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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended July 31, 2003
or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission File Number: 000-49790
Verint Systems Inc.
(Exact name of registrant as specified in its charter)
Delaware 11-3200514
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
330 South Service Road, Melville, NY 11747
(Address of principal executive offices) (Zip Code)
(631) 962-9600
(Registrant's telephone number, including area code)
Not Applicable
(Former name, former address and former fiscal year,
if changed since last report)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes |X| No |_|
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).
Yes |_| No |X|
APPLICABLE ONLY TO CORPORATE ISSUERS:
The number of shares of Common Stock, par value $0.001 per share,
outstanding as of September 10, 2003 was 29,834,590.
1
TABLE OF CONTENTS
PART I
Financial Information
Page
ITEM 1. Financial Statements. ----
1. Condensed Consolidated Balance Sheets as
of January 31, 2003 and July 31, 2003 3
2. Condensed Consolidated Statements of Income
for the Three and Six Month Periods Ended July 31, 2002
and July 31, 2003 4
3. Condensed Consolidated Statements of Cash Flows
for the Six Month Periods Ended July 31, 2002 and July 31, 2003 5
4. Notes to Condensed Consolidated Financial
Statements 6
ITEM 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations. 16
ITEM 3. Quantitative and Qualitative Disclosures about Market Risk. 31
ITEM 4. Controls and Procedures. 31
PART II
Other Information
ITEM 2. Changes in Securities and Use of Proceeds. 32
ITEM 6. Exhibits and Reports on Form 8-K. 32
SIGNATURES 34
2
PART I
ITEM 1. Financial Statements.
VERINT SYSTEMS INC. AND SUBSIDIARIES
Condensed Consolidated Balance Sheets
(In thousands, except share data)
ASSETS
January 31, July 31,
2003* 2003
----- ----
(Unaudited)
CURRENT ASSETS:
Cash and cash equivalents $ 133,933 $ 216,711
Accounts receivable, net 27,279 35,154
Inventories 8,866 9,579
Prepaid expenses and other current assets 4,079 5,324
----------- ----------
TOTAL CURRENT ASSETS 174,157 266,768
PROPERTY AND EQUIPMENT, net 12,965 13,899
OTHER ASSETS 19,928 28,405
----------- ----------
TOTAL ASSETS $ 207,050 $ 309,072
=========== ==========
- ---------------------------------------------------------------------------------------------------------------
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable and accrued expenses $ 43,622 $ 52,812
Advance payments from customers 19,013 17,603
Current maturities of long-term bank loans 42,199 289
Convertible note - 2,200
----------- ----------
TOTAL CURRENT LIABILITIES 104,834 72,904
LONG-TERM BANK LOANS 1,678 1,940
CONVERTIBLE NOTE 2,200 -
OTHER LIABILITIES 2,172 2,846
----------- ----------
TOTAL LIABILITIES 110,884 77,690
----------- ----------
STOCKHOLDERS' EQUITY:
Common stock, $0.001 par value - authorized, 120,000,000 shares;
issued and outstanding, 23,665,717 and 29,775,351 shares 24 30
Additional paid-in capital 130,748 258,627
Accumulated deficit (34,855) (27,366)
Cumulative translation adjustment 249 91
----------- ---------
TOTAL STOCKHOLDERS' EQUITY 96,166 231,382
----------- ---------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 207,050 $ 309,072
=========== =========
* The Condensed Consolidated Balance Sheet as of January 31, 2003 has
been summarized from the Company's audited Consolidated Balance Sheet
as of that date.
The accompanying notes are an integral part of these financial statements.
3
VERINT SYSTEMS INC. AND SUBSIDIARIES
Condensed Consolidated Statements of Income
(Unaudited)
(In thousands, except per share data)
Six months ended Three months ended
July 31, July 31,
2002 2003 2002 2003
---- ---- ---- ----
Sales $ 74,787 $ 91,307 $ 38,470 $ 46,892
Cost of sales 37,952 42,678 19,388 21,766
--------- ---------- ---------- ---------
Gross profit 36,835 48,629 19,082 25,126
Operating expenses:
Research and development, net 8,130 11,027 4,238 5,692
Selling, general and administrative 24,398 29,970 12,612 15,301
--------- ---------- ---------- ---------
Income from operations 4,307 7,632 2,232 4,133
Interest and other income, net 673 935 560 420
--------- ---------- ---------- ---------
Income before income taxes 4,980 8,567 2,792 4,553
Income tax provision 1,051 1,078 570 576
--------- ---------- ---------- ---------
Net income $ 3,929 $ 7,489 $ 2,222 $ 3,977
========= ========= ========= =========
Earnings per share:
Basic $ 0.19 $ 0.29 $ 0.10 $ 0.15
========= ========== ========== =========
Diluted $ 0.18 $ 0.28 $ 0.09 $ 0.14
========= ========== ========== =========
The accompanying notes are an integral part of these financial statements.
4
VERINT SYSTEMS INC. AND SUBSIDIARIES
Condensed Consolidated Statements of Cash Flows
(Unaudited)
(In thousands)
Six months ended
July 31,
2002 2003
---- ----
Cash flows from operating activities:
Net cash from operations after adjustment
for non-cash items $ 8,106 $ 12,785
Changes in assets and liabilities:
Accounts receivable 5,099 (7,054)
Inventories 743 (48)
Prepaid expenses & other current assets (246) (470)
Accounts payable and accrued expenses 4,189 7,244
Advance payments from customers 322 (1,410)
Other, net (75) 374
------------ -----------
Net cash provided by operating activities 18,138 11,421
------------ -----------
Cash flows from investing activities:
Cash paid for a business combination (9,706) (6,115)
Purchases of property and equipment (2,188) (3,049)
Capitalization of software development costs (2,485) (2,170)
------------ -----------
Net cash used in investing activities (14,379) (11,334)
------------ -----------
Cash flows from financing activities:
Net proceeds (repayments) of bank loans (47) (42,557)
Net proceeds from issuance of common stock 65,629 125,248
------------ ----------
Net cash provided by financing activities 65,582 82,691
------------ ----------
Net increase in cash and cash equivalents 69,341 82,778
Cash and cash equivalents, beginning of period 49,860 133,933
------------ ----------
Cash and cash equivalents, end of period $ 119,201 $ 216,711
============ ==========
The accompanying notes are an integral part of these financial statements.
5
VERINT SYSTEMS INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
(Unaudited)
1. Basis of Presentation
Verint Systems Inc. ("Verint" and, together with its subsidiaries, the
"Company") is engaged in providing analytic software-based solutions
for communications interception, digital video security and
surveillance, and enterprise business intelligence. The Company is a
majority-owned subsidiary of Comverse Technology, Inc. ("CTI").
The accompanying financial information should be read in conjunction
with the audited financial statements, including the notes thereto, for
the annual period ended January 31, 2003. The financial information
included herein is unaudited; however, such information reflects all
adjustments (consisting solely of normal recurring adjustments) which
are, in the opinion of the Company's management, necessary for a fair
statement of the results for the interim periods presented herein. The
Company's results of operations for the three month and six month
periods ended July 31, 2003 are not necessarily indicative of the
Company's results to be expected for the full year. The condensed
consolidated balance sheet as of January 31, 2003 has been summarized
from the Company's audited consolidated balance sheet as of that date.
Certain prior periods amounts have been reclassified to conform to the
manner of presentation in the current periods.
2. Public Offering
In June 2003, the Company completed a public offering of 5,750,000
shares of its common stock at a price of $23.00 per share. The shares
offered included 149,731 shares issued to Smartsight Networks Inc.'s
former shareholders in connection with its acquisition (see also note
11). The net proceeds to the Company of the offering were approximately
$122.2 million. The Company intends to use the net proceeds of the
offering to finance the growth of its business and for general
corporate purposes. The Company may also use a portion of the proceeds
for acquisitions or other investments.
3. Stock-Based Employee Compensation
The Company applies the intrinsic-value based method prescribed by
Accounting Principles Board Opinion No. 25, "Accounting for Stock
Issued to Employees," and related interpretations in accounting for its
stock-based employee compensation. Accordingly, stock-based employee
compensation cost is recognized only when employee stock options are
granted with exercise prices below the fair market value at the date of
grant. Any resulting stock-based employee compensation cost is
recognized ratably over the associated service period, which is
generally the option vesting period. The Company recognized stock-based
employee compensation cost in the condensed consolidated statements of
income of approximately $16,000 and $32,000 in the three month and six
month periods ended July 31, 2002, respectively, and $13,000 and
$26,000 in the three month and six month periods ended July 31, 2003,
respectively. These costs were recognized in connection with certain
employee stock options granted with exercise prices below the fair
market value at the date of grant. As of July 31, 2003, 56,970 employee
stock options were outstanding with exercise prices below the fair
market value at the date of the grant. All other employee stock options
have been granted at exercise prices equal to fair market value on the
date of grant, and, accordingly, no compensation expense has been
recognized by the Company in the consolidated statement of income.
