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 30, 2001
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 000-24435
MICROSTRATEGY INCORPORATED
(Exact name of registrant as specified in its charter)
Delaware
(State of incorporation)
1861 International Drive, McLean, VA
(Address of Principal Executive Offices)
22102
(Zip Code)
51-0323571
(I.R.S. Employer
Identification Number)
Registrant's telephone number, including area code: (703) 848-8600
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 |_|
The number of shares of the registrant's Class A common stock and Class B
common stock outstanding on August 1, 2001 was 37,100,449 and 50,941,421,
respectively.
1
MICROSTRATEGY INCORPORATED
FORM 10-Q
TABLE OF CONTENTS
Page
----
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets as of June 30, 2001 (unaudited) and December 31, 2000.......... 1
Consolidated Statements of Operations For the Three Months Ended June 30, 2001 (unaudited)
and 2000 (unaudited)....................................................................... 3
Consolidated Statements of Operations For the Six Months Ended June 30, 2001 (unaudited)
and 2000 (unaudited)....................................................................... 4
Consolidated Statements of Cash Flows For the Six Months Ended June 30, 2001 (unaudited)
and 2000 (unaudited)....................................................................... 5
Notes to Consolidated Financial Statements (unaudited)..................................... 7
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations...... 21
Item 3. Quantitative and Qualitative Disclosures About Market Risk................................. 44
PART II. OTHER INFORMATION
Item 1. Legal Proceedings.......................................................................... 46
Item 2. Changes in Securities and Use of Proceeds.................................................. 47
Item 5. Other Information.......................................................................... 48
Item 6. Exhibits and Reports on Form 8-K........................................................... 48
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
MICROSTRATEGY INCORPORATED
CONSOLIDATED BALANCE SHEETS
(in thousands, except per share data)
June 30, December 31,
2001 2000
---------------- -----------------
(unaudited)
Assets
Current assets:
Cash and cash equivalents.............................................. $ 57,165 $ 67,685
Restricted cash........................................................ 564 25,884
Short-term investments................................................. 3,396 1,085
Accounts receivable, net............................................... 34,374 49,061
Prepaid expenses and other current assets.............................. 10,203 11,158
---------------- -----------------
Total current assets................................................ 105,702 154,873
---------------- -----------------
Property and equipment, net............................................... 31,428 61,409
Long-term investments..................................................... 250 5,271
Goodwill and intangible assets, net of accumulated amortization
of $26,668 and $18,170 respectively.................................... 25,791 34,300
Deposits and other assets................................................. 3,178 3,234
---------------- -----------------
Total assets........................................................ $ 166,349 $ 259,087
================ =================
Liabilities and Stockholders' Equity (Deficit)
Current liabilities:
Accounts payable and accrued expenses.................................. $ 28,086 $ 35,025
Accrued restructuring costs............................................ 10,641 -
Accrued compensation and employee benefits............................. 16,721 26,929
Deferred revenue and advance payments.................................. 48,163 50,303
Working capital line of credit......................................... 6,066 -
---------------- -----------------
Total current liabilities........................................... 109,677 112,257
---------------- -----------------
Deferred revenue and advance payments..................................... 22,307 31,260
Accrued litigation settlement............................................. 64,128 99,484
Other long-term liabilities............................................... 3,612 1,509
Accrued restructuring costs............................................... 3,986 -
---------------- -----------------
Total liabilities................................................... 203,710 244,510
---------------- -----------------
Commitments and contingencies
Series A redeemable convertible preferred stock, par value $0.001 per
share, 18 shares authorized, 1 and 13 shares issued and
outstanding, respectively.............................................. 6,251 119,585
Series B redeemable convertible preferred stock, par value $0.001
per share, 3 shares authorized, 3 and 0 shares issued and
outstanding, respectively.............................................. 32,183 -
The accompanying notes are an integral part of these
Consolidated Financial Statements.
1
Series C redeemable convertible preferred stock, par value $0.001
per share, 3 shares authorized, 3 and 0 shares issued and
outstanding, respectively.............................................. 25,552 -
Series D convertible preferred stock, par value $0.001
per share, 2 shares authorized, 2 and 0 shares issued and
outstanding, respectively.............................................. 4,101 -
Series E redeemable convertible preferred stock, par value $0.001
per share, 1 share authorized, 1 and 0 shares issued and
outstanding, respectively.............................................. 6,592 -
Mandatorily redeemable convertible preferred stock of consolidated
subsidiary, par value $0.001 per share, 47,884 shares authorized,
16,536 and 13,401 shares issued and outstanding, respectively.......... 52,859 40,530
Stockholders' Equity (Deficit):
Preferred stock undesignated, par value $0.001 per share, 4,973
shares authorized, no shares issued or outstanding.................. - -
Class A common stock, par value $0.001 per share, 330,000 shares
authorized, 36,849 and 28,736 shares issued and outstanding,
respectively........................................................ 37 29
Class B common stock, par value $0.001 per share, 165,000 shares
authorized, 50,940 and 52,033 shares issued and outstanding,
respectively........................................................ 51 52
Additional paid-in capital............................................. 187,221 152,821
Deferred compensation.................................................. (179) (624)
Accumulated other comprehensive income................................. 1,099 1,443
Accumulated deficit.................................................... (353,128) (299,259)
---------------- -----------------
Total Stockholders' Equity (Deficit)................................ (164,899) (145,538)
---------------- -----------------
Total Liabilities and Stockholders' Equity (Deficit)................ $ 166,349 $ 259,087
================ =================
The accompanying notes are an integral part of these
Consolidated Financial Statements.
2
MICROSTRATEGY INCORPORATED
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share data)
Three Months Ended
June 30,
----------------------------
2001 2000
------------- --------------
(unaudited)
Revenues:
Product licenses.......................................................... $ 21,224 $ 21,829
Product support and other services........................................ 27,985 28,515
------------- --------------
Total revenues......................................................... 49,209 50,344
------------- --------------
Cost of revenues:
Product licenses.......................................................... 863 392
Product support and other services........................................ 14,143 21,776
------------- --------------
Total cost of revenues................................................. 15,006 22,168
------------- --------------
Gross profit................................................................... 34,203 28,176
------------- --------------
Operating expenses:
Sales and marketing....................................................... 21,074 38,343
Research and development.................................................. 9,713 15,813
General and administrative................................................ 11,771 17,385
Restructuring and impairment charges...................................... 43,103 -
Amortization of goodwill and intangible assets............................ 4,249 4,242
------------- --------------
Total operating expenses............................................... 89,910 75,783
------------- --------------
Loss from operations........................................................... (55,707) (47,607)
Financing and other income (expense):
Interest income........................................................... 836 441
Interest expense.......................................................... (1,487) (7)
Loss on investments....................................................... (233) (5,075)
Reduction in estimated cost of litigation settlement...................... 24,941 -
Minority interest......................................................... (1,181) -
Other (expense) income, net............................................... (419) 106
------------- --------------
Total financing and other income (expense)............................. 22,457 (4,535)
------------- --------------
Loss before income taxes....................................................... (33,250) (52,142)
Provision for income taxes................................................ 48 -
------------- --------------
Net loss....................................................................... (33,298) (52,142)
------------- --------------
Dividends on and accretion of Series A, B, C, D and E convertible
preferred stock......................................................... (2,364) (312)
Net gain on refinancing of Series A redeemable convertible
preferred stock...................................................... 29,370 -
Preferred stock beneficial conversion feature............................. - (19,375)
------------- --------------
Net loss attributable to common stockholders................................... $ (6,292) $(71,829)
============= ==============
Basic and diluted net loss per share........................................... $ (0.08) $ (0.90)
============= ==============
Weighted average shares outstanding used in computing basic
and diluted net loss per share............................................ 83,253 79,757
============= ==============
The accompanying notes are an integral part of these
Consolidated Financial Statements.
3
MICROSTRATEGY INCORPORATED
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share data)
Six Months Ended
June 30,
----------------------------
2001 2000
------------- -------------
(unaudited)
Revenues:
Product licenses.......................................................... $ 40,776 $ 47,840
Product support and other services........................................ 59,817 53,119
------------- -------------
Total revenues......................................................... 100,593 100,959
------------- -------------
Cost of revenues:
Product licenses.......................................................... 2,298 997
Product support and other services........................................ 32,757 37,537
------------- -------------
Total cost of revenues................................................. 35,055 38,534
------------- -------------
Gross profit................................................................... 65,538 62,425
------------- -------------
Operating expenses:
Sales and marketing....................................................... 49,538 79,855
Research and development.................................................. 23,725 32,013
General and administrative................................................ 25,087 29,503
Restructuring and impairment charges...................................... 43,103 -
Amortization of goodwill and intangible assets............................ 8,498 8,148
------------- -------------
Total operating expenses............................................... 149,951 149,519
------------- -------------
Loss from operations........................................................... (84,413) (87,094)
Financing and other income (expense):
Interest income........................................................... 2,214 901
Interest expense.......................................................... (1,771) (10)
(Loss) gain on investments................................................ (1,330) 1,355
Reduction in estimated cost of litigation settlement...................... 34,606 -
Minority interest......................................................... (2,329) -
Other (expense) income, net............................................... (509) 106
------------- -------------
Total financing and other income (expense)............................. 30,881 2,352
------------- -------------
Loss before income taxes....................................................... (53,532) (84,742)
Provision for income taxes................................................ 337 250
------------- -------------
Net loss....................................................................... (53,869) (84,992)
------------- -------------
Dividends on and accretion of Series A, B, C, D and E convertible
preferred stock......................................................... (4,522) (312)
Net gain on refinancing of Series A redeemable convertible
preferred stock...................................................... 29,370 -
Preferred stock beneficial conversion feature............................. - (19,375)
------------- -------------
Net loss attributable to common stockholders................................... $(29,021) $(104,679)
============= =============
Basic and diluted net loss per share........................................... $ (0.35) $ (1.32)
============= =============
Weighted average shares outstanding used in computing basic
and diluted net loss per share............................................ 82,239 79,321
============= =============
The accompanying notes are an integral part of these
Consolidated Financial Statements.
4
MICROSTRATEGY INCORPORATED
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
Six Months Ended
------------------------
2001 2000
---------- ---------
(unaudited)
Operating activities:
Net loss.............................................................................. $ (53,869) $ (84,992)
Adjustments to reconcile net loss to net cash from operating activities:
Depreciation and amortization.................................................... 19,448 14,252
Allowance for doubtful accounts.................................................. 3,213 2,004
Realized loss (gain) on sale and write-down of short-term investments............ 1,330 (1,355)
Non-cash portion of restructuring and impairment charges......................... 38,555 -
Decrease in estimated cost of litigation settlement.............................. (34,606) -
Minority interest................................................................ 2,329 -
Other, net....................................................................... 292 136
Changes in operating assets and liabilities:
Accounts receivable.............................................................. 10,174 (5,442)
Prepaid expenses and other current assets........................................ 295 429
Deposits and other assets........................................................ 128 (2,994)
Accounts payable and accrued expenses, compensation and employee benefits........ (17,805) 34,166
Deferred revenue and advance payments............................................ (11,626) 1,665
Other long-term liabilities...................................................... 2,103 1,508
--------- ---------
Net cash used in operating activities....................................... (40,039) (40,623)
--------- ---------
Investing activities:
Purchases of property and equipment................................................... (3,769) (28,032)
Purchases of intangible assets........................................................ - (2,428)
Purchases of short-term investments................................................... (1,935) (1,496)
Maturities of short-term investments.................................................. 1,935 5,500
Proceeds from sales of short-term investments......................................... 2,787 38,388
Decrease (increase) in restricted cash................................................ 25,320 (28,600)
--------- ---------
Net cash provided by (used in) investing activities......................... 24,338 (16,668)
--------- ---------
Financing activities:
Proceeds from sale of Class A common stock and exercise of stock options.............. 3,645 5,758
Proceeds from issuance of Series A redeemable convertible preferred stock,
net of offering costs............................................................... - 119,794
Proceeds from sale of mandatorily redeemable convertible preferred stock of consolidated
subsidiary....................................................................... 10,000 -
Proceeds from term loan in connection with the New Credit Facility.................... 10,000 -
Cash repayment of term loan........................................................... (10,000) -
Net cash advances under working capital line of credit................................ 6,066 -
Debt issuance costs................................................................... (765) -
Redemption of Series A redeemable convertible preferred stock, including
offering costs of $513............................................................ (13,013) -
--------- ---------
Net cash provided by financing activities................................... 5,933 125,552
--------- ---------
Effect on foreign exchange rate changes on cash and cash equivalents........ (752) (379)
--------- ---------
Net (decrease) increase in cash and cash equivalents........................................ (10,520) 67,882
Cash and cash equivalents, beginning of period.............................................. 67,685 25,941
--------- ---------
Cash and cash equivalents, end of period.................................................... $ 57,165 $ 93,823
========= =========
The accompanying notes are an integral part of these
Consolidated Financial Statements.
5
MICROSTRATEGY INCORPORATED
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
Six Months Ended
June 30,
--------------------------
2001 2000
---- ----
(unaudited)
Supplemental disclosure of noncash investing and financing activities:
Stock received in exchange for product and services................................... $ 1,153 $ 5,974
========== =======
Public stock received in exchange for stock in private company........................ $ 2,017 $ -
========== =======
Issuance of Class A common stock related to consulting services agreement............. $ - $ 1,600
========== =======
Payment of Series A redeemable convertible preferred stock dividends through the
issuance of Class A common stock and Series D convertible preferred
stock............................................................................ $ 3,662 $ -
========== =======
Issuance of warrants in connection with the New Credit Facility....................... $ 414 $ -
========== =======
Fair value of Class A common stock and Series B, Series C, Series D, and Series E
redeemable convertible preferred stock issued in connection with refinancing
transaction...................................................................... $ 90,385 $ -
========== =======
Carrying value of Series A redeemable convertible preferred stock redeemed and
exchanged in connection with refinancing transaction............................. $ (113,880) $ -
========== =======
The accompanying notes are an integral part of these
Consolidated Financial Statements.
6
MICROSTRATEGY INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
(1) Basis of Presentation
The consolidated balance sheet of MicroStrategy Incorporated (the "Company" or
"MicroStrategy") as of June 30, 2001, the related consolidated statements of
operations for the three and six months ended June 30, 2001 and 2000, and the
consolidated statements of cash flows for the six months ended June 30, 2001 and
2000 are unaudited. In the opinion of management, all adjustments (consisting of
normal recurring items) necessary for a fair presentation of such financial
statements have been included. Interim results are not necessarily indicative of
results for a full year.
The preparation of the consolidated financial statements, in conformity with
accounting principles generally accepted in the United States, requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities and disclosure of contingent assets and liabilities at
the date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from those
estimates.
The consolidated financial statements and notes are presented as required by
Form 10-Q and do not contain certain information included in the Company's
annual financial statements and notes. These financial statements should be read
in conjunction with the Company's audited financial statements and the notes
thereto filed with the Securities and Exchange Commission ("SEC") in the
Company's Annual Report on Form 10-K for the year ended December 31, 2000.
The Company has incurred substantial losses for the six months ended June 30,
2001 and for each of the three years in the period ended December 31, 2000. For
the six months ended June 30, 2001, the Company incurred a loss from operations
of $84.4 million and incurred negative cash flows from operations of $40.0
million. As of June 30, 2001, the Company had an accumulated deficit of $353.1
million. The Company has taken several actions to reduce operating expenses,
including reducing headcount and substantially curtailing operations in
Strategy.com and overall Company discretionary expenses. Additionally, the
Company is exploring alternative financing arrangements, which include credit
facilities, the sale of equity in MicroStrategy or other alternative financing
sources for the Company and Strategy.com. In addition, the Company refinanced
its Series A redeemable convertible preferred stock in June 2001 (Note 9).
Alternative debt or equity financing may not be available on acceptable terms.
If the Company does not achieve sufficient revenues, it will need to take
further measures to reduce costs in order to reduce its losses from operations.
Management believes that existing cash, cash generated internally by operations,
if any, and the modified credit facility entered into in June 2001 (Note 5),
will be sufficient to meet working capital requirements and anticipated capital
expenditures for the remainder of 2001.
Certain amounts in the prior year consolidated financial statements have been
reclassified to conform to the current year presentation.
(2) Recent Accounting Pronouncements
The Company adopted Statement of Financial Accounting Standards ("SFAS") No. 133
as of January 1, 2001. Through June 30, 2001, the adoption of SFAS No. 133 did
not have a material effect on the financial position or results of operations of
the Company.
In June 2001, the Finanical Accounting Standards Board ("FASB") issued SFAS No.
142, "Goodwill and Other Intangible Assets," which is effective for the Company
beginning in fiscal year 2002. This statement addresses financial accounting and
reporting for intangible assets acquired individually or with a group of other
assets at acquisition. This statement also addresses financial accounting and
reporting for goodwill and other intangible assets subsequent to their
acquisition. Under SFAS No. 142, goodwill should not be amortized. Instead, the
statement requires that entities conduct a two-step impairment test on an annual
basis to identify potential goodwill impairment and measure the amount of
goodwill impairment loss to be recognized, if any. An impairment loss is
recognized when the carrying amount of reporting unit goodwill exceeds the
implied fair value of that goodwill. After a goodwill impairment loss is
recognized, the adjusted carrying amount of the goodwill shall be its new
accounting basis. The Company expects to discontinue amortization of goodwill on
January 1, 2002 and will assess impairment of its goodwill on an annual basis in
accordance with SFAS No. 142.
(3) Investments
The following summarizes by major security type the fair market value and cost
of the Company's investments as of (in thousands):
7
MICROSTRATEGY INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
June 30, December 31,
-------- ------------
2001 2000
---- ----
Fair Fair
---- ----
Value Cost Value Cost
----- ---- ----- ----
Marketable equity securities................... $ 3,396 $ 3,173 $ 1,085 $ 1,118
Non-publicly traded equity securities.......... 250 250 5,271 5,271
---------- --------- ---------- ----------
$ 3,646 $ 3,423 $ 6,356 $ 6,389
========== ========= ========== ==========
Classified as:
Short-term investments.................. $ 3,396 $ 1,085
Long-term investments................... 250 5,271
---------- ----------
$ 3,646 $ 6,356
========== ==========
During 2000, the Company received 805,800 shares of Xchange, Inc. common stock,
originally valued at $13.1 million, in consideration for the sale of
MicroStrategy software, technical support and consulting services. Due to a
significant decrease in the market value of Xchange's stock, the timing and
amount of future recovery, if any, of this asset is uncertain and the Company
does not consider the decline in value to be temporary. Accordingly, the Company
wrote down the investment to its fair value at December 31, 2000 and recognized
a loss of $12.1 million during 2000. During the first quarter of 2001, the
Company sold 161,300 of these shares for a gain of $24,000. During the second
quarter of 2001, the Company sold 323,700 of these shares for a loss of $9,000.
In March and June 2001, the Company separately received 320,733 shares of
Xchange's stock, originally valued at $762,000 and $391,000, respectively,
pursuant to the arrangement discussed above. Due to a subsequent decrease in the
market value of Xchange's stock, the timing and amount of future recovery, if
any, of this asset is uncertain and the Company does not consider the decline in
value to be temporary. Accordingly, the Company wrote down this investment to
its fair value at March 31, 2001 and again at June 30, 2001 and recognized
losses of $224,000 and $505,000 during the three months and six months ended
June 30, 2001, respectively.
