UNIFY CORPORATION
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
The discussion in this Quarterly Report on Form 10-Q contains forward-looking statements that have been made pursuant to the provisions of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements are based on current expectations, estimates and projections about the software industry and certain assumptions made by the Company’s management. Words such as “anticipates”, “expects”, “intends”, “plans”, “believes”, “seeks”, “estimates”, variations of such words and similar expressions are intended to identify such forward-looking statements. These statements are not guarantees of future performance and are subject to certain risks, uncertainties and assumptions that are difficult to predict; therefore, actual results may differ materially from those expressed or forecasted in any such forward-looking statements. Such risks and uncertainties include, but are not limited to, those set forth herein under “Volatility of Stock Price and General Risk Factors Affecting Quarterly Results” and in the Company’s Annual Report on Form 10-K under “Business – Risk Factors.” Unless required by law, the Company undertakes no obligation to update publicly any forward-looking statements, whether as a result of new information, future events or otherwise. However, readers should carefully review the risk factors set forth in other reports or documents the Company files from time to time with the SEC, particularly the Company’s Annual Report on Form 10-K, Quarterly Reports on Form 10-Q and any Current Reports on Form 8-K.
The following discussion should be read in conjunction with the unaudited Condensed Consolidated Financial Statements and Notes thereto in Part I, Item 1 of this Quarterly Report on Form 10-Q and with the audited Consolidated Financial Statements and Notes thereto, together with Management’s Discussion and Analysis of Financial Condition and Results of Operations, which are included in the Company’s Annual Report on Form 10-K for the fiscal year ended April 30, 2007, as filed with the SEC.
Overview
Unify (the “Company”, “we”, “us” or “our”) is a global provider of application development and data management software, and Service-Oriented Architecture (SOA) enablement application modernization solutions. Our suite of migration solutions, easy to use development software and no-maintenance-required embedded databases enable customers to enhance their SOA environment by improving time-to-market metrics, increasing collaboration and service-enabling legacy information. Specifically, our products include embedded and enterprise data management systems, application development software for legacy application modernization and rich Internet application development, and SOA application modernization solutions.
On September 13, 2006, the Company entered into a Purchase and Exchange Agreement (“Purchase Agreement”) with Halo Technology Holdings, Inc. (“Halo”) whereby Unify agreed to purchase Gupta from Halo in exchange for: (i) the Company’s Insurance Risk Management (“IRM”) division, (ii) the Company’s ViaMode software, (iii) $6,100,000 in cash, and (iv) the amount, if any, by which Gupta’s net working capital exceeds IRM’s net working capital at the close of the transaction (the “Purchase and Exchange”). The Company’s acquisition of Gupta was consummated on November 20, 2006.
On November 20, 2006, the Company entered into various agreements with ComVest Capital LLC (“ComVest”) whereby ComVest, along with participation from Special Situations Funds, provided debt financing for the Gupta acquisition and for working capital, consisting of convertible term loans totaling $5.35 million and a revolving credit facility of up to $2.5 million. The term loans have an interest rate of 11.25% and have terms of 48 to 60 months. The revolver has an interest rate of prime plus 2.25% and has a maturity date of November 30, 2010. As part of the financing, ComVest received 402,000 warrants and Special Situations Funds received 268,000 warrants. The warrants are for the purchase of common stock at prices from $1.35 to $1.90 per share. The agreements provide for ComVest to have a security interest in substantially all of the Company’s assets.
Today, Unify’s customers include corporate information technology departments (“IT”), software value-added resellers (“VARs”), solutions integrators (“SIs”) and independent software vendors (“ISVs”) from a variety of industries, including insurance, financial services, healthcare, government, manufacturing, retail, education, and more. We are headquartered in Sacramento, California, with offices in Australia, France, Germany, and the United Kingdom (“UK”). We market and sell products directly in the United States, Europe, and Australia and indirectly through global distributors representing more than 50 countries.
