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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
(Mark one)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 1997
or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from __________ to ___________
COMMISSION FILE NUMBER: 0-21541
BITSTREAM INC.
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(Exact name of registrant as specified in its charter)
DELAWARE 04-2744890
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(State or other jurisdiction of incorporation or organization) (I.R.S. Employer Identification No.)
215 FIRST STREET
CAMBRIDGE, MASSACHUSETTS 02142
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(Address of principal executive offices) (Zip Code)
(617) 497-6222
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(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(g) of the Act:
Class A Common Stock, par value $.01 per share
Not Applicable
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(Former name, former address and former fiscal year, if changed since
last report)
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K (ss. 229.405 of this chapter) is contained herein, and
will not be contained, to the best of the Registrant's knowledge, in definitive
proxy or information statements incorporated by reference in Part III of this
Form 10-K, or any amendment to this Form 10-K. [ ]
The aggregate market value of voting stock held by non-affiliates of the
Registrant as of March 23, 1998 was approximately $11.9 million.
On March 23, 1998, there were 6,625,440 shares of Class A Common Stock, par
value $0.01 per share, and no shares of Class B Common Stock, par value $0.01
per share, outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Registrant's definitive proxy statement for the 1998 Annual
Meeting of Stockholders, to be filed with the Securities and Exchange
Commission, are incorporated by reference into Part III of this Annual Report on
Form 10-K.
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INDEX
PAGE
NUMBERS
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PART I.
ITEM 1. BUSINESS............................................................. 3
ITEM 2. PROPERTIES........................................................... 10
ITEM 3. LEGAL PROCEEDINGS.................................................... 10
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.................. 11
PART II.
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED
STOCKHOLDER MATTERS................................................ 12
ITEM 6. SELECTED FINANCIAL DATA.............................................. 13
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS.............................................. 14
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.......................... 18
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING
AND FINANCIAL DISCLOSURE........................................... 18
PART III.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT................... 18
ITEM 11. EXECUTIVE COMPENSATION............................................... 19
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT......................................................... 19
ITEM 13. CERTAIN REALTIONSHIPS AND RELATED TRANSACTIONS....................... 19
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K...... 19
SIGNATURES............................................................... 22
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PART I
ITEM 1. BUSINESS
GENERAL
Bitstream Inc. ("Bitstream" or the "Company") develops, markets and supports
software products and technologies to enhance the creation, management and
transport of electronic documents. The Company is organized into two operating
divisions. The Type and Technology division primarily licenses its products,
including text imaging and page layout technologies, to original equipment
manufacturers ("OEMs") and independent software vendors ("ISVs") for inclusion
in their output devices, embedded systems, applications, Internet authoring
tools, World Wide Web browsers and other products. The Archetype Applications
division develops server-based publishing applications that are sold to
publishers, advertising agencies, and other major corporations.
The Company's products and technologies consist of: (i) MediaBank, a digital
asset management product that allows for the cataloging, archiving, and
management of electronic images, text and documents; (ii) InterSep OPI and
InterSep Output Manager, advanced open prepress interface and print management
for clients working with raster image processors and servers; (iii) NuDoc, an
advanced document composition technology; (iv) type products, such as libraries
of type designs (fonts) and custom type products; (v) enabling technologies,
which deliver typographic capabilities to hardware output devices and software
applications; and (vi) TrueDoc(R), a portable type technology providing for the
efficient distribution of text, with fidelity, in a highly compact format.
Bitstream was founded in 1981 as a digital type supplier to computer
hardware and software developers. The Company's library of type products is used
by OEMs, ISVs and end users around the world in the creation of electronic
documents. The Company was also an early developer of typographic enabling
software for hardware and software developers. Its font processor products are
used to provide type scaling functionality to operating systems, network servers
and a wide variety of computer printers and other output devices. The Company
has focused its product development and marketing efforts on technology
solutions that address the font-related issues of document creation and
portability in the Internet and corporate intranets.
In January 1997, the Company purchased substantially all of the assets of
Mainstream Software Solutions Ltd., a corporation organized under the laws of
England primarily engaged in the business of marketing, selling, distributing
and supporting Bitstream type products in the United Kingdom. As a result,
Bitstream directly distributes its own products in the United Kingdom.
In April 1997, the Company acquired Archetype, Inc. ("Archetype"), a
Delaware corporation primarily engaged in the business of developing and
marketing server-based information management computer software for the graphic
arts industry. Archetype was founded in 1985 to develop page layout technology
to capture the look of a document in a digital "archetype". In 1991, Archetype
built up a Value Added Reseller ("VAR") distributed product line for sale
primarily to end users. Archetype's first product was InterSep(TM), an advanced
open prepress interface and print management products for raster image
processors and servers. In late 1995, Archetype introduced its second product,
MediaBank(TM), a digital asset management product that allows for the
cataloging, archiving, and management of electronic images, text and documents.
INDUSTRY BACKGROUND
Type Industry
The rapid growth in the use of personal computers, advanced software
applications and laser printers has dramatically transformed the document
creation, production and distribution process, giving rise to the widespread use
of word processing and desktop publishing applications. Underlying the growth in
word processing and desktop publishing were enabling technologies such as page
description languages, printer control languages and outline font technologies.
Adobe Systems Corporation's PostScript Type One format ("Type One"), the
original outline font technology, gained acceptance among graphic artists and
the high-end electronic publishing market due to the technology's close links to
high-resolution output devices used in service bureaus and publishing houses.
TrueType was developed by Apple Computer, Inc. ("Apple") as an alternative
outline font technology to Type One and is integrated into the Windows and
Macintosh operating systems. While capable of producing high-quality printed
images and documents, these technologies were designed to operate as part of
stand-alone systems. As a result, users were required to invest in expensive
hardware and software combinations to enable competing technologies to co-exist
and work together in the same environment. The problems presented by such
competing standards have been further complicated by the adoption of
multi-vendor client/server network architectures and the advent of new
distribution media, including the Internet, corporate intranets, and new classes
of information appliances.
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The increased use of distributed client/server network architectures in the
1990s has resulted in complex computing environments comprised of mixed
operating systems and multiple networking protocols. To create, transport, view
and print text-based digital information in such an environment, while
preserving the appearance intended by the document's author, each individual
computer must have resident on it specific font software and hardware drivers to
display or print the document as the author intended. If a user's system should
lack a particular typeface used by the author or attempt to output a document to
a device that differs from the device on which the document was originally
created, the user's end-product often lacks the appearance intended by the
creator. For example, if an output device prints a document with a font used in
substitution of the author's original font, a complete loss of original
pagination or formatting within the document can often result. Such a result
would make it difficult, if not impossible, for multiple users to review and
comment collaboratively on the same document. Difficulties in retaining text
integrity can be further complicated when users try to incorporate non-Latin
fonts such as Kanji, Greek or Hebrew, because font substitution for non-Latin
fonts is typically not available in most operating systems and output devices.
Currently, techniques used to present text and graphics are based on
existing desktop publishing technologies and, when used in new distribution
media, often result in a loss of visual integrity, degraded system performance,
or both. To efficiently deliver digital information that retains the author's
intended visual impression, computer systems must utilize enabling technologies
that reduce file size, minimize bandwidth consumption and operate reliably
across heterogeneous computing environments.
Publishing Industry
The worldwide publishing industry is undergoing significant change in
response to competitive pressures. Publishers of newspapers and magazines are
consolidating into larger organizations with multiple titles, formats and
geographic locations. Publishing enterprises are also facing competition from
alternative publishing on new media such as the Internet. Increased competition
for subscribers has resulted in a trend toward more demographically targeted
editorial, feature and advertising content. As a result, publishers are
beginning to view their content assets, such as photos, graphics, illustrations,
text and captions, as key competitive differentiators. Publishers are seeking
ways to improve the management and utilization of that content both within their
organizations and with their customers, while continuing to meet demanding time
schedules and reduce costs.
Traditionally, publishers used highly labor-intensive systems for
production of printed materials, such as manual typesetting. As computer
technology evolved during the 1960's and 1970's, publishers invested in
mainframe-based computer equipment which automated and emulated these
traditional production processes. Mainframe systems shortened the production
process but were expensive, difficult to access, inflexible to use and required
significant training, support and service.
These limitations were addressed by the widespread adoption during the late
1980's of PC-based solutions for desktop publishing that were cost-effective,
easy to use and highly flexible. For the first time, personnel across the
editorial and production process could use software to perform typesetting and
page-making functions at the desktop, bringing reporters, writers and editors
closer to the final, printed product. This software also enabled users outside
the traditional publishing industry to publish and distribute high-quality
printed materials in-house.
THE BITSTREAM SOLUTION
Bitstream products and technologies enhance the creation, management and
transport of electronic documents. These products and technologies create, view,
transport and print documents without regard to the specific computing
platforms, operating systems or resident applications used to create or view the
original document. The Company's enabling technologies including TrueDoc allow
text-based digital information to maintain its intended appearance in any
computing environment. Bitstream's enabling technologies and its TrueDoc
portable type technology allow OEMs and ISVs to embed compact, portable type
information into output devices, embedded systems, applications, Internet
authoring tools, World Wide Web browsers and other products. The Company's
application products provide innovative solutions for accelerating prepress and
Internet publishing through advanced information object management. The
Company's products decrease production costs by organizing files on the network
and tracking jobs and page elements.
STRATEGY
Bitstream's goal is to become the leading supplier of enabling technologies
and portable document products for the creation, transport, viewing and printing
of electronic documents. Key elements of the Company's strategy include the
following:
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Maintain Technology Leadership. Since its founding over 15 years ago,
Bitstream has played a leading role in the development of industry-standard type
products and enabling technologies (e.g. font processing software). Bitstream
has been actively developing font portability and compaction technology. The
Company has built substantial expertise in digital type design and production,
technical font formats, and font portability and compression software. Bitstream
intends to continue to develop or acquire technology to support its leadership
position in these areas.
Expand OEM, ISV and VAR Distribution Channels. During 1997, the Company
concentrated its efforts on the development and sale of technology and products
to OEM and ISV customers and through Value Added Resellers (VARs). The Company
believes that marketing to OEMs and ISVs and distributing its application
products through VARs provides it with the opportunity to build a base of
revenue and to minimize production, marketing and inventory costs. The Company
plans to continue to place significant emphasis on building its OEM and ISV
customer base and expanding its VAR channel.
Extend Technology to New Markets. The Company believes that certain
features of its products such as their small file and application size, high
typographic quality, performance, system scalability and cross-platform
portability will facilitate their adaptation to new and emerging markets. These
markets include the Internet, corporate intranets, embedded systems,
multi-function devices (e.g. combined printer/fax/copiers) and information
appliances. Bitstream is currently developing, adapting and marketing its
enabling technologies and type products to third parties whose products address
these new and developing markets.
Support Industry Standards. Bitstream's products and technologies have been
designed to support existing technological and typographic standards, such as
Hypertext Markup Language ("HTML"), Standard Generalized Markup Language
("SGML"), UNICODE, TrueType and Type One, and to be embedded within
full-featured products produced by OEMs and ISVs. The Company's products have
also been designed to function in multi-platform computing environments,
including Windows, UNIX and Macintosh, OS/9 and Java. The Company plans to
continue to promote the use of its products in multivendor configurations and is
a member of the World Wide Web Consortium (W3C) and the Unicode Consortium.
PRODUCTS
The Company's products and technologies consist of (i) MediaBank, a digital
asset management product that allows for the cataloging, archiving, and
management of electronic images, text and documents; (ii) InterSep OPI and
InterSep Output Manager, advanced open prepress interface and print management
products for raster image processors and servers; (iii) NuDoc(TM), an advanced
document composition technology; (iv) type products, such as libraries of type
designs (fonts) and custom type products; (v) enabling technologies, which
deliver typographic capabilities to hardware output devices and software
applications; and (vi) TrueDoc, a portable type technology providing for the
efficient distribution of text, with fidelity, in a highly compact format.
Each of the Company's major products and technologies is described in greater
detail below.
MediaBank and MediaBank Enterprise
MediaBank is a server-based information and media asset management package
that archives and tracks images, pages, text, and multi-media files on a
network. It provides all members of a publishing or print production workgroup
permissioned access to any job or job elements regardless of whether they have
been archived or are still in process. The software package consists of the
server application which can be configured for five or more users and client
software which allows users to browse the database from Macintosh or Windows
platforms. It also offers a wide range of compatibility with server platforms
such as Windows NT, Sun, RS/6000, Silicon Graphics, and Apple Network Servers.
MediaBank Enterprise, expected to be released in 1998, is an enhanced version of
MediaBank that will run as an application server on a choice of high-end,
enterprise-level databases such as Microsoft SQL server or Oracle.
InterSep OPI and InterSep Output Manager
InterSep OPI Server is an advanced Open Prepress Interface and print
manager. It offers the acceleration of OPI processing, freeing up MacOS and
Windows workstations. InterSep Output Manager is a desktop print queue manager
focused on the effective coordination of PostScript output. It displays queues,
output devices and print status information on Mac or Windows client
workstations in an easy to learn graphical display.
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NuDoc
NuDoc is an advanced document composition engine. Leveraging
object-oriented technology, NuDoc is a reusable building block for document
processing applications. NuDoc SDK object classes provide an Application
Programming Interface (API) that supports the import, editing, display, or
printing of electronic documents. One of the strengths of NuDoc is its ability
to dynamically create layout intensive pages from separate content and style
file imports. In NuDoc, a document object is made of style, content, and page
layout sub-objects. A style object contains rules that govern the form (or
appearance) of the document. Content elements such as words, images, movies,
etc. are organized into a tagged tree structure that represents the logical
organization of the information (sections, sub-sections, etc.). The W3C's
extensible markup language (XML) is the default content data representation.
Styles are represented by a set of model objects. NuDoc uses a new style file
format called Template Style Language (TSL) to represent the model objects. The
TSL styles describe the colors, fonts, and geometric rules that govern how
structured content is formatted into its visual appearance. The TSL uses a
flexible container metaphor to describe how to adjust the sizes and positions of
text, images, and other containers to result in a well designed page.
Type Products
Bitstream has developed a library of over 1,400 digital typefaces
deliverable in industry-standard font formats (such as TrueType or Type One).
Approximately 1,200 of these typefaces are for use with English or other western
European language-based computer systems. This large number of typefaces is
necessary to support OEMs and ISVs focused on the graphic arts market, who are
accustomed to having a wide variety of type designs to choose from. The
remainder of the Company's type designs are non-western language typefaces such
as Kanji, Greek, Chinese, Korean, Russian, Hebrew and Arabic that are marketed
only to OEM and ISV customers. In addition to typefaces, the Company also offers
custom type services to its customers. Depending on the needs of the client, the
Company can digitize corporate logos, modify existing typeface designs, add
special characters to typefaces and create new typefaces. The Company's custom
type services are marketed to its OEM, ISV and large corporate customers.
Bitstream has developed its own proprietary type product design software
tools. These tools enable the Company's type product engineers to develop and
expand the Company's library of type products and to generate custom type
products in an efficient and cost-effective manner. By using its own tools,
Bitstream can largely avoid licensing or paying royalties for the use of third
party development tools. In addition, the Company believes that its design tools
improve its competitive position in the marketplace by assisting the Company in
adapting its products rapidly to the specific requirements of its customers.
Enabling Technologies
The Company's enabling technologies consist of font processors (also known
as type scalers or rasterizers) in a modular architecture that provide OEM and
ISV customers with a complete type processing subsystem for integration into
their hardware or software products. Font processors are a necessary component
in laser printers and operating systems because they interpret type information
stored within a document and generate the indicated characters in the required
size and resolution as determined by the application, the output device or
user-defined specifications.
The modular architecture of the Company's "4-in-1" enabling technology
provides software hooks to allow OEMs and ISVs to incorporate font scaling
technologies into their products. The four font scaling technologies provided
for are the two industry standard font formats (TrueType and Type One), the
resident fonts used in Hewlett-Packard Company LaserJet laser printers, and a
Bitstream TrueDoc-based type rasterizer that processes Bitstream-supplied
resident font sets. In addition, this 4-in-1 architecture includes software that
routes incoming typeface data to the appropriate processor, and prepares the
final rasterized characters for imaging by an output device or computer screen.
The Company markets this technology under the name "Bitstream 4-in-1 TrueDoc
Imaging System."
Font Navigator(TM) is a powerful font management tool that allows users a
quick and easy way to find, install, and organize fonts into manageable groups.
