Back to GetFilings.com
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended SEPTEMBER 30, 2003
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from _____ to _____
Commission file number 000-25857
================================================================================
PERSISTENCE SOFTWARE, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 94-3138935
(State or other jurisdiction (I.R.S. Employer Identification No.)
of incorporation or organization)
1720 SOUTH AMPHLETT BLVD., THIRD FLOOR
SAN MATEO, CALIFORNIA 94402
(Address of principal executive offices, including zip code)
(650) 372-3600
(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 such
filing requirements for the past 90 days.
Yes [X] No [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in the Exchange Act Rule 12b-2). Yes [ ] No [x]
As of October 31, 2003, there were 2,410,618 shares of the registrant's
Common Stock outstanding.
1
INDEX
PART I. FINANCIAL INFORMATION.
ITEM 1. FINANCIAL STATEMENTS.
CONDENSED CONSOLIDATED BALANCE SHEETS AS OF SEPTEMBER 30,
2003 AND DECEMBER 31, 2002.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS FOR THE
THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2003 AND 2002.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE
NINE MONTHS ENDED SEPTEMBER 30, 2003 AND 2002.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS.
ITEM 3. QUALITATIVE AND QUANTITATIVE DISCLOSURES ABOUT MARKET
RISK.
ITEM 4. CONTROLS AND PROCEDURES.
PART II. OTHER INFORMATION.
ITEM 1. LEGAL PROCEEDINGS.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
SIGNATURES
2
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS.
PERSISTENCE SOFTWARE, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
(UNAUDITED)
SEPTEMBER 30, DECEMBER. 31,
2003 2002
----------- -----------
ASSETS
Current assets:
Cash and cash equivalents $ 5,091 $ 8,903
Accounts receivable, net 1,600 1,252
Prepaid expenses and other current assets 383 392
----------- -----------
Total current assets 7,074 10,547
Property and equipment, net 134 375
Purchased intangibles, net 69 123
Other assets 53 55
----------- -----------
Total assets $ 7,330 $ 11,100
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 328 $ 325
Accrued compensation and related benefits 527 722
Other accrued liabilities 1,338 1,188
Deferred revenues net of long-term portion 2,395 2,529
Current portion of long-term obligations 628 841
----------- -----------
Total current liabilities 5,216 5,605
Long-term liabilities:
Long-term portion of deferred revenues 224 691
Long-term obligations 25 93
----------- -----------
Total long-term liabilities 249 784
----------- -----------
Total liabilities 5,465 6,389
----------- -----------
Stockholders' equity:
Common stock 66,104 66,103
Deferred stock compensation (21) (31)
Accumulated deficit (64,216) (61,370)
Accumulated other comprehensive loss (2) 9
----------- -----------
Total stockholders' equity 1,865 4,711
----------- -----------
Total liabilities and stockholders' equity $ 7,330 $ 11,100
=========== ===========
See notes to condensed consolidated financial statements.
3
PERSISTENCE SOFTWARE, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
THREE MONTHS ENDED NINE MONTHS ENDED
--------------------------- ---------------------------
SEPTEMBER 30, SEPTEMBER 30, SEPTEMBER 30, SEPTEMBER 30,
2003 2002 2003 2002
------------ ------------ ------------ ------------
Revenues:
Licenses $ 722 $ 2,825 $ 3,672 $ 7,762
Service 1,084 1,319 3,533 4,273
------------ ------------ ------------ ------------
Total revenues 1,806 4,144 7,205 12,035
------------ ------------ ------------ ------------
Cost of revenues:
Licenses 25 75 86 177
Service 395 691 1,331 2,218
------------ ------------ ------------ ------------
Total cost of revenues 420 766 1,417 2,395
------------ ------------ ------------ ------------
Gross profit 1,386 3,378 5,788 9,640
------------ ------------ ------------ ------------
Operating expenses:
Sales and marketing 1,228 1,848 4,304 6,868
Research and development 732 1,040 2,384 3,196
General and administrative 631 798 1,931 2,644
Amortization and impairment of purchased intangibles -- 126 -- 480
------------ ------------ ------------ ------------
Total operating expenses 2,591 3,812 8,619 13,188
------------ ------------ ------------ ------------
Loss from operations (1,205) (434) (2,831) (3,548)
Interest income 8 20 43 75
Interest and other expense (12) (27) (34) (52)
------------ ------------ ------------ ------------
Loss before income taxes (1,209) (441) (2,822) (3,525)
Income taxes (4) (8) (23) (18)
------------ ------------ ------------ ------------
Net loss $ (1,213) $ (449) $ (2,845) $ (3,543)
============ ============ ============ ============
Basic loss per share $ (0.50) $ (0.22) $ (1.18) $ (1.76)
============ ============ ============ ============
Shares used in calculating basic and diluted net
income/(loss) per share 2,409 2,020 2,406 2,014
============ ============ ============ ============
See notes to condensed consolidated financial statements.
4
PERSISTENCE SOFTWARE, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
NINE MONTHS
ENDED SEPTEMBER 30,
-------- --------
2003 2002
-------- --------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $(2,845) $(3,543)
Adjustments to reconcile net loss to net cash used in
operating activities:
Depreciation and amortization 317 935
Amortization of deferred stock compensation 10 77
Issuance of warrants and options to non-employees and other 2 --
Changes in operating assets and liabilities:
Accounts receivable (net) (348) 1,590
Prepaid expenses and other current assets 9 125
Accounts payable 3 (503)
Accrued compensation and related benefits (195) 20
Other accrued liabilities 150 362
Deferred revenues (601) 806
-------- --------
Net cash used in operating activities (3,498) (131)
-------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Property and equipment additions (24) (122)
Proceeds from sale of property and equipment 2 --
Purchased intangibles additions -- (158)
Deposits and other assets 2 --
-------- --------
Net cash used in investing activities (20) (280)
-------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Sale of common stock 32 109
Collection of notes receivable from stockholders -- 54
Issuance costs - common stock offering (40) --
Borrowings under loan agreement -- 149
Repayment under long term obligations (275) (501)
-------- --------
Net cash used in financing activities (283) (189)
-------- --------
EFFECT OF EXCHANGE RATE CHANGES ON CASH AND CASH EQUIVALENTS (11) (2)
-------- --------
CASH AND CASH EQUIVALENTS:
Net decrease (3,812) (602)
Beginning of period 8,903 7,411
-------- --------
End of period $ 5,091 $ 6,809
======== ========
NONCASH INVESTING AND FINANCING ACTIVITIES:
Property and equipment acquired by capital leases -- 34
======== ========
See notes to condensed consolidated financial statements.
5
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
1. BUSINESS
Persistence Software solves data access problems for distributed and
real-time systems. The Company's software products help deliver better business
visibility for applications which require current information about customers,
products and suppliers. The Company provides a suite of data services products
that sit between existing databases - such as Oracle and DB2 - and application
servers - such as BEA, WebLogic, IBM, WebSphere, and Microsoft .NET. Developers
can configure these products, to position business information for more
efficient access for users, dramatically reduce network traffic and data
latency, and result in better application performance at a much lower
infrastructure cost.
2. BASIS OF PRESENTATION
The accompanying condensed consolidated financial statements included in
this filing on Form 10-Q as of September 30, 2003 and for the three and nine
month periods ended September 30, 2003 and 2002 have been prepared by the
Company, without audit and have been prepared in accordance with generally
accepted accounting principles in the United States of America for interim
financial information and the instructions to Form 10-Q and Article 10 of
Regulation S-X. Certain information and footnote disclosures normally included
in complete financial statements prepared in accordance with generally accepted
accounting principles have been condensed or omitted pursuant to such rules and
regulations. The condensed consolidated financial statements have been prepared
on a going concern basis, which contemplates the realization of assets and the
satisfaction of liabilities in the normal course of business. As shown in the
Company's consolidated financial statements, the Company has experienced
declining annual revenues and has incurred losses from continuing operations of
$2.8 million in the first nine months of 2003, $5.4 million in 2002 and $15.1
million in 2001. These factors, among others, raise substantial doubt that the
Company will be able to continue as a going concern. The condensed consolidated
financial statements do not include any adjustments relating to the
recoverability and classification of recorded asset amounts or the amounts and
classification of liabilities that might be necessary should the Company be
unable to continue as a going concern. To address these issues, the Company has
effected significant cost cutting measures in the third quarter of 2003,
including staff reductions. In addition, the Company is taking additional cost
cutting actions in the fourth quarter of 2003. Management believes that the
Company will be able to continue operations through the successful
implementation of its plan to increase revenues and continue to reduce its cost
structure. In addition, the Company is in the process of seeking equity
financing. However, no assurances can be given that the Company will be able to
successfully implement its business plan or that additional financing will be
available.
The December 31, 2002 balance sheet was extracted from audited financial
statements as of that date, but does not include all disclosures required by
generally accepted accounting principles for complete financial statements.
However, the Company believes that the disclosures are adequate to make the
information fairly presented. These condensed consolidated financial statements
should be read in conjunction with the annual consolidated financial statements
and the notes thereto included in the Company's Annual Report on Form 10-K as of
and for year ended December 31, 2002 filed with the Securities and Exchange
Commission.
In the opinion of management, all adjustments (which include only normal
recurring adjustments) necessary to present fairly the Company's condensed
consolidated financial position as of September 30, 2003, its condensed
consolidated results of operations for the three and nine month periods ended
September 30, 2003 and 2002, and its condensed consolidated cash flows for the
nine month periods ended September 30, 2003 and 2002, have been made. The
results of operations and cash flows for any interim period are not necessarily
indicative of the operating results and cash flows for any future interim or
annual periods.
3. NET LOSS PER SHARE
Basic net loss per common share is computed by dividing net loss by the
weighted average number of common shares outstanding for the period. Diluted net
loss per common share was the same as basic net loss per common share for all
periods presented, since the effect of any potentially dilutive securities is
excluded as they are anti-dilutive because of the Company's net losses.
6
As of September 30, 2003, the Company had securities outstanding which could
potentially dilute basic earnings per share in the future, but were excluded
from the computation of diluted net loss per share in the periods presented, as
their effect would have been anti-dilutive. Such outstanding securities consist
of the following (in thousands):
SEP. 30, SEP. 30,
2003 2002
----- -----
Outstanding options 365 393
Warrants 134 8
----- -----
Total 499 401
===== =====
4. ACCOUNTING FOR STOCK BASED COMPENSATION
The Company accounts for stock based compensation granted to employees and
directors under the intrinsic value method in accordance with Accounting
Principles Board Opinion No. 25, ACCOUNTING FOR STOCK ISSUED TO EMPLOYEES.
