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Table of Contents

 

 

 

UNITED STATES SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

 

FORM 10-Q

 

(Mark One)

 

þ

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

 

For the quarterly period ended April 30, 2011

 

OR

 

o

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the transition period from                                to                                     .

 

Commission File No. 001-34807

 

Verint Systems Inc.

(Exact Name of Registrant as Specified in its Charter)

 

Delaware

 

11-3200514

(State or Other Jurisdiction of Incorporation or
Organization)

 

(I.R.S. Employer Identification No.)

 

 

 

330 South Service Road, Melville, New York

 

11747

(Address of Principal Executive Offices)

 

(Zip Code)

 

 

(631) 962-9600

 

(Registrant’s Telephone Number, Including Area Code)

 

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 þ No o

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.40S of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  * Yes o No o

 

* The registrant is not presently required to submit Interactive Data Files.

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company.  See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.  (Check one):

 

Large Accelerated Filer o

Accelerated Filer þ

Non-Accelerated Filer o

Smaller Reporting Company o

 

 

(Do not check if a smaller reporting company)

 

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes o No þ

 

There were 38,329,445 shares of the registrant’s common stock outstanding on May 16, 2011.

 

 

 



Table of Contents

 

CAUTIONARY NOTE ON FORWARD-LOOKING STATEMENTS

ii

 

 

PART I.

FINANCIAL INFORMATION

1

 

 

 

ITEM 1.

FINANCIAL STATEMENTS.

1

 

CONDENSED CONSOLIDATED BALANCE SHEETS

1

 

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

2

 

CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (DEFICIT)

3

 

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

4

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

5

ITEM 2.

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

35

ITEM 3.

QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

51

ITEM 4.

CONTROLS AND PROCEDURES

52

 

 

 

PART II.

OTHER INFORMATION

53

 

 

 

ITEM 1.

LEGAL PROCEEDINGS

53

ITEM 1A.

RISK FACTORS

53

ITEM 2.

UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

53

ITEM 3.

DEFAULTS UPON SENIOR SECURITIES

54

ITEM 4.

REMOVED AND RESERVED

54

ITEM 5.

OTHER INFORMATION

54

ITEM 6.

EXHIBITS

55

 

 

 

SIGNATURES

 

56

 

 

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Table of Contents

 

Cautionary Note on Forward-Looking Statements

 

Certain statements discussed in this report constitute forward-looking statements, which include financial projections, statements of plans and objectives for future operations, statements of future economic performance, and statements of assumptions relating thereto. Forward-looking statements are often identified by future or conditional words such as “will”, “plans”, “expects”, “intends”, “believes”, “seeks”, “estimates”, or “anticipates”, or by variations of such words or by similar expressions. There can be no assurances that forward-looking statements will be achieved. By their very nature, forward-looking statements involve known and unknown risks, uncertainties, and other important factors that could cause our actual results or conditions to differ materially from those expressed or implied by such forward-looking statements. Important risks, uncertainties, and other factors that could cause our actual results or conditions to differ materially from our forward-looking statements include, among others:

 

·                  uncertainties regarding the impact of general economic conditions, particularly in information technology spending, on our business;

 

·                  risks due to aggressive competition in all of our markets, including with respect to maintaining margins and sufficient levels of investment in our business;

 

·                  risks associated with keeping pace with technological changes and evolving industry standards in our product offerings and with successfully introducing new, quality products which meet customer needs and achieve market acceptance;

 

·                  risks created by continued consolidation of competitors or introduction of large competitors in our markets with greater resources than we have;

 

·                  risks associated with successfully competing for, consummating, and implementing mergers and acquisitions, including risks associated with capital constraints, post-acquisition integration activities, and potential asset impairments;

 

·                  risks that customers or partners delay or cancel orders or are unable to honor contractual commitments due to liquidity issues, challenges in their business, or otherwise;

 

·                  risks relating to our implementation and maintenance of adequate systems and internal controls for our current and future operations and reporting needs and related risks of financial statement omissions, misstatements, restatements, or filing delays;

 

·                  risks associated with being a consolidated, controlled subsidiary of Comverse Technology, Inc. (“Comverse”) and formerly part of Comverse’s consolidated tax group, including risks of any future impact on us resulting from Comverse’s extended filing delay or any other future issues;

 

·                  risks associated with Comverse controlling our board of directors and the outcome of all matters submitted for stockholder action, including the approval of significant corporate

 

 

ii



Table of Contents

 

transactions, such as certain equity issuances or mergers and acquisitions, as well as speculation or announcements regarding Comverse’s strategic plans;

 

·                  risks that products may contain undetected defects which could expose us to substantial liability;

 

·                  risks associated with allocating limited financial and human resources to opportunities that may not come to fruition or produce satisfactory returns;

 

·                  risks associated with significant foreign and international operations, including exposure to regions subject to political instability or fluctuations in exchange rates;

 

·                  risks associated with complex and changing local and foreign regulatory environments;

 

·                  risks associated with our ability to recruit and retain qualified personnel in geographies in which we operate;

 

·                  challenges in accurately forecasting revenue and expenses and maintaining profitability;

 

·                  risks relating to our ability to improve our infrastructure to support growth;

 

·                  risks that our intellectual property rights may not be adequate to protect our business or assets or that others may make claims on our intellectual property or claim infringement on their intellectual property rights;

 

·                  risks associated with a significant amount of our business coming from domestic and foreign government customers, including the ability to maintain security clearances for certain projects;

 

·                  risks that we improperly handle sensitive or confidential information or perception of such mishandling;

 

·                  risks associated with our dependence on a limited number of suppliers or original equipment manufacturers (“OEMs”) for certain components of our products;

 

·                  risks that we are unable to maintain and enhance relationships with key resellers, partners, and systems integrators;

 

·                  risks that contract terms may expose us to unlimited liability or other unfavorable positions and risks that we may experience losses that are not covered by insurance;

 

·                  risks that we will experience liquidity or working capital issues and related risks that financing sources will be unavailable to us on reasonable terms or at all;

 

·                  risks associated with significant leverage resulting from our current debt position;

 

 

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·                  risks that we will be unable to comply with the leverage ratio covenant under our credit facility;

 

·                  risks that our credit rating could be downgraded or placed on a credit watch;

 

·                  risks relating to timely implementation of new accounting pronouncements or new interpretations of existing accounting pronouncements and related risks of future restatements or filing delays;

 

·                  risks associated with future regulatory actions or private litigations relating to our extended filing delay and related circumstances; and

 

·                  risks that use of our tax benefits may be restricted or eliminated in the future.

 

These risks, uncertainties and challenges, as well as other factors, are discussed in greater detail under Item 1A of our Annual Report on Form 10-K for the year ended January 31, 2011.  You are cautioned not to place undue reliance on forward-looking statements, which reflect our management’s view only as of the date of this report. We make no commitment to revise or update any forward-looking statements in order to reflect events or circumstances after the date any such statement is made, except as otherwise required under the federal securities laws. If we were in any particular instance to update or correct a forward-looking statement, investors and others should not conclude that we would make additional updates or corrections thereafter except as otherwise required under the federal securities laws.

 

 

iv



Table of Contents

 

PART I.                            FINANCIAL INFORMATION

 

Item 1.                                   Financial Statements.

 

VERINT SYSTEMS INC. AND SUBSIDIARIES

Condensed Consolidated Balance Sheets

April 30, 2011 and January 31, 2011

(Unaudited)

 

 

 

April 30,

 

January 31,

 

(in thousands, except share and per share data)

 

2011

 

2011

 

Assets

 

 

 

 

 

Current Assets:

 

 

 

 

 

Cash and cash equivalents

 

$

179,358

 

$

169,906

 

Restricted cash and bank time deposits

 

12,305

 

13,639

 

Accounts receivable, net

 

137,553

 

150,769

 

Inventories

 

20,650

 

16,987

 

Deferred cost of revenue

 

5,500

 

6,269

 

Prepaid expenses and other current assets

 

45,157

 

44,374

 

Total current assets

 

400,523

 

401,944

 

Property and equipment, net

 

24,297

 

23,176

 

Goodwill

 

757,463

 

738,674

 

Intangible assets, net

 

155,554

 

157,071

 

Capitalized software development costs, net

 

6,630

 

6,787

 

Long-term deferred cost of revenue

 

20,924

 

21,715

 

Other assets

 

32,776

 

26,760

 

Total assets

 

$

1,398,167

 

$

1,376,127

 

 

 

 

 

 

 

Liabilities, Preferred Stock, and Stockholders’ Equity

 

 

 

 

 

Current Liabilities:

 

 

 

 

 

Accounts payable

 

$

37,502

 

$

36,861

 

Accrued expenses and other current liabilities

 

147,646

 

163,029

 

Current maturities of long-term debt

 

4,500

 

 

Deferred revenue

 

144,048

 

142,465

 

Liabilities to affiliates

 

1,951

 

1,847

 

Total current liabilities

 

335,647

 

344,202

 

Long-term debt

 

592,500

 

583,234

 

Long-term deferred revenue

 

39,391

 

40,424

 

Other liabilities

 

43,821

 

45,038

 

Total liabilities

 

1,011,359

 

1,012,898

 

Preferred Stock - $0.001 par value; authorized 2,500,000 shares.  Series A convertible preferred stock; 293,000 shares issued and outstanding; aggregate liquidation preference and redemption value of $341,918 at April 30, 2011.

 

285,542

 

285,542

 

Commitments and Contingencies

 

 

 

 

 

Stockholders’ Equity:

 

 

 

 

 

Common stock - $0.001 par value; authorized 120,000,000 shares.  Issued 38,579,000 and 37,349,000 shares; outstanding 38,305,000 and 37,089,000 shares as of April 30, 2011 and January 31, 2011, respectively.

 

39

 

38

 

Additional paid-in capital

 

531,422

 

519,834

 

Treasury stock, at cost  - 274,000 and 260,000 shares as of April 30, 2011 and January 31, 2011, respectively.

 

(7,141

)

(6,639

)

Accumulated deficit

 

(394,869

)

(394,757

)

Accumulated other comprehensive loss

 

(31,196

)

(42,069

)

Total Verint Systems Inc. stockholders’ equity

 

98,255

 

76,407

 

Noncontrolling interest

 

3,011

 

1,280

 

Total stockholders’ equity

 

101,266

 

77,687

 

Total liabilities, preferred stock, and stockholders’ equity

 

$

1,398,167

 

$

1,376,127

 

 

See notes to condensed consolidated financial statements.