This tool also features a way to view and print font samples.
TrueDoc
TrueDoc is a portable type compaction technology designed for the
distribution of electronic text based information. OEMs and ISVs license and
incorporate TrueDoc into their document creation and viewing products to achieve
the reliable, compact and efficient recording, transport, viewing and printing
of typographic information regardless of whether the fonts used for the original
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creation of the document are resident on the recipient's system. TrueDoc has
been engineered to be small in file and application size, to comply with all
industry font standards, and to be cross-platform compatible.
TrueDoc is composed of two main software components. The TrueDoc Character
Shape Recorder, approximately 75 kilobytes in size, captures character shapes
from a font processor, such as TrueType or Type One, and creates a portable font
resource ("PFR") that is transportable across networks or the Internet.
TrueDoc's Character Shape Player, approximately 65 kilobytes in size, recreates
the type shapes stored in the PFR and displays the text in a manner that
maintains the integrity of the original type shapes. The Company believes that
TrueDoc's small file size and efficient playback capabilities present advantages
in applications where limitations on bandwidth and memory are significant
factors.
Bitstream JET
Java-based Extendible Typography (Bitstream JET(TM)) is a complete outline
font scaling and rasterization solution for Java applets, applications, and
information. Using Bitstream JET Java programs will have access to a rich
diversity of fonts without having to rely on native methods or extension APIs.
In developing Bitstream JET, Bitstream completely redesigned the scaling and
rasterizing of outline fonts. The resulting object-oriented architecture
modularizes these two processes so that new capabilities can be plugged in.
Bitstream JET works with TrueType(R) and Postscript(TM) Type 1 fonts via
Bitstream's TrueDoc technology. Direct font format rendering (including
OpenType) is planned for future releases.
Future Products
The Company has identified other emerging and complementary areas for which
it believes its products will be well suited. Bitstream is currently developing
products to enhance the performance of text-based document creation, transport,
viewing and printing within such markets. Products under development and future
markets being addressed include:
- - TrueDoc-based utilities for the graphic arts market that address font
portability issues in the electronic delivery of desktop publishing
documents.
- - Type products, enabling technologies and versions of TrueDoc for
integration into new products and applications such as set-top boxes,
personal digital assistants and other information applications based on new
programming languages or operating systems.
- - PageFlex(TM), which is expected to be released in late 1998, is a variable
data front-end solution for driving digital presses built from modular
components and open standards. It is the first solution to use XML as the
intermediate data format between databases and the page composition
process. The output formatter is based on Bitstream's NuDoc page
composition engine. NuDoc offers control over the graphic design of page
templates while maintaining a strict separation of form from the input XML
content.
MARKETING AND SALES
The principal objective of the Company's marketing strategy is to continue
to expand the sale of (a) the Company's type products and software to OEMs and
ISVs who integrate the Company's software into their own products and (b) the
Company's application software to end users through its VAR channel. OEM and ISV
relationships range from the license of a small group of typefaces to agreements
whereby an entire range of type products and/or technologies are incorporated
into the customer's hardware or software products. As new opportunities arise,
particularly in the newly emerging areas of corporate intranets and portable
document software, the Company intends to evaluate other marketing approaches.
The Company's Type and Technology sales organization, as of March 23, 1998,
consisted of 13 people focused on OEM and ISV sales and four people focused on
corporate direct sales. The Company's Archetype Applications sales organization,
consisted of seven people focused on sales through the Company's VAR channel.
The Company's sales efforts are managed from its corporate headquarters in
Cambridge, Massachusetts. In addition, the Company maintains a European sales
headquarters in Amsterdam, The Netherlands and sales offices in San Mateo,
California, Reading, England and Cheltenham, England. Finally, the Company has a
sales agent based in Tokyo to facilitate OEM sales to Japanese hardware
manufacturers. The Company's sales personnel receive a base salary plus
commissions based on meeting annual sales targets, with additional commissions
for sales in excess of annual targets.
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The Company seeks to enhance its relationships with existing customers
through its 11 person training and technical support team that works with
customers or prospects to support sales and to facilitate the implementation and
use of the Company's software products and technologies. Marketing activities
are carried out by a team of nine people located at the Company's headquarters
in Cambridge, Massachusetts. In addition, the Company promotes its products
through attendance and exhibition at major industry trade shows.
CUSTOMERS
The Company licenses type products, enabling technologies and TrueDoc to a
wide variety of OEM and ISV customers. The Company sells custom and other type
products directly to corporate customers. The Company licenses its application
products to publishers, advertising agencies, retailers, printers, service
bureaus and other major corporations. No single Bitstream customer accounted for
10% or more of the Company's revenues for the year ended December 31, 1997. From
time to time, product sales to large customers during a single fiscal quarter
may constitute more than 10% of Company revenues for such quarter. In the
future, the Company intends to broaden its customer base through expanded
product offerings and increased marketing efforts within the OEM/ISV, corporate
and VAR channels. The Company's major customers, which are representative of the
various industry groups served by the Company, include those listed below.
OEMS AND ISVS
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Apple Computer, Inc. Corel Systems Corporation DaiNippon Screen Mfg. Co. Ltd.
Digital Equipment Corporation Hewlett-Packard Company Kyocera Corp.
Ricoh Company, Ltd. Seiko Epson Corporation Sharp Electronics Corporation
Silicon Graphics, Inc. Sony Electronics Inc. Sun Microsystems, Inc.
CORPORATE END USERS
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CNA Insurance Company Kemper Financial Services Price Waterhouse L.L.P.
PUBLISHERS AND ADVERTISING AGENCIES
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MacMillan Publishing Reader's Digest Bronner, Slosberg and Humphrey
CATALOGERS AND RETAILERS
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Ames Department Store Coupon Clipper The May Co.
Cabela's J. Crew
PRINTERS AND SERVICE BUREAUS
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Graphics Express Quebecor RR Donnelly
RESEARCH AND PRODUCT DEVELOPMENT
Bitstream is committed to developing innovative software to enhance
electronic document creation, transport, viewing and printing. To accomplish
this goal, the Company has invested, and expects to continue to invest,
significant resources in research and development. The Company's research and
development activities are centered around advancing the Company's software
products for its OEM, ISV and corporate customers and advancing products and
technologies developed by the Archetype Applications division for sale through
its VAR channel. The Company maintains specific expertise in the areas of font
formats, multi-lingual fonts, font portability, font compression and font
processing technology, digital asset management, OPI server, composition and
media technology.
The Company emphasizes cross-platform portability, small file and
application size and extensibility to new technologies in its software
development. To support these design objectives, the Company employs advanced
software development techniques. For example, the Company is developing software
using the Java programming language to adapt its products to devices and
software applications written to take advantage of Java's advanced structure and
cross-platform portability. Java versions of TrueDoc in platform specific format
are currently available for Windows and UNIX. While the Company had anticipated
releasing a Java version of TrueDoc in late 1997, the Company decided it was in
its best interest to redirect some of its research and development resources
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toward the development of other products during 1997. The Company currently
expects to have a Java version of TrueDoc that will work on all computing
platforms available in late 1998. There can, however, be no assurance that such
a version of TrueDoc will be completed in the late 1998, if at all.
COMPETITION
The markets in which the Company participates are intensely competitive,
evolving and subject to rapid technological change. The Company expects
competition to persist and increase in the future. The Company believes that
while it competes with no single organization across its entire product line, a
variety of companies offer products which compete some of its products. Certain
of the Company's competitors, including Adobe Systems Corporation and Agfa
Division, Miles Inc. ("Agfa"), have greater name recognition, a larger customer
base and significantly greater financial, technical and marketing resources than
the Company. The Company's products compete with the solutions offered by a
variety of companies, including other suppliers of enabling technologies,
software application developers, and vendors of computer operating systems.
Moreover, the market for the Company's enabling technologies and products may be
adversely impacted to the extent that computer hardware, operating system and
application software vendors incorporate similar functionality or bundle
competitive offerings with their products and thereby reduce the market for the
Company's technology or products. The Company's markets are the subject of
intense industry activity, and it is likely that a number of software developers
are devoting significant resources to developing and marketing technology and
products that may compete with the Company's technology and products.
The competition for the Company's sales of type products to OEM and ISV
customers generally comes from a number of comparably sized or smaller companies
offering their own type libraries and custom type services. Competition to the
Company's enabling technologies principally comes from Agfa with its Universal
Font Scaling Technology ("UFST"). UFST has a similar architecture to the
Company's 4-in-1 enabling technology product. The competition for TrueDoc
consists primarily of software from Agfa, which includes a font compression
technology known as MicroType Express. The competition for the Company's sales
of its digital asset management software principally comes from Cascade Systems,
Inc., the Publishing Group at Imation Enterprises Corp. and MediaManager Inc.
The competition for the Company's OPI Server principally comes from the
Publishing Group at Imation Enterprises Corp., Helios Design Laboratories and
Xinet, Inc.
The Company believes that the principal competitive factors affecting its
market include product features and functionalities, such as scalability, ease
of integration, ease of implementation, ease of use, quality, performance,
price, customer service and support, and effectiveness of sales and marketing
efforts. Although the Company believes that it currently competes effectively
with respect to such factors, there can be no assurance that the Company will be
able to maintain its competitive position against current and potential
competitors.
Future sales of the Company's products will depend upon the Company's
ability to develop or acquire, on a timely basis, new products or enhanced
versions of its existing products that compete successfully with products
offered by developers of competing technologies. There can be no assurance that
the Company will be able to compete successfully against current or future
competitors or that competitive pressures faced by the Company will not
materially adversely affect its business, financial condition and results of
operations.
INTELLECTUAL PROPERTY
The Company relies on a combination of trade secret, copyright, patent, and
trademark laws and contractual restrictions to establish and protect proprietary
rights in its technology. The Company has entered into confidentiality and
invention assignment agreements with its employees, and when obtainable, enters
into non-disclosure agreements with its suppliers, distributors and others so as
to limit access to and disclosure of its proprietary information. There can be
no assurance that these statutory and contractual arrangements will prove
sufficient to deter misappropriation of the Company's technologies or that the
Company's competitors will not independently develop non-infringing technologies
that are substantially similar to or superior to the Company's technology. The
laws of certain foreign countries in which the Company's products are or may be
developed, manufactured or licensed may not protect the Company's products or
intellectual property rights to the same extent as do the laws of the United
States and thus make the possibility of piracy of the Company's technology and
products more likely. The Company believes that, because of the rapid pace of
technological change in the software and electronic commerce markets, legal
protection for its products will be a less significant factor in the Company's
future success than the knowledge, ability and experience of the Company's
employees, the frequency of product enhancements and the ability of the Company
to satisfy its customers.
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The Company's policy is to apply for U.S. patents with respect to its
technology and seek copyright registration of its technology or trademark
registration of its marks from time to time when management determines that it
is competitively advantageous and cost effective to do so. The Company has been
granted two patents and a third is pending before the United States Patent and
Trademark Office and each is directed to certain aspects or applications of the
Company's TrueDoc technology. Additionally, the Company has sought foreign
patent rights to certain aspects of its TrueDoc technology by filing an
International Application under the Patent Cooperation Treaty.
EMPLOYEES
As of March 23, 1998, the Company employed 102 persons, including 33 in
sales and marketing, 48 in research and development and 21 in general
administrative functions. Of the Company's 102 employees, 98 are full time and 4
are part time. The Company also retains consultants from time to time to assist
it with particular projects for limited periods of time. The Company believes
that its future success will depend in part on its ability to attract, motivate
and retain highly qualified personnel. None of the Company's employees is
represented by a labor union and the Company has not experienced any work
stoppages. The Company considers its employee relations to be good.
Bitstream(R) and TrueDoc(R) are federally registered trademarks of the
Company. All other trademarks, service marks or tradenames referred to in this
Annual Report are the property of their respective owners.
ITEM 2. PROPERTIES
The Company's corporate headquarters is located in Cambridge, Massachusetts
where it currently leases approximately 27,500 square feet, of which
approximately 17,200 square feet is under a lease expiring in October 1998, with
the right to renew for an additional five years, and approximately 10,300 square
feet is under a lease amendment expiring in October 2003. Management believes
that these facilities are adequate for the Company's current needs and that
suitable additional space, should it be needed, will be available to accommodate
expansion of the Company's operations on commercially reasonable terms.
ITEM 3. LEGAL PROCEEDINGS
On May 26, 1995, The Friends of the Museum of Printing, Inc. (the "Museum")
filed a lawsuit in the Middlesex County Superior Court of Massachusetts against
the Company in connection with a letter agreement (the "Letter") dated July 23,
1992 from the Company to the Museum concerning storage of certain font materials
for the Museum. The Letter provided that the Company would have no liability to
the Museum, over and above the proceeds of insurance, for damage or loss of any
of the font materials, and that neither the Company nor the Museum would incur
any liability to the other for any loss or damage arising out of their
respective rights and obligations set forth in the Letter. The Museum alleges
that after the two-year storage period had expired, the Company disposed of the
font materials and that such conduct by the Company breached the terms of the
Letter and violated Chapter 93A of the Massachusetts General Laws, which
provides, among other things, that persons found to have engaged in an unfair or
deceptive act in the conduct of a trade or business may be liable for double or
treble damages and attorney fees. The Museum further demanded an accounting of
royalties the Museum claims are due from the Company for use of the font
materials.
On December 10, 1997, in consideration of a payment of $560,000 by the
Company's insurance carrier, of which the Company contributed $56,000, the
Museum formally released all claims it had against Bitstream in such lawsuit.
The case was dismissed with prejudice by Bitstream and the Museum on December
30, 1997.
On November 22, 1996, Mr. Robert S. Friedman, a former director and officer
of the Company, and Mr. Gordon Greer, and Ms. Faith G. Friedman, as trustees of
the Robert S. Friedman Family Trust, filed a lawsuit in the Middlesex County
Superior Court of Massachusetts against the Company, asserting that the Company
has breached certain obligations the plaintiffs allege are due to them under a
separation agreement dated May 22, 1991 (the "Separation Agreement") between Mr.
Friedman and the Company. The plaintiffs are seeking monetary damages from the
Company based on their claim that, in connection with the 1994 recapitalization
of the Company, the Company allegedly made adjustments to the stock and options
of the officers of the Company and that a provision in the Separation Agreement
entitled the plaintiffs to equivalent adjustments with respect to the stock and
options of the Company held by them. The plaintiffs further allege that the
breach by the Company resulted in a loss to them of stock and options valued at
$2.2 million. The Company believes that these claims are without merit and
intends to vigorously contest their validity.
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ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
EXECUTIVE OFFICERS OF THE COMPANY
The Company's executive officers and their ages as of March 23, 1998 are as
follows:
NAME AGE POSITION
- ----------------- --- -------------------------------------------------
Charles Ying 51 Chairman of the Board and Chief Executive Officer
John S. Collins 58 Vice President, Engineering
Wendy Darland 41 Vice President, Finance and Administration, and
Chief Financial Officer
Geoffrey W. Greve 40 Vice President, Product Development
Susan Robertson 36 Vice President and General Manager, Archetype
Applications Division
John L. Seguin 43 Vice President and General Manager, Type and
Technology Division
Paul Trevithick 38 Vice President, Marketing
- ----------
Charles Ying has been Chief Executive Officer of the Company since May 1997
and Chairman of the Board of Directors since April 1997. From January 1992 to
January 1996, Mr. Ying served as Chief Executive Officer of Information
International Inc., a corporation engaged in the business of designing,
manufacturing and marketing computer-based systems that automate document
production and publishing. Mr. Ying also serves as a member of the Board of
Directors of NodeWarrior Networks Inc., an Internet Service Provider located in
Los Angeles, California. Mr. Ying holds a B.S. and M.S. in Electrical
Engineering from Massachusetts Institute of Technology.
John S. Collins has been Vice President of Engineering since 1988. Mr.
Collins has been employed by the Company since 1986. Mr. Collins was the
inventor or a co-inventor in respect of a number of the patents held by the
Company relating to font imaging technology. He is the principal inventor of the
Company's TrueDoc technology. Mr. Collins holds a B.Sc. and a PhD in Electrical
Engineering from the University of London.
