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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934
For the quarterly period ended September 30, 2002
OR
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
---------------------- -----------------------
Commission file number: 0-26802
CHECKFREE CORPORATION
(Exact name of registrant as specified in its charter)
DELAWARE 58-2360335
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
4411 EAST JONES BRIDGE ROAD, NORCROSS, GEORGIA 30092
(Address of principal executive offices, including zip code)
(678) 375-3000
(Registrant's telephone number, including area code)
NOT APPLICABLE
(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 the
filing requirements for at least the past 90 days. YES X NO
--- ---
Indicate the number of shares outstanding of each of the registrant's
classes of common stock, as of the latest practicable date: 88,671,361 shares of
Common Stock, $.01 par value, were outstanding at November 12, 2002.
FORM 10-Q
CHECKFREE CORPORATION
TABLE OF CONTENTS
-----------------
PAGE NO.
--------
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements.
Condensed Consolidated Balance Sheets 3
June 30, 2002 and September 30, 2002
Condensed Consolidated Statements of Operations 4
For the Three Months Ended
September 30, 2001 and 2002
Condensed Consolidated Statements of Cash Flows 5
For the Three Months Ended
September 30, 2001 and 2002
Notes to Interim Condensed Consolidated Unaudited 6
Financial Statements For the Three Months Ended
September 30, 2001 and 2002
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations. 13
Item 3. Quantitative and Qualitative Disclosures About Market Risk. 26
Item 4. Controls and Procedures. 26
PART II. OTHER INFORMATION
Item 1. Legal Proceedings. N/A
Item 2. Changes in Securities and Use of Proceeds. N/A
Item 3. Defaults Upon Senior Securities. N/A
Item 4. Submission of Matters to a Vote of Security Holders. N/A
Item 5. Other Information. N/A
Item 6. Exhibits and Reports on Form 8-K. 27
Signatures. 28
Certifications of CEO and CFO under Section 302 of the Sarbanes-Oxley Act of 2002. 29
2
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
CHECKFREE CORPORATION AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEETS
JUNE 30, SEPTEMBER 30,
2002 2002
----------------- -----------------
(IN THOUSANDS)
ASSETS
Current assets:
Cash and cash equivalents................................................ $ 115,009 $ 115,581
Investments.............................................................. 90,958 70,275
Accounts receivable, net................................................. 88,030 83,554
Prepaid expenses and other assets........................................ 8,355 10,952
Deferred income taxes.................................................... 11,816 10,558
---------------- ----------------
Total current assets................................................. 314,168 290,920
Property and equipment, net................................................... 95,625 106,958
Other assets:
Capitalized software, net................................................ 71,845 59,103
Goodwill, net............................................................ 530,758 529,214
Strategic agreements, net................................................ 519,275 488,289
Other intangible assets, net............................................. 24,609 19,041
Investments.............................................................. 69,788 98,666
Restricted investments................................................... 3,000 3,000
Other noncurrent assets.................................................. 8,409 8,358
---------------- ----------------
Total other assets................................................... 1,227,684 1,205,671
---------------- ----------------
Total........................................................... $ 1,637,477 $ 1,603,549
================ ================
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable......................................................... $ 10,049 $ 8,373
Accrued liabilities...................................................... 54,914 42,675
Current portion of long-term obligations................................. 5,054 6,018
Deferred revenue......................................................... 42,410 40,399
---------------- ----------------
Total current liabilities............................................ 112,427 97,465
Accrued rent and other........................................................ 3,019 3,226
Deferred income taxes......................................................... 39,993 28,967
Long-term obligations - less current portion.................................. 3,877 7,502
Convertible subordinated notes................................................ 172,500 172,500
Stockholders' equity:
Preferred stock- 50,000,000 authorized shares, $.01 par value;
no amounts issued or outstanding..................................... -- --
Common stock- 500,000,000 authorized shares, $.01 par value;
issued 93,629,718 and 94,164,720 shares, respectively;
outstanding 88,085,894 and 88,620,896 shares, respectively........... 881 886
Additional paid-in capital............................................... 2,435,310 2,439,613
Accumulated deficit...................................................... (1,130,405) (1,146,581)
Unearned compensation.................................................... (125) (110)
Accumulated other comprehensive income................................... -- 81
---------------- ----------------
Total stockholders' equity........................................... 1,305,661 1,293,889
---------------- ----------------
Total........................................................... $ 1,637,477 $ 1,603,549
================ ================
See Notes to Interim Unaudited Condensed Consolidated Financial Statements.
3
CHECKFREE CORPORATION AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
THREE MONTHS ENDED
SEPTEMBER 30,
-------------------------
2001 2002
--------- ---------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
Revenues:
Processing and servicing .............................. $ 100,923 $ 114,491
License fees .......................................... 4,061 4,209
Maintenance fees ...................................... 6,139 6,186
Other ................................................. 5,552 5,349
--------- ---------
Total revenues .................................... 116,675 130,235
--------- ---------
Expenses:
Cost of processing, servicing and support ............. 68,162 58,767
Research and development .............................. 14,724 12,235
Sales and marketing ................................... 15,005 13,206
General and administrative ............................ 11,626 10,300
Depreciation and amortization ......................... 119,203 56,878
--------- ---------
Total expenses .................................... 228,720 151,386
--------- ---------
Loss from operations ....................................... (112,045) (21,151)
Interest, net .............................................. (529) (1,216)
--------- ---------
Loss before income taxes and cumulative effect of accounting
change ................................................ (112,574) (22,367)
Income tax benefit ......................................... (23,627) (9,085)
--------- ---------
Loss before cumulative effect of accounting change ......... (88,947) (13,282)
Cumulative effect of accounting change ..................... -- (2,894)
--------- ---------
Net loss ................................................... $ (88,947) $ (16,176)
========= =========
Basic and diluted loss per share:
Basic and diluted net loss per common share before
cumulative effect of accounting change ............ $ (1.02) $ (0.15)
Cumulative effect of accounting change ................ -- (0.03)
--------- ---------
Net loss per common share ............................. $ (1.02) $ (0.18)
========= =========
Equivalent number of shares ........................... 87,090 88,378
========= =========
See Notes to Interim Unaudited Condensed Consolidated Financial Statements.
4
CHECKFREE CORPORATION AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
THREE MONTHS ENDED
SEPTEMBER 30,
---------------------------------
2001 2002
--------------- --------------
(IN THOUSANDS)
Operating activities:
Net loss .......................................................... $ (88,947) $ (16,176)
Adjustments to reconcile net loss to net cash provided by (used in)
operating activities:
Depreciation and amortization ..................................... 119,203 56,878
Deferred income tax provision ..................................... (23,627) (9,085)
Cumulative effect of accounting change ............................ -- 2,894
Impact of warrants ................................................ -- (644)
Change in certain assets and liabilities:
Accounts receivable ........................................... 3,361 4,476
Prepaid expenses and other .................................... (38) (2,546)
Accounts payable .............................................. (2,564) (1,676)
Accrued liabilities and other ................................. (5,525) (8,063)
Deferred revenue .............................................. (3,091) (2,011)
--------- ---------
Net cash provided by (used in) operating activities ...... (1,228) 24,047
Investing activities:
Purchase of property and software ................................. (6,774) (9,695)
Capitalization of software development costs ...................... (1,199) (523)
Purchase of investments - held to maturity ........................ (1,545) (35,506)
Proceeds from maturities of investments - held to maturity ........ 3,819 38,690
Purchase of investments - available for sale ...................... -- (11,389)
Proceeds from maturities of investments - available for sale ...... -- 91
--------- ---------
Net cash used in investing activities .................... (5,699) (18,332)
Financing activities:
Principal payments under capital lease and other long-term
obligations ...................................................... (2,138) (6,102)
Proceeds from stock options exercised ............................. 202 17
Proceeds from employee stock purchase plan ........................ 1,519 942
--------- ---------
Net cash used in financing activities .................... (417) (5,143)
--------- ---------
Net increase (decrease) in cash and cash equivalents ................... (7,344) 572
Cash and cash equivalents:
Beginning of period ............................................... 124,122 115,009
--------- ---------
End of period ..................................................... $ 116,778 $ 115,581
========= =========
See Notes to Interim Unaudited Condensed Consolidated Financial Statements.
5
CHECKFREE CORPORATION AND SUBSIDIARIES
NOTES TO INTERIM CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS
FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2001 AND 2002
1. BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT ACCOUNTING
POLICIES
UNAUDITED INTERIM FINANCIAL INFORMATION
The accompanying condensed consolidated financial statements
and notes thereto have been prepared in accordance with the rules and
regulations of the Securities and Exchange Commission for Form 10-Q and include
all of the information and disclosures required by generally accepted accounting
principles for interim financial reporting. The results of operations for the
three months ended September 30, 2001 and 2002, are not necessarily indicative
of the results for the full year.
These financial statements should be read in conjunction with
the financial statements, accounting policies and financial notes thereto
included in the Company's Annual Report filed with the Securities and Exchange
Commission on Form 10-K. In the opinion of management, the accompanying
condensed consolidated unaudited financial statements reflect all adjustments
(consisting only of normal recurring adjustments) which are necessary for a fair
representation of financial results for the interim periods presented.
RECLASSIFICATIONS
Certain reclassifications have been made to the prior year's
financial information to conform to the September 30, 2002 presentation.
INVESTMENTS
During the quarter ended September 30, 2002, the Company began
classifying certain investment purchases as available-for-sale.
Available-for-sale securities are carried at fair value and changes in fair
value are recorded as unrealized gains or losses in accumulated other
comprehensive income, a component of stockholders' equity. As of September 30,
2002, investments available-for-sale were $11,297,000 and $11,378,000 at
amortized cost and fair value, respectively. Investments available-for-sale
represent 6.7% of the Company's total investment portfolio.
