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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
-----------------------------------------
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2004
or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM __________TO __________
Commission file number 000-24389
VASCO DATA SECURITY INTERNATIONAL, INC.
(Exact Name of Registrant as Specified in Its Charter)
DELAWARE 36-4169320
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
1901 SOUTH MEYERS ROAD, SUITE 210
OAKBROOK TERRACE, ILLINOIS 60181
(Address of Principal Executive Offices)(Zip Code)
Registrant's telephone number, including area code: (630) 932-8844
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 whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).
Yes [ ] No [X]
As of October 31, 2004, 32,829,176 shares of the Company's Common Stock,
$.001 par value per share ("Common Stock"), were outstanding.
VASCO DATA SECURITY INTERNATIONAL, INC.
FORM 10-Q
FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2004
TABLE OF CONTENTS
PAGE NO.
PART I. FINANCIAL INFORMATION
Item 1. Consolidated Financial Statements:
Consolidated Balance Sheets as of September 30, 2004 (Unaudited) and December 31, 2003...................... 3
Consolidated Statements of Operations (Unaudited) for the three and nine months ended September 30,
2004 and 2003............................................................................................... 4
Consolidated Statements of Comprehensive Income (Unaudited) for the three and nine months ended
September 30, 2004 and 2003................................................................................. 5
Consolidated Statements of Cash Flows (Unaudited) for the nine months ended September 30, 2004 and 2003..... 6
Notes to Consolidated Financial Statements.................................................................. 7
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations....................... 10
Item 3. Quantitative and Qualitative Disclosures about Market Risk.................................................. 18
Item 4. Controls and Procedures..................................................................................... 18
PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K............................................................................ 19
SIGNATURES.......................................................................................................... 19
CERTIFICATIONS...................................................................................................... 20
- --------------------
This report contains the following trademarks of the Company, some
of which are registered: VASCO, AccessKey, VACMan Server and VACMan/CryptaPak,
AuthentiCard and Digipass.
-2-
PART I. FINANCIAL INFORMATION
ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS
VASCO DATA SECURITY INTERNATIONAL, INC.
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS EXCEPT SHARE DATA)
SEPTEMBER 30, DECEMBER 31,
2004 2003
------------- ------------
(UNAUDITED)
ASSETS
CURRENT ASSETS:
Cash $ 8,800 $ 4,817
Restricted cash 148 -
Accounts receivable, net of allowance for doubtful accounts 3,534 2,523
Inventories, net 1,180 1,075
Prepaid expenses 668 476
Deferred income taxes 70 70
Foreign sales tax receivable 403 362
Other current assets 368 335
---------- ----------
Total current assets 15,171 9,658
Property and equipment:
Furniture and fixtures 1,716 1,940
Office equipment 2,272 2,222
---------- ----------
3,988 4,162
Accumulated depreciation (3,245) (3,280)
---------- ----------
Property and equipment, net 743 882
Intangible assets, net of accumulated amortization 1,134 1,378
Goodwill 250 250
Note receivable and investment in SSI 879 1,132
Other assets 77 83
---------- ----------
TOTAL ASSETS $ 18,254 $ 13,383
========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable $ 2,124 $ 1,698
Deferred revenue 549 386
Accrued wages and payroll taxes 1,428 1,515
Income taxes payable 1,246 (197)
Other accrued expenses 1,139 1,038
---------- ----------
Total current liabilities 6,486 4,440
Deferred warranty revenues 103 -
STOCKHOLDERS' EQUITY :
Series D 5% cumulative convertible voting preferred stock, $10,000
par value - 500,000 shares authorized - 388 shares issued and
outstanding in 2004, 800 shares issued and outstanding in 2003 2,806 5,786
Common stock, $.001 par value - 75,000,000 shares authorized; 32,625,050 shares
issued and outstanding in 2004, 30,425,284 shares issued and outstanding in 2003 33 30
Additional paid-in capital 50,360 47,167
Accumulated deficit (41,153) (43,693)
Accumulated other comprehensive income (loss) -
Cumulative translation adjustment (381) (347)
---------- ----------
Total stockholders' equity 11,665 8,943
---------- ----------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 18,254 $ 13,383
========== ==========
See accompanying notes to consolidated financial statements.