In August 2000, the Company invested $5.0 million in exchange for an approximate
5% interest in a private voice portal technology company. In February 2001, this
voice portal technology company was acquired by a publicly-traded company for
cash and common stock of approximately $91.4 million. In consideration for its
interest in the voice portal technology company, MicroStrategy received $2.2
million in cash and 454,503 shares of common stock valued at $2.0 million. In
connection with the transaction, MicroStrategy recorded a loss of $840,000
during the first quarter of 2001 based on the difference between its original
basis in its investment and the fair value of the consideration received.
(4) Accounts Receivable
Accounts receivable, net of allowances, consist of the following, as of (in
thousands):
June 30, December 31,
2001 2000
--------------- -----------------
Billed and billable......................................... $ 60,214 $ 84,833
Less: billed and unpaid deferred revenue.................... (15,758) (26,128)
--------------- -----------------
44,456 58,705
Less: allowance for doubtful accounts....................... (10,082) (9,644)
--------------- -----------------
$ 34,374 $ 49,061
=============== =================
The Company offsets its accounts receivable and deferred revenue for any billed
and unpaid items included in deferred revenue and advance payments.
8
MICROSTRATEGY INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
(5) Borrowings
On February 9, 2001, the Company entered into a loan and security agreement (the
"New Credit Facility") which provided for aggregate borrowing capacity of up to
$30.0 million to be used for general working capital purposes. The New Credit
Facility consisted of a $10.0 million term loan and a revolving line of credit
for up to $20.0 million, subject to specified borrowing base limitations. The
New Credit Facility replaced a previous line of credit agreement, which had
provided for a $25.0 million revolving line of credit and which was secured by
cash and cash equivalents of $25.9 million classified as restricted cash in the
accompanying consolidated balance sheet as of December 31, 2000. The cash was
restricted through February 2001, at which time the previous line of credit
agreement was terminated upon the closing of the New Credit Facility. During the
first and second quarters of 2001, the Company repaid $1.1 million of the term
loan under the New Credit Facility through the use of the revolving line of
credit. On June 14, 2001, the Company entered into an Amended and Restated Loan
and Security Agreement (the "Modified Credit Facility" or "working capital line
of credit"), which replaced the New Credit Facility. The Modified Credit
Facility provides for aggregate borrowing capacity of up to $30 million,
including a $5 million maintenance receivables backed sub-facility, subject to
specified borrowing base limitations based on eligible maintenance receivables.
The maximum amount available under the maintenance receivables backed
sub-facility decreases by $278,000 per month until March 2002, at which time the
then remaining balance of $2.5 million may remain outstanding until maturity.
Upon the closing of the Modified Credit Facility, the Company also repaid $8.9
million of the term loan under the New Credit Facility and drew $5.0 million
upon the working capital line of credit.
Borrowings under the Modified Credit Facility bear interest at a variable rate.
The Company's borrowing rate in effect at June 30, 2001 was 8.75%. The Modified
Credit Facility also includes an annual 1.50% unused letter of credit fee.
Monthly principal payments are due to the extent that the balance outstanding
exceeds the borrowing base limitations or the maintenance receivables backed
sub-facility exceeds the maximum month-end amount available. The Modified Credit
Facility matures in February 2004 and is collateralized by substantially all of
the Company's assets. Under the terms of the Modified Credit Facility, the
Company is required to maintain certain financial covenants, the most
restrictive of which are achieving certain minimum earnings amounts, as defined
in the agreement, maintaining certain cash balances domestically, and
limitations on incurring additional indebtedness. During April 2001, the Company
did not meet certain administrative covenant requirements under the New Credit
Facility. The Company received an extension through June 15, 2001 and has cured
the covenant non-compliance. At June 30, 2001, the Company was in compliance
with all debt covenants.
In addition to the interest and other fees on borrowings under the New Credit
Facility, the Company granted the lender warrants to purchase 50,000 shares of
the Company's Class A common stock at an exercise price of $14.825 per share,
subject to adjustment as set forth therein. The fair value of the warrants of
$414,000 was accounted for as debt issuance costs and will be amortized to
interest expense through the expiration of the Modified Credit Facility.
Interest expense related to the amortization of the initial value of the warrant
was $35,000 and $52,000, respectively, during the three and six months ended
June 30, 2001. The warrants may be exercised by tendering cash, executing a
cashless exercise using the value of the warrants, or by tendering principal
outstanding under the Modified Credit Facility. Because the warrants meet the
definition of a derivative under SFAS NO. 133, they will be adjusted for
subsequent changes in fair value on a quarterly basis with the change being
recorded as interest expense. Fair value was determined using the Black-Scholes
pricing model with the following assumptions used for the calculation:
volatility factor of 120%, risk free interest rate of 4.9%, expected life of 5
years, and no dividend yield. As a result of a decline in the fair value of the
warrants as of June 30, 2001, the Company recorded a reduction in the carrying
value of its warrant liability and a decrease in interest expense in the amount
of $315,000 during the second quarter of 2001. As the fair value of the warrants
was substantially the same upon issuance and as of March 31, 2001, the charge to
interest expense in the first quarter of 2001 was not material.
At June 30, 2001, the Company had $6.1 million outstanding under the Modified
Credit Facility. After consideration of outstanding letters of credit of $6.3
million, the Company has $17.6 million available for future drawdowns subject to
borrowing base limitations. As a result of the borrowing base limitations, $4.6
million of additional borrowing capacity under the Modified Credit Facility was
available at June 30, 2001.
9
MICROSTRATEGY INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
(6) Deferred Revenue and Advance Payments
Deferred revenue and advance payments from customers consist of the following,
as of (in thousands):
June 30, December 31,
2001 2000
---------------- -----------------
Current:
Deferred product revenue.................................. $ 13,576 $ 21,399
Deferred product support and other services revenue....... 46,447 48,278
---------------- -----------------
60,023 69,677
Less: billed and unpaid deferred revenue.................. (11,860) (19,374)
---------------- -----------------
$ 48,163 $ 50,303
================ =================
Non-current:
Deferred product revenue.................................. $ 6,814 $ 13,267
Deferred product support and other services revenue....... 19,391 24,747
---------------- -----------------
26,205 38,014
Less: billed and unpaid deferred revenue.................. (3,898) (6,754)
---------------- -----------------
$ 22,307 $ 31,260
================ =================
The Company offsets its accounts receivable and deferred revenue for any billed
and unpaid items included in deferred revenue and advance payments.
(7) Restructuring and Impairment Charges
During the second quarter of 2001, the Company adopted a restructuring plan
designed to focus its commercial activities. The restructuring plan includes a
strategic decision to focus operations on the business intelligence market, the
elimination or reduction of speculative technology initiatives, a greater
emphasis on indirect sales, and a reduction of the Company's workforce by 597
domestic, international, and Strategy.com employees throughout all functional
areas, or approximately 33% of the Company's worldwide headcount. As a result of
the reduction in headcount, the Company consolidated its multiple Northern
Virginia facilities into a single location in McLean, Virginia. On April 3, 2001
and May 4, 2001, Strategy.com adopted similar restructuring plans pursuant to
which it substantially curtailed operations and reduced its workforce to
approximately 40 employees. This reduction in workforce implemented by
Strategy.com is included in the Company's worldwide reduction in
workforce of 597 emmployees described above.
As a result of these restructuring plans, the Company and Strategy.com recorded
restructuring and impairment charges during the second quarter of 2001 for
severance costs and other benefits for terminated employees, costs associated
with exiting facilities, and fees incurred for professional services directly
related to the restructuring. Costs associated with exiting facilities included
estimated sublease losses and other facility closing costs including rent
expense while the office space is vacant, estimated sublease commissions and
concessions, and estimated sublease losses representing the excess lease costs
over sublease income.
The Company reviews long-lived assets, including goodwill and other intangible
assets, for impairment whenever events or changes in business circumstances
indicate that the carrying amount of the assets may not be fully recoverable or
that the useful lives of these assets are no longer appropriate. Each impairment
test is based on a comparison of the undiscounted cash flows to the recorded
value of the asset. If impairment is indicated, the asset is written down by the
amount in which the carrying value of the asset exceeds the related fair value
of the asset. In connection with the restructuring plan, the Company analyzed
its property and equipment and other long-lived assets, primarily consisting of
furniture and fixtures, computer equipment and software, leasehold improvements,
and internally developed software for such impairment. Certain assets to be
disposed of were written down to fair value which was estimated based on current
market values less disposal costs. Certain other assets to be held and used by
the Company were also written down to fair value based upon current market
values and certain other estimates of fair value such as discounting estimated
future cash flows. As a result, certain long-lived assets were deemed to be
impaired, a summary of which is as follows:
10
MICROSTRATEGY INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
Core Strategy.com
---------------------------------------------- -------------------------------------------
Internally
Leasehold Furniture and Computers and Developed Software Computers and
Improvements Fixtures Equipment and Other Equipment Total
------------ -------- --------- --------- --------- -----
Net book value of assets
impaired before impairment.. $ 1,887 $ 5,002 $ 206 $ 11,590 $ 6,385 $ 25,070
Impairment charge............. (1,887) (4,474) (82) (11,590) (5,895) (23,928)
--------- ---------- --------- ----------- ---------- ---------
Adjusted net
book value.................. $ - $ 528 $ 124 $ - $ 490 $ 1,142
========= ========== ========= =========== ========== =========
Certain assets to be held and used in the Company's ongoing business were
written down to their estimated fair value of $330,000, continue to be
classified as property and equipment and will be depreciated over their
remaining useful lives. Certain other assets held for sale were written down to
their estimated fair value of $812,000 and have been classified in other current
assets in the accompanying consolidated balance sheet as of June 30, 2001. The
Company expects to dispose of these assets held for sale within the next six
months.
The following table sets forth a summary, by operating segment, of the
restructuring and impairment charges (in thousands):
Accrued
Total Restructuring
Charge for Charge for Consolidated Non-cash Cash Costs at
Core Strategy.com Charge Charges Payments June 30, 2001
---- ------------ ------ ------- -------- -------------
Severance and other employee
termination benefits......... $ 2,862 $ 1,505 $ 4,367 $ - $ (3,583) $ 784
Write-down of impaired assets.. 6,443 17,485 23,928 (23,928) - -
Estimated sublease losses and
other facility closing costs. 13,008 - 13,008 - (568) 12,440
Terminations of computer and
equipment leases............. 712 590 1,302 - (246) 1,056
Accrual for professional fees.. 393 105 498 - (151) 347
-------- -------- -------- --------- -------- --------
Total restructuring and
impairment charges....... $ 23,418 $ 19,685 $ 43,103 $ (23,928) $ (4,548) $ 14,627
======== ======== ======== ========= ======== ========
As of June 30, 2001, unpaid amounts of $10.6 million and $4.0 million have been
classified as current and long-term accrued restructuring costs, respectively,
in the accompanying consolidated balance sheet. Remaining cash expenditures
relating to severance costs and fees incurred for professional services will be
substantially paid during the third quarter of 2001. Amounts related to the
estimated sublease losses associated with exiting facilities and terminations of
computer and equipment leases will be paid over the respective lease terms
through February 2009. As a result of the restructuring, the Company has
approximately 223,000 square feet of vacant office space, all of which is
currently being marketed for sublease. The Company estimated its sublease losses
based upon current information supplied by a third party realtor. Final
estimates could differ from current estimates once all vacant office space is
sublet. The Company expects that its restructuring plan will be substantially
completed by December 2001.
(8) Litigation
(a) Securities Litigation
The Company and certain of its officers and directors were named as defendants
in a private securities class action lawsuit alleging that they had violated
Section 10(b) of the Securities Exchange Act of 1934, as amended (the "Exchange
Act"), Rule 10b-5 promulgated thereunder, and Section 20(a) and Section 20A of
the Exchange Act in connection with various statements that were made with
11
MICROSTRATEGY INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
respect to the 1999, 1998 and 1997 financial results. The action was
consolidated in the United States District Court for the Eastern District of
Virginia. In June 2000, purported holders of the Company's common stock filed a
shareholder derivative lawsuit in the Delaware Court of Chancery seeking
recovery for various alleged breaches of fiduciary duties by certain directors
and officers of the Company relating to the restatement of financial results for
1999, 1998 and 1997.
In October 2000, the Company entered into agreements to settle these lawsuits.
On January 19, 2001, the United States District Court authorized notice of the
proposed class action settlement sent to all putative class members. The notice
informs class members of their rights including their rights to object to the
proposed settlement and to pursue their claims separately. On April 2, 2001, the
United States District Court approved the class action settlement, and the
period from which an appeal could have been taken has expired. At a hearing on
August 7, 2001, the Chancery Court approved the derivative settlement.
Under the class action settlement agreements, class members will receive: 1)
five-year unsecured subordinated promissory notes issued by the Company having
an aggregate principal amount of $80.5 million and bearing interest at 7.5% per
year; 2) 2,777,778 shares of the Company's Class A common stock; and 3) warrants
issued by the Company to purchase 1,900,000 shares of the Company's Class A
common stock at an exercise price of $40 per share, with the warrants expiring
five years from the date they are issued.
The Company will have the right, at any time, to prepay the promissory notes, or
to mandatorily convert the promissory notes into shares of the Company's Class A
common stock at a conversion price equal to 80% of the dollar volume-weighted
average trading price per share for all round lot transactions in the Company's
stock on the Nasdaq National Market for the ten trading days ending two days
prior to the date that written notice of conversion has been given. The warrants
may be exercised for cash or by tendering the related unsecured subordinated
promissory notes valued for the purpose of warrant exercise at 133% of their
principal amount plus accrued interest.
Under the derivative settlement agreement, the Company was required to add a new
independent director with finance experience to the audit committee of its Board
of Directors and to ensure continued adherence with applicable legal and
regulatory requirements regarding the independence of audit committee members
and trading by insiders. On June 11, 2001, the Company announced the addition of
two new independent directors to the audit committee of its Board of Directors.
In addition, certain officers of the Company are required to contribute a
portion of the shares of the Company's Class A common stock that is to be issued
to class members in settlement of the class action lawsuit. Specifically,
Michael J. Saylor, the Chairman of the Board of Directors and Chief Executive
Officer, Sanju K. Bansal, the Vice Chairman, Executive Vice President and Chief
Operating Officer, and Mark S. Lynch, the former Chief Financial Officer and
current Vice President of Business Affairs, will contribute to the class action
settlement an aggregate of 1,683,502 shares of Class A common stock held by
them.
Based on the terms of the settlement agreements, during the third quarter of
2000, the Company determined that a liability related to these actions was
probable and that the value was reasonably estimable. Accordingly, the Company
established an estimate for the cost of the litigation settlement of $126.8
million during the third quarter of 2000. Subsequently, the Company has updated
the estimated value of the settlement during each of the successive quarterly
financial reporting periods based upon valuation assumptions stemming from the
settlement. During the second quarter of 2001, the Company updated the estimated
value assigned to the promissory notes and warrants to be issued based upon an
independent third-party valuation and separately evaluated the other individual
components of the settlement agreements. The details of the accrued litigation
settlement at June 30, 2001 are as follows (in thousands):
12
MICROSTRATEGY INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
Accounts Accrued Total
Payable and Litigation Accrual at
Accrued Expenses Settlement June 30 2001
---------------- ---------- ------------
Issuance of promissory notes................. $ - $ 52,500 $ 52,500
Issuance of Class A common stock............. - 7,778 7,778
Issuance of warrants......................... - 3,600 3,600
Pending loss on additional settlement........ - 250 250
Legal fees................................... 833 - 833
Administration costs......................... 546 - 546
---------------------- ------------ ----------------
Total accrual.......................... $ 1,379 $ 64,128 $ 65,507
====================== ============ ================
The fair value of the promissory notes was based on the present value of future
cash flows discounted at borrowing rates currently assumed to be available for
debt with similar terms and maturities. Based on the terms of the debt
instrument and the market conditions in existence at the time, the fair value of
the promissory notes was initially estimated assuming a market borrowing rate of
12%. Due to changes in market conditions since the settlement and based upon the
third-party valuation during the second quarter of 2001, the fair value of the
promissory notes was revalued utilizing an estimated market borrowing rate of
20%. Based on an estimated market borrowing rate of 20%, the expected discount
on the unsecured subordinated promissory notes was increased to $28.0 million.
As a result of the change in the estimated fair value of the promissory notes,
the Company recorded a $16.7 million reduction in the provision for the
litigation settlement during the second quarter of 2001. No change in the
estimated fair value of the promissory notes was recorded during the first
quarter of 2001. Upon the issuance of these promissory notes, the discount will
be amortized to interest expense over the term of the promissory notes.
Prior to the United States District Court approval on April 2, 2001, the Company
recorded an estimate for the common stock portion of the settlement of $16.5
million because the number of shares and the share price were not fixed, as it
was obligated to issue the greater of 550,000 shares of common stock or a number
of shares of common stock with a value of $16.5 million based upon the per share
price of the stock on the date of the settlement hearing. As a result of the
court's approval during the second quarter of 2001, the number of shares of
common stock was fixed at 2,777,778 shares based upon a per share price of
$5.94. As a result of a decline in the Company's Class A common stock price to
$2.80 per share as of June 30, 2001, the value of the common stock to be issued
under the settlement agreement was reduced by $8.7 million to $7.8 million. No
change in the common stock portion of the accrued litigation settlement was
recorded during the first quarter of 2001.
The fair value of the warrants to be issued in connection with the litigation
settlement of $3.6 million was computed utilizing the Black-Scholes pricing
model with the following assumptions used for the calculation: volatility factor
of 120%, risk free interest rate of 4.9%, expected life of 5 years, and no
dividend yield. Because of the rights of the holders of the promissory notes to
tender the notes in satisfaction of the exercise price upon exercising the
warrants, the warrants meet the definition of a derivative under SFAS No. 133
and, accordingly, will be revalued through earnings on a quarterly basis. As a
result of the change in the estimated fair value of the warrants, the Company
recorded a $480,000 increase in the provision for the litigation settlement
during the second quarter of 2001. During the first quarter of 2001, the Company
recorded a $9.9 million reduction in the provision for the litigation settlement
due to a decrease in the estimated fair value of the warrants during the first
quarter.
As a result of the changes in the estimated value of each element of the
settlement discussed above, the Company recorded an aggregate reduction in the
provision for the litigation settlement of $24.9 million and $34.6 million
during the three and six months ended June 30, 2001, respectively. This
reduction was comprised of the following (in thousands):
13
MICROSTRATEGY INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
Three Six
Months Ended Months Ended
June 30, 2001 June 30, 2001
----------------- -----------------
Issuance of promissory notes..................... $ (16,700) $ (16,700)
Issuance of Class A common stock................. (8,721) (8,721)
Issuance of warrants............................. 480 (9,435)
Pending loss on additional settlement............ - 250
----------------- -----------------
Reduction in estimated value of provision.. $ (24,941) $ (34,606)
================= =================
The final value of the settlements may differ significantly from the estimates
currently recorded depending on a variety of factors including the market value
of the Company's stock when issued and potential changes in market conditions
affecting the valuation of the other securities. Accordingly, the Company will
revalue the estimate of the settlement on a quarterly basis and at the time the
securities are issued. Upon issuance of the debt and equity securities, the
Company will record such amounts as liabilities or stockholders' equity based on
the nature of the individual securities.
(b) NCR Matter
In June 2001, NCR Corporation ("NCR") filed a patent infringement lawsuit
against the Company claiming that MicroStrategy was using NCR's patented
technology. In July 2001, NCR dismissed the lawsuit without any financial
payments being made by either company. Accordingly, no provision for this matter
has been made in the accompanying consolidated financial statements. In
addition, the companies made certain modifications to an agreement under which
NCR resells MicroStrategy software. These modifications had no material effect
on revenue recorded during 2001.