 

 

1



Table of Contents

 

VERINT SYSTEMS INC. AND SUBSIDIARIES

Condensed Consolidated Statements of Operations

Three Months Ended April 30, 2011 and 2010

(Unaudited)

 

 

 

Three Months Ended April 30,

 

(in thousands, except per share data)

 

2011

 

2010

 

Revenue:

 

 

 

 

 

Product

 

$

83,278

 

$

92,070

 

Service and support

 

93,054

 

80,543

 

Total revenue

 

176,332

 

172,613

 

Cost of revenue:

 

 

 

 

 

Product

 

22,531

 

26,852

 

Service and support

 

30,168

 

28,722

 

Amortization of acquired technology

 

2,650

 

2,233

 

Total cost of revenue

 

55,349

 

57,807

 

Gross profit

 

120,983

 

114,806

 

Operating expenses:

 

 

 

 

 

Research and development, net

 

26,368

 

26,432

 

Selling, general and administrative

 

70,235

 

87,017

 

Amortization of other acquired intangible assets

 

5,546

 

5,339

 

Total operating expenses

 

102,149

 

118,788

 

Operating income (loss)

 

18,834

 

(3,982

)

Other income (expense), net:

 

 

 

 

 

Interest income

 

148

 

83

 

Interest expense

 

(8,794

)

(5,948

)

Loss on extinguishment of debt

 

(8,136

)

 

Other income (expense), net

 

1,012

 

(3,698

)

Total other expense, net

 

(15,770

)

(9,563

)

Income (loss) before provision for income taxes

 

3,064

 

(13,545

)

Provision for income taxes

 

1,509

 

2,071

 

Net income (loss)

 

1,555

 

(15,616

)

Net income attributable to noncontrolling interest

 

1,667

 

592

 

Net loss attributable to Verint Systems Inc.

 

(112

)

(16,208

)

Dividends on preferred stock

 

(3,549

)

(3,403

)

Net loss attributable to Verint Systems Inc. common shares

 

$

(3,661

)

$

(19,611

)

 

 

 

 

 

 

Net loss per share attributable to Verint Systems Inc.

 

 

 

 

 

Basic

 

$

(0.10

)

$

(0.60

)

Diluted

 

$

(0.10

)

$

(0.60

)

 

 

 

 

 

 

Weighted-average common shares outstanding

 

 

 

 

 

Basic

 

37,392

 

32,663

 

Diluted

 

37,392

 

32,663

 

 

See notes to condensed consolidated financial statements.

 

 

2



Table of Contents

 

VERINT SYSTEMS INC. AND SUBSIDIARIES

Condensed Consolidated Statements of Stockholders’ Equity (Deficit)

Three Months Ended April 30, 2011 and 2010

(Unaudited)

 

 

 

Verint Systems Inc. Stockholders’ Equity (Deficit)

 

 

 

 

 

 

 

Common Stock

 

Additional

 

 

 

 

 

Accumulated
Other

 

Total Verint
Systems Inc.

 

 

 

Total

 

(in thousands)

 

Shares

 

Par
Value

 

Paid-in
Capital

 

Treasury
Stock

 

Accumulated
Deficit

 

Comprehensive
Loss

 

Stockholders’
Equity (Deficit)

 

Noncontrolling
Interest

 

Stockholders’
Equity (Deficit)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balances as of January 31, 2010

 

32,584

 

$

33

 

$

451,166

 

$

(2,493

)

$

(420,338

)

$

(43,134

)

$

(14,766

)

$

199

 

$

(14,567

)

Comprehensive income (loss):

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income (loss)

 

 

 

 

 

(16,208

)

 

(16,208

)

592

 

(15,616

)

Unrealized gains on derivative financial instruments, net

 

 

 

 

 

 

81

 

81

 

 

81

 

Currency translation adjustments

 

 

 

 

 

 

(8,261

)

(8,261

)

(5

)

(8,266

)

Total comprehensive income (loss)

 

 

 

 

 

(16,208

)

(8,180

)

(24,388

)

587

 

(23,801

)

Stock-based compensation expense

 

 

 

7,546

 

 

 

 

7,546

 

 

7,546

 

Common stock issued for stock awards

 

342

 

 

 

 

 

 

 

 

 

Purchases of treasury stock

 

(123

)

 

 

(3,312

)

 

 

(3,312

)

 

(3,312

)

Tax effects from stock award plans

 

 

 

(47

)

 

 

 

(47

)

 

(47

)

Balances as of April 30, 2010

 

32,803

 

$

33

 

$

458,665

 

$

(5,805

)

$

(436,546

)

$

(51,314

)

$

(34,967

)

$

786

 

$

(34,181

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balances as of January 31, 2011

 

37,089

 

$

38

 

$

519,834

 

$

(6,639

)

$

(394,757

)

$

(42,069

)

$

76,407

 

$

1,280

 

$

77,687

 

Comprehensive income (loss):

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income (loss)

 

 

 

 

 

(112

)

 

(112

)

1,667

 

1,555

 

Unrealized gains on derivative financial instruments, net

 

 

 

 

 

 

1,700

 

1,700

 

 

1,700

 

Currency translation adjustments

 

 

 

 

 

 

9,173

 

9,173

 

64

 

9,237

 

Total comprehensive income (loss)

 

 

 

 

 

(112

)

10,873

 

10,761

 

1,731

 

12,492

 

Stock-based compensation expense

 

 

 

5,785

 

 

 

 

5,785

 

 

5,785

 

Exercises of stock options

 

258

 

 

5,230

 

 

 

 

5,230

 

 

5,230

 

Common stock issued for stock awards

 

972

 

1

 

(1

)

 

 

 

 

 

 

Purchases of treasury stock

 

(14

)

 

 

(502

)

 

 

(502

)

 

(502

)

Tax effects from stock award plans

 

 

 

574

 

 

 

 

574

 

 

574

 

Balances as of April 30, 2011

 

38,305

 

$

39

 

$

531,422

 

$

(7,141

)

$

(394,869

)

$

(31,196

)

$

98,255

 

$

3,011

 

$

101,266

 

 

See notes to condensed consolidated financial statements.

 

 

3



Table of Contents

 

VERINT SYSTEMS INC. AND SUBSIDIARIES

Condensed Consolidated Statements of Cash Flows

Three Months Ended April 30, 2011 and 2010

(Unaudited)

 

 

 

Three Months Ended April 30,

 

(in thousands)

 

2011

 

2010

 

Cash flows from operating activities:

 

 

 

 

 

Net income (loss)

 

$

1,555

 

$

(15,616

)

Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities:

 

 

 

 

 

Depreciation and amortization

 

12,954

 

11,898

 

Stock-based compensation

 

5,785

 

7,546

 

Non-cash losses on derivative financial instruments, net

 

1,933

 

1,703

 

Loss on extinguishment of debt

 

8,136

 

 

Other non-cash items, net

 

3,132

 

1,189

 

Changes in operating assets and liabilities, net of effects of business combination:

 

 

 

 

 

Accounts receivable

 

14,164

 

(13,787

)

Inventories

 

(3,421

)

(488

)

Deferred cost of revenue

 

2,516

 

6,161

 

Prepaid expenses and other assets

 

1,178

 

1,501

 

Accounts payable and accrued expenses

 

(22,568

)

14,959

 

Deferred revenue

 

(4,201

)

(18,476

)

Other, net

 

(1,869

)

(1,110

)

Net cash provided by (used in) operating activities

 

19,294

 

(4,520

)

 

 

 

 

 

 

Cash flows from investing activities:

 

 

 

 

 

Cash paid for business combination, net of cash acquired

 

(11,958

)

(15,292

)

Purchases of property and equipment

 

(3,131

)

(1,878

)

Settlements of derivative financial instruments not designated as hedges

 

(826

)

(6,333

)

Cash paid for capitalized software development costs

 

(1,076

)

(462

)

Change in restricted cash and bank time deposits

 

1,543

 

205

 

Net cash used in investing activities

 

(15,448

)

(23,760

)

 

 

 

 

 

 

Cash flows from financing activities:

 

 

 

 

 

Proceeds from borrowings, net of original issuance discount

 

597,000

 

 

Repayments of borrowings and other financing obligations

 

(583,362

)

(580

)

Payments of debt issuance and other debt-related costs

 

(13,952

)

(897

)

Proceeds from exercises of stock options

 

5,122

 

 

Purchases of treasury stock

 

(502

)

(3,312

)

Other financing activities

 

(1,804

)

 

Net cash provided by (used in) financing activities

 

2,502

 

(4,789

)

Effect of exchange rate changes on cash and cash equivalents

 

3,104

 

(1,863

)

Net increase (decrease) in cash and cash equivalents

 

9,452

 

(34,932

)

Cash and cash equivalents, beginning of period

 

169,906

 

184,335

 

Cash and cash equivalents, end of period

 

$

179,358

 

$

149,403

 

 

 

 

 

 

 

Supplemental disclosures of cash flow information:

 

 

 

 

 

Cash paid for interest

 

$

13,027

 

$

3,538

 

Cash paid for income taxes, net of refunds received

 

$

4,136

 

$

1,525

 

Non-cash investing and financing transactions:

 

 

 

 

 

Accrued but unpaid purchases of property and equipment

 

$

1,435

 

$

495

 

Inventory transfers to property and equipment

 

$

181

 

$

77

 

Liabilities for contingent consideration in business combinations

 

$

904

 

$

3,224

 

Stock options exercised, proceeds received subsequent to period end

 

$

156

 

$

 

Accrued but unpaid debt issuance and other debt-related costs

 

$

999

 

$

 

 

See notes to condensed consolidated financial statements.

 

 

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Table of Contents

 

VERINT SYSTEMS INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

 

1.              BASIS OF PRESENTATION AND SIGNIFICANT ACCOUNTING POLICIES

 

Condensed Consolidated Financial Statements Preparation

 

The condensed consolidated financial statements included herein have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) and on the same basis as the audited consolidated financial statements included in our Annual Report on Form 10-K filed with the U.S. Securities and Exchange Commission (“SEC”) for the year ended January 31, 2011.  The condensed consolidated statements of operations, stockholders’ equity (deficit) and cash flows for the periods ended April 30, 2011 and 2010, and the condensed consolidated balance sheet as of April 30, 2011, are not audited but reflect all adjustments that are of a normal recurring nature and that are considered necessary for a fair presentation of the results of the periods shown.  The condensed consolidated balance sheet as of January 31, 2011 is derived from the audited consolidated financial statements presented in our Annual Report on Form 10-K for the year ended January 31, 2011.  Certain information and disclosures normally included in annual consolidated financial statements have been omitted pursuant to the rules and regulations of the SEC.  Because the condensed consolidated interim financial statements do not include all of the information and disclosures required by GAAP for a complete set of financial statements, they should be read in conjunction with the audited consolidated financial statements and notes included in our Annual Report on Form 10-K filed with the SEC for the year ended January 31, 2011.  The results for interim periods are not necessarily indicative of a full year’s results.

 

Unless the context otherwise requires, the terms “Verint”, “we”, “our”, and “us” and words of similar import as used in these notes to the condensed consolidated financial statements include Verint Systems Inc. and its consolidated subsidiaries.

 

Principles of Consolidation

 

The accompanying condensed consolidated financial statements include the accounts of Verint Systems Inc., our wholly owned subsidiaries, and a joint venture in which we hold a 50% equity interest.  This joint venture functions as a systems integrator for Asian markets and is a variable interest entity in which we are the primary beneficiary.  Investments in companies in which we have less than a 20% ownership interest and do not exercise significant influence are accounted for at cost.  We include the results of operations of acquired companies from the date of acquisition.  All significant intercompany transactions and balances are eliminated.