-3-
VASCO DATA SECURITY INTERNATIONAL, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
(IN THOUSANDS, EXCEPT PER SHARE DATA)
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------------ ------------------------
2004 2003 2004 2003
---------- ---------- ---------- ----------
Net revenues $ 7,400 $ 5,599 $ 20,595 $ 16,670
Cost of goods sold 2,244 2,146 5,918 6,727
---------- ---------- ---------- ----------
Gross profit 5,156 3,453 14,677 9,943
Operating costs:
Sales and marketing 1,975 1,713 6,218 4,921
Research and development 677 613 2,048 1,732
General and administrative 855 1,037 2,384 2,492
Restructuring costs (32) - (32) -
Non-cash compensation - 32 - 40
---------- ---------- ---------- ----------
Total operating costs 3,475 3,395 10,618
9,185
Operating income from continuing operations 1,681 58 4,059 758
Interest income (expense), net 34 (22) 88 (120)
Other income (expense), net (45) (5) - 376
---------- ---------- ---------- ----------
Income before income taxes 1,670 31 4,147
1,014
Provision for income taxes 469 225 1,410 489
---------- ---------- ---------- ----------
Net income (loss) from continuing operations 1,201 (194) 2,737
525
Discontinued operations:
Income (loss) from discontinued operations, net of tax - (7) - 597
Gain on sale of discontinued operations - 1,488 - 1,368
---------- ---------- ---------- ----------
Net income 1,201 1,287 2,737 2,490
Preferred stock beneficial conversion option - (3,720) - (3,720)
Preferred stock accretion and dividends (51) (67) (197) (649)
---------- ---------- ---------- ----------
Net income (loss) available to common shareholders $ 1,150 $ (2,500) $ 2,540 $ (1,879)
========== ========== ========== ==========
Basic net income (loss) per common share:
Income (loss) from continuing operations $ 0.04 $ (0.13) 0.08 (0.13)
Income from discontinued operations - 0.05 - 0.07
---------- ---------- ---------- ----------
$ 0.04 $ (0.08) $ 0.08 $ (0.06)
========== ========== ========== ==========
Diluted net income (loss) per common share:
Income (loss) from continuing operations $ 0.03 $ (0.13) $ 0.08 $ (0.13)
Income from discontinued operations - 0.05 - 0.07
---------- ---------- ---------- ----------
$ 0.03 $ (0.08) $ 0.08 $ (0.06)
========== ========== ========== ==========
Weighted average common shares outstanding:
Basic 32,578 30,392 31,897 29,211
========== ========== ========== ==========
Dilutive 35,172 31,222 35,217 29,510
========== ========== ========== ==========
See accompanying notes to consolidated financial statements.
-4-
VASCO DATA SECURITY INTERNATIONAL, INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(UNAUDITED)
(IN THOUSANDS)
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
----------------------- ------------------------
2004 2003 2004 2003
---------- ---------- ---------- ----------
Net income $ 1,201 $ 1,287 $ 2,737 $ 2,490
Other comprehensive income (loss) - cumulative translation
adjustment 119 8 (34) (131)
---------- ---------- ---------- ----------
Comprehensive income $ 1,320 $ 1,295 $ 2,703 $ 2,359
========== ========== ========== ==========
See accompanying notes to consolidated financial statements.
-5-
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(IN THOUSANDS)
NINE MONTHS ENDED SEPTEMBER 30,
-------------------------------
2004 2003
---------- ----------
Cash flows from operating activities:
Net income from continuing operations $ 2,737 $ 525
Adjustments to reconcile net income from continuing operations
to net cash provided by operating activities:
Depreciation and amortization 503 817
Non-cash compensation expense - 40
Changes in assets and liabilities:
Accounts receivable, net (1,068) 334
Inventories, net (126) 79
Prepaid expenses (200) 171
Foreign sales tax receivable (48) (201)
Other current assets (5) (61)
Accounts payable 464 (180)
Deferred revenue 170 (14)
Accrued wages and payroll taxes (57) (158)
Income taxes payable 1,466 400
Accrued expenses 184 146
Deferred warranty revenues 103 -
Net cash provided by discontinued operations - 437
---------- ----------
Net cash provided by operating activities 4,123 2,335
---------- ----------
Cash flows from investing activities:
Acquisition of Identikey, Ltd. - (7)
Other assets 4 (4)
Disposal of property and equipment, net - 132
Additions to property and equipment, net (132) (49)
Increase in restricted cash (148) -
Payments received on note receivable 225 46
---------- ----------
Net cash provided by (used in) investing activities (51) 118
---------- ----------
Cash flows from financing activities:
Repayment of debt - (3,590)
Purchase and retirement of Series C preferred stock and warrants - (3,000)
Net proceeds from the sale of Series D preferred stock and warrants - 7,316
Proceeds from exercise of stock options 79 48
Dividends paid on preferred stock (132) -
---------- ----------
Net cash provided by (used in) financing activities (53) 774
---------- ----------
Effect of exchange rate changes on cash (36) (319)
---------- ----------
Net increase in cash 3,983 2,908
Cash, beginning of period 4,817 2,616
---------- ----------
Cash, end of period $ 8,800 $ 5,524
========== ==========
See accompanying notes to consolidated financial statements.
-6-
VASCO DATA SECURITY INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(ALL AMOUNTS ARE IN THOUSANDS EXCEPT SHARE AND PER SHARE DATA)
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements include the
accounts of VASCO Data Security International, Inc. and its subsidiaries
(collectively, the "Company" or "VASCO") and have been prepared pursuant to the
rules and regulations of the Securities and Exchange Commission regarding
interim financial reporting. Accordingly, they do not include all of the
information and notes required by generally accepted accounting principles for
complete financial statements and should be read in conjunction with the audited
consolidated financial statements included in the Company's Annual Report on
Form 10-K for the year ended December 31, 2003.
In the opinion of management, the accompanying unaudited consolidated
financial statements 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 the
results of the interim periods presented. All significant intercompany accounts
and transactions have been eliminated. The operating results for the interim
periods presented are not necessarily indicative of the results expected for a
full year.