(c) Other Matters
The Company is also involved in other legal proceedings through the normal
course of business. Management believes that any unfavorable outcome related to
these other proceedings will not have a material effect on the Company's
financial position, results of operations, or cash flows.
(9) Redeemable Convertible Preferred Stock
On June 19, 2000, the Company issued 12,500 shares of its Series A redeemable
convertible preferred stock in a private placement to institutional investors
for $119.6 million, net of offering costs of $5.4 million. In connection with
the transaction, the Company recorded a $19.4 million charge to additional paid-
in capital attributable to the beneficial conversion feature of the Series A
redeemable convertible preferred stock. On June 14, 2001, the Company refinanced
its Series A redeemable convertible preferred stock. As a result of the
refinancing, 650 shares of the Series A redeemable convertible stock with a $6.5
million stated value remain outstanding. The Company redeemed or exchanged the
remaining 11,850 shares of its Series A redeemable convertible preferred stock,
in connection with the refinancing, as follows:
o $12.5 million stated value of the Series A redeemable convertible
preferred stock, or 1,250 shares, were redeemed for $12.5 million in
cash;
o $38.75 million stated value of the Series A redeemable convertible
preferred stock and accrued dividends of $1.7 million on all Series A
redeemable convertible preferred stock redeemed or exchanged were
exchanged for 5,568,466 shares of Class A common stock and $16.3
million stated value of Series D convertible preferred stock,
or 1,626.1 shares, with a fixed conversion price of $5.00 per
share;
o $33.125 million stated value of the Series A redeemable convertible
preferred stock were exchanged for an equivalent stated value of Series
B redeemable convertible preferred stock, or 3,312.5 shares, with a
fixed conversion price of $12.50 per share, subject to adjustment at
maturity if the Company elects to mandatorily convert these shares into
Class A common stock;
14
MICROSTRATEGY INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
o $27.825 million stated value of the Series A redeemable convertible
preferred stock were exchanged for an equivalent stated value of Series
C redeemable convertible preferred stock, or 2,782.5 shares, with a
fixed conversion price of $17.50 per share, subject to adjustment at
maturity if the Company elects to mandatorily convert these shares into
Class A common stock; and
o $6.3 million stated value of the Series A redeemable convertible
preferred stock were exchanged for an equivalent stated value of Series
E redeemable convertible preferred stock, or 630 shares, which is
currently not convertible into Class A common stock, but will become
convertible into Class A common stock on December 12, 2001 with a
conversion price per share equal to the average of the dollar
volume-weighted average price of the Class A common stock during the
ten consecutive trading days immediately preceding December 11, 2001.
The Series B preferred stock and the Series C preferred stock mature three years
after the date of issuance and accrue cumulative dividends at a rate of 12.5%
per annum, payable in cash or shares of Class A common stock at the option of
the Company, subject to satisfaction of certain conditions. Prior to maturity,
holders have the right to convert their Series B preferred stock and Series C
preferred stock into shares of the Company's Class A common stock. At the option
of the Company, the Series B and Series C preferred stock may be redeemed at
maturity at stated value plus accrued dividends or mandatorily converted into
Class A common stock at the lower of their respective fixed conversion prices
above or 95% of the average of the dollar volume-weighted average price of the
Class A common stock during the 30 consecutive trading days immediately
preceding the maturity date.
The Series D preferred stock matures three years after the date of issuance,
does not carry any dividend rate, and has a fixed conversion price of $5 per
share. At maturity, the Series D preferred stock mandatorily converts into Class
A common stock at the fixed conversion price of $5 per share. In addition, prior
to maturity, holders have the right to convert their Series D preferred
stock into shares of the Company's Class A common stock.
The Series E preferred stock matures three years after the date of issuance and
accrues cumulative dividends at a rate of 12.5% per annum until September 12,
2001, 15% per annum from September 13, 2001 until December 11, 2001, and 17.5%
per annum thereafter, accruing daily and payable in cash. The Company has the
right to redeem the Series E preferred stock prior to December 11, 2001 for 105%
of the stated value plus accrued and unpaid dividends if redeemed on or before
October 27, 2001, 110% of the stated value plus accrued and unpaid dividends if
redeemed from October 28, 2001 through December 11, 2001, and at 120% of the
stated value plus accrued dividends if redeemed thereafter. In addition, the
holders of the Series E preferred stock have the right to require the Company to
redeem the Series E preferred stock at any time after July 14, 2002 for 120% of
the stated value plus accrued and unpaid dividends and may require redemption of
the Series E preferred stock prior to that date upon specified financing
transactions or other events. Upon maturity in June 2004, the Company is
required to redeem any Series E preferred stock outstanding for $10,000 per
share plus accrued and unpaid dividends. Prior to maturity, the holders shall
have the right to convert their Series E preferred stock into shares of the
Company's Class A common stock at any time beginning on December 12, 2001, based
on a conversion price equal to the average of the dollar volume-weighted average
price of the Class A common stock during the ten consecutive trading days
immediately preceding December 11, 2001.
Each series of preferred stock is also redeemable upon certain triggering events
as defined in the respective Certificate of Designations, Preferences and Rights
of each series. In the event of redemption upon a triggering event, the
preferred stock is redeemable, with respect to each series of preferred stock,
at the greater of 125% of the stated value of such shares of preferred stock
plus accrued and unpaid dividends or the product of the number of shares of
Class A common stock into which each series of preferred stock is convertible
multiplied by the closing sale price of the Company's Class A common stock on
the day immediately before the triggering event occurs. As of June 30, 2001,
none of these triggering events have occurred.
15
MICROSTRATEGY INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
Other than as required by law, holders of each series of preferred stock have no
voting rights, except that the consent of at least two-thirds of the outstanding
shares of the applicable series of preferred stock would be required to effect
any change in either the Company's Amended and Restated Certificate of
Incorporation or Certificates of Designation that would change any of the rights
of the applicable series of preferred stock or to issue any other additional
shares of such series of preferred stock. Each series of preferred stock ranks
senior to common stock with respect to distribution and payments upon the
liquidation or dissolution of the Company and to resolutions made by the Board
of Directors. Each series of preferred stock has a liquidation preference of
$10,000 per share plus accrued and unpaid dividends. Additionally, holders of
each series of preferred stock are entitled to participate in dividends and
distributions on common stock, if any, to the same extent as if they held shares
of common stock on the record date for such dividends and distributions.
In connection with the June 2001 refinancing of the Company's Series A
redeemable convertible preferred stock, the Company obtained an independent
third-party valuation of the fair value of each series of the preferred stock.
Based upon the independent third-party valuation, the total fair value of the
new series of preferred stock and the actual value of the common stock issued at
closing were determined to be lower than the carrying value of the Series A
securities being refinanced. Accordingly, the Company recorded a net gain on the
refinancing of the Series A preferred stock of $29.4 million. This net gain
represents the excess of the fair value of the consideration transferred to the
holders of the Series A preferred stock over the carrying value of those
preferred securities of $11.0 million plus the amount of the previously
recognized beneficial conversion feature equivalent to the pro-rata portion of
the shares redeemed of $18.4 million. The net gain of $29.4 million was
recognized as a reduction to net loss attributable to common stockholders in the
accompanying consolidated statement of operations.
Based on the valuation of the Series D preferred stock, the Company determined
that the effective conversion price of the Series D preferred stock was less
than the fair value of the Company's Class A common stock on the date of
issuance. As a result, the Company recorded a beneficial conversion feature in
the amount of $3.8 million based on the difference between the fair market value
of the Company's Class A common stock on the closing date and the effective
conversion price of the Series D preferred stock. The beneficial conversion
feature has been recorded as a discount on the value of the Series D preferred
stock and an increase in additional paid-in capital and will be accreted using
the effective interest method over the three-year term of the Series D preferred
stock. For the three months ended June 30, 2001, the accretion of the carrying
value of the beneficial conversion feature was $37,000.
The remaining 650 shares of Series A preferred stock with a $6.5 million stated
value accrue dividends at a rate of 7% per annum, payable in cash or share of
Class A common stock at the election of the Company. As of June 30, 2001, the
Series A preferred stock was convertible, at the option of the holders, into
194,696 shares of Class A common stock based on the conversion price at that
date of $33.39 per share. On July 5, 2001, the conversion price was adjusted
downward to $3.08313 per share in accordance with the terms of the Certificate
of Designations, Preferences and Rights of the Series A Redeemable Convertible
Preferred Stock. As a result of this adjustment to the conversion price, the
Series A preferred stock is currently convertible into 2,108,247 shares of Class
A common stock, not including shares of Class A common stock that may be
issuable as dividends on the Series A preferred stock. The preferred stock is
also redeemable upon certain triggering events as defined in the Certificate of
Designations, Preferences and Rights of the Series A Redeemable Convertible
Preferred Stock. In the event of redemption upon a triggering event, the Series
A preferred stock is redeemable at the greater of 125% of the conversion amount
or an agreed upon formula. As of June 30, 2001, none of these triggering events
have occurred.
The Company has recorded each series of the newly issued preferred stock at its
fair value, net of offering costs of $513,000. The offering costs were allocated
ratably to each newly issued series of preferred stock based on the respective
fair value of each series. The Company is accreting the carrying value of the
Series B and Series C preferred stock to its stated value over the three-year
term of each series of preferred stock. Because the holders of the Series E
preferred stock have the right to require the Company to redeem the Series E
preferred stock for cash at any time after July 14, 2002 for 120% of the stated
value of the preferred stock plus accrued and unpaid dividends, the Company will
16
MICROSTRATEGY INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
accrete the Series E preferred stock to 120% of the stated value based on the
cash redemption values set at certain dates. For the three and six months ended
June 30, 2001, accretion to the carrying value of the preferred stock was
$130,000 and $671,000, respectively. Because the Series D preferred stock
requires share settlement at maturity and does not have a mandatory cash
redemption requirement, the Company will not accrete the carrying value of the
Series D preferred stock to its stated value.
For the three and six months ended June 30, 2001, the Company accrued total
dividends of $2.2 million and $4.4 million, respectively, on all of its series
of preferred stock. During the six months ended June 30, 2001, the Company paid
dividends of $3.7 million through the issuance of 819,167 shares of Class A
common stock and 175.6 shares of Series D preferred stock in lieu of cash. As of
June 30, 2001, the Company has accrued dividends of $1.3 million which are
included in accounts payable and other accrued expenses in the accompanying
consolidated balance sheet.
(10) Mandatorily Redeemable Convertible Preferred Stock of Consolidated
Subsidiary
In an initial closing in October 2000, Strategy.com issued 13,401,253 shares of
Series A redeemable convertible preferred stock to a group of institutional and
accredited investors in exchange for $39.8 million, net of offering costs of
approximately $3.0 million. In January 2001, Strategy.com completed this round
of financing in a second closing and issued an additional 3,134,796 shares for
proceeds of $10.0 million. The offering costs are being accreted using the
straight-line method based on the mandatory redemption dates and redemption
portions of the preferred stock of Strategy.com. The investors own approximately
16% of the economic interest in the outstanding equity of Strategy.com on an as
converted basis. The remaining 84% economic interest is owned by the Company and
the Company maintains approximately 98% of the voting interest in Strategy.com.
For the three months and six months ended June 30, 2001, the Company accreted
dividends of $1.1 million and $2.1 million, respectively, on the preferred stock
of its consolidated subsidiary, Strategy.com. Additionally, during the three
months and six months ended June 30, 2001, the Company accreted offering costs
of $129,000 and $256,000 on the preferred stock of Strategy.com. The accretion
of dividends and offering costs on Strategy.com's preferred stock is classified
as minority interest in the accompanying consolidated statements of operations.
No other minority interest has been recorded as all losses of Strategy.com are
included in the consolidated financial statements of the Company.
(11) Comprehensive Loss
Comprehensive loss includes foreign currency translation adjustments and
unrealized gains and losses on short-term investments that have been excluded
from net loss and reflected in stockholders' equity (deficit) as accumulated
other comprehensive income.
Comprehensive loss for the three and six months ended June 30, 2001 and 2000 is
calculated as follows (in thousands):
Three Months Ended Six Months Ended
June 30, June 30,
----------------------------- ------------------------------
2001 2000 2001 2000
------------- -------------- -------------- --------------
Net loss........................................... $ (33,298) $ (52,142) $ (53,869) $ (84,992)
Foreign currency translation adjustment............ (313) 258 (600) (121)
Unrealized (loss) gain on short-term investments... 699 (10,837) 256 (1,266)
------------- -------------- -------------- --------------
Comprehensive loss............................ $ (32,912) $ (62,721) $ (54,213) $ (86,379)
============= ============== ============== ==============
17
MICROSTRATEGY INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
(12) Basic and Diluted Net Loss Per Share
Basic net loss per share is determined by dividing the net loss applicable to
common stockholders by the weighted average number of common shares outstanding
during the period. Diluted net loss per share is determined by dividing the net
loss applicable to common stockholders by the weighted average number of common
shares and potential common shares outstanding during the period. Potential
common shares have not been included in the calculation of diluted net loss per
share because they are anti-dilutive. Potential common shares consisting of
common stock issuable upon exercise of outstanding common stock options and
warrants are computed using the treasury stock method. There are no reconciling
items in the numerator and denominator of the Company's net loss per share
calculation. Employee stock options of 20,961,377 and 15,241,056 and warrants of
128,334 and 78,334 for the three and six months ended June 30, 2001 and 2000,
respectively, have been excluded from the net loss per share calculation because
their effect would be anti-dilutive. Additionally, Series A preferred stock,
Series B preferred stock, Series C preferred stock, Series D preferred stock,
and Series E preferred stock which were convertible into 9,419,307 shares of
Class A common stock, have been excluded from the net loss per share calculation
for the three and six months ended June 30, 2001 because their effect would be
anti-dilutive.
(13) Segment Information
The Company has two operating segments, MicroStrategy Core and Strategy.com.
MicroStrategy Core enables users to query and analyze the most detailed,
transaction-level databases, turning data into business intelligence. Revenues
are derived from sales of product licenses and product support and other
services, including technical support, education and consulting services.
Strategy.com delivers to subscribers highly personalized, timely information
services on a scheduled or event-driven basis through a wide variety of delivery
methods, including e-mail and wireless devices. Revenues are derived from
license fees, programming services, and subscriber and messaging services. The
Company began operating its business as two segments in the latter part of 1999.
The accounting policies of both segments are the same as those described in the
summary of significant accounting policies in the Company's Annual Report on
Form 10-K for the year ended December 31, 2000. Prior to the establishment of
Strategy.com as a stand-alone subsidiary in October 2000, certain corporate
support costs were allocated to Strategy.com based on factors such as headcount,
gross asset value and the specific level of activity directly related to such
costs. Upon completion of the reorganization which resulted in the establishment
of Strategy.com as a stand-alone subsidiary, the Company entered into various
intercompany agreements whereby consulting services, sales and marketing
activities and administrative services are provided by MicroStrategy to
Strategy.com for a fee based on rates and factors specified in the agreements.
These rates and factors for determining fees are based upon the same allocations
utilized prior to the reorganization and include factors such as headcount,
gross asset value and specific level of activity directly related to such
services.
As previously discussed, during the three months ended June 30, 2001, the
Company substantially curtailed operations of Strategy.com and reduced
its workforce to approximately 40 employees. The Company is currently
seeking strategic alternatives for Strategy.com, including the sale of
the business. Although the curtailment of the business includes a
substantial reduction in product, software development and marketing
expenditures, the Company expects to continue to incur losses from its
Strategy.com operations in the forseeable future. As a result of the
significant curtailment of the business and the uncertainty of generating
additional Strategy.com revenues, the Company recorded asset impairment charges
for the three months ended June 30, 2001 related to the hardware
and software used in Strategy.com operations.
The following summary discloses certain financial information regarding the
Company's operating segments (in thousands):
18
MICROSTRATEGY INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
Core Strategy.com Consolidated
---- ------------ ------------
Three Months Ended June 30, 2001
Total license and service revenues.......... $ 47,160 $ 2,049 $ 49,209
Gross profit (loss)......................... 35,802 (1,599) 34,203
Depreciation and amortization............... 8,534 1,326 9,860
Operating expenses.......................... 66,342 23,568 89,910
Loss from operations........................ (30,540) (25,167) (55,707)
Total assets................................ 133,476 32,873 166,349
Three Months Ended June 30, 2000
Total license and service revenues.......... $ 49,200 $ 1,144 $ 50,344
Gross profit (loss)......................... 28,214 (38) 28,176
Depreciation and amortization............... 7,111 1,010 8,121
Operating expenses.......................... 63,895 11,888 75,783
Loss from operations........................ (35,681) (11,926) (47,607)
Total assets................................ 273,464 14,213 287,677
Core Strategy.com Consolidated
---- ------------ ------------
Six Months Ended June 30, 2001
Total license and service revenues.......... $ 96,109 $ 4,484 $100,593
Gross profit (loss)......................... 68,820 (3,282) 65,538
Depreciation and amortization............... 15,902 3,546 19,448
Operating expenses.......................... 119,412 30,539 149,951
Loss from operations........................ (50,592) (33,821) (84,413)
Total assets................................ 133,476 32,873 166,349
Six Months Ended June 30, 2000
Total license and service revenues.......... $ 99,702 $ 1,257 $100,959
Gross profit (loss)......................... 62,557 (132) 62,425
Depreciation and amortization............... 12,471 1,781 14,252
Operating expenses.......................... 126,247 23,272 149,519
Loss from operations........................ (63,690) (23,404) (87,094)
Total assets................................ 273,464 14,213 287,677
Operating expense and loss from operations for Core and Strategy.com for the
three and six months ended June 30, 2001 include restructuring and impairment
charges. Those charges were $23.4 million and $19.7 million for Core and
Strategy.com, respectively.
The following summary discloses total revenues and long-lived assets, excluding
long-term deferred tax assets and long-term investments, relating to the
Company's geographic regions (in thousands):
19
MICROSTRATEGY INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
Domestic International Consolidated
-------- ------------- ------------
Three Months Ended June 30, 2001
Total license and service revenues........ $ 34,212 $ 14,997 $ 49,209
Long-lived assets......................... 57,425 2,972 60,397
Three Months Ended June 30, 2000
Total license and service revenues........ $ 39,246 $ 11,098 $ 50,344
Long-lived assets......................... 99,294 2,995 102,289
Domestic International Consolidated
-------- ------------- ------------
Six Months Ended June 30, 2001
Total license and service revenues........ $ 68,817 $ 31,776 $ 100,593
Long-lived assets......................... 57,425 2,972 60,397
Six Months Ended June 30, 2000
Total license and service revenues......... $ 78,431 $ 22,528 $ 100,959
Long-lived assets......................... 99,294 2,995 102,289
Transfers relating to intercompany software license royalties of $5.7 million
and $1.8 million for the three months ended June 30, 2001 and 2000,
respectively, and transfers relating to intercompany software license royalties
of $10.3 million and $4.3 million for the six months ended June 30, 2001 and
2000, respectively, from international to domestic operations have been excluded
from the above table and eliminated in the consolidated financial statements.
20
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
FORWARD-LOOKING INFORMATION
This Quarterly Report on Form 10-Q contains forward-looking statements within
the meaning of Section 21E of the Securities Exchange Act of 1934, as amended.