 

 

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Use of Estimates

 

The preparation of financial statements in conformity with GAAP requires our management to make estimates and assumptions, which may affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the condensed consolidated financial statements and the reported amounts of revenue and expenses during the reporting period.  Actual results could differ from those estimates.

 

Reclassifications

 

The classification of certain costs within the condensed consolidated statements of operations for the three months ended April 30, 2010 has been corrected to conform to the presentation for the three months ended April 30, 2011.  The reclassification reflects $1.5 million of cost of service and support revenue for the three months ended April 30, 2010 which had previously been presented as a component of cost of product revenue.  This correction was not material to the condensed consolidated financial statements for the three months ended April 30, 2010 and did not impact our total cost of revenue, gross profit, operating loss, loss before provision for income taxes, net loss, condensed consolidated balance sheet, or condensed consolidated statement of cash flows for that period.

 

Significant Accounting Policies

 

We describe our significant accounting policies in Note 1 to the consolidated financial statements included in our Annual Report on Form 10-K for the year ended January 31, 2011.  As discussed below, on February 1, 2011 we adopted new authoritative accounting guidance on multiple-deliverable revenue arrangements. There were no other changes to our significant accounting policies during the three months ended April 30, 2011.

 

Revenue Recognition

 

In October 2009, the Financial Accounting Standards Board (“FASB”) issued amended revenue recognition accounting standards that removed tangible products containing software components and non-software components that function together to deliver the product’s essential functionality from the scope of industry-specific software revenue recognition guidance.  Also in October 2009, the FASB amended the accounting standards for multiple-deliverable revenue arrangements to:

 

(i)             provide updated guidance on when and how the deliverables in a multiple-deliverable arrangement should be separated, and how the consideration should be allocated;

 

(ii)          require an entity to allocate revenue in an arrangement that has separate units of accounting, using estimated selling prices (“ESP”) of deliverables if a vendor does not have vendor-specific objective evidence (“VSOE”) of selling price, or third-party evidence of selling price (“TPE”); and

 

(iii)       eliminate the use of the residual method and require an entity to allocate revenue using the relative selling price method to the separate units of accounting.

 

 

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This guidance was effective for fiscal years beginning on or after June 15, 2010, although early adoption was permitted.  We elected to prospectively adopt the provisions of this new guidance as of February 1, 2011, for new and materially modified transactions entered into on or after that date.  The adoption of this guidance did not have a material impact on our condensed consolidated financial statements as of and for the three months ended April 30, 2011.  We expect the adoption of the guidance will result in an increase in revenue recognized on the related arrangements entered into or materially modified after the effective date compared to the revenue that would have been recognized on these arrangements prior to the adoption of this guidance for the year ending January 31, 2012, but we are not able to reasonably estimate the amount of the revenue increase, as the impact will vary based on the nature and volume of new or materially modified arrangements in any given future period.

 

Our updated policy for revenue recognition, reflecting the impact of the new guidance, is described below.

 

We derive and report our revenue in two categories: (a) product revenue, including hardware products (which include software that works together with the hardware to deliver the product’s essential functionality) and licensing of software products, and (b) service and support revenue, including revenue from installation services, post-contract customer support (“PCS”), project management, hosting services, product warranties, and training services.

 

Our revenue recognition policy is a critical component of determining our operating results and is based on a complex set of accounting rules that require us to make significant judgments and estimates.  Our customer arrangements typically include several elements, including products, services, and support.  Revenue recognition for a particular arrangement is dependent upon such factors as the level of customization within the solution and the contractual delivery, acceptance, payment, and support terms with the customer.  Significant judgment is required to conclude whether collectability of fees is reasonably assured and whether fees are fixed and determinable.

 

For arrangements that do not require significant modification or customization of the underlying products, we recognize revenue when we have persuasive evidence of an arrangement, the product has been delivered or the services have been provided to the customer, the sales price is fixed or determinable and collectability is reasonably assured.  In addition, our multiple-element arrangements must be carefully reviewed to determine the selling price of each element.

 

Our multiple-element arrangements consist of a combination of our product and service offerings that may be delivered at various points in time.  For arrangements within the scope of the new revenue accounting guidance, a deliverable constitutes a separate unit of accounting when it has standalone value and there are no customer-negotiated refunds or return rights for the delivered elements. For multiple-element arrangements comprised only of hardware products and related services, we allocate revenue to each element in an arrangement based on a selling price hierarchy. The selling price for a deliverable is based on its VSOE, if available, TPE, if VSOE is not available, or ESP, if neither VSOE nor TPE is available.  The total transaction revenue is allocated to the multiple elements based on each element’s relative selling price compared to the total selling price.

 

 

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Our policy for establishing VSOE for installation, consulting, and training is based upon an analysis of separate sales of services.  We utilize either the substantive renewal rate approach or the bell-shaped curve approach to establish VSOE for our PCS offerings, depending upon the business segment, geographical region, or product line.

 

TPE of selling price is established by evaluating largely similar and interchangeable competitor products or services in standalone sales to similarly situated customers.

 

If we are unable to determine the selling price because VSOE or TPE does not exist, we determine ESP for the purposes of allocating the arrangement by considering several external and internal factors including, but not limited to, pricing practices, similar product offerings, margin objectives, geographies in which we offer our products and services, internal costs, competition, and product lifecycle.  The determination of ESP is made through consultation with and approval by our management, taking into consideration our go-to-market strategies.  ESP for each element is updated, when appropriate, to ensure that it reflects recent pricing experience.

 

For multiple-element arrangements comprised only of software products and related services, a portion of the total purchase price is allocated to the undelivered elements, primarily installation services, PCS, and training, using VSOE of fair value of the undelivered elements. The remaining portion of the total transaction value is allocated to the delivered software, referred to as the residual method.  If we are unable to establish VSOE for the undelivered elements of the arrangement, revenue recognition is deferred for the entire arrangement until all elements of the arrangement are delivered.  However, if the only undelivered element is PCS, we recognize the arrangement fee ratably over the PCS period.

 

For multiple-element software arrangements for which we are unable to establish VSOE of one or more elements, and where such arrangements are recognized ratably, we use various available indicators of fair value and apply our best judgment to reasonably classify the arrangement’s revenue into product revenue and service revenue for financial reporting purposes.  For these arrangements, we review our VSOE for training, installation, and PCS services from similar transactions and stand-alone services arrangements and prepare comparisons to peers, in order to determine reasonable and consistent approximations of fair values of service revenue for statement of operations classification purposes with the remaining amount being allocated to product revenue.  Installation services associated with our Communications Intelligence arrangements are included within product revenue as such amounts are not material.

 

For new or materially modified multiple-element arrangements entered into on or after February 1, 2011 that are comprised of a combination of hardware and software elements, the total transaction value is bifurcated between the hardware elements and the software elements that are not essential to the functionality of the hardware, based on the relative selling prices of the hardware elements and the software elements as a group. Revenue is then recognized for the hardware and hardware-related services following the hardware revenue recognition methodology outlined above and revenue for the software and software-related services is recognized following the residual method or ratably over the PCS period if VSOE for PCS does not exist.

 

 

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PCS revenue is derived from providing technical software support services and unspecified software updates and upgrades to customers on a when-and-if-available basis.  PCS revenue is recognized ratably over the term of the maintenance period, which in most cases is one year.

 

Under the substantive renewal rate approach, we believe it is necessary to evaluate whether both the support renewal rate and term are substantive and whether the renewal rate is being consistently applied to subsequent renewals for a particular customer.  We establish VSOE under this approach through analyzing the renewal rate stated in the customer agreement and determining whether that rate is above the minimum substantive VSOE renewal rate established for that particular PCS offering.  The minimum substantive VSOE rate is determined based upon an analysis of renewal rates associated with historical PCS contracts.  For multiple-element software arrangements that do not contain a stated renewal rate, revenue associated with the entire bundled arrangement is recognized ratably over the PCS term.  Multiple-element software arrangements that have a renewal rate below the minimum substantive VSOE rate are deemed to contain a more than insignificant discount element, for which VSOE cannot be established.  We recognize aggregate contractual revenue for these arrangements over the period that the customer is entitled to renew its PCS at the discounted rate, but not to exceed the estimated economic life of the product.  We evaluate many factors in determining the estimated economic life of our products, including the support period of the product, technological obsolescence, and customer expectations.  We have concluded that our software products have estimated economic lives ranging from five to seven years.

 

Under the bell-shaped curve approach of establishing VSOE, we perform VSOE compliance tests to ensure that a substantial majority of our actual PCS renewals are within a narrow range of pricing.

 

For certain of our products, we do not have an explicit obligation to provide PCS but as a matter of business practice have provided implied PCS.  The implied PCS is accounted for as a separate element for which VSOE does not exist.  Arrangements comprised of software only elements that contain implied PCS are recognized over the period the implied PCS is provided, but not to exceed the estimated economic life of the product.

 

Some of our arrangements require significant customization of the product to meet the particular requirements of the customer.  For these arrangements, revenue is recognized under contract accounting methods, typically using the percentage-of-completion (“POC”) method.  Under the POC method, revenue recognition is generally based upon the ratio of hours incurred to date to the total estimated hours required to complete the contract.  Profit estimates on long-term contracts are revised periodically based on changes in circumstances, and any losses on contracts are recognized in the period that such losses become evident.  If the range of profitability cannot be estimated, but some level of profit is assured, revenue is recognized to the extent of costs incurred, until such time that the project’s profitability can be estimated or the services have been completed.  In the event some level of profitability on a contract cannot be assured, the completed-contract method of revenue recognition is applied.

 

If an arrangement includes customer acceptance criteria, revenue is not recognized until we can objectively demonstrate that the software or services meet the acceptance criteria, or the acceptance period lapses, whichever occurs earlier.  If an arrangement containing software

 

 

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elements obligates us to deliver specified future software products or upgrades, revenue related to the software elements under the arrangement is initially deferred and is recognized only when the specified future software products or upgrades are delivered, or when the obligation to deliver specified future software products expires, whichever occurs earlier.

 

We record provisions for estimated product returns in the same period in which the associated revenue is recognized.  We base these estimates of product returns upon historical levels of sales returns and other known factors.  Actual product returns could be different from our estimates, and current or future provisions for product returns may differ from historical provisions.  Concessions granted to customers are recorded as reductions to revenue in the period in which they were granted.  The vast majority of our contracts are successfully completed, and concessions granted to customers are minimal in both dollar value and frequency.

 

Product revenue derived from shipments to resellers and original equipment manufacturers (“OEMs”) who purchase our products for resale are generally recognized when such products are shipped (on a “sell-in” basis).  We have historically experienced insignificant product returns from resellers and OEMs, and our payment terms for these customers are similar to those granted to our end-users.  If a reseller or OEM develops a pattern of payment delinquency, or seeks payment terms longer than generally accepted, we defer the recognition of revenue until the receipt of cash.  Our arrangements with resellers and OEMs are periodically reviewed as our business and products change.

