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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-Q
QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended: April 3, 1999
Commission File Number: 0-18059
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Parametric Technology Corporation
(Exact name of registrant as specified in its charter)
Massachusetts 04-2866152
(State or other jurisdiction of (I.R.S. Employer Identification
incorporation or organization) Number)
128 TECHNOLOGY DRIVE, WALTHAM, MA 02453
(Address of principal executive offices, including zip code)
(781) 398-5000
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. YES [X] NO [_]
There were 270,742,007 shares of our common stock outstanding on April 3,
1999.
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PARAMETRIC TECHNOLOGY CORPORATION
INDEX TO FORM 10-Q
For the Quarter Ended April 3, 1999
Page
Number
------
Cover.................................................................. i
Index.................................................................. ii
PART I--FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets as of September 30, 1998 and April
3, 1999....................................................... 1
Consolidated Statements of Income for the three and six months
ended April 4, 1998 and April 3, 1999......................... 2
Consolidated Statements of Cash Flows for the six months ended
April 4, 1998 and April 3, 1999............................... 3
Notes to the Consolidated Financial Statements................ 4
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations..................................... 7
Item 3. Quantitative and Qualitative Disclosures About Market Risk.... 14
PART II--OTHER INFORMATION
Item 1. Legal Proceedings............................................. 14
Item 2. Changes in Securities and Use of Proceeds..................... 15
Item 4. Submission of Matters to a Vote of Security Holders........... 15
Item 6. Exhibits and Reports on Form 8-K.............................. 15
Signature.............................................................. 16
PART I--FINANCIAL INFORMATION
PARAMETRIC TECHNOLOGY CORPORATION
CONSOLIDATED BALANCE SHEETS
(in thousands)
September 30, April 3,
1998 1999
------------- -----------
ASSETS
Current assets:
Cash and cash equivalents......................... $ 205,971 $ 236,264
Short-term investments............................ 131,405 87,625
Accounts receivable, net.......................... 189,275 204,991
Other current assets.............................. 67,130 73,375
----------- -----------
Total current assets............................ 593,781 602,255
Marketable investments.............................. 88,807 22,030
Property and equipment, net......................... 62,241 61,363
Goodwill and other intangible assets, net........... 16,781 163,546
Other assets........................................ 71,230 81,274
----------- -----------
Total assets.................................... $ 832,840 $ 930,468
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable.................................. $ 34,520 $ 37,192
Accrued expenses.................................. 92,742 73,966
Accrued compensation and severance................ 81,856 57,403
Deferred revenue.................................. 145,376 184,122
Income taxes...................................... 65,048 60,298
----------- -----------
Total current liabilities....................... 419,542 412,981
Other liabilities................................... 54,081 52,062
Deferred income taxes............................... 31,780 31,688
Stockholders' equity:
Preferred stock, $0.01 par value; 5,000 shares au-
thorized; none issued............................ -- --
Common stock, $0.01 par value; 350,000 shares au-
thorized; 272,277 shares issued for both periods. 2,723 2,723
Additional paid-in capital........................ 1,528,647 1,553,753
Treasury stock, at cost, 4,135 and 1,535 shares... (43,134) (22,044)
Accumulated deficit............................... (1,157,628) (1,098,091)
Accumulated other comprehensive loss (Note 4)..... (3,171) (2,604)
----------- -----------
Total stockholders' equity...................... 327,437 433,737
----------- -----------
Total liabilities and stockholders' equity...... $ 832,840 $ 930,468
=========== ===========
The accompanying notes are an integral part of the consolidated financial
statements.
1
PARAMETRIC TECHNOLOGY CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
(in thousands, except per share data)
Three months ended Six months ended
-------------------- ------------------
April 4, April 3, April 4, April 3,
1998 1999 1998 1999
--------- --------- -------- --------
Revenue:
License.............................. $ 162,558 $ 141,125 $320,816 $277,205
Service.............................. 101,513 122,123 202,123 236,160
--------- --------- -------- --------
Total revenue...................... 264,071 263,248 522,939 513,365
--------- --------- -------- --------
Costs and expenses:
Cost of license revenue.............. 3,443 2,997 7,962 7,136
Cost of service revenue.............. 33,827 47,567 70,430 89,283
Sales and marketing.................. 92,811 103,161 189,018 199,273
Research and development............. 20,682 30,310 45,961 59,483
General and administrative........... 12,314 15,248 27,768 31,812
Amortization of goodwill and other
intangible assets................... 679 3,607 1,358 6,094
Acquisition and nonrecurring charges
(Note 2)............................ 76,800 39,518 76,800 53,347
--------- --------- -------- --------
Total costs and expenses........... 240,556 242,408 419,297 446,428
--------- --------- -------- --------
Operating income....................... 23,515 20,840 103,642 66,937
Other income (expense), net............ (371) 728 (6,249) 2,672
--------- --------- -------- --------
Income before income taxes and
extraordinary loss.................... 23,144 21,568 97,393 69,609
Provision for income taxes............. 20,069 11,019 52,185 29,069
--------- --------- -------- --------
Income before extraordinary loss....... 3,075 10,549 45,208 40,540
Extraordinary loss, net of income tax
benefit of $2,183..................... (19,017) -- (19,017) --
--------- --------- -------- --------
Net income (loss)...................... $ (15,942) $ 10,549 $ 26,191 $ 40,540
========= ========= ======== ========
Earnings per share (Note 3):
Basic:
Income before extraordinary loss..... $ 0.01 $ 0.04 $ 0.17 $ 0.15
Extraordinary loss................... (0.07) -- (0.07) --
--------- --------- -------- --------
Net income (loss).................... $ (0.06) $ 0.04 $ 0.10 $ 0.15
========= ========= ======== ========
Diluted:
Income before extraordinary loss..... $ 0.01 $ 0.04 $ 0.16 $ 0.15
Extraordinary loss................... (0.07) -- (0.07) --
--------- --------- -------- --------
Net income (loss).................... $ (0.06) $ 0.04 $ 0.09 $ 0.15
========= ========= ======== ========
The accompanying notes are an integral part of the consolidated financial
statements.
