal year ended December 31, 2001 and for
the six months ended June 30, 2002, respectively. Our agreements with OEMs do
not obligate them to bundle our software and they may choose to bundle software
products of our competitors. A significant reduction in scanner sales or other
digital imaging hardware sales may adversely impact our revenue. A decline in
OEM revenue could have a material adverse impact upon our business, results of
operations, financial condition and our stock price.
THIRD PARTIES HAVE CLAIMED AND MAY CLAIM IN THE FUTURE THAT WE ARE INFRINGING
THEIR INTELLECTUAL PROPERTY, AND WE COULD BE EXPOSED TO SIGNIFICANT LITIGATION
OR LICENSING EXPENSES OR BE PREVENTED FROM SELLING OUR PRODUCTS IF SUCH CLAIMS
ARE SUCCESSFUL.
We have from time to time been notified and we may in the future be
notified or otherwise become aware of claims that we or our customers may be
infringing or contributing to the infringement of certain intellectual property
rights of others. We may be unaware of intellectual property rights of others
that may cover some of our technologies and products. If it appears necessary or
desirable, we may seek licenses for these intellectual property rights. However,
we can give no assurance that licenses will be offered by any or all claimants,
that the terms of any offered licenses will be acceptable to us or that in all
cases the dispute will be resolved without litigation. Any litigation regarding
intellectual property could be costly and time consuming and could divert the
attention of our management and key personnel from our business operations. In
the event of a claim of intellectual property infringement, we may be required
to enter into costly royalty or license agreements. However, we may not be able
to obtain such royalty or license agreements on terms acceptable to us or at
all. Third parties claiming intellectual property infringement may be able to
obtain injunctive or other equitable relief that could effectively block our
ability to develop and sell our products.
We may also be subject to significant damages. If any third parties are
successful in their intellectual property infringement claims against us, our
operating results and financial position could be adversely impacted.
In May 2002, we were sued by Massachusetts Institute of Technology and
Electronics For Imaging, Inc. for patent infringement. The patent infringement
claim was filed against more than 200 defendants. Damages are sought in an
unspecified amount. We filed an Answer and Counterclaim on July 1, 2002. We
cannot predict the outcome of the claim, nor can we make any estimate of the
amount of damages, if any, for which we will be held responsible in the event of
a negative conclusion of the claim. We believe this claim has no merit and we
intend to defend the action vigorously.
On August 16, 2001, we were sued by Horst Froessl for patent infringement.
Damages are sought in an unspecified amount. We filed an Answer and Counterclaim
on September 19, 2001. We believe this claim has no merit and we intend to
defend the action vigorously.
We believe that the final outcome of the current litigation matters
described above will not have a significant adverse effect on our financial
position and results of operations, including the expenditure of a significant
amount of resources defending such claims. However, should we not prevail in
these litigation matters, our operating results and financial position could be
adversely impacted.
22
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OUR FUTURE RESULTS COULD BE HARMED BY ECONOMIC, POLITICAL, REGULATORY AND OTHER
RISKS ASSOCIATED WITH INTERNATIONAL SALES AND OPERATIONS.
Since we sell our products worldwide, our business is subject to risks
associated with doing business internationally. We anticipate that revenue from
international operations will represent an increasing portion of our total
revenue. International revenue for the fiscal year ended December 31, 2001 and
for the six months ended June 30, 2002, represented 21% and 25% of our
consolidated revenue for those periods, respectively. A number of our North
American OEM partners distribute our products throughout the world, but, because
our partners do not provide us with an account of the geographic dispersion of
our products, we have recognized the revenue in the United States. In addition,
some of our products are developed and manufactured outside the United States. A
significant portion of development and manufacturing of our automated speech
recognition products and text-to-speech products are completed in Belgium, and
our imaging research and development is conducted in Hungary. Accordingly, our
future results could be harmed by a variety of factors, including:
- changes in a specific country's or region's political or economic
conditions;
- trade protection measures and import or export licensing
requirements;
- negative consequences from changes in tax laws;
- difficulties in staffing and managing operations in multiple
locations in many countries;
- difficulties in collecting trade accounts receivable; and
- less effective protection of intellectual property.
IN ORDER TO INCREASE OUR SPEECH PRODUCTS' INTERNATIONAL SALES, WE MUST DEVELOP
LOCALIZED VERSIONS OF OUR PRODUCTS. IF WE ARE UNABLE TO DO SO, WE MAY BE UNABLE
TO GROW THE RELATED REVENUE.
We intend to expand our international speech product sales, which requires
us to invest significant resources to create and refine different language
models for each particular language or dialect. These language models are
required to create versions of our products that allow end users to speak the
local language or dialect and be understood. If we fail to develop localized
versions of our speech products, our ability to address international market
opportunities and to grow our speech business will be limited.
OUR PRODUCTS INCORPORATE TECHNOLOGY WE LICENSE FROM OTHERS. OUR INABILITY TO
MAINTAIN THESE LICENSES COULD HAVE A MATERIAL ADVERSE EFFECT ON OUR BUSINESS.