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Our mission is to enable customers to modernize mission critical applications while maximizing legacy investments in SOA. Our software and solutions give customers a rich user experience, quality information and a high degree of customer satisfaction.
Our strategy is to work with IT organizations to “Enable SOA.” Our software and solutions help businesses modernize and service-enable mission critical legacy applications in support of enterprise-wide SOA initiatives. Based on market requirements for SOA-based application modernization, our strategy aims to help companies increase speed and agility, consolidate information from multiple sources, improve asset reuse, lower IT costs, reduce business risks and exposures, and free information previously locked within proprietary systems.
The Company sells and markets application development and database software and services and modernization solutions through two segments. The segments are the Americas, which includes the Company’s international distributors, and Europe, which includes the UK, France, Germany and other direct European customers.
Our technology products include Composer, NXJ, Team Developer, ACCELL, VISION, DataServer, and SQLBase. Our customers are corporate end-user IT departments, ISVs and our worldwide distributors. The Company is committed to providing exceptional technology to this customer base and to continue to meet their current and future technology needs. Services to our extensive customer base include sales and marketing, support, and professional services.
Critical Accounting Policies
The following discussion and analysis of the Company’s financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent liabilities. We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. The areas that require significant judgment are as follows.
Revenue Recognition – Continuing Operations
The Company generates revenue from software license sales and related services, including maintenance and support, and consulting services. The Company licenses its products to end-user customers, independent software vendors (“ISVs”), international distributors and value-added resellers (“VARs”). The Company’s products are generally sold with a perpetual license. The Company’s contracts with ISVs, VARs and international distributors do not include special considerations such as rights of return, stock rotation, price protection, special acceptance or warranty provisions. The Company recognizes revenue for software license sales in accordance with Statement of Position (“SOP”) 97-2, Software Revenue Recognition. For software license arrangements that do not require significant modification or customization of the underlying software, revenue is recognized when the software product or service has been shipped or electronically delivered, the license fees are fixed and determinable, uncertainties regarding customer acceptance are resolved, collectibility is probable and persuasive evidence of an arrangement exists.
The Company considers a signed noncancelable license agreement, a customer purchase order, a customer purchase requisition, or a sales quotation signed by an officer of the customer to be persuasive evidence that an arrangement exits such that revenue can be recognized.
The Company’s customer contracts include multi-element arrangements that include a delivered element (a software license) and undelivered elements (such as maintenance and support and/or consulting). The value allocated to the undelivered elements is unbundled from the delivered element based on vendor-specific objective evidence (VSOE) of the fair value of the maintenance and support and/or consulting, regardless of any separate prices stated within the contract. VSOE of fair value is defined as: (i) the price charged when the same element is sold separately, or (ii) if the element has not yet been sold separately, the price for the element established by management having the relevant authority when it is probable that the price will not change before the introduction of the element into the marketplace. The Company then allocates the remaining balance to the delivered element (a software license) regardless of any separate prices stated within the contract using the residual method as the fair value of all undelivered elements is determinable.
We defer revenue for any undelivered elements, and recognize revenue for delivered elements only when the fair values of undelivered elements are known, uncertainties regarding customer acceptance are resolved, and there are no customer-negotiated refund or return rights affecting the revenue recognized for delivered elements. If we cannot objectively determine the fair value of any undelivered element included in bundled software and service arrangements, we defer revenue until all elements are delivered and services have been performed, or until fair value can objectively be determined for any remaining undelivered elements.
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An assessment of the ability of the Company’s customers to pay is another consideration that affects revenue recognition. In some cases, the Company sells to undercapitalized customers. In those circumstances, revenue recognition is deferred until cash is received, the customer has established a history of making timely payments or the customer’s financial condition has improved. Furthermore, once revenue has been recognized, the Company evaluates the related accounts receivable balance at each period end for amounts that we believe may no longer be collectible. This evaluation is largely done based on a review of the financial condition via credit agencies and historical experience with the customer. Any deterioration in credit worthiness of a customer may impact the Company’s evaluation of accounts receivable in any given period.
