UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
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| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
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FOR THE QUARTERLY PERIOD ENDED February 28, 2006 | ||
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or | ||
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| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
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FOR THE TRANSITION PERIOD FROM TO |
Commission file number 000-33335 |
LAWSON SOFTWARE, INC.
(Exact name of registrant as specified in its charter)
DELAWARE |
| 41-1251159 |
(State or other jurisdiction of |
| (I.R.S. Employer |
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380 ST. PETER STREET | ||
(Address of principal executive offices) | ||
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(651) 767-7000 | ||
(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 ý NO o
Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). YES ý NO o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). YES o NO ý
The number of shares of the registrant’s common stock outstanding as of March 31, 2006 was 104,452,213.
LAWSON SOFTWARE, INC.
Form 10-Q
Index
2
LAWSON SOFTWARE, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands)
(unaudited)
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| February 28, |
| May 31, |
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ASSETS |
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Current assets: |
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Cash and cash equivalents |
| $ | 187,140 |
| $ | 187,744 |
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Marketable securities |
| 90,264 |
| 43,099 |
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Trade accounts receivable, net |
| 49,847 |
| 42,907 |
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Deferred income taxes |
| 7,502 |
| 9,314 |
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Prepaid expenses and other assets |
| 13,464 |
| 19,260 |
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Total current assets |
| 348,217 |
| 302,324 |
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Long-term marketable securities |
| 496 |
| 3,770 |
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Property and equipment, net |
| 12,371 |
| 13,574 |
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Goodwill |
| 43,304 |
| 43,407 |
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Other intangible assets, net |
| 25,381 |
| 31,939 |
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Deferred income taxes |
| 24,299 |
| 21,385 |
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Other assets |
| 9,418 |
| 4,319 |
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Total assets |
| $ | 463,486 |
| $ | 420,718 |
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LIABILITIES AND STOCKHOLDERS’ EQUITY |
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Current liabilities: |
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Current portion of long-term debt |
| $ | 300 |
| $ | 1,836 |
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Accounts payable |
| 11,068 |
| 12,003 |
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Accrued compensation and benefits |
| 16,807 |
| 17,656 |
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Other accrued liabilities |
| 17,417 |
| 14,430 |
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Income taxes payable |
| 5,718 |
| 1,418 |
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Deferred revenue |
| 73,713 |
| 76,571 |
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Total current liabilities |
| 125,023 |
| 123,914 |
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Long-term deferred revenue |
| 2,996 |
| 1,284 |
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Other long-term liabilities |
| 3,118 |
| 2,465 |
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Total liabilities |
| 131,137 |
| 127,663 |
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Commitments and contingencies (Note 9) |
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Stockholders’ equity: |
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Preferred stock; $0.01 par value; 42,562 shares authorized; no shares issued or outstanding |
| — |
| — |
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Common stock; $0.01 par value; 750,000 shares authorized; 115,212 and 112,414 shares issued, respectively; 104,295 and 100,619 shares outstanding, at February 28, 2006 and May 31, 2005, respectively |
| 1,152 |
| 1,124 |
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Additional paid-in capital |
| 355,571 |
| 338,666 |
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Treasury stock, at cost; 10,917 and 11,795 shares at February 28, 2006 and May 31, 2005, respectively. |
| (70,311 | ) | (72,348 | ) | |||||
Deferred stock-based compensation |
| (229 | ) | (41 | ) | |||||
Retained earnings |
| 43,473 |
| 22,733 |
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Accumulated other comprehensive income |
| 2,693 |
| 2,921 |
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Total stockholders’ equity |
| 332,349 |
| 293,055 |
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Total liabilities and stockholders’ equity |
| $ | 463,486 |
| $ | 420,718 |
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The accompanying notes are an integral part of the condensed consolidated financial statements.
3
LAWSON SOFTWARE, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share data)
(unaudited)
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| Three Months Ended |
| Nine Months Ended |
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| February 28, |
| February 28, |
| February 28, |
| February 28, |
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Revenues: |
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License fees |
| $ | 15,099 |
| $ | 13,924 |
| $ | 51,824 |
| $ | 40,370 |
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Services |
| 72,596 |
| 68,790 |
| 212,822 |
| 208,028 |
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Total revenues |
| 87,695 |
| 82,714 |
| 264,646 |
| 248,398 |
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Cost of revenues: |
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Cost of license fees |
| 2,727 |
| 2,232 |
| 7,922 |
| 7,511 |
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Cost of services |
| 32,576 |
| 34,260 |
| 99,213 |
| 107,764 |
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Total cost of revenues |
| 35,303 |
| 36,492 |
| 107,135 |
| 115,275 |
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Gross profit |
| 52,392 |
| 46,222 |
| 157,511 |
| 133,123 |
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Operating expenses: |
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Research and development |
| 14,325 |
| 15,527 |
| 42,875 |
| 46,828 |
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Sales and marketing |
| 17,655 |
| 17,681 |
| 56,092 |
| 58,216 |
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General and administrative |
| 9,644 |
| 10,325 |
| 36,555 |
| 26,486 |
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Restructuring (Note 7) |
| — |
| (153 | ) | 5 |
| 5,237 |
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Amortization of acquired intangibles |
| 346 |
| 391 |
| 1,077 |
| 1,160 |
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Total operating expenses |
| 41,970 |
| 43,771 |
| 136,604 |
| 137,927 |
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Operating income (loss) |
| 10,422 |
| 2,451 |
| 20,907 |
| (4,804 | ) | ||||
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Other income: |
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Interest income |
| 2,814 |
| 1,281 |
| 7,486 |
| 2,845 |
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Interest expense |
| (1 | ) | (11 | ) | (26 | ) | (39 | ) | ||||
Total other income |
| 2,813 |
| 1,270 |
| 7,460 |
| 2,806 |
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Income (loss) before income taxes |
| 13,235 |
| 3,721 |
| 28,367 |
| (1,998 | ) | ||||
Provision (benefit) for income taxes |
| 3,228 |
| 961 |
| 7,627 |
| (1,321 | ) | ||||
Net income (loss) |
| $ | 10,007 |
| $ | 2,760 |
| $ | 20,740 |
| $ | (677 | ) |
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Net income (loss) per share: |
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Basic |
| $ | 0.10 |
| $ | 0.03 |
| $ | 0.20 |
| $ | (0.01 | ) |
Diluted |
| $ | 0.09 |
| $ | 0.03 |
| $ | 0.19 |
| $ | (0.01 | ) |
Shares used in computing net income (loss) per share: |
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Basic |
| 103,572 |
| 99,342 |
| 102,384 |
| 98,651 |
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Diluted |
| 108,033 |
| 104,899 |
| 106,877 |
| 98,651 |
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The accompanying notes are an integral part of the condensed consolidated financial statements.
4
LAWSON SOFTWARE, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(unaudited)
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| Nine Months Ended |
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| February 28, |
| February 28, |
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Cash flows from operating activities: |
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Net income (loss) |
| $ | 20,740 |
| $ | (677 | ) |
Adjustments to reconcile net income (loss) to net cash provided by operating activities: |
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Depreciation and amortization |
| 10,573 |
| 12,258 |
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Deferred income taxes |
| (1,102 | ) | 3,828 |
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Provision for doubtful accounts, net of recoveries |
| (1,303 | ) | 413 |
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Loss on the disposal of assets |
| — |
| 1 |
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Tax benefit from stockholder transactions for option activity |
| 4,255 |
| 2,955 |
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Amortization of stock-based compensation |
| 337 |
| 171 |
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Stock-based compensation |
| 6,368 |
| — |
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Amortization of discount on notes payable |
| 17 |
| 67 |
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Amortization of (premium) discount on marketable securities |
| (311 | ) | 119 |
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Changes in operating assets and liabilities, net of effect from acquisitions: |
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Trade accounts receivable |
| (5,637 | ) | 22,524 |
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Prepaid expenses and other assets |
| 3,628 |
| (6,918 | ) | ||
Accounts payable |
| (935 | ) | (1,030 | ) | ||
Accrued and other liabilities |
| (1,186 | ) | (6,710 | ) | ||
Income taxes payable |
| 4,327 |
| (999 | ) | ||
Deferred revenue and customer deposits |
| (1,146 | ) | (8,915 | ) | ||
Net cash provided by operating activities |
| 38,625 |
| 17,087 |
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Cash flows from investing activities: |
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Cash paid in conjunction with acquisition (Note 5) |
| (2,929 | ) | — |
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Purchases of marketable securities |
| (116,425 | ) | (447,864 | ) | ||
Sales and maturities of marketable securities |
| 72,773 |
| 435,608 |
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Purchases of property and equipment |
| (2,967 | ) | (3,101 | ) | ||
Net cash used in investing activities |
| (49,548 | ) | (15,357 | ) | ||
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Cash flows from financing activities: |
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Principal payments on long term debt |
| (1,684 | ) | (1,323 | ) | ||
Exercise of stock options |
| 9,266 |
| 6,378 |
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Issuance of treasury shares for employee stock purchase plan |
| 2,737 |
| 3,947 |
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Repurchase of common stock |
| — |
| (10,000 | ) | ||
Net cash provided by (used in) financing activities |
| 10,319 |
| (998 | ) | ||
Increase (decrease) in cash and cash equivalents |
| (604 | ) | 732 |
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Cash and cash equivalents at beginning of period |
| 187,744 |
| 72,396 |
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Cash and cash equivalents at end of period |
| $ | 187,140 |
| $ | 73,128 |
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The accompanying notes are an integral part of the condensed consolidated financial statements.
5
LAWSON SOFTWARE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
1. BASIS OF PRESENTATION
The unaudited condensed consolidated financial statements included herein reflect all adjustments, in the opinion of management, necessary to fairly state Lawson Software, Inc.’s (the Company’s) consolidated financial position, results of operations and cash flows for the periods presented. These adjustments consist of normal, recurring items. The preparation of financial statements in conformity with generally accepted accounting principles in the United States of America requires management to make estimates and assumptions that affect the reported amounts therein. Due to the inherent uncertainty involved in making estimates, actual results in future periods may differ from those estimates. The results of operations for the three and nine month periods ended February 28, 2006, are not necessarily indicative of the results to be expected for any subsequent quarter or for the entire fiscal year ending May 31, 2006. The unaudited condensed consolidated financial statements and notes are presented as permitted by the requirements for Form 10-Q and do not contain certain information included in the Company’s annual financial statements and notes. The year-end condensed consolidated balance sheet data was derived from audited financial statements, but does not include all disclosures required by accounting principles generally accepted in the United States of America. The accompanying interim condensed consolidated financial statements should be read in conjunction with the audited financial statements and related notes included in the Company’s Annual Report on Forms 10-K and Form 10-K/A filed with the Securities and Exchange Commission for the fiscal year ended May 31, 2005. As of February 28, 2006 the Company disclosed income tax payable and long-term deferred revenue separately and as a result the Company made revisions in classification of those amounts to prior periods to conform to the current presentation. The revisions in classifications had no impact on the Company’s net income or stockholders’ equity as previously reported.
2. STOCK-BASED COMPENSATION
The Company accounts for stock-based employee compensation arrangements in accordance with the provisions of Accounting Principles Board (APB) Opinion No. 25, “Accounting for Stock Issued to Employees,” and complies with the disclosure provisions of Statement of Financial Accounting Standard (SFAS) No. 123, “Accounting for Stock-Based Compensation” and SFAS No. 148 “Accounting for Stock-Based Compensation-Transition and Disclosure, an amendment of Financial Accounting Standards Board (FASB) Statement No. 123.”
The Company has adopted the disclosure-only provisions of SFAS No. 123. For purposes of the pro forma disclosures below, the estimated fair value of the options is amortized to expense over the options’ vesting period. Had compensation cost for the Company’s stock options been recognized based on the fair value at the grant date consistent with the provisions of SFAS No. 123, the Company’s net income (loss) and net income (loss) per share would have been adjusted to the pro forma amounts indicated below (in thousands, except per share amounts):
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| Three Months Ended |
| Nine Months Ended |
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| 2006 |
| 2005 |
| 2006 |
| 2005 |
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Net income (loss): |
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As reported |
| $ | 10,007 |
| $ | 2,760 |
| $ | 20,740 |
| $ | (677 | ) |
Add: Stock-based employee compensation expense included in reported net income (loss), net of taxes |
| 60 |
| 38 |
| 4,104 |
| 104 |
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Deduct: Total stock-based compensation expense determined under fair value based method for all rewards, net of taxes |
| (1,302 | ) | (1,862 | ) | (4,760 | ) | (5,441 | ) | ||||
Pro forma net income (loss) |
| $ | 8,765 |
| $ | 936 |
| $ | 20,084 |
| $ | (6,014 | ) |
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Net income (loss) per share: |
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Basic: |
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As reported |
| $ | 0.10 |
| $ | 0.03 |
| $ | 0.20 |
| $ | (0.01 | ) |
Pro forma |
| $ | 0.08 |
| $ | 0.01 |
| $ | 0.20 |
| $ | (0.06 | ) |
Diluted: |
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As reported |
| $ | 0.09 |
| $ | 0.03 |
| $ | 0.19 |
| $ | (0.01 | ) |
Pro forma |
| $ | 0.08 |
| $ | 0.01 |
| $ | 0.19 |
| $ | (0.06 | ) |
6
During the nine months ended February 28, 2006, the Company recognized $4.1 million of after-tax stock-based employee compensation expense that included a $3.8 million non-cash charge resulting from a negotiated separation agreement with its former president and chief executive officer. The agreement was deemed to be a modification of previously granted options and therefore resulted in an intrinsic value charge for option expense under APB No. 25. In calculating the pro forma net income (loss) under SFAS No.123 for the three and nine months ended February 28, 2006, $1.3 million and $ 4.8 million respectively, net of related tax effects, were deducted from net income (loss) representing the total stock-based employee compensation expense that was determined under the fair value based method for all awards. The options for the former president and chief executive officer that were deemed modified were 100% vested and therefore under the fair value based method only $0.4 million, net of related tax effects, in option expense was included as expense in the pro forma calculation relating to the incremental value of the modified options as compared with the options before modification for the nine months ended February 28, 2006.
Additionally, during the nine months ended February 28, 2006, all “out-of-the-money” options for all Section 16b officers and directors as of June 1, 2005 were modified to permit a two year exercise window after termination. While this required no charge in the Company’s income statement under APB No. 25, there was an after-tax fair value charge included in the pro forma charge above of $0.3 million for the nine months ended February 28, 2006. The total of both modifications under SFAS No. 123 was $0.7 million for the nine months ended February 28, 2006.
3. PER SHARE DATA
Basic earnings per share is computed using the net income (loss) and the weighted average number of shares of common stock outstanding. Diluted earnings per share reflect the weighted average number of shares of common stock outstanding plus any potentially dilutive shares outstanding during the period. Potentially dilutive shares consist of shares to be issued upon the exercise of stock options and warrants and release of restricted stock (in thousands, except per share amounts).
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| Three Months Ended |
| Nine Months Ended |
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| 2006 |
| 2005 |
| 2006 |
| 2005 |
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Basic earnings per share computation: |
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Net income (loss) |
| $ | 10,007 |
| $ | 2,760 |
| $ | 20,740 |
| $ | (677 | ) |
Weighted average common shares – basic |
| 103,572 |
| 99,342 |
| 102,384 |
| 98,651 |
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Basic net income (loss) per share |
| $ | 0.10 |
| $ | 0.03 |
| $ | 0.20 |
| $ | (0.01 | ) |
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Diluted earnings per share computation: |
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Net income (loss) |
| $ | 10,007 |
| $ | 2,760 |
| $ | 20,740 |
| $ | (677 | ) |
Shares calculation: |
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Weighted average common shares – basic |
| 103,572 |
| 99,342 |
| 102,384 |
| 98,651 |
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Effect of dilutive stock options |
| 4,361 |
| 5,557 |
| 4,365 |
| — |
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Effect of restricted stock |
| 100 |
| — |
| 100 |
| — |
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Effect of dilutive warrants |
| — |
| — |
| 28 |
| — |
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Weighted average common shares – diluted |
| 108,033 |
| 104,899 |
| 106,877 |
| 98,651 |
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Diluted net income (loss) per share |
| $ | 0.09 |
| $ | 0.03 |
| $ | 0.19 |
| $ | (0.01 | ) |
Potentially dilutive shares of common stock excluded from the diluted net income (loss) per share computations were 0.6 million and 13.6 million as of February 28, 2006 and 2005, respectively. Certain potentially dilutive shares of common stock were excluded from the diluted earnings per share computation because their exercise prices were greater than the average market price of the common shares during the period and were therefore not dilutive. In addition, potentially dilutive shares of common stock were excluded from periods with a net loss because they were anti-dilutive.
4. RECENT ACCOUNTING PRONOUNCEMENTS
In December 2004, the FASB issued SFAS No. 123 (revised 2004), Share-Based Payment (“SFAS No. 123(R)”). SFAS No. 123(R) requires compensation cost relating to unvested share-based payment transactions that are outstanding as of the effective date and newly issued transactions to be recognized in the financial statements. The cost will be measured based on the fair value of the equity or liability instruments issued. SFAS No. 123(R) covers a wide range of share-based compensation arrangements including share options, restricted share plans, performance-based awards, share appreciation rights and employee share purchase plans. SFAS No. 123(R) supersedes SFAS No. 123, Accounting for Stock-Based
7
Compensation (“SFAS No. 123”), and supersedes APB No. 25, Accounting for Stock Issued to Employees (“Opinion 25”). SFAS No. 123, as originally issued in 1995, established a fair-value-based method of accounting for share-based payment transactions with employees. However, SFAS No. 123 permitted entities the option of continuing to apply the guidance in Opinion 25, as long as the footnotes to financial statements disclosed what net income would have been had the fair-value-based method been used. The Company elected the option of disclosure only under SFAS No. 123. In its disclosures, the Company has historically used the Black-Scholes option pricing model to determine the fair value of its share-based compensation arrangements. Upon the adoption of SFAS No. 123(R), the Company will determine whether it will continue to utilize the Black-Scholes model or adopt some other acceptable model. Additionally, upon adoption, the Company plans to use the modified prospective method. Public entities are required to apply SFAS No. 123(R) as of the first annual reporting period that begins after June 15, 2005, which is effective with the Company’s first quarter of fiscal 2007. Based on the Company’s significant amount of unvested share-based payment awards, the adoption of this statement is anticipated to have a material impact on the Company’s Consolidated Statements of Operations, however the Company is currently evaluating the impact. Historically, had compensation costs for the Company’s stock options been recognized based on fair value at the grant date consistent with the provisions of SFAS No. 123, the Company’s diluted earnings per share would have been reduced by $0.06, $0.05, and $0.05, respectively, for the years ended May 31, 2005, May 31, 2004, and May 31, 2003, as disclosed in the Company’s Annual Report on Form 10-K and Form 10-K/A filed for the fiscal year ended May 31, 2005.