Some of the technology included in, or operating in conjunction with, our
products is licensed by us from others. Certain of these license agreements are
for limited terms. If for any reason these license agreements terminate, we may
be required to seek alternative vendors and may be unable to obtain similar
technology on favorable terms or at all. If we are unable to obtain alternative
license agreements, we may be required to modify some features of our products,
which could adversely affect sales of our products.
WE ARE EXPOSED TO FLUCTUATIONS IN FOREIGN CURRENCY EXCHANGE RATES.
Because we have international subsidiaries and distributors that operate
and sell our products outside the U.S., we are exposed to the risk of changes in
foreign currency exchange rates or declining economic conditions in these
countries. We generally do not engage in hedging transactions to manage our
exposure to currency fluctuations. Our exposure to currency rate fluctuations
could affect our results of operations and/or cash flows.
THE PROTECTION OF OUR PROPRIETARY TECHNOLOGY AND INTELLECTUAL PROPERTY IS KEY TO
OUR SUCCESS.
We rely heavily on our proprietary software technology, trade secrets and
other intellectual property. Unauthorized parties may attempt to copy aspects of
our products or to obtain and use information that we regard as proprietary.
Policing unauthorized use of our products is difficult and we may not be able to
protect our technology from unauthorized use. Additionally, our competitors may
independently develop technologies that are substantially the same or superior
to ours. In addition, the laws of some foreign countries do not protect our
proprietary rights to the same extent as the laws of the United States. Although
the source code for our proprietary software is protected both as a trade secret
and as a copyrighted work, litigation may be necessary to enforce our
intellectual property rights, to protect our trade secrets, to determine the
validity and scope of the proprietary rights of others, or to defend against
claims of infringement or invalidity. Litigation, regardless of the outcome, can
be very expensive and can divert management efforts.
23
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Others may assert that our technology and products infringe their patents
or other intellectual property rights. Any such assertion, if resolved adversely
to us, may require us to enter into licensing arrangements and may harm our
business.
THE STOCKHOLDINGS OF OUR THREE BIGGEST STOCKHOLDERS MAY ENABLE THEM TO INFLUENCE
MATTERS REQUIRING STOCKHOLDER APPROVAL.
The State of Wisconsin Investment Board ("SWIB") currently owns
approximately 18.8% of our common stock. SWIB is currently our largest
stockholder, followed by Xerox. Xerox currently owns approximately 18.3% of our
outstanding common stock and all of our outstanding nonvoting, convertible
Series B Preferred Stock. In addition, as of July 15, 2002, Xerox had the
opportunity to acquire up to a maximum of 525,732 additional shares of our
common stock pursuant to a warrant, as calculated in accordance with a formula
defined in the warrant agreement. Our third largest stockholder is L&H, which
currently owns approximately 11.5% of our common stock. Because of their large
holdings of our capital stock relative to other shareholders, any of SWIB,
Xerox, L&H or these entities acting together, could have a strong influence over
matters requiring approval by our stockholders.
OUR EARNINGS AND STOCK PRICE HAVE HISTORICALLY BEEN AND MAY CONTINUE TO BE
VOLATILE.
Due to the factors noted throughout this section, our earnings and stock
price have been and may continue to be subject to significant volatility. There
have been previous quarters in which we have experienced shortfalls in revenue
and earnings from levels expected by securities analysts and investors, which
have had an immediate and significant adverse effect on the trading price of our
common stock. This may occur again in the future.
We may become subject to additional risks in the future. We will include
these risks in future periodic reports we file with the Securities and Exchange
Commission. If you are making an investment decision after the date of this
Quarterly Report and any of these reports have been filed, you should also
consult and carefully consider the risk factors and other information in these
reports. In addition, you should note that the fact that certain risks are
endemic to the industry does not lessen the significance of these risks.
24
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We develop our products in the United States, Belgium and Hungary. We sell
our products globally, primarily through an indirect reseller channel. As a
result, our financial results are affected by factors such as changes in foreign
currency exchange rates and weak economic conditions in foreign markets.
We collect a portion of our revenue and pay a portion of our operating
expenses in foreign currencies. As a result, changes in currency exchange rates
from time to time may affect our operating results. Currently, we do not engage
in hedging transactions to reduce our exposure to changes in currency exchange
rates, although we may do so in the future.
