UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
(Mark one)
[X] Quarterly Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the Quarterly Period Ended April 30, 2002
or
[ ] Transition Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the transition period from
-------
to
-----------
Commission File Number: 0-13351
NOVELL, INC.
(Exact name of registrant as specified in its charter)
Delaware 87-0393339
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1800 South Novell Place
Provo, Utah 84606
(Address of principal executive offices and zip code)
(801) 861-7000
(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 X NO
As of May 31, 2002, there were 364,272,506 shares of the Registrant's Common
Stock outstanding.
Part I. Financial Information
Item 1. Financial Statements
NOVELL, INC.
CONSOLIDATED CONDENSED BALANCE SHEETS
April 30, 2002 October 31, 2001
-------------- ----------------
Amounts in thousands, except share and per share data (Unaudited)
ASSETS
Current assets:
Cash and short-term investments $ 683,295 $ 705,243
Receivables (less allowances of $42,390 - April 30, 2002
and $47,249 - October 31, 2001) 173,379 227,044
Inventories 416 947
Prepaid expenses 29,391 29,808
Deferred income taxes 24,930 34,595
Other current assets 25,043 29,729
---------------- ---------------
Total current assets 936,454 1,027,366
Property, plant and equipment, net 461,033 496,620
Goodwill 51,539 187,795
Intangible assets 3,714 4,221
Long-term investments 93,198 114,971
Other assets 85,943 73,033
---------------- ---------------
Total assets $ 1,631,881 $ 1,904,006
================ ===============
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 55,977 $ 77,571
Accrued compensation 80,267 87,382
Accrued marketing liabilities 12,796 13,672
Other accrued liabilities 111,291 150,842
Income taxes payable 26,145 38,175
Deferred revenue 212,268 243,261
---------------- ---------------
Total current liabilities 498,744 610,903
Minority interests 20,438 22,436
Shareholders' equity: Common stock, par value $.10 per share Authorized -
600,000,000 shares Issued - 364,272,506 shares-April 30, 2002
362,341,403 shares-October 31, 2001 36,427 36,234
Preferred stock, par value $.10 per share
Authorized - 500,000 shares, Issued - 0 shares -- --
Additional paid in capital 262,877 256,332
Retained earnings 820,386 985,486
Accumulated other comprehensive income (loss) (1,874) 2,455
Other (5,117) (9,840)
----------------- ----------------
Total shareholders' equity 1,112,699 1,270,667
---------------- ---------------
Total liabilities and shareholders' equity $ 1,631,881 $ 1,904,006
================ ===============
See notes to consolidated unaudited condensed financial statements.
NOVELL, INC.
CONSOLIDATED UNAUDITED CONDENSED STATEMENTS OF OPERATIONS
Three Months Ended
---------------------------------------------
April 30, 2002 April 30, 2001
Amounts in thousands, except per share data
Net sales $ 273,853 $ 240,755
Cost of sales 112,828 67,125
--------------- ---------------
Gross profit 161,025 173,630
Operating expenses:
Sales and marketing 84,169 116,903
Product development 40,361 52,566
General and administrative 31,055 26,146
Restructuring 19,100 --
--------------- ---------------
Total operating expenses 174,685 195,615
Loss from operations (13,660) (21,985)
Other income (loss), net
Investment income (loss) (17,199) (130,633)
Other, net (1,183) (1,558)
---------------- ----------------
Other income (loss), net (18,382) (132,191)
Loss before taxes (32,042) (154,176)
Income tax expense (benefit) (2,293) (2,865)
---------------- ----------------
Net loss before cumulative effect of change in accounting
principle (29,749) (151,311)
Cumulative effect of change in accounting principle (143,702) --
---------------- ---------------
Net loss $ (173,451) $ (151,311)
================ ================
Net loss per share - basic and diluted:
Before cumulative effect of change in accounting principle $ (0.08) $ (0.48)
Cumulative effect of change in accounting principle (0.40) --
--------------- ---------------
$ (0.48) $ (0.48)
=============== ===============
Weighted average shares outstanding - basic and diluted: 362,754 317,873
See notes to consolidated unaudited condensed financial statements.
NOVELL, INC.
CONSOLIDATED UNAUDITED CONDENSED STATEMENTS OF OPERATIONS
Six Months Ended
---------------------------------------------
April 30, 2002 April 30, 2001
Amounts in thousands, except per share data
Net sales $ 551,712 $ 485,790
Cost of sales 230,397 134,079
--------------- ---------------
Gross profit 321,315 351,711
Operating expenses:
Sales and marketing 171,535 238,322
Product development 81,484 99,412
General and administrative 61,380 49,246
Restructuring 19,100 --
--------------- ---------------
Total operating expenses 333,499 386,980
Loss from operations (12,184) (35,269)
Other income (loss), net
Investment income (loss) (14,591) (113,346)
Other, net 6,663 (1,014)
--------------- ----------------
Other income (loss), net (7,928) (114,360)
Loss before taxes (20,112) (149,629)
Income tax expense (benefit) 1,286 (1,592)
--------------- ----------------
Net loss before cumulative effect of change in accounting
principle (21,398) (148,037)
Cumulative effect of change in accounting principle (143,702) (11,048)
---------------- ----------------
Net loss $ (165,100) $ (159,085)
================ ================
Net loss per share - basic and diluted:
Before cumulative effect of change in accounting principle $ (0.06) $ (0.46)
Cumulative effect of change in accounting principle (0.40) (0.04)
--------------- ---------------
$ (0.46) $ (0.50)
=============== ===============
Weighted average shares outstanding - basic and diluted: 362,591 320,028
See notes to consolidated unaudited condensed financial statements.
NOVELL, INC.
CONSOLIDATED UNAUDITED CONDENSED STATEMENTS OF CASH FLOWS
Six Months Ended
April 30, 2002 April 30, 2001
Dollars in thousands
Cash flows from operating activities
Net loss $ (165,100) $ (159,085)
Adjustments to reconcile net loss to net cash provided by operating
activities
Gain on sale of fixed assets (8,762) --
Depreciation and amortization 33,495 41,869
Loss on impaired goodwill 143,702 --
Loss on impaired investments and fixed assets 29,839 147,806
Non-cash restructuring charges 16,426 --
Decrease in receivables 53,665 57,790
Decrease in inventories 531 1,156
Decrease (increase) in prepaid expenses 417 (1,971)
(Increase) decrease in deferred income taxes (64) 6,095
Decrease in other current assets 4,686 4,341
Decrease in current liabilities, net (126,390) (31,686)
-------------- --------------
Net cash provided by (used in) operating activities (17,555) 66,315
Cash flows from financing activities
Issuance of common stock, net 7,176 8,391
Repurchase of common stock -- (64,954)
------------- --------------
Net cash provided by (used in) financing activities 7,176 (56,563)
Cash flows from investing activities
Expenditures for property, plant and equipment (13,161) (18,338)
Proceeds from the sale of property, plant and equipment 16,050 --
Purchases of short-term investments (706,780) (435,054)
Maturities of short-term investments 471,449 415,788
Sales of short-term investments 223,211 67,330
Proceeds from Volera minority shareholders -- 25,975
Expenditures for long-term investments (16,583) (32,849)
Other 8,128 (15,752)
------------- --------------
Net cash provided by (used in) investing activities (17,686) 7,100
Total increase (decrease) in cash and cash equivalents (28,065) 16,852
Cash and cash equivalents - beginning of period 337,927 289,537
------------- -------------
Cash and cash equivalents - end of period 309,862 306,389
Short-term investments - end of period 373,433 332,218
------------- -------------
Cash and short-term investments - end of period $ 683,295 $ 638,607
============= =============
See notes to consolidated unaudited condensed financial statements.
NOVELL, INC.
NOTES TO CONSOLIDATED UNAUDITED CONDENSED FINANCIAL STATEMENTS
A. Quarterly Financial Statements
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the amounts reported in the financial statements
and accompanying notes. As discussed under the heading "Critical Accounting
Policies" in Part I, Item 2, "Management's Discussion and Analysis of
Financial Condition and Results of Operations," actual results could differ
materially from those estimates. The accompanying consolidated unaudited
condensed financial statements have been prepared in accordance with the
instructions to Form 10-Q but do not include all of the information and
footnotes required by generally accepted accounting principles and should,
therefore, be read in conjunction with the Company's fiscal 2001 Annual
Report on Form 10-K. These financial statements do include all normal
recurring adjustments that the Company believes necessary for a fair
presentation of the statements. The interim operating results are not
necessarily indicative of the results for a full year. Certain
reclassifications, none of which affected net loss, have been made to the
prior years' amounts in order to conform to the current year's
presentation.
B. Cash and Short-term Investments
The Company considers all highly liquid debt instruments purchased with a
term to maturity of three months or less to be cash equivalents. Short-term
investments are widely diversified, consisting primarily of short-term
investment grade securities, substantially all of which either mature
within the next 12 months or have characteristics of short-term
investments. Municipal securities included in short-term investments have
contractual maturities ranging from one to seven years. Money market
preferreds have contractual maturities of less than 180 days. No other
short-term investments have contractual maturities. All marketable debt and
equity securities that are included in cash and short-term investments are
considered available-for-sale and are carried at fair market value. The
unrealized gains and losses related to these securities are included in
other comprehensive income (loss), net of tax, after any applicable tax
valuation allowances. Fair market values are based on quoted market prices
where available; if quoted market prices are not available, then fair
market values are based on quoted market prices of comparable instruments.
The cost of securities sold is based on the specific identification method.
Such securities are anticipated to be used for current operations and are
therefore classified as current assets, even though some maturities may
extend beyond one year.
The following is a summary of cash and short-term investments, all of which
are considered available-for-sale.