Statement of Financial Accounting Standards (SFAS) No. 123, ACCOUNTING FOR
STOCK-BASED COMPENSATION, as amended by SFAS 148 ACCOUNTING FOR STOCK-BASED
COMPENSATION, TRANSITION AND DISCLOSURE, requires the disclosure of pro forma
net loss as if the Company had adopted the fair value method as of the beginning
of fiscal 1995. Under SFAS No. 123, the fair value of stock-based awards to
employees is calculated through the use of option pricing models, even though
such models were developed to estimate the fair value of freely tradable, fully
transferable options without vesting restrictions, which significantly differ
from the Company's stock option awards. These models also require subjective
assumptions, including future stock price volatility and expected time to
exercise, which greatly affect the calculated values.
The Company's calculations were made using the Black-Scholes option pricing
model with the following weighted average assumptions for options outstanding
under the 1997 Stock Plan: expected life, 30 months following vesting for the
three months and nine months ended September 30, 2003 and 2002; risk free
interest rate of 1.79% for the three months ended September 30, 2003, 3.81% for
the three months ended September 30, 2002, 1.81% for the nine months ended
September 30, 2003 and 3.99% for the nine months ended September 30, 2002;
volatility of 145% for the three and nine months ended September 30, 2003 and
146% for the three and nine months ended September 30, 2002; and no dividends
during the expected term. The Company's calculations are based on a multiple
option valuation approach and forfeitures are recognized as they occur. If the
computed fair values of the awards granted in 1997 and after had been amortized
to expense over the vesting period of the awards, pro forma net loss (net of
amortization of deferred compensation expense already recorded for the nine
months ended September 30, 2003 and 2002) would have been approximately as
follows (in thousands, except per share amounts):
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------- -------------------
2003 2002 2003 2002
-------- -------- -------- --------
Net loss as reported ............................... $(1,213) $ (449) $(2,845) $(3,543)
Add: Stock-based employee compensation expense
included in reported loss ...................... 2 23 10 77
Deduct: Total stock-based employee compensation
expense determined under fair value based
method for all awards .......................... 62 (243) (194) (935)
-------- -------- -------- --------
Pro forma net loss ................................. $(1,149) $ (669) $(3,029) $(4,401)
======== ======== ======== ========
Basic and diluted net loss applicable to common
shareholders per share:
As reported ........................................ $ (0.50) $ (0.22) $ (1.18) $ (1.76)
Pro forma .......................................... $ (0.48) $ (0.33) $ (1.26) $ (2.19)
The Company accounts for stock-based awards to consultants using the
multiple option method as described by FASB Interpretation No. 28. Stock-based
compensation expense is recognized as earned. At each reporting date, the
Company re-values the stock-based compensation using the Black-Scholes
option-pricing model. As a result, the stock-based compensation expense will
fluctuate as the fair market value of the Company's common stock fluctuates.
7
5. COMPREHENSIVE INCOME
The components of comprehensive loss, consisting of the Company's reported
net loss and unrealized gains or losses in the translation of foreign
currencies, are as follows (in thousands):
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------- -------------------
2003 2002 2003 2002
-------- -------- -------- --------
Net loss ........................... $(1,213) $ (449) $(2,845) $(3,543)
Other comprehensive income (loss) .. 2 (8) (11) (2)
-------- -------- -------- --------
Total comprehensive loss ........... $(1,211) $ (457) $(2,856) $(3,545)
======== ======== ======== ========
6. RECENTLY ISSUED ACCOUNTING STANDARDS
In June 2002, the Financial Accounting Standards Board (FASB) issued SFAS
No. 146, ACCOUNTING FOR COSTS ASSOCIATED WITH EXIT OR DISPOSAL ACTIVITIES, which
addresses accounting for restructuring and similar costs. SFAS No. 146
supersedes previous accounting guidance, principally Emerging Issues Task Force
Issue No. 94-3. The Company adopted the provisions of SFAS No. 146 for
restructuring activities initiated after December 31, 2002. SFAS No. 146
requires that the liability for costs associated with an exit or disposal
activity be recognized when the liability is incurred. Under Issue 94-3, a
liability for an exit cost was recognized at the date of our commitment to an
exit plan. SFAS No. 146 also establishes that the liability should initially be
measured and recorded at fair market value. This statement is effective for exit
or disposal activities that are initiated after December 31, 2002. The adoption
of SFAS No. 146 is expected to impact the timing of recognition and the amount
of future restructuring activities.
In November 2002, the FASB issued FASB Interpretation No. 45, GUARANTOR'S
ACCOUNTING FOR DISCLOSURE REQUIREMENTS FOR GUARANTEES, INCLUDING INDIRECT
GUARANTEES OF INDEBTEDNESS OF OTHERS. The Company has adopted the disclosure
requirements of this standard with respect to obligations under guarantees.
In November 2002, the EITF reached a consensus on Issue No. 00-21, REVENUE
ARRANGEMENTS WITH MULTIPLE DELIVERABLES, or EITF 00-21. EITF 00-21 provides
guidance on how to account for arrangements that involve the delivery or
performance of multiple products, services and/or rights to use assets. The
provisions of EITF 00-21 apply to revenue arrangements entered into in fiscal
periods beginning after June 15, 2003. We do not believe the adoption of EITF
00-21 will have a material impact on our financial position or results of
operations.
In December 2002, the FASB issued SFAS No. 148, ACCOUNTING FOR STOCK-BASED
COMPENSATION, TRANSITION AND DISCLOSURE, AND AMENDMENT OF FASB STATEMENT NO.
123. SFAS No. 148 provides alternative methods of transition for an entity that
voluntarily changes to the fair value based method of accounting for stock-based
employee compensation. Management does not intend to adopt the fair value
accounting provisions of SFAS No. 123 and currently believes that the adoption
of SFAS No. 148 will not have a material impact on our financial statements.
7. INDEMNIFICATION
In its agreements with customers, the Company generally warrants that its
software products will perform in all material respects in accordance with its
standard published specifications in effect at the time of delivery of the
licensed products to the customer. The Company also typically warrants that its
maintenance services will be performed consistently with its maintenance policy
in effect at the time those services are delivered. The Company believes its
maintenance policy is consistent with generally accepted industry standards. If
necessary, the Company would provide for the estimated cost of product and
service warranties based on specific warranty claims and claim history, however,
the Company has not incurred significant expense under its product or services
warranties. As a result, the Company believes the estimated fair value of these
warranty provisions is minimal.
The Company's customer agreements customarily provide for indemnification of
customers for intellectual property infringement claims. Such agreements
generally limit the scope of the available remedies to a variety of
industry-standard methods, including but not limited to product usage, a right
to control the defense or settlement of any claim, and a right to replace or
modify the infringing products to make them non-infringing. The Company has not
incurred significant expenses related to these indemnification agreements and no
8
material claim for such indemnifications is outstanding as of September 30,
2003. As a result, the Company believes the estimated fair value of these
indemnification provisions is minimal.
8. REVERSE STOCK SPLIT
On June 12, 2003, the Company effected a 1-for-10 reverse stock split that
was previously approved at its Annual Meeting of Stockholders for the year ended
December 31, 2002. Accordingly all share and per share amounts in this quarterly
report on Form 10-Q have been adjusted to reflect the 1-for-10 reverse stock
split.
9. SUBSEQUENT EVENTS
As of September 30, 2003 the Company was not in compliance with its debt
covenants and the bank waived this non-compliance for the third quarter of 2003.
On November 10, 2003, the Company renegotiated certain of its bank covenants.
Under the new terms, the Company continues to have a revolving line of credit
facility of up to $2.5 million available through April 30, 2004. The revised
covenants require the Company, among other things, to maintain a tangible net
worth of at least $2.25 million (subject to quarterly increases based on net
income and proceeds received from the sale of debt or equity securities, if
any). In addition, the Company must show a profit of at least one dollar for the
quarter ending December 31, 2003 and thereafter, and it must have funds on
deposit with the bank in excess of all outstanding borrowings. Borrowings under
the facility are collateralized by substantially all of the Company's assets.
The Company has received a notice from the Nasdaq SmallCap Market that it is
not in compliance with the $2,500,000 minimum stockholder's equity requirement
as of September 30, 2003. On November 3, 2003 the Company provided the Nasdaq
SmallCap Market with a plan to achieve and sustain compliance with this
requirement, but the Nasdaq SmallCap Market may not accept this plan. If the
Company cannot achieve compliance, it expects to receive a formal delisting
notice from the Nasdaq SmallCap Market. The Company may seek a Nasdaq hearing
for appeal if and when it receives such notice of delisting.
9
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
The following Management's Discussion and Analysis of Financial Condition
and Results of Operations should be read in conjunction with our consolidated
financial statements as of December 31, 2002 and 2001 and for each of the years
ended December 31, 2002, 2001 and 2000, included in our Annual Report on Form
10-K as of and for the year ended December 31, 2002 filed with the Securities
and Exchange Commission. In addition, this Management's Discussion and Analysis
of Financial Condition and Results of Operations and other parts of this Form
10-Q contain forward-looking statements that involve risks and uncertainties.
Words such as "anticipates," "believes," "plans," "expects," "future,"
"intends," "targeting," and similar expressions identify forward-looking
statements. These statements are not guarantees of future performance and are
subject to risks and uncertainties that could cause actual results to differ
materially from those expressed or forecasted. Factors that might cause such a
difference include, but are not limited to, those discussed in the section
entitled "Additional Factors That May Affect Future Results" and those appearing
elsewhere in this Form 10-Q and our Annual Report on Form 10-K as of and for the
year ended December 31, 2002 filed with the Securities and Exchange Commission.
Readers are cautioned not to place undue reliance on these forward-looking
statements, which reflect management's analysis only as of the date hereof. We
assume no obligation to update these forward-looking statements to reflect
actual results or changes in factors or assumptions affecting forward-looking
statements.
OVERVIEW
Persistence provides a suite of data services products that sit between
existing databases--such as Oracle and DB2--and application servers--such as
BEA's WebLogic, IBM's WebSphere, and Microsoft .NET. Developers can configure
these products, creating a "data services" layer that is designed to position
business information for more efficient access for users, to dramatically reduce
network traffic and data latency, and to achieve better application performance
at a much lower infrastructure cost.
Persistence caching solutions help systems "remember" answers from each
processing step. When the system receives a request for which it has an answer,
it can respond immediately, without traveling to back-end databases to generate
an answer. Synchronization technology is designed to ensure that these cached
answers remain accurate, even as the source data changes. Customer profile
management, logistics, exchanges, trading desks, and supply chain management
systems are just a few examples of query-intensive online systems that can
realize significant increases in capacity and performance through online
caching.
We believe that our customers are able to more effectively manage enterprise
data through re-architecting their IT infrastructure using Persistence data
services products. Our products are designed to result in real-time, highly
scalable, distributed applications without incurring the high costs of
additional hardware and replicated databases. Decision makers and customers
located at any location can now have an immediate "business visibility" into
their data, that is, an up-to-date view into the data that they need, when and
where they need it.