RECENT ACCOUNTING PRONOUNCEMENTS
In August 2001, the Financial Accounting Standards Board
("FASB") issued Statement of Financial Accounting Standards ("SFAS") 143,
"Accounting for Asset Retirement Obligations." SFAS 143 addresses financial
accounting and reporting for obligations associated with the retirement of
tangible long-lived assets and the associated retirement costs. The Company
adopted SFAS 143 as of July 1, 2002. The adoption of this statement had no
impact on the Company's results of operations or financial position for the
three months ended September 30, 2002.
On July 1, 2002, the Company adopted SFAS 144, "Accounting for
the Impairment or Disposal of Long-Lived Assets." SFAS 144 superseded SFAS 121,
"Accounting for Impairment of Long-Lived Assets and for Long-Lived Assets to Be
Disposed Of" and the accounting and reporting provisions of Accounting
Principles Board Opinion 30, "Reporting Results of Operations - Reporting the
Effects of Disposal of a Segment of a Business and Extraordinary, Unusual and
Infrequently Occurring Events and Transactions" for the disposal of a segment of
a business. SFAS 144 addresses financial accounting and reporting for the
impairment or disposal of long-lived assets. The adoption of this statement had
no impact on the Company's results of operations or financial position for the
three months ended September 30, 2002.
In April 2002, the FASB issued SFAS 145, "Rescission of FASB
Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical
Corrections." This statement eliminates the current requirement that gains and
losses on extinguishment of debt must be classified as extraordinary items in
the income statement. Instead, the statement requires that gains and losses on
extinguishment of debt be evaluated against the criteria in Accounting
Principles Board ("APB") Opinion 30, "Reporting the Results of
Operations--Discontinued
6
Events and Extraordinary Items" to determine whether or not it should be
classified as an extraordinary item. In addition, the statement contains other
corrections to authoritative accounting literature in SFAS 4, 44 and 64. The
changes in SFAS 145 related to debt extinguishment are effective for the
Company's 2003 fiscal year and the other changes were effective beginning with
transactions after May 15, 2002. In August 2002, the Company announced that its
board of directors had authorized a repurchase program under which the Company
may purchase shares of its common stock and convertible notes. Should the
Company purchase any of its convertible notes and realize a gain or loss on the
transaction, SFAS 145 will require the Company to evaluate the transaction
against the criteria in APB 30 to determine if the gain or loss should be
classified as an extraordinary item. If classification as an extraordinary item
is not appropriate, the gain or loss would be included as part of income from
operations.
In June 2002, the FASB issued SFAS 146, "Accounting for Costs
Associated with Exit or Disposal Activities," which addresses accounting for
reorganization and similar costs. SFAS 146 supersedes previous accounting
guidance, principally EITF 94-3. SFAS 146 requires that the liability for costs
associated with an exit or disposal activity be recognized when the liability is
incurred. Under EITF No. 94-3, a liability for an exit cost was recognized at
the date of a company's commitment to an exit plan. SFAS 146 also establishes
that the liability should initially be measured and recorded at fair value.
Accordingly, SFAS 146 may affect the timing of recognizing any future
reorganization costs as well as the amount recognized. The provisions of SFAS
146 are effective for reorganization activities initiated after December 31,
2002.
2. STRATEGIC AGREEMENT
As a result of the strategic agreement signed with Bank of
America in October 2000, Bank of America owns approximately 11.3% of the Company
as of September 30, 2002, and is considered a related party. The following
amounts related to Bank of America are included in the Company's consolidated
financial statements for the periods indicated (in thousands):
JUNE 30, SEPTEMBER 30,
2002 2002
----------------- ----------------
Current assets:
Accounts receivable, net................................. $ 22,632 $ 24,021
----------------- ----------------
Total current assets.............................. $ 22,632 $ 24,021
================= ================
Current liabilities:
Accrued liabilities...................................... $ 808 $ 808
Deferred revenues........................................ 824 882
----------------- ----------------
Total current liabilities......................... $ 1,632 $ 1,690
================= ================
THREE MONTHS ENDED
SEPTEMBER 30,
--------------------------------------
2001 2002
----------------- -----------------
Revenues from Bank of America:
Processing and servicing.................................... $ 12,660 $ 18,294
Maintenance fees............................................ 84 83
Other....................................................... 15 --
----------------- -----------------
Total revenues.................................... $ 12,759 $ 18,377
================= =================
Expenses paid to Bank of America:
Cost of processing, servicing and support.................. $ 8,624 $ 4
----------------- -----------------
Total expenses.................................... $ 8,624 $ 4
================= =================
Revenues and accounts receivable relate to all segments of the Company,
but primarily to electronic billing and payment services provided to Bank of
America. Cost of processing expenses relate to reimbursements to Bank of America
in connection with a transition services agreement in place while the Company
completed the conversion of Bank of America customers to its processing
platform. Please refer to Management's Discussion and Analysis of Financial
Condition and Results of Operations included in this Form 10-Q for additional
information regarding our transactions with Bank of America.
7
3. GOODWILL AND OTHER INTANGIBLE ASSETS
On July 1, 2002, the Company adopted SFAS 142, "Goodwill and
Other Intangible Assets." SFAS 142 changes the accounting for goodwill and other
intangible assets. Goodwill is no longer subject to amortization over its
estimated useful life. Rather, goodwill is subject to at least an annual
assessment for impairment by applying a fair-value-based test.
Upon adoption of SFAS 142, the Company transferred $1,350,000
of unamortized workforce in place intangible assets, net of the associated
deferred income taxes, into goodwill, discontinued the amortization of goodwill
and was required to perform a transitional impairment test. This impairment test
required the Company to (1) identify its reporting units, (2) determine the
carrying value of each reporting unit by assigning assets and liabilities,
including existing goodwill and intangible assets, to those reporting units, and
(3) determine the fair value of each reporting unit. If the carrying value of
any reporting unit exceeded its fair value, then additional testing was required
to see if the goodwill carried on the balance sheet was impaired. After
completing step one of the transitional impairment test, the Company determined
that goodwill associated with its i-Solutions reporting unit, a unit within the
Company's Software segment, was potentially impaired.
The amount of goodwill impairment was then determined through
an analysis similar to that of a purchase price allocation, where the fair value
of the individual tangible and intangible assets (excluding goodwill) and
liabilities of the i-Solutions reporting unit was compared to the fair value of
the reporting unit, with the residual amount being the fair value assigned to
goodwill. The fair value of the i-Solutions reporting unit was estimated using a
combination of the cost, market, and income approaches. Specifically, the
discounted cash flow and market multiples methodologies were utilized to
determine the fair value of the reporting unit by estimating the present value
of the future cash flows of the reporting unit along with reviewing revenue and
earnings multiples for comparable publicly traded companies and applying these
to the reporting unit's projected cash flows. Fair value of each of the assigned
assets and liabilities was determined using either a cost, market, or income
approach, as appropriate, for each individual asset or liability. The resulting
impairment charge of $2,894,000 was recorded and is reflected as a cumulative
effect of a change in accounting principle in the Condensed Consolidated
Statement of Operations for the three months ended September 30, 2002.
The following table adjusts net loss and net loss per share
for the impact of the implementation of SFAS 142 as follows (in thousands,
except per share data):
THREE MONTHS ENDED
SEPTEMBER 30,
-------------------------
2001 2002
---------- --------
Loss before cumulative effect of accounting change .... $ (88,947) $(13,282)
Cumulative effect of accounting change ................ -- (2,894)
---------- --------
Net loss .............................................. (88,947) (16,176)
Add back: goodwill amortization, net of tax .......... 49,809 --
---------- --------
Adjusted net loss ..................................... $ (39,138) $(16,176)
========== ========
Basic and diluted net loss per share:
Basic and diluted net loss per common share before
cumulative effect of accounting change ....... $ (1.02) $ (0.15)
Cumulative effect of accounting change ........... -- (0.03)
---------- --------
Net loss per common share.........................
(1.02) (0.18)
Goodwill amortization, net of tax ................ 0.57 --
---------- --------
Adjusted basic and diluted net loss per share .... $ (0.45) $ (0.18)
========== ========
8
The components of the Company's various amortized intangible
assets are as follows (in thousands):
JUNE 30, SEPTEMBER 30,
2002 2002
---------------- -----------------
Capitalized software:
Product technology from acquisitions and strategic agreement.. $166,578 $166,578
Internal development costs.................................... 24,946 25,469
---------------- -----------------
Total................................................ 191,524 192,047
Less: accumulated amortization...................... 119,679 132,944
---------------- -----------------
Capitalized software, net............................ $ 71,845 $ 59,103
================ =================
Strategic agreements:
Strategic agreements.......................................... $744,424 $744,424
Less: accumulated amortization.................... 225,149 256,135
---------------- -----------------
Strategic agreements, net.......................... $519,275 $488,289
================ =================
Other intangible assets:
Workforce(1).................................................. $ 11,944 $ --
Tradenames.................................................... 47,968 47,968
Customer base................................................. 45,358 45,358
Covenants not to compete...................................... 1,200 1,200
---------------- -----------------
Total................................................ 106,470 94,526
Less: accumulated amortization...................... 81,861 75,485
---------------- -----------------
Other intangible assets, net......................... $ 24,609 $ 19,041
================ =================
(1) As of July 1, 2002, in accordance with SFAS 142, the Company reclassified its workforce intangibles
into goodwill.
Amortization of intangible assets totaled $47,863,000 for the
three months ended September 30, 2002. Amortization expense for the year ended
June 30, 2003 and the next four fiscal years is estimated to be as follows (in
thousands):
Fiscal Year Ending June 30,
- ---------------------------
2003............................ $183,824
2004............................ 138,683
2005............................ 128,037
2006............................ 42,941
2007............................ 25,716
As of September 30, 2002, the Company's only non-amortizing
intangible asset is goodwill. The changes in the carrying value of goodwill by
segment for the three months ended September 30, 2002 were as follows (in
thousands):
ELECTRONIC INVESTMENT
COMMERCE SOFTWARE SERVICES TOTAL
-------------- ------------- ------------- --------------
Balance as of June 30, 2002............... $ 503,255 $ 16,116 $ 11,387 $ 530,758
Reclassification of workforce, net of tax. 483 867 -- 1,350
Impairment loss........................... -- (2,894) -- (2,894)
-------------- ------------- ------------- --------------
Balance as of September 30, 2002.......... $ 503,738 $ 14,089 $ 11,387 $ 529,214
============== ============= ============= ==============
4. COMMON STOCK
In the three months ended September 30, 2002, the Company
issued stock for various employee benefit programs. The Company issued 402,102
shares to fund its 401(k) match, the cost of which was accrued in the year ended
June 30, 2002, and 128,390 shares of common stock in conjunction with its
employee stock purchase plan, which was funded through employee payroll
deductions in the immediately preceding six-month period.