For this purpose, any statements contained herein that are not statements of
historical fact, including without limitation, certain statements regarding
industry prospects and our results of operations or financial position, may be
deemed to be forward-looking statements. Without limiting the foregoing, the
words "believes," "anticipates," "plans," "expects," and similar expressions are
intended to identify forward-looking statements. The important factors discussed
below under the caption "Risk Factors," among others, could cause actual results
to differ materially from those indicated by forward-looking statements made
herein and presented elsewhere by management from time to time. Such
forward-looking statements represent management's current expectations and are
inherently uncertain. Investors are warned that actual results may differ from
management's expectations.
Overview
We are a leading worldwide provider of business intelligence software that
enables companies to analyze the raw data stored across their enterprise to
reveal the trends and answers needed to manage their business effectively. Our
software delivers this critical insight to employees, customers, partners and
suppliers via e-mail, web, wireless and voice communication channels. Our
objective is to provide businesses with a software platform that enables them to
develop user-friendly solutions, proactively optimize revenue-generating
strategies, enhance cost-efficiency and productivity and improve their customer
relationships.
Our software platform enables users to query and analyze the most detailed,
transaction-level databases, turning data into business intelligence and
delivering reports and alerts in the context of the users' business processes.
Our web architecture provides reporting, security, performance and standards
that are critical for web deployment. Within intranets, our products provide
employees with information to enable them to make better, more cost-effective
business decisions. In extranets, enterprises can use our MicroStrategy 7
software to build stronger relationships by linking customers and suppliers via
the Internet. We offer a comprehensive set of consulting, education and
technical support services for our customers and partners.
In July 1999, we launched a new business unit called Strategy.com. Strategy.com
delivers to subscribers highly personalized, timely information services on a
scheduled or event-driven basis through a wide variety of delivery methods,
including e-mail and wireless devices. As of June 30, 2001, syndicated
programming hosted by Strategy.com included Finance, News, Weather and Traffic
"channels." Strategy.com syndicates its channels through companies it refers to
as Strategy.com affiliates, such as Earthlink and Ameritrade. MicroStrategy owns
approximately 84% of the economic interest in the outstanding equity of
Strategy.com on an as converted basis. In April and May 2001, Strategy.com
adopted similar restructuring plans pursuant to which it substantially curtailed
operations, reduced its workforce to approximately 40 employees and will explore
strategic alternatives for its business.
We developed a restructuring plan that was adopted during the second quarter of
2001 in order to better align operating expenses with revenue expectations to
help achieve our goal of making the MicroStrategy core business profitable on an
operating basis by the end of 2001, excluding certain charges. The restructuring
plan includes a strategic decision to focus on the business intelligence market,
the elimination or reduction of speculative technology initiatives, a greater
emphasis on indirect sales, and a reduction of our workforce by 597 domestic,
international, and Strategy.com employees throughout all functional areas, or
approximately 33% of the worldwide headcount. As a result of the reduction in
headcount, we consolidated our multiple Northern Virginia facilities into a
single location in McLean, Virginia. As a result of these actions and the
Strategy.com restructuring plans discussed above, we recorded restructuring and
impairment charges of $43.1 million during the second quarter of 2001 for
severance costs and other benefits for terminated employees, costs associated
with exiting facilities, and fees incurred for professional services directly
related to the restructuring. We anticipate overall annualized savings to be in
the range of $70 million to $85 million as a result of these actions.
21
Results of Operations
The following table sets forth for the periods indicated the percentage of total
revenues represented by certain items reflected in our consolidated statements
of operations:
Three Months Ended Six Months Ended
------------------ ----------------
June 30, June 30,
-------- --------
2001 2000 2001 2000
---------- ---------- --------- ----------
Statements of Operations Data
Revenues:
Product licenses.................................. 43.1 % 43.4 % 40.5 % 47.4 %
Product support and other services................ 56.9 56.6 59.5 52.6
---------- ---------- --------- ----------
Total revenues................................. 100.0 100.0 100.0 100.0
---------- ---------- --------- ----------
Cost of revenues:
Product licenses.................................. 1.8 0.8 2.3 1.0
Product support and other services................ 28.7 43.3 32.6 37.2
---------- ---------- --------- ----------
Total cost of revenues......................... 30.5 44.1 34.9 38.2
---------- ---------- --------- ----------
Gross profit........................................... 69.5 55.9 65.1 61.8
---------- ---------- --------- ----------
Operating expenses:
Sales and marketing............................... 42.8 76.2 49.2 79.1
Research and development.......................... 19.7 31.4 23.6 31.7
General and administrative........................ 23.9 34.5 24.9 29.2
Restructuring and impairment charges.............. 87.6 - 42.8 -
Amortization of goodwill and intangible assets.... 8.7 8.4 8.5 8.1
---------- ---------- --------- ----------
Total operating expenses....................... 182.7 150.5 149.0 148.1
---------- ---------- --------- ----------
Loss from operations................................... (113.2) (94.6) (83.9) (86.3)
Financing and other income (expense):
Interest income................................... 1.7 0.9 2.2 0.9
Interest expense.................................. (3.0) ( - ) (1.8) ( - )
(Loss) gain on investments........................ (0.5) (10.1) (1.3) 1.3
Reduction in estimated cost of litigation
settlement.................................... 50.7 - 34.4 -
Minority interest................................. (2.4) - (2.3) -
Other (expense) income, net....................... (0.9) 0.2 (0.5) 0.1
---------- ---------- --------- ----------
Total financing and other income (expense)..... 45.6 (9.0) 30.7 2.3
---------- ---------- --------- ----------
Loss before income taxes............................... (67.6) (103.6) (53.2) (84.0)
Provision for income taxes............................. 0.1 - 0.3 0.2
---------- ---------- --------- ----------
Net loss............................................... (67.7) (103.6) (53.5) (84.2)
---------- ---------- --------- ----------
Dividends on and accretion of Series A, B, C, D, and E
convertible preferred stock....................... (4.8) (0.6) (4.5) (0.3)
Net gain on refinancing of Series A redeemable
convertible preferred stock....................... 59.7 - 29.2 -
Preferred stock beneficial conversion feature.......... - (38.5) - (19.2)
---------- ---------- --------- ----------
Net loss attributable to common stockholders........... (12.8) % (142.7)% (28.8) % (103.7)%
========== ============ ========= ==========
22
Comparison of the Three and Six Months Ended June 30, 2001 and 2000
Revenues
Total revenues consist of revenues derived from sales of product licenses and
product support and other services, including technical support, education and
consulting services. Total revenues decreased from $50.3 million to $49.2
million for the three months ended June 30, 2000 and 2001, respectively,
resulting in a decrease of 2.3%, and decreased from $101.0 million to $100.6
million for the six months ended June 30, 2000 and 2001, respectively, resulting
in a decrease of 0.4%.
Product License Revenues. Product license revenues decreased from $21.8 million
to $21.2 million for the three months ended June 30, 2000 and 2001,
respectively, a decrease of 2.8%, and decreased from $47.8 million to $40.8
million for the six months ended June 30, 2000 and 2001, respectively, a
decrease of 14.8%. Product license revenues included revenues related to
Strategy.com of $847,000 and $946,000 during the three months ended June 30,
2000 and 2001, respectively, and $847,000 and $1.9 million during the six months
ended June 30, 2000 and 2001, respectively. The overall decrease in product
license revenues was primarily attributable to the economic slowdown in the
first two quarters of 2001, which led to decreased corporate spending on
information technology. As discussed further below, we experienced a decline in
domestic product license revenues in this period which was offset in part by an
increase in international product license revenues. We expect product license
revenues as a percentage of total revenues to fluctuate on a period-to-period
basis and vary significantly from the percentage of total revenues achieved in
prior years. We may not be able to maintain or increase market acceptance for
our family of products.
Product Support and Other Services Revenues. Product support and other services
revenues decreased from $28.5 million to $28.0 million for the three months
ended June 30, 2000 and 2001, respectively, a decrease of 1.9%, and increased
from $53.1 million to $59.8 million for the six months ended June 30, 2000 and
2001, respectively, an increase of 12.6%. Product support and other services
revenues included revenues related to Strategy.com of $297,000 and $1.1 million
for the three months ended June 30, 2000 and 2001, respectively, and $410,000
and $2.6 million for the six months ended June 30, 2000 and 2001, respectively.
The decrease in product support and other services revenues for the three months
ended June 30, 2001 compared to the comparable period in the prior year was
primarily due to a decrease in demand for consulting services. Additionally, the
decrease in product support and other services revenue was also attributable to
the implementation of a restructuring plan under which we have reduced our
consulting, education and technical support staffing levels in our core business
and Strategy.com. The increase in product support and other services revenue for
the six months ended June 30, 2001 was primarily attributable to an increase in
technical support services during the first quarter of 2001 resulting from an
increase in the size of our installed product base covered under our software
support contracts with new and existing customers. As a result of possible
fluctuations in product license revenues discussed above, product support and
other services revenues as a percentage of total revenues may fluctuate on a
period-to-period basis and vary significantly from the percentage of total
revenues achieved in prior years.
International Revenues. International revenues are included in the amounts
discussed above and are discussed separately within this paragraph. Total
international revenues increased from $11.1 million to $15.0 million for the
three months ended June 30, 2000 and 2001, respectively, an increase of 35.1%,
and increased from $22.5 million to $31.8 million for the six months ended June
30, 2000 and 2001, respectively, an increase of 41.1%. International product
license revenues increased from $5.3 million to $7.1 million for the three
months ended June 30, 2000 and 2001, respectively, an increase of 34.0%, and
increased from $12.2 million to $15.2 million for the six months ended June 30,
2000 and 2001, respectively, an increase of 24.6%. International product support
and other services revenues increased from $5.8 million to $7.9 million for the
three months ended June 30, 2000 and 2001, respectively, an increase of 36.2%,
and increased from $10.3 million to $16.6 million for the six months ended June
30, 2001, respectively, an increase of 61.2%. The increase in these revenues is
due to the expansion of our international operations, new product offerings and
growing international market acceptance of our software products. In addition,
we opened new sales offices in Argentina, Mexico, Korea, and Australia in the
latter half of 2000. As a percentage of total revenues, international revenues
were 30.5% and 22.0% for the three months ended June 30, 2001 and 2000,
respectively, and 31.6% and 22.3% for the six months ended June 30, 2001 and
2000, respectively. We anticipate that international revenues will continue to
account for a significant portion of total revenues and management expects to
continue to commit significant time and financial resources to the maintenance
and ongoing development of direct and indirect international sales and support
channels.
23
Costs and Expenses
Cost of Product License Revenues. Cost of product license revenues consists
primarily of the costs of product manuals, media, amortization of capitalized
software expenses and royalties paid to third party software vendors. Cost of
product license revenues increased from $392,000 to $863,000 for the three
months ended June 30, 2000 and 2001, respectively, and from $997,000 million to
$2.3 million for the six months ended June 30, 2000 and 2001, respectively. As a
percentage of product license revenues, cost of product license revenues
increased from 1.8% to 4.1% for the three months ended June 30, 2000 and 2001,
respectively, and from 2.1% to 5.6% for the six months ended June 30, 2000 and
2001, respectively. The increase in cost of product license revenues as a
percentage of product license revenues was primarily due to increased royalty
obligations to third party software vendors resulting from an increase in
royalty arrangements with strategic partners. In the event that we increase
indirect sales and enter into additional royalty arrangements with strategic
partners in the future, cost of product license revenues as a percentage of
total product license revenues may increase.
Cost of Product Support and Other Services. Cost of product support and other
services consists of the costs of providing consulting services to customers and
partners, technical support, and education. Cost of product support and other
services decreased from $21.8 million to $14.1 million for the three months
ended June 30, 2000 and 2001, respectively, and from $37.5 million to $32.8
million for the six months ended June 30, 2000 and 2001, respectively. As a
percentage of product support and other services revenues, cost of product
support and other services revenues decreased from 76.4% to 50.5% for the three
months ended June 30, 2000 and 2001, respectively, and from 70.7% to 54.8% for
the six months ended June 30, 2000 and 2001, respectively. As discussed above,
we implemented a restructuring plan during the second quarter of 2001, under
which we have reduced our consulting, education and technical support staffing
levels in our core business and Strategy.com, which contributed to the decrease
in the cost of product support and other services as a percentage of product
support and other services revenues ("services cost"). Additionally, the
decrease in services cost was also due to a decrease in the use of third parties
to perform consulting services and an increase in maintenance revenues as a
percentage of total product support and other services revenues, which result in
higher profit margins than other product support revenues, such as consulting
and educational services. To the extent that we do not achieve anticipated
levels of product support and other services revenues, our services margin may
not improve without further lowering costs of product support and other
services.
Sales and Marketing Expenses. Sales and marketing expenses include domestic and
international personnel costs, commissions, office facilities, travel,
advertising, public relations programs and promotional events, such as trade
shows, seminars and technical conferences. Sales and marketing expenses
decreased from $38.3 million to $21.1 million for the three months ended June
30, 2000 and 2001, respectively, and from $79.9 million to $49.5 million for the
six months ended June 30, 2000 and 2001, respectively. As a percentage of total
revenues, sales and marketing expenses decreased from 76.2% to 42.8% for the
three months ended June 30, 2000 and 2001, respectively, and from 79.1% to 49.2%
for the six months ended June 30, 2000 and 2001, respectively. The decrease in
sales and marketing expenses was primarily due to decreased staffing levels in
the sales force as a result of our restructuring plans implemented in the third
quarter of 2000 and in the second quarter of 2001, decreased commissions earned,
relating to lower product licenses revenues and decreased promotional activities
and advertising. During the first quarter of 2000, we invested heavily in
advertising, including a national television and print advertising campaign and
other marketing efforts in order to create better market awareness of the
value-added potential of our product suite and Strategy.com and to seek to
acquire market share. These advertising programs were not continued in the
latter half of 2000 or in the first and second quarters of 2001. As part of the
restructuring plan in the second quarter of 2001, we have reduced overall
spending on marketing initiatives and advertising and have focused our marketing
efforts solely on our core business intelligence product line. Sales and
marketing expenses related to Strategy.com decreased from $3.4 million to
$671,000 for the three months ended June 30, 2000 and 2001, respectively, and
from $8.7 million to $2.5 million for the six months ended June 30, 2000 and
2001 respectively. We intend to continue to market our MicroStrategy 7 software
and other technology in our suite of products; however, we expect to continue to
reduce our overall advertising and marketing efforts going forward in order to
better align our costs with anticipated revenues.
24
Research and Development Expenses. Research and development expenses consist
primarily of salaries and benefits of software engineering personnel,
depreciation of equipment and other costs. Research and development expenses
decreased from $15.8 million to $9.7 million for the three months ended June 30,
2000 and 2001, respectively, and from $32.0 million to $23.7 million for the six
months ended June 30, 2000 and 2001, respectively. As a percentage of total
revenues, research and development expenses decreased from 31.4% to 19.7% for
the three months ended June 30, 2000 and 2001, respectively, and from 31.7% to
23.6% for the six months ended June 30, 2000 and 2001, respectively. The
decrease in research and development expenses was primarily due to our focus on
enhancing our core business intelligence product line rather than initiating new
product development. The decrease in research and development expenses was also
attributable to a reduction in staffing levels in connection with the
restructuring plan implemented during the second quarter of 2001, a decrease in
the use of third party consultants to develop new products and product releases,
and a curtailment of spending on the Strategy.com network. Research and
development expenses related to Strategy.com decreased from $4.7 million to $1.9
million for the three months ended June 30, 2000 and 2001, respectively, and
from $9.0 million to $5.4 million for the six months ended June 30, 2000 and
2001, respectively. We expect that research and development expenses may be
further reduced in future periods in view of staff reductions, reductions in the
use of external consultants and reductions in spending on technology projects
that are unrelated to our primary market.
During the three months ended June 30, 2001, in accordance with SFAS No. 86,
"Accounting for the Costs of Computer Equipment to be Sold, Leased, or Otherwise
Marketed," we capitalized $606,000 of software development costs associated with
the release of the Narrowcaster 7.1 software. During the three months ended June
30, 2000, we capitalized $1.0 million of software development costs associated
with the release of the MicroStrategy 7.0 software. These amounts represent
software development costs incurred from the time that technological feasibility
was reached until the general release of the respective software products. These
capitalized software costs are amortized over their respective useful lives of
approximately 3 years.
General and Administrative Expenses. General and administrative expenses include
domestic and international personnel and other costs of our finance, human
resources, information systems, administrative and executive departments as well
as outside consulting, legal and other professional fees. General and
administrative expenses decreased from $17.4 million to $11.8 million for the
three months ended June 30, 2000 and 2001, respectively, and from $29.5 million
to $25.1 million for the six months ended June 30, 2000 and 2001, respectively.
As a percentage of total revenues, general and administrative expenses decreased
from 34.5% to 23.9% for the three months ended June 30, 2000 and 2001,
respectively, and from 29.2% to 24.9% for the six months ended June 30, 2000 and
2001, respectively. The decrease in general and administrative expenses was
primarily due to a reduction in staff levels as a result of the restructuring
plan implemented during the second quarter of 2001, a decrease in the use of
external professional services, and a reduction in recruiting efforts. General
and administrative expenses related to Strategy.com decreased from $3.8 million
to $1.1 million for the three months ended June 30, 2000 and 2001, respectively,
and from $5.6 million to $2.7 million for the six months ended June 30, 2000 and
2001, respectively. We expect that general and administrative expenses may be
further reduced in future periods in view of staff reductions, facilities
consolidation and reductions in the use of external consultants.
Restructuring and Impairment Charges. During the second quarter of 2001, we
adopted a restructuring plan designed to focus our commercial activities. The
restructuring plan includes a strategic decision to focus our operations on the
business intelligence market, the elimination or reduction of speculative
technology initiatives, a greater emphasis on indirect sales, and a reduction of
our workforce by 597 domestic, international, and Strategy.com employees
throughout all functional areas, or approximately 33% of the worldwide
headcount. As a result of the reduction in headcount, we consolidated our
multiple Northern Virginia facilities into a single location in McLean,
Virginia. On April 3, 2001 and May 4, 2001, Strategy.com adopted similar
restructuring plans pursuant to which it substantially curtailed operations and
reduced its workforce to approximately 40 employees.
As a result of these restructuring plans, we recorded restructuring and
impairment charges of $43.1 million during the second quarter of 2001 for
severance costs and other benefits for terminated employees, costs associated
with exiting facilities, and fees incurred for professional services directly
related to the restructuring. As a result of the restructuring, we expect
depreciation expense to be reduced by approximately $22.0 million over the next
four years. The following table sets forth a summary, by operating segment, of
the restructuring and impairment charges (in thousands):
25
Accrued
Total Restructuring
Charge for Charge for Consolidated Non-cash Cash Costs at
Core Strategy.com Charge Charges Payments June 30, 2001
---- ------------ ------ ------- -------- -------------
Severance and other employee
termination benefits......... $ 2,862 $ 1,505 $ 4,367 $ - $ (3,583) $ 784
Write-down of impaired assets.. 6,443 17,485 23,928 (23,928) - -
Estimated sublease losses and
other facility closing costs. 13,008 - 13,008 - (568) 12,440
Terminations of computer and
equipment leases............. 712 590 1,302 - (246) 1,056
Accrual for professional fees.. 393 105 498 - (151) 347
-------- -------- -------- --------- -------- --------
Total restructuring and
impairment charges....... $ 23,418 $ 19,685 $ 43,103 $ (23,928) $ (4,548) $ 14,627
======== ======== ======== ========= ======== ========
Amortization of Goodwill and Intangible Assets. We have recorded $4.2 million in
amortization expense for each of the three months ended June 30, 2000 and 2001,
and $8.1 million and $8.5 million in amortization expense for the six months
ended June 30, 2000 and 2001, respectively. We expect our level of amortization
expense to be substantially the same through the end of 2001, to the extent no
additional intangible assets are acquired. See "Recent Accounting
Pronouncements" below regarding the issuance of SFAS No. 142, "Goodwill and
Other Intangible Assets."
