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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
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(MARK ONE)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2000
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: 000-30203
NUANCE COMMUNICATIONS, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 94-3208477
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NUMBER)
1005 HAMILTON COURT
MENLO PARK, CALIFORNIA 94025
(ADDRESS OF PRINCIPAL OFFICE) (ZIP CODE)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (650) 847-0000
SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT:
NONE
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
COMMON STOCK, $0.001 PAR VALUE
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and, (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of the registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. No [ ]
The aggregate market value of the voting stock held by non-affiliates of
the registrant was approximately $847,014,546 as of December 31, 2000 based on
the closing price of the Common Stock as reported on The Nasdaq Stock Market for
that date. Shares of Common Stock held by each executive officer and director
and by each person who owns 5% or more of the outstanding Common Stock have been
excluded in that such persons may be deemed to be affiliates. The determination
of affiliate status is not necessarily a conclusive determination for other
purposes. There were 32,158,875 shares of the Registrant's Common Stock issued
and outstanding on December 31, 2000.
DOCUMENTS INCORPORATED BY REFERENCE
Certain sections of Nuance Communications, Inc.'s definitive Proxy
Statement for the 2001 Annual Meeting of Stockholders, tentatively scheduled to
be held on May 8, 2001, are incorporated by reference in Part III of this Form
10-K to the extent stated herein.
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TABLE OF CONTENTS
PAGE
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PART I
Item 1. Business.................................................... 1
Item 1A. Company Risk Factors........................................ 10
Item 2. Properties.................................................. 18
Item 3. Legal Proceedings........................................... 18
Item 4. Submission of Matters to a Vote of Security Holders......... 18
PART II
Item 5. Market for Registrant's Common Equity and Related 19
Stockholder Matters.........................................
Item 6. Selected Financial Data..................................... 20
Item 7. Management's Discussion and Analysis of Financial Condition 21
and Results of Operations...................................
Item 7A. Quantitative and Qualitative Disclosures About Market 32
Risk........................................................
Item 8. Financial Statements and Supplemental Data.................. 32
Item 9. Changes in and Disagreements with Accountants on Accounting 32
and Financial Disclosure....................................
PART III
Item 10. Directors and Executive Officers of the Registrant.......... 33
Item 11. Executive Compensation...................................... 33
Item 12. Security Ownership of Certain Beneficial Owners and 33
Management..................................................
Item 13. Certain Relationships and Related Transactions.............. 33
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 33
8-K.........................................................
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PART I
ITEM 1. BUSINESS
The description of Nuance's business set forth below contains
forward-looking statements within the meaning of Section 27A of the Securities
Act and Section 21E of the Exchange Act, including but not limited to statements
regarding the timing of release of our products, the growth of our sales through
distributors and the market for our products in general. Words such as
"anticipates," "expects," "intends," "plans," "believes," "seeks" and
"estimates" and similar expressions are intended to identify forward-looking
statements. These statements are not guarantees of future performance and actual
actions or results may differ materially. These statements are based on
information available to us on the date hereof, and we assume no obligation to
update any such forward-looking statements. These statements involve risks and
uncertainties and actual results could differ materially from those anticipated
in these forward-looking statements as a result of a number of factors,
including, but not limited to, those set forth in "Company Risk Factors" and
elsewhere in this Report on Form 10-K and in other reports or documents filed by
us from time to time with the Securities and Exchange Commission. In particular,
see "Company Risk Factors -- Voice interface software may not achieve widespread
acceptance by businesses and telecommunications carriers, which could limit our
ability to grow our business", "Our ability to accurately forecast our quarterly
sales is limited, our costs are relatively fixed in the short term and we expect
our business to be affected by seasonality. As a result, our quarterly operating
results may fluctuate" and "We depend on resellers for a significant portion of
our sales. The loss of a key reseller, or their inability to resell our products
and services, would limit our ability to sustain and grow our revenue".
INDUSTRY BACKGROUND
Companies are striving to create new and better means of communicating and
conducting business with their customers. Therefore, businesses are investing
significantly to build and improve their customer service infrastructure.
Historically, offering convenient, easy-to-use and cost-effective customer
support to all potential customers has been difficult. However, new voice user
interface technologies are emerging that allow businesses to leverage the
Internet and telecommunications infrastructure in order to more effectively and
efficiently interact with their customers.
Growth of the Internet
The Internet has offered businesses a new global communications medium for
efficient sharing of electronic information and transactions. Businesses have
made massive investments over the last few years to enable their information to
be delivered and transactions to be conducted over the World Wide Web.
International Data Corporation, or IDC, estimates that there were approximately
2.2 billion URLs on the web in 1999 and that this number is expected to grow to
17.4 billion by 2003. IDC also estimates that there were approximately 267
million users of the Internet worldwide at the end of 1999 and that the number
of users will grow to approximately 775 million by the end of 2003.
Widespread Accessibility of Wireless and Wireline Telecommunications Networks
While the number of users accessing the Internet is rapidly growing, the
telephone network is already widely accessible. The Yankee Group estimates that
in 1998 there were over 831 million telephone lines installed and that in 2000
there were 625 million wireless subscribers worldwide. The recent rapid growth
in the wireless market is projected by The Yankee Group to continue, with over
one billion subscribers worldwide by 2003, representing a three-year compound
annual growth rate of 17%. The proliferation of the wireless phone has made
access to the telephone network even easier.
Although access to the Internet is becoming increasingly common, IDC
estimates show that by the end of 2003, only 61% of U.S. households will have
access to the Internet. Additionally, IDC then estimates that by the end of
2003, the U.S. will represent 27% of the worldwide Internet user population.
Thus, many people must obtain information and services and conduct commerce by
means other than a personal computer
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connected to the Internet. Even those potential users who do have Internet
access are not always near their personal computers when they need information
or want to conduct commerce.
In contrast, the telephone is a more readily available information and
services access device. In comparison to personal computers, telephones are
simple to operate and use the most natural form of communication, the human
voice. Therefore, the telephone network holds a greater potential for businesses
to deliver their information to, and conduct transactions with, the largest
possible population.
High Cost of Call Centers and Limitations of First-Generation Automated
Telephone Systems
Many enterprises have invested in call centers staffed by customer service
representatives to interact with customers over the telephone. In a call center,
a customer service representative listens to a caller's inquiry, retrieves the
information from a computer terminal, and communicates the results to the
caller. While these call centers are effective at delivering services over the
telephone, they are labor-intensive and expensive. The first generation of
systems designed to automate these customer interactions and lower the cost of
customer contact was deployed using touch-tone interfaces. Using these systems,
callers navigate through menus of touch-tone options and press the keys that
help them obtain information or conduct transactions. These systems achieve some
automation, but because of the limitations of the telephone keypad, are
generally regarded as difficult to use, limiting the range of services that can
be offered and customer acceptance rates. As a result, enterprises continue to
rely upon traditional call centers staffed by customer service representatives
to provide more sophisticated service and to support customers who opt out of
touch-tone systems. The Giga Information Group estimates that in 2000, as many
as 2.9 million people still worked in 72,000 call centers in the United States.
Datamonitor, a London-based consultancy, estimates that in 1998 close to one
million people worked in approximately 12,000 call centers across Europe. The
Giga Information Group estimates that $91 billion was spent on call centers in
1999. As a result, businesses continue to explore new alternatives for
automating customer interaction worldwide.
Changes in the Telecommunications Industry
Telecommunications carriers are searching for innovative ways to generate
revenue from new and existing customers. For both wireless and wireline
carriers, deregulation and technology advancements continue to spur increased
competition, driving down the average revenue per customer and decreasing
traditional customer loyalties. As a result, carriers are seeking to improve
customer retention by providing value-added network services such as voice
messaging, call waiting and directory services. While acceptance rates of these
services have been relatively high, customer turnover continues at a rate of
between 24% and 29% per year according to The Yankee Group. This customer
turnover and pricing pressures are driving carriers to offer new, higher-value,
information-based services. One of the challenges that the carriers face is
delivering sophisticated information-based services through the telephone. Even
with the evolution of telephones with small screen displays, the ability for the
user to input information is constrained, limiting the usability and
sophistication of services that can be made available.
The Market Opportunity
We believe there is a significant opportunity for a telephone-based voice
user interface capable of delivering information and conducting commerce in a
cost-effective, convenient and easy-to-use manner. These voice systems must
recognize and understand naturally spoken commands, while also authenticating
caller identities. Although basic speech recognition technology has succeeded at
automating certain specialized applications, such as limited data entry and
retrieval, its widespread use has been constrained by technical limitations and
the cost of processing power. Within the last few years, however, the cost of
computer processing power has declined significantly and technical advancements
have provided the opportunity for speech technology to perform with a higher
degree of recognition accuracy in challenging conditions across
telecommunications networks. We believe that businesses will benefit from voice
interface platforms that provide highly accurate, cost-effective, scalable
solutions for communicating and conducting business with customers over the
telephone.
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THE NUANCE SOLUTION
Nuance develops, markets and supports a voice interface software platform
that makes the information and services of enterprises, telecommunications
networks and the Internet accessible from any telephone.
Our software platform consists of software servers that run on
industry-standard hardware and perform speech recognition, natural language
understanding, text-to-speech synthesis and voice authentication. Speech
recognition is used to recognize what a person says, natural language
understanding derives the meaning of what is said, text-to-speech synthesis
converts text, for example, from a database, an email, a web page or another
document, into speech and voice authentication verifies the identity of a
speaker based on the unique qualities of that speaker's voice. We offer a
software developer toolkit and software components to enable our customers and
third parties to develop voice interfaces that use our software platform. These
software components include the user interface for specific tasks, such as
requesting a telephone number, date or dollar amount. We also offer a range of
consulting, support and education services.
An additional part of our solution is a voice browser. Our voice browser
provides a standard user interface for telephone access to traditional telephony
applications, voice portals and voice-enabled Internet content. The
functionality of our voice browser used via the telephone is analogous to that
of a web browser, which allows users to navigate the World Wide Web via a
personal computer. Our voice browser allows personalization through storage of
user profile information and personal bookmark lists. Our voice browser uses the
speech recognition, natural language understanding, text-to-speech and voice
authentication capabilities of our software platform to deliver its standard
user interface.
Our software platform, developer toolkit, software components and voice
browser are designed to work with Voice eXtensible Markup Language (VoiceXML), a
recently emerged industry standard language that simplifies creation of
interfaces between voice interface software and traditional Web infrastructure.
We believe our products and services provide businesses with the following
benefits:
Increased Revenue Opportunities. By delivering their automated applications
over the telephone through a voice user interface, businesses are able to
increase their revenue opportunities by:
- exploiting the relative ubiquity of the telephone to provide an
increasingly mobile population of customers and employees with more
convenient access to products, services and information;
- reducing the number of callers that hang up because of the long wait to
speak with customer service representatives; and
- introducing new revenue-generating, value-added services such as voice
dialing, directory assistance, personal agents and voice portals.
Reduced Operational Costs. Our products and services reduce operating costs
for businesses by increasing the availability and efficiency of customer
contact. According to the Giga Information Group, the average cost of a speech
recognition telephone call is between $0.10 and $0.32, compared to the average
cost of a call handled by a customer service representative, which typically
ranges from $1.95 to $5.00. Even for businesses which offer some services
through a touch-tone interface, we believe a voice user interface can reduce the
number of callers who elect to speak directly to a customer service
representative, thereby reducing overall customer contact costs.
Increased Customer Retention. Our products and services help businesses
offer personalized services such as voice dialing of numbers in stored personal
contact lists and access to stock portfolios and other customizable information.
Our software also provides enterprises and telecommunications carriers with the
ability to introduce new value-added services, allowing them to better
differentiate themselves from their competitors. By improving the
personalization and differentiation of their services, these businesses are able
to improve customer loyalty and increase customer retention.
Increased Customer Satisfaction. Because users can speak naturally to
systems using our software, they can obtain information or perform transactions
more quickly than by navigating through the menus of a touch-tone system.
Shorter calls allow businesses to handle more users, which in turn leads to
shorter hold times.
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Our software also reduces the need for callers to remember personal
identification numbers or passwords. Businesses will be able to offer a
consistent level of service that does not rely on training call center customer
service representatives.
Enhanced Security. Our voice authentication software allows businesses to
offer applications that are more secure, more personalized and more convenient
for end users than traditional security methods such as personal identification
numbers and account numbers. Just as individuals can be authenticated by their
fingerprints, they also can be authenticated by their voiceprints. Our software
can use a caller's voiceprint to authenticate his identity over the telephone
with high reliability. An individual's voiceprint is less likely to be lost,
stolen or shared than a password or a personal identification number. When
implemented together with our speech recognition capabilities, voice
authentication also increases the usability of an application by reducing the
time and complexity of identifying and authenticating a caller. A caller can
simply speak his telephone number or name and, while our speech recognition
software recognizes what has been spoken, our voice authentication software
authenticates the caller's identity.
STRATEGY
Our objective is to be the leading voice interface software platform for
applications used across enterprises, telecommunications networks and the
Internet. The key elements of our strategy are:
Facilitate the Development, Adoption and Usage of Voice User Interfaces to
Information and Services. We anticipate the formation of a web of voice sites,
similar to the World Wide Web, that uses a person's voice to access information
and services. We expect that this web will allow the inter-connectivity of
various Internet and telephony applications with voice interfaces. To facilitate
the rapid growth of this voice web and the adoption of our voice interface
software, we plan to invest in products that enable the development and usage of
voice sites, voice portals and Internet content that may be accessed through a
voice interface. We intend to continue investing in the development of our voice
browser and to market it to potential voice portal companies, potential voice
site companies and telecommunications carriers. We also plan to invest in the
development and marketing of new developer tools that help businesses provide
voice user interfaces to their applications. Finally, we plan to continue to
forge strategic relationships with companies providing platforms, tools and
services to these markets.
Facilitate Broad Acceptance and Deployment of Our Software Platform. By
leveraging our market leadership position and combining high-performance speech
recognition, natural language understanding, text-to-speech and voice
authentication technologies in a scalable software platform, we believe that we
have the opportunity to establish our software as the de facto standard platform
for voice applications and services. We plan to continue to invest significant
resources to enhance our core technology, software architecture and developer
tools and to create new products and services that facilitate development and
deployment of applications having a voice user interface. By publishing
application programming interfaces and contributing to standards bodies, we are
helping establish industry standards so application developers can quickly and
cost-effectively create robust applications having a voice user interface.
Establish the De Facto Standard for Voice User Interfaces. We believe that,
by leveraging our user interface design experience, we are positioned to
establish a de facto standard for voice user interfaces. We believe that the
existence of such a de facto standard will facilitate third-party development
and deployment of applications having a voice user interface and leverage the
capabilities of our software platform. Standardization of interface design
principles will also give end users consistency in voice user interfaces across
different applications, improving the usability and effectiveness of these
applications. To help accomplish this goal, we intend to continue to invest in
the recently emerged standard language for building interfaces between voice
recognition software and Web content and other content. For example, via
VoiceXML, our voice browser provides end users with a consistent interface for
navigation and provides developers with a standard interface for presentation of
their voice-enabled applications. We plan to continue to invest in development
of, and to encourage third parties to develop, standards-compliant software
components. We also intend to create and promote a developer's style guide for
voice interfaces and to continue to offer professional services for interface
design.
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Leverage Strategic Relationships to Deliver Complete Solutions. We work
closely with third parties to deliver complete solutions. Our software is
currently integrated with a variety of leading telephony systems. We have also
established a number of relationships with application and integration resellers
serving both the telecommunications and enterprise markets and plan to continue
to forge more of these relationships. In 1999, we introduced the Nuance Partner
Alliance, a program for supporting our resellers and integrators, and the Nuance
Developer Network, a program for providing developers of voice-enabled
applications with tools and information that has over 7,000 members as of March
2001. We intend to continue to invest in the implementation of sales, marketing
and support programs to enhance the ability and motivation of third parties to
aggressively market, sell and implement solutions based on our software
platform.
Further Develop Our Global Sales, Distribution, Service and Support
Capabilities and Related Product Offerings. We have established over 175
customer and partner relationships across 32 countries including the United
States. We expect the international market for our software to continue to grow
and intend to expand our presence in strategic international markets. To
continue to address this global opportunity, we plan to continue hiring sales,
service and support employees local to these markets and to establish new
relationships with resellers and integrators serving them. We have products that
recognize and understand 22 languages and dialects, and we plan to continue
investing in the development of voice interface products for additional
languages and dialects, although at a slower rate than previously.
PRODUCTS AND SERVICES
Our product line consists of our software platform, our developer
productivity tools and our voice browser. We also offer services to facilitate
the development, implementation and support of applications operating on our
software platform.
Software Platform
Nuance 7.0. The Nuance 7.0 software server provides speech recognition and
natural language understanding capabilities, enabling recognition and
understanding of both simple responses, such as "yes" and "no," and complex
phrases, such as "buy 333 shares at 33 and 3/4." Nuance 7.0 is designed to
operate on standard CPU hardware architectures and operating systems such as
UNIX and Windows NT within a variety of leading telephony systems. The Nuance
7.0 software platform's distributed server architecture enables speech
recognition to be performed on a single hardware server or on multiple hardware
servers in a network. When used on multiple servers in a network, Nuance 7.0
efficiently balances the load of speech recognition requests across available
servers and automatically compensates for a hardware or software failure on one
or more of these servers.
The speech recognition and natural language understanding technology of
Nuance 7.0 is available for 22 languages and dialects, including U.S. English,
Canadian English, U.K. English, Australian English, South African English,
Singapore English, Latin American Spanish, European Spanish, Cantonese, Czech,
Dutch, Canadian French, European French, German, Greek, Italian, Japanese,
Mandarin (mainland and Taiwanese), Norwegian, Brazilian Portuguese, Swedish and
Turkish. We plan to continue to implement this technology in additional
European, Asian and Latin American languages and dialects as we expand our
presence in additional markets.
Nuance Verifier. The Nuance Verifier software server provides voice
authentication capabilities for verifying the identity of a speaker based on his
unique voice qualities. Users enroll their voiceprints by speaking information
requested by the application. Based on this speech, Nuance Verifier creates a
voiceprint of the caller's voice. The software is then able to authenticate the
caller's claimed identity by comparing his speech to the previously enrolled
voiceprint. Nuance Verifier is tightly integrated with Nuance 7.0 and operates
within the same architecture, allowing for the same software scalability and
robustness. This integration provides a key point of differentiation from our
competitors' products, since users can be recognized and authenticated
simultaneously. For example, when a caller speaks his telephone number, our
software will understand what phone number was spoken and use that same
statement to authenticate the
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caller. We believe that Nuance Verifier's technology delivers a high degree of
accuracy for voice authentication, which provides callers with high levels of
security and convenience.
Nuance Vocalizer. Nuance's Vocalizer, Nuance's text-to-speech software
engine, which is currently available as a Developer's Release and which we
expect to be generally available during 2001, synthesizes text into speech,
providing a natural-sounding and understandable voice interface to information
and service. This software enables companies to deploy new and complex
applications, reading text from a variety of data sources and devices.
Applications such as reading email, reviewing appointments from a desktop
calendar, checking sales data or accessing stock quotes and bank accounts can be
created with Nuance Vocalizer.
Nuance Voice Web Server. The Nuance Voice Web Server is comprised of the
Nuance 7.0 speech recognition server and the Nuance VoiceXML Interpreter.
VoiceXML is a standards-based scripting language which enables rapid development
of speech applications. It is based on World Wide Web standards and thus enables
speech applications to leverage existing web infrastructure and developer
communities. Just as HTML defines the display and delivery of text and images to
PCs connected to the Internet, VoiceXML enables voice content to be delivered by
phone. The Nuance VoiceXML interpreter is software that can process content
developed in the VoiceXML language.
Developer Productivity Tools
SpeechObjects. SpeechObjects are software components that developers can
combine to create the entire voice user interface for an application.
SpeechObjects have published application programming interfaces that define the
voice interface for specific tasks, such as the request for a spoken city name,
flight number or postal code. SpeechObjects encapsulate grammars, which are
lists of valid responses that a user might say at a particular point in the
dialog, prompts, which are messages played to a caller to elicit a response, and
a dialog framework, which governs these grammars and prompts. Because
SpeechObjects can be used across multiple applications and can be customized for
different applications, they help reduce the time and complexity to build an
application that uses a voice interface. For example, a SpeechObject that
understands a spoken date can be used for applications as diverse as travel
planning and bill payment. We facilitate third-party development of new
components by providing royalty-free licenses to the source code for a set of
SpeechObjects we call Foundation SpeechObjects. These Foundation SpeechObjects
capture commonly used information such as dates, times and dollar amounts.