9
5. STOCK-RELATED TRANSACTIONS WITH THIRD PARTIES
In October 1999, the Company entered into an agreement with
one of its customers. Under the terms of the agreement, the customer purchased
250,000 shares of the Company's stock, has been issued warrants on one million
shares, and has the ability to earn warrants on up to two million additional
shares. All warrants contain a strike price of $39.25 and were exercisable on
September 15, 2002, contingent upon achievement of various annual revenue
targets and maintaining the continued existence of the agreement through that
date. During the quarter ended June 30, 2002, vesting of the warrants for one
million shares became probable. As such, the Company recorded a non-cash charge
of $2,748,000 for the fair value of the portion of the warrants earned through
June 30, 2002. During the quarter ended September 30, 2002, the Company recorded
a non-cash increase in revenue of $644,000, reflecting the portion of the
warrants earned during the quarter and the final fair value of the one million
warrants that vested on September 15, 2002. Fair value was determined based on a
Black-Scholes option pricing model valuation. Under the provisions of Emerging
Issues Task Force ("EITF") 01-9, "Accounting for Consideration by a Vendor to a
Customer (Including a Reseller of the Vendor's Products)," the non-cash charge
of $2,748,000 was recorded as a reduction of revenue, and the non-cash increase
of $644,000 was recorded as an increase to revenue.
6. EARNINGS PER SHARE
The following table reconciles the differences in income and
shares outstanding between basic and dilutive for the periods indicated (in
thousands except per share data):
FOR THE THREE MONTHS ENDED
-------------------------------------------------------------------------------
SEPTEMBER 30, 2001 SEPTEMBER 30, 2002
------------------------------------- -------------------------------------
LOSS SHARES PER-SHARE LOSS SHARES PER-SHARE
(NUMERATOR) (DENOMINATOR) AMOUNT (NUMERATOR) (DENOMINATOR) AMOUNT
----------- ------------- ------ ----------- ------------- ------
Basic EPS ............ $(88,947) 87,090 $(1.02) $(16,176) 88,378 $(0.18)
====== ======
Effect of dilutive
securities:
Options and warrants -- -- -- -- --
-------- ------ -------- ------ ------
Diluted EPS .......... $(88,947) 87,090 $(1.02) $(16,176) 88,378 $(0.18)
======== ====== ====== ======== ====== ======
Anti-dilution provisions of SFAS 128 require consistency
between diluted per-common-share amounts and basic per-common-share amounts in
loss periods. The number of anti-dilutive equivalent shares excluded from the
per-share calculations is 4,921,458 and 2,552,569 for the three months ended
September 30, 2001 and 2002, respectively. The after-tax effect of interest
expense on the convertible subordinated notes of approximately $2,394,000 and
$2,394,000 for the three months ended September 30, 2001 and 2002, respectively,
has not been added back to the numerator, as its effect would be anti-dilutive.
7. REORGANIZATION CHARGES
During the year ended June 30, 2002, the Company announced it
would streamline operations in its Electronic Commerce division, refine its
strategy for the i-Solutions business unit of its Software division, and
discontinue certain product lines associated with its Investment Services
division. As a result of these actions, the Company closed or consolidated
operations in several locations and eliminated certain other positions in the
Company. The streamlining of its Electronic Commerce division operations
resulted from efficiencies gained from the consolidation of three legacy
transaction processing platforms to its Genesis platform and resulted in the
closing of its San Francisco, California location on April 30, 2002; its
Houston, Texas location on June 30, 2002; and its Austin, Texas location on
September 30, 2002. The refinement in strategy for the i-Solutions business
resulted in the closing of its Ann Arbor, Michigan and Singapore locations on
March 19, 2002. These actions resulted in the termination of 707 employees.
As a result of these actions, during the year ended June 30,
2002, the Company recorded reorganization charges and established a
reorganization reserve for certain charges related to the reorganization plan. A
summary of activity related to the reorganization reserve for the three months
ended September 30, 2002, is as follows (in thousands):
10
REORGANIZATION REORGANIZATION
RESERVE AT CASH RESERVE AT
JUNE 30, 2002 PAYMENTS SEPTEMBER 30, 2002
----------------- -------------- -------------------
Severance and other employee costs....... $ 4,701 $ (4,012) $ 689
Office closure and business exit costs... 3,028 (918) 2,110
Other exit costs......................... 71 (8) 63
----------------- -------------- -------------------
Total............................... $ 7,800 $ (4,938) $ 2,862
================= ============== ===================
In conjunction with the reorganization activities described
above, the Company revised the estimated useful lives of Existing Product
Technology and Customer Base intangible assets related to the product lines that
are to be discontinued from its Mobius Group acquisition. This resulted in
amortization expense of $397,000 for the quarter ended September 30, 2002, which
represents an after-tax impact of $236,000 and no impact to earnings per share.
8. SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION (IN
THOUSANDS)
THREE MONTHS ENDED
SEPTEMBER 30,
-------------------------------
2001 2002
--------------- ------------
Interest paid.......................................................... $ 389 $ 267
=============== ============
Income taxes paid (received)........................................... $ 48 $ (2)
=============== ============
Supplemental disclosure of non-cash investing and financing activities:
Capital lease and other long-term asset additions................. $ -- $ 10,653
=============== ============
Stock funding of 401(k) match..................................... $ 3,585 $ 3,229
=============== ============
Stock funding of Associate Stock Purchase Plan.................... $ 2,357 $ 1,707
=============== ============
9. COMPREHENSIVE LOSS
The Company began investing in available-for-sale securities
during the quarter ended September 30, 2002. Available-for-sale securities are
recorded at fair value and changes in fair value are recorded as unrealized
gains or loses and accumulated in other comprehensive income. As a result, the
Company is required to report the components of comprehensive loss which are as
follows (in thousands):
THREE MONTHS ENDED
SEPTEMBER 30,
--------------------------------
2001 2002
-------------- --------------
Net loss.......................................................... $ (88,947) $ (16,176)
Net unrealized gains on investment securities available-for-sale.. -- 81
-------------- --------------
Comprehensive loss................................................ $ (88,947) $ (16,095)
============== ==============
10. BUSINESS SEGMENTS
The Company operates in three business segments - Electronic
Commerce, Software and Investment Services. These reportable segments are
strategic business units that offer different products and services. The Company
evaluates performance based on revenues and operating income (loss) of the
respective segments. Segment operating income (loss) excludes acquisition
related intangible asset amortization and significant one-time charges. There
are no inter-segment sales.
11
The following sets forth certain financial information
attributable to the Company's business segments for the three months ended
September 30, 2001 and 2002 (in thousands):
THREE MONTHS ENDED
SEPTEMBER 30,
-------------------------
2001 2002
--------- ---------
Revenues:
Electronic Commerce ....................................... $ 84,828 $ 96,643
Investment Services ....................................... 19,372 20,523
Software................................................... 12,475 13,069
--------- ---------
Total ............................................ $ 116,675 $ 130,235
========= =========
Segment operating income (loss):
Electronic Commerce ...................................... $ 2,872 $ 26,452
Investment Services ...................................... 5,369 4,844
Software.................................................. (1,314) 1,089
Corporate ................................................ (9,402) (8,023)
--------- ---------
Total (2,475) 24,362
Purchase accounting amortization (109,570) (46,157)
Impact of warrants ............................................. -- 644
Interest, net .................................................. (529) (1,216)
--------- ---------
Total loss before income taxes and cumulative effect of
accounting change ................................ $(112,574) $ (22,367)
========= =========
12
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OVERVIEW
CheckFree was founded in 1981 as an electronic payment processing
company and has become a leading provider of financial electronic commerce
products and services. Our current business was developed through the expansion
of our core electronic payments business and the acquisition of companies
operating in similar or complementary businesses.
We operate our business through three independent but inter-related
divisions:
- Electronic Commerce;
- Investment Services; and
- Software.
Through our Electronic Commerce division, we enable consumers to
receive and pay bills electronically. For the year ended June 30, 2002, we
processed approximately 316 million electronic transactions and delivered
approximately 9.8 million electronic bills. For the quarter ended September 30,
2002, we processed approximately 96.7 million electronic payments and delivered
approximately 4.7 million electronic bills. As of September 30, 2002, there are
about seven million consumers initiating payments via CheckFree supported
technology. The number of transactions we process each year continues to grow.
Growth in the number of transactions processed exceeded 36% for the year ended
June 30, 2002 and 39% for the quarter ended September 30, 2002 against the same
periods in the prior year. The Electronic Commerce division accounted for
approximately 72% of our fiscal 2002 revenue.
Our Electronic Commerce division's products allow consumers to:
- receive electronic bills through the Internet;
- pay any bill -- whether it arrives over the Internet or
through traditional mail -- to anyone;
- make payments not related to bills -- to anyone; and
- perform customary banking transactions, including balance
inquiries, transfers between accounts and on-line statement
reconciliations.
The majority of consumers using our services access our system through
Consumer Service Providers (CSPs). CSPs are companies, such as banks, brokerage
firms, Internet portals and content sites, Internet-based banks, Internet
financial sites and personal financial management software providers, that use
our products to enable consumers to receive and/or pay bills electronically. We
have relationships with hundreds of CSPs. Some of our largest CSPs, as
determined by type of CSP and number of consumers using our products, are Bank
of America, Bank One, Charles Schwab & Co., Chase Manhattan Bank, Merrill Lynch
& Co., SunTrust, U.S. Postal Service, Wachovia, Wells Fargo and Yahoo!. This
list of our CSPs is not exhaustive and may not fully represent our customer
base.