2
PARAMETRIC TECHNOLOGY CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
Six months ended
-------------------
April 4, April 3,
1998 1999
--------- --------
Cash flows from operating activities:
Net income.............................................. $ 26,191 $ 40,540
Adjustments to reconcile net income to net cash flows
from operating activities:
Extraordinary loss on early extinguishment of debt.... 19,017 --
Non-cash portion of nonrecurring charges.............. 12,778 4,693
Depreciation and amortization......................... 13,694 25,170
Deferred income taxes................................. 2,223 --
Charge for purchased in-process research and
development.......................................... -- 38,244
Changes in assets and liabilities which provided
(used) cash, net of effects of purchased businesses:
Accounts receivable................................. 4,302 (16,050)
Accounts payable and accrued expenses............... 25,955 (27,522)
Accrued compensation and severance.................. (15,329) (25,083)
Deferred revenue.................................... 8,244 35,074
Income taxes........................................ 2,108 (4,395)
Other current assets................................ (22,823) (655)
Other noncurrent assets and liabilities............. 16,402 (8,005)
--------- --------
Net cash provided by operating activities................. 92,762 62,011
--------- --------
Cash flows from investing activities:
Additions to property and equipment..................... (10,496) (15,234)
Changes in other assets................................. -- (4,111)
Purchases of investments................................ (162,345) (26,078)
Proceeds from sales and maturities of investments....... 380,090 131,721
Payments for acquisition of businesses, net of cash
acquired............................................... -- (70,344)
--------- --------
Net cash provided by investing activities................. 207,249 15,954
--------- --------
Cash flows from financing activities:
Proceeds from issuance of common stock.................. 51,703 14,934
Purchases of treasury stock............................. -- (64,973)
Repayment of short-term debt............................ (34,933) --
Repayment of long-term obligations...................... (240,761) --
--------- --------
Net cash used by financing activities..................... (223,991) (50,039)
--------- --------
Elimination of net cash activity of acquired company for
the three months ended December 31, 1997................. 11,567 --
Effect of exchange rate changes on cash................... (753) 2,367
--------- --------
Net increase in cash and cash equivalents................. 86,834 30,293
Cash and cash equivalents, beginning of period............ 168,609 205,971
--------- --------
Cash and cash equivalents, end of period.................. $ 255,443 $236,264
========= ========
The accompanying notes are an integral part of the consolidated financial
statements.
3
PARAMETRIC TECHNOLOGY CORPORATION
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
1. BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements include the
accounts of Parametric Technology Corporation and its wholly owned
subsidiaries and have been prepared by us in accordance with generally
accepted accounting principles. Our fiscal year end is September 30. Certain
reclassifications have been made to the prior year's statements to conform
with the fiscal 1999 presentation. The year end consolidated balance sheet was
derived from our audited financial statements. In the opinion of management,
the accompanying unaudited consolidated financial statements contain all
adjustments, consisting only of those of a normal recurring nature, necessary
for a fair presentation of our financial position, results of operations, and
cash flows at the dates and for the periods indicated. While we believe that
the disclosures presented are adequate to make the information not misleading,
these financial statements should be read in conjunction with the consolidated
financial statements and related notes included in our Annual Report on Form
10-K for the year ended September 30, 1998. The results of operations for the
three and six month periods ended April 3, 1999 are not necessarily indicative
of the results expected for the remainder of the fiscal year.
2. ACQUISITIONS AND NONRECURRING CHARGES
ACQUISITIONS
Computervision. In January 1998, we merged with Computervision Corporation by
issuing 11.6 million shares of common stock in exchange for all of the
outstanding common stock of Computervision. The merger was accounted for as a
pooling of interests. In connection with the Computervision merger, we
incurred a nonrecurring charge of $76.8 million for merger-related
integration, consolidation, and transaction costs in the second quarter of
1998. For additional information see Note B to the consolidated financial
statements included in our Annual Report on Form 10-K for the year ended
September 30, 1998.
InPart. In October 1998, we acquired all of the outstanding stock of InPart
Design, Inc. by issuing 2.0 million shares of our common stock. In addition,
we reserved 386,000 shares of common stock for outstanding InPart options
assumed. Based upon certain conditions, we may be obligated to issue up to
$15.0 million worth of additional shares in September 1999. The acquisition
was accounted for as a purchase. Accordingly, we allocated the purchase price
of $38.1 million to the assets acquired and liabilities assumed based on our
estimates of fair value. The values assigned included $741,000 for net
liabilities assumed, $10.6 million for purchased in-process research and
development (R&D), $4.1 million for developed technology, $1.1 million for
customer lists, $200,000 for an assembled workforce, and $300,000 for trade
names. The excess purchase price over the amounts allocated to assets acquired
and liabilities assumed was recorded as goodwill of $22.5 million.