Nuance Developer's Toolkit. The Nuance Developer's Toolkit facilitates the
prototyping, development, deployment and optimization of voice user interfaces
for applications. The toolkit provides application programming interfaces to our
software platform and also includes twenty-five Foundation SpeechObject software
components. Voice user interfaces developed with the Nuance Developer's Toolkit
can be integrated with telephony applications written in C/C++ or Java or using
one of the Nuance-supported third-party application development software tools.
The toolkit includes a product called V-Optimizer that is used by developers to
analyze and tune system performance. The Nuance Developer's Toolkit includes a
tool, named V-Builder, that provides developers with the capability to create
speech applications using both VoiceXML, a recently emerged standard for voice
markup languages, and SpeechObject software components.
Nuance Voyager
Our Voyager voice browser provides a standard voice user interface for
access to traditional telephony applications, voice portals and voice-enabled
Internet content. The functionality of our voice browser used via the telephone
is analogous to that of a web browser, which allows users to navigate the World
Wide Web via a personal computer. For end users, the Voyager browser delivers a
consistent user interface experience with standardized navigation features, such
as voice-based hyperlinks, continuous connection from one call to the next and
standardized personalization features, such as voice-site bookmarks, stored
voiceprints and storage of user profile information. For developers of
voice-enabled applications, the Voyager browser offers a consistent framework
for presentation of these voice-enabled applications to end-users. For the
enhanced service providers and telecommunications carriers who may deploy
Voyager to their customers, the product allows
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delivery of new types of voice-enabled services and offers a variety of voice
portal services customized to their specific needs.
Services
We offer a range of services for implementation of applications using our
software platform. We offer professional services for customer projects, and
believe that our experience in the design and deployment of voice interface
systems is of value to our customers and provides us with a competitive
advantage. We draw on this experience to provide professional services that
include prototype development, user interface design, grammar development,
system testing, performance optimization and end-user acceptance studies. We
also offer technical support services for customers and developers to assist
with development, integration and operation of our software products, as well as
developer education services.
VOICE TECHNOLOGIES
Our core technologies are speech recognition, natural language
understanding, text-to-speech synthesis and voice authentication. Our software
platform, developer toolkit, software components and voice browser are designed
to work with VoiceXML. Just as Hypertext Markup Language (HTML) defines the
display and delivery of text and images on PCs connected to the Internet,
VoiceXML can translate Web content into a format that speech-recognition
software can deliver by phone.
Speech recognition. Our highly accurate speech recognition technology uses
advanced linguistic and statistical models to interpret and understand natural
human speech, enabling users to speak naturally to computers. To recognize
speech, we currently use Hidden Markov Models with Gaussian-mixture processing,
which are statistical models that incorporate linguistic rules and automatically
learn from recorded speech databases. Our approach to speech recognition is
based on dividing digitized speech into many short segments, then using our
statistical processes to analyze and interpret these segments. Breaking the
speech into these short segments creates a high-resolution view of the speech,
which results in a high degree of accuracy.
Natural language understanding. Once speech is recognized, our software
determines its meaning. The software extracts the relevant parts of the
recognized speech using rules established by the developer of the voice
interface. These rules allow it to discard extraneous words such as "uh" and
"please" and then map the remaining words to pre-defined associated meanings.
For example, if the recognized speech were to be "Big Blue," the application
developer could use our developer tools to associate the speech with the ticker
symbol "IBM."
Text-to-speech. Our text-to-speech engine synthesizes text into speech,
providing a natural-sounding and understandable voice interface to information
and services. Our text-to-speech software can replace the lengthy manual
development steps needed to manage large applications such as directory services
or order management content. Text-to-speech capabilities also eliminate the cost
and inconvenience of studio recordings required to maintain an application's
chosen voice.
Voice authentication. Our voice authentication software provides security
for applications through biometric speaker verification. Callers enroll their
voices by speaking information requested by the application. Based on this
speech, our technology creates a voiceprint, or a statistical model of the
caller's voice. Once a voiceprint is created, our software can authenticate a
caller's claimed identity by comparing his speech to the voiceprint created
during enrollment. Our voice authentication software takes into account the
acoustic differences between types of telephones and caller locations, which may
affect how a voice sounds. These acoustic differences are one of the key
technological challenges in producing robust voice authentication products. By
using our proprietary techniques, our voice authentication technology provides a
high degree of accuracy.
CUSTOMERS
We sell our software to a broad range of companies and organizations,
including those in the air travel, banking and brokerage business, as well as
investment institutions, retailers, voice portals and telecommunications
carriers. As of December 31, 2000, we had sold software and/or services to over
375 end-users.
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SALES AND MARKETING
We sell our products both directly through a sales force and indirectly
through third-party value added resellers, original equipment manufacturers, or
"OEMs", voice application service providers, and systems integrators. As of
December 31, 2000, we had 122 employees in sales and marketing serving the
United States market and 34 employees in sales and marketing serving
international markets. We also had sales offices in five different countries.
International sales accounted for 18% of revenue in 1998, 21% in 1999 and 47% in
2000.
Our sales force focuses on generating demand for our products that is
fulfilled either directly or indirectly through channel resellers. We believe
that, as the market for voice interface solutions continues to develop, sales
through our indirect channel will represent a significant percentage of our
sales.
Our resellers increase our sales coverage worldwide and address the broad
range of market and application opportunities for our software. In addition,
these resellers provide end users of our software platform with access to
additional resources to design, install and customize applications. Our five
largest resellers based on revenue in 2000 were Edify -- a subsidiary of S1
Corporation, IBM, Nortel Networks, Syntellect and VeCommerce (Australia).
MARKETING
Our marketing programs are designed to create awareness for our products
and services and support our direct and indirect sales efforts. We have
implemented an integrated mix of marketing activities, including public
relations, promotional events such as seminars and an annual user conference,
demonstration systems, web sites and channel programs. Our channel programs
include the Nuance Developer Network and the Nuance Partner Alliance. The Nuance
Developer Network is a program for providing developers of voice-enabled
applications with tools and information. Members of the Nuance Developer Network
receive our Developer Toolkit, training discounts and access to our extranet
system for additional information and online support. The Nuance Partner
Alliance is comprised of a select group of our resellers, OEMs, voice
application service providers and integrators. We screen applicants to the
Nuance Partner Alliance based on their commitments to sell and to market our
software and services and to provide relevant training to their employees. We
perform joint marketing activities with Nuance Partner Alliance members and we
provide them with introductions to prospective customers.
RESEARCH AND DEVELOPMENT
To remain competitive in the voice interface software industry, we must
continue to develop highly accurate and efficient speech recognition, natural
language understanding and voice authentication technologies. Our technologies
are based on over ten years of initial research activities by SRI International.
Since our formation, we have invested significantly in developing and improving
this core technology, the software architecture and related products. Our
current research and development activities include improvements to recognition
and verification accuracy, continued enhancements to the Nuance 7 software
architecture to broaden functionality, improve software efficiency and expand
integration options, and development of text-to-speech products. Our research
and development expenses were $6.6 million in 1998, $11.8 million in 1999 and
$20.2 million in 2000. As of December 31, 2000, we had 121 employees dedicated
to research and development. We believe that new and timely development of
products and technologies is important to our competitive position in the market
and intend to continue to invest in research and development activities.
COMPETITION
A number of companies have developed, or are expected to develop, products
that compete with our products. Competitors in the voice interface software
market include IBM, ITT Industries, Lernout and Hauspie Speech Products, Locus
Dialogue, Lucent Technologies, Philips Electronics, SpeechWorks International,
Veritel, Vocalis and T-NETIX. We expect additional competition from other
companies such as Microsoft, who has made investments in, and acquired, voice
interface technology companies. Furthermore, our competitors may combine with
each other, and other companies may enter our markets by acquiring or
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entering into strategic relationships with our competitors. Current and
potential competitors have established, or may establish, cooperative
relationships among themselves or with third parties to increase the abilities
of their advanced speech and language technology products to address the needs
of our prospective customers.
Many of our current and potential competitors have longer operating
histories, significantly greater financial, technical, product development and
marketing resources, greater name recognition and larger customer bases than we
do. Our present or future competitors may be able to develop products comparable
or superior to those we offer, adapt more quickly than we do to new
technologies, evolving industry trends and standards or customer requirements,
or devote greater resources to the development, promotion and sale of their
products than we do. Accordingly, we may not be able to compete effectively in
our markets, competition may intensify and future competition may harm our
business.
We believe that the principal competitive factors affecting our market
include the breadth and depth of solutions, product quality and performance,
core technology, product scalability and reliability, product features, customer
service, the ability to implement solutions, the value of a given solution, the
creation of a base of referenceable customers and the strength and breadth of
reseller and developer relationships. Although we believe that our solutions
currently compete favorably with respect to these factors, particularly with
respect to product quality and performance, our market is relatively new and is
evolving rapidly.
INTELLECTUAL PROPERTY
We rely upon a combination of patent, copyright, trade secret and trademark
laws to protect our intellectual property. We have filed multiple U.S. patent
applications, resulting in the issuance of one patent, and have taken steps to
preserve our rights in various foreign countries. In addition, we have two U.S.
trademark registrations and we have filed for additional U.S. trademark
registrations. Although we rely on patent, copyright, trade secret and trademark
law to protect our technology, we believe that factors such as the technological
and creative skills of our employees, new product developments, frequent product
enhancements and reliable product maintenance are more essential to establishing
and maintaining a technology leadership position. We cannot guarantee that
others will not develop technologies that are similar or superior to our
technology.
To protect our trade secrets, technical know-how and other proprietary
information, our employees are required to enter into agreements providing for
the maintenance of confidentiality and assignment of rights to inventions made
by them while employed by us. We also enter into non-disclosure agreements to
protect our confidential information delivered to third parties and control
access to and distribution of our proprietary information. Despite our efforts
to protect our proprietary rights, unauthorized parties may attempt to copy or
otherwise to obtain and use our technology or to develop products with the same
functionality as our products. Monitoring unauthorized use of our proprietary
information and technology is difficult, and we cannot be certain that the steps
we have taken will prevent misappropriation of our technology, particularly in
foreign countries where the laws may not protect proprietary rights as fully as
do the laws of the United States. In addition, some of our license agreements
require us to place the source code for our products into escrow.
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 intellectual property rights. Although we attempt to avoid
infringing known proprietary rights of third parties, we expect that we may be
subject to legal proceedings and claims for alleged infringement by us or our
licensees of third-party proprietary rights, such as patents, trade secrets,
trademarks or copyrights, from time to time in the ordinary course of business.
Any claims relating to the infringement of third-party proprietary rights, even
if not successful or meritorious, could result in costly litigation, divert
management's attention and resources or require us to enter into royalty or
license agreements which are not advantageous to us. In addition, parties making
these claims may be able to obtain injunctions, which could prevent us from
selling our products. Furthermore, former employers of these employees may
assert that our employees have improperly disclosed confidential or proprietary
information to us. Any of these results could harm our business. We may be
increasingly subject to infringement claims as the number of, and features of,
our products grow.
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EMPLOYEES
As of December 31, 2000, we had 469 full time employees. From time to time,
we also retain independent technical contractors and temporary employees. None
of our employees are subject to a collective bargaining agreement, and we
believe that our relations with our employees are good.
ITEM 1A. COMPANY RISK FACTORS
WE HAVE A HISTORY OF LOSSES. WE EXPECT TO CONTINUE TO INCUR LOSSES AND WE MAY
NOT ACHIEVE OR MAINTAIN PROFITABILITY.
We have incurred losses since our inception, including a loss of
approximately $23.5 million in the year ended December 31, 2000. As of December
31, 2000, we had an accumulated deficit of approximately $57.3 million. We
expect to have net losses and negative cash flow for at least the next 12
months. We expect to spend significant amounts to enhance our products and
technologies, expand international sales and operations and fund research and
development. As a result, we will need to generate significant additional
revenue to achieve profitability. Even if we achieve profitability, we may not
be able to sustain or increase profitability on a quarterly or annual basis.
OUR ABILITY TO ACCURATELY FORECAST OUR QUARTERLY SALES IS LIMITED, OUR COSTS ARE
RELATIVELY FIXED IN THE SHORT TERM AND WE EXPECT OUR BUSINESS TO BE AFFECTED BY
SEASONALITY. AS A RESULT, OUR QUARTERLY OPERATING RESULTS MAY FLUCTUATE.
Our quarterly operating results have varied significantly in the past and
we expect that they will vary significantly from quarter to quarter in the
future. For instance, on March 15, 2001, we announced our revised expectations
for our first quarter financial results based upon our then-current outlook.
These quarterly variations are caused by a number of factors, including:
- delays in customer orders due to the complex nature of large telephony
systems and the associated implementation projects;
- timing of product deployments and completion of project phases,
particularly for large orders;
- delays in recognition of software license revenue in accordance with
applicable accounting principles;
- our ability to develop, introduce, ship and support new and enhanced
products, such as our voice browser and new versions of our software
platform, that respond to changing technology trends in a timely manner
and our ability to manage product transitions;
- the amount and timing of increases in expenses associated with our
growth; and
- the utilization rate of our professional services personnel.
Due to these factors, and because the market for our voice interface
software platform is new and rapidly evolving, our ability to accurately
forecast our quarterly sales is limited. In addition, most of our costs are for
personnel and facilities, which are relatively fixed in the short term. If we
have a shortfall in revenue in relation to our expenses, we may be unable to
reduce our expenses quickly enough to avoid lower quarterly operating results.
We do not know whether our business will grow rapidly enough to absorb the costs
of these employees and facilities. As a result, our quarterly operating results
could fluctuate significantly and unexpectedly from quarter to quarter.
In addition, we expect to experience seasonality in the sales of our
products. For example, we anticipate that sales may be lower in the first
quarter of each year due to patterns in the capital budgeting and purchasing
cycles of our current and prospective customers. We also expect that sales may
decline during summer months. These seasonal variations in our sales may lead to
fluctuations in our quarterly operating results. Because we have limited
operating results, it is difficult for us to evaluate the degree to which this
seasonality may affect our business.
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OUR STOCK PRICE MAY BE VOLATILE DUE TO FACTORS OUTSIDE OF OUR CONTROL.
Since our initial public offering on April 13, 2000, our stock price has
been extremely volatile. During that time, the stock market in general, and The
Nasdaq National Market and the securities of technology companies in particular,
has experienced extreme price and trading volume fluctuations. These
fluctuations have often been unrelated or disproportionate to the operating
performance of individual companies. The following factors, among others, could
cause our stock price to fluctuate:
- actual or anticipated variations in operating results;
- announcements of operating results and business conditions by our
customers and suppliers;
- announcements by our competitors relating to new customers, technological
innovation or new services;
- economic developments in our industry as a whole; and
- general market conditions.
These broad market fluctuations may materially adversely affect our stock
price, regardless of our operating results. Our stock price may fluctuate due to
variations in our operating results. For example, on March 15, 2001, we
announced our revised expectations for our first-quarter revenues based upon our
then-current outlook. As a result, the trading price of our common stock
declined rapidly and significantly.
VOICE INTERFACE SOFTWARE MAY NOT ACHIEVE WIDESPREAD ACCEPTANCE BY BUSINESSES AND
TELECOMMUNICATIONS CARRIERS, WHICH COULD LIMIT OUR ABILITY TO GROW OUR BUSINESS.
The market for voice interface software is relatively new and rapidly
evolving. Our ability to increase revenue in the future depends on the
acceptance by both our customers and their end users of voice interface
software. The adoption of voice interface software could be hindered by the
perceived costs of this new technology, as well as the reluctance of enterprises
that have invested substantial resources in existing call centers or
touch-tone-based systems to replace their current systems with this new
technology. Accordingly, in order to achieve commercial acceptance, we will have
to educate prospective customers, including large, established
telecommunications companies, about the uses and benefits of voice interface
software in general and our products in particular. If these efforts fail, or if
voice interface software platforms do not achieve commercial acceptance, our
business could be harmed.
The continued development of the market for our products also will depend
upon the:
- widespread deployment of voice interface applications by third parties,
which is driven by consumer demand for services having a voice user
interface;
- demand for new uses and applications of voice interface technology,
including adoption of voice user interfaces by companies that operate web
sites;
- adoption of industry standards for voice interface and related
technologies; and
- continuing improvements in hardware technology that may reduce the costs
of voice interface software solutions.
Our products can have a long sales and implementation cycle and, as a
result, our quarterly operating results may fluctuate.
The sales cycles for our products have typically ranged from three to
twelve months, depending on the size and complexity of the order, the amount of
services to be provided by us and whether the sale is made directly by us or
indirectly through a value added reseller, a voice application service provider
or a systems integrator.
Purchase of our products requires a significant expenditure by a customer.
Accordingly, the decision to purchase our products typically requires
significant pre-purchase evaluation. We may spend significant time educating and
providing information to prospective customers regarding the use and benefits of
our products. During this evaluation period, we may expend substantial sales,
marketing and management resources.
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In addition, during any quarter we may receive a number of orders that are
large relative to our total revenues for that quarter or subsequent quarters.
After purchase, it may take substantial time and resources to implement our
software and to integrate it with our customers' existing systems. If we are
performing services that are essential to the functionality of the software, in
connection with its implementation, we recognize software revenue based on the
percentage completed using contract accounting. In cases where the contract
specifies milestones or acceptance criteria, we may not be able to recognize
either software or service revenue until these conditions are met. We have in
the past and may in the future experience unexpected delays in recognizing
revenue. Consequently, the length of our sales and implementation cycles and the
varying order amounts for our products make it difficult to predict the quarter
in which revenue recognition may occur and may cause license and services
revenue and operating results to vary significantly from period to period.
OUR FAILURE TO RESPOND TO RAPID CHANGE IN THE MARKET FOR VOICE INTERFACE
SOFTWARE COULD CAUSE US TO LOSE REVENUE AND HARM OUR BUSINESS.
The voice interface software industry is relatively new and rapidly
evolving. Our success will depend substantially upon our ability to enhance our
existing products and to develop and introduce, on a timely and cost-effective
basis, new products and features that meet changing end-user requirements and
incorporate technological advancements. If we are unable to develop new products
and enhanced functionalities or technologies to adapt to these changes, or if we
cannot offset a decline in revenue from existing products with sales of new
products, our business would suffer.
Commercial acceptance of our products and technologies will depend, among
other things, on:
- the ability of our products and technologies to meet and adapt to the
needs of our target markets;
- the performance and price of our products and our competitors' products;
and
- our ability to deliver customer service directly and through our
resellers.
OUR PRODUCTS ARE NOT 100% ACCURATE AND WE COULD BE SUBJECT TO CLAIMS RELATED TO
THE PERFORMANCE OF OUR PRODUCTS. ANY CLAIMS, WHETHER SUCCESSFUL OR UNSUCCESSFUL,
COULD RESULT IN SIGNIFICANT COSTS AND COULD DAMAGE OUR REPUTATION.
Speech recognition, natural language understanding and authentication
technologies, including our own, are not 100% accurate. Our customers, including
several financial institutions, use our products to provide important services
to their customers, including transferring funds to accounts and buying and
selling securities. Any misrecognition of voice commands or incorrect
authentication of a user's voice in connection with these financial or other
transactions could result in claims against us or our customers for losses
incurred. Although our contracts typically contain provisions designed to limit
our exposure to liability claims, a claim brought against us for misrecognition
or incorrect authentication, even if unsuccessful, could be time-consuming,
divert management's attention, result in costly litigation and harm our
reputation. Moreover, existing or future laws or unfavorable judicial decisions
could limit the enforceability of the limitation of liability, disclaimer of
warranty or other protective provisions contained in our contracts.
ANY SOFTWARE DEFECTS IN OUR PRODUCTS COULD HARM OUR BUSINESS AND RESULT IN
LITIGATION.
Complex software products such as ours may contain errors, defects and
bugs. With the planned release of any product, we may discover these errors,
defects and bugs and, as a result, our products may take longer than expected to
develop. In addition, we may discover that remedies for errors or bugs may be
technologically unfeasible. Delivery of products with undetected production
defects or reliability, quality, or compatibility problems could damage our
reputation. Errors, defects or bugs could also cause interruptions, delays or a
cessation of sales to our customers. We could be required to expend significant
capital and other resources to remedy these problems. In addition, customers
whose businesses are disrupted by these errors, defects and bugs could bring
claims against us which, even if unsuccessful, would likely be time-consuming
and could result in costly litigation and payment of damages.