(Loss) Gain on Investments. In March 2000, we sold 412,372 of Xchange, Inc.
common shares received in consideration for the sale of software, for a realized
gain of $6.4 million. In May 2000, we sold an additional 412,370 shares of
Xchange, Inc. common stock for a realized loss of $4.9 million. Also during the
second quarter of 2000, the Company sold certain other securities, which
resulted in a realized loss of $137,000. During the first quarter of 2001, we
sold 161,300 of shares of Xchange, Inc. common that we had received during 2000
for a gain of $24,000. During the second quarter of 2001, we sold 323,700 of
these shares for a loss of $9,000.
During the first quarter and second quarter of 2001, we received additional
shares of Xchange's stock in consideration for the sale of MicroStrategy
software, technical support and consulting services. Due to a subsequent
decrease in the market value of Xchange's stock, the timing and amount of future
recovery, if any, of our aggregate investment in Xchange's stock was determined
to be uncertain and the decline in value was deemed to be other than temporary.
Accordingly, we wrote down the investment to its fair value at March 31, 2001
and then again at June 30, 2001 and recognized losses of $224,000 and $505,000,
during the three months and six months ended June 30, 2001, respectively.
Additionally, during the first quarter of 2001, we recognized a loss of $840,000
related to a 5% interest we held in a voice portal technology company that was
purchased by another company, in exchange for approximately 50% in cash and 50%
in publicly-traded common stock of the acquiring entity.
Provision for Litigation Settlement. We and certain of our officers and
directors were named as defendants in a private securities class action lawsuit
alleging that they have violated Section 10(b) of the Securities Exchange Act of
1934, as amended (the "Exchange Act"), Rule 10b-5 promulgated thereunder, and
Section 20(a) and Section 20A of the Exchange Act in connection with various
statements that were made with respect to the 1999, 1998 and 1997 financial
results. The action was consolidated in the United States District Court for the
Eastern District of Virginia. In June 2000, purported holders of our common
stock filed a shareholder derivative lawsuit in the Delaware Court of Chancery
seeking recovery for various alleged breaches of fiduciary duties by certain of
our directors and officers relating to the restatement of our financial results
for 1999, 1998 and 1997.
In October 2000, we entered into agreements to settle these lawsuits. On January
19, 2001, the United States District Court authorized notice of the proposed
class action settlement sent to all putative class members. The notice informs
class members of their rights including their rights to object to the proposed
settlement and to pursue their claims separately. On April 2, 2001, the United
26
States District Court approved the class action settlement, and the period from
which an appeal could have been taken has expired. At a hearing on August 7,
2001, the Chancery Court approved the derivative settlement.
Under the class action settlement agreements, class members will receive: 1)
five-year unsecured subordinated promissory notes issued by the Company having
an aggregate principal amount of $80.5 million and bearing interest at 7.5% per
year; 2) 2,777,778 shares of our Class A common stock; and 3) warrants issued by
the Company to purchase 1,900,000 shares of our Class A common stock at an
exercise price of $40 per share, with the warrants expiring five years from the
date they are issued.
Based on the terms of the settlement agreements, during the third quarter of
2000, we determined that a liability related to these actions was probable and
that the value was reasonably estimable. Accordingly, we established an estimate
for the cost of the litigation settlement of $126.8 million during the third
quarter of 2000. Subsequently, we have estimated the value of the settlement
during each of the successive quarterly financial reporting periods based upon
valuation assumptions from the settlement. During the second quarter of 2001, we
updated the estimated value assigned to the promissory notes and warrants to be
issued based upon an independent third-party valuation and separately evaluated
the other individual components of the settlement agreements. As a result of the
changes in the estimated value of each element of the settlement, we recorded a
reduction in the provision for the litigation settlement of $24.9 million and
$34.6 million during the three and six months ended June 30, 2001, respectively.
This reduction was comprised of the following (in thousands):
Three Six
Months Ended Months Ended
June 30, 2001 June 30, 2001
----------------- -----------------
Issuance of promissory notes..................... $ (16,700) $ (16,700)
Issuance of Class A common stock................. (8,721) (8,721)
Issuance of warrants............................. 480 (9,435)
Pending loss on additional settlement............ - 250
----------------- -----------------
Reduction in estimated value of provision.. $ (24,941) $ (34,606)
================= =================
The final value of the settlements may differ significantly from the estimates
currently recorded depending on a variety of factors including the market value
of the Class A common stock when issued and potential changes in market
conditions affecting the valuation of the other securities. Accordingly, we will
revalue the estimate of the settlement on a quarterly basis and at the time the
securities are issued. Upon issuance of the debt and equity securities, we will
record such amounts as liabilities or stockholders' equity based on the nature
of the individual securities. Because of the rights of the holders of the
promissory notes to tender the notes in satisfaction of the exercise price upon
exercising the warrants, the warrants meet the definition of a derivative under
SFAS No. 133 and, accordingly, will be revalued through earnings on a quarterly
basis.
Minority Interest. For the three and six months ended June 30, 2001, we accreted
dividends and offering costs of $1.2 million and $2.3 million, respectively, on
the preferred stock of Strategy.com which was issued in October 2000 and January
2001.
Provision for Income Taxes. We recorded income tax expense of $48,000 and $0 for
the three months ended June 30, 2001 and 2000, respectively, and $337,000 and
$250,000 of income tax expense for the six months ended June 30, 2001 and 2000,
respectively. The provision for both quarters and the six months ended June 30
in each year relates to income taxes payable in certain foreign jurisdictions in
which we were profitable. The provision for income taxes may increase as we
become more profitable in certain foreign jurisdictions where we have limited or
no net operating losses to offset taxable income.
Dividends on and Accretion of Series A, B, C, D and E Convertible Preferred
Stock. For the three and six months ended June 30, 2001, we recorded aggregate
preferred stock dividends and accretion of $2.4 million and $4.5 million,
respectively. During the six months ended June 30, 2001, we paid dividends of
$3.7 million through the issuance of 819,167 shares of Class A common stock and
175.6 shares of Series D preferred stock in lieu of cash. As of June 30, 2001,
we had accrued dividends of $1.3 million which are included in accounts payable
and other accrued expenses in the accompanying consolidated balance sheet.
27
Net Gain on Refinancing of Series A Redeemable Convertible Preferred Stock. In
connection with the June 2001 refinancing of the our Series A redeemable
convertible preferred stock described below, we obtained an independent
third-party valuation of the fair value of each series of the preferred stock.
Based upon the independent third-party valuation, the total fair value of the
new series of preferred stock and the actual value of the common stock issued at
closing were determined to be lower than the carrying value of the Series A
securities being refinanced. Accordingly, we recorded a net gain on the
refinancing of the Series A preferred stock of $29.4 million. This net gain
represents the excess of the fair value of the consideration transferred to the
holders of the Series A preferred stock over the carrying value of those
preferred securities of $11.0 million plus the amount of the previously
recognized beneficial conversion feature equivalent to the pro-rata portion of
the shares redeemed of $18.4 million. The net gain of $29.4 million was
recognized as a reduction to net loss attributable to common stockholders in the
accompanying consolidated statement of operations.
Preferred Stock beneficial Conversion Feature. During the second quarter of
2000, we recorded a $19.4 million charge to additional paid-in capital
attributable to the beneficial conversion feature of the Series A redeemable
convertible preferred stock based on the difference between the fair market
value of the Class A common stock on the closing date of the private placement
and the conversion rate.
Deferred Revenue
Deferred revenue represents product support and other services fees that are
collected in advance for product license and product support and other services
fees relating to multiple element software arrangements for which the fair value
of each element cannot be established. Deferred revenue also includes product
license and product support and other services fees relating to arrangements
which require implementation-related services that are significant to the
functionality of features of the software product, including arrangements with
subsequent hosting services. Aggregate deferred revenue was $70.5 million as of
June 30, 2001 compared to $81.6 million as of December 31, 2000. We expect to
recognize approximately $48.2 million of this deferred revenue over the next 12
months; however, the timing and ultimate recognition of our deferred revenue
depends on our performance of various service obligations. Because of the
possibility of customer changes in development schedules, delays in
implementation and development efforts and the need to satisfactorily perform
product support and other services, deferred revenue as of any particular date
may not be representative of actual revenue for any succeeding period.
Liquidity and Capital Resources
On June 30, 2001 and December 31, 2000, we had $61.1 million and $94.7 million
of cash, cash equivalents, and short-term investments, respectively, of which
$564,000 and $25.9 million was restricted cash as of June 30, 2001 and December
31, 2000, respectively, and $27.4 million and $34.5 million was cash of
Strategy.com as of June 30, 2001 and December 31, 2000, respectively.
Cash used in operations was $40.0 million and $40.6 million for the six months
ended June 30, 2001 and 2000, respectively. The decrease in cash used in
operations from 2000 to 2001 was primarily attributable to a decrease in our
operating losses, excluding the restructuring and impairment charges recorded
during 2001, offset by an increase in cash used for working capital items such
as accounts payable and accrued expenses. During the latter part of 2000 and
during the second quarter of 2001, we have taken several actions to curtail our
operating expenses including a reduction in headcount, consolidation of
facilities and discontinuation of various company sponsored events. We have also
implemented actions to reduce the use of outside consultants and contractors and
other sales and marketing expenses. These actions were taken to achieve our goal
of making the core business, excluding Strategy.com, profitable on an operating
basis by the end of 2001, excluding amortization, preferred dividends and other
non-operating expenses.
Cash provided by investing activities was $24.3 million for the six months ended
June 30, 2001. For the six months ended June 30, 2000, cash used in investing
activities was $16.7 million. As discussed further below, cash provided by
investing activities consisted primarily of the $25.3 million in restricted cash
that was released in connection with the termination of our prior credit
28
facility. Additionally, we received $2.2 million in cash relating to the sale of
a 5% interest we held in a voice portal technology company that was purchased by
another company, in exchange for approximately 50% in cash and 50% in
publicly-traded common stock of the acquiring entity. The remaining change in
cash provided by investing activities from 2000 to 2001 is primarily
attributable to a $24.3 million reduction in capital expenditures. Also during
the 2000 period, we received $38.4 million in proceeds from the sale of
short-term investments which was offset by a $28.6 million requirement to fund a
restricted cash account.
Our financing activities provided cash of $5.9 million and $125.6 million for
the six months ended June 30, 2001 and 2000, respectively. On June 19, 2000, we
issued 12,500 shares of our Series A redeemable convertible preferred stock in a
private placement to institutional investors for $119.6 million, net of
estimated offering costs of $5.4 million. On June 14, 2001, we refinanced our
Series A redeemable convertible preferred stock. As a result of the refinancing,
650 shares of the Series A redeemable convertible stock with a $6.5 million
stated value remain outstanding. We redeemed or exchanged the remaining 11,850
shares of our Series A redeemable convertible preferred stock, in connection
with the refinancing, as follows:
o $12.5 million stated value of the Series A redeemable convertible
preferred stock, or 1,250 shares, were redeemed for $12.5 million in
cash;
o $38.75 million stated value of the Series A redeemable convertible
preferred stock and accrued dividends of $1.7 million on all Series A
redeemable convertible preferred stock redeemed or exchanged were
exchanged for 5,568,466 shares of Class A common stock and $16.3
million stated value of Series D redeemable convertible preferred
stock, or 1,626.1 shares, with a fixed conversion price of $5.00 per
share;
o $33.125 million stated value of the Series A redeemable convertible
preferred stock were exchanged for an equivalent stated value of Series
B redeemable convertible preferred stock, or 3,312.5 shares, with a
fixed conversion price of $12.50 per share, subject to adjustment at
maturity if we elect to mandatorily convert these shares into Class A
common stock;
o $27.825 million stated value of the Series A redeemable convertible
preferred stock were exchanged for an equivalent stated value of Series
C redeemable convertible preferred stock, or 2,782.5 shares, with a
fixed conversion price of $17.50 per share, subject to adjustment at
maturity if we elect to mandatorily convert these shares into Class A
common stock; and
o $6.3 million stated value of the Series A redeemable convertible
preferred stock were exchanged for an equivalent stated value of Series
E redeemable convertible preferred stock, or 630 shares, which is not
currently convertible into Class A common stock, but will become
convertible into Class A common stock on December 12, 2001 with a
conversion price per share equal to the average of the dollar
volume-weighted average price of the Class A common stock during the
ten consecutive trading days immediately preceding December 11, 2001.
The Series B preferred stock and the Series C preferred stock mature three years
after the date of issuance and accrue cumulative dividends at a rate of 12.5%
per annum, payable in cash or shares of Class A common stock at our option,
subject to satisfaction of certain conditions. Prior to maturity, holders
have the right to convert their Series B preferred stock and Series C preferred
stock into shares of our Class A common stock. At our option, the Series B and
Series C preferred stock may be redeemed at maturity at stated value plus
accrued dividends or mandatorily converted into Class A common stock at the
lower of their respective fixed conversion prices or 95% of the average of the
dollar volume-weighted average price of the Class A common stock during the 30
consecutive trading days immediately preceding the maturity date. The Series D
preferred stock matures three years after the date of issuance, does not carry
any dividend rate, and has a fixed conversion price of $5 per share. At
maturity, the Series D preferred stock mandatorily converts into Class A common
stock at the fixed conversion price of $5 per share. In addition, prior to
maturity, holders have the right to convert their Series D preferred stock into
shares of our Class A common stock. The Series E preferred stock matures three
years after the date of issuance and accrues cumulative dividends at a rate of
12.5% per annum until September 12, 2001, 15% per annum from September 13, 2001
29
until December 11, 2001, and 17.5% per annum thereafter, accruing daily and
payable in cash. We have the right to redeem the Series E preferred stock prior
to December 11, 2001 for 105% of the stated value plus accrued and unpaid
dividends if redeemed on or before October 27, 2001, 110% of the stated value
plus accrued and unpaid dividends if redeemed from October 28, 2001 through
December 11, 2001, and at 120% of the stated value plus accrued dividends if
redeemed thereafter. In addition, the holders of the Series E preferred stock
have the right to require us to redeem the Series E preferred stock at any time
after July 14, 2002 for 120% of the stated value plus accrued and unpaid
dividends and may require redemption of the Series E preferred stock prior to
that date upon specified financing transactions or other events. Upon maturity,
we are required to redeem any Series E preferred stock outstanding for $10,000
per share plus accrued and unpaid dividends. Prior to maturity, the holders
shall have the right to convert their Series E preferred stock into shares of
our Class A common stock at any time beginning on December 12, 2001, based on a
conversion price equal to the average of the dollar volume-weighted average
price of the Class A common stock during the ten consecutive trading days
immediately preceding December 11, 2001. The preferred stock is also redeemable
upon certain triggering events as defined in the respective Certificate of
Designations, Preferences and Rights of each series. In the event of redemption
upon a triggering event, the preferred stock is redeemable, with respect to each
series of preferred stock, at the greater of 125% of the stated value of such
shares of preferred stock plus accrued and unpaid dividends or the product of
the number of shares of Class A common stock into which each series of preferred
stock is convertible multiplied by the closing sale price of our Class A common
stock on the day immediately before the triggering event occurs. As of June 30,
2001, none of these triggering events have occurred.
The remaining 650 shares of Series A preferred stock with a $6.5 million stated
value accrue dividends at a rate of 7% per annum, payable in cash or shares of
Class A common stock at our election. As of June 30, 2001, the Series A
preferred stock was convertible, at the option of the holders, into 194,696
shares of Class A common stock based on the conversion price at that date of
$33.39 per share. The conversion price may be adjusted at certain future dates
based on the average of the dollar volume weighted average price of the Class A
common stock during the ten trading days after the first and each subsequent
anniversary of the initial issuance date, if such adjustment would result in a
lower conversion price. The preferred stock is also redeemable upon certain
triggering events as defined in the Certificate of Designations, Preferences and
Rights of the Series A Redeemable Convertible Preferred Stock. In the event of
redemption upon a triggering event, the Series A preferred stock is redeemable
at the greater of 125% of the conversion amount or an agreed upon formula. As of
June 30, 2001, none of these triggering events have occurred. On July 5, 2001,
the conversion price was adjusted downward to $3.08313 per share in accordance
with the terms of the Certificate of Designations, Preferences and Rights of the
Series A Redeemable Convertible Preferred Stock. As a result of this adjustment
to the conversion price, the Series A preferred stock is currently convertible
into 2,108,247 shares of Class A common stock, excluding shares of Class A
common stock that may be issuable as dividends on the Series A preferred stock.
In January 2001, Strategy.com issued an additional 3,134,796 million shares of
redeemable convertible preferred stock for $10.0 million, in a second and final
closing of sales of the Series A redeemable convertible preferred stock of
Strategy.com.
On February 9, 2001, we entered into a loan and security agreement (the "New
Credit Facility") which provided for aggregate borrowing capacity of up to $30.0
million to be used for general working capital purposes. The New Credit Facility
consisted of a $10.0 million term loan and a revolving line of credit for up to
$20.0 million, subject to specified borrowing base limitations. The New Credit
Facility replaced a previous line of credit agreement, which had provided for
a $25.0 million revolving line of credit and which was secured by cash and cash
equivalents of $25.9 million classified as restricted cash in the accompanying
consolidated balance sheet as of December 31, 2000. The cash was restricted
through February 2001, at which time the previous line of credit agreement was
terminated upon the closing of the New Credit Facility. During the first and
second quarters of 2001, we repaid $1.1 million of the term loan under the New
Credit Facility through the use of the revolving line of credit. On June 14,
2001, we entered into an Amended and Restated Loan and Security Agreement (the
"Modified Credit Facility" or "working capital line of credit"), which replaced
the New Credit Facility. The Modified Credit Facility provides for aggregate
borrowing capacity of up to $30 million, including a $5 million maintenance
receivables backed sub-facility, subject to specified borrowing base limitations
based on eligible maintenance receivables. The maximum amount available under
the maintenance receivables
30
backed sub-facility decreases by $278,000 per month until March 2002, at which
time the then remaining balance of $2.5 million may remain outstanding until
maturity. Upon the closing of the Modified Credit Facility, we also repaid $8.9
million of the term loan under the New Credit Facility and drew $5.0 million
upon the working capital line of credit. At June 30, 2001, we had $6.1 million
outstanding under the Modified Credit Facility. After consideration of
outstanding letters of credit of $6.3 million, we have $17.6 million available
for future drawdowns subject to borrowing base limitations. As a result of the
borrowing base limitations, $4.6 million of additional borrowing capacity under
the Modified Credit Facility was available at June 30, 2001. Based upon recent
trends in the levels of our accounts receivable and borrowing base limitations,
we expect that our borrowing capacity will be substantially lower than the full
$17.6 million available at June 30, 2001.
Borrowings under the Modified Credit Facility bear interest at a variable rate.