6
The following table illustrates the effect on net income and earnings
per share if the Company had applied the fair value recognition
provisions of Statement of Financial Accounting Standards ("SFAS") No.
123, "Accounting for Stock-Based Compensation," to stock-based employee
compensation for all periods:
Six Months Ended Three Months Ended
July 31, July 31,
2002 2003 2002 2003
---- ---- ---- ----
(In thousands, except per share data)
Net income, as reported $ 3,929 $ 7,489 $ 2,222 $ 3,977
Less: Stock-based employee compensation
cost determined under the fair value
method, net of related tax effects
2,012 2,448 1,041 1,358
------- -------- ----- --------
Pro forma net income $ 1,917 $ 5,041 $1,181 $ 2,619
======= ======= ====== ========
Earnings per share:
Basic - as reported $ 0.19 $ 0.29 $ 0.10 $ 0.15
====== ======= ====== =========
Basic - pro forma $ 0.09 $ 0.20 $ 0.05 $ 0.10
====== ======= ====== =========
Diluted - as reported $ 0.18 $ 0.28 $ 0.09 $ 0.14
====== ======= ====== =========
Diluted - pro forma $ 0.09 $ 0.19 $ 0.05 $ 0.09
====== ======= ====== =========
7
4. Inventories
The composition of inventories at January 31, 2003 and July 31, 2003 is
as follows:
January 31, July 31,
2003 2003
----- ----
(In thousands)
Raw materials $ 5,337 $ 6,418
Work in process 1,405 935
Finished goods 2,124 2,226
--------- ----------
$ 8,866 $ 9,579
========= ==========
5. Research and Development Expenses
The Company's research and development activities include projects
partially funded by the Office of the Chief Scientist of the Ministry
of Industry, Trade and Labor of the State of Israel (the "OCS") under
which the OCS reimburses a portion of the Company's research and
development expenditures under approved project budgets. Under the
terms of the applicable funding agreements, products resulting from
projects funded by the OCS may not be manufactured outside of Israel
without government approval. The Company is currently involved in
several ongoing research and development projects supported by the OCS.
Reimbursements from the OCS amounted to approximately $1.3 million and
$2.5 million in the three month and six month periods ended July 31,
2002, respectively, and $1.0 million and $2.2 million in the three
month and six month periods ended July 31, 2003, respectively.
6. Earnings Per Share
The computation of basic earnings per share is based on the weighted
average number of outstanding common shares. Diluted earnings per share
further assumes the issuance of common shares for all potentially
dilutive issuances of stock. The calculation for earnings per share for
the three month and six month periods ended July 31, 2002 and 2003 was
as follows:
8
Three Months ended
--------------------------------------------------------------------------------
July 31, 2002 July 31, 2003
------------------------------------ ------------------------------------
Net Per Share Net Per Share
Income Shares Amount Income Shares Amount
(In thousands, except per share data)
Basic EPS
Net Income $ 2,222 22,695 $ 0.10 $ 3,977 27,067 $ 0.15
======= =======
Effect of Dilutive
Securities
-----------------------
Stock Options 1,026 1,803
Convertible Note 137 137
------- ------ ------- ------
Diluted EPS $ 2,222 23,858 $ 0.09 $ 3,977 29,007 $ 0.14
----------- ======= ====== ======== ======= ====== =======
Six Months ended
--------------------------------------------------------------------------------
July 31, 2002 July 31, 2003
------------------------------------ ------------------------------------
Net Per Share Net Per Share
Income Shares Amount Income Shares Amount
(In thousands, except per share data)
Basic EPS
Net Income $ 3,929 20,827 $ 0.19 $ 7,489 25,408 $ 0.29
======= ========
Effect of Dilutive
Securities
---------------------------
Stock Options 1,300 1,612
Convertible Note 137 137
------- -------- ------- ------
Diluted EPS $ 3,929 22,264 $ 0.18 $ 7,489 27,157 $ 0.28
----------- ======= ======== ======= ======= ====== =======
9
7. Comprehensive Income
Total comprehensive income was approximately $1,958,000 and $3,451,000
for the three month periods ended July 31, 2002 and July 31, 2003,
respectively, and approximately $3,406,000 and $7,331,000 for the six
month periods ended July 31, 2002 and July 31, 2003, respectively. The
elements of comprehensive income include net income and foreign
currency translation adjustments.
8. Workforce Reduction, Restructuring and Impairment Charges
During the year ended January 31, 2002, the Company took steps to
better align its cost structure with the business environment, to
improve the efficiency of its operations and to increase its
profitability. These steps included reductions in the Company's
workforce and the consolidation of its facilities in the United
Kingdom, which were announced in April and December 2001.
As of July 31, 2003, the Company had accrued liabilities of
approximately $16,000 related to facilities consolidation costs. A
roll-forward of the accrued liabilities for the workforce reduction and
facilities consolidation costs from January 31, 2003 is as follows:
Accrual Accrual
Balance at Balance at
January 31, Cash July 31,
2003 Payments 2003
---- -------- ----
(In thousands)
Severance and related $ 26 $ 26 $ -
Facilities 189 173 16
---------- ---------- -----------
Total $ 215 $ 199 $ 16
========== ========== ===========
Severance and related costs consist primarily of severance payments to
terminated employees and fringe related costs associated with severance
payments, other termination costs and legal and consulting costs.
Facilities costs consist primarily of contractually obligated lease
liabilities and operating expenses related to facilities vacated in the
United Kingdom as a result of the facilities consolidation. The balance
of the facilities cost is expected to be paid by October 31, 2003.
10
9. Related Party Transactions and Balances
Corporate Services Agreement - The Company recorded expenses of
approximately $131,000 and $144,000 for the three month periods ended
July 31, 2002 and 2003, respectively, and $262,000 and $288,000 for the
six month periods ended July 31, 2002 and July 31, 2003, respectively,
for the services provided by the Company's parent, CTI, under the
Corporate Services Agreement between the Company and CTI.
Enterprise Resource Planning Software Sharing Agreement - The Company
recorded $25,000 for each of the three month periods ended July 31,
2002 and 2003, and $50,000 for each of the six month periods ended July
31, 2002 and 2003, for support services rendered by Comverse Ltd., a
subsidiary of CTI, under the Enterprise Resource Planning Software
Sharing Agreement between the Company and Comverse Ltd.
Satellite Services Agreement - The Company recorded expenses of
approximately $621,000 and $439,000 for the three month periods ended
July 31, 2002 and 2003, respectively, and $1,097,000 and $861,000, for
the six month periods ended July 31, 2002 and 2003, respectively, for
services rendered by Comverse, Inc., a subsidiary of CTI, and its
subsidiaries under the Satellite Services Agreement between the Company
and Comverse, Inc.
Transactions with an Affiliate -The Company sold products and services
to Verint Systems (Singapore) PTE LTD, an affiliated systems integrator
in which the Company holds a 50% equity interest, amounting to
approximately $431,000 and $1,523,000, during the three month periods
ended July 31, 2002 and 2003, respectively, and $500,000 and
$3,172,000, during the six month periods ended July 31, 2002 and July
31, 2003, respectively. In addition, the Company was charged with
installation, support, marketing and office service fees by that
affiliate amounting to approximately $96,000 and $128,000 for the three
month periods ended July 31, 2002 and 2003, respectively, and $211,000
and $330,000, for the six month periods ended July 31, 2002 and 2003,
respectively.
Transactions with Other Subsidiaries of CTI - The Company charges
subsidiaries of CTI for services relating to the use of the Company's
facilities and employees. Charges to these subsidiaries were
approximately $45,000 and $32,000 for the three month periods ended
July 31, 2002 and 2003, respectively, and $88,000 and $ 65,000 for the
six month periods ended July 31, 2002 and July 31, 2003, respectively.
The Company also purchased products and services from other
subsidiaries of CTI in the ordinary course of business. Purchases from
these subsidiaries were approximately $0 and $3,000 for the three month
periods ended July 31, 2002 and 2003, respectively, and $0 and $11,000
for the six month periods ended July 31, 2002 and 2003, respectively.
