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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-Q

[ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2002

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: 0-27358

DOCUMENTUM, INC.

(Registrant’s telephone number, including area code): (925) 600-6800

Securities registered pursuant to Section 12(b) of the Act: None

Securities registered pursuant to Section 12(g) of the Act:
Nasdaq National Market
Common Stock, $0.001 par value
(Title of Class)

     Indicate by check mark whether the registrant 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            .

     The number of outstanding shares of the registrant’s Common Stock, par value $0.001 per share, was 40,005,140 on October 31, 2002.

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FORM 10-Q

Index

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PART I. FINANCIAL INFORMATION

DOCUMENTUM, INC.
CONDENSED CONSOLIDATED BALANCE SHEET
(in thousands, except par value per share data; unaudited)*

*Certain prior year amounts have been reclassified to conform to current year’s presentation.

See accompanying notes to condensed consolidated financial statements.

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DOCUMENTUM, INC.
CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS
(in thousands, except per share data; unaudited)*

*Certain prior year amounts have been reclassified to conform to current year’s presentation.

See accompanying notes to condensed consolidated financial statements.

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DOCUMENTUM, INC.
CONDENSED CONSOLIDATED STATEMENT OF CASH FLOW
(in thousands; unaudited)

*Certain prior year amounts have been reclassified to conform to current year’s presentation.

See accompanying notes to condensed consolidated financial statements.

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DOCUMENTUM, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Note 1. Basis of presentation

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and with the instructions in Form 10-Q and Article 10 of Regulation S-X. In the opinion of management, all adjustments have been recorded as necessary to present fairly Documentum’s (the Company’s) consolidated financial position, results of operations and cash flow for the periods presented. These financial statements should be read in conjunction with the Company’s audited consolidated financial statements included in the Company’s 2001 Annual Report on Form 10-K (as amended on August 29, 2002). The consolidated results of operations for the three and nine months ended September 30, 2002 and 2001 are not necessarily indicative of the results that may be expected for any future period.

Note 2. Significant Accounting Policies

Principles of Consolidation

The consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries, Documentum International, Inc., Relevance Technologies, Inc. (“Relevance”) and Documentum Canada Holdings, Inc. in the United States, Nihon Documentum KK, in Japan, Documentum Software Europe Ltd., in the United Kingdom, Documentum GmbH, in Germany, Documentum FSC and Documentum Holdings, Ltd. in Barbados, Documentum PTE, Ltd. in Singapore, Documentum Ireland Holdings, Ltd. in Ireland, Documentum SARL in France and Documentum Canada Company in Nova Scotia, Canada. All significant intercompany accounts and transactions have been eliminated in consolidation.

Use of Estimates

The preparation of these financial statements requires that the Company make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosures of contingent assets and liabilities. On an ongoing basis, the Company evaluates its estimates including those related to revenue recognition, the allowance for doubtful accounts, warranty reserves, income taxes, restructuring accruals, sales commission accruals, and useful lives of intangible assets and property and equipment, among others. The Company bases its estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual amounts realized or paid could differ from the estimates made by management with respect to these items and other items that require management’s estimates.

Revenue Recognition

The Company’s revenue is derived from the sale of licenses for its enterprise content management solutions and related services, which include maintenance and support, consulting and education services. The Company recognizes revenue in accordance with Statement of Position (SOP) 97-2, “Software Revenue Recognition,” as amended by SOP 98-9, “Modification of SOP 97-2, Software Revenue Recognition, with Respect to Certain Transactions” and SAB No. 101, “Revenue Recognition in Financial Statements.”

The Company recognizes revenue when persuasive evidence of an arrangement exists and delivery has occurred, provided the fee is fixed or determinable, and collection is deemed probable. If an undelivered element in a multiple-element arrangement exists, revenue is deferred based on vendor-specific objective evidence (VSOE) of the fair value of the undelivered element. If VSOE of fair value does not exist for all undelivered elements, all revenue is deferred until sufficient evidence exists or all elements have been delivered. VSOE of fair value for the undelivered elements is based on the price of the respective undelivered elements when sold separately. Specifically, VSOE of fair value for maintenance and other support is based on the price that customer pays to renew the maintenance agreement. VSOE of fair value for professional services is based on the hourly rates that the Company charges for these services when sold separately.

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The Company considers fees to be fixed and determinable for transactions with payment terms that are due within 270 days from the invoice date. The Company has determined that it has a history of successfully collecting without providing concessions when the payment is due within 270 days from the invoice date.