Our EDGEXTEND product for Sun Microsystems' full Java 2 Platform, Enterprise
Edition (J2EE, formerly known as Enterprise Java Beans or EJB) application
servers, C++ and .NET application servers offers a data architecture that
integrates with IBM's WebSphere, BEA's WebLogic, and Microsoft .NET, plus C++
application servers to support highly distributed and transaction-oriented
applications both within data centers and in remote locations. Our DIRECTALERT
product is a proactive, personalized client caching and notification reporting
product for zero latency applications, which extends the reach of enterprise
systems to small form-factor devices such as mobile phones, wireless PDAs, and
digital set-top boxes.
Major customers in the nine months ended September 30, 2003 consisted of
Adobe Systems, Applied Biosystems, Citigroup Global Markets, FedEx, Fiducia AG,
Motorola, Prebon Yamane and Sabre.
Our revenues, which consist of software license revenues and service
revenues, totaled $7.2 million in the nine months ended September 30, 2003 and
$12.0 million in the nine months ended September 30, 2002. Revenues totaled
$14.6 million in 2002, $19.4 million in 2001 and $25.3 million in 2000. License
revenues consist of licenses of our software products, which generally are
10
priced based on the number of users or central processing units deploying our
software. Service revenues consist of professional services consulting, customer
support and training. Because we only commenced selling EDGEXTEND and
DIRECTALERT in 2002, we have a limited operating history in the data services
markets. Our two major products, POWERTIER and EDGEXTEND, are based on a common
technology platform for application data management. They differ mainly in that
POWERTIER contains a proprietary, bundled application server, whereas EDGEXTEND
is optimized to integrate with third party application servers, such as IBM's
WebSphere and BEA's WebLogic application servers. We currently expect that sales
of our older POWERTIER application server products will continue to contribute
to our revenues, but that sales of our newer EDGEXTEND and DIRECTALERT products
will contribute a growing percentage of our revenues over the next several
quarters. Because a substantial portion of our revenues result from product
sales to a limited number of customers, the identity of which change from
quarter to quarter, in any given quarter the percentage contribution of
POWERTIER, EDGEEXTEND and DIRECTALERT to total license revenues varies,
sometimes dramatically.
We market our software and services primarily through our direct sales
organizations in the United States, the United Kingdom and Germany. Revenues
from licenses and services to customers outside the United States were $2.8
million in the nine months ended September 30, 2003, $3.7 million in the nine
months ended September 30, 2002, $4.8 million in 2002, $7.4 million in 2001 and
$7.2 million in 2000. The decrease in international revenues from 2001 to 2002
is primarily attributable to a decline in sales of our products in Asia.
Revenues from sales of our products in Asia were $1.8 million for the year ended
December 31, 2001 and $272,000 for the year ended December 31, 2002,
representing a decrease of 85%. Continued difficult economic conditions in Asia,
as well as a decline in the number of customers serviced in Asia and
significantly reduced spending from our largest customers in the region, were
factors in our decision to close our Asia office in 2002. Our operating expenses
were not significantly impacted by the closure of the office as we had only one
employee in Asia in 2002. Our future success will depend, in part, on our
successful development of international markets for our products.
Historically, we have received a substantial portion of revenue from product
sales to a limited number of customers. Sales of products to our top five
customers accounted for 51% of our total revenues in the nine months ended
September 30, 2003, 62% of our total revenues in the nine months ended September
30, 2002, 55% of total revenues in 2002, 45% of total revenues in 2001, and 40%
of total revenues in 2000. In addition, the identity of our top five customers
has changed from year to year. In the future, it is likely that a relatively few
large customers could continue to account for a relatively large proportion of
our revenues and these customers are likely to differ year to year.
To date, we have sold our products primarily through our direct sales force,
and in the future, we may need to hire additional sales people, in particular
those with expertise in consultative, technology and architecture-driven sales,
in order to meet our sales goals. In addition, our ability to achieve
significant revenue growth will depend in large part on our success in
establishing and leveraging relationships with systems integrators, independent
software vendors, OEM partners and other resellers.
We have made staff reductions across all functional areas of our business in
order to manage operating expenses and conserve cash in response to continued
uncertainty in information technology (IT) spending, which has affected our
license revenues. We had 68 total employees as of December 31, 2002 and 44 as of
September 30, 2003, representing a decrease of 35%. This decrease was due
primarily to a workforce reduction during the third quarter to cut costs. We
have incurred net losses in each quarter since 1996 with the exception of the
three months ended June 30, 2002 and, as of September 30, 2003, had an
accumulated deficit of $64.2 million.
We recognize revenues in accordance with the American Institute of Certified
Public Accountants' Statement of Position 97-2, "Software Revenue Recognition,"
as amended by Statements of Position 98-4 and 98-9. Future implementation
guidance relating to these standards or any future standards may result in
unanticipated changes in our revenue recognition practices, and these changes
could affect our future revenues and earnings.
We believe that period-to-period comparisons of our operating results are
not meaningful and should not be relied upon as indicative of future
performance. Our prospects must be considered in light of the risks, expenses
and difficulties frequently encountered by companies in early stages of
development, particularly companies in new and rapidly evolving markets. Our
success depends significantly upon broad market acceptance of our recently
introduced EDGEXTEND product and, to a lesser degree, the DIRECTALERT product.
11
Our performance will also depend on the level of capital spending in our target
market of customers and on the growing and widespread adoption of the market for
data services and data integration.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
Management's Discussion and Analysis of Financial Condition and Results of
Operations discusses our consolidated financial statements, which have been
prepared in accordance with accounting principles generally accepted in the
United States. The preparation of these financial statements requires management
to make estimates and assumptions that affect the reported amounts of assets and
liabilities and the disclosure of contingent assets and liabilities at the date
of the financial statements and the reported amounts of revenues and expenses
during the reporting period. On an ongoing basis, management evaluates its
estimates and judgments, including those related to revenue recognition, bad
debts, intangible assets, income taxes, restructuring costs, and contingencies
and litigation. Management bases its estimates and judgments on historical
experience and on various other factors that are believed to be reasonable under
the circumstances, the results of which form the basis for making judgments
about the carrying values of assets and liabilities that are not readily
apparent from other sources. Actual results may differ from these estimates
under different assumptions or conditions.
REVENUE RECOGNITION. Our revenue recognition policy is significant because
our revenue is a key component of our results of operations. In addition, our
revenue recognition determines the timing of certain expenses, such as
commissions. We follow specific and detailed guidelines in measuring and
recognizing revenue. We recognize license revenues upon shipment of the software
if collection of the resulting receivable is probable, an agreement has been
executed, the fee is fixed or determinable and vendor-specific objective
evidence exists to allocate a portion of the total fee to any undelivered
elements of the arrangement. Undelivered elements in these arrangements
typically consist of services. For sales made through distributors, revenue is
recognized upon shipment. Distributors have no right of return. Royalty revenues
are recognized when the software or services has been delivered, collection is
reasonably assured and the fees are determinable. We recognize revenues from
customer training, support and professional services as the services are
performed. We generally recognize support revenues ratably over the term of the
support contract. If support or professional services are included in an
arrangement that includes a license agreement, amounts related to support or
professional services are allocated based on vendor-specific objective evidence.
Vendor-specific objective evidence for support and professional services is
based on the price at which such elements are sold separately, or, when not sold
separately, the price established by management having the relevant authority to
make such decision. While more infrequent, arrangements that require significant
modification or customization of software are recognized under the completion of
contract method.
BAD DEBTS. Our bad debt policy requires that we maintain a specific
allowance for certain doubtful accounts and a general allowance for the majority
of the non-specifically reserved accounts. These allowances provide for
estimated losses resulting from the inability or refusal of our customers to
make required payments. We analyze such factors as historical bad debt
experience, customer payment patterns and current economic trends. This analysis
requires significant judgment. If the financial condition of our customers were
to deteriorate further, additional allowances would generally be required
resulting in future losses that are not included in our allowances for doubtful
accounts at September 30, 2003.
PURCHASED TECHNOLOGY AND INTANGIBLES. Our business acquisitions typically
resulted in goodwill and other intangible assets, which affect the amount of
future period amortization expense and possible impairment expense that we will
incur. The determination of the value of such intangible assets requires
management to make estimates and assumptions that affect our consolidated
financial statements and operating results. Accordingly in 2002, we took an
impairment charge of $160,000. In 2001, we took an impairment charge of $2.0
million.
STOCK COMPENSATION. We account for stock-based awards to employees using the
intrinsic value method in accordance with Accounting Principles Board Opinion
No. 25, ACCOUNTING FOR STOCK ISSUED TO EMPLOYEES. Accordingly, no accounting
recognition is given to employee stock options granted with an exercise price
equal to fair market value of the underlying stock on the grant date. Upon
exercise, the net proceeds and any related tax benefit are credited to
stockholders' equity. Our operating results would be affected if other
alternatives were used. Information about the impact on our operating results of
using the alternative of SFAS No. 123, ACCOUNTING FOR STOCK-BASED COMPENSATION,
is included in Note 4 of the "Notes to Condensed Consolidated Financial
Statements," included elsewhere in this report.
12
INCOME TAXES. Our income tax policy records the estimated future tax effects
of temporary differences between the tax basis of assets and liabilities and
amounts reported in the accompanying consolidated balance sheets, as well as
operating loss and tax credit carry-forwards. We follow specific and detailed
guidelines regarding the recoverability of any tax assets recorded on the
balance sheet and provide any necessary allowances as required.
RESULTS OF OPERATIONS
THREE MONTHS (THIRD QUARTER) ENDED SEPTEMBER 30, 2003 AND 2002
Revenues
Our revenues were $1.8 million for the three months ended September 30, 2003
and $4.1 million for the three months ended September 30, 2002, representing a
decrease of 56%. International revenues were $524,000 for the three months ended
September 30, 2003 and $2.1 million for the three months ended September 30,
2002, representing a decrease of 75%. For the three months ended September 30,
2003, Citadel Investment Group accounted for 20% of total revenues, and sales of
products and services to our top five customers accounted for 51% of total
revenues. For the three months ended September 30, 2002, Fiducia AG and
Cablevision accounted for 28% and 22% of total revenues, respectively, and sales
of products and services to our top five customers accounted for 73% of total
revenues.
License Revenues. License revenues consist of licenses of our software
products, which generally are priced based on the number of users or central
processing units deploying our software. License revenues were $722,000 for the
three months ended September 30, 2003 and $2.8 million for the three months
ended September 30, 2002, representing a decrease of 74%. License revenues
represented 40% of total revenues for the three months ended September 30, 2003
and 68% of total revenues for the three months ended September 30, 2002. The
decrease in software license revenues was primarily due to the fact that our
target customers are those data- and transaction-intensive companies that are
either building a new project or contemplating a rearchitecture of their current
system in order to improve their data management performance. We believe the
continued industry-wide downturn in spending on IT infrastructure products has
caused many of these target customers to delay these large IT projects, which
has affected our license revenues. Given the continuing industry-wide trend of
dramatically reduced levels of information technology spending, license revenues
may fluctuate substantially over the next several quarters. In addition, for the
same reason, revenues may decline for 2003 compared to 2002.