Gross Gross Fair Market
Cost at Unrealized Unrealized Value at
(Amounts in thousands) April 30, 2002 Gains Losses April 30, 2002
-------------- ----- ------ --------------
Cash and cash equivalents:
Cash $ 123,440 $ -- $ -- $ 123,440
U.S. government debt 41,124 -- -- 41,124
Corporate debt 34,916 -- -- 34,916
Money market funds 110,382 -- -- 110,382
----------- ---------- ---------- ------------
Total cash and cash equivalents 309,862 -- -- 309,862
Short-term investments:
U.S. government debt 110,102 3 (144) 109,961
Corporate debt 234,512 1,636 (82) 236,066
Money market preferreds 18,001 -- (1) 18,000
Equity securities 10,040 625 (1,259) 9,406
----------- ---------- ----------- ------------
Total short-term investments 372,655 2,264 (1,486) 373,433
Total cash and short-term investments $ 682,517 $ 2,264 $ (1,486) $ 683,295
=========== ========== =========== ============
Gross Gross Fair Market
Cost at Unrealized Unrealized Value at
(Amounts in thousands) October 31, Gains Losses October 31,
------------ ----- ------ -----------
2001 2001
---- ----
Cash and cash equivalents:
Cash $ 156,088 $ -- $ -- $ 156,088
Corporate debt 3,995 -- -- 3,995
Money market funds 177,844 -- -- 177,844
---------- ------- --------- ----------
Total cash and cash equivalents 337,927 -- -- 337,927
Short-term investments:
State and local government debt 151,459 5,074 -- 156,533
Corporate debt 138,679 2,255 (9) 140,925
Money market preferreds 17,034 -- (34) 17,000
Mutual funds 41,014 -- -- 41,014
Equity securities 12,336 538 (1,030) 11,844
---------- ------- --------- ---------
Total short-term investments 360,522 7,867 (1,073) 367,316
Total cash and short-term investments $ 698,449 $ 7,867 $ (1,073) $ 705,243
- ========== ======== ========== =========
During the first six months of fiscal 2002, the Company realized gains of
$6.1 million and realized losses of $0.3 million on the sale of short-term
securities. During the first six months of fiscal 2001, the Company
realized gains of $6.7 million and realized losses of $0.1 million from the
sale of short-term securities.
The Company did not record any impairment losses during the first six
months of fiscal 2002 or 2001 related to short-term investments whose
decline in market value was determined to be other than temporary. The
Company reviews all of its investments for impairment and recognizes
impairment losses as appropriate.
C. Long-term Assets
The primary components of long-term investments are investments made
through the Novell Venture account, Cambridge Technology Capital Fund I
L.P. ("CTC I") and strategic long-term equity investments. Long-term
investments are recorded at cost.
Investments made through the Novell Venture account generally are in
private companies, primarily small capitalization stocks in the
high-technology industry sector, and funds managed by venture capitalists.
Investments made through CTC I generally are in expansion-stage, private
companies providing products and services within the technology industry.
The value of the investments made through the Novell Venture account and
CTC I are dependent on the performance, successful acquisition, and/or
initial public offering of the investees.
The Company routinely reviews its investments in private securities and
venture funds for impairment. During the first six months of fiscal 2002
and 2001, the Company recognized impairment losses on long-term investments
totaling $29.8 million and $144.7 million, respectively.
D. Goodwill and Intangible Assets
The following is a summary of goodwill and intangible assets:
April 30, 2002 October 31, 2001
(Amounts in thousands)
IT consulting related goodwill $ -- $ 138,211
Celerant related goodwill 42,500 42,500
Product related goodwill 9,039 7,084
------------ ------------
Total goodwill $ 51,539 $ 187,795
============ ============
Total intangible assets $ 3,714 $ 4,221
============ ============
In June 2001, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 142, "Goodwill and
Other Intangible Assets." SFAS No. 142 supersedes APB Opinion No. 17,
"Intangible Assets," and states that goodwill and other intangible assets
with indefinite lives are no longer amortized but are reviewed for
impairment annually, or more frequently if impairment indicators arise.
Separable intangible assets that are not deemed to have an indefinite life
will continue to be amortized over their useful lives. The provisions under
SFAS No. 142 relating to the discontinuance of amortization of goodwill and
indefinite lived intangible assets is effective for assets acquired after
June 30, 2001, and upon adoption of the statement to assets acquired prior
to June 30, 2001. In addition, the provisions of SFAS No. 142 relating to
impairment apply to assets acquired prior to July 1, 2001 upon adoption of
SFAS No. 142. Novell has elected to adopt this statement beginning in the
first quarter of fiscal 2002, and has discontinued amortization of goodwill
acquired prior to July 1, 2001 and will review goodwill and intangibles for
impairment on a periodic basis. The following table shows what net income
would have been had the provision been applied at the beginning of fiscal
2001:
Quarter ended Quarter ended Year-to-date Year-to-date
(Amounts in thousands) April 30, 2002 April 30, 2001 April 30, 2002 April 30, 2001
-------------- -------------- -------------- --------------
Loss before extraordinary item
As reported $ (29,749) $ (151,311) $ (21,398) $ (148,037)
Pro forma $ (150,755) $ (147,320)
Net loss
As reported $ (173,451) $ (151,311) $ (165,100) $ (159,085)
Pro forma $ (150,755) $ (158,368)
Basic and diluted loss per share
As reported $ (0.48) $ (0.48) $ (0.46) $ (0.50)
Pro forma $ (0.47) $ (0.49)
SFAS No. 142 also requires companies to perform an impairment test within
six months of adopting the statement. Steps required in the impairment test
include: Step 1 - identifying reporting units, assigning assets and
liabilities to the reporting units, assigning goodwill to reporting units,
and determining if the fair value of each reporting unit is less than its
carrying amount. If the fair value is below carrying value, Step 2 -
determining the impairment amount - is performed. The Company completed
this test during the second quarter of fiscal 2002. Through Step 1, the
Company identified four reporting units; Product, Volera, Inc., Information
Technology (IT) Consulting, and Management Consulting. Based on the present
value of expected future cash flows and other analysis, the Company
determined that the IT Consulting unit had a fair value that was less than
its carrying amount. Step 2 was then performed for this unit to determine
the impairment amount, resulting in a transitional goodwill impairment loss
of $143.7 million as of November 1, 2001, which was recorded as the
cumulative effect of an accounting change in the Company's consolidated
Statements of Operations. The decline in fair value of the IT consulting
unit was primarily due to a softening in the consulting and technology
markets as well as the global economy causing a sharp decline in revenue
and profitability.
The changes in the carrying amount of goodwill for the six months ended
April 30, 2002 are as follows:
Management
(Amounts in thousands) Product Volera IT Consulting Consulting Total
------- ------ ------------- ---------- -----
Balance as of November 1, 2001 $ 7,084 $ -- $ 143,702 $ 42,500 $ 193,286
Acquisitions 1,955 -- -- -- 1,955
Impairment of goodwill -- -- (143,702) -- (143,702)
---------- --------- ----------- ------------ ----------
Balance as of April 30, 2002 $ 9,039 $ -- $ -- $ 42,500 $ 51,539
========== ========= -========= ============ ===========
Intangible assets relate to several small product-related acquisitions and
are amortized over a two to three year period.
E. Income Taxes
The Company's estimated effective tax rate for the first six months of
fiscal 2002 is 30% on income before the investment impairment and the
effect of the cumulative change in accounting principle. The rate differs
from the effective tax rate for fiscal 2001 primarily as a result of
changes in the forecasted income before taxes for fiscal 2002. The second
quarter 2001 rate included an adjustment to bring the year-to-date rate to
21%. There is no tax benefit for the investment impairment because
corporations can only use capital losses to offset capital gains. The
Company cannot be assured at this time that it can generate sufficient
capital gains during the five-year carry-over period to recognize the tax
benefit of this capital loss. Accordingly, a valuation allowance has been
established for the investment impairments taken in the second quarter of
fiscal 2002. There is no tax benefit for the change in accounting method
since goodwill is not deductible for tax purposes in this situation.
The Company paid cash amounts for income taxes of $9.0 million in the first
six months of fiscal 2002 and $2.9 million during the same period of fiscal
2001.
F. Line of Credit
The Company currently has a $10 million unsecured revolving bank line of
credit. The line of credit expires on March 3, 2003 and can be renewed at
the option of the Company for a one-year period. The line can be used for
either letter of credit or working capital purposes and is subject to the
terms of a loan agreement containing financial covenants and restrictions,
none of which are expected to significantly affect the Company's
operations. At April 30, 2002, there were standby letters of credit of $1.7
million outstanding under this agreement. The Company has an additional
credit facility with another bank, which is not subject to a loan
agreement. At April 30, 2002, there was a minimal amount of standby letters
of credit outstanding under this arrangement.
G. Restructuring
During the second quarter of fiscal 2002, the Company recorded a
restructuring charge of approximately $20.4 million, pre-tax. The charge
was a result of the Company's continued move towards its new business
strategy of becoming a solutions provider, addressing changes in the market
due to technology changes, and becoming more customer focused.
Specific actions taken included reducing the Company's workforce worldwide
by approximately 50 employees (less than 1%), consolidating facilities,
closing offices in unprofitable locations, and disposing of excess property
and equipment. The following table summarizes the activity during the
second quarter of fiscal 2002, related to the fiscal 2002 restructuring.
Total Cash Non-Cash Balance at
Restructuring Charge Payments Charges April 30, 2002
-------------------- -------- -------- --------------
(Amounts in thousands)
Severance and benefits $ 14,748 $ (1,642) $ (1,318) $ 11,788
Excess facilities and property and
equipment 5,146 -- -- 5,146
Other restructuring-related costs 492 -- (150) 342
------------ ----------- ------------ ------------
$ 20,386 $ (1,642) $ (1,468) $ 17,276
============ =========== ============ ============
As of April 30, 2002, the remaining balance of the second quarter 2002
restructuring charge included accrued liabilities related to severance and
benefits, which will be paid out over the next four quarters and redundant
facilities and other fixed contracts, which will be paid over the
respective remaining contract terms.
During the second quarter of fiscal 2002, the Company also rolled out
approximately $1.3 million of excess accruals related to a fiscal 2000
restructuring, which is included in the restructuring costs reflected on
the statement of operations for the three and six months ended April 30,
2002. These excess accruals relate to employee benefits and legal costs
that were not required.
At the end of the fourth quarter of fiscal 2001, the Company incurred $50.7
million of pre-tax, restructuring charges resulting from general market
conditions, customer demands, and the Company's evolution of its business
strategy. This business strategy focuses on eBusiness solutions along with
Net services software designed to secure and power the networked world
across leading operating systems. The execution of this strategy included
refining the Company's consulting initiatives, refocusing research and
development efforts, defining sales and marketing efforts to be more
customer and solutions oriented, and adjusting the overall cost structure
given current revenue levels and Company direction.
Specific actions included reducing the Company's workforce worldwide by
approximately 1,100 employees (approximately 16%), consolidating excess
facilities and disposing of excess property and equipment, terminating a
management consulting contract that no longer fits with the Company's
strategic focus, and abandoning and writing off technologies that no longer
fit within the Company's new strategy. The Company also realigned its
remaining resources to better manage and control its business. The
following table summarizes the costs and activities during the first six
months of fiscal 2002, related to the fourth quarter 2001 restructuring.