We have developed our own open infrastructure, known as Genesis, to
process electronic bills and payments. The Genesis system is accessed by CSPs
using various Web-based applications. In March 2001, we introduced our latest
application for electronic billing and payments -- "WebPay for Consumers" (or
WebPay 3.2), which added to our core product the ability for consumers to
receive and pay e-bills over e-mail and to exchange money with each other using
e-mail "invitations" to receive money. WebPay 3.2 helps consumers automate the
complete process of viewing and paying bills -- they can receive bills online
and pay those bills online, too. WebPay 3.2 also allows the consumer to "Pay
Anyone" electronically -- from a child in college, to a lawn care or other
service provider, to a friend, using the Genesis system. We now have 657 CSPs
offering full electronic billing and payment as the number of sites where
consumers can both view and pay bills continues to increase.
Through our Investment Services division, we provide a range of
outsourced portfolio management services to help more than 250 institutions
deliver portfolio management, performance measurement and reporting services to
their clients. As of September 30, 2002, our clients used the CheckFree APL
Portfolio Accounting System to manage about 1.2 million portfolios totaling more
than $500 billion in assets. The Investment Services division accounted for
approximately 16% of our fiscal 2002 revenue.
13
Our institutional client base includes investment advisors, brokerage
firms, banks and insurance companies. Our fee-based money manager clients are
typically sponsors or managers of "wrap" or separately managed accounts, money
management products, or traditional money managers, managing investments of
institutions and high net worth individuals.
Our portfolio management systems are marketed under the product names
APL, and provide the following functions:
- account open and trading capabilities;
- graphical client reporting;
- performance measurement;
- decision support tools;
- account analytics;
- tax lot accounting;
- manager due diligence;
- multiple strategy portfolios;
- straight through processing;
- Depository Trust Corporation interfacing;
- billing functions; and
- system and data security.
In addition to our APL and APL Wrap portfolio management products, our
Investment Services division also offers investment performance and reporting
products and services. Marketed under M-Search and M-Watch, these products are a
result of the acquisition of Mobius Group, Inc. in March 1999.
Through our Software division, we deliver software, maintenance,
support and professional services to large financial service providers and other
companies across a range of industries. The Software division is comprised of
three units, each with its own distinct set of software products. The ACH
Solutions unit provides software and services that are used to process more than
two-thirds of the nation's eight billion Automated Clearing House (ACH)
payments. The CheckFree Financial and Compliance Solutions (CFACS) unit enables
organizations to handle their reconciliation and compliance requirements. The
i-Solutions unit provides software and services that enable end-to-end e-billing
and e-statement creation, delivery and payment. The Software division accounted
for approximately 12% of our fiscal 2002 revenue.
14
RESULTS OF OPERATIONS
The following table sets forth as percentages of total operating
revenues, certain consolidated statements of operations data:
THREE MONTHS ENDED
SEPTEMBER 30,
--------------------
2001 2002
------ ------
Total revenues: .................................. 100.0 % 100.0 %
Expenses:
Cost of processing, servicing and support .... 58.4 % 45.1 %
Research and development ..................... 12.6 % 9.4 %
Sales and marketing .......................... 12.9 % 10.1 %
General and administrative ................... 10.0 % 7.9 %
Depreciation and amortization ................ 102.2 % 43.7 %
------ ------
Total expenses ........................... 196.0 % 116.2 %
------ ------
Loss from operations ............................. (96.0)% (16.2)%
Interest, net .................................... (0.5)% (0.9)%
------ ------
Loss before income taxes and cumulative effect of
accounting change ............................ (96.5)% (17.2)%
Income tax benefit ............................... 20.3 % 7.0 %
------ ------
Loss before cumulative effect of accounting change (76.2)% (10.2)%
Cumulative effect of accounting change ........... 0.0 % (2.2)%
------ ------
Net loss ......................................... (76.2)% (12.4)%
====== ======
Revenues. Reported revenue increased by $13.6 million, or 12%, from
$116.7 million for the three months ended September 30, 2001 to $130.2 million
for the three months ended September 30, 2002. Total company revenue growth
resulted from 14% growth in our Electronic Commerce business, 6% growth in our
Investment Services business and 5% growth in our Software business. The growth
in our Electronic Commerce business was driven primarily by an increase in
transactions processed from approximately 69.4 million for the three months
ended September 30, 2001 to approximately 96.7 million for the three months
ended September 30, 2002 and incremental revenue increases of approximately $2.3
million from minimum revenue guarantees from each of Microsoft and First Data
Corporation. In October 1999, we entered into an agreement with a third party in
which we issued warrants on one million shares of our stock, exercisable on
September 15, 2002, contingent upon maintaining the existence of our agreement
through that date. During the quarter ended June 30, 2002, we recorded a
non-cash charge of $2.7 million against revenue resulting from the probable
vesting of those warrants. In the quarter ended September 30, 2002, the warrants
actually vested. On the date of vesting, however, the fair value of our stock
was lower than at June 30, 2002, when we calculated the initial charge. As a
result, a true up of the value of the warrants resulted in a credit to revenue
of $0.6 million in the quarter ended September 30, 2002. Although the credit was
non-cash in nature, it added to our revenue growth. Growth in Electronic
Commerce was somewhat dampened by a drop in interest rates, which has negatively
impacted our interest sensitive offerings, such as our account balance transfer
product.
Growth in both our Investment Services and Software businesses has been
hampered by poor economic conditions. Portfolios managed within Investment
Services have remained flat over the past several quarters as new portfolios
have been offset by investors closing out stock holdings. Our pricing in this
business is based primarily on portfolios managed, and as a result, we have
experienced less than historical revenue growth. We expect this will continue
until investor confidence is restored in the stock market. We have also
experienced slow growth in all areas of our Software business as the recession
continues and customers take longer than usual to evaluate discretionary
investment-spending alternatives.
Our processing and servicing revenue increased by $13.6 million, or
13%, from $100.9 million for the three months ended September 30, 2001, to
$114.5 million for the three months ended September 30, 2002. Processing and
servicing revenue occurs in both our Electronic Commerce and Investment Services
businesses. Within
15
Electronic Commerce, growth in underlying processing and servicing revenue is
driven by the previously mentioned growth in transactions. We delivered
approximately 4.8 million electronic bills, which have a price point of
approximately $0.25, in the three months ended September 30, 2002; an increase
of 182% over the 1.7 million bills delivered in the three months ended September
30, 2001. This part of our business is beginning to provide a more significant
revenue stream for us. Our agreements with Microsoft and First Data Corporation,
resulting from our acquisition of TransPoint in September 2000, include monthly
minimum revenue guarantees that increase annually over the five-year term of the
agreements. We continue to operate under the minimum revenue levels with both,
and as a result of the increased minimum levels, revenue from Microsoft and
First Data Corporation grew by approximately $2.3 million from the three months
ended September 30, 2001 to the three months ended September 30, 2002. As
previously mentioned, we recorded a $0.6 million non-cash credit to revenue
related to the true-up of the charge we recorded against revenue in the quarter
ended June 30, 2002 resulting from warrants issued to a third party that vested
in the quarter ended September 30, 2002. We typically experience a seasonal drop
in our payment solutions products within Electronic Commerce during the summer
months, but we did not see the normal summer slow down in the quarter ended
September 30, 2002. Significant reductions in interest rates from this time last
year have had a dampening effect on our interest rate sensitive products such as
our account balance transfer offering which has offset further growth in
Electronic Commerce processing and servicing revenue. As previously mentioned,
processing and servicing revenue in our Investment Services business has grown
modestly as the number of portfolios managed have remained relatively flat on a
year over year basis.
At the end of our 2002 fiscal year, we introduced a series of
transaction-based metrics that are designed to help investors better understand
the underlying trends in our revenue base than previously reported subscriber
metrics. We offer two basic levels of electronic billing and processing services
to our CSPs. Customers that utilize our Full Service offering outsource the
electronic billing and payment process to us, including customer care. Customers
in the Full Service category may contract to pay us either on a per-subscriber
basis, a per-transaction basis or some combination of both. Customers that
utilize our Transaction Services offering receive a subset of our electronic
billing and payment transaction services. An example of a Transaction Services
customer may be a bank that hosts its own bill payment warehouse and builds its
own user interface into that warehouse, then uses CheckFree to process its
payments. A third category of revenue is simply called Other Electronic
Commerce, and includes our Health and Fitness business and other ancillary
revenue sources, such as implementation and consulting services revenue. We have
included a table of comparative transaction statistics in the SEGMENT
INFORMATION section of this report.
As anticipated in previous reports, in the quarter ended September 30,
2002, one of our larger customers, Wells Fargo bank, converted from a Full
Service relationship to a Transaction Service relationship as they implemented
their own payment warehouse. During the quarter, approximately 300,000 active
subscribers and their related transactions switched categories. Although
Transaction Services transactions generate less revenue per transaction, because
we provide less service, the cost per transaction is less as well. While the
shift of a customer to Transaction Service from Full Service will reduce
revenue, we do not expect such a shift to have a significant impact on operating
margin over time. We had also anticipated that Chase Manhattan bank, another
large customer, already included in the Transaction Services category, would
begin moving transactions to a competitor in order to meet contractually
guaranteed minimum transaction levels with that competitor. This shift did not
take place as quickly as expected and, as a result, the customer will need to
move greater volumes from our system to the competitor in the next several
quarters in order to meet their contractual commitment. While the delay in
movement provided unexpected processing revenue in the September 30, 2002
quarter, it will have a dampening effect on growth in the quarter ended December
31, 2002 as we expect 3.0 million transactions to be removed from the
Transaction Services category. A third customer, Wachovia bank, has
independently disclosed their intention of moving toward a Transaction Services
model sometime in late spring of 2003. However, they also disclosed that merger
integration efforts were a priority and could impact the timing of other
initiatives. As a result, we believe that such a change, should it occur, would
not have a material impact on our expected revenue or operating income in fiscal
2003.