License revenue from resellers or distributors, net of fees, is recognized when the product is shipped to the reseller, distributor or end-user and such sell through to the end-user is reported to the Company. Amounts billed or payments received in advance of revenue recognition are recorded as deferred revenue.

The Company’s maintenance and technical support agreements are renewable on an annual basis and provide customers with technical support and maintenance updates and upgrades on the license products purchased, on a when-and-if-available basis. Revenue from maintenance and support agreements is deferred and recognized ratably over the term of the contract. The Company offers consulting services that are generally not essential to the functionality of the software sold by the Company. The majority of consulting revenue is billed on a time and materials basis and the revenue is recognized as the services are delivered, if collectibility is deemed probable. The duration of these consulting services are generally one to three months.

Deferred Revenue

Deferred revenue primarily relates to support agreements that have been paid for by customers prior to the performance of those services. Generally, these services are performed during a twelve month period. Cash received that exceeds the amount of revenue recognized for a particular arrangement is recorded as deferred revenue.

Cash and Cash Equivalents

The Company considers all highly liquid investments purchased with original maturities of three months or less to be cash equivalents.

Concentrations of credit risk

Financial instruments that potentially subject the Company to concentrations of credit risk consist principally of cash, short-term investments, long-term investments, and accounts receivable. The Company deposits substantially all of its cash with three separate financial institutions.

For the three month period ended September 30, 2002 one customer accounted for 13% of the total Company revenue. No one customer accounted for more than 10% of total revenue for the nine month period ended September 30, 2002. No one customer accounted for more than 10% of total revenue during the three and nine month periods ended September 30, 2001.

The Company generally does not require collateral for its accounts receivable and maintains reserves for potential credit losses. At September 30, 2002, one customer’s outstanding accounts receivable balance represented 16% of the gross accounts receivable balance and at September 30, 2001 no one customer comprised 10% or more of the gross accounts receivable balance.

Property and equipment

Property and equipment are recorded at cost. Depreciation is computed using the straight-line method over the estimated useful lives of the assets ranging from three to seven years. Leasehold improvements are amortized over the estimated useful life or the life of the lease, whichever is shorter. Depreciation expense was $3.3 million and $3.9 million for the three months ended September 30, 2002 and 2001, respectively, and $11.0 million and $10.6 million for the nine months ended September 30, 2002 and 2001, respectively. In accordance with SFAS No. 144, the Company evaluates long-lived assets, including intangible assets other than goodwill, for impairment whenever events or changes in circumstances indicate that the carrying value of an asset may not be recoverable based on expected undiscounted cash flows attributable to that asset.

Software development costs

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Software development costs are included in research and development and are expensed as incurred. Statement of Financial Accounting Standards No. 86 (“SFAS 86”) requires the capitalization of certain software development costs once technological feasibility is established. The capitalized cost is then either amortized on a straight-line basis over the estimated product life, or on the ratio of current revenue to total projected product revenue, depending on which approach yields the greatest amount of amortization. To date, the period between achieving technological feasibility, which the Company has defined as the establishment of a working model, and the general availability of such software has been short and software development costs qualifying for capitalization have been insignificant. Accordingly, the Company has not capitalized any software development costs.

Accounting for the Costs of Computer Software Developed or Obtained for Internal Use

In accordance with the provisions of Statement of Position 98-1, “Accounting for the Costs of Computer Software Developed or Obtained for Internal Use” (“SOP 98-1”), certain costs of computer software developed or obtained for internal use have been capitalized in connection with the implementation of the software. The estimated useful life of costs capitalized is evaluated for each specific project and ranges from one to three years. The Company capitalized $0.4 million for the three months ended September 30, 2002 and 2001 and $2.7 million and $1.4 million for the nine months ended September 30, 2002 and 2001, respectively.

Advertising

The Company expenses costs of advertising as incurred. Advertising expense was $0.1 million for the three months ended September 30, 2002 and 2001, respectively, and $0.3 million and $0.5 million for the nine months ended September 30, 2002 and 2001, respectively. Advertising expense is included in sales and marketing expense in the accompanying Condensed Consolidated Statement of Operations.

Note 3. Change in Accounting Principles

On January 1, 2002, the Company adopted Statement of Financial Accounting Standard (SFAS) No. 142, “Goodwill and Other Intangible Assets,” SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets,” and Emerging Issues Task Force No. 01-14 “Income Statement Characterization of Reimbursements Received for Out of Pocket Expenses Incurred”, EITF 01-14, which was issued by the Financial Accounting Standards Board (FASB) staff.

