SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 Form 10-Q (X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended June 28, 1997 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 0-20109 ------------------------------------------------ Kronos Incorporated - -------------------------------------------------------------------------------- (Exact name of registrant as specified in its charter) Massachusetts 04-2640942 - ---------------------------------------- ---------------------------------- (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 400 Fifth Avenue, Waltham, MA 02154 - -------------------------------------------------------------------------------- (Address of principal executive offices) (Zip Code) (617) 890-3232 - -------------------------------------------------------------------------------- (Registrant's telephone number, including area code) - -------------------------------------------------------------------------------- (Former name, former address and former fiscal year, if changed since last report) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No --------- --------- As of June 30, 1997, 8,238,118 shares of the registrant's Common Stock, $.01 par value, were outstanding. KRONOS INCORPORATED INDEX PART I. FINANCIAL INFORMATION Page Item 1. Condensed Consolidated Financial Statements (Unaudited) Condensed Consolidated Statements of Income for the Three Months and Nine Months Ended June 28, 1997 and June 29, 1996 1 Condensed Consolidated Balance Sheets at June 28, 1997 and September 30, 1996 2 Condensed Consolidated Statements of Cash Flows for the Nine Months Ended June 28, 1997 and June 29, 1996 3 Notes to Condensed Consolidated Financial Statements 4 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 6 PART II.OTHER INFORMATION Item 6. Exhibits and Reports on Form 8-K Signatures Exhibit Index PART I. FINANCIAL INFORMATION Item 1. Condensed Consolidated Financial Statements (Unaudited) KRONOS INCORPORATED CONDENSED CONSOLIDATED STATEMENTS OF INCOME (In thousands, except share and per share amounts) UNAUDITED Three Months Ended Nine Months Ended ------------------------- -------------------------- June 28, June 29, June 28, June 29, 1997 1996 1997 1996 ----------- ----------- ----------- ----------- Net revenues: Product ........................................... $ 29,106 $ 25,018 $ 80,945 $ 70,792 Service ........................................... 14,193 11,232 38,867 30,027 ----------- ----------- ----------- ----------- 43,299 36,250 119,812 100,819 Cost of sales: Product ........................................... 7,964 6,595 21,420 18,897 Service ........................................... 9,080 7,229 25,532 20,566 ----------- ----------- ----------- ----------- 17,044 13,824 46,952 39,463 ----------- ----------- ----------- ----------- Gross profit ................................. 26,255 22,426 72,860 61,356 Expenses: Sales and marketing ............................... 15,450 11,896 42,709 33,133 Engineering, research and development ............. 3,790 3,197 11,581 8,699 General and administrative ........................ 2,905 2,572 8,158 7,330 Other (income) expense, net ....................... 10 (28) (102) 85 ----------- ----------- ----------- ----------- 22,155 17,637 62,346 49,247 ----------- ----------- ----------- ----------- Income before income taxes ................... 4,100 4,789 10,514 12,109 Provision for income taxes ............................. 1,567 1,835 4,016 4,639 ----------- ----------- ----------- ----------- Net income ................................... $ 2,533 $ 2,954 $ 6,498 $ 7,470 =========== =========== =========== =========== Net income per common share: Primary and fully diluted ......................... $ 0.30 $ 0.35 $ 0.77 $ 0.90 Average common and common equivalent shares outstanding: Primary ...................................... 8,400,771 8,351,419 8,403,917 8,317,527 =========== =========== =========== =========== Fully diluted ................................ 8,400,787 8,380,359 8,412,587 8,332,036 =========== =========== =========== =========== See accompanying notes to condensed consolidated financial statements. 1 CONDENSED CONSOLIDATED BALANCE SHEETS (In thousands, except share and per share amounts) UNAUDITED June 28, September 30, 1997 1996 --------- --------- ASSETS Current assets: Cash and equivalents .................................................... $ 15,235 $ 10,795 Marketable securities ................................................... 20,025 21,995 Accounts receivable, less allowances for doubtful accounts of $944 at June 28, 1997 and $987 at September 30, 1996 ...................... 32,585 30,622 Inventories ............................................................. 5,366 4,149 Deferred income taxes ................................................... 3,025 3,025 Other current assets .................................................... 5,812 3,765 --------- --------- Total current assets ............................................. 82,048 74,351 Equipment, net ............................................................. 17,643 14,738 Excess of cost over net assets of businesses acquired ...................... 7,985 7,221 Other assets ............................................................... 