Service Revenues. Service revenues consist of professional services
consulting, customer support and training. Our service revenues were $1.1
million for the three months ended September 30, 2003 and $1.3 million for the
three months ended September 30, 2002, representing a decrease of 18%. This
decrease was primarily due to a reduced level of consulting services performed
during the third quarter of 2003, which lowered revenues by $235,000. Service
revenues represented 60% of total revenues for the three months ended September
30, 2003 and 32% of total revenues for the three months ended September 30,
2002.
Cost of Revenues
Cost of License Revenues. Cost of license revenues consists of royalties,
packaging, documentation and associated shipping costs and the amortization of
third party software embedded in our software. Our cost of license revenues was
$25,000 for the three months ended September 30, 2003 and $75,000 for the three
months ended September 30, 2002. As a percentage of license revenues, cost of
license revenues was 3% for the three months ended September 30, 2003 and 3% for
the three months ended September 30, 2002. The decrease in cost of license
revenues was largely due to payments for third party software in 2002, which did
not recur in 2003. Cost of license revenues may vary between periods depending
on the sales of any licensed third party products.
Cost of Service Revenues. Cost of service revenues consists of personnel,
contractors and other costs related to the provision of professional services
consulting, customer support and training. Our cost of service revenues was
$395,000 for the three months ended September 30, 2003 and $691,000 for the
three months ended September 30, 2002, representing a decrease of 43%. This
decrease was primarily due to a $240,000 reduction in staffing and personnel
related costs and a $19,000 reduction in costs associated with our use of
13
external consultants. As a percentage of service revenues, cost of service
revenues was 36% for the three months ended September 30, 2003 and 52% for the
three months ended September 30, 2002. Cost of service revenues as a percentage
of service revenues may vary between periods due to our use of external
consultants.
Operating Expenses
Sales and Marketing. Sales and marketing expenses consist primarily of
salaries, benefits, commissions and bonuses earned by sales and marketing
personnel, travel, and marketing and promotional expenses. Our sales and
marketing expenses were $1.2 million for the three months ended September 30,
2003 and $1.8 million for the three months ended September 30, 2002,
representing a decrease of 34%. This decrease was primarily due to a $402,000
reduction in staffing and personnel related costs as a result of a reduction of
staff of eleven sales and marketing employees during the twelve months ended
September 30, 2003 and a decrease of $120,000 in commissions expensed due to
lower revenues as compared to the three months ended September 30, 2002. Sales
and marketing expenses represented 68% of total revenues for the three months
ended September 30, 2003 and 45% of total revenues for the three months ended
September 30, 2002. We are presently targeting that 2003 sales and marketing
expense levels will be lower than comparable 2002 expense levels because as of
November 2003 we had 18 sales and marketing employees as compared to an average
of 35 such employees during 2002.
Research and Development. Research and development expenses consist
primarily of salaries and benefits for software developers, product managers and
quality assurance personnel and payments to external software consultants. Our
research and development expenses were $732,000 for the three months ended
September 30, 2003 and $1.0 million for the three months ended September 30,
2002, representing a decrease of 30%. This decrease was primarily due to a
$278,000 reduction in staffing and personnel related costs as a result of a
reduction of staff of eight research and development employees during the twelve
months ended September 30, 2003. Research and development expenses represented
41% of total revenues for the three months ended September 30, 2003 and 25% of
total revenues for the three months ended September 30, 2002. We are presently
targeting that the 2003 research and development expense levels will be lower
than comparable 2002 expense levels because as of November 2003 we had 18
research and development employees as compared to an average of 27 such
employees during 2002.
General and Administrative. General and administrative expenses consist of
salaries, benefits and related costs for our finance, administrative and
executive management personnel, legal costs, bad debt write-offs and various
costs associated with our status as a public company. Our general and
administrative expenses were $631,000 for the three months ended September 30,
2003 and $798,000 for the three months ended September 30, 2002, representing a
decrease of 21%. This decrease was primarily due to a reduction of $103,000 of
bad debt expenses. General and administrative expenses represented 35% of total
revenues for the three months ended September 30, 2003 and 19% of total revenues
for the three months ended September 30, 2002. We are presently targeting that
2003 general and administrative expense levels will be lower than comparable
2002 expense levels because as of November 2003 we had 8 general and
administrative employees as compared to an average of 13 such employees during
2002.
Amortization of Purchased Intangibles. There was no amortization of
purchased intangibles for the three months ended September 30, 2003, as such
costs, which were $9,000, are now classified as a cost of license revenues.
Amortization of purchased intangibles was $126,000 for the three months ended
September 30, 2002. The decrease in amortization expense was related to several
intangible assets that were fully amortized in 2002 and due to an impairment
recorded in December 2002, which resulted in a write-off of purchased
intangibles of $160,000.
Interest and Other Income (Expense). Interest and other income (expense)
consists of earnings on our cash and cash equivalents, offset by interest
expense related to obligations under capital leases and other equipment related
borrowings and other expenses. Interest and other income (expense) was ($4,000)
for the three months ended September 30, 2003 and $(7,000) for the three months
ended September 30, 2002.
Stock-Based Compensation. Certain options granted and common stock issued in
the past have been considered to be compensatory, as the estimated fair value
for accounting purposes was greater than the stock price as determined by the
Board of Directors on the date of grant or issuance. Total deferred stock
compensation associated with equity transactions as of September 30, 2003 was
$21,000, net of amortization. Deferred stock compensation is being amortized
ratably over the vesting periods of these securities. Amortization expense,
which is included in operating expenses, was $2,000 in the three months ended
14
September 30, 2003 and $23,000 in the three months ended September 30, 2002. We
expect to record amortization expense related to these securities of
approximately $2,000 for the remainder of 2003.
Provision for Income Taxes. Since inception, we have incurred net operating
losses for federal and state tax purposes and have only recognized minimal tax
provisions within our international subsidiaries. We have placed a full
valuation allowance against our net deferred tax assets due to the uncertainty
surrounding the realization of these assets. We evaluate on a quarterly basis
the recoverability of the net deferred tax assets and the level of the valuation
allowance. If and when we determine that it is more likely than not that the
deferred tax assets are realizable, the valuation allowance will be reduced.
NINE MONTHS ENDED SEPTEMBER 30, 2003 AND 2002
Revenues
Our total revenues were $7.2 million for the nine months ended September 30,
2003 and $12.0 million for the nine months ended September 30, 2002,
representing a decrease of 40%. International revenues were $2.8 million for the
nine months ended September 30, 2003 and $3.7 million for the nine months ended
September 30, 2002, representing a decrease of 26%. In the nine months ended
September 30, 2003, sales to Citigroup Global Markets accounted for 24% of total
revenues and sales to Adobe Systems accounted for 11% of total revenues. For the
nine months ended September 30, 2002, sales to Cablevision accounted for 29% of
total revenues and sales to Citigroup Global Markets accounted for 15% of total
revenues.
License Revenues. License revenues were $3.7 million for the nine months
ended September 30, 2003 and $7.8 million for the nine months ended September
30, 2002, representing a decrease of 53%. The decrease in software license
revenues was primarily due to the fact that our target customers are those data-
and transaction-intensive companies that are either building a new project or
contemplating a rearchitecture of their current system in order to improve their
data management performance. We believe the continued industry-wide downturn in
spending on IT infrastructure products has caused many of these target customers
to delay these large IT projects, which has affected our license revenues.
License revenues represented 51% of total revenues for the nine months ended
September 30, 2003 and 64% of total revenues for the nine months ended September
30, 2002.
Service Revenues. Our service revenues were $3.5 million for the nine months
ended September 30, 2003 and $4.3 million for the nine months ended September
30, 2002, representing a decrease of 17%. The decrease in service revenues was
primarily due to lower revenues from technical support contracts in the amount
of $350,000 and to a reduced level of consulting services performed, which
lowered revenues by $390,000. Service revenues represented 49% of total revenues
for the nine months ended September 30, 2003 and 36% of total revenues for the
nine months ended September 30, 2002.
Cost of Revenues
Cost of License Revenues. Cost of license revenues consists of royalties,
packaging, documentation and associated shipping costs and the amortization of
third party software embedded in our software for the nine months ended
September 30, 2003. Our cost of license revenues was $86,000 for the nine months
ended September 30, 2003 and $177,000 for the nine months ended September 30,
2002, representing a decrease of 51%. As a percentage of license revenues, cost
of license revenues was 2% for the nine months ended September 30, 2003 and 2%
for the nine months ended September 30, 2002. The decrease in cost of revenues
was largely due to the lower sales of third party software, which required the
payment of royalties.
Cost of Service Revenues. Cost of service revenues consists of personnel,
contractors and other costs related to the provision of professional services
consulting, customer support and training. Our cost of service revenues was $1.3
million for the nine months ended September 30, 2003 and $2.2 million for the
nine months ended September 30, 2002, representing a decrease of 40%. This
decrease was primarily due to a $721,000 reduction in staffing and personnel
related costs and a $119,000 reduction in costs associated with our use of
external consultants. As a percentage of service revenues, cost of service
revenues were 38% for the nine months ended September 30, 2003 and 52% for the
nine months ended September 30, 2002.
15
Operating Expenses
Sales and Marketing. Sales and marketing expenses consist primarily of
salaries, benefits, commissions and bonuses earned by sales and marketing
personnel, travel, and marketing and promotional expenses. Our sales and
marketing expenses were $4.3 million for the nine months ended September 30,
2003 and $6.9 million for the nine months ended September 30, 2002, representing
a decrease of 37%. This decrease was primarily due to a $1.8 million reduction
in staffing and personnel related costs, a decrease of $548,000 in commissions
expensed due to lower revenues as compared to the nine months ended September
30, 2002, as well as a $232,000 reduction in marketing and promotional expenses.
Sales and marketing expenses represented 60% of total revenues for the nine
months ended September 30, 2003 and 57% of total revenues for the nine months
ended September 30, 2002. We are presently targeting that 2003 sales and
marketing expense levels will be lower than comparable 2002 expense levels
because as of November 2003 we had 18 sales and marketing employees as compared
to an average of 35 such employees during 2002.
Research and Development. Research and development expenses consist
primarily of salaries and benefits for software developers, product managers and
quality assurance personnel and payments to external software consultants. Our
research and development expenses were $2.4 million for the nine months ended
September 30, 2003 and $3.2 million for the nine months ended September 30,
2002, representing a decrease of 25%. This decrease was primarily due to a
$710,000 reduction in staffing and personnel related costs. Research and
development expenses represented 33% of total revenues for the nine months ended
September 30, 2003 and 27% of total revenues for the nine months ended September
30, 2002. We are presently targeting that 2003 research and development expense
levels will be lower than comparable 2002 expense levels because as of November
2003 we had 18 research and development employees as compared to an average of
27 such employees during 2002.