SFAS No. 142 requires that goodwill and intangible assets with indefinite useful lives no longer be amortized, but instead be tested for impairment at least annually, and more frequently upon the occurrence of certain events. The Company’s recorded goodwill and intangible assets at September 30, 2002 related solely to the acquisitions of substantially all of the assets of Bulldog, Inc., and Boxcar, Inc, on December 5, 2001 and on January 23, 2002, respectively. The useful lives assigned to the acquired intangibles at the time of the respective acquisitions were considered appropriate at September 30, 2002. Intangibles not subject to amortization are considered insignificant. The Company had gross intangible assets of $3.0 million and $2.7 million as of September 30, 2002 and December 31, 2001, respectively. Amortization expense of intangible assets with definite lives for the nine months ended September 30, 2002 was $0.6 million.

In connection with its transitional analysis, the Company determined that it has two reporting units, which are identical to its operating segments. During the quarter ended September 30, 2002 the Company completed the first step of the annual impairment test of goodwill as of August 1, 2002. The results of the first step indicated that the fair value of the Company’s reporting units exceeded the carrying value of the respective reporting units. Based on these results the Company did not perform the second step of the annual impairment test as there were no indicators of impairment.

The changes in the carrying amount of goodwill for the nine month period ended September 30, 2002 are as follows:

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EITF 01-14 requires companies to characterize reimbursements received for out-of-pocket expenses as revenue in the condensed consolidated statement of operations instead of as a reduction to the related expense. EITF 01-14 also requires that comparative financial statements for prior periods must be reclassified. The adoption of EITF 01-14 resulted in the reclassification from cost of service revenue to service revenue of $0.5 million for the three months ended September 30, 2002 and 2001, and $1.6 million for the nine month periods ended September 30, 2002 and 2001.

Note 4. Foreign Currency, Derivative Financial Instruments and Hedging Activities

The Company considers the U.S. dollar to be its functional currency for certain of its foreign subsidiaries and the local currency for all other foreign subsidiaries. For subsidiaries where the local currency is the functional currency, the assets and liabilities are translated into U.S. dollars at exchange rates in effect at the balance sheet date. Income and expense items are translated at the daily current exchange rates. Gains and losses from translation are included in “Accumulated other comprehensive loss.” Gains and losses resulting from remeasuring monetary asset and liability accounts for foreign subsidiaries where the U.S dollar is the functional currency are included in “Interest and other income, net.” The Company’s total foreign currency gain was immaterial for the three months ended September 30, 2002. The Company incurred a loss of $0.3 million for the three months ended September 30, 2001 and losses of $0.1 million and $0.7 million for the nine months ended September 30, 2002 and 2001, respectively.

As stated in the Company’s 2001 Annual Report on Form 10-K (as amended on August 29, 2002), the Company adopted SFAS No. 133 “Accounting for Derivative Instruments and Hedging Activities” as amended by SFAS No. 138, effective January 1, 2001, which requires that all derivatives that do not qualify for hedge accounting be recorded on the balance sheet at fair value.

The Company uses foreign currency forward contracts to serve as an economic hedge on receivables and payables denominated in foreign currency and intercompany receivables and payables. The principal foreign currencies hedged are the British pound and the Euro using foreign currency forward contracts ranging in periods from one to nine months. Forward contracts are accounted for on a mark-to-market basis, with realized and unrealized gains or losses recognized in the current period. Gains or losses arising from forward contracts that were effective as an accounting hedge are included in the basis of the designated transactions. Foreign currency forward contracts totaling $4.5 million were outstanding at September 30, 2002.

Note 5. Business Acquisitions

On January 23, 2002, the Company acquired privately-held Boxcar Software, Inc. in exchange for total consideration of $1.4 million; $1.3 million represented cash consideration and $0.1 million represented acquisition costs. The acquisition was accounted for using the purchase method of accounting on the date of acquisition.

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Boxcar was a provider of content aggregation and distribution technology allowing companies to gather content from any source, including Web sites, public folders, file systems and legacy applications, and distribute the content in any format and to any destination. In connection with the purchase, the Company recorded goodwill of $0.9 million and various intangible and other assets totaling $0.5 million. Intangible assets relating to the value of existing technology and non-compete agreements are being amortized on a straight-line basis over the estimated useful lives of five years and three years, respectively. Pro forma disclosures, as if the business had been acquired on January 1, 2002 and 2001, respectively, and transitional disclosures required by SFAS No. 142, have been omitted as revenue, operating loss, net loss and loss per share would not differ materially from the amounts reported.

