SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 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 January 31, 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: 001-15010
CERTICOM CORP.
----------------------------------------------------
(Exact Name of Registrant as Specified in Its Charter)
Yukon Territory, Canada Not Applicable
- ----------------------- -------------------
(State or other (I.R.S. Employer
Jurisdiction of Identification No.)
Incorporation)
25801 Industrial Boulevard
Hayward, California 94545
- ---------------------------------------------------------------------------
(Address of Principal Executive Offices) (Zip Code)
(Registrant's telephone number, including area code): (510) 780-5400
--------------------------------------------------------------------
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No ___
As of March 12, 2001, there were 26,508,270 of registrant's common shares
outstanding.
TABLE OF CONTENTS
Page
Exchange Rate Information................................................................................ 1
Special Note Regarding Forward-Looking Statements........................................................ 1
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements............................................................................. 2
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations............ 10
Factors That May Affect Operating Results........................................................ 16
Item 3. Quantitative and Qualitative Disclosures About Market Risk....................................... 26
PART II. OTHER INFORMATION
Item 1. Legal Proceedings................................................................................ 26
Item 6. Exhibits and Reports on Form 8-K................................................................. 28
Signatures............................................................................................... 29
All share numbers in this Form 10-Q have been adjusted to reflect a
two-for-one split of our outstanding common shares, which was effective as of
July 12, 2000.
Certicom(R) and Security Builder(R) are our registered trademarks, and
certicom encryption(TM), SSL Plus(TM), SSL Plus for Embedded Systems(TM), WTLS
Plus(TM), Certilock(TM), MobileTrust(TM) and Trustpoint(TM) are our trademarks.
In this Form 10-Q, the terms "Certicom," "we," "us," and "our" refer
to Certicom Corp., a Yukon Territory corporation, and/or its subsidiaries.
EXCHANGE RATE INFORMATION
Unless otherwise indicated, all dollar amounts in this Form 10-Q are
expressed in United States dollars. References to "$" or "U.S.$" are to United
States dollars, and references to "Cdn.$" are to Canadian dollars. The following
table sets forth, for each period indicated, information concerning the exchange
rates between U.S. dollars and Canadian dollars based on the inverse of the noon
buying rate in the City of New York on the last business day of each month
during the period for cable transfers as certified for customs purposes by the
Federal Reserve Bank of New York (the "Noon Buying Rate"). The table illustrates
how many U.S. dollars it would take to buy one Canadian dollar. On January 31,
2001, the Noon Buying Rate was U.S. $0.6669 per Cdn.$1.00.
U.S.$ per Cdn.$ Noon Buying Rate
--------------------------------
Average(1) Low High Period End
---------- --- ---- ----------
Fiscal year ended
- -----------------
April 30, 2000 0.6804 0.6969 0.6607 0.6756
Nine months ended
- -----------------
January 31, 2000 0.6790 0.6969 0.6607 0.6888
January 31, 2001 0.6668 0.6889 0.6410 0.6669
Three months ended
- ------------------
January 31, 2000 0.6837 0.6969 0.6740 0.6888
January 31, 2001 0.6569 0.6692 0.6410 0.6669
_______
(1) The average of the daily Noon Buying Rates on the last business day of each
month during the period.
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
In addition to historical information, this Quarterly Report contains
forward-looking statements that reflect management's beliefs, objectives and
expectations as of the date hereof. These statements, which may be identified by
words such as "may", "would", "could", "will", "intend", "plan", "anticipate",
"believe", "estimate", "expect" and similar expressions, relate to, among other
things, our intent to market and sell the VPN software product directly to
enterprise customers (see Overview), the expectation that royalties and revenue
from sales of certificates and VPN client software will become a greater portion
of overall revenue in the future (see Sources of Revenue and Revenue Recognition
Policy), the expectation that revenues will continue to be generated mostly in
U.S. dollars and some expenses will continue to be denominated in Canadian
dollars (see Sources of Revenue and Revenue Recognition Policy), the expectation
that expenses will increase in the future (see Costs and Expenses; Results of
Operations - Selling and Marketing, - Research and Development, and - Consulting
and Systems Integration), the expectation that we will continue to incur
substantial losses in the next few years (see Net Losses and Results of
Operations), the expectations regarding the payment of income taxes in Canada
(see Net Losses) and the expectation that future capital requirements will be
substantial and that we can meet our short-term liquidity needs (see Financial
Condition, Liquidity and Capital Resources). Such statements reflect our current
views with respect to future events and are subject to certain risks,
uncertainties and assumptions. Many factors could cause our actual results,
performance or achievements to be materially different from any future results,
performance or achievements that may be expressed or implied by such forward-
looking statements, including, among others, those which are discussed in
"Factors That May Affect Operating Results", beginning on page 16 of this Form
10-Q, in our Annual Report on Form 10-K and in other documents that we file or
have filed with the Securities and Exchange Commission and Canadian securities
regulatory authorities. Should one or more of these risks or uncertainties
materialize, or should assumptions underlying the forward-looking statements
prove incorrect, actual results may vary materially from those described herein
as intended, planned, anticipated, believed, estimated or expected. We do not
intend, and do not assume any obligation, to update these forward-looking
statements.
1
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
CERTICOM CORP. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands of U.S. dollars, except number of shares)
April 30, January 31,
2000 2001
----------- ------------
(Unaudited)
ASSETS
Current assets:
Cash and cash equivalents $ 10,508 $ 1,944
Marketable securities, available for sale 2,550 36,322
Accounts receivable (net of allowance for doubtful
accounts of $161 and $411 (unaudited), respectively) 3,862 7,624
Unbilled receivables 2,115 1,773
Inventories 218 340
Prepaid expenses, deposits and other current assets 1,740 1,982
---------- -----------
Total current assets 20,993 49,985
Property and equipment, net 5,213 10,246
Patents 873 1,163
Acquired intangibles (net of accumulated
amortization of $10,586 and $17,491 (unaudited), respectively) 24,437 27,695
---------- -----------
Total assets $ 51,516 $ 89,089
========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 974 $ 6,107
Accrued liabilities 2,107 3,693
Income taxes payable 430 510
Deferred revenue 909 2,418
Note payable 10,000 -
---------- -----------
Total current liabilities 14,420 12,728
Lease inducements 1,105 981
---------- -----------
Total liabilities 15,525 13,709
Shareholders' equity:
Common shares, no par value; shares authorized: unlimited;
shares issued and outstanding: 23,087,866 and 26,496,814 respectively 80,859 143,453
Additional paid-in capital 11,922 22,520
Deferred compensation expense - (6,069)
Accumulated other comprehensive loss (2,497) (2,453)
Deficit (54,293) (82,071)
---------- -----------
Total shareholders' equity 35,991 75,380
---------- -----------
Total liabilities and shareholders' equity $ 51,516 $ 89,089
========== ===========
See accompanying notes to condensed consolidated financial statements.
2
CERTICOM CORP. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands of U.S. dollars, except number of shares and per share data)
(Unaudited)
Three months ended Nine months ended
January 31, January 31,
------------------------------ ---------------------------
2000 2001 2000 2001
-------------- -------------- ------------- -------------
Revenues $ 3,309 $ 7,627 $ 8,069 $ 18,981
-------------- -------------- ------------- -------------
Costs and expenses:
Cost of hardware sold 186 240 361 695
Consulting and systems integration (including deferred
compensation amortization of $0 in 2000, and $1,290 for
three months and $2,150 for nine months in 2001, respectively) 502 3,262 1,206 6,622
Selling and marketing 1,676 5,030 4,414 12,509
Research and development 1,034 3,558 2,616 9,006
Depreciation and amortization 1,854 3,146 5,364 8,881
General and administrative (including deferred compensation
amortization of $0 in 2000, and $(6) for three months
and $604 for nine months in 2001, respectively) 1,461 3,221 4,468 9,061
One time secondary offering costs - 1,693 - 1,693
Purchased in-process research and development 535 - 535 -
-------------- -------------- ------------- -------------
Total costs and expenses 7,248 20,150 18,964 48,467
Operating loss (3,939) (12,523) (10,895) (29,486)
Non-cash interest income (expense) - - - (423)
Interest income (expense), net 9 481 (12) 2,266
-------------- -------------- ------------- -------------
Loss before income taxes (3,930) (12,042) (10,907) (27,643)
Income taxes - - 134 135
-------------- ------------- ------------- -------------
Net loss $ (3,930) $ (12,042) $ (11,041) $ (27,778)
Other comprehensive income:
Unrealized gain (loss) on marketable securities, available
for sale - (74) - 44
-------------- ------------- ------------- -------------
Comprehensive loss $ (3,930) $ (12,116) $ (11,041) $ (27,734)
-------------- ------------- ------------ --------------
Basic and diluted net loss per share $ (0.18) $ (0.46) (0.50) $ (1.07)
============== ============= ============= =============
Shares used in computing basic and diluted net loss per share 22,348,000 26,239,038 22,028,000 25,926,432
============== ============= ============= =============
See accompanying notes to condensed consolidated financial statements.