Our license fee revenue increased by $0.1 million, or 4%, from $4.1
million for the three months ended September 30, 2001, to $4.2 million for the
three months ended September 30, 2002. License revenue is derived from our
Software business. Our September quarter, which is the first quarter of our
fiscal year, continues to be seasonally low for license sales. The recessionary
economy has caused potential customers to extend their evaluation time on
discretionary spending on items such as new software products, and we have seen
only moderate growth in software sales across all three of our Software product
lines on a year over year basis and expect this trend to continue until the
economy begins to rebound.
16
Our maintenance fee revenue remained relatively flat, from $6.1 million
for the three months ended September 30, 2001, to $6.2 million for the three
months ended September 30, 2002. Maintenance revenue, which represents annually
renewable product support for our software customers, is isolated to our
Software business, and tends to grow with incremental license sales. When
combining moderate growth in license sales, customer retention rates exceeding
80% across all business units and moderate price increases on a year over year
basis, the result is a slow growing maintenance base. Although we defer revenue
recognition on maintenance billings until cash is collected which can cause
quarter-to-quarter fluctuations, until license sales regain historical growth
rates, we would expect modest growth in maintenance in the near term.
Our other revenue decreased by $0.2 million, or 4%, from $5.6 million
for the three months ended September 30, 2001, to $5.3 million for the three
months ended September 30, 2002. Other revenue consists mostly of consulting and
implementation fees across all three of our businesses. With a slow down in
revenue within Investment Services and Software, we have seen somewhat of a
flattening of other related revenue as well.
Cost of Processing, Servicing and Support. Our cost of processing,
servicing and support was $68.2 million, or 58.4% of total revenue for the three
months ended September 30, 2001, and was $58.8 million, or 45.1% of total
revenue for the three months ended September 30, 2002. Cost of processing,
servicing and support as a percentage of processing only revenue (total revenue
less license fees) was 60.5% for the three months ended September 30, 2001,
versus 46.6% for the three months ended September 30, 2002. The largest single
factor resulting in the decline in processing and servicing costs, in light of
growth in processing and servicing revenue, was platform consolidation in our
Electronic Commerce business. For most of fiscal 2002, we were maintaining three
redundant payment-processing platforms. Through December 2001, we were
converting Bank of America subscribers from the legacy Bank of America
processing platform we purchased in October 2000 and, through March 2002, we
maintained the redundant system to close out remaining customer care inquiries
and claims, at which time we retired the Bank of America platform. Throughout
this period, we were paying Bank of America to run and maintain the platform for
us. Once we retired the Bank of America system, we were able to close our
customer care facility in San Francisco by April 30, 2002, and our Houston
customer care facility in the month ended June 30, 2002. Additionally, as we
migrated all but a few CSPs off of our legacy Austin processing platform onto
Genesis by the end of June 2002, we were able to close our Austin office as
well. The combination of platform consolidation and office closings eliminated
approximately $6.0 million of redundant quarterly processing and servicing costs
in the Electronic Commerce business. Additionally, our electronic payment rate
has increased from 66% for the three months ended September 30, 2001, to 73% for
the three months ended September 30, 2002. Electronic payments carry a
significantly lower variable cost per unit than do paper-based payments and are
far less likely to result in a costly customer care claim. We continue to focus
investment on additional efficiency and quality improvements within our customer
care processes and our information technology infrastructure to drive
improvements in our cost per transaction. During the quarter ended September 30,
2002, we did not start all of these efficiency related projects, which will
result in some additional costs in the coming quarter. We expect these efforts
to result in further improvements in cost per transaction in future periods.
Research and Development. Our research and development costs were $14.7
million, or 12.6% of total revenue, for the three months ended September 30,
2001, and $12.2 million, or 9.4% of total revenue, for the three months ended
September 30, 2002. Adjusted for capitalized development costs of $1.2 million
for the three months ended September 30, 2001 and $0.5 million for the three
months ended September 30, 2002, our gross expenditures for research and
development were $15.9 million, or 13.6% of total revenue for the three months
ended September 30, 2001, and were $12.7 million, or 9.8% of total revenue for
the three months ended September 30, 2002. On March 19, 2002, we announced a
company reorganization that resulted in a reduction in workforce that impacted
all areas of the company, including research and development. Although our
quarterly costs decreased on an absolute dollar basis, we continue to invest in
product enhancement and quality improvement programs in all three of our
businesses.
Sales and Marketing. Our sales and marketing costs were $15.0 million,
or 12.9% of total revenue for the three months ended September 30, 2001, and
$13.2 million, or 10.1% of total revenue, for the three months ended September
30, 2002. The previously mentioned reorganization impacted sales and marketing
resources as well, and resulted in a year over year reduction in costs in this
area. We closed our i-Solutions Ann Arbor office as part of the
17
restructuring. While other business units were impacted by the reorganization,
this was the primary factor in lower year over year sales and marketing costs.
General and Administrative. Our general and administrative expenses
were $11.6 million, or 10.0% of total revenue for the three months ended
September 30, 2001, and were $10.3 million, or 7.9% of total revenue for the
three months ended September 30, 2002. We continue to manage our corporate
expenses through attrition and discretionary cost reduction, resulting in
expected leverage in overhead costs.
Depreciation and Amortization. Our depreciation and amortization costs
decreased from $119.2 million for the three months ended September 30, 2001 to
$56.9 million for the three months ended September 30, 2002. In July 2002, we
adopted SFAS 142, "Goodwill and Other Intangible Assets." Upon adoption,
goodwill was no longer subject to amortization over its estimated useful life.
Instead, goodwill will be subject to at least an annual assessment for possible
impairment. All other intangible assets, such as acquired technology, strategic
agreements, trade names, and the like, will continue to be amortized over their
respective useful lives. As a result of the change, amortization from
acquisition related intangible assets has decreased from $109.6 million for the
three months ended September 30, 2001 to $46.2 million for the three months
ended September 30, 2002. Underlying depreciation and amortization expense from
operating fixed assets and internally capitalized product costs has increased
from $9.6 million for the three months ended September 30, 2001, to $10.7
million for the three months ended September 30, 2002. The increase in
non-acquisition related depreciation and amortization is the result of continued
investment in new product innovations and fixed assets necessary to support the
growth of the business.
Interest. Our interest income decreased from $2.7 million for the three
months ended September 30, 2001, to $2.1 million for the three months ended
September 30, 2002. In spite of an increase in average cash and invested asset
balances between the three months ended September 30, 2001 and the three months
ended September 30, 2002, we incurred a reduction in interest income of $0.6
million as a result of significantly lower average yields. Economic conditions
have resulted in significantly lower interest rates on a year over year basis,
which has limited earnings on our invested assets.
Our interest expense increased slightly, from $3.2 million for the
three months ended September 30, 2001, to $3.3 million for the three months
ended September 30, 2002. We continue to carry our 6 1/2% convertible bonds at a
balance of $172.5 million throughout both three month periods ending September
30, 2001 and 2002. As a result, our overall average interest rate has remained
fairly stable. Since last year we have financed certain fixed asset purchases
through capital leases that have resulted in an increase in our average
outstanding debt and capital lease obligations.
Income Taxes. We recorded an income tax benefit of $23.6 million with
an effective rate of 21.0% for the three months ended September 30, 2001 and an
income tax benefit of $9.1 million with an effective rate of 40.6% for the three
months ended September 30, 2002. Our prior year results included the impact of
non-deductible intangible amortization expenses. With our adoption of SFAS 142
in July 2002, we have stopped amortizing the non-deductible goodwill intangible
asset balances and, therefore, the effective tax rate is now more in line with a
blended statutory rate of 40%.
Cumulative Effect of Accounting Change. On July 1, 2002, we adopted
SFAS 142, "Goodwill and Other Intangible Assets." SFAS 142 changes the
accounting for goodwill and other intangible assets. Goodwill is no longer
subject to amortization over its estimated useful life. Rather, goodwill is
subject to at least an annual assessment for impairment by applying a
fair-value-based test.
In accordance with SFAS 142, we were required to perform a transitional
impairment test. The test was performed as of July 1, 2002. This impairment test
required us to (1) identify our reporting units, (2) determine the carrying
value of each reporting unit by assigning assets and liabilities, including
existing goodwill and intangible assets, to those reporting units, and (3)
determine the fair value of each reporting unit. If the carrying value of any
reporting unit exceeded its fair value, then the amount of any goodwill
impairment was determined through fair value analysis of each of the assigned
assets (excluding goodwill) and liabilities.
As a result of the transitional impairment test, we determined that
goodwill associated with our i-Solutions reporting unit was impaired. An
impairment charge of $2,894,000 was recorded and is reflected as a cumulative
18
effect of a change in accounting principle in the Condensed Consolidated
Statement of Operations for the three months ended September 30, 2002.
SEGMENT INFORMATION
The following table sets forth operating revenue and operating income
by industry segment for the periods noted (in thousands):
THREE MONTHS ENDED
SEPTEMBER 30,
----------------------------------
2001 2002
------------- -------------
OPERATING REVENUE:
Electronic Commerce......................................... $ 84,828 $ 96,643
Investment Services......................................... 19,372 20,523
Software.................................................... 12,475 13,069
------------- -------------
Total Operating Revenue.............................. $ 116,675 $ 130,235
============= =============
OPERATING INCOME (LOSS):
Electronic Commerce......................................... $ 2,872 $ 26,452
Investment Services......................................... 5,369 4,844
Software.................................................... (1,314) 1,089
Corporate................................................... (9,402) (8,023)
Purchase accounting amortization............................ (109,570) (46,157)
Impact of warrants.......................................... -- 644
------------- -------------
Total Operating Loss................................. $ (112,045) $ (21,151)
============= =============
Electronic Commerce. Revenue in our Electronic Commerce business
increased by $11.8 million, or 14%, from $84.8 million for the three months
ended September 30, 2001, to $96.6 million for the three months ended September
30, 2002. During the quarter ended June 30, 2002, we recorded a non-cash charge
of $2.7 million against Electronic Commerce revenue associated with the probable
vesting of warrants we issued to a third party. In the quarter ended September
30, 2002, the warrants actually vested. On the date of vesting, however, the
fair value of our stock was lower than at June 30, 2002, when we calculated the
initial charge. As a result, a true-up of the value of the warrants resulted in
a credit to revenue of $0.6 million in the quarter ended September 30, 2002. Net
of this true-up, underlying revenue was $96.0 million for the three months ended
September 30, 2002, for an increase of 13%. Underlying revenue growth is
primarily the result of an increase in transactions processed and electronic
bills distributed, offset by somewhat lower interest rates that have hampered
our growth in interest sensitive products, such as our account balance transfer
offering.