PART II. OTHER INFORMATION
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
On April 12, 2002, we issued 1,000,000 unregistered shares of common stock
at a purchase price of $6.00 per share to SF Capital Partners Ltd. ("SF
Capital") pursuant to a Share Purchase Agreement between the Company and SF
Capital. This transaction did not involve any underwriters, underwriting
discounts or commissions, or any public offering, and we believe that it was
exempt from the registration requirements of the Securities Act of 1933, as
amended (the "Securities Act") by virtue of Section 4(2) thereof. SF Capital
represented its intention to acquire the securities for investment purposes only
and not with a view to or for sale in connection with any distribution thereof,
and appropriate legends were affixed to the share certificates and instruments
issued in the transaction. SF Capital had adequate access, through its
relationship with us, to information about us.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
On June 14, 2002, the Company held its Annual Meeting of Stockholders. At such
meeting the following actions were voted upon:
(a) To elect a Board of seven (7) directors to hold office until the next
annual meeting of stockholders or until their respective successors have
been elected and qualified:
DIRECTOR VOTES FOR WITHHELD
-------- --------- --------
Michael K. Tivnan 44,290,615 993,581
Paul A. Ricci 44,388,321 895,875
Mark B. Myers 44,916,110 368,086
Katharine A. Martin 44,310,690 973,506
Robert G. Teresi 44,935,377 348,819
Robert J. Frankenberg 44,906,344 377,852
Herve Gallaire 44,919,623 364,573
(b) To approve an amendment to the 2000 Stock Option Plan to increase the
number of shares that my be issued under the Plan from 2,500,000 to
4,750,000, an increase of 2,250,000 shares.
VOTES FOR VOTES AGAINST ABSTAINED BROKER NON-VOTES
--------- ------------- --------- ----------------
38,605,775 6,465,668 212,753 0
(c) To approve an amendment to the 1995 Directors' Stock Option Plan to
increase the number of shares that may be issued under the Plan from
570,000 to 820,000, an increase of 250,000 shares.
VOTES FOR VOTES AGAINST ABSTAINED BROKER NON-VOTES
--------- ------------- --------- ----------------
38,314,844 6,756,336 213,016 0
S
(d) To ratify the appointment to PricewaterhouseCoopers LLP as the independent
public accountants for the period ending December 31, 2002.
VOTES FOR VOTES AGAINST ABSTAINED BROKER NON-VOTES
--------- ------------- --------- ----------------
44,620,431 538,160 125,605 0
25
ITEM 5. OTHER INFORMATION
None
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
The exhibits listed on the Exhibit Index hereto are filed or incorporated
by reference (as stated therein) as part of this report on Form 10-Q.
(b) Reports on Form 8-K
None
26
SIGNATURES
Pursuant to the requirements of the Securities Act of 1934, the Registrant
has duly caused this Report on Form 10-Q to be signed on its behalf by the
undersigned, thereunto duly authorized, in the City of Peabody, State of
Massachusetts, on August 14, 2002.
SCANSOFT, INC.
By: /s/ GERALD C. KENT JR.
---------------------------------
Gerald C. Kent, Jr.
Vice President, Chief Accounting
Officer and Controller
27
EXHIBIT INDEX
Exhibits (numbered in accordance with Item 601 of Regulation S-K)
EXHIBIT NO. DESCRIPTION OF EXHIBITS
----------- -----------------------
2.1(1) Agreement and Plan of Merger dated December 2, 1998, between
Visioneer, Inc., a Delaware corporation, and ScanSoft, Inc., a
Delaware corporation.
2.2(2) Agreement and Plan of Reorganization, dated January 15, 2000,
by and among ScanSoft, Inc., a Delaware corporation, Scorpion
Acquisitions Corporation, a Delaware corporation and a
wholly-owned subsidiary of ScanSoft, and Caere Corporation, a
Delaware corporation.
3.1(3) Bylaws of Registrant.
3.2(6) Amended and Restated Certificate of Incorporation of
Registrant.
4.1(4) Specimen Common Stock Certificate.
4.2(5) Preferred Shares Rights Agreement, dated as of October 23,
1996, between the Registrant and U.S. Stock Transfer
Corporation, including the Certificate of Designation of
Rights, Preferences and Privileges of Series A Participating
Preferred Stock, the form of Rights Certificate and Summary of
Rights attached thereto as Exhibits A, B and C, respectively.
4.3(1) Common Stock Purchase Warrant.
4.4(1) Registration Rights Agreement dated March 2, 1999, between the
Registrant and Xerox Corporation.
99.1 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
- ----------
(1) Incorporated by reference from the Registrant's Registration Statement on
Form S-4 (No. 333-70603) filed with the Commission on January 14, 1999.
(2) Incorporated by reference from the Registrant's Registration Statement on
Form S-4 (No. 333-96487) filed with the Commission on February 9, 2000.
(3) Incorporated by reference from the Registrant's Registration Statement on
Form S-1 (No. 333-98356) filed with the Commission on October 19, 1995.
(4) Incorporated by reference from the Registrant's Registration Statement on
Form S-1 (No. 33-98356) filed with the Commission on October 19, 1995.
(5) Incorporated by reference from the Registrant's Current Report on Form 8-K
dated October 31, 1996.
(6) Incorporated by reference from the Registrant's Current Report on Form
10-Q dated May 11, 2001.
(7) Incorporated by reference from the Registrant's Current Report on Form 8-K
dated March 7, 2002.
28