3
CERTICOM CORP. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands of U.S. dollars)
(Unaudited)
Nine months Nine months
ended January 31, ended January 31,
2000 2001
-------------------- -------------------
Cash flows from operating activities:
Net loss $ (11,041) $ (27,778)
Adjustments to reconcile net loss to net cash used in
operating activities:
Depreciation and amortization 1,047 1,974
Amortization of acquired intangibles 4,317 6,905
Write-off of purchased in-process research and development 535 -
Deferred compensation - 2,754
Stock compensation 238 2
Non-cash interest expense - 423
Changes in non-cash working capital items
Accounts receivable (2,674) (3,420)
Inventories 96 (122)
Prepaid and other current assets (108) (396)
Accounts payable and accrued liabilities 128 6,719
Income taxes payable 135 80
Deferred revenue 376 1,509
-------------------- ---------------------
Net cash used in operating activities (6,951) (11,350)
-------------------- ---------------------
Cash flows from investing activities:
Business acquisitions (net of cash acquired) 182 -
Purchase of property and equipment (3,268) (6,960)
Purchase of patents (377) (337)
Purchase of marketable securities, available for sale (4,855) (38,566)
Sales and maturities of marketable securities, available for sale 11,458 4,892
-------------------- ---------------------
Net cash (used in) provided by investing activities 3,140 (40,971)
-------------------- ---------------------
Cash flows from financing activities:
Issuance of common shares 3,024 53,881
Leasehold inducements 838 (124)
Repayment of note payable - (10,000)
-------------------- ---------------------
Net cash provided by financing activities 3,862 43,757
-------------------- ---------------------
(Decrease) increase in cash and cash equivalents 51 (8,564)
Cash and cash equivalents, beginning of period 1,400 10,508
-------------------- ---------------------
Cash and cash equivalents, end of period $ 1,451 $ 1,944
==================== =====================
Supplemental disclosure of cash flow information:
Income taxes paid $ - $ 55
Interest paid $ - $ 37
Non-cash investing and financing activities:
Common shares and options issued for business acquisitions $ 10,386 $ 17,804
Warrant issued in connection with line of credit $ - $ 423
See accompanying notes to condensed consolidated financial statements.
4
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
Note 1. Basis of Presentation
The condensed consolidated financial statements included in this
document are unaudited and reflect all adjustments (consisting only of (i)
normal recurring adjustments and (ii) other adjustments as explained in Note 2-
Acquisition of DRG Resources Group, Inc.) which are, in the opinion of our
management, necessary for a fair presentation of the financial position, results
of operations and cash flows for the interim periods shown. These condensed
consolidated financial statements should be read in conjunction with our
consolidated financial statements and notes thereto and Management's Discussion
and Analysis of Financial Condition and Results of Operations contained in our
Annual Report on Form 10-K for the fiscal year ended April 30, 2000. The results
of operations for the interim periods ended January 31, 2001 are not necessarily
indicative of the results for the entire fiscal year ending April 30, 2001.
Revenue Recognition and Deferred Revenues
We recognize software licensing revenue in accordance with all
applicable accounting regulations including the American Institute of Certified
Public Accountants Statement of Position (SOP) 97-2, "Software Revenue
Recognition," as amended. Following the requirements of SOP 97-2, we recognize
license revenues when all the following conditions are met:
. we have signed a non-cancelable license agreement with the customer;
. we have delivered the software product to the customer;
. the amount of the fees to be paid by the customer are fixed or
determinable; and
. we believe that collection of the fees is probable.
Maintenance and support services revenue is recognized ratably over the
applicable period, usually one-year. Revenue derived from consulting and systems
integration is recognized upon performance of the related services.
Research and Product Development Cost
We expense all research and development costs as they are incurred.
Scientific research tax credits are recognized at the time the related costs are
incurred and recovery is reasonably assured. We have capitalized certain legal
costs associated with the filing of approximately fifty patent applications in
various jurisdictions. These patent filings relate to Elliptic Curve
Cryptography (ECC), various mathematical computational methodologies, security
protocols and other cryptographic inventions. Once granted, we amortize the
individual patent cost over three years.
Note 2. Acquisition of DRG Resources Group, Inc.
On September 12, 2000, we acquired all of the outstanding common shares
of DRG Resources Group, Inc., a corporation based in Redwood City, California.
DRG Resources Group is an e-commerce security consulting company. Prior to our
acquisition of DRG Resources Group, Digital Resources Group, LLC merged into DRG
Resources Group. At the time these two companies merged, Digital Resources Group
LLC transferred $100,000 in assets into DRG Resources Group. Prior to the merger
of Digital Resources Group, LLC and DRG Resources Group, all other assets and
liabilities of Digital Resource Group LLC were distributed to its members. In
connection with the acquisition, we also assumed stock options exercisable to
acquire a total of 103,100 of our common shares. Details of the consideration
and the fair values of the net assets acquired are as follows (in thousands of
U.S. dollars):
5
Net assets acquired
Current assets (net equity per agreement) $ 100
Other acquired intangibles 634
Goodwill 9,529
Deferred compensation expense 7,741
----------------
$ 18,004
================
Consideration
Common shares (397,595 shares issued) $ 15,482
Options to acquire 103,100 common shares 2,322
Acquisition costs 200
----------------
$ 18,004
================
The following summary presents the results of operations as if DRG
Resources Group had been acquired as of the beginning of the periods presented,
after including the impact of certain adjustments, primarily amortization of
goodwill, deferred compensation, and other intangible assets and excluding
intercompany revenues and expenses (in thousands of U.S. dollars, except per
share amounts):
Nine months ended
January 31,
----------------------
2000 2001
--------- ---------
Pro forma revenues $ 9,009 $ 20,060
Pro forma net loss $ (16,457) $ (30,095)
Pro forma basic and diluted net loss per share $ (0.74) $ (1.16)
Note 3. Net Loss per Common Share
Basic net loss per common share is computed using the weighted average
number of common shares outstanding during the period. Diluted net loss per
common share is computed using the weighted average number of common shares
outstanding during the period and, when dilutive, potential common shares from
options and warrants to purchase common shares and common shares subject to
repurchase, using the treasury stock method.
The following potential common shares have been excluded from the
calculation of diluted net loss per share for all periods presented because the
effect would have been anti-dilutive:
Nine months ended
January 31,
----------------------
2000 2001
--------- ---------
Shares issuable under stock options 3,955,828 5,385,250
Shares issuable pursuant to warrants 0 30,000
Shares of restricted stock subject to repurchase 0 198,797
The weighted average exercise price of stock options, calculated by using
the nine months average exchange rates, was $4.55 and $9.81 at January 31, 2000
and 2001, respectively. The weighted average exercise price of warrants,
calculated by using the nine months average exchange rate, was $25.43 at January
31, 2001. The weighted average purchase price of restricted stock was $38.94.
Note 4. Note Payable
On April 27, 2000, we entered into an agreement with Sand Hill Capital II,
LP for a line of credit of $15 million bearing interest at the prime rate of
interest plus 3%. As of the end of fiscal year 2000, we had borrowed $10 million
against this line. In connection with this financing, we issued a warrant which
6
entitles Sand Hill to purchase up to 30,000 of our common shares for Cdn. $38.13
per share ($25.43 based on the exchange rate on January 31, 2001) until April
27, 2005. The amount borrowed was repaid in May 2000, and the line of credit was
terminated. The warrant was valued at $423,000 at the time of issuance based on
the Black-Scholes option valuation model. The value of the warrant was charged
to interest expense in the first quarter of fiscal 2001 as the note payable was
paid off with proceeds from a public offering completed on May 3, 2000. See Note
6 - "Public Offering and Stock Split."
Note 5. Disclosure About Revenue Sources
We operate in one reportable segment. We are a developer, manufacturer and
vendor of digital information security products, technologies and consulting and
systems integration services within the industry segment of electronic commerce.
Information about our revenue types is as follows (in thousands of U.S.
dollars):
Three months ended Nine months ended
January 31, January 31,
------------------------ ------------------------
2000 2001 2000 2001
---------- ---------- ---------- ----------
Software licensing $ 2,465 $ 5,637 $ 6,070 $ 14,792
Consulting and systems integration 674 1,698 1,553 3,302
Hardware 170 292 446 887
---------- ---------- ---------- ----------
Total revenue $ 3,309 $ 7,627 $ 8,069 $ 18,981
========== ========== ========== ==========
Information about our geographic operations is given below (in thousands of
U.S. dollars):
Three months ended Nine months ended
January 31, January 31,
------------------------ ------------------------
2000 2001 2000 2001
---------- ---------- ---------- ----------
United States revenue $ 3,200 $ 6,010 $ 7,591 $ 14,716
Canada revenue 93 1,012 326 1,771
International (non-Canadian/US) revenue 16 605 152 2,494
---------- ---------- ---------- ----------
Total revenue $ 3,309 $ 7,627 $ 8,069 $ 18,981
========== ========== ========== ==========
Note 6. Public Offering and Stock Split
On May 3, 2000, we completed a public offering of 2,500,000 common
shares in the United States and Canada for net proceeds of approximately
$51,500,000. On July 12, 2000, we completed a two-for-one split of our
outstanding common shares.
On October 27, 2000, we filed a registration statement with the U.S.
Securities and Exchange Commission and a preliminary short form prospectus with
each of the provinces of Canada, other than Quebec and New Brunswick, pursuant
to the U.S./Canada Multi-Jurisdictional Disclosure System for a proposed public
offering. On December 1, 2000, we announced the withdrawal of this proposed
public offering due to the market conditions. On December 18, 2000, we formally
withdrew this proposed public offering due to then current market conditions.
Note 7. Recent Accounting Pronouncements
In June 1998, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards (SFAS) No. 133, "Accounting for
Derivative Instruments and Hedging Activities." SFAS No. 133 establishes new
accounting and reporting standards for derivative financial instruments and for
hedging activities. SFAS No. 133 requires us to measure all derivatives at fair
value and to recognize them on the balance sheet as an asset or liability,
depending on our rights or obligations under the applicable derivative contract.