The borrowing rate in effect at June 30, 2001 was 8.75%. The Modified Credit
Facility also includes an annual 1.50% unused letter of credit fee. Monthly
principal payments are due to the extent that the balance outstanding exceeds
the borrowing base limitations or the maintenance receivables backed
sub-facility exceeds the maximum month-end amount available. The Modified Credit
Facility matures in February 2004 and is collateralized by substantially all of
our assets. Under the terms of the Modified Credit Facility, we are required to
maintain certain financial covenants, the most restrictive of which are
achieving certain minimum earnings amounts, as defined in the agreement,
maintaining certain cash balances domestically, and limitations on incurring
additional indebtedness. During April 2001, the Company did not meet certain
administrative covenant requirements under the New Credit Facility. The Company
received an extension through June 15, 2001 and has cured the covenant non-
compliance. At June 30, 2001, the Company was in compliance with all debt
covenants.
As part of the class action litigation settlement agreement, in addition to
issuing Class A common stock, we will issue five-year unsecured subordinated
promissory notes having an aggregate principal amount of $80.5 million and
bearing interest at 7.5% per year and warrants to purchase 1,900,000 shares of
Class A common stock at an exercise price of $40 per share, with the warrants
expiring five years from the date they are issued. In connection with this
arrangement, we expect to pay approximately $6.0 million per year in interest
charges commencing upon the settlement hearing date of April 2, 2001.
In November 1999, we signed a three-year master lease agreement to lease up to
$40.0 million of computer equipment, of which we leased approximately $17.8
million as of June 30, 2001. Amounts outstanding under the lease schedules
underlying the master lease bear interest at a rate equal to interest on
three-year U.S. treasury notes plus 1.5% to 2.0% and vary in terms from two to
three years. Future drawdowns and interest rates under the lease agreement are
subject to our credit worthiness. Currently, we are unable to draw down
additional amounts under the lease agreement, although we expect only limited,
near-term, computer equipment needs as a result of the restructuring.
We have recently taken actions to realign our cost structure to better match our
expected revenues by reducing our workforce, limiting discretionary operating
expenses and reducing capital expenditures. If we do not achieve revenues at
anticipated levels, and we are not able to promptly adjust our cost structure,
we will need to take further measures to reduce costs or will require additional
external financing through credit facilities, sale of additional equity in
MicroStrategy or by obtaining other financing facilities to support our current
cost structure. Financing facilities may not be available on acceptable terms.
We believe that our existing cash, cash generated internally by operations and
the new credit facility agreement entered into in June 2001 will be sufficient
to meet our working capital requirements and anticipated capital expenditures
for the remainder of 2001.
Our operations and prospects have been and will be significantly affected by the
developments relating to the revision of our 1999, 1998 and 1997 financial
statements. We and certain of our officers and directors were named as
defendants in a class action lawsuit alleging violations of various securities
laws, and certain of our officers and directors are defendants in a shareholder
derivative lawsuit alleging that they breached their fiduciary duties related to
our restated financial statements. In October 2000, we entered into agreements
to settle these lawsuits. On January 19, 2001, the United States District Court
authorized notice of the proposed class action settlement sent to all putative
class members. The notice informs class members of their rights including their
rights to object to the proposed settlement and to pursue their claims
separately. On April 2, 2001, the United States District Court approved the
class action settlement, and the period from which an appeal could have been
taken has expired. At a hearing on August 7, 2001, the Chancery Court approved
the derivative settlement.
31
Recent Accounting Pronouncements
We adopted SFAS No. 133 as of January 1, 2001. Through June 30, 2001, the
adoption of SFAS No. 133 did not have a material effect on our financial
position or results of operations.
In June 2001, the FASB issued SFAS No. 142, "Goodwill and Other Intangible
Assets," which is effective for the fiscal year 2002. This statement addresses
financial accounting and reporting for intangible assets acquired individually
or with a group of other assets at acquisition. This statement also addresses
financial accounting and reporting for goodwill and other intangible assets
subsequent to their acquisition. Under SFAS No. 142, goodwill should not be
amortized. Instead, the statement requires that a company conduct a two-step
impairment test on an annual basis to identify potential goodwill impairment and
measure the amount of goodwill impairment loss to be recognized, if any. An
impairment loss is recognized when the carrying amount of reporting unit
goodwill exceeds the implied fair value of that goodwill. After a goodwill
impairment loss is recognized, the adjusted carrying amount of the goodwill
shall be its new accounting basis. We expect to discontinue amortization of
goodwill on January 1, 2002 and will assess impairment of goodwill on an annual
basis in accordance with SFAS No. 142.
Risk Factors
You should carefully consider the risks described below before making an
investment decision. The risks and uncertainties described below are not the
only ones facing our company. Additional risks and uncertainties not presently
known to us or that we currently deem immaterial may also impair our business
operations.
If any of the following risks actually occur, our business, financial condition
or results of operations could be materially adversely affected. In such case,
the trading price of our Class A common stock could decline and you may lose all
or part of your investment.
WE HAVE EXPERIENCED LOSSES IN THE PAST AND EXPECT FUTURE LOSSES THROUGH AT LEAST
THE END OF 2001
We have not achieved profitability and have incurred significant operating
losses in each of the last five years. We incurred net losses of $53.9 million
in the six months ended June 30, 2001 and $261.3 million, $33.7 million and $2.3
million in the years ended December 31, 2000, 1999 and 1998, respectively. As of
June 30, 2001, our accumulated deficit was $353.1 million. We expect our gross
revenue to decline from the fiscal year ended December 31, 2000 to the fiscal
year ended December 31, 2001. In connection with our April 2001 corporate
restructuring and the additional Strategy.com restructurings in April and May
2001, we recorded restructuring and impairment charges in the second quarter of
2001 of $43.1 million.
We expect that we will not achieve sufficient revenue to become profitable
through at least the end of 2001. Even if we do achieve profitability, we cannot
assure you that we can sustain or increase profitability on a quarterly or
annual basis in the future. If revenue grows more slowly than we anticipate, or
if operating expenses exceed our expectations or cannot be adjusted accordingly,
our business, results of operations and financial condition will be materially
and adversely affected.
32
Our quarterly operating results, revenues and expenses may fluctuate
significantly, which could have an adverse effect on the market price of our
stock
For a number of reasons, including those described below, our operating results,
revenues and expenses may vary significantly from quarter to quarter. These
fluctuations could have an adverse effect on the market price of our Class A
common stock.
Fluctuations in Quarterly Operating Results. Our quarterly operating
results may fluctuate as a result of:
o the size, timing and execution of significant orders and shipments;
o the mix of products and services of customer orders, which can affect
whether we recognize revenue upon the signing and delivery of our
software products or whether revenue must be recognized as work
progresses or over the entire contract period;
o the timing of new product announcements;
o changes in our pricing policies or those of our competitors;
o market acceptance of business intelligence software generally and of
new and enhanced versions of our products in particular;
o the length of our sales cycles;
o changes in our operating expenses;
o personnel changes;
o our success in adding to our indirect distribution channels;
o utilization of our consulting personnel, which can be affected by
delays or deferrals of customer implementation of our software
products and consulting, education and support services;
o changes in foreign currency exchange rates; and
o seasonal factors, such as our traditionally lower pace of new sales in
the summer.
Limited Ability to Adjust Expenses. We base our operating expense budgets
on expected revenue trends. Many of our expenses, such as office and equipment
leases, are relatively fixed. We may be unable to adjust spending quickly enough
to offset any unexpected revenue shortfall. Accordingly, any shortfall in
revenue may cause significant variation in operating results in any quarter.
Based on the above factors, we believe that quarter-to-quarter comparisons of
our operating results are not a good indication of our future performance. It is
possible that in one or more future quarters, our operating results may be below
the expectations of public market analysts and investors. In that event, the
trading price of our Class A common stock may fall.
WE MAY LOSE SALES, OR SALES MAY BE DELAYED, DUE TO THE LONG SALES AND
IMPLEMENTATION CYCLES FOR OUR PRODUCTS, WHICH WOULD REDUCE OUR REVENUES
To date, our customers have typically invested substantial time, money and other
resources and involved many people in the decision to license our software
products and purchase our consulting and other services. As a result, we may
wait nine months or more after the first contact with a customer for that
customer to place an order while they seek internal approval for the purchase of
our products and/or services. During this long sales cycle, events may occur
that affect the size or timing of the order or even cause it to be canceled. For
example, our competitors may introduce new products, or the customer's own
budget and purchasing priorities may change.
33
Even after an order is placed, the time it takes to deploy our products and
complete consulting engagements varies widely from one customer to the next.
Implementing our product can sometimes last several months, depending on the
customer's needs and may begin only with a pilot program. It may be difficult to
deploy our products if the customer has complicated deployment requirements,
which typically involve integrating databases, hardware and software from
different vendors. If a customer hires a third party to deploy our products, we
cannot be sure that our products will be deployed successfully.
OUR EMPLOYEES, INVESTORS, CUSTOMERS, VENDORS AND LENDERS MAY REACT ADVERSELY TO
THE REVISION OF OUR 1999, 1998 AND 1997 REVENUES AND OPERATING RESULTS
Our future success depends in large part on the support of our key employees,
investors, customers, vendors and lenders, who may react adversely to the
revision of our 1999, 1998 and 1997 revenues and operating results. The revision
of our 1999, 1998 and 1997 revenues and operating results has resulted in
substantial amounts of negative publicity about us and we believe that this
publicity has caused some of our potential customers to defer purchases of our
software or to do business with other vendors. We may not be able to retain key
employees and customers if they lose confidence in us, and our vendors and
lenders may reexamine their willingness to do business with us. In addition,
investors may lose confidence, which may cause the trading price of our Class A
common stock to decrease. If we lose the services of our key employees or are
unable to retain and attract our existing and new customers, vendors and
lenders, our business, operating results and financial condition could be
materially and adversely affected.
OUR RECOGNITION OF DEFERRED REVENUE IS SUBJECT TO FUTURE PERFORMANCE OBLIGATIONS
AND MAY NOT BE REPRESENTATIVE OF ACTUAL REVENUES FOR SUCCEEDING PERIODS
Our deferred revenue was approximately $70.5 million as of June 30, 2001. The
timing and ultimate recognition of our deferred revenue depend on our
performance of various service obligations. Because of the possibility of
customer changes in development schedules, delays in implementation and
development efforts and the need to satisfactorily perform product support
services, deferred revenue at any particular date may not be representative of
actual revenue for any succeeding period.
WE MAY NEED ADDITIONAL FINANCING WHICH COULD BE DIFFICULT TO OBTAIN
We may require additional external financing through credit facilities, sale of
additional debt or equity securities in MicroStrategy or in our Strategy.com
subsidiary or by obtaining other financing facilities to support our operations,
as we expect to incur operating losses through at least the third quarter of
2001 and possibly longer. Obtaining additional financing will be subject to a
number of factors, including:
o market conditions;
o our operating performance; and
o investor sentiment.
These factors may make the timing, amount, terms and conditions of additional
financing unattractive to us. If we are unable to raise capital needed to fund
our operations, our business, operating results and financial condition may be
materially and adversely affected.
WE FACE LITIGATION THAT COULD HAVE A MATERIAL ADVERSE EFFECT ON OUR BUSINESS,
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
We and certain of our directors and executive officers are named as defendants
in a private securities class action lawsuit and a shareholder derivative
lawsuit relating to the restatement of our 1999, 1998 and 1997 financial
results. Although we have entered into agreements to settle such lawsuits and
the settlements have received court approval, both settlements
34
are subject to various closing conditions. If the agreed upon settlements are
not consummated, it is possible that we may be required to pay substantial
damages or settlement costs which could have a material adverse effect on our
financial condition or results of operation. Regardless of the outcome of these
matters, it is likely that we will incur substantial defense costs and that
these actions may cause a diversion of management time and attention.
THE ISSUANCE OF CLASS A COMMON STOCK AS PART OF THE PROPOSED SETTLEMENT OF CLASS
ACTION LITIGATION AND THE EXERCISE OF WARRANTS OR CONVERSION OF NOTES ISSUED AS
PART OF THE LITIGATION SETTLEMENT COULD RESULT IN A SUBSTANTIAL NUMBER OF
ADDITIONAL SHARES OF CLASS A COMMON STOCK BEING ISSUED
The agreements we entered into to settle the private securities class action
lawsuit and the derivative suit relating to the restatement of our 1999, 1998
and 1997 financial results require us to issue to members of the class 2,777,778
shares of Class A common stock. At the time of that issuance, some of our
officers will tender to us for no consideration 1,683,502 shares of Class A
common stock for cancellation, resulting in a net issuance of 1,094,276 shares
of Class A common stock. In addition, the settlement agreements require the
issuance of warrants to purchase 1,900,000 shares of Class A common stock and
five-year unsecured subordinated promissory notes having an aggregate principal
amount of $80.5 million. We would have the option at any time prior to the
expiration of the five-year term of the notes to convert the notes into a number
of shares of Class A common stock equal to the principal amount of the notes
being converted divided by 80% of the dollar volume-weighted average trading
price of the Class A common stock over a ten-day period preceding our delivery
of a notice of conversion, which could result in a substantial number of shares
of Class A common stock being issued. For example, if the conversion price of
the notes were based on the dollar volume-weighted average trading price of the
Class A common stock during the 10 trading days ending August 1, 2001, we would
be obligated to issue 32,968,995 shares of Class A common stock if we elected to
convert the notes. The issuance of a substantial number of shares of Class A
common stock as part of the litigation settlement and future exercises or
conversions of securities issued in the litigation settlement may result in
substantial dilution to the interests of holders of Class A common stock and may
result in downward pressure on the price of our Class A common stock.
THE CONVERSION OF THE SHARES OF OUR PREFERRED STOCK COULD RESULT IN SUBSTANTIAL
NUMBERS OF ADDITIONAL SHARES OF CLASS A COMMON STOCK BEING ISSUED IF OUR MARKET
PRICE DECLINES DURING PERIODS IN WHICH THE CONVERSION PRICE OF THE PREFERRED
STOCK MAY ADJUST
On June 14, 2001, holders of our Series A preferred stock exchanged 11,850
shares of Series A preferred stock for cash and shares of our Class A common
stock, Series B preferred stock, Series C preferred stock, Series D preferred
stock and Series E preferred stock. The Series B preferred stock, Series C
preferred stock and Series D preferred stock are convertible into shares of our
Class A common stock at conversion prices currently equal to $12.50, $17.50 and
$5.00 per share, respectively. The Series E preferred stock is convertible
beginning on December 12, 2001 into shares of our Class A common stock at a
conversion price equal to the average of the dollar volume-weighted average
prices of the Class A common stock during the ten consecutive trading days
immediately preceding December 11, 2001. The outstanding shares of Series B
preferred stock, Series C preferred stock and Series D preferred stock would
currently convert into 7,492,200 shares of Class A common stock, plus a number
of shares reflecting accrued but unpaid dividends as of the conversion date.
However, if the holders of the Series B preferred stock and Series C preferred
stock do not convert their shares into shares of Class A common stock prior to
their maturity three years from the date of issuance, and if we do not redeem
their outstanding shares of Series B preferred stock and Series C preferred
stock at maturity, the conversion price for such shares will be reset to a price
equal to 95% of the dollar volume-weighted average price of our Class A common
stock for the 30 trading days prior to the maturity date. If the market price at
maturity of our Class A common stock is less than the applicable conversion
price, the number of shares of Class A common stock that we could be required to
issue upon conversion of the Series B preferred stock and Series C preferred
stock would increase. For instance, if the market price of our Class A common
stock on the maturity date of our Series B preferred stock and Series C
preferred stock were $3.89, the closing sale price of our Class A common stock
as of August 1, 2001, the holders of the Series B preferred stock and Series C
preferred stock did not elect to convert any of their shares prior to the
maturity date and we did not redeem such shares on the maturity date, we would
be required to issue a total of 15,668,380 shares of our Class A common stock
upon conversion of such shares at maturity.
35
After the exchange of shares of our Series A preferred stock for shares of our
Class A common stock, Series B preferred stock, Series C preferred stock, Series
D preferred stock and Series E preferred stock as described above, 650 shares of
our Series A preferred stock remain outstanding. We have the right to redeem 120
of such shares through December 11, 2001. As of August 1, 2001, shares of Series
A preferred stock are convertible into Class A common stock at a conversion
price equal to $3.08313 per share. If any shares of Series A preferred stock
remain outstanding on June 19, 2002, the conversion price may be adjusted based
on the average of the dollar volume- weighted average price of our Class A
common stock during the ten trading days after that date and on each subsequent
anniversary of that date, if such adjustment would result in a lower conversion
price. The conversion price of the Series A preferred stock may also be adjusted
upon the occurrence of various events, including the failure to maintain the
effectiveness of the registration statement to which these shares relate and the
issuance of certain equity securities. As a result, the lower the price of our
Class A common stock at these intervals, the greater the number of shares the
holder will receive upon conversion after any such adjustment.
If our Series E preferred stock remains outstanding on December 12, 2001 and the
average dollar volume-weighted average price of our Class A common stock was low
during the ten trading days immediately preceding December 11, 2001, the Series
E preferred stock could become convertible into a significant number of shares
of Class A common stock, which could decrease the price of our Class A common
stock. In addition, to the extent the shares of our preferred stock are
converted or dividends on these shares are paid in shares of Class A common
stock rather than cash, a significant number of shares of Class A common stock
may be sold into the market, which could decrease the price of our Class A
common stock and encourage short sales. Short sales could place further downward
pressure on the price of our Class A common stock. In that case, we could be
required to issue an increasingly greater number of shares of our Class A common
stock upon future conversions of the Series A preferred stock, Series B
preferred stock and Series C preferred stock as a result of the annual and other
adjustments described above, sales of which could further depress the price of
our Class A common stock.
The conversion of and the payment of dividends in shares of Class A common stock
in lieu of cash on the preferred stock may result in substantial dilution to the
interests of other holders of our Class A common stock. No selling stockholder
may convert its preferred stock if upon such conversion the selling stockholder
together with its affiliates would have acquired a number of shares of Class A
common stock during the 60-day period ending on the date of conversion which,
when added to the number of shares of Class A common stock held at the beginning
of such 60-day period, would exceed 9.99% of our then outstanding Class A common
stock, excluding for purposes of such determination shares of Class A common
stock issuable upon conversion of shares of preferred stock which have not been
converted. Nevertheless, a selling stockholder may still sell a substantial
number of shares in the market. By periodically selling shares into the market,
an individual selling stockholder could eventually sell more than 9.99% of our
outstanding Class A common stock while never holding more than 9.99% at any
specific time.
WE MAY BE REQUIRED TO PAY SUBSTANTIAL PENALTIES TO THE HOLDERS OF THE PREFERRED
SHARES IF SPECIFIC EVENTS OCCUR
In accordance with the terms of the agreements relating to the issuance of our
redeemable convertible preferred stock, we are required to pay substantial
penalties to a holder of preferred stock under specified circumstances,
including, among others:
o nonpayment of dividends on the Series A preferred stock, Series B
preferred stock, Series C preferred stock and Series E preferred stock
in a timely manner;
o failure to deliver shares of our Class A common stock upon conversion
of the preferred shares after a proper request;
o nonpayment of the redemption price at maturity of any remaining Series
A preferred stock, Series B preferred stock, Series C preferred stock
and Series E preferred stock; or
o the unavailability of the registration statement relating to the shares
of Class A common stock issuable upon conversion of and in lieu of cash
dividends on the preferred stock to cover the resale of such shares for
more than brief intervals.
36
These penalties are generally paid in the form of interest payments, subject to
any restrictions imposed by applicable law. In the third quarter of 2000, we
incurred $578,000 in penalties as a result of a 14-day delay in the filing of a
registration statement registering the shares of Class A common stock issuable
upon conversion of and in lieu of dividends on the Series A preferred stock.