 

In instances where revenue is derived from sale of third-party vendor services and we are a principal in the transaction, we generally record revenue at gross and record costs related to a sale in cost of revenue.  In those cases where we are acting as an agent between the customer and the vendor, revenue is recorded net of costs.

 

We record reimbursements from customers for out-of-pocket expenses as revenue.  Shipping and handling fees and expenses that are billed to customers are recognized in revenue and the costs associated with such fees and expenses are recorded in cost of revenue.  Historically, these fees and expenses have not been material.  Taxes collected from customers and remitted to government authorities are excluded from revenue.

 

Other Accounting Pronouncements Implemented - Three Months Ended April 30, 2011:

 

In January 2010, the FASB issued amended standards that require additional fair value disclosures.  These disclosure requirements were effective in two phases.  The initial phase, which was effective for us as of February 1, 2010, requires enhanced disclosures about inputs and valuation techniques used to measure fair value as well as disclosures about significant transfers.  The second phase, which was effective for us as of February 1, 2011, requires presentation of disaggregated activity within the reconciliation for fair value measurements using significant unobservable inputs (Level 3).  The adoption of these standards did not have a material impact on our condensed consolidated financial statements.

 

 

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In December 2010, the FASB issued updated accounting guidance to clarify that pro forma disclosures should be presented as if a business combination occurred at the beginning of the prior annual period for purposes of preparing both the current reporting period and the prior reporting period pro forma financial information.  These disclosures should be accompanied by a narrative description about the nature and amount of material, nonrecurring pro forma adjustments.  This new accounting guidance is effective for business combinations consummated in periods beginning after December 15, 2010 and should be applied prospectively as of the date of adoption, although early adoption is permitted.  We adopted this new guidance effective February 1, 2011.  The adoption of this guidance did not have a material impact on our condensed consolidated financial statements.  The impact of this guidance on our future disclosures will be dependent on the size of any business combinations that we consummate.

 

In December 2010, the FASB issued updated accounting guidance related to the calculation of the carrying amount of a reporting unit when performing the first step of a goodwill impairment test.  This update modifies Step 1 of the goodwill impairment test for reporting units with zero or negative carrying amounts.  For those reporting units, an entity is required to perform Step 2 of the goodwill impairment test if it is more likely than not that a goodwill impairment exists.  In determining whether it is more likely than not that a goodwill impairment exists, an entity should consider and assess whether there are any adverse qualitative factors indicating that impairment may exist.  For public entities, this new accounting guidance is effective for impairment tests performed during fiscal years (and interim periods within those years) that began after December 15, 2010.  We adopted this new guidance effective February 1, 2011. We do not believe that the adoption of this guidance will have a material impact on our future tests for goodwill impairment.

 

New Pronouncements to be Implemented:

 

In May 2011, the FASB issued updated accounting guidance to amend existing requirements for fair value measurements and disclosures.  The guidance expands the disclosure requirements around fair value measurements categorized in Level 3 of the fair value hierarchy and requires disclosure of the level in the fair value hierarchy of items that are not measured at fair value but whose fair value must be disclosed.  It also clarifies and expands upon existing requirements for fair value measurements of financial assets and liabilities as well as instruments classified in stockholders’ equity.  The guidance is effective for us beginning with our three-month period ending April 30, 2012.  We are assessing the impact that the application of this guidance may have on our consolidated financial statements.

 

 

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2.             NET LOSS PER SHARE ATTRIBUTABLE TO VERINT SYSTEMS INC.

 

The following table summarizes the calculation of basic and diluted net loss per share attributable to Verint Systems Inc. for the three months ended April 30, 2011 and 2010:

 

 

 

Three Months Ended April 30,

 

(in thousands, except per share amounts)

 

2011

 

2010

 

Net income (loss)

 

$

1,555

 

$

(15,616

)

Net income attributable to noncontrolling interest

 

1,667

 

592

 

Net loss attributable to Verint Systems Inc.

 

(112

)

(16,208

)

Dividends on preferred stock

 

(3,549

)

(3,403

)

Net loss attributable to Verint Systems Inc. for basic net loss per share

 

(3,661

)

(19,611

)

Dilutive effect of dividends on preferred stock

 

 

 

Net loss attributable to Verint Systems Inc. for diluted net loss per share

 

$

(3,661

)

$

(19,611

)

Weighted-average shares outstanding:

 

 

 

 

 

Basic

 

37,392

 

32,663

 

Dilutive effect of employee equity award plans

 

 

 

Dilutive effect of assumed conversion of preferred stock

 

 

 

Diluted

 

37,392

 

32,663

 

Net loss per share attributable to Verint Systems Inc.

 

 

 

 

 

Basic

 

$

(0.10

)

$

(0.60

)

Diluted

 

$

(0.10

)

$

(0.60

)

 

We excluded the following weighted-average shares underlying stock-based awards and convertible preferred stock from the calculations of diluted net loss per share because their inclusion would have been anti-dilutive:

 

 

 

Three Months Ended April 30,

 

(in thousands)

 

2011

 

2010

 

Shares excluded from calculation:

 

 

 

 

 

Stock options and restricted stock-based awards

 

3,704

 

8,700

 

Convertible preferred stock

 

10,469

 

10,073

 

 

 

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3.              INVENTORIES

 

Inventories consist of the following as of April 30, 2011 and January 31, 2011:

 

 

 

April 30,

 

January 31,

 

(in thousands)

 

2011

 

2011

 

Raw materials

 

$

6,701

 

$

7,112

 

Work-in-process

 

9,754

 

5,112

 

Finished goods

 

4,195

 

4,763

 

Total inventories

 

$

20,650

 

$

16,987

 

 

4.              BUSINESS COMBINATIONS

 

Iontas Limited

 

On February 4, 2010, our wholly owned subsidiary, Verint Americas Inc., acquired all of the outstanding shares of Iontas Limited (“Iontas”), a privately held provider of desktop analytics solutions, which measure application usage and analyze workflows to help improve staff performance in contact center, branch, and back-office operations environments.  We acquired Iontas, among other objectives, to expand the desktop analytical capabilities of our workforce optimization solutions.  We have included the financial results of Iontas in our condensed consolidated financial statements since February 4, 2010.

 

We acquired Iontas for total consideration valued at $21.7 million, including cash consideration of $17.7 million, and additional milestone-based contingent payments of up to $3.8 million tied to certain performance targets being achieved over the two-year period following the acquisition date.

 

We recorded the acquisition-date estimated fair value of the contingent consideration of $3.2 million as a component of the purchase price of Iontas.  During the three months ended April 30, 2011, $2.0 million of the previously recorded contingent consideration was paid to the former shareholders of Iontas.  The estimated fair value of the remaining contingent consideration was $1.6 million as of April 30, 2011.  The $0.1 million change in the fair value of this contingent consideration for the three months ended April 30, 2011 was recorded within selling, general and administrative expenses for that period.

 

Goodwill associated with the acquisition of Iontas has been assigned to our Workforce Optimization segment.  Transaction costs, primarily professional fees, directly related to the acquisition of Iontas, totaled $1.3 million and were expensed as incurred.

 

Revenue from Iontas for the three months ended April 30, 2011 and 2010 was not material.

 

 

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Other Business Combinations

 

In December 2010, we acquired certain technology and other assets for use in our Communications Intelligence operating segment in a transaction that qualified as a business combination.  Total consideration for this acquisition, including potential future contingent consideration, will be less than $20.0 million.  The impact of this acquisition was not material to our condensed consolidated financial statements.  The fair value of our liability for contingent consideration related to this acquisition increased by $1.9 million during the three months ended April 30, 2011, resulting in a corresponding charge recorded within selling, general and administrative expenses for that period.

 

In March 2011, we acquired a company that is being integrated into our Video Intelligence operating segment.  Total consideration for this acquisition, including potential future contingent consideration, will be less than $20.0 million.  The impact of this acquisition was not material to our condensed consolidated financial statements.

 

The pro forma impact of these acquisitions is not material to our historical consolidated operating results and is therefore not presented.  Revenue from these acquisitions for the three months ended April 30, 2011 also were not material.

 

 

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5.              INTANGIBLE ASSETS AND GOODWILL

 

Acquisition-related intangible assets consist of the following as of April 30, 2011 and January 31, 2011:

 

 

 

April 30, 2011

 

(in thousands) 

 

Cost

 

Accumulated
Amortization

 

Net

 

Customer relationships

 

$

201,330

 

$

(80,099

)

$

121,231

 

Acquired technology

 

70,069

 

(40,588

)

29,481

 

Trade names

 

9,646

 

(9,568

)

78

 

Non-competition agreements

 

5,818

 

(3,016

)

2,802

 

Distribution network

 

2,440

 

(1,169

)

1,271

 

Backlog

 

691

 

 

691

 

Total

 

$

289,994

 

$

(134,440

)

$

155,554

 

 

 

 

January 31, 2011

 

(in thousands)

 

Cost

 

Accumulated
Amortization

 

Net

 

Customer relationships

 

$

198,106

 

$

(74,412

)

$

123,694

 

Acquired technology

 

66,794

 

(37,579

)

29,215

 

Trade names

 

9,552

 

(9,177

)

375

 

Non-competition agreements

 

5,215

 

(2,760

)

2,455

 

Distribution network

 

2,440

 

(1,108

)

1,332

 

Total

 

$

282,107

 

$

(125,036

)

$

157,071

 

 

Total amortization expense recorded for acquisition-related intangible assets was $8.2 million and $7.6 million for the three months ended April 30, 2011 and 2010, respectively.

 

Estimated future finite-lived acquisition-related intangible asset amortization expense is as follows:

 

(in thousands)

 

 

 

Years Ended January 31, 

 

Amount

 

2012 (Remainder of year)

 

$

24,377

 

2013

 

32,020

 

2014

 

26,793

 

2015

 

23,464

 

2016

 

22,332

 

2017 and thereafter

 

26,568

 

Total

 

$

155,554

 

 

 

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Goodwill activity for the three months ended April 30, 2011, in total and by reportable segment, was as follows:

 

 

 

 

 

Reportable Segment

 

(in thousands)

 

Total

 

Workforce
Optimization

 

Video
Intelligence

 

Communications
Intelligence

 

Goodwill, gross, at January 31, 2011

 

$

805,539

 

$

707,202

 

$

66,789

 

$

31,548

 

Accumulated impairment losses through January 31, 2011

 

(66,865

)

(30,791

)

(36,074

)

 

Goodwill, net, at January 31, 2011

 

738,674

 

676,411

 

30,715

 

31,548

 

Business acquisition

 

10,312

 

 

10,312

 

 

Foreign currency translation

 

8,477

 

7,165

 

1,312

 

 

Goodwill, net, at April 30, 2011

 

$

757,463

 

$

683,576

 

$

42,339

 

$

31,548

 

 

 

 

 

 

 

 

 

 

 

Balance at April 30, 2011

 

 

 

 

 

 

 

 

 

Goodwill, gross, at April 30, 2011

 

$

824,328

 

$

714,367

 

$

78,413

 

$

31,548

 

Accumulated impairment losses through April 30, 2011

 

(66,865

)

(30,791

)

(36,074

)

 

Goodwill, net, at April 30, 2011

 

$

757,463

 

$

683,576

 

$

42,339

 

$

31,548

 

 

We test our goodwill for impairment at least annually as of November 1, or more frequently if an event occurs indicating the potential for impairment.  No events or circumstances indicating the potential for goodwill impairment were identified during either the three months ended April 30, 2011 or the three months ended April 30, 2010.