Division. In March 1999, we acquired Division Group plc for $34.5 million in
cash and 591,000 shares of our common stock. The acquisition was accounted for
as a purchase. Accordingly, we allocated the purchase price of $48.1 million
to the assets acquired and liabilities assumed based on our estimates of fair
value. The values assigned included $555,000 for net assets acquired, $9.0
million for purchased in-process R&D, $3.3 million for developed technology,
$2.0 million for customer lists, $970,000 for an assembled workforce, and $2.5
million for trade names. The excess purchase price over the amounts allocated
to assets acquired and liabilities assumed was recorded as goodwill of $29.8
million.
auxilium. In March 1999, we acquired all of the outstanding stock of auxilium
inc. in exchange for 2.6 million shares of our common stock and $39.4 million
in cash. In addition, we reserved 1.1 million shares of common stock for
outstanding auxilium options assumed. The acquisition was accounted for as a
purchase. Accordingly, we allocated the purchase price of $101.7 million to
the assets acquired and liabilities assumed based on our estimates of fair
value. The values assigned included $182,000 for net liabilities assumed,
$18.6 million for
4
PARAMETRIC TECHNOLOGY CORPORATION
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
purchased in-process R&D, $700,000 for developed technology, $5.0 million for
customer lists, $630,000 for an assembled workforce, and $6.0 million for
trade names. The excess purchase price over the amounts allocated to assets
acquired and liabilities assumed was recorded as goodwill of $70.9 million.
The operating results of InPart, Division, and auxilium have been included in
our results of operations from the date of each acquisition. Our purchases of
InPart, Division, and auxilium did not require the presentation of pro forma
information.
In the opinion of management, the purchased in-process R&D for the
acquisitions of InPart, Division, and auxilium had not yet reached
technological feasibility and had no alternative future use. Accordingly, we
recorded nonrecurring charges of $10.6 million in the first quarter of 1999
and $27.6 million in the second quarter of 1999. The values assigned to
purchased in-process R&D, which were calculated pursuant to the Securities and
Exchange Commission's recent guidance regarding in-process R&D allocations,
were determined by identifying research projects for which technological
feasibility had not been established. The values of the purchased in-process
R&D were determined by estimating the stage of completion, including
consideration of the complexity of the work completed, the costs incurred and
the projected costs to complete, the contribution of any core technology and
other acquired assets, and the projected product introduction dates,
estimating the resulting net cash flows from the products developed, and
discounting the net cash flows back to their present value. The discount rates
used included a factor that took into account the uncertainty surrounding the
successful development of the purchased in-process technology for each
acquisition. If these projects are not successfully developed, future revenue
and profitability may be adversely affected. Additionally, the value of other
intangible assets acquired, which aggregated $150.0 million, may become
impaired.
NONRECURRING CHARGES
Sales Force Reorganizations. During the first quarter of 1999, we reorganized
our sales force to provide a more focused approach to the unique product and
service requirements of our customers. In connection with this action, we
incurred a restructuring charge of $3.2 million for the severance and
termination benefits of approximately 170 people who had been terminated
during the first quarter of 1999 in accordance with management's plan. Of the
$3.2 million charge, $2.6 million was paid during the first quarter of 1999
and the remaining $645,000 was paid during the second quarter of 1999. During
the second quarter of 1999, we incurred a restructuring charge of $5.8 million
for the severance and termination benefits of approximately 150 people
primarily in connection with the integration of our sales and related support
groups. We expect to pay these amounts over the remaining two quarters of
1999.
Facility Consolidation and Asset Impairment. During the second quarter of
1999, we incurred a restructuring charge of $1.4 million for the consolidation
of certain excess leased facilities. Also, in the second quarter we recorded
an impairment loss of $4.7 million on certain intangible assets related to our
industrial design activities. Due to recent acquisitions and the development
of new technology, the carrying value of these assets was impaired.
3. EARNINGS PER SHARE
Basic earnings per share (EPS) is calculated by dividing net income by the
weighted average number of shares outstanding during the period. Diluted EPS
is calculated by dividing net income by the weighted average number of shares
outstanding plus the dilutive effect of outstanding stock options using the
"treasury stock" method and other dilutive potential shares. The following
table presents the calculation for both basic and diluted EPS:
5
PARAMETRIC TECHNOLOGY CORPORATION
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Three months ended Six months ended
-------------------- -----------------
April 4, April 3, April 4, April 3,
1998 1999 1998 1999
--------- --------- -------- --------
(in thousands, except per share
data)
Net income (loss).................. $ (15,942) $ 10,549 $ 26,191 $ 40,540
========= ========= ======== ========
Weighted average shares
outstanding....................... 269,347 267,955 268,419 268,314
Dilutive effect of employee stock
options........................... 10,724 7,532 9,170 6,577
--------- --------- -------- --------
Diluted shares outstanding......... 280,071 275,487 277,589 274,891
========= ========= ======== ========
Basic EPS.......................... $ (0.06) $ 0.04 $ 0.10 $ 0.15
Diluted EPS........................ $ (0.06) $ 0.04 $ 0.09 $ 0.15
Options to purchase 4.1 million shares for the second quarter and first six
months of 1998, and 10.9 and 14.4 million shares for the second quarter and
first six months of 1999, were outstanding but were excluded from the
computation of diluted shares outstanding because the price of the options was
greater than the average market price of the common stock for the period
reported.
4. COMPREHENSIVE INCOME (LOSS)
Effective October 1, 1998, we adopted Statement of Financial Accounting
Standards No. 130, Reporting Comprehensive Income, which requires presentation
of the components of comprehensive income, including unrealized gains and
losses on investments, foreign currency translation adjustments, and minimum
pension liability adjustments. Our total comprehensive income (loss) was
($14.5) million and $8.4 million for the second quarter of 1998 and 1999, and
$26.3 million and $41.1 million for the first six months of 1998 and 1999,
respectively.