Non-Cash
Balance at Cash Charges / Balance at
October 31, 2001 Payments Adjustments April 30, 2002
---------------- -------- ----------- --------------
(Amounts in thousands)
Severance and benefits $ 32,793 $ (26,547) $ (4,000) $ 2,246
Excess facilities and property and
equipment 10,896 (5,029) 1,970 7,837
Other restructuring-related costs 911 (226) -- 685
------------ ------------ ----------- ------------
$ 44,600 $ (31,802) $ (2,030) $ 10,768
============ =========== =========== ============
As of April 30, 2002, the remaining balance of the fourth quarter 2001
restructuring charge included accrued liabilities largely related to
severance and benefits, which will be paid out during fiscal 2002, and
redundant facilities costs, which will be paid over the respective
remaining lease terms.
During the third quarter of fiscal 2001, the Company recorded a
restructuring charge of approximately $30.4 million, pre-tax, as a result
of the Company's acquisition of Cambridge Technology Partners ("Cambridge")
and changes in the Company's business to move towards an eBusiness
strategy.
Specific actions included reducing the Company's workforce worldwide by
approximately 280 employees (approximately 5% before the addition of
Cambridge) across all functional areas, consolidating facilities and
disposing of excess property and equipment, abandoning and writing off
technologies that no longer fit within the integrated Company's new
strategy, and discontinuing unprofitable product lines. The following table
summarizes the activity during the first half of 2002, related to the third
quarter 2001 restructuring costs.
Balance at Cash Non-Cash Balance at
October 31, 2001 Payments Charges April 30, 2002
---------------- -------- ------- --------------
(Amounts in thousands)
Severance and benefits $ 3,377 $ (754) $ -- $ 2,623
Abandoned technology 211 (211) -- --
Excess facilities and property and
equipment 9,736 (4,749) -- 4,987
Exit unprofitable product lines 486 (486) -- --
Other restructuring-related costs 527 (162) -- 365
------------ ---------- ---------- ------------
$ 14,337 $ (6,362) $ -- $ 7,975
============ =========== =========== ============
As of April 30, 2002, the remaining balance of the third quarter 2001
restructuring charge included accrued liabilities largely related to
severance and benefits, which will be paid out during fiscal 2002, and
excess facilities costs, which will be paid over the respective remaining
lease terms.
H. Commitments and Contingencies
On December 21, 2001, the Company formed a venture capital fund, Novell
Technology Capital Fund I, L.P. (the "Fund"), and related entities that
include Novell Technology GPLP I, L.P. ("GPLP"), the general partner of the
Fund. The Fund was established to achieve a superior return on investments
for its partners by locating, analyzing and investing in
high-growth-oriented businesses. The general partner of GPLP is a
wholly-owned corporate subsidiary of Novell. Novell has committed to an
aggregate investment of $15 million in GPLP and the Fund, primarily through
a limited partnership interest in the Fund. This commitment may increase as
additional limited partners are brought into the Fund, to a cap of $30
million. Additionally, Novell is entitled to 68.25% of the amounts
allocable to GPLP by the Fund, which is generally equal to 20% of the net
gains of the Fund. Mr. Messman, a director and the Company's Chief
Executive Officer and President, committed to an investment of $182,500 in
the Fund as a limited partner. Mr. Linsalata, the Company's Senior Vice
President, Venture Investments, committed to an investment of $100,000 in
the Fund as a limited partner, and to an investment of $82,500 in GPLP as a
limited partner. Additionally, Mr. Linsalata is entitled to 13.75% of the
amounts allocable to GPLP by the Fund, which is generally equal to 20% of
the net gains of the Fund. No amounts have been distributed by the Fund or
GPLP. The financial and operating results of the Fund, GPLP and other
related entities have been consolidated in Novell's financial statements
for the second quarter of fiscal 2002.
The Board of Directors also established the Novell Venture account within
Novell's investment portfolio for the purpose of making investments in
private companies, mainly small capitalization stocks in the
high-technology industry sector, and investments in funds managed by
venture capitalists for the promotion of the Company's business and
strategic objectives. As of April 30, 2002, the Company had an investments
of $36.6 million in private companies and $53.7 million related to these
externally managed venture capital funds, and had commitments to the
externally managed venture capital funds to contribute an additional $87.0
million over the next two to three years, as requested by the fund
managers. Novell, through its acquisition of Cambridge, also owns both
limited and general partnership interests in the Cambridge Technology
Capital Fund I ("CTC I") of approximately 24%. As of April 30, 2002, the
Company had an investment balance of $1.6 million in CTC I and had
commitments to contribute an additional $300,000 through 2007.
In February 1998, a suit was filed in the U.S. District Court, District of
Utah, against Novell and certain of its officers and directors, alleging
violation of federal securities laws by concealing the true nature of
Novell's financial condition and seeking unspecified damages. The lawsuit
was brought as a purported class action on behalf of purchasers of Novell
common stock from November 1, 1996 through April 22, 1997. After a first
dismissal and a subsequent amendment to the complaint, the Federal District
Judge dismissed the amended complaint with prejudice for failure to state a
claim. The plaintiffs have filed a Notice of Appeal to the Tenth Circuit
Court of Appeals and Novell intends to vigorously defend to uphold the
Federal District Court's ruling. While there can be no assurance as to the
ultimate disposition of the lawsuit, Novell does not believe that the
resolution of this litigation will have a material adverse effect on its
financial position, results of operations, or cash flows.
In January 1995, Lantec, Inc. filed suit against Novell in the U.S.
District Court, the District of Utah, for alleged anti-trust violations
arising from Novell's acquisition of the GroupWise technology. The
plaintiffs were seeking to demonstrate damages of $300 million. On April
19, 2001, the judge ruled in favor of Novell and dismissed the entire
complaint. The plaintiff filed a Notice of Appeal to the Tenth Circuit
Court of Appeals and Novell intends to vigorously defend to uphold the
Federal District Court's ruling. While there can be no assurance as to the
ultimate disposition of the lawsuit, Novell does not believe that the
resolution of this litigation will have a material adverse effect on its
financial position, results of operations, or cash flows.
The Company is a party to a number of legal claims arising in the ordinary
course of business. The Company believes the ultimate resolution of these
claims will not have a material adverse effect on its financial position,
results of operations, or cash flows.
I. Segment Information
The Company is organized and operates as three business segments: product,
consulting, and Volera, Inc. The Company's products and services are sold
throughout the world. The Company's offerings within the product segment
are sold domestically via direct, OEM, reseller, and distributor channels,
and internationally through distributors who sell to dealers and end users.
The following is a description of each of the three segments:
o Product - includes Net Management Services products (Directory-Enabled
OS, Management and Collaboration products, and UNIX royalties), NDS
Directory Services and other directory products, and product-related
customer service, support, and education.
o Consulting - includes Novell and Cambridge IT services consulting and
Celerant management consulting. o Volera, Inc. - Novell's majority-owned
subsidiary, which provides Content Distribution Network software.
Beginning November 1, 2001, performance of the Company is evaluated by the
Company's chief decision makers, the Chief Executive Officer and the
Executive Management Committee, based on evaluation of revenue, gross
margin and segment income (loss) from operations for each of the segments
above. Revenue is also evaluated based on results by geographic region.
Separate financial information is not evaluated by business segment in
regards to asset allocation. Except for net sales, operating results by
segment are not available for the second quarter and year-to-date fiscal
2001. Prior to the acquisition of Cambridge, the Company's systems did not
support the breakout of operating results by segment other than net sales.
Operating results, other than net sales, were available on a total company
basis only.
Operating Results by Segment
Quarter ended April 30, 2002 Product Consulting Volera Total Novell
------- ---------- ------ ------------
Amounts in thousands
Net sales $ 197,109 $ 75,346 $ 1,398 $ 273,853
Cost of sales 38,387 73,561 880 112,828
---------- ---------- ---------- ----------
Gross profit 158,722 1,785 518 161,025
Segment operating expenses 124,693 23,310 6,617 154,620
----------- ---------- ---------- ----------
Segment income (loss) from operations $ 34,029 $ (21,525) $ (6,099) 6,405
========== =========== ===========
Unallocated operating expenses 20,065
----------
Loss from operations $ (13,660)
===========
Quarter ended April 30, 2001 Product Consulting Volera Total Novell
------- ---------- ------ ------------
Amounts in thousands
Net sales $ 224,214 $ 14,691 $ 1,850 $ 240,755
Year-to-date April 30, 2002 Product Consulting Volera Total Novell
------- ---------- ------ ------------
Amounts in thousands
Net sales $ 396,366 $ 151,813 $ 3,533 $ 551,712
Cost of sales 75,556 153,052 1,789 230,397
---------- ---------- ---------- ----------
Gross profit (loss) 320,810 (1,239) 1,744 321,315
Segment operating expenses 247,418 50,583 13,742 311,743
----------- ---------- ---------- ----------
Segment income (loss) from operations $ 73,392 $ (51,822) $ (11,998) 9,572
========== =========== ===========
Unallocated operating expenses 21,756
----------
Loss from operations $ (12,184)
===========
Product Consulting Volera Total Novell
Year-to-date April 30, 2001
Amounts in thousands
Net sales $ 454,317 $ 27,765 $ 3,708 $ 485,790
Segment operating expenses include direct segment costs along with
management's allocation of certain common sales, marketing, and general and
administrative costs to each business unit. Unallocated operating expenses
included restructuring and integration expenses.
Prior to fiscal 2002, the Company operated in one segment. Management and
the Company's decision makers evaluated the Company based on total Company
results. Revenue was evaluated based on geographic location and product
category. Other than net sales, separate financial information was not
available by product category and geographic location. The following table
shows second quarter and year-to-date fiscal 2002 and 2001 revenue under
the previous segment categories.
Revenue by product category Three Months Ended Six Months Ended
--------------------------- -----------------------------------------------------------------------
Amounts in thousands April 30, 2002 April 30, 2001 April 30, 2002 April 30, 2001
-------------------- -------------- -------------- -------------- --------------
Net management services $ 151,835 $180,891 $ 305,551 $ 367,752
Net directory services 10,685 7,983 22,009 15,614
Net content services 1,398 1,850 3,533 3,708
Consulting, support services and education 109,935 50,031 220,619 98,716
---------- ---------- ----------- ----------
Total net sales $ 273,853 $ 240,755 $ 551,712 $ 485,790
========== ========== ========== ==========
Sales outside the U.S. are comprised of sales to international customers in
Europe, the Middle East, Canada, South America, and the Asian Pacific.
International sales in any single international location were not material
to the Company as a whole.