At the end of our fiscal year 2002, we introduced a series of
transaction-based metrics designed to help investors better understand the
underlying trends in our revenue base than our previously reported subscriber
metrics. We offer two basic levels of electronic billing and processing services
to our CSPs. Customers that utilize our Full Service offering outsource the
electronic billing and payment process to us, including customer care. Customers
in the Full Service category may contract to pay us either on a per-subscriber
basis, a per-transaction basis or some combination of both. Customers that
utilize our Transaction Services offering receive a subset of our electronic
billing and payment transaction services. An example of a Transaction Services
customer may be a bank that hosts its own bill payment warehouse and builds its
own user interface into that warehouse, then uses CheckFree to process their
payments. A third category of revenue is simply called Other Electronic
Commerce, and includes our Health and Fitness business and other ancillary
revenue sources such as implementation services. The following table compares
revenue for the three categories, and provides a series of underlying growth
statistics supporting the revenue.
19
THREE MONTHS ENDED
SEPTEMBER 30,
------------------------------------
2001 2002
--------------- -----------------
(In thousands)
FULL SERVICE RELATIONSHIPS
Revenue................................................................ $ 64,968 $ 71,596
Active subscribers..................................................... 2,620 3,224
Transactions processed................................................. 56,055 67,164
TRANSACTION SERVICE RELATIONSHIPS
Revenue................................................................ $ 9,878 $ 14,667
Transactions processed................................................. 13,385 29,519
OTHER ELECTRONIC COMMERCE
Revenue................................................................ $ 9,981 $ 9,737
Non-cash credit to revenue related to warrants......................... -- 644
Growth in Full Service active subscribers and Full Service transactions
processed are the result of broad growth throughout the category. During the
quarter ended September 30, 2002, one of our larger customers, Wells Fargo,
converted from a Full Service relationship to a Transaction Service relationship
when they implemented their own payment warehouse. At the beginning of the
quarter, approximately 300,000 active subscribers and their related transactions
switched categories. Although Transaction Services transactions generate less
revenue per transaction, because we provide less service, the cost per
transaction is less as well. While the shift of a customer to Transaction
Service from Full Service will reduce revenue, we do not expect such a shift to
have a significant impact on operating margin over time. We had also anticipated
that Chase Manhattan, another large customer already included in the Transaction
Services category, would begin moving transactions to a competitor in order to
meet contractually guaranteed minimum transaction levels with that competitor.
This shift did not take place as quickly as expected and, as a result, they will
need to move greater volumes from our system to the competitor in the next
several quarters in order to meet their contractual commitment. While the delay
in movement provided unexpected processing revenue in the September 30, 2002
quarter, it will have a dampening effect on growth in the quarter ended December
31, 2002 as we expect 3.0 million transactions to be removed from the
transactions services category. A third customer, Wachovia, has independently
disclosed their intention of moving toward a Transactions Services model,
sometime in late spring of 2003. However, they also disclosed that merger
integration efforts were a priority and could impact the timing of other
initiatives. As a result, we believe that such a change, should it occur, would
not have a material impact on our expected revenue or operating income in fiscal
2003. Growth in Transaction Services revenue and transactions processed are the
combined result of broad underlying growth CSPs in this category, the shift of
Wells Fargo from a full service relationship into a Transaction Services
relationship and growth in electronic bills delivered, which are accounted for
in this category as well. We receive approximately $0.25 for each electronic
bill distributed. The Other Electronic Commerce revenue includes our Health and
Fitness product, which grew modestly, and other non-transaction related services
such as implementation and consulting, which declined on a quarter over quarter
basis.
To date, we have 209 primary billers in production with our E-bill
electronic billing product offering that are delivering over 1.7 million bills
per month as of September 30, 2002. We are also distributing an additional 28
bills through bill aggregation, or "scraping," and have implemented another 30
non-primary billers, for a total consumer choice of among 267 electronic bills
as of September 30, 2002. We believe that the average consumer using our Web Pay
for Consumers product has the potential to receive from six to nine electronic
bills in major strategic marketing areas throughout the United States.
Underlying operating income in our Electronic Commerce business,
excluding a non-cash credit to revenue related to warrants and purchase
accounting amortization, has improved significantly from $2.9 million for the
three months ended September 30, 2001, to $26.5 million for the three months
ended September 30, 2002. We continue to drive improved efficiency and quality
within our Genesis processing platform. Our ratio of electronic payments to
total payments has improved from 66% as of September 30, 2001, to 73% as of
September 30, 2002. Electronic payments carry a significantly lower variable
cost per unit than paper payments and are far less likely to result in a costly
customer care inquiry or claim. The full underlying impact of improved
efficiency and quality, however, is
20
not explained by a change in electronic rate. Throughout fiscal 2002, we
supported two additional payment-processing platforms over and above our Genesis
platform. We paid Bank of America to run the old Bank of America platform,
through March 2002, as we migrated consumers onto Genesis and cleared
outstanding customer care claims. By March 2002, we eliminated this redundant
payment platform and were able to close our San Francisco customer care facility
by April 2002 and our Houston customer care facility by June 2002. In addition,
we have been carrying a legacy Austin payment processing platform. All but a few
CSPs have migrated to Genesis and as a result we closed our Austin facility as
well. Finally, in March 2002, we announced a corporate wide reorganization that
resulted in a reduction in workforce, over and above the associates impacted by
office closings and platform consolidation. In total, we have eliminated between
$7.0 million and $8.0 million of quarterly costs starting in the quarter ended
June 30, 2002. Our focus in the Electronic Commerce business into fiscal 2003
continues to be geared toward improved profitability through programs designed
to:
- drive increased consumer adoption and activation among our
partners;
- improve product design and usability;
- improve overall customer satisfaction; and
- reduce variable costs per transaction.
While there continues to be no guarantee as to the timing or extent of
accelerating adoption of electronic billing and payment services, we believe
that with our continued efforts on improved product and service quality,
customer satisfaction and cost efficiency, we are better positioned to maintain
our market leadership position throughout an accelerated growth cycle, should it
occur.
Investment Services. Revenue in our Investment Services business
increased by $1.1 million, or 6%, from $19.4 million for the three months ended
September 30, 2001, to $20.5 million for the three months ended September 30,
2002. Revenue growth is primarily due to a shift from lower priced accounts with
limited functionality to higher priced accounts with full functionality. The
total amount of accounts managed has remained relatively flat year over year at
1.2 million. Current revenue growth has not matched historical performance
because the decrease in stock market value has had a direct impact on the
ability to grow Investment Services' revenue stream. Marketing new technology
solutions within the investment industry has become more challenging.
Additionally, the economics of current clients has changed such that the
division has focused on securing new multi-year contracts at lower prices. As a
result, we anticipate experiencing similar modest revenue growth in the second
quarter and may continue to experience similar revenue growth in subsequent
quarters until stock market performance and the economy begin to improve.
Operating income in our Investment Services business, net of purchase
accounting amortization, decreased from $5.4 million for the three months ended
September 30, 2001 to $4.8 million for the three months ended September 30,
2002, due to increases in investment spending on new product offerings and
quality improvement initiatives.
Throughout fiscal 2003, the key initiatives in the Investment Services
division include:
- new product offerings (e.g., Multiple Strategy Portfolios)
with a shortened time to market;
- additional web-based products with increased functionality and
ease of use;
- continued development of a relational database allowing our
clients easier access to their data; and
- initiation of a Sigma program to improve quality.
Software. Revenue in our Software business increased by $0.6 million,
or 5%, from $12.5 million for the three months ended September 30, 2001, to
$13.1 million for the three months ended September 30, 2002. The downturn in the
economy throughout fiscal 2002 and continuing into 2003 has caused many
businesses to curtail discretionary expenditures, which has resulted in an
overall dampening of demand for software solutions. While our newer i-Solutions
electronic statement and billing software has been impacted most, we have lower
short term demand for our reconciliation and ACH processing products as well. We
continue to believe that software sales in general will continue to be
challenging until economic conditions improve.
Operating results in our Software business have improved from an
operating loss of $1.3 million for the three months ended September 30, 2001 to
operating income of $1.1 million for the three months ended September
21
30, 2002. Improvements in operating results are primarily the result of
continued efforts to manage discretionary expenses in light of the current
economy. On March 19, 2002, we announced a company-wide reorganization that
resulted in a net reduction in force of approximately 460 employees. As part of
these actions, we announced the closing of our Ann Arbor, Michigan office. The
recurring savings that resulted from these actions carry into fiscal 2003.
Corporate. Our Corporate results represent costs for legal, human
resources, finance and various other unallocated overhead expenses. Our
Corporate segment incurred operating expenses of $9.4 million, or 8% of total
revenue, for the three months ended September 30, 2001, and of $8.0 million, or
6% of total revenue, for the three months ended September 30, 2002. We continue
to manage our corporate expenses through attrition and discretionary cost
reduction, resulting in expected leverage in overhead costs.