5. NEW ACCOUNTING PRONOUNCEMENTS
In October 1997, the American Institute of Certified Public Accountants
issued Statement of Position (SOP) 97-2, Software Revenue Recognition, which
provides guidance on applying generally accepted accounting principles on
recognizing revenue in software transactions. Certain provisions of SOP 97-2
have been deferred by SOP 98-4 and SOP 98-9. We adopted SOP 97-2 during the
first quarter of 1999. The adoption of this statement did not have a material
effect on our revenue recognition policies or on our results of operations.
Additionally, we anticipate that the adoption of the deferred provisions of
this statement will not have a material effect on our results of operations.
6
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
Our Company
Parametric Technology Corporation develops, markets, and supports a
comprehensive suite of integrated product development and information
management software. Our mechanical design automation product family automates
product development from conceptual design through production. Our enterprise
information management solutions accelerate the flow of product data from
engineering to other critical areas of an enterprise. Our solutions are
complemented by the strength and experience of our professional services
organization, which provides training, consulting, and support to customers
worldwide.
Forward-Looking Statements
This Quarterly Report on Form 10-Q contains forward-looking statements that
describe our anticipated financial results and growth based on our current
plans and assumptions. Important information about the basis for these plans
and assumptions and certain factors that may cause our actual results to
differ materially from these statements are discussed below and additional
factors are contained in Important Risk Factors Affecting Results which is
included as Exhibit 99.1 to this Form 10-Q and is incorporated herein by
reference.
Results of Operations
The following is an overview of our results of operations:
. Total revenue was $263.2 million for the second quarter of 1999 compared to
$264.1 million for the second quarter of 1998. Total revenue was $513.4
million for the first six months of 1999 compared to $522.9 million for the
first six months of 1998.
. Our year-over-year second quarter revenue was basically flat, reflecting a
13% decrease in software license revenue offset by a 20% increase in
service revenue. Our year-over-year six month revenue declined 2%,
reflecting a 14% decrease in software license revenue offset by a 17%
increase in service revenue.
. Excluding acquisition and nonrecurring charges and the extraordinary loss,
our net income was $42.8 million for the second quarter of 1999, a decrease
of 35% from the second quarter of 1998, and $85.5 million for the first six
months of 1999, a 21% decrease from the first six months of 1998.
. After giving effect to acquisition and nonrecurring charges and the
extraordinary loss, our net income was $10.5 million for the second quarter
of 1999 compared to a net loss of ($15.9) million for the second quarter of
1998.
7
The following table shows certain consolidated financial data as a percentage
of our total revenue for the second quarter and first six months of both 1998
and 1999.
Three months
ended Six months ended
------------ -----------------
April 4, April 3, April 4, April 3,
1998 1999 1998 1999
-------- -------- -------- --------
Revenue:
License........................... 62% 54% 61% 54%
Service........................... 38 46 39 46
--- --- --- ---
Total revenue....................... 100 100 100 100
Costs and expenses:
Cost of license revenue........... 1 1 2 1
Cost of service revenue........... 13 18 13 18
Sales and marketing............... 35 39 36 39
Research and development.......... 8 12 9 12
General and administrative........ 5 6 5 6
Amortization of goodwill and other
intangible assets................ -- 1 -- 1
Acquisition and nonrecurring
charges.......................... 29 15 15 10
--- --- --- ---
Total costs and expenses............ 91 92 80 87
--- --- --- ---
Operating income.................... 9 8 20 13
Other income (expense), net......... -- -- (1) 1
--- --- --- ---
Income before income taxes and
extraordinary loss................. 9 8 19 14
Provision for income taxes.......... 8 4 10 6
--- --- --- ---
Income before extraordinary loss.... 1 4 9 8
Extraordinary loss.................. (7) -- (4) --
--- --- --- ---
Net income (loss)................... (6)% 4% 5% 8%
=== === === ===
Excluding acquisition and
nonrecurring charges and
extraordinary loss:
Operating income.................. 38 % 23% 35% 23%
Net income........................ 25 % 16% 21% 17%
REVENUE. We derived our revenue primarily from software used in the mechanical
segment of the computer-aided design, manufacturing, and engineering industry.
License revenue decreased $21.4 million for the second quarter of 1999
compared to the second quarter of 1998 and $43.6 million for the first six
months of 1999 compared to the same period in 1998. There are several factors
that contributed to the decrease, including the following. The transitional
effects of our sales force reorganization implemented in the first quarter of
1999, including the appointment of Rand A Technology Corporation as our
exclusive distributor to small businesses in the U.S. and Europe, reduced
sales productivity during the second quarter and the first six months of 1999.
The average price of our software decreased in the second quarter and first
six months of 1999 from the comparable 1998 periods, due primarily to our
repricing and repackaging initiative announced in August 1998. While, product
unit sales increased 3% in the second quarter of 1999 compared to the second
quarter of 1998, and 5% in the first six months of 1999 compared to the first
six months of 1998, this increase was not sufficient to offset the impact of
the decrease in the average price of our software. The decrease in license
revenue, however, was partially offset by stronger results in Japan in the
second quarter of 1999 as compared to the same period in 1998.
8
Our service revenue is derived from the sale of software maintenance contracts
and the performance of training and consulting services, and has a lower gross
profit margin than license revenue. Service revenue increased $20.6 million for
the second quarter of 1999 compared to the second quarter of 1998, and
increased $34.0 million for the first six months of 1999 compared to the first
six months of 1998. These increases are primarily the result of growth in our
installed customer base and increased training and consulting services
performed for these customers. We expect service revenue to continue to
increase in absolute dollars for the remainder of 1999.
We derived 55% and 63% of our total revenue from sales to international
customers for the second quarter of 1998 and 1999, respectively. For the first
six months of 1998 and 1999, we derived 55% and 58% of our revenue from sales
to international customers, respectively. The increase in international revenue
for both the second quarter and the first six months of 1999 is primarily due
to a large order received from a customer in Japan.