RESTRICTED CASH
Restricted cash of $148 at September 30, 2004 supports a bank guarantee
issued in favor of a customer relating to a contract prepayment. Under the terms
of the contract, the Company will have unrestricted use of this cash when it has
fulfilled its commitment to deliver the products. The customer has the right to
put a claim on the guarantee if the Company does not perform. The guarantee
automatically ceases on January 31, 2012, but can be cancelled earlier upon
mutual agreement of both parties or when all of the products have been
delivered. It is the Company's intention to materially fulfill the contract
during 2004, with remaining deliveries to be completed during the first quarter
of 2005.
STOCK-BASED COMPENSATION
At September 30, 2004, the Company had a stock-based employee compensation
plan. The Company accounts for the plan using the intrinsic method under the
recognition and measurement principles of APB Opinion No. 25, "Accounting for
Stock Issued to Employees", and related Interpretations. No stock-based
compensation is reflected in net income, as all options granted under those
plans had an exercise price equal to the market value of the underlying Common
Stock on the date of grant. The following table illustrates the effect on net
income and net income per share if the Company had applied the fair value
recognition provisions of FASB Statement No. 123, "Accounting for Stock-Based
Compensation", to stock-based employee compensation:
-7-
Three months ended Nine months ended
September 30, September 30,
2004 2003 2004 2003
---------- ----------- ---------- -----------
Net income (loss) available to common stockholders as reported .. $ 1,150 $ (2,500) $ 2,540 $ (1,879)
Deduct: Total stock-based employee compensation
determined under fair-value-based methods for
all awards, net of tax ......................................... 267 251 800 764
---------- ---------- ---------- ----------
Pro forma net income (loss) ............................... $ 883 $ (2,751) $ 1,740 $ (2,643)
========== ========== ========== ==========
Net income (loss) per common share-basic
As reported ................................................. $ 0.04 $ (0.08) $ 0.08 $ (0.06)
Pro forma ................................................... $ 0.03 $ (0.09) $ 0.05 $ (0.09)
Net income (loss) per common share-diluted:
As reported ................................................. $ 0.03 $ (0.08) $ 0.08 $ (0.06)
Pro forma ................................................... $ 0.03 $ (0.09) $ 0.05 $ (0.09)
Weighted average shares outstanding:
Basic ........................................................ 32,578 30,392 31,897 29,211
========== ========== ========== ==========
Diluted ...................................................... 35,172 31,222 35,217 29,510
========== ========== ========== ==========
NOTE 2 - ACCOUNTS RECEIVABLE AND ALLOWANCE FOR DOUBTFUL ACCOUNTS
Accounts receivable represents sales made to customers on credit. An
allowance for doubtful accounts is maintained based upon estimated losses
resulting from the inability of customers to make payment for goods and
services. Accounts receivable, net of the allowance for doubtful accounts, as of
September 30, 2004 and December 31, 2003 are as follows:
September 30, December 31,
2004 2003
------------- ------------
Accounts receivable .................... $ 3,830 $ 2,993
Allowance for doubtful accounts ..... (296) (470)
---------- ----------
Accounts receivable, net .......... $ 3,534 $ 2,523
========== ==========
NOTE 3- INVENTORIES
Inventories, consisting principally of hardware and component parts, are
stated at the lower of cost or market. Cost is determined using the
first-in-first-out (FIFO) method.
Inventories, net of valuation allowance of $237 and $252 at September 30,
2004 and December 31, 2003, respectively, are comprised of the following:
September 30, December 31,
2004 2003
------------ ------------
Component parts ........................ $ 527 $ 277
Work-in-process and finished goods ..... 653 798
---------- ----------
Total ......................... $ 1,180 $ 1,075
========== ==========
-8-
NOTE 4 - GOODWILL AND OTHER INTANGIBLES
At September 30, 2004 and December 31, 2003, the ending balances of
goodwill and capitalized technology are as follows:
September 30, December 31,
2004 2003
------------ ------------
Goodwill ............................... $ 250 $ 250
============ ============
Capitalized technology ................. 5,463 5,463
Accumulated amortization ............... (4,329) (4,085)
------------ ------------
Capitalized technology, net ......... $ 1,134 $ 1,378
============ ============
Amortization expense for the three and nine- month periods ended September
30, 2004 was $83 and $244, respectively.
December 31, 2004 ..... $ 326
December 31, 2005 ..... 326
December 31, 2006 ..... 326
December 31, 2007 ..... 326
December 31, 2008 ..... 73
NOTE 5 - OTHER ACCRUED EXPENSES
Accrued expenses are comprised of the following:
September 30, December 31,
2004 2003
------------- -------------
Restructuring reserve .................. $ 23 $ 134
Other accrued expenses ................. $ 1,116 $ 904
------------- -------------
$ 1,139 $ 1,038
============= =============
The restructuring reserve decreased $111 from December 31, 2003 to
September 30, 2004 as a result of the monthly reduction in the lease liability
related to excess capacity totaling $79, and the elimination of the remaining
reserve balance of $32 due to the renegotiation of the US headquarter's office
lease.
NOTE 6 - DEFERRED WARRANTY
The Company's standard practice is to provide a warranty on its
authenticators for one year after the date of purchase. Customers may purchase
extended warranties covering periods from one to three years after the standard
warranty period. The Company defers the revenue associated with the extended
warranty and recognizes it into income on a straight-line basis over the
extended warranty period.