Purchase Accounting Amortization. The purchase accounting line
represents amortization of intangible assets resulting from all of our various
acquisitions from 1996 forward. The total amount of purchase accounting
amortization has decreased from $109.6 million for the three months ended
September 30, 2001, to $46.2 million for the three months ended September 30,
2002. In July 2002, we adopted SFAS 142, "Goodwill and Other Intangible Assets."
Upon adoption, goodwill was no longer subject to amortization over it estimated
useful life. Instead, goodwill will be subject to at least an annual assessment
for possible impairment. All other intangible assets, such as acquired
technology, strategic agreements, trade names, and the like, will continue to be
amortized over their respective useful lives. For comparative purposes, the
following table breaks out the intangible asset amortization by segment:
THREE MONTHS ENDED
SEPTEMBER 30,
----------------------------------------
2001 2002
------------------ ------------------
(In thousands)
Electronic Commerce.................................................. $ 96,716 $ 43,757
Investment Services.................................................. 1,342 745
Software............................................................. 11,512 1,655
------------------ ------------------
Total............................................................ $ 109,570 $ 46,157
================== ==================
Impact of Warrants. During the quarter ended June 30, 2002, we recorded
a non-cash charge of $2.7 million against revenue resulting from the probable
vesting of those warrants. In the quarter ended September 30, 2002, the warrants
actually vested. On the date of vesting, however, the fair value of our stock
was lower than at June 30, 2002, when we calculated the initial charge. As a
result, a true-up of the value of the warrants resulted in a credit to revenue
of $0.6 million in the quarter ended September 30, 2002. The charge, and the
true-up credit, were based on a Black-Scholes valuation of the warrants and were
accounted for as a net charge to revenue in accordance with EITF 01-09,
"Accounting for Consideration Given by a Vendor to a Customer."
LIQUIDITY AND CAPITAL RESOURCES
The following chart summarizes our Consolidated Statement of Cash Flows
for the three months ended September 30, 2002 (in thousands):
THREE MONTHS ENDED
SEPTEMBER 30,
2002
-------------------
Net cash provided by (used in):
Operating activities....................................................... $ 24,047
Investing activities....................................................... (18,332)
Financing activities....................................................... (5,143)
-------------------
Net increase (decrease) in cash and cash equivalents.......................... $ 572
===================
22
As of September 30, 2002, we have $185.9 million of cash, cash
equivalents and short-term investments on hand and an additional $101.7 million
in long-term investments. Our balance sheet reflects a current ratio of 3.0 and
related working capital of $193.5 million. We believe that existing cash, cash
equivalents and investments will be sufficient to meet our presently anticipated
requirements for the foreseeable future. To the extent that additional capital
resources are required, we have access to an untapped $30.0 million line of
credit.
For the three months ended September 30, 2002, we generated $24.0
million of cash from operating activities. During our September quarter, we
typically use a significant amount of cash for such things as payment of annual
incentive compensation and commissions related to seasonally high sales from the
previous quarter. As a result of efforts to improve our operating efficiency, we
have been able to generate an increasing amount of cash from operating
activities over the past several quarters. While timing of cash payments and
collections can cause fluctuations from quarter to quarter, we expect to
generate positive cash from operations for the full year ended June 30, 2003.
From an investing perspective, we used $18.3 million of cash for the
three months ended September 30, 2002. This is comprised of $9.7 million of cash
used for the purchase of property and software, $0.5 million of capitalized
software development costs and $8.1 million of cash used in the net purchases
and maturities of held to maturity and available for sale securities.
From a financing perspective, for the three months ended September 30,
2002, we used $5.1 million of cash flow. We received $1.0 million from payroll
deductions set aside for our employee stock purchase plan and we used $6.1
million of cash for principal payments under capital lease obligations.
RECENT ACCOUNTING PRONOUNCEMENTS
In August 2001, the Financial Accounting Standards Board ("FASB")
issued Statement of Financial Accounting Standards ("SFAS") 143, "Accounting for
Asset Retirement Obligations." SFAS 143 addresses financial accounting and
reporting for obligations associated with the retirement of tangible long-lived
assets and the associated retirement costs. We adopted SFAS 143 as of July 1,
2002. The adoption of this statement had no impact on our results of operations
or financial position for the three months ended September 30, 2002.
On July 1, 2002, we adopted SFAS 144, "Accounting for the Impairment or
Disposal of Long-Lived Assets." SFAS 144 superseded SFAS 121, "Accounting for
Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of" and
the accounting and reporting provisions of Accounting Principles Board Opinion
30, "Reporting Results of Operations - Reporting the Effects of Disposal of a
Segment of a Business and Extraordinary, Unusual and Infrequently Occurring
Events and Transactions" for the disposal of a segment of a business. SFAS 144
addresses financial accounting and reporting for the impairment or disposal of
long-lived assets. The adoption of this statement had no impact on our results
of operations or financial position for the three months ended September 30,
2002.
In April 2002, the FASB issued SFAS 145, "Rescission of FASB Statements
No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical
Corrections." This statement eliminates the current requirement that gains and
losses on extinguishment of debt must be classified as extraordinary items in
the income statement. Instead, the statement requires that gains and losses on
extinguishment of debt be evaluated against the criteria in Accounting
Principles Board ("APB") Opinion 30, "Reporting the Results of
Operations--Discontinued Events and Extraordinary Items" to determine whether or
not it should be classified as an extraordinary item. In addition, the statement
contains other corrections to authoritative accounting literature in SFAS 4, 44
and 64. The changes in SFAS 145 related to debt extinguishment are effective for
our 2003 fiscal year and the other changes were effective beginning with
transactions after May 15, 2002. In August 2002, we announced that our board of
directors had authorized a repurchase program under which we may purchase shares
of our common stock and convertible notes. Should we purchase any of our
convertible notes and realize a gain or loss on the transaction, SFAS 145 will
require us to evaluate the transaction against the criteria in APB 30 to
determine if the gain or loss should be classified as an extraordinary item. If
classification as an extraordinary item is not appropriate, the gain or loss
would be included as part of income from operations.
In June 2002, the FASB issued SFAS 146, "Accounting for Costs
Associated with Exit or Disposal Activities," which addresses accounting for
reorganization and similar costs. SFAS 146 supersedes previous
23
accounting guidance, principally EITF 94-3. SFAS 146 requires that the liability
for costs associated with an exit or disposal activity be recognized when the
liability is incurred. Under EITF No. 94-3, a liability for an exit cost was
recognized at the date of a company's commitment to an exit plan. SFAS 146 also
establishes that the liability should initially be measured and recorded at fair
value. Accordingly, SFAS 146 may affect the timing of recognizing any future
reorganization costs as well as the amount recognized. The provisions of SFAS
146 are effective for reorganization activities initiated after December 31,
2002.
APPLICATION OF CRITICAL ACCOUNTING POLICIES
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires us to
make estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosures of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. Critical accounting policies are those policies
that are both important to the portrayal of our financial condition and results
of operations, and they require our most difficult, subjective or complex
judgments, often as a result of the need to make estimates about the effect of
matters that are inherently uncertain. In our June 30, 2002 annual report, we
described the policies and estimates relating to intangible assets, equity
instruments issued to customers and deferred income taxes as our critical
accounting policies. As of July 1, 2002, we adopted SFAS 142, "Goodwill and
Other Intangible Assets." Goodwill has always been considered an intangible
asset and therefore our critical accounting policy related to intangible assets
has included goodwill. However, as a result of SFAS 142, there are now unique
accounting guidelines related specifically to goodwill. Goodwill is no longer
subject to amortization over its estimated useful life. Rather it is now subject
to at least an annual assessment for impairment by applying a fair-value-based
test. Due to the complex judgments required by management in such an impairment
evaluation, we are adding Accounting for Goodwill as a separate and distinct
critical accounting policy effective July 1, 2002.
Discussion with the Audit Committee of the Board of Directors. In
determining whether to identify Accounting for Goodwill as critical in nature,
our senior financial management team discussed the new accounting policy in
detail with our Audit Committee. After discussing the level of management
judgment required to comply with the new policy, we agreed with the Audit
Committee that Accounting for Goodwill is deemed to be critical in nature and it
should be disclosed as such.
Accounting for Goodwill. Upon adoption of SFAS 142, we were required to
perform a transitional impairment test related to our goodwill balances. We
performed the test as of July 1, 2002. The impairment test required us to (1)
identify our various reporting units, (2) determine the carrying value of each
reporting unit by assigning assets and liabilities, including existing goodwill
and intangible assets, to those reporting units, and (3) determine the fair
value of each reporting unit. If we determine the carrying value of a reporting
unit exceeds its fair value, additional testing is required to see if the
goodwill carried on the balance sheet was impaired. The amount of any goodwill
impairment was determined through an analysis similar to that of a purchase
price allocation, where the fair value of each of the tangible and intangible
assets (excluding goodwill) and liabilities were compared to the fair value of
the reporting unit. The fair value of goodwill was estimated using the residual
method and compared to the carrying value of goodwill. The amount of the
goodwill impairment is equal to the carrying amount less the fair value of
goodwill. We determined two of our reporting units to correlate directly with
our Electronic Commerce and our Investment Services business segments. Although
our i-Solutions Software division has the same operating characteristics of our
other Software divisions, because it is a fairly new product and therefore not
mature as our other Software units, we split our software segment into two
reporting units, i-Solutions Software and CFACS/ACH Software.
We applied significant judgment in determining the fair value of each
of our reporting units as such an analysis includes projections of expected
future cash flow related specifically to the reporting unit. Our projections
include, but are not limited to, expectations of product sales and related
revenues, cost of sales, and other operating expenses supporting the reporting
unit five years into the future. Additionally, we estimated terminal values for
the reporting units, which represent the present value of future cash flow
beyond the five-year period. Finally, we assumed a discount rate that we
believed fairly represented the risk-free rate and a risk premium appropriate
for the reporting unit. Upon completion of this analysis, only one reporting
unit, i-Solutions Software, resulted in the carrying value exceeding its fair
value. This indicated the possibility of goodwill impairment within the
i-Solutions Software reporting unit. For our Electronic Commerce, Investment
Services, and ACH/CFACS Software reporting units, we have determined that a 10%
fluctuation in our underlying value drivers, either positive or
24
negative, would not have indicated a possible impairment in goodwill within the
respective reporting unit that would have resulted in additional transition
testing.