11
Related Party Balances - Related party balances included in the
condensed consolidated balance sheets are as follows (in thousands):
January 31, July 31,
2003 2003
---- ----
Included in accounts receivable, net $ 1,750 $ 3,074
======= =========
Included in accounts payable and
accrued expenses $ 1,157 $ 754
======= =========
10. Employee Stock Purchase Plan
The Company adopted its 2002 Employee Stock Purchase Plan, which was
amended and restated on May 22, 2003, under which all employees who
have completed three months of employment are entitled, through payroll
deductions of amounts up to 10% of their base salary, to purchase
shares of the Company's common stock at 85% of the lesser of the market
price at the offering commencement date or the offering termination
date. The number of shares available under this Employee Stock Purchase
Plan is 1,000,000, of which 59,288 had been issued as of July 31, 2003.
11. Acquisitions
In May 2003, the Company acquired all of the issued and outstanding
shares of Smartsight Networks Inc. ("Smartsight"), a Canadian
corporation that develops IP-based video edge devices and software for
wireless video transmission. The purchase price consisted of
approximately $7,144,000 in cash and 149,731 shares of the Company.
Shares issued as part of the purchase price were accounted for with a
value of approximately $3,063,000, or $20.46 per share. In connection
with this acquisition, the Company incurred transaction costs,
consisting primarily of professional fees amounting to approximately
$263,000.
The acquisition was accounted for using the purchase method. The
purchase price was allocated to the assets and liabilities of
Smartsight based on the estimated fair value of those assets and
liabilities as of May 2003. Identifiable intangible assets consist of
sales backlog, acquired technology, trade name, customer relationships
and non-competition agreements and have an estimated useful life of up
to five years. The results of operations of Smartsight have been
included in the Company's results of operations since May 2003.
The following is a summary of the allocation of the purchase price for
this acquisition:
12
(In thousands)
Purchase price $ 10,207
Acquisition costs 263
--------
Total purchase price $ 10,470
========
Fair value of net assets acquired $ 1,880
Identifiable intangible assets 2,077
Goodwill 6,513
--------
Total purchase price $ 10,470
========
Purchase price paid in cash $ 7,407
Shares issued 3,063
--------
Total purchase price $ 10,470
========
The summary unaudited pro forma condensed consolidated results of
operations, assuming the acquisition had occurred at the beginning of
the periods, would have reflected consolidated revenues of
approximately $39,548,000, net income of approximately $2,357,000,
basic earnings per share of $0.10 and diluted earnings per share of
$0.10 for the three months period ended July 31, 2002. For the six
month periods ended July 31, 2002 and 2003 the summary unaudited pro
forma condensed consolidated results of operations would have reflected
revenues of approximately $76,839,000 and $93,353,000, net income of
approximately $4,175,000 and $7,541,000, basic earnings per share of
$0.20 and $0.30 and diluted earnings per share of $0.19 and $0.28,
respectively. These pro forma results are not necessarily indicative of
what would have occurred if the acquisition had been in effect for the
periods presented. In addition, the pro forma results are not
necessarily indicative of the results that will occur in the future.
12. Business Segment Information
The Company is engaged in providing analytic solutions for
communications interception, digital video security and surveillance,
and enterprise business intelligence. The Company operates in one
business segment and manages its business on a geographic basis.
Summarized financial information for the Company's reportable
geographic segments is presented in the following table. Sales in each
geographic segment represents sales originating from that segment.
13
United United Reconciling Consolidated
States Israel Kingdom Other Items Totals
--------------------------------------------------------------------------------------
Three months ended
July 31, 2002: (In thousands)
--------------
Sales $ 20,408 $15,613 $4,388 $3,913 $(5,852) $ 38,470
Costs and expenses (19,466) (13,962) (4,859) (3,896) 5,945 (36,238)
--------------------------------------------------------------------------------------
Operating income (loss) $ 942 $ 1,651 $ (471) $ 17 $ 93 $ 2,232
======================================================================================
Three months ended
July 31, 2003:
--------------
Sales $ 22,622 $20,945 $6,076 $5,026 $(7,777) $ 46,892
Costs and expenses (20,509) (17,348) (7,267) (5,461) 7,826 (42,759)
------------------------------------------------------------------------------------
Operating income (loss) $ 2,113 $ 3,597 $(1,191) $ (435) $ 49 $ 4,133
====================================================================================
United United Reconciling Consolidated
States Israel Kingdom Other Items Totals
-----------------------------------------------------------------------------------
Six months ended
July 31, 2002: (In thousands)
--------------
Sales $ 40,715 $ 31,487 $ 11,581 $ 5,043 $(14,039) $ 74,787
Costs and expenses (39,598) (27,678) (11,247) (5,749) 13,792 (70,480)
-----------------------------------------------------------------------------------
Operating income (loss) $ 1,117 $ 3,809 $ 334 $ (706) $ (247) $ 4,307
===================================================================================
Six months ended
July 31, 2003:
--------------
Sales $ 43,794 $ 41,198 $ 12,140 $ 7,253 $(13,078) $ 91,307
Costs and expenses (39,927) (34,385) (13,043) (8,371) 12,051 (83,675)
------------------------------------------------------------------------------------
Operating income (loss) $ 3,867 $ 6,813 $ (903) $ (1,118) $ (1,027) $ 7,632
====================================================================================
Total Assets:
July 31, 2002 $110,024 $ 80,861 $ 12,441 $ 7,063 $ (17,327) $193,062
====================================================================================
July 31, 2003 $209,438 $ 96,144 $ 10,725 $ 20,310 $ (27,545) $309,072
====================================================================================
Reconciling items consist of the following:
Sales - elimination of inter-company revenues.
Operating income - elimination of inter-company operating income.
Total assets - elimination of inter-company receivables.and
inter-company profit included in certain assets.
14
13. Bank Loan
In February 2003, the Company repaid a bank loan of $42 million.
14. Effect of New Accounting Pronouncements
In August 2001, the Financial Accounting Standards Board ("FASB")
issued SFAS No. 143, "Accounting for Asset Retirement Obligations."
SFAS No. 143 establishes accounting standards for recognition and
measurement of a liability for an asset retirement obligation and the
associated asset retirement cost. SFAS No. 143 applies to legal
obligations associated with the retirement of a tangible long-lived
asset that result from the acquisition, construction, development
and/or normal operation of a long-lived asset. This Statement is
effective for fiscal years beginning after June 15, 2002. The adoption
of SFAS No. 143 did not have a material effect on the Company's
condensed consolidated financial statements.
In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB
Statements No. 4, 44 and 64, Amendment of FASB Statement No. 13, and
Technical Corrections." SFAS No. 145, among other things, rescinds SFAS
No. 4, which required all gains and losses from the extinguishments of
debt to be classified as an extraordinary item and amends SFAS No. 13
to require that certain lease modifications that have economic effects
similar to sale-leaseback transactions be accounted for in the same
manner as sale-leaseback transactions. The rescission of SFAS No. 4 is
effective for fiscal years beginning after May 15, 2002. The remainder
of the statement is generally effective for transactions occurring
after May 15, 2002. The adoption of SFAS No. 145 did not have a
material effect on the Company's condensed consolidated financial
statements.
In April 2003, the FASB issued SFAS No. 149, "Amendment of Statement
133 on Derivative Instruments and Hedging Activities." SFAS No.149
amends and clarifies accounting for derivative instruments, including
certain derivative instruments embedded in other contracts, and for
hedging activities under SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities." SFAS No. 149 is generally
effective for derivative instruments, including derivative instruments
embedded in certain contracts, entered into or modified after June 30,
2003 and for hedging relationships designated after June 30, 2003. The
adoption of SFAS No. 149 did not have a material effect on the
Company's condensed consolidated financial statements.
In May 2003, the FASB issued SFAS No. 150, "Accounting for Certain
Financial Instruments with Characteristics of both Liabilities and
Equity." SFAS No. 150 establishes standards for how to classify and
measure certain financial instruments with characteristics of both
liabilities and equity. The statement is effective for financial
instruments entered into or modified after May 31, 2003. The adoption
of SFAS No. 150 did not have a material effect on the Company's
condensed consolidated financial statements.
15
ITEM 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations.
RESULTS OF OPERATIONS
Six Month and Three Month Periods Ended July 31, 2003
Compared to Six Month and Three Month Periods Ended July 31, 2002
Sales. Sales for the six month and three month periods ended July 31, 2003
increased by approximately $16.5 million (22%) and $8.4 million (22%),
respectively, as compared to the six month and three month periods ended
July 31, 2002. This increase was attributable to a higher sales volume of
both product and services. Sales to international customers represented
approximately 53% and 52% of sales for the six month and three month periods
ended July 31, 2003 as compared to approximately 49% and 50% for the six
month and three month periods ended July 31, 2002.