In May 2005, the FASB issued SFAS No 154, ��Accounting Changes and Error Corrections – A replacement of APB Opinion No. 20 and FASB Statement No. 3” (“SFAS 154”). SFAS 154 changes the requirement for the accounting for and reporting of a change in accounting principle. This statement applies to all voluntary changes in accounting principles and changes required by an accounting pronouncement in the unusual instance that the pronouncement does not include specific transition provisions. The provisions in SFAS 154 are effective for accounting changes and correction of errors made in fiscal years beginning after December 15, 2005, which is effective with the Company’s first quarter of fiscal 2007.
5. PENDING BUSINESS COMBINATION
On June 2, 2005, the Company entered into an agreement to combine with Stockholm, Sweden-based Intentia International AB (“Intentia”) in an all-stock transaction. The Company and Intentia plan to effect their business combination through a recommended public offer in Sweden (the “Offer”) for (i) all outstanding Intentia Series A and Series B shares and (ii) all outstanding warrants to purchase Series B shares, in each case in exchange for shares of the Company’s common stock. Under the Offer, the Company would issue approximately 81 million shares of its common stock, with an aggregate transaction value of approximately $449 million, based on the average closing price of the Company’s common stock beginning two days before and ending two days after the June 2, 2005 announcement date. The transaction value has been adjusted from approximately $464 million as previously reported due to a revision to the estimated transaction costs used in valuing the transaction. The revision, however, does not have any impact on the exchange ratios of the Exchange Offer between the Company and Intentia. The Offer is expected to result in the Company’s stockholders owning approximately 56.75 percent, and Intentia’s stockholders owning approximately 43.25 percent, based on the Company’s capital stock and Series A and Series B Intentia capital stock, calculated on a fully-diluted basis using the treasury method.
The transaction is expected to qualify as a tax-free exchange for both parties within the meaning of Section 351 of the United States Internal Revenue Code. The Company intends to account for the transaction under the purchase method of accounting and accordingly, the assets and liabilities acquired will be recorded at their estimated fair values at the effective date of the acquisition and the results of the operations will be included in the Consolidated Statements of Operations effective with the acquisition date. The Company has incurred approximately $11.1 million of costs related to the acquisition. During the three and nine months ended February 28, 2006, $0.5 million and $2.9 million, respectively, has been capitalized as directly related to the transaction and eligible for inclusion as part of the purchase price. During the three and nine months ended February 28, 2006, $0.7 million and $3.7 million, respectively, of costs related to the acquisition were charged to operations.
On March 17, 2006, the U.S. Securities and Exchange Commission (SEC) declared effective the Form S-4 Proxy Statement/Prospectus concerning the Company’s proposed combination with Intentia. The Swedish Prospectus for the combination with Intentia was registered with the Swedish Financial Supervisory Authority on March 24, 2006. The Company will hold a meeting of stockholders on April 17, 2006, to approve matters relating to the proposed combination of the two companies. The transaction is expected to be completed by April 30, 2006, subject to stockholder approval and sufficient tender of shares by Intentia stockholders.
8
6. COMPREHENSIVE INCOME
The following table summarizes the components of comprehensive income (in thousands):
|
| Three Months Ended |
| Nine Months Ended |
| ||||||||
|
| 2006 |
| 2005 |
| 2006 |
| 2005 |
| ||||
Net income (loss) |
| $ | 10,007 |
| $ | 2,760 |
| $ | 20,740 |
| $ | (677 | ) |
Unrealized (loss) gain on available-for-sale investments, net of taxes (benefit) of $(14) and $(7) for the three months ended February 28, 2006 and 2005, respectively, and $(27) and $9 for the nine months ended February 28, 2006 and 2005, respectively |
| (22 | ) | (11 | ) | (43 | ) | 14 |
| ||||
Foreign currency translation adjustment |
| 295 |
| (25 | ) | (185 | ) | 841 |
| ||||
Other comprehensive (loss) income |
| 273 |
| (36 | ) | (228 | ) | 855 |
| ||||
Comprehensive income |
| $ | 10,280 |
| $ | 2,724 |
| $ | 20,512 |
| $ | 178 |
|
7. RESTRUCTURING
During the three months ended February 28, 2006, the Company did not record any restructuring adjustments compared to a restructuring reversal of $0.2 million for the three months ended February 28, 2005. For the nine months ended February 28, 2006 and 2005, the Company recorded a charge of $0.01 million and $5.2 million, respectively.
Fiscal 2005 Restructuring
On September 28, 2004, the Company approved a plan designed to enhance the Company’s operating effectiveness and profitability. Under the restructuring plan (Phase I), the Company streamlined structure, consolidated leadership and reduced long-term costs to realign projected expenses with anticipated revenue levels. The plan included the reduction of 107 employees in fiscal 2005 in the United States and the United Kingdom, which in accordance with SFAS No. 112, Employers Accounting for Post Employment Benefits - an amendment of FASB Statements No. 5 and 43(“SFAS No. 112”), resulted in a charge for severance and related benefits of $2.9 million. The reduction included employees who worked in operations, marketing, sales, research and development, customer support and services. There were no cash payments made during the three and nine months ended February 28, 2006, respectively. All employee reductions and related cash payments were substantially completed as of February 28, 2005. The Company adjusted the remaining accrual to cover additional costs that are anticipated to be incurred. The remaining cash payments are expected to be completed during the first half of fiscal 2007.
The following table sets forth the restructuring reserve activity related to the Phase I restructuring plan and the remaining balance as of February 28, 2006, which is included in accrued compensation and benefits (in thousands):
|
| Severance |
| |
Balance, May 31, 2005 |
| $ | 29 |
|
Adjustments to provision |
| 13 |
| |
Balance, February 28, 2006 |
| $ | 42 |
|
At November 30, 2004, the Company also accrued for a restructuring plan (Phase II) that included initiatives to further reduce costs and realign projected expenses with anticipated revenue levels. It included a reduction of 68 employees in the United States and the United Kingdom, and because the Company was able to determine probability at the end of the second quarter of fiscal 2005, the restructuring resulted in a $2.2 million charge for severance and related benefits, net of a reversal of $0.3 million subsequent to the initial charge within fiscal 2005, in accordance with SFAS No. 112. The reduction included employees who worked in sales, research and development and services. Cash payments during fiscal 2005 for the Phase II plan were $2.0 million. There were no cash payments made during the three months ended February 28, 2006. There was $0.01 million in cash payments made during the nine months ended February 28, 2006. All employee reductions and related cash payments were substantially completed as of February 28, 2005. The Company adjusted the remaining accrual for costs that are no longer anticipated to be incurred. The remaining cash payments are expected to be completed during the first half of fiscal 2007.
9
The following table sets forth the restructuring reserve activity related to the Phase II restructuring plan and the remaining balances as of February 28, 2006, which are included in accrued compensation and benefits (in thousands):
|
| Severance |
| |
Balance, May 31, 2005 |
| $ | 114 |
|
Cash payments |
| (14 | ) | |
Adjustments to provision |
| (25 | ) | |
Balance, February 28, 2006 |
| $ | 75 |
|
Fiscal 2004 Restructuring
In September 2003, the Company approved a restructuring plan to realign projected expenses with anticipated lower revenue levels and incurred $2.3 million in restructuring charges for severance and related benefits. The fiscal 2004 plan resulted in the reduction of 93 employees in the second quarter of fiscal 2004, from various functions including research and development, general and administrative and sales and marketing, primarily in the United States. During fiscal 2005, the Company recorded a $0.03 million reversal of restructuring charges for certain employee costs it determined would not be incurred. There was $0.1 million in final cash payments made during the three months ended November 30, 2005. The Company adjusted the remaining accrual to cover additional costs that were incurred in the final cash payments under the plan.
The following table sets forth the restructuring reserve activity reflecting the completion of the fiscal 2004 restructuring plan as of February 28, 2006 (in thousands):
|
| Severance |
| |
Balance, May 31, 2005 |
| $ | 62 |
|
Cash payments |
| (104 | ) | |
Adjustments to provision |
| 42 |
| |
Balance, February 28, 2006 |
| $ | — |
|
Fiscal 2003 Restructuring
In September 2002, the Company approved a restructuring plan to realign projected expenses with anticipated lower revenue levels and incurred $5.8 million in restructuring charges, which included $4.7 million of severance and related benefits and $1.1 million for the closure and consolidation of facilities. The plan resulted in the reduction of 244 employees in the second quarter of fiscal 2003, from various functions including administrative, professional and managerial in the United States, Canada and Europe. During fiscal 2005, the Company completed its obligation and recorded a reversal of restructuring charges of $0.05 million for certain employee costs it determined would not be incurred. No further adjustments have been made in fiscal 2006.
Fiscal 2002 Restructuring
In May 2002, the Company approved a restructuring plan in response to the general economic downturn and incurred $3.3 million in restructuring charges, which included $3.0 million for severance related benefits and $0.3 million for the closure of a leased office facility. During fiscal 2003, the Company recorded $0.2 million in additional charges associated with finalization of lease termination agreements. The plan resulted in the reduction of 111 employees in various functions including administrative, professional, and managerial, primarily in the United States. There was a final cash payment made during the three months ended August 31, 2005. The Company adjusted the remaining accrual completing its obligation under the plan. No further adjustments have been made in fiscal 2006.
10
The following table sets forth the restructuring reserve activity reflecting the completion of the fiscal 2002 restructuring plan as of February 28, 2006 (in thousands):
|
| Facilities |
| |
Balance, May 31, 2005 |
| $ | 30 |
|
Cash payments |
| (5 | ) | |
Adjustments to provision |
| (25 | ) | |
Balance, February 28, 2006 |
| $ | — |
|
8. GOODWILL AND INTANGIBLE ASSETS
The changes in the carrying amount of goodwill for the nine months ended February 28, 2006, are as follows (in thousands):
Balance, May 31, 2005 |
| $ | 43,407 |
|
Contingency consideration earned |
| 200 |
| |
Currency translation effect |
| (303 | ) | |
Balance, February 28, 2006 |
| $ | 43,304 |
|
Acquired intangible assets subject to amortization were as follows (in thousands):
|
| February 28, 2006 |
| May 31, 2005 |
| |||||||||||||||||
|
| Gross |
| Accumulated |
| Net Book Value |
| Gross |
| Accumulated |
| Net Book |
| |||||||||
Maintenance contracts |
| $ | 22,940 |
| $ | (7,285 | ) | $ | 15,655 |
| $ | 22,940 |
| $ | (4,316 | ) | $ | 18,624 |
| |||
Acquired technology |
| 14,148 |
| (10,786 | ) | 3,362 |
| 14,234 |
| (8,417 | ) | 5,817 |
| |||||||||
Customer lists |
| 11,133 |
| (4,813 | ) | 6,320 |
| 11,217 |
| (3,879 | ) | 7,338 |
| |||||||||
Non-compete agreements |
| 518 |
| (474 | ) | 44 |
| 628 |
| (468 | ) | 160 |
| |||||||||
|
| $ | 48,739 |
| $ | (23,358 | ) | $ | 25,381 |
| $ | 49,019 |
| $ | (17,080 | ) | $ | 31,939 |
| |||
Intangible assets are amortized on a straight-line basis over the estimated periods benefited, generally three to five years for acquired technology, four to ten years for customer lists, and the term of the agreement for non-compete agreements. Intangible assets for maintenance contracts are amortized under an accelerated amortization method, over the estimated term of the agreements based on the estimated revenue for the applicable period in relation to the total estimated revenue. For the three months ended February 28, 2006 and 2005, there was $2.2 million in amortization expense for intangible assets. For the nine months ended February 28, 2006 and 2005, there was $6.5 million and $6.6 million, respectively, in amortization expense for intangible assets. Amortization expense is reported in cost of license fees, cost of services and amortization of acquired intangibles, in the accompanying Condensed Consolidated Statements of Operations based on classification of related revenue.
The estimated future amortization expense for identified intangible assets is as follows (in thousands):
2006 (remaining 3 months) |
| $ | 2,075 |
| |
2007 |
| 6,955 |
| ||
2008 |
| 4,664 |
| ||
2009 |
| 3,637 |
| ||
2010 |
| 3,005 |
| ||
Thereafter |
| 5,045 |
| ||
|
| $ | 25,381 |
| |
9. COMMITMENTS AND CONTINGENCIES
The Company has outstanding contingent consideration agreements related to acquisitions ranging in the aggregate from zero to $5.7 million, measured over various periods through fiscal 2007, based on the acquired company’s future performance. Contingent consideration earned is paid in cash and recorded as additional goodwill. During the three months
11
ended February 28, 2006 no additional consideration had been earned, recorded or expired under these agreements. During the nine months ended February 28, 2006, $0.2 million in additional consideration had been earned and recorded and $1.0 million expired under these agreements.
The Company is involved in various claims and legal actions in the normal course of business. Management is of the opinion that the outcome of such legal actions will not have a significant adverse effect on the Company’s financial position, results of operations or cash flows. Notwithstanding management’s belief, an unfavorable resolution of some or all of these matters could materially affect the Company’s future results of operations and cash flows.
In fiscal 2005, the Company and International Business Machines Corporation (IBM) entered into an OEM Software Agreement that was modified in the second quarter of fiscal 2006, and a Master Relationship Agreement (MRA). Under these agreements, the Company is reselling its business applications in conjunction with IBM’s open standards-based software, and the companies will jointly market these software solutions. The MRA governs the joint marketing activities and has a three-year term. During the term of the modified OEM Software Agreement, the Company is paying royalties to IBM for the licensing of IBM programs to each applicable existing and new customer of the Company, and is paying IBM annual maintenance fees for each applicable customer. The royalty and maintenance payments to IBM are based on transactions with each applicable Lawson customer. The modified OEM Software Agreement has an initial term of three years commencing September 2005 and may be extended by the Company for two additional one-year terms. During the initial three-year term, the Company has agreed to pay certain minimum quarterly and annual royalties to IBM. Total commitments under the modified OEM Software Agreement approximate $9.5 million over the three-year term. The Company may elect to terminate the OEM Software Agreement for convenience upon 90 days advance notice to IBM. If the Company elects early termination at any time during the initial three-year term, the Company would pay IBM any unpaid minimum royalties through the date of termination plus a prorated share of the guaranteed annual minimum payment due for the year in which the termination occurred. The Company has made cash payments of $2.6 million according to terms of the modified OEM Software Agreement during the nine months ended February 28, 2006 recorded as other assets – long-term. In addition, the Company recorded $0.5 million as other accrued liabilities on the February 28, 2006 Condensed Consolidated Balance Sheet, representing the prorated portion of the $0.6 million annual minimum owed in the initial year of the contract. In accordance with SFAS No. 86 Accounting for the Costs of Computer Software to Be Sold, Leased, or Otherwise Marketed (“SFAS No. 86”), the fees paid and accrued to date will be amortized to costs of license fees over the earlier of the time period in which units are sold or the useful life.
On May 9, 2005, the Company and The Hackett Group, Inc., a wholly-owned subsidiary of Answerthink Inc. (“Hackett”), entered into an Advisory Alliance Agreement (the “Agreement”). The Agreement identifies joint programs in which Hackett will provide the Company and its customers and prospects with, among other things, access to Hackett benchmark tools, best-practices research and business advisory services in exchange for the payment of specified program fees. The term of the Agreement commenced on May 9, 2005, and continues until May 31, 2008, unless terminated earlier in accordance with the provisions of the Agreement. The Company and Hackett have the option to extend the terms of the programs upon mutual written agreement, and Hackett has agreed to provide certain exclusivity rights to the Company in connection with certain of its programs. Under the Agreement, the Company paid $1.6 million in the nine months ended February 28, 2006, and is contractually committed to pay an additional $0.5 million within the next twelve months that has been recorded as other accrued liabilities at February 28, 2006. Approximately $1.6 million of fees is being amortized on a straight line basis over the term of the Agreement and is reflected as sales and marketing expenses and approximately $0.5 million is being amortized over the same period the revenue is being recognized and is reflected as cost of license fees. In addition, the Company will pay additional fees when sales volumes meet established criteria throughout the term of the contract.
