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UNITED STATES
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: September 30, 1999
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: 0-27752
ANALOGY, INC.
(Exact name of registrant as specified in its charter)
OREGON 93-0892014
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
9205 SW GEMINI DRIVE
BEAVERTON, OREGON 97008
(Address of principal executive offices and zip code)
503-626-9700
(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 [ ]
COMMON STOCK, NO PAR VALUE 9,631,911
(Class) (Shares outstanding at November 2, 1999)
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ANALOGY, INC.
FORM 10-Q
INDEX
PART I - FINANCIAL INFORMATION PAGE
- ------------------------------ ----
Item 1. Financial Statements:
Consolidated Balance Sheets - September 30, 1999
and March 31, 1999.........................................................................................2
Consolidated Statements of Operations - Three Months and Six Months
ended September 30, 1999 and 1998..........................................................................3
Consolidated Statements of Cash Flows - Six Months
ended September 30, 1999 and 1998..........................................................................4
Notes to Consolidated Financial Statements.................................................................5
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations...................................................................7
Item 3. Quantitative and Qualitative Disclosure About Market Risk........................................15
PART II - OTHER INFORMATION
- ---------------------------
Item 6. Exhibits and Reports on Form 8-K.................................................................16
1
PART I - FINANCIAL INFORMATION
------------------------------
ANALOGY, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In thousands)
September 30, March 31,
1999 1999
------------- --------------
(Unaudited)
Assets
Current assets:
Cash and cash equivalents $ 869 $ 2,008
Accounts receivable 5,415 6,738
Prepaid expenses 1,170 1,033
Other assets, net 2,105 2,271
----------- ----------
Total current assets 9,559 12,050
Furniture, fixtures and equipment, net of accumulated
depreciation and amortization of $11,072 and $10,263
at September 30, 1999 and March 31, 1999, respectively 1,714 2,416
Library costs, net 4,529 4,495
Other assets, net 1,716 2,257
----------- ----------
$ 17,518 $ 21,218
=========== ==========
Liabilities and Shareholders' Equity
Current liabilities:
Line of credit $ 1,117 $ 400
Current portion of capital leases 290 403
Accounts payable and accrued expenses 1,746 1,320
Accrued salaries and benefits 1,917 2,709
Unearned revenue 7,318 8,657
----------- ----------
Total current liabilities 12,388 13,489
Non-current portion of capital leases 78 219
Deferred contract revenue 928 1,455
Other liabilities 56 65
Commitments - -
Shareholders' equity:
Common stock, no par value, authorized 35,000 shares;
shares issued and outstanding : 9,631 and 9,521
at September 30, 1999 and March 31, 1999, respectively 18,801 18,569
Accumulated other comprehensive loss -
foreign currency translation (196) (269)
Accumulated deficit (14,537) (12,310)
----------- ----------
Total shareholders' equity 4,068 5,990
----------- ----------
$ 17,518 $ 21,218
=========== ==========
The accompanying notes are an integral part of these consolidated
financial statements.
2
ANALOGY, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share amounts)
(Unaudited)
Three Months Ended Six Months Ended
September 30, September 30,
----------------------------- -----------------------------
1999 1998 1999 1998
------------- ----------- ------------ -------------
Revenue:
Product licenses $ 2,854 $ 4,045 $ 5,841 $ 6,880
Service and other 2,681 2,372 5,156 4,949
------------- ----------- ------------ -------------
Total revenue 5,535 6,417 10,997 11,829
Cost of revenue:
Product licenses 511 393 1,052 913
Service and other 167 220 335 554
------------- ----------- ------------ -------------
Total cost of revenue 678 613 1,387 1,467
------------- ----------- ------------ -------------
Gross profit 4,857 5,804 9,610 10,362
Operating expenses:
Research and development 1,930 2,296 3,857 4,692
Sales and marketing 3,143 3,080 6,451 6,683
General and administrative 496 621 1,083 1,305
Amortization of intangibles 92 92 184 184
Restructuring charges - - - 557
------------- ----------- ------------ -------------
Total operating expenses 5,661 6,089 11,575 13,421
------------- ----------- ------------ -------------
Operating loss (804) (285) (1,965) (3,059)
Other expense, net (87) (30) (70) (232)
------------- ----------- ------------ -------------
Loss before income taxes (891) (315) (2,035) (3,291)
Income tax expense 75 47 192 226
------------- ----------- ------------ -------------
Net loss $ (966) $ (362) $ (2,227) $ (3,517)
============= =========== ============ =============
Basic net loss per share $ (0.10) $ (0.04) $ (0.23) $ (0.37)
============= =========== ============ =============
Diluted net loss per share $ (0.10) $ (0.04) $ (0.23) $ (0.37)
============= =========== ============ =============
Shares used in per share calculations:
Basic 9,601 9,417 9,598 9,388
============= =========== ============ =============
Diluted 9,601 9,417 9,598 9,388
============= =========== ============ =============
The accompanying notes are an integral part of these consolidated
financial statements.