Wendy Darland has been Vice President, Finance and Administration, and
Chief Financial Officer since September 1997. From September 1993 to August
1997, Ms. Darland served as President of Xitron Inc. ("Xitron"), a wholly-owned
subsidiary of Autologic Information International Inc., a provider of high
performance Rastor Image Processing Systems ("RIPs"), print servers and custom
interfaces for the publishing industry. Prior to joining Xitron in September
1993, Ms. Darland was a consultant assisting entrepreneurs in business plan
development and raising investment capital from October 1992 to August 1993.
From September 1988 to October 1992, Ms. Darland served as Vice President,
Finance and Administration, and Chief Financial Officer of Rastor Image
Processing Systems Inc., a manufacturer of high performance RIPs for OEM
manufacturers and end users. Ms. Darland holds a B.S. in Accounting from Arizona
State University and a M.S. in Accounting from the University of Colorado at
Denver. Ms. Darland is also a Certified Public Accountant in the State of
Colorado.
Geoffrey W. Greve has been Vice President, Product Development of the
Company since February 1998. Mr. Greve has been employed by the Company since
1987 and previously served as Director of Production Control from 1990 through
May 1995 and Vice President, Type Operations from May 1995 to February 1998.
Susan Robertson has been Vice President and General Manager of the
Archetype Applications Division since the Company's acquisition of Archetype,
Inc. ("Archetype") in April 1997. Ms. Robertson was employed by Archetype since
September 1987 and previously served as Executive Vice President from September
1994 to April 1997 and Chief Operating Officer from September 1995 to April
1997. She holds a Sc.B. in Computer Science from Brown University.
John L. Seguin has been Vice President and General Manager of the Type and
Technology Division since July 1997. From August 1994 to July 1997, Mr. Seguin
served as Bitstream's Vice President, Sales and Marketing. From July 1993
through July 1994, Mr. Seguin served as Vice President and General Manager of
XLI Corp., a corporation engaged in manufacturing printer
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enhancements. From November 1987 through July 1993, he was employed by Howtek,
Inc., a corporation engaged in manufacturing color imaging products, and most
recently served as its Vice President, Sales and Marketing. Mr. Seguin holds a
B.S. in Marketing from the University of Massachusetts at Dartmouth.
Paul Trevithick has been Vice President, Marketing since the Company's
acquisition of Archetype in April 1997. Mr. Trevithick founded and was President
of Archetype since 1985. Mr. Trevithick holds a B.S.E.E. from the
Massachusetts Institute of Technology.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
MARKET INFORMATION
The Company's Class A Common Stock, $.01 par value per share ("Class A
Common Stock"), began trading publicly on the Nasdaq National Market tier of The
Nasdaq Stock Market on October 30, 1996 under the symbol "BITS." Prior to
October 30, 1996, there was no public market for Bitstream's Class A Common
Stock. The following table sets forth the high and low closing sale prices of
the Company's Class A Common Stock as reported on the Nasdaq National Market for
the period from January 1, 1997 through December 31, 1997. Such information
reflects interdealer prices, without retail markup, markdown, or commission, and
may not represent actual transactions.
HIGH LOW
---- ---
First Quarter 6 3/16 3 7/8
Second Quarter 4 3/8 2 1/2
Third Quarter 3 1 1/2
Fourth Quarter 2 3/4 1 5/8
As of March 23, 1998, the Company's Class A Common Stock was held by
approximately 82 holders of record and the Company believes that the Company's
Class A Common Stock was beneficially held by more than 500 holders. As of March
23, 1998, the Company's Class B Common Stock was not held by any holders of
record.
DIVIDENDS
The Company has never declared or paid cash dividends on its capital stock.
The Company currently intends to retain earnings, if any, to support its growth
strategy and does not anticipate paying cash dividends on its capital stock in
the foreseeable future.
RECENT SALES OF UNREGISTERED SECURITIES
During the fiscal year ended December 31, 1996, the Company issued an
aggregate of 6,833 shares of Class A Common Stock in connection with the
exercise of 6,833 vested options and warrants issued under the Company's 1994
Stock Plan. During the fiscal year ended December 31, 1997, the Company issued
an aggregate of 648,217 shares of Class A Common Stock in connection with the
exercise of 648,217 vested options and warrants issued under the Company's 1994
Stock Plan and 1996 Stock Plan.
The sales and issuances of securities in the transactions described above
were deemed to be exempt from registration under the Securities Act of 1933, as
amended, by virtue of Rule 701 promulgated thereunder, in that they were issued
either pursuant to written compensatory benefits plans or pursuant to a written
contract relating to compensation, as provided by Rule 701. In addition, on
September 30, 1997, the Company filed a Registration Statement on Form S-8 under
the Securities Act of 1933, as amended, registering up to an aggregate of
3,500,000 shares of the Company's Class A Common Stock which may be issued upon
exercise of stock options and warrants granted or which may be granted under the
Company's 1997 Stock Plan, 1996 Stock Plan and 1994 Stock Plan.
USE OF PROCEEDS
As of December 31, 1997, the net proceeds of the Company's initial public
offering (IPO) of its Class A Common Stock pursuant to its Registration
Statement on Form S-1, Commission File No. 333-11519, declared effective October
30, 1996, have been used as follows: (i) approximately $200,000 for the buildout
of Bitstream's leased facilities in Cambridge, Massachusetts to accommodate the
additional personnel that joined the Company as result of the acquisition of
Archetype; (ii) approximately $4,141,000 for the acquisition of Mainstream
Software Solutions Ltd. and Archetype, Inc.; (iii) approximately $1,500,000 for
the repayment of indebtedness, of which
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approximately $548,000 was paid to officers, directors and 10% stockholders of
the Company and approximately $762,000 of which was paid to third parties; (iv)
approximately $404,000 for royalty payments to others; and (v) approximately
$286,000 for the purchase and installation of equipment. The remaining net
proceeds of the IPO remain invested in short-term, interest-bearing,
investment-grade securities.
ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA
The selected consolidated financial data presented below as of and for the
years ended December 31, 1997, 1996, and 1995, as of and for the three months
ended December 31, 1995 and as of and for the year ended September 30, 1995 have
been derived from, and are qualified by reference to the Company's audited
consolidated financial statements included elsewhere herein. The selected
consolidated financial data presented below as of and for the years ended
September 30, 1994 and 1993 have been derived from, and are qualified by
reference to, the Company's audited financial statements, which are not included
herein. The selected consolidated statement of operations data for the three
months ended December 31, 1994 have been derived from the unaudited consolidated
financial statements of the Company, which are not included herein. In the
opinion of management, the unaudited financial statements of the Company have
been prepared on the same basis as the audited consolidated financial statements
and include all adjustments, consisting only of normal recurring adjustments,
necessary for the fair presentation of financial position and results of
operations for this period. The selected consolidated financial data set forth
below should be read in conjunction with, and are qualified by reference to, the
Consolidated Financial Statements of the Company and Notes thereto, and
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" included elsewhere in this Report, and other financial data
appearing elsewhere herein.
SELECTED CONSOLIDATED FINANCIAL DATA
YEAR ENDED THREE MONTHS ENDED YEAR ENDED
(In thousands except per share data) DECEMBER 31, DECEMBER 31, SEPTEMBER 30,
----------------------- --------------------- ------------------------------
1997 1996 1995(1) 1994(1) 1995 1994 1993
---------- ---------- ---------- ------- ----------- ------ -------
(UNAUDITED)
Consolidated Statements of Operations Data:
Revenues .................................... $ 13,102 $ 10,551 $ 2,355 $2,276 $ 8,970 $9,832 $17,430
Cost of revenues ............................ 1,518 1,858 411 273 1,579 2,299 6,276
---------- ---------- ---------- ------ ----------- ------ -------
Gross profit .............................. 11,584 8,693 1,944 2,003 7,391 7,533 11,154
---------- ---------- ---------- ------ ----------- ------ -------
Operating expenses:
Marketing and selling ..................... 6,621 4,386 978 740 3,264 3,334 9,080
Research and development .................. 2,826 1,512 331 255 1,071 1,534 3,536
General and administrative ................ 2,104 1,533 385 266 1,261 1,281 3,006
Acquired in-process research and development 4,930 -- -- -- -- -- --
Severance and other nonrecurring
compensation ............................ 1,371 -- -- -- -- -- --
Restructuring charge ...................... -- -- -- -- -- 365
---------- ---------- ---------- ------ ----------- ------ -------
Total operating expenses ............... 17,852 7,431 1,694 1,261 5,596 6,514 15,622
Operating income (loss) ..................... (6,268) 1,262 250 742 1,795 1,019 (4,468)
Other income (expense), net ................. 510 (19) 17 (2) 11 (40) (18)
Provision for (benefit from) income taxes ... 232 (94) (471) 17 118 133 319
---------- ---------- ---------- ------ ----------- ------ -------
Net income (loss) ........................... $ (5,990) $ 1,337 $ 738 $ 723 $ 1,688 $ 846 $(4,805)
========== ========== ========== ====== =========== ====== =======
Basic net income (loss) per share (2) ........ $ (0.95) $ 1.07 $ 2.36 $ 1.11
========== ========== ========== ==========
Basic weighted average shares
outstanding (2) ........................... 6,303,216 1,248,118 312,677 1,518,138
========== ========== ========== ==========
Diluted net income (loss) per share (2) ..... $ (0.95) $ 0.25 $ 0.16 $ 0.31
========== ========== ========== ==========
Weighted average common shares outstanding
and dilutive potential common shares (2) .. 6,303,216 5,404,351 4,729,976 5,008,850
========== ========== ========== ==========
(IN THOUSANDS)
AS OF DECEMBER 31, AS OF SEPTEMBER 30,
-------------------------------- ----------------------------------
1997 1996 1995(1) 1995 1994 1993
------------------------------------------------------------------------
Consolidated Balance Sheet Data:
Cash and cash equivalents................... $ 6,364 $11,718 $ 390 $ 523 $ 654 $ 1,068
Working capital (deficit)................... 9,212 14,220 1,245 881 (920) (2,266)
Total assets................................ 17,009 17,477 4,328 3,194 2,640 5,029
Long-term obligations....................... 73 99 210 124 125 17
Mandatorily redeemable convertible
preferred stock ........................... -- -- -- -- 2,311 1,204
Stockholders' equity (deficit) ............. $12,683 $15,359 $1,806 $1,066 $ (3,041) $(2,803)
- ---------------------
(1) Effective December 31, 1995, the Company changed its fiscal year end from a
fiscal year end of September 30 to a calendar year end. The fiscal year
ended December 31, 1996 commenced January 1, 1996. Because of this change
in fiscal year, the Company is presenting certain consolidated statement of
operations data for the three months ended December 31, 1994 and December
31, 1995, as well as consolidated balance sheet data as of December 31,
1995.
(2) Calculated on the basis described in Note 4 of Notes to the Consolidated
Financial Statements.
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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OVERVIEW
The Company develops, markets and supports software products and
technologies to enhance the creation, management and transport of electronic
documents. The Company is organized into two operating divisions. The Type and
Technology division primarily licenses its products, including text imaging and
page layout technologies, to original equipment manufacturers ("OEMs") and
independent software vendors ("ISVs") for inclusion in their output devices,
embedded systems, applications, Internet authoring tools, World Wide Web
browsers and other products. The Archetype Applications division develops
server-based publishing applications that are sold to publishers, advertising
agencies, and other major corporations.
In January 1997, the Company purchased substantially all of the assets
of Mainstream Software Solutions Ltd.("Mainstream"), a corporation organized
under the laws of England primarily engaged in the business of marketing,
selling, distributing and supporting the Company's type products in the United
Kingdom, for approximately $505,000. As a result, the Company directly
distributes its own products in the United Kingdom. The acquisition has been
accounted for as a purchase and approximately $450,000 of goodwill was recorded.
In April 1997, the Company acquired Archetype, Inc. ("Archetype" and
together with Mainstream, the "Acquired Subsidiaries"), a Delaware corporation
primarily engaged in the business of developing and marketing server-based
information management computer software for the graphic arts industry.
Archetype's products include: MediaBank, a digital asset management product that
allows for the cataloging, archiving, and management of electronic images, text
and documents; InterSep OPI and InterSep Output Manager, advanced open prepress
interface and print management products for raster image processors and servers;
and NuDoc, an advanced document composition technology. The merger was accounted
for as a purchase, and accordingly, the purchase price has been allocated to the
assets acquired. The operating results of Archetype have been included in the
accompanying consolidated financial statements since the date of the
acquisition.
The Company derives revenues principally from the following sources: (i)
licensing fees and royalty payments paid by OEM and ISV customers for text
imaging and page layout technologies; (ii) direct and indirect sales of software
publishing applications for the creation, enhancement, management, transport,
viewing and printing of electronic information; (iii) direct sales of custom and
other type products to end users such as graphic artists, desktop publishers and
corporations; and (iv) sales of type products to foreign customers primarily
through distributors. Royalty payments due from OEM and ISV customers, who
generally pay specified minimums or fixed fees for the right to include the
Company's products as a component of a larger product for a specified time
period or volume limit, are generally recognized as revenue at the time the
software is delivered to the OEM or ISV customer. If the royalty payments are to
be received over a period of time greater than one year, the amount recognized
is discounted to the present value of the future minimum payments. Certain OEM
and ISV customers pay royalties only upon the sublicensing of the Company's
products to end users. Royalties due from these OEM and ISV customers are
recognized when such sublicenses are reported to the Company by the OEM or ISV
customer. Revenues from sales to end users and foreign distributors are
generally recognized at the time the software products are delivered to the
customer.
Cost of revenues is comprised of direct costs of licenses and royalties, as
well as direct costs of product sales to end users. Included in cost of licenses
and royalties are fees paid to third parties for the development or license of
rights to technology and/or unique typeface designs and the costs incurred in
the fulfillment of custom orders from OEM and ISV customers. Included in cost of
product sales to end users and distributors are the direct costs associated with
the duplication, packaging and shipping of products, and any royalty fees paid
to third parties for rights to license typefaces.
Operating expenses consist primarily of sales and marketing expenses
(principally compensation and marketing programs), research and development
expenses and general and administrative expenses.
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Except for the historical information contained herein, this Annual Report
on Form 10-K may contain forward-looking statements within the meaning of
Section 27A of the Securities Act of 1933, as amended, and Section 21E of the
Securities Exchange Act of 1934, as amended. Investors are cautioned that
forward-looking statements are inherently uncertain. Actual performance and
results of operations may differ materially from those projected or suggested in
the forward-looking statements due to certain risks and uncertainties,
including, without limitation, market acceptance of the Company's products,
competition and the timely introduction of new products. Additional information
concerning certain risks and uncertainties that would cause actual results to
differ materially from those projected or suggested in the forward-looking
statements is contained in the Company's filings with the Securities and
Exchange Commission, including those risks and uncertainties discussed in the
Company's final Prospectus, dated October 30, 1996, included as part of the
Company's Registration Statement on Form S-1 (Commission File No. 333-11519), in
the section entitled "Risk Factors." The forward-looking statements contained
herein represent the Company's judgment as of the date of this report, and the
Company cautions readers not to place undue reliance on such statements.
RESULTS OF OPERATIONS
The following table sets forth the percentage of revenues represented by
certain items reflected in the Company's Statements of Operations Data for the
periods presented.
THREE MONTHS
YEAR ENDED ENDED YEAR ENDED
DECEMBER 31, DECEMBER 31, SEPTEMBER 30,
------------------------ -------------- -------------
1997 1996 1995 1995
----- ----- ----- -----
Revenues........................ 100.0% 100.0% 100.0% 100.0%
Cost of revenues................ 11.6 17.6 17.5 17.6
----- ----- ----- -----
Gross profit.................. 88.4 82.4 82.5 82.4
----- ----- ----- -----
Operating expenses:
Marketing and selling......... 50.5 41.6 41.5 36.4
Research and development...... 21.6 14.3 14.1 11.9
General and administrative.... 16.1 14.5 16.4 14.0
Acquired in-process research and development 37.6 -- -- --
Severance and other nonrecurring compensation 10.5 -- -- --
----- ----- ----- -----
Total operating expenses... 136.3 70.4 72.0 62.3
Operating income (loss)......... (47.9) 12.0 10.5 20.1
Other income (expense), net..... 3.9 (0.2) 0.8 --
----- ----- ----- -----
Provision for (benefit from) income taxes 1.8 (0.9) (20.0) 1.3
----- ----- ----- -----
Net income (loss)............... (45.7)% 12.7% 31.3% 18.8%
===== ===== ===== =====
YEAR ENDED DECEMBER 31, 1997 COMPARED TO YEAR ENDED DECEMBER 31, 1996
Revenues. Revenues for the fiscal year ended December 31, 1997 increased by
approximately $2.6 million, or 24.5%, to approximately $13.2 million compared to
approximately $10.6 million for the fiscal year ended December 31, 1996.