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OUR CURRENT AND POTENTIAL COMPETITORS, SOME OF WHOM HAVE GREATER RESOURCES AND
EXPERIENCE THAN WE DO, MAY DEVELOP PRODUCTS AND TECHNOLOGIES THAT MAY CAUSE
DEMAND FOR, AND THE PRICES OF, OUR PRODUCTS TO DECLINE.
A number of companies have developed, or are expected to develop, products
that compete with our products. Competitors in the voice interface software
market include IBM, ITT Industries, Lernout and Hauspie Speech Products, Locus
Dialog, Lucent Technologies, Philips Electronics, SpeechWorks International,
Veritel, Vocalis and T-NETIX. We expect additional competition from other
companies such as Microsoft, who has recently made investments in, and acquired,
voice interface technology companies. Furthermore, our competitors may combine
with each other, and other companies may enter our markets by acquiring or
entering into strategic relationships with our competitors. Current and
potential competitors have established, or may establish, cooperative
relationships among themselves or with third parties to increase the abilities
of their advanced speech and language technology products to address the needs
of our prospective customers.
Many of our current and potential competitors have longer operating
histories, significantly greater financial, technical, product development and
marketing resources, greater name recognition and larger customer bases than we
do. Our present or future competitors may be able to develop products comparable
or superior to those we offer, adapt more quickly than we do to new
technologies, evolving industry trends and standards or customer requirements,
or devote greater resources to the development, promotion and sale of their
products than we do. Accordingly, we may not be able to compete effectively in
our markets, competition may intensify and future competition may harm our
business.
WE DEPEND ON RESELLERS FOR A SIGNIFICANT PORTION OF OUR SALES. THE LOSS OF A KEY
RESELLER, OR THEIR INABILITY TO RESELL OUR PRODUCTS AND SERVICES, WOULD LIMIT
OUR ABILITY TO SUSTAIN AND GROW OUR REVENUE.
In 1998, 31% of our revenue was achieved by indirect sales through
resellers. The percentage of revenue through indirect sales increased to 56% in
1999 and to 72% in 2000. One reseller in particular, Nortel Networks, accounted
for 19% of our revenue in 1998, 25% of our revenue in 1999 and 22% of our
revenue in 2000. We intend to continue to rely on resellers for a substantial
portion of our sales in the future. As a result, we are dependent upon the
continued viability and financial stability of our resellers, as well as upon
their continued interest and success in selling our products. The loss of a key
reseller or our failure to develop new and viable reseller relationships could
limit our ability to sustain and grow our revenue. Significant expansion of our
internal sales force to replace the loss of a key reseller would require
increased management attention and higher expenditures.
Our contracts with resellers generally do not require a reseller to
purchase our products. We cannot guarantee that any of our resellers will
continue to market our products or devote significant resources to doing so. In
addition, we may, from time to time, terminate some of our relationships with
resellers. Any termination could have a negative impact on our business and
result in threatened or actual litigation. Finally, these resellers possess
confidential information concerning our products, product release schedules and
sales, marketing and reseller operations. Although we have nondisclosure
agreements with our resellers, we cannot guarantee that any reseller would not
use our confidential information in competition with us or otherwise. If our
resellers do not successfully market and sell our products for these or any
other reasons, our sales could be adversely affected and our revenue could
decline.
WE DEPEND ON A LIMITED NUMBER OF CUSTOMER ORDERS FOR A SUBSTANTIAL PORTION OF
OUR REVENUE DURING ANY GIVEN PERIOD. LOSS OF, OR DELAYS IN, A KEY ORDER COULD
SUBSTANTIALLY REDUCE OUR REVENUE IN ANY GIVEN PERIOD AND HARM OUR BUSINESS.
We derive a significant portion of our revenue in each period from a
limited number of customers. For example, in 2000, five customers made up 43% of
our total revenue, and one of those customers, acting as a reseller, accounted
for approximately 22% of our total revenue.
We expect that a limited number of customers and customer orders will
continue to account for a substantial portion of our revenue in a given period.
Generally, customers who make large purchases from us are not expected to make
subsequent, equally large purchases in the short term. As a result, if we do not
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acquire a major customer, if a contract is delayed, cancelled or deferred, or if
an anticipated sale is not made, our business could be harmed.
SALES TO CUSTOMERS OUTSIDE THE UNITED STATES ACCOUNT FOR A SIGNIFICANT PORTION
OF OUR REVENUE, WHICH EXPOSES US TO RISKS INHERENT IN INTERNATIONAL OPERATIONS.
International sales represented approximately 18% of our revenue in 1998,
21% in 1999 and 47% in 2000, and we anticipate that revenue from markets outside
the United States will continue to represent a significant portion of our total
future revenue. We are subject to a variety of risks associated with conducting
business internationally, any of which could harm our business. These risks
include:
- difficulties and costs of staffing and managing foreign operations;
- the difficulty in establishing and maintaining an effective international
reseller network;
- the burden of complying with a wide variety of foreign laws, particularly
with respect to intellectual property and license requirements;
- political and economic instability outside the United States;
- import or export licensing and product certification requirements;
- tariffs, duties, price controls or other restrictions on foreign
currencies or trade barriers imposed by foreign countries;
- potential adverse tax consequences, including higher marginal rates;
- unfavorable fluctuations in currency exchange rates; and
- limited ability to enforce agreements, intellectual property rights and
other rights in some foreign countries.
IN ORDER TO INCREASE OUR INTERNATIONAL SALES, WE MUST DEVELOP LOCALIZED VERSIONS
OF OUR PRODUCTS. IF WE ARE UNABLE TO DO SO, WE MAY BE UNABLE TO GROW OUR REVENUE
AND EXECUTE OUR BUSINESS STRATEGY.
We intend to expand our international sales, which requires us to invest
significant resources to create and refine different language models for each
particular language or dialect. These language models are required to create
versions of our products that allow end users to speak the local language or
dialect and be understood and authenticated. If we fail to develop localized
versions of our products, our ability to address international market
opportunities and to grow our business will be limited.
IF THE STANDARDS WE HAVE SELECTED TO SUPPORT ARE NOT ADOPTED AS THE STANDARDS
FOR VOICE INTERFACE SOFTWARE, BUSINESSES MIGHT NOT USE OUR VOICE INTERFACE
SOFTWARE PLATFORM FOR DELIVERY OF APPLICATIONS AND SERVICES.
The market for voice interface software is new and emerging and industry
standards have not been established yet. We may not be competitive unless our
products support changing industry standards. The emergence of industry
standards, whether through adoption by official standards committees or
widespread usage, could require costly and time-consuming redesign of our
products. If these standards become widespread and our products do not support
them, our customers and potential customers may not purchase our products.
Multiple standards in the marketplace could also make it difficult for us to
insure that our products will support all applicable standards, which could in
turn result in decreased sales of our products.
Our V-Builder applications-building tool, our Voice Web Server software and
our Voyager browser application are each designed to work with the recently
emerged VoiceXML standard. If VoiceXML is not widely accepted by our target
customers, then sales of our products could decline and our business would be
harmed. In that case, we may find it necessary to redesign our existing products
or design new products that are compatible with standards that replace VoiceXML.
This design or redesign could be costly and time-consuming.
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WE MAY ENCOUNTER DIFFICULTIES IN MANAGING OUR GROWTH, WHICH COULD PREVENT US
FROM EXECUTING OUR BUSINESS STRATEGY.
Our rapid growth has placed, and continues to place, a significant strain
on our resources. To accommodate this growth, we must implement or upgrade a
variety of operational and financial systems, procedures and controls, including
the improvement of our accounting and other internal management systems. We have
had to hire additional employees to accommodate this growth in business and
product development activity. This has resulted in increased responsibilities
for our management. Our systems, procedures and controls may not be adequate to
support our operations. If we fail to improve our operational, financial and
management information systems, or to hire, train, motivate or manage our
employees, our business could be harmed.
ANY INABILITY TO ADEQUATELY PROTECT OUR PROPRIETARY TECHNOLOGY COULD HARM OUR
ABILITY TO COMPETE.
Our future success and ability to compete depends in part upon our
proprietary technology and our trademarks, which we attempt to protect with a
combination of patent, copyright, trademark and trade secret laws, as well as
with our confidentiality procedures and contractual provisions. These legal
protections afford only limited protection and may be time-consuming and
expensive to obtain and/or maintain. Further, despite our efforts, we may be
unable to prevent third parties from infringing upon or misappropriating our
intellectual property.
Although we have filed multiple U.S. patent applications, we have currently
only been issued one patent. There is no guarantee that more patents will be
issued with respect to our current or future patent applications. Any patents
that are issued to us could be invalidated, circumvented or challenged. If
challenged, our patents might not be upheld or their claims could be narrowed.
Our intellectual property may not be adequate to provide us with competitive
advantage or to prevent competitors from entering the markets for our products.
Additionally, our competitors could independently develop non-infringing
technologies that are competitive with, equivalent to, and/or superior to our
technology. Monitoring infringement and/or misappropriation of intellectual
property can be difficult, and there is no guarantee that we would detect any
infringement or misappropriation of our proprietary rights. Even if we do detect
infringement or misappropriation of our proprietary rights, litigation to
enforce these rights could cause us to divert financial and other resources away
from our business operations. Further, we license our products internationally,
and the laws of some foreign countries do not protect our proprietary rights to
the same extent as do the laws of the United States.
THIRD PARTIES COULD OBTAIN LICENSES FROM SRI INTERNATIONAL RELATING TO VOICE
INTERFACE TECHNOLOGIES AND DEVELOP TECHNOLOGIES TO COMPETE WITH OUR PRODUCTS,
WHICH COULD CAUSE OUR SALES TO DECLINE.
Upon our incorporation in 1994, we received a license from SRI
International to a number of patents and other proprietary rights, including
rights in software, relating to voice interface technologies developed by SRI
International. This license was exclusive until December 1999, when we chose to
allow the exclusivity to lapse. As a result, SRI International may license these
patents and proprietary rights to our competitors. If a license from SRI
International were to enable third parties to enter the markets for our products
and services or to compete more effectively, we could lose market share and our
business could suffer.
OUR PRODUCTS MAY INFRINGE THE INTELLECTUAL PROPERTY RIGHTS OF OTHERS, AND
RESULTING CLAIMS AGAINST US COULD BE COSTLY AND REQUIRE US TO ENTER INTO
DISADVANTAGEOUS LICENSE OR ROYALTY ARRANGEMENTS.
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 intellectual property rights. Although we attempt to avoid
infringing known proprietary rights of third parties we may be subject to legal
proceedings and claims for alleged infringement by us or our licensees of
third-party proprietary rights, such as patents, trade secrets, trademarks or
copyrights, from time to time in the ordinary course of business. Any claims
relating to the infringement of third-party proprietary rights, even if not
successful or meritorious, could result in costly litigation, divert resources
and management's attention or require us to enter into royalty or license
agreements which are not advantageous to us. In addition, parties making these
claims may be able to obtain
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injunctions, which could prevent us from selling our products. Furthermore,
former employers of our employees may assert that these employees have
improperly disclosed confidential or proprietary information to us. Any of these
results could harm our business. We may be increasingly subject to infringement
claims as the number of, and number of features of, our products grow.
IF WE ARE UNABLE TO HIRE AND RETAIN TECHNICAL, SALES AND MARKETING AND
OPERATIONAL PERSONNEL, OUR BUSINESS COULD BE HARMED.
We intend to continue to hire additional personnel, including software
engineers, sales and marketing personnel and operational personnel. Competition
for these individuals is intense, especially in the San Francisco Bay Area where
we are headquartered, and we may not be able to attract, assimilate, or retain
additional highly qualified personnel in the future. The failure to attract,
integrate, motivate and retain these employees could harm our business.
WE RELY ON THE SERVICES OF OUR KEY PERSONNEL, WHOSE KNOWLEDGE OF OUR BUSINESS
AND TECHNICAL EXPERTISE WOULD BE DIFFICULT TO REPLACE.
We rely upon the continued service and performance of a relatively small
number of key technical and senior management personnel. Our future success
depends on our retention of these key employees, such as Ronald Croen, our Chief
Executive Officer. None of our key technical or senior management personnel are
bound by employment agreements, and, as a result, any of these employees could
leave with little or no prior notice. If we lose any of our key technical and
senior management personnel, our business could be harmed. We do not have key
person life insurance policies covering any of our employees.
CERTAIN STOCKHOLDERS MAY DISAGREE WITH HOW NUANCE USES THE PROCEEDS FROM ITS
PUBLIC OFFERINGS.
Management retains broad discretion over the use of proceeds from the
Company's April 2000 initial public offering and September 2000 secondary public
offering. Stockholders may not deem these uses desirable and our use of the
proceeds may not yield a significant return or any return at all. Because of the
number and variability of factors that determine our use of the net proceeds
from these offerings, we cannot guarantee that these uses will not vary
substantially from our currently planned uses.
SOME OF OUR EXISTING STOCKHOLDERS CAN EXERT CONTROL OVER NUANCE AND MAY NOT MAKE
DECISIONS THAT ARE IN THE BEST INTERESTS OF ALL STOCKHOLDERS.
As of March 1, 2001, our executive officers and directors, their affiliates
and other current principal stockholders together control approximately 25% of
our outstanding common stock. As a result, these stockholders, if they act
together, are able to exert a significant degree of influence over our
management and affairs and over matters requiring stockholder approval,
including the election of directors and approval of significant corporate
transactions. In addition, this concentration of ownership may delay or prevent
a change in control of Nuance, even when a change in control may be in the best
interests of other stockholders. Moreover, the interests of this concentration
of ownership may not always coincide with our interests or the interests of
other stockholders and, accordingly, these controlling stockholders could cause
us to enter into transactions or agreements which we would not otherwise
consider.
OUR CHARTER AND BYLAWS AND DELAWARE LAW CONTAIN PROVISIONS WHICH MAY DELAY OR
PREVENT A CHANGE OF CONTROL OF NUANCE.
Provisions of our charter and bylaws may make it more difficult for a third
party to acquire, or discourage a third party from attempting to acquire,
control of Nuance. These provisions could limit the price that investors might
be willing to pay in the future for shares of our common stock. These provisions
include:
- the division of the board of directors into three separate classes;
- the elimination of cumulative voting in the election of directors;
- prohibitions on our stockholders from acting by written consent and
calling special meetings;
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- procedures for advance notification of stockholder nominations and
proposals; and
- the ability of the board of directors to alter our bylaws without
stockholder approval.
In addition, our board of directors has the authority to issue up to
5,000,000 shares of preferred stock and to determine the price, rights,
preferences, privileges and restrictions, including voting rights, of those
shares without any further vote or action by the stockholders. The issuance of
preferred stock, while providing flexibility in connection with possible
financings or acquisitions or other corporate purposes, could have the effect of
making it more difficult for a third party to acquire a majority of our
outstanding voting stock.
Since the completion of our initial public offering on April 13, 2000, we
have been subject to the antitakeover provisions of the Delaware General
Corporation Law, including Section 203, which may deter potential acquisition
bids for our company. Under Delaware law, a corporation may opt out of Section
203. We do not intend to opt out of the provisions of Section 203.
WE MAY INCUR A VARIETY OF COSTS TO ENGAGE IN FUTURE ACQUISITIONS OF COMPANIES,
PRODUCTS OR TECHNOLOGIES, AND THE ANTICIPATED BENEFITS OF THOSE ACQUISITIONS MAY
NEVER BE REALIZED.
As a part of our business strategy, we may make acquisitions of, or
significant investments in, complementary companies, products or technologies.
For instance, in November 2000 we acquired SpeechFront, a Canadian company. Any
future acquisitions would be accompanied by risks such as:
- difficulties in assimilating the operations and personnel of acquired
companies;
- diversion of our management's attention from ongoing business concerns;
- our potential inability to maximize our financial and strategic position
through the successful incorporation of acquired technology and rights
into our products and services;
- additional expense associated with amortization of acquired assets;
- maintenance of uniform standards, controls, procedures and policies; and
- impairment of existing relationships with employees, suppliers and
customers as a result of the integration of new management personnel.
We cannot guarantee that we will be able to successfully integrate any
business, products, technologies or personnel that we might acquire in the
future, and our failure to do so could harm our business.
INFORMATION THAT WE MAY PROVIDE TO INVESTORS FROM TIME TO TIME IS ACCURATE ONLY
AS OF THE DATE WE DISSEMINATE IT, AND WE UNDERTAKE NO OBLIGATION TO UPDATE THE
INFORMATION.
From time to time, we may publicly disseminate forward-looking information
or guidance in compliance with Regulation FD promulgated by the Securities and
Exchange Commission. This information or guidance represents our outlook only as
of the date that we disseminated it, and we undertake no obligation to provide
updates to this information or guidance in our filings with the Securities and
Exchange Commission or otherwise.
OUR FACILITIES ARE LOCATED NEAR KNOWN EARTHQUAKE FAULT ZONES, AND THE OCCURRENCE
OF AN EARTHQUAKE OR OTHER NATURAL DISASTER COULD CAUSE DAMAGE TO OUR FACILITIES
AND EQUIPMENT WHICH COULD REQUIRE US TO CURTAIL OR CEASE OPERATIONS.
Our facilities are located in the San Francisco Bay Area near known
earthquake fault zones and are vulnerable to damage from earthquakes. In October
1989, a major earthquake that caused significant property damage and a number of
fatalities struck this area. We are also vulnerable to damage from other types
of disasters, including fire, floods, power loss, communications failures and
similar events. If any disaster were to occur, our ability to operate our
business at our facilities could be seriously, or potentially completely,
impaired. The insurance we maintain may not be adequate to cover our losses
resulting from disasters or other business interruptions.
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WE RELY ON A CONTINUOUS POWER SUPPLY TO CONDUCT OUR OPERATIONS, AND CALIFORNIA'S
CURRENT ENERGY CRISIS COULD DISRUPT OUR OPERATIONS AND INCREASE OUR EXPENSES.
California is in the midst of an energy crisis that could disrupt our
operations and increase our expenses. In the event of an acute power shortage,
that is, when power reserves for the State of California fall below 1.5%,
California has on some occasions implemented, and may in the future continue to
implement, rolling blackouts throughout California. We currently do not have
backup generators or alternate sources of power in the event of a blackout, and
our current insurance does not provide coverage for any damages we, or our
customers, may suffer as a result of any interruption in our power supply. If
blackouts interrupt our power supply, we would be temporarily unable to continue
operations at our facilities. Any such interruption in our ability to continue
operations at our facilities could damage our reputation, harm our ability to
retain existing customers and to obtain new customers, and could result in lost
revenue, any of which could substantially harm our business and results of
operations.
WE ARE CURRENTLY ENGAGED IN A SECURITIES CLASS ACTION LAWSUIT, WHICH, IF IT
RESULTS IN AN UNFAVORABLE RESOLUTION, COULD ADVERSELY AFFECT OUR BUSINESS,
RESULTS OF OPERATIONS OR FINANCIAL CONDITION.
In March 2001, a number of shareholder complaints were filed in the United
States District Court for the Northern District of California against us and
certain of our officers. The complaints were filed on behalf of a purported
class of people who purchased our stock during the period January 31, 2001
through March 15, 2001, alleging insider trading and false and misleading
statements in violation of the federal securities laws. We believe that the
allegations of these lawsuits are without merit and intend to defend the
litigation vigorously. An unfavorable resolution of this litigation could have a
material adverse effect on our business, results of operations, or financial
condition.
ITEM 2. PROPERTIES
Our headquarters are located in Menlo Park, California in two office
buildings in which we lease an aggregate of 60,000 square feet. The lease on one
building expires in May 2001. The lease on the other building expires in August
2004. In May 2000, we also signed a lease for a new 141,000 square-foot
headquarters facility in Redwood City, California. The facility was secured to
support our planned growth in the San Francisco Bay Area. The lease term is for
eleven years from an expected move-in date of August 2001. In January 2000, we
signed a lease, which was amended in August 2000, for 34,000 square feet of
office space in Montreal, Canada to support the growth of our Canadian
subsidiary. The lease term is for seven years from the lease inception date of
November 1, 2000. We do not own any real estate.
ITEM 3. LEGAL PROCEEDINGS
In late March 2001, a number of purported securities class action lawsuits
were filed in the United States District Court for the Northern District of
California against Nuance and certain of its officers. The first of these
complaints is captioned Singh v. Nuance Communications, Inc., et al., NO. C
01-20242. The lawsuits allege violations of the Securities Exchange Act of 1934,
and seek unspecified damages.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
There were no submissions of matters to a vote of security holders during
the quarter ended December 31, 2000.