The deferred warranty revenue as of September 30, 2004 will be recognized
as income as follows:
Year Amount
- ------------- -----------
2005 ........ $ 14
2006 ........ 34
2007 ........ 34
2008 ........ 21
----------
$ 103
==========
-9-
NOTE 7 - STOCKHOLDERS' EQUITY
During the first nine months of 2004, the Company issued 79,125 shares of
Common Stock as a result of the exercise of options under the Company's stock
option plan generating total proceeds of $79. In addition, 412 shares of the
Company's Series D 5% Cumulative Convertible Voting Preferred Stock were
converted resulting in the issuance of 2,060,000 shares of the Company's Common
Stock and 60,641 shares of the Company's Common Stock were issued as dividends
to the Series D preferred stockholders in 2004.
NOTE 8 - SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
Nine months ended September 30,
-------------------------------
2004 2003
-------------- --------------
Supplemental disclosure of cash flow information:
Interest paid ................................................................... $ 11 $ 206
Income taxes paid ............................................................... - $ 64
Supplemental disclosure of non-cash investing activities:
Note receivable and preferred stock received from sale of business unit ......... - $ 1,553
Supplemental disclosure of non-cash financing activities:
Common stock issued to redeem Series C preferred stock and warrants
(in shares) ................................................................ - 2,000,000
Increase in additional paid-in capital related to beneficial conversion
of Series D preferred stock ................................................ - $ 3,720
Deemed dividend on preferred stock .............................................. - $ (3,720)
Common stock issued to Series D preferred stockholders upon conversion
of 412 shares of preferred stock (2,060,000 shares) ....................... $ 2,980 -
Common stock issued to Series D preferred stockholders
as a dividend payment (60,641 shares) ..................................... $ 136 -
Accrued dividend payable ........................................................ $ 50 $ 20
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS (IN THOUSANDS, EXCEPT HEADCOUNT DATA)
The following discussion is based upon the Company's consolidated results
of operations for the three and nine months ended September 30, 2004 and 2003
(percentages in the discussion are rounded to the closest full percentage point)
and should be read in conjunction with our consolidated financial statements
included elsewhere in this Form 10-Q. Results of prior periods have been
restated to report the results from the VACMAN Enterprise business as a
discontinued operation.
We design, develop, market and support identity authentication products
that reduce the risk of loss from unauthorized transactions by validating a
person's identity using a one-time password and obtaining a legally- enforceable
digital signature, if needed, for financial transactions. Our products are used
currently in a wide variety of applications including, but not limited to,
Internet banking, Internet brokerage, e-commerce applications dealing with web
or mobile access and various corporate network access applications. As evidenced
by our current customer base, our products are purchased by companies and,
depending on the business application, are distributed to either its employees
or its customers. Those customers may be other businesses or as an example in
the case of Internet banking, the banks' retail customers.
Our target market is any business process that uses some form of
electronic interface where the owner of that process is at risk if unauthorized
users can gain access to its process and either obtain proprietary information
or execute transactions that are not authorized. Our products can not only
increase the security associated with accessing the business process, thereby
reducing the losses from unauthorized access, but also,
-10-
in many cases, can reduce the cost of the process itself by automating
activities that were previously performed manually.
CAUTIONARY STATEMENT FOR PURPOSES OF THE "SAFE HARBOR" PROVISIONS OF THE PRIVATE
SECURITIES LITIGATION REFORM ACT OF 1995
This Quarterly Report on Form 10-Q, including the "Management's Discussion
and Analysis of Financial Condition and Results of Operations," contains
"forward-looking statements" within the meaning of the Private Securities
Litigation Reform Act of 1995 concerning, among other things, the prospects,
developments and business strategies for the Company and its operations,
including the development and marketing of certain new products and the
anticipated future growth in certain markets in which the Company currently
markets and sells its products or anticipates selling and marketing its products
in the future. These forward-looking statements (i) are identified by their use
of such terms and phrases as "expected," "expects," "believe," "believes,"
"will," "anticipated," "emerging," "intends," "plans," "could," "may,"
"estimates," "should," "objective," and "goals" and (ii) are subject to risks
and uncertainties and represent the Company's present expectations or beliefs
concerning future events. The Company cautions that the forward-looking
statements are qualified by important factors that could cause actual results to
differ materially from those in the forward-looking statements, including (a)
risks of general market conditions, including demand for the Company's products
and services, competition and price levels and the Company's historical
dependence on relatively few products, certain suppliers and certain key
customers, and (b) risks inherent to the computer and network security industry,
including rapidly changing technology, evolving industry standards, increasing
numbers of patent infringement claims, changes in customer requirements, price
competitive bidding, changing government regulations and potential competition
from more established firms and others. Therefore, results actually achieved may
differ materially from expected results included in, or implied by these
statements.
COMPARISON OF RESULTS FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2004 AND
2003 (DOLLARS IN THOUSANDS).
Economic Conditions: The Company's revenues may vary significantly with
changes in the economic conditions in the countries in which it sells products
currently. With the Company's current concentration of revenues in Europe and
specifically in the banking/finance vertical market, significant changes in the
economic outlook for the European banking market may have a significant effect
on the revenues of the Company. During difficult economic periods, our customers
often delay the rollout of existing applications and defer purchase decisions
related to the implementation of our products in new applications.