Revenues from product sales to OEM and ISV customers for the fiscal year ended
December 31, 1997 increased by approximately $300,000, or 3.4%, to approximately
$9.0 million, from approximately $8.7 million for the fiscal year ended December
31, 1996, as a result of an increase in the licensing of the Company's
application products to OEM and ISV customers of the Company's Acquired
Subsidiaries. Revenues from product sales to end users and distributors for the
fiscal year ended December 31, 1997 increased by $2.2 million, or 122.2%, to
$4.0 million, from $1.8 million for the fiscal year ended December 31, 1996, as
a direct result of the revenues produced by the Company's Acquired Subsidiaries.
Gross Profit. Gross profit for the fiscal year ended December 31, 1997
increased by approximately $2.9 million, or 33.3%, to approximately $11.6
million, compared to approximately $8.7 million for the fiscal year ended
December 31, 1996. The increase in gross profit was primarily a result of the
addition of the revenues of the Company's Acquired Subsidiaries as well as a
decrease in third party royalties paid on type technologies.
Marketing and Selling. Marketing and selling expenses for the fiscal year
ended December 31, 1997 increased by approximately $2.2 million, or 50.0%, to
approximately $6.6 million, compared to approximately $4.4 million for the
fiscal year ended December 31, 1996 due to the addition of the sales, marketing
and support programs of the Acquired Subsidiaries.
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Research and Development. Research and development expenses for the fiscal
year ended December 31, 1997 increased by approximately $1.3 million, or 86.7%,
to approximately $2.8 million, compared to approximately $1.5 million for the
fiscal year ended December 31, 1996. This increase reflects the costs associated
with the addition of engineering personnel from Archetype to support the
application products and the expanded development of the Company's enabling
technologies. Research and development expenses consist primarily of personnel
costs, consulting fees and fees paid for outside software development. The
Company expects to increase research and development expenditures in absolute
dollars in future periods to support development of current and future products
and technologies.
General and Administrative. General and administrative expenses for the
fiscal year ended December 31, 1997 increased by approximately $600,000, or 40%,
to approximately $2.1 million, compared to $1.5 million for the fiscal year
ended December 31, 1996. This increase mainly reflects $334,000 of goodwill
amortization related to the purchase of the Acquired Subsidiaries and an
increase in professional fees of $249,000 for public filing requirements and
litigation. General and administrative expenses principally consist of payroll
costs to executives, office, MIS and accounting personnel, as well as outside
professional fees and the amortization of goodwill of the Acquired Subsidiaries.
Acquired In-Process Research and Development. In connection with the
acquisition of Archetype, the Company allocated approximately $4.9 million of
the purchase price to in-process research and development. The in-process
research and development is related to Archetype projects that had not yet
reached technological feasibility and that, until completion of the development,
have no alternative future use. These projects were deemed to require
substantial high risk development and testing by the Company prior to reaching
technological feasibility which resulted in the determination to write-off the
acquisition costs of these projects.
Severance and Other Non-Recurring Expenses. Operating expenses for the
twelve months ended December 31, 1997 reflect $1.4 million for severance and
other non-recurring compensation expenses incurred in connection with the
acquisition of Archetype and certain severance arrangements between the Company
and certain executives.
Accounts Receivable, Net of Allowance for Doubtful Accounts. Accounts
receivable at December 31, 1997 was approximately $3.7 million as compared to
approximately $1.6 million at December 31, 1996. This $2.1 million increase
primarily includes the addition of the accounts receivable of the Acquired
Subsidiaries in 1997 and the effect of a 1996 single significant multiyear sale
which was paid earlier than standard terms within the same year.
Other Income and Expense. In the year ended December 31, 1997, the Company
recorded $510,000 of net interest income for investing cash balances acquired
from the IPO. In the year ended December 31, 1996, the Company recorded net
interest expense of $19,000.
The Company recorded a tax provision for the year ended December 31, 1997
of $232,000. This provision consists mainly of foreign tax liabilities of
$190,000 relating to sales to customers in Japan and minimum income tax
provisions of $42,000. For the fiscal year ended December 31, 1996, the Company
recorded a tax benefit of $94,000.
YEAR ENDED DECEMBER 31, 1996 COMPARED TO YEAR ENDED SEPTEMBER 30, 1995
Revenues. Revenues for the fiscal year ended December 31, 1996 increased by
approximately $1.6 million, or 17.6%, to approximately $10.6 million, compared
to approximately $9.0 million for the fiscal year ended September 30, 1995.
Revenues from product sales to OEM and ISV customers for the fiscal year ended
December 31, 1996 increased by approximately $2.4 million, or 38%, to
approximately $8.7 million, from approximately $6.3 million for the fiscal year
ended September 30, 1995, as a result of the continuing acceptance of the
Company's type products and enabling technologies by OEM and ISV customers, as
well as the license by additional OEM and ISV customers of the Company's TrueDoc
technology. Revenues from product sales to end users and distributors for the
fiscal year ended December 31, 1996 declined by $700,000, or 27%, to $1.9
million, from $2.6 million for the fiscal year ended September 30, 1995, as a
result of the Company's withdrawal from the computer software reseller channel
beginning in fiscal year 1993.
Gross Profit. Gross profit for the fiscal year ended December 31, 1996
increased by approximately $1.3 million, or 17.6%, to approximately $8.7
million, compared to approximately $7.4 million for the fiscal year ended
September 30, 1995. The increase in gross profit was due primarily to the
increase in revenues. Gross profit as a percentage of revenues remained
approximately the same for both fiscal years.
16
17
Marketing and Selling. Marketing and selling expenses for the fiscal year
ended December 31, 1996 increased by approximately $1.1 million, or 33.3%, to
approximately $4.4 million, compared to approximately $3.3 million for the
fiscal year ended September 30, 1995, due to higher levels of sales commissions
and higher levels of promotional activities in support of new product
introductions.
Research and Development. Research and development expenses for the fiscal
year ended December 31, 1996 increased $441,000, or 41.2%, to approximately $1.5
million, compared to approximately $1.1 million for the fiscal year ended
September 30, 1995. This increase reflects the costs associated with the
addition of engineering personnel to support expanded development of the
Company's enabling technologies. Research and development expenses consist
primarily of personnel costs and fees paid for outside software development and
consulting fees. The Company expects to increase research and development
expenditures in absolute dollars in future periods to support development of
current and future products and technologies.
General and Administrative. General and administrative expenses for the
fiscal year ended December 31, 1996 increased by $272,000, or 22%, to $1.5
million, compared to $1.3 million for the fiscal year ended September 30, 1995.
General and administrative expenses principally consist of payroll costs to
executives, office, MIS and accounting personnel, as well as outside
professional fees. The Company expects to increase general and administrative
expenses in absolute dollars in the future to support the Company's growth and
infrastructure.
The Company recorded a tax benefit for the year ended December 31, 1996 of
$94,000. This benefit consisted of a reduction of the valuation allowance for
deferred tax assets of $268,000, partially offset by a current tax provision of
$174,000. The reduction to the valuation allowance is primarily based upon
estimated future utilization of net operating loss carryforwards and federal tax
credits. For the fiscal year ended September 30, 1995, the Company recorded a
tax provision of $118,000, reflecting an effective tax rate of 6.5%.
LIQUIDITY AND CAPITAL RESOURCES
The Company has funded its operations primarily through the public and
private sale of equity securities, cash flow from operations, and certain bank
indebtedness.
In November 1996, the Company completed an initial public offering ("IPO")
of 2,415,000 shares of its Class A Common Stock. Net proceeds from the IPO were
approximately $12.2 million, of which approximately $1.5 million was used to
repay outstanding indebtedness.
The Company's operating activities used cash of $477,000 for the year ended
December 31, 1997 and provided cash of $487,000 for the year ended December 31,
1996. The Company's investing activities used cash of approximately $4.9
million for year ended December 31, 1997 and used cash of $866,000 for the year
ended December 31, 1996. Investing activities for the year ended December 31,
1997 consisted of approximately $4.1 million used in the acquisition of
businesses and $752,000 for the purchase of property and equipment to support
the growing employee base and corporate infrastructure.
For the year ended December 31, 1997, cash from financing activities was
approximately $16,000. For the year ended December 31, 1996, cash from
financing activities was approximately $11.7 million, including approximately
$12.2 million from the net proceeds of the IPO. As of December 31, 1997, the
Company had cash and cash equivalents of approximately $6.4 million, a decrease
of approximately $5.3 million from $11.7 million at December 31, 1996 primarily
attributable to cash paid in connection with the purchase of the Acquired
Subsidiaries and increased accounts receivable. Working capital was
approximately $9.2 million at December 31, 1997, as compared to approximately
$14.2 million at December 31, 1996.
On August 27, 1997, the Company amended its July 14, 1995 working capital
line-of-credit agreement maturing on July 15, 1998 with a bank to provide for
borrowings up to $2 million based on a percentage of qualified accounts
receivable, as defined. This line bears interest at various per annum rates
between the prime rate (8.5% as of December 31, 1997) plus 1% to 2%, as defined.
As a component of this agreement, the Company can obtain up to $250,000 in
letters of credit. Substantially all of the Company's assets are collateralized
under this agreement. No balance was outstanding under this line as of December
31, 1997.
The Company believes that the cash anticipated to be generated from
operations and current cash balances will be sufficient to meet the Company's
operating and capital requirements for at least the next 12 months. There can be
no assurance, however, that the Company will not require
17
18
additional financing in the future. If the Company were required to obtain
additional financing in the future, there can be no assurance that sources of
capital will be available on terms favorable to the Company, if at all.
The Company does not project significant capital expenditures for the year
ending December 31, 1998.
IMPACT OF YEAR 2000 ISSUE
The Year 2000 issue results from computer programs that do not
differentiate between the year 1900 and the year 2000 because they are written
using two digits rather than four to define the applicable year. If not
corrected, many computer applications could fail or create erroneous results by
or at the year 2000. The Company is in the process of updating its accounting
and information systems, where applicable, to ensure that its computer systems
are Year 2000 compliant. In addition, the Company maintains a Year 2000 expert
on its staff. The financial impact to the Company of its Year 2000 compliance
programs has not been and is not anticipated to be material to its financial
position or results of operations in any given year. While the Company does not
believe it will suffer any major effects from the Year 2000 issue, it is
possible that such effects could materially impact future financial results, or
cause reported financial information not to be necessarily indicative of future
operating results or future financial condition.
RECENT DEVELOPMENTS
On March 13, 1998, the Company made a $500,000 equity investment in
DiamondSoft, Inc., a California corporation primarily engaged in the business of
developing, marketing and distributing software tools to a variety of
professional markets. This equity investment involved the purchase of 250,000
shares of DiamondSoft's Series A Convertible Preferred Stock, which represented
twenty-five (25%) of the outstanding capital stock of Diamondsoft on an as
converted basis, at a price of $2.00 per share. In addition, pursuant to a
letter agreement with DiamondSoft dated March 17, 1998, the Company will market
DiamondSoft's FontReserve software to hardware and software developers and
DiamondSoft will license the Company's Font Navigator software to retailers and
corporate users.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The index to Financial Statements appears on page F-1, the Independent
Auditors' Report appears on page F-2, and the Financial Statements and Notes to
Financial Statements appear on pages F-3 to F-21.
ITEM 9. CHANGES AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL
DISCLOSURE
None.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Pursuant to General Instruction G(3) of Form 10-K and instruction 3 to Item
401(b), the information required by this item concerning executive officers,
including certain information incorporated herein by reference to the
information appearing in the Company's definitive Proxy Statement concerning
Directors, is incorporated by reference to the sections entitled "Proposal No. 1
- - Election of Directors" and "Board of Directors" in the Registrant's definitive
Proxy Statement for its Annual Meeting of Stockholders to be held June 9, 1998.
Certain information with regard to the executive officers of the Company is
contained in Item 4 hereof and is incorporated by reference in this Part III.
There is incorporated herein by reference to the discussion under
"Principal and Management Stockholders - Compliance with Section 16(a) of the
Securities Exchange Act of 1934" in the Company's definitive Proxy Statement
for its Annual Meeting of Stockholders to be held June 9, 1998, the information
with respect to any delinquent filings of reports pursuant to Section 16(a) of
the Securities Exchange Act of 1934.
18
19
ITEM 11. EXECUTIVE COMPENSATION
Information required by this Item is incorporated herein by reference to the
information appearing in the Company's definitive Proxy Statement for its Annual
Meeting of Stockholders to be held on June 9, 1998 under the heading "Executive
Compensation."
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Information required by this item is incorporated herein by reference to the
information appearing in the Company's definitive Proxy Statement for its Annual
Meeting of Stockholders to be held on June 9, 1998 under the heading "Principal
and Management Stockholders."
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Information required by this item is incorporated herein by reference to the
information appearing in the Company's definitive Proxy Statement for its Annual
Meeting of Stockholders to be held on June 9, 1998 under the heading "Certain
Relationships and Related Transactions."
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
1. Financial Statements.
(a) The following documents are included as part of this report:
(1) Financial Statements
Report of Independent Public Accountants
Consolidated Balance Sheets
Consolidated Statements of Operations
Consolidated Statements of Stockholders' Equity
Consolidated Statements of Cash Flows
Notes to Consolidated Financial Statements
(2) Financial Statement Schedules
None.
(3) Exhibits.
Certain of the exhibits listed hereunder have been previously filed
with the Commission as exhibits to certain registration statements and
periodic reports and are incorporated herein by reference pursuant to
Rule 411 promulgated under the Securities Act and Rule 24 of the
Commission's Rules of Practice. The location of each document so
incorporated by reference is indicated in parenthesis.
3 CERTIFICATE OF INCORPORATION AND BYLAWS
3.1.1 Restated Certificate of Incorporation of the Company
(incorporated by reference to Exhibit 3.1 to the Company's
Registration Statement on Form S-1, Registration No.
333-11519, filed on September 6, 1996).
3.1.2 Certificate of Amendment to Restated Certificate of
Incorporation of the Company (incorporated by reference to
Exhibit 3.1.2 to the Company's Annual Report on Form 10-K for
the fiscal year ended December 31, 1996).
19
20
3.2 Bylaws of the Company (incorporated by reference to Exhibit
3.2 to the Company's Registration Statement on Form S-1,
Registration No. 333-11519, filed on September 6, 1996).
4 INSTRUMENTS DEFINING THE RIGHTS OF SECURITY HOLDERS
4.1 Specimen Common Stock Certificate (incorporated by reference
to Exhibit 4.1 to the Company's Registration Statement on Form
S-1, Registration No. 333-11519, filed on September 6, 1996).
10 MATERIAL CONTRACTS
10.1 1996 Stock Plan Certificate (incorporated by reference to
Exhibit 10.1 to the Company's Registration Statement on Form
S-1, Registration No. 333-11519, filed on September 6, 1996).
10.2 1994 Stock Plan Certificate (incorporated by reference to
Exhibit 10.2 to the Company's Registration Statement on Form
S-1, Registration No. 333-11519, filed on September 6, 1996).
10.3 Agreement and Plan of Recapitalization dated October 28, 1994
(incorporated by reference to Exhibit 10.3 to the Company's
Registration Statement on Form S-1, Registration No.
333-11519, filed on September 6, 1996).
10.4 Lease between Athenaeum Group and the Company dated March 17,
1992 (incorporated by reference to Exhibit 10.4 to the
Company's Registration Statement on Form S-1, Registration No.
333-11519, filed on September 6, 1996).
10.4.1 First Lease Amendment between Athenaeum Group and the Company
dated September 7, 1993 (incorporated by reference to Exhibit
10.4.1 to the Company's Registration Statement filed on Form
S-1, Registration No. 333-11519, on September 6, 1996).
10.4.2 Second Lease Amendment between Athenaeum Group and the Company
dated July 13, 1994 (incorporated by reference to Exhibit
10.4.2 to the Company's Registration Statement on Form S-1,
Registration No. 333-11519, filed on September 6, 1996).
10.4.3 Third Lease Amendment between Athenaeum Group and the Company
dated July 15, 1996 (incorporated by reference to Exhibit
10.4.3 to the Company's Registration Statement on Form S-1,
Registration No. 333-11519, filed on September 6, 1996).