In June 1999, the FASB issued SFAS No. 137, which deferred the effective date of
adoption of SFAS No. 133 for one year. We will adopt SFAS No. 133 no later than
the first quarter of fiscal year 2002.
7
In June 2000, the FASB issued SFAS No. 138, "Accounting for Certain
Derivative Instruments and Certain Hedging Activities," an amendment of FASB
Statement No. 133. SFAS No. 138 amends certain sections of SFAS No. 133. The
impact of this statement has not been determined.
In December 1999, the Securities and Exchange Commission (SEC) issued Staff
Accounting Bulletin No. 101 (SAB 101), "Revenue Recognition", which provides
guidance on the recognition, presentation and disclosure of revenue in financial
statements filed with the SEC. SAB 101 outlines the basic criteria that must be
met in order to recognize revenue and provides guidance for disclosures related
to revenue recognition policies. In June 2000, the SEC issued Staff Accounting
Bulletin No. 101B (SAB 101B), "Second Amendment: Revenue Recognition in
Financial Statements", which extends the effective date of SAB 101 to the fourth
fiscal quarter of fiscal years commencing after December 15, 1999. The impact of
SAB 101 has not been determined.
Note 8. Stock Option Repricing
In March 2000, the FASB issued Interpretation No. 44, "Accounting for
Certain Transactions involving Stock Compensation," an interpretation of APB
Opinion No. 25, "Accounting for Stock Issued to Employees," which, among other
things, requires variable-award accounting for repriced options from the date
the options are repriced until the date of exercise. This interpretation became
effective on July 1, 2000 to cover specific events that occur after December 15,
1998. On March 17, 1999, our Board of Directors approved the exchange of options
to acquire an aggregate of 1,106,240 of our common shares for options having a
right to acquire 382,914 common shares. Because these options were repriced
after December 15, 1998, they are covered by the interpretation. Accordingly,
these options will be accounted for as variable until the date they are
exercised, forfeited or expire unexercised. The portion of the options'
intrinsic value at July 1, 2000 that is unvested will be recognized over the
remaining vesting period. However, if the price of our common shares
subsequently declines below the share price at July 1, 2000, compensation cost
would be reduced proportionately. Additional compensation cost would be measured
for the full amount of any increases in share price after the effective date and
will be recognized over the remaining vesting period. Any adjustment to the
compensation cost for further changes in share price after the options vest will
be recognized immediately. The average exercise price of the newly issued
options was $5.44 per common share, the quoted market price of the shares,
compared to an average exercise price of $10.19 for the original options.
Deferred compensation amortization credit of $6,143 and deferred compensation
amortization expense of $604,432 were recorded for the three months and nine
months ended January 31, 2001, respectively.
Note 9. Subsequent Events
On October 19, 2000, our shareholders approved the subdivision of our
common shares on a two-for-one or three-for-two basis, at the discretion of our
Board of Directors, on up to two occasions at any time prior to October 19,
2001.
Since January 1, 2001, Philip C. Deck resigned as Chairman and a member of
our board of directors in order to devote his full attention to his new position
as Chief Executive Officer of Mortice Kern Systems Inc., a publicly held
software company in Canada, and Erling Rasmussen resigned as a director of our
company. Robert P. Wierderhold, President and Chief Executive Officer and a
director of Tality Corporation, a provider of product development outsourcing,
has been appointed to the Board of Directors.
In January 2001, we entered into a non-binding term sheet with respect to
the possible acquisition by us of all of the outstanding shares of a European-
based company engaged in the provision of information security software and
services. Completion of this transaction is conditional upon, among other
things, satisfactory completion of due diligence investigations and the parties
entering into mutually acceptable definitive documentation. We currently
anticipate we would satisfy the purchase price for this acquisition through the
issuance of our common shares. We cannot assure you that this acquisition will
be completed, or if acquired that this company will be successfully integrated
into our operations.
8
On March 9, 2001, we entered into an underwriting agreement with a
syndicate of underwriters to issue and sell up to 3,500,000 of our common shares
at a price of Cdn.$12.50 (approximately U.S.$8.07) per share. In addition, we
have granted to the underwriters an option to purchase up to an additional
500,000 common shares at a price of Cdn.$12.50 (approximately U.S.$8.07) per
share for a period of 30 days for the purpose of covering over-allotments and
for market stabilization purposes. The gross proceeds of this offering will be
Cdn.$43.75 million (approximately U.S.$28.245 million) and Cdn.$50 million
(approximately U.S.$32.28 million) before and after giving effect to the
exercise of the underwriters' option, respectively. The offering is expected to
close on or about March 26, 2001. The obligations of the underwriters under the
underwriting agreement are several and may be terminated at their discretion
upon the occurrence of certain events. These securities will not be registered
under the Securities Act of 1933, as amended, and may not be offered or sold in
the United States absent registration or an applicable exemption from
registration requirements.
9
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Overview
We are a leading provider of information security software and services,
specializing in solutions for mobile e-business. Our products and services are
specifically designed to address the challenges imposed by a wireless data
environment. We offer solutions that incorporate our proprietary encryption
technology and are based on industry standards for information security that
utilize public key cryptography. We believe that the addition of our products to
wireless infrastructures will help to build the trust and confidence necessary
for the success of mobile e-business.
Historically, we have focused on the development and marketing of
cryptographic and information security protocol toolkits. We have also launched
a line of authentication solutions including public key infrastructure (PKI)
software, certificate authority (CA) services and virtual private network (VPN)
client software for handheld devices. In addition, we provide consulting and
systems integration services to assist our customers in designing and
implementing efficient security solutions. Our OEM customers integrate our
technologies into their hardware and software products, then sell the finished
products to consumers or enterprise customers. We also market and sell our VPN
software product directly to enterprise customers. Our products are currently
licensed by more than 150 customers including 724 Solutions, Inc., Aether
Systems, Inc., ePocrates, Inc., Motorola, Inc., Palm, Inc., QUALCOMM, Inc.,
Research In Motion Ltd., Sony International (Europe) GmbH, and Sybase, Inc..
We were founded in 1985 and are governed by the laws of the Yukon
Territory, Canada. We determined that commencing May 1, 1999 our functional
currency was the U.S. dollar and, accordingly, we began measuring and reporting
our results of operations in U.S. dollars from that date. We changed our
functional currency as we derive a majority of our revenues and incur a
significant portion of our expenses in U.S. dollars.
Our consolidated financial statements contained in this Form 10-Q are
reported in U.S. dollars and are presented in accordance with U.S. generally
accepted accounting principles, or U.S. GAAP. The following discussion and
analysis relates to our financial statements that have been prepared in
accordance with U.S. GAAP.
Sources of Revenue and Revenue Recognition Policy
We operate in one reportable segment. We derive our revenues from a variety
of sources that we generally classify as software licensing, consulting and
systems integration, and hardware. We earn software licensing revenues from one-
time base license fees or technology access fees, royalties, and annual
maintenance and support fees. Royalties, which are based upon per unit or per
usage charges or a percentage of the revenue from licensees' products containing
our technology, historically have not represented a significant portion of our
software license revenues. However, we expect that royalties, along with the
revenue that we anticipate will be derived from sales of certificates and VPN
client software, will become a greater portion of our revenue over time. Some of
our license agreements permit the licensee to sublicense without us receiving
any revenue from the sub-licensees. Consulting and systems integration revenue
is derived from the performance of contracted services for customers and is
accounted for based upon a time-and-materials basis, a percentage completion
basis or a fixed contract for a complete solution. Hardware revenues comprise
sales of products manufactured by third parties to our specifications and
components procured from third parties and resold by us.
We negotiate most of our customer contracts on a case-by-case basis.
However, most of our contracts (other than our contracts for consulting and
systems integration or hardware sales) include provisions for us to receive an
up-front license fee or royalties. Our royalties for software licenses for
mobile and wireless devices vary based on a number of factors, including the
size of the contract and the nature of the contract and of the customer.
The following table sets forth our revenues by category and by geography
for the periods indicated:
10
Three months ended Nine months ended
January 31, January 31,
-------------------------------- ---------------------------------
2000 2001 2000 2001
------------ ------------ ------------ ------------
Software licensing 74.5% 73.9% 75.2% 77.9%
Consulting and systems integration 20.4 22.3 19.3 17.4
Hardware 5.1 3.8 5.5 4.7
------------ ------------ ------------ ------------
Total revenue 100% 100% 100% 100%
============= ============ ============ ============
U.S. revenue 96.7% 78.8% 94.1% 77.5%
Canadian revenue 2.8 13.3 4.0 9.4
International (non-Canadian/US) revenue 0.5 7.9 1.9 13.1
------------ ------------ ------------ ------------
Total revenue 100% 100% 100% 100%
============ ============ ============ ============
We recognize software licensing revenue in accordance with all applicable
accounting regulations including the American Institute of Certified Public
Accountants Statement of Position 97-2 (SOP 97-2), "Software Revenue
Recognition," as amended. Following the requirements of SOP 97-2, we recognize
license revenues when all the following conditions are met:
. we have signed a non-cancelable license agreement with the customer;
. we have delivered the software product to the customer;
. the amount of the fees to be paid by the customer are fixed or
determinable; and
. we believe that collection of these fees is probable.
Maintenance and support services revenue is recognized ratably over the
applicable period, usually one year. Revenue derived from consulting and systems
integration is recognized upon performance of the related services.
For the three months ended January 31, 2001, approximately 98.2% of our
revenue was generated in U.S. dollars. In the same period, approximately 29.0%
of our expenses were incurred in Canadian dollars, and the balance was incurred
primarily in U.S. dollars. For the nine months ended January 31, 2001,
approximately 98.8% of our revenue was generated in U.S. dollars. In the same
period, approximately 28.7% of our expenses were incurred in Canadian dollars,
and the balance was incurred primarily in U.S. dollars.