10,887 8,556 --------- --------- Total assets ..................................................... $ 118,563 $ 104,866 ========= ========= LIABILITIES AND SHAREHOLDERS' EQUITY Current liabilities: Accounts payable and accrued expenses ................................... $ 14,291 $ 11,894 Accrued compensation .................................................... 9,028 8,445 Federal and state income taxes payable .................................. 1,447 1,367 Unearned service revenue ................................................ 19,636 16,388 --------- --------- Total current liabilities ........................................ 44,402 38,094 Deferred income taxes ...................................................... 2,236 2,236 Unearned service revenue ................................................... 2,865 2,802 Other liabilities .......................................................... 548 636 Shareholders' equity: Preferred Stock, par value $1.00 per share: authorized 1,000,000 shares, no shares issued and outstanding Common Stock, par value $.01 per share: authorized 12,000,000 shares, 8,215,181 shares and 8,124,133 shares issued at June 28, 1997 and September 30, 1996, respectively ..................................... 82 81 Additional paid-in capital .............................................. 28,435 27,512 Retained earnings ....................................................... 40,272 33,773 Equity adjustment from translation ...................................... (277) (251) Cost of Treasury Stock (0 shares and 583 shares at June 28, 1997 and September 30, 1996, respectively) ........ -- (17) --------- --------- Total shareholders' equity ....................................... 68,512 61,098 --------- --------- Total liabilities and shareholders' equity ....................... $ 118,563 $ 104,866 ========= ========= See accompanying notes to condensed consolidated financial statements. 2 KRONOS INCORPORATED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (In thousands) UNAUDITED Nine Months Ended -------------------- June 28, June 29, 1997 1996 -------- -------- Operating activities: Net income ............................................................ $ 6,498 $ 7,470 Adjustments to reconcile net income to net cash and equivalents provided by operating activities: Depreciation .................................................. 4,636 3,392 Amortization of deferred software development costs and excess of cost over net assets of businesses acquired ...... 3,401 2,400 Changes in certain operating assets and liabilities: Accounts receivable, net ................................... (1,942) 1,752 Inventories ................................................ (1,210) (265) Unearned service revenue ................................... 3,332 3,720 Accounts payable, accrued compensation and other liabilities ................................... 2,821 4,189 Net investment in sales-type leases ........................ (2,991) (2,806) Other ......................................................... (381) (795) -------- -------- Net cash and equivalents provided by operating activities 14,164 19,057 Investing activities: Purchase of equipment ................................................. (7,534) (7,220) Capitalization of software development costs .......................... (3,877) (2,703) (Increase) decrease in marketable securities .......................... 1,970 (12,793) Acquisitions of businsesses ........................................... (1,276) (727) Other ................................................................. (7) (217) -------- -------- Net cash and equivalents used in investing activities ... (10,724) (23,660) Financing activities: Net proceeds from exercise of stock option and employee stock purchase plans ..................................................... 996 1,027 Other ................................................................. -- (22) -------- -------- Net cash and equivalents provided by financing activities 996 1,005 Effect of exchange rate changes on cash and equivalents .................... 4 (24) -------- -------- Increase (decrease) in cash and equivalents ................................ 4,440 (3,622) Cash and equivalents at the beginning of the period ........................ 10,795 14,727 -------- -------- Cash and equivalents at the end of the period .............................. $ 15,235 $ 11,105 ======== ======== See accompanying notes to condensed consolidated financial statements. 3 KRONOS INCORPORATED NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) NOTE A - General The accompanying unaudited condensed consolidated financial statements include all adjustments, consisting of normal recurring accruals, that management considers necessary for a fair presentation of the Company's financial position and results of operations as of and for the interim periods presented pursuant to the rules and regulations of the Securities and Exchange Commission. Certain footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to such rules and regulations, although the Company believes the disclosures in these financial statements are adequate to make the information presented not misleading. These condensed consolidated financial statements should be read in conjunction with the Company's audited financial statements for the fiscal year ended September 30, 1996. The results of operations for the three and nine month periods ended