 

6.              LONG-TERM DEBT

 

The following table summarizes our long-term debt at April 30, 2011 and January 31, 2011:

 

 

 

April 30,

 

January 31,

 

(in thousands)

 

2011

 

2011

 

Term loan facility - new credit agreement:

 

 

 

 

 

Gross borrowings

 

$

600,000

 

$

 

Unamortized debt discount

 

(3,000

)

 

Term loan facility - prior credit agreement:

 

 

583,234

 

Total debt

 

597,000

 

583,234

 

Less: current maturities

 

4,500

 

 

Long-term debt

 

$

592,500

 

$

583,234

 

 

In May 2007, we entered into a $675.0 million secured credit agreement (“Prior Credit Agreement”) comprised of a $650.0 million seven-year term loan facility and a $25.0 million six-year revolving line of credit.  The borrowing capacity under the revolving line of credit was increased to $75.0 million in July 2010.

 

 

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In April 2011, we entered into a new credit agreement (“Credit Agreement”) and concurrently terminated the Prior Credit Agreement.  The Credit Agreement provides for $770.0 million of secured credit facilities, comprised of a $600.0 million term loan maturing in October 2017 and a $170.0 million revolving credit facility maturing in April 2016, subject to increase (up to a maximum increase of $300.0 million) and reduction from time to time according to the terms of the Credit Agreement.

 

The majority of the new term loan proceeds were used to repay all $583.2 million of outstanding term loan borrowings under the Prior Credit Agreement at the closing date of the Credit Agreement.  There were no outstanding borrowings under the prior revolving credit facility at the closing date.

 

The Credit Agreement included an original issuance term loan discount of 0.50%, or $3.0 million, resulting in net term loan proceeds of $597.0 million.  This discount will be amortized as interest expense over the term of the term loan using the effective interest method.

 

Loans under the Credit Agreement will bear interest, payable quarterly or, in the case of Eurodollar loans with an interest period of three months or shorter, at the end of any interest period, at a per annum rate of, at our election:

 

(a) in the case of Eurodollar loans, the Adjusted LIBO Rate plus 3.25% (or if our corporate ratings are at least BB- and Ba3 or better, 3.00%).  The “Adjusted LIBO Rate” is the greater of (i) 1.25% per annum and (ii) the product of the LIBO Rate and Statutory Reserves (both as defined in the Credit Agreement), and

 

(b) in the case of Base Rate loans, the Base Rate plus 2.25% (or if our corporate ratings are at least BB- and Ba3 or better, 2.00%).  The “Base Rate” is the greatest of (i) the Agent’s prime rate, (ii) the Federal Funds Effective Rate (as defined in the Credit Agreement) plus 0.50% and (iii) the Adjusted LIBO Rate for a one-month interest period plus 1.00%.

 

We incurred debt issuance costs of $14.8 million associated with the Credit Agreement, which we have deferred and are classified within Other assets.  We will amortize these deferred costs as interest expense over the term of the Credit Agreement.  Of these deferred costs, $10.2 million were associated with the term loan and will be amortized using the effective interest rate method.  Deferred costs associated with the revolving credit facility were $4.6 million and will be amortized on a straight-line basis.

 

At the closing date of the Credit Agreement, there were $9.0 million of unamortized deferred costs associated with the Prior Credit Agreement.  Upon termination of the Prior Credit Agreement and repayment of the prior term loan, $8.1 million of these fees were expensed as a loss on extinguishment of debt.  The remaining $0.9 million of these fees were associated with lenders that provided commitments under both the new and the prior revolving credit facilities, which will continue to be deferred and amortized over the term of the Credit Agreement.

 

As of April 30, 2011, the interest rate on the term loan was 4.50%.  Including the impact of the 0.50% original issuance term loan discount and the deferred debt issuance costs, the effective interest rate on our term loan is approximately 4.90% as of April 30, 2011.

 

 

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During the three months ended April 30, 2011 and 2010, we incurred $7.5 million and $5.4 million of interest expense, respectively, on borrowings under our credit facilities.  We also recorded $0.7 million and $0.5 million during the three months ended April 30, 2011 and 2010, respectively, for amortization of our deferred debt-related costs, which is reported within interest expense.

 

We are required to pay a commitment fee equal to 0.50% per annum of the undrawn portion on the revolving credit facility, payable quarterly, and customary administrative agent and letter of credit fees.

 

The Credit Agreement requires us to make term loan principal payments of $1.5 million per quarter through August 2017, beginning in August 2011, with the remaining balance due in October 2017.  Optional prepayments of the loans are permitted without premium or penalty, other than customary breakage costs associated with the prepayment of loans bearing interest based on LIBO Rates and a 1.0% premium applicable in the event of a Repricing Transaction (as defined in the Credit Agreement) prior to April 30, 2012.  The loans are also subject to mandatory prepayment requirements with respect to certain asset sales, excess cash flow (as defined in the Credit Agreement), and certain other events.  Prepayments are applied first to the eight immediately following scheduled term loan principal payments, then pro rata to other remaining scheduled term loan principal payments, if any, and thereafter as otherwise provided in the Credit Agreement.

 

Obligations under the Credit Agreement are guaranteed by substantially all of our domestic subsidiaries and secured by a security interest in substantially all of our and their assets, subject to certain exceptions detailed in the Credit Agreement and related ancillary documentation.

 

The Credit Agreement contains customary affirmative and negative covenants for credit facilities of this type, and also contains a financial covenant that requires us to maintain a Consolidated Total Debt to Consolidated EBITDA (each as defined in the Credit Agreement) leverage ratio until July 31, 2013 no greater than 5.00 to 1.00 and thereafter no greater than 4.50 to 1.00.

 

The Credit Agreement provides for customary events of default with corresponding grace periods.  Upon an event of default, all of our indebtedness under the Credit Agreement may be declared immediately due and payable, and the lenders’ commitments to provide loans under the Credit Agreement may be terminated.

 

 

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The following table summarizes future scheduled principal payments on our term loan as of April 30, 2011:

 

(in thousands)

 

 

 

Years Ending January 31, 

 

Amount

 

2012 (Remainder of year)

 

$

3,000

 

2013

 

6,000

 

2014

 

6,000

 

2015

 

6,000

 

2016

 

6,000

 

2017 and thereafter

 

573,000

 

Total

 

$

600,000

 

 

 

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7.              CONVERTIBLE PREFERRED STOCK

 

On May 25, 2007, in connection with our acquisition of Witness, we entered into a Securities Purchase Agreement with Comverse, whereby Comverse purchased, for cash, an aggregate of 293,000 shares of our Series A Convertible Preferred Stock, for an aggregate purchase price of $293.0 million.  Proceeds from the issuance of the preferred stock were used to partially finance the acquisition.

 

The terms of the preferred stock provide that upon a fundamental change, as defined, the holders of the preferred stock have the right to require us to repurchase the preferred stock for 100% of the liquidation preference then in effect.  Therefore, the preferred stock has been classified as mezzanine equity on our condensed consolidated balance sheets as of April 30, 2011 and January 31, 2011, separate from permanent equity, because the occurrence of such a fundamental change, and thus a potential required repurchase of the preferred stock, however remote in likelihood, is not solely under our control.  Fundamental change events include the sale of substantially all of our assets and certain changes in beneficial ownership, board of directors’ composition, and business reorganizations.

 

We concluded that, as of April 30, 2011, the occurrence of a fundamental change and the associated potential required repurchase of the preferred stock were not probable.  We therefore did not adjust the carrying amount of the preferred stock to its redemption amount, which is its liquidation preference, at April 30, 2011.  Through April 30, 2011, cumulative, undeclared dividends on the preferred stock were $48.9 million and, as a result, the liquidation preference of the preferred stock was $341.9 million at that date.

 

At April 30, 2011, the preferred stock was convertible into approximately 10.5 million shares of our common stock.

 

8.              STOCKHOLDERS’ EQUITY

 

Treasury Stock

 

From time to time, our board of directors has approved limited programs to repurchase shares of our common stock from directors or officers upon the vesting of restricted stock or restricted stock units to facilitate required income tax withholding by us or the payment of required income taxes by such holders.  In addition, the terms of some of our equity award agreements with all grantees provide for automatic repurchases by us for the same purpose if a vesting-related tax event occurs at a time when the holder is not permitted to sell shares in the market. Any such repurchases of common stock occur at prevailing market prices and are recorded as treasury stock.  Our repurchases of common stock during the three months ended April 30, 2011 and 2010 reflect any such activity.

 

 

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During the three months ended April 30, 2011, we acquired approximately 14,000 shares of treasury stock from an executive officer at a cost of $0.5 million.  During the three months ended April 30, 2010, we acquired 123,000 shares of treasury stock from certain executive officers at a cost of $3.3 million.

 

Accumulated Other Comprehensive Loss

 

The following table summarizes, as of April 30, 2011 and January 31, 2011, the components of our accumulated other comprehensive loss.

 

 

 

April 30,

 

January 31,

 

(in thousands)

 

2011

 

2011

 

Foreign currency translation losses, net

 

$

(32,656

)

$

(41,829

)

Unrealized gains (losses) on derivative financial instruments, net

 

1,455

 

(245

)

Unrealized gains on available-for-sale marketable securities

 

5

 

5

 

Total accumulated other comprehensive loss

 

$

(31,196

)

$

(42,069

)

 

Income tax effects on unrealized gains on derivative financial instruments and available-for-sale marketable securities were not significant.  Foreign currency translation losses, net, primarily reflect the strengthening of the U.S. dollar against the British pound sterling since our acquisition of Witness in May 2007, which has resulted in lower U.S. dollar-translated balances of British pound sterling-denominated goodwill and intangible assets associated with that acquisition.

 

9.              INCOME TAXES

 

Our interim provision for income taxes is measured using an estimated annual effective tax rate, adjusted for discrete items that occur within the periods presented.  The comparison of our effective tax rate between periods is significantly impacted by the level and mix of earnings and losses by tax jurisdiction, foreign income tax rate differentials, amount of permanent book to tax differences, and the effects of valuation allowances on certain loss jurisdictions.