10.4.4 Fourth Lease Amendment between Athenaeum Property LLC and the
Company dated March 3, 1997 (incorporated by reference to
Exhibit 10.4.4 to the Company's Annual Report on Form 10-K for
the fiscal year ended December 31, 1996).
10.4.5 Fifth Amendment to Lease between Athenaeum Property LLC and
the Company dated April 15, 1997 (incorporated by reference to
Exhibit 10.4.5 to the Company's Quarterly Report on Form 10-Q
for the quarter ended June 30, 1997).
10.4.6 Sixth Amendment to Lease between Athenaeum Property LLC and
the Company dated June 6, 1997 (incorporated by reference to
Exhibit 10.4.6 to the Company's Quarterly Report on Form 10-Q
for the quarter ended June 30, 1997).
10.5 First Amendment to Credit Agreement dated August 29, 1997
between BankBoston, N.A. and Company (incorporated by
reference to Exhibit 10.4.6 to the Company's Quarterly Report
on Form 10-Q for the quarter ended September 30, 1997).
10.5.1 Amended and Restated Revolving Credit Note dated August 29,
1997 between BankBoston, N.A. and the Company (incorporated by
reference to Exhibit 10.4.6 to the Company's Quarterly Report
on Form 10-Q for the quarter ended September 30, 1997).
10.6 Bridge Loan Agreement, dated February 22, 1996 among the
Company and certain bridge lenders named therein (incorporated
by reference to Exhibit 10.5 to the Company's Registration
Statement on Form S-1, Registration No. 333-11519, filed on
September 6, 1996).
10.6.1 Amendment to Loan Agreement and to Waiver and Subordination
Agreements dated August 22, 1996 among the Company and certain
bridge lenders named therein. Agreements dated August 22, 1996
among the Registrant and certain bridge lenders named therein
(incorporated by reference to Exhibit 10.5.1 to the Company's
Registration Statement on Form S-1, Registration No.
333-11519, filed on September 6, 1996).
10.6.2 Amendment No. 2 to Loan Agreement and to Waiver and
Subordination Agreements dated October 9, 1996 among the
Company and certain bridge lenders named therein (incorporated
by reference to Exhibit 10.5.2 to Pre-effective Amendment No.
1 to the Company's Registration Statement on Form S-1,
Registration No. 333-11519, filed on October 15, 1996).
#10.7 Software License Agreement between Novell, Inc. and the
Company, dated as of September 6, 1996 (incorporated by
reference to Exhibit 10.6 to the Company's Registration
Statement on Form S-1, Registration No. 333-11519, filed on
September 6, 1996).
20
21
#10.8 Agreement between Tumbleweed Software Corporation and the
Company dated as of June 10, 1996 (incorporated by reference
to Exhibit 10.6 to the Company's Registration Statement on
Form S-1, Registration No. 333-11519, filed on September 6,
1996).
10.9 Agreement dated as of May 1, 1996 among the Company and James
D. Hart (incorporated by reference to Exhibit 10.8 to the
Company's Registration Statement on Form S-1, Registration No.
333-11519, filed on September 6, 1996).
10.10 Form of Indemnification Agreement between the Company, its
directors and certain of its officers (incorporated by
reference to Exhibit 10.9 to Pre-effective Amendment No. 1 to
the Company's Registration Statement on Form S-1, Registration
No. 333-11519, filed on October 15, 1996).
10.11 Agreement and Plan of Merger dated as of March 27, 1997 among
the Company, Archetype Acquisition Corporation and Archetype,
Inc. (incorporated by reference to Exhibit 10.10 to the
Company's Annual Report on Form 10-K for the fiscal year ended
December 31, 1996).
10.12 1997 Stock Plan (incorporated by reference to Exhibit 10.11 to
the Company's Annual Report on Form 10-K for the fiscal year
ended December 31, 1996).
11 COMPUTATION OF EARNINGS PER SHARE
*11.1 Computation of Earnings Per Share
21 SUBSIDIARIES OF REGISTRANT
*21.1 Subsidiaries of the Company
27 FINANCIAL DATA SCHEDULE
*27.1 Financial Data Schedule
# Pursuant to Rule 406 under the Securities Act, the Company requested
confidential treatment as to certain provisions.
* Filed herewith.
(b) REPORTS ON FORM 8-K
None.
21
22
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed on
its behalf by the undersigned thereunto duly authorized, in the City of
Cambridge, Commonwealth of Massachusetts on this 31st day of March, 1998.
BITSTREAM INC.
By: /s/ Charles Ying
---------------------------
Charles Ying
Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed by the following persons on behalf of the Registrant
and in the capacities and on the dates indicated.
SIGNATURE TITLE DATE
--------- ----- ----
/s/ Charles Ying Chairman of the Board, Director and March 31, 1998
- ------------------------------- Chief Executive Officer (Principal
Charles Ying Executive Officer)
/s/ Wendy Darland Vice President, Finance and March 31, 1998
- ------------------------------- Administration, Chief Financial
Wendy Darland Officer, Treasurer and Assistant
Secretary (Principal Financial
Officer and Principal Accounting
Officer)
/s/ Amos Kaminski Director March 31, 1998
- -------------------------------
Amos Kaminski
/s/ David G. Lubrano Director March 31, 1998
- -------------------------------
David G. Lubrano
/s/ George B. Beitzel Director March 31, 1998
- -------------------------------
George B. Beitzel
22
23
INDEX TO FINANCIAL STATEMENTS
PAGE
CONSOLIDATED FINANCIAL STATEMENTS OF BITSTREAM INC. AND SUBSIDIARIES
Report of Independent Public Accountants................................ F-2
Consolidated Balance Sheets as of December 31,1997
and December 31, 1996................................................. F-3
Consolidated Statements of Operations for the Years Ended
December 31, 1997 and 1996, Three Months Ended December 31, 1995
and for the Year Ended September 30, 1995............................. F-4
Consolidated Statements of Stockholders' Equity (Deficit) .............. F-5
Consolidated Statements of Cash Flows for the Years Ended
December 31, 1997 and 1996, Three Months Ended December 31, 1995
and for the Year Ended September 30, 1995............................ F-6
Notes to Consolidated Financial Statements.............................. F-7
F-1
24
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To Bitstream Inc.:
We have audited the accompanying consolidated balance sheets of Bitstream
Inc. (a Delaware corporation) and subsidiaries as of December 31, 1997 and 1996,
and the related consolidated statements of operations, stockholders' equity and
cash flows for the years ended December 31, 1997 and December 31, 1996, for the
three-month period ended December 31, 1995 and for the year ended September 30,
1995. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these consolidated
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Bitstream
Inc. and subsidiaries as of December 31, 1997 and 1996, and the results of their
operations and their cash flows for the years ended December 31, 1997 and
December 31, 1996, for the three-month period ended December 31, 1995 and for
the year ended September 30, 1995, in conformity with generally accepted
accounting principles.
/s/ Arthur Andersen LLP
-------------------------
Arthur Andersen LLP
Boston, Massachusetts
March 2, 1998
(Except for the matters
discussed in Note 17
for which the date is
March 13, 1998).
F-2
25
BITSTREAM INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
DECEMBER 31,
------------------------------
1997 1996
---- ----
ASSETS
Current assets:
Cash and cash equivalents ........................................ $ 6,364,000 $11,718,000
Accounts receivable, net of allowance for doubtful accounts ...... 3,694,000 1,552,000
Current portion of long-term accounts receivable and extended
plan accounts receivable, net of allowance for doubtful accounts 1,855,000 1,667,000
Deferred income taxes ............................................ 868,000 868,000
Other current assets ............................................. 684,000 434,000
----------- -----------
Total current assets ........................................ 13,465,000 16,239,000
----------- -----------
Property and equipment, net ........................................ 1,399,000 924,000
----------- -----------
Other assets
Long-term accounts receivable, net of current portion ............ 39,000 123,000
Goodwill, net of amortization .................................... 1,948,000 --
Other assets ..................................................... 158,000 191,000
2,145,000 314,000
----------- -----------
Total assets ................................................ $17,009,000 $17,477,000
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Current maturities of capital lease obligations................ 28,000 36,000
Accounts payable............................................... 753,000 513,000
Accrued expenses............................................... 3,472,000 1,470,000
----------- -----------
Total current liabilities................................. 4,253,000 2,019,000
----------- -----------
Capital lease obligations, less current maturities............... 54,000 79,000
----------- -----------
Other long-term liabilities...................................... 19,000 20,000
----------- -----------
Stockholders' equity
Common stock................................................... 65,000 59,000
Additional paid-in capital..................................... 29,940,000 26,637,000
Accumulated deficit............................................ (17,283,000) (11,293,000)
Cumulative translation adjustment.............................. (39,000) (44,000)
----------- -----------
Total stockholders' equity.................................. 12,683,000 15,359,000
----------- -----------
Total liabilities and stockholders' equity................ $17,009,000 $17,477,000
=========== ===========
The accompanying notes are an integral part of these consolidated financial
statements.
F-3
26
BITSTREAM INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
THREE MONTHS YEAR
ENDED ENDED
YEAR ENDED DECEMBER 31, DECEMBER 31, SEPTEMBER 30,
1997 1996 1995 1995
----------- ----------- ---------- -----------
Revenues .......................................... $13,102,000 $10,551,000 $2,355,000 $ 8,970,000
Cost of revenues.................................. 1,518,000 1,858,000 411,000 1,579,000
----------- ----------- ---------- -----------
Gross profit................................... 11,584,000 8,693,000 1,944,000 7,391,000
Operating expenses:
Marketing and selling.......................... 6,621,000 4,386,000 978,000 3,264,000
Research and development....................... 2,826,000 1,512,000 331,000 1,071,000
General and administrative..................... 2,104,000 1,533,000 385,000 1,261,000
Acquired in-process research and development... 4,930,000 -- --
Severance and other nonrecurring compensation.. 1,371,000 -- -- --
----------- ----------- ---------- -----------
Total operating expenses................... 17,852,000 7,431,000 1,694,000 5,596,000
Operating income (loss)........................... (6,268,000) 1,262,000 250,000 1,795,000
Other income (expense), net....................... 510,000 (19,000) 17,000 11,000
----------- ----------- ---------- -----------
Income (Loss) before provision for
(benefit from) income taxes................... (5,758,000) 1,243,000 267,000 1,806,000
Provision for (benefit from) income taxes........ 232,000 (94,000) (471,000) 118,000
----------- ----------- ----------- -----------
Net income (loss)......................... $(5,990,000) $ 1,337,000 $ 738,000 $ 1,688,000
=========== =========== ========== ===========
Basic net income (loss) per share................ $ (0.95) $ 1.07 $ 2.36 $ 1.11
=========== =========== ========== ===========
Weighted average shares outstanding.............. 6,303,216 1,248,118 312,677 1,518,138
=========== =========== ========== ===========
Diluted net income (loss) per share.............. $ (0.95) $ 0.25 $ 0.16 $ 0.31
=========== =========== ========== ===========
Weighted average common shares outstanding and
dilutive common share equivalents............. 6,303,216 5,404,351 4,729,976 5,008,850
=========== =========== ========== ===========
The accompanying notes are an integral part of these consolidated financial
statements.
F-4
27
BITSTREAM INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
CONVERTIBLE
PREFERRED STOCK COMMON STOCK
----------------- -------------------- ADDITIONAL CUMULATIVE
NUMBER $.01 NUMBER $.01 PAID-IN ACCUMULATED TRANSLATION
OF SHARES PAR VALUE OF SHARES PAR VALUE CAPITAL DEFICIT ADJUSTMENT
--------- --------- --------- --------- ------- ------- ----------
BALANCE,
SEPTEMBER 30, 1994 ....... 3,052,647 $31,000 1,759,230 $18,000 $12,277,000 $(15,056,000) $(50,000)
Accretion of Series H and
Series I mandatorily
redeemable convertible
preferred stock to
redemption value ....... -- -- -- -- (133,000) -- --
Net adjustment to reflect
the recapitalization of
the Company ............ 121,090 1,000 (1,446,553) (15,000) 2,305,000 -- --
Net income ............... -- -- -- -- -- 1,688,000 --
---------- ------- ---------- ------- ----------- ----------- -------
BALANCE,
SEPTEMBER 30, 1995 ........ 3,173,737 32,000 312,677 3,000 14,449,000 (13,368,000) (50,000)
Cumulative translation
adjustment ............. -- -- -- -- -- -- 2,000
Net income ............... -- -- -- -- -- 738,000 --
---------- ------- ---------- ------- ----------- ----------- -------
BALANCE,
DECEMBER 31, 1995 ......... 3,173,737 32,000 312,677 3,000 14,449,000 (12,630,000) (48,000)
Exercise of stock options
and warrants ........... -- -- 6,833 -- 5,000 -- --
Cumulative translation
adjustment ............. -- -- -- -- -- -- 4,000
Conversion of convertible
preferred stock into common
stock ................... (3,173,737) (32,000) 3,173,737 32,000 -- -- --
Sale of 2,415,000 shares of
common stock in initial
public offering, net of
issuance costs of
$1,269,000 .............. -- -- 2,415,000 24,000 12,183,000 -- --
Net income ................ -- -- -- -- -- 1,337,000 --
---------- ------- ---------- ------- ----------- ----------- -------
BALANCE,
DECEMBER 31, 1996 .......... -- -- 5,908,247 59,000 26,637,000 (11,293,000) (44,000)
---------- ------- ---------- -------- ------------ ------------ ---------
Exercise of stock options
and warrants ............ -- -- 137,895 1,000 124,000 -- --
Issuance of Class A common
stock upon merger ........ -- -- 510,322 5,000 1,602,000 -- --
IPO related expenses ...... -- -- -- -- (68,000) -- --
Issuance of options
upon merger ............. -- -- -- -- 1,400,000 -- --
Options issued for
severance .............. -- -- -- -- 245,000 -- --
Cumulative translation
adjustment ............ -- -- -- -- -- -- 5,000
Net loss .................. -- -- -- -- -- (5,990,000) --
---------- ------- ---------- -------- ------------ ------------ ---------
BALANCE,
DECEMBER 31, 1997 .......... -- $ -- 6,556,464 $ 65,000 $ 29,940,00 $(17,283,000) $(39,000)
========== ======= ========== ======== ============ ============ ========
Total
Shareholders'
Treasury Notes Equity
Stock Receivable (Defict)
-------- ---------- ------------
BALANCE,
SEPTEMBER 30, 1994 ........ $(247,000) $(14,000) $(3,041,000)
Accretion of Series H and
Series I mandatorily
redeemable convertible
preferred stock to
redemption value ........ -- -- (133,000)
Net adjustment to reflect
the recapitalization of
the Company ............. 247,000 14,000 2,552,000
Net income ................ -- -- 1,688,000
--------- ------- -----------
BALANCE,
SEPTEMBER 30, 1995 ......... -- -- 1,066,000
Cumulative translation
adjustment .............. -- -- 2,000
Net income ................ -- -- 738,000
--------- ------- -----------
BALANCE,
DECEMBER 31, 1995 .......... -- -- 1,806,000
Exercise of stock options
and warrants ............ -- -- 5,000
Cumulative translation
adjustment .............. -- -- 4,000
Conversion of convertible
preferred stock into common
stock ................... -- -- --
Sale of 2,415,000 shares of
common stock in initial
public offering, net of
issuance costs of
$1,269,000 .............. -- -- 12,207,000
Net income ................ 1,337,000
--------- -------- -----------
BALANCE,
DECEMBER 31, 1996 ......... -- -- 15,359,000
--------- -------- -----------
Exercise of stock options
and warrants ........... -- -- 125,000
Issuance of Class A common
stock upon merger ....... -- -- 1,607,000
IPO related expenses ..... -- -- (68,000)
Issuance of options
upon merger ............ -- -- 1,400,000
Options issued for
severance .............. -- -- 245,000
Cumulative translation
adjustment ............. -- -- 5,000
Net loss ................. -- -- (5,990,000)
--------- -------- -----------
BALANCE,
DECEMBER 31, 1997 .......... $ -- $ -- $12,683,000
========== ====== ===========
The accompanying notes are an integral part of these consolidated financial
statements.