We expect that a substantial majority of our revenue will continue to be
generated in U.S. dollars for the foreseeable future and that a portion of our
expenses, including labor costs as well as capital and operating expenditures,
will continue to be denominated in Canadian dollars. If the Canadian dollar
appreciates against the U.S. dollar, our results of operations could be
materially adversely affected.
Costs and Expenses
Our costs and expenses consist of selling and marketing, research and
development, depreciation and amortization, general and administrative expenses,
consulting and systems integration, and cost of hardware sold. Our selling and
marketing expenses consist primarily of employee salaries and commissions,
related travel, public relations and corporate communications costs and trade
shows, marketing programs and market research. Research and development expenses
consist primarily of employee salaries, sponsorship of cryptographic research
activities at various universities, participation in various cryptographic,
wireless and e-business standards associations and related travel and other
costs. Depreciation and amortization represent the allocation to income of the
cost of fixed assets and intangibles over their estimated useful lives. General
and administrative expenses consist primarily of salaries and other personnel-
related expenses for executive, financial, legal, information services and
administrative
11
functions and amortization of deferred compensation expense which represents the
repricing of stock options (See Note 8- "Stock Option Repricing" in item 1
above). Consulting and systems integration expenses consist primarily of
salaries and travel, and amortization of deferred compensation expense recorded
in connection with the acquisition of DRG Resources Group. Our cost of hardware
sold consists primarily of the component cost of our hardware products
manufactured by third parties to our specifications as well as the procured
costs of third-party hardware technology.
We have recognized certain non-recurring costs in connection with
special events. In the third quarter of fiscal 2001, we recognized one-time
costs in connection with our efforts toward a secondary offering (see Note 6 -
"Public Offering and Stock Split" in item 1 above). In the third quarter of
fiscal 2000, purchased in-process research and development costs were booked in
connection with the acquisition of Trustpoint.
We have capitalized certain legal costs associated with the filing of
patent applications in various jurisdictions. These patent filings are in the
areas of ECC technology, various mathematical computational methodologies,
security protocols and other cryptographic inventions. Once granted, we amortize
the individual patent cost over three years.
In anticipation of business growth, we expect to incur significantly
higher selling and marketing, research and development, and general and
administrative expenses and capital expenditures in subsequent periods,
including expenses related to the construction of new facilities. In addition,
to the extent that we complete additional acquisitions, we anticipate that
depreciation, amortization and deferred compensation expenses will increase.
Net Losses
We have incurred significant annual and quarterly net losses and losses
from our operations since our inception. We expect to incur significant net
losses and operating losses on both an annual and quarterly basis for the next
few years as we grow our business by hiring additional personnel, increasing
marketing and capital expenditures, and enhancing our product and service
offerings. In the first quarter of fiscal 2001, we devoted a substantial portion
of our consulting and system integration personnel resources to internal non-
revenue producing projects. From time to time, we may choose to utilize our
personnel in the same manner. Furthermore, given the rapidly evolving nature of
our business and fluctuations in the timing of our sales, our operating results
are difficult to forecast and, accordingly, our historical financial results may
not be meaningful assessments of our future business operations or prospects.
We pay taxes in accordance with U.S. federal, state and local tax laws
and Canadian federal, provincial and municipal tax laws. We do not expect to pay
any significant corporate income taxes in Canada in the foreseeable future
because we have significant Canadian tax credits and loss carry-forwards.
Acquisitions
On September 12, 2000, we acquired all of the outstanding common stock
of DRG Resources Group, Inc. of Redwood City, California, an e-commerce security
consulting company. The acquisition was completed with the issuance of 397,595
of our common shares. We also assumed stock options exercisable to acquire a
total of 103,100 of our common shares. The total consideration for the
acquisition was approximately $18 million in common stock including $7.7 million
for future services, which will be amortized in consulting and systems
integration expense.
The acquisition of DRG Resources Group was accounted for by the
purchase method, and the results of operations are included in our consolidated
statements of operations from the date of acquisition.
Results of Operations
Although we have experienced substantial growth in revenues in recent
periods, we have incurred substantial operating losses since our inception. As
of January 31, 2001, we had an accumulated deficit of
12
approximately $82.1 million. We intend to invest heavily in sales and marketing
and the development and enhancement of our product and service offerings. We
expect to incur additional losses for the next few years, and we may never
achieve profitability.
The following table sets out, for the periods indicated, selected
financial information from our consolidated financial statements as a percentage
of revenue.
Three months Nine months
ended January 31, ended January 31,
---------------- ----------------
2000 2001 2000 2001
---- ---- ---- ----
Consolidated Statement of Operations Data:
Revenues 100% 100% 100% 100%
Costs and expenses:
Cost of hardware sold 6 3 4 4
Consulting and systems integration 15 43* 15 35*
Selling and marketing 51 66 55 66
Research and development 31 47 32 47
Depreciation and amortization 56 41 67 46
General and administrative 44 42** 55 48**
One time secondary offering costs - 22 - 9
Purchased in-process research and development 16 - 7 -
Interest income (expense), net 0 6 0 12
Non-cash interest income (expense) 0 0 0 (2)
Loss before income taxes (119) (158) (135) (145)
Income taxes 0 0 (2) (1)
------------------------ ------------------
Net loss (119)% (158)% (137)% (146)%
======================== ==================
* Including the amortization of deferred compensation expense in connection with
the acquisition of DRG Resources Group.
** Including the percentage of non-cash expense related to the repricing of
stock options under FASB Interpretation No. 44.
Three and nine months ended January 31, 2001 and 2000
Revenue. Revenue for the quarter ended January 31, 2001 was $7.6
million, a 130% increase from $3.3 million in the same quarter of fiscal 2000.
Revenue for the nine months ended January 31, 2001 was $19.0 million, a 135%
increase from $8.1 million in the same period of fiscal 2000. The increases were
primarily attributable to increased software licensing, which grew to
approximately $5.6 million for the three months ended January 31, 2001, a 129%
increase over $2.5 million for the three months ended January 31, 2000, and grew
to approximately $14.8 million for the nine months ended January 31, 2001, a
144% increase over $6.1 million for the nine months ended January 31, 2000. The
increase in software licensing revenue was primarily a result of growing market
awareness of our products and, to a lesser extent, an expanded sales force. In
addition, consulting and systems integration revenue was approximately $1.7
million for the three months ended January 31, 2001, a 152% increase over $0.7
million for three months ended January 31, 2000, and approximately $3.3 million
for the nine months ended January 31, 2001, a 113% increase over $1.6 million
for nine months ended January 31, 2000. We added resources in this area during
the first nine months of fiscal 2001 both from external hiring as well as from
the acquisition of DRG Resources Group, an eleven person professional consulting
organization specializing in security for the Internet and specifically
public-key infrastructure, in the second quarter of fiscal 2001. Hardware sales
for the three months ended January 31, 2001 grew 72% to $0.3 million compared to
$0.2 million for the three months ended January 31, 2000. Hardware sales for the
nine months ended January 31, 2001 grew 99% to $0.8 million compared to $0.4
million for the nine months ended January 31, 2000.
Cost of Hardware Sold. Cost of hardware sold increased 29% in the third
quarter of fiscal 2001 to approximately $0.24 million from $0.19 million in the
third quarter of fiscal 2000. Cost of hardware sold
13
increased 93% for the nine months ended January 31, 2001 to approximately $0.70
million from $0.36 million for the nine months ended January 31, 2000. This
increase was primarily due to higher hardware sales, but is also attributable to
a shift in product mix with a greater proportion of hardware sales being
generated by sales of higher cost third-party procured hardware.
Consulting and Systems Integration. Consulting and systems integration
expenses were $3.3 million for the third quarter of fiscal 2001, a 550% increase
over $0.5 million for the third quarter of fiscal 2000. Consulting and systems
integration expenses were $6.6 million for the nine months ended January 31,
2001, a 449% increase over $1.2 million for the nine months ended January 31,
2000. This increase was primarily a result of increasing the number of engineers
in this group in order to keep up with growing customer and internal demands and
the deferred compensation expense and other costs recorded in connection with
the acquisition of DRG Resources Group. We expect that this trend will continue
as we amortize the existing deferred compensation expense and potentially add
resources through both hiring of personnel and acquisitions of other entities,
if any.
Selling and Marketing. Selling and marketing expenses were $5.0 million
for the three months ended January 31, 2001 compared to $1.7 million for the
three months ended January 31, 2000, an increase of 200%. Selling and marketing
expenses were $12.5 million for the nine months ended January 31, 2001 compared
to $4.4 million for the nine months ended January 31, 2000, an increase of 183%.
These increased expenses were primarily due to an increase in personnel costs,
branding (such as PKS), MobileTrust launch costs and VPN beta testing and launch
costs. We are in the process of adding marketing personnel and expanding our
marketing operations into Europe, South America and the Asia Pacific region and
anticipate that expenses in this area will continue to increase.
Research and Development. Our research and development expenses were
$3.6 million for the three months ended January 31, 2001 versus $1.0 million for
the three months ended January 31, 2000, an increase of 244%. Research and
development expenses were $9.0 million for the nine months ended January 31,
2001 versus $2.6 million for the nine months ended January 31, 2000, an increase
of 244%. These increases are the result of the addition of personnel necessary
to support new product development in the PKI and VPN areas. We expect that
these expenses will continue to increase as we add additional engineering
resources and continue to grow our technical capabilities to support the growth
of our business.