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PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Our common stock has been quoted on the Nasdaq National Market under the
symbol "NUAN" since April 13, 2000. The following table presents, for the
periods indicated, the high and low closing prices per share of the common stock
as reported on the Nasdaq National Market.
HIGH LOW
--------- --------
Fiscal 2000
Second Quarter (since April 13, 2000)............... $ 83.3125 $25.0000
Third Quarter....................................... $175.0000 $83.1875
Fourth Quarter...................................... $128.0156 $30.5625
As of February 28, 2001, there were approximately 362 holders of record of
our common stock. Because many shares of our common stock are held by brokers
and other institutions on behalf of stockholders, we are unable to estimate the
total number of stockholders represented by these record holders.
DIVIDEND POLICY
We have never declared or paid any dividends on our common stock or other
securities. We do not anticipate paying any cash dividends in the foreseeable
future. We currently intend to retain future earnings, if any, to finance
operations and the expansion of our business. Any future determination to pay
cash dividends will be at the discretion of the board of directors and will
depend upon our financial condition, operating results, capital requirements and
other factors the board of directors deems relevant.
CHANGES IN SECURITIES AND USE OF PROCEEDS
On December 4, 2000, we issued a warrant to purchase 100,000 shares of our
common stock with a per share exercise price of $138.50 to OnStar Corporation in
connection with a license agreement. Such issuance was made in reliance on
Section 4(2) of the Securities Act of 1933, as amended.
On November 10, 2000, we acquired all of the outstanding shares of 14256225
Ontario Inc./3773124 Canada Inc., doing business as SpeechFront, a Canadian
company. In exchange for the SpeechFront shares, we paid cash to the former
shareholders of SpeechFront, and a wholly-owned subsidiary of ours, incorporated
for purposes of the transaction, issued shares of stock (the "Exchangeable
Shares") to certain of the former shareholders of SpeechFront. The Exchangeable
Shares are exchangeable, pursuant to the terms of an Exchange Agreement filed as
an exhibit to this Form 10-K, into an aggregate of 55,295 shares of Nuance
Common Stock. The Exchangeable Shares and the shares of Nuance Common Stock
issuable upon exchange thereof were issued in reliance upon Regulation S
promulgated under the Securities Act of 1933, as amended.
The effective date of our Registration Statement filed on Form S-1 under
the Securities Act of 1933 (File No. 333-96217), relating to our initial public
offering of our common stock was April 12, 2000. Public trading commenced on
April 13, 2000. The offering closed on April 18, 2000. The managing underwriters
of the public offering were Goldman, Sachs & Co., Thomas Weisel Partners LLC,
Dain Rauscher Wessels and Wit SoundView. In the offering (including the exercise
of the underwriters' overallotment option on April 20, 2000), we sold an
aggregate of 5,175,000 shares of our common stock for an initial price of $17.00
per share.
The aggregate proceeds from the offering were $88.0 million. We paid
expenses of approximately $7.7 million, of which approximately $5.4 million
represented underwriting discounts and commissions and approximately $2.3
million represented expenses related to the offering. Net proceeds from the
offering were approximately $80.3 million. As of December 31, 2000,
approximately all of the net proceeds have been invested in interest-bearing
cash equivalents, short-term investments and long-term investments.
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ITEM 6. SELECTED FINANCIAL DATA
The following selected financial data should be read in conjunction with
our financial statements and related notes and "Management's Discussion and
Analysis of Financial Condition and Results of Operations" included elsewhere in
this report. The historical results presented below are not necessarily
indicative of future results.
YEAR ENDED DECEMBER 31,
-----------------------------------------------------
2000 1999 1998 1997 1996
-------- -------- ------- ------- -------
CONSOLIDATED STATEMENT OF OPERATIONS
DATA:
Total revenue.......................... $ 51,818 $ 19,567 $11,755 $ 4,382 $ 1,498
Gross profit........................... 41,066 14,107 8,656 3,218 850
Loss from operations................... (29,825) (19,149) (7,536) (3,758) (3,299)
Net loss............................... (23,474) (18,474) (6,938) (3,554) (3,241)
======== ======== ======= ======= =======
Basic and diluted net loss per share... $ (1.03) $ (6.32) $ (3.19) $ (2.46) $ (2.78)
======== ======== ======= ======= =======
Shares used to compute basic and
diluted net loss per share........... 22,717 2,924 2,173 1,443 1,164
======== ======== ======= ======= =======
For a description of shares used in computing basic and diluted net loss
per share, see note 2 of notes to consolidated financial statements.
DECEMBER 31,
--------------------------------------------------
2000 1999 1998 1997 1996
-------- ------- ------- ------ ------
CONSOLIDATED BALANCE SHEET DATA:
Cash and cash equivalents................. $219,047 $18,073 $ 1,642 $2,056 $1,283
Working capital........................... 226,366 33,907 12,406 4,028 480
Total assets.............................. 279,338 53,722 20,199 6,940 2,216
Long-term debt, less current portion...... 32 1,333 -- 815 --
Total stockholders' equity................ 251,991 36,951 14,260 4,384 801
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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion should be read in conjunction with the condensed
consolidated financial statements and related notes included elsewhere in this
report. The results shown herein are not necessarily indicative of the results
to be expected for any future periods.
The section entitled "Management's Discussion and Analysis of Financial
Condition and Results of Operations" set forth below contains forward-looking
statements within the meaning of Section 27A of the Securities Act and Section
21E of the Exchange Act, including but not limited to our expectations for
results during the current fiscal year, statements regarding expense trends and
cash positions, statements regarding our sales and marketing and hiring
activities and our outlook for the Company, as well as our expectations,
beliefs, intentions or strategies regarding the future. Words such as
"anticipates," "expects," "intends," "plans," "believes," "seeks" and
"estimates" and similar expressions are intended to identify forward-looking
statements. These statements are not guarantees of future performance and actual
actions or results may differ materially. These statements are based on
information available to us on the date hereof, and we assume no obligation to
update any such forward-looking statements. These statements involve risks and
uncertainties and actual results could differ materially from those anticipated
in these forward-looking statements as a result of a number of factors,
including, but not limited to, those set forth in "Company Risk Factors" and
elsewhere in this Report on Form 10-K and in other reports or documents filed by
us from time to time with the Securities and Exchange Commission. In particular,
see "Company Risk Factors -- Our ability to accurately forecast our quarterly
sales is limited, our costs are relatively fixed in the short term and we expect
our business to be affected by seasonality. As a result, our quarterly operating
results may fluctuate", "Our stock price may be volatile due to factors outside
of our control" and "Our products can have a long sales and implementation cycle
and, as a result, our quarterly operating results may fluctuate".
OVERVIEW
We develop, market and support a voice interface software platform that
makes the content and services of enterprises, telecommunications networks and
the Internet accessible from any telephone. We were incorporated in July 1994
and began operations in October 1994. Prior to 1996, our revenue was derived
from technical consulting services. In 1996, we deployed the first version of
our voice interface software platform and began to generate software license
revenue. Today, we offer a range of voice interface software products. To
support the sale, deployment and operation of our products, we also provide a
number of services that include consulting, training, maintenance updates and
technical support.
Our license revenue consists of license fees for our voice interface
software products. The license fees for our software platform is calculated
using two variables, one of which is the maximum number of simultaneous end-user
connections to an application running on the platform and the other being the
value attributed to the functional use of the software.
License revenue is recognized when:
- evidence of an arrangement exists;
- delivery has occurred;
- the fee is fixed and determinable; and
- collection is probable.
The timing of license revenue recognition is affected by whether we perform
consulting services in the arrangement and the nature of those services. In the
majority of cases, we either perform no consulting services or we perform
standard implementation services that are not essential to the functionality of
the software. In these cases, we recognize license revenue either upon issuance
of the permanent software license key or on system acceptance, if the customer
has established acceptance criteria (which occurs only in a small minority of
cases). In those contracts having acceptance criteria, criteria typically
consist of a demonstration to the customer that, upon implementation, the
software performs in accordance with specified system parameters, such as
recognition accuracy or call completion rates. The Company uses the residual
method to
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recognize revenue when a license agreement includes one or more elements to be
delivered at a future date if evidence of the fair value of all undelivered
elements exists. If evidence of the fair value of the undelivered elements does
not exist, revenue is deferred and recognized when delivery occurs. When we
perform consulting services that are essential to the functionality of the
software, we recognize both license and consulting revenue utilizing contract
accounting based on the percentage of the consulting services that have been
completed.
License revenue from value-added resellers and OEMs is recognized when
product has been sold through to an end user and such sell-through has been
reported to the Company.
Service revenue consists of revenue from providing consulting, training,
maintenance updates and technical support. Our consulting service contracts are
bid either on a fixed-fee basis or on a time-and-materials basis. For a
fixed-fee contract, we recognize revenue using the percentage of completion
method. For time-and-materials contracts, we recognize revenue as services are
performed. Training service revenue is recognized as services are performed.
Losses on consulting and training service contracts, if any, are recognized
as soon as such losses become known. Revenue from maintenance updates and
technical support is recognized ratably over the term of the applicable
agreement.
Our standard payment terms are net 30 to 90 days from the date of invoice.
However, an average of 63% of our license revenue during the eight quarters
ended December 31, 2000 was recognized in the last month of the quarter. Thus, a
significant portion of our accounts receivable balance at the end of a quarter
is typically comprised of a large percentage of the total revenue from that
quarter.
We record deferred revenue primarily as a result of payments from customers
received in advance of recognition of revenue. As of December 31, 2000, deferred
revenue was $10.7 million. The deferred revenue amount includes unearned license
revenue and prepaid services that will be recognized as revenue in the future as
we deliver licenses and perform services.
We sell products to our customers both directly through a sales force and
indirectly through resellers and systems integrators. Customers exceeding 10% of
total revenue are:
- Nortel Networks, who acting as a reseller, accounted for 19% of total
revenue for 1998, 25% of total revenue for 1999 and 22% of total revenue
for 2000;
- Motorola, a stockholder of Nuance, who accounted for 15% of total revenue
for 1998; and
- Fidelity, a stockholder of Nuance, who accounted for 32% of total revenue
for 1998 and 20% of total revenue for 1999;
No other customers accounted for more than 10% of our revenue for 1998,
1999 or 2000.
We sell our products to customers in North America, South America, Europe,
Asia and Australia. International sales accounted for approximately 18% of our
total revenue in 1998, 21% of our total revenue for 1999 and 47% of our total
revenue for 2000. We anticipate that markets outside the United States will
continue to represent a significant portion of total future revenue. We intend
to increase our sales and marketing activities with respect to international
licensing of our software and provisioning of our services in the foreseeable
future. International sales are currently denominated in U.S. dollars. However,
we may denominate sales in foreign currencies in the future.
Cost of license revenue consists primarily of fees payable on third-party
software products and documentation and media costs. Cost of service revenue
consists of compensation and related overhead costs for employees engaged in
consulting, training and maintenance for our customers.
Our operating expenses are classified into six general categories: sales
and marketing, research and development, general and administrative, in-process
research and development, amortization of intangibles and non-cash compensation.
We classify all charges to these operating expense categories based on the
nature of the expenditures. Although each category includes expenses that are
unique to the category, some
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expenditures, such as compensation, employee benefits, recruiting costs,
equipment costs, travel and entertainment costs, facilities costs and
third-party professional services fees, occur in each of these categories,
except for non-cash compensation.
We allocate the total costs for information services and facilities to each
functional area that uses information services and facilities based on relative
headcount. These allocated costs include rent and other facility-related costs
for our offices, communication charges and depreciation expense for property and
equipment, computer hardware and software maintenance.
We had 469 full-time employees as of December 31, 2000 and intend to hire
additional employees as the business grows, although at a slower rate than
previously. This continued expansion places significant demands on our
management and operational resources. To manage this growth, we must continue to
invest in and implement operational systems, procedures and controls.
From our inception through December 31, 2000, we have incurred
approximately $133.9 million of operating costs and expenses, including
approximately $46.4 million of research and development expenditures used to
develop our current and future software products. As a result of these and other
operating expenditures, we have incurred net operating losses in each year since
inception. We anticipate that our operating expenses will increase in the
foreseeable future as we build our services, sales and marketing organizations
and as we continue to invest in research and development. Accordingly, we expect
to incur operating losses for at least the next 12 months.
We believe that period-to-period comparisons of our historical operating
results are not necessarily meaningful and should not be relied upon as being
indicative of future performance. Our prospects must be considered in light of
the risks, expenses and difficulties frequently experienced by companies in
early stages of development, particularly companies in new and rapidly evolving
markets. Although we have experienced significant revenue growth in the past,
this trend may not continue. Furthermore, we may not achieve or maintain
profitability in the future.
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RESULTS OF OPERATIONS
The following table presents selected financial data for the periods
indicated as a percentage of total revenue.
YEAR ENDED DECEMBER 31,
-----------------------
2000 1999 1998
----- ----- -----
Revenue:
License................................................... 72% 70% 68%
Service................................................... 28 30 32
---- ---- ----
Total revenue..................................... 100 100 100
Cost of revenue:
License................................................... -- -- 3
Service................................................... 21 28 23
---- ---- ----
Total cost of revenue............................. 21 28 26
---- ---- ----
Gross profit................................................ 79 72 74
---- ---- ----
Operating expenses:
Sales and marketing....................................... 66 90 58
Research and development.................................. 39 60 56
General and administrative................................ 19 18 23
Acquired In-process research and development.............. 3 -- --
Amortization of intangibles............................... 1 -- --
Non-cash compensation expense............................. 9 2 --
---- ---- ----
Total operating expenses.......................... 137 170 137
---- ---- ----
Loss from operations........................................ (58) (98) (63)
Interest and other income, net.............................. 13 4 5
---- ---- ----
Loss before provision for income taxes...................... (45) (94) (58)
---- ---- ----
Provision for income taxes.................................. 1 -- --
Net loss.................................................... (46)% (94)% (58)%
==== ==== ====
COMPARISON OF THE YEAR ENDED DECEMBER 31, 2000 AND 1999
Revenue
Total revenue increased from $19.6 million in 1999 to $51.8 million in
2000, an increase of 165%.
License revenue increased from $13.6 million in 1999 to $37.6 million in
2000, an increase of 176%. This increase in license revenue was due to an
increased number of distribution partners, an increase in our internal sales
force and an increased acceptance of our products in the marketplace. License
revenue represented 70% of total revenue for 1999 and 72% of total revenue for
2000.
Service revenue increased from $6.0 million in 1999 to $14.3 million in
2000, an increase of 140%. This increase in service revenue was due primarily to
growth in license revenue and revenue for certain non-recurring engineering work
performed in the second and third quarters of 2000. Service revenue represented
30% of total revenue for 1999 and 28% of total revenue for 2000.
Cost of Revenue
Cost of service revenue increased from $5.5 million in 1999 to $10.7
million in 2000, an increase of 96%. This increase was due to hiring
approximately 90 additional employees, many in the fourth quarter, in the
professional services, technical support and training groups and utilization of
outside organizations. Cost of
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service revenue as a percentage of service revenue was 92% for 1999 and 75% for
2000. Cost of service revenue will vary as a percentage of service and total
revenue from period to period.
We anticipate that cost of license revenue will increase moderately in
absolute dollars, in part due to royalty payments that will be made relative to
our new Vocalizer product.
Operating Expenses
Sales and Marketing. Sales and marketing expenses consist of compensation
and related costs for sales and marketing employees and promotional
expenditures, including public relations, advertising, trade shows and marketing
materials. Sales and marketing expenses increased from $17.6 million in 1999 to
$34.1 million in 2000, an increase of 93%. This increase was attributable to the
addition of approximately 70 sales and marketing employees, which added
approximately $7.9 million in payroll and related expenses and $2.6 million in
commission and bonus expenses. Travel and related costs increased by $1.8
million, and recruiting costs increased by $600,000. Higher marketing costs due
to expanded promotional activities added approximately $700,000 in expenses,
while bad debt expense increased by $1.2 million. As a percentage of total
revenue, sales and marketing expenses were 90% in 1999 and 66% in 2000. We
expect to continue to increase our marketing and promotional efforts, while
keeping headcount relatively flat. Accordingly, we anticipate that sales and
marketing expenses will increase in absolute dollars, but will vary as a
percentage of total revenue from period to period.
Research and Development. Research and development expenses consist of
compensation and related costs for research and development employees and
contractors. Research and development expenses increased from $11.8 million in
1999 to $20.2 million in 2000, an increase of 71%. This increase was
attributable to addition of approximately 25 employees associated with product
development activities, which added approximately $4.4 million in expenses, and
the costs of technical contractors, which added approximately $1.1 million in
expenses. As a percentage of total revenue, research and development expenses
were 60% in 1999 and 39% in 2000. We expect to hold research and development
headcount relatively flat and anticipate that research and development expenses
will continue to increase moderately in absolute dollars, but will vary as a
percentage of total revenue from period to period.
General and Administrative. General and administrative expenses consist of
compensation and related costs for administrative employees, legal services,
accounting services and other general corporate expenses. General and
administrative expenses increased from $3.5 million in 1999 to $10.0 million in
2000, an increase of 184%. The increase was due to the addition of approximately
35 administrative employees, which added approximately $4.0 million in expenses
and approximately $500,000 in recruiting costs. Increased legal and professional
fees added approximately $500,000 in expense, while increased insurance costs,
primarily consisting of directors and officers insurance, also increased by
$500,000. As a percentage of total revenue, general and administrative expenses
were 18% in 1999 and 19% in 2000. We expect that general and administrative
expenses will increase moderately in absolute dollars as we continue to incur
additional costs related to the anticipated growth of our business. However, we
expect that these expenses will vary as a percentage of total revenue from
period to period.
Acquired In-Process Research and Development. In connection with the
acquisition of SpeechFront, Inc. ("SpeechFront") on November 10, 2000, Nuance
allocated approximately $1.5 million of the purchase price to in-process
research and development projects. This allocation represented the estimated
fair value based on risk-adjusted cash flows related to the incomplete research
and development projects. At the date of acquisition, the development of these
projects had not yet reached technological feasibility, and the research and
development in progress had no alternative future uses. Accordingly, these costs
were expensed as of the acquisition date.
At the acquisition date, SpeechFront was conducting development,
engineering and testing activities associated with its initial product offering,
Voice Instant Messaging Mobile HQ. SpeechFront's significant ongoing research
and development projects were focused on integration issues with email servers,
calendaring systems, and contact management systems, as well as desktop/server
HotSync capabilities. The projects under
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development at the valuation date represent next-generation technologies that
are expected to address the emerging market demand for speech
recognition-enabled instant messaging capabilities over telephones.
At the acquisition date, the technologies under development were
approximately 35 percent complete based on engineering man-month data and
technological progress. SpeechFront had spent approximately $246,000 on the
in-process projects, and expected to spend approximately $466,000 to complete
all phases of the research and development. Completion of the technologies under
development was anticipated within 4 to 6 months, at which time SpeechFront
expected to begin benefiting from the developed technologies.
In making its purchase price allocation, management considered present
value calculations of income, an analysis of project accomplishments and
remaining outstanding items, and an assessment of overall contributions, as well
as project risks. The value assigned to purchased in-process technology was
determined by estimating the costs to develop the acquired technology into
commercially viable products, estimating the resulting net cash flows from the
projects, and discounting the net cash flows to their present value. The revenue
projection used to value the in-process research and development was based on
management's estimates, estimates of relevant market sizes and growth factors,
expected trends in technology, and the nature and expected timing of new product
introductions by SpeechFront and its competitors. The resulting net cash flows
from such projects are based on management's estimates of cost of sales and
operating expenses from such projects.
Aggregate revenues for the in-development SpeechFront products were
estimated to grow at a compounded annual growth rate of approximately 107% for
the five years following introduction, assuming the successful completion and
market acceptance of products resulting from the major research and development
programs. The estimated revenues for the in-process projects were expected to
peak within five years of acquisition and then decline sharply as other new
products and technologies are expected to enter the market.
The rates utilized to discount the net cash flows to their present value
were based on estimated cost of capital calculations. Due to the nature of the
forecast and the risks associated with the projected growth and profitability of
the developmental projects, a discount rate of 30% was considered appropriate
for the in-process research and development. These discount rates were
commensurate with SpeechFront's stage of development and the uncertainties in
the economic estimates described above.
If these projects are not successfully developed, the sales and
profitability of the combined company may be adversely affected in future
periods. Additionally, the value of other acquired intangible assets may become
impaired.