F-5
3
28
BITSTREAM INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
THREE MONTHS
ENDED YEAR ENDED
YEARS ENDED DECEMBER 31, DECEMBER 31, SEPTEMBER 30,
1997 1996 1995 1995
------------- ------------ ------------ ------------
Cash Flows from Operating Activities:
Net income (loss) ............................. $ (5,990,000) $ 1,337,000 $ 738,000 $ 1,688,000
Adjustments to reconcile net income to net cash
provided by (used in) operating activities--
Depreciation and amortization ................. 831,000 292,000 36,000 214,000
Acquired in-process research and development .. 4,930,000 -- -- --
Deferred income tax benefit ................... -- (268,000) (600,000) --
Net loss (gain) on disposal of property and
equipment, net ............................... 1,000 (7,000) (22,000) (14,000)
Issuance of common stock for services rendered -- -- -- 108,000
Options issued for severance .................. 245,000 -- -- --
Changes in assets and liabilities --
Accounts receivable ......................... (1,676,000) 294,000 (613,000) (754,000)
Long-term and extended plan accounts
receivable .............................. (253,000) (1,026,000) 205,000 96,000
Other current assets ........................ (37,000) (240,000) (34,000) 24,000
Accounts payable ............................ -- 47,000 (333,000) (453,000)
Accrued expenses ............................ 1,472,000 58,000 319,000 (661,000)
------------ ------------ ------------ ------------
Net cash provided by (used in) operating
activities................................. (477,000) 487,000 (304,000) 248,000
------------ ------------ ------------ ------------
Cash Flows from Investing Activities:
Purchase of property and equipment ............ (747,000) (679,000) (140,000) (197,000)
Acquisition of businesses, net of cash
acquired .................................... (4,141,000) -- -- --
Proceeds from sale of property and equipment .. -- -- 24,000 60,000
Decrease in other assets ...................... (5,000) (187,000) 1,000 --
------------ ------------ ------------ ------------
Net cash used in investing activities ......... (4,893,000) (866,000) (115,000) (137,000)
------------ ------------ ------------ ------------
Cash Flows from Financing Activities:
Proceeds from long-term debt and capital lease
obligations ................................ -- 324,000 300,000 --
Proceeds from line of credit .................. -- 100,000 -- --
Payments on line of credit .................... -- (400,000) -- --
Proceeds from debt to stockholders ............ -- 600,000 -- --
Payments on debt to stockholders .............. -- (600,000) -- --
Payments on long-term debt and capital lease
obligations ................................. (39,000) (527,000) (26,000) (244,000)
Change in other long-term liabilities ......... (1,000) (2,000) 12,000 2,000
Payments on IPO offering expenses ............. (68,000) -- -- --
Proceeds from sale of common stock ............ -- 12,207,000 -- --
Proceeds from the exercise of stock options and
warrants .................................... 124,000 5,000 -- --
------------ ------------ ------------ ------------
Net cash provided by (used in) financing
activities ................................. 16,000 11,707,000 286,000 (242,000)
------------ ------------ ------------ ------------
Net Increase (Decrease) in Cash and Cash
Equivalents ...................................... (5,354,000) 11,328,000 (133,000) (131,000)
Cash and Cash Equivalents, beginning of period ... 11,718,000 390,000 523,000 654,000
------------ ------------ ------------ ------------
Cash and Cash Equivalents, end of period ......... $ 6,364,000 $ 11,718,000 $ 390,000 $ 523,000
============ ============ ============ ============
Supplemental Disclosure of Cash Flow Information:
Cash paid for interest ........................ $ 8,000 $ 29,000 $ 6,000 $ 16,000
============ ============ ============ ============
Cash paid for income taxes .................... $ -- $ 41,000 $ 93,000 $ 5,000
============ ============ ============ ============
Supplemental Schedule for Non-Cash Investing
and Financing Activities:
Assumed liabilities from Archetype
acquisition ................................. $ 1,094,000 $ -- $ -- $ --
============ ============ ============ ============
Shares and options issued in Archetype
acquisition ................................. 510,000 -- -- --
============ ============ ============ ============
Warrants and options issued in Archetype
acquisition ................................. 605,000 -- -- --
============ ============ ============ ============
The accompanying notes are an integral part of these consolidated financial
statements.
F-6
29
BITSTREAM INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(1) OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES
Bitstream Inc. and subsidiaries (the "Company") develop and market software
products and technologies to enhance the creation, transport, viewing and
printing of electronic documents.
The Company primarily licenses its products and technologies to original
equipment manufacturers ("OEMs"), and independent software vendors ("ISVs") for
inclusion in their output devices, embedded systems, applications, Internet
authoring tools, World Wide Web browsers and other products. The Company
generally enters into a license with such customers and charges a combination of
licensing fees and royalty payments. In addition, the Company sells custom and
other type products and application products directly and indirectly to end
users such as graphic artists, publishers, advertising agencies and
corporations.
In fiscal year 1993, the Company decided to curtail product distribution
through the computer software reseller channel and to concentrate the efforts of
the Company on the development and sale of technology and products to OEM and
ISV customers. In conjunction with this shift in strategic focus, the Company
reorganized its operations, changed its senior management and restructured the
Company's type design group. During November 1994, the Company consummated a
plan of recapitalization (see Note 12(a)).
The Company is subject to risks common to technology-based companies,
including dependence on key personnel, rapid technological change, competition
from alternative product offerings and larger companies, and challenges to the
development and marketing of commercial products and services.
The accompanying consolidated financial statements reflect the application
of certain accounting policies as described in this note and elsewhere in the
accompanying consolidated financial statements and notes. The preparation of the
accompanying consolidated financial statements required the use of certain
estimates by management in determining the Company's assets, liabilities,
revenues and expenses. Actual results may differ from these estimates.
(a) Principles of Consolidation
The accompanying consolidated financial statements include the accounts of
the Company and its wholly owned subsidiaries, Bitstream World Trade, Inc. (a
Delaware corporation), a holding company for Bitstream, B.V. (a Dutch
corporation); Bitstream S.A.R.L. (a French corporation); Bitstream B.V. France
(a French corporation); Mainstream Software Solutions Ltd. (an English
corporation) and Archetype, Inc. (a Delaware corporation). All material
intercompany transactions and balances have been eliminated in consolidation.
(b) Revenue Recognition
Through September 30, 1997, the Company recognized revenue in accordance
with the provisions of Statement of Position 91-1 (SOP 91-1), Software Revenue
Recognition. The Company adopted Statement of Position 97-2 (SOP 97-2), Software
Revenue Recognition, effective October 1, 1997. The adoption of SOP 97-2 did not
have a material effect on the results of the Company's operations or financial
position. The Company generates revenue from licensing the rights to include its
software products in the products and software of OEMs and ISVs as well as the
licensing of its software products to end users through direct and indirect
sales channels. Certain OEM and ISV customers irrevocably contract to pay a
minimum royalty amount over a defined period in exchange for the right to
sublicense a certain number of the Company's software products over a specified
period. Other OEMs and ISVs elect to pay royalties on a pay-as-you-go basis
based on the sublicensing of the Company's software products to end users.
Revenue from guaranteed minimum royalty licenses is recognized upon
delivery of the software, while revenue on pay-as-you-go licenses is recognized
in the period when sublicenses to end users are reported to the Company by the
OEM or ISV customer. In certain guaranteed minimum royalty licenses, the Company
will enter into extended payment programs with creditworthy customers. If the
payments from the customer are to be received over a period greater than one
year, revenue is discounted to the present value of future minimum payments. To
date, the Company has not experienced any material collection difficulties with
the extended payment program receivables.
F-7
30
Revenue from end user product sales is recognized upon delivery of the
software, net of estimated returns and allowances, if there are no significant
post delivery obligations and if collection is probable. Revenue from
maintenance contracts is recognized pro rata over the term of the contract.
Cost of revenues consists of costs to distribute the product, including the
cost of the media on which it is delivered and internal production costs
incurred in the fulfillment of custom orders. Additional costs include fees paid
to third parties for the development of unique typeface designs and costs
associated with fulfilling maintenance contracts.
(c) Research and Development Expenses
The Company has evaluated the establishment of technological feasibility of
its products in accordance with Statement of Financial Accounting Standards
(SFAS) No. 86, Accounting for the Costs of Computer Software To Be Sold, Leased
or Otherwise Marketed. The Company sells products in a market that is subject to
rapid technological change, new product development and changing customer needs.
The time period during which costs could be capitalized from the point of
reaching technological feasibility until the time of general product release is
very short, and consequently, the amounts that could be capitalized are not
material to the Company's financial position or results of operation. Therefore,
the Company has charged all such costs to research and development in the period
incurred.
(d) Cash and Cash Equivalents
As of December 31, 1997, cash and cash equivalents consisted of
approximately $1.14 million of bank deposits, approximately $302,000 of money
market instruments and approximately $4.9 million of commercial paper. The
Company considers all highly liquid investments with original maturities of
three months or less at the time of acquisition to be cash equivalents and
records such investments at cost.
(e) Property and Equipment, Net
Property and equipment are stated at cost, less accumulated depreciation and
amortization. Property and equipment, net, consists of the following:
December 31,
------------------------------
1997 1996
---------- ----------
Equipment and computer software............ $ 2,738,000 $2,283,000
Equipment and computer software under
capital lease........................... 423,000 433,000
Furniture and fixtures..................... 255,000 235,000
Leasehold improvements..................... 755,000 505,000
----------- ----------
4,171,000 3,456,000
Less -- Accumulated depreciation
and amortization ..................... 2,772,000 2,532,000
----------- ----------
$ 1,399,000 $ 924,000
=========== ==========
Depreciation is provided on a straight-line basis over the estimated useful
lives of the related assets principally as follows:
Asset Classification Estimated Useful Life
------------------------------------------ ---------------------
Equipment and computer software........... 3 Years
Equipment and computer software under
capital lease........................... Life of lease
Furniture and fixtures.................... 5 Years
Leasehold improvements.................... Life of lease
F-8
31
(f) Financial Instruments
The estimated fair value of the Company's financial instruments, which
include cash equivalents, accounts receivable and long-term debt, approximates
their carrying value. The accounts receivable balances in the accompanying
consolidated financial statements are presented net of the following allowances
for doubtful accounts and sales returns:
December 31,
---------------------------
1997 1996
---------- ----------
Accounts receivable ................... ($245,000) ($217,000)
Current portion of long-term accounts
receivable and extended plan accounts
receivable .......................... (207,000) (60,000)
--------- ---------
($452,000) ($277,000)
========= =========
(g) Foreign Currency Translation
The financial statements of the Company's foreign operations are translated
in accordance with SFAS No. 52, Foreign Currency Translation.
(h) Postretirement Benefits
The Company had no obligations under SFAS No. 106, Employers' Accounting for
Postretirement Benefits Other Than Pensions, as it does not currently offer such
benefits.
(i) Concentration of Credit Risk
The Company has no significant off-balance-sheet concentration of credit
risk such as foreign exchange contracts, option contracts or other foreign
hedging arrangements.
For the years ended December 31, 1996 and 1997, no single customer accounted
for 10% or greater of the Company's revenues, respectively.
(j) Delaware Reincorporation, Amendment to Certificate of Incorporation
On May 21, 1996, the Company was reincorporated in the State of Delaware.
Every three shares of common and convertible preferred stock of the
Massachusetts company were exchanged for two shares of common and convertible
preferred stock, respectively, of the Delaware company. On November 4, 1996, the
Company filed an amendment to its Certificate of Incorporation changing its
authorized capital to be as follows: 30,500,000 shares of Common Stock, $0.01
par value, (30,000,000 of which are authorized shares of Class A Common Stock
and 500,000 of which are authorized shares of Class B Common Stock), and
6,000,000 shares of preferred stock, $0.01 par value. All share and per share
information has been restated to reflect these transactions.
(k) Goodwill, Net
Goodwill is stated at cost, less accumulated amortization, and consists of
the following:
December 31,
--------------------------
1997 1996
---------- ----------
Goodwill - Acquisition of Mainstream Software
Solutions Ltd. ............................. $ 450,000 $ --
Goodwill - Acquisition of Archetype, Inc. .... 1,832,000 --
---------- ---------
2,282,000 --
Less-- Accumulated amortization .............. 334,000 --
--------- ---------
$1,948,000 $ --
========== =========
Goodwill is amortized on a straight-line basis over the estimated useful
life of 5 years.
F-9
32
(l) Impairment of Long-Lived Assets
The Company periodically assesses the realizability of its long-lived assets
in accordance with SFAS No. 121, Accounting for the Impairment of Long-Lived
Assets and for Long-Lived Assets to be Disposed Of. Based on this review, the
Company does not believe any material impairment of its long-lived assets has
occurred.
(2) FISCAL YEAR CHANGE
Effective December 31, 1995, the Company changed its financial reporting
year-end from September 30 to December 31. The condensed consolidated statements
of operations for the three months ended December 31, 1994 and 1995 are
presented in the following table for comparative purposes:
Three Months Ended
December 31,
--------------------------
1995 1994
---------- -----------
(UNAUDITED)
Revenues................................... $2,355,000 $2,276,000
Gross profit............................... 1,944,000 2,003,000
Operating expenses......................... 1,694,000 1,261,000
---------- ---------
Income before provision for (benefit from)
income taxes............................ 267,000 740,000
---------- ---------
Income tax provision (benefit)............. (471,000) 17,000
---------- ---------
Net income....................... $ 738,000 $ 723,000
========== =========
(3) RECENTLY ISSUED ACCOUNTING STANDARDS
In July 1997, the FASB issued SFAS No. 130, Reporting Comprehensive Income.
SFAS No. 130 establishes standards for reporting and display of comprehensive
income and its components in a full set of general purpose financial statements,
in order to measure all changes in equity of an enterprise that result from
transactions and other economic events of the period other than transactions
with owners. Comprehensive income, as defined by SFAS No. 130, is the total of
net income and all other non-owner changes in equity. Under SFAS No. 130,
companies would include the cumulative total of comprehensive income as a
separate component of its stockholders' equity statement. This statement is
effective for fiscal years beginning after December 15, 1997, and is applicable
on both an interim and annual basis.
In July 1997, the FASB issued SFAS No. 131, Disclosures About Segments of
an Enterprise and Related Information. SFAS No. 131 requires certain financial
and supplementary information to be disclosed on an annual and interim basis for
each reportable segment of an enterprise. Reportable segments, as defined by
this statement, correspond to the way management organizes units and evaluates
performance internally, and may be based upon products, geography, legal entity,
management structure or a combination of these methods. SFAS No. 131 is
effective for years beginning after December 15, 1997.
The Company believes that the adoption of the recently issued accounting
standards will not have a material impact on its financial results or financial
position.
(4) NET INCOME (LOSS) PER SHARE
In 1997, the Company adopted SFAS No. 128, Earnings Per Share, effective
December 15, 1997. SFAS No. 128 established standards for computing and
presenting earnings per share and applies to entities with publicly held common
stock or potential common stock. The Company has applied the provisions of SFAS
No. 128 and S.E.C. Staff Accounting Bulletin (SAB) No. 98 retroactively to all
periods presented. Diluted net loss per share for the year ended December 31,
1997 is the same as basic net loss per share as the inclusion of the potential
common stock equivalents would be antidilutive.
F-10
33
The following is a reconciliation of shares outstanding for basic and
diluted earnings per share:
THREE
YEAR YEAR MONTHS YEAR
ENDED ENDED ENDED ENDED
DECEMBER 31, DECEMBER 31, DECEMBER 31, SEPTEMBER 30,
1997 1996 1995 1995
----------- ----------- ----------- ----------
Shares outstanding for basic earnings (loss) per share:
Weighted average shares outstanding.................. 6,303,216 1,248,118 312,677 1,518,138
--------- --------- --------- ---------
Shares outstanding for diluted earnings per share:
Weighted average shares outstanding.................. 6,303,216 1,248,118 312,677 1,518,138
Dilutive effect of options issued to employees....... -- 1,197,039 987,253 987,253
Dilutive effect of warrants issued to employees...... -- 327,822 256,309 256,309
Shares issuable upon conversion of preferred stock....... -- 2,631,372 3,173,737 2,247,150
--------- --------- --------- ---------
6,303,216 5,404,351 4,729,976 5,008,850
--------- --------- --------- ---------
Options and warrants excluded as they are antidilutive... 2,847,227 95,998 174,156 153,158
--------- --------- --------- ---------
Calculations of basic and diluted net income (loss) per common share are as
follows:
THREE
YEAR YEAR MONTHS YEAR
ENDED ENDED ENDED ENDED
DECEMBER 31, DECEMBER 31, DECEMBER 31, SEPTEMBER 30,
1997 1996 1995 1995
----------- ----------- ----------- ------------
Net income (loss).................................... ($5,990,000) $1,337,000 $738,000 $1,688,000
Accretion of preferred stock discount................ -- -- -- (133,000)
----------- ---------- -------- ----------
Net income (loss) applicable to common
shareholders...................................... ($5,990,000) $1,337,000 $738,000 $1,555,000
----------- ---------- -------- ----------
Basic net income (loss) per common share............. (0.95) 1.07 2.36 1.11
----------- ---------- -------- ----------
Diluted net income (loss) per common share........... (0.95) 0.25 0.16 0.31
----------- ---------- -------- ----------
(5) ACQUISITIONS
MAINSTREAM ACQUISITION
In January 1997, the Company purchased substantially all of the assets of
Mainstream Software Solutions Ltd., a corporation organized under the laws of
England primarily engaged in the business of marketing, selling, distributing
and supporting the Company's type products in the United Kingdom, for
approximately $505,000. As a result, the Company directly distributes its own
products in the United Kingdom. The acquisition was accounted for as a purchase
and resulted in approximately $450,000 of goodwill.