10. SEGMENT AND GEOGRAPHIC AREAS
The Company views its operations and manages its business as one segment, the development and marketing of computer software and related services. Factors used to identify the Company’s single operating segment include the financial information available for evaluation by the chief operating decision maker in making decisions about how to allocate resources and assess performance. The Company markets its products and services through the Company’s offices in the United States and its wholly-owned branches and subsidiaries operating in Canada, the United Kingdom, France and the Netherlands. Upon completion of the acquisition of Intentia, the Company will reassess the determination of its segments. The following table presents revenues and long-lived assets summarized by geographic region (in thousands):
12
|
| Three Months Ended |
| Nine Months Ended |
| |||||||||||
|
| 2006 |
| 2005 |
| 2006 |
| 2005 |
| |||||||
Revenues: |
|
|
|
|
|
|
|
|
| |||||||
Domestic operations |
| $ | 84,069 |
| $ | 78,490 |
| $ | 252,760 |
| $ | 235,097 |
| |||
International operations |
| 3,626 |
| 4,224 |
| 11,886 |
| 13,301 |
| |||||||
Consolidated |
| $ | 87,695 |
| $ | 82,714 |
| $ | 264,646 |
| $ | 248,398 |
| |||
|
| February 28, |
| May 31, |
| ||
Long-lived assets: |
|
|
|
|
| ||
Domestic operations |
| $ | 67,574 |
| $ | 73,925 |
|
International operations |
| 13,482 |
| 14,995 |
| ||
Consolidated |
| $ | 81,056 |
| $ | 88,920 |
|
The following table presents revenues for license fees, customer support and consulting services (in thousands):
|
| Three Months Ended |
| Nine Months Ended |
| ||||||||
|
| 2006 |
| 2005 |
| 2006 |
| 2005 |
| ||||
Components of revenues: |
|
|
|
|
|
|
|
|
| ||||
License fees |
| $ | 15,099 |
| $ | 13,924 |
| $ | 51,824 |
| $ | 40,370 |
|
Services: |
|
|
|
|
|
|
|
|
| ||||
Consulting |
| 27,173 |
| 25,513 |
| 79,232 |
| 81,169 |
| ||||
Customer support |
| 45,423 |
| 43,277 |
| 133,590 |
| 126,859 |
| ||||
Total services |
| 72,596 |
| 68,790 |
| 212,822 |
| 208,028 |
| ||||
Total revenues |
| $ | 87,695 |
| $ | 82,714 |
| $ | 264,646 |
| $ | 248,398 |
|
11. COMMON STOCK REPURCHASES
In June 2003, the Company’s Board of Directors authorized the repurchase of up to $50.0 million of the Company’s common shares. Shares were repurchased from time to time as market conditions warranted either through open market transactions, block purchases, private transactions or other means. During fiscal 2005 the Company completed the authorized stock repurchase plan by purchasing the remaining 1.4 million shares for $10.0 million in cash. Cash proceeds obtained from the maturities of marketable securities, the exercise of employee stock options and contributions to the employee stock purchase plan, largely funded the share repurchases. The repurchased shares, which remain in treasury, are being used for general corporate purposes.
12. STOCK WARRANT
On July 18, 2005, a stock warrant issued in fiscal 2001 with a five-year life, was exercised allowing its holder to purchase 1.0 million shares of the Company’s common stock at an exercise price of $4.64 per share. The warrant was exercised on a net basis, resulting in the issuance of 0.1 million shares of common stock from treasury, which resulted in a $0.3 million reduction to additional paid-in capital during the first quarter of fiscal 2006. The Company has no outstanding stock warrants.
13. STOCK COMPENSATION
Amendments to Stock Option Agreements
Effective on June 1, 2005, the Company amended the stock options held by each of its non-employee directors to: (1) fully vest and eliminate the Company’s call right to purchase shares issued after exercise and (2) allow those options to be exercised until the earlier of two years after resignation as a director or ten years after the date of grant. This change resulted in recognizing $0.1 million in compensation expense included in general and administrative expenses in the Condensed Consolidated Statements of Operations during the first quarter of fiscal 2006 because a portion of these options were
13
“in-the-money” at the time they were immediately vested.
Effective on June 1, 2005, the Company amended the stock options that have an exercise price per share greater than or equal to $5.95 (the closing price on NASDAQ on June 1, 2005) and that are held by each officer who was subject to the reporting requirements of Section 16 of the Securities Exchange Act of 1934, to allow that officer to exercise the options that are unexercised and vested as of that officer’s employment termination date until the earlier of two years after termination of employment or ten years after the date of grant. Stock options previously granted to any Section 16 reporting person with an exercise price per share of less than $5.95 were not amended. This stock-based compensation change resulted in no impact to the Condensed Consolidated Statements of Operations in the first quarter of fiscal 2006.
Restricted Stock Award
On June 2, 2005, the Company granted a restricted stock award of 100,000 shares of common stock to its newly appointed president and chief executive officer. The shares, with a $0.5 million market value at date of grant, shall vest in two 50,000 share increments on June 1, 2006 and 2007, subject to acceleration upon certain events. The market value of the restricted stock was recorded as unearned compensation, a component of stockholders’ equity, and is being amortized over the respective vesting periods. For the three and nine months ended February 28, 2006 amortization of the unearned compensation related to restricted stock was $0.1 million and $0.3 million, respectively.
Stock Compensation Charge
During the first quarter of fiscal 2006, the Company recorded a $6.3 million non-cash charge resulting from a negotiated separation agreement with its former president and chief executive officer, which among other terms provided that he remain available to the Company in a part-time employment status for a period of up to two years. That agreement was deemed to be a modification of previously granted options, resulting in a non-cash charge for option expense. The charge is included in general and administrative expenses in the Condensed Consolidated Statements of Operations for the nine months ended February 28, 2006.
14. INCOME TAXES
The quarterly tax expense is measured using an estimated annual tax rate for the period. For fiscal 2006, the Company’s estimated annual tax rate is 39.4% before the impact of discrete items. The Company’s effective tax rate, after the impact of discrete items, was 24.4% and 25.8% for the three months ended February 28, 2006 and 2005, respectively. The effective tax rate for the three months ended February 28, 2006 includes a reversal of $1.4 million of valuation allowance as a result of the determination that previously recorded deferred tax assets are now more likely than not to be realized prior to their expiration dates and the reversal of $0.5 million of tax reserves related to the closing of the U.S. statute of limitations on certain tax years.
The Company’s effective tax rate, after the impact of discrete items, was 26.9% and 66.1% for the nine months ended February 28, 2006 and 2005, respectively. The effective tax rate for the nine months ended February 28, 2006 includes a reversal of $1.4 million of valuation allowance as a result of the determination that previously recorded tax assets are now more likely than not to be realized prior to their expiration dates and the reversal of $2.1 million of tax reserves related to favorable settlement of certain foreign tax audit matters and the closing of the U.S. statute of limitations on certain tax years.
The effective tax rate, after the impact of discrete items, for the three and nine months ended February 28, 2005 includes a $0.4 million benefit recorded with the filing of the Company’s tax returns as a result of a favorable return to provision adjustment. This discrete benefit had the effect of decreasing the effective tax rate for the three months ended February 28, 2005 by approximately 10%. For the nine months ended February 28, 2005, due to a relatively small pre-tax loss of $0.2 million, this discrete item increased the effective tax rate by approximately 20%.
The Company reviews its annual tax rate on a quarterly basis and makes any necessary changes. The estimated annual tax rate may fluctuate due to changes in forecasted annual operating income; changes to the valuation allowance for net deferred tax assets; changes to actual or forecasted permanent book to tax differences; impacts from future tax settlements with state, federal or foreign tax authorities; or impacts from enacted tax law changes. The Company identifies items which are unusual and non-recurring in nature, and treats these as discrete events. The tax effect of discrete items is booked entirely in the quarter in which the discrete event occurs.
14
ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Forward-Looking Statements
In addition to historical information, this Form 10-Q contains forward-looking statements. These forward-looking statements are made in reliance upon the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. The words “believe,” “expect,” “anticipate,” “intend,” “estimate,” “forecast,” “project,” “should” and similar expressions are intended to identify “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements include, among others, statements about our future performance, the continuation of historical trends, the sufficiency of our sources of capital for future needs, the effects of acquisitions and the expected impact of recently issued accounting pronouncements. These forward-looking statements are subject to certain risks and uncertainties that could cause actual results to differ materially from those reflected in the forward-looking statements. Factors that might cause such a difference include, but are not limited to, those discussed in the section entitled “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Factors That May Affect Our Future Results or the Market Price of Our Stock.” Readers are cautioned not to place undue reliance on these forward-looking statements, which reflect management’s opinions only as of the date hereof. We undertake no obligation to revise or publicly release the results of any revision to these forward-looking statements based on circumstances or events, which occur in the future. Readers should carefully review the risk factors described in this report on Form 10-Q and in other documents we file from time to time with the Securities and Exchange Commission (SEC).
Business Overview
We provide business application software, services and support that help organizations manage, analyze and improve their businesses. The markets we serve include healthcare, retail, financial services (including banking, insurance and other financial services), local/state government, education and professional services. We derive revenues from licensing business application software and providing comprehensive professional services, including consulting, training and implementation services, as well as ongoing customer support and maintenance. Consulting, training and implementation services are generally not essential to the functionality of our software products, are sold separately and also are available from a number of third-party service providers. Accordingly, revenues from these services are generally recorded separately from license fees. We have offices and affiliates serving North and South America, Europe, Asia, Africa, and Australia.
Pending Business Combination
On June 2, 2005, we entered into an agreement to combine with Stockholm, Sweden-based Intentia International AB (“Intentia”) in an all-stock transaction. The Company and Intentia plan to effect their business combination through a recommended public offer in Sweden (the “Offer”) for (i) all outstanding Intentia Series A and Series B shares and (ii) all outstanding warrants to purchase Series B shares, in each case in exchange for shares of the Company’s common stock. Under the offer, the Company would issue approximately 81 million shares of its common stock, with an aggregate transaction value of approximately $449 million, based on the average closing price of the Company’s common stock beginning two days before and ending two days after the June 2, 2005 announcement date. The transaction value has been adjusted from approximately $464 million as previously reported due to a revision to the estimated transaction costs used in valuing the transaction. The revision, however, does not have any impact on the exchange ratios of the Exchange Offer between the Company and Intentia. The Offer is expected to result in the Company’s stockholders owning approximately 56.75 percent, and Intentia’s stockholders owning approximately 43.25 percent based on the Company’s capital stock and Series A and Series B Intentia capital stock, calculated on a fully-diluted basis using the treasury method.
The transaction is expected to qualify as a tax-free exchange for both parties within the meaning of Section 351 of the United States Internal Revenue Code. The Company intends to account for the transaction under the purchase method of accounting and accordingly, the assets and liabilities acquired will be recorded at their estimated fair values at the effective date of the acquisition and the results of the operations will be included in the Consolidated Statements of Operations effective with the acquisition date. The Company has incurred approximately $11.1 million of costs related to the acquisition. During the three and nine months ended February 28, 2006, $0.5 million and $2.9 million respectively, has been capitalized as directly related to the transaction and eligible for inclusion as part of the purchase price. During the three and nine months ended February 28, 2006, $0.7 million and $3.7 million, respectively, of costs related to the acquisition were charged to operations.
On March 17, 2006, the U.S. Securities and Exchange Commission (SEC) declared effective the Form S-4 Proxy Statement/Prospectus concerning the Company’s proposed combination with Intentia. The Swedish Prospectus for the combination with Intentia was registered with the Swedish Financial Supervisory Authority on March 24, 2006. The Company will hold a meeting of stockholders on April 17, 2006, to approve matters relating to the proposed combination of the two companies. The transaction is expected to be completed by April 30, 2006, subject to stockholder approval and sufficient tender of shares by Intentia stockholders.
15
Critical Accounting Policies and Estimates
Our discussion and analysis of financial condition and results of operations are based upon our unaudited condensed consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements, the reported amounts of revenues and expenses during the reporting periods, and related disclosures of contingent assets and liabilities. The Notes to the Condensed Consolidated Financial Statements contained herein describe our significant accounting polices used in the preparation of the consolidated financial statements. On an on-going basis, we evaluate our estimates, including, but not limited to, those related to bad debt, intangible assets and contingencies. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results could differ from these estimates.
We believe the critical accounting polices listed below reflect our more significant judgments, estimates and assumptions used in the preparation of our condensed consolidated financial statements.
Revenue Recognition. Revenue recognition rules for software businesses are very complex. We follow specific and detailed guidelines in determining the proper amount of revenue to be recorded; however, certain judgments affect the application of our revenue recognition policy. Revenue results are difficult to predict, and any shortfall in revenue or delay in recognizing revenue could cause our operating results to vary significantly from quarter to quarter.
The significant judgments for revenue recognition typically involve whether collectibility can be considered probable and whether fees are fixed or determinable. In addition, our transactions often consist of multiple element arrangements, which typically include license fees, customer support fees and professional service fees. These multiple element arrangements must be analyzed to determine the relative fair value of each element, the amount of revenue to be recognized upon shipment, if any, and the period and conditions under which deferred revenue should be recognized.
We recognize revenues in accordance with the provisions of the American Institute of Certified Public Accountants (AICPA) Statement of Position (SOP) 97-2, “Software Revenue Recognition,” as amended, and SOP 98-9, “Modification of SOP 97-2, Software Revenue Recognition, With Respect to Certain Transactions,” as well as Technical Practice Aids issued from time to time by the AICPA, and in accordance with the Securities and Exchange Commission Staff Accounting Bulletin (SAB) No. 104, “Revenue Recognition”. We license software under non-cancelable license agreements and provide related professional services, including consulting, training, and implementation services, as well as ongoing customer support and maintenance. Consulting, training and implementation services are generally not essential to the functionality of our software products, are sold separately and also are available from a number of third-party service providers. Accordingly, revenues from these services are generally recorded separately from license fees and recognized as the services are performed. Software arrangements which include certain fixed-fee service components are recognized as the services are performed while corresponding costs to provide these services are expensed as incurred. Software arrangements including services that are essential to the functionality of our software products are recognized using contract accounting and the percentage-of-completion methodology based on labor hours input. The amounts of revenue and related expenses reported in the consolidated financial statements may vary, due to the amount of judgment required to address significant assumptions, risks and uncertainties in applying the application of the percentage-of-completion methodology. Our specific revenue recognition policies are as follows:
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• Software License Fees— License fee revenues from end-users are recognized when the software product has been shipped, provided a non-cancelable license agreement has been signed, there are no uncertainties surrounding product acceptance, the fees are fixed or determinable and collection of the related receivable is considered probable. Provided the above criteria are met, license fee revenues from resellers are recognized when there is a sell-through by a reseller to an end-user. A sell-through is determined when we receive an order form from a reseller for a specific end-user sale. We do not generally offer rights of return, acceptance clauses or price protection to our customers. In situations where software license contracts include rights of return or acceptance clauses, revenue is deferred until the clause expires. Typically, our software license fees are due within a twelve-month period from the date of shipment. If the fee due from the customer is not fixed or determinable, including payment terms greater than twelve months from shipment, revenue is recognized as payments become due and all other conditions for revenue recognition have been satisfied. In software arrangements that include rights to multiple delivered elements such as software products or specified upgrades and undelivered elements such as support or services, we allocate the total arrangement fee according to the fair value of each element using vendor-specific objective evidence. Vendor-specific objective evidence of fair value is determined using the price charged when that element is sold separately. In software arrangements in which we have fair value of all undelivered elements but not of a delivered element, we use the residual method to record revenue. Under the residual method, the fair value of the undelivered elements is deferred and the remaining portion of the arrangement fee is allocated to the delivered element and is recognized as revenue. In software arrangements in which we do not have vendor-specific objective evidence of fair value of all undelivered elements, revenue is deferred until fair value is determined or all elements for which we do not have vendor-specific objective evidence of fair value, have been delivered.
• Services—Revenues from training and consulting services are recognized as services are provided to customers. Revenues from customer support contracts are deferred and recognized ratably over the term of the support agreements. Revenues for customer support or for training and consulting services that are bundled with license fees are deferred based on the vendor-specific objective evidence of fair value of the bundled services and recognized over the term of the agreement. Vendor-specific objective evidence of fair value is based on the renewal rate for continued customer support arrangements and the price charged when training and consulting services are sold separately.
Allowance for Doubtful Accounts. We maintain an allowance for doubtful accounts at an amount we estimate to be sufficient to provide adequate protection against losses resulting from extending credit to our customers. In judging the adequacy of the allowance for doubtful accounts, we consider multiple factors including historical bad debt experience, the general economic environment, the need for specific customer reserves and the aging of our receivables. This provision is included in operating expenses as a general and administrative expense. A considerable amount of judgment is required in assessing these factors. If the factors utilized in determining the allowance do not reflect future performance, then a change in the allowance for doubtful accounts would be necessary in the period such determination has been made affecting future results of operations.
Sales Returns and Allowances. Although we do not provide a contractual right of return, in the course of arriving at practical business solutions to various warranty and other claims, we have allowed sales returns and allowances. We record a provision for estimated sales returns and allowances on licenses in the same period the related revenues are recorded or when current information indicates additional amounts are required. These estimates are based on historical experience determined by analysis of specific return activity and other known factors. If the historical data we utilize does not reflect future performance, then a change in the allowances would be necessary in the period such determination has been made affecting future results of operations.
Valuation of Long-Lived and Intangible Assets and Goodwill. In accordance with SFAS No. 144 “Accounting for the Impairment or Disposal of Long-Lived Assets,” we review identifiable intangible and other long-lived assets for impairment whenever events or changes in circumstances indicate the carrying amount may not be recoverable. Events or changes in circumstances that indicate the carrying amount may not be recoverable include, but are not limited to a significant decrease in the market value of the business or asset acquired, a significant adverse change in the extent or manner in which the business or asset acquired is used or a significant adverse change in the business climate. If such events or changes in circumstances are present, the undiscounted cash flows method is used to determine whether the long-lived asset is impaired. Cash flows would include the estimated terminal value of the asset and exclude any interest charges. To the extent the carrying value of the asset exceeds the undiscounted cash flows over the estimated remaining life of the asset; the impairment is measured using the discounted cash flows method. The discount rate utilized would be based on management’s best estimate of the related risks and return at the time the impairment assessment is made.