For the first six months of fiscal 2002 and fiscal 2001, sales to
international customers were approximately $261.2 million and $214.3
million, respectively. In the first six months of fiscal 2002 and fiscal
2001, 73% and 66%, respectively, of international sales were to European
countries. No one foreign country accounted for 10% or more of total net
sales in either period.
There were no customers accounting for more than 10% of total revenue
during the first six months of fiscal 2002 or fiscal 2001.
J. Net Income (Loss) Per Share
Three Months Ended Six Months Ended
----------------------------------------------------------------------
Amounts in thousands, except per share data April 30, 2002 April 30, 2001 April 30, 2002 April 30, 2001
------------------------------------------- -------------- -------------- -------------- --------------
Basic and diluted net income per share
computation
Net income (loss) $ (173,451) $ (151,311) $ (165,100) $ (159,085)
------------ ------------ ------------ ------------
Weighted average shares outstanding 362,754 317,873 362,591 320,028
----------- ----------- ----------- -----------
Basic and diluted net income (loss) per share $ (0.48) $ (0.48) $ (0.46) $ (0.50)
=========== =========== =========== ===========
K. Comprehensive Income (Loss)
The components of comprehensive income (loss), net of tax, for the three
month and year-to-date periods ended April 30, 2002 and 2001 were as
follows:
Three Months Ended Six Months Ended
----------------------------------------------------------------------
Amounts in thousands April 30, 2002 April 30, 2001 April 30, 2002 April 30, 2001
-------------------- -------------- -------------- -------------- --------------
Net loss $ (173,451) $ (151,311) $ (165,100) $ (159,085)
Change in net unrealized gain/loss on
investments (3,769) 93,939 (4,015) 75,855
Change in cumulative translation adjustment (1,681) (189) (314) 525
------- --------------- ------------ --------------
Comprehensive loss $ (178,901) $ (57,561) $ (169,429) $ (82,705)
============ =============== ============ ===============
The components of accumulated other comprehensive income, net of related
tax, at April 30, 2002 and October 31, 2001, are as follows:
April 30, 2002 October 31, 2001
Amounts in thousands
Net unrealized gain on investment: $ 1,017 $ 5,032
Cumulative translation adjustment (2,891) (2,577)
------------ ------------
Accumulated other comprehensive income (loss) $ (1,874) $ 2,455
============ ===========
L. Derivative Instruments
The Company hedges currency risks of some assets and liabilities
denominated in foreign currencies through the use of one-month forward
contracts. Due to the short period of time between entering into the
forward contracts and the quarter end, the fair value of the derivatives as
of April 30, 2002 is insignificant and accordingly did not have a material
impact on our financial position or results of operations.
M. Recent Accounting Pronouncements
In August 2001, the FASB issued Statement of Financial Accounting Standards
("SFAS") No. 144, "Accounting for the Impairment or Disposal of Long-Lived
Assets." SFAS No. 144 addresses financial accounting and reporting for the
impairment of long-lived assets and for long-lived assets to be disposed.
The provisions of SFAS No. 144 will be effective for fiscal year 2002 and
will be applied prospectively. Adoption of SFAS No. 144 did not have a
material impact on the Company's consolidated financial position and
results of operations.
At the beginning of the second quarter of fiscal 2002, the Company adopted
FASB Emerging Issues Task Force No. 01-14, "Income Statement
Characterization of Reimbursements Received for `Out-of-Pocket' Expenses
Incurred," ("EITF 01-14"). EITF 01-14 requires companies to account for
reimbursements received for out-of-pocket expenses incurred as revenue and
the related expenses as cost of sales. EITF 01-14 also requires companies
to reclassify prior period financial statements to conform to current year
presentation for comparative purposes. Previously they were not included in
the statement of operations. The adoption of EITF 01-14 did not have any
impact on net earnings in any reported period.
N. Subsequent Event
On June 10, 2002, the Company announced that it had entered into a
definitive agreement to acquire SilverStream Software, Inc. Under terms of
the agreement, the Company will commence a cash tender offer to acquire all
of the outstanding shares of SilverStream common stock at a price of $9.00
per share, followed by a merger in which the holders of the remaining
outstanding shares of SilverStream common stock will receive the same cash
price. With acceptance of the tender offer by stockholders representing 90
percent of SilverStream shares, the acquisition would likely close in July
2002. If less than 90 percent of the shares are tendered, a formal
stockholder meeting of SilverStream stockholders would need to be called to
approve the transaction, and the acquisition would likely close during the
Company's fourth quarter 2002.
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
This Management's Discussion and Analysis of Financial Condition and Results of
Operations ("MD&A") and other parts of this Form 10-Q contain forward-looking
statements that involve risks and uncertainties. In some cases, such
forward-looking statements may be identified by the use of terminology such as
"may," "will," "expects," "plans," "anticipates," "estimates," "potential," or
"continue" or the negative thereof or other comparable terminology. Such
forward-looking statements include statements regarding, among other things, our
revenue expectations, future business strategies, market conditions, and
opportunities, and liquidity. All forward-looking statements are based on
information available to the Company on the date hereof, and the Company assumes
no obligation to update any such forward-looking statements. The Company's
actual results may differ materially from the results discussed in such
forward-looking statements as a result of a number of factors, which include,
but are not limited to, those set forth below in the section titled "Risk
Factors Affecting Future Results of Operations."
Introduction
Novell, Inc., ("Novell" or the "Company") provides eBusiness solutions and Net
services software designed to secure and power the networked world. Novell and
its services division, Cambridge Technology Partners ("Cambridge"), help
organizations solve complex business challenges, simplify their systems and
processes, and capture new opportunities. Novell provides worldwide channel,
consulting, education and developer programs to support its offerings.
Critical Accounting Policies
The Company considers certain accounting policies related to revenue recognition
and impairment of long-lived assets and valuation of deferred tax assets to be
critical policies due to the estimation processes involved in each.
Revenue recognition. The Company's IT consulting services business derives a
portion of its revenue from fixed-price, fixed-time contracts, which require the
accurate estimation of the cost, scope and duration of each engagement. Revenue
and the related costs for these projects are recognized based on percentage of
completion, using time-to-completion to measure the percent complete with
revisions to estimates reflected in the period in which changes become known. If
the Company does not accurately estimate the resources required or the scope of
work to be performed, or does not manage its projects properly within the
planned periods of time or satisfy its obligations under the contracts, then
future consulting margins may be significantly and negatively affected or losses
on existing contracts may need to be recognized. Any such resulting reductions
in margins or contract losses could be material to the Company's results of
operations.
The Company also records a provision for estimated sales returns and allowances
on product and service related sales in the same period as the related revenues
are recorded. These estimates are based on historical sales returns, analysis of
credit memo data and other known factors. If the historical data the Company
uses to calculate these estimates does not properly reflect future returns,
revenue could be overstated.
Impairment of long-lived assets and valuation of deferred tax assets. The
Company's long-lived assets include long-term investments, goodwill and other
intangible assets. At April 30, 2002, the Company had $93 million of long-term
investments, $52 million of goodwill, $4 million of intangible assets, and $96
million of net deferred tax assets, current and non-current, accounting for
approximately 15% of the Company's total assets. The fair value of the long-term
investments is dependant on the performance of the companies or venture funds in
which the Company has invested, as well as volatility inherent in the external
markets for these investments. In assessing potential impairment for these
investments, the Company will consider these factors as well as forecasted
financial performance of its investees. If these forecasts are not met, the
Company may have to record additional impairment charges not previously
recognized. During the six months ended April 30, 2002, the Company recognized
$29.8 million of impairment losses related to its long-term investments.
In assessing the recoverability of the Company's goodwill and other intangibles,
the Company must make assumptions regarding estimated future cash flows and
other factors to determine the fair value of the respective assets. If these
estimates or their related assumptions change in the future, the Company may be
required to record impairment charges for these assets not previously recorded.
On November 1, 2001 the Company adopted Statement of Financial Accounting
Standards No. 142 ("SFAS 142"), "Goodwill and Other Intangible Assets," and was,
therefore, required to analyze its goodwill and other intangibles with
indefinite lives for impairment issues during the first six months of fiscal
2002, and then on a periodic basis thereafter. The Company's first goodwill
impairment analysis under SFAS 142 was completed during the second quarter of
fiscal 2002 and resulted in an impairment charge of $143.7 million related to
goodwill in its IT Consulting group.
Carrying value of the Company's net deferred tax assets assumes that the Company
will be able to generate sufficient future taxable income in certain tax
jurisdictions, based on estimates and assumptions. If these estimates and
related assumptions change in the future, the Company may be required to record
additional valuation allowances against its deferred tax assets resulting in
additional income tax expense in the Company's consolidated statement of
operations. Management evaluates the realizability of the deferred tax assets
and assesses the need for additional valuation allowances on a quarterly basis.
Results of Operations
Net Sales
Quarter ended April 30, Year-to-date April 30,
----------------------- ----------------------
2002 2001 Change 2002 2001 Change
---- ---- ------ ---- ---- ------
Net sales (thousands) $ 273,853 $ 240,755 13.7% $ 551,712 $ 485,790 13.6%
Beginning in fiscal 2002, Novell's operations are organized by operating segment
- - product, consulting, and Volera, Inc.
o Product - includes Net Management Services products (Directory-Enabled
OS, Management and Collaboration products, and UNIX royalties), NDS
Directory Services and other directory products, and product-related
customer service, support, and education.
o Consulting - includes Novell and Cambridge IT services consulting and
Celerant management consulting. o Volera, Inc. - Novell's majority-owned
subsidiary, which provides Content Distribution Network software.
Product sales decreased $27.1 million or 12% in the second quarter of fiscal
2002 and $57.9 million or 13% year-to-date 2002 compared to the same periods of
fiscal 2001. Within the product segment, sales from Net Management Services
products decreased $29.1 million or 16% in the second quarter of fiscal 2002 and
$62.2 million or 17% year-to-date 2002 compared to the same periods of fiscal
2001 primarily due to decreased sales of older Netware versions, which have not
been completely offset by sales of Netware version 6, decreased sales of
management and collaboration products, and lower Unix royalties. Sales from Net
Directory Services products increased $2.7 million or 33.8% in the second
quarter of fiscal 2002 and $6.4 million or 41% year-to-date 2002 compared to the
same periods of fiscal 2001 primarily due to increased sales from DirXML.
Product related service, education, and support decreased $0.7 million during
the second quarter of fiscal 2002 and $2.1 million year-to-date 2002 compared to
the same periods of fiscal 2001. The Company believes net product sales over the
second half of fiscal 2002 will remain relatively flat compared to the first two
quarters of fiscal 2002.