Depreciation and Amortization. Depreciation and amortization increased
70% to $3.1 million in the third quarter of fiscal 2001 compared to $1.8 million
in the third quarter of fiscal 2000. Depreciation and amortization increased 66%
to $8.9 million for the nine months ended January 31, 2001 compared to $5.4
million for the nine months ended January 31, 2000. The primary reason for the
increase was that our results for the three months and nine months ended January
31, 2001 included amortization expenses relating to our acquisition of
Trustpoint, which occurred at the end of the third quarter of fiscal 2000, and
our acquisition of DRG Resources Group, which occurred during the second quarter
of fiscal 2001.
General and Administrative. General and administrative expenses
increased 120% in the third quarter of fiscal 2001 to $3.2 million from $1.5
million for the third quarter of fiscal 2000. General and administrative
expenses increased 103% for the nine months ended January 31, 2001 to $9.1
million from $4.5 million for the nine months ended January 31, 2000. This
increase resulted from growth in personnel and office space in California,
Nasdaq reporting requirements, the expense portion of system enhancements, and
amortization related to the repricing of stock options.
One Time Secondary Offering Costs. In the third quarter of fiscal 2001,
we incurred $1.7 million in one-time costs in connection with our efforts toward
a secondary public offering. See Note 6 -"Public Offering and Stock Split" in
item 1 above.
Purchased In-process Research and Development. $0.5 million of
purchased in-process research and development was charged for the three months
ended January 31, 2000 in connection with the acquisition of Trustpoint. On
January 26, 2000, we acquired all of the outstanding common shares of
Trustpoint, a corporation based in Mountain View, California. Trustpoint is a
provider of comprehensive, flexible, cross-platform PKI products that allow OEMs
to develop applications with built-in
14
digital certificates services. Management estimated that the purchased in-
process technology that represents $0.5 million of purchase consideration had
not yet reached technological feasibility and had no future alternative use.
Accordingly, $0.5 million was immediately expensed upon consummation of the
acquisition.
Interest and Other Income (Expense). In the third quarter of fiscal
2001, interest income increased 4,700% to $0.48 million from $0.01 million in
the third quarter of fiscal 2000. For the nine months ended January 31, 2001,
interest income was $1.8 million, a 17,900% increase compared to an interest
expense of $0.01 million for the nine months ended January 31, 2000. This
increase consists of an increase in the amount of cash and marketable securities
invested during the three months and nine months ended January 31, 2001, as well
as currency adjustments, primarily Canadian dollars to U.S. dollars. This
increase is net of the one-time, non-cash interest expense of $0.4 million from
the warrants issued to Sand Hill Capital II, LP, which is included in our
results for the nine months ended January 31, 2001.
Income Taxes. No income tax expense was recorded for the third quarter
of both fiscal 2001 and fiscal 2000. Income tax expense was $0.14 million and
$0.13 million for the nine months ended January 31, 2001 and 2000, respectively.
The income tax expenses for the three months and nine months ended January 31,
2001 were estimated based on the projected effective tax rate for fiscal 2001.
Net Loss. Our net loss increased 170% in the third quarter of fiscal
2001 to $12.0 million ($0.46 per share basic and diluted) compared to $3.9
million ($0.18 per share basic and diluted) for the same period of the previous
fiscal year. Our net loss increased 152% in the nine months ended January 31,
2001 to $27.8 million ($1.07 per share basic and diluted) compared to $11.0
million ($0.50 per share basic and diluted) for the nine months ended January
31, 2000. This increase was predominately attributable to the amortization of
acquisition-related intangibles and deferred compensation expense, the increased
expense for personnel and office space in California, Nasdaq reporting
requirements, costs associated with secondary public offering efforts, as well
as the expense portion of system enhancements.
Financial Condition, Liquidity and Capital Resources
In May 2000, we completed a public offering of 2,500,000 common shares
in the United States and Canada. Our net proceeds from the offering were
approximately $51.5 million. On April 27, 2000, we borrowed $10 million from
Sand Hill Capital II, LP, or Sand Hill, at the prime rate of interest plus 3%.
As partial consideration for making advances to us under this credit facility,
we granted Sand Hill a warrant to purchase up to 30,000 of our common shares at
an exercise price of Cdn. $38.13 per share (U.S. $25.43 based on the exchange
rate on January 31, 2001) until April 27, 2005. We repaid the loan and interest
on May 5, 2000, using a portion of the proceeds received from our public
offering, and terminated this facility. Total cash and available-for-sale
marketable securities decreased $9.0 million during the third quarter of fiscal
2001 and increased $25.2 million during the nine months ended January 31, 2001.
Our cash and cash equivalents and marketable securities at January 31, 2001 were
$38.3 million.
We lease premises totaling approximately 111,000 square feet in
Hayward, California. This lease expires on July 31, 2007. We also have a lease
for approximately 30,300 square feet of office space in Mississauga, Ontario,
which expires on December 25, 2009. Currently, our Canadian offices occupy this
space. We recently signed a ten-year lease for approximately seven acres in
Mississauga, Ontario upon which a facility of approximately 130,000 square feet
is being constructed by the landlord at our expense. If the landlord intends to
sell the leased premises, we have a right of first refusal for this property on
terms to be negotiated and an option to purchase adjoining property of
approximately 6 acres. We anticipate subleasing our current Canadian office
space and relocating our Canadian operations to the new site in the fall of
2001. The annual rental fee for the new site varies between approximately
Cdn.$10.88 to Cdn.$13.08 per square foot (U.S.$7.26 to U.S.$8.72 per square foot
based on the exchange rate on January 31, 2001) over the life of the lease, with
rental payments commencing in May 2001. In addition, we currently anticipate
making facility leasehold improvements of approximately $10 million. We also
have a lease for approximately 6,000 square feet in Herndon, Virginia that
expires on October 31, 2007, and we occasionally execute month-to-month leases
for short-term office space. The total annual base rent for all facilities
(other than the newly-leased property in Mississauga) is $2.0 million.
15
Our future capital requirements will be substantial and will depend
on, and could increase as a result of, many factors, including: costs associated
with facility expansion and construction; new products, such as our
MobileTrust(TM) Certificate Authority service and our VPN client software
business; our research and development programs; acquisitions of companies;
purchases of technology from third parties; the time and costs involved in
obtaining regulatory approvals; costs involved in filing, prosecuting and
enforcing patent claims; competing technological and market developments; our
success in entering into collaborative relationships; and administrative and
legal expenses.
We believe our current cash and cash equivalents, marketable
securities position and the net proceeds from our recently announced common
share offering will be sufficient to meet our liquidity needs for the near term.
In the future, we may need to augment our cash in order to fund our activities.
Such capital may be raised through additional public or private financing, as
well as collaborative relationships, borrowings and other available sources.
There can be no assurance that additional or sufficient financing will be
available, or, if available, that it will be available on acceptable terms. If
we raise funds by issuing additional securities, dilution to existing
shareholders may result. If adequate funds are not available, we may be required
to significantly curtail one or more of our research and development programs or
commercialization efforts or to obtain funds through arrangements with
collaborative partners or others on less favorable terms.
Factors That May Affect Operating Results
We operate in a dynamic and rapidly changing environment that involves
risks and uncertainties. You should carefully consider the risks described below
and the other information in this Form 10-Q. These risks and uncertainties are
not the only ones facing us. 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 harmed. This
section should be read in conjunction with our annual report on Form 10-K for
the fiscal year ended April 30, 2000.
Risks Related to Our Company
We have a limited operating history and have incurred losses since inception and
anticipate incurring losses for the foreseeable future
Although we have been engaged in the cryptographic security industry
since 1985, we did not ship our first commercial toolkit or enter the U.S.
market until 1997. Accordingly, our business operations are subject to all of
the risks inherent in a new business enterprise, such as competition and viable
operations management.
Since our inception, we have incurred substantial net losses. As of
January 31, 2001, we had an accumulated deficit of approximately $82.1 million
and, in addition, an accumulated other comprehensive loss of $2.5 million. We
expect to incur additional losses for the next few years, and we may never
achieve profitability. If we do achieve profitability, we may not be able to
sustain it. Because we may be unable to sustain our revenue growth, you should
not consider our historical growth indicative of our future revenue levels or
operating results. Our success will depend in large part upon our ability to
generate sufficient revenue to achieve profitability and to maintain existing
customer relationships and to develop new customer relationships.
Because our quarterly operating results are subject to fluctuations, period-to-
period comparisons of our operating results are not necessarily meaningful and
you should not rely on them as an indication of future performance
Our quarterly operating results have historically fluctuated and may
fluctuate significantly in the future. Accordingly, our operating results in a
particular period are difficult to predict and may not meet the expectations of
securities analysts or investors. If this were to occur, our share price would
likely decline significantly. Factors that may cause our operating results to
fluctuate include:
16
. the level of demand for our products and services as well as the timing
of new releases of our products;
. our dependence in any quarter on the timing of a few large sales;
. our ability to maintain and grow a significant customer base;
. the fixed nature of a significant portion of our operating expenses,
particularly personnel, research and development, and leases;
. costs related to the opening or expansion of our facilities;
. unanticipated product discontinuation or deferrals by our OEM
customers;
. changes in our pricing policies or those of our competitors;
. currency exchange rate fluctuations; and
. timing of acquisitions, our effectiveness at integrating acquisitions
with existing operations and related costs.
Accordingly, we believe that quarter-to-quarter comparisons of our results
of operations are not necessarily meaningful. You should not rely on the results
of one quarter as an indication of our future performance.