Amortization of Intangibles. Goodwill and other acquired intangible assets
of $5.5 million were recorded in connection with the acquisition of SpeechFront
in November 2000 and are being amortized over their useful lives of 18 to 36
months. Amortization of intangibles was $319,000 for 2000. There was no
amortization of intangibles for the year ended December 31, 1999.
Non-Cash Compensation. In connection with the grant of stock options prior
to our initial public offering, we recorded deferred stock compensation of
approximately $8.7 million within stockholders' equity, representing the
difference between the estimated fair value of the common stock for accounting
purposes and the option exercise price of these options at the date of grant.
This amount is presented as a reduction of stockholders' equity and will be
amortized over the vesting period of the applicable options in a manner
consistent with Financial Accounting Standards Board Interpretation No. 28. We
recorded amortization of deferred stock compensation of $4.3 million in the year
ending December 31, 2000 and $310,000 in the year ending December 31, 1999,
relating to approximately 3,152,000 stock options granted at a weighted average
exercise price of $8.58.
In connection with our SpeechFront acquisition, we recorded deferred
compensation of $4.1 million. Of that amount, $1.7 million relates to retention
of the founders of SpeechFront, and is payable upon the eighteen month
anniversary of the acquisition date. The remaining $2.4 million also relates to
retention of the founders and is payable upon the twelve-month anniversary of
the acquisition date or earlier if certain performance milestones are achieved.
These amounts are being amortized over 18 months and 12 months, respectively.
Approximately $580,000 was amortized in 2000 related to these deferred
compensation amounts.
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We expect to amortize $5.5 million, $1.6 million and $500,000 of non-cash
compensation in 2001, 2002 and 2003, respectively.
Interest and Other Income, Net
Interest and other income, net, consists of interest and other
miscellaneous income and expense items. Interest and other income, net, was $6.7
million in 2000 and $697,000 in 1999. The increase was due to interest income
earned on higher average cash balances, primarily the result of cash proceeds
raised in our initial public offering in April 2000 and our follow-on offering
in September 2000.
Provision for Income Taxes
We have incurred operating losses for all periods from inception through
December 31, 2000 and therefore have not recorded a provision for federal income
taxes for any period through December 31, 2000. We recorded income tax expense
relating to foreign taxes for the periods ended December 31, 1999 and 2000 of
$22,000 and $350,000, respectively.
A full valuation allowance was required for the total deferred tax asset
for the period ended December 31, 1999 based upon our limited operating history,
our lack of profitability to date, and the uncertainty of future profitability
at that time. Management believes it is more likely than not that we will
realize a deferred tax benefit of $110,000 from deferred tax assets related to
foreign taxes. Therefore, a valuation allowance of $30.2 million was required on
the total deferred tax asset of $30.3 million at December 31, 2000.
Our income taxes payable for federal and state purposes has been reduced,
and the deferred tax assets increased, by the tax benefits associated with
taxable dispositions of employee stock options. When an employee exercises a
stock option issued under a nonqualified plan or has a disqualifying disposition
related to a qualified plan, we receive an income tax benefit calculated as the
difference between the fair market value of the stock issued at the time of the
exercise and the option price, tax effected. A portion of our valuation
allowance relates to the equity benefit of our net operating losses. We had
approximately $50,000, $122,000, and $18.9 million of taxable dispositions of
employee stock options for the years ended December 31, 1998, 1999, and 2000,
respectively. A portion of the valuation allowance, when reduced, will be
credited directly to stockholders' equity. These benefits amounted to $17,000,
$43,000, and $6.6 million for the years ended December 31, 1998, 1999 and 2000,
respectively.
COMPARISON OF YEARS ENDED DECEMBER 31, 1999 AND 1998
Revenue
Total revenue increased from $11.8 million in 1998 to $19.6 million in
1999, an increase of 66%.
License revenue increased from $8.0 million in 1998 to $13.6 million in
1999, an increase of 70%. This increase in license revenue was due to a $5.6
million increase in sales generated by our resellers. License revenue
represented 68% of total revenue for 1998 and 70% of total revenue for 1999.
Service revenue increased from $3.8 million for 1998 to $6.0 million in
1999, an increase of 58%. This increase in service revenue was due to the
customer implementations associated with the increase in license sales described
above which accounted for $603,000 of the increase. Additionally, revenue from
maintenance updates and technical support increased $1.3 million due to the
increase in license sales. Finally, training revenue increased $403,000.
Service revenue represented 32% of total revenue for 1998 and 30% of total
revenue for 1999.
Cost of Revenue
Cost of license revenue decreased from $400,000 in 1998 to $0 in 1999. As a
percentage of license revenue, cost of license revenue was 5% in 1998 and 0% in
1999. The decrease in the cost of license revenue was due to a reduction in
software license fees of $400,000 paid to a subsidiary of SRI International, a
stockholder of Nuance.
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30
Cost of service revenue increased from $2.7 million in 1998 to $5.5 million
in 1999. Cost of service revenue as a percentage of service revenue was 71% in
1998 and 92% in 1999. This increase was due to 14 additional services employees
who were hired during the period.
Operating Expenses
Sales and Marketing. Sales and marketing expenses consist of compensation
and related costs for sales and marketing employees and promotional
expenditures, including public relations, advertising, trade shows and marketing
collateral materials. Sales and marketing expenses increased from $6.9 million
in 1998 to $17.6 million in 1999. This increase was attributable to the addition
of 40 sales and marketing employees which added approximately $6.9 million to
expenses, an increase in sales commissions associated with increased revenue
which added approximately $1.9 million to expenses and higher marketing costs
due to expanded promotional activities which added approximately $1.9 million to
expenses. As a percentage of total revenue, sales and marketing expenses were
58% in 1998 and 90% in 1999.
Research and Development. Research and development expenses consist of
compensation and related costs for research and development employees and
contractors. Research and development expenses increased from $6.6 million in
1998 to $11.8 million in 1999. This increase was attributable to the addition of
59 employees associated with product development activities which added
approximately $4.3 million to expenses and increased use of technical
contractors which added approximately $930,000 to expenses. As a percentage of
total revenue, research and development expenses were 56% in 1998 and 60% in
1999.
General and Administrative. General and administrative expenses consist of
compensation and related costs for administrative employees, legal services,
accounting services and other general corporate expenses. General and
administrative expenses increased from $2.7 million in 1998 to $3.5 million in
1999, due to an increase of 20 employees, which added approximately $635,000 to
expenses, and increased legal and professional fees, which added approximately
$165,000 to expenses. As a percentage of total revenue, general and
administrative expenses were 23% in 1998 and 18% in 1999.
Interest and Other Income, Net
Interest and other income, net, consists of interest earned on cash and
short-term investments, offset by interest expense related to a note payable.
Interest and other income, net, was $598,000 in 1998 and $697,000 in 1999. The
increase was due to interest income earned on higher cash balances.
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31
Quarterly Results of Operations
The following tables set forth a summary of our unaudited quarterly
operating results for each of the eight quarters in the period ended December
31, 2000. The information has been derived from our unaudited consolidated
financial statements that, in management's opinion, have been prepared on a
basis consistent with the audited consolidated financial statements contained
elsewhere in this document and include all adjustments, consisting of only
normal recurring adjustments, necessary for a fair presentation of such
information when read in conjunction with our audited consolidated financial
statements and associated notes. The operating results for any quarter are not
necessarily indicative of results for any future period.
QUARTER ENDED
--------------------------------------------------------------------------------------------
DEC. 31, SEP. 30, JUN. 30, MAR. 31, DEC. 31, SEP. 30, JUN. 30, MAR. 31,
2000 2000 2000 2000 1999 1999 1999 1999
-------- -------- -------- -------- -------- -------- -------- --------
(UNAUDITED, IN THOUSANDS)
CONSOLIDATED STATEMENT OF
OPERATIONS DATA:
Revenue:
License..................... $12,366 $10,465 $ 8,692 $ 6,028 $ 4,003 $ 2,678 $ 2,792 $ 4,140
Service..................... 5,048 3,995 3,311 1,913 1,696 1,684 1,754 820
------- ------- ------- ------- ------- ------- ------- -------
Total revenue......... 17,414 14,460 12,003 7,941 5,699 4,362 4,546 4,960
------- ------- ------- ------- ------- ------- ------- -------
Cost of revenue:
License..................... -- 40 13 -- -- -- -- --
Service..................... 3,919 3,055 2,120 1,605 1,629 1,259 1,390 1,182
------- ------- ------- ------- ------- ------- ------- -------
Total cost of
revenue............. 3,919 3,095 2,133 1,605 1,629 1,259 1,390 1,182
------- ------- ------- ------- ------- ------- ------- -------
Gross profit.................. 13,495 11,365 9,870 6,336 4,070 3,103 3,156 3,778
------- ------- ------- ------- ------- ------- ------- -------
Operating expense:
Sales and marketing......... 10,740 8,493 8,053 6,786 6,415 4,902 3,716 2,603
Research and development.... 5,777 5,283 4,727 4,396 4,040 3,077 2,531 2,145
General and
administrative............ 3,178 2,502 2,627 1,671 1,128 859 842 688
Acquired in-process research
and development........... 1,500 -- -- -- -- -- -- --
Amortization of
intangibles............... 296 -- -- -- -- -- -- --
Non-cash compensation
expense................... 1,570 1,138 1,138 1,016 310 -- -- --
------- ------- ------- ------- ------- ------- ------- -------
Total operating
expenses............ 23,061 17,416 16,545 13,869 11,893 8,838 7,089 5,436
------- ------- ------- ------- ------- ------- ------- -------
Loss from operations.......... (9,566) (6,051) (6,675) (7,533) (7,823) (5,735) (3,933) (1,658)
Interest and other income,
net......................... 3,694 1,529 1,154 324 360 70 129 138
------- ------- ------- ------- ------- ------- ------- -------
Loss before income taxes...... (5,872) (4,522) (5,521) (7,209) (7,463) (5,665) (3,804) (1,520)
Provision for income taxes.... 119 85 146 -- 22 -- -- --
------- ------- ------- ------- ------- ------- ------- -------
Net loss...................... $(5,991) $(4,607) $(5,667) $(7,209) $(7,485) $(5,665) $(3,804) $(1,520)
======= ======= ======= ======= ======= ======= ======= =======
29
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QUARTER ENDED
--------------------------------------------------------------------------------------------
DEC. 31, SEP. 30, JUN. 30, MAR. 31, DEC. 31, SEP. 30, JUN. 30, MAR. 31,
2000 2000 2000 2000 1999 1999 1999 1999
-------- -------- -------- -------- -------- -------- -------- --------
(UNAUDITED, IN THOUSANDS)
AS A PERCENTAGE OF TOTAL
REVENUE:
Revenue:
License..................... 71% 72% 72% 76% 70% 61% 61% 83%
Service..................... 29 28 28 24 30 39 39 17
------- ------- ------- ------- ------- ------- ------- -------
Total revenue......... 100 100 100 100 100 100 100 100
------- ------- ------- ------- ------- ------- ------- -------
Cost of revenue:
License..................... -- -- -- -- -- -- --
Service..................... 23 21 18 20 29 29 31 24
------- ------- ------- ------- ------- ------- ------- -------
Total cost of
revenue............. 23 21 18 20 29 29 31 24
------- ------- ------- ------- ------- ------- ------- -------
Gross profit.................. 77 79 82 80 71 71 69 76
------- ------- ------- ------- ------- ------- ------- -------
Operating expenses:
Sales and marketing......... 61 59 67 86 112 112 82 52
Research and development.... 33 37 39 55 71 71 56 43
General & administrative.... 18 17 22 21 20 20 18 15
Acquired in-process research
and development........... 9 -- -- -- -- -- -- --
Amortization of
intangibles............... 2 -- -- -- -- -- -- --
Non-cash compensation
expense................... 9 8 10 13 5 -- -- --
------- ------- ------- ------- ------- ------- ------- -------
Total operating
expenses............ 132 121 138 175 208 203 156 110
------- ------- ------- ------- ------- ------- ------- -------
Loss from operations.......... (55) (42) (56) (95) (137) (132) (87) (34)
Interest and other income,
net......................... 21 11 10 4 6 2 3 3
Loss before income taxes...... (34) (31) (46) (91) (131) (130) (84) (31)
Provision for income taxes.... 1 1 1 -- -- -- -- --
------- ------- ------- ------- ------- ------- ------- -------
Net loss...................... (35)% (32)% (47)% (91)% (131)% (130)% (84)% (31)%
======= ======= ======= ======= ======= ======= ======= =======
Our revenue and operating results are difficult to forecast and will
fluctuate, and we believe that period-to-period comparisons of our operating
results will not necessarily be meaningful. As a result, they should not be
relied upon as an indication of future performance.
On March 15, 2001, we announced that, based upon our current outlook, our
estimated first quarter revenue will be in the range of $10 million to $12
million, and that our pro forma net loss, which excludes non-cash compensation
expense and amortization of intangibles, is expected to be between $10 million
and $12 million and the pro forma net loss per share is expected to be in the
range of $0.31 to $0.38. This net loss is larger than previously anticipated,
primarily because of our estimated lower revenue for the quarter.
REVENUE LINEARITY
During 2000, the distribution of our revenue between the first, second and
third months of each quarter trended towards more revenue falling in the last
month of the quarter. We believe this trend was caused primarily by two factors:
- Certain customers delayed software purchase decisions until the end of a
quarter as part of their negotiating strategies; and
- As our revenue increased during the year, the percentage of each
quarter's revenue recognized from order backlog decreased. Conversely,
the percentage of each quarter's revenue generated from new business
increased.
Revenue from order backlog is typically recognized more evenly across the
months of a quarter than revenue from new business, which has tended to be more
weighted towards the last month of that quarter.
These trends, which we foresee continuing, make it more difficult for us to
predict revenue for future quarters, because we will need to generate an
increasing percentage of each quarter's revenue from new orders,
30
33
which are typically received in the last month of that quarter, and because
order backlog will become a less reliable indicator of future operating results.
LIQUIDITY AND CAPITAL RESOURCES
As of December 31, 2000, we had cash and cash equivalents aggregating
$219.0 million and short-term investments totaling $8.7 million. In April 2000,
we raised approximately $80.3 million through the completion of our initial
public offering of common stock. In October 2000, we completed a follow-on
offering of common stock, which generated net proceeds to us of $144.0 million.
From inception through March 31, 2000, we financed our operations primarily from
private sales of convertible preferred stock totaling $70.0 million and, to a
lesser extent, from bank financing.
Net cash used for our operating activities was $21.1 million, $13.9 million
and $2.7 million during 2000, 1999 and 1998, respectively. This negative
operating cash flow resulted principally from our net losses experienced during
these periods as we invested in the development of our products, expanded our
sales force and expanded our infrastructure to support our growth, and the
increase in accounts receivable.
Net cash used for our investing activities was $9.1 million, $12.7 million
and $13.1 million during 2000, 1999 and 1998, respectively. Net cash used for
investing activities in 2000 relates primarily to long-term time deposits held
by a bank as security for letters of credit on new facility leases, purchases of
property and equipment and our acquisition of SpeechFront, offset by net sale of
marketable securities of $14.6 million. Net cash used for investing activities
in 1999 and 1998 relates primarily to purchases of marketable securities and
purchases of property and equipment. We plan to spend approximately $23.7
million in capital expenditures over the next twelve months relating to our new
headquarter's facility, of which $16.4 million was spent in the first quarter of
2001.
Net cash provided by financing activities was $231.2 million, $43.1 million
and $15.4 million during 2000, 1999 and 1998, respectively. Net cash provided by
financing activities related primarily to cash proceeds from the sale of common
stock in 2000 of $223.3 million and the sale of preferred stock in 1999 of $40.4
million and in 1998 of $16.6 million and net borrowing in 1998 of $2.3 million.
Cash provided was offset by payment of debt of $2.3 million in 2000 and $1.2
million in 1998. In October 1999, the Company's Canadian subsidiary entered into
a revolving line of credit under which it can borrow up to $600,000 in Canadian
dollars. The revolving line of credit, secured by a letter of credit from the
Company's primary bank, bears interest at the lender's prime rate plus 0.5% per
annum (9.0% at December 31, 1999). At December 31, 1999, $376,000 was
outstanding under the revolving line of credit and $37,000 was available for
future borrowings in U.S. dollars. The line of credit was not utilized at
December 31, 2000.
Our capital requirements depend on numerous factors. For the next 12 months
we will be holding headcount in our sales, support, marketing and product
development organizations relatively flat. We have experienced substantial
increases in our expenditures since our inception consistent with growth in our
operations and employees, and we anticipate that our expenditures will continue
to increase in the future. We believe that our cash and cash equivalents, our
short-term investments, and our borrowing capacity will be sufficient to fund
our activities for at least the next 12 months. Thereafter, we may need to raise
additional funds in order to fund more rapid expansion, including increases in
employees and office facilities; to develop new or enhance existing products or
services; to respond to competitive pressures; or to acquire or invest in
complementary businesses, technologies, services or products. Additional funding
may not be available on favorable terms or at all. In addition, we may, from
time to time, evaluate potential acquisitions of other businesses, products and
technologies. We may also consider additional equity or debt financing, which
could be dilutive to existing investors.
RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities." As amended, SFAS No. 133 requires certain
accounting and reporting standards for derivative financial instruments and
hedging activities. The Statement became effective for us on January 1, 2001.
Because we do not currently hold any derivative instruments and do not engage in
hedging activities,
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34
management does not believe that the adoption of these statements will have a
material impact on our financial position or results of operations.
In December 1999, the Securities and Exchange Commission issued Staff
Accounting Bulletin No. 101, Revenue Recognition in Financial Statements, or SAB
101, which provides guidance on the recognition, presentation and disclosure of
revenue in the financial statements. We adopted SAB 101 in the fourth quarter of
2000. The adoption did not have a material effect on our consolidated balance
sheets or statements of operations as a whole.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
MARKET RISK
The following discusses our exposure to market risk related to changes in
foreign currency exchange rates and interest rates. This discussion contains
forward-looking statements that are subject to risks and uncertainties. Actual
results could vary materially as a result of a number of factors including those
set forth in the risk factors section of this Annual Report on Form 10-K.
FOREIGN CURRENCY EXCHANGE RATE RISK
To date, all of our recognized revenues have been denominated in U.S.
dollars and primarily from customers in the United States, and our exposure to
foreign currency exchange rate changes has been immaterial. We expect, however,
that future product license and services revenues derived from international
markets may be denominated in the currency of the applicable market. As a
result, our operating results may become subject to significant fluctuations
based upon changes in the exchange rates of certain currencies in relation to
the U.S. dollar. Furthermore, to the extent that we engage in international
sales denominated in U.S. dollars, an increase in the value of the U.S. dollar
relative to foreign currencies could make our products less competitive in
international markets. Although we will continue to monitor our exposure to
currency fluctuations, and when appropriate, may use financial hedging
techniques to minimize the effect of these fluctuations, we cannot assure you
that exchange rate fluctuations will not adversely affect our financial results
in the future.
INTEREST RATE RISK
As of December 31, 2000, we had cash and cash equivalents and short-term
investments of $227.8 million, which consisted of cash and highly liquid
short-term investments. Any decline in interest rates over time would reduce our
interest income from our short-term investments. Based upon our balance of cash
and cash equivalents, a decrease in interest rates of 0.5% would cause a
corresponding decrease in our annual interest income by approximately $1.1
million. As of December 31, 2000, we had short-term debt outstanding in the
amount of $12,000 at interest rates ranging from 17% to 22%.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTAL DATA
Reference is made to the Index to Financial Statements which appears on
page F-1 of this report. The Report of Independent Accountants, Financial
Statements and Notes to Financial Statements which are listed in the Index to
Financial Statements and which appear beginning on page F-2 of this report are
incorporated into this Item 8.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Not applicable.
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35
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Executive Officers and Directors
The information required by this item is incorporated by reference to the
information set forth in our proxy statement for the 2001 Annual Meeting of
Stockholders to be filed with the Commission within 120 days after the end of
our fiscal year ended December 31, 2000.
ITEM 11. EXECUTIVE COMPENSATION
The information required by this item is incorporated by reference to the
information set forth in our proxy statement for the 2001 Annual Meeting of
Stockholders to be filed with the Commission within 120 days after the end of
our fiscal year ended December 31, 2000.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by this item is incorporated by reference to the
information set forth in our proxy statement for the 2001 Annual Meeting of
Stockholders to be filed with the Commission within 120 days after the end of
our fiscal year ended December 31, 2000.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this item is incorporated by reference to the
information set forth in our proxy statement for the 2001 Annual Meeting of
Stockholders to be filed with the Commission within 120 days after the end of
our fiscal year ended December 31, 2000.