Revenue from support and maintenance activities, which consist of fees for ongoing support and unspecified product updates, are recognized ratably over the term of the maintenance contract, typically one year, and the associated costs are expensed as incurred. Consulting service arrangements are performed on a “best efforts” basis and are generally billed under time-and-materials arrangements. Revenues and expenses relating to providing consulting services are recognized as the services are performed.
Revenue Recognition – Discontinued Operations
For the discontinued product, NavRisk, the Company recognized revenue for software licenses sales in accordance with Statement of Position 81-1, Accounting for Performance of Construction-Type and Certain Production-Type Contracts and Accounting Research Bulletin (“ARB”) 45, Long-Term Construction Type Contracts. The majority of the software license arrangements required significant modification or customization of the underlying software, therefore, revenue was recognized based on contract accounting under the provisions of Accounting Research Bulletin 45, Long-Term Construction Type Contracts and Statement of Position 81-1, Accounting for Performance of Construction-Type and Certain Production-Type Contracts using the completed-contract method. The Company exercised judgment in connection with the determination of the amount of software and services revenue to be recognized in each accounting period. The nature of each licensing arrangement determined how revenues and related costs were recognized.
Valuation of Long-Lived Assets
Our long-lived assets are comprised of long-term investments. At July 31, 2007, we had $214,000 in long-term investments, which are accounted for under the cost method. We assess the valuation of long-lived assets whenever circumstances indicate that there is a decline in carrying value below cost that is other-than-temporary. Several factors can trigger an impairment review such as significant underperformance relative to expected historical or projected future operating results and significant negative industry or economic trends. In assessing potential impairment for such investments, we consider these factors as well as the forecasted financial performance. When such decline in value is deemed to be other-than-temporary, we recognize an impairment loss in the current period operating results to the extent of the decline. Future adverse changes in market conditions or poor operating results could result in losses or an inability to recover the carrying value of the long-term investments that is not currently reflected in the investments carrying value, thereby, possibly requiring impairment charges in the future.
Deferred Tax Asset Valuation Allowance
As of July 31, 2007, we had approximately $18.6 million of deferred tax assets related principally to net operating loss carryforwards, reserves and other accruals, deferred revenue, and foreign tax credits. The Company’s ability to utilize net operating loss carryforwards may be subject to certain limitations in the event of a change in ownership. A valuation allowance has been recorded to offset these deferred tax assets. The ability of the Company to ultimately realize its deferred tax assets will be contingent upon the Company achieving taxable income. There can be no assurance that this will occur in amounts sufficient to utilize the deferred tax assets. Should we determine that we would be able to realize the deferred tax assets in the future in excess of the recorded amount, an adjustment to the deferred tax asset would increase income in the period such determination was made. At July 31, 2007, the Company had approximately $40.7 million in federal net operating loss carryforwards that begin to expire in fiscal year 2008 through 2026, approximately $6.2 million in state net operating loss carryforwards that expire in fiscal years 2013 to 2016, approximately $0.6 million in foreign net operating loss carryforwards that do not expire and approximately $3.5 million in capital loss carryforwards that expire in 2010. The Company’s ability to utilize these net operating loss carryforwards may be subject to certain limitations in the event of a change in ownership.