WE ARE CURRENTLY UNABLE TO BORROW ADDITIONAL AMOUNTS UNDER OUR MASTER EQUIPMENT
LEASE AGREEMENT
We signed a three-year master lease agreement to lease up to $40.0 million of
computer equipment in November 1999, of which we have leased approximately $17.8
million as of August 1, 2001. Future drawdowns and interest rates under the
lease agreement are subject to our credit worthiness. Currently, we are not able
to draw down additional amounts under the lease agreement, although we expect
only limited, near-term, computer equipment needs as a result of the
restructuring.
WE FACE INTENSE COMPETITION, WHICH MAY LEAD TO LOWER PRICES FOR OUR PRODUCTS,
REDUCED GROSS MARGINS, LOSS OF MARKET SHARE AND REDUCED REVENUE
The markets for business intelligence software, customer relationship management
applications, portals and narrowcast messaging technologies are intensely
competitive and subject to rapidly changing technology. In addition, many of our
competitors in these markets are offering, or may soon offer, products and
services that may compete with MicroStrategy products and those of Strategy.com.
MicroStrategy's most direct competitors provide:
o business intelligence software;
o online analytical processing, or OLAP, tools;
o query and reporting tools;
o web-based static reporting tools;
o information delivery and proactive reporting;
o analytical customer relationship management products;
o web traffic analysis applications; and
o marketing automation.
Each of these markets are discussed more fully below.
Business Intelligence Software. Makers of business intelligence software
provides business intelligence capabilities designed for integration,
customization and application development. Leading industry analysts classify
companies such as Microsoft, Oracle, Hyperion, SAP and SAS to be leading
providers of business intelligence software.
OLAP Tools. Companies that build software to perform OLAP provide offerings
competitive with the core MicroStrategy 7 platform. Whether web-based or
client-server, these tools give end users the ability to query underlying data
sources without having to hand code structured query language queries. Most OLAP
tools allow users to build their own calculations and specify report layouts and
other options. Additionally, OLAP tools provide users the ability to navigate
throughout the underlying data in an easy, graphical mode, often referred to as
drilling. Providers of OLAP tools include Cognos, Hyperion, Brio, IBM, Seagate
and Microsoft.
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Query and Reporting Tools. Query and reporting tools allow large numbers of
end users to gain access to pre-defined reports for simple analysis. Often the
end users are able to specify some sort of run-time criteria that customizes the
result set for that particular person. Some limited `drilling' is also provided.
Companies that produce query and reporting tools include Business Objects,
Cognos, Oracle, Seagate and Brio.
Web-based Static Reporting Tools. Companies that offer software to deliver
pre-built reports for end-user viewing and consumption can also compete with
MicroStrategy. These applications often lack the sophistication, robustness and
scalability of MicroStrategy, but can be attractive for small, departmental
applications. Vendors in this category include Actuate, Business Objects,
Seagate, Microsoft, Computer Associates and SAS.
Information Delivery and Proactive Reporting. Companies that focus on the
proactive delivery of information, via e-mail, website, or other medium can
compete with MicroStrategy's offerings. Typically these tools serve to push out
compiled reports on a scheduled basis to sets of users based on job type.
MicroStrategy software has this technology integrated into its core platforms.
Vendors of such technology include Actuate, nQuire, Information Builders and
Business Objects.
Analytical Customer Relationship Management Products. Companies that
deliver customer relationship management products alone or in conjunction with
e- commerce applications, such as Broadbase, BroadVision, E.piphany and
Vignette, compete with our analytical customer relationship management
applications. In contrast with providers of operational customer relationship
management vendors, such as Vantive and Oracle, analytical customer relationship
management deals more with customer segmentation, analysis and interaction as
opposed to infrastructure and call centers.
Web Traffic Analysis Applications. Reporting and analysis tools can be
specialized to analyze visitors to a company's website. Typically this involves
extracting data from a web-log file and importing it into a usable format, often
in a relational database. A set of analysis, sometimes customer-centric in
nature, is performed, and limited ad-hoc reporting is permitted. Advanced
applications in this space merge data from the web-logs with other customer
centric attributes to help provide a complete view of the customer base. Vendors
in this space include Accrue, Net.Genesis and WebTrends.
Marketing Automation. Applications focused on the automation and execution
of marketing tasks, such as campaign management and delivery, compete with our
customer relationship management products and our Narrowcast Server platform.
Leading vendors in this space include E.piphany, Xchange, Chordiant and
Broadbase.
Strategy.com's most direct competitors provide:
o web portal and information networks;
o vertical internet portals and information networks; and
o wireless communications and wireless access protocol enabled products.
Each of these market segments are discussed more fully below.
Web Portals and Information Networks. Web portals and information networks,
such as Microsoft Network, Yahoo, Lycos, Excite, America Online and
InfoSpace.com, offer an array of information that is similar to information
provided by Strategy.com.
Vertical Internet Portals and Information Networks. Expedia, Weather.com,
CNBC.com, ABC.com, ESPN.com, Microsoft Investor, StockBoss, Microsoft CarPoint,
InfoBeat, Internet Travel Network and others have developed custom applications
and products to commercialize, analyze and deliver specific information over the
Internet. These systems are usually tailored to one application, such as
providing news, sports or weather, but in the aggregate, they offer applications
similar to those provided by Strategy.com. Any one of these companies could
expand their offerings to more closely compete with Strategy.com.
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Wireless Communications and Wireless Access Protocol Enabled Products.
Wireless communications providers, such as AT&T, Sprint, MCI WorldCom, Nextel
Communications, British Telecom, Deutsche Telekom, PageNet, Nokia, Ericsson,
3COM and Palm offer a variety of mobile phones and wireless devices over which
Strategy.com delivers information. These companies may develop in-house
information services or partner with other companies to deliver information that
is competitive to that offered by Strategy.com.
Many of our competitors have longer operating histories, significantly greater
financial, technical, marketing or other resources, and greater name recognition
than we do. In addition, many of our competitors have strong relationships with
current and potential customers and extensive knowledge of the business
intelligence industry. As a result, they may be able to respond more quickly to
new or emerging technologies and changes in customer requirements or devote
greater resources to the development, promotion and sale of their products than
we can. Increased competition may lead to price cuts, reduced gross margins and
loss of market share. We cannot be sure that we will be able to compete
successfully against current and future competitors or that the competitive
pressures we face will not have a material adverse effect on our business,
operating results and financial condition.
Current and future competitors may also make strategic acquisitions or establish
cooperative relationships among themselves or with others. By doing so, they may
increase their ability to meet the needs of our potential customers. Our current
or prospective indirect channel partners may establish cooperative relationships
with our current or future competitors. These relationships may limit our
ability to sell our products through specific distribution channels.
Accordingly, new competitors or alliances among current and future competitors
may emerge and rapidly gain significant market share. These developments could
harm our ability to obtain maintenance revenues for new and existing product
licenses on favorable terms.
If we are unable to recruit or retain skilled personnel, or if we lose the
services of any of our key management personnel, our business, operating results
and financial condition would be materially adversely affected
Our future success depends on our continuing ability to attract, train,
assimilate and retain highly skilled personnel. Competition for these employees
is intense. We may not be able to retain our current key employees or attract,
train, assimilate or retain other highly skilled personnel in the future. In
April 2001, we implemented a corporate restructuring which included a reduction
in our worldwide workforce of approximately one-third. In April and May 2001,
Strategy.com adopted similar restructuring plans pursuant to which it
substantially curtailed operations and reduced its workforce to approximately 40
employees. These reductions in force could adversely impact our employee morale
and our ability to attract and retain employees. Our future success also depends
in large part on the continued service of key management personnel, particularly
Michael J. Saylor, our Chairman and Chief Executive Officer, and Sanju K.
Bansal, our Vice Chairman, Executive Vice President and Chief Operating Officer.
If we lose the services of one or both of these individuals or other key
personnel, or if we are unable to attract, train, assimilate and retain the
highly skilled personnel we need, our business, operating results and financial
condition could be materially adversely affected.
Our inability to develop and release product enhancements and new products to
respond to rapid technological change in a timely and cost-effective manner
would have a material adverse effect on our business, operating results and
financial condition
The market for our products is characterized by rapid technological change,
frequent new product introductions and enhancements, changing customer demands
and evolving industry standards. The introduction of products embodying new
technologies can quickly make existing products obsolete and unmarketable. We
believe that our future success depends largely on three factors:
o our ability to continue to support a number of popular operating
systems and databases;
o our ability to maintain and improve our current product line; and
o our ability to rapidly develop new products that achieve market
acceptance, maintain technological competitiveness and meet an
expanding range of customer requirements.
39
Business intelligence applications are inherently complex, and it can take a
long time to develop and test major new products and product enhancements. In
addition, customers may delay their purchasing decisions because they anticipate
that new or enhanced versions of our products will soon become available. We
cannot be sure that we will succeed in developing and marketing, on a timely and
cost-effective basis, product enhancements or new products that respond to
technological change, introductions of new competitive products or customer
requirements, nor can we be sure that our new products and product enhancements
will achieve market acceptance.
The emergence of new industry standards may adversely affect our ability to
market our existing products
The emergence of new industry standards in related fields may adversely affect
the demand for our existing products. This could happen, for example, if new web
standards and technologies emerged that were incompatible with customer
deployments of our MicroStrategy products. Although the core database component
of our business intelligence solutions is compatible with nearly all enterprise
server hardware and operating system combinations, such as OS/390, AS/400, Unix
and Windows, our application server component runs only on the Windows NT
operating system. Therefore, our ability to increase sales currently depends on
the continued acceptance of the Windows NT operating system. We cannot market
many of our current business intelligence products to potential customers who
use Unix operating systems as their application server. We would have to invest
substantial resources to develop a Unix product and we cannot be sure that we
could introduce such a product on a timely or cost- effective basis, if at all.
The legal environment regarding collection and use of personal information is
uncertain and new laws or government regulations could have a material adverse
effect on our business, operating results and financial condition
Although some existing laws govern the collection and use of personal
information obtained through the Internet or other public data networks, it is
unclear whether they apply to our products and us. Most of these laws were
adopted before the widespread use and commercialization of the Internet and
other public data networks. As a result, the laws do not address the unique
issues presented by these media.
Due to increasing use of the Internet and the dramatically increased access to
personal information made possible by technologies like ours, the U.S. federal
and various state and foreign governments have recently proposed limitations on
the collection and use of personal information of users of the Internet and
other public data networks.
Although we attempt to obtain permission from users prior to collecting or
processing their personal data, new laws or regulations governing personal
privacy may change the ways in which we and our customers and affiliates may
gather this personal information. There may be significant costs and delays
involved with adapting our products to any change in regulations.
Our business, and in particular the Strategy.com network, depends upon our
receiving detailed personal information about subscribers in order to provide
them with the services they select. Privacy concerns may cause some potential
subscribers to forego subscribing to our service. If new laws or regulations
prohibit us from using information in the ways that we currently do or plan to
do, or if users opt out of making their personal preferences and information
available to us and Strategy.com affiliates, the utility of our products will
decrease, which could have a material adverse effect on our business, operating
results and financial condition. If our customers, our network or Strategy.com
affiliates misuse personal information, our legal liability may be increased and
our growth may be limited.
The Federal Trade Commission has recently launched investigations of the data
collection practices of various Internet companies. In addition, numerous
individuals and privacy groups have filed lawsuits or administrative complaints
against other companies asserting that they were harmed by the misuse of their
personal information. If comparable legal proceedings were commenced against us,
regardless of the merits of the claim, we could be required to spend significant
amounts on legal defense and our senior management's time and attention could be
40
diverted from our business. In addition, demand for our products could be
reduced if companies are not permitted to use clickstream data derived from
their websites. This could materially and adversely affect our business,
operating results and financial condition.
In Europe, the European Union Directive on Data Protection requires member
countries to implement legislation that prohibits any European entity from
sharing personal data collected from EU persons with entities in any country
that is not deemed to have adequate data protection laws. Currently, the United
States' data protection laws are not deemed to be adequate, and some data
transfers from European entities to us may be prohibited unless explicit consent
is obtained from EU data subjects, we agree to specified contractual privacy
safeguards that are approved by EU authorities, or we comply with the
requirements of the so-called Safe Harbor program between the United States and
the EU. It may not be feasible for us to obtain the required consent or to make
the necessary contractual commitments. Currently, we have not sought to be
certified under the Safe Harbor program, and our data collection and handling
practices may not qualify under this program. Although enforcement of EU data
protection laws against U.S. companies is currently subject to a standstill,
this standstill will be in effect until late 2001, and some countries, including
France, are currently attempting to enforce data protection laws with respect to
data exports to the United States, notwithstanding the existence of the
standstill.
If the market for business intelligence software fails to grow as we expect, or
if businesses fail to adopt our products, our business, operating results and
financial condition would be materially adversely affected
Nearly all of our revenues to date have come from sales of business intelligence
software and related technical support, consulting and education services. We
expect these sales to account for a large portion of our revenues for the
foreseeable future. Although demand for business intelligence software has grown
in recent years, the market for business intelligence software applications is
still emerging. Resistance from consumer and privacy groups to increased
commercial collection and use of data on spending patterns and other personal
behavior may impair the further growth of this market, as may other
developments. We cannot be sure that this market will continue to grow or, even
if it does grow, that businesses will adopt our solutions. We have spent, and
intend to keep spending, considerable resources to educate potential customers
about business intelligence software in general and our solutions in particular.
However, we cannot be sure that these expenditures will help our products
achieve any additional market acceptance. If the market fails to grow or grows
more slowly than we currently expect, our business, operating results and
financial condition would be materially adversely affected.
Our relationship with Strategy.com could create the potential for conflicts of
interest
We hold an approximately 84% economic interest in the equity of Strategy.com.
Conflicts may arise between us and other investors in Strategy.com, including:
the allocation of business opportunities, the sharing of rights, technologies,
facilities, personnel and other resources, and the fiduciary duties owed by
officers, directors and other personnel who provide services to both us and
Strategy.com.
Strategy.com is expected to incur significant losses for the foreseeable future
and we are exploring strategic alternatives for this business
Strategy.com is expected to incur significant losses for the foreseeable future.
In April and May 2001, Strategy.com adopted restructuring plans pursuant to
which it has reduced its workforce to approximately 40 employees and will
explore strategic alternatives for its business, including the potential sale of
that business. It may not be possible to sell the Strategy.com business on
acceptable terms.
Because of the rights of our two classes of common stock, and because we are
controlled by our existing stockholders, these stockholders could transfer
control of MicroStrategy to a third party without anyone else's approval or
prevent a third party from acquiring MicroStrategy
We have two classes of common stock: Class A common stock and Class B common
stock. Holders of our Class A common stock generally have the same rights as
holders of our Class B common stock, except that holders of Class A common stock
have one vote per share while holders of Class B common stock have ten votes per
41
share. As of August 1, 2001, holders of our Class B common stock owned or
controlled 50,941,421 shares of Class B common stock, or 93.2% of the total
voting power. Michael J. Saylor, our Chairman and Chief Executive Officer,
controlled 2,452,755 shares of Class A common stock and 39,432,907 shares of
Class B common stock, or 72.6% of total voting power, as of August 1, 2001.
Accordingly, Mr. Saylor is able to control MicroStrategy through his ability to
determine the outcome of elections of our directors, amend our certificate of
incorporation and bylaws and take other actions requiring the vote or consent of
stockholders, including mergers, going private transactions and other
extraordinary transactions and their terms.
Our certificate of incorporation allows holders of Class B common stock, almost
all of whom are current employees or former employees of our company or related
parties, to transfer shares of Class B common stock, subject to the approval of
stockholders possessing a majority of the outstanding Class B common stock. Mr.
Saylor or a group of stockholders possessing a majority of the outstanding Class
B common stock could, without seeking anyone else's approval, transfer voting
control of MicroStrategy to a third party. Such a transfer of control could have
a material adverse effect on our business, operating results and financial
condition. Mr. Saylor will also be able to prevent a change of control of
MicroStrategy, regardless of whether holders of Class A common stock might
otherwise receive a premium for their shares over the then current market price.
We rely on our strategic channel partners and if we are unable to develop or
maintain successful relationships with them, our business, operating results and
financial condition will suffer
In addition to our direct sales force, we rely on strategic channel partners,
such as original equipment manufacturers, system integrators and value-added
resellers, to license and support our products in the United States and
internationally. In particular, for the six months ended June 30, 2001 and the
years ended December 31, 2000, 1999 and 1998, channel partners accounted for,
directly or indirectly, approximately 35.3%, 44.4%, 39.2% and 33.6% of our total
product license revenues, respectively. Our channel partners generally offer
customers the products of several different companies, including some products
that compete with ours. Although we believe that direct sales will continue to
account for a majority of product license revenues, we intend to increase the
level of indirect sales activities through our strategic channel partners.
However, we may not be successful in our efforts to continue to expand indirect
sales in this manner. We may not be able to attract strategic partners who will
market our products effectively and who will be qualified to provide timely and
cost-effective customer support and service. Our ability to achieve revenue
growth in the future will depend in part on our success in developing and
maintaining successful relationships with those strategic partners. If we are
unable to develop or maintain our relationships with these strategic partners,
our business, operating results and financial condition will suffer.
Strategy.com affiliates will rely on Strategy.com to maintain the infrastructure
of the network and any problems with that infrastructure could expose
Strategy.com to liability from its Strategy.com affiliates and their customers
Strategy.com affiliates depend on Strategy.com to maintain the software and
hardware infrastructure of the Strategy.com network. If this infrastructure
fails or Strategy.com affiliates or their customers otherwise experience
difficulties or delays in accessing the network, Strategy.com could face
liability claims from them. Strategy.com expects to include contractual
provisions limiting its liability to its Strategy.com affiliates for system
failures and delays, but these limits may not be enforceable and may not be
sufficient to shield Strategy.com from liability. Strategy.com will seek to
obtain liability insurance to cover problems of this sort, but insurance may not
be available and the amounts of its coverage may not be sufficient to cover all
potential claims.
We have only limited protection for our proprietary rights in our software,
which makes it difficult to prevent third parties from infringing upon our
rights
We rely primarily on a combination of copyright, patent, trademark and trade
secret laws, customer licensing agreements, employee and third-party
nondisclosure agreements and other methods to protect our proprietary rights.
However, these laws and contractual provisions provide only limited protection.
Despite our efforts to protect our proprietary rights, unauthorized parties may
attempt to copy or otherwise obtain and use our products or technology. Policing
such unauthorized use is difficult, and we cannot be certain that we can prevent
it, particularly in countries where the laws may not protect our proprietary
rights as fully as in the United States.
42
Our products may be susceptible to claims by other companies that our products
infringe upon their proprietary rights, which could adversely affect our
business, operating results and financial condition
As the number of software products in our target markets increases and the
functionality of these products further overlaps, we may become increasingly
subject to claims by a third party that our technology infringes such party's
proprietary rights. Regardless of their merit, any such claims could be time
consuming and expensive to defend, may divert management's attention and
resources, could cause product shipment delays and could require us to enter
into costly royalty or licensing agreements. If successful, a claim of
infringement against us and our inability to license the infringed or similar
technology could have a material adverse effect on our business, operating
results and financial condition.
Managing our international operations is complex and our failure to do so
successfully or in a cost-effective manner would have a material adverse effect
on our business, operating results and financial condition
International sales accounted for 31.6%, 24.9%, 24.0% and 26.1% of our total
revenues for the six months ended June 30, 2001 and the years ended December 31,
2000, 1999 and 1998, respectively. Our international operations require
significant management attention and financial resources.