In addition, we expect to increase our operating expenses significantly as
we:
. expand our sales and marketing operations and develop new distribution
channels;
. improve existing or build additional software development centers;
. improve our operational and financial systems;
. pursue our acquisition strategy;
. broaden our customer support capabilities; and
. fund greater levels of research and development.
If we do not significantly increase our revenue to meet these increased
operating expenses, our business, financial condition and operating results
could be materially adversely affected.
Our revenues are difficult to predict
We derive our revenue primarily from sales of our products and services to
our OEM customers. Our sales vary in frequency, and OEM customers may or may not
purchase our products and services in the future. The sale to, and
implementation by, OEMs of our products and services typically involves a
lengthy education process, significant technical evaluation and commitment of
capital and other resources by them. This process is also subject to the risk of
delays associated with their internal budgeting and other procedures for
approving capital expenditures, deploying new technologies and testing and
accepting new technologies that affect key operations. As a result, the sales
and implementation cycles associated with many of our products and services are
generally lengthy, and we may not succeed in closing transactions on a timely
basis, if at all. If orders expected from a specific customer for a particular
period are not realized, our revenues could fail to materialize.
17
In addition, our customers may defer the purchase of, or stop using,
our products and services at any time, and certain license agreements may be
terminated by the customer at any time. We negotiate most of our customer
contracts on a case-by-case basis, which makes our revenues difficult to
predict. Our customer contracts typically provide for base license fees,
technology access fees and/or royalties based on a per unit or per usage charge
or a percentage of revenue from licensees' products containing our technology.
Additionally, a number of our large contracts provide that we will not earn
additional royalty revenues from those contracts until these customers'
shipments exceed certain thresholds. As a result, our revenues are not recurring
from period to period, which makes them more difficult to predict. In addition,
estimating future revenue is difficult because we generally ship our products
soon after an order is received and, as such, we do not have a significant
backlog. Our expense levels are based, in part, on our expectations of future
revenues and are largely fixed in the short term. We may not be able to adjust
spending in a timely manner to compensate for any unexpected shortfall in
revenues.
Some of our products are new, unproven and currently generate little or no
revenue
In late 2000 and early 2001 we launched our PKI products, CA service
and VPN client software product. We cannot predict the future level of
acceptance, if any, of these new products, and we may be unable to generate
significant revenue from these products.
Our business depends on continued development of the Internet and the continued
growth of mobile e-business
Our future success is substantially dependent upon continued growth in
the use of the Internet and the acceptance of mobile and wireless devices and
their use for mobile e-business. The adoption of the Internet for commerce and
communications, particularly by individuals and companies that have historically
relied upon alternative means of commerce and communication, generally requires
the understanding and acceptance of a new way of conducting business and
exchanging information. In particular, companies that have already invested
substantial resources in other means of conducting commerce and exchanging
information may be particularly reluctant or slow to adopt a new, Internet-based
strategy that may make their existing infrastructure obsolete. To the extent
that individuals and businesses do not consider the Internet to be a viable
commercial and communications medium, our business may not grow.
In addition, our business may be harmed if the number of users of mobile
and wireless devices does not increase, or if e-business and mobile e-business
do not become more accepted and widespread. The use and acceptance of the
Internet and of mobile and wireless devices may not increase for any number of
reasons, including:
. actual or perceived lack of security for sensitive information,
such as credit card numbers;
. traffic or other usage delays on the Internet;
. competing technologies;
. governmental regulation; and
. uncertainty regarding intellectual property ownership.
Capacity constraints caused by growth in the use of the Internet may
impede further development of the Internet to the extent that users experience
delays, transmission errors and other difficulties. If the necessary
infrastructure, products, services or facilities are not developed, if the
Internet does not become a viable and widespread commercial and communications
medium or if individuals and businesses do not increase their use of mobile and
wireless devices for mobile e-business, our business, financial condition and
operating results could be materially adversely affected.
18
Our success depends on an increase in the demand for digital signatures in
mobile e-business transactions and ECC technology becoming accepted as an
industry standard
For handheld devices, many of the advantages our ECC-based technology
has over conventional security technology are not applicable to a transaction
that does not involve the creation of a digital signature on a handheld device.
The vast majority of e-business and mobile e-business transactions currently do
not involve such digital signatures. Participants in mobile e-business have only
recently begun to require client digital signatures in some applications, such
as enterprise data access and certain high-value transactions. Unless the number
of mobile e-business transactions involving client digital signatures increases,
the demand for our products and services, and consequently, our business,
financial condition and operating results could be materially adversely
affected.
To date, ECC technology has not been broadly accepted. In order for
our business to be successful, ECC technology must become accepted as an
industry standard, which may never happen. The technology of our principal
competitor, RSA Security Inc., is and has been for the past several years, the
de facto standard for security over open networks like the Internet. The patent
related to this competing technology expired in September 2000, making this
technology freely available. The free availability of such security technology
could significantly delay or prevent the acceptance of ECC as a security
standard.
We must manage our growth
We have experienced a period of significant growth in our sales and
personnel that has placed strain upon our management systems and resources. Our
sales increased from $8.1 million for the nine months ended in January 31, 2000
to $19.0 million for the nine months ended in January 31, 2001. The number of
our full-time, part-time and contract employees increased from 102 at the end of
fiscal 1999 to 165 at the end of fiscal 2000 and subsequently to approximately
374 as of January 31, 2001. We intend to continue to grow in the foreseeable
future and to pursue existing and potential market opportunities, including
acquisitions. Our growth has placed, and will continue to place, significant
demands on our management and operational resources, particularly with respect
to:
. recruiting, training, supervising and retaining skilled marketing
and management personnel in an environment where there is intense
competition for skilled personnel;
. developing and managing a larger, more complex international
organization;
. expanding our treasury and accounting functions and information
systems to meet the demands of a growing company;
. strengthening our financial and management controls in a manner
appropriate for a larger enterprise;
. expanding our facilities and other infrastructure in a timely
manner to accommodate a significantly larger workforce;
. maintaining and expanding a cutting edge research and development
staff;
. expanding our sales and marketing efforts; and
. preserving our culture, values and entrepreneurial environment.
Our revenue may not continue to grow at a pace that will support our
planned costs and expenditures. To the extent that our revenue does not increase
at a rate commensurate with these additional costs and expenditures, our results
of operations and liquidity would be materially adversely affected.
Our management has limited experience managing a business of our size
and, in order to manage our growth effectively, we must concurrently develop
more sophisticated operational systems, procedures
19
and controls. If we fail to develop these systems, procedures and controls on a
timely basis, it could impede our ability to deliver products in a timely
fashion and fulfill existing customer commitments and, as a result, our
business, financial condition and operating results could be materially
adversely affected.
Acquisitions could harm our business
We acquired Consensus Development Corporation and Uptronics Incorporated in
fiscal year 1999, Trustpoint in fiscal year 2000 and DRG Resources Group in
fiscal year 2001. We may acquire additional businesses, technologies, product
lines or services in the future either in the United States or abroad.
Acquisitions involve a number of risks, potentially including:
. disruption to our business;
. inability to integrate, train, retain and motivate key personnel of
the acquired business;
. diversion of our management from our day-to-day operations;
. inability to incorporate acquired technologies successfully into our
products and services;
. additional expense associated with completing an acquisition and
amortization of any acquired intangible assets;
. impairment of relationships with our employees, customers and
strategic partners; and
. inability to maintain uniform standards, controls, procedures and
policies.
In addition, we may not be able to maintain the levels of operating
efficiency that any acquired company achieved or might have achieved separately.
Successful integration of the companies we acquire will depend upon our ability
to eliminate redundancies and excess costs. As a result of difficulties
associated with combining operations, we may not be able to achieve cost savings
and other benefits that we might hope to achieve with these acquisitions.
We may satisfy the purchase price of any future acquisitions through the
issuance of our common shares, which would result in dilution to our existing
shareholders. We may also incur debt or assume liabilities. We cannot assure you
that we will be able to obtain any additional financing on satisfactory terms,
or at all. The incurrence of indebtedness would make us more vulnerable to
economic downturns and may limit our ability to withstand competitive pressures.
The terms of any additional indebtedness may include restrictive financial and
operating covenants, which could limit our ability to compete and expand our
business.
Our business strategy also includes entering into strategic investments
and joint ventures with other companies. These transactions are subject to many
of the same risks identified above for acquisitions.
Our success depends on attracting and retaining skilled personnel
Our success is largely dependent on the performance of our management
team and other key employees, particularly Scott A. Vanstone, our Chief
Cryptographer. Our success also depends on our ability to attract, retain and
motivate qualified personnel. Most of our key technical and senior management
personnel are not bound by employment agreements. Loss of the services of any of
these key employees would harm our business, financial condition and operating
results. We do not maintain key person life insurance policies on any of our
employees.
Competition for qualified personnel in the digital information security
industry is intense, and finding and retaining qualified personnel in the San
Francisco Bay Area and the Greater Toronto Area are difficult. We believe there
are only a limited number of individuals with the requisite skills to serve in
many of our key positions, and it is becoming increasingly difficult to hire and
retain such persons.
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Competitors and others have in the past and may attempt in the future to recruit
our employees. A major part of our compensation to our key employees is in the
form of stock option grants. A prolonged depression in our share price could
make it difficult for us to retain employees and recruit additional qualified
personnel. In addition, the volatility and current market price of our common
shares may make it difficult to attract and retain personnel.