3
ANALOGY, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
(In thousands)
(Unaudited)
Six Months Ended September 30,
-----------------------------------
1999 1998
-------------- --------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $ (2,227) $ (3,517)
Adjustments to reconcile net loss to net cash
used in operating activities:
Depreciation and amortization 1,813 2,058
Changes in operating assets and liabilities:
Accounts receivable 1,307 (1,610)
Prepaid expenses and other assets 441 (181)
Accounts payable and accrued expenses (306) (956)
Unearned revenue (1,893) (1,070)
-------------- --------------
Net cash used in operating activities (865) (5,276)
-------------- --------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures for furniture, fixtures and equipment (102) (447)
Capital expenditures for library costs (858) (955)
-------------- --------------
Net cash used in investing activities (960) (1,402)
-------------- --------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Principal payments on capital lease obligations (254) (317)
Net proceeds from line of credit 717 -
Proceeds from exercise of stock options and warrants 232 437
-------------- --------------
Net cash provided by financing activities 695 120
-------------- --------------
Effect of exchange rate changes on cash and cash equivalents (9) 104
-------------- --------------
Net decrease in cash and cash equivalents (1,139) (6,454)
Cash and cash equivalents at beginning of period 2,008 8,130
-------------- --------------
Cash and cash equivalents at end of period $ 869 $ 1,676
============== ==============
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid for:
Interest $ 77 $ 158
Income taxes 89 138
SUPPLEMENTAL DISCLOSURE OF NONCASH INFORMATION:
Acquisition of equipment under capital lease obligations $ - $ 78
Recognition of deferred and unearned contract revenue - 2,560
The accompanying notes are an integral part of these consolidated
financial statements.
4
ANALOGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. BASIS OF PRESENTATION
The unaudited financial information included herein for the three and six
months ended September 30, 1999 and 1998 was prepared in conformity with
generally accepted accounting principles. The financial information as of
March 31, 1999 is derived from the Analogy, Inc. (the "Company") consolidated
financial statements included in the Company's Annual Report on Form 10-K for
the year ended March 31, 1999. Certain information or footnote disclosures
normally included in financial statements prepared in accordance with
generally accepted accounting principles have been condensed or omitted,
pursuant to the rules and regulations of the Securities and Exchange
Commission. In the opinion of management, the accompanying consolidated
financial statements include all adjustments necessary (which are of a normal
and recurring nature) for the fair presentation of the results of the interim
periods presented. The accompanying consolidated financial statements should
be read in conjunction with the Company's audited consolidated financial
statements for the year ended March 31, 1999, as included in the Company's
Annual Report on Form 10-K for the year ended March 31, 1999.
Operating results for the three and six months ended September 30, 1999 are not
necessarily indicative of the results that may be expected for the entire fiscal
year ending March 31, 2000, or any portion thereof.
2. COMPREHENSIVE LOSS
The Company has adopted Statement of Financial Accounting Standards No. 130,
"Reporting Comprehensive Income" ("SFAS 130"), which establishes requirements
for disclosure of comprehensive income. The objective of SFAS 130 is to report
all changes in equity that result from transactions and economic events other
than transactions with owners. Comprehensive income is the total of net income
and all other non-owner changes in equity. The reconciliation of net loss to
comprehensive loss is as follows (in thousands):
Three Months Ended September 30,
--------------------------------
1999 1998
------------- ------------
Net loss $ (966) $ (362)
Foreign currency translation adjustments 103 24
------------- ------------
Comprehensive loss $ (863) $ (338)
============= ============
Six Months Ended September 30,
--------------------------------
1999 1998
------------- ------------
Net loss $ (2,227) $ (3,517)
Foreign currency translation adjustments 73 33
------------- ------------
Comprehensive loss $ (2,154) $ (3,484)
============= ============
3. NET LOSS PER SHARE
Basic and diluted net loss per share are computed using the weighted average
number of shares of common stock outstanding for the period. All potential
dilutive securities are excluded from the calculation of diluted net loss per
share as they are antidilutive.
The dilutive effect of stock options outstanding for the purchase of
approximately 1,746,000 shares for the three months and six months ended
September 30, 1999, and approximately 1,523,000 shares for the three months
and six months ended September 30, 1998; and warrants outstanding for the
purchase of 10,000 shares for the three months and six months ended September
30, 1999, and 300,000 shares for the three
5
months and six months ended September 30, 1998, respectively, were not
included in loss per share calculations, because to do so would have been
antidilutive.