 

For the three months ended April 30, 2011, we recorded an income tax provision of $1.5 million, which represents an effective tax rate of 49.2%.  The effective tax rate is higher than the U.S. federal statutory rate of 35% primarily due to the mix and level of income and losses by jurisdiction. We recorded an income tax provision on income from certain foreign subsidiaries taxed at rates lower than the U.S. federal statutory rate, but we did not recognize a U.S. federal income tax benefit on losses incurred by certain domestic operations where we maintain valuation allowances.

 

 

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For the three months ended April 30, 2010, we recorded an income tax provision of $2.1 million, which represents an effective tax rate of (15.3%).  The effective tax rate is negative due to the fact that we reported income tax expense on a consolidated pre-tax loss. We did not record either a significant federal income tax expense or income tax benefit because we maintain a valuation allowance, but recorded an income tax provision on income from certain foreign subsidiaries taxed at rates lower than the U.S. federal statutory rate.

 

As required by the authoritative guidance on accounting for income taxes, we evaluate the realizability of deferred tax assets on a jurisdictional basis at each reporting date.  Accounting for income taxes requires that a valuation allowance be established when it is more-likely-than-not that all or a portion of the deferred tax assets will not be realized.  In circumstances where there is sufficient negative evidence indicating that the deferred tax assets are not more-likely-than-not realizable, we establish a valuation allowance.  We determined that there is sufficient negative evidence to maintain the valuation allowances against our federal and certain state and foreign deferred tax assets as a result of historical losses in the most recent three-year period in the U.S. and certain foreign jurisdictions.  We intend to maintain valuation allowances until sufficient positive evidence exists to support a reversal.

 

We had unrecognized tax benefits of $32.8 million and $32.7 million (excluding interest and penalties) as of April 30, 2011 and January 31, 2011, respectively.  The accrued liabilities for interest and penalties were $6.2 million and $6.6 million at April 30, 2011 and January 31, 2011, respectively.  Interest and penalties are recorded as a component of the provision for income taxes in our condensed consolidated statements of operations.  As of April 30, 2011 and January 31, 2011, the total amount of unrecognized tax benefits that, if recognized, would impact our effective tax rate were approximately $27.3 million and $27.5 million, respectively.  We regularly assess the adequacy of our provisions for income tax contingencies in accordance with the applicable authoritative guidance on accounting for income taxes.  As a result, we may adjust the reserves for unrecognized tax benefits for the impact of new facts and developments, such as changes to interpretations of relevant tax law, assessments from taxing authorities, settlements with taxing authorities, and lapses of statutes of limitation.  Further, we believe that it is reasonably possible that the total amount of unrecognized tax benefits at April 30, 2011 could decrease by approximately $5.0 million in the next twelve months as a result of settlement of certain tax audits or lapses of statutes of limitation.  Such decreases may involve the payment of additional taxes, the adjustment of deferred taxes including the need for additional valuation allowances, and the recognition of tax benefits.  Our income tax returns are subject to ongoing tax examinations in several jurisdictions in which we operate.  We also believe that it is reasonably possible that new issues may be raised by tax authorities or developments in tax audits may occur which would require increases or decreases to the balance of reserves for unrecognized tax benefits; however, an estimate of such changes cannot reasonably be made.

 

 

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10.       FAIR VALUE MEASUREMENTS

 

Fair value is defined as the price that would be received from selling an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date.  When determining the fair value measurements for assets and liabilities required to be recorded at fair value, we consider the principal or most advantageous market in which we would transact and consider assumptions that market participants would use when pricing the asset or liability, such as inherent risk, transfer restrictions, and risk of nonperformance.

 

Accounting guidance establishes a fair value hierarchy that requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value.  An instrument’s categorization within the fair value hierarchy is based upon the lowest level of input that is significant to the fair value measurement.  This fair value hierarchy consists of three levels of inputs that may be used to measure fair value:

 

·                  Level 1:  quoted prices in active markets for identical assets or liabilities;

 

·                  Level 2:  inputs other than Level 1 that are observable, either directly or indirectly, such as quoted prices in active markets for similar assets or liabilities, quoted prices for identical or similar assets or liabilities in markets that are not active, or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities; or

 

·                  Level 3:  unobservable inputs that are supported by little or no market activity.

 

Assets and liabilities are classified based on the lowest level of input that is significant to the fair value measurements.  We review the fair value hierarchy classification of our applicable assets and liabilities on a quarterly basis.  Changes in the observability of valuation inputs may result in transfers within the fair value measurement hierarchy.  We did not identify any transfers between levels of the fair value measurement hierarchy during the three months ended April 30, 2011.

 

 

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Assets and Liabilities Measured at Fair Value on a Recurring Basis

 

Our assets and liabilities measured at fair value on a recurring basis consisted of the following as of April 30, 2011 and January 31, 2011:

 

 

 

April 30, 2011

 

 

 

Fair Value Hierarchy Category

 

(in thousands)

 

Level 1

 

Level 2

 

Level 3

 

Assets:

 

 

 

 

 

 

 

Money market funds

 

$

39,786

 

$

 

$

 

Foreign currency forward contracts

 

 

1,434

 

 

Total assets

 

$

39,786

 

$

1,434

 

$

 

 

 

 

 

 

 

 

 

Liabilities:

 

 

 

 

 

 

 

Foreign currency forward contracts

 

$

 

$

1,781

 

$

 

Contingent consideration - business combinations

 

 

 

4,613

 

Total liabilities

 

$

 

$

1,781

 

$

4,613

 

 

 

 

 

 

 

January 31, 2011

 

 

 

Fair Value Hierarchy Category

 

(in thousands)

 

Level 1

 

Level 2

 

Level 3

 

Assets:

 

 

 

 

 

 

 

Money market funds

 

$

24,505

 

$

 

$

 

Foreign currency forward contracts

 

 

88

 

 

Total assets

 

$

24,505

 

$

88

 

$

 

 

 

 

 

 

 

 

 

Liabilities:

 

 

 

 

 

 

 

Foreign currency forward contracts

 

$

 

$

1,886

 

$

 

Contingent consideration - business combinations

 

 

 

3,686

 

Total liabilities

 

$

 

$

1,886

 

$

3,686

 

 

 

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The following table presents the change in the estimated fair value of our liabilities for contingent consideration measured using significant unobservable inputs (Level 3) for the three months ended April 30, 2011 and 2010:

 

 

 

Three Months Ended
April 30,

 

(in thousands)

 

2011

 

2010

 

Fair value measurement at beginning of period

 

$

3,686

 

$

 

Contingent consideration liabilities recorded for business combinations

 

904

 

3,224

 

Changes in fair values, recorded in operating expenses

 

2,023

 

40

 

Payments of contingent consideration

 

(2,000

)

 

Fair value measurement at end of period

 

$

4,613

 

$

3,264

 

 

Our estimated liability for contingent consideration represents potential payments of additional consideration for business combinations, payable  if certain defined performance goals are achieved.  Changes in fair value of contingent consideration are recorded in the condensed consolidated statements of operations within selling, general and administrative expenses.

 

Fair Value Measurements

 

Money Market Funds - We value our money market funds using quoted market prices for such funds.

 

Foreign Currency Forward Contracts - The estimated fair value of foreign currency forward contracts is based on quotes received from the counterparties thereto.  These quotes are reviewed for reasonableness by discounting the future estimated cash flows under the contracts, considering the terms and maturities of the contracts and market exchange rates using readily observable market prices for similar contracts.

 

Contingent Consideration — Business Combinations - The fair value of the contingent consideration related to business combinations is estimated using a probability-adjusted discounted cash flow model.  These fair value measurements are based on significant inputs not observable in the market.  The key assumptions used in these models are discount rates and the probabilities assigned to the milestones to be achieved.  We remeasure the fair value of the contingent consideration at each reporting period, and any changes in fair value resulting from either the passage of time or events occurring after the acquisition date, such as changes in the probability of achieving the performance target, are recorded in earnings.

 

 

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Other Financial Instruments

 

The carrying amounts of accounts receivable, accounts payable and accrued liabilities approximate fair value due to their short maturities.

 

As of April 30, 2011 and January 31, 2011, the estimated fair values of our term loan borrowings were $597.0 million and $586.2 million, respectively.  Our term loan borrowings as of April 30, 2011 originated under a new credit agreement executed on April 29, 2011, and, accordingly, the estimated fair value of the term loan was estimated to equal its face amount at that date.  The estimated fair value of the term loan at January 31, 2011 was based upon the estimated bid and ask prices as determined by the agent responsible for the syndication of our term loan.

 

Assets and Liabilities Not Measured at Fair Value on a Recurring Basis

 

In addition to assets and liabilities that are measured at fair value on a recurring basis, we also measure certain assets and liabilities at fair value on a nonrecurring basis. Our non-financial assets, including goodwill, intangible assets and property, plant and equipment, are measured at fair value when there is an indication of impairment and the carrying amount exceeds the asset’s projected undiscounted cash flows.  These assets are recorded at fair value only when an impairment charge is recognized.  No such impairment charges were recorded during the three months ended April 30, 2011 and 2010.

 

11.       DERIVATIVE FINANCIAL INSTRUMENTS

 

Our primary objective for holding derivative financial instruments is to manage foreign currency exchange rate risk and interest rate risk, when deemed appropriate. We enter into these contracts in the normal course of business to mitigate risks and not for speculative purposes.

 

Foreign Currency Forward Contracts

 

Under our risk management strategy, we periodically use derivative financial instruments to manage our short-term exposures to fluctuations in foreign currency exchange rates.  We utilize foreign exchange forward contracts to hedge certain operational cash flow exposures resulting from changes in foreign currency exchange rates.  These cash flow exposures result from portions of our forecasted operating expenses, primarily compensation and related expenses, which are transacted in currencies other than the U.S. dollar, primarily the Israeli shekel and the Canadian dollar.  We also periodically utilize foreign currency forward contracts to manage exposures resulting from forecasted customer collections to be remitted in currencies other than the applicable functional currency.  Our joint venture, which has a Singapore dollar functional currency, also utilizes foreign exchange forward contracts to manage its exposure to exchange rate fluctuations related to settlement of liabilities denominated in U.S. dollars.  These foreign currency forward contracts are reported at fair value on our consolidated balance sheets and generally have maturities of no longer than twelve months, although occasionally we will execute a contract that extends beyond twelve months, depending upon the nature of the underlying risk.

 

 

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The counterparties to our derivative financial instruments consist of several major international financial institutions.  We regularly monitor the financial strength of these institutions.  While the counterparties to these contracts expose us to credit-related losses in the event of a counterparty’s non-performance, the risk would be limited to the unrealized gains on such affected contracts.  We do not anticipate any such losses.

 

Certain of our foreign currency forward contracts are not designated as hedging instruments under derivative accounting guidance, and gains and losses from changes in their fair values are therefore reported in other income (expense), net.  Changes in the fair value of foreign currency forward contracts that are designated and effective as cash flow hedges are recorded net of related tax effects in accumulated other comprehensive income (loss) and are reclassified to the statement of operations when the effects of the item being hedged are recognized in the statement of operations.