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In accordance with SFAS No. 142 “Goodwill and Other Intangible Assets” if events or changes in circumstances indicate the carrying amount may not be recoverable, the first step of the goodwill impairment test, used to identify potential impairment, compares the fair value of a reporting unit with its carrying amount, including goodwill. We operate as one reporting unit and therefore compare our book value to market value. Market value is determined utilizing our market capitalization plus a control premium. If our market value exceeds our book value, goodwill is considered not impaired, thus the second step of the impairment test is not necessary. If our book value exceeds our market value, the second step of the goodwill impairment test is performed to measure the amount of impairment loss, if any. The second step of the goodwill impairment test, used to measure the amount of impairment loss, compares the implied fair value of the goodwill with the book value of the goodwill. If the carrying value of the goodwill exceeds the implied fair value of the goodwill, an impairment loss would be recognized in an amount equal to the excess. Any loss recognized cannot exceed the carrying amount of goodwill. After a goodwill impairment loss is recognized, the adjusted carrying amount of goodwill is the new accounting basis. A subsequent reversal of a previously recognized goodwill impairment loss is prohibited once the measurement of that loss is completed.
Income Taxes. Significant judgment is required in determining the income taxes in each of the jurisdictions in which we operate. This process involves estimating our actual current tax exposure together with assessing temporary differences resulting from the different treatment of specific items for tax and financial reporting purposes. These differences result in deferred tax assets and liabilities, which are included within our Condensed Consolidated Balance Sheets. Although we believe our assessments are reasonable, no assurance can be given that the final tax outcome of these matters will not be different than that which is reflected in our historical income tax provisions, benefits and accruals. Such differences could have a material effect on our income tax provision and net income in the period in which such a determination is made.
As of February 28, 2006 and May 31, 2005, the Condensed Consolidated Balance Sheets include net deferred tax assets in the amount of $31.8 million and $30.7 million, respectively. We are required to evaluate the likelihood that our net deferred tax assets will be recovered from future taxable income and to the extent we believe that recovery is not likely, we must establish a valuation allowance. To the extent we establish or reverse some or all of the valuation allowance, we must include that expense or expense reversal within the tax provision for the current period included in the Condensed Consolidated Statements of Operations. As of February 28, 2006, we have evaluated the previously reported valuation allowance and determined a portion of that allowance in the amount of $1.4 million should be reversed. This $1.4 million represents an expectation that the previously recorded tax assets for federal tax credits, federal carryover items and state net operating losses are now more likely than not to be realized prior to their expiration dates.
Our methodology for determining the realization of our deferred tax assets involves estimates of future taxable income from our core business, the estimated impact of future stock option deductions from the exercise of outstanding stock options, and the expiration dates and amounts of state, federal and foreign net operating losses and other carryforwards in addition to various tax credits. These estimates are projected throughout the life of the related deferred tax assets based on assumptions that management believes to be reasonable and consistent with current operating results. In assessing the future realization of our deferred tax assets as of February 28, 2006, we considered both positive and negative evidence regarding our ability to generate sufficient future taxable income to realize our deferred tax assets. The evidence considered included the cumulative tax operating loss for the past three years; the cumulative pre-tax income for financial reporting purposes for the past twelve cumulative quarters; a one year income look back; the estimated impact of future tax deductions from the exercise of stock options outstanding as of February 28, 2006; and the estimated future taxable income based on historical operating results.
In the event that we adjust our estimates of future taxable income or tax deductions from the exercise of stock options, or our stock price changes significantly without a corresponding change in taxable income, we may need to establish an additional valuation allowance or reverse some or all of the existing valuation allowance, which could materially impact our financial position and results of operations.
Contingencies. The Company is subject to the possibility of various loss contingencies in the normal course of business. The Company accrues for loss contingencies when a loss is estimatable and probable.
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Results of Operations
The following table sets forth certain line items in our Condensed Consolidated Statements of Operations as a percentage of total revenues for the periods indicated and the percentage of dollar change from the prior year:
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| Three Months Ended |
| Nine Months Ended |
| Percent of |
| ||||||
|
| 2006 |
| 2005 |
| 2006 |
| 2005 |
| Quarter |
| Year- to- |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenues: |
|
|
|
|
|
|
|
|
|
|
|
|
|
License fees |
| 17.2 | % | 16.8 | % | 19.6 | % | 16.3 | % | 8.4 | % | 28.4 | % |
Services |
| 82.8 |
| 83.2 |
| 80.4 |
| 83.7 |
| 5.5 |
| 2.3 |
|
Total revenues |
| 100.0 |
| 100.0 |
| 100.0 |
| 100.0 |
| 6.0 |
| 6.5 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost of revenues: |
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost of license fees |
| 3.1 |
| 2.7 |
| 3.0 |
| 3.0 |
| 22.2 |
| 5.5 |
|
Cost of services |
| 37.2 |
| 41.4 |
| 37.5 |
| 43.4 |
| (4.9 | ) | (7.9 | ) |
Total cost of revenues |
| 40.3 |
| 44.1 |
| 40.5 |
| 46.4 |
| (3.3 | ) | (7.1 | ) |
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|
|
|
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|
Gross margin |
| 59.7 |
| 55.9 |
| 59.5 |
| 53.6 |
| 13.3 |
| 18.3 |
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|
|
|
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|
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|
|
|
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Operating expenses: |
|
|
|
|
|
|
|
|
|
|
|
|
|
Research and development |
| 16.3 |
| 18.7 |
| 16.2 |
| 18.8 |
| (7.7 | ) | (8.4 | ) |
Sales and marketing |
| 20.1 |
| 21.4 |
| 21.2 |
| 23.4 |
| (0.1 | ) | (3.6 | ) |
General and administrative |
| 11.0 |
| 12.5 |
| 13.8 |
| 10.7 |
| (6.6 | ) | 38.0 |
|
Restructuring |
| — |
| (0.2 | ) | — |
| 2.1 |
| — |
| — |
|
Amortization of acquired intangibles |
| 0.4 |
| 0.5 |
| 0.4 |
| 0.5 |
| (11.5 | ) | (7.2 | ) |
Total operating expenses |
| 47.8 |
| 52.9 |
| 51.6 |
| 55.5 |
| (4.1 | ) | (1.0 | ) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income (loss) |
| 11.9 |
| 3.0 |
| 7.9 |
| (1.9 | ) | 325.2 |
| 535.2 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other income |
| 3.2 |
| 1.5 |
| 2.8 |
| 1.1 |
| 121.5 |
| 165.9 |
|
Income (loss) before income taxes |
| 15.1 |
| 4.5 |
| 10.7 |
| (0.8 | ) | 255.7 |
| 1,519.8 |
|
Provision (benefit) for income taxes |
| 3.7 |
| 1.2 |
| 2.9 |
| (0.5 | ) | 235.9 |
| 677.4 |
|
Net income (loss) |
| 11.4 | % | 3.3 | % | 7.8 | % | (0.3 | )% | 262.6 | % | 3,163.5 | % |
Three Months Ended February 28, 2006 Compared With Three Months Ended February 28, 2005
Revenues
Total Revenues. We license software under non-cancelable license agreements and provide related professional services including consulting, training, and implementation services, as well as ongoing customer support. Total revenues increased to $87.7 million for the three months ended February 28, 2006 from $82.7 million for the three months ended February 28, 2005, representing a 6.0% increase. The $5.0 million increase in total revenues was attributed to a $1.2 million increase in license fees and a $3.8 million increase in services.
License Fees. Revenues from license fees increased to $15.1 million for the three months ended February 28, 2006 from $13.9 million for the three months ended February 28, 2005, representing an 8.4% increase. The $1.2 million increase is primarily attributable to a 30.0% increase in licensing transactions. Revenues from license fees include transactions with new clients and existing clients. The percent of contracting revenue from new clients decreased to 32.7% from 35.6% in the prior year period. Revenues from license fees as a percentage of total revenues for the three months ended February 28, 2006 and 2005 were 17.2% and 16.8%, respectively.
Services. Revenues from services increased to $72.6 million for the three months ended February 28, 2006 from $68.8 million for the three months ended February 28, 2005, representing a 5.5% increase. The $3.8 million increase in services includes a $2.1 million increase in customer support revenue and a $1.7 million increase in consulting revenue. The
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$2.1 million increase in customer support revenue was primarily due to general price increases. The $1.7 million increase in consulting revenue reflected the increased software licensing activity throughout fiscal 2006. Service revenues as a percentage of total revenues for the three months ended February 28, 2006 and 2005 were 82.8% and 83.2%, respectively.
Cost of Revenues
Cost of License Fees. Cost of license fees includes royalties to third parties, amortization of acquired software and software delivery expenses. Our software solutions may include embedded components of third-party vendors, for which a fee is paid to the vendor upon sale of our products. In addition, we resell third-party products in conjunction with the license of our software solutions. The cost of license fees is higher when we resell products of third-party vendors. As a result, gross profits may vary depending on the proportion of third-party product sales in our revenue mix.
Cost of license fees increased to $2.7 million for the three months ended February 28, 2006 from $2.2 million for the three months ended February 28, 2005, representing a 22.2% increase. The $0.5 million increase was primarily due to increased costs associated with sales related to the agreement initiated with IBM in fiscal 2005. Sales under the agreement primarily began in the third quarter of fiscal 2006. Cost of license fees as a percentage of total revenues for the three months ended February 28, 2006 and 2005 were 3.1% and 2.7%, respectively. Gross margin on revenue from license fees was 81.9% and 84.0% for the three months ended February 28, 2006 and 2005, respectively, reflecting the higher costs associated with the IBM agreement in 2006.
Cost of Services. Cost of services includes the salaries, employee benefits and related travel and overhead costs for providing consulting, training, implementation and support services to customers as well as intangible asset amortization on support contracts purchased in April 2004.
Cost of services decreased to $32.6 million for the three months ended February 28, 2006 from $34.3 million for the three months ended February 28, 2005, representing a 4.9% decrease and reflecting initiatives to reduce service costs. The $1.7 million decrease in cost of services was primarily due to a $1.8 million decrease in employee costs resulting from workforce reductions as a result of prior year restructuring initiatives and attrition that occurred since the prior year period, a $0.3 million decrease in rent, a $0.2 million decrease in third party costs and a $0.2 million decrease in depreciation expense. The decrease was partially offset by an increase in travel of $0.6 million. Cost of services as a percentage of total revenues for the three months ended February 28, 2006 and 2005 was 37.2% and 41.4%, respectively. Gross margin on services revenues was 55.1% and 50.2% for the three months ended February 28, 2006 and 2005, respectively. The improvement in gross margin is due to improvements in both customer support and consulting margins reflecting both revenue increases and reduction in expenses. We have experienced favorable impacts on service margin as a result of a higher mix of services being delivered by our global sourcing partner leading to lower costs.
Operating Expenses
Research and Development. Research and development expenses consist primarily of salaries, employee benefits, related overhead costs and consulting fees relating to product development, enhancements, upgrades, testing, quality assurance and documentation. Research and development expenses decreased to $14.3 million for the three months ended February 28, 2006 from $15.5 million for the three months ended February 28, 2005, representing a 7.7% decrease. The $1.2 million decrease in research and development was primarily due to a $1.3 million decrease related to a planned reduction in contract personnel and a $0.2 million decrease in employee benefits. The decreases were partially offset by a $0.4 million increase in outsourcing through our global sourcing partner relationship resulting in overall productivity improvements. Research and development expenses as a percentage of total revenues for the three months ended February 28, 2006 and 2005 were 16.3% and 18.7%, respectively.
Sales and Marketing. Sales and marketing expenses consist primarily of salaries and incentive compensation, employee benefits and travel and overhead costs related to our sales and marketing personnel, as well as trade show activities and advertising costs. Sales and marketing expenses were consistent at $17.7 million for the three months ended February 28, 2006 and 2005. A $0.6 million increase in sales incentives was offset by a $0.4 million decrease in employee and related costs due to workforce reductions primarily related to restructuring initiatives and a $0.2 million decrease in management consulting fees. Sales and marketing expenses as a percentage of total revenues for the three months ended February 28, 2006 and 2005 were 20.1% and 21.4%, respectively.
General and Administrative. General and administrative expenses consist primarily of salaries, employee benefits and related overhead costs for administrative employees, as well as legal and accounting expenses, consulting fees, bad debt expense and corporate insurance policies, including property and casualty, general liability and other insurance. General and administrative expenses decreased to $9.6 million for the three months ended February 28, 2006 from $10.3 million for the three months ended February 28, 2005, representing a 6.6% decrease. The $0.7 million decrease in general and administrative
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expenses was primarily due to a $2.1 million decrease in legal fees primarily related to SEC legal costs incurred in the prior year, partially offset by an increase of $1.4 million in employee costs including increases in salaries, placement fees and benefits as well as expenses relating to the pending acquisition of Intentia. General and administrative expenses as a percentage of total revenues for the three months ended February 28, 2006 and 2005 were 11.0 % and 12.5%, respectively.
Restructuring. During the three months ended February 28, 2006 we recorded no adjustment to restructuring compared with a $0.2 million restructuring credit for the three months ended February 28, 2005. See Note 7 of Notes to Condensed Consolidated Financial Statements for a summary of activity for year-to-date fiscal 2006.
Amortization of Acquired Intangibles. Amortization of acquired intangibles of $0.3 million for the three months ended February 28, 2006 was consistent with $0.4 million for the three months ended February 28, 2005.
Other Income, Net
Other income, net, which is primarily comprised of interest income earned from cash, and marketable securities increased to $2.8 million for the three months ended February 28, 2006 from $1.3 million for the three months ended February 28, 2005. The $1.5 million increase in interest income was due primarily to a $50.8 million increase in average invested balances and an increase in average yields, which were 4.3% and 2.3% for the three months ended February 28, 2006 and 2005, respectively.
Provision for Income Taxes
We recorded a $3.2 million income tax provision for the three months ended February 28, 2006 compared with
$1.0 million for the three months ended February 28, 2005. Our income tax provision is based on pretax income and consists primarily of federal and state income taxes. The quarterly tax expense is measured using an estimated annual tax rate for the period. At February 28, 2006, the Company’s estimated annual tax rate was 39.4% before the impact of discrete items. Our effective tax rate, after the impact of discrete items, was 24.4% and 25.8% for the three months ended February 28, 2006 and 2005, respectively. The effective tax rate for the three months ended February 28, 2006 includes a reversal of $1.4 million of valuation allowance as a result of the determination that previously recorded deferred tax assets are now more likely than not to be realized prior to their expiration dates and the reversal of $0.5 million of tax reserves related to the closing of the U.S. statute of limitations on certain tax years. The effective tax rate, after the impact of discrete items, for the three months ended February 28, 2005 includes a $0.4 million benefit recorded with the filing of the Company’s tax returns as a result of a favorable return to provision adjustment. This discrete benefit has the effect of decreasing the effective tax rate for the three months ended February 28, 2005 by approximately 10%. We review our reported effective tax rate on a quarterly basis and make any necessary changes.
Nine Months Ended February 28, 2006 Compared With Nine months Ended February 28, 2005
Revenues
Total Revenues. Total revenues increased to $264.6 million for the nine months ended February 28, 2006 from $248.4 million for the nine months ended February 28, 2005, representing a 6.5% increase. The $16.2 million increase in total revenues was attributed to an $11.4 million increase in license fees and a $4.8 million increase in service revenues.
License Fees. Revenues from license fees increased to $51.8 million for the nine months ended February 28, 2006 from $40.4 million for the nine months ended February 28, 2005, representing a 28.4% increase. The $11.4 million increase from the prior year period is attributable to an increase in transactions greater than $1.0 million resulting in an increase in average licensing transaction size. Transactions greater than $1.0 million for the nine months ended February 28, 2006 and 2005 were 10 and 6, respectively. Revenues from license fees include transactions with new clients and existing clients. The number of licensing transactions with new clients increased to 48 in the current year period from 37 in the prior year period. The increase in new client sales is due in part because Lawson is being selected more frequently to bid on potential transactions due partially to industry consolidation. In addition, many of our targeted public company clients have completed their initial year of Sarbanes-Oxley compliance, which has freed up their time and resources to facilitate some of the increase in sales activity. Revenues from license fees as a percentage of total revenues for the nine months ended February 28, 2006 and 2005 were 19.6% and 16.3%, respectively.
Services. Revenues from services increased to $212.8 million for the nine months ended February 28, 2006 from $208.0 million for the nine months ended February 28, 2005, representing a 2.3% increase. The $4.8 million increase in services includes a $6.7 million increase in customer support revenue that was partially offset by a $1.9 million decrease in
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consulting revenue. The $6.7 million increase in customer support revenue was primarily due to general price increases. The $1.9 million decrease in consulting revenue was primarily due to a decline in fiscal 2005 license contracting activities, which resulted in fewer consulting opportunities during the first three quarters of fiscal 2006. Service revenues as a percentage of total revenues for the nine months ended February 28, 2006 and 2005 were 80.4% and 83.7%, respectively.
Cost of Revenues
Cost of License Fees. Cost of license fees increased to $7.9 million for the nine months ended February 28, 2006 from $7.5 million for the nine months ended February 28, 2005, representing a 5.5% increase. The $0.4 million increase resulted primarily from increased costs associated with sales related to the agreement initiated with IBM in fiscal 2005. Sales under the agreement primarily began in the third quarter of fiscal 2006. Cost of license fees as a percentage of total revenues for the nine months ended February 28, 2006 and 2005 were 3.0%. Gross margin on revenue from license fees was 84.7% and 81.4% for the nine months ended February 28, 2006 and 2005, respectively.
Cost of Services. Cost of services decreased to $99.2 million for the nine months ended February 28, 2006 from $107.8 million for the nine months ended February 28, 2005, representing a 7.9% decrease. The $8.6 million decrease in cost of services was primarily due to a $6.8 million decrease in employee costs resulting from workforce reductions primarily related to restructuring initiatives and attrition that occurred since the prior year period, a $0.8 million reduction in depreciation expense and a $0.3 million reduction in rent expenses. Cost of services, as a percentage of total revenues, for the nine months ended February 28, 2006 and 2005 was 37.5 % and 43.4%, respectively. Gross margin on services revenues was 53.4% and 48.2% for the nine months ended February 28, 2006 and 2005, respectively. Additionally, the Company is starting to see the benefit of lower costs as a result of higher mix of offshore resources.