4. BUSINESS SEGMENT AND GEOGRAPHIC INFORMATION
The Company has adopted Statement of Financial Accounting Standards No. 131,
"Disclosures About Segments of an Enterprise and Related Information" ("SFAS
131"). Based on definitions contained within SFAS 131, the Company has
determined that it operates in one segment.
The Company markets its products in North America and Europe primarily through
its direct sales organization and in Asia primarily through distributors.
Revenue information is based on the location of the customer. The Company's
geographic information is summarized as follows (in thousands):
Three Months Ended Six Months Ended September
September 30, 30,
----------------------------- ----------------------------
1999 1998 1999 1998
------------ ------------- ----------- -------------
Revenues:
United States $ 2,525 $ 3,040 $ 5,062 $ 5,801
Germany 1,052 1,254 1,752 2,319
Sweden 354 522 1,224 676
United Kingdom 695 530 1,392 1,072
France 487 704 886 1,214
Other 422 367 681 747
------------ ------------ ----------- ------------
$ 5,535 $ 6,417 $ 10,997 $ 11,829
============ ============ =========== ============
6
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
GENERAL
The Company develops, markets and supports high-performance software and model
libraries for the top-down design and behavioral simulation of mixed-signal and
mixed-technology systems.
The Company's product license revenue consists of license fees for its software
products and template and component model library subscription fees. Service and
other revenue consists of software maintenance fees, training, consulting and
both commercial and governmental contract model development and research and
development contracts. The Company's software products are shipped only after
the Company has an executed software license agreement with a customer. Revenue
from software licenses is recognized upon shipment to the customer. Revenue from
sales to resellers is generally recognized upon shipment to the reseller. In the
case of certain long-term contracts, revenue is recognized on a subscription
basis over the life of the contract. Revenue from library subscription fees is
typically billed annually and the related revenue is recognized ratably over the
life of the contract, usually twelve months. Maintenance is normally billed in
advance and recognized ratably over the life of the contract, which is usually
twelve months. Training, consulting and certain other services revenue is
recognized as the services or portions thereof have been provided. Revenue from
contract model development is generally recognized upon shipment of the
underlying models, or upon compliance with acceptance criteria as agreed to with
the customer.
FACTORS THAT MAY AFFECT FUTURE RESULTS
This report, including the following discussion and analysis of financial
condition and results of operations, contains certain statements, trend analysis
and other information that constitute "forward looking statements" within the
meaning of the Private Securities Litigation Reform Act of 1995, which may
involve risks and uncertainties. Such forward looking statements include, but
are not limited to, statements including the words "anticipate," "believe,"
"estimate," "expect," "plan," "intend" and other similar expressions. These
forward looking statements involve risks and uncertainties that could cause
actual results to differ materially from the forward-looking statements,
including, without limitation, the Company's ability to meet its future capital
needs (see "Management's Discussion and Analysis of Financial Condition and
Results of Operations - Liquidity and Capital Resources"), the receipt and
timing of orders for the Company's products, timely collections from customers,
changes in capital spending plans by key customers, the lengthy sales cycles for
the Company's products, the effect of the Asian economic situation, the impact
of expense reductions on the Company, increased adoption of behavioral modeling
design methodologies for mixed-signal and mixed-technology systems design, the
Company's ongoing ability to introduce new products and expand its markets,
customer acceptance of new products, seasonal fluctuations in the Company's
order patterns and competitive initiatives, ability to execute financing
strategies, ability to comply with financing agreement covenants, unanticipated
costs related to the Year 2000 issue, and other risks listed from time to time
in the Company's periodic reports filed with the Securities and Exchange
Commission, or otherwise disclosed by the Company.
Results of operations for the periods discussed below should not be considered
indicative of the results to be expected in any future period, and fluctuations
in operating results may also result in fluctuations in the market price of the
Company's common stock. Like most high technology companies, the Company faces
certain business risks that could have adverse effects on the Company's results
of operations, including those discussed below, and those discussed elsewhere in
this Report.
The Company's quarterly operating results have fluctuated in the past and may
fluctuate in the future as a result of the large percentage of orders that are
not received by the Company until near the end of the quarter. The Company's
expense levels are based, in part, on its expectations as to future revenue. If
revenue levels are below expectations, results of operations may be
disproportionately affected because only a small portion of the Company's
expenses varies with its revenue. As a result, the Company may not learn of, or
be able to confirm, revenue or earnings shortfalls until late in the quarter or
following the end of the quarter. Seasonal
7
factors, including decreases in revenues in European markets in the second
fiscal quarter resulting from European holidays in July and August, and
cyclical economic patterns in the aerospace, defense, automotive or other
end-user industries also contribute to quarter-to-quarter fluctuations. Any
shortfall in revenue or earnings from expected levels or other failure to
meet expectations of the financial markets regarding results of operations
could have an immediate and significant adverse effect on the trading price
of the Company's common stock in any given period.