Consulting sales were $60.7 million or 413% higher in the second quarter of
fiscal 2002 and $124.0 million or 447% higher year-to-date 2002 compared to the
same periods of fiscal 2001, due to the acquisition of Cambridge in the third
quarter of fiscal 2001. Consulting sales decreased $1.1 million in the second
quarter of fiscal 2002 compared to first quarter of fiscal 2002 primarily due to
a weakened services market and decreased demand for the Company's systems
integration and e-business solutions consulting. The Company expects to see
stabilization in consulting sales over the remaining two quarters of fiscal
2002.
At the beginning of the second quarter of fiscal 2002, the Company adopted FASB
Emerging Issues Task Force No. 01-14, "Income Statement Characterization of
Reimbursements Received for `Out-of-Pocket' Expenses Incurred," ("EITF 01-14").
EITF 01-14 requires companies to account for reimbursements received for
out-of-pocket expenses incurred as revenue and the related expenses as cost of
sales. Previously they were not included in the statement of operations.
Reimbursable expense revenue is now included in consulting revenue in all
periods presented.
Net sales from Volera, Inc. were relatively flat in the second quarter of fiscal
2002 and year-to-date 2002 compared to the same periods of fiscal 2001 and are
expected to remain relatively flat during the next two quarters.
International sales represented 48% of total net sales in the second quarter of
fiscal 2002 and 47% year-to-date 2002 compared to 45% in the second quarter of
fiscal 2001 and 44% for the first six months of fiscal 2001. During the second
quarter of fiscal 2002, international sales increased 21% while domestic sales
increased 8% compared to the same period of fiscal 2001. Year-to-date,
international sales increased 22% and domestic sales increased 7% compared to
the same period of fiscal 2001. Internationally, sales increases were due to the
addition of Cambridge and recovering European market conditions. The increase in
domestic sales during the second quarter and first half of fiscal 2002 was due
to the addition of Cambridge.
Total net sales decreased 1% in the second quarter of fiscal 2002 compared to
the first quarter of fiscal 2002. Product sales were down 1%, consulting sales
were down 1.5% and Volera sales were down 34.5% in the second quarter of fiscal
2002 compared to the first quarter of fiscal 2002. The Company expects total net
sales for fiscal 2002 to remain relatively flat compared to the first two
quarters of fiscal 2002 or slightly above $1.1 billion for the year. The Company
is working to address the decline in sales, particularly related to the
consulting segment, in an effort to improve results in future periods. The
Company has completed its integration of Cambridge during the first half of
fiscal 2002 and has reorganized its sales force to focus on direct selling and
on solutions offerings. The Company anticipates that it will take several
quarters to fully realize the benefits from these actions.
Gross Profit
Quarter ended April 30, Year-to-date April 30,
----------------------- ----------------------
2002 2001 Change 2002 2001 Change
---- ---- ------ ---- ---- ------
Gross profit (thousands) $ 161,025 $173,630 (7.3)% $ 321,315 $ 351,711 (8.6)%
Percentage of net sales 58.8% 72.1% 58.2% 72.4%
Gross profit as a percentage of net sales decreased in the second quarter and
year-to-date 2002 compared to the same periods of fiscal 2001, primarily due to
the effects of a higher mix of lower-margin consulting business along with
decreased product sales levels. The mix between product sales and consulting
sales has shifted due to the acquisition of Cambridge, causing product sales to
become a smaller percentage of total sales. During the second quarter and
year-to-date fiscal 2002, gross margin for the consulting segment was $1.8
million or 2% and a negative $1.2 million or negative 1%, respectively. The low
margins are primarily due to decreased consulting sales and costs of excess
consultants who were not fully utilized on consulting engagements. The Company
does not expect gross profit margins to reach fiscal 2001 levels in the future
due to the increase in the consulting business. However, the Company believes
the current gross profit margin of 58% can be improved and is currently
addressing ways to improve its gross margin in future periods.
As described above, the Company adopted EITF 01-14, which requires companies to
account for reimbursements received for out-of-pocket expenses incurred as
revenue and the related expenses as cost of sales. This change did not have a
significant effect on gross margin.
Operating Expenses
Quarter ended April 30, Year-to-date April 30,
(dollars in thousands) 2002 2001 Change 2002 2001 Change
---- ---- ------ ---- ---- ------
Sales and marketing $ 84,169 $ 116,903 (28.0)% $ 171,535 $ 238,322 (28.0)%
Percentage of net sales 30.7% 48.6% 31.1% 49.1%
Product development 40,361 52,566 (23.2)% 81,484 99,412 (18.0)%
Percentage of net sales 14.7% 21.8% 14.8% 20.5%
General and
administrative 31,055 26,146 18.8% 61,380 49,246 24.6%
Percentage of net sales 11.3% 10.9% 11.1% 10.1%
Restructuring 19,100 -- -- 19,100 -- --
Percentage of net sales 7.0% -- 3.5% --
Total operating expenses $ 174,685 $ 195,615 (10.7)% 333,499 386,980 (13.8)%
Percentage of net sales 63.8% 81.3% 60.4% 79.7%
Sales and marketing expenses decreased by $32.7 million and $66.8 million in the
second quarter and year-to-date of fiscal 2002, respectively, compared to the
same periods of fiscal 2001. These declines are primarily due to decreased
spending on marketing campaigns and lower headcount due to the restructurings in
the third and fourth quarters of fiscal 2001 and second quarter of fiscal 2002.
Sales and marketing headcount decreased by 179 year-over-year. In addition,
sales and marketing expenses fluctuate in any given period due to timing of
product promotions, advertising or other discretionary expenses.
Product development expenses decreased $12.2 million in the second quarter of
fiscal 2002 and $17.9 million year-to-date 2002 compared to the same periods in
fiscal 2001. These declines are due primarily to decreased headcount as a result
of the restructurings that took place in the third and fourth quarters of fiscal
2001 and second quarter of fiscal 2002. Product development headcount decreased
by 126 year-over-year. Product development expense as a percentage of sales
decreased due to the addition of Cambridge consulting sales, which does not have
any associated product development costs.
General and administrative expenses increased $4.9 million during the second
quarter of fiscal 2002 and $12.1 million year-to-date 2002 compared to the same
periods of fiscal 2001. The increase in general and administrative expense
dollars and as a percentage of sales was primarily due to the addition of
Cambridge general and administrative costs, integration costs related to the
acquisition, and increased headcount as a result of the Cambridge acquisition,
offset somewhat by headcount reductions resulting from the restructurings that
took place in the third and fourth quarters of fiscal 2001.
Restructuring
During the second quarter of fiscal 2002, the Company recorded a restructuring
charge of approximately $20.4 million, pre-tax. The charge was a result of the
Company's continued efforts to implement its new business strategy of becoming a
solutions provider, addressing changes in the market due to technology changes,
and becoming more customer focused. Specific actions taken included reducing the
Company's workforce worldwide by approximately 50 employees (less than 1%),
consolidating facilities, closing offices in unprofitable locations, and
disposing of excess property and equipment.
Of the $20.4 million pre-tax charge, cash payments of $1.6 million were paid out
as of April 30, 2002. After writing off certain non-cash charges, accruals of
$17.3 million remain relating primarily to severance and benefits, which will be
paid out over the next four quarters, and redundant facilities and other fixed
contracts, which will be paid out over the respective remaining contract terms.
During the second quarter of fiscal 2002, the Company also rolled out
approximately $1.3 million of excess accruals related to a fiscal 2000
restructuring, which is included in the restructuring costs reflected on the
statement of operations for the three and six months ended April 30, 2002. These
excess accruals relate to employee benefits and legal costs that were not
required.
At the end of the fourth quarter of fiscal 2001, the Company incurred $50.7
million of pre-tax, restructuring charges resulting from general market
conditions, customer demands, and the Company's evolution of its business
strategy. This business strategy focuses on eBusiness solutions along with Net
services software designed to secure and power the networked world across
leading operating systems. The execution of this strategy included refining the
Company's consulting initiatives, refocusing research and development efforts,
defining sales and marketing efforts to be more customer and solutions oriented,
and adjusting the overall cost structure given current revenue levels and
Company direction. Specific actions included reducing the Company's workforce
worldwide by approximately 1,100 employees (approximately 16%), consolidating
excess facilities and disposing of excess property and equipment, terminating a
management consulting contract that no longer fits with the Company's strategic
focus, and abandoning and writing off technologies that no longer fit within the
integrated Company's new strategy. The Company also realigned its remaining
resources to better manage and control its business.
Of the total $50.7 million charge, cash payments of $31.8 million have been paid
out as of April 30, 2002. After writing off certain non-cash charges, accruals
of $10.8 million relating to the fourth quarter restructuring remain as of April
30, 2002, primarily related to severance and benefits, which will be paid out
during fiscal 2002, and redundant facilities costs, which will be paid over the
respective remaining lease terms.
During the third quarter of fiscal 2001, the Company recorded a restructuring
charge of approximately $30.4 million, pre-tax, as a result of the Company's
acquisition of Cambridge Technology Partners and changes in the Company's
business to move towards an eBusiness strategy. Specific actions included
reducing the Company's workforce worldwide by approximately 280 employees
(approximately 5% before the addition of Cambridge) across all functional areas,
consolidating facilities and disposing of excess property and equipment,
abandoning and writing off technologies that no longer fit within the Company's
new strategy, and discontinuing unprofitable product lines.
Of the total $30.4 million third quarter 2001 charge, cash payments of $21.2
million have been paid out as of April 30, 2002. After writing off certain
non-cash charges, accruals of $8.0 million remain as of April 30, 2002,
primarily related to severance and benefits, which will be paid out during
fiscal 2002, and excess facilities costs, which will be paid over the respective
remaining lease terms.
As a result of the fiscal 2002 and two 2001 restructurings, the Company
estimates that its operating expenses will be reduced by approximately $180
million annually compared to fourth quarter fiscal 2001 levels, before increased
strategic expenditures. Year-to-date fiscal 2002, the Company had recognized
approximately $82 million in savings due to the restructurings over the fourth
quarter 2001 expense levels.
The Company could incur additional restructuring charges in the future as it
continues to develop its eBusiness strategy and react to market conditions.
Employee Headcount
(dollars in thousands) April 30, 2002 April 30, 2001 Change
- ---------------------- -------------- -------------- ------
Employees at end of period 6,041 4,790 26.1%
Annualized sales per average
employee $ 178 $ 201 (11.4)%
Headcount increased from the second quarter of 2001, primarily due to the
acquisition of Cambridge, which added approximately 2,700 employees, offset
somewhat by headcount reductions resulting from the restructurings that occurred
during the third and fourth quarters of fiscal 2001 and second quarter of fiscal
2002.