Operating Expenses
Research and Development. Research and development expenses decreased to $42.9 million for the nine months ended February 28, 2006 from $46.8 million for the nine months ended February 28, 2005, representing an 8.4% decrease. The $3.9 million decrease in research and development was primarily due to a $1.4 million decrease in employee costs resulting from workforce reductions primarily related to prior year restructuring initiatives, a $3.4 million decrease related to a planned reduction in contract personnel and a $0.4 million decrease in depreciation expense. The decreases were partially offset by a $1.7 million increase in outsourcing through our global sourcing partner relationship resulting in overall productivity improvements. Research and development expenses as a percentage of total revenues for the nine months ended February 28, 2006 and 2005 were 16.2% and 18.8%, respectively.
Sales and Marketing. Sales and marketing expenses decreased to $56.1 million for the nine months ended February 28, 2006 from $58.2 million for the nine months ended February 28, 2005, representing a 3.6% decrease. The $2.1 million decrease in sales and marketing expenses was due to a $2.2 million reduction in advertising costs, a $1.4 million reduction in consulting fees from fiscal 2005 projects and a $0.8 million reduction for travel expenses due to reduced headcount and cost reduction initiatives. Partially offsetting these decreases was an increase of $2.5 million in employee and related costs due to sales incentives partially offset by workforce reductions primarily related to restructuring activities in fiscal 2005. Sales and marketing expenses as a percentage of total revenues for the nine months ended February 28, 2006 and 2005 were 21.2% and 23.4%, respectively.
General and Administrative. General and administrative expenses increased to $36.6 million for the nine months ended February 28, 2006 from $26.5 million for the nine months ended February 28, 2005, representing a 38.0% increase. The $10.1 million increase in general and administrative expenses was primarily due to $11.7 million of increased employee costs including bonuses and severance which included a $6.3 million non-cash charge for option expense relating to the former president and CEO’s negotiated separation agreement. Additionally, contractor spending increased by $1.5 million and costs of $2.2 million were recorded for the pending merger with Intentia. The increases in costs were partially offset by a $1.7 million decrease in bad debt expense primarily driven by improved aging of receivables due to strong collection efforts and lower specific reserves and a decrease in accounting and legal fees of $3.7 million primarily related to SEC legal costs incurred in the prior year. General and administrative expenses as a percentage of total revenues for the nine months ended February 28, 2006 and 2005 were 13.8% and 10.7%, respectively.
Restructuring. During the nine months ended February 28, 2006, we recorded a $0.01 million restructuring charge compared with a $5.2 million restructuring charge, for the nine months ended February 28, 2005. See Note 7 of Notes to Condensed Consolidated Financial Statements for a summary of activity for year-to-date fiscal 2006.
Amortization of Acquired Intangibles. Amortization of acquired intangibles for the nine months ended February 28, 2006 of $1.1 million was consistent with the $1.2 million for the nine months ended February 28, 2005.
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Other Income, Net
Other income, net, which is primarily comprised of interest income earned from cash and marketable securities increased to $7.5 million for the nine months ended February 28, 2006 from $2.8 million for the nine months ended February 28, 2005. The $4.7 million increase in interest income was due primarily to a $64.8 million increase in average invested balances and an increase in average yields, which were 3.8% and 1.8% for the nine months ended February 28, 2006 and 2005, respectively, and $0.4 million in interest income received on a tax refund.
Provision (Benefit) for Income Taxes
We recorded a $7.6 million income tax provision for the nine months ended February 28, 2006 compared with a
$1.3 million income tax benefit for the nine months ended February 28, 2005. Our income tax provision (benefit) is based on pretax income (loss) and consists primarily of federal and state income taxes. The quarterly tax expense is measured using an estimated annual tax rate for the period. At February 28, 2006, the Company’s estimated annual tax rate was 39.4% before the impact of discrete items. Our effective tax rate, after the impact of discrete items, was 26.9% and 66.1% for the nine months ended February 28, 2006 and 2005, respectively. The effective tax rate for the nine months ended February 28, 2006 includes a reversal of $1.4 million of valuation allowance as a result of the determination that previously recorded tax assets are now more likely than not to be realized prior to their expiration dates and the reversal of $2.1 million of tax reserves related to favorable settlement of certain tax audit matters and the closing of the U.S. statute of limitations on certain tax years. The effective tax rate, after the impact of discrete items, for the nine months ended February 28, 2005 includes a $0.4 million benefit recorded with the filing of the Company’s tax returns as a result of a favorable return to provision adjustment. For the nine months ended February 28, 2005, due to a relatively small pre-tax loss of $0.2 million, this discrete item increased the effective tax rate by approximately 20%. We review our reported effective tax rate on a quarterly basis and make any necessary changes.
Liquidity and Capital Resources
|
| As of and for the Nine months Ended |
| ||||||
(in millions, except %) |
| 2006 |
| 2005 |
| Change |
| ||
Working capital |
| $ | 223.2 |
| $ | 181.9 |
| 22.7 | % |
Cash and cash equivalents and marketable securities |
| $ | 277.9 |
| $ | 221.9 |
| 25.3 | % |
Cash provided by operating activities |
| $ | 38.6 |
| $ | 17.1 |
| 126.0 | % |
Cash used in investing activities |
| $ | (49.5 | ) | $ | (15.4 | ) | 222.6 | % |
Cash provided by (used in) financing activities |
| $ | 10.3 |
| $ | (1.0 | ) | 1,134.0 | % |
As of February 28, 2006 we had $277.9 million in cash, cash equivalents and marketable securities and $223.2 million in working capital. Our most significant source of operating cash flows is derived from license fees and services to our customers. Days sales outstanding, which is calculated on net current receivables at period end divided by revenue for the quarter times 90 days in the quarter, was 51 and 45 as of February 28, 2006 and May 31, 2005, respectively. The increase is reflective of a $6.9 million increase in accounts receivable associated with the combined effects of increased revenues and an increase in receivables associated with work in progress. Our primary uses of cash from operating activities are for employee costs, third-party costs for licenses and services, and facilities.
We believe that cash flows from operations, together with our cash, cash equivalents and marketable securities, will be sufficient to meet our cash requirements for working capital, capital expenditures and investments for the foreseeable future. As part of our business strategy we may acquire companies or products from time to time to enhance our product lines. On June 2, 2005 we entered into an agreement to combine with Stockholm, Sweden-based Intentia International AB. We intend this to be an all-stock transaction; however we may utilize cash to acquire certain shares as well as to fund acquisition related costs. We are estimating these acquisition related costs to be in the range of $120 million to $140 million, which includes approximately $10 million to $15 million of costs to close the transaction, approximately $25 million to $35 million of integration costs once the transaction is completed, approximately $40 million for the pay-off of loans and
23
approximately $47 million if all the Intentia shares are not tendered and we are required to purchase them for cash. We believe we have sufficient cash to fund this business transaction. For additional information refer to Note 5, “Pending Business Combination” in the Notes to the Condensed Consolidated Financial Statements.
During the quarter ended February 28, 2006, we began a program to invoice annual support renewals so that most customers will have a June 1 renewal date each year for software support. In the past, annual support renewal dates with customers were spread throughout the year, based on either the beginning of a quarter or the anniversary date of the initial license agreement with a customer. Under this new program, we will invoice customers for annual support during the 90 day period before each June 1, and expect payment by that June 1. As a result, beginning in the first quarter of fiscal 2008, we anticipate our cash balance from annual support payments will increase when these invoices are paid, and then will decrease after each June 1 over the remainder of the year as we apply that cash towards the fulfillment of our support obligations. Revenue is not affected by this new program as revenue is recognized as the services are provided.
Cash flows from operating activities:
Net cash provided by operating activities was $38.6 million for the nine months ended February 28, 2006 compared with $17.1 million for the nine months ended February 28, 2005. Cash flows from operating activities were largely generated from our net income of $20.7 million and increased by $18.8 million in non-cash charges before working capital changes. Non-cash charges primarily consist of $10.6 million of depreciation and amortization, a $6.4 million stock compensation charge related to a negotiated separation agreement with the Company’s former president and chief executive officer and a $4.3 million tax benefit from stockholder transactions of option activity. The $0.9 million in net working capital changes decreased the overall cash provided to $38.6 million.
The activity in working capital changes for fiscal 2006 primarily relates to a $5.9 million decrease in cash received resulting from accounts receivable, a $1.1 million decrease in deferred revenue and customer deposits and $2.1 million of increase in cash payments related to accounts payable and accrued and other liabilities. These were partially offset by an increase in income taxes payable in the amount of $4.3 million related to the increased earnings and an increase in prepaid expenses of $3.6 million.
Cash flows from investing activities:
Net cash used in investing activities was $49.5 million for the nine months ended February 28, 2006 compared with $15.4 million for the nine months ended February 28, 2005. The decrease in cash from investing activities for the nine months ended February 28, 2006 primarily related to $43.7 million of cash used in net purchases of marketable securities as well as $2.9 million of cash paid for capitilized transaction costs in conjunction with the acquisition of Intentia. Refer to Note 5 “Pending Business Combination” in the Notes to the Condensed Consolidated Financial Statements for additional information
Cash flows from financing activities:
Net cash provided by financing activities was $10.3 million for the nine months ended February 28, 2006 compared with net cash used in financing activities of $1.0 million for the nine months ended February 28, 2005. The financing activities for the nine months ended February 28, 2006 primarily related to $9.3 million in cash received from the exercise of stock options and $2.7 million in cash received from employee contributions to our employee stock purchase plan.
Repurchase of Common Shares
In June 2003 our Board of Directors authorized us to repurchase up to $50.0 million of our common shares. Shares were repurchased from time to time as market conditions warranted either through open market transactions, block purchases, private transactions or other means. During the nine months ended February 28, 2005, we completed the authorized stock repurchase plan by purchasing the remaining 1.4 million shares for $10.0 million in cash. Cash proceeds obtained from maturities of marketable securities, the exercise of employee stock options and contributions to the employee stock purchase plan largely funded the share repurchases. The repurchased shares, which remain in treasury, are being used for general corporate purposes.
24
Disclosures about Contractual Obligations and Commercial Commitments
The following summarizes our contractual obligations at February 28, 2006, and the effect these contractual obligations are expected to have on our liquidity and cash flows in future periods (in thousands):
|
| Total |
| 1 Year or |
| 1-3 Years |
| 3-5 Years |
| More than |
| |||||
Balance Sheet Contractual Obligations: |
|
|
|
|
|
|
|
|
|
|
| |||||
Debt |
| $ | 300 |
| $ | 300 |
| $ | — |
| $ | — |
| $ | — |
|
Strategic partner commitments (2) (3) |
| 1,000 |
| 1,000 |
| — |
| — |
| — |
| |||||
Total |
| $ | 1,300 |
| $ | 1,300 |
| $ | — |
| $ | — |
| $ | — |
|
Other Contractual Obligations: |
|
|
|
|
|
|
|
|
|
|
| |||||
Operating leases |
| $ | 67,999 |
| $ | 8,266 |
| $ | 16,514 |
| $ | 15,895 |
| $ | 27,324 |
|
Purchase obligations (1) |
| 10,439 |
| 8,082 |
| 2,320 |
| 37 |
| — |
| |||||
Total |
| $ | 78,438 |
| $ | 16,348 |
| $ | 18,834 |
| $ | 15,932 |
| $ | 27,324 |
|
|
|
|
|
|
|
|
|
|
|
|
| |||||
Total Contractual Obligations |
| $ | 79,738 |
| $ | 17,648 |
| $ | 18,834 |
| $ | 15,932 |
| $ | 27,324 |
|
(1) Our purchase obligations represent those commitments greater than $50,000 and consist primarily of commitments for marketing activities.
(2) Under the Agreement with Hackett that commenced May 9, 2005, we paid $1.6 million during the nine months ended February 28, 2006, and are contractually committed to pay an additional $0.5 million within the next twelve months. We will pay additional fees when sales volumes meet established criteria throughout the term of the contract. The Agreement identifies joint programs in which Hackett will provide the Company and its customers and prospects with, among other things, access to Hackett benchmark tools, best-practices research and business advisory services. See Note 9 “Commitments and Contingencies” to the Condensed Consolidated Financial Statements for additional information.
(3) In fiscal 2005, the Company and International Business Machines Corporation (IBM) entered into an OEM Software Agreement that was modified in the second quarter of fiscal 2006, and a Master Relationship Agreement (MRA). Under these agreements, we are reselling our business applications in conjunction with IBM’s open standards-based software, and the companies will jointly market these software solutions. The MRA governs the joint marketing activities and has a three-year term. During the term of the modified OEM Software Agreement, we are paying royalties to IBM for the licensing of IBM programs to each applicable existing and new customer of the Company, and are paying IBM annual maintenance fees for each applicable customer. The royalty and maintenance payments to IBM are based on transactions with each applicable Lawson customer. The modified OEM Software Agreement has an initial term of three years commencing September 2005 and may be extended by us for two additional one-year terms. During the initial three-year term, we have agreed to pay certain minimum quarterly and annual royalties to IBM. Total commitments under the modified OEM Software Agreement approximate $9.5 million over the three-year term. We may elect to terminate the OEM Software Agreement for convenience upon 90 days advance notice to IBM. If we elect early termination at any time during the initial three-year term, we would pay IBM any unpaid minimum royalties through the date of termination plus a prorated share of the guaranteed annual minimum payment due for the year in which the termination occurred. We have made cash payments of $2.6 million according to terms of the modified OEM Software Agreement during the nine months ended February 28, 2006 recorded as other assets – long-term. In addition, we recorded $0.5 million as other accrued liabilities on the February 28, 2006 Condensed Consolidated Balance Sheet, representing the prorated portion of the $0.6 million annual minimum owed in the initial year of the contract. See Note 9 “Commitments and Contingencies” to the Condensed Consolidated Financial Statements for additional information.
Off-Balance-Sheet Arrangements
We do not use off-balance-sheet arrangements with unconsolidated entities, related parties or other forms of off-balance-sheet arrangements such as research and development arrangements. Accordingly, our liquidity and capital
25
resources are not subject to off-balance-sheet risks from unconsolidated entities. As of February 28, 2006, we did not have any off-balance-sheet arrangements, as defined in Item 303(a) (4) (ii) of SEC Regulation S-K.
We have entered into operating leases for most U.S. and international sales and support offices and certain equipment in the normal course of business. These arrangements are often referred to as a form of off-balance-sheet financing. As of February 28, 2006, we leased facilities and certain equipment under non-cancelable operating leases expiring between 2006 and 2017. Rent expense under operating leases for the three months ended February 28, 2006 and 2005 was $3.2 million and $3.5 million, respectively. Rent expense under operating leases for the nine months ended February 28, 2006 and 2005 was $10.1 million and $10.4 million, respectively. Future minimum lease payments under our operating leases as of February 28, 2006 are included above in “Disclosures about Contractual Obligations and Commercial Commitments”.
Recent Accounting Pronouncements
In December 2004 the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standard No. 123 (revised 2004), Share-Based Payment (“SFAS No. 123(R)”). SFAS No. 123(R) requires compensation cost relating to unvested share-based payment transactions that are outstanding as of the effective date and newly issued transactions to be recognized in the financial statements. The cost will be measured based on the fair value of the equity or liability instruments issued. SFAS No. 123(R) covers a wide range of share-based compensation arrangements including share options, restricted share plans, performance-based awards, share appreciation rights and employee share purchase plans. SFAS No. 123(R) supersedes SFAS No. 123, Accounting for Stock-Based Compensation (“SFAS No. 123”), and supersedes Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees (“Opinion 25”). SFAS No. 123, as originally issued in 1995, established a fair-value-based method of accounting for share-based payment transactions with employees. However, SFAS No. 123 permitted entities the option of continuing to apply the guidance in Opinion 25, as long as the footnotes to financial statements disclosed what net income would have been had the fair-value-based method been used. We elected the option of disclosure only under SFAS No. 123. In our disclosures, we have historically used the Black-Scholes option pricing model to determine the fair value of its share based compensation arrangements. Upon the adoption of SFAS No. 123(R), we will determine whether it will continue to utilize the Black-Scholes model or adopt some other acceptable model. Public entities are required to apply SFAS No. 123(R) as of the first annual reporting period that begins after June 15, 2005, which is effective with our first quarter of fiscal 2007. Based on the significant amount of our unvested share-based payment awards, the adoption of this statement is anticipated to have a material impact on our Consolidated Statements of Operations, however we are currently evaluating the impact. Historically, had compensation costs for the Company’s stock options been recognized based on fair value at the grant date consistent with the provisions of SFAS No. 123, the Company’s diluted earnings per share would have been reduced by $0.06, $0.05 and $0.05, respectively, for the years ended May 31, 2005, May 31, 2004, and May 31, 2003, as disclosed in the Company’s Annual Report on Form 10-K and Form 10-K/A filed for the fiscal year ended May 31, 2005.
In May 2005, the FASB issued SFAS No 154, “Accounting Changes and Error Corrections — A replacement of APB Opinion No 20 and FASB Statement No. 3” (“SFAS 154”). SFAS 154 changes the requirement for the accounting for and reporting of a change in accounting principle. This statement applies to all voluntary changes in accounting principles and changes required by an accounting pronouncement in the unusual instance that the pronouncement does not include specific transition provisions. The provisions in SFAS 154 are effective for accounting changes and correction of errors made in fiscal years beginning after December 15, 2005, which is effective with our first quarter of fiscal 2007. We intend to adopt the disclosure requirements upon the effective date of the pronouncement. Since this pronouncement only relates to disclosure requirements, the adoption will have no impact on our consolidated financial statements.
ITEM 3. QUALITATIVE AND QUANTITATIVE DISCLOSURES ABOUT MARKET RISK
There were no material changes in market risk for the Company in the period covered by this report. See the Company’s Annual Report on Forms 10-K and 10-K/A for the fiscal year ended May 31, 2005 for a discussion of market risk for the Company.