June 28, 1997 and June 29, 1996 are not necessarily indicative of the results for a full fiscal year. Certain amounts have been reclassified in fiscal 1996 to permit comparison with fiscal 1997. NOTE B - Fiscal Quarters The Company utilizes a system of fiscal quarters. Under this system, the first three quarters of each fiscal year end on a Saturday. However, the fourth quarter of each fiscal year will always end on September 30. Because of this, the number of days in the first and fourth quarters of each fiscal year may vary slightly from year to year. The second and third quarters of each fiscal year will be exactly thirteen weeks long. This policy does not have a material effect on the comparability of results of operations between quarters. NOTE C - Inventories Inventories consist of the following (in thousands): June 28, September 30, 1997 1996 ------------------- ------------------- Finished goods $3,158 $2,148 Work - in - process 437 283 Raw materials 1,770 1,718 ------------------- ------------------- $5,366 $4,149 =================== =================== 4 NOTE D - Financial Accounting Standards Board Statement No. 128, Earnings per Share In February 1997, the Financial Accounting Standards Board issued Statement No. 128, Earnings per Share, which is required to be adopted in the first quarter of fiscal 1998. At that time, the Company will be required to change the method currently used to compute earnings per share and to restate all prior periods. Under the new requirements for calculating basic earnings per share, the dilutive effect of stock options will be excluded. The impact is expected to result in an increase in basic earnings per share of approximately $.01 per share and $.02 per share for the three month periods ended June 28, 1997 and June 29, 1996, respectively, and approximately $.02 per share and $.03 per share for the nine month periods ended June 28, 1997 and June 29, 1996, respectively. The impact of Statement 128 on the calculation of diluted earnings per share for these quarters is not expected to be material. 5 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Results of Operations Revenues. Revenues for the third quarter of fiscal 1997 amounted to $43.3 million as compared with $36.3 million for the third quarter of the prior year. Revenues for the first nine months of fiscal 1997 were $119.8 million as compared with $100.8 million for the first nine months of the prior year. Revenue growth of 19% in the three and nine month periods ended June 28, 1997, respectively, increased from 17% for each of the comparable periods of the prior year. The growth in revenues in the three and nine month periods ended June 28, 1997 was principally driven by customer demand. The Company is continuing its transition of its core products from DOS and UNIX platforms to the Windows and client/server environments and anticipates that revenue growth for fiscal year 1997 will approximate the growth rate experienced in fiscal year 1996. Revenue growth in the fourth quarter of fiscal 1997 will depend in part on the commercial success of the Company's Windows and client/server versions of its time and attendance products as well as its continued penetration into the international and government and education markets. Product revenues for the third quarter of fiscal 1997 amounted to $29.1 million as compared with $25.0 million for the third quarter of the prior year. Product revenues for the first nine months of fiscal 1997 were $80.9 million as compared with $70.8 million for the first nine months of the prior year. Product revenue growth of 16% and 14% in the three and nine month periods ended June 28, 1997, respectively, increased from 10% and 12% for comparable periods of the prior year. The increase in revenue growth rate in the third quarter is partially attributable to the unusually low growth rate experienced in the third quarter of fiscal 1996. The Company continued to invest in its corporate marketing and international organizations during the quarter. Sales to the international markets represented approximately 11% of total sales for the quarter as compared to approximately 5% in the third quarter of fiscal 1996. Sales to international markets may vary from quarter to quarter as the Company transitions to its client/server product and invests by building the infrastructure necessary to support future growth. Service revenues for the third quarter of fiscal 1997 increased 26% to $14.2 million from $11.2 million for the third quarter of the prior year. Service revenues for the first nine months of fiscal 1997 increased 29% to $38.9 million from $30.0 million for the first nine months of the prior year. The growth in service revenues in the three and nine month periods ended June 28, 1997 reflects an increase in maintenance revenue from expansion of the installed base. The Company also continued its efforts to increase revenue arising from maintenance and professional services. This effort has led to an increase in the level of maintenance contracts and professional services accompanying new sales as well as services sold to existing customers. 