Cost of Sales. Cost of sales for the six month and three month periods ended
July 31, 2003 increased by approximately $4.7 million (12%) and $2.4 million
(12%), respectively, as compared to the six month and three month periods
ended July 31, 2002. The increase in the six month and three month periods
ended July 31, 2003 is primarily attributable to an increase in salaries and
fringe benefits of approximately $1.7 million and $0.9 million,
respectively, an increase in materials and overhead costs of approximately
$1.4 million and $0.9 million, respectively, an increase in subcontractors
and consultants of approximately $0.7 million and $0.6 million,
respectively, and an increase in other operations costs of approximately
$0.9 million and $0.0 million, respectively. Gross margins increased to
approximately 53.3% and 53.6%, in the six month and three month periods
ended July 31, 2003, respectively, from approximately 49.3% and 49.6%, in
the six month and three month periods ended July 31, 2002, respectively.
Research and Development Expenses, net. Research and development expenses,
net, for the six month and three month periods ended July 31, 2003 increased
by approximately $2.9 million (36%), and $1.5 million (34%), respectively,
as compared to the six month and three month periods ended July 31, 2002.
This net increase was attributable to an increase in salaries and fringe
benefits of approximately $1.9 million and $1.2 million, respectively, a
decrease in government reimbursements of approximately $0.3 million and $0.3
million, respectively, and an increase in other research and development
expenses of $0.7 million and $0.0 million, respectively. Research and
development expenses, net, as a percentage of sales, increased to
approximately 12% for the six month and three month periods ended July 31,
2003 from approximately 11% for the six month and three month periods ended
July 31, 2002.
16
Selling, General and Administrative Expenses. Selling, general and
administrative expenses for the six month and three month periods ended July
31, 2003 increased by approximately $5.6 million (23%), and $2.7 million
(21%), respectively, as compared to the six month and three month periods
ended July 31, 2002. This increase was attributable to an increase in
salaries and fringe benefits, primarily to sales and marketing personnel,
amounting to approximately $2.5 million and $1.9 million, respectively, an
increase (decrease) in agent commissions of approximately $0.8 million and
($0.4) million, respectively, an increase in subcontractors and consultants
of approximately $0.8 million and $0.5 million, respectively, an increase
(decrease) in bad debt expenses of approximately $0.5 million and ($0.1)
million, respectively, and an increase in other selling, general and
administrative expenses of approximately $1.0 million and $0.8 million,
respectively. Selling, general and administrative expenses as a percentage
of sales remained approximately 33% for the six month and three month
periods ended July 31, 2003 and July 31, 2002.
Interest and Other Income, net. Net interest and other income for the six
month and three month periods ended July 31, 2003 increased (decreased) by
approximately $0.3 million and ($0.1) million, respectively, as compared to
the six month and three month periods ended July 31, 2002. The increase of
approximately $0.3 million for the six month period ended July 31, 2003 as
compared to the six month period ended July 31, 2002, was attributable to an
increased interest income of approximately $0.3 million, decreased interest
expense of approximately $0.4 million, increased gains from the Company's
share in the profit of an affiliate of approximately $0.5 million and
decreased other expense of approximately $0.8 million mainly due to a
write-down of certain investment in the six month period ended July 31,
2002. These changes were offset by decreased foreign currency gains of
approximately $1.7 million. The decrease of approximately $0.1 million for
the three month period ended July 31, 2003, as compared to the three month
period ended July 31, 2002, was attributable to decreased foreign currency
gains of approximately $1.0 million offset by decreased interest expense of
approximately $0.3 million and decreased other expense of approximately $0.6
million mainly due to a write-down of certain investment in the three month
period ended July 31, 2002.
Income Tax Provision. Income tax provision for the six month and three month
periods ended July 31, 2003, did not substantially change as compared to the
six month and three month periods ended July 31, 2002. The overall effective
tax rate decreased to approximately 13%, for the six month and three month
periods ended July 31, 2003, from approximately 21% and 20% for the six
month and three month periods ended July 31, 2002. The decreased effective
tax rate is mainly attributable to preferential tax rates in Israel and to
the use of net operating losses carry forwards in certain tax jurisdictions.
Net Income. Net income for the six month and three month periods ended July
31, 2003 increased by approximately $3.6 million (91%) and $1.8 million
(79%), respectively, as compared to the six month and three month periods
ended July 31, 2002. As a percentage of sales, net income was approximately
8.2% and 8.5% in the six month and three month periods ended July 31, 2003,
respectively, as compared to approximately 5.3% and 5.8% in the six month
and three month periods ended July 31, 2002, respectively. The increase
resulted primarily from the factors described above.
17
LIQUIDITY AND CAPITAL RESOURCES
As of July 31, 2003, the Company had cash and cash equivalents of approximately
$216.7 million and working capital of approximately $193.9 million, including
net proceeds of approximately $122.2 million, following the completion of the
Company's public offering in June 2003. As of January 31, 2003, the Company had
cash and cash equivalents of approximately $133.9 million and working capital of
$69.3 million.
Operating activities for the six month periods ended July 31, 2002 and 2003,
after adjustment for non-cash items, provided cash of approximately $8.1
million, and $12.8 million, respectively. Other changes in operating assets and
liabilities provided (used) cash of approximately $10.0 million and ($1.4)
million for the six month periods ended July 31, 2002 and 2003, respectively.
This resulted in cash provided by operating activities of approximately $18.1
million and $11.4 million for the six month periods ended July 31, 2002 and
2003, respectively.
Investing activities for the six month periods ended July 31, 2002 and 2003,
used cash of approximately $14.4 million and $11.3 million, respectively. For
the six month period ended July 31, 2002 these amounts include cash paid for a
business combination of approximately $9.7 million, purchase of property and
equipment of approximately $2.2 million, and capitalization of software
development costs of approximately $2.5 million. For the six month period ended
July 31, 2003 these amounts include net cash paid for a business combination of
approximately $6.1 million, purchase of property and equipment of approximately
$3.0 million and capitalization of software development costs of approximately
$2.2 million.
Financing activities for the six month periods ended July 31, 2002 and 2003,
provided cash of approximately $65.6 million and $82.7 million, respectively.
For the six month periods ended July 31, 2002 and 2003 net proceeds from the
issuances of common stock in connection with the Company's public offering of
common stock in May 2002 and June 2003, the exercise of stock options, and
shares issued from the employee stock purchase plan provided cash of
approximately $65.6 million and $125.2 million, respectively. Net repayments of
bank loans and other debt used cash of approximately $42.5 million in the six
month period ended July 31, 2003.
In February 2002, the Company's wholly owned subsidiary, Loronix, acquired the
digital video recording business of Lanex, LLC. The Lanex business provides
digital video recording solutions for security and surveillance applications.
The purchase price consisted of approximately $9.5 million in cash and a $2.2
million convertible note issued by the Company to Lanex. The note is
non-interest bearing and matures on February 1, 2004. The holders of the note
may elect to convert the note, in whole or in part, into shares of the Company's
common stock at a conversion price of $16.06 per share. The note is guaranteed
by CTI.
18
In May 2003, the Company acquired all of the issued and outstanding shares of
Smartsight Networks Inc. ("Smartsight"), a Canadian corporation that develops
IP-based video edge devices and software for wireless video transmission. The
purchase price consisted of approximately $7.1 million in cash and 149,731
shares of the Company with a value of approximately $3.1 million.
In June 2003, the Company completed a public offering of 5,750,000 shares of its
common stock at a price of $23.00 per share. The shares offered included 149,731
shares issued to Smartsight Networks Inc.'s former shareholders in connection
with its acquisition. The net proceeds of the offering to the Company were
approximately $122.2 million. The Company intends to use the net proceeds of
that offering to finance the growth of its business and for general corporate
purposes. The Company may also use a portion of the proceeds for acquisitions or
other investments.
The Company believes that its current cash balances and potential cash flows
from operations, will be sufficient to meet the Company's anticipated cash needs
for working capital, capital expenditures and other activities for at least the
next 12 months. If current sources are not sufficient to meet the Company's
needs, the Company may seek additional debt or equity financing. Although there
is no present understanding, commitment or agreement with respect to any
acquisition of other businesses, products, or technologies, the Company may in
the future consider such transactions, which may require additional debt or
equity financing and could result in a decrease of the Company's working
capital and have a dilutive impact on the Company's stockholders. There can be
no assurance that such additional financing would be available on acceptable
terms, if at all.