The Company has historically derived a significant portion of its revenue from
the automotive industry. The automotive industry is characterized by high
cyclicality, technological change, fluctuations in manufacturing capacity, labor
issues, and pricing and gross margin pressures. This industry has from time to
time experienced significant economic downturns characterized by decreased
product demand, production over-capacity, price erosion, work slowdowns and
layoffs. The Company has also historically derived a significant portion of its
revenue from the aerospace and defense industries, which have been characterized
by significant technological changes, high cyclicality and the potential for
significant downturns in business activity resulting from changes in economic
conditions or governmental resources and spending policies. No assurance can be
given that the industries served by the Company will experience economic growth,
will not experience a downturn or that any downturn will not be severe, or that
such conditions would not have a material adverse effect on the Company's
business, financial condition and results of operations.
The Company's operating results have depended, and will continue to depend, upon
designers of mixed-signal and mixed-technology systems adopting methods of
design analysis and simulation which use behavioral modeling techniques. The
design analysis and simulation industry is characterized by rapid technological
change, frequent new product introductions and evolving industry standards. The
introduction of products embodying new technologies and the emergence of new
industry standards can render existing products obsolete and unmarketable. The
Company's future success will depend upon its ability to enhance its current
products and to develop or acquire new products that keep pace with
technological developments and emerging industry standards and address the
increasingly sophisticated needs of its customers.
8
RESULTS OF OPERATIONS
The following tables set forth for the periods indicated selected items of the
Company's consolidated statements of operations and such items expressed as a
percentage of total revenue (dollars in thousands):
THREE MONTHS ENDED SEPTEMBER 30,
------------------------------------------------------
STATEMENTS OF OPERATIONS DATA: 1999 1998
--------------------- --------------------
Revenue:
Product licenses $ 2,854 51.6% $ 4,045 63.0%
Service and other 2,681 48.4 2,372 37.0
------- ------- ------- -------
Total revenue 5,535 100.0 6,417 100.0
Cost of revenue:
Product licenses 511 9.2 393 6.1
Service and other 167 3.0 220 3.5
------- ------- ------- -------
Total cost of revenue 678 12.2 613 9.6
------- ------- ------- -------
Gross profit 4,857 87.8 5,804 90.4
Operating expenses:
Research and development 1,930 34.9 2,296 35.8
Sales and marketing 3,143 56.8 3,080 48.0
General and administrative 496 9.0 621 9.7
Amortization of intangibles 92 1.6 92 1.4
------- ------- ------- -------
Total operating expenses 5,661 102.3 6,089 94.9
------- ------- ------- -------
Operating loss (804) (14.5) (285) (4.5)
Other expense, net (87) (1.6) (30) (0.4)
-------- -------- -------- --------
Loss before income taxes (891) (16.1) (315) (4.9)
Income tax expense 75 1.4 47 0.7
------- ------- ------- -------
Net loss $ (966) (17.5)% $ (362) (5.6)%
======= ======= ======= =======
9
SIX MONTHS ENDED SEPTEMBER 30,
-----------------------------------------------------
STATEMENTS OF OPERATIONS DATA: 1999 1998
-------------------- --------------------
Revenue:
Product licenses $ 5,841 53.1 % $ 6,880 58.2 %
Service and other 5,156 46.9 4,949 41.8
-------- -------- --------- -------
Total revenue 10,997 100.0 11,829 100.0
Cost of revenue:
Product licenses 1,052 9.6 913 7.7
Service and other 335 3.0 554 4.7
-------- -------- --------- -------
Total cost of revenue 1,387 12.6 1,467 12.4
-------- -------- --------- -------
Gross profit 9,610 87.4 10,362 87.6
Operating expenses:
Research and development 3,857 35.1 4,692 39.7
Sales and marketing 6,451 58.7 6,683 56.5
General and administrative 1,083 9.8 1,305 11.0
Amortization of intangibles 184 1.7 184 1.6
Restructuring charges - - 557 4.7
-------- -------- --------- -------
Total operating expenses 11,575 105.3 13,421 113.5
-------- -------- --------- -------
Operating loss (1,965) (17.9) (3,059) (25.9)
Other expense, net (70) (0.6) (232) (1.9)
-------- -------- --------- -------
Loss before income taxes (2,035) (18.5) (3,291) (27.8)
Income tax expense 192 1.8 226 1.9
-------- -------- --------- -------
Net loss $ (2,227) (20.3) % $ (3,517) (29.7) %
======== ======== ========= =======
SECOND QUARTER AND FIRST SIX MONTHS OF FISCAL YEARS 2000 AND 1999
REVENUE
Total revenue decreased 13.7% to $5.5 million in the second quarter of fiscal
year 2000 from $6.4 million in the second quarter of fiscal year 1999, and
decreased 7.0% to $11.0 million in the first six months of fiscal year 2000
from $11.8 million in the first six months of fiscal year 1999. The Company
sells its products and services primarily through its wholly-owned
subsidiaries in Europe and primarily through distributors in Asia.