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Results of Operations
The following table sets forth, for the periods indicated, certain financial data as a percentage of total revenue:
| | Three Months Ended | |
| | July 31, | |
| | 2007 | | | 2006 | |
| Revenues: | | | | | | | |
| Software licenses | 36.9 | | % | | 22.6 | | % |
| Services | 63.1 | | % | | 77.4 | | % |
| Total revenues | 100.0 | | % | | 100.0 | | % |
| |
| Cost of Revenues: | | | | | | | |
| Software licenses | 1.2 | | % | | 3.7 | | % |
| Services | 4.9 | | % | | 14.4 | | % |
| Total cost of revenues | 6.1 | | % | | 18.1 | | % |
| |
| Gross profit | 93.9 | | % | | 81.9 | | % |
| |
| Operating Expenses: | | | | | | | |
| Product development | 23.0 | | % | | 21.6 | | % |
| Selling, general and administrative | 68.2 | | % | | 78.4 | | % |
| Total operating expenses | 91.2 | | % | | 100.0 | | % |
| Income (loss) from operations | 2.7 | | % | | (18.1 | ) | % |
| Other income (expense), net | (8.0 | ) | % | | 1.3 | | % |
| Loss from continuing operations before taxes | (5.3 | ) | % | | (16.8 | ) | % |
| Provision for income taxes | (0.2 | ) | % | | — | | % |
| Loss from continuing operations | (5.5 | ) | % | | (16.8 | ) | % |
| Loss from discontinued operations, net of taxes | 0.0 | | % | | (26.7 | ) | % |
| Net loss | (5.5 | ) | % | | (43.5 | ) | % |
Total Revenues
The Company generates revenue from software license sales and related services, including maintenance and support, and consulting services. We license our software through our direct sales force in the United States and Europe, and through indirect channels comprised of distributors, ISVs, VARs, and other partners worldwide. International revenues accounted for 75% and 68% of total revenues in the first quarter of fiscal year 2007 and 2006, respectively.
Total revenues in the first quarter of fiscal 2008 were $4.0 million, an increase of $2.3 million. This represents an increase of 135% over the first quarter of fiscal 2007 revenues of $1.7 million. The increase in total revenue was primarily due to our acquisition of Gupta in November 2006 which resulted in both an increase in maintenance service revenues and an increase in software license revenue. Total software license revenues in the first quarter of fiscal 2008 were $1.5 million, an increase of $1.1 million or 275% from the first quarter of fiscal 2007. The increase in license revenues in the first quarter of fiscal 2008 was the result of an increase in the number of high dollar value sales that occurred during the quarter compared to the first quarter of fiscal 2007. In particular, we closed several high dollar value orders in our Asian territory. Total services revenues were $2.5 million in the first quarter of fiscal 2008, an increase of $1.2 million or 92% from the first quarter of fiscal 2007.
For the first quarter of fiscal 2008 and 2007, total revenues from the Americas were 47% and 44% of total revenues, respectively. Total revenue from the Americas in absolute dollars was $1.9 million for the first quarter of fiscal 2008 and $0.8 million for the first quarter of fiscal 2007. Total revenue from our European territory was $2.1 million in the first quarter of fiscal 2008 and $0.9 million for the first quarter of fiscal 2007. On a percentage basis, revenue from our European territory was 53% for the first quarter of fiscal 2008 and 56% for fiscal 2007.
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Cost of Revenues
Cost of Software Licenses.Cost of software licenses consists primarily of expenses associated with royalty payments and the amortization of purchased technology from third parties that is amortized ratably over the technology’s expected useful live. Cost of software licenses was approximately $0.05 million for both the first quarter of fiscal 2008 and 2007.
Cost of Services.Cost of services consists primarily of employee, facilities and travel costs incurred in providing customer support under software maintenance contracts and consulting and implementation services. Total cost of services was $0.2 million for both the first quarter of fiscal 2008 and fiscal 2007. Our cost of services as a percent of services revenues was 8% and 19% in the first quarter of fiscal 2008 and fiscal 2007, respectively. The favorable decrease in the percentage of cost of service expenses to services revenue in fiscal 2008 was the result of adding over $1.1 million in maintenance service revenues while also enjoying positive economies of scale relative to expenses as a result of our acquisition of Gupta.
Operating Expenses
Product Development.Product development expenses consist primarily of employee and facilities costs incurred in the development and testing of new products and in the porting of new and existing products to additional hardware platforms and operating systems. Product development costs in the first quarter of fiscal 2008 were $0.9 million compared to $0.4 million in the same period of fiscal 2007. The increase in product development costs was the addition of the Gupta product development team plus additional outsourced development costs associated with efforts to develop a new release of Gupta’s Team Developer product.