Other Income (Loss), Net
Quarter ended April 30, Year-to-date April 30,
----------------------- ----------------------
(dollars in thousands) 2002 2001 Change 2002 2001 Change
- ---------------------- ---- ---- ------ ---- ---- ------
Other income (loss), net $ (18,382) $ (132,191) 86.1% $ (7,928) $ (114,360) 93.1%
Percentage of net sales (6.7)% (54.9)% (1.4)% (23.5)%
The primary component of other income is related to investment income or losses.
During the second quarter of fiscal 2002, investment income of $7.2 million was
offset by investment impairment losses of $24.4 million. Year-to-date investment
income of $15.3 million was offset by investment impairment losses of $29.8
million. Investment income during the second quarter and year-to-date fiscal
2001 totaled $11.4 million and $31.4 million, respectively. The second quarter
and year-to-date 2001 investment income was offset by investment impairment
losses of $142.0 million and $144.7 million, respectively. Investment impairment
losses relate to certain investments in the Company's portfolio, whose declines
in market values were determined to be other than temporary. Also included in
other income during year-to-date fiscal 2002 was an $8.8 million gain on the
sale of a building and a $1.6 million loss on the sale of four small foreign
subsidiaries.
Income Taxes Expense (Benefit)
Quarter ended April 30, Year-to-date April 30,
----------------------- ----------------------
2002 2001 Change 2002 2001 Change
---- ---- ------ ---- ---- ------
Income tax expense (benefit) (thousands) $(2,293) $ (2,865) 20.0% $ 1,286 $ (1,592) 180.8%
Percentage of net sales (0.8)% (1.2)% 0.2% (0.3)%
Effective tax expense (benefit) rate (7.2)% (1.8)% 6.4% (1.1)%
Effective tax expense (benefit) rate on
income before change in accounting
method and asset impairment (30.0)% (23.6)% 30.0% (21.0)%
The Company's effective tax rate, before investment impairment and the
accounting change, for the second quarter of fiscal 2002 and for fiscal 2002 is
estimated to be 30%, compared to 28% in the second quarter of 2001 and 21% in
fiscal 2001. The rate differs from the effective tax rate for the second quarter
of fiscal 2001 and for fiscal 2001 primarily as a result of changes in the
forecasted income before taxes for fiscal 2002. There is no tax benefit for the
investment impairment because corporations can only use capital losses to offset
capital gains. The Company cannot be assured at this time that it can generate
sufficient capital gains during the five-year carry-over period to recognize the
tax benefit of this capital loss. Accordingly, a valuation allowance has been
established. There is no tax benefit for the change in accounting method since
goodwill is not deductible for tax purposes in this situation.
Net Loss and Net Loss Per Share
(dollars in thousands, except Quarter ended April 30, Year-to-date April 30,
----------------------- ----------------------
per share data) 2002 2001 Change 2002 2001 Change
---- ---- ------ ---- ---- ------
Loss before accounting change $ (29,749) $(151,311) 80.3% $ (21,398) $(148,037) 85.5%
Percentage of net sales (10.9)% (62.8)% (3.9)% (30.5)%
Net loss $(173,451) $(151,311) (14.6)% $(165,100) $(159,085) (3.8)%
Percentage of net sales (63.3)% (62.8)% (29.9)% (32.7)%
Loss per share, before accounting change
- basic and diluted $ (0.08) $(0.48) $ (0.06) $ (0.46)
Net loss per share - basic and diluted $ (0.48) $(0.48) $ (0.46) $ (0.50)
Effective November 1, 2001 the Company adopted Statement of Financial Accounting
Standards No. 142 ("SFAS 142"), "Goodwill and Other Intangible Assets." SFAS 142
requires, among other things, the discontinuance of amortization related to
goodwill and indefinite lived intangible assets. These assets will then be
subject to an impairment test at least annually. In addition, the statement
includes provisions requiring companies to identify reporting units, upon
adoption, for the purpose of assessing potential future impairments and to
perform an initial impairment analysis within the first six months after
adoption. The Company completed its goodwill impairment analysis during the
second quarter of fiscal 2002 and recognized a transitional goodwill impairment
loss of $143.7 million as of November 1, 2001, which was recorded as the
cumulative effect of a change in accounting principle in the Company's
consolidated Statements of Operations. Any further impairment losses recorded in
the future could have a material adverse impact on our financial conditions and
results of operations.
Subsequent Events
On June 10, 2002, the Company announced that it had entered into a definitive
agreement to acquire SilverStream Software, Inc. Under terms of the agreement,
the Company will commence a cash tender offer to acquire all of the outstanding
shares of SilverStream common stock at a price of $9.00 per share, followed by a
merger in which the holders of the remaining outstanding shares of SilverStream
common stock will receive the same cash price. With acceptance of the tender
offer by stockholders representing 90 percent of SilverStream shares, the
acquisition would likely close in July 2002. If less than 90 percent of the
shares are tendered, a formal stockholder meeting of SilverStream stockholders
would need to be called to approve the transaction, and the acquisition would
likely close during the Company's fourth quarter 2002.
Liquidity and Capital Resources
April 30, 2002 October 31, 2001 Change
Cash and short-term investments (000s) $683,295 $705,243 (3.1)%
Percentage of total assets 41.9% 37.0%
Cash and short-term investments decreased by $21.9 million to $683.3 million at
April 30, 2002, down from $705.2 million at October 31, 2001. During the first
six months of fiscal 2002, cash and short-term investments decreased primarily
due to $18.6 million used for operating activities, $13.2 million for purchases
of fixed assets, and $13.4 million in net purchases of long-term investments and
other long-term investing activities, offset somewhat by $16.1 million cash
received from the sale of a building, and $7.2 million from the net issuance of
common stock. Included in the $18.6 million of cash used for operating
activities were approximately $60.0 million of cash payments made during the
first six months of fiscal 2002 related to fiscal 2001 and 2002 merger and
restructuring actions.
The Company's short-term investment portfolio is diversified among security
types, industry groups, and individual issuers. To achieve potentially higher
returns, a portion of the Company's investment portfolio is invested in equity
securities and mutual funds, which incur market risk. The Company's short-term
investment portfolio includes equity securities with gross unrealized gains of
$2.1 million and gross unrealized losses of $1.3 million as of April 30, 2002.
The Company monitors its investments and records losses when a decline in the
investment's market value is determined to be other than temporary.
The Company also invests excess cash in long-term investments through the Novell
Venture account, Cambridge Technology Capital Fund I L.P. ("CTC I"), Novell
Technology Capital Fund I, L.P. ("NTC I"), and strategic long-term equity
investments. Investments made through the Novell Venture account, CTC I, and NTC
I generally are in expansion-stage private companies, primarily small
capitalization stocks, in the high-technology industry sector. The Novell
Venture account funds are managed largely by external venture capitalists. CTC I
and NTC I are managed internally. The value of the investments made through the
Novell Venture account and CTC I are dependent on the performance, successful
acquisition, and/or initial public offering of the investees. The Company
monitors its investments and records losses when a decline in the investment's
market value is determined to be other than temporary.
The Company's principal source of liquidity has been from operations. At April
30, 2002, the Company's principal unused sources of liquidity consisted of cash
and short-term investments and available borrowing capacity of approximately
$8.3 million under its credit facilities. The Company's liquidity needs are
principally for the Company's financing of accounts receivable, capital assets,
strategic investments, product development and flexibility in a dynamic and
competitive operating environment.
During the first six months of fiscal 2002, the Company did not generate a
positive cash flow from operations, however it currently anticipates generating
positive cash flows from operations in the third and fourth quarters of fiscal
2002. The Company anticipates being able to fund its current operations, future
acquisitions, integration, restructuring and merger-related costs, and planned
capital expenditures for the foreseeable future with existing cash and
short-term investments together with internally generated funds. The Company
believes that borrowings under the Company's credit facilities or offerings of
equity or debt securities are possible if the need arises, although such
offerings may not be available to the Company on acceptable terms, given current
market conditions. Investments will continue in product development and in new
and existing areas of technology. Cash may also be used to acquire technology
through purchases and strategic acquisitions. Capital expenditures in fiscal
2002 are anticipated to be approximately $40 million, but could be reduced if
the growth of the Company is less than presently anticipated. The Company has
commitments to invest up to an additional $87.0 million in externally managed
venture capital funds and up to $15 million in internally managed venture
capital funds over the next two to three years.
On June 10, 2002, the Company announced that it had entered into a definitive
agreement to acquire SilverStream Software, Inc. at a purchase price of $9.00
per share. Assuming a closing of the acquisition in July 2002, with
approximately 23.6 million SilverStream shares projected to be outstanding at
the time of the closing, which projection includes estimated option exercises
prior to the closing date, the total cash acquisition price before acquisition
fees and expenses will be approximately $212 million. In the event of a July
closing, cash on SilverStream's balance sheet is expected to total approximately
$100 million, which would yield a net cash outlay by Novell of approximately
$112 million before acquisition fees and expenses.
During the fourth quarter of 2001, the Board of Directors extended the Company's
stock repurchase program through June 30, 2003 and authorized the use of up to
$500 million for the repurchase of additional outstanding shares of the
Company's common stock. As of April 30, 2002, $89 million of the authorized
amount had been spent to repurchase 14 million shares under this plan at an
average price of $6.19 per share. There were no shares repurchased during the
first six months of fiscal 2002.
Recent Pronouncements
In August 2001, the FASB issued SFAS No. 144, "Accounting for the Impairment or
Disposal of Long-Lived Assets." SFAS 144 addresses financial accounting and
reporting for the impairment of long-lived assets and for long-lived assets to
be disposed of. The provisions of SFAS 144 will be effective for fiscal year
2002 and will be applied prospectively. Adoption of SFAS 144 did not have a
material impact on the Company's consolidated financial position and results of
operations.
Risk Factors Affecting Future Results of Operations
The Company's future results of operations involve a number of risks and
uncertainties. Among the factors that could cause actual results to differ
materially from historical results or from the Company's expectations are the
following: business conditions and the general economy; competitive factors,
such as rival operating systems, directories and applications; acceptance of new
products and services and price pressures; availability of third-party
compatible products at below market prices; risk of nonpayment of accounts or
notes receivable; risks associated with foreign operations; risk of product line
or inventory obsolescence due to shifts in technologies or market demand; timing
of software product introductions; further declines in the demand for
information technology consulting services; risk of consulting clients
terminating or reducing the scope of engagements; market fluctuations of
investment securities; and litigation.