International revenue was $5.9 million (54% of total revenue) in the first
six months of fiscal year 2000 compared to $6.0 million (51% of total
revenue) in the first six months of fiscal year 1999. No one customer
accounted for 10% or more of total revenue in the second quarter or first six
months of fiscal years 2000 or 1999.
Product license revenue decreased 29.4% to $2.8 million in the second quarter
of fiscal year 2000 from $4.0 million in the second quarter of fiscal year
1999, and decreased 15.1% to $5.8 million in the first six months of fiscal
year 2000 from $6.9 million in the first six months of fiscal year 1999. The
Company has recently reorganized its U.S. sales force and hired new employees
in sales positions. This, combined with the long sales cycle for the
Company's products, contributed to the decrease in product license revenue in
the second quarter of fiscal year 2000. The decrease in product license
revenue in the first six months of fiscal year 2000 was primarily a result of
the revenue decrease in the second quarter of fiscal year 2000.
Service and other revenue increased 13.0% to $2.7 million in the second
quarter of fiscal year 2000 from $2.4 million in the second quarter of fiscal
year 1999, and increased 4.2% to $5.2 million in the first six
10
months of fiscal year 2000 from $4.9 million in the first six months of
fiscal year 1999. The increase in the second quarter of fiscal year 2000 was
primarily a result of increased maintenance revenue resulting from growth in
the Company's installed base. The decrease in the first six months of fiscal
year 2000 was the result of the increased maintenance revenue offset by
decreased revenues under the National Institute of Standards and Technology
("NIST") grant and Defense Advanced Research Projects Agency ("DARPA")
contract. Revenues from the NIST grant concluded at the end of the first
quarter of fiscal year 1999 and revenues from the DARPA contract were minimal
in fiscal year 1999, as this contract expired at the end of fiscal year 1999.
There were no revenues from the DARPA contract or the NIST grant in the first
six months of fiscal year 2000.
COST OF REVENUE
Total cost of revenue increased 10.6% to $678,000 in the second quarter of
fiscal year 2000 from $613,000 in the second quarter of fiscal year 1999, and
decreased 5.5% to $1.4 million in the first six months of fiscal year 2000 from
$1.5 million in the first six months of fiscal year 1999.
Cost of product license revenue consists primarily of documentation expense,
media manufacturing costs, supplies, shipping expense, amortization of component
and template model library costs and royalty payments. The Company does not
capitalize development costs for software products since the time between the
establishment of a working model of the software product and its
commercialization is typically of a short duration. Cost of product license
revenue increased to 17.9% of product license revenue in the second quarter of
fiscal year 2000 from 9.7% in the second quarter of fiscal year 1999, and
increased to 18.0% of product license revenue in the first six months of fiscal
year 2000 from 13.3% in the first six months of fiscal year 1999. Costs such as
documentation expense and supplies are expensed as incurred, and development
costs associated with creating the library of component and template models are
capitalized and amortized over the estimated product life, generally five years.
These costs and amortization expenses may not necessarily relate to the number
of product licenses shipped during the period, and in the first six months of
fiscal year 2000 product license revenue was lower than in the same period of
fiscal year 1999.
Cost of service and other revenue consists primarily of maintenance and customer
support expenses (including product enhancements and improvements, bug fixes,
telephone support, installation assistance and on-site support), certain
contract model development costs associated with the DARPA contract and the NIST
grant in fiscal year 1999, and the direct cost of providing services such as
training and consulting. As a percentage of service and other revenue, cost of
service and other revenue decreased to 6.2% of service and other revenue in the
second quarter of fiscal year 2000 from 9.3% in the second quarter of fiscal
year 1999, and decreased to 6.5% of service and other revenue in the first six
months of fiscal year 2000 from 11.2% of service and other revenue in the first
six months of fiscal year 1999. The decrease in second quarter of fiscal year
2000 was primarily a result of work force reductions and attrition, and
continued efforts to reduce operating costs. The decrease in the first six
months of fiscal year 2000 was attributable to decreased activity under the NIST
grant, and the DARPA contract, which had higher costs associated with them than
the Company's other services, the work force reduction which occurred in the
first quarter of fiscal year 1999 and the Company's ongoing cost containment
efforts. There were no costs incurred under the DARPA contract or the NIST grant
in the first six months of fiscal year 2000.