ARCHETYPE ACQUISITION
In April 1997, the Company acquired Archetype, Inc. ("Archetype"), a
Delaware corporation primarily engaged in the business of developing and
marketing server-based information management computer software for the graphic
arts industry, pursuant to an Agreement and Plan of Merger, dated March 27, 1997
among the Company, Archetype, and Archetype Acquisition Corporation, a newly
organized wholly owned subsidiary of the Company. Archetype's products include:
MediaBank, a digital asset management product that allows for the cataloging,
archiving, and management of electronic images, text and documents; InterSep OPI
and InterSep Output Manager, advanced open prepress interface and print
management products for raster image processors and servers; and NuDoc, an
advanced document composition technology.
F-11
34
In connection with the Merger, Archetype stockholders received an aggregate
of approximately $1.3 million in cash and 510,000 shares of the Company's Class
A Common Stock in exchange for their shares of Archetype capital stock. In
addition, the Company satisfied approximately $1.8 million of obligations and
indebtedness owed by Archetype, and issued options and warrants (the "Options")
to purchase approximately 605,000 shares of the Company's Class A Common Stock,
in order to induce the former Archetype employees and other persons receiving
such Options to become employees of, or perform certain services for, the
Company and/or to replace certain outstanding options and warrants issued by
Archetype. Of these options, 405,000 have an exercise price of $.90 per share
and were issued under the Company's 1996 Stock Plan and the remaining 200,000
have an exercise price of $3.94 per share and were issued under the Company's
1997 Stock Plan.
The Merger was accounted for as a purchase, and accordingly, the initial
purchase price and acquisition costs aggregating approximately $7.5 million has
been allocated to the assets acquired as described below. The aggregate purchase
price of $7,454,000 consisted of the following:
DESCRIPTION AMOUNT
----------- ------
Common stock and stock options......... $ 2,904,000
Cash paid to shareholders and for the
retirement of certain obligations.. 3,056,000
Assumed liabilities.................... 1,094,000
Acquisition costs...................... 400,000
-----------
Total purchase price................... $ 7,454,000
===========
The purchase price allocations represent the fair values of assets acquired
determined by an independent appraisal. The appraisal incorporated established
valuation procedures and techniques in determining the fair value of each asset.
The purchase price has been allocated as follows:
DESCRIPTION AMOUNT
----------- ------
Current assets....................... $ 431,000
Property, plant and equipment........ 207,000
Other assets......................... 54,000
In-process research and development.. 4,930,000
Other acquired intangible assets..... 1,832,000
-----------
Total assets acquired................ $ 7,454,000
===========
The amount allocated to in-process research and development related to
projects that had not yet reached technological feasibility and that, until
completion of the development, had no alternative future use. These projects
will require substantial high risk development and testing by the Company prior
to reaching technological feasibility. Accordingly, the Company charged the
purchase price to operations in the year ended December 31, 1997.
Based on the unaudited data, the following table presents selected financial
information for Bitstream and Archetype on a pro forma basis, assuming the
companies had been combined since the beginning of 1996.
YEAR ENDED YEAR ENDED
DECEMBER 31, DECEMBER 31,
1997 1996
-------------- -------------
REVENUES................................ $ 14,164,000 $ 13,552,000
Net Income (loss)..................... (1,703,000) 915,000
Basic Net Income (loss) per share..... $ (0.26) $ 0.52
The pro forma results are not necessarily indicative of future operations or
the actual results that would have occurred had the acquisition been made on
January 1, 1996. The pro forma amounts exclude the $4,930,000 write-off of
in-process research and development.
F-12
35
(6) SEVERANCE AND OTHER NON-RECURRING EXPENSES
Operating expenses for the twelve months ended December 31, 1997 reflect
$1.4 million for severance and other non-recurring compensation expenses
incurred in connection with the acquisition of Archetype and certain severance
arrangements between the Company and certain executives.
(7) INCOME TAXES
The Company accounts for income taxes in accordance with SFAS No. 109,
Accounting for Income Taxes. A reconciliation between the provision for income
taxes computed at statutory rates and the amount reflected in the accompanying
consolidated statements of operations is as follows:
THREE MONTHS
ENDED YEAR ENDED
YEAR ENDED DECEMBER 31, DECEMBER 31, SEPTEMBER 30,
1997 1996 1995 1995
----------- --------- --------- ----------
Computed expected federal tax
provision (benefit) ........................... $(1,958,000) $ 422,000 $ 91,000 $ 614,000
State income taxes, net of federal benefit ....... (345,000) 75,000 29,000 112,000
State and foreign net operating loss carryforwards -- (13,000) (23,000) (102,000)
Foreign losses not benefited ..................... 195,000 4,000 71,000 19,000
Foreign withholding taxes ........................ 190,000 109,000 92,000 108,000
Nondeductible write off of in-process R & D and
other ............................................ 2,052,000 -- -- --
Nondeductible goodwill amoritization.............. 98,000 -- -- --
Domestic net operating loss carryforwards ........ -- (423,000) (131,000) (633,000)
Change in valuation allowance .................... -- (268,000) (600,000) --
----------- --------- --------- -----------
$ 232,000 $ (94,000) $(471,000) $ 118,000
=========== ========= ========= ==========
The following is a summary of the provision for (benefit from) income taxes.
THREE MONTHS
ENDED YEAR ENDED
YEAR ENDED DECEMBER 31, DECEMBER 31, SEPTEMBER 30,
1997 1996 1995 1995
---------- ---------- ----------- ----------
Federal --
Current........... $ 36,000 $ 40,000 $ 31,000 $ 8,000
Deferred.......... -- (228,000) (510,000) --
---------- ---------- ----------- ----------
36,000 (188,000) (479,000) 8,000
---------- ---------- ----------- ----------
State --
Current........... 6,000 25,000 6,000 2,000
Deferred.......... -- (40,000) (90,000) --
---------- ---------- ----------- ----------
6,000 (15,000) (84,000) 2,000
---------- ---------- ----------- ----------
Foreign --
Current........... 190,000 109,000 92,000 108,000
Deferred.......... -- -- -- --
---------- ---------- ----------- ----------
190,000 109,000 92,000 108,000
---------- ---------- ----------- ----------
$ 232,000 $ (94,000) $ (471,000) $ 118,000
========== ========== =========== ==========
F-13
36
The significant items comprising the deferred tax asset are as follows:
DECEMBER 31,
1997 1996
----------- -----------
Assets --
Net operating loss carryforwards...... $ 3,869,000 $ 3,374,000
Tax credit carryforwards................ 2,340,000 2,244,000
Other temporary differences.............. 1,065,000 471,000
----------- -----------
Gross deferred tax asset........ 7,274,000 6,089,000
Valuation allowance................... (6,406,000) (5,221,000)
----------- -----------
Net deferred tax asset........ $ 868,000 $ 868,000
=========== ===========
At December 31, 1997, the Company has available federal and state net
operating loss carryforwards for income tax purposes and federal and state tax
credit carryforwards to reduce future federal income taxes, if any. The table
below includes $2,540,000 of NOLs established by Archetype prior to its
acquisition by the Company. Utilization of the Archetype NOLs is subject to
certain annual limitations in accordance with certain tax laws and regulations.
These net operating loss and tax credit carryforwards are subject to review and
possible adjustment by the Internal Revenue Service and expire as follows:
DECEMBER 31,
CREDIT NOLs
---------- -----------
1998 2,000 --
1999 4,000 --
2000 40,000 --
2001 96,000 20,000
2002 192,000 256,000
2003 250,000 174,000
2004 265,000 183,000
2005 101,000 --
2006 366,000 599,000
2007 113,000 488,000
2008 311,000 6,783,000
2009 187,000 1,129,000
2010 151,000 --
2011 153,000 --
2012 109,000 --
---------- -----------
$2,340,000 $ 9,632,000
========== ===========
The Tax Reform Act of 1986 (the Reform Act) limits the amount of net
operating loss and credit carryforwards which companies may utilize in any one
year in the event of cumulative changes in ownership over a three-year period in
excess of 50%. The Company has assessed its status with respect to these
ownership changes which have occurred over the last three years, as well as the
change of ownership interests with the initial public offering and the
acquisition of Archetype, Inc., and believes that its ability to utilize its
existing net operating loss and credit carryforwards will not be materially
affected as a result of these changes in ownership interests.
The Company has established a valuation allowance against its deferred tax
asset to the extent that it believes it is more likely than not these assets
will not be realized. In determining the amount of valuation allowance required,
the Company considers numerous factors, including historical profitability,
estimated future taxable income and the volatility of the industry in which it
operates.
F-14
37
(8) ACCRUED EXPENSES
Accrued expenses consist of the following:
DECEMBER 31,
1997 1996
---------- ----------
Accrued royalties.................... $ 737,000 $ 535,000
Payroll and other compensation....... 790,000 326,000
Deferred Revenue..................... 216,000 83,000
Other................................ 1,729,000 526,000
---------- ----------
$3,472,000 $1,470,000
========== ==========
Reclassifications have been made in prior year amounts to conform with the
current year's presentation.
(9) DEBT
(a) Line of Credit
On August 29, 1997, the Company amended its July 14, 1995 working capital
line-of-credit agreement maturing on July 15, 1998 with a bank to provide for
borrowings up to $2,000,000 based on a percentage of qualified accounts
receivable, as defined. This line bears interest at various per annum rates
between the prime rate (8.5% as of December 31, 1997) plus 1% to 2%, as defined.
As a component of this agreement, the Company can obtain up to $250,000 in
letters of credit. Substantially all of the Company's assets are collateralized
under this agreement. No balance was outstanding under this line as of December
31, 1997. Prior to the August 29, 1997 amendment, the working capital
line-of-credit agreement, which was previously amended on March 18, 1996,
provided for borrowings up to $1,000,000 based on a percentage of qualified
accounts receivable.
(b) Capital Leases
The Company leases certain equipment under capital leases expiring through
fiscal 2000. These capital lease payments are due in equal monthly installments
and bear interest at rates ranging from 9% to 14.25%. Future minimum lease
payments under the capital lease obligations as of December 31, 1997 are as
follows:
Year Amount
--------------------------------------- -------
1998 .................................. $31,000
1999 .................................. 31,000
2000 .................................. 31,000
-------
Total minimum lease payments .... 93,000
Less -- Amount representing interest .. 11,000
-------
Capital lease obligations ..... 82,000
Less -- Current portion ............... 28,000
-------
$54,000
=======
(c) Subordinated Notes Payable to Stockholders
On February 22, 1996, the Company entered into agreements with certain
parties including certain directors and principal stockholders, pursuant to
which the Company borrowed an aggregate amount of $600,000. In connection with
these note payable agreements, the Company agreed to pay the principal amount
borrowed plus simple interest at 12% per annum on August 22, 1996. On August 22,
1996, the Company entered into an amendment to the notes pursuant to which the
maturity date was extended to October 22, 1996. On October 9, 1996, the Company
entered into a further amendment to the notes pursuant to which the maturity
date was extended to December 22, 1996. These notes were subordinate to all
other debt facilities. On November 4, 1996, the Company repaid all amounts due
under these notes and the notes were canceled.
(10) OPERATING LEASES
The Company conducts its operations in leased facilities and is obligated to
pay monthly rent plus real estate taxes and certain operating expenses through
October, 2003. Rent expense charged to operations for the year ended September
30, 1995, the three months ended December 31, 1995 and the years ended December
31, 1996 and 1997 was approximately $244,000, $54,000,
F-15
38
$270,000, and $545,000.
On July 1, 1997, in accordance with the terms and conditions of a Sixth
Amendment to Lease dated June 6, 1996, the Company extended its option on 17,174
square feet to October 1, 1998, and obtained additional space of 10,324 square
feet of space through October 1, 2003 in its Cambridge, Massachusetts facility
to permit for the relocation of the Archetype application group from Archetype's
previous location in Burlington, Massachusetts.
The future minimum annual rent commitment as of December 31, 1997 under the
Company's leased facilities is as follows:
Year Amount
---- ---------
1998 $ 417,000
1999 216,000
2000 217,000
2001 217,000
2002 217,000
2003 162,000
----------
$1,446,000
==========
(11) CONTINGENT LIABILITIES
On May 26, 1995, The Friends of the Museum of Printing, Inc. (the "Museum")
filed a lawsuit in the Middlesex County Superior Court of Massachusetts against
the Company in connection with a letter agreement (the "Letter") dated July 23,
1992 from the Company to the Museum concerning storage of certain font materials
for the Museum. The Letter provided that the Company would have no liability to
the Museum, over and above the proceeds of insurance, for damage or loss of any
of the font materials, and that neither the Company nor the Museum would incur
any liability to the other for any loss or damage arising out of their
respective rights and obligations set forth in the Letter. The Museum alleges
that after the two-year storage period had expired, the Company disposed of the
font materials and that such conduct by the Company breached the terms of the
Letter and violated Chapter 93A of the Massachusetts General Laws, which
provides, among other things, that persons found to have engaged in an unfair or
deceptive act in the conduct of a trade or business may be liable for double or
treble damages and attorney fees. The Museum further demanded an accounting of
royalties the Museum claims are due from the Company for use of the font
materials.
On December 10, 1997, in consideration of a payment of $560,000 by the
Company's insurance carrier, of which the Company contributed $56,000, the
Museum formally released all claims it had against the Company in such lawsuit.
The case was dismissed with prejudice by the Company and the Museum on December
30, 1997.
On November 22, 1996, Mr. Robert S. Friedman, a former director and officer
of the Company, and Mr. Gordon Greer, and Ms. Faith G. Friedman, as trustees of
the Robert S. Friedman Family Trust, filed a lawsuit in the Middlesex County
Superior Court of Massachusetts against the Company, asserting that the Company
has breached certain obligations the plaintiffs allege are due to them under a
separation agreement dated May 22, 1991 (the "Separation Agreement") between Mr.
Friedman and the Company. The plaintiffs are seeking monetary damages from the
Company based on their claim that, in connection with the 1994 recapitalization
of the Company, the Company allegedly made adjustments to the stock and options
of the officers of the Company and that a provision in the Separation Agreement
entitled the plaintiffs to equivalent adjustments with respect to the stock and
options of the Company held by them. The plaintiffs further allege that the
breach by the Company resulted in a loss to them of stock and options valued at
$2.2 million. The Company believes that these claims are without merit and
intends to vigorously contest their validity.
The Company is self-insured for health costs to its employees up to an
annual aggregate amount of approximately $240,000, of which the Company has
fully reserved for as of December 31, 1997, after which the Company's insurance
carrier pays for all additional claims.