PART IV
ITEM 14.EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a)(1) INDEX TO FINANCIAL STATEMENTS
PAGE
----
Report of Independent Public Accountants.................... F-1
Consolidated Balance Sheets at December 31, 2000 and 1999... F-2
Consolidated Statements of Operations for the years ended
December 31, 2000, 1999 and 1998.......................... F-3
Consolidated Statements of Stockholders' Equity for the
years ended December 31, 2000, 1999 and 1998.............. F-4
Consolidated Statements of Cash Flow for the years ended
December 31, 2000, 1999 and 1998.......................... F-5
Notes to Consolidated Financial Statements.................. F-6
(a)(2) CONSOLIDATED FINANCIAL STATEMENT SCHEDULES
Schedule II -- Schedule of Valuation and Qualifying Accounts Schedule
Schedules not listed have been omitted because the information required to
be set forth therein is not applicable or is included in the Financial
Statements or notes thereto.
(a)(3) EXHIBITS
See Index to Exhibits after Schedule II on page S-1. The Exhibits listed on
the accompanying Index of Exhibits are filed or incorporated by reference as
part of this document.
(b) REPORTS ON FORM 8-K
Not applicable.
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SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized, in the City of Menlo
Park, State of California on March 30, 2001.
By: /s/ RONALD CROEN
------------------------------------
Ronald Croen
President and Chief Executive
Officer
POWER OF ATTORNEY
KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature
appears below hereby constitutes and appoints, jointly and severally, Ronald
Croen and Graham Smith, and each of them, as his or her attorney-in-fact, with
full power of substitution, for him or her in any and all capacities, to sign
any and all amendments to this report, and to file the same, with exhibits
thereto and other documents in connection therewith, with the Securities and
Exchange Commission, hereby ratifying and confirming his or her signatures as
they may be signed by his or her said attorney to any and all amendments to said
report.
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed by the following persons in the capacities and on the
dates indicated:
SIGNATURE TITLE DATE
--------- ----- ----
/s/ RONALD CROEN President, Chief Executive March 30, 2001
- ----------------------------------------------------- Officer and Director
Ronald Croen (Principal Executive Officer)
/s/ GRAHAM SMITH Vice President and March 30, 2001
- ----------------------------------------------------- Chief Financial Officer
Graham Smith (Principal Financial and
Accounting Officer)
/s/ CURTIS CARLSON Director March 30, 2001
- -----------------------------------------------------
Curtis Carlson
/s/ VINTON CERF Director March 30, 2001
- -----------------------------------------------------
Vinton Cerf
/s/ YOGEN DALAL Director March 30, 2001
- -----------------------------------------------------
Yogen Dalal
/s/ IRWIN FEDERMAN Director March 30, 2001
- -----------------------------------------------------
Irwin Federman
/s/ ALAN HERZIG Director March 30, 2001
- -----------------------------------------------------
Alan Herzig
/s/ GARY MORGENTHALER Director March 30, 2001
- -----------------------------------------------------
Gary Morgenthaler
/s/ PHILIP QUIGLEY Director March 30, 2001
- -----------------------------------------------------
Philip Quigley
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REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Board of Directors of
Nuance Communications, Inc:
We have audited the accompanying consolidated balance sheets of Nuance
Communications, Inc., a Delaware corporation, and subsidiaries as of December
31, 2000 and 1999, and the related consolidated statements of operations,
stockholders' equity, and cash flows for each of the three years in the period
ended December 31, 2000. These financial statements, and the schedule referred
to below, are the responsibility of the Company's management. Our responsibility
is to express an opinion on these consolidated financial statements based on our
audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States. Those standards require that we plan and perform
the audit to obtain reasonable assurance about whether the financial statements
are free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements. An
audit also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of Nuance Communications, Inc.
and subsidiaries as of December 31, 2000 and 1999, and the results of their
operations and their cash flows for each of the three years in the period ended
December 31, 2000 in conformity with accounting principles generally accepted in
the United States.
Our audit was made for the purpose of forming an opinion on the basic
financial statements taken as a whole. The schedule listed in the index of the
financial statements is presented for purposes of complying with the Securities
and Exchange Commission's rules and is not part of the basic financial
statements. This schedule has been subjected to the auditing procedures applied
in our audit of the basic financial statements and, in our opinion, fairly
states in all material respects the financial data required to be set forth
therein in relation to the basic financial statements taken as a whole.
/s/ Arthur Andersen LLP
San Jose, California
January 26, 2001
(except with respect to the matter discussed
in Note 14, as to which the
date is March 30, 2001)
F-1
38
NUANCE COMMUNICATIONS, INC. & SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
ASSETS
DECEMBER 31,
--------------------
2000 1999
-------- --------
Current assets:
Cash and cash equivalents................................. $219,047 $ 18,073
Short-term investments.................................... 8,728 23,353
Accounts receivable, net of allowance for doubtful
accounts of $1,823 and $571, respectively.............. 19,106 4,892
Prepaid expenses and other current assets................. 4,280 3,027
-------- --------
Total current assets.............................. 251,161 49,345
Property and equipment, net................................. 9,414 4,276
Intangible assets........................................... 5,217 --
Long-term certificate of deposit and other.................. 13,546 101
-------- --------
Total assets...................................... $279,338 $ 53,722
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Current portion of long-term debt......................... $ 12 $ 1,043
Accounts payable.......................................... 1,649 3,024
Accrued liabilities....................................... 12,389 7,034
Deferred revenue.......................................... 10,745 4,337
-------- --------
Total current liabilities......................... 24,795 15,438
Long-term debt, less current portion...................... 32 1,333
Other liabilities......................................... 2,520 --
-------- --------
Total liabilities................................. 27,347 16,771
-------- --------
Commitments (Note 7)
Stockholders' Equity:
Convertible preferred stock, $.001 par value, 5,000,000
shares authorized at December 31, 2000; Zero shares and
19,725,986 shares issued and outstanding,
respectively........................................... -- 20
Common stock, $.001 par value, 250,000,000 shares
authorized; 32,158,875 shares and 3,240,349 shares
issued and outstanding, respectively................... 32 3
Additional paid-in capital................................ 316,958 76,415
Deferred stock compensation............................... (7,636) (5,614)
Accumulated other comprehensive loss...................... (16) --
Accumulated deficit....................................... (57,347) (33,873)
-------- --------
Total stockholders' equity........................ 251,991 36,951
-------- --------
Total liabilities and stockholders' equity........ $279,338 $ 53,722
======== ========
The accompanying notes are an integral part of these consolidated financial
statements.
F-2
39
NUANCE COMMUNICATIONS, INC. & SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
YEAR ENDED DECEMBER 31,
-------------------------------
2000 1999 1998
-------- -------- -------
Revenue:
License................................................... $ 37,551 $ 13,613 $ 7,968
Service................................................... 14,267 5,954 3,787
-------- -------- -------
Total revenue..................................... 51,818 19,567 11,755
-------- -------- -------
Cost of revenue:
License................................................... 53 -- 400
Service................................................... 10,699 5,460 2,699
-------- -------- -------
Total cost of revenue............................. 10,752 5,460 3,099
-------- -------- -------
Gross profit................................................ 41,066 14,107 8,656
-------- -------- -------
Operating expenses:
Sales and marketing(1).................................... 34,072 17,636 6,857
Research and development(1)............................... 20,160 11,793 6,615
General and administrative(1)............................. 9,978 3,517 2,720
Acquired in-process research and development.............. 1,500 -- --
Amortization of intangibles............................... 319 -- --
Non-cash compensation expense............................. 4,862 310 --
-------- -------- -------
Total operating expenses.......................... 70,891 33,256 16,192
-------- -------- -------
Loss from operations........................................ (29,825) (19,149) (7,536)
Interest and other income, net............................ 6,701 697 598
-------- -------- -------
Loss before income taxes.................................... (23,124) (18,452) (6,938)
Provision for income taxes................................ 350 22 --
-------- -------- -------
Net loss.......................................... $(23,474) $(18,474) $(6,938)
======== ======== =======
Basic and diluted net loss per share........................ $ (1.03) $ (6.32) $ (3.19)
======== ======== =======
Shares used to compute basic and diluted net loss per
share..................................................... 22,717 2,924 2,173
======== ======== =======
- ---------------
(1) Excludes non-cash stock-based compensation as follows:
Sales and marketing.................................... $ 1,171 $ 95 --
Research and development............................... 2,293 125 --
General and administrative............................. 1,398 90 --
-------- -------- -------
4,862 310 --
======== ======== =======
The accompanying notes are an integral part of these consolidated financial
statements.
F-3
40
NUANCE COMMUNICATIONS, INC. & SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
CONVERTIBLE ACCUMULATED
PREFERRED STOCK COMMON STOCK ADDITIONAL DEFERRED OTHER
-------------------- ------------------- PAID-IN STOCK COMPENSATION
SHARES AMOUNT SHARES AMOUNT CAPITAL COMPENSATION LOSS
----------- ------ ---------- ------ ---------- ------------ ------------
BALANCE, DECEMBER 31, 1997.......... 11,673,946.. 12 2,188,481 2 12,831 -- --
Issuance of Series D convertible
preferred stock, net.............. 3,552,076.. 3 -- -- 16,566 -- --
Issuance of warrant to purchase
preferred stock................... -- -- -- -- 124 -- --
Exercise of common stock options.... -- -- 561,198 1 63 -- --
Issuance of common stock options to
consultants and other
non-employees..................... -- -- -- -- 57 -- --
Net loss............................ -- -- -- -- -- -- --
----------- ---- ---------- --- -------- ------- ---
BALANCE, DECEMBER 31, 1998.......... 15,226,022.. 15 2,749,679 3 29,641 -- --
Issuance of warrant to purchase
preferred stock................... -- -- -- -- 124 -- --
Issuance of common stock for
services.......................... -- -- 6,423 -- 43 -- --
Exercise of common stock options.... -- -- 484,247 -- 285 -- --
Deferred stock compensation......... -- -- -- -- 5,924 (5,924) --
Amortization of deferred stock
compensation...................... -- -- -- -- -- 310 --
Issuance of Series E convertible
preferred stock, net.............. 4,499,964.. 5 -- -- 40,398 -- --
Net loss............................ -- -- -- -- -- -- --
----------- ---- ---------- --- -------- ------- ---
BALANCE, DECEMBER 31, 1999.......... 19,725,986.. $ 20 3,240,349 $ 3 $ 76,415 $(5,614) --
Additional Series E financing
costs............................. -- -- -- -- (161) -- --
Exercise of preferred stock
warrant........................... 200,000.... -- -- -- 1,000 -- --
Conversion of preferred stock to
common stock...................... (19,925,986) (20) 19,925,986 20 -- -- --
Issuance of common stock in
Initial Public Offering, net of
offering costs of $7,700.......... -- -- 5,175,000 5 80,245 -- --
Issuance of common stock in
Follow-on offering, net of
offering costs
of $8,832......................... -- -- 1,256,793 2 143,240 -- --
Exercise of common stock options.... -- -- 2,371,235 2 7,127 -- --
Issuance of common stock for
services provided................. -- -- 9,860 -- 89 -- --
Repurchase of common stock.......... -- -- (9,334) -- (8) -- --
ESPP common stock issued............ -- -- 157,965 -- 2,127 -- --
Cashless exercise of warrant........ -- -- 31,021 -- -- -- --
Foreign currency translation loss... -- -- -- -- -- -- (16)
Deferred stock compensation......... -- -- -- -- 2,818 (2,818) --
Deferred compensation related to
acquisition of SpeechFront........ -- -- -- -- 4,066 (4,066) --
Amortization of deferred stock
compensation...................... -- -- -- -- -- 4,862 --
----------- ---- ---------- --- -------- ------- ---
Net loss............................ -- -- -- -- -- -- --
----------- ---- ---------- --- -------- ------- ---
BALANCE AT DECEMBER 31, 2000........ -- $ -- 32,158,875 $32 $316,958 $(7,636) (16)
=========== ==== ========== === ======== ======= ===
TOTAL
ACCUMULATED STOCKHOLDERS'
DEFICIT EQUITY
----------- -------------
BALANCE, DECEMBER 31, 1997.......... (8,461) 4,384
Issuance of Series D convertible
preferred stock, net.............. -- 16,569
Issuance of warrant to purchase
preferred stock................... -- 124
Exercise of common stock options.... -- 64
Issuance of common stock options to
consultants and other
non-employees..................... -- 57
Net loss............................ (6,938) (6,938)
-------- --------
BALANCE, DECEMBER 31, 1998.......... (15,399) 14,260
Issuance of warrant to purchase
preferred stock................... -- 124
Issuance of common stock for
services.......................... -- 43
Exercise of common stock options.... -- 285
Deferred stock compensation......... -- --
Amortization of deferred stock
compensation...................... -- 310
Issuance of Series E convertible
preferred stock, net.............. -- 40,403
Net loss............................ (18,474) (18,474)
-------- --------
BALANCE, DECEMBER 31, 1999.......... $(33,873) $ 36,951
Additional Series E financing
costs............................. -- (161)
Exercise of preferred stock
warrant........................... -- 1,000
Conversion of preferred stock to
common stock...................... -- --
Issuance of common stock in
Initial Public Offering, net of
offering costs of $7,700.......... -- 80,250
Issuance of common stock in
Follow-on offering, net of
offering costs
of $8,832......................... -- 143,242
Exercise of common stock options.... -- 7,129
Issuance of common stock for
services provided................. -- 89
Repurchase of common stock.......... -- (8)
ESPP common stock issued............ -- 2,127
Cashless exercise of warrant........ -- --
Foreign currency translation loss... -- (16)
Deferred stock compensation......... -- --
Deferred compensation related to
acquisition of SpeechFront........ -- --
Amortization of deferred stock
compensation...................... -- 4,862
-------- --------
Net loss............................ (23,474) (23,474)
-------- --------
BALANCE AT DECEMBER 31, 2000........ $(57,347) $251,991
======== ========
The accompanying notes are an integral part of these consolidated financial
statements.
F-4
41
NUANCE COMMUNICATIONS, INC. & SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
YEAR ENDED DECEMBER 31,
--------------------------------
2000 1999 1998
-------- -------- --------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss.................................................. $(23,474) $(18,474) $ (6,938)
Adjustments to reconcile net loss to net cash used in
operating activities:
Depreciation and amortization.......................... 2,663 1,179 668
Write-off of in-process research and development....... 1,500 -- --
Amortization of intangibles............................ 319 -- --
Non-cash compensation expense.......................... 4,951 353 --
Provision for doubtful accounts........................ 1,464 221 301
Net loss from sale of property and equipment........... -- -- 63
Fair value of common stock options and warrants........ -- 124 181
Changes in operating assets and liabilities:
Accounts receivable....................................... (15,678) (3,278) (1,329)
Prepaids and other assets and liabilities................. (3,418) (2,498) (281)
Accounts payable.......................................... (1,375) 1,622 1,048
Accrued liabilities....................................... 5,554 4,054 2,370
Deferred revenue.......................................... 6,408 2,780 1,168
-------- -------- --------
Net cash used for operating activities............ (21,086) (13,917) (2,749)
-------- -------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of marketable securities......................... (22,394) (76,908) (42,562)
Purchase of long-term certificate of deposit.............. (11,273) -- --
Cash used for SpeechFront acquisition, less cash
received............................................... (4,743) -- --
Maturities of marketable securities....................... 37,019 67,779 30,918
Purchase of property and equipment........................ (7,735) (3,587) (1,450)
-------- -------- --------
Net cash used for investing activities............ (9,126) (12,716) (13,094)
-------- -------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of preferred stock, net............ -- 40,403 16,569
Repurchase of common stock................................ (8) -- --
Proceeds from issuance of common stock, net............... 223,331 -- --
Proceeds from exercise of stock options................... 7,129 285 64
Proceeds from exercise of preferred stock warrant......... 1,000 -- --
Proceeds from ESPP........................................ 2,127 -- --
Proceeds from borrowings.................................. -- 2,835 --
Repayment of borrowings................................... (2,377) (459) (1,204)
-------- -------- --------
Net cash provided by financing activities......... 231,202 43,064 15,429
-------- -------- --------
Effect of exchange rate fluctuations........................ (16) -- --
-------- -------- --------
Net increase (decrease) in cash and cash equivalents........ 200,974 16,431 (414)
Cash and cash equivalents, beginning of period.............. 18,073 1,642 2,056
-------- -------- --------
Cash and cash equivalents, end of period.................... $219,047 $ 18,073 $ 1,642
======== ======== ========
Supplementary disclosures of cash flow information:
Cash paid during the period for:
Interest............................................... $ 113 $ 62 $ 89
Income taxes........................................... $ 8 $ -- $ 1
The accompanying notes are an integral part of these consolidated financial
statements.
F-5
42
NUANCE COMMUNICATIONS, INC. & SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. ORGANIZATION AND OPERATIONS:
Nuance Communications, Inc. (the "Company") was incorporated on July 15,
1994 in the state of California, and subsequently reincorporated in March 2000
in the state of Delaware, to develop, market and support a voice interface
software platform that makes the content and services of enterprises,
telecommunications networks and the Internet accessible from any telephone. The
software platform consists of software servers that run on industry-standard
hardware and perform speech recognition, natural language understanding and
voice authentication. The Company sells its products through a combination of
value-added resellers, original equipment manufacturers, systems integrators and
directly to the end users.
The Company is subject to a number of risks associated with companies in a
similar stage of development, including a history of net losses and the
expectation to continue to incur losses; volatility of and rapid change in the
voice interface software industry; potential competition from larger, more
established companies; and dependence on key employees for technology and
support.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
Principles of Consolidation
The consolidated financial statements include the accounts of the Company
and its subsidiaries. All significant intercompany transactions have been
eliminated.
Use of Estimates in the Preparation of Consolidated Financial Statements
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities, the
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenue and expenses during the reporting
period. Actual results could differ from those estimates.
Cash and Cash Equivalents
For the purposes of the consolidated balance sheets and the consolidated
statements of cash flows, the Company considers all highly liquid investments
with an original maturity of three months or less to be cash equivalents.
Investments
Short-term investments primarily consist of U.S. Treasury bills having
maturities of less than one year. Such investments are classified as
available-for-sale and are held by one investment bank. The difference between
the cost basis and the market value of the Company's investments and unrealized
gross holding gains and losses were not material as of December 31, 2000 and
1999. Realized gains and losses are recorded on the specific identification
method.
Long-Term Certificate of Deposit
As of December 31, 2000, the Company had an $11.0 million and a $300,000
long-term cash investment with a bank. The $11.0 million investment secures a
letter of credit required by a landlord to meet a rent deposit requirement for
the Company's lease on its new headquarters facility (Note 7). The $300,000
investment secures a letter of credit required by a landlord to meet a rent
deposit requirement for the Company's lease on a new facility in Montreal,
Canada.
F-6
43
NUANCE COMMUNICATIONS, INC. & SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Property and Equipment
Property and equipment are stated at cost and are depreciated using the
straight-line method over the estimated useful lives of the assets as follows:
Computer equipment and
software....................... 2 - 3 years
Furniture and fixtures........... 5 years
Leasehold improvements........... Shorter of lease term or
estimated useful life
Intangible assets
Goodwill and other intangible assets are amortized using the straight-line
method over periods ranging from 18 months to three years. The Company will
periodically evaluate whether events and circumstances have occurred that
indicate the remaining estimated useful life of goodwill and other intangible
assets may warrant revision or that the remaining balance may not be
recoverable. When factors indicate that goodwill and other intangible assets
should be evaluated for possible impairment, the Company will use an estimate of
undiscounted future net cash flows over the remaining life of the asset to
determine if impairment has occurred. An impairment in the carrying value of an
asset is assessed when the undiscounted, expected future operating cash flows
derived from the asset are less than its carrying value. If the Company
determines an asset has been impaired, the impairment is recorded based on the
fair value of the impaired asset.
Revenue Recognition
The Company's revenue is derived from two sources, licenses and services.
Services include consulting, software maintenance and support, and training.
The Company's license revenue consists of license fees for our voice
interface software products. The license fees for our software platform is
calculated using two variables, one of which is the maximum number of
simultaneous end-user connections to an application running on the platform and
the value attributed to the functional use of the software.