CERTAIN TRENDS AND UNCERTAINTIES
The Company's primary business is providing analytic solutions for
communications interception, digital video security and surveillance, and
enterprise business intelligence. Recent legislative and regulatory actions have
provided greater surveillance powers to law enforcement agencies, imposed strict
requirements on communications service providers to facilitate interception of
communications over public networks, and increased the security measures being
implemented at public facilities such as airports. However, the Company cannot
be assured that these legislative and regulatory actions will result in
increased demand for or purchasing of solutions such as those offered by the
Company or, if it does, that such solutions will be purchased from the Company.
If demand for or purchasing of the Company's solutions does not increase as
anticipated, the Company may not be able to sustain or increase profitability on
a quarterly or annual basis.
The market for the Company's enterprise business intelligence products has been
adversely affected by the global economic slowdown and the decline in
information technology spending, which has caused many companies to reduce or,
in extreme cases, eliminate altogether, information technology spending. If the
Company's customers do not increase their spending on information technology or
if such spending declines, its revenues from sales of its enterprise business
intelligence products may decrease. The information technology spending of its
customers in the near term remains uncertain and the Company is uncertain
whether it will be able to increase or maintain its revenues. Although the
Company was profitable for fiscal 2002 and for the first two quarters of fiscal
2003, it has incurred operating and net losses every other year since 1997. If
sales do not increase as anticipated or if expenses increase at a greater pace
than revenues, the Company may not be able to sustain or increase profitability
on a quarterly or annual basis.
19
It is difficult for the Company to forecast the timing of revenues from product
sales because customers often need a significant amount of time to evaluate its
products before purchasing them and, in the case of governmental customers,
sales are dependent on budgetary and other bureaucratic processes. The period
between initial customer contact and a purchase by a customer may vary from
three months to more than one year. During the evaluation period, customers may
defer or scale down proposed orders of the Company's products for various
reasons, including: (i) changes in budgets and purchasing priorities; (ii)
reduced need to upgrade existing systems; (iii) deferrals in anticipation of
enhancements or new products; (iv) introduction of products by its competitors;
and (v) lower prices offered by its competitors.
The Company derives a significant amount of its revenues from various government
contracts worldwide. The Company expects that government contracts will continue
to be a significant source of its revenues for the foreseeable future. The
Company's business generated from government contracts may be materially and
adversely affected if: (i) its reputation or relationship with government
agencies is impaired; (ii) it is suspended or otherwise prohibited from
contracting with a domestic or foreign government or any significant law
enforcement agency; (iii) levels of government expenditures and authorizations
for law enforcement and security related programs decrease, remain constant or
shift to programs in areas where it does not provide products and services; (iv)
it is prevented from entering into new government contracts or extending
existing government contracts based on violations or suspected violations of
laws or regulations, including those related to procurement; (v) it is not
granted security clearances that are required to sell its products to domestic
or foreign governments or such security clearances are revoked; or (vi) there is
a change in government procurement procedures.
The Company's quarterly operating results are difficult to predict and may
fluctuate significantly in the future, which in turn may result in volatility in
its stock price. The following factors, among others, many of which are outside
its control, can cause fluctuations in operating results and stock price
volatility: (i) the size, timing, terms and conditions of orders from and
shipments to its customers; (ii) unanticipated delays or problems in releasing
new products; (iii) the timing and success of its customers' deployment of its
products and services; and (iv) the amount and timing of its investments in
research and development activities.
The deferral or loss of one or more significant sales could materially and
adversely affect the Company's operating results in any fiscal quarter,
particularly if there are significant sales and marketing expenses associated
with the deferred or lost sales. The Company bases its current and future
expense levels on its internal operating plans and sales forecasts, and its
operating costs are, to a large extent, fixed. As a result, the Company may not
be able to sufficiently reduce its costs in any quarter to compensate for an
unexpected near-term shortfall in revenues.
20
The markets for the Company's digital security and surveillance and enterprise
business intelligence products are still emerging. The Company's growth is
dependent on, among other things, the size and pace at which the markets for its
products develop. If the markets for its products decrease, remain constant or
grow slower than the Company anticipates, the Company will not be able to
maintain its growth. Continued growth in the demand for the Company's products
is uncertain as, among other reasons, its existing customers and potential
customers may: (i) not achieve a return on their investment in its products;
(ii) experience technical difficulty in utilizing its products; or (iii) use
alternative solutions to achieve their security, intelligence or business
objectives. In addition, as the Company's enterprise business intelligence
products are sold primarily to contact centers, slower than anticipated growth
or a contraction in the number of contact centers will have a material adverse
effect on the Company's ability to maintain its growth.
The markets for the Company's products are characterized by rapidly changing
technology and evolving industry standards. The introduction of products
embodying new technology and the emergence of new industry standards can render
the Company's existing products obsolete and unmarketable and can exert price
pressures on existing products. It is critical to the Company's success for it
to be able to anticipate changes in technology or in industry standards and to
successfully develop and introduce new, enhanced and competitive products on a
timely basis. The Company cannot be assured that it will successfully develop
new products or introduce new applications for existing products, that new
products and applications will achieve market acceptance or that the
introduction of new products or technological developments by its competitors
will not render its products obsolete. The Company's inability to develop
products that are competitive in technology and price and meet customer needs
could have a material adverse effect on its business, financial condition and
results of operations.
The global market for analytical solutions for security and business
applications is intensely competitive, both in the number and breadth of
competing companies and products and the manner in which products are sold. For
example, the Company often competes for customer contracts through a competitive
bidding process that subjects it to risks associated with: (i) the frequent need
to bid on programs in advance of the completion of their design, which may
result in unforeseen technological difficulties and cost overruns; and (ii) the
substantial time and effort, including design, development and marketing
activities, required to prepare bids and proposals for contracts that may not be
awarded to the Company.
The Company's competitors may be able to develop more quickly or adapt faster to
new or emerging technologies and changes in customer requirements, or devote
greater resources to the development, promotion and sale of their products. Some
of the Company's competitors have, in relation to it, longer operating
histories, larger customer bases, longer standing relationships with customers,
greater name recognition and significantly greater financial, technical,
marketing, customer service, public relations, distribution and other resources.
New competitors continue to emerge and there continues to be consolidation among
existing competitors which may reduce the Company's market share. In addition,
some of the Company's customers may in the future decide to develop internally
their own solutions instead of purchasing them from the Company. Increased
competition could force the Company to lower its prices or take other actions to
differentiate its products.
21
Many of the Company's government contracts contain provisions that give the
governments party to those contracts rights and remedies not typically found in
private commercial contracts, including provisions enabling the governments to:
(i) terminate or cancel existing contracts for convenience; (ii) in the case of
the U.S. government, suspend it from doing business with a foreign government or
prevent it from selling its products in certain countries; (iii) audit and
object to its contract-related costs and expenses, including allocated indirect
costs; and (iv) change specific terms and conditions in its contracts, including
changes that would reduce the value of its contracts. In addition, many
jurisdictions have laws and regulations that deem government contracts in those
jurisdictions to include these types of provisions, even if the contract itself
does not contain them. If a government terminates a contract with the Company
for convenience, the Company may not recover its incurred or committed costs,
any settlement expenses or profit on work completed prior to the termination. If
a government terminates a contract for default, the Company may not recover
those amounts, and, in addition, it may be liable for any costs incurred by a
government in procuring undelivered items and services from another source.
The Company must comply with domestic and foreign laws and regulations relating
to the formation, administration and performance of government contracts. These
laws and regulations affect how the Company does business with government
agencies in various countries and may impose added costs on its business. For
example, in the United States the Company is subject to the Federal Acquisition
Regulations, which comprehensively regulate the formation, administration and
performance of federal government contracts, and to the Truth in Negotiations
Act, which requires certification and disclosure of cost and pricing data in
connection with contract negotiations. The Company is subject to similar
regulations in foreign countries as well.
If a government review or investigation uncovers improper or illegal activities,
the Company may be subject to civil and criminal penalties and administrative
sanctions, including termination of contracts, forfeiture of profits, suspension
of payments, fines and suspension or debarment from doing business with
government agencies, which could materially and adversely affect its business,
financial condition and results of operations. In addition, a government may
reform its procurement practices or adopt new contracting rules and regulations
that could be costly to satisfy or that could impair the Company's ability to
obtain new contracts.
The Company's subsidiary, Verint Technology Inc. ("Verint Technology") which
markets, sells and supports its communications interception solutions to various
U.S. government agencies, is required by the National Industrial Security
Program to maintain facility security clearances and to be insulated from
foreign ownership, control or influence. To comply with the National Industrial
Security Program requirements, in January 1999 the Company, Verint Technology,
Comverse Technology and the Department of Defense entered into a proxy agreement
with respect to the ownership and operations of Verint Technology, which
agreement was superceded in May 2001 to comply with the Department of Defense's
most recent requirements. Under the proxy agreement, the Company, among other
things, appointed three individuals who are U.S. citizens holding the requisite
security clearances as holders of proxies to vote the Verint Technology stock.