ITEM 4. CONTROLS AND PROCEDURES
(a) Evaluation of Disclosure Controls and Procedures – Under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, we evaluated the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934 (the
26
“Exchange Act”)). Based upon that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that, as of the end of the period covered by this report, our disclosure controls and procedures were effective.
(b) Changes in Internal Control Over Fiancial Reporting – There were no changes in our internal control over financial reporting identified in connection with our evaluation during the quarter ended February 28, 2006, which have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
We are, and from time to time may become, involved in litigation in the normal course of business concerning our products and services. While the outcome of these claims cannot be predicted with certainty, we do not believe that the outcome of any one of these legal matters will have a material adverse affect on our consolidated financial position, results of operations or cash flows. However, depending on the amount and the timing, an unfavorable resolution of some or all of these matters could materially affect our future results of operations or cash flows in a particular period.
Factors That May Affect Our Future Results or the Market Price of Our Stock
We operate in a rapidly changing environment that involves numerous uncertainties and risks. Investors evaluating our company and its business should carefully consider the factors described below and all other information contained in this report on Form 10-Q. This section should be read in conjunction with the Condensed Consolidated Financial Statements and Notes thereto and Management’s Discussion and Analysis of Financial Condition and Results of Operations included in this report on Form 10-Q. Any of the following factors could materially harm our business, operating results and financial condition. Additional factors and uncertainties not currently known to us or that we currently consider immaterial could also harm our business, operating results and financial condition. We may make forward-looking statements from time to time, both written and oral. We undertake no obligation to revise or publicly release the results of any revisions to these forward-looking statements based on circumstances or events which occur in the future. The actual results may differ materially from those projected in any such forward-looking statements due to a number of factors, including those set forth below and elsewhere in this report on Form 10-Q.
Risks Relating to the Proposed Business Combination between Lawson and Intentia International AB
On June 2, 2005 we announced an agreement to combine Lawson with Intentia International AB in an all-stock transaction referred to as an “Exchange Offer”. If the Exchange Offer is accepted and the transaction is completed, Lawson will issue approximately 81 million shares of Lawson common stock pursuant to the terms of the Exchange Offer. Each Series A share of Intentia stock will be entitled to receive 0.5061 newly issued shares of Lawson common stock; each Series B share of Intentia stock will be entitled to receive 0.4519 newly issued shares of Lawson common stock; and each Warrant for the purchase of Intentia stock will be entitled to receive 0.2157 newly issued shares of Lawson common stock. These exchange ratios will not change based on the fluctuations in the market price of our common stock. The closing of the Exchange Offer and business combination with Intentia is subject to several conditions, including approval by our stockholders and sufficient tender of shares by Intentia security holders. Under the terms of the amended Transaction Agreement, if all of the conditions to the Exchange Offer are not completed by April 30, 2006, either Lawson or Intentia could elect to terminate the Transaction Agreement. Our efforts to close the business combination and integrate our two businesses will create several additional risks and uncertainties.
We may not be able to achieve the anticipated financial and strategic benefits of our proposed combination with Intentia.
Among the factors considered by our Board of Directors in connection with its approval of the Exchange Offer were the anticipated financial and strategic benefits of the combination of Lawson and Intentia, including the opportunities for cost savings from operational efficiencies and the anticipated increase in sales resulting from the combined efforts of both businesses and the combined sales channels. We are not able to guarantee that these savings will be realized within the time periods contemplated or that they will be realized at all. We are not able to guarantee that the combination of Lawson and Intentia will result in the realization of the full benefits, including increased sales anticipated by the businesses.
27
Our investment in goodwill and intangibles from our acquisitions could become impaired.
As of February 28, 2006 we had goodwill of $43.3 million and acquired intangibles of $25.4 million on our Condensed Consolidated Balance Sheet. Upon completion of the pending merger with Intentia, we anticipate a significant increase in goodwill and acquired intangibles. To the extent that we do not generate sufficient cash flows to recover the net amount of the goodwill and intangibles recorded, the goodwill and intangibles could be subsequently written-off. In such an event, our results of operations in any given period would be negatively impacted, and the market price of our stock could decline.
The integration of Lawson’s and Intentia’s businesses will require significant focus on staffing, training and compliance procedures for our internal control over financial reporting under Section 404 of the Sarbanes-Oxley Act of 2002.
As a Swedish company, Intentia has not had to comply with the requirements of Section 404 of the Sarbanes-Oxley Act of 2002 concerning the effectiveness of internal controls over financial reporting. Consequently, Intentia does not currently have the staff, experience, training or procedures to comply with these requirements. The integration of Lawson and Intentia will require significant focus on staffing and training to address these requirements. If we are unable to implement our compliance procedures and have a properly trained staff in place on a timely basis, we could encounter a significant deficiency or material weakness in our internal controls. If in the future we are unable to assert that our internal control over financial reporting is effective as of the end of the then current fiscal year or applicable quarter (or, if our independent registered public accounting firm is unable to attest that our management’s report is fairly stated or they are unable to express an opinion on the effectiveness of our internal controls), we could lose investor confidence in the accuracy and completeness of our financial reports, which would have a negative market reaction.
We will encounter material adverse consequences if we are unable to process and report, on a timely basis, the combined company’s financial results under U.S. GAAP and SEC requirements.
Because the merger with Intentia will significantly increase the complexity of our global operations, we will need to develop and implement worldwide procedures designed for accurate and timely financial reporting under U.S. GAAP and SEC requirements. In addition, we will need to train the staff of the combined company to comply with these requirements on a global basis. If we are unable to close our books and prepare financial reports on a timely basis, we would be required to seek a reporting extension under applicable SEC rules. A reporting extension could adversely impact the trading of our stock, erode investor confidence and result in other material adverse consequences.
We may not be able to successfully integrate our business with the business of Intentia.
This transaction involves the integration of two businesses that are based in different countries and that currently operate independently. This integration is a complex, costly and time-consuming process. Following the combination of Lawson and Intentia, we may encounter difficulties in integrating our operations, technology and personnel with those of Intentia and this may continue for some time. Lawson management has limited experience integrating operations as substantial and geographically diverse as those of Intentia. The combined company may not successfully integrate the operations of Lawson and Intentia in a timely manner, or at all. The failure to successfully integrate the two businesses’ operations could undermine the anticipated benefits and synergies of the combination, which could adversely affect our business, financial condition and results of operations. The anticipated benefits relate to greater economies of scale and revenue enhancement opportunities resulting from Lawson’s and Intentia’s complementary product offerings, geographic and industry specialties and technology platforms. However, these anticipated benefits are based on projections and assumptions, not actual experience, and assume a successful integration.
We may have difficulties adapting Intentia’s operations to U.S. regulatory requirements.
As a company governed by Swedish laws and the rules of the Stockholm Stock Exchange, Intentia’s operations have not been designed to comply with financial reporting, disclosure controls and internal control requirements imposed by US GAAP and the Sarbanes-Oxley Act of 2002 and other U.S. securities laws and regulations. The implementation of the necessary control systems will be costly and time consuming. If Lawson fails to promptly implement these controls and systems at Intentia’s operations, Lawson could fail to comply with U.S. regulatory requirements, which could adversely offset our business, financial condition and results of operations.
The market price of our common stock may decline as a result of the Exchange Offer.
In connection with the Exchange Offer, we could issue as many as 81 million shares of our common stock to the holders of shares and warrants if all Intentia securityholders elect to tender their shares or warrants in exchange for shares of
28
our common stock. The shares of our common stock issued in the Exchange Offer, subject to the contractual limitations on those persons who executed the lock-up agreements, will be freely-tradable upon consummation of the Exchange Offer. The acquisition of our shares by Intentia securityholders who may not wish to hold shares in a U.S. company, as well as the increase in the outstanding number of shares of our common stock, may lead to sales of such shares or the perception that such sales may occur, either of which may adversely affect the market for, and the market price of, our common stock. In addition, the market price of our common stock may decline following the closing of the Exchange Offer for a number of reasons, including if the integration of Intentia’s business is unsuccessful or we do not achieve the anticipated financial and strategic benefits of our combination with Intentia as rapidly or to the extent anticipated by stock market analysts or investors. The closing price of our common stock was $5.95 on June 1, 2005, the last day of trading prior to the announcement of the proposed Exchange Offer. Since that date, our stock has fluctuated from a low of $5.02 to a high of $8.05. On April 6, 2006, the closing price of our common stock was $7.76.
Our stockholders will suffer immediate and substantial dilution to their equity and voting interests as a result of the Exchange Offer.
In connection with the Exchange Offer, we may issue as many as 81 million shares of our common stock to the holders of Intentia shares or Intentia warrants if all Intentia securityholders elect to tender their Shares or Warrants in exchange for shares of our common stock. This means that the Intentia securityholders could own up to approximately 43.25% of the total number of shares of our outstanding common stock following the Exchange Offer. Accordingly, the Exchange Offer will have the effect of substantially reducing the percentage of equity and voting interest held by each of our current stockholders.
The Intentia securityholders may be able to influence our company significantly following the Exchange Offer.
After the Exchange Offer, former Intentia securityholders could own approximately 43.25% of the total number of shares of our common stock based on the treasury method. Intentia’s largest shareholder, Symphony Technology Group, will own approximately 14% of Lawson’s common stock following the combination. Symphony and Intentia securityholders as a group may be able to exercise substantial influence on the election of directors and other matters submitted for approval by our shareholders. This potential concentration of ownership of our common stock may make it difficult for our other shareholders to successfully approve or defeat matters submitted for shareholder action. It may also have the effect of delaying, deterring or preventing a change in control of our company without the consent of Symphony or of the Intentia securityholders generally.
Unanticipated costs relating to the Exchange Offer and resulting combination of Intentia and Lawson could reduce our future earnings.
We believe that we have reasonably estimated the likely costs of integrating our operations with the operations of Intentia and that such costs are estimated to be in excess of $25 million for the first 12 months following closing of the transaction. Our objective is to minimize incremental costs of operating as a combined company by offsetting incremental costs by cost savings of the combined company. It is possible that unexpected transaction costs, such as taxes, fees or professional expenses, or unexpected future operating expenses, such as increased personnel costs or unexpected severance costs, as well as other types of unanticipated developments, could adversely impact our business and profitability.
The uncertainties associated with our combination with Intentia may cause our customers and Intentia’s customers to delay or defer decisions which may result in the loss of customers and revenues.
Our customers and Intentia’s customers may, in response to the pending Exchange Offer and resulting combination of Lawson and Intentia, and prior to its effectiveness, delay or defer decisions concerning business with either or both of the businesses. Any delay or deferral in those decisions by our respective customers could adversely affect our businesses. For example, either company could experience a decrease in expected revenue as a consequence of such delays or deferrals.
The uncertainties associated with our combination with Intentia may cause Intentia or us to lose key personnel.
Employees of Lawson or Intentia may perceive uncertainty about their future role with the combined company until strategies with regard to the combined company are announced or executed. Any uncertainty may affect either company’s ability to attract and retain key management, sales, marketing, technical and financial personnel. Our competitors might also attempt to hire our key personnel.
29
Combination-related accounting charges may delay or reduce our profitability.
We are accounting for the combination with Intentia as a purchase following accounting principles generally accepted in the United States. Under the purchase method of accounting, the purchase price of Intentia will be allocated to the fair value of the identifiable tangible and intangible assets and liabilities that we acquire from Intentia. In addition, accounting for the combination of Intentia under the purchase method may require a decrease in deferred revenue to fair value. The excess of the purchase price over Intentia’s tangible net assets will be allocated to goodwill and intangible assets. We are required to perform periodic impairment tests on goodwill and certain intangibles to evaluate whether the intangible assets and goodwill that we acquire from Intentia continue to have fair values that meet or exceed the amounts recorded on our balance sheet. If the fair values of such assets decline below their carrying value on our balance sheet, we may be required to recognize an impairment charge related to such decline. We cannot predict whether or when there will be an impairment charge, or the amount of such charge, if any. However, if the charge is significant, it could cause the market price of our common stock to decline.
If, as of the closing date, there are unknown liabilities in connection with Intentia’s business, and those liabilities are not reflected on the closing date balance sheet, we would be required to record a charge during each period when those liabilities became known, probable and estimable. Those charges, if material, could have an unanticipated and significant adverse effect on our financial results and stock price.
In addition, we will incur transaction and integration costs in our combination with Intentia. As a result, we will incur accounting charges from the combination that may delay and reduce our profitability in the accounting period in which the combination is consummated.
We expect to expend a significant amount of cash in the Exchange Offer, which will partially reduce our cash balance.
In order to initiate compulsory acquisition proceedings under Swedish law, we must acquire more than 90% of the outstanding shares in Intentia. If we meet this legal requirement and furthermore acquire more than 90% of each of the outstanding shares and voting power in Intentia on a fully diluted basis using the treasury method (including all shares issuable pursuant to outstanding warrants but excluding shares issuable pursuant to outstanding convertible securities), we intend to purchase the remaining Shares for cash, pursuant to compulsory acquisition proceedings under Swedish law. The actual price per share purchased pursuant to Swedish compulsory acquisition proceedings, initiated after a share exchange offer, is typically based on the average closing price for the bidder’s stock during the acceptance period. In addition, interest will accrue on the purchase price from the day the compulsory acquisition proceedings are initiated. Assuming 90.01% of each of the outstanding shares and voting power in Intentia are tendered in the Exchange Offer and the price that is required to be paid pursuant to the Swedish compulsory acquisition proceedings for the remaining approximately 10% of the shares equals SEK 22.17 per Series A share and SEK 19.80 per Series B share, we could be obligated to pay approximately USD 47 million (approximately SEK 348 million assuming a currency exchange rate of SEK 7.4108 to $1.00 as of May 31, 2005) plus interest for the Shares purchased in the compulsory acquisition. This cash expenditure would normally occur between one and three years after the closing of the Exchange Offer. However, Lawson may be required to make a payment for part of the acquisition sum at an earlier stage. Following the entering into force of an award on advance acquisition of the minority shareholders’ shares, the arbitration tribunal may—at the request of a party to the proceedings or the legal representative for the minority shareholders—issue a separate award in respect of the acquisition sum accepted by Lawson. Thus, Lawson may be obligated to settle such part of the acquisition sum prior to the final arbitration award. Therefore, the total amount payable by Lawson under the compulsory acquisition proceedings could be greater than or less than USD 47 million.
We estimate that the total cash expenses related to acquisition costs to be incurred by Lawson and Intentia for the Exchange Offer will be approximately $30 million, including investment banking fees, accounting and legal fees, printing, mailing and other out-of-pocket transaction costs. Additionally we estimate that the cash expenses related to integration costs will be approximately $28.5 million. We will have approximately $198.0 million in available cash and cash equivalents, based on the amount of cash and cash equivalents that we and Intentia had as of February 28, 2006. It is anticipated that we may use an additional amount of approximately $40 million in connection with the Combination, relating to a junior facility loan made by Tennenbaum to Intentia valued at $27.4 million, which includes accrued interest of $0.6 million, as of February 28, 2006. The Tennenbaum loan matures in September 2009. However, pursuant to an agreement with Tennenbaum entered into in November 2005, Lawson intends to prepay the Tennenbaum loan following the closing of the Exchange Offer. Assuming current LIBOR interest rates until the prepayment date, the amount required to prepay the Tennenbaum loan in September
30
2006, calculated in accordance with the November 2005 agreement with Tennenbaum, is estimated to be $2.7 million. Also included in this amount are the remaining Notes valued at $10.2 million, which includes accrued interest of $0.3 million, as of February 28, 2006. Total estimated costs for the acquisition are summarized as follows (in thousands):
|
| Lawson |
| Intentia |
| Total |
| |||
Acquisition costs |
| $ | 13.5 |
| $ | 16.5 |
| $ | 30.0 |
|
Purchase of shares |
| 47.0 |
|
|
| 47.0 |
| |||
Payoff of loan |
| 40.3 |
|
|
| 40.3 |
| |||
Integration costs |
| 28.5 |
|
|
| 28.5 |
| |||
Total |
| 129.3 |
| $ | 16.5 |
| $ | 145.8 |
| |
Full integration of our operations with Intentia’s operations may not be achieved if we cannot compulsorily acquire all of the issued and outstanding Shares.
Our obligation to consummate the Exchange Offer is subject to a condition that, before the end of the Exchange Offer period, there shall have been validly tendered and not properly withdrawn greater than 90% of each of the outstanding Shares (including Warrants) and voting power in Intentia on a fully diluted basis (including all shares issuable pursuant to outstanding warrants but excluding shares issuable pursuant to outstanding convertible securities). In addition, the compulsory acquisition proceedings may be time consuming. To effect the compulsory acquisition under Swedish law, we are required to have a beneficial interest in greater than 90% of all of the voting power of the Intentia securities. It is possible that, at the end of the Exchange Offer period, we will elect to waive the above condition and consummate the Exchange Offer if we hold at least 70% of the outstanding securities and voting power of Intentia, even though we do not hold more than 90% of the outstanding Intentia securities. As a result, we would not be able to effect a compulsory acquisition of the remaining outstanding securities and voting power of Intentia. This could prevent or delay us from realizing some or all of the anticipated financial and strategic benefits of our combination with Intentia.
As a result of the consummation of the Exchange Offer, we will conduct more of our business internationally, which will expose us to additional and increased risks.