F-16
39
(12) STOCKHOLDERS' EQUITY
(a) Recapitalization
As a result of the reorganization of the Company's operations (see Note 1),
on November 21, 1994, the Company filed an amendment to its articles of
incorporation pursuant to a recapitalization plan approved by the Company's
Board of Directors and stockholders. Pursuant to the recapitalization, the
Company authorized 20,000,000 shares of Class A convertible common stock (Class
A Common Stock), 1,333,333 shares of Class B convertible common stock (Class B
Common Stock), 2,792,580 shares of Class A convertible preferred stock (Class A
Preferred Stock) and 391,162 shares of Class B convertible preferred stock
(Class B Preferred Stock) all having a par value of $.01 per share. In
connection with this recapitalization, (i) all outstanding shares of existing
Class A Common Stock, Class B Common Stock and Class A, B, C and D Convertible
Preferred Stock were converted into 281,813 shares of Class A Common Stock; (ii)
all outstanding shares of Class C Convertible Common Stock and Class E
Convertible Preferred Stock were converted into 30,864 shares of Class B Common
Stock; (iii) all outstanding shares of Class F Convertible Preferred Stock and
Class H and I Mandatorily Redeemable Convertible Preferred Stock were converted
into 2,782,575 shares of Class A Preferred Stock; and (iv) all outstanding
shares of Class G Convertible Preferred Stock were converted into 391,162 shares
of Class B Preferred Stock. In addition, the Board of Directors received 120,000
shares of Class A Common Stock valued at $108,000.
On October 30, 1996, upon the effective date of an underwritten public
offering of common stock all shares of Class A and B Preferred Stock were
automatically converted into an equal number of shares of Class A Common Stock
and Class B Common Stock, respectively. The number of common shares issued upon
conversion was as follows:
OUTSTANDING AS CONVERTED
----------- ------------
Class A Common ............... 288,646 3,071,221
Class B Common ............... 30,864 422,026
Class A Preferred ............ 2,782,575 --
Class B Preferred ............ 391,162 --
(b) Convertible Preferred Stock
All of the outstanding shares of Class A Preferred Stock and Class B
Preferred Stock were converted into the same number of shares of Class A Common
Stock and Class B Common Stock, respectively, on October 30, 1996, the effective
date of the IPO (see Note 12(d)).
Convertible preferred stock consisted of the following:
THREE MONTHS
YEAR ENDED ENDED YEAR ENDED
DECEMBER 31, DECEMBER 31, SEPTEMBER 30,
1997 1996 1995 1995
------ ------ ------------- ------------
Convertible preferred stock, Class A, $.01 par value --
Authorized -- 2,792,580 shares at September 30, 1995, and
December 31, 1995 and no shares at December 31, 1996 and
December 31, 1997 .............................................. $ -- $ -- $ -- $ --
Issued and outstanding -- 2,782,575 shares in 1995
and no shares in 1996 and 1997............................... -- -- 28,000 28,000
Convertible preferred stock, Class B, $.01 par value --
Authorized -- 391,162 shares at September 30, 1995 and
December 31, 1995 and no shares at December 31, 1996 and
December 31, 1997 ............................................. -- -- -- --
Issued and outstanding -- 391,162 shares in 1995
and no shares in 1996 and 1997............................... -- -- 4,000 4,000
------ ------ ------- -------
$ -- $ -- $32,000 $32,000
====== ====== ======= =======
(c) Common Stock
Class A Common stockholders have full voting rights. Class A Common
Stockholders have the option, at any time, to convert any or all shares of Class
A Common Stock held into an equal number of shares of Class B Common Stock. The
Class B Common Stock has rights similar to Class A Common Stock, except it is
nonvoting. The Class B Common stockholders have the option to convert any or all
shares of Class B Common Stock held into an equal number of shares of Class A
Common Stock, to the extent such stockholder and its affiliates shall be
permitted to own, control or have the power to vote such Class A Common Stock
under any law, rule or regulation at the time applicable to such stockholder or
its affiliates.
F-17
40
COMMON STOCK
-----------------------------------------------
CLASS A CLASS B
-----------------------------------------------
NUMBER $.01 NUMBER $.01
OF SHARES PAR VALUE OF SHARES PAR VALUE
--------- --------- --------- ---------
September 30, 1995 and December 31, 1995........... 281,813 $ 3,000 30,864 $ --
Initial public offering......................... 2,415,000 24,000 -- --
Conversion of convertible preferred stock....... 2,782,575 28,000 391,162 4,000
Exercise of stock options and warrants.......... 6,833 -- -- --
--------- ------- ------- -------
December 31, 1996.................................. 5,486,221 $55,000 422,026 $ 4,000
--------- ------- ------- -------
Exercise of stock options and warrants.......... 137,895 1,000 -- --
Issuance for acquisition of Archetype........... 510,322 5,000
Conversion of Class B to Class A Common Stock... 422,026 4,000 (422,026) (4,000)
--------- ------- -------- -------
December 31, 1997 ................................ 6,556,464 $65,000 -- $ --
--------- ------- -------- -------
(d) Initial Public Offering
In November 1996, the Company completed an initial public offering ("IPO")
of 2,415,000 shares of its Class A Common Stock at $6.00 per share. Net proceeds
from the IPO were approximately $12.2 million, of which approximately $1.5
million was used to repay outstanding indebtedness.
(e) Stock Option Plans
On September 30, 1997, the Company filed a Registration Statement on Form
S-8 under the Securities Act of 1933, as amended, relating to the issuance of up
to an aggregate of 3,500,000 shares of the Company's Class A Common Stock, par
value $.01 per share, pursuant to stock options and warrants granted or which
may be granted under the Company's 1997 Stock Plan, 1996 Stock Plan and 1994
Stock Plan.
On March 10, 1997, the Board of Directors adopted the 1997 Stock Plan under
which the Company is authorized to grant warrants, incentive stock options and
nonqualified stock options to purchase shares of Class A Common Stock. Options
granted under this plan are exercisable at such price as shall be determined by
the Board of Directors at the time of grant which, in the case of incentive
stock options, shall be no less than 100% of the fair market value of the shares
on the date of grant and expire no later than 10 years from the date of grant.
In addition, the 1997 Stock Plan provides that options granted thereunder,
subject to future vesting, shall immediately vest upon the occurrence of certain
events, such as the sale of all or substantially all of the assets of the
Company or a change in control of the Company. As of December 31, 1997, 704,500
options had been granted under the 1997 Stock Plan. A total of 1,000,000 shares
of Class A Common Stock has been reserved for issuance under the 1997 Stock
Plan.
On May 1, 1996, the Board of Directors adopted the 1996 Stock Plan under
which the Company is authorized to grant incentive stock options and
nonqualified stock options to purchase shares of Class A Common Stock. Options
granted under this plan are exercisable at such price as shall be determined by
the Board of Directors at the time of grant which, in the case of incentive
stock options, shall be no less than 100% of the fair market value of the shares
on the date of grant and expire no later than 10 years from the date of grant.
In addition, the 1996 Stock Plan provides that options granted thereunder,
subject to future vesting, shall immediately vest upon the occurrence of certain
events, such as the sale of all or substantially all of the assets of the
Company or a change in control of the Company. As of December 31, 1997, 458,264
options had been granted under the 1996 Stock Plan. A total of 666,667 shares of
Class A Common Stock has been reserved for issuance under the 1996 Stock Plan.
In connection with the recapitalization, the Board of Directors approved the
1994 Stock Plan (the 1994 Plan) under which the Company is authorized to grant
incentive stock options and nonqualified stock options (including warrants) to
purchase up to 1,833,333 shares of Class A Common Stock. Incentive stock options
granted under the 1994 Plan must be granted at no less than fair market value of
the shares at the date of grant, expire no later than 10 years from the date of
grant and vest over periods of up to three years.
As a result of the recapitalization, certain former employees holding stock
options for the purchase of an aggregate of 300,645 shares of Class A Common
Stock, at a price range of $.75 to $5.63 per share, had their existing options
F-18
41
adjusted to purchase an aggregate of 20,043 shares of Class A Common Stock, at
a price range of $11.25 to $84.38 per share. In addition, certain then current
employees who held stock options agreed to cancel their options to purchase
221,188 shares of Class A Common Stock at $.75 per share, in exchange for the
issuance of new options to purchase 1,371,811 shares of Class A Common Stock at
$.90 per share.
As of December 31, 1997, the Company had available for issuance, stock
options to purchase 377,515 shares of Class A Common Stock pursuant to the 1994
Stock Plan.
On December 7, 1992, the Company adopted the 1993 Nonqualified Stock Option
Plan (the 1993 Plan). Options outstanding under the 1993 Plan as of December 31,
1997 are exercisable immediately, expire no later than 10 years from the date of
grant and were granted at no less than the fair market value on the date of
grant, as determined by the Board of Directors. Since the date of the
recapitalization, the Company has not granted, and does not intend to grant, any
additional options under the 1993 Plan.
Information concerning activity under these plans is as follows:
NUMBER
OF SHARES OPTION PRICE
------------ ------------
Outstanding September 30, 1994 ....................... 522,033 .75
Decrease for adjusted options ....................... (300,845) .75 - 5.63
Increase for adjusted options ....................... 20,043 11.25 - 84.38
Canceled ............................................ (221,188) .75
Granted ............................................. 1,425,811 .90 - 1.50
--------- -------------
Outstanding, September 30, 1995 ...................... 1,445,854 .90 - 84.38
Canceled ........................................... (7,627) 1.50
Granted ............................................ 21,000 3.00
--------- -------------
Outstanding, December 31, 1995 ....................... 1,459,227 .90 - 84.38
Exercised .......................................... (1,333) .90
Canceled ........................................... (5,341) 1.50 - 84.38
Granted ............................................ 21,266 3.00
--------- -------------
Outstanding, December 31, 1996 ....................... 1,473,819 .90 -84.38
Exercised .......................................... (137,895) .90 - 1.50
Canceled ........................................... (248,070) .90 - 4.94
Granted ............................................ 1,162,764 .90 - 4.94
--------- -------------
Outstanding, December 31, 1997 ....................... 2,250,618 .90 -84.38
Exercisable, December 31, 1997 ....................... 1,261,037 .90 -84.38
Weighted average exercise price of all options ....... 2.23
Weighted average exercise price of options
exercisable ......................................... 2.08
(f) Warrants
All unexercised warrants issued prior to the recapitalization remained
outstanding, subject to their initial vesting and expiration terms. Shares
purchasable upon the exercise of these warrants have been adjusted to reflect
the effect of the recapitalization. No warrants were exercised during the year
ended December 31, 1997. Additionally in 1997, the Company issued new warrants
under the 1994 Plan for the purchase of 150,000 shares of Class A Common Stock
at $ .90 - $4.94 per share, which vest in annual increments over a three year
period, to several members of the Company's management team and Board of
Directors and an affiliate to the Board of Directors. The Company will recognize
compensation expense associated with the warrants over the three year period. As
of December 31, 1997, warrants to purchase the following classes of stock
remained outstanding.
F-19
42
NUMBER OF NUMBER OF
SHARES WARRANTS
STOCK CLASS PURCHASABLE EXERCISABLE EXERCISE PRICE
-------------------- ----------- ----------- ---------------
Class A Common Stock 583,571 433,571 $.90 - 111.15
Class B Common Stock 13,038 13,038 $ 22.50
(g) Stock-Based Compensation -- Pro Forma Disclosure
The Company accounts for its stock-based compensation plans for employees under
APB Opinion No. 25, Accounting for Stock Issued to Employees. In October 1995,
The Financial Accounting Standards Board issued SFAS No. 123, Accounting for
Stock-Based Compensation, which is effective for fiscal years beginning after
December 15, 1995. SFAS No. 123 establishes a fair-value based method of
accounting for stock-based compensation plans. The Company has adopted the
disclosure-only alternative for grants to employees, which requires disclosure
of the pro forma effects on earnings and earnings per share as if SFAS No. 123
had been adopted for employee grants, as well as certain other information.
The Company has computed the pro forma disclosures required under SFAS No. 123
for all 1995, 1996, and 1997 stock options granted to employees as of December
31, 1997 using the Black Scholes option pricing model prescribed by
SFAS No. 123.
Assumptions used and the weighted average information are as follows:
YEAR ENDED YEAR ENDED THREE MONTHS ENDED YEAR ENDED
DECEMBER 31, DECEMBER 31, DECEMBER 31, SEPTEMBER 30,
1997 1996 1995 1995
------------ ------------ ------------------- --------------
Risk-free interest rates........ 6.21%-6.71% 5.72%-5.82% 5.70%-6.18% 6.71%-7.91%
Expected dividend yield......... -- -- -- --
Expected lives.................. 10 years 10 years 3 - 10 years 5 - 10 years
Expected volatility............. 95% 61% 61% 61%
The total value of the options granted to employees during the year ended
September 30, 1995, three months ended December 31, 1995, and years ended
December 31, 1996 and 1997 was computed as $1,284,000, $59,000, $48,000 and
$1,826,000, respectively. Of these amounts, $1,133,000, $68,000, $84,000 and
$587,000 would be charged to operations for the years ended September 30, 1995,
three months ended December 31,1995, and years ended December 31, 1996 and 1997,
respectively. The remaining amount of $1,344,000 would be amortized over the
remaining vesting periods.
The effect of applying SFAS No 123 would be as follows:
YEAR ENDED YEAR ENDED THREE MONTHS ENDED YEAR ENDED
DECEMBER 31, 1997 DECEMBER 31, 1996 DECEMBER 31, 1995 SEPTEMBER 30, 1995
----------------- ----------------- ----------------- ------------------
Pro Forma Net Income (Loss) .......... ($6,576,000) $1,251,000 $670,000 $555,000
Pro Forma Diluted Net Income (Loss)
per Share........................... ($1.04) $0.25 $0.17 $0.16
Pro Forma Basic Net Income (Loss) per
Share................................. ($1.04) $1.74 $2.14 $0.47
F-20
43
(13) EMPLOYEE BENEFIT PLAN
The Company has an employee benefit plan under Section 401(k) of the
Internal Revenue Code. The plan allows employees to make contributions up to a
specified percentage of their compensation. Under the plan, the Company may, but
is not obligated to, match a portion of the employee's contribution up to a
defined maximum. The Company contributed $121,000, $32,000, $6,000 and $26,000
for the years ended December 31, 1997 and 1996, the three-month period ended
December 31, 1995 and the year ended September 30, 1995, respectively.
(14) RELATED PARTY TRANSACTIONS
An employee of a company which is an affiliate of a member of the Company's
Board of Directors (the "Affiliate") rendered financial advisory services to the
Company on an as-needed basis. As compensation for the services rendered, the
Company paid the Affiliate a monthly fee and reimbursed the Affiliate for
reasonable expenses incurred by the Affiliate and/or the employee in connection
with the performance of services to the Company. From January 1, 1996 through
April 30, 1996, the Company paid the affiliate $10,000 per month for such
services. From May 1, 1996 to August 30, 1997, the affiliate was an employee of
the Company.
Effective August 30, 1997, the employee terminated his employment with the
Company.
(15) OTHER INCOME (EXPENSE), NET
Other income (expense), net, consists of the following:
THREE
YEAR ENDED YEAR ENDED MONTHS ENDED YEAR ENDED
DECEMBER 31, DECEMBER 31, DECEMBER 31, SEPTEMBER 30,
1997 1996 1995 1995
------------ ----------- ------------ ------------
Interest income $ 522,000 $ 97,000 $ 2,000 $ 11,000
Interest expense (9,000) (113,000) (7,000) (16,000)
Other.......... (3,000) (3,000) 22,000 16,000
------------ ---------- --------- ---------
$ 510,000 ($ 19,000) $ 17,000 $ 11,000
============ ========== ========= ==========
(16) GEOGRAPHICAL INFORMATION
The Company's export sales from the United States to customers in foreign
countries are as follows:
THREE
YEAR ENDED YEAR ENDED MONTHS ENDED YEAR ENDED
DECEMBER 31, DECEMBER 31, DECEMBER,31, SEPTEMBER 30,
1997 1996 1995 1995
---------- ---------- ---------- -----------
Europe $1,942,000 $2,599,000 $ 775,000 $2,407,000
Japan 2,336,000 911,000 548,000 1,177,000
Canada 1,184,000 1,188,000 28,000 894,000
Other 317,000 192,000 7,000 73,000
---------- ---------- ---------- ----------
$5,779,000 $4,890,000 $1,358,000 $4,551,000
========== ========== ========== ===========
(17) SUBSEQUENT EVENTS
On March 13, 1998, the Company made a $500,000 equity investment in
DiamondSoft, Inc., a California corporation primarily engaged in the business
of developing, marketing and distributing software tools to a variety of
professional markets. This equity investment involved the purchase of 250,000
shares of DiamondSoft's Series A Convertible Preferred Stock at a price of
$2.00 per share. In addition, pursuant to a letter agreement with DiamondSoft
dated March 17, 1998, the Company will market DiamondSoft's FontReserve
software to hardware and software developers and DiamondSoft will license the
Company's Font Navigator software to retailers and corporate users.
F-21