RESEARCH AND DEVELOPMENT
Research and development expense includes all costs associated with development
of new products and technology research. Costs classified in this category
primarily include such items as salaries, fringe benefits and an allocation of
facilities and systems support costs including depreciation of capital equipment
used in research and development. Research and development expenses decreased
15.9% to $1.9 million in the second quarter of fiscal year 2000 from $2.3
million in the second quarter of fiscal year 1999, and decreased 17.8% to $3.9
million in the first six months of fiscal year 2000, from $4.7 million in the
first six months of fiscal year 1999. As a percentage of total revenue, research
and development costs decreased to 34.9% in the second quarter of fiscal year
2000 from 35.8% in the second quarter of fiscal year 1999, and decreased to
35.1% in
11
the first six months of fiscal year 2000 from 39.7% in the first six months
of fiscal year 1999. The decreases were primarily attributable to the work
force reduction which occurred in fiscal year 1999 and ongoing cost
containment efforts, partially offset in the first quarter of fiscal year
2000 by costs included in research and development expense which were
previously recorded as cost of service and other revenue under the NIST grant
and the DARPA contract.
SALES AND MARKETING
Sales and marketing expense consists primarily of salaries, commissions, travel
and costs of promotional activities. Sales and marketing expense increased
slightly in the second quarter of fiscal year 2000 compared to the second
quarter of fiscal year 1999, and decreased 3.5% to $6.5 million in the first six
months of fiscal year 2000 from $6.7 million in the first six months of fiscal
year 1999. As a percentage of total revenue, sales and marketing expenses
increased to 56.8% in the second quarter of fiscal year 2000 from 48.0% in the
second quarter of fiscal year 1999, and increased to 58.7% in the first six
months of fiscal year 2000 from 56.5% in the first six months of fiscal year
1999, due to decreased revenue in the second quarter and first six months of
fiscal year 2000. The decrease in sales and marketing expense in the first six
months of fiscal year 2000 was primarily the result of the work force reduction
that occurred in the first quarter of fiscal year 1999 and decreased variable
selling costs resulting from a decrease in the level of sales.
GENERAL AND ADMINISTRATIVE
General and administrative expenses include costs associated with the Company's
executive staff, legal, accounting, corporate systems, facilities and human
resources departments. General and administrative expenses decreased 20.1% to
$496,000 in the second quarter of fiscal year 2000 compared to $621,000 in the
second quarter of fiscal year 1999, and decreased 17.0% to $1.1 million in the
first six months of fiscal year 2000 compared to $1.3 million in the first six
months of fiscal year 1999. As a percentage of total revenue, general and
administrative expenses decreased to 9.0% in the second quarter of fiscal year
2000 from 9.7% in the second quarter of fiscal year 1999, and decreased to 9.8%
in the first six months of fiscal year 2000 from 11.0% in the first six months
of fiscal year 1999. The decreases were primarily attributable to declining
depreciation of corporate information systems, the work force reduction which
occurred in the first quarter of fiscal 1999 and attrition.
RESTRUCTURING CHARGES
Results of operations for the first quarter of fiscal year 1999 included a
$557,000 charge for the costs associated with a restructuring plan undertaken to
improve profitability, consisting of a work force reduction primarily in the
marketing and research and development functions of the Company. All of the
restructuring charges were paid in the first quarter of fiscal year 1999.
OTHER EXPENSE, NET
Other expense, net primarily consists of interest expense and the effects of
foreign currency transaction gains and losses. Other expense, net was $87,000
and $30,000 in the second quarters of fiscal years 2000 and 1999, respectively.
Other expense, net was $70,000 and $232,000 in the first six months of fiscal
years 2000 and 1999, respectively. Other expense, net in the first quarter of
fiscal year 1999 included amortization of finance charges from the sale of
approximately $4.0 million of accounts receivable to a financial institution.
Interest expense (other than amortization of finance charges) has increased in
fiscal year 2000 due to increased borrowings.
INCOME TAX EXPENSE
The Company provided for foreign income and withholding taxes of $192,000 and
$226,000 in the first six months of fiscal years 2000 and 1999, respectively The
Company's effective tax rate is sensitive to shifts in income and losses among
the various countries in which the Company does business, since in some
countries
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the Company is in a tax paying position while in other countries the Company
has operating loss carryforwards available to offset taxable income.
LIQUIDITY AND CAPITAL RESOURCES
Net cash used in operating activities was $865,000 in the first six months of
fiscal year 2000. This resulted primarily from a net loss for the period and a
decrease in unearned revenue, offset by adjustments for depreciation and
amortization and a decrease in accounts receivable. Accounts receivable and
unearned revenue decreased as a result of lower levels of product license
revenue in the first six months of fiscal year 2000.
Net cash used in investing activities was $960,000 in the first six months of
fiscal year 2000, and was primarily associated with the investment in the
Company's component and template model libraries and capital expenditures for
the upgrade of corporate information systems.