Although international revenues accounted for approximately 5% of our total revenues during fiscal year 2005, we will significantly increase our international operations upon consummation of the Exchange Offer, particularly in Europe. There are many risks that currently impact, and will continue to impact our international business and multinational operations, which will increase upon consummation of the Exchange Offer. These risks include the following:
• compliance with multiple and potentially conflicting regulations in Europe, Asia and North America, including export requirements, tariffs, import duties and other trade barriers, as well as health and safety requirements;
• potential labor strikes, lockouts, work slowdowns and work stoppages at U.S. and international ports;
• differences in intellectual property protections in Europe and Asia;
• difficulties in staffing and managing foreign operations in Europe and Asia;
• restrictions on downsizing foreign operations in Europe and expenses and delays associated with any such activities;
• longer accounts receivable collection cycles in Europe and Asia;
• currency fluctuations and resulting losses on currency translations;
• economic instability, including inflation and interest rate fluctuations, such as those previously seen in South Korea and Brazil;
• competition for foreign-based suppliers in Asia and Europe;
• overlapping or differing tax structures;
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• cultural and language differences among the United States, Europe and Asia; and
• political or civil turmoil.
Any failure on our part to manage these risks effectively would seriously reduce our competitiveness in the business applications software marketplace.
As a result of the consummation of the Exchange Offer, we will be a larger and broader organization, and if our management is unable to manage the combination of our business with Intentia’s, our operating results will suffer.
As a result of the consummation of the Exchange Offer, we will acquire the worldwide operations and approximately 2,200 employees of Intentia. Consequently, we will face challenges inherent in efficiently managing an increased number of employees over large geographic distances, including the need to implement appropriate systems, policies, benefits and compliance programs. In addition, we will be exposed to risks associated with the translation of Intentia’s SEK-denominated financial results and balance sheet into U.S. dollars. Our reporting currency will remain as the U.S. dollar; however, a portion of our consolidated financial obligations will arise in other currencies, including Euros, British Pounds and SEK. In addition, the carrying value of some of our assets and liabilities will be affected by fluctuations in the value of the U.S. dollar as compared with the Euro, British Pound and SEK. Any inability to successfully manage the geographically more diverse and substantially larger combined organization, or any significant delay in achieving successful management, could have a material adverse effect on our results of operations after the Exchange Offer is consummated and, as a result, on the market price of our common stock.
The new management team might not be able to define or successfully implement a business plan for the combined businesses.
In June 2005, we appointed Harry Debes as our new president, chief executive officer, and director. Upon the completion of the Exchange Offer, we will appoint a new co-chairman, Romesh Wadhwani, who is currently the chairman of the board of Intentia, and a new chief operating officer, Bertrand Sciard, the current president and chief executive officer of Intentia. While Mr. Wadhwani, Mr. Debes and Mr. Sciard have extensive experience in the software industry and managing software businesses and while Mr. Debes and Mr. Sciard have also managed large teams of people at other U.S. software businesses, neither Mr. Debes nor Mr. Sciard has previously been chief executive or chief operating officer of a public company in the U.S. If this new management team is unable to adapt successfully to the demands of managing a U.S. public company or to define or execute our business plan, our results of operations may be adversely affected.
Risks Relating to Lawson’s Business
Our business and company will continue to be subject to other risks and uncertainties, regardless of whether we complete the proposed business combination with Intentia.
Economic, political and market conditions can adversely affect our revenue growth and operating results.
Our revenue and profitability depend on the overall demand for computer software, support and services, particularly in the industries in which we sell our products and services. Demand for enterprise software and demand for our solutions are affected by general economic conditions, competition, product acceptance and technology lifecycles. Regional and global changes in the economy, governmental budget deficits and political instability in certain geographic areas have resulted in businesses, government agencies and educational institutions reducing their spending for technology projects generally and delaying or reconsidering potential purchases of our products and related services. The uncertainty posed by the long-term effects of the war in the Middle East, terrorist activities, potential flu pandemics and related uncertainties and risks and other geopolitical issues may impact the purchasing decisions of current or potential customers. Because of these factors, we believe the level of demand for our products and services, and projections of future revenue and operating results, will continue to be difficult to predict. During fiscal 2005 and the prior three fiscal years, we took measures to realign our projected expenses with anticipated revenue, and incurred restructuring charges for severance and related benefits, facility closure or consolidation charges. There is no assurance that these cost reduction measures will be sufficient to offset any future revenue declines. Future declines in demand for our products and/or services could adversely affect our revenues and operating results.
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A number of our competitors are well-established software businesses that have advantages over us.
We face competition from a number of software businesses that have advantages over us due to their larger customer bases, greater name recognition, long operating and product development history, greater international presence and substantially greater financial, technical and marketing resources. These competitors include well-established businesses such as Oracle Corporation, and SAP AG, both of which have larger installed customer bases. If customers or prospects want to reduce the number of their software vendors, they may elect to purchase competing products from Oracle or SAP AG since those larger vendors offer a wider range of products. Furthermore, Oracle is capable of bundling its software with its database applications, which underlie a significant portion of our installed applications. When we compete with Oracle or SAP AG for new customers, we believe that both of those larger businesses often attempt to use their size and staying power as a competitive advantage against us. Oracle’s purchase of PeopleSoft, Inc., Retek Inc., Siebel Systems, and other consolidations in the software industry have fueled uncertainty among customer prospects.
In addition, we compete with a variety of more specialized software and services vendors, including:
• Internet (on demand) software vendors;
• single-industry software vendors;
• emerging enterprise resource optimization software vendors;
• human resource management software vendors;
• financial management software vendors;
• merchandising software vendors;
• services automation software vendors; and
• outsourced services providers.
As a result, the market for enterprise software applications has been and continues to be intensely competitive. Some competitors are increasingly aggressive with their pricing, payment terms and/or issuance of contractual warranties, implementation terms or guarantees. We may be unable to continue to compete successfully with new and existing competitors without lowering prices or offering other favorable terms to customers. We expect competition to persist and intensify, which could negatively impact our operating results and market share.
We may be unable to retain or attract customers if we do not develop new products and enhance our current products in response to technological changes and competing products.
As a software company, we have been required to migrate our products and services from mainframe to client-server to web-based environments. In addition, we have been required to adapt our products to emerging standards for operating systems, databases and other technologies. We will be unable to compete effectively if we are unable to:
• maintain and enhance our technological capabilities to correspond to these emerging environments and standards;
• develop and market products and services that meet changing customer needs; or
• anticipate or respond to technological changes on a cost-effective and timely basis.
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A substantial portion of our research and development resources is devoted to product upgrades that address regulatory and support requirements. Only the remainder of our limited research and development resources is available for new products. New products require significant development investment. That investment is further constrained because of the added costs of developing new products that work with multiple operating systems or databases. We face uncertainty when we develop or acquire new products because there is no assurance that a sufficient market will develop for those products. If we do not attract sufficient customer interest in those products, we will not realize a return on our investment and our operating results will be adversely affected.
Our core products face competition from new or revised technologies that may render our existing technology less competitive or obsolete, reducing the demand for our products. As a result, we must continually redesign our products to incorporate these new technologies and to adapt our software products to operate on, and comply with evolving industry standards for hardware and software platforms. Maintaining and upgrading our products to operate on multiple hardware and database platforms reduces our resources for developing new products. Because of the increased costs of developing and supporting software products across multiple platforms, we may need to reduce the number of those platforms. In addition, conflicting new technologies present us with difficult choices of which new technologies to adopt. If we fail to anticipate the most popular platforms or fail to respond adequately to technological developments, or experience significant delays in product development or introduction, our business and operating results will be negatively impacted.
We have begun producing certain products using a new business application platform we are developing known as “Landmark.” The goals of Landmark are to simplify software development and improve product quality. Because we have not yet released any new products developed using Landmark, it is too early to confirm whether we will successfully achieve these goals.
In addition, to the extent we determine that new technologies and equipment are required to remain competitive, the development, acquisition and implementation of such technologies may require us to make significant capital investments. We may not be able to obtain capital for these purposes and investments in new technologies may not result in commercially viable technological products. The loss of revenue and increased costs to us from such changing technologies would adversely affect our business and operating results.
We may need to change our pricing models to compete successfully.
The intensely competitive markets in which we compete can put pressure on us to reduce our prices. If our competitors offer deep discounts on certain products or services, or eliminate license fees, in an effort to recapture or gain market share or to sell other products or services, we may need to lower prices or offer other favorable terms in order to compete successfully. Any such changes would be likely to reduce margins and could adversely affect operating results.
If we are unable to attract and retain qualified personnel, specifically software engineers and sales personnel, we will be unable to develop new products and increase our revenue.
We are experiencing increased competition for attracting and retaining software engineers and sales personnel. If we are unable to attract, train and retain highly-skilled technical, managerial, sales and marketing personnel, we may be at a competitive disadvantage and unable to increase our revenue. Competition for personnel in the software industry is intense, and at times, we have had difficulty locating qualified candidates within desired geographic locations, or with certain industry-specific domain expertise. The failure to attract, train, retain and effectively manage employees could negatively impact our development and sales efforts and cause a degradation of our customer service. In particular, the loss of sales personnel or groups of sales personnel could lead to lost sales opportunities because it can take several months to hire and train replacement sales personnel. Uncertainty created by turnover of key employees could adversely affect our business, operating results and stock price.
Our earnings may be impacted by the recent accounting pronouncement requiring expensing of equity instruments issued to employees.
We currently account for the issuance of stock options under APB Opinion No. 25, Accounting for Stock Issued to Employees. The FASB has issued SFAS No. 123(R), Share-Based Payment that changes the accounting treatment for grants of options, sale of shares under our employee stock purchase plan and other equity instruments issued to employees. The provisions of SFAS No. 123(R) require us to value equity instruments issued to employees and liability-classified awards at grant date fair value or based upon certain valuation methods that approximate grant date fair value, and to record those values as compensation expense in our statement of operations. Upon the adoption of SFAS No. 123(R), the Company will determine whether it will continue to utilize the Black-Scholes model or adopt some other acceptable model. We will be required to expense all outstanding non-vested stock options as of June 1, 2006 and stock options and other applicable equity
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instruments issued to employees on or after June 1, 2006. Public entities are required to apply SFAS No. 123(R) as of the first annual reporting period that begins after June 15, 2005, which is effective with the Company’s first quarter of fiscal 2007. Due to the significant number of outstanding unvested stock options anticipated as of June 1, 2006, we expect to incur material compensation expense after June 1, 2006 as those options vest or in the event we decide to accelerate vesting. We may decide to change our stock based compensation plan strategy for future grants. This could affect our ability to retain existing employees and attract qualified candidates, and also could increase cash compensation.
Because our customers are concentrated in targeted service industries, our operating results may be adversely affected by adverse changes in one or more of these industries.
As a result of our focus on targeted service industries, our financial results depend, in significant part, upon economic and market conditions in the healthcare, retail, government and education and financial services industries. Because the healthcare marketplace for our products is maturing, we need to expand our product offerings to achieve long-term revenue growth. Many state and local governments are facing budget shortfalls and are reducing capital spending, including spending on software and services. In addition, we must continue to develop industry specific functionality for our solutions, which satisfies the changing, specialized requirements of prospective customers in our target industries. This need is becoming more prevalent as the marketplace for our traditional products is maturing.
We may experience fluctuations in quarterly revenue that could adversely impact our stock price and our operating results.
Our actual revenues in a quarter could fall below expectations, which could lead to a decline in our stock price. Our revenues and operating results are difficult to predict and may fluctuate substantially from quarter-to-quarter. Revenues from license fees in any quarter depend substantially upon our licensing activity and our ability to recognize revenues in that quarter in accordance with our revenue recognition policies. Our quarterly license and services revenue may fluctuate and may be difficult to forecast for a variety of reasons, including the following:
• a significant number of our existing and prospective customers’ decisions regarding whether to enter into license agreements with us are made within the last few weeks or days of each quarter;
• the size of license transactions can vary significantly;
• a decrease in license fee revenue may likely result in a decrease in services revenue in the same or subsequent quarters;
• customers may unexpectedly postpone or cancel projects due to changes in their strategic priorities, project objectives, budget or personnel;
• the uncertainty caused by potential business combinations in the software industry may cause customers and prospective customers to cancel, postpone or reduce capital spending projects on software;
• customer evaluations and purchasing processes vary significantly from company to company, and a customer’s internal approval and expenditure authorization process can be difficult and time consuming to complete, even after selection of a vendor;
• the number, timing and significance of software product enhancements and new software product announcements;
• existing customers may decline to renew support for our products, and market pressures may limit our ability to increase support fees or require customers to upgrade from older versions of our products;
• prospective customers may decline or defer the purchase of new products or releases if we do not have sufficient customer references for those products; or
• we may have to defer revenues under our revenue recognition policies.
Fluctuation in our quarterly revenues may adversely affect our operating results. In each fiscal quarter our expense levels, operating costs and hiring plans are based on projections of future revenues and are relatively fixed. If our actual
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revenues fall below expectations we could experience a reduction in operating results.
Our lengthy and variable sales cycle makes it difficult to predict our operating results.
It is difficult for us to forecast the timing and recognition of revenues from sales of our products because our existing and prospective customers often take significant time evaluating our products before licensing them. The period between initial customer contact and a purchase by a customer may vary from nine months to more than one year. During the evaluation period, prospective customers may decide not to purchase or may scale down proposed orders of our products for various reasons, including:
• reduced demand for enterprise software solutions;
• introduction of products by our competitors;
• lower prices offered by our competitors;
• changes in budgets and purchasing priorities; and
• reduced need to upgrade existing systems.
Our existing and prospective customers routinely require education regarding the use and benefits of our products. This may also lead to delays in receiving customers’ orders.
Our future revenue is dependent in part on our installed customer base continuing to renew support agreements, license additional products, and purchase additional professional services.
Our installed client base has traditionally generated additional support, license or professional service revenues. In future periods, customers may not necessarily make these purchases. Support is generally renewable annually at a customer’s option, and there are no mandatory payment obligations or obligations to license additional software. If our customers decide not to renew their support agreements or license additional products or contract for additional services or if they reduce the scope of the support agreements, our revenues could decrease and our operating results could be adversely affected. If we do not license our products to enough customers each quarter to offset the number of existing customers who elect not to renew support, our total customer count will decline and, over time, our support revenue will likely decrease.
A reduction in our licensing activity may result in reduced services revenues in future periods.
Our ability to maintain or increase service revenue primarily depends on our ability to increase the number of our licensing agreements. Variances or slowdowns in licensing activity may adversely impact our consulting, training and support service revenues in future periods.
The interplay between Lawson’s revenue and cost structure may negatively affect its earnings on a short term basis.
A significant part of Lawson’s total cost base is attributed to fixed costs related to personnel. While Lawson’s license sales generate a substantial gross margin, reductions in license sales in the short term may have a substantial effect on earnings due to the fact that cost adjustments in the organization will not occur as quickly as the accompanying changes in revenue.
While we believe we currently have adequate internal control over financial reporting, we are required to evaluate on a continued basis our internal control over financial reporting under Section 404 of the Sarbanes-Oxley Act of 2002 and any adverse results from such evaluation could have a negative market reaction.
Pursuant to Section 404 of the Sarbanes-Oxley Act of 2002 (Section 404), beginning with our Annual Report on Form 10-K for the fiscal year ended May 31, 2005, we were required to furnish a report by our management on our internal control over financial reporting. That report contained, among other matters, an assessment of the effectiveness of our internal control over financial reporting as of the end of the fiscal year, including a statement that our internal control over financial reporting was effective. This assessment included disclosure that the Company did not have any material weaknesses in our internal control over financial reporting identified by management. That report also contained a statement that our independent registered public accounting firm had issued an attestation report on management’s assessment of such internal controls. If in the future we are unable to assert that our internal control over financial reporting is effective as of the
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end of the then current fiscal year or applicable quarter (or, if our independent registered public accounting firm is unable to attest that our management’s report is fairly stated or they are unable to express an opinion on the effectiveness of our internal controls), we could lose investor confidence in the accuracy and completeness of our financial reports, which would have a negative market reaction.
We may be required to delay revenue recognition into future periods, which could adversely impact our operating results.
We have in the past had to, and in the future may have to, defer revenue recognition for license fees due to several factors, including the following situations:
• the license agreements include applications that are under development or have other undelivered elements;
• we must deliver services, including significant modifications, customization or complex interfaces, which could delay product delivery or acceptance;
• the transaction includes acceptance criteria;
• the transaction includes contingent payment terms or fees;
• a third-party vendor, whose technology is incorporated into our software products, delays delivery of the final software product to the customer;
• we are required to accept certain fixed-fee services contracts; or
• we are required to accept extended payment terms of more than one year or for which we do not have adequate support of historical collectibility.
Because of the factors listed above and other specific requirements under accounting principles generally accepted in the United States for software revenue recognition, we must have very precise terms in our license agreements to recognize revenue when we initially deliver software or perform services. Negotiation of mutually acceptable terms and conditions can extend the sales cycle, and sometimes we do not obtain terms and conditions that permit revenue recognition at the time of delivery or even as work on the project is completed. Furthermore, because many contracts within our verticals, including government and education and healthcare, often include the terms summarized above, the contracts result in revenue deferrals.
If accounting interpretations relating to revenue recognition change, our reported revenues could decline or we could be forced to make changes in our business practices. The accounting profession and regulatory agencies continue to address and discuss accounting standards and interpretations covering revenue recognition for the software industry with the objective of providing additional guidance on their application. These discussions and the issuance of new interpretations, once finalized, could lead to unanticipated reductions in our recognized revenue. They could also drive significant adjustments to our business practices which could result in increased administrative costs, lengthened sales cycles and other changes which could adversely affect our reported revenues and results of operations.
Future adjustments in our net deferred tax assets may materially impact our financial results.
On February 28, 2006 the Condensed Consolidated Balance Sheet includes net deferred tax assets in the amount of $31.8 million. Each quarter, we must assess the likelihood that our net deferred tax assets will be recovered from future taxable income and to the extent we believe that recovery is not likely, we must establish a valuation allowance. To the extent we establish or reverse all or a portion of the valuation allowance, we must include an expense or expense reversal within the tax provision in the statement of operations. As of February 28, 2006, we have evaluated and determined that the prior reported valuation allowance in the amount of $1.4 million should be reversed. This amount represents an expectation that the previously reserved amounts for federal tax credits, federal carryover items and state net operating losses will now be realized prior to their expiration dates.