Selling, General and Administrative.Selling, general and administrative (“SG&A”) expenses consist primarily of salaries and benefits, marketing programs, travel expenses, professional services, facilities expenses and bad debt expense. SG&A expenses were $2.7 million in the first quarter of fiscal 2008 and $1.4 million for the first quarter of fiscal 2007. The increase in SG&A costs in fiscal 2008 is the result of adding Gupta staff in the areas of sales, marketing and administrative services. In the first quarter of fiscal 2008 and fiscal 2007 our SG&A expenses as a percent of total revenues was 68% and 78%, respectively. The major components of SG&A for the first three months of fiscal 2008 were sales expenses of $1.3 million, marketing expenses of $0.3 million and general and administrative expenses of $1.1 million. For the first quarter of fiscal 2007, the major components of SG&A were sales expenses of $0.6 million, marketing expenses of $0.1 million and general and administrative expenses of $0.7 million.
Other Income (Expense), Net. Other income (expense), net consists primarily of interest expense, foreign exchange gains and losses and interest earned by the Company on our cash and cash equivalents. Interest expense for the first quarter of fiscal 2008 was $279,000 and was $1,500 for the first quarter of fiscal 2007. Fiscal 2008 interest expense consists primarily of interest incurred on notes payable resulting from a debt financing in conjunction with the acquisition of Gupta plus the amortization of related debt issuance costs. Foreign exchange gains for the first quarter of fiscal 2008 and 2007 were $31,000 and $2,000, respectively. Included in other income (expense) in the first quarter of fiscal 2008 is an expense of $73,000 for penalties associated with commitments related a registration statement. Pursuant to the debt financing agreement entered into with ComVest in conjunction with the Gupta acquisition, the Company is subject to a $1,000 per day penalty for each day following six months from the date of the financing that the shares of ComVest are not registered and deemed effective by the SEC. While the Company has made several filings with the SEC in an attempt to have the shares deemed effective, such notification has yet to be received from the SEC and the Company is incurring the penalty per the debt financing agreement.
Provision for Income Taxes.For the first quarter of fiscal 2008, the Company recorded $10,000 in federal tax expense and no expense for state or foreign taxes. For the first quarter of fiscal 2007, the Company recorded no state, federal or foreign tax expense.
Discontinued Operations
In accordance with SFAS No. 144,Accounting for the Impairment or Disposal of Long-Lived Assets,the results of the Company’s IRM division and ViaMode software product which were sold in November 2006 have been reported as discontinued operations for the three months ended July 31, 2006. The divestitures of these businesses were made pursuant to the Company’s strategy to refocus on its core software development and embedded database products.
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The IRM division sold and marketed the NavRisk application. The NavRisk application is a policy administration and underwriting software application used by underwriters, administrators and risk managers of risk pools, risk retention groups, captives and self-insured entities. ViaMode is a software and services solution that is used for driver performance management within the transportation industry. Both IRM and ViaMode’s historic revenues were the result of sales solelyin North America. The IRM division was previously reported as a separate segment and ViaMode was included in the Americas segment. Operating results for the IRM division and ViaMode software product are summarized as follows (in thousands):
| | Three Months Ended July 31, |
| | | 2007 | | 2006 | |
| Revenue | | $ | — | | $ | 363 | | |
| Loss from discontinued operations | | $ | — | | $ | (462 | ) | |
Liquidity and Capital Resources
At July 31, 2007, the Company had cash and cash equivalents of $1.9 million, compared to $2.1 million at April 30, 2007. The Company had accounts receivable of $3.9 million as of July 31, 2007 and $4.4 million as of April 30, 2007.
On November 20, 2006, the Company entered into various agreements with ComVest whereby ComVest, along with participation from Special Situations Funds, provided debt financing for the Gupta acquisition and for working capital, consisting of convertible term loans totaling $5.35 million and a revolving credit facility of up to $2.5 million. The term loans have an interest rate of 11.25% and have terms of 48 to 60 months. The revolver has an interest rate of prime plus 2.25% and has a maturity date of November 30, 2010. As of July 31, 2007, there was $1.85 million outstanding on the revolver. As part of the financing, ComVest received 402,000 warrants and Special Situations Funds received 268,000 warrants. The warrants are for the purchase of common stock at prices from $1.35 to $1.90 per share. The agreements provide for ComVest to have a security interest in substantially all of the Company’s assets.