The proxy holders have the power to exercise all prerogatives of ownership of
Verint Technology. These three individuals are responsible for the oversight of
Verint Technology's security arrangements.
22
The proxy agreement may be terminated and Verint Technology's facility security
clearance may be revoked in the event of a breach of the proxy agreement, or if
it is determined by the Department of Defense that termination is in the
national interest. If Verint Technology's facility security clearance is
revoked, the Company may lose all or a substantial portion of its sales to U.S.
government agencies and its business, financial condition and results of
operations would be harmed.
As the communications industry continues to evolve, governments may increasingly
regulate products that monitor and record voice, video and data transmissions
over public communications networks, such as the Company's solutions. For
example, products which the Company sells in the United States to law
enforcement agencies and which interface with a variety of wireline, wireless
and Internet protocol networks, must comply with the technical standards
established by the Federal Communications Commission pursuant to the
Communications Assistance for Law Enforcement Act and products that it sells in
Europe must comply with the technical standards established by the European
Telecommunications Standard Institute. The adoption of new laws governing the
use of the Company's products or changes made to existing laws could cause a
decline in the use of its products and could result in increased expenses for
the Company, particularly if it is required to modify or redesign its products
to accommodate these new or changing laws.
The Company is required to obtain export licenses from the Israeli and German
governments to export some of its products that it develops or manufactures in
these countries. The Company cannot be assured that it will be successful in
obtaining or maintaining the licenses and other authorizations required to
export its products from applicable governmental authorities. The Company's
failure to receive or maintain any required export license or authorization
would hinder its ability to sell its products and could materially and adversely
affect its business, financial condition and results of operations.
The Company's ability to achieve revenue growth depends to some extent on adding
new partners to expand its sales channels, as well as leveraging its
relationships with existing partners. If the Company's relationships with these
value added resellers, systems integrators and strategic and technology partners
deteriorate or terminate, the Company may lose important sales and marketing
opportunities.
As part of the Company's growth strategy, it intends to pursue new strategic
alliances. The Company considers and engages in strategic transactions from time
to time and may be evaluating alliances or joint ventures at any time. The
Company competes with other analytic solution providers for these opportunities.
The Company cannot be assured that it will be able to effect these transactions
on commercially reasonable terms or at all. If the Company enters into these
transactions, it also cannot be sure that it will realize the benefits it
anticipates.
23
The Company's products involve sophisticated hardware and software technology
that performs critical functions to highly demanding standards. The Company
cannot be assured that current or future products will not develop operational
problems, which could have a material adverse effect on it. The Company offers
complex products that may contain undetected defects or errors, particularly
when first introduced or as new versions are released. The Company may not
discover such defects or errors until after a product has been released and used
by the customer. Significant costs may be incurred to correct undetected defects
or errors in the Company's products and these defects or errors could result in
future lost sales. In addition, defects or errors in the Company's products may
result in product liability claims, which could cause adverse publicity and
impair their market acceptance.
The Company incorporates in the vast majority of its products software that it
licenses from third parties. If the Company loses or is unable to maintain any
software licenses, it could incur additional costs or experience unexpected
delays until equivalent software can be developed or licensed and integrated
into its products.
While the Company occasionally files patent applications, it cannot be assured
that patents will be issued on the basis of such applications or that, if such
patents are issued, they will be sufficiently broad to protect its technology.
In addition, the Company cannot be assured that any patents issued to it will
not be challenged, invalidated or circumvented.
In order to safeguard its unpatented proprietary know-how, trade secrets and
technology, the Company relies primarily upon trade secret protection and
non-disclosure provisions in agreements with employees and others having access
to confidential information. The Company cannot be assured that these measures
will adequately protect it from improper disclosure or misappropriation of its
proprietary information.
The Company's products are often used by customers to compile and analyze highly
sensitive or confidential information and data. The Company may come into
contact with such information or data when it performs support or maintenance
functions for its customers. While it has internal policies, procedures and
training for employees in connection with performing these functions, even the
perception that any of its employees has improperly handled sensitive or
confidential information and data of a customer could harm its reputation and
could inhibit market acceptance of its products.
While the Company implements sophisticated security measures, third parties may
attempt to breach its security or inappropriately use its products through
computer viruses, electronic break-ins and other disruptions. If successful,
confidential information, including passwords, financial information, or other
personal information may be improperly obtained and the Company may be subject
to lawsuits and other liability. Even if the Company is not held liable, such
security breaches could harm its reputation, and even the perception of security
risks, whether or not valid, could inhibit market acceptance of its products.
24
The information technology industry is characterized by frequent allegations of
intellectual property infringement. In the past, third parties have asserted
that certain of the Company's products infringe their intellectual property and
similar claims may be made in the future. Any allegation of infringement against
the Company could be time consuming and expensive to defend or resolve, result
in substantial diversion of management resources, cause product shipment delays,
or force it to enter into royalty or license agreements rather than dispute the
merits of such allegation. If patent holders or other holders of intellectual
property initiate legal proceedings against the Company, it may be forced into
protracted and costly litigation. The Company may not be successful in defending
such litigation and it may not be able to procure any required royalty or
license agreements on terms acceptable to it, or at all.
The Company generally indemnifies its customers with respect to infringement by
its products of the proprietary rights of third parties. Third parties may
assert infringement claims against the Company's customers. These claims may
require the Company to initiate or defend protracted and costly litigation,
regardless of the merits of these claims. If any of these claims succeed, the
Company may be forced to pay damages or may be required to obtain licenses for
the products its customers use. If the Company cannot obtain all necessary
licenses on commercially reasonable terms, its customers may be forced to stop
using, or, in the case of value added resellers, selling, its products.
Although the Company generally uses standard parts and components in its
products, it does use some non-standard parts and equipment. The Company relies
on non-affiliated suppliers for the supply of certain standard and non-standard
components and on manufacturers of assemblies that are incorporated in all of
its products. The Company does not have long term supply or manufacturing
agreements with all of these suppliers and manufacturers. If these suppliers or
manufacturers experience financial, operational, manufacturing capacity or
quality assurance difficulties, or if there is any other disruption in its
relationships with these suppliers or manufacturers, the Company will be
required to locate alternative sources of supply. The Company's inability to
obtain sufficient quantities of these components, if and as required in the
future, entails the following risks: (i) delays in delivery or shortages in
components could interrupt and delay manufacturing and result in cancellations
of orders for its products; (ii) alternative suppliers could increase component
prices significantly and with immediate effect; (iii) it may not be able to
develop alternative sources for product components; (iv) it may be required to
modify its products, which may cause delays in product shipments, increased
manufacturing costs and increased product prices; and (v) it may be required to
hold more inventory than it otherwise might in order to avoid problems from
shortages or discontinuance.
In May 2003, the Company acquired SmartSight. If the Company is unable to
successfully integrate SmartSight with its business, it may be unable to realize
the anticipated benefits of this acquisition. The Company may experience
technical difficulties that could delay the integration of SmartSight's products
into the Company's solutions, resulting in business disruptions.
25
The Company may in the future pursue acquisitions of businesses, products and
technologies, or the establishment of joint venture arrangements. The
negotiation of potential acquisitions or joint ventures as well as the
integration of an acquired or jointly developed business, technology or product
could result in a substantial diversion of management resources. Future
acquisitions could result in potentially dilutive issuances of equity
securities, the incurrence of debt and contingent liabilities, amortization of
certain identifiable intangible assets, research and development write-offs and
other acquisition-related expenses. These investments may be made in immature
businesses with unproven track records and technologies. Such investments have a
high degree of risk, with the possibility that the Company may lose the total
amount of its investments, or more than its total investment if such businesses
have liabilities not identified by the Company. The Company may not be able to
identify suitable investment candidates, and, even if it does, it may not be
able to make those investments on acceptable terms, or at all. In addition, the
Company also may fail to successfully integrate acquired businesses with its
operations or successfully realize the intended benefits of any acquisition. Due
to rapidly changing market conditions, the Company may find the value of its
acquired technologies and related intangible assets, such as goodwill, as
recorded in its financial statements, to be impaired, resulting in charges to
operations. The Company may also fail to retain the acquired or merged company's
key employees and customers.