General and Administrative. General and administrative expenses consist of
salaries, benefits and related costs for our finance, administrative and
executive management personnel, legal costs, bad debt write-offs and various
costs associated with our status as a public company. Our general and
administrative expenses were $1.9 million for the nine months ended September
30, 2003 and $2.6 million for the nine months ended September 30, 2002,
representing a decrease of 27%. This decrease was primarily due to reductions of
$204,000 in staffing and personnel related costs and a reduction of $371,000 of
bad debt expenses as a result of unexpectedly favorable collection efforts and a
lower accounts receivable balance. General and administrative expenses
represented 27% of total revenues for the nine months ended September 30, 2003
and 22% of total revenues for the nine months ended September 30, 2002. We are
presently targeting that 2003 general and administrative expense levels will be
lower than comparable 2002 expense levels because as of November 2003 we had 8
general and administrative employees as compared to an average of 13 such
employees during 2002.
Amortization and Impairment of Purchased Intangibles. There was no
amortization of purchased intangibles for the nine months ended September 30,
2003 as such costs, which were $55,000, are now classified as a cost of license
revenues. Amortization of purchased intangibles was $480,000 for the nine months
ended September 30, 2002. The decrease in amortization expense was related to
several intangible assets that were fully amortized in 2002 and due to a
revaluation and impairment review in December 2002, which resulted in a
write-off of purchased intangibles of $160,000.
Interest and Other Income (Expense). Interest and other income (expense)
consists of earnings on our cash, cash equivalents, offset by interest expense
related to obligations under capital leases and other equipment related
borrowings and other expenses. Interest and other income (expense) was $9,000
for the nine months ended September 30, 2003 and $23,000 for the nine months
ended September 30, 2002. The decrease in income was primarily due to a
reduction of $32,000 in interest income yielded from our lower cash balances and
a reduction of $18,000 in interest and other expense.
Stock-Based Compensation. Certain options granted and common stock issued in
the past have been considered to be compensatory, as the estimated fair value
for accounting purposes was greater than the stock price as determined by the
Board of Directors on the date of grant or issuance. Total deferred stock
compensation associated with equity transactions as of September 30, 2003 was
$21,000, net of amortization. Deferred stock compensation is being amortized
ratably over the vesting periods of these securities. Amortization expense,
16
which is included in operating expenses, was $10,000 in the nine months ended
September 30, 2003 and $77,000 in the nine months ended September 30, 2002.
Provision for Income Tax. Since inception, we have incurred net operating
losses for federal and state tax purposes and have only recognized minimal tax
provisions within our international subsidiaries. We have placed a full
valuation allowance against our net deferred tax assets due to the uncertainty
surrounding the realization of these assets. We evaluate on a quarterly basis
the recoverability of the net deferred tax assets and the level of the valuation
allowance. If and when we determine that it is more likely than not that the
deferred tax assets are realizable, the valuation allowance will be reduced.
QUARTERLY RESULTS OF OPERATIONS
Our quarterly operating results have fluctuated significantly in the past,
and may continue to fluctuate in the future, as a result of a number of factors,
many of which are outside our control. These factors include:
o our ability to close relatively large sales on schedule;
o delays or deferrals of customer orders or deployments;
o delays in shipment of scheduled software releases;
o shifts in demand for and market acceptance among our various products,
including our newer products EDGEXTEND and DIRECTALERT, and our older
POWERTIER product;
o introduction of new products or services by us or our competitors;
o annual or quarterly budget cycles of our customers or prospective
customers;
o the level of product and price competition in the application server
and data management market;
o our lengthy sales cycle;
o our success in maintaining our direct sales force and expanding
indirect distribution channels;
o the mix of direct sales versus indirect distribution channel sales;
o the possible loss of sales people;
o the mix of products and services licensed or sold;
o the mix of domestic and international sales; and
o our success in penetrating international markets and general economic
conditions in these markets.
The typical sales cycle of our products is long and unpredictable. We
typically receive a substantial portion of our orders in the last two weeks of
each quarter because our customers often delay purchases of our products to the
end of the quarter to gain price concessions. Because a substantial portion of
our costs are relatively fixed and based on anticipated revenues, a failure to
book an expected order in a given quarter would not be offset by a corresponding
reduction in costs and could adversely affect our operating results.
LIQUIDITY AND CAPITAL RESOURCES
Since inception, we have financed our business primarily through a private
placement of our common stock in the amount of $2.0 million in November 2002,
our initial public offering of common stock in June 1999, which totaled $34.1
million in aggregate net proceeds and private sales of convertible preferred
17
stock, which totaled $19.9 million in aggregate net proceeds. We also are
financing our business through loans as described below and capital leases. As
of September 30, 2003, we had $5.1 million of cash and cash equivalents and our
working capital was $1.9 million.
Net cash used in operating activities was $3.5 million for the nine months
ended September 30, 2003 and was $131,000 for the nine months ended September
30, 2002. For the nine months ended September 30, 2003, cash used in operating
activities was attributable primarily to net losses, an increase in accounts
receivable and a decrease in deferred revenues offset in part by depreciation
and amortization. For the nine months ended September 30, 2002, cash used in
operating activities was attributable primarily to net losses and a decrease in
accounts payable offset by a decrease in accounts receivable and increases in
deferred revenues and other accrued liabilities and depreciation and
amortization.
Net cash used in investing activities was $20,000 for the nine months ended
September 30, 2003 and $280,000 for the nine months ended September 30, 2002.
For the nine months ended September 30, 2003, net cash used in investing
activities was attributable primarily to the purchase of property and equipment.
For the nine months ended September 30, 2002, net cash used in investing
activities was for the purchase of property and equipment and the acquisition of
purchased intangibles.
Net cash used in financing activities was $283,000 for the nine months ended
September 30, 2003 and $189,000 for the nine months ended September 30, 2002.
For the nine months ended September 30, 2003, net cash used in financing
activities was attributable primarily to loan repayments. For the nine months
ended September 30, 2002, net cash used in financing activities was attributable
primarily to loan repayments offset by sales of common stock as a result of
option exercises and borrowings under loan agreements.
We have credit facilities with Comerica Bank. We have a $2.5 million
revolving line of credit facility which is available through April 30, 2004
under which no borrowings were outstanding as of September 30, 2003. We also
have a $655,000 equipment term loan, under which $44,000 was outstanding as of
September 30, 2003. We are required to make principal payments of $21,843 per
month, plus interest at the bank's base rate plus 0.5% per annum payable in 30
monthly installments. We also have an additional $149,000 equipment term loan,
under which $83,000 was outstanding as of September 30, 2003. This facility is
an 18 month term loan with principal payments of $8,284 per month beginning on
February 1, 2003 plus interest at the bank's base rate plus 1% per annum. As of
September 30, 2003 we were not in compliance with our debt covenants, and the
bank waived this non-compliance for the third quarter of 2003. We have since
then renegotiated certain of our bank covenants. Our credit facilities with
Comerica Bank currently require, among other things, that we maintain a tangible
net worth of at least $2.25 million (subject to quarterly increases based on net
income and proceeds received from the sale of debt or equity securities, if
any). In addition, we must show a profit of at least one dollar for the quarter
ending December 31, 2003 and thereafter, and we must have funds on deposit with
the bank in excess of all outstanding borrowings. Borrowings under the
facilities are collateralized by substantially all of our assets, including our
intellectual property.
Currently we have no material commitments for capital expenditures nor do we
anticipate a material increase in capital expenditures and lease commitments.
As of the date of filing of this Quarterly Report on Form 10-Q, our revenue
to date for 2003 is significantly below the revenue anticipated under our
current financial plan. We have experienced declining annual revenues and have
incurred losses from continuing operations of $2.8 million in the first nine
months of 2003, $5.4 million in 2002 and $15.1 million in 2001. These factors,
among others, raise substantial doubt that we will be able to continue our
business as a going concern. Thus, we undertook a workforce reduction in third
quarter of 2003, and we are undertaking additional cost cutting actions in the
fourth quarter of 2003. We are currently targeting that our current cash and
cash equivalents will be sufficient to meet our anticipated needs through at
least June 30, 2004, provided that we are able to achieve our targeted revenues,
accounts receivable collections and expense reductions. However, our existing
cash balances and available borrowing may not be sufficient to fund operations
through June 30, 2004. We are currently seeking to raise additional equity
financing; however we may not be able to obtain additional financing on
acceptable terms, if at all. If additional funds are raised through the issuance
of debt securities, these securities could have rights, preferences and
privileges senior to holders of common stock, and the term of this debt could
impose restrictions on our operations. The sale of additional equity or
convertible debt securities could result in additional dilution to our
stockholders. If we are unsuccessful in our plan to increase revenues, continue
18
to reduce our cost structure and/or raise equity financing on acceptable terms,
we may not have the resources to maintain operations or continue our business as
a going concern.
ADDITIONAL FACTORS THAT MAY AFFECT FUTURE RESULTS
An investment in our common stock involves significant risks. You should
carefully consider the risks and uncertainties described below and the other
information in or incorporated by reference into this prospectus including our
financial statements before deciding whether to buy shares of our common stock.
The risks and uncertainties described below are intended to be the ones that are
specific to our company or industry and that we deem to be material, but are not
the only ones that we face. The trading price of our common stock could decline
due to any of these and other risks and uncertainties, and you could lose part
or all of your investment.
WE MAY NOT ACHIEVE OUR SALES TARGETS.
Because we only commenced selling our products EDGEXTEND and DIRECTALERT in
2002, we have a limited operating history in the data services markets. We thus
face the risks, expenses and difficulties frequently encountered by companies in
early stages of development, particularly companies in the rapidly changing
software industry. These risks include:
o the timing and magnitude of capital expenditures by our customers and
prospective customers;
o our need to achieve market acceptance for our new product
introductions, including DIRECTALERT and EDGEXTEND;
o our dependence for revenue from our POWERTIER product, which was first
introduced in 1997 and has achieved only limited market acceptance;
o our need to expand our distribution capability through various sales
channels, including a direct sales organization, original equipment
manufacturers, third party distributors, independent software vendors
and systems integrators;
o our unproven ability to anticipate and respond to technological and
competitive developments in the rapidly changing market for dynamic
data management;
o our unproven ability to compete in a highly competitive market;
o the decline in spending levels in the software infrastructure market;
o our dependence upon key personnel.
WE NEED TO INCREASE OUR REVENUES, CONTINUE TO REDUCE OUR COST STRUCTURE AND/OR
RAISE EQUITY FINANCING IN ORDER TO ENSURE THAT WE HAVE SUFFICIENT RESOURCES TO
OPERATE AS A GOING CONCERN.