The following tables summarize the Company’s intangible assets as of September 30, 2002 and the estimated amortization expense through fiscal year 2006:

(in thousands)

Note 6. Convertible Debt

On April 5, 2002, the Company sold $125 million (the “face value”) in senior convertible notes that mature on April 1, 2007 (the “Notes”). The Notes bear interest at a rate of 4.5% per annum. The Company received proceeds of $121.3 million, net of underwriter debt issuance costs of $3.7 million. The Company also incurred debt issuance costs totaling $0.4 million comprising of legal, accounting, and various other fees relating to the offering. Holders of the Notes are entitled at any time after April 5, 2002, and before the close of business on April 1, 2007, subject to prior redemption or repurchase of the Notes, to convert the Notes into shares of common stock at a conversion price of $30.02 per share. The Notes may be redeemed by the Company on or after April 5, 2005. The Notes will effectively rank behind all other secured debt to the extent of the value of the assets securing those debts. The Notes do not contain any restrictive financial covenants.

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The Company recognized $1.6 million and $3.1 million of interest expense for the three and nine month periods ended September 30, 2002, respectively. Debt issuance costs are being amortized over five years based on the effective interest rate method and are included in other assets. Amortization of debt issuance costs was $0.2 million and $0.3 million for the three and nine month periods ended September 31, 2002, respectively. As of September 30, 2002, the Company’s debt obligation totaled $125.0 million.

Note 7. Restructuring Charges

In fiscal 2001, and in the second quarter of fiscal 2002, the Company incurred restructuring costs to reduce its world-wide work force, and to consolidate excess facilities. The following table details the restructuring activity through September 30, 2002:

In connection with the Company’s restructuring plans, the Company recognized restructuring charges that were comprised of estimated severance and benefits costs related to the involuntary termination or cancellation of offers of approximately 240 employees, of which 220 employees were based in the United States and the remaining employees were based in Europe, Canada, and throughout Asia Pacific. The cost estimates were made based on the remaining amounts due under various contractual agreements and management’s best estimates of the expected obligations. During the three months ended June 30, 2002 the Company decreased the severance and benefits accrual by a net $0.3 million. These adjustments were the result of the Company settling certain severance and benefit obligations for an amount less than originally estimated. The Company’s remaining accrual of approximately $0.5 million will be paid to remaining employees during fiscal 2002 and the first half of fiscal 2003.

The remaining other charges that were recognized in connection with the Company’s restructuring plan include costs that the Company estimated it would incur to exit certain facilities, net of estimated sub-lease income. The Company worked with external real estate experts in each of the markets where the properties are located to determine the best estimate of the accrual. The remaining accrued liability as of September 30, 2002 relates to both miscellaneous restructuring costs which will be paid out over the remainder of fiscal 2002 and the first half of fiscal 2003, and facilities lease obligations, net of estimated sub-lease income, which will be paid through fiscal 2005.

Note 8. Comprehensive income (loss)

Comprehensive income (loss) is comprised of net loss and other non-owner changes in stockholders’ equity, including foreign currency translation gains/losses and unrealized gains or losses on available-for-sale marketable securities. The Company recorded an unrealized gain on available-for-sale marketable securities of $1.1 million for

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the three months ended September 30, 2002. The unrealized gain or loss on available-for-sale marketable securities was insignificant for all other periods presented. The Company’s total comprehensive income (loss) was as follows (in thousands):

Note 9. Net Income (Loss) Per Share

The following table sets forth the computation of basic and diluted net income (loss) per common share:

The Company excluded potentially dilutive securities for each period presented from its diluted net income (loss) per share computation because either the exercise price of the securities exceeded the average fair value of the common stock or the Company had net losses, and, therefore, these securities were anti-dilutive. Potentially dilutive securities totaling 8,034,205 and 6,360,154 were excluded for three month periods ended September 30, 2002 and 2001, respectively, and 9,343,311 and 8,562,433 for the nine month periods ended September 30, 2002 and 2001, respectively. The potentially dilutive stock options had per share exercise prices ranging from $0.50 to $56.50.

Note 10. Segment Reporting

The Company’s management considers its business activities to be focused on the license of its products and related services to customers. Since management’s primary form of internal reporting is aligned with the offering of products and services, the Company believes it operates in these two segments. The Company does not track operating results by segment below the gross profit line nor does the Company track long-lived assets by segment.

Internationally, the Company markets and supports its products and services segments through its subsidiaries and various distributors. Service revenue consists of customer maintenance, consulting and education services. Revenues are generally attributed to geographic areas based on the country in which the customer is domiciled. Long-lived assets are attributed to geographic areas based on the country where the assets are located.

The following table presents a breakdown of revenue, cost of revenue, and long-lived assets by geographic region for the three and nine months ended September 30, 2002 and 2001 (in thousands):

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