We believe that existing cash, $1.9 million as of July 31, 2007, along with forecasted operating cash flows for fiscal year 2008 and the ComVest credit facility, will provide us with sufficient working capital for us to meet our operating plan for fiscal year 2008. The fiscal 2008 operating plan assumes normal operations for the Company, capital expenditures of approximately $50,000 and required interest and principal payments on debt.
Operating Cash Flow.In the first quarter of fiscal 2008, we had cash flows from continuing operations of $32,000. This compares to fiscal 2007 first quarter cash flows from continuing operations of $0.9 million. Cash flows provided by operations for the first quarter of fiscal 2008 principally resulted from a $0.5 million decrease in accounts receivable, a $0.3 million increase in accounts payable, a $0.1million decrease in prepaid expenses and other current assets, $0.2 million in amortization and $0.1 million in depreciation. Offsetting these amounts was a loss from continuing operations for the first quarter of fiscal year 2008 of $0.2 million, a decrease of $0.6 million in deferred revenue, a decrease of $0.3 million in other accrued liabilities and a decrease of $0.1 million in fulfillment of support obligations.
In the first quarter of fiscal 2007, the positive operating cash flows of $0.9 million from continuing operations principally resulted from a $2.2 million decrease in accounts receivable. Offsetting this was a net loss from continuing operations of $0.3 million, a decrease in deferred revenue of $0.6 million, a $0.3 million decrease in accrued compensation and related expenses and a decrease in accounts payable of $0.1 million.
Investing Cash Flows.Cash used in investing activities for continuing operations was a negative $0.3 million for the first quarter of fiscal 2008. The use of cash consisted of $0.3 million expended related to the acquisition of Active Data Corporation and $39,000 for the purchase of property and equipment. Cash used in investing activities for continuing operations was $31,000 in for the first quarter of fiscal 2007 and was related entirely to the purchase of property and equipment.
Financing Cash Flows.Net cash provided by financing activities for continuing operations in the first quarter of fiscal 2008 was $0.1 million. Cash from financing activities was the result of $0.5 million from borrowings under the Company’s revolver note. In the first quarter of fiscal 2008 $0.5 million in cash was used to make principal payments on debt obligations. In the first quarter of fiscal 2007 cash used by financing activities was $19,000 and was the result of cash payments for principal payments on debt.
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A summary of certain contractual obligations as July 31, 2007 is as follows (in thousands):
| | | Payments Due by Period |
| | | | | 1 year | | 2-3 | | 4-5 | | After 5 |
| Contractual Obligations | | Total | | or less | | years | | years | | years |
| Long-term debt | | | 5,047 | | | 1,421 | | | 1,489 | | | 1,489 | | | 648 |
| Revolver note | | | 1,850 | | | — | | | — | | | 1,850 | | | — |
| Other long-term liabilities | | | 108 | | | — | | | — | | | — | | | 108 |
| Capital leases | | | 22 | | | 8 | | | 14 | | | — | | | — |
| Operating leases | | | 1,198 | | | 868 | | | 215 | | | 109 | | | 6 |
| Total contractual cash obligations | | $ | 8,225 | | $ | 2,297 | | $ | 1,718 | | $ | 3,448 | | $ | 762 |
Volatility of Stock Price and General Risk Factors Affecting Quarterly Results
Unify’s common stock price has been and is likely to continue to be subject to significant volatility. A variety of factors could cause the price of the common stock to fluctuate, perhaps substantially, including: announcements of developments related to our business; fluctuations in the operating results and order levels of Unify or its competitors; general conditions in the computer industry or the worldwide economy; announcements of technological innovations; new products or product enhancements from us or our competitors; changes in financial estimates by securities analysts; developments in patent, copyright or other intellectual property rights; and developments in our relationships with our customers, distributors and suppliers; legal proceedings brought against the Company or its officers; and significant changes in our senior management team. In addition, in recent years the stock market in general, and the market for shares of equity securities of many high technology companies in particular, have experienced extreme price fluctuations which have often been unrelated to the operating performance of those companies. Such fluctuations may adversely affect the market price of our common stock.