[REVENUE BY GEOGRAPHY CHART APPEARS HERE]
U.S. Q2 98 - $117.9 million; Q2 99 - $97.4 million
Europe Q2 98 - $107.9 million; Q2 99 - $96.9 million
Asia/Pacific Q2 98 - $ 38.3 million; Q2 99 - $68.9 million
U.S. First 6 months 98-$233.6 million; First 6 months 99-$213.4 million
Europe First 6 months 98-$206.4 million; First 6 months 99-$195.5 million
Asia/Pacific First 6 months 98-$ 83.0 million; First 6 months 99-$104.4 million
We remain cautious in our overall outlook because the impact of our various
strategic initiatives, designed to provide a foundation for future growth, is
uncertain. These initiatives include: (i) the repricing and repackaging of our
core Pro/ENGINEER(R) product line that we undertook in the fourth quarter of
1998; (ii) our sales force reorganization in the first quarter of 1999, which
included the formation of a specific sales force for larger, multinational
customers and included the appointment of Rand, who is in the process of
developing its marketing, sales and distribution networks; (iii) the
introduction of our Windchill pilot program in the first quarter of 1999, which
makes the Windchill technology available to customers on a test basis at a
reduced price in order to promote market awareness of the product; and (iv) the
recent integration of our Windchill sales force into our major and primary
accounts sales groups in order to provide our customers a single contact for
all products. In the near term, these initiatives may result in longer and less
predictable sales cycles and result in a greater dependence on consummating
larger transactions in general. Our revenue growth and the level of our total
revenue will be affected by the success of these initiatives, together with the
factors discussed under Important Risk Factors Affecting Results included as
Exhibit 99.1 to this Form 10-Q.
COSTS AND EXPENSES. Our operating expenses are based on anticipated future
revenue and are relatively fixed for the short term. We are incurring expenses
that would support revenues in excess of current levels in order to implement
our strategic initiatives, particularly as they relate to Windchill products.
Although these expense levels have adversely affected net income, we believe
these initiatives will provide a foundation for future growth.
COST OF LICENSE REVENUE. Our cost of license revenue consists of costs
associated with reproducing and distributing software and documentation,
royalties, and the amortization of internally developed software. Cost of
license revenue as a percent of total revenue was 1% for the second quarters of
both 1998 and 1999, and 2% and 1% for the first six months of 1998 and 1999,
respectively.
9
COST OF SERVICE REVENUE. Our cost of service revenue includes costs
associated with training and consulting personnel, such as salaries and
related costs and travel, and costs related to software maintenance, including
costs incurred for customer support personnel and the release of maintenance
updates. For both the second quarter of 1999 and the first six months of 1999,
cost of service revenue as a percent of total revenue has increased to 18%
from 13% in the corresponding periods in 1998. The increase in cost of service
revenue resulted primarily from growth in the staffing necessary to generate
and support increased worldwide service revenue and provide ongoing quality
customer support to our installed base. We anticipate continued growth in both
service revenue and staffing necessary to support its growth.
SALES AND MARKETING. Our sales and marketing expenses primarily include
salaries, sales commissions, travel, and facility costs. These costs have
increased $10.4 million and $10.3 million for the second quarter of 1999 and
for the first six months of 1999, respectively, compared to the same periods
of 1998, primarily due to the growth of the Windchill sales force and the
associated costs of establishing the pilot programs, partially offset by the
sales force reorganizations. Total sales and marketing employees were 2,364 at
April 4, 1998, 2,440 at September 30, 1998, and 2,194 at April 3, 1999. We
expect our worldwide sales and marketing organization for the remainder of
1999 to remain below the September 30, 1998 level due to the restructuring of
the sales organization designed to better address customer needs.
RESEARCH AND DEVELOPMENT. Our research and development expenses consist
principally of salaries and benefits, expenses associated with product
translations, costs of computer equipment used in software development, and
facility expenses. Compared to the second quarter and first six months of
1998, research and development expenses increased 47% and 29% in the
comparable periods of 1999. This increase is primarily attributable to our
continued investment in Windchill products, including our InPart acquisition
in the first quarter of 1999 and the Division and auxilium acquisitions in the
second quarter of 1999.
GENERAL AND ADMINISTRATIVE. Our general and administrative expenses include
costs of our corporate, finance, information technology, human resources, and
administrative functions. These costs increased $2.9 million in the second
quarter of 1999 compared to the second quarter of 1998 and $4.0 million for
the first six months of 1999 compared to the same period in 1998. These
increases represent our continued investment in information technology,
including Year 2000 expenditures, and the integration of acquired companies.
AMORTIZATION OF GOODWILL AND OTHER INTANGIBLE ASSETS. These costs include the
amortization of intangible assets acquired, including developed technology,
goodwill, customer lists, assembled work force, and trade names. The increased
amortization of $2.9 million and $4.7 million for the second quarter and the
first six months of 1999 compared to the similar periods in 1998 resulted from
our recent acquisitions.
Acquisition And Nonrecurring Charges.
Acquisitions:
Computervision. In January 1998, we merger with Computervision Corporation by
issuing 11.6 million shares of common stock in exchange for all of the
outstanding common stock of Computervision. The merger was accounted for as a
pooling of interests. In connection with the merger, we incurred a
nonrecurring charge of $76.8 million for merger-related integration,
consolidation, and transaction costs in the second quarter of 1998. The charge
included $18.1 million of severance and termination benefits related to the
elimination of approximately 450 positions, $12.7 million for the write-off of
assets, $8.2 million for transaction costs, $17.4 million of contract costs
associated with revised estimates, $7.2 million for the closing of leased
facilities, and $13.2 million of lease termination and other costs. For
additional information see Note B to the consolidated financial statements
included in our Annual Report on Form 10-K for the year ended September 30,
1998.