6 Gross Profit. Gross profit as a percentage of revenues was 61% in the three and nine month periods ended June 28, 1997 as compared with 62% and 61%, respectively, in the comparable periods of the prior year. Product gross profit as a percentage of revenues was 73% in the third quarter of fiscal 1997 as compared with 74% in the third quarter of the prior year. Product gross profit was negatively impacted by purchase discounts granted to one of the Company's larger customers. Excluding this transaction, product gross margin in the third quarter of fiscal 1997 would have been 75% which is in the high end of the 73% to 75% range experienced during fiscal 1997. Product gross profit increased slightly to 74% in the first nine months of fiscal 1997 from 73% in the first nine months of the prior year. The increase is primarily attributable to the mix of revenues including a higher proportion of sales from its direct sales force than in the prior year. Revenues from the direct sales force typically generate a higher gross profit than other distribution channels, and as a result, have a favorable impact on product gross margin. Service gross profit as a percentage of revenues was 36% in the third quarter of fiscal 1997, consistent with the prior year. Service gross profit increased to 34% for the first nine months of fiscal 1997 from 32% in the first nine months of the prior year. The increase in service gross profit in the nine month period ended June 28, 1997 is primarily attributable to growth in service revenues without a proportionate increase in service expenses. The Company has continued to realize the benefits of its service revenue enhancement programs, as well as improved efficiency in the delivery of services. Expenses. Total operating expenses as a percentage of revenues were 51% and 52% for the three and nine month periods ended June 28, 1997, respectively, as compared to 49% for each of the comparable periods in the prior year. The increase in expenses as a percentage of revenues in the third quarter results from increased spending in the Company's international operations and corporate marketing organization. The increase in expenses as a percentage of revenues in the nine month period ended June 28, 1997 is the result of the same factors as for the quarter, as well as investments in the engineering organization. Sales and marketing expenses as a percentage of revenues increased to 36% in the three and nine month periods ended June 28, 1997 from 33% in the comparable periods of the prior year. The increase in sales and marketing expenses as a percentage of revenues is a result of the Company's investment in its international sales organization, including providing corporate support resources and investing in its direct subsidiary operations, as well as increased spending in its corporate marketing organization. The Company believes such spending is necessary to penetrate international and specific industry markets successfully. Engineering, research and development expenses as a percentage of revenues were 9% in the three month period ended June 28, 1997, consistent with the same period in the prior year. Engineering, research and development expenses as a percentage of revenues were 10% in the nine month period ended 7 June 28, 1997 as compared with 9% in the comparable period of the prior year. The growth in engineering, research and development expenses as a percentage of revenues in the nine month period ended June 28, 1997 results from the development of new products primarily in the Windows and client/server environments. Expenses of $3.8 million and $3.2 million in the third quarter of fiscal 1997 and 1996 are net of capitalized software development costs of $1.3 million and $1.2 million, respectively. Expenses of $11.6 million and $8.7 million in the first nine months of fiscal 1997 and 1996 are net of capitalized software development costs of $3.9 million and $2.7 million, respectively. The growth in spending on capitalized software development costs principally reflects enhancements of products released in the past year. General and administrative expenses as a percentage of revenues amounted to 7% for all periods presented. Other (income) expense amounted to less than 1% for all periods presented. Other (income) expense is composed primarily of amortization of intangible assets related to acquisitions made by the Company which is offset by interest income earned on its investments. Income Taxes. The provision for income taxes as a percentage of pretax income was 38% for all periods presented The Company's effective income tax rate may fluctuate between periods as a result of various factors, none of which is material, either individually or in aggregate, to the consolidated results of operations. Liquidity and Capital Resources Working capital as of June 28, 1997, amounted to $37.6 million as compared with $36.3 million at September 30, 1996. As of those dates, cash and equivalents and marketable securities amounted to $35.3 million and $32.8 million, respectively. Cash generated from operations decreased to $14.2 million in the first nine months of fiscal 1997 from $19.1 million in the first nine months of the prior year. The decrease in cash generated from operations is principally due to changes in working capital items, primarily increases in inventories and accounts receivable and a reduction in income tax related obligations. The Company's investment in equipment in the first nine months of fiscal 1997 was comparable to its investment in the first nine months of the prior year. Cash generated from operations, together with the Company's other financial resources, was sufficient to fund investments in equipment and capitalized software development costs. The Company expects to fund its investments in equipment and software development costs in the fourth quarter of fiscal 1997 with existing cash and equivalents together with internally generated cash. The Company also has an informal $3.0 million credit facility in which the bank may offer credit to the Company at the bank's discretion. No amounts were outstanding under the credit facility as of June 28, 1997. 