In the event that we adjust our estimates of future taxable income or tax deductions from the exercise of stock options; or our stock price increases significantly without a corresponding increase in taxable income, we may need to establish an additional valuation allowance, which could materially adversely impact our financial position and results of operations. With the expected closing of the merger with Intentia we will need to reassess the combined U.S. historical
37
results for Lawson and Intentia as well as the combined U.S. deferred tax assets. Intentia’s U.S. operations are not material and therefore its deferred tax assets are significantly less than Lawson’s. However, Intentia’s historical losses in the U.S. and its deferred tax assets may impact the assessment and may increase the possibility of future valuation allowances.
We may experience fluctuations in quarterly results that could adversely impact our annual effective tax rate.
Our revenues and operating results are difficult to predict and may fluctuate substantially from quarter-to-quarter. Since we must estimate our annual effective tax rate each quarter based on a combination of actual results and forecasted results of subsequent quarters, any significant change in our actual quarterly or forecasted annual results may adversely impact the computation of the estimated effective tax rate for the year. Our estimated annual effective tax rate may fluctuate for a variety of reasons, including the following:
• changes in forecasted annual operating income;
• changes to the valuation allowance on net deferred tax assets;
• changes to actual or forecasted permanent differences between book and tax reporting;
• impacts from future tax settlements with state, federal or foreign tax authorities; or
• impacts from tax law changes.
Our stock price may remain volatile.
The trading price of our common stock has fluctuated significantly in the past. Changes in our business operations or prospects, regulatory considerations, general market and economic conditions, or other factors may affect the price of our common stock. Many of these factors are beyond our control. The future trading price of our common stock is likely to be volatile and could be subject to wide price fluctuations in response to such factors, including:
• actual or anticipated fluctuations in revenues or operating results, including revenue or results of operations in any quarter failing to meet the expectations, published or otherwise, of the investment community;
• announcements of technological innovations by us or our competitors;
• developments with respect to our intellectual property rights, including patents, or those of our competitors;
• fluctuations in demand for and sales of our products, which will depend on, among other things, the acceptance of our products in the marketplace and the general level of spending in the software industry;
• rumors or dissemination of false and/or misleading information;
• changes in management;
• proposed and completed acquisitions or other significant transactions by us or our competitors;
• introduction and success of new products or significant customer wins or losses by us or our competitors;
• the mix of products and services sold by us;
• the timing of significant orders by our customers;
• conditions and trends in the software industry, or consolidation within the technology industry that may impact our customers, partners, suppliers or competitors;
• adoption of new accounting standards affecting the software industry;
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• acts of war or terrorism; and
• general market conditions.
We have adopted anti-takeover defenses that could make it difficult for another company to acquire control of Lawson or limit the price investors might be willing to pay for our stock.
Provisions in our amended and restated certificate of incorporation and bylaws, our stockholder rights plan and under Delaware law could make it more difficult for other businesses to acquire us, even if doing so would benefit our stockholders. Our amended and restated certificate of incorporation and bylaws contain the following provisions, among others, which may inhibit an acquisition of our company by a third-party:
• advance notification procedures for matters to be brought before stockholder meetings;
• a limitation on who may call stockholder meetings;
• a prohibition on stockholder action by written consent; and
• the ability of our board of directors to issue shares of preferred stock without a stockholder vote.
The issuance of stock under our stockholder rights plan could delay, deter or prevent a takeover attempt that stockholders might consider in their best interests. We are also subject to provisions of Delaware law that prohibit us from engaging in any business combination with any “interested stockholder,” meaning generally that a stockholder who beneficially owns more than 15% of our stock cannot acquire us for a period of three years from the date this person became an interested stockholder unless various conditions are met, such as approval of the transaction by our board of directors. Any of these restrictions could have the effect of delaying or preventing a change in control.
Changes in the terms on which we license technologies from third-party vendors could result in the loss of potential revenues or increased costs or delays in the production and improvement of our products.
We license third-party software products that we incorporate into, or resell with, our own software products. For example, we incorporate Micro Focus International, Inc.’s software in many of our products and have reseller and alliance relationships with IBM, Business Software Incorporated, Business Objects, Hyperion Solutions Corporation, The Hackett Group, Inc. and other businesses that allow us to resell their offerings with our products and services. These relationships and other technology licenses are subject to periodic renewal and may include minimum sales requirements. A failure to renew or early termination of these relationships or other technology licenses could adversely impact our business. If any of the third-party software vendors change their product offerings or terminate our licenses, we may lose potential revenues and may need to incur additional development costs and seek alternative third-party relationships. In addition, if the cost of licensing any of these third-party software products significantly increases, or if there is a change in the relative mix of products we offer, our gross profits could significantly decrease. We rely on existing relationships with software vendors who are also competitors. If these vendors change their business practices, we may be compelled to find alternative vendors with complementary software, which may not be available on attractive terms or at all, or may not be as widely accepted or as effective as the software provided by our existing vendors. Our relationships with these and other third-party vendors are an important part of our business and a deterioration of these relationships could adversely impact our business and operating results.
A deterioration in our relationship with resellers, systems integrators and other third parties that market and sell our products could reduce our revenues.
Our ability to achieve revenue growth will depend in large part on adding new partners to expand our sales channels, as well as leveraging our relationships with existing partners. If our relationships with these resellers, system integrators and strategic and technology partners deteriorate or terminate, we may lose important sales and marketing opportunities. Our reseller arrangements may from time to time give rise to disputes regarding marketing strategy, sales of competing products, exclusive territories, payment of fees and customer relationships, which could negatively affect our business or result in costly litigation.
Our current and potential customers often rely on third-party systems integrators to implement and manage new and existing applications. These systems integrators may increase their promotion of competing enterprise software applications,
39
or may otherwise discontinue their relationships with us.
We also may enter into joint arrangements with strategic partners to develop new software products or extensions, sell our software as part of integrated products or serve as an application service provider for our products. Our business may be adversely affected if these strategic partners change their business priorities or experience difficulties in their operations, which in either case causes them to terminate or reduce their support for the joint arrangements. Furthermore, the financial condition of our channel partners impacts our business. If our partners are unable to recruit and adequately train a sufficient number of consulting personnel to support the implementation of our software products, or they otherwise do not adequately perform implementation services, we may lose customers. Our relationships with resellers, systems integrators and other third-party vendors are an important part of our business, and a deterioration of these relationships could adversely impact our business and operating results.
Our programs are deployed in large and complex systems and may contain defects that are not detected until after our programs have been installed, which could damage our reputation and cause us to lose customers or incur liabilities.
Our software programs are often deployed in large and complex computer networks. Because of the nature of these programs, they can only be fully tested for reliability when deployed in networks for long periods of time. Our software programs may contain undetected defects when first introduced or as new versions are released, and our customers may discover defects in our products, experience corruption of their data or encounter performance or scaling problems only after our software programs have been deployed. As a consequence, from time to time we have received customer complaints following installation of our products. We are currently a defendant in several lawsuits where customers have raised these types of issues with our products and services. In addition, our products are combined with products from other vendors. As a result, should problems occur, it may be difficult to identify the source of the problem. Software and data security are becoming increasingly important because of regulatory restrictions on data privacy and the significant legal exposures and business disruptions stemming from computer viruses and other unauthorized entry or use of computer systems. These conditions increase the risk that we could experience, among other things:
• loss of customers;
• damage to our brand reputation;
• failure to attract new customers or achieve market acceptance;
• diversion of development and services resources; and
• legal actions by our customers or government regulators.
In addition, we may not be able to avoid or limit liability for disputes relating to product performance, software security or the provision of services. The occurrence of any one or more of the foregoing factors could cause us to experience losses, incur liabilities and adversely affect our operating results.
If our customers lose confidence in the security of data on the Internet, our revenues could be adversely affected.
Maintaining the security of computers and computer networks is an issue of critical importance for our customers. Attempts by experienced computer programmers, or hackers, to penetrate client network security or the security of web sites to misappropriate confidential information are currently an industry-wide phenomenon that affects computers and networks across all platforms. Despite efforts to address these risks, actual or perceived security vulnerabilities in our products (or the Internet in general) could lead some customers to seek to reduce or delay future purchases or to purchase competitors’ products which are not Internet-based applications. Customers may also increase their spending to protect their computer networks from attack, which could delay adoption of new technologies. Any of these actions by customers could adversely affect our revenues.
We may be required to undertake a costly redesign of our products if third- party software development tools become an industry standard or cause obsolescence of our toolsets.
Several businesses have focused on providing software development tools and each of them is attempting to establish its own tools as the accepted industry standard. If a software product were to emerge as a clearly established and widely accepted industry standard or if rising expectations of toolsets of applications cause our toolsets to become obsolete, we may not be able to adapt our tools appropriately or rapidly enough to satisfy market demand. In addition, we could be
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forced to abandon or modify our tools or to redesign our software products to accommodate the new industry standard. This would be expensive and time-consuming and may adversely affect results of operations and the financial condition of our business. Our failure to drive or adapt to new and changing industry standards or third-party interfaces could adversely affect sales of our products and services.
We may be unable to identify or complete suitable acquisitions and investments; and any acquisitions and investments we do complete may create business difficulties or dilute our stockholders.
As part of our business strategy, we intend to pursue strategic acquisitions. We may be unable to identify suitable acquisitions or investment candidates. Even if we identify suitable candidates, we cannot provide assurance that we will be able to make acquisitions or investments on commercially acceptable terms. If we acquire a company, we may incur losses in the operations of that company and we may have difficulty integrating its products, personnel and operations into our business. In addition, its key personnel may decide not to work for us. We may also have difficulty integrating acquired businesses, products, services and technologies into our operations. These difficulties could disrupt our ongoing business, distract our management and workforce, increase our expenses and adversely affect our operating results. We may also incorrectly judge the value or worth of an acquired company or business. Furthermore, we may incur significant debt or be required to issue equity securities to pay for future acquisitions or investments. The issuance of equity securities may be dilutive to our stockholders. If the products of an acquired company are not successful, those remaining assets could become impaired, which may result in an impairment loss that could materially adversely impact our financial position and results of operations.
We currently do not compete in the software “on demand” or application service provider markets.
Some businesses choose to access enterprise software applications through hosted “on demand” services or application service providers who distribute enterprise software through a hosted subscription service. We do not currently have our own “on demand” hosting program for our products and have had limited success with channel partners who serve as application service providers for customers. If these alternative distribution models gain popularity, we may not be able to compete effectively in this environment.
In the event our products infringe on the intellectual property rights of third parties, our business may suffer if we are sued for infringement or cannot obtain licenses to these rights on commercially acceptable terms.
We are subject to the risk of adverse claims and litigation alleging infringement by us of the intellectual property rights of others. Many participants in the technology industry have an increasing number of patents and patent applications and have frequently demonstrated a readiness to take legal action based on allegations of patent and other intellectual property infringement. Further, as the number and functionality of our products increase, we believe that we may become increasingly subject to the risk of infringement claims. If infringement claims are brought against us, these assertions could distract management and we may have to expend potentially significant funds and resources to defend or settle such claims. If we are found to infringe on the intellectual property rights of others, we could be forced to pay significant license fees or damages for infringement.
If one of our developers embedded open source components into one of our products, without our knowledge or authorization, our ownership and licensing of that product could be in jeopardy. Depending on the open source license terms, the use of an open source component could mean that all products delivered with that open source component become part of the open source community. In that case, we would not own those delivered products and could not charge license fees for those products. We currently take steps to train our developers and monitor the content of products in development, but there is no assurance that these steps will always be effective.
As part of our standard license agreements, we agree to indemnify our customers for some types of infringement claims under the laws of the United States and some foreign jurisdictions that may arise from the use of our products. If a claim against us were successful, we may be required to incur significant expense and pay substantial damages, as we are unable to insure against this risk. Even if we were to prevail, the accompanying publicity could adversely impact the demand for our software. Provisions attempting to limit our liability in our standard agreements may be invalidated by unfavorable judicial decisions or by federal, state, local or foreign laws or ordinances.
If the open source community expands into enterprise application software, our license fee revenues may decline.
The open source community is comprised of many different formal and informal groups of software developers and individuals who have created a wide variety of software and have made that software available for use, distribution and modification, often free of charge. Open source software, such as the Linux operating system, has been gaining in popularity
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among business users. If developers contribute enterprise application software to the open source community, and that software has competitive features and scale to support business users in our markets, we will need to change our product pricing and distribution strategy to compete.
It may become increasingly expensive to obtain and maintain liability insurance.
We contract for insurance to cover several, but not all, potential risks and liabilities. In the current market, insurance coverage is becoming more restrictive, and, when insurance coverage is offered, the deductible for which we are responsible is larger. In light of these circumstances, it may become more difficult to maintain insurance coverage at historical levels, or if such coverage is available, the cost to obtain or maintain it may increase substantially. This may result in our being forced to bear the burden of an increased portion of risks for which we have traditionally been covered by insurance, which could negatively impact our results of operations.
We have limited protection of our intellectual property and, if we fail to adequately protect our intellectual property, we may not be able to compete.
We consider certain aspects of our internal operations, software and documentation to be proprietary, and rely on a combination of contract, copyright, trademark and trade secret laws to protect this information. In addition, to date, we hold one patent and have filed several patent applications. Outstanding applications may not result in issued patents and, even if issued, the patents may not provide any competitive advantage. Existing copyright laws afford only limited protection. Our competitors may independently develop technologies that are less expensive or better than our technology. In addition, when we license our products to customers, we provide source code for many of our products. We may also permit customers to obtain access to our other source code through a source code escrow arrangement. This access to our source code may increase the likelihood of misappropriation or other misuse of our intellectual property. In addition, the laws of some countries in which our software products are or may be licensed do not protect our software products and intellectual property rights to the same extent as the laws of the United States. Defending our rights could be costly.
Business disruptions may interfere with our ability to conduct business.
Business disruptions could affect our future operating results. Our operating results and financial condition could be adversely affected in the event of a security breach, major fire, war, terrorist attack or other catastrophic event. Impaired access or significant damage to our data center at our headquarters in St. Paul, Minnesota due to such an event could cause a disruption of our information, research and development, and customer support systems and loss of financial data and certain customer data, which could adversely impact results of operations and business financial conditions.
We have limited experience with offshore outsourcing.
To help improve margins and gain operational efficiencies, many software businesses have outsourced portions of their software development and software services to businesses located in India or other parts of the world. In February 2004, we entered into an offshore agreement with a third-party based in India to provide certain software support services for our products. We have expanded our efforts to use this third-party to assist us in providing lower cost implementation services for customers. In December 2005, we organized a subsidiary in the Philippines, to assist with product development and support at a cost lower than in the United States. Since December 2005, we have invested in the Philippines subsidiary but do not expect to achieve any costs savings until the employees in the Philippines are hired and trained. We have limited experience with these types of outsourcing and may be unable to achieve the anticipated economic efficiencies expected of this arrangement.
There are a large number of shares that may be sold in the market, which may depress our stock price.
A substantial number of shares of our common stock are held by our founders, their family members, a pre-initial public offering investor, current or former employees, officers or directors. Sale of a portion of these shares in the public market, or the perception that such sales are likely to occur, could depress the market price of our common stock and could impair our ability to raise capital through the sale of additional equity securities.
Financial outlook.
From time to time in press releases and otherwise, we may publish forecasts or other forward-looking statements regarding our future results, including estimated revenues or net earnings. Any forecast of our future performance reflects various assumptions. These assumptions are subject to significant uncertainties, and as a matter of course, any number of them may prove to be incorrect. Further, the achievement of any forecast depends on numerous risks and other factors
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(including those described in this discussion), many of which are beyond our control. As a result, we cannot provide assurance that our performance will be consistent with any management forecasts or that the variation from such forecasts will not be material and adverse. Current and potential stockholders are cautioned not to base their entire analysis of our business and prospects upon isolated predictions, but instead are encouraged to utilize our entire publicly available mix of historical and forward-looking information, as well as other available information affecting us, our products and services, and the software industry when evaluating our prospective results of operations.
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ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
(a) Not applicable
(b) Use of Proceeds
As of February 28, 2006, we held $108.3 million of net proceeds from our initial public offering in interest-bearing, investment grade securities. During the three months ended February 28, 2006, we used approximately $0.5 million for capital expenditures, $1.9 million were capitalized for the pending business acquisition with Intentia and $0.7 million for repayment of debt.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None
None
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(a) |
| Exhibits | |
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| 31.1 | Certification of President and Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act- Harry Debes. |
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| 31.2 | Certification of Executive Vice President and Chief Fiancial and Performance Officer Pursuant to Section 302 of the Sarbanes-Oxley Act- Robert G. Barbieri. |
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| 32.1 | Certification of President and Chief Executive Officer Pursuant to Section 906 of the Sarbanes-Oxley Act- Harry Debes. |
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| 32.2 | Certification of Executive Vice President and Chief Fiancial and Performance Officer Pursuant to Section 906 of the Sarbanes-Oxley Act- Robert G. Barbieri. |
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Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
Date: April 7, 2006 |
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| LAWSON SOFTWARE, INC. | ||
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| By: | /s/ ROBERT G. BARBIERI |
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| Robert G. Barbieri |
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EXHIBIT INDEX
EXHIBIT |
| DESCRIPTION OF DOCUMENTS |
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31.1 |
| Certification Pursuant to Section 302 of the Sarbanes-Oxley Act- Harry Debes. |
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|
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31.2 |
| Certification Pursuant to Section 302 of the Sarbanes-Oxley Act- Robert G. Barbieri. |
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32.1 |
| Certification Pursuant to Section 906 of the Sarbanes-Oxley Act- Harry Debes. |
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32.2 |
| Certification Pursuant to Section 906 of the Sarbanes-Oxley Act- Robert G. Barbieri. |
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