Unify’s stock trades over-the-counter on the “bulletin board.” Companies whose shares trade over-the-counter generally receive less analyst coverage and their shares are more thinly traded than stock that is traded on the NASDAQ National Market System or a major stock exchange. Our stock is therefore subject to greater price volatility than stock trading on national market systems or major exchanges.
Unify’s quarterly operating results have varied significantly in the past and we expect that they could vary significantly in the future. Such variations could result from the following factors: the size and timing of significant orders and their fulfillment; demand for our products; the quantity, timing and significance of our product enhancements and new product announcements or those of our competitors; our ability to attract and retain key employees; seasonality; changes in our pricing or our competitors’; realignments of our organizational structure; changes in the level of our operating expenses; incurrence of extraordinary operating expenses, changes in our sales incentive plans; budgeting cycles of our customers; customer order deferrals in anticipation of enhancements or new products offered by us or our competitors; product life cycles; product defects and other product quality problems; currency fluctuations; and general domestic and international economic and political conditions.
Due to the foregoing factors, quarterly revenues and operating results may vary on a quarterly basis. Revenues and quarterly results may vary because software technology is rapidly evolving, and our sales cycle, from initial evaluation to purchase and the providing of maintenance services, can be lengthy and varies substantially from customer to customer. Because we normally deliver products within a short time of receiving an order, we typically do not have a backlog of orders. As a result, to achieve our quarterly revenue objectives, we are dependent upon obtaining orders in any given quarter for shipment in that quarter. Furthermore, because many customers place orders toward the end of a fiscal quarter, we generally recognize a substantial portion of our software license revenues at the end of a quarter. Our expense levels largely reflect our expectations for future revenue and are therefore somewhat fixed in the short term.
We expect that our operating results will continue to be affected by the continually challenging IT economic environment as well as by seasonal trends. In particular, we generally experience weak demand in the fiscal quarters ending July 31 and October 31 as a result of reduced business activity in Europe during the summer months.
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Item 3. Quantitative and Qualitative Disclosures about Market Risk
Interest Rate Risk. The Company’s exposure to market rate risk for changes in interest rates relates primarily to its investment portfolio, which consists of cash equivalents. Cash equivalents are highly liquid investments with original maturities of three months or less and are stated at cost. Cash equivalents are generally maintained in money market accounts which have as their objective preservation of principal. The Company does not believe its exposure to interest rate risk is material for cash and cash equivalents, which totaled $1.9 million as of July 31, 2007. Unify had no short-term investments at July 31, 2007.
In November 2006, the Company entered into a revolving credit facility agreement with ComVest whereby ComVest would provide up to $2.5 million through a revolving credit facility. The revolver has an interest rate of prime plus 2.25% and has a maturity date of November 30, 2010. Should the prime interest rate increase during the life of the revolver, the Company would have exposure to interest rate risk if it has a large balance outstanding on the revolver. As of July 31, 2007, there was $1.85 million outstanding on the revolver.
Unify does not use derivative financial instruments in its short-term investment portfolio, and places its investments with high quality issuers only and, by policy, limits the amount of credit exposure to any one issuer. The Company is averse to principal loss and attempts to ensure the safety of its invested funds by limiting default, market and reinvestment risk.
Foreign Currency Exchange Rate Risk. As a global concern, the Company faces exposure to adverse movements in foreign currency exchange rates. These exposures may change over time as business practices evolve and could have an adverse impact on the Company’s business, operating results and financial position. Historically, the Company’s primary exposures have related to local currency denominated sales and expenses in Europe, Japan and Australia. For example, when the U.S. dollar strengthens against the major European currencies, it results in lower revenues and expenses recorded for those regions when translated into U.S. dollars.