InPart. In October 1998, we purchased InPart Design, Inc., a developer of
DesignSuite(TM), a web-based repository of 3D mechanical component data, as
well as the developer of enterprise software applications focused on web-based
component and supplier management, and founded in 1996. We allocated the
purchase price of
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$38.1 million to the assets acquired and liabilities assumed based on our
estimates of fair value. The values assigned included $741,000 for net
liabilities assumed, $10.6 million for purchased in-process research and
development (R&D), $4.1 million for developed technology, $1.1 million for
customer lists, $200,000 for an assembled workforce, and $300,000 for trade
names. The excess purchase price over the amounts allocated to assets acquired
and liabilities assumed was recorded as goodwill of $22.5 million.
Division. In March 1999, we purchased Division Group plc, a developer of
enterprise product data visualization, simulation, and integration tools. We
allocated the purchase price of $48.1 million to the assets acquired and
liabilities assumed based on our estimates of fair value. The values assigned
included $555,000 for net assets acquired, $9.0 million for purchased in-
process R&D, $3.3 million for developed technology, $2.0 million for customer
lists, $970,000 for an assembled workforce, and $2.5 million for trade names.
The excess purchase price over the amounts allocated to assets acquired and
liabilities assumed was recorded as goodwill of $29.8 million.
auxilium. In March 1999, we purchased auxilium inc., a developer of web-based
software tools for the integration of legacy systems, databases, and
applications, and founded in 1997. We allocated the purchase price of $101.7
million to the assets acquired and liabilities assumed based on our estimates
of fair value. The values assigned included $182,000 for net liabilities
assumed, $18.6 million for purchased in-process R&D, $700,000 for developed
technology, $5.0 million for customer lists, $630,000 for an assembled
workforce, and $6.0 million for trade names. The excess purchase price over
the amounts allocated to assets acquired and liabilities assumed was recorded
as goodwill of $70.9 million.
In the opinion of management, the purchased in-process R&D for the
acquisitions of InPart, Division, and auxilium had not yet reached
technological feasibility and had no alternative future use. Accordingly, we
recorded nonrecurring charges of $10.6 million in the first quarter of 1999
and $27.6 million in the second quarter of 1999. The values assigned to
purchased in-process R&D, which were calculated pursuant to the Securities and
Exchange Commission's recent guidance regarding in-process R&D allocations,
were determined by identifying research projects for which technological
feasibility had not been established. The values of the purchased in-process
R&D were determined by estimating the stage of completion, including
consideration of the complexity of the work completed, the costs incurred and
the projected costs to complete, the contribution of any core technology and
other acquired assets, and the projected product introduction dates,
estimating the resulting net cash flows from the products developed, and
discounting the net cash flows back to their present value. For each
acquisition, the estimates were based on the following major assumptions:
InPart:
. Revenue was estimated to begin late in 1999 and to grow based on industry
growth rates and Inpart's specific product offerings.
. Cost of revenue for the purchased in-process technology, expressed as a
percentage of revenue, was estimated to decline from 22% to 11% based on
InPart's average historical cost of revenue and reflecting future economies
of scale.
. Selling, general, and administrative expense, as a percentage of revenue,
was estimated to be 99% in 1999, reflecting an initial investment in the
marketing of the in-process technology, and declining to 40% thereafter.
These amounts were based on industry average historical selling, general,
and administrative costs.
Division:
. Revenue was based on industry growth rates and Division's specific product
offerings.
. Cost of revenue for the purchased in-process technology, expressed as a
percentage of revenue, was estimated to be 15% based on Division's average
historical cost of revenue.
. Selling, general, and administrative expense, as a percentage of revenue,
was estimated to be 47% in 1999, reflecting an initial investment in the
marketing of the in-process technology, and declining to 41% thereafter.
These amounts were based on industry average historical selling, general,
and administrative costs.
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auxilium:
. Revenue was based on industry growth rates and auxilium's specific product
offerings.
. Cost of revenue for the purchased in-process technology, expressed as a
percentage of revenue, was estimated to be between 32% and 26% based on
auxilium's average historical cost of revenue.
. Selling, general, and administrative expense, as a percentage of revenue,
was estimated to be 53% in 1999, reflecting an initial investment in the
marketing of the in-process technology, and declining to 40% thereafter.
These amounts were based on industry average historical selling, general,
and administrative costs.
The net cash flows also considered net working capital requirements and
capital spending needs related to the purchased in-process technology. The
rates used to discount net cash flows for the purchased in-process technology
to its present value for the Inpart (28%), Division (25%), and auxilium (26%
to 30%) acquisitions were based on the weighted average cost of capital and
took into account the uncertainty surrounding the successful development of
the purchased in-process technology for each acquisition. If these projects
are not successfully developed, future revenue and profitability may be
adversely affected and the value of other intangible assets acquired may
become impaired.
Nonrecurring Charges:
Sales Force Reorganizations. During the first quarter of 1999, we reorganized
our sales force to provide a more focused approach to the unique product and
service requirements of our customers. In connection with this action, we
incurred a restructuring charge of $3.2 million for the severance and
termination benefits of approximately 170 people who had been terminated
during the first quarter of 1999 in accordance with management's plans. Of the
$3.2 million charge, $2.6 million was paid during the first quarter of 1999
and the remaining $645,000 was paid during the second quarter of 1999. During
the second quarter of 1999, we incurred a restructuring charge of $5.8 million
for the severance and termination benefits of approximately 150 people
primarily in connection with the integration of our sales and related support
groups. We expect to pay these amounts over the remaining two quarters of
1999.