There are certain risks inherent in our international business activities
including:
o changes in foreign currency exchange rates;
o unexpected changes in regulatory requirements;
o tariffs and other trade barriers;
o costs of localizing products for foreign countries;
o lack of acceptance of localized products in foreign countries;
o longer accounts receivable payment cycles;
o difficulties in managing international operations;
o tax issues, including restrictions on repatriating earnings;
o weaker intellectual property protection in other countries; and
o the burden of complying with a wide variety of foreign laws.
These factors may have a material adverse effect on our future international
sales and, consequently, our business, operating results and financial
condition.
The nature of our products makes them particularly vulnerable to undetected
errors, or bugs, which could cause problems with how the products perform and
which could in turn reduce demand for our products, reduce our revenue and lead
to product liability claims against us
Software products as complex as ours may contain errors or defects, especially
when first or subsequent versions are released. Although we test our products
extensively, we have in the past discovered software errors in new products
after their introduction. Despite testing by us and by our current and potential
customers, errors may be found in new products or releases after commercial
43
shipments begin. This could result in lost revenue or delays in market
acceptance, which could have a material adverse effect upon our business,
operating results and financial condition.
Our license agreements with customers typically contain provisions designed to
limit our exposure to product liability claims. It is possible, however, that
these provisions may not be effective under the laws of certain domestic or
international jurisdictions. Although there have been no product liability
claims against us to date, our license and support of products may involve the
risk of these claims. A successful product liability claim against us could have
a material adverse effect on our business, operating results and financial
condition.
The price of our stock may be extremely volatile
The market price for our Class A common stock has historically been volatile and
could fluctuate significantly for any of the following reasons:
o quarter-to-quarter variations in our operating results;
o developments or disputes concerning proprietary rights;
o technological innovations or new products;
o governmental regulatory action;
o general conditions in the software industry;
o increased price competition;
o changes in revenue or earnings estimates by analysts;
o any change in the actual or expected amount of dilution attributable to
issuances of additional shares of Class A common stock upon conversion
of our preferred stock or as a result of the litigation settlement; or
o other events or factors
Many of the above factors are beyond our control.
The stock market has recently experienced extreme price and volume fluctuations.
These fluctuations have particularly affected the market price of many software
companies, often without regard to their operating performance.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The following discussion about our market risk disclosures involves
forward-looking statements. Actual results could differ materially from those
projected in the forward-looking statements. We are exposed to the impact of
interest rate changes and foreign currency fluctuations.
Interest Rate Risk
Our exposure to market risk for changes in interest rates relates primarily to
our cash equivalents and short-term investments. We invest our excess cash in
short-term, fixed income financial instruments. These fixed rate investments are
subject to interest rate risk and may fall in value if market interest rates
increase. If market interest rates were to increase immediately and uniformly by
10% from the levels at June 30, 2001, the fair market value of the portfolio
would decline by an immaterial amount. We have the ability to hold our fixed
income investments until maturity and, therefore, we do not expect our operating
results or cash flows to be materially affected by a sudden change in market
interest rates on our investment portfolio.
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Foreign Currency Risk
We face exposure to adverse movements in foreign currency exchange rates. Our
international revenues and expenses are denominated in foreign currencies,
principally the British pound sterling, the German deutsche mark, the Spanish
peseta, and the Italian lira. The functional currency of each of our foreign
subsidiaries is the local currency. Our international business is subject to
risks typical of an international business, including but not limited to,
differing tax structures, other regulations and restrictions, and foreign
exchange rate volatility. Based on our overall currency rate exposure at June
30, 2001, a 10% change in foreign exchange rates would have had an immaterial
effect on our financial position, results of operations and cash flows. To date,
we have not hedged the risks associated with foreign exchange exposure. Although
we may do so in the future, we cannot be sure that any hedging techniques we may
implement will be successful or that our business, operating results, financial
condition and cash flows will not be materially adversely affected by exchange
rate fluctuations.
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PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Actions Arising under Federal Securities Laws
From March through May 2000, twenty-five class action complaints were filed in
federal courts in various jurisdictions alleging that we and certain of our
officers and directors violated section 10(b) of the Securities and Exchange Act
of 1934, as amended (the "Exchange Act"), Rule 10b-5 promulgated thereunder, and
section 20(a) and section 20A of the Exchange Act. Our outside auditor,
PricewaterhouseCoopers LLP, was also named in two of the suits. The complaints
contained varying allegations, including that we made materially false and
misleading statements with respect to our 1999, 1998 and 1997 financial results
in our filings with the SEC, analysts' reports, press releases and media
reports. In June 2000, these putative class action lawsuits were consolidated in
the United States District Court for the Eastern District of Virginia. On July
7, 2000, the lead plaintiffs filed an amended class action complaint naming us,
certain of our officers and directors, and PricewaterhouseCoopers LLP as
defendants. The amended class action complaint alleges claims under section
10(b), section 20(a) and section 20A of the Exchange Act. The amended class
action complaint does not specify the amount of damages sought.
On October 23, 2000, the Company, its officers and directors named as
defendants, and plaintiffs' counsel entered into a settlement agreement in the
consolidated class action. Under the settlement agreement, class members will
receive: (1) five-year unsecured subordinated promissory notes issued by
MicroStrategy having an aggregate principal amount of $80.5 million and bearing
interest at 7.5% per year; (2) 2,777,778 shares of our Class A Common Stock; and
(3) warrants to purchase 1,900,000 shares of Class A Common Stock at an exercise
price of $40 per share with the warrants expiring five years from the date they
are issued. On January 19, 2001, the district court authorized notice of the
proposed settlement to be sent to all putative class members. The notice informs
class members of their rights including their rights to object to the proposed
settlement and to object the proposed settlement and pursue their claims
separately. On April 2, 2001, the district court approved the settlement, and
the period from which an appeal could have been taken has expired. The
settlement is subject to various closing conditions.
Delaware Derivative Litigation
On June 30, 2000, a shareholder derivative action was filed in the Delaware
Court of Chancery seeking recovery for various alleged breaches of fiduciary
duties by certain of our directors and officers relating to our restatement of
financial results. On October 23, 2000, the Company, the directors and officers
named as defendants and the derivative plaintiff reached an agreement in
principle settling the derivative action. Under the derivative settlement
agreement, we have added a new independent director with finance experience to
the audit committee of our Board of Directors and will ensure continued
adherence with applicable legal and regulatory requirements regarding the
independence of audit committee members and trading by insiders. In addition,
certain of our officers will contribute a portion of the Class A Common Stock
held by them that is to be issued to class members in settlement of the class
action lawsuit. Specifically, Michael J. Saylor, our Chairman of the Board of
Directors and Chief Executive Officer, Sanju K. Bansal, our Vice Chairman,
Executive Vice President and Chief Operating Officer, and Mark S. Lynch, our
former Chief Financial Officer and current Vice President of Business Affairs,
will contribute to the class action settlement an aggregate of 1,683,502 shares
of Class A Common Stock held by them. At a hearing on August 7, 2001, the
Chancery Court approved the settlement.
Other Proceedings
We are also involved in other legal proceedings through the normal course of
business. Management believes that any unfavorable outcome related to these
other proceedings will not have a material effect on our financial position,
results of operations or cash flows.
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ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
Refinancing of Series A Redeemable Convertible Preferred Stock
On June 14, 2001, the Company and the holders of the Series A redeemable
convertible preferred stock (the "Series A Preferred Shares") agreed to a
refinancing of 11,850 of the Series A Preferred Shares, leaving 650 Series A
Preferred Shares outstanding. The Company redeemed or exchanged these 11,850
Series A Preferred Shares as follows:
o $12.5 million stated value of the Series A Preferred Shares, or
1,250 shares, were redeemed for $12.5 million in cash;
o $38.75 million stated value of the Series A Preferred Shares, or 3,875
shares, and accrued dividends on all Series A Preferred Shares being
exchanged were exchanged for 5,568,466 shares of Class A common stock
and $16.261 million stated value of Series D redeemable convertible
preferred stock (the "Series D Preferred Shares") with a fixed
conversion price of $5.00 per share;
o $33.125 million stated value of the Series A Preferred Shares, or
3,312.5 shares, were exchanged for an equivalent stated value of
Series B redeemable convertible preferred stock (the "Series B
Preferred Shares") with a conversion price of $12.50 per share,
subject to adjustment at maturity if the Company elects to mandatorily
convert these shares into Class A common stock;
o $27.825 million stated value of the Series A Preferred Shares, or
2,782.5 shares, were exchanged for an equivalent stated value of
Series C redeemable convertible preferred stock (the "Series C
Preferred Shares"), with a conversion price of $17.50 per share,
subject to adjustment at maturity if the Company elects to mandatorily
convert these shares into Class A common stock; and
o $6.3 million stated value of the Series A Preferred Shares, or 630
shares, were exchanged for an equivalent stated value of Series E
redeemable convertible preferred stock (the "Series E Preferred
Shares") with a conversion price per share equal to the average of the
volume-weighted average prices of the Class A Common Stock during the
ten consecutive trading days immediately preceding December 11, 2001.
As part of the refinancing, the Company has the option to redeem for cash $1.2
million stated value of its outstanding Series A Preferred Shares, or 120
shares, until December 11, 2001, if such shares have not been converted into
Class A common stock. If the Company does not exercise its option to redeem such
120 shares, an aggregate of 650 Series A Preferred Shares will remain
outstanding, assuming none of such shares are converted. These 650 Series A
Preferred Shares may be converted by the holders prior to maturity or by the
Company at maturity for shares of Class A common stock and accrue dividends
payable at the Company's option in shares of Class A common stock in lieu of
cash.
The Series B Preferred Shares and the Series C Preferred Shares have a
three-year maturity and accrue dividends at the rate of 12.5% per year, payable
in cash or Class A common stock at the election of the Company, subject to
satisfaction of certain conditions. At the option of the Company, the Series B
and Series C Preferred Shares may be redeemed at maturity at stated value plus
accrued dividends or mandatorily converted into Class A common stock at the
lower of their respective fixed conversion prices or 95% of the average of the
dollar volume-weighted average price of the Class A common stock during the 30
consecutive trading days immediately preceding the maturity date.
The Series D Preferred Shares have a three-year maturity, will not pay
dividends, and will have a fixed conversion price of $5 per share. At maturity,
the Series D Preferred Shares mandatorily converts into Class A common stock at
the fixed conversion price of $5 per share.
The Series E Preferred Shares have a three-year maturity, will pay dividends at
the rate of 12.5% per annum until September 12, 2001, 15% per annum from
September 13, 2001 until December 11, 2001 and 17.5% per annum thereafter. The
47
Company will have the right to redeem the Series E Preferred Shares prior to
December 11, 2001 at a price equal to 105% of the stated value plus accrued
dividends if redeemed on or before October 27, 2001, 110% of the stated value
plus accrued dividends if redeemed from October 28, 2001 through December 31,
2001 and at 120% of the stated value plus accrued dividends thereafter. Holders
of Series E Preferred Shares have the right to require the Company to redeem the
Series E Preferred Shares if the Company receives cash from a financing
transaction, certain assets sales and from certain other events by the Company.
Holders of Series E Preferred Shares have the right to require the Company to
redeem the Series E Preferred Shares at any time after July 14, 2002 at such
holder's option at a price equal to 120% of the stated value plus accrued
dividends.
The issuance of the securities in the above refinancing transaction was made in
reliance upon the exemption from registration provided by Section 3(a)(9) of the
Securities Act of 1933, as amended . No underwriters were involved in the
foregoing issuance of securities.
ITEM 5. OTHER INFORMATION
The Company's Annual Meeting of Stockholders was held on July 16, 2001.
The following proposals were adopted by the vote specified below.
Withheld/ Broker
For Against Abstain Non-votes
------- ----------- ---------- ----------
1. Election of directors:
Michael J. Saylor 535,526,098 315,495 -- --
Sanju K. Bansal 535,526,098 315,495 -- --
F. David Fowler 535,526,098 315,495 -- --
Frank A. Ingari 535,526,098 315,495 -- --
Jonathan J. Ledecky 534,295,222 1,546,371 -- --
Stuart B. Ross 535,526,098 315,495 -- --
John W. Sidgmore 535,526,098 315,495 -- --
Ralph S. Terkowitz 535,526,098 315,495 -- --
2. To approve the Amended and Restated 1999 Stock 510,505,548 2,469,567 39,844 22,626,634
Option Plan to increase the number of shares of
Class A Common Stock reserved for issuance
under the plan from 11,000,000 to 23,500,000
shares
3. To approve the Amended and Restated 1997 Stock 510,892,757 2,084,038 38,164 22,626,634
Option Plan for French Employees to increase
the number of shares of Class A Common Stock
reserved for issuance under the plan from
600,000 to 800,000 shares
4. To approve the issuance of shares of Class A 512,846,025 131,244 37,691 22,626,633
Common Stock upon conversion of shares of
Series A Convertible Preferred Stock and as
dividends thereon
5. To approve the issuance of shares of Class A 512,825,929 148,450 40,581 22,626,633
Common Stock (i) upon exchange of shares of
Series A Convertible Preferred Stock and (ii)
upon conversion of shares of Series B
Convertible Preferred Stock, Series C
Convertible Preferred Stock, Series D
Convertible Preferred Stock and Series E
Convertible Preferred Stock issued in exchange
for shares of Series A Convertible Preferred
Stock (including any shares of Class A Common
Stock issuable in lieu of cash dividends
thereon)
6. To approve the issuance of shares of Class A 512,842,505 136,874 35,581 22,626,633
Common Stock upon conversion of 7 1/2% Series
A Unsecured Notes to be issued to class
members pursuant to the settlement agreement
among the Company, certain of the Company's
officers and directors and plaintiffs'
counsel, approved by the United States
District Court for the Eastern District of
Virginia on April 2, 2001
7. To ratify the selection of 521,095,169 14,515,651 30,773 --
PricewaterhouseCoopers LLP as the Company's
independent auditors for the current fiscal
year
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
A. Exhibits
3.1 Amended and Restated Certificate of Incorporation of the Company (Filed as Exhibit 3.1 to
the Company's Registration Statement on Form S-1 (Registration No. 333-49899) and
incorporated by reference herein).
3.2 Certificate of Amendment to the Amended and Restated Certificate of Incorporation of the
Company (Filed as Exhibit 3.2 to the Company's Quarterly Report on Form 10-Q for the quarterly
period ended June 30, 2000 (File No. 000-24435) and incorporated by reference herein).
3.3 Certificate of Designations, Preferences and Rights of Series A Conertible Preferred Stock.
(Filed as Exhibit 3.1 to the Company's Current Report on Form 8-K (File no. 000-24435) filed on
June 19, 2000, and incorporated by reference herein).
3.4 Certificate of Designations, Preferences and Rights of the Series B Convertible Preferred
Stock. (Filed as Exhibit 4.1 to the Company's Current Report on Form 8-K (File No.
000-24435) filed on June 18, 2001, and incorporated by reference herein).
3.5 Certificate of Designations, Preferences and Rights of the Series C Convertible Preferred
Stock (Filed as Exhibit 4.2 to the Company's Current Report on Form 8-K (File No.
000-24435) filed on June 18, 2001, and incorporated by reference herein).
3.6 Certificate of Designations, Preferences and Rights of the Series D Convertible Preferred
Stock (Filed as Exhibit 4.3 to the Company's Current Report on Form 8-K (File No.
000-24435) filed on June 18, 2001, and incorporated by reference herein).
3.7 Certificate of Designations, Preferences and Rights of the Series E Convertible Preferred
Stock (Filed as Exhibit 4.4 to the Company's Current Report on Form 8-K (File No.
000-24435) filed on June 18, 2001, and incorporated by reference herein).
10.1 Amended and Restated Redemption and Exchange Agreement, dated as of June 14, 2001, by and
among the Company, Fisher Capital Ltd. and Wingate Capital Ltd (Filed as Exhibit 10.1 to
the Company's Current Report on Form 8-K (File No. 000-24435) filed on June 18, 2001, and
incorporated by reference herein).
10.2 Amended and Restated Redemption and Exchange Agreement, dated as of June 14, 2001, by and
between the Company and HFTP Investment L.L.C. (Filed as Exhibit 10.2 to the Company's
Current Report on Form 8-K (File No. 000-24435) filed on June 18, 2001, and incorporated by
reference herein).
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10.3 Amended and Restated Redemption and Exchange Agreement, dated as of June 14, 2001, by and
between the Company and Leonardo, L.P. (Filed as Exhibit 10.3 to the Company's Current
Report on Form 8-K (File No. 000-24435) filed on June 18, 2001, and incorporated by
reference herein).
10.4 Amended and Restated Registration Rights Agreement, dated as of April June 14, 2001, by and
among the Company, Fisher Capital Ltd. and Wingate Capital Ltd. (Filed as Exhibit 10.4 to
the Company's Current Report on Form 8-K (File No. 000-24435) filed on June 18, 2001, and
incorporated by reference herein).
10.5 Amended and Restated Registration Rights Agreement, dated as of June 14, 2001, by and between
the Company and HFTP Investment L.L.C. (Filed as Exhibit 10.5 to the Company's Current Report
on Form 8-K (File No. 000-24435) filed on June 18, 2001, and incorporated by reference herein).
10.6 Amended and Restated Registration Rights Agreement, dated as of June 14, 2001, by and
between the Company and Leonardo, L.P. (Filed as Exhibit 10.6 to the Company's Current
Report on Form 8-K (File No. 000-24435) filed on June 18, 2001, and incorporated by
reference herein).
10.7 Amended and Restated Loan and Security Agreement by and among Foothill Capital Corporation,
MicroStrategy Incorporated and MicroStrategy Services Corporation, dated as of June 14, 2001
(Filed as Exhibit 10.1 to the Company's Current Report on Form 8-K (File No. 000-24435)
filed on June 20, 2001, and incorporated by reference herein).
B. Reports on Form 8-K
On April 4, 2001, the Company filed a Current Report on Form 8-K dated April 3,
2001 to report that it had issued a press release announcing new corporate
developments, including (a) the Company's expectation that the results of
operations for the first quarter of 2001 will be below its previous
expectations, (b) the implementation of a corporate restructuring program which
will include a reduction in the Company's worldwide workforce by approximately
one-third, (c) the refinancing of its $125 million Series A preferred stock and
(d) federal court approval of the settlement of the consolidated securities
class action lawsuit against the Company and certain of its officers and
directors.
On May 2, 2001, the Company filed a Current Report on Form 8-K dated April 30,
2001 to report that it had issued a press release announcing its financial
results for the three month period ended March 31, 2001, and providing
additional outlook and financial guidance information.
On June 18, 2001, the Company filed a Current Report on Form 8-K dated June 14,
2001 to report that it had issued a press release announcing that it closed the
refinancing on its Series A preferred stock.
On June 20, 2001, the Company filed a Current Report on Form 8-K dated June 14,
2001 to report that, in connection with the refinancing of its $125 million of
outstanding Series A preferred stock, the Company amended and restated the loan
and security agreement among Foothill Capital Corporation, the Company and
MicroStrategy Services Corporation, a wholly-owned subsidiary of the Company.
All other items included in a Quarterly Report of Form 10-Q are omitted because
they are not applicable or the answers are "none".
49
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.
MICROSTRATEGY INCORPORATED
By: /s/ Michael J. Saylor
------------------------------
Michael J. Saylor
Chairman of the Board of Directors
and Chief Executive Officer
By: /s/ Eric F. Brown
---------------------
Eric F. Brown
President and Chief Financial Officer
Date: August 14, 2001
50