8 Certain Factors That May Affect Future Operating Results The Company's actual operating results may differ from those indicated by forward looking statements made in this Quarterly Report on Form 10-Q and presented elsewhere by management from time to time because of a number of factors, including the potential fluctuations in quarterly results, timing of new product announcements or introductions by the Company and its competitors, competitive pricing pressures, the ability to attract and retain sufficient technical personnel, the dependence on alternate distribution channels, and the dependence on the Company's time and attendance product line and on key vendors, as further described below and in the Company's Annual Report on Form 10-K for the fiscal year ended September 30, 1996, which factors are specifically incorporated by reference herein. Potential Fluctuations in Quarterly Results. The Company's quarterly operating results may fluctuate as a result of a variety of factors, including the timing of the introduction of new products and product enhancements by the Company and its competitors, market acceptance of new products, mix of products sold, the purchasing patterns of its customers, competitive pricing pressure and general economic conditions. The Company historically has realized a relatively larger percentage of its annual revenues and profits in the fourth quarter and a relatively smaller percentage in the first quarter of each fiscal year, although there can be no assurance that this pattern will continue. In addition, while the Company has contracts to supply systems to certain customers over an extended period of time, substantially all of the Company's product revenue and profits in each quarter result from orders received in that quarter. If near-term demand for the Company's products weakens or if significant anticipated sales in any quarter do not close when expected, the Company's revenues for that quarter will be adversely affected. The Company believes that its operating results for any one quarter are not necessarily indicative of results for any future period. Product Development and Technological Change. The markets for time and attendance and data collection systems are characterized by continual change and improvement in computer software and hardware technology. The Company's future success will depend largely on its ability to enhance its existing product lines and to develop new products and interfaces to third party products on a timely basis for the increasingly sophisticated needs of its customers. Although the Company is continually seeking to further enhance its product offerings and to develop new products and interfaces, there can be no assurance that these efforts will succeed, or that, if successful, such product enhancements or new products will achieve widespread market acceptance, or that the Company's competitors will not develop and market products which are superior to the Company's products or achieve greater market acceptance. The Company is transitioning its product offerings from DOS and Unix platforms to the Windows and client/server environments. The Company's revenue growth and results of operations in fiscal 1997 will depend in part on the success of this product transition. 9 Competition. The time and attendance and data collection industries are highly competitive. Competition is increasing as competitors in related industries, such as human resources and payroll, enter the market. Advances in software development tools have accelerated the software development process and, therefore, can allow competitors to penetrate certain of the Company's markets. Maintaining the Company's technological and other advantages over competitors will require continued investment by the Company in research and development and marketing and sales programs. There can be no assurance that the Company will have sufficient resources to make such investments or be able to achieve the technological advances necessary to maintain its competitive advantages. Increased competition could adversely affect the Company's operating results through price reductions and/or loss of market share. 10 PART II. OTHER INFORMATION Item 6. Exhibits and Reports on Form 8-K (a) Exhibits 11 Statement re: Computation of Per Share Earnings 27 Financial Data Schedule (b) Reports on Form 8-K There were no reports on Form 8-K filed during the fiscal quarter ended June 28, 1997. 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. KRONOS INCORPORATED By /s/ Paul A. Lacy Paul A. Lacy Vice President of Finance and Administration (Duly Authorized Officer and Principal Financial Officer) August 11, 1997 KRONOS INCORPORATED EXHIBIT INDEX Exhibit Number Description 11 Statement re: Computation of Per Share Earnings 27 Financial Data Schedule