Other factors may also adversely affect the Company's financial results and
stock price, including but not limited to:
o competition for qualified employees;
o competition from other product and service companies;
o delays in the introduction of new products and services;
o success of new products, technologies or services;
o stock market fluctuations unrelated to Company performance;
o failure to properly estimate costs of fixed fee engagements;
o failure to properly manage consulting engagements within fixed-fees
agreed to by customers; and
o inability to fully utilize consultants on client engagements.
The Current Economic Climate and Outlook in the Technology and Information
Technology Services Sector Is Very Weak
The weakened economic climate, particularly in the technology sector, has had an
adverse effect on Novell's stock price and operations. Future economic
projections for this sector do not anticipate a quick recovery. A continuation
of the weakened economy could have further negative effects on the Company's
stock price and operations in the future.
Our Financial Results May Vary
The Company often experiences a higher volume of sales at the end of each
quarter and during the Company's fourth quarter. Because of this, fixed costs
that are out of line with sales levels may not be detected until late in any
given quarter and results of operations could be adversely affected.
Operating results have been, and may in the future be affected, by other factors
including, but not limited to:
o timing of orders from customers and shipments to customers;
o product mix, including a shift from higher margin to lower margin
products or services;
o delays or problems with our fulfillment agents;
o impact of foreign currency exchange rates on the price of our products
in international locations;
o inability to respond to the decline in sales through our distribution
channel;
o inability to derive benefits from our restructurings and new corporate
strategy;
o inability to deliver solutions as expected by our consulting customers;
and
o differences in estimates versus actual results.
We Compete in a Challenging Market for Computer Software and Consulting Services
Novell competes in a highly challenging market for computer software. One
pervasive factor underlying all of the Company's business endeavors is the
presence of Microsoft in all sectors of the software business, and Microsoft's
dominance in many of those sectors.
In a finding upheld by the Circuit Court for the District of Columbia, the
United States District Court found that Microsoft violated Section 2 of the
Sherman Act by unlawfully acting to maintain its monopoly over desktop operating
systems. The Company believes that Microsoft is exploiting its desktop operating
monopoly in a way that is designed to extend its market power into the market
for server operating systems, and to claim control of network and web services
such as authentication, using many of the same anti-competitive practices found
by the United States District Court to be in violation of the nation's antitrust
laws. The Company is concerned that the Second Revised Proposed Final Judgment
of the litigation between the Department of Justice and Microsoft will not
benefit competition or consumers in a meaningful way and, if approved, could
result in continued harm to the Company.
Additionally, the Company does not have the product breadth and market power of
Microsoft. Microsoft's ability to ship networking products with features and
functionality that compete with Novell's, together with its ability to offer
incentives to customers to purchase certain products in order to obtain
favorable sales terms or necessary compatibility or information with respect to
other products, may significantly inhibit Novell's ability to grow its business.
Microsoft has significant financial resources, which could allow it to
aggressively price its products and services for long periods of time to the
potential detriment of competitors. Microsoft in the past has also employed
tactics that limit or block effective and efficient interoperability with
Novell's products. Microsoft frequently bundles software features into its
operating system for free which compete directly with stand-alone products from
Novell. As Microsoft creates new operating systems and applications, there can
be no assurance that Novell will be able to ensure its products will be
compatible with those of Microsoft.
Although these market conditions and the judgments reached in litigation
concerning Microsoft may affect overall Novell performance, the Company believes
its strong product offering and "One Net" business strategy will be competitive
in the marketplace. Additionally, if the more meaningful relief being sought by
the nine litigating states is imposed on Microsoft, there could be a restoration
of competition in the marketplace that would benefit Novell.
The market for consulting services is highly competitive due to such factors as
the existence of several large consulting firms specializing in the information
systems area such as Hewlett-Packard Company, IBM, Accenture, Cap Gemini and the
three remaining consulting arms of the "Big Five" accounting firms. Many of
these companies have greater financial, technical and marketing resources and
greater name recognition in the consulting area, which could inhibit the
Company's ability to grow its consulting business.
Additionally, the Company may face competition from other industry companies,
which could introduce competitive products and/or services. If any of these
competing products or services achieves market acceptance, Novell's business and
results of operations could be materially adversely affected. Novell believes
that additional factors that affect success in the marketplace include technical
innovation to meet dynamic market needs, marketing strength, system performance,
customer service and support, reliability, ease of use, security, and price
compared to performance. Novell seeks to address all of these factors with its
marketing and product development. However, these factors are also addressed by
competitors, including Microsoft, in ways that may cause Novell's chances of
success to be diminished.
We Face Intense Competition for Qualified Personnel in the Computer and
Consulting Industries
The ability of the Company to maintain its competitive technological position
will depend, in large part, on its ability to attract and retain highly
qualified development, consulting, and managerial personnel. We compete for such
personnel in the software and consulting industries. The loss of a significant
group of key personnel would adversely affect the Company's performance. The
failure to successfully promote and hire suitable replacements in a timely
manner could have a material adverse effect on the Company's business.
We Depend on a Number of Key Executives Who Have Recently Joined Us and Whom We
May Not Be Able to Retain
Most members of our senior management have recently joined us. Many of these
individuals have not previously worked with one another, and it will take time
for the management team to become integrated and work effectively together. It
may also take time for these individuals to effect change within the
organizations that lie within their respective areas of responsibility. Due to
the competitive nature of our industry, we may not be able to retain all of our
senior managers.
Novell's Business May be Adversely Impacted by Acquisitions Which May Affect its
Ability to Manage and Maintain its Business.
Since Novell's inception, it has acquired a number of businesses, including
Cambridge Technology Partners. In the future, Novell may undertake additional
acquisitions of businesses that complement its existing operations. For example,
Novell recently announced that it had entered into a definitive agreement to
acquire SilverStream Software, Inc. The transaction is expected to close in July
2002 and is subject to certain customary closing conditions, including the
receipt of all necessary government approvals and the tender, without withdrawal
prior to the expiration of the tender offer, of at least a majority of
SilverStream's outstanding shares of common stock on a fully-diluted basis. Such
past or future acquisitions by Novell could involve a number of risks,
including:
o the possibility that one or more such acquisitions may not close due to
closing conditions in the acquisition agreements, the inability to
obtain regulatory approval, or the inability to meet conditions imposed
for government or court approvals for the transaction;
o the diversion of the attention of management and other key personnel;
o the inability to effectively integrate an acquired business into
Novell's culture, product and service delivery methodology and other
standards, controls, procedures and policies;
o the inability to retain the management, key personnel and other
employees of an acquired business;
o the inability to retain the customers of an acquired business;
o the possibility that Novell's reputation will be affected by customer
satisfaction problems of an acquired business;
o potential known or unknown liabilities associated with an acquired
business, including but not limited to regulatory, environmental and
tax liabilities;
o the write down of acquired identifiable intangibles, which may
adversely affect Novell's reported results of operations; and
o litigation which has or which may arise in the future in connection
with such acquisitions.
We Have Experienced Delays in the Introduction and Acceptance of New Products
and Solutions Due to Various Factors
As is common in the computer software industry, Novell has in the past
experienced delays in the introduction of new products due to a number of
factors, including the complexity of software products, the need for extensive
testing of software to ensure compatibility of new releases with a wide variety
of application software and hardware devices, and the need to "debug" products
prior to extensive distribution. Novell could, in the future, experience the
same difficulties in introducing new solutions. Significant delays in
developing, completing or shipping new or enhanced products and solutions would
adversely affect the Company.
Moreover, the Company may experience delays in market acceptance of new releases
of its products and solutions as the Company engages in marketing and education
of the user base regarding the advantages and system requirements for new
products and solutions, and as customers evaluate the advantages and
disadvantages of upgrading. The Company has encountered these issues on each
major new release of its products, and expects that it will encounter such
issues in the future. Novell's ability to achieve desired levels of sales growth
depends at least in part on the successful completion, introduction and sale of
new versions of its products and sales of its solutions. There can be no
assurance that the Company will be able to respond effectively to technological
changes or new product announcements by others, or that the Company's research
and development efforts will be successful. Should Novell experience material
delays or sales shortfalls with respect to new product or solutions releases,
the Company's sales and net income could be adversely affected.
If Third Parties Claim that We Infringed Upon Their Intellectual Property, Our
Ability to Use Some Technologies and Products Could Be Limited and We May Incur
Significant Costs to Resolve these Claims
Litigation regarding intellectual property rights is common in the Internet and
software industries. Novell expects third-party infringement claims involving
Internet technologies and software products and services to increase. If an
infringement claim is filed against Novell, it may be prevented from using some
technologies and may incur significant costs to resolve the claim.
Novell has in the past received letters suggesting that it is infringing upon
the intellectual rights of others, and it may from time to time encounter
disputes over rights and obligations concerning intellectual property. Novell's
products and services may be found to infringe on the intellectual property
rights of third parties.
In addition, Novell has agreed, and may agree in the future, to indemnify
customers against claims that its products infringe upon the intellectual
property rights of others. Novell could incur substantial costs in defending
itself and its customers against infringement claims. In the event of a claim of
infringement, Novell and its customers may be required to obtain one or more
licenses from third parties. In such instances, Novell or its customers may not
be able to obtain necessary licenses from third parties at a reasonable cost or
at all.
We May Not Be Able to Protect Our Confidential Information, Which May Adversely
Affect Our Business
The Company generally enters into contractual relationships with its employees
that protect its confidential information. In the event that the Company's trade
secrets or other proprietary information are misappropriated, the Company's
business could be seriously harmed. In addition, the Company may not be able to
timely detect unauthorized use of its intellectual property and take appropriate
steps to enforce its rights. In the event the Company is unable to enforce these
contractual obligations, its business could be adversely affected.
We May Not Be Successful at Introducing New Technologies
One goal of the Company is to achieve widespread acceptance and adoption of
Novell's Net Services and e-solutions products, Directory Services ("NDS"), and
the products and applications that take advantage of directory services. The
Company's ability to achieve success with its Net Services and NDS solutions is
dependent on a number of factors including, but not limited to, the following:
development of key Net Services and directory products and upgrades, the
acceptance of those products by large industry partners, the marketing of those
products through appropriate channels of distribution, and the acceptance of
those products in major accounts. The Company has only had limited success in
introducing new technologies and there can be no assurance of success with Net
Services or NDS solutions.
Our Existing Product Sales May Deteriorate More Rapidly Than Sales of Our New
Products Increase
The Company has several existing products, which it has been selling and
upgrading for many years. Technology shifts or competition could occur causing
sales of these products to decline at a faster rate than the Company is able to
increase sales of new products or technologies. Sales from Net Management
Services decreased during the first six months of fiscal 2002 by 16.9%,
resulting in overall declines in net product sales by 12.8% in the first six
months of fiscal 2002 compared to the same period of fiscal 2001.