We have experienced declining annual revenues and have incurred losses from
continuing operations of $2.8 million in the first nine months of 2003, $5.4
million in 2002 and $15.1 million in 2001. These factors, among others, raise
substantial doubt that we will be able to continue our business as a going
concern. We are currently targeting that our current cash and cash equivalents
will be sufficient to meet our anticipated needs through at least June 30, 2004,
provided that we are able to achieve our targeted revenues, accounts receivable
collections and expense reductions. If we are unable to increase our revenues,
continue to reduce our cost structure and/or raise additional equity financing
as planned, we may have to cease operations and engage in efforts to sell our
assets. If we seek to sell additional debt securities or to obtain a credit
facility, these securities could have rights, preferences and privileges senior
to holders of common stock, and the term of this debt could impose restrictions
on our operations. The sale of additional equity or convertible debt securities
19
could result in additional dilution to our stockholders, and we may not be able
to obtain additional financing on acceptable terms, if at all. If we are unable
to achieve our plan, our business could be jeopardized.
THE UNPREDICTABILITY OF OUR QUARTERLY RESULTS MAY DEPRESS THE PRICE OF OUR
COMMON STOCK.
Our quarterly operating results have fluctuated significantly in the past
and may continue to fluctuate significantly in the future as a result of a
number of factors, many of which are outside our control. The timing of our
sales is governed in part by our customers' capital spending budgets and thus we
may experience an absolute decline in revenues from quarter to quarter. If our
future quarterly operating results are below the expectations of securities
analysts or investors, the price of our common stock would likely decline. In
addition to the other risk factors described in this prospectus, additional
factors that may cause fluctuations of our operating results include the
following:
o our ability to close relatively large sales on schedule;
o delays or deferrals of customer orders or deployments;
o delays in shipment of scheduled software releases;
o shifts in demand for and market acceptance among our various products,
including our newer products, EDGEXTEND and DIRECTALERT, and our older
POWERTIER product;
o the level of product competition in the application server and data
services markets;
o the mix of direct sales versus indirect distribution channel sales;
o the possible loss of sales people;
o the mix of products and services licensed or sold;
o the mix of domestic and international sales; and
o our success in penetrating international markets and general economic
conditions in these markets.
OUR SALES CYCLE IS LONG AND UNPREDICTABLE, SO IT IS DIFFICULT TO FORECAST OUR
REVENUES.
We typically receive a substantial portion of our orders in the last two
weeks of each fiscal quarter because our customers often delay purchases of our
products to the end of the quarter to gain price concessions. Any delay in sales
of our products or services could cause our quarterly revenues and operating
results to fluctuate. The typical sales cycle of our products is long and
unpredictable and requires both a significant capital investment decision by our
customers and our education of prospective customers regarding the use and
benefits of our products. Our sales cycle is generally between three and nine
months. A successful sales cycle typically includes presentations to both
business and technical decision makers, as well as a limited pilot program to
establish a technical fit. Our products typically are purchased as part of a
significant enhancement to a customer's information technology system. The
implementation of our products involves a significant commitment of resources by
prospective customers. Accordingly, a purchase decision for a potential customer
typically requires the approval of several senior decision makers. Our sales
cycle is affected by the business conditions of each prospective customer, as
well as the overall economic climate for technology-related capital
expenditures. Because a substantial portion of our costs are relatively fixed
and based on anticipated revenues, a failure to book an expected order in a
given quarter would not be offset by a corresponding reduction in costs and
could adversely affect our operating results.
WE DEPEND ON A RELATIVELY SMALL NUMBER OF SIGNIFICANT CUSTOMERS, AND THE LOSS OF
ONE OR MORE OF THESE CUSTOMERS COULD RESULT IN A DECREASE IN OUR REVENUES.
20
Historically, we have received a substantial portion of our revenues from
product sales to a limited number of customers. In addition, the identity of
several of our top five customers has changed from period to period, including
year to year.
% OF TOTAL REVENUES IDENTITY AND % OF TOTAL REVENUES
PERIOD OF TOP 5 CUSTOMERS OF TOP 2 CUSTOMERS
------ ------------------ ------------------
Nine months ended September 30, 2003 51% Citigroup Global Markets............24%
Adobe Systems........................11
Nine months ended September 30, 2002 62 Cablevision..........................29
Citigroup Global Markets.............15
Year ended December 31, 2002 55 Cablevision..........................26
Citigroup Global Markets.............13
Year ended December 31, 2001 45 Citigroup Global Markets.............15
Cablevision..........................11
Year ended December 31, 2000 40 Citigroup Global Markets.............16
Lucent Technologies...................6
If we lose a significant customer, or fail to increase product sales to an
existing customer as planned, we may not be able to replace the lost revenues
with sales to other customers. In addition, because our marketing strategy is to
concentrate on selling products to industry leaders, any loss of a customer
could harm our reputation within the industry and make it harder for us to sell
our products to other companies in that industry. The loss of, or a reduction in
sales to, one or more significant customers would likely result in a decrease in
our revenues. In addition, because a substantial portion of our revenues result
from product sales to a limited number of customers, the identity of which
change from quarter to quarter, in any given quarter the percentage contribution
of PowerTier, EdgeExtend and DirectAlert to total license revenues varies,
sometimes dramatically.
DECLINES IN SALES REVENUE MAY RESTRICT OUR GROWTH AND HARM OUR BUSINESS AND OUR
ABILITY TO ACHIEVE OUR FINANCIAL OBJECTIVES.
For the three years from 1997 through 2000, our sales revenues grew over the
previous year by 88%, 42% and 75%, respectively. In 2001 sales declined from the
previous year by 23%, in 2002 our sales revenues declined by 25% and in the nine
months ended September 30, 2003 our sales revenues declined by 40% from the nine
months ended September 30, 2002. We believe a substantial portion of the decline
in sales of our products is due to the general downturn in information
technology spending by our prospective customers, many of whom are Fortune 500
companies. If our prospective customers continue to defer spending on IT
Infrastructure products, such as our products, our product sales may continue to
decline. Our declining sales may also negatively affect our reputation with the
investment community, which may lead to a decline in our stock price and may
also discourage investors from purchasing our stock.
WE ARE CURRENTLY TARGETING THAT A MATERIAL PORTION OF OUR REVENUES WILL BE
DERIVED FROM SALES OF OUR NEWEST PRODUCT, EDGEXTEND; HOWEVER, THERE ARE
TECHNICAL AND MARKET RISKS ASSOCIATED WITH NEW PRODUCTS.
Sales of our EDGEXTEND products currently represent a material percentage of
our revenues. New products, like EDGEXTEND, often contain errors or defects,
particularly when first introduced. Any errors or defects could be serious or
difficult to correct and could result in a delay of product release or adoption
resulting in lost revenues or a delay in gaining market share, which could harm
our revenues and reputation. In addition, market adoption is often slower for
newer products, like EDGEXTEND, than for existing products. Because we are
focusing our marketing and sales efforts on our newer EDGEXTEND data services
product, any failure in market adoption of this product could result in our
failure to meet our revenue goals.
BECAUSE OUR PRODUCTS PROVIDE ADDITIONAL FEATURES TO SUCCESSFUL APPLICATION
SERVER PRODUCTS FROM IBM AND BEA, THEY MAY ADD THESE FEATURES TO A FUTURE
VERSION OF THEIR PRODUCT, REDUCING THE NEED FOR OUR PRODUCTS.
Because IBM and BEA control the development schedule and feature set of
their products, we need to maintain a good working relationship with IBM and BEA
21
if we decide to develop future versions of EDGEXTEND for those new versions of
WebSphere and WebLogic. Failure to develop future versions compatible with the
latest versions from IBM and BEA could greatly reduce market acceptance for our
products. IBM or BEA could add features to their products, which would reduce or
eliminate the need for our products, which could harm our business. They could
develop their products in a more proprietary way to favor their own products, or
as those offered by a third party, which could make it much harder for us to
compete in the J2EE software market.
IF WE DO NOT DELIVER PRODUCTS THAT MEET RAPIDLY CHANGING TECHNOLOGY STANDARDS
AND CUSTOMER DEMANDS, WE WILL LOSE MARKET SHARE TO OUR COMPETITORS.
The market for our products and services is characterized by rapid
technological change, dynamic customer demands and frequent new product
introductions and enhancements. Customer requirements for products can change
rapidly as a result of innovation in software applications and hardware
configurations and the emergence or adoption of new industry standards,
including Internet technology standards. We may need to increase our research
and development investment over our current targeted spending levels to maintain
our technological leadership. Our future success depends on our ability to
continue to enhance our current products and to continue to develop and
introduce new products that keep pace with competitive product introductions and
technological developments. For example, as Sun Microsystems introduces new J2EE
specifications, we may need to introduce new versions of EDGEXTEND designed to
support these new specifications to remain competitive. If IBM or BEA introduce
new versions of WebSphere and WebLogic, we may need to introduce new versions of
EDGEXTEND designed to support these new versions. If we do not bring
enhancements and new versions of our products to market in a timely manner, our
market share and revenues could decrease and our reputation could suffer. If we
fail to anticipate or respond adequately to changes in technology and customer
needs, or if there are any significant delays in product development or
introduction, our revenues and business could suffer.
Our EDGEXTEND for WebSphere product was released in March 2002, our
EDGEXTEND for WebLogic product was released in August 2002 and our EDGEXTEND for
..NET product was released in October 2002. Any delays in releasing future
enhancements to these products or new products on a generally available basis
may materially effect our future revenues.
BECAUSE OUR DIRECT SALES TEAM IS CURRENTLY OUR MOST CRITICAL SALES CHANNEL, ANY
FAILURE TO MAINTAIN AND TRAIN THIS TEAM MAY RESULT IN LOWER REVENUES.
We must maintain a strong direct sales team to generate revenues. In the
last several years, we have experienced significant turnover in our sales team.
Typically, newly hired employees have required training and approximately six to
nine months experience to achieve full productivity. Like many companies in the
software industry, we are likely to continue to experience turnover in our sales
force and we may not be able to hire enough qualified individuals in the future.
As a result of our employee turnover, a number of our sales people are
relatively new and we may not meet our sales goals. In addition, our recently
hired employees may not become productive.
BECAUSE OUR FUTURE REVENUE GOALS ARE BASED ON OUR DEVELOPMENT OF A STRONG SALES
CHANNEL THROUGH INDEPENDENT SOFTWARE VENDORS, SYSTEMS INTEGRATORS, OEM PARTNERS
AND OTHER RESELLERS, ANY FAILURE TO DEVELOP THIS CHANNEL MAY RESULT IN LOWER
REVENUES.
To date, we have sold our products primarily through our direct sales force,
but our ability to achieve revenue growth will depend in large part on our
success in establishing and leveraging relationships with independent software
vendors, system integrators, OEM partners and third parties. It may be difficult
for us to establish these relationships, and, even if we establish these
relationships, we will then depend on the sales efforts of these third parties.