Net cash provided by financing activities was $695,000 in the first six months
of fiscal year 2000, which included net borrowings under the Company's line of
credit and proceeds from the exercise of stock options offset by principal
payments on capital lease obligations.
The Company had an operating line of credit with a bank, which allowed the
Company to receive advances based on 80% of eligible foreign and domestic
accounts receivable. At September 30, 1999, $1.1 million was outstanding under
the line of credit. The line of credit was paid off on October 5, 1999 with
proceeds received under the accounts receivable purchase agreement described in
the following paragraph.
On October 1, 1999, the Company entered into an accounts receivable purchase
agreement with a bank under which the Company may sell, from time to time, up to
$2.5 million of accounts receivable, with recourse. The agreement allows for
advances to the Company of 80% of accounts receivable (as approved by the bank),
with a monthly finance charge of 1.75%, computed on outstanding purchased
accounts receivable. Advances under the agreement are collateralized by
substantially all of the assets of the Company. As of November 10, 1999,
outstanding advances under the agreement were $655,000, and the bank has
informed the Company that further advances can not be made under the
agreement until such time as the Company's liquidity position improves.
On October 19, 1999, the Company entered into a Bridge Loan and Security
Agreement and a related Promissory Note (the "Loan Agreements") with a party
with whom the Company is actively engaged in negotiations regarding the
acquisition of the Company by such party. Pursuant to the Loan Agreements, the
Company was advanced $500,000 on October 20, 1999, and will be eligible to draw
an additional $1.5 million upon the execution of a definitive acquisition
agreement with the lending party. Amounts borrowed under the Loan Agreements
bear interest at 10% per annum (13% per annum on any past due payments) and are
collateralized by substantially all of the assets of the Company. All
outstanding principal and interest are due upon the earlier of 180 days from the
date of the Loan Agreements or upon an event of default under the Loan
Agreements.
The Company's future capital needs and the timing of such needs will depend upon
numerous factors which cannot be predicted with certainty, including the
successful negotiation and consummation of the acquisition transaction
referenced above, the Company's results of operations, the amount of revenues
generated from operations, receipt and timing of orders for the Company's
products, timely collections from customers, changes in capital spending plans
by key customers, the impact of expense reductions on the Company, the Company's
ongoing ability to introduce new products and expand its markets, seasonal
fluctuations in the Company's order patterns, ability to execute financing
strategies, ability to access cash balances of its foreign operations in a
timely manner, and unanticipated costs related to the Year 2000 issue.
If the Company is unable to successfully negotiate and consummate an acquisition
transaction, the Company's financial condition and results of operations will be
adversely affected. In particular, the
13
Company could be required to significantly reduce its operations, seek
additional financing, sell additional securities on terms that are highly
dilutive to existing shareholders or search for an alternative merger
partner. There can be no assurance that additional financing or sales of
additional securities would be available alternatives and, if available, that
the terms would be acceptable to the Company. Additionally, there can be no
assurance that the Company could find an alternative merger partner. Further,
there can be no assurance that any of these strategies could be executed in a
timely manner.
YEAR 2000 ISSUE
The Company has assessed its computer software programs and operating systems
used in its internal operations including development and accounting systems, to
determine their readiness for the Year 2000. The inability of computer software
programs and operating systems to accurately recognize, interpret and process
date data designating the Year 2000 and beyond could cause systems to yield
inaccurate results or encounter operating problems, including disruption of the
business operations these systems control. The Company has completed its
internal assessment but intends to continue to monitor Year 2000 compliance
matters on an ongoing basis. The Company has replaced or will have replaced by
December 31, 1999, systems that were determined to be deficient.
The cost associated with replacing such systems has not been and will not be
significant.
The Company has completed contacting its major suppliers of products and
services to assess the Year 2000 compliance of each. As the majority of the
Company's major customers are "Fortune 100" companies, the Company has
reviewed Year 2000 public disclosures made by its major customers to
determine whether their operations are Year 2000 compliant. The Company has
not discovered any material deficiencies with respect to its major suppliers or
its major customers based on its contact and review procedures. If the
Company's major suppliers of products and services and its major customers
are not Year 2000 compliant, their noncompliance may cause a material
disruption to their businesses which could negatively impact the Company in
many ways, including the inability to collect payments from customers and the
delay or cessation of deliveries of products or services to its customers.
Additionally, risks associated with parties located outside the U.S. may be
higher as it is generally believed than non-U.S. businesses may not be
addressing their Year 2000 issues on as timely a basis as U.S. businesses.
There can be no assurance that major suppliers of products and services and
major customers will adequately address their Year 2000 issues.
The Company has assessed its products to determine their readiness for the Year
2000. The Company's products do not require date-specific calculations and
therefore the Company believes they will be unaffected by the Year 2000
transition. To the extent that a user of the Company's products does not have
Year 2000 compliant operating systems or development environments, the
Company can give no assurance as to Year 2000 compliance of its products used
on such operating systems or development environments.