The Company depends on the continued services of its executive officers and
other key personnel. In addition, the Company may need to attract and retain a
substantial number of new employees, particularly sales and marketing personnel
and technical personnel, who understand and have experience with its products
and services. If the Company is unable to attract and retain qualified
employees, its ability to grow could be impaired. Competition for personnel for
certain positions in the Company's industry is intense, and in the past the
Company has experienced difficulty in recruiting qualified personnel due to the
market demand for their services. The Company has also experienced difficulty in
locating qualified candidates within desired geographic locations and on
occasion it has had to relocate personnel to fill positions in locations where
it could not attract qualified experienced personnel.
The Company conducts significant sales and research and development operations
in foreign countries, including Israel, Germany, the United Kingdom and Canada,
and it intends to continue to expand its operations internationally. The
Company's business may suffer if it is unable to successfully expand and
maintain foreign operations. The Company's foreign operations are, and any
future foreign expansion will be, subject to a variety of risks, many of which
are beyond its control, including risks associated with: (i) foreign currency
fluctuations; (ii) customizing products for foreign countries; (iii) political
and economic instability in foreign countries; (iv) potentially adverse tax
consequences of operating in foreign countries; (v) legal uncertainties
regarding liability, export and import restrictions, tariffs and other trade
barriers; (vi) compliance with local laws and regulations, including labor laws,
employee benefits, currency restrictions and other requirements; (vii) hiring
qualified foreign employees; and (viii) difficulty in accounts receivable
collection and longer collection periods.
To date, most of the Company's sales have been denominated in U.S. dollars,
while a significant portion of its expenses, primarily labor expenses in Israel,
Germany, the United Kingdom and Canada, are incurred in the local currencies of
these countries. As a result, the Company is exposed to the risk that
fluctuations in the value of these currencies relative to the U.S. dollar could
increase the dollar cost of its operations in Israel, Germany, the United
Kingdom and Canada, and would therefore have a material adverse effect on its
results of operations.
26
In addition, since a portion of the Company's sales are made in foreign
currencies, primarily the British pound and the Euro, fluctuation in the value
of these currencies relative to the U.S. dollar could decrease its revenues and
materially and adversely affect its results of operations. In addition, the
Company's costs of operations have at times been negatively affected by changes
in the cost of its operations in Israel, resulting from changes in the value of
the New Israeli Shekel relative to the U.S. dollar.
Since the establishment of the State of Israel in 1948, a number of armed
conflicts have taken place between Israel and its Arab neighbors, and the
continued state of hostility, varying in degree and intensity, has led to
security and economic problems for Israel. While Israel has signed peace accords
with both Egypt and Jordan, since October 2000, there has been a significant
increase in violence, primarily in the West Bank and Gaza Strip, and more
recently Israel has experienced terrorist incidents within its borders. During
this period, negotiations between Israel and representatives of the Palestinian
Authority have been sporadic and have failed to result in peace. The Company
could be materially and adversely affected by hostilities involving Israel, the
interruption or curtailment of trade between Israel and its trading partners, or
a significant downturn in the economic or financial condition of Israel. In
addition, the sale of products manufactured in Israel may be materially and
adversely affected in certain countries by restrictive laws, policies or
practices directed toward Israel or companies having operations in Israel. The
continuation or exacerbation of violence in Israel or the outbreak of violent
conflicts involving Israel may impede the Company's ability to sell its products
and may otherwise materially and adversely affect it.
In addition, many of the Company's Israeli employees are required to perform
annual compulsory military reserve duty in Israel and are subject to being
called to active duty at any time under emergency circumstances. The absence of
these employees may have a material adverse effect on the Company's operations.
The Company receives conditional grants from the Government of Israel through
the Office of the Chief Scientist of the Ministry of Industry and Trade, or the
OCS, for the financing of a portion of its research and development expenditures
in Israel. As of July 31, 2003, the Company had received approximately $__
million in cumulative grants from the OCS. The terms of these conditional grants
limit the Company's ability to manufacture products, and prohibit it from
transferring technologies, outside of Israel if such products or technologies
were developed using these grants. Even if the Company receives approval to
manufacture products developed using these conditional grants outside of Israel,
it may be required to pay a significantly increased amount of royalties on an
accelerated basis to the Government of Israel, depending on the manufacturing
volume that is performed outside of Israel. This restriction may impair the
Company's ability to outsource manufacturing or engage in similar arrangements
for those products or technologies. In addition, if the Company fails to comply
with any of the conditions imposed by the OCS, it may be required to refund any
grants previously received together with interest and penalties, and it may be
subject to criminal charges. In recent years, the Government of Israel has
accelerated the rate of repayment of OCS grants and may further accelerate them
in the future. The Company currently pays royalties of between 3% and 5% (or 6%
under certain circumstances) of associated product revenues (including service
and other related revenues) to the Government of Israel for repayment of
benefits received under this program. As of July 31, 2003, the Company had
recorded approximately $__ million in cumulative royalties to the OCS. Such
royalty payments by the Company are currently required to be made until the
government has been reimbursed the amounts received by it, linked to the U.S.
dollar, plus, for amounts received under projects approved by the OCS after
January 1, 1999, interest on such amounts at a rate equal to the 12-month LIBOR
rate in effect on January 1 of the year in which approval is obtained. Further,
the Government of Israel has reduced the benefits available under these programs
in recent years and these programs may be discontinued or curtailed in the
future. In addition, the Company expects that OCS grants as a percentage of its
consolidated research and development expenses will decrease in future periods
due to an expected increase in the portion of research and development
activities that will not be reimbursed by the OCS and an expected increase in
research and development activities outside of Israel. The continued reduction
in these benefits or the termination of the Company's eligibility to receive
these benefits may materially and adversely affect the Company's business,
financial condition and results of operations.
27
The Company's investment programs in manufacturing equipment and leasehold
improvements at its facility in Israel have been granted approved enterprise
status and it is therefore eligible for tax benefits under the Israeli Law for
Encouragement of Capital Investments. The Government of Israel may reduce or
eliminate the tax benefits available to approved enterprise programs such as the
programs provided to the Company. The Company cannot be assured that these tax
benefits will be continued in the future at their current levels or at all. If
these tax benefits are reduced or eliminated, the amount of taxes that the
Company pays in Israel will increase. In addition, if the Company fails to
comply with any of the conditions and requirements of the investment programs,
the tax benefits it has received may be rescinded and it may be required to
refund the amounts it received as a result of the tax benefits, together with
interest and penalties.
CTI beneficially owns a majority of the Company's outstanding shares of common
stock. Consequently, CTI effectively controls the outcome of all matters
submitted for stockholder action, including the composition of the Company's
board of directors and the approval of significant corporate transactions.
Through its representation on the Company's board of directors, CTI has a
controlling influence on the Company's management, direction and policies,
including the ability to appoint and remove its officers. As a result, CTI may
cause the Company to take actions which may not be aligned with the Company's
interests or those of its other stockholders. For example, Comverse Technology
may prevent or delay any transaction involving a change in control or in which
stockholders might receive a premium over the prevailing market price for their
shares.
The Company receives insurance, legal and certain administrative services from
CTI under a corporate services agreement. The Company's enterprise resource
planning software is maintained and supported by Comverse, Ltd., a subsidiary of
CTI, under an enterprise resource planning software sharing agreement. The
Company also obtains personnel and facility services from Comverse, Inc. under a
satellite services agreement. If these agreements are terminated, the Company
may be required to obtain similar services from other entities or,
alternatively, it may be required to hire qualified personnel and incur other
expenses to obtain these services. The Company may not be able to hire such
personnel or to obtain comparable services at prices and on terms as favorable
as it currently has under these agreements.
28
The Company has entered into a business opportunities agreement with CTI that
addresses potential conflicts of interest between CTI and the Company. This
agreement allocates between CTI and the Company opportunities to pursue
transactions or matters that, absent such allocation, could constitute corporate
opportunities of both companies. As a result, the Company may lose valuable
business opportunities. In general, the Company is precluded from pursuing
opportunities offered to officers or employees of CTI who may also be its
directors, officers or employees unless CTI fails to pursue these opportunities.
Six of the Company's thirteen directors are officers and/or directors or
employees of CTI, or otherwise affiliated with CTI. These directors have
fiduciary duties to both companies and may have conflicts of interest on matters
affecting both the Company and CTI and in some circumstances may have interests
adverse to the Company. The Company's Chairman, Kobi Alexander, is the chairman
of CTI. This position with CTI imposes significant demands on Mr. Alexander's
time and presents potential conflicts of interest.