Facility Consolidation and Asset Impairment. During the second quarter of
1999, we incurred a restructuring charge of $1.4 million for the consolidation
of certain excess leased facilities. Also, in the second quarter we recorded
an impairment loss of $4.7 million on certain intangible assets related to our
industrial design activities. Due to recent acquisitions and the development
of new technology, the carrying value of these assets was impaired.
OTHER INCOME (EXPENSE). Our other income (expense) includes interest income,
interest expense, costs of hedging contracts, the gain or loss from the
translation of results for subsidiaries for which the U.S. dollar is the
functional currency, and other charges incurred in connection with financing
customer contracts. For the second quarter of 1998, we reported other expense
of $371,000 compared to other income of $728,000 for the second quarter of
1999. For the first six months of 1998, we reported other expense of $6.2
million compared to other income of $2.7 million for the first six months of
1999. The changes are primarily due to the elimination of interest expense on
the Computervision debt that was paid in the second quarter of 1998.
INCOME TAXES. Our effective tax rate for the first six months of 1998 was 54%
compared with 42% for the corresponding period in 1999. The difference between
our effective tax rate and the statutory federal income tax rate of 35% was
due primarily to the charges for purchased in-process R&D in the first and
second quarters of 1999 and losses of Computervision in the first quarter of
1998, neither of which were deductible for tax purposes. Excluding the effects
of the charges for purchased in-process R&D, our effective tax rate for the
first six months of 1999 was 31%.
EXTRAORDINARY LOSS. In connection with the Computervision merger, we assumed a
revolving note payable and long-term debt obligations. During the second
quarter of 1998, we paid $275.7 million for settlement of the outstanding
note, debt obligations, accrued interest, and related fees, and we incurred an
extraordinary after-tax loss of $19.0 million related to the write-off of
deferred financing costs and other prepayment costs associated with this debt.
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EMPLOYEES. The number of worldwide employees was 4,547 at April 4, 1998
compared with 4,911 at September 30, 1998 and 5,051 at April 3, 1999. The
increase over the prior year was a result of growth in our services
organization and in the research and development group, primarily through
acquisitions.
Liquidity and Capital Resources
Our operating activities, the proceeds from our issuance of stock under stock
plans, and existing cash and investments provided sufficient resources to fund
fluctuations in our employee base, capital asset needs, stock repurchases,
acquisitions, and financing needs in the first half of 1998 and 1999.
As of April 3, 1999, cash and investments totaled $345.9 million, down from
$426.2 million at September 30, 1998. The primary reasons for the decrease in
cash and investments during the first six months of 1999 were the repurchase
of $65.0 million of common stock and the $70.3 million of payments for
acquisitions, partially offset by net cash provided by operating activities.
Cash generated from operating activities was $92.8 million in the first six
months of 1998, compared to $62.0 million for the first six months of 1999,
net of cash expenditures for nonrecurring charges of $6.3 million in the first
six months of 1999.
In the first six months of 1998 and 1999, we acquired $10.5 million and $15.2
million, respectively, of capital equipment consisting principally of computer
equipment, software, and office equipment.
We used net cash for financing activities during the first six months of 1998
to repay $275.7 million of Computervision debt and related interest and fees,
offset by $51.7 million from the issuance of common stock under our stock
plans. We used net cash for financing activities during the first six months
of 1999 to repurchase $65.0 million of common stock, offset by $14.9 million
of proceeds from the issuance of common stock under our stock plans. Through
April 3, 1999 we had repurchased 9.1 million of the 20.0 million shares
authorized by the Board of Directors to be repurchased.
We believe that existing cash and investments together with cash generated
from operations and the issuance of common stock under our stock plans will be
sufficient to meet our requirements for working capital, capital expenditures,
and financing through at least September 30, 1999.
New Accounting Pronouncements
In accordance with recently issued accounting pronouncements, we will be
required to comply with certain changes in accounting rules and regulations.
See Note 5 to the unaudited consolidated financial statements included in this
Quarterly Report on Form 10-Q.
Year 2000 Computer Systems Compliance
Concerns have been widely expressed regarding the inability of certain
computer programs to properly process certain date information, particularly
beyond the year 1999. These concerns focus on the impact of the Year 2000
problem on business operations and the potential costs associated with
identifying and addressing the problem.
State of Readiness. We have developed a Year 2000 readiness plan focusing on:
(i) assessing the readiness of our product offerings, internal business
systems, and major vendors and suppliers; (ii) addressing known risks; and
(iii) planning and budgeting for reasonably likely contingencies.
We have completed testing our current product offerings for Year 2000
compliance. Some limited testing of newly acquired products is ongoing. Based
on our review to date, we believe that our current product offerings are Year
2000 compliant. We have conducted only limited testing of products that are no
longer offered, and thus the Year 2000 compliance of such products is
generally not known. Many of these untested products are
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previous releases of current offerings. Our customers can upgrade many of
these products to achieve Year 2000 compliance.
We are also in the process of reviewing and upgrading our internal information
technology and business systems, both domestically and internationally, to
ensure Year 2000 readiness. This process is complete with respect to the
majority of our mission critical systems. We expect to continue testing our
internal systems and to undertake necessary corrective measures throughout
calendar 1999.
Finally, we have commenced a program to survey the Year 2000 readiness of our
major vendors and suppliers, with a particular focus on the Year 2000
readiness of our mission critical vendors and suppliers. This process is
complete with respect to the majority of our mission critical vendors and
suppliers. We expect to continue our survey program through out calendar 1999
and where we believe that a particular vendor or supplier poses unacceptable
Year 2000 risks, we will identify an alternative supply source.