Based on the Company's assessment to date, the Company currently believes that
Year 2000 issues will not pose significant risks for the Company. The Company
has not incurred, and does not expect to incur material incremental costs to
ensure Year 2000 compliance of its systems or products. The Company's security
system has been targeted for replacement in December 1999, based on Year 2000
and other technology considerations. This expenditure is not anticipated to be
material. At this time, the Company foresees nominal incremental spending for
the Year 2000 issue. However, if all Year 2000 issues are not properly
identified, or assessment, remediation and testing are not effected timely with
respect to Year 2000 problems that are identified, there can be no assurance
that the Year 2000 issue will not have a material adverse impact on the
Company's business, financial condition or results of operations, or adversely
affect the Company's relationships with customers, vendors or others.
The Company believes its most reasonably likely worst-case Year 2000 scenario
would relate to problems with the systems of third parties rather than with the
Company's internal systems, because the Company has less control over assessing
and remediating the Year 2000 problems of third parties. The Company believes
its risks are greatest with regard to external infrastructure, e.g., electricity
supply, water and sewer
14
service and telecommunications. If certain critical third parties, such as
those supplying electricity, water, sewer service and telecommunications
experience difficulties resulting in disruption of service to the Company, a
shutdown of the Company's operations could occur for the duration of the
disruption. The inability of the Company to operate for any significant
period, or any other failure, if not quickly remedied, could have a material
adverse effect on the Company's business, results of operations and financial
condition.
With respect to major external infrastructure, e.g., electricity supply,
water and sewer service and telecommunications, the Company has no
contingency plans that would mitigate the lack of such services. The Company
continues to be in contact with the suppliers of these services to obtain
assurance that there will be no material disruption as a result of Year 2000
issues. The Company is relying on information provided to it by its
infrastructure suppliers to assess their Year 2000 readiness, and therefore
cannot provide assurance that the Company will not be adversely affected by
their Year 2000 issues. Contingency plans will continue to be refined
throughout the remainder of calendar year 1999 as the Company learns more
about the vulnerabilities, if any, of critical third parties regarding year
2000 issues. The Company has not endeavored to evaluate Year 2000 compliance
of external infrastructure suppliers (e.g., suppliers of electricity, water
and sewer service and telecommunications) to its customers. If these
suppliers experience difficulties resulting in disruption of service to the
Company's customers, such disruption could have a material adverse effect on
the Company's business, results of operations and financial condition. There
can be no assurance that the Company will be able to identify, avoid or
develop contingency plans to address all possible worst-case scenarios.
The costs of the Company's Year 2000 assessment, remediation and testing
efforts and the timing and effectiveness of the Company's future product
releases are forward-looking statements that are based upon management's best
estimates. Such estimates were derived using numerous assumptions regarding
future events, including the continued availability of certain resources,
third party remediation plans and compliance assurances, and other factors.
There can be no assurance that these estimates will prove to be accurate and
actual results could differ materially from those currently anticipated.
EFFECT OF RECENT ACCOUNTING PRONOUNCEMENTS
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities." SFAS No. 133 establishes accounting and
reporting standards requiring that every derivative instrument be recorded in
the balance sheet as either an asset or liability measured at its fair value.
SFAS No. 133 also requires that changes in the derivative's fair value be
recognized currently in results of operations unless specific hedge
accounting criteria are met. SFAS No. 133, as amended by SFAS No. 137, is
effective for fiscal years beginning after June 15, 2000. The Company does
not expect SFAS No. 133 to have a material impact on its consolidated
financial statements
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
The Company does not currently use derivative financial instruments for
speculative purposes which expose the Company to market risk. The Company is
exposed to cash flow and fair value risk due to changes in interest rates
with respect to its outstanding debt. Information required by this item is
set forth in ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION.
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PART II - OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) The exhibits filed as part of this report are listed below:
Exhibit Number
10.16 Accounts Receivable Purchase Agreement dated
October 1, 1999 between Silicon Valley Bank and
Analogy, Inc., filed herewith
27 Financial Data Schedule, filed herewith
(b) Reports on Form 8-K
A Report on Form 8-K, containing the Company's earnings release for the
quarter ended June 30, 1999, was filed under Item 5, on July 23, 1999.
No other Reports on Form 8-K were filed during the quarter ended September
30, 1999.
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Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
ANALOGY, INC.
Dated: November 12, 1999
/s/ GARY P. ARNOLD Chairman of the Board, President
- --------------------- and Chief Executive Officer
Gary P. Arnold (Principal Executive Officer)
/s/ DUANE C. FROMHART Vice President and Corporate Controller
- --------------------- (Principal Financial Officer)
Duane C. Fromhart
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