Currency Fluctuations. In the third quarter of 2004 and 2003,
approximately 84% and 94%, respectively, of the Company's revenue was generated
outside the United States. For the nine months ended September 30, 2004 and
2003, approximately 88% and 93%, respectively, were generated outside of the
United States.
In addition, approximately 78% and 74% of the Company's operating expenses
in the third quarter of 2004 and 2003, respectively, were incurred outside of
the United States. For the first nine months ended September 30, 2004 and 2003,
approximately 79% and 76%, respectively, of its operating expenses were incurred
outside of the United States.
As a result, changes in currency, especially the Euro to U.S. Dollar, can
have a significant impact on revenue and expenses. To minimize the net impact of
currency, the Company attempts to denominate its billings in a currency such
that it would provide a hedge against the operating expenses being incurred in
that currency. In addition, the Company denominates the majority of its supply
contracts in U.S. dollars.
The Euro strengthened approximately 7% and 11% against the U.S. Dollar for
the quarter and nine months ended September 30, 2004, respectively, as compared
to the same periods in 2003. The Australian Dollar strengthened approximately 6%
and 17% against the U.S. Dollar for the quarter and nine months ended September
30, 2004, respectively, as compared to the same periods in 2003. The Company
estimates that the strengthening of the two currencies in 2004 compared to 2003
resulted in an increase in revenues of
-11-
approximately $116 and $765 for the quarter and nine months ended September 30,
2004, respectively, and an increase in operating expenses of approximately $178
and $820 for the quarter and nine months ended September 30, 2004, respectively.
The financial position and results of operations of the Company's foreign
subsidiaries are measured using the local currency as the functional currency.
Accordingly, assets and liabilities are translated into U.S. dollars using
current exchange rates as of the balance sheet date. Revenues and expenses are
translated at average exchange rates prevailing during the period. Translation
adjustments arising from differences in exchange rates are included as a
separate component of stockholders' equity. Gains and losses resulting from
foreign currency transactions are included in the consolidated statements of
operations. Foreign exchange transaction losses aggregating $71 in the third
quarter of 2004 compare to losses for the third quarter of 2003 of $29 and for
the nine months ended September 30, 2004, transaction losses were $46 and
compare to gains of $350 for the first nine months of 2003. The change in
transaction gains and losses are primary related to the dollar denominated
term-loan to Dexia Bank that was repaid in full in the third quarter of 2003.
Transaction gains and losses are included in other non-operating income
(expense).
REVENUE
Revenue by Geographic Regions: We sell the majority of our products in
European countries with significant sales in the United States and other
countries, primarily Australia, as well as countries in Asia and South America.
The breakdown of revenue for the quarter and nine months ended September 30,
2004 and 2003 in each of our major geographic areas was as follows:
Europe United States Other Countries Total
------ ------------- --------------- -----
THIRD QUARTER ENDED SEPTEMBER 30:
Total Revenue:
2004 $ 5,290 $ 1,220 $ 890 $ 7,400
2003 4,698 315 586 5,599
Percent of Total:
2004 72% 16% 12% 100%
2003 84% 6% 10% 100%
NINE MONTHS ENDED SEPTEMBER 30:
Total Revenue:
2004 15,968 $ 2,461 $ 2,166 $20,595
2003 14,037 1,089 1,544 16,670
Percent of Total:
2004 78% 12% 10% 100%
2003 84% 7% 9% 100%
Total revenue in the third quarter of 2004 increased $1,801 or 32% over
the third quarter of 2003. Geographically, revenue generated in Europe was $592
or 13% higher than 2003, revenue generated in the United States was $905 or 287%
higher than 2003 and revenue generated from other countries was $304 or 52%
higher than 2003. Approximately $116 of the increase was attributable to the
benefit from changes in the currency rate with the balance of the increase being
attributable to increased volume and a higher average price per unit. The higher
average price per unit in 2004 reflected the increase in the number of customers
and a lower average order quantity as compared to 2003.
Total revenue for the nine months ended September 30, 2004 increased
$3,925 or 24% over the first nine months of 2003. Geographically, revenue
generated in Europe was $1,931 or 14% higher than 2003, revenue generated in
United States was $1,372 or 126% higher than 2003 and revenue generated from
other countries was $622 or 40% higher than 2003. Approximately $765 of the
increase was attributable to the benefit from changes in the currency rate with
the balance of the increase being attributable to increased volume and a higher
-12-
average price per unit. The higher average price per unit in 2004 reflected the
increase in the number of customers and a lower average order quantity as
compared to 2003. For the first nine months of 2004, the top ten customers
accounted for approximately 58% of total revenue as compared to 74% of revenue
in 2003.