Due to the substantial volatility of currency exchange rates, among other factors, the Company cannot predict the effect of exchange rate fluctuations on its future operating results. Although Unify takes into account changes in exchange rates over time in its pricing strategy, it does so only on an annual basis, resulting in substantial pricing exposure as a result of foreign exchange volatility during the period between annual pricing reviews. The Company also has currency exchange rate exposures on intercompany accounts receivable and intercompany accounts payable related to activities with the Company’s subsidiaries in France, Germany and the UK. At July 31, 2007, the Company had $2.3 million in such payables denominated in euros and a total $2.3 million in receivables denominated in euros and pounds sterling. The Company encourages prompt payment of intercompany balances in order to minimize its exposure to currency fluctuations, but it engages in no hedging activities to reduce the risk of such fluctuations. A hypothetical ten percent change in foreign currency rates could have a significant impact on the Company’s business, operating results and financial position. The Company has not experienced material exchange losses on intercompany balances in the past; however, due to the substantial volatility of currency exchange rates, among other factors, it cannot predict the effect of exchange rate fluctuations on its future business, operating results and financial position.
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 our disclosure controls and procedures, as such term is defined under Rule 13a-15(e) promulgated under the Securities Exchange Act of 1934, as amended. Based upon that evaluation, our chief executive officer and chief financial officer concluded that our disclosure controls were effective as of the end of the period covered by this quarterly report, except for the potential impact from reporting the Gupta acquisition, as more fully disclosed in Note 2 to the unaudited condensed consolidated financials statements contained in this report. We are currently in the process of assessing and integrating Gupta disclosure controls and procedures into our financial reporting systems and expect to complete our integration activities over a period of 12 months from the acquisition date (November 20, 2006). Prior to being acquired by Unify, Gupta was a subsidiary of a public company, Halo Technology Holdings, Inc. In conjunction with Halo’s Form 10-KSB filing for the year ended June 30, 2006, Halo’s management reported no concerns relative to disclosure controls or procedures for Gupta or any of Gupta’s subsidiaries.
(b)Changes in Internal Controls. There have been no changes in our internal controls over financial reporting that occurred during the first three months of fiscal year 2008, that have materially affected, or are reasonably likely to materially affect, our internal controls over financial reporting, except for the potential impact from reporting the Gupta acquisition, as more fully disclosed in Note 2 to the unaudited condensed consolidated financials statements contained in this report. We are currently in the process of assessing and integrating Gupta financial reporting into our financial reporting systems and expect to complete our integration activities over a period of 12 months from the acquisition date (November 20, 2006).
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UNIFY CORPORATION
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
Litigation
The Company is subject to legal proceedings and claims arising in the ordinary course of business. The Company intends to vigorously assert its rights and defend itself in any litigation that may arise from such claims. While the ultimate outcome and resolution of these matters could affect the results of operations in future periods, and while there can be no assurance with respect thereto, management believes after final disposition, any financial impact to the Company would not be material to the Company’s consolidated financial position, results of operations and cash flows.
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Item 6. Exhibits
| | | Exhibits |
| 31.1 | | Certification of Chief Executive Officer under Section 302 of the Sarbanes-Oxley Act of 2002. |
| | |
| 31.2 | | Certification of Chief Financial Officer under Section 302 of the Sarbanes-Oxley Act of 2002. |
| | |
| 32.1 | | Certification of Chief Executive Officer under 18 U.S.C Section 1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
| | | |
| 32.2 | | Certification of Chief Financial Officer under 18 U.S.C Section 1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
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UNIFY CORPORATION
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
| Date: September 13, 2007 | | Unify Corporation |
| | | (Registrant) |
| |
| | | By: |
| |
| | | /s/ STEVEN D. BONHAM | |
| | | Steven D. Bonham |
| | | Chief Financial Officer |
| | (Principal Financial and Accounting Officer) |
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