License revenue is recognized when:
- evidence of an arrangement exists;
- delivery has occurred;
- the fee is fixed and determinable; and
- collection is probable.
The timing of license revenue recognition is affected by whether we perform
consulting services in the arrangement, and the nature of those services. In the
majority of cases, we either perform no consulting services or we perform
standard implementation services that are not essential to the functionality of
the software. In these cases, we recognize license revenue either upon issuance
of the permanent software license key or on system acceptance, if the customer
has established acceptance criteria (which occurs only in a small minority of
cases). In those contracts having acceptance criteria, criteria typically
consist of a demonstration to the customer that, upon implementation, the
software performs in accordance with specified system parameters, such as
recognition accuracy or call completion rates. The Company uses the residual
method to recognize revenue when a license agreement includes one or more
elements to be delivered at a future date if evidence of the fair value of all
undelivered elements exists. If evidence of the fair value of the undelivered
elements does not exist, revenue is deferred and recognized when delivery
occurs. When we perform consulting services that are essential to the
functionality of the software, we recognize both license and
F-7
44
NUANCE COMMUNICATIONS, INC. & SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
consulting revenue utilizing contract accounting based on the percentage of the
consulting services that have been completed.
License revenue from value-added resellers and original equipment
manufacturers is recognized when product has been sold through to an end user
and such sell-through has been reported to the Company.
Service revenue consists of revenue from providing consulting, training,
maintenance updates and technical support. Training service revenue is
recognized as services are performed. Consulting service contracts are bid
either on a fixed-fee or a time and materials basis. For a fixed-fee contract,
the Company recognizes service revenue on a percentage of completion basis in
accordance with Statement of Position ("SOP") 81-1 "Accounting for Performance
of Construction-Type and Certain Production-Type Contracts." For time and
materials contracts, the Company recognizes service revenue as services are
performed in accordance with SOP 81-1. Losses on service contracts, if any, are
recognized as soon as such losses become known. Revenue from maintenance updates
and technical support is recognized ratably over the term of the applicable
agreement.
In December 1998, the AICPA issued SOP 98-9, "Modification of SOP No. 97-2,
Software Revenue Recognition, With Respect to Certain Transactions." SOP No.
98-9 amends SOP No. 97-2 to require an entity to recognize revenue for multiple
element arrangements by means of the "residual method" when:
- vendor-specific evidence of fair value exists for all of the undelivered
elements that are not accounted for by means of long-term contract
accounting;
- vendor specific evidence of fair value does not exist for one or more of
the delivered elements; and
- all revenue recognition criteria of SOP No. 97-2, other than the
requirement for vendor-specific evidence of the fair value of each
delivered element, are satisfied.
The adoption of SOP 98-9 did not have a significant effect on the Company's
financial position or results of operations.
Many of the Company's arrangements include multiple elements. The Company
follows the residual method when accounting for multiple element arrangements.
The Company has established vendor-specific objective evidence of fair value for
all undelivered elements, including consulting services and maintenance updates
and technical support, based on vendor-specific objective evidence of fair value
as determined by the price charged for the individual elements when they are
sold separately. However, vendor-specific objective evidence of fair value has
not been established for the license component (i.e. the delivered element).
Revenue for the undelivered elements of a contract are allocated based on the
vendor-specific objective evidence of fair value. To the extent that a discount
exists on any of the elements, the Company follows the residual method and
attributes that discount entirely to the delivered elements.
Cost of license revenue consists primarily of license fees payable on
third-party software products. Cost of service revenue consists of compensation
and related overhead costs for employees engaged in consulting, training and
maintenance for our customers.
Deferred Revenue
Deferred revenue includes unearned license revenue and prepaid services
that will be recognized as revenue in the future as the Company delivers
licenses and performs services.
Commissions
The Company records deferred commission costs primarily as a result of
sales commissions due or paid to employees relating to contracts that have been
signed for which revenue has not yet been recognized. The Company will recognize
the commission expense in the future over a period in which the related revenue
is
F-8
45
NUANCE COMMUNICATIONS, INC. & SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
recognized under the contracts. The Company has recorded approximately $1.3
million of deferred commission costs in prepaid and other current assets as of
both December 31, 2000 and December 31, 1999.
Software Development Costs
Under Statement of Financial Accounting Standards (SFAS) No. 86,
"Accounting for the Costs of Computer Software to be Sold, Leased or Otherwise
Marketed," costs incurred in the research and development of software products
are expensed as incurred until technological feasibility has been established.
Once established, these costs would be capitalized. The establishment of
technological feasibility and the ongoing assessment of the recoverability of
these costs requires considerable judgment by management with respect to certain
external factors, including, but not limited to, anticipated future gross
product revenues, estimated economic life and changes in software and hardware
technologies. Amounts that could have been capitalized under SFAS No. 86 were
insignificant and, therefore, no costs have been capitalized to date.
Foreign Currency Translation
The functional currency of the Company's foreign subsidiaries is deemed to
be the local country's currency. Consequently, assets and liabilities of
operations outside the United States are translated into United States dollars
using current exchange rates. All revenue is invoiced in United States dollars.
The impact of foreign currency translation has not been material.
Comprehensive Income
In June 1997, the Financial Accounting Standards Board (FASB) issued SFAS
No. 130, "Reporting Comprehensive Income," which requires companies to disclose
certain information regarding the nature and amounts of comprehensive income
included in the financial statements. Accumulated and other comprehensive income
(loss) presented in the accompanying consolidated balance sheets consist of the
cumulative foreign currency transaction adjustments. The Company had no items of
comprehensive income prior to January 1, 2000 and $16,000 in foreign currency
translation loss at December 31, 2000.
Net Loss Per Share
Historical net loss per share has been calculated under SFAS No. 128,
"Earnings Per Share." Basic net loss per share on a historical basis is computed
using the weighted average number of shares of common stock outstanding. Diluted
net loss per share is equal to basic net loss per share for all periods
presented since potential common shares from conversion of the convertible
preferred stock, stock options and warrants are antidilutive. The total number
of shares excluded from diluted net loss per share relating to these securities
was 10,579,000 shares, 21,739,000 shares and 17,971,000 shares, for fiscal years
2000, 1999 and 1998, respectively.
Pursuant to the Securities and Exchange Commission Staff Accounting
Bulletin No. 98, convertible preferred stock and common stock issued or granted
for nominal consideration prior to the anticipated effective date of the initial
public offering must be included in the calculation of basic and diluted net
loss per common share as if they had been outstanding for all periods presented.
To date, the Company has not had any issuances or grants for nominal
consideration.
F-9
46
NUANCE COMMUNICATIONS, INC. & SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
The following table presents the calculation of basic and diluted net loss
per share (in thousands, except per share data):
YEAR ENDED DECEMBER 31,
-------------------------------
2000 1999 1998
-------- -------- -------
Net loss............................................ $(23,474) $(18,474) $(6,938)
======== ======== =======
Basic:
Weighted average shares of common stock
outstanding.................................... 23,249 2,958 2,422
Less: Weighted average shares of common stock
subject to repurchase.......................... (532) (34) (249)
-------- -------- -------
Weighted average shares used in computing basic
and diluted net loss per share................. 22,717 2,924 2,173
======== ======== =======
Basic and diluted net loss per share.............. $ (1.03) $ (6.32) $ (3.19)
======== ======== =======
Recent Accounting Pronouncements
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities." As amended, SFAS No. 133 requires certain
accounting and reporting standards for derivative financial instruments and
hedging activities. The Statement became effective for the Company on January 1,
2001. Because the Company does not currently hold any derivative instruments and
does not engage in hedging activities, the Company does not believe that the
adoption of these statements will have a material impact on the Company's
financial position or results of operations.
In December 1999, the Securities and Exchange Commission issued Staff
Accounting Bulletin No. 101, Revenue Recognition in Financial Statements, or SAB
101, which provides guidance on the recognition, presentation and disclosure of
revenue in the financial statements. The Company adopted SAB 101 in the fourth
quarter of 2000. The adoption did not have a material effect on the consolidated
balance sheets or statements of operations as a whole.
3. ACQUISITION:
On November 10, 2000, in an acquisition accounted for under the purchase
method of accounting, the Company acquired all the outstanding shares of
SpeechFront Inc. ("SpeechFront") for approximately $7.1 million, including
acquisition costs of approximately $129,000. SpeechFront is a developer of voice
instant messaging systems. The consideration included approximately 16,590
shares of the Company common stock valued at $1.7 million and cash of
approximately $5.3 million. The purchase agreement contained additional
payments, of approximately $4.1 million, to be made in common stock,
approximately 38,710 shares, contingent upon the continued employment of the
founders of SpeechFront. Maximum future payments, contingent solely on continued
employment of the founders, is $1.7 million, approximately 16,590 shares, and is
payable upon the eighteen month anniversary of the acquisition date. The
remaining $2.4 million, approximately 22,120 shares, also relates to the
continued employment of the founders, and is payable upon the twelve month
anniversary of the acquisition date, or earlier if certain performance
milestones are achieved. The contingent payments will be accounted for as
compensation expense over the term of the employment condition and not as part
of the purchase price. Upon consummation of the acquisition, the Company
established an escrow for these contingent payments. The allocation of the
purchase price to the
F-10
47
NUANCE COMMUNICATIONS, INC. & SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
assets acquired and liabilities assumed based on preliminary estimates of fair
value, which are subject to final adjustment, are as follows (in thousands):
Cash........................................................ $ 136
Other current assets........................................ 7
Property and equipment...................................... 66
Acquired in-process research and development................ 1,500
Goodwill.................................................... 5,336
Workforce................................................... 200
------
7,245
Less: Liabilities assumed................................... (95)
------
$7,150
======
At the time of acquisition, Nuance expensed $1.5 million of purchased
in-process research and development. Other purchased intangible assets,
including goodwill and workforce of approximately $5.5 million are being
amortized a straight-line basis over their estimated useful lives of thirty-six
and eighteen months, respectively. Beginning on November 10, 2000, SpeechFront's
operating results were included with those of the Company. The value assigned to
purchased in-process technology, based on the income method prepared by an
independent third-party was determined by identifying research projects in areas
for which technological feasibility had not been established. SpeechFront's
in-process projects included the research and development associated with the
voice instant messaging + Mobile HQ product.
The value of in-process research and development was determined by
estimating the costs to develop the purchased in-process technology into a
commercially viable product, estimating the resulting net cash flows from such
project and discounting the net cash flows back to their present value. The
discount rate includes a risk-adjusted discount rate to take into account the
uncertainty surrounding the successful development of the purchased in-process
technology. The risk-adjusted discount rate applied to the projects' cash flows
was 30% for the in-process technology. The Company believes that the estimated
in-process technology amounts represent fair value and do not exceed the amount
a third-party would pay for the projects. The valuation includes cash inflows
from in-process technology through 2006 with revenues commencing in 2002. Where
appropriate, the Company allocated anticipated cash flows from an in-process
research and development project to reflect contributions of the core
technology.
At the time of the acquisition, SpeechFront's remaining tasks were
approximately 35 percent complete based on engineering man-month data and
technological progress. The Company estimates that it will cost approximately
$466,000 to complete the project with significant remaining development efforts,
which are expected to be completed in the next 4 to 6 months. If the projects
are not successful or completed in a timely manner, management's product pricing
and growth rates may not be achieved and Nuance may not realize the financial
benefits expected from the projects.
F-11
48
NUANCE COMMUNICATIONS, INC. & SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
4. SIGNIFICANT CONCENTRATIONS:
Financial instruments that potentially subject the Company to
concentrations of credit risk consist principally of accounts receivable. The
Company performs periodic credit evaluations of its customers' financial
condition and generally does not require collateral. Five customers comprised
approximately 41% and 51% of the accounts receivable balance at December 31,
2000 and 1999, respectively.
For the years ended December 31, 2000, 1999 and 1998, certain customers
individually accounted for more than 10% of revenue as follows:
YEAR ENDED
DECEMBER 31,
--------------------
2000 1999 1998
---- ---- ----
Customer A.................................................. 22% 25% 19%
Customer B.................................................. * * 15%
Customer C.................................................. * 20% 32%
- ---------------
* Represents less than 10% for the indicated period.
In 2000, 1999 and 1998, the Company's revenue attributable to indirect
sales through resellers was 72%, 56% and 31%, respectively. One reseller
accounted for 22%, 25% and 19% of total revenue in 2000, 1999 and 1998,
respectively.
5. BALANCE SHEET DETAIL:
The Company's property and equipment and accrued liabilities consisted of
the following (in thousands):
DECEMBER 31,
------------------
2000 1999
------- -------
Property and equipment, net:
Computer equipment and software.......................... $10,508 $ 4,263
Furniture and fixtures................................... 2,427 2,018
Leasehold improvements................................... 1,323 171
------- -------
Total property and equipment............................. 14,258 6,452
Less: Accumulated depreciation and amortization.......... (4,844) (2,176)
------- -------
$ 9,414 $ 4,276
======= =======
Accrued liabilities:
Accrued payroll and related benefits..................... $ 7,734 $ 3,857
Other accrued liabilities................................ 4,655 3,177
------- -------
Total.......................................... $12,389 $ 7,034
======= =======
6. LONG-TERM DEBT:
The Company's long-term debt obligations consisted of the following (in
thousands):
DECEMBER 31, DECEMBER 31,
2000 1999
------------ ------------
Total debt......................................... $ 44 $ 2,376
Less: current portion of debt...................... (12) (1,043)
---- -------
Long-term debt..................................... $ 32 $ 1,333
==== =======
F-12
49
NUANCE COMMUNICATIONS, INC. & SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
In July 1999, the Company entered into a loan and security agreement with a
bank which provides for borrowings for purchases of property and equipment of up
to $2.0 million, and borrowings for cash management purposes of up to $250,000.
Amounts borrowed under the agreement bore interest at the bank's prime rate plus
0.75% (9.25% at December 31, 1999). Borrowings for purchases of property and
equipment were payable in 36 equal installments beginning in January 2000. At
December 31, 1999, $2.0 million was outstanding under the property and equipment
line, which was repaid in the second quarter of 2000.
In October 1999, the Company's Canadian subsidiary entered into a revolving
line of credit under which it can borrow up to $600,000 in Canadian dollars. The
revolving line of credit, secured by a letter of credit from the Company's
primary bank, bears interest at the lender's prime rate plus 0.5% per annum. The
line of credit was not utilized at December 31, 2000.
In November 2000, in connection with the SpeechFront acquisition, the
Company assumed certain capital leases. These leases bore interest at rates
ranging from 17% to 22% and were paid off in February 2001.
7. COMMITMENTS:
The Company leases its facilities under non-cancelable operating leases
with various expiration dates through July 2012. Future minimum lease payments
under these agreements, including the Company's new facilities lease, as of
December 31, 2000, are as follows (in thousands):
OPERATING
FISCAL YEAR LEASE
----------- ---------
2001....................................................... $ 4,274
2002....................................................... 8,308
2003....................................................... 8,583
2004....................................................... 8,570
2005....................................................... 8,263
Thereafter................................................. 61,055
-------
Total minimum lease payments..................... $99,053
=======
In May 2000, the Company entered into a lease for its new headquarters
facility. The lease has an eleven-year term from an expected move-in date of
August 2001, and provides for monthly payments starting at approximately
$600,000. An $11.0 million certificate of deposit secures a letter of credit
required by the landlord for a rent deposit.
Rent expense for the years ended December 31, 2000, 1999 and 1998, was
approximately $1.9 million, $1.2 million and $486,000, respectively.
8. STOCKHOLDERS' EQUITY:
Convertible Preferred Stock
As of December 31, 2000, the Company had no preferred stock outstanding.
All outstanding shares of convertible preferred stock were converted to the
equivalent number of shares of the Company's common stock upon the consummation
of the Company's initial public offering in April 2000.
Series B Convertible Preferred Stock Warrant
In April 1996, the Company entered into a series of equipment leases with
an aggregate credit limit of $800,000. In connection with these leases, the
Company issued a warrant to purchase 31,256 shares of Series B convertible
preferred stock for $0.96 per share. The warrant was exercised in October 2000
using the net exercise method, resulting in the issuance of 31,021 shares of
common stock.
F-13
50
NUANCE COMMUNICATIONS, INC. & SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Series D Convertible Preferred Stock Warrant
On May 26, 1998, in connection with a revenue transaction with a
shareholder of Series D convertible preferred stock, the Company issued a
warrant to purchase 200,000 shares of Series D convertible preferred stock for
$5.00 per share. As of December 31, 1999, 200,000 shares were exercisable under
the terms of the warrant. The warrant was exercised in February 2000 for 200,000
shares of the Company's common stock. In accordance with Emerging Issues Task
Force 96-18, the Company estimated the fair value of the warrant to be
approximately $248,000. The fair value was determined by utilizing a
Black-Scholes option pricing model at each of the measurement dates. Measurement
dates were determined to be the date that the warrants vested which was upon
payment of the purchase order by the customer. The following assumptions were
used in the Black-Scholes option pricing model: risk-free interest rate of 5.5%;
expected dividend yields of zero; expected volatility factor of the market price
of the common stock of 50%; and an expected life of the warrant of 1.25 years
from the vesting date.
The fair value of the warrant of $248,000 was amortized as the Company
recognized revenue under the related arrangement. The Company amortized $124,000
against license revenue in both 1999 and 1998.
Common Stock
During 2000 and 1999, the Company issued 9,860 and 6,423 shares of common
stock respectively, in consideration for services performed by consultants and
other non-employees. The expense related to these services was calculated by
using the fair value of the common shares on the dates of issuance, ranging from
$6.75 to $15.00 per share, and has been included in operating expenses in the
accompanying consolidated statements of operations.
In April 2000, the Company completed its initial public offering of 5.2
million shares of common stock at $17 per share. The Company received net
proceeds of approximately $80.3 million, net of offering expenses of
approximately $7.7 million. In connection with the offering, 19,925,986 shares
of preferred stock were automatically converted into an identical number of
shares of common stock.
In connection with the initial public offering, the holder of a warrant to
purchase 200,000 shares of Series D at $5.00 per share exercised the warrant and
received 200,000 shares of common stock.
In October 2000, the Company completed a follow-on offering of 1.3 million
shares of common stock at $121 per share. The Company received net proceeds of
approximately $143.2 million, net of offering expenses of approximately $8.8
million.
Warrant
On December 4, 2000, the Company issued to a customer a warrant to purchase
100,000 shares of common stock at an exercise price of $138.50 per share subject
to certain anti-dilution adjustments. The warrant is exercisable at the option
of the holder, in whole or part, at any time between January 17, 2001 and August
2002. In January 2001, the Company valued the warrant at $526,000, utilizing the
Black-Scholes valuation model using the following assumptions; risk-free
interest rate of 5.5% expected dividend yields of zero, expected life of 1.5
years, and expected volatility of 80%.
1994 and 1998 Stock Option Plans
On September 1, 1999, the 1994 Flexible Stock Incentive Plan was
terminated. Upon termination of the plan, all unissued options were cancelled.
In August 1998, the Board of Directors approved the 1998 Stock Plan, which
terminated upon the Company's initial public offering on April 12, 2000. As a
result of the termination, the shares remaining available for grant under the
1998 Stock Plan were transferred to the Company's 2000 Stock Plan. Options
issued under the 1994 Flexible Stock Plan and 1998 Stock Plan have a
F-14
51
NUANCE COMMUNICATIONS, INC. & SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
term of ten years from the date of grant and generally vest 25% after one year,
then ratably over the remaining three years.
2000 Stock Plan
In February 2000, the Board of Directors and stockholders approved the 2000
Stock Plan. The 2000 Stock Plan, which became effective upon the completion of
the Company's IPO on April 12, 2000, assumed the remaining shares reserved under
the 1998 Stock Plan. Accordingly, no future grants will be made under the 1998
Stock Plan. Under the 2000 Stock Plan, the Board of Directors may grant options
to purchase the Company's common stock to employees, directors, or consultants
at an exercise price of not less than 100% of the fair value of the Company's
common stock at the date of grant, as determined by the Board of Directors. The
2000 Stock plan will terminate automatically in January 2010, unless terminated
earlier by the Company's board of directors. Options issued under the 2000 Stock
Plan have a term of ten years from the date of grant and generally vest 25%
after one year, then ratably over the remaining three years. The number of
shares reserved under the 2000 Stock Plan will automatically be increased each
year, beginning on January 1, 2001, in an amount equal to the lesser of (a)
4,000,000 shares, (b) 6% of the Company's shares outstanding on the last day of
the preceding fiscal year, or (c) a lesser amount determined by the Board of
Directors.