Revenue by Target Market: Revenues are generated currently from two
primary markets, banking/finance ("Banking") and corporate network access
("CNA") through the use of both direct and indirect sales channels. The
breakdown of revenue between the two primary markets is as follows:
Banking CNA Total
------- --- -----
THIRD QUARTER ENDED SEPTEMBER 30:
Total Revenue:
2004 $ 6,106 $ 1,294 $ 7,400
2003 4,530 1,069 5,599
Percent of Total:
2004 83% 17% 100%
2003 81% 19% 100%
NINE MONTHS ENDED SEPTEMBER 30:
Total Revenue:
2004 $ 16,387 $ 4,208 $ 20,595
2003 12,876 3,794 16,670
Percent of Total:
2004 80% 20% 100%
2003 77% 23% 100%
Total revenue in the third quarter of 2004 from the Banking market
increased $1,576 or 35% over the third quarter of 2003 and revenue from the CNA
market increased $225 or 21% in the same period. While the increase in total
revenues is attributable, in part, to the development of the indirect sales
channel, which includes distributors, resellers, and solution partners, the
distribution of the revenues between the segments in large part reflects the
sales channel's focus on banking opportunities. The indirect sales channel
supplements the Company's direct sales force in the Banking market and is the
primary source of revenues in the CNA market.
Total revenue for the first nine months of 2004 from the Banking market
increased $3,511 or 27% compared to the first nine months of 2003 and revenue
from the CNA market increased $414 or 11% in the same period. The increase in
total revenue is primarily attributable to the development of the indirect sales
channel noted above.
The amounts shown above for CNA currently include revenues generated in
the e-commerce market. We expect that the e-commerce market will be an important
source of future revenue for the Company as our products will not only provide a
higher level of security for purchases made over the Internet, they can also
help protect our customers' revenue stream by making it more difficult for
subscribers to our customers' Internet services to share passwords.
GROSS PROFIT AND OPERATING EXPENSES
The following table sets forth, for the periods indicated, certain
consolidated financial data as a percentage of revenues for the quarters and
nine months ended September 30, 2004 and 2003:
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Quarter Ended Sept. 30, Nine Months Ended Sept. 30,
------------------------- ------------------------
2004 2003 2004 2003
---- ---- ---- ----
Revenues....................................... 100.0% 100.0% 100.0% 100.0%
Cost of goods sold............................. 30.3 38.3 28.7 40.4
----- ----- ----- -----
Gross profit................................... 69.7 61.7 71.3 59.6
Operating costs:
Sales and marketing..................... 26.7 30.7 30.2 29.5
Research and development................ 9.1 10.9 9.9 10.4
General and administrative.............. 11.6 18.5 11.6 15.0
Restructuring costs..................... (0.4) - (0.1) -
Non-cash compensation................... - 0.6 - 0.2
----- ----- ----- -----
Total operating costs...... 47.0 60.7 51.6 55.1
----- ----- ----- -----
Operating income from continuing operations.... 22.7 1.0 19.7 4.5
Interest income (expense)...................... 0.5 (0.4) 0.4 (0.7)
Other income (expense), net.................... (0.6) (0.1) - 2.3
----- ----- ----- -----
Income before income taxes..................... 22.6 0.5 20.1 6.1
Provision for income taxes..................... 6.4 4.0 6.8 2.9
----- ----- ----- -----
Net income (loss) from continuing operations... 16.2 (3.5) 13.3 3.2
===== ===== ===== =====
GROSS PROFIT
Consolidated gross profit for the quarter ended September 30, 2004 was
$5,156, an increase of $1,703 or 49%, from the quarter ended September 30, 2003.
Gross profit as a percentage of revenue was 70% in the third quarter of 2004, as
compared to 62% in the third quarter of 2003. The increase in the gross profit
as a percentage of revenue was primarily related to three factors; the change of
mix of sales within our Banking market, the lower cost of product produced, and
the stronger Euro. Sales to new customers, both in Banking and Corporate Network
Access markets, are generally for smaller quantities and, therefore, have higher
average selling prices and result in higher margins than sales to our larger
customers in the Banking market.
Consolidated gross profit for the nine months ended September 30, 2004 was
$14,677, an increase of $4,734 or 48%, from the comparable period in 2003. Gross
profit as a percentage of revenue was 71% for the first nine months of 2004, as
compared to 60% for the comparable period in 2003. The increase in the gross
profit as a percentage of revenue was due to the same factors noted for the
quarter ended September 30, 2004.
As noted above, gross profit as a percentage of revenue improved as a
result of a change in mix of sales within the Banking market. In 2004, orders
from the Company's larger strategic Banking customers were a smaller percentage
of total revenue. The larger strategic Banking customers generally benefit from
volume purchase discounts and, as a result, have a lower average selling price
and a lower gross margin as a percentage of revenue. As a result of the larger
customers being a smaller percentage of Banking revenues, the margin within the
Banking market in 2004 was higher than in 2003.
The average cost per unit sold declined approximately 9% in the third
quarter of 2004 and 16% for the first nine months of 2004 compared to the same
periods in 2003. The decline in cost is primarily attributable to a change in
the mix of units sold and a reduction in the per-unit cost of most models.
As previously noted, the Company's purchases of inventory are denominated
in U.S. dollars. Also, as previously noted, the Company denominates a portion of
its sales in Euros in order to offset the affects of currency on operating
expenses. As the Euro and Australian Dollar strengthened during the year,
revenues from sales made in Euros and Australian Dollars increased, as measured
in U.S. Dollars, without the corresponding increase in cost of goods sold. The
benefit from changes in currency rates on revenues as noted above was
approximately $116 for the quarter and $765 for the nine months ended September
30, 2004. The benefit represents an improvement in the gross profit rate of
approximately 0.5 and 1.1 percentage points for the
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three and nine months ended September 30, 2004, respectively.