Cost of Year 2000 Compliance. Costs incurred in our Year 2000 compliance
effort include the allocation of personnel to testing our products and systems
as well as to upgrading internal systems. During the second quarter of 1999,
we incurred costs of approximately $1.0 million and we estimate that another
$1.0-4.0 million may be spent on our compliance project. Costs will be
expensed as incurred. While our compliance evaluation and remediation project
is not yet complete, we do not at this time foresee a material impact on our
business or operating results from the Year 2000 problem. We cannot, of
course, predict the nature or materiality of the impact on our operations or
operating results of Year 2000 disruption by parties over whom we have no
control. Furthermore, the purchasing patterns of our customers or potential
customers may be affected by Year 2000 issues if they must expend significant
resources to correct their own systems. As a result they may have fewer funds
available to purchase our products and services.
Risk of Year 2000 Issues and Contingency Plans. Our worst case Year 2000
scenarios would include: (i) undetected errors or uncorrected defects in our
current product offerings; (ii) corruption of data contained in our internal
information systems; and (iii) the failure of infrastructure services provided
by third parties and government agencies (e.g., electricity, phone/fax
service, internet/email services, etc.). We are in the process of reviewing
our contingency planning in all of these areas and expect the plans to
include, among other things, the availability of support personnel to assist
with customer support issues, manual "work arounds" for internal software
failure, and substitution of systems, if needed.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
There have been no significant changes in our financial market risk exposure
as described in Management's Discussion and Analysis of Financial Condition
and Results of Operations included as part of Exhibit 13.1 to our 1998 Annual
Report on Form 10-K and incorporated herein by reference.
PART II--OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Certain class action lawsuits were filed in the fourth quarter of 1998 against
us and certain of our current and former officers and directors in the U.S.
District Court in Massachusetts claiming violations of the federal securities
laws based on alleged misrepresentations regarding our anticipated revenue and
earnings for the third quarter of 1998. The plaintiffs in these lawsuits
joined together to file a consolidated and amended complaint in the second
quarter of 1999. These actions seek unspecified damages. We believe the claims
made in the amended complaint are without merit, and we intend to defend them
vigorously. We cannot predict the ultimate resolution of these actions at this
time; however, there can be no assurance that the litigation will not have a
material adverse impact on our financial condition or results of operations.
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We are also subject to various legal proceedings and claims that arise in the
ordinary course of business. We currently believe that resolving these matters
will not have a material adverse impact on our financial condition or results
of operations.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
Beginning in March 1999, in connection with our acquisition of Division Group
plc, we issued 591,000 shares of our common stock to certain stockholders of
Division who elected to accept stock rather than cash in exchange for their
Division shares in accordance with our offer to acquire all of the outstanding
share capital of Division.
On March 8, 1999, in connection with our acquisition of auxilium inc., we
issued 2.6 million shares of our common stock to the stockholders of auxilium
in exchange for a portion of their outstanding common stock.
The offers and sales of our common stock in our acquisition of auxilium and
certain of the offers and sales of our common stock in our acquisition of
Division were exempt from registration requirements pursuant to Section 4(2)
of the Securities Act of 1933 because they did not involve a public offering.
The remainder of the offers and sales of our common stock relating to our
acquisition of Division were exempt from registration requirements pursuant to
Regulation S under the Securities Act of 1933 because they involved offshore
transactions. We used the services of Goldman Sachs International in
connection with our offer to acquire the stock of Division.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
At the Annual Meeting of Stockholders of the Company held on February 11,
1999, the stockholders of the Company elected C. Richard Harrison and Robert
N. Goldman as Class III directors of the Company to hold office until the 2002
Annual Meeting of Stockholders (subject to the election and qualification of
their successors and to their earlier death, resignation or removal). No other
nominations were made. Proxies for the meeting were solicited pursuant to
Regulation 14A under the Securities Exchange Act of 1934. There was no
solicitation in opposition to management's nominees as listed in the proxy
statement, and both nominees were elected with the following vote:
Election of Votes Withheld
Directors Votes For or Opposed
----------- ----------- --------------
C. Richard Harrison 240,513,683 3,318,023
Robert N. Goldman 241,010,384 2,821,322
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
2.1 Agreement and Plan of Reorganization dated as of March 8, 1999 by and
among Parametric Technology Corporation, Northstar Acquisition
Corporation, auxilium inc. and the stockholders of auxilium inc.
(Exhibit 2.1 to our Current Report on Form 8-K filed March 23, 1999).
10.1*# Amendment #4 to the Consulting Agreement, as amended, with Michael E.
Porter dated February 11, 1999.
27.1* Financial Data Schedule for the period ended April 3, 1999.
99.1* Important Risk Factors Affecting Results.
99.2 Annual Report to Stockholders for the fiscal year ended September 30,
1998 (which is not deemed to be "filed" except to the extent that
portions thereof are expressly incorporated in this Quarterly Report on
Form 10-Q) (Exhibit 13.1 to our 1998 Annual Report on Form 10-K).
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- --------
* Indicates document filed herewith.
# Identifies a management contract or compensatory plan or arrangement in
which an executive officer or director of the Company participates.
For our documents incorporated by reference, references are to File No. 0-
18059.
(b) Reports on Form 8-K
On March 23, 1999, we filed a Current Report on Form 8-K reporting our
acquisition of auxilium inc.
SIGNATURE
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 hereunto duly authorized.
PARAMETRIC TECHNOLOGY CORPORATION
/s/ Edwin J. Gillis
By: _________________________________
Edwin J. Gillis
Executive Vice President, Chief
Financial Officer and Treasurer
(Principal Financial Officer)
Date: May 17, 1999
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