We face risks related to our international operations
We are currently in the process of expanding our international
presence and operations. This expansion is expected to involve opening foreign
sales offices, which may cause us to incur substantial costs. International
sales and operations may be limited or disrupted by increased regulatory
requirements, the imposition of government and currency controls, export license
requirements, political instability, labor unrest, transportation delays and
interruptions, trade restrictions, changes in tariffs and difficulties in
staffing and coordinating communications among international operations. These
foreign markets may require us to develop new products or modify our existing
products. There can be no assurance that we will be able to manage effectively
the risks associated with our international operations or that those operations
will contribute positively to our business, financial condition or operating
results.
We must successfully complete the transition of our financial, accounting and
treasury systems from Canada to the United States
Our Chief Executive Officer and Chief Financial Officer are located in
our Hayward, California office rather than our Mississauga, Ontario office. We
are in the process of moving our internal financial, accounting and treasury
functions from Mississauga to Hayward. These changes could cause significant
disruption in our company and adversely affect these critical functions. If that
were to occur, our business, financial condition and operating results could be
materially adversely affected.
We face risks related to intellectual property rights
We rely on one or more of the following to protect our proprietary
rights: patents, trademarks, copyrights, trade secrets, confidentiality
procedures and contractual provisions. Despite our efforts to protect our
proprietary rights, unauthorized parties may attempt to copy and may succeed in
copying aspects of our product designs, products or trademarks, or obtain and
use information we regard as proprietary. Preventing the unauthorized use of our
proprietary technology may be difficult in part because it may be difficult to
discover such use. Stopping unauthorized use of our proprietary technology may
be difficult, time-consuming and costly. In addition, the laws of some countries
in which our products are licensed do not protect our products and services and
related intellectual property to the same extent as the laws of Canada, the
United States and countries of the European Union. While we believe that at
least some of our products are covered by one or more of our patents and these
patents are valid, a court may not agree if the matter is litigated. There can
be no assurance that we will be successful in protecting our proprietary rights
and, if we are not, our business, financial condition and operating results
could be materially adversely affected.
The industry in which we compete has many participants who own, or
claim to own, intellectual property. We indemnify our licensees against third-
party intellectual property claims based on our technology. Claims relating to
intellectual property by any third-party business, individual or university,
whether or not with merit, could be time-consuming to evaluate, result in costly
litigation, cause shipment delays for products or the cessation of the use and
sale of products or services, or require us to obtain licenses by paying license
fees and/or royalties to the owners of the intellectual property. Such licensing
agreements, if required, may not be available on royalty or other terms
acceptable to us. Any of these situations could materially adversely affect our
business, financial condition and operating results. We also currently license
third party technology for use in some of our products and services. These third
party technology licenses may not continue to be available on commercially
reasonable terms or may not be available at all. Our business, financial
condition and operating results could be materially adversely affected if we
lose the right to use certain technology.
21
We are engaged in joint development projects with certain companies.
One of these projects has resulted in the issuance of jointly owned patents.
There is a risk that the companies with which we are working could decide not to
commercialize the joint technology and that we may be unable to commercialize
joint technology without their consent and/or involvement.
We are a member of certain organizations which set standards. As part
of the standards process, the participants are requested to file statements
identifying any patents they consider to be essential to implementation of the
standard. As such, we may be required to disclose and license patents that we
own which are necessary for practice of the standard. Further, to provide
products that are compliant with standards that have been adopted or will be
adopted in the future, we may have to license patents owned by others. As a part
of some standards processes, other companies have disclosed patents that they
believe are required to implement those standards. We cannot assure you that we
will be able to gain licenses to these patents, if needed, on terms acceptable
to us. Such licensing requirements may materially adversely affect the value of
our products, and, consequently, our business, financial condition and operating
results.
Our products could have defects which could delay their shipment, harm our
reputation and increase costs
Our products are highly complex and, from time to time, may contain
design defects that are difficult to detect and correct. Errors, failures or
bugs may be found in our products after commencement of commercial shipments.
Even if these errors are discovered, we may not be able to correct such errors
in a timely manner or at all. The occurrence of errors and failures in our
products could result in damage to our reputation, lost revenue and the loss of,
or delay in achieving, market acceptance of our products, and correcting such
errors and failures in our products could require significant expenditure of
capital by us. The sale and support of these products may entail the risk of
product liability or warranty claims based on damage to such equipment. In
addition, the failure of our products to perform to customer expectations could
give rise to warranty claims. Our insurance may not cover or its coverage may be
insufficient to cover any such claims successfully asserted against us, and
therefore the consequences of such errors, failures and claims could have a
material adverse effect on our business, financial condition and operating
results.
System interruptions and security breaches could harm our business
We are in the process of constructing a secure data center for issuing
certificates. We will depend on the uninterrupted operation of that data center.
We will need to protect this center and our other systems from loss, damage or
interruption caused by fire, power loss, telecommunications failure or other
events beyond our control. In addition, most of our systems and the data center
are located, and most of our customer information is stored, in the San
Francisco Bay Area, which is susceptible to earthquakes. Any damage or failure
that causes interruptions in our data center and our other computer and
communications systems could materially adversely affect our business, financial
condition and operating results.
Our success also depends upon the scalability of our systems. Our
systems have not been tested at the usage volumes that we expect will be
required in the future. As a result, a substantial increase in demand for our
products and services could cause interruptions in our systems. Any such
interruptions could materially and adversely affect our ability to deliver our
products and services and our business, financial condition and operating
results.
Although we intend to periodically perform, and retain accredited
third parties to perform, evaluations of our operational controls, practices and
procedures, we may not be able to meet or remain in compliance with our internal
standards or those set by these third parties. If we fail to maintain these
standards, we may have to expend significant time and money to return to
compliance, and our business, financial condition and operating results could be
materially adversely affected.
We will retain certain confidential customer information in our
planned data center. It is important to our business that our facilities and
infrastructure remain secure and be perceived by the marketplace to be secure.
Despite our security measures, our infrastructure may be vulnerable to physical
break-ins, computer viruses, attacks by hackers or other disruptive problems. It
is possible that we may have to
22
expend additional financial and other resources to address these problems. Any
physical or electronic break-ins or other security breaches or compromises of
the information stored at our planned data center may jeopardize the security of
information stored on our premises or in the computer systems and networks of
our customers. In such an event, we could face significant liability and damage
to our reputation, and customers could be reluctant to use our products and
services. Such an occurrence could also result in adverse publicity and
adversely affect the market's perception of our products and services, which
could materially adversely affect our business, financial condition and
operating results.
We must continue to develop and maintain strategic and other relationships
One of our business strategies has been to enter into strategic or
other collaborative relationships with many of our OEM customers to develop new
technologies and leverage their sales and marketing organizations. We may need
to enter into additional relationships to execute our business plan. We may not
be able to enter into additional, or maintain our existing, strategic
relationships on commercially reasonable terms. As a result, we may have to
devote substantially more resources to the development of new technology and the
distribution, sales and marketing of our security products and services than we
would otherwise. The failure of one or more of our strategic relationships could
materially adversely affect our business, financial condition and operating
results.
We have only recently begun to sell directly to enterprise customers
We have recently started to expand our sales efforts to encompass
sales of certain products directly to enterprises other than OEMs. The expansion
of our direct sales efforts will require that we attract, hire, train, manage
and adequately compensate a larger group of professionals. We cannot assure you
that we will be successful in expanding and managing our sales effort or that
the revenues produced by our direct sales will offset our increased expenses.
These non-OEM, or enterprise, customers will require different
products, support services and integration services than our existing OEM
customer base. We cannot assure you that we will be successful in developing the
products and services necessary to serve this new customer base.
We compete with some of our customers
We regularly license some of our products to customers who compete
with us in other product categories. For example, we license our Security
Builder(R) cryptographic toolkit to Baltimore Technologies for incorporation
into their UniCERT(TM) product, which competes with our Trustpoint(TM) product
line. This potential conflict may deter existing and potential future customers
from licensing some of our component products, most notably our Security
Builder(R) cryptographic toolkit. We expect to compete with a greater number of
our customers as we further expand our product line.
Our share price has been, and will likely continue to be, volatile
The market price of our common shares has declined significantly in
recent months, and we expect that the market price of our common shares may
fluctuate substantially as a result of variations in our quarterly operating
results. These fluctuations may be exaggerated if the trading volume of our
common shares is low. In addition, due to the technology-intensive and emerging
nature of our business, the market price of our common shares may fall
dramatically in response to a variety of factors, including:
. announcements of technological or competitive developments;
. acquisitions or entry into strategic alliances by us or our
competitors;
. the gain or loss of a significant customer or strategic
relationship;
. changes in estimates of our financial performance;
23
. changes in recommendations from securities analysts regarding us,
our industry or our customers' industries; and
. general market or economic conditions.
This risk may be heightened because our industry is new and evolving,
is characterized by rapid technological change and is susceptible to the
introduction of new competing technologies or competitors.
In addition, equity securities of many technology companies have
experienced significant price and volume fluctuations. These price and volume
fluctuations are sometimes unrelated to the operating performance of the
affected companies. Volatility in the market price of our common shares could
result in securities class action litigation. This type of litigation,
regardless of the outcome, could result in substantial costs to us and a
diversion of our management's attention and resources.
We have limited financial resources and may require additional financing that
may not be available
We may require additional equity or debt financing in the future.
There can be no assurance that we will be able to obtain on satisfactory terms,
or at all, the additional financing required to compete successfully. Failure to
obtain such financing could result in the delay or abandonment of some or all of
our business plans, which could have a material adverse effect on our business,
financial condition and operating results.