In addition, because these relationships are nonexclusive, these third parties
may choose to sell application servers, data management products or other
alternative solutions offered by our competitors, and not our products. If we
fail to successfully build our third-party distribution channels or if our third
party partners do not perform as expected, our business could be harmed.
BECAUSE OUR PRODUCTS ARE OFTEN INCORPORATED INTO ENTERPRISE-WIDE SYSTEM
DEPLOYMENTS, ANY DELAYS IN THESE PROJECTS MAY RESULT IN LOWER REVENUES.
22
Because our products are often incorporated into multi-million dollar
enterprise projects, we depend on the successful and timely completion of these
large projects to fully deploy our products and achieve our revenue goals. These
enterprise projects often take many years to complete and can be delayed by a
variety of factors, including general or industry-specific economic downturns,
our customers' budget constraints, other customer-specific delays, problems with
other system components or delays caused by the OEM, independent software
vendors, system integrators or other third-party partners who may be managing
the system deployment. If our customers cannot successfully implement
large-scale deployments, or they determine for any reason that our products
cannot accommodate large-scale deployments or that our products are not
appropriate for widespread use, our business could suffer. In addition, if an
OEM, independent software vendors, system integrator or other third-party
partner fails to complete a project utilizing our product for a customer in a
timely manner, our revenues or business reputation could suffer.
BECAUSE WE COMPETE WITH SUN MICROSYSTEMS, WHO CONTROLS THE J2EE APPLICATION
SERVER STANDARD, WE FACE THE RISK THAT THEY MAY DEVELOP THIS STANDARD TO FAVOR
THEIR OWN PRODUCTS.
Because Sun Microsystems controls the J2EE standard, we need to maintain a
good working relationship with Sun Microsystems as we decide to develop future
versions of EDGEXTEND, as well as additional products using J2EE, that will gain
market acceptance. In March 1998, we entered into a license agreement with Sun
Microsystems, pursuant to which we granted Sun Microsystems rights to
manufacture and sell, by itself and not jointly with others, products under a
number of our patents, and Sun Microsystems granted us rights to manufacture and
sell, by ourselves and not jointly with others, products under a number of Sun
Microsystems' patents. As a result, Sun Microsystems may develop and sell some
competing products that would, in the absence of this license agreement,
infringe our patents. Because Sun Microsystems controls the J2EE standard, it
could develop the J2EE standard in a more proprietary way to favor a product
offered by its own products, or a third party, which could make it much harder
for us to compete in the J2EE software market.
MICROSOFT HAS ESTABLISHED A COMPETING APPLICATION SERVER STANDARD, WHICH COULD
DIMINISH THE MARKET POTENTIAL FOR OUR PRODUCTS IF IT GAINS WIDESPREAD
ACCEPTANCE.
Our primary success has come in the J2EE market. Microsoft has established a
competing standard for distributed computing, .NET. Our .NET products are new
and unproven in the marketplace. If this standard gains widespread market
acceptance over the J2EE or Corba standards, our business could suffer. Because
of Microsoft's resources and commanding position with respect to other markets
and technologies, Microsoft's entry into the application server market may cause
our potential customers to delay or change purchasing decisions. We expect that
Microsoft's presence in the application server market will increase competitive
pressure in this market.
WE FACE SIGNIFICANT COMPETITION FROM COMPANIES WITH GREATER RESOURCES THAN WE
HAVE AND MAY FACE ADDITIONAL COMPETITION IN THE FUTURE.
The markets for our products are intensely competitive, subject to rapid
change and significantly affected by new product introductions and other market
activities of industry participants. We believe that the principal competitive
factors in our markets are:
o performance, including scalability, integrity and availability;
o ability to provide a competitive return on investment to the customer;
o flexibility;
o use of standards-based technology (e.g. J2EE);
o ease of integration with customers' existing enterprise systems;
o ease and speed of implementation;
23
o quality of support and service;
o security;
o company reputation and perception of viability; and
o price.
In the EDGEXTEND market, alternative technology is available from a variety
of sources. Companies such as Versant, Gemstone and Progress Software are
middleware vendors that offer alternative data management solutions that
directly target EDGEXTEND'S market. In addition, many prospective customers may
build their own custom solutions.
In the DIRECTALERT market, alternative approaches are provided by a variety
of sources, including the potential for internal development. Company vendors
such as SpiritSoft, TIBCO, and IBM provide message-oriented middleware software
which may evolve into competitive products. Vendors such as webMethods and
Business Objects provide alternative architectures for business intelligence
information. DIRECTALERT is based on licensed technology, which the Company is
licensed to distribute on a non-exclusive basis.
We continue to sell current and earlier versions of POWERTIER for J2EE
application server to current customers. Our competitors for POWERTIER include
both publicly and privately-held enterprises, including BEA Systems (WebLogic),
IBM (WebSphere), Oracle (OAS) and Sun Microsystems (Sun ONE Application Server).
Many customers may not be willing to purchase our POWERTIER products because
they have already invested heavily in databases and other enterprise software
components offered by these competing companies. Many of these competitors have
pre-existing customer relationships, longer operating histories, greater
financial, technical, marketing and other resources, greater name recognition
and larger installed bases of customers than we do.
IF THE MARKETS FOR INFRASTRUCTURE SOFTWARE FOR NETWORKS AND WEB-BASED PRODUCTS
AND SERVICES DO NOT DEVELOP AS WE CURRENTLY ENVISION, WE MAY NOT BE ABLE TO
ACHIEVE OUR PLANNED REVENUE TARGETS.
Our performance and future success will depend on the growth and widespread
adoption of the markets for infrastructure software for networks and web-based
products and services. If these markets do not develop in the manner we
currently envision, our business could be harmed. Moreover, critical issues
concerning the commercial use of the Internet, including security, cost,
accessibility and quality of network service, remain unresolved and may
negatively affect the growth of the Internet as a platform for conducting
various forms of electronic commerce. In addition, the Internet could lose its
viability due to delays in the development or adoption of new standards and
protocols to handle increased activity or due to increased government
regulation.
OUR FAILURE TO MANAGE OUR RESOURCES COULD RESULT IN OUR FAILURE TO ACHIEVE OUR
FINANCIAL OBJECTIVES.
Achieving our planned revenue targets and other financial objectives will
place significant demands on our management and other resources, in particularly
because we must achieve our revenue and product development goals using both
fewer people and less money. Our ability to manage our resources effectively
will require us to continue to improve our sales process and to train, motivate
and manage our employees. If we are unable to manage our business effectively
within our current budget, we may not be able to retain key personnel and the
quality of our services and products may suffer.
OUR SALES AND DEVELOPMENT EFFORTS COULD SUFFER IF WE CANNOT ATTRACT AND RETAIN
THE SERVICES OF KEY EMPLOYEES.
Our future success depends on the ability of our management to operate
effectively, both individually and as a group. We are substantially dependent
upon the continued service of our existing executive personnel, especially
Christopher T. Keene, our Chief Executive Officer. We do not have a key person
life insurance policy covering Mr. Keene or any other officer or key employee.
Our success will depend in large part upon our ability to attract and retain
highly-skilled employees, particularly sales personnel and software engineers.
If we are not successful in attracting and retaining these skilled employees,
our sales and product development efforts would suffer. In addition, if one or
more of our key employees resigns to join a competitor or to form a competing
company, the loss of that employee and any resulting loss of existing or
24
potential customers to a competitor could harm our business. If we lose any key
personnel, we may not be able to prevent the unauthorized disclosure or use of
our technical knowledge or other trade secrets by those former employees.
OUR SOFTWARE PRODUCTS MAY CONTAIN DEFECTS OR ERRORS, AND SHIPMENTS OF OUR
SOFTWARE MAY BE DELAYED.
Complex software products often contain errors or defects, particularly when
first introduced or when new versions or enhancements are released. Our products
have in the past contained and may in the future contain errors and defects,
which may be serious or difficult to correct and which may cause delays in
subsequent product releases. Delays in shipment of scheduled software releases
or serious defects or errors could result in lost revenues or a delay in market
acceptance, which could have a material adverse effect on our revenues and
reputation.
WE MAY BE SUED BY OUR CUSTOMERS FOR PRODUCT LIABILITY CLAIMS AS A RESULT OF
FAILURES IN THEIR CRITICAL BUSINESS SYSTEMS.
Because our customers use our products for important business applications,
errors, defects or other performance problems could result in financial or other
damages to our customers. They could pursue claims for damages, which, if
successful, could result in our having to make substantial payments. Although
our purchase agreements typically contain provisions designed to limit our
exposure to product liability claims, existing or future laws or unfavorable
judicial decisions could negate these limitation of liability provisions. A
product liability claim brought against us, even if meritless, would likely be
time consuming and costly for us to litigate or settle.
A SIGNIFICANT PORTION OF OUR REVENUES IS DERIVED FROM INTERNATIONAL SALES, WHICH
COULD DECLINE AS A RESULT OF LEGAL, BUSINESS AND ECONOMIC RISKS SPECIFIC TO
INTERNATIONAL OPERATIONS.
Our future success will depend, in part, on our successful development of
international markets for our products. Approximately 38% of our total revenues
came from sales of products and services outside of the United States for the
nine months ended September 30, 2003 and approximately 31% of our total revenues
came from sales of products and services outside of the United States for the
nine months ended September 30, 2002. Approximately 33% of our total revenues
came from sales of products and services outside of the United States for the
year ended December 31, 2002, and approximately 38% of our total revenues came
from sales of products and services outside of the United States for the year
ended December 31, 2001. We expect international revenues to continue to
represent a significant portion of our total revenues. To date, almost all of
our international revenues have resulted from our direct sales efforts. In
international markets, however, we expect that we will depend more heavily on
third party distributors to sell our products in the future. The success of our
international strategy will depend on our ability to develop and maintain
productive relationships with these third parties. The failure to develop key
international markets for our products could cause a reduction in our revenues.
Additional risks related to our international expansion and operation include:
o difficulties of staffing, funding and managing foreign operations;
o future dependence on the sales efforts of our third party distributors
to expand business;
o longer payment cycles typically associated with international sales;
o tariffs and other trade barriers;
o failure to comply with a wide variety of complex foreign laws and
changing regulations;
o exposure to political instability, acts of war, terrorism and economic
downturns;
o failure to localize our products for foreign markets;
o restrictions under U.S. law on the export of technologies;
25
o potentially adverse tax consequences;
o reduced protection of intellectual property rights in some countries;
and
o currency fluctuations.
The majority of our product sales outside the United States are denominated
in U.S. dollars. We do not currently engage in any hedging transactions to
reduce our exposure to currency fluctuations as a result of our foreign
operations. We are not currently ISO 9000 compliant, nor are we attempting to
meet all foreign technical standards that may apply to our products. Our failure
to develop our international sales channel as planned could cause a decline in
our revenues.
IF WE DO NOT PROTECT OUR INTELLECTUAL PROPERTY RIGHTS, OUR COMPETITIVE POSITION
MAY BE IMPAIRED.