 

Interest Rate Swap Agreement

 

In May 2007, concurrently with entry into our Prior Credit Agreement, we executed a pay-fixed/ receive-variable interest rate swap agreement with a high credit-quality multinational financial institution to mitigate a portion of the risk associated with variable interest rates on the associated term loan.  We recorded a $1.6 million loss on the interest rate swap for the three months ended April 30, 2010.  In July 2010, we terminated that interest rate swap agreement.

 

The interest rate swap agreement was not designated as a hedging instrument under derivative accounting guidance, and gains and losses from changes in its fair value were therefore reported in other income (expense), net.

 

Notional Amounts of Derivative Financial Instruments

 

Our outstanding derivative financial instruments consist only of foreign currency forward contracts with notional amounts of $43.4 million and $51.1 million as of April 30, 2011 and January 31, 2011, respectively.

 

 

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Fair Values of Derivative Financial Instruments

 

The fair values of our derivative financial instruments as of April 30, 2011 and January 31, 2011 were as follows:

 

 

 

April 30, 2011

 

 

 

Assets

 

Liabilities

 

(in thousands)

 

Balance Sheet
Classification

 

Fair Value

 

Balance Sheet
Classification

 

Fair Value

 

Derivative financial instruments designated as hedging instruments:

 

 

 

 

 

 

 

 

 

Foreign currency forward contracts

 

Prepaid expenses and other current assets

 

$

1,434

 

 

$

 

Total derivative financial instruments designated as hedging instruments

 

 

 

$

1,434

 

 

 

$

 

 

 

 

 

 

 

 

 

 

 

Derivative financial instruments not designated as hedging instruments:

 

 

 

 

 

 

 

 

 

Foreign currency forward contracts

 

 

$

 

Accrued expenses and other liabilities

 

$

1,781

 

Total derivative financial instruments not designated as hedging instruments

 

 

 

$

 

 

 

$

1,781

 

 

 

 

January 31, 2011

 

 

 

Assets

 

Liabilities

 

(in thousands)

 

Balance Sheet
Classification

 

Fair Value

 

Balance Sheet
Classification

 

Fair Value

 

Derivative financial instruments designated as hedging instruments:

 

 

 

 

 

 

 

 

 

Foreign currency forward contracts

 

Prepaid expenses and other current assets

 

$

88

 

Accrued expenses and other liabilities

 

$

396

 

Total derivative financial instruments designated as hedging instruments

 

 

 

$

88

 

 

 

$

396

 

 

 

 

 

 

 

 

 

 

 

Derivative financial instruments not designated as hedging instruments:

 

 

 

 

 

 

 

 

 

Foreign currency forward contracts

 

 

$

 

Accrued expenses and other liabilities

 

$

1,490

 

Total derivative financial instruments not designated as hedging instruments

 

 

 

$

 

 

 

$

1,490

 

 

 

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Derivative Financial Instruments in Cash Flow Hedging Relationships

 

The effects of derivative financial instruments in cash flow hedging relationships for the three months ended April 30, 2011 and 2010 were as follows:

 

 

 

Net Gains (Losses)
Recognized in Accumulated
Other Comprehensive Loss

 

Classification of Net
Gains Reclassified from
Other Comprehensive
Loss into the
Condensed
Consolidated

 

Net Gains Reclassified from
Other Comprehensive Loss into
the Condensed Statements of
Operations

 

 

 

April 30,

 

January 31,

 

Statements of

 

Three Months Ended April 30,

 

(in thousands)

 

2011

 

2011

 

Operations

 

2011

 

2010

 

Foreign currency forward contracts

 

$

1,455

 

$

(245

)

Operating Expenses

 

$

807

 

$

151

 

 

There were no gains or losses from ineffectiveness of these hedges recorded for the three months ended April 30, 2011 and 2010.

 

Derivative Financial Instruments Not Designated as Hedging Instruments

 

Losses recognized on derivative financial instruments not designated as hedging instruments in our consolidated statements of operations for the three months ended April 30, 2011 and 2010 were as follows:

 

 

 

Classification in Condensed

 

Three Months Ended April 30,

 

(in thousands)

 

Statements of Operations

 

2011

 

2010

 

Interest rate swap agreement

 

Other income (expense), net

 

$

 

$

(1,601

)

Foreign currency forward contracts

 

Other income (expense), net

 

(1,933

)

(102

)

Total

 

 

 

$

(1,933

)

$

(1,703

)

 

 

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12.       STOCK-BASED COMPENSATION

 

We recognized stock-based compensation expense in the following line items on the condensed consolidated statements of operations for the three months ended April 30, 2011 and 2010:

 

 

 

Three Months Ended
April 30,

 

(in thousands) 

 

2011

 

2010

 

Cost of revenue - product

 

$

261

 

$

631

 

Cost of revenue - service and support

 

708

 

1,778

 

Research and development, net

 

849

 

3,485

 

Selling, general, and administrative

 

5,732

 

12,076

 

Total stock-based compensation expense

 

$

7,550

 

$

17,970

 

 

Total stock-based compensation expense by classification was as follows for the three months ended April 30, 2011 and 2010:

 

 

 

Three Months Ended
April 30,

 

(in thousands) 

 

2011

 

2010

 

Equity-classified awards

 

$

5,785

 

$

7,546

 

Liability-classified awards

 

1,765

 

10,424

 

Total stock-based compensation expense

 

$

7,550

 

$

17,970

 

 

Our liability-classified awards are primarily phantom stock awards, which are settled with cash payments equivalent to the market value of our common stock upon vesting.  Their value tracks the market price of our common stock and is subject to market volatility.

 

The decrease in stock-based compensation expense in the three months ended April 30, 2011, compared to the comparable period in the prior year, was due to a decrease in the number of outstanding phantom awards compared to the prior period.

 

Stock Options

 

We have not granted stock options subsequent to January 31, 2006.  However, in connection with our acquisition of Witness on May 25, 2007, stock options to purchase Witness common stock were converted into stock options to purchase approximately 3.1 million shares of our common stock.

 

 

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Stock option exercises had been suspended during our extended filing delay period.  Following the completion of certain delayed SEC filings in June 2010, stock option holders were permitted to resume exercising vested stock options.  During the three months ended April 30, 2011, approximately 258,000 common shares were issued pursuant to stock option exercises for total proceeds of $5.2 million.  As of April 30, 2011, we had approximately 1.5 million stock options outstanding, all of which were exercisable as of such date.

 

Restricted Stock Awards and Restricted Stock Units

 

We periodically award shares of restricted stock, as well as restricted stock units, to our directors, officers, and other employees. These awards contain various vesting conditions and are subject to certain restrictions and forfeiture provisions prior to vesting.

 

During the three months ended April 30, 2011 and 2010, we granted 0.9 million restricted stock units and 1.0 million combined restricted stock awards and restricted stock units, respectively.  Forfeitures of restricted stock awards and restricted stock units were not significant during either period.  As of April 30, 2011 and 2010, we had 1.8 million and 4.1 million combined restricted stock awards and stock units outstanding, respectively, with weighted-average grant date fair values of $29.17 and $25.30, respectively.

 

As of April 30, 2011, there was approximately $34.5 million of total unrecognized compensation cost, net of estimated forfeitures, related to unvested restricted stock awards and restricted stock units, which is expected to be recognized over weighted-average periods of 0.1 years for restricted stock awards and 1.7 years for restricted stock units.

 

Phantom Stock Units

 

We have issued phantom stock units to certain non-officer employees that settle, or are expected to settle, with cash payments upon vesting.   Like equity-settled awards, phantom stock units are awarded with vesting conditions and are subject to certain forfeiture provisions prior to vesting.

 

Phantom stock units granted during the three months ended April 30, 2011 were not significant.  During the three months ended April 30, 2010, we granted 0.2 million phantom stock units.  Forfeitures of awards in each period were not significant.  Total cash payments made upon vesting of phantom stock units were $7.0 million and $10.6 million for the three months ended April 30, 2011 and 2010, respectively.  The total accrued liabilities for phantom stock units were $4.5 million and $9.8 million as of April 30, 2011 and January 31, 2011, respectively.

 

 

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13.       OTHER INCOME (EXPENSE), NET

 

Other income (expense), net consisted of the following for the three months ended April 30, 2011 and 2010:

 

 

 

Three Months Ended April 30,

 

(in thousands)

 

2011

 

2010

 

Foreign currency gains (losses), net

 

$

2,991

 

$

(1,734

)

Losses on derivative financial instruments, net

 

(1,933

)

(1,703

)

Other, net

 

(46

)

(261

)

Total other income (expense), net

 

$

1,012

 

$

(3,698

)

 

14.       LEGAL PROCEEDINGS

 

On March 26, 2009, a motion to approve a class action lawsuit (the “Labor Motion”), and the class action lawsuit itself (the “Labor Class Action”) (Labor Case No. 4186/09), were filed against our subsidiary, Verint Systems Limited (“VSL”), by a former employee of VSL, Orit Deutsch, in the Tel Aviv Labor Court.  Ms. Deutsch purports to represent a class of our employees and ex-employees who were granted options to buy shares of Verint and to whom allegedly damages were caused as a result of the blocking of the ability to exercise Verint options by our employees or ex-employees.  The Labor Motion and the Labor Class Action both claim that we are responsible for the alleged damages due to our status as employer and that the blocking of Verint options from being exercised constitutes a default of the employment agreements between the members of the class and VSL.  The Labor Class Action seeks compensatory damages for the entire class in an unspecified amount.  On July 9, 2009, we filed a motion for summary dismissal and alternatively for the stay of the Labor Motion.  A preliminary session was held on July 12, 2009.  Ms. Deutsch filed her response to our response on November 10, 2009. On February 8, 2010, the Tel Aviv Labor Court dismissed the case for lack of material jurisdiction and ruled that it will be transferred to the District Court in Tel Aviv.  The case has been scheduled for a preliminary hearing in the District Court in Tel Aviv on October 11, 2011.  As of April 30, 2011, no amount has been accrued for this matter as we were not able to estimate the probability or amount of any potential loss at that date.

 

From time to time we or our subsidiaries may be involved in legal proceedings and/or litigation arising in the ordinary course of our business. While the outcome of these matters cannot be predicted with certainty, we do not believe that the outcome of any current claims will have a material adverse effect on our consolidated financial position, results of operations, or cash flows.

 

 

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15.       SEGMENT INFORMATION

 

We conduct our business in three operating segments - Enterprise Workforce Optimization Solutions (“Workforce Optimization”), Video Intelligence Solutions (“Video Intelligence”), and Communications Intelligence and Investigative Solutions (“Communications Intelligence”).  These segments also represent our reportable segments.

 

We measure the performance of our operating segments based upon operating segment revenue and operating segment contribution.  Operating segment contribution includes segment revenue and expenses incurred directly by the segment, including material costs, service costs, research and development and selling, marketing, and administrative expenses.  We do not allocate certain expenses, which include the majority of general and administrative expenses, facilities and communication expenses, purchasing expenses, manufacturing support and logistic expenses, depreciation and amortization, amortization of capitalized software development costs, stock-based compensation, and special charges such as restructuring and integration expenses.  These expenses are included in the unallocated expenses section of the table presented below.  Revenue from transactions between our operating segments is not material.