Risks Related to Our Industry
Public key cryptographic technology is subject to risks
Our products and services are largely based on public key
cryptographic technology. With public key cryptographic technology, a user has
both a public key and a private key. The security afforded by this technology
depends on the integrity of a user's private key and on it not being stolen or
otherwise compromised. The integrity of private keys also depends in part on the
application of certain mathematical principles such as factoring and elliptic
curve discrete logarithms. This integrity is predicated on the assumption that
solving problems based on these principles is difficult. Should a relatively
easy solution to these problems be developed, then the security of encryption
products using public key cryptographic technology could be reduced or
eliminated. Furthermore, any significant advance in techniques for attacking
cryptographic systems could also render some or all of our products and services
obsolete or unmarketable. Even if no breakthroughs in methods of attacking
cryptographic systems are made, factoring problems or elliptic curve discrete
logarithm problems can theoretically be solved by computer systems that are
significantly faster and more powerful than those currently available. In the
past, there have been public announcements of the successful decoding of certain
cryptographic messages and of the potential misappropriation of private keys.
Such publicity could also adversely affect the public perception as to the
safety of public key cryptographic technology. Furthermore, an actual or
perceived breach of security at one of our customers, whether or not due to our
products, could result in adverse publicity for us and damage to our reputation.
Such adverse public perception or any of these other risks, if they actually
occur, could materially adversely affect our business, financial condition and
operating results.
Our future success will depend upon our ability to anticipate and keep pace with
technological changes
The information security industry is characterized by rapid
technological change. Technological innovation in the marketplace, such as in
the areas of mobile processing power or wireless bandwidth, or the development
of new cryptographic algorithms, may reduce the comparative benefits of our
products and could materially adversely affect our business, financial condition
and operating results. Our inability, for technological or other reasons, to
enhance, develop and introduce products in a timely manner in response to
changing market conditions, industrial standards, customer requirements or
competitive offerings could result in our products becoming obsolete, or could
otherwise have a material adverse effect on our business, financial condition
and operating results. Our ability to compete successfully will depend in large
measure on our ability to maintain a technically competent research and
development staff and to
24
adapt to technological changes and advances in the industry, including providing
for the continued compatibility of our products with evolving industry standards
and protocols.
We face significant competition which could harm our ability to maintain or
increase sales of our products or reduce the prices we can charge for our
products
We operate in a highly competitive industry. Many of our competitors
have greater name recognition, larger customer bases and significantly greater
financial, technical, marketing, public relations, sales, distribution and other
resources than we do. We anticipate that the quality, functionality and breadth
of our competitors' product offerings will improve, and there can be no
assurance that we will be able to compete effectively with such product
offerings. In addition, we could be materially adversely affected if there were
a significant movement towards the acceptance of open source solutions or other
alternative technologies that compete with our products. We expect that
additional competition will develop, both from existing businesses in the
information security industry and from new entrants, as demand for information
products and services expands and as the market for these products and services
becomes more established. Moreover, as competition increases, the prices that we
charge for our products may decline. If we are not able to compete successfully,
our business, financial condition and operating results could be materially
adversely effected. Our most significant direct competitors include RSA
Security, VeriSign, Inc., Baltimore Technologies plc and Entrust Technologies
Inc.
Our business could be adversely affected by United States and foreign government
regulation
The information security industry is governed by regulations that could
have a material adverse effect on our business. The export of cryptographic
equipment and software, including many of our products, is regulated by both the
U.S. and Canadian governments. It is also possible that laws could be enacted
covering issues such as user privacy, pricing, content and quality of products
and services in these markets. Such regulations and laws could cause us to
compromise our source code protection, minimize our intellectual property
protection, negatively impact our plans for global expansion and consequently
materially adversely effect our business.
Risks Related to Our Corporate Charter; Limitations on Dividends
The anti-takeover effect of certain of our charter provisions could delay or
prevent our being acquired
Our authorized capital consists of an unlimited number of common shares
and an unlimited number of preferred shares issuable in one or more series.
Although we currently do not have outstanding any preferred shares, our board of
directors has the authority to issue preferred shares and determine the price,
designation, rights, preferences, privileges, restrictions and conditions,
including voting and dividend rights, of these shares without any further vote
or action by shareholders. The rights of the holders of common shares will be
subject to, and may be adversely affected by, the rights of holders of any
preferred shares that may be issued in the future. The issuance of preferred
shares, while providing desirable flexibility in connection with possible
acquisitions and other corporate purposes, or the issuance of additional common
shares could make it more difficult for a third party to acquire a majority of
our outstanding voting shares. This could deprive our shareholders of a control
premium that might otherwise be realized in connection with an acquisition of
our company.
Our shareholder rights plan could delay or prevent our being acquired
We have adopted a shareholder rights plan. The provisions of this plan
could make it more difficult for a third party to acquire a majority of our
outstanding voting shares, the effect of which may be to deprive our
shareholders of a control premium that might otherwise be realized in connection
with an acquisition of our company.
We do not currently intend to pay any cash dividends on our common shares in the
foreseeable future.
We have never paid or declared any cash dividends on our common shares
and we currently intend
25
to retain any future earnings to finance the development and expansion of our
business. We do not anticipate paying any cash dividends on our common shares in
the foreseeable future. In addition, any dividends paid to residents of the
United States would be subject to Canadian withholding tax, generally at the
rate of 15%.
Item 3. Quantitative and Qualitative Disclosures about Market Risk
Foreign Exchange Risk
Currency fluctuations may materially adversely affect us. For the three
months ended January 31, 2001, 29.0% of our operating expenses were paid in
currencies other than the U.S. dollars. For the nine months ended January 31,
2001, 28.7% of our operating expenses were paid in currencies other than the
U.S. dollar. Fluctuations in the exchange rate between the U.S. dollar and such
other currencies may have a material adverse effect on our business, financial
condition and operating results. In particular, we may be materially adversely
affected by a significant strengthening of the Canadian dollar against the U.S.
dollar.
Interest Rate Risk
We hold a significant portion of our cash in interest-bearing
instruments and are exposed to the risk of changing interest rates and their
effect on future earnings. Generally, if interest rates decrease, our interest
income would also decrease. We do not use any derivative instruments to reduce
our exposure to interest rate fluctuations.
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
The nature of our business subjects us to numerous regulatory
investigations, claims, lawsuits and other proceedings in the ordinary course of
our business. The results of these legal proceedings cannot be predicted with
certainty. There can be no assurance that these matters will not have a material
adverse effect on our results of operations in any future period, depending
partly on the results for that period, and a substantial judgement could have a
material adverse impact on our financial condition. However, it is the opinion
of management, after consultation with our legal counsel, that we are currently
not subject to any material litigation.
We have received a letter on behalf of Carnegie Mellon University
asserting that it owns the trademark "CERT", and that it believes our use of the
stock symbol "CERT" will cause confusion with and/or dilute its purported
trademark. Although we intend to defend our use of the stock symbol "CERT"
vigorously, there can be no assurance that we will be successful in doing so, or
that this dispute with the University will not have a material adverse impact on
us.
We have also received a letter on behalf of Geoworks Corporation.
Asserting that it holds a patent on certain aspects of technology which are part
of the WAP standard. Our WTLS Plus(TM) toolkit may be used to implement WAP-
compliant technology. After an internal investigation based upon the description
provided by Geoworks of its purportedly patented technology, it is our belief
that our toolkits do not include implementation of the Geoworks technology. We
have also become aware of a letter circulated on behalf of a Mr. Bruce Dickens
asserting that he holds a patent on certain aspects of technology that are
implemented within certain aspects of the SSL standard. After an internal
investigation, it is our belief that we do not implement any validly patented
technology. We recently received a letter on behalf of eSignX Corporation
drawing our attention to a patent which it purports to hold on certain aspects
of technology related to the use of WAP enabled portable electronic
authorization devices for approving transactions. The letter states that, based
upon a review of a press release announcing our Trustpoint PKI product, that
product may be covered by eSignX's patent. We are currently conducting an
internal investigation to determine whether our products include implementations
of eSignX's technology. Although we intend to
26
vigorously defend any litigation that may arise in connection with these
matters, there can be no assurance that we will be successful in doing so, or
that such disputes will not have a material adverse impact on us.
In addition, we recently became aware of a lawsuit commenced by Mr.
Leon Stambler against one of our customers and certain other parties asserting
that Mr. Stambler holds patents on certain aspects of technology related to
online transactions. Although we have not been named in this legal action, under
the terms of the license agreement we have entered into with this customer, we
have agreed to defend our customer against any claim that our licensed product,
when used within the scope of the license agreement, infringes any U.S. or
Canadian patent and to indemnify the customer in certain circumstances for
related costs and expenses it incurs as a result of such a claim. We had
previously reviewed the Stambler patent and prepared documentation indicating a
possible prior use of the subject matter purportedly claimed in the referenced
patent. We are currently investigating the scope of protection afforded by the
claims detailed in the complaint and effect, if any, of these claims on the
products supplied by Certicom. There can be no assurance that such asserted
patent will not have a material adverse impact on us.
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Item 6. Exhibits and Reports on Form 8-K
(a) Index to Exhibits
Exhibit Number Description
-------------- -------------------------------------------
10.1 Amended 1997 Stock Option Plan
10.2 Amended 2000 United States Stock Plan
(b) Reports on Form 8-K
None
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,
the Company has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized, on this 16th day of March, 20001.
Certicom Corp.
By: /s/ Richard P. Dalmazzi
-----------------------
Richard P. Dalmazzi
President, Chief Executive Officer
and Director (Principal Executive Officer)
/s/ Richard D. Brounstein
-------------------------
Richard D. Brounstein
Senior Vice President, Finance,
Chief Financial Officer and
Secretary (Principal Financial
and Accounting Officer)
29