Prior to the Company's initial public offering in May 2002, it was included in
the CTI consolidated group for federal income tax purposes and did not file its
own federal income tax return. Following the Company's initial public offering,
it ceased to be included in the CTI consolidated group for federal income tax
purposes. To the extent CTI or other members of the group fail to make any
federal income tax payments required of them by law in respect of years for
which CTI filed a consolidated federal income tax return which included the
Company, the Company would be liable for the shortfall. Similar principles apply
for state income tax purposes in many states. In addition, by virtue of its
controlling ownership and its tax sharing agreement with the Company, CTI
effectively controls all of the Company's tax decisions for periods ending prior
to the completion of its initial public offering. For periods during which the
Company was included in the CTI consolidated group for federal income tax
purposes, CTI has sole authority to respond to and conduct all federal income
tax proceedings and audits relating to the Company, to file all federal income
tax returns on its behalf and to determine the amount of its liability to, or
entitlement to payment from, CTI under its tax sharing agreement. Despite this
agreement, federal law provides that each member of a consolidated group is
liable for the group's entire tax obligation and the Company could, under
certain circumstances, be liable for taxes of other members of the CTI
consolidated group.
The trading price of the Company's shares of common stock has been affected by
the factors disclosed in this section as well as prevailing economic and
financial trends and conditions in the public securities markets. Share prices
of companies in technology-related industries, such as the Company's, tend to
exhibit a high degree of volatility. The announcement of financial results that
fall short of the results anticipated by the public markets could have an
immediate and significant negative effect on the trading price of the Company's
shares in any given period. Such shortfalls may result from events that are
beyond the Company's immediate control, can be unpredictable and, since a
significant proportion of its sales during each fiscal quarter tend to occur in
the latter stages of the quarter, may not be discernible until the end of a
financial reporting period. These factors may contribute to the volatility of
the trading value of the Company's shares regardless of its long-term prospects.
The trading price of the Company's shares may also be affected by developments,
including reported financial results and fluctuations in trading prices of the
shares of other publicly-held companies in its industry generally, and its
business segment in particular, which may not have any direct relationship with
its business or prospects.
29
In the past, securities class action litigation has often been brought against a
company following periods of volatility in the market price of its securities.
The Company could be the target of similar litigation in the future. Securities
litigation could result in the expenditure of substantial costs, divert
management's attention and resources, harm the Company's reputation in the
industry and the securities markets and reduce its profitability.
Terrorist attacks and other acts of war, and any response to them, may lead to
armed hostilities and such developments would likely cause instability in
financial markets. Armed hostilities and terrorism may directly impact the
Company's facilities, personnel and operations which are located in the United
States, Israel, Europe, the Far East, Australia and South America, as well as
those of its clients. Furthermore, severe terrorist attacks or acts of war may
result in temporary halts of commercial activity in the affected regions, and
may result in reduced demand for its products. These developments could have a
material adverse effect on the Company's business and the trading price of its
common stock.
The Company's board of directors' ability to designate and issue up to 2,500,000
shares of preferred stock and to issue additional shares of common stock could
adversely affect the voting power of the holders of common stock, and could have
the effect of making it more difficult for a person to acquire, or could
discourage a person from seeking to acquire, control of the Company. If this
occurs, investors could lose the opportunity to receive a premium on the sale
of their shares in a change of control transaction.
FORWARD-LOOKING STATEMENTS
The Company may include forward-looking statements in its periodic reports to
the Securities and Exchange Commission on Forms 10-K, 10-Q, and 8-K, in its
annual report to stockholders, in its proxy statements, in its Registration
Statement on Form S-3 filed with the Securities and Exchange Commission, in its
press releases, in other written materials, and in statements made by employees
to analysts, investors, representatives of the media, and others.
Forward-looking statements include information concerning the Company's possible
or assumed future results of operations, business strategies, financing plans,
competitive position, potential growth opportunities and the effects of
competition and regulation. Forward-looking statements include all statements
that are not historical facts. These statements can be identified by the use of
forward-looking terminology, such as the words "believes," "expects,"
"anticipates," "intends," "plans," "estimates," "may" or "might" or other
similar expressions.
30
Forward-looking statements involve significant risks, uncertainties and
assumptions. Although the Company believes that the expectations reflected in
the forward-looking statements are reasonable, actual results may differ
materially from those expressed in these forward-looking statements. Undue
reliance should not be placed on any forward-looking statements. The Company
does not have any intention or obligation to update forward-looking statements,
even if new information becomes available or other events occur in the future.
Many important factors, in addition to those discussed in the section entitled
"Certain Trends and Uncertainties" and elsewhere, could cause the Company's
results to differ materially from those expressed or suggested in
forward-looking statements.
ITEM 3. Quantitative and Qualitative Disclosures about Market Risk.
The Company is exposed to market risk from changes in foreign currency exchange
rates that could impact its results of operations and financial condition. The
Company considers the foreign currency exchange rate risk, in particular that of
the U.S. dollar versus the British pound, the Euro and the New Israeli Shekel,
to be its primary market risk exposure. From time to time, the Company may enter
into material foreign currency exchange contracts or other derivative
instruments to reduce its exposure to the foreign currency exchange risks. In
the future, the Company may use foreign currency exchange contracts and other
derivative instruments to reduce its exposure to this risk.
The Company currently maintains its surplus cash in short-term, interest-bearing
investment-grade instruments or bank deposits. The Company does not expect that
a 100 basis point increase nor decrease from current interest rates would have a
material effect on its financial position, results of operations or cash flows.
ITEM 4. Controls and Procedures.
As of the end of the period covered by this report, the Company conducted an
evaluation, under the supervision and with the participation of the principal
executive officer and principal financial officer, of the Company's disclosure
controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the
Securities Exchange Act of 1934 (the "Exchange Act")). Based on this evaluation,
the principal executive officer and principal financial officer concluded that
the Company's disclosure controls and procedures are effective to ensure that
information required to be disclosed by the Company in reports that it files or
submits under the Exchange Act is recorded, processed, summarized and reported
within the time periods specified in Securities and Exchange Commission rules
and forms. There was no change in the Company's internal control over financial
reporting during the Company's most recently completed fiscal quarter that has
materially affected, or is reasonably likely to materially affect, the Company's
internal control over financial reporting.
31
PART II
Other Information
-----------------
ITEM 2. Changes in Securities and Use of Proceeds.
In May 2003, the Company acquired all of the issued and outstanding shares of
SmartSight Networks Inc. The purchase price consisted of approximately $7.1
million in cash, subject to certain adjustments, and 149,731 shares of the
Company's common stock issued by the Company to certain former shareholders of
SmartSight. The shares of common stock of the Company issued by the Company in
connection with this acquisition did not involve any public offering and were
issued pursuant to the exemption from registration in Section 4(2) of the
Securities Act.
ITEM 6. Exhibits and Reports on Form 8-K.
(a) Exhibit Index.
--------------
31.1 Certification of the Chief Executive Officer pursuant to Securities
Exchange Act Rule 13a-14(a)*
31.2 Certification of the Chief Financial Officer pursuant to Securities
Exchange Act Rule 13a-14(a)*
32.1 Certification of Chief Executive Officer pursuant to Securities
Exchange Act Rule 13a-14(b) and 18 U.S.C. Section 1350*
32.2 Certification Chief Financial Officer pursuant to Securities Exchange
Act Rule 13a-14(b) and 18 U.S.C. Section 1350*
* These exhibits are being "furnished" with this periodic report and are
not deemed "filed" with the Securities and Exchange Commission and are
not incorporated by reference in any filing of the Company under the
Securities Act of 1933 or the Securities Exchange Act of 1934, whether
made before or after the date hereof and irrespective of any general
incorporation by reference language in any such filings.
32
(b) Reports on Form 8-K.
--------------------
On May 1, 2003, the Company filed a Form 8-K, Item 9 that was
accompanied by certifications by each of the principal executive officer, Dan
Bodner, and principal financial officer, Igal Nissim, pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002 (18 U.S.C. Section 1350).
On May 19, 2003, the Company filed a Form 8-K, Item 5 that was
accompanied by a press release reporting the filing of a registration statement
in connection with its offering of common stock.
On June 3, 2003, the Company filed a Form 8-K, Item 5 that was
accompanied by a press release reporting the Company's financial results from
the first fiscal quarter of 2003.
33
SIGNATURES
----------
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
VERINT SYSTEMS INC.
Dated: September 12, 2003 By: /s/Dan Bodner
-------------------------------------------
Dan Bodner
President and Chief Executive Officer
Principal Executive Officer
Dated: September 12, 2003 By: /s/Igal Nissim
------------------------------------------
Igal Nissim
Vice President and Chief Financial Officer
Principal Financial Officer
34