Option activity under the Plans is as follows (in thousands, except per
share data):
SHARES WEIGHTED
AVAILABLE AVERAGE
FOR OUTSTANDING EXERCISE
GRANT OPTIONS PRICE
--------- ----------- --------
December 31, 1997.................................... 1,148 1,944 0.13
Authorized......................................... 1,500 -- --
Options granted.................................... (1,879) 1,879 2.14
Options exercised.................................. -- (561) 0.13
Options cancelled.................................. 3 (3) 3.26
------ ------ ------
December 31, 1998.................................... 772 3,259 1.29
Authorized......................................... 6,500 -- --
Options granted.................................... (3,062) 3,062 7.93
Options exercised.................................. -- (484) 0.59
Options cancelled.................................. 108 (108) 2.10
Terminated options................................. (125) -- --
------ ------ ------
December 31, 1999.................................... 4,193 5,729 $ 4.88
Options granted.................................... (3,493) 3,493 53.84
Options exercised.................................. -- (2,371) 3.04
Options cancelled.................................. 206 (206) 12.06
Terminated options................................. (74) -- --
------ ------ ------
December 31, 2000.................................... 832 6,645 $31.01
====== ====== ======
As of December 31, 2000, the Company had reserved 8,319,000 shares of its
common stock for future issuance.
F-15
52
NUANCE COMMUNICATIONS, INC. & SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
The following table summarizes the stock options outstanding and
exercisable as of December 31, 2000:
OPTIONS EXERCISABLE
OPTIONS OUTSTANDING -------------------------
----------------------------------------- NUMBER
WEIGHTED WEIGHTED EXERCISABLE WEIGHTED
AMOUNT AT AVERAGE AVERAGE AS OF AVERAGE
RANGE OF DECEMBER 31, REMAINING EXERCISE DECEMBER 31, EXERCISE
CONTRACTUAL PRICE 2000 CONTRACT LIFE PRICE 2000 PRICE
----------------- ------------ ------------- -------- ------------ --------
(IN THOUSANDS) (IN THOUSANDS)
$ 0.00 - 17.50 4,910 8.5 $ 8.63 959 $5.69
17.50 - 35.00 -- 0.0 0.00 -- --
35.01 - 52.50 65 9.7 40.42 -- --
52.51 - 70.00 479 9.9 60.69 -- --
70.01 - 87.50 -- 0.0 0.00 -- --
87.51 - 105.00 273 9.8 89.00 -- --
105.01 - 122.50 665 9.7 108.83 -- --
122.50 - 140.00 138 9.7 122.75 -- --
140.01 - 157.50.. 51 8.5 140.25 -- --
157.51 - 175.00.. 64 9.6 175.00 -- --
----------------- ----- --- ------- --- -----
$0.00 - 175.00.... 6,645 8.9 $ 31.01 959 $5.69
================= ===== === ======= === =====
In October 1995, the FASB issued SFAS No. 123, "Accounting for Stock-Based
Compensation," which establishes a fair value-based method of accounting for
stock-based compensation plans and requires additional disclosures for those
companies who elect not to adopt the new method of accounting. The Company
adopted SFAS No. 123 in fiscal 1996, and, in accordance with the provisions of
SFAS No. 123, the Company has elected to continue to apply APB Opinion No. 25
and related interpretations in accounting for its stock option plans. Had
compensation cost for the stock option plans and the Employee Stock Purchase
Plan been determined consistent with SFAS No. 123, the Company's net loss would
have been $61.5 million, $19.1 million and $7.0 million for the years ended
December 31, 2000, 1999 and 1998, respectively.
The weighted average fair value of options granted during 2000, 1999 and
1998 was $44.95, $7.93 and $3.43, respectively. The fair value of each option
grant was estimated on the date of grant using the Black-Scholes option pricing
model with the following assumptions used for grants in 2000, 1999 and 1998:
risk-free interest rate of 5.9% in 2000, 5.1% to 7.7% in 1999 and 5.5% in 1998;
expected dividend yields of zero; expected lives of 3 years beyond grant date;
and expected volatility of 133% in 2000, 50% in 1999 and 0.01% in 1998. Because
the Black-Scholes option valuation model requires the input of subjective
assumptions, the resulting pro forma compensation cost may not be representative
of that to be expected in future periods.
The Company has also issued options to consultants and other non-employees.
Stock options issued to consultants and other non-employees are valued under the
provisions of SFAS No. 123. The compensation expense related to these options
was approximately $57,000 for 1998, zero in 1999 and 2000, and is included in
operating expenses in the accompanying consolidated statements of operations.
Deferred Stock Compensation
In connection with the grant of stock options prior to our initial public
offering, the Company recorded deferred stock compensation of approximately $8.7
million within stockholders' equity, representing the difference between the
estimated fair value of the common stock for accounting purposes and the option
exercise price of these options at the date of grant. This amount is presented
as a reduction of stockholders' equity and will be amortized over the vesting
period of the applicable options in a manner consistent with Financial
Accounting Standards Board Interpretation No. 28. The Company recorded
amortization of deferred stock compensation of $4.3 million in the year ending
December 31, 2000 and $310,000 in the year
F-16
53
NUANCE COMMUNICATIONS, INC. & SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
ending December 31, 1999, relating to approximately 3,152,000 stock options
granted at a weighted average exercise price of $8.58.
In connection with the SpeechFront acquisition, the Company recorded
deferred compensation of $4.1 million (Note 3). Approximately $580,000 was
amortized in 2000 related to these deferred compensation amounts.
The Company expects to amortize $5.5 million, $1.6 million and $500,000 of
non-cash compensation in 2001, 2002 and 2003, respectively.
Employee Stock Purchase Plan
In February 2000, the Board of Directors and stockholders approved the 2000
Employee Stock Purchase Plan, or the Purchase Plan. The Company reserved a total
of 1,000,000 shares of common stock for issuance under this plan, which became
effective upon the completion of the IPO on April 12, 2000. The Purchase Plan is
administered over offering periods of 24 months each, with each offering period
divided into four consecutive six-month purchase periods beginning November 1
and May 1 of each year. Eligible employees can contribute up to 15% of their
compensation each pay period for the purchase of common stock, not to exceed
2,000 shares per six-month period. On the last business day of each purchase
period, shares of common stock are purchased with the employee's payroll
deductions accumulated during the six months, at a purchase price per share of
85% of the market price of the common stock on the employee's entry date into
the applicable offering period or the last day of the applicable offering
period, whichever is lower.
The number of shares reserved under the Purchase Plan will automatically be
increased each year, beginning on January 1, 2001, in an amount equal to the
lesser of (a) 1,500,000 shares, (b) 2% of the Company's shares outstanding on
the last day of the preceding fiscal year, or (c) any lesser amount determined
by the Board of Directors.
Under this plan, approximately 158,000 shares were issued during the year
2000 representing approximately $2.1 million in employee contributions. As of
December 31, 2000, approximately 842,000 shares were available for issuance
under the Purchase Plan.
The weighted average fair value of purchase rights granted pursuant to the
Purchase Plan in 2000 was $9.90. The fair value of each purchase right was
estimated using the Black-Scholes option pricing model with the following
assumptions used for 2000: risk-free interest rate of 5.9%; expected dividend
yields of zero; expected life of 0.5 years beyond purchase date; and expected
volatility of 133%. Because the Black-Scholes option valuation model requires
the input of subjective assumptions, the resulting pro forma compensation cost
may not be representative of that to be expected in future periods.
9. 401(K) PLAN:
The Company has a defined contribution savings plan under Section 401(k) of
the Internal Revenue Code. The plan provides for tax-deferred salary deductions
and after-tax employee contributions. The Company does not make contributions to
the plan.
10. INCOME TAXES:
Nuance accounts for income taxes pursuant to SFAS No. 109, "Accounting for
Income Taxes." SFAS No. 109 provides for an asset and liability approach to
accounting for income taxes under which deferred income taxes are provided based
upon enacted tax laws and rates applicable to the periods in which taxes
F-17
54
NUANCE COMMUNICATIONS, INC. & SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
become payable. As of December 31, 2000 and 1999, significant components of the
Company's current net deferred income tax assets were as follows (in thousands):
DECEMBER 31,
--------------------
2000 1999
-------- --------
Deferred Tax Assets:
Net operating loss carryforwards..................... $ 24,569 $ 11,353
Tax Credit Carryforwards............................. 2,582 1,374
Accruals and reserves................................ 3,180 1,444
-------- --------
Gross deferred tax assets............................ 30,331 14,171
Valuation Allowance.................................. (30,221) (14,171)
-------- --------
Net Deferred Tax Asset............................... $ 110 $ --
======== ========
As of December 31, 2000, the Company has net cumulative operating loss
carryforwards for federal and state income tax reporting purposes of
approximately $63.6 million and $40.2 million, respectively. The federal net
operating loss carryforwards expire on various dates through 2020, while the
state net operating loss carryforwards expire at various dates through 2005. The
Company also has federal and state tax credit carryforwards for income tax
purposes of approximately $1.6 million and $1.5 million, respectively. The
federal tax credit carryforwards expire on various dates through 2020, while the
state tax credits carryforward indefinitely. Under current tax law, net
operating loss and credit carryforwards available to offset future income in any
given year may be limited upon the occurrence of certain events, including
significant changes in ownership interests.
The Company's income taxes payable for federal and state purposes has been
reduced, and the deferred tax assets increased, by the tax benefits associated
with taxable dispositions of employee stock options. When an employee exercises
a stock option issued under a nonqualified plan or has a disqualifying
disposition related to a qualified plan, the Company receives an income tax
benefit calculated as the difference between the fair market value of the stock
issued at the time of the exercise and the option price, tax effected. A portion
of the valuation allowance relate to the equity benefit of the net operating
losses. The Company had approximately $50,000, $122,000, and $18.9 million of
taxable dispositions of employee stock options for the years ended December 31,
1998, 1999, and 2000, respectively. A portion of the valuation allowance, when
reduced, will be credited directly to stockholders' equity. These benefits
amounted to $17,000, $43,000, and $6.6 million for the years ended December 31,
1998, 1999 and 2000, respectively.
As of December 31, 2000 and 1999, Nuance had no significant deferred tax
liabilities.
F-18
55
NUANCE COMMUNICATIONS, INC. & SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
The provision for income taxes consists of the following components for the
year ended December 31, 2000 (in thousands):
DECEMBER 31,
---------------------
2000 1999 1998
----- ---- ----
Current
Federal................................................... -- -- --
State..................................................... -- -- --
Foreign................................................... 460 22 --
----- --- --
Total............................................. 460 -- --
Deferred
Federal................................................... -- -- --
State..................................................... -- -- --
Foreign................................................... (110) -- --
----- --- --
Total............................................. (110) -- --
----- --- --
Total provision................................... $ 350 $22 --
===== === ==
Due to the Company's loss position, there was no provision for income taxes
for the year ended December 31, 1998. The Company recorded foreign income tax
provision for the years ended December 31, 2000 and 1999 of $350,000 and
$22,000, respectively. Income before provision for income taxes consisted of (in
millions):
DECEMBER 31,
-------------------------------
2000 1999 1998
-------- -------- -------
United States....................................... $(24,082) $(18,878) $(6,938)
Foreign............................................. 958 426 --
-------- -------- -------
$(23,124) $(18,452) $(6,938)
======== ======== =======
The actual provision for income taxes differs from the statutory U.S.
federal income tax rate as follows for fiscal 2000 (in thousands):
DECEMBER 31,
-----------------------------
2000 1999 1998
------- ------- -------
Provision at U.S. statutory rate of 35%............... $(8,076) $(6,466) $(2,428)
State income taxes, net of federal benefit............ (1,551) (1,202) (451)
Change in valuation allowance......................... 9,450 6,881 2,933
Effect of foreign income tax at various rates......... 322 166 --
Research and development tax credit................... 1,208 675 302
Deferred stock compensation........................... (1,777) (126) (74)
Other................................................. 774 94 (282)
------- ------- -------
Total....................................... $ 350 $ 22 --
======= ======= =======
11. RELATED PARTY TRANSACTIONS:
In 1998, the Company entered into a royalty arrangement with a Series A
preferred stockholder whereby the Company would remit royalties, up to a maximum
of $400,000 over the term of the agreement. During 1998, the Company remitted
$400,000 to the stockholder as earned under the terms of the agreement, and the
amount is included in cost of license revenue in the accompanying consolidated
statements of operations.
F-19
56
NUANCE COMMUNICATIONS, INC. & SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
In 1996, the Company entered into an agreement with an affiliated Series A
preferred stockholder to jointly perform services under a development contract,
whereby the Series A preferred stockholder would receive a percentage of license
and maintenance revenue recognized under this contract in 1997 and 1998. The
total amount incurred under the agreement was approximately $154,000 in 1998.
12. SEGMENT REPORTING:
Effective January 1, 1998, the Company adopted the provisions of SFAS No.
131, "Disclosures about Segments of an Enterprise and Related Information." SFAS
No. 131 establishes standards for the way companies report information about
operating segments in financial statements. It also establishes standards for
related disclosures about products and services, geographic areas and major
customers. Operating segments are defined as components of an enterprise about
which separate financial information is available that is evaluated regularly by
the chief operating decision maker, or decision making group, in deciding how to
allocate resources and in assessing performance. The Company's chief operating
decision maker is the Chief Executive Officer of the Company.
The Company has two operating segments: licenses and services. Revenue and
cost of revenue for the segments are identical to those presented on the
accompanying consolidated statements of operations.
Sales of licenses and services through December 31, 2000 occurred through
partners and direct sales representatives located in the Company's headquarters
in Menlo Park, California, and in other locations. These sales were supported
through the Menlo Park location. The Company does not separately report costs by
region internally.
International revenues are based on the country in which the end-user is
located. The following is a summary of international license and service revenue
by geographic region:
YEAR ENDED DECEMBER 31,
----------------------------
2000 1999 1998
------- ------- ------
License revenue:
United States........................................ $19,410 $10,565 $6,948
Europe............................................... 7,391 954 186
Asia................................................. 1,293 316 157
Australia............................................ 5,292 103 72
Canada............................................... 2,793 938 562
Latin America........................................ 1,372 737 43
------- ------- ------
Total........................................ $37,551 $13,613 $7,968
======= ======= ======
Service revenue:
United States........................................ $ 8,166 $ 4,785 $3,073
Europe............................................... 2,990 619 241
Asia................................................. 591 195 333
Australia............................................ 996 38 5
Canada............................................... 533 203 120
Latin America........................................ 991 114 15
------- ------- ------
Total........................................ $14,267 $ 5,954 $3,787
======= ======= ======
F-20
57
NUANCE COMMUNICATIONS, INC. & SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31,
----------------------------
2000 1999 1998
------- ------- ------
Long-Lived Assets:
United States........................................ $ 7,359 $ 3,905 $1,868
Europe............................................... 45 11 --
Asia................................................. -- -- --
Australia............................................ 8 -- --
Canada............................................... 2,002 360 --
Latin America........................................ -- -- --
------- ------- ------
Total........................................ $ 9,414 $ 4,276 $1,868
======= ======= ======
13. SUBSEQUENT EVENTS:
On February 8, 2001, the Company and British Telecommunications entered
into an agreement that gave the Company non-exclusive Intellectual Property
Rights to various text to speech algorithms and software code. The Company will
pay British Telecommunications a $7.0 million license fee, based on the
achievement of certain deliverables and ongoing royalties.
In March 2001, a number of shareholder complaints were filed in the United
States District Court for the Northern District of California against the
Company and certain of its officers. The complaints were filed on behalf of a
purported class of people who purchased the Company's stock during the period
January 31, 2001 through March 15, 2001, alleging insider trading and false and
misleading statements in violation of the federal securities laws. The Company
believes that the allegations of these lawsuits are without merit and intends to
defend the litigation vigorously. However, depending on the amount and timing,
an unfavorable resolution of some or all of these matters could materially
affect the Company's future results of operations or cash flows in a particular
period.
F-21
58
SCHEDULE II
NUANCE COMMUNICATIONS, INC.
SCHEDULE OF VALUATION AND QUALIFYING ACCOUNTS AT DECEMBER 31, 2000
BALANCE AT BALANCE AT
BEGINNING CHARGED TO END
OF PERIOD EXPENSES DEDUCTIONS OF PERIOD
---------- ---------- ---------- ----------
(IN THOUSANDS)
YEAR ENDED DECEMBER 31, 1998
Allowance for Doubtful Accounts............... 60 301 5 356
YEAR ENDED DECEMBER 31, 1999
Allowance for Doubtful Accounts............... 356 221 6 571
YEAR ENDED DECEMBER 31, 2000
Allowance for Doubtful Accounts............... 571 1,464 212 1,823
S-1
59
EXHIBIT INDEX
EXHIBIT
NUMBER DESCRIPTION
------- -----------
3.1(1) Restated Certificate of Incorporation of Registrant, as
currently in effect.
3.2(1) Bylaws of Registrant, as amended, as currently in effect.
4.1(1) Form of Registrant's Common Stock Certificate.
4.2(1) Amended and Restated Investors' Rights Agreement, dated as
of October 1, 1999, among the Registrant and the parties
named therein.
4.3(1) Warrant to Purchase Stock dated April 1, 1996 issued to
Phoenix Leasing.
4.4 Warrant to Purchase Stock dated December 4, 2000 issued to
OnStar Corporation.
4.5 Amendment to the Amended and Restated Investors' Rights
Agreement, dated as of October 1, 1999, among the Registrant
and the parties named therein.
4.6 Exchange Agreement dated November 10, 2000 between
Registrant, 1448451 Ontario, Inc., Shawn Griffin, William
Love and Warren Gallagher.
10.1(1) Form of Indemnification Agreement entered into by Registrant
with each of its directors and executive officers.
10.2(1) 1994 Flexible Stock Incentive Plan.
10.3(1) 1998 Stock Plan.
10.4(1) 2000 Stock Plan.
10.5(2) 2000 Employee Stock Purchase Plan and related subscription
agreement.
10.6(1) Lease Agreement dated May 27, 1997, and related agreements
by and between Registrant and Lincoln Menlo IV & V
Associates Limited.
10.7(1) Form of Stock Option Agreement, as amended, between
Registrant and each executive officer other than Brian
Danella, Paul Scott and Donna Allen Taylor.
10.8(1) Assignment and Assumption Agreement, and related agreements
by and between Registrant and CBT Systems USA, Ltd.
10.9(1) Memorandum of Agreement of Lease, 2000 Peel Street, Suite
900, Montreal, Quebec, dated January 1, 2000, by and between
Registrant and Cite De L'Ile Development Inc.
10.10(1)(5) Value-Added Reseller Agreement dated March 12, 1998, by and
between Registrant and Periphonics Corporation.
10.11(1) Loan and Security Agreement dated June 23, 1999, between
Registrant and Silicon Valley Bank.
10.12(1)(5) License Agreement dated December 20, 1994, by and between
Registrant and SRI International.
10.13(1) Form of Stock Option Agreement entered into between
Registrant and Brian Danella, Paul Scott and Donna Allen
Taylor.
10.14(1) Amendment dated August 23, 1995 to License Agreement dated
December 20, 1994 by and between Registrant and SRI
International.
10.15(3) Lease Agreement dated May 5, 2000 and related agreements by
and between Registrant and Pacific Shares Development LLC.
10.16(4) Addendum dated August 9, 2000 to Memorandum of Lease
Agreement dated January 1, 2000, by and between Registrant
and Societe en Commandite Duke-Wellington.
11.1 Statement of computation of net loss per share (included in
Note 2 to Notes to Financial Statements).
21.1 Subsidiaries of the Registrant.
60
EXHIBIT
NUMBER DESCRIPTION
------- -----------
23.1 Consent of Arthur Andersen LLP, Independent Public
Accountants.
24.1 Power of Attorney (see pages II-6 and II-7).
- ---------------
(1) Incorporated by reference to the Registrant's Registration Statement on Form
S-1 (File No. 333-96217) as declared effective by the Securities and
Exchange Commission on April 12, 2000.
(2) Incorporated by reference to the Registrant's Registration Statement on Form
S-8 filed on Form S-8 filed on May 2, 2000.
(3) Incorporated by reference to the Registrant's Form 10-Q for the period ended
June 30, 2000 filed on August 14, 2000.
(4) Incorporated by reference to the Registrant's Registration Statement on Form
S-1 (File No. 333-45128) as declared effective by the Securities and
Exchange Commission on September 26, 2000.
(5) Confidential treatment has been requested for portions of this exhibit.