Our success depends on our ability to protect our proprietary rights to the
technologies used in our products, and yet the measures we are taking to protect
these rights may not be adequate. If we are not adequately protected, our
competitors could use the intellectual property that we have developed to
enhance their products and services, which could harm our business. We rely on a
combination of patents, copyright and trademark laws, trade secrets,
confidentiality provisions and other contractual provisions to protect our
proprietary technology, but these legal means afford only limited protection.
Unauthorized parties may attempt to copy aspects of our products or to obtain
and use information that we regard as proprietary. In addition, the laws of some
foreign countries may not protect our intellectual property rights to the same
extent as do the laws of the United States. Litigation may be necessary to
enforce our intellectual property rights, which could result in substantial
costs and diversion of management attention and resources.
WE MAY BE SUED FOR PATENT INFRINGEMENT, WHICH COULD BE TIME CONSUMING AND
EXPENSIVE, AND, IF SUCCESSFUL, COULD REQUIRE US TO CEASE SELLING OR MATERIALLY
CHANGE OUR PRODUCTS.
The software industry is characterized by the existence of a large number of
patents and frequent litigation based on allegations of patent infringement and
the violation of other intellectual property rights. As the number of entrants
into our market increases, the possibility of an intellectual property claim
against us grows. For example, we may be inadvertently infringing a patent of
which we are unaware. In addition, because patent applications can take many
years to issue, there may be a patent application now pending of which we are
unaware, which will cause us to be infringing when it issues in the future. To
address these patent infringement claims, we may have to enter into royalty or
licensing agreements on disadvantageous commercial terms. Alternatively, we may
be unable to obtain a necessary license. A successful claim of product
infringement against us, and our failure to license the infringed or similar
technology, would harm our business. In addition, any infringement claims, with
or without merit, would be time-consuming and expensive to litigate or settle
and would divert management attention from administering our core business.
FUTURE SALES OF OUR COMMON STOCK MAY DEPRESS OUR STOCK PRICE.
If our current stockholders sell substantial amounts of common stock,
including shares issued upon the exercise of outstanding options and warrants,
and unregistered shares to be registered in the future, the market price of our
common stock could fall. As of October 31, 2003, we had approximately 2,410,618
shares of common stock outstanding. Virtually all of our shares, other than
shares held by affiliates, are freely tradable. Shares held by affiliates are
tradable, subject to volume and other restrictions of Rule 144. These sales of
common stock could impede our ability to raise funds at an advantageous price,
or at all, through the sale of securities.
WE HAVE RECEIVED A NOTICE FROM NASDAQ REGARDING THE POSSIBLE DELISTING OF OUR
STOCK FROM THE NASDAQ SMALLCAP MARKET.
We have received a notice from the Nasdaq SmallCap Market that we are
currently not in compliance with the $2,500,000 minimum stockholders' equity
requirement. We have provided Nasdaq with a plan to achieve and sustain
compliance with this requirement, but the Nasdaq SmallCap Market may not accept
26
our plan. If we cannot achieve compliance, we expect to receive a formal
delisting notice from the Nasdaq SmallCap Market. We may seek a Nasdaq hearing
for appeal if and when we receive such notice of delisting. If our efforts in
this regard are unsuccessful, our stock would be delisted from the Nasdaq
SmallCap Market and trade on the OTC "bulletin board." Delisting from the Nasdaq
SmallCap Market could reduce the liquidity of the market for our stock and
negatively impact our reputation and consequently our business.
OUR STOCK PRICE HAS BEEN, AND MAY CONTINUE TO BE, VOLATILE.
Our common stock price has been and may continue to be highly volatile, and
we expect that the market price of our common stock will continue to be subject
to significant fluctuations, as a result of variations in our quarterly
operating results and the overall volatility of the Nasdaq SmallCap Market.
These fluctuations have been, and may continue to be, exaggerated because an
active trading market has not developed for our stock. Thus, investors may have
difficulty selling shares of our common stock at a desirable price, or at all.
In addition, the market price of our common stock may rise or fall in the
future as a result of many factors, such as:
o variations in our quarterly results;
o announcements of technology innovations by us or our competitors;
o introductions of new products by us or our competitors;
o acquisitions or strategic alliances by us or our competitors;
o hiring or departure of key personnel;
o the gain or loss of a significant customer or order;
o changes in estimates of our financial performance or changes in
recommendations by securities analysts;
o market conditions and expectations regarding capital spending in the
software industry and in our customers' industries; and
o adoption of new accounting standards affecting the software industry.
The market prices of the common stock of many companies in the software and
Internet industries have experienced extreme price and volume fluctuations,
which have often been unrelated to these companies' operating performance. In
the past, securities class action litigation has often been brought against a
company after a period of volatility in the market price of its stock. We may in
the future be a target of similar litigation. Securities litigation could result
in substantial costs and divert management's attention and resources, which
could harm our business.
IF WE DEFAULT ON OUR BANK COVENANTS, THE BANK MAY, AMONG OTHER THINGS, CEASE
ADVANCING FUNDS, DEMAND IMMEDIATE REPAYMENT AND EXERCISE ALL OTHER RIGHTS AS A
CREDITOR UNDER OUR AGREEMENTS.
We were in default of various financial covenants in our loan agreement at
September 30, 2003 because of our $1.2 million net loss in the third quarter,
and the bank waived this non compliance for the third quarter of 2003. We have
not been able to comply with tangible net worth and other covenants of our line
of credit with Comerica Bank in the past, and we may not be able to come into
compliance with this and our other financial covenants in our loan agreement
with the bank in the future if we fail to increase our revenues or continue to
have net losses. We recently renegotiated certain of our bank covenants, which
require, among other things, that we maintain a tangible net worth of at least
$2.25 million (subject to quarterly increases based on net income and proceeds
received from the sale of debt or equity securities, if any). In addition, we
must show a profit of at least one dollar for the quarter ending December 31,
2003 and thereafter, and we must have funds on deposit with the bank in excess
of all outstanding borrowings. Borrowings under this facility are secured by
substantially all of our assets, including our intellectual property. If we
violate any covenant in our agreements with Comerica Bank, the bank may declare
us in default of our obligations and could, among other things, refuse to
advance us any additional funds under the line of credit, accelerate our
27
repayment obligations under all our facilities, and exercise all of its other
rights as a creditor under our facilities, including the sale of our assets,
including our intellectual property.
THE ANTITAKEOVER PROVISIONS IN OUR CHARTER DOCUMENTS AND UNDER DELAWARE LAW
COULD DISCOURAGE A TAKEOVER THAT CERTAIN OF OUR STOCKHOLDERS MAY CONSIDER
DESIRABLE.
Provisions in our certificate of incorporation, bylaws and Delaware law may
discourage, delay or prevent a merger or other change in control that a
stockholder may consider favorable. These provisions may also discourage proxy
contests or make it more difficult for stockholders to take corporate action.
These provisions include the following:
o establishing a classified board in which only a portion of the total
board members will be elected at each annual meeting;
o authorizing the board to issue preferred stock;
o prohibiting cumulative voting in the election of directors;
o limiting the persons who may call special meetings of stockholders;
o prohibiting stockholder action by written consent; and
o establishing advance notice requirements for nominations for election
of the board of directors or for proposing matters that can be acted on
by stockholders at stockholder meetings.
ITEM 3. QUALITATIVE AND QUANTITATIVE DISCLOSURES ABOUT MARKET RISK.
Interest Rate Sensitivity. Our operating results are sensitive to changes in
the general level of U.S. interest rates. If market interest rates had changed
by ten percent in the nine months ended September 30, 2003, our operating
results would not have changed materially. As of September 30, 2003, most of our
cash equivalents were invested in money market accounts and, thus, the principal
values are not susceptible to changes in short-term interest rates.
Foreign Currency Fluctuations. We have certain operating transactions in
foreign currencies, and maintain balances that are due or payable in foreign
currencies at September 30, 2003. We estimate that a hypothetical ten percent
change in foreign currency rates in the nine months ended September 30, 2003
would not have impacted our financial results of operations materially. We do
not hedge any of our foreign currency exposure.
ITEM 4. CONTROLS AND PROCEDURES
We carried out an evaluation, under the supervision and with the
participation of management, including our Chief Executive Officer and Chief
Financial Officer, of the effectiveness of the design and operation of our
disclosure controls and procedures, as defined in Exchange Act Rules 13a-14(c)
and 15d-14(c), as of September 30, 2003. Based on this evaluation, our Chief
Executive Officer and Chief Financial Officer concluded that these disclosure
controls and procedures are effective as of September 30, 2003. Our disclosure
controls and procedures are designed to provide a reasonable level of assurance
of reaching our desired disclosure control objectives and are effective in doing
so. No significant changes were made to our internal controls or other factors
that could significantly affect these controls subsequent to the date of their
evaluation.
28
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS.
The Company is not currently subject to any material legal proceedings,
though it may from time to time become a party to various legal proceedings that
arise in the ordinary course of business.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) EXHIBITS:
10.25 Amendment No. 1 to Amended and Restated Loan and Security
Agreement Between Persistence Software, Inc. and Comerica Bank.
31.1 Certificate of Chief Executive Officer, pursuant to Section 302
of the Sarbanes-Oxley Act of 2002.
31.2 Certificate of Chief Financial Officer, pursuant to Section 302
of the Sarbanes-Oxley Act of 2002.
32.1 Certificate of Chief Executive Officer, pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.
32.2 Certificate of Chief Financial Officer, pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.
(b) REPORTS ON FORM 8-K:
A report on Form 8-K filed October 17, 2003, reporting under Item 9 the
announcement that on October 17, 2003, the Company issued a press release
regarding its financial results for the nine months ended September 30, 2003 and
the departure of Christine Russell, the Company's Chief Financial Officer. In
accordance with Securities and Exchange Commission Release No. 33-8216, the
information contained in the Form 8-K, which was intended to be furnished under
Item 12, "Results of Operations and Financial Condition," was instead furnished
under Item 9, "Regulation FD Disclosure."
29
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.
PERSISTENCE SOFTWARE, INC.
By: /s/ BRIAN TOBIN
------------------------------
BRIAN TOBIN
ACTING CHIEF FINANCIAL OFFICER
(PRINCIPAL FINANCIAL AND
ACCOUNTING OFFICER)
Date: November 14, 2003
30
EXHIBIT INDEX
Exhibit
No. Description
--- -----------
10.25 Amendment No. 1 to Amended and Restated Loan and Security
Agreement Between Persistence Software, Inc. and Comerica Bank.
31.1 Certificate of Chief Executive Officer, pursuant to Section 302
of the Sarbanes-Oxley Act of 2002.
31.2 Certificate of Chief Financial Officer, pursuant to Section 302
of the Sarbanes-Oxley Act of 2002.
32.1 Certificate of Chief Executive Officer, pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.
32.2 Certificate of Chief Financial Officer, pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.
31