OPERATING EXPENSES
Sales and Marketing Expenses
Consolidated sales and marketing expenses for the quarter ended September
30, 2004 were $1,975, an increase of $262 or 15%, from the third quarter of
2003. This increase was primarily due to increased strength of the Euro and
Australian Dollar to the U.S. Dollar, increases in compensation-related
expenses, including the cost of agents in countries where the Company does not
have a direct sales presence, and increased trade show and other marketing
expenses associated with providing support to our reseller network.
Consolidated sales and marketing expenses for the nine months ended
September 30, 2004 were $6,218, an increase of $1,297 or 26%, from the same
period of 2003. The increase in expense was related to the same factors noted
for the quarter above. Average full-time sales and marketing employee headcount
for continuing operations was 42 in 2004 and in 2003.
Research and Development Expenses
Consolidated research and development costs for the quarter ended
September 30, 2004 were $677, an increase of $64 or 10%, from the third quarter
of 2003. This increase was primarily due to increased strength of the Euro and
Australian Dollar to the U.S. Dollar and increased compensation expenses.
Consolidated research and development costs for the nine months ended
September 30, 2004 were $2,048, an increase of $316 or 18%, from the same period
of 2003. This increase was primarily due to increased strength of the Euro and
Australian Dollar to the U.S. Dollar, compensation expenses and increased costs
related to the introduction of new products. Average full-time research and
development employee headcount for continuing operations was 21 in 2004 and 23
in 2003.
General and Administrative Expenses
Consolidated general and administrative expenses for the quarter ended
September 30, 2004 were $855, a decrease of $182 or 18%, from the third quarter
of 2003. This decrease was primarily due to reduced professional fees and lower
depreciation partially offset by the increased strength of the Euro and
Australian Dollar to the U.S. Dollar and increased compensation expenses.
Consolidated general and administrative expenses for the nine months ended
September 30, 2004 were $2,384, a decrease of $108 or 4%, from the same period
of 2003. This decrease was due to the same factors as noted for the third
quarter partially offset by increased expense in 2004 resulting from a reduction
in recoveries of accounts receivable in 2003 for which a reserve had been
established in prior periods. Average full-time general and administrative
employee headcount for continuing operations was 13 in 2004 and 11 in 2003.
Interest Income (Expense), Net
Consolidated net interest income (expense) was income of $34 in the third
quarter and $88 for the first nine months of 2004 compared to expense of $22 and
$120 for the comparable periods in 2003. This change in expense was primarily
due to the repayment of all debt in 2003 and the collection of amounts due under
the installment note from SecureD Services, Inc. (SSI). The Company invested its
cash balances in savings accounts earning nominal rates of interest.
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Other Income (Expense), Net
Other income (expense) primarily includes exchange gains (losses) on
transactions that are denominated in currencies other than the subsidiaries'
functional currency. The increase in other expense of $40 for the quarter and
decrease in other income of $376 for the first nine months in 2004 from 2003
primarily reflects the strengthening of the Euro compared to the U.S. dollar and
the decrease in U.S. Dollar denominated liabilities as a result of the repayment
of the term loan to Dexia Bank in the third quarter of 2003.
Income Taxes
Income tax expense in the third quarter and first nine months of 2004 was
$469 and $1,410, respectively, and compares to $225 and $489 for the third
quarter and first nine months, respectively, in 2003. The expense relates
primarily to the Belgian operating subsidiary, whose tax loss carry-forwards
were fully utilized in 2003. The rate in 2004 reflects the Company's current
estimate of its tax rate for the full year, but may vary in future periods as
earnings are realized in different countries with different tax attributes.
At December 31, 2003, the Company had United States net operating loss
carry-forwards approximating $27,650 and foreign net operating loss
carry-forwards approximating $4,070. Such losses are available to offset future
taxable income in the respective jurisdictions and expire in varying amounts
beginning in 2004 and continuing through 2023. In addition, if certain
substantial changes in the Company's ownership were deemed to have occurred,
there would be an annual limitation on the amount of the U.S. carry-forwards
that could be utilized.
LIQUIDITY AND CAPITAL RESOURCES
The Company's cash was $8,948 at September 30, 2004, which is an increase
of approximately $4,131 or 86% from $4,817 at December 31, 2003. The increase in
cash was primarily related to positive earnings before interest, taxes,
depreciation and amortization (EBITDA) partially offset by an increase in days
sales outstanding in accounts receivable.
The cash balance noted above includes restricted cash of $148 at September
30, 2004. The Company expects that the restrictions on the cash will be removed
as product is shipped throughout the next three months.
Days sales outstanding in net accounts receivable increased from 37 days
at December 31, 2003 to 43 days at September 30, 2004. Days sales outstanding in
receivables were higher in the third quarter as days sales outstanding in the
fourth quarter of 2003 benefited from prepayments for orders that were shipped
in the quarter.