 

With the exception of goodwill and acquired intangible assets, we do not identify or allocate our assets by operating segment.  Consequently, it is not practical to present assets by operating segment.  There were no material changes in the allocation of goodwill and acquired intangible assets by operating segment during the three months ended April 30, 2011 and 2010.  The allocation of goodwill and acquired intangible assets by operating segment appears in Note 5, “Intangible Assets and Goodwill”.

 

 

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Operating results by segment for the three months ended April 30, 2011 and 2010 were as follows:

 

 

 

Three Months Ended

 

 

 

April 30,

 

(in thousands) 

 

2011

 

2010

 

 

 

 

 

 

 

Revenue:

 

 

 

 

 

Workforce Optimization

 

$

97,271

 

$

96,880

 

Video Intelligence

 

 

 

 

 

Segment revenue

 

30,269

 

31,545

 

Revenue adjustment

 

(235

)

 

 

 

30,034

 

31,545

 

Communications Intelligence

 

49,027

 

44,188

 

Total revenue

 

$

176,332

 

$

172,613

 

 

 

 

 

 

 

Segment contribution:

 

 

 

 

 

Workforce Optimization

 

$

42,976

 

$

45,974

 

Video Intelligence

 

7,571

 

9,266

 

Communications Intelligence

 

19,245

 

15,242

 

Total segment contribution

 

69,792

 

70,482

 

 

 

 

 

 

 

Unallocated expenses, net:

 

 

 

 

 

Amortization of other acquired intangible assets

 

8,196

 

7,572

 

Stock-based compensation

 

7,550

 

17,970

 

Other unallocated expenses

 

35,212

 

48,922

 

 

 

50,958

 

74,464

 

Operating income (loss)

 

18,834

 

(3,982

)

Other expense, net

 

(15,770

)

(9,563

)

Income (loss) before provision for income taxes

 

$

3,064

 

$

(13,545

)

 

For the three months ended April 30, 2011, Video Intelligence segment revenue includes $0.2 million of additional revenue, related to deferred revenue which is not recognizable in our GAAP revenue under accounting standards for business combinations.  We include this additional revenue within our segment revenue because it better reflects our ongoing maintenance and service revenue stream.

 

 

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Item 2.                                                           Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

The following management’s discussion and analysis of our financial condition and results of operations is designed to provide a better understanding of the significant factors related to our results of operations and financial condition. The following information should be read in conjunction with our audited consolidated financial statements and the notes thereto included in our Annual Report on Form 10-K for the year ended January 31, 2011 and our unaudited condensed consolidated financial statements and notes thereto contained in this report. This discussion contains a number of forward-looking statements, all of which are based on our current expectations and all of which could be affected by uncertainties and risks. Our actual results may differ materially from the results contemplated in these forward-looking statements as a result of many factors including, but not limited to, those described under “Cautionary Note on Forward-Looking Statements”.

 

Business Overview

 

Verint is a global leader in Actionable Intelligence® solutions and value-added services. Our solutions enable organizations of all sizes to make timely and effective decisions to improve enterprise performance and make the world a safer place.  More than 10,000 organizations in over 150 countries — including over 85% of the Fortune 100 — use Verint Actionable Intelligence solutions to capture, distill, and analyze complex and underused information sources, such as voice, video, and unstructured text.

 

In the enterprise market, our workforce optimization solutions help organizations enhance customer service operations in contact centers, branches, and back-office environments to increase customer satisfaction, reduce operating costs, identify revenue opportunities, and improve profitability.  In the security intelligence market, our video intelligence, public safety, and communications intelligence solutions are vital to government and commercial organizations in their efforts to protect people and property and neutralize terrorism and crime.

 

Recent Developments

 

In April 2011, we entered into a new Credit Agreement and concurrently terminated our Prior Credit Agreement.  Further details regarding these transactions appear in “Credit Agreements” under “Liquidity and Capital Resources”, below, and in Note 6, “Long-term Debt” of the Notes to Condensed Consolidated Financial Statements under Part I, Item 1.

 

Critical Accounting Policies and Estimates

 

Note 1, “Summary of Significant Accounting Policies” to the audited consolidated financial statements in our Annual Report on Form 10-K for the year ended January 31, 2011 describes the significant accounting policies and methods used in the preparation of the condensed consolidated financial statements appearing in this report.  The accounting policies that reflect our more significant estimates, judgments and assumptions in the preparation of our consolidated financial statements are described in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in Item 7 of our Annual Report on Form 10-K for the

 

 

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twelve months ended January 31, 2011, and include the following:

 

·                  Revenue recognition;

 

·                  Accounting for business combinations;

 

·                  Impairment of goodwill and other intangible assets;

 

·                  Accounting for income taxes;

 

·                  Contingencies;

 

·                  Accounting for stock-based compensation; and

 

·                  Allowance for doubtful accounts.

 

Except for the changes to our critical accounting policies and estimates discussed below, we do not believe that there were any significant changes in our critical accounting policies and estimates during the three months ended April 30, 2011.

 

Multiple-Deliverable Revenue Arrangements

 

On February 1, 2011, we adopted new accounting guidance for multiple-deliverable revenue arrangements that are outside the scope of industry-specific software revenue recognition guidance, on a prospective basis.  This guidance amends the criteria for allocating consideration in multiple-deliverable revenue arrangements by establishing a selling price hierarchy.  The selling price used for each deliverable will be based on vendor-specific objective evidence (“VSOE”) if available, third-party evidence of selling price (“TPE”) if VSOE is not available, or estimated selling price (“ESP”) if neither VSOE nor TPE is available.  Further discussion of this guidance appears in Note 1, “Basis of Presentation and Significant Accounting Policies” of the Notes to Condensed Consolidated Financial Statements included under Part I, Item 1.

 

When we are unable to establish selling price using VSOE or TPE, we use ESP in our allocation of arrangement consideration. ESP is a more subjective measure than either VSOE or TPE, and determining ESP requires significant judgment.  We determine ESP for a product or service by considering multiple factors including, but not limited to, geographies, market conditions, competitive landscape, internal costs, gross margin objectives, and pricing practices.

 

 

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Results of Operations

 

Financial Overview

 

The following table sets forth a summary of certain key financial information for the three months ended April 30, 2011 and 2010:

 

 

 

Three Months Ended April 30,

 

(in thousands, except per share data) 

 

2011

 

2010

 

Revenue

 

$

176,332

 

$

172,613

 

Operating income (loss)

 

$

18,834

 

$

(3,982

)

Net loss attributable to Verint Systems Inc. common shares

 

$

(3,661

)

$

(19,611

)

Net loss per share attributable to Verint Systems Inc.:

 

 

 

 

 

Basic

 

$

(0.10

)

$

(0.60

)

Diluted

 

$

(0.10

)

$

(0.60

)

 

Three Months Ended April 30, 2011 compared to Three Months Ended April 30, 2010.  Our revenue increased approximately 2%, or $3.7 million, to $176.3 million in the three months ended April 30, 2011 from $172.6 million in the three months ended April 30, 2010.  The increase was due to a revenue increase in our Communications Intelligence segment, partially offset by a revenue decrease in our Video Intelligence segment.  In our Communications Intelligence segment, revenue increased $4.8 million, or 11%,  primarily due to the progress realized during the current-year period on certain large projects that commenced in the previous fiscal year.  In our Video Intelligence segment, revenue decreased $1.5 million, or 5%, primarily due a reduction in revenue recognized from prior fiscal years’ multiple-element arrangements where the entire arrangement was being recognized ratably over several quarters or years.  This decrease was offset by an increase in product deliveries to customers during the three months ended April 30, 2011.  For more details on our revenue by segment, see “—Revenue by Operating Segment”.  Revenue in the Americas, Europe, the Middle East, and Africa (“EMEA”), and the Asia-Pacific region (“APAC”) represented approximately 50%, 27%, and 23% of our total revenue, respectively, in the three months ended April 30, 2011 compared to approximately 54%, 26%, and 20%, respectively, in the three months ended April 30, 2010.

 

Operating income was $18.8 million in the three months ended April 30, 2011 compared to an operating loss of $4.0 million in the three months ended April 30, 2010.  The increase in operating income was primarily due to an increase in gross profit of $6.2 million to $121.0 million, from $114.8 million, and a decrease in operating expenses of $16.6 million to $102.2 million, from $118.8 million.  The increase in gross profit was primarily due to margin expansion in our Communications Intelligence and Video Intelligence segments.  The decrease in operating expenses was primarily due to a decrease in professional fees of $17.8 million following the completion of our restatement of previously filed financial statements and the conclusion of our extended filing delay period in June 2010, and a decrease in stock-based compensation of $6.3 million, primarily due to a decrease in the number of outstanding stock-based compensation arrangements accounted for as liability awards compared to the three months ended April 30, 2010.

 

 

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Net loss attributable to Verint Systems Inc. common shares was $3.7 million and diluted net loss per common share was $0.10 in the three months ended April 30, 2011 compared to net loss attributable to Verint Systems Inc. common shares of $19.6 million and diluted net loss per common share of $0.60 in the three months ended April 30, 2010.  The decrease in net loss attributable to Verint Systems Inc. common shares and diluted net loss per common share in the three months ended April 30, 2011 was due to our increased operating income, as described above, partially offset by $6.2 million of higher other expense, net, which was primarily driven by a loss on extinguishment of debt recorded in connection with the termination of our prior credit facility during the three months ended April 30, 2011.

 

A portion of our business is conducted in currencies other than the U.S. dollar, and therefore our revenues and operating expenses are affected by fluctuations in applicable foreign currency exchange rates.  When comparing average exchange rates for the three months ended April 30, 2011 to average exchange rates for the three months ended April 30, 2010, the U.S. dollar weakened relative to the British pound sterling, euro, the Israeli shekel, Canadian dollar, Australian dollar, Singapore dollar and Brazilian real, which are the major foreign currencies in which we transacted, resulting in increases in our revenue, cost of revenue and operating expenses.  For the three months ended April 30, 2011, had foreign exchange rates remained unchanged from applicable rates in effect for the three months ended April 30, 2010, our revenue would have been approximately $3.0 million lower and our cost of revenue and operating expenses would also have been approximately $3.0 million lower, which would have resulted in a minimal impact to operating income.

 

As of April 30, 2011, we employed approximately 2,800 people, including part-time employees and certain contractors, compared to approximately 2,600 as of April 30, 2010.

 

Revenue by Operating Segment

 

The following table sets forth revenue for each of our three operating segments for the three months ended April 30, 2011 and 2010:

 

 

 

Three Months Ended April 30,

 

% Change

 

(in thousands) 

 

2011

 

2010

 

2011 - 2010

 

Workforce Optimization

 

$

97,271

 

$

96,880

 

0

%

 

Video Intelligence

 

30,034

 

31,545

 

(5

%)

 

Communications Intelligence

 

49,027