We Face Increased Risks in Conducting a Global Business, Which May Damage
Business Results
Novell is a multi-national corporation with offices and subsidiaries around the
world and, as such, it faces risks in doing business abroad that it does not
face domestically. Certain aspects inherent in transacting business
internationally could negatively impact the operating results of the Company,
including:
o costs and difficulties in staffing and managing international
operations;
o unexpected changes in regulatory requirements;
o tariffs and other trade barriers;
o difficulties in enforcing contractual and intellectual property rights;
o longer payment cycles;
o local political, social and economic conditions;
o potentially adverse tax consequences, including restrictions on
repatriating earnings and the threat of "double taxation"; and
o fluctuations in currency exchange rates.
Some of Our Short-term, Long-term, and Venture Capital Fund Investments Have
Become Impaired. Additional Investments Could Become Impaired
Novell's investment portfolio includes investments in public and private equity
securities, small capitalization stocks in the high-technology industry sector,
and funds managed by venture capitalists. Many of these investments have lost a
significant portion of their value at least on a short-term basis, and possibly
on a permanent basis. Additional investments may also lose value. During the
first half of fiscal 2002, Novell recorded an impairment charge of $29.8 million
related to some of the long-term investments in its portfolio whose market value
had experienced an other-than-temporary decline. As of April 30, 2002, the
Company had net unrealized gains on investments of approximately $1.0 million,
net of taxes. However, there can be no assurances that these gains will be
realized and that losses will not occur.
Our Existing Relationships With Other Information Technology Services
Organizations May Be Impaired
Novell relies on existing relationships with information technology services
organizations that recommend, design and implement solutions for their customers
that include Novell Net services products. A change in the willingness of these
information technology service organizations to do business with Novell could
undercut Novell's efforts to become a solutions-based Net services software
company.
Our Business May Be Negatively Affected if We Do Not Continue to Adapt to Rapid
Technological Change, Evolving Business Practices and Changing Consumer
Requirements
The software industry and Internet professional services market is characterized
by rapidly changing technology, evolving business practices and changing client
needs. Accordingly, Novell's future success will depend in part on its
ability to continue to adapt and meet these challenges. Among the most important
challenges facing the Company are the need to continue to:
o effectively identify and use leading technologies;
o develop strategic and technical expertise;
o influence and respond to emerging industry standards and other
technology changes and to orient management teams to capitalize on
these changes;
o recruit and retain qualified project personnel;
o enhance current services;
o develop new services that meet changing customer needs; and
o effectively advertise and market services.
Our Services Contracts Contain Pricing Risks
Novell's Cambridge IT services business derives a significant portion of its
sales from fixed-price, fixed-time contracts. Because of the complex nature of
the services provided, it is sometimes difficult to accurately estimate the
cost, scope and duration of particular client engagements. If the Company does
not accurately estimate the resources required for a project, does not
accurately assess the scope of work associated with a project, does not manage
the project properly, or does not satisfy its obligations in a manner consistent
with the contract, then the Company's costs to complete the project could
increase substantially. The Company has occasionally had to commit unanticipated
additional resources to complete projects, and it may have to take similar
action in the future. The Company may not be compensated for these additional
costs or the commitment of these additional resources.
Our Cambridge IT Services Clients Can Cancel or Reduce the Scope of Their
Engagements With Us on Short Notice
If the Company's clients cancel or reduce the scope of an engagement with the
Cambridge IT services business, the Company may be unable to reassign its
professionals to new engagements without delay. Personnel and related costs
constitute a substantial portion of the Company's operating expenses. Because
these expenses are relatively fixed, and because the Company establishes the
levels of these expenses well in advance of any particular quarter,
cancellations or reductions in the scope of client engagements could result in
the under-utilization of the Company's professional services employees, causing
significant reductions in operating results for a particular quarter.
Our Stock Price Will Fluctuate
The Company's future financial results and stock price could be subject to
significant volatility, particularly on a quarterly basis. Due to analysts'
expectations of continued growth, any shortfall in earnings can be expected to
have an immediate and significant adverse effect on the trading price of
Novell's Common Stock in any given period. Sales fluctuations may also
contribute to the volatility of the trading price of Novell Common Stock in any
given period.
In addition, the market prices for securities of software companies have been
very volatile both recently and historically. The market price of Novell Common
Stock, in particular, has been subject to wide fluctuations in the past. As a
result of the foregoing factors and other factors that may arise in the future,
the market price of Novell's Common Stock may be subject to significant
fluctuations within a short period of time. These fluctuations may be due to
factors specific to the Company, to changes in analysts' earnings estimates, or
to factors affecting the computer industry or the securities markets in general.
Item 3. Qualitative and Quantitative Disclosures About Market Risk
The Company is exposed to financial market risks, including changes in interest
rates, foreign currency exchange rates and marketable equity security prices. To
mitigate some of these risks, the Company utilizes currency forward contracts
and currency options. The Company does not use derivative financial instruments
for speculative or trading purposes, and no derivative financial instruments
were outstanding at April 30, 2002.
Interest Rate Risk
The primary objective of the Company's investment activities is to preserve
principal while maximizing yields without significantly increasing risk. This is
accomplished by investing in widely diversified short-term investments,
consisting primarily of investment grade securities, substantially all of which
either mature within the next 12 months or have characteristics of short-term
investments. A hypothetical 50 basis point increase in interest rates would
result in an approximate $0.7 million decrease (less than 0.5%) in the fair
value of the Company's available-for-sale securities.
Market Risk
The Company also holds available-for-sale equity securities in its short-term
investment portfolio. As of April 30, 2002, unrealized losses, before tax
effect, on short-term public equity securities totaled $0.6 million. A 10%
adverse change in prices of these short-term equity securities would result in
an approximate $0.9 million decrease in the fair value of the Company's
short-term investments.
In addition, the Company invests in equity securities, included in its long-term
portfolio of investments, for the promotion of business and strategic
objectives. These investments are generally in small capitalization stocks in
the high-technology industry sector, both public and private. Because of the
nature of these investments, the Company is exposed to equity price risks. The
Company typically does not attempt to reduce or eliminate its market exposure on
these securities. A 10% adverse change in equity prices of long-term equity
securities would result in an approximately $9 million decrease in the fair
value of the Company's available-for-sale long-term securities.
Foreign Currency Risk
The Company uses forward contracts to hedge those net assets and liabilities
that, when remeasured according to accounting principles generally accepted in
the United States of America, impact the condensed consolidated statement of
operations. All forward contracts entered into by the Company are components of
hedging programs and are entered into for the sole purpose of hedging an
existing or anticipated currency exposure, not for speculation or trading
purposes. Gains and losses on these foreign currency investments would generally
be offset by corresponding losses and gains on the related hedging instruments,
resulting in negligible net exposure to the Company. A large portion of the
Company's sales, expense and capital purchasing activities are transacted in
U.S. dollars. However, the Company does enter into transactions in other
currencies, primarily European, Japanese yen and certain other Latin American
and Asian currencies. To protect against reductions in value caused by changes
in foreign exchange rates, the Company has established balance sheet hedging
programs. Currency forward contracts are utilized in these hedging programs.
When hedging balance sheet exposure, all gains and losses on forward contracts
are recognized in other income and expense in the same period as the gains and
losses on remeasurement of the foreign currency denominated assets and
liabilities occur. All gains and losses related to foreign exchange contracts
are included in cash flows from operating activities in the condensed
consolidated statement of cash flows. The Company's hedging programs reduce, but
do not always entirely eliminate, the impact of foreign currency exchange rate
movements. If the Company did not hedge against foreign currency exchange rate
movement, an adverse change of 10% in exchange rates would result in a decline
in income before taxes of approximately $8 million.
All of the potential changes noted above are based on sensitivity analyses
performed on the Company's financial position at April 30, 2002. Actual results
may differ materially.
Part II. Other Information
Except as listed below, all information required by items in Part II is omitted
because the items are inapplicable or the answer is negative.
Item 1. Legal Proceedings.
The information required by this item is incorporated herein by reference to
Footnote H of the Company's financial statements contained in Part I, Item 1 of
this Form 10-Q.
Item 4. Submission of Matters to a Vote of Security Holders
The Company held its Annual Meeting of Stockholders on April 17, 2002 for the
following purposes:
1. To elect seven directors.
2. To ratify the appointment of Ernst & Young LLP, as independent auditors
for Novell, Inc.
3. To consider a Stockholder Proposal to amend the by-laws.
The following tables set forth the outcome of the matters voted upon at the
meeting:
Proposal #1
Election of Directors
Votes For Votes Withheld
Jack L. Messman 306,304,419 9,716,431
Elaine H Bond 308,765,633 7,255,217
Richard L. Nolan 308,939,868 7,080,982
John W. Puduska, Sr. 310,642,017 5,378,833
James D. Robinson, III 307,316,083 8,704,767
Larry W. Sonsini 307,199,098 8,821,752
Carl J. Yankowski 308,558,250 7,462,600
Proposal #2
To ratify the appointment of Ernst & Young LLP, as independent auditors for
Novell, Inc.
Votes For Votes Against Votes Abstained Broker Non-votes
308,617,076 5,962,835 1,440,939 --
Proposal #3
To consider a Stockholder Proposal to amend the by-laws.
Votes For Votes Against Votes Abstained Broker Non-votes
52,042,753 144,633,932 4,130,836 161,828,422
Item 6. Exhibits and Reports on Form 8-K.
(a) Exhibits
Exhibit
Number Description
10.1 Key Employment Agreement dated as of January 30, 2002 between
Novell, Inc. and Chris Stone.
(b) Reports on Form 8-K.
Notice of Novell's scheduled report of fourth quarter results and related
conference call to be held on February 28, 2002, as filed February 5, 2002
under Item 5.
Notice of the departure of an executive officer of Novell and the
appointment of a new executive officer of Novell, as filed February 26, 2002
under Item 5.
Agreement and Plan of Merger dated as of June 9, 2002 by and among Novell,
Delaware Planet Inc., a Delaware corporation and a wholly-owned subsidiary
of Novell and SilverStream Software, Inc., a Delaware corporation, as filed
June 10, 2002 under Item 5.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
Novell, Inc.
(Registrant)
Date: June 14, 2002 /s/ Ronald C. Foster
--------------------
Ronald C. Foster
Chief Financial Officer
(Principal Financial Officer and
Principal Accounting Officer)