EBITDA from continuing operations for the quarter and nine months ended
September 30, 2004 and 2003 were $1,806 and $4,562, respectively, and reflect an
increase of $1,486 or 464% and $2,611 or 134% over the same periods of the prior
year. A reconciliation of EBITDA to net income from continuing operations for
the three and nine-month periods ended September 30, 2004 and 2003 follows:
Three Months Ended, Nine Months Ended,
------------------- ------------------
Sept. 30, 2004 Sept. 30, 2003 Sept. 30, 2004 Sept. 30, 2003
-------------- -------------- -------------- --------------
(unaudited) (unaudited)
EBITDA from continuing operations $ 1,806 $ 320 $ 4,562 $ 1,951
Interest expense (income), net (34) 22 (88) 120
Provision for income taxes 469 225 1,410 489
Depreciaton and amortization 170 267 503 817
------- ------- ------- -------
Net income (loss) from continuing operations $ 1,201 $ (194) $ 2,737 $ 525
======= ======= ======= =======
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EBITDA is used by management for comparisons to other companies within our
industry as an alternative to generally accepted accounting principles measures
and is used by investors and analysts in evaluating performance. EBITDA from
continuing operations is computed by adding back net interest, taxes,
depreciation and amortization to net income from continuing operations as
reported. EBITDA should be considered in addition to, but not as a substitute
for, other measures of financial performance reported in accordance with
accounting principles generally accepted in the United States. EBITDA, as
defined above, may not be comparable to similarly titled measures reported by
other companies.
At September 30, 2004, the Company had an overdraft agreement in place
with Fortis Bank, secured by the Company's trade accounts receivable, wherein
the Company could borrow up to 2,000 Euros. Based on receivable balances as of
September 30, 2004, approximately 1,500 Euros of the overdraft agreement was
available to the Company. There were no borrowings outstanding under the
overdraft agreement at September 30, 2004.
As of September 30, 2004, the Company had working capital of $8,685, an
increase of $3,467 or 66%, compared with $5,218 at December 31, 2003.
The Company believes that its current cash balances, credit available
under its existing overdraft agreement, the anticipated cash generated from
operations, including the realization of deferred revenue recorded as a current
liability, and deposits that will be received in future quarters on orders of
the Digipass product will be sufficient to meet its anticipated cash needs over
the next twelve months.
There is substantial risk, however, that the Company may not be able to
achieve its revenue and cash goals. If the Company does not achieve those goals,
it may need to significantly reduce its workforce, sell certain of its assets,
enter into strategic relationships or business combinations, discontinue some or
all of its operations, or take other similar restructuring actions. While the
Company expects that these actions would result in a reduction of recurring
costs, they also may result in a reduction of recurring revenues and cash
receipts. It is also likely that the Company would incur substantial
non-recurring costs to implement one or more of these restructuring actions.
For additional information related to risks, refer to Certain Factors
noted in Management's Discussion and Analysis included in the Company's Annual
Report on Form 10-K for the fiscal year ended December 31, 2003.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
There have been no material changes in the Company's market risk during
the nine-month period ended September 30, 2004. For additional information,
refer to the Company's Annual Report on Form 10-K for the fiscal year ended
December 31, 2003.
ITEM 4. CONTROLS AND PROCEDURES
The Chief Executive Officer and the Chief Financial Officer of the Company
(its principal executive officer and principal financial officer, respectively)
have concluded, based on their evaluation as of the end of the period covered by
this Report, that the Company's disclosure controls and procedures (as defined
pursuant to Rule 13a-15(e) under the Securities Exchange Act of 1934) are
effective to ensure that the information required to be disclosed by the Company
in the reports filed or submitted by it under the Securities Exchange Act of
1934, as amended, is recorded, processed, summarized and reported within the
time periods required by the SEC's rules and forms, and include controls and
procedures designed to ensure that information required to be disclosed by the
Company in such reports is accumulated and communicated to the Company's
management, including the Chairman and Chief Executive Officer and the Chief
Financial Officer of the Company, as appropriate, to allow timely decisions
regarding required disclosure.
There have been no changes in internal controls over financial reporting
identified in connection with the
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foregoing evaluation that occurred during our last fiscal quarter that have
materially affected, or are reasonably likely to materially affect, our internal
control over financial reporting.
PART II. OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) EXHIBITS:
Exhibit 31.1 Statement Under Oath of Principal Executive Officer
pursuant to Section 302 of the Sarbanes-Oxley Act of 2002, dated
November 10, 2004.
Exhibit 31.2 Statement Under Oath of Principal Financial Officer
pursuant to Section 302 of the Sarbanes-Oxley Act of 2002, dated
November 10, 2004.
Exhibit 32.1 Statement Under Oath of Principal Executive Officer
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, dated
November 10, 2004.
Exhibit 32.2 Statement Under Oath of Principal Financial Officer
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, dated
November 10, 2004.
(b) REPORTS ON FORM 8-K:
(i) On July 23, 2004 we furnished a Current Report on Form 8-K
providing a financial update for the second quarter ended June 30,
2004.
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, on November 10, 2004.
VASCO Data Security International, Inc.
/s/ T. Kendall Hunt
-------------------------------------------------
T. Kendall Hunt
Chief Executive Officer and Chairman of the
Board of Directors (Principal Executive Officer)
/s/ Clifford K. Bown
-------------------------------------------------
Clifford K. Bown
Executive Vice President and Chief Financial
Officer (Principal Financial Officer and
Principal Accounting Officer)
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