As a result of the possible impairment of the i-Solutions reporting
unit goodwill, we took the next step in the transitional impairment test. We
applied significant judgment in determining the fair value of each identified
intangible asset as such an analysis includes projections of expected future
cash flows related specifically to the intangible asset. The fair value of the
i-Solutions reporting unit was estimated using a combination of the cost,
market, and income approaches. Specifically, the discounted cash flow and market
multiples methodologies were utilized to determine the fair value of the
reporting unit by estimating the present value of future cash flows of the
reporting unit along with reviewing revenue and earnings multiples for
comparable publicly traded companies and applying these to the reporting
unit's projected cash flows. Fair value of each of the assigned assets and
liabilities was determined using either a cost, market or income approach, as
appropriate, for each individual asset or liability. Upon completion of the
analysis, we determined that the goodwill associated with the i-Solutions
Software reporting unit was impaired by $2.9 million and we recorded this
charge as a cumulative effect of an accounting change in the three-month period
ended September 30, 2002. We performed a sensitivity analysis and determined
that a 10% decrease in the underlying estimates driving the fair value of
intangible assets would have increased the impairment charge to approximately
$4.2 million. An increase of 10% in the underlying estimates driving the fair
value of intangible assets would have decreased the impairment charge to
approximately $2.1 million.
INFLATION
We believe the effects of inflation have not had a significant impact
on our results of operations.
SAFE HARBOR STATEMENT UNDER THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995
Except for the historical information contained herein, the matters
discussed in this Quarterly Report on Form 10-Q include certain forward-looking
statements within the meaning of Section 27A of the Securities Act, as amended,
and Section 21E of the Securities Exchange Act of 1934, as amended, which are
intended to be covered by the safe harbors created thereby. Those statements
include, but may not be limited to, all statements regarding management's
intent, belief and expectations, such as statements concerning our future
profitability, and our operating and growth strategy. Investors are cautioned
that all forward-looking statements involve risks and uncertainties including,
without limitation, the factors set forth under the caption Business - Business
Risks in the Annual Report on Form 10-K for the year ended June 30, 2002, and
other factors detailed from time to time in our filings with the Securities and
Exchange Commission. One or more of these factors have affected, and in the
future could affect, our businesses and financial results in the future and
could cause actual results to differ materially from plans and projections.
Although we believe that the assumptions underlying the forward-looking
statements contained herein are reasonable, any of the assumptions could be
inaccurate. Therefore, there can be no assurance that the forward-looking
statements included in this Quarterly Report will prove to be accurate. In light
of the significant uncertainties inherent in the forward-looking statements
included herein, the inclusion of such information should not be regarded as
representations by us or any other person that our objectives and plans will be
achieved. All forward-looking statements made in this Quarterly Report are based
on information presently available to our management. We assume no obligation to
update any forward-looking statements contained herein.
25
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
With the acquisition of BlueGill in April 2000, we obtained operations
in Canada and we maintain an office in the United Kingdom. As a result, we now
have assets and liabilities outside the United States that are subject to
fluctuations in foreign currency exchange rates. Due to the start up nature of
each of these operations, however, we currently utilize the U.S. dollar as the
functional currency for all international operations. As operations in Canada
and the United Kingdom begin to generate sufficient cash flow to provide for
their own cash flow requirements, we will convert to local currency as the
functional currency in each related operating unit as appropriate. Because we
utilize the U.S. dollar as the functional currency and due to the immaterial
nature of the amounts involved, our economic exposure from fluctuations in
foreign exchange rates is not significant enough at this time to engage in
forward foreign exchange and other similar instruments.
While our international sales represented less than two percent of our
revenue for the three months ended September 30, 2002, we market, sell and
license our products throughout the world. As a result, our future revenue could
be somewhat affected by weak economic conditions in foreign markets that could
reduce demand for our products.
Our exposure to interest rate risk is limited to the yield we earn on
invested cash, cash equivalents and investments and interest based revenue
earned on products such as our account balance transfer business. Our
convertible debt carries a fixed rate, as do any outstanding capital lease
obligations. Our Investment Policy currently prohibits the use of derivatives
for trading or hedging purposes.
ITEM 4. CONTROLS AND PROCEDURES
Within the 90 days prior to the date of this report, we carried out an
evaluation, under the supervision and with the participation of our management,
including our Chief Executive Officer along with our Chief Financial Officer, of
the effectiveness of the design and operation of our disclosure controls and
procedures pursuant to Exchange Act Rule 13a-14. Based upon this evaluation, our
Chief Executive Officer along with our Chief Financial Officer concluded that
our disclosure controls and procedures are effective in timely alerting them to
material information relating to us (including our consolidated subsidiaries)
required to be included in our periodic SEC reports. It should be noted that the
design of any system of controls is based in part upon certain assumptions about
the likelihood of future events, and there can be no assurance that any design
will succeed in achieving its stated goals under all potential future
conditions, regardless of how remote.
Since the date of our evaluation to the filing date of this Quarterly
Report, there have been no significant changes in our internal controls or in
other factors that could significantly affect internal controls, including any
corrective actions with regard to significant deficiencies and material
weaknesses.
26
PART II. OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) EXHIBITS.
EXHIBIT EXHIBIT
NUMBER DESCRIPTION
------ -----------
99(a) * Certification of CEO under Section 906
of the Sarbanes-Oxley Act of 2002.
99(b) * Certification of CFO under Section 906
of the Sarbanes-Oxley Act of 2002.
- ----------------
* Filed with this report.
(b) REPORTS ON FORM 8-K.
We filed the following Current Reports on Form 8-K with the
Securities and Exchange Commission during the quarter ended September 30, 2002:
(i) A current report on Form 8-K, dated August 13, 2002, was
filed with the Securities and Exchange Commission on August 14, 2002 (Item 5).
27
SIGNATURES
Pursuant to the requirements 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.
CHECKFREE CORPORATION
Date: November 14, 2002 By: /s/ David E. Mangum
-----------------------------------------
David E. Mangum, Executive Vice President
and Chief Financial Officer* (Principal
Financial Officer)
Date: November 14, 2002 By: /s/ Joseph P. McDonnell
-----------------------------------------
Joseph P. McDonnell, Vice President,
Controller, and Chief Accounting Officer
(Principal Accounting Officer)
* In his capacity as Executive Vice President and Chief Financial
Officer, Mr. Mangum is duly authorized to sign this report on behalf of
the Registrant.
28
CERTIFICATION
I, Peter J. Kight, certify that:
1. I have reviewed this quarterly report on Form 10-Q of
CheckFree Corporation;
2. Based on my knowledge, this quarterly report does not contain
any untrue statement of a material fact or omit to state a
material fact necessary to make the statements made, in light
of the circumstances under which such statements were made,
not misleading with respect to the period covered by this
quarterly report;
3. Based on my knowledge, the financial statements, and other
financial information included in this quarterly report,
fairly present in all material respects the financial
condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this
quarterly report;
4. The registrant's other certifying officer and I are
responsible for establishing and maintaining disclosure
controls and procedures (as defined in Exchange Act Rules
13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to
ensure that material information relating to the
registrant, including its consolidated subsidiaries,
is made known to us by others within those entities,
particularly during the period in which this
quarterly report is being prepared;
b) evaluated the effectiveness of the registrant's
disclosure controls and procedures as of a date
within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions
about the effectiveness of the disclosure controls
and procedures based on our evaluation as of the
Evaluation Date;
5. The registrant's other certifying officer and I have
disclosed, based on our most recent evaluation, to the
registrant's auditors and the audit committee of registrant's
board of directors (or persons performing the equivalent
function):
a) all significant deficiencies in the design or
operation of internal controls which could adversely
affect the registrant's ability to record, process,
summarize and report financial data and have
identified for the registrant's auditors any material
weaknesses in internal controls; and
b) any fraud, whether or not material, that involves
management or other employees who have a significant
role in the registrant's internal controls; and
6. The registrant's other certifying officer and I have indicated
in this quarterly report whether or not there were significant
changes in internal controls or in other factors that could
significantly affect internal controls subsequent to the date
of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material
weaknesses.
Date: November 14, 2002
/s/ Peter J. Kight
--------------------------------------------
Peter J. Kight
Chairman and Chief Executive Officer
29
CERTIFICATION
I, David E. Mangum, certify that:
1. I have reviewed this quarterly report on Form 10-Q of
CheckFree Corporation;
2. Based on my knowledge, this quarterly report does not contain
any untrue statement of a material fact or omit to state a
material fact necessary to make the statements made, in light
of the circumstances under which such statements were made,
not misleading with respect to the period covered by this
quarterly report;
3. Based on my knowledge, the financial statements, and other
financial information included in this quarterly report,
fairly present in all material respects the financial
condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this
quarterly report;
4. The registrant's other certifying officer and I are
responsible for establishing and maintaining disclosure
controls and procedures (as defined in Exchange Act Rules
13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to
ensure that material information relating to the
registrant, including its consolidated subsidiaries,
is made known to us by others within those entities,
particularly during the period in which this
quarterly report is being prepared;
b) evaluated the effectiveness of the registrant's
disclosure controls and procedures as of a date
within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions
about the effectiveness of the disclosure controls
and procedures based on our evaluation as of the
Evaluation Date;
5. The registrant's other certifying officer and I have
disclosed, based on our most recent evaluation, to the
registrant's auditors and the audit committee of registrant's
board of directors (or persons performing the equivalent
function):
a) all significant deficiencies in the design or
operation of internal controls which could adversely
affect the registrant's ability to record, process,
summarize and report financial data and have
identified for the registrant's auditors any material
weaknesses in internal controls; and
b) any fraud, whether or not material, that involves
management or other employees who have a significant
role in the registrant's internal controls; and
6. The registrant's other certifying officer and I have indicated
in this quarterly report whether or not there were significant
changes in internal controls or in other factors that could
significantly affect internal controls subsequent to the date
of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material
weaknesses.
Date: November 14, 2002
/s/ David E. Mangum
---------------------------------------------------
David E. Mangum
Executive Vice President and Chief Financial Officer
30