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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 1997
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission file number 000-23043
PERVASIVE SOFTWARE INC.
(Exact name of registrant as specified in its charter)
DELAWARE 74-2693793
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
8834 CAPITAL OF TEXAS HIGHWAY, SUITE 300
AUSTIN, TEXAS 78759
(Address of principal executive offices)
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(512) 794-1719
(Registrant's telephone number, including area code)
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Indicate by check X whether the registrant (1) has filed all reports required
to be filed by Sections 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
(1) Yes X No
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(2) Yes No X
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As of November 13, 1997 there were 13,257,231 shares of the Registrant's
common stock outstanding.
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PERVASIVE SOFTWARE INC.
FORM 10-Q
INDEX
PART I. FINANCIAL INFORMATION PAGE
----
Item 1. Financial Statements............................................. 3
Condensed Consolidated Balance Sheets at September 30, 1997
and June 30, 1997............................................... 3
Consolidated Statements of Operations for the three months
ended September 30, 1997 and 1996............................... 4
Condensed Consolidated Statements of Cash Flows for the
three months ended September 30, 1997 and 1996.................. 5
Notes to Condensed Consolidated Financial Statements............. 6
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations....................................... 8
PART II. OTHER INFORMATION................................................ 23
Item 4. Submission of Matters to a Vote of Security Holders.............. 23
Item 6. Exhibits and Reports on Form 8-K................................. 23
SIGNATURES.................................................................. 25
2
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
Pervasive Software Inc.
Condensed Consolidated Balance Sheets
(in thousands)
SEPTEMBER 30, JUNE 30,
1997 1997
------------ -------
(UNAUDITED)
ASSETS
Current assets:
Cash and cash equivalents $ 2,605 $ 4,058
Proceeds receivable from initial public
offering 18,600 --
Trade accounts receivable, net 3,492 2,803
Prepaid expenses and other current
assets 1,283 817
------- -------
Total current assets 25,980 7,678
Property and equipment, net 3,127 2,664
Other assets 99 103
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Total assets $29,206 $10,445
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LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
Current liabilities:
Trade accounts payable $ 1,431 $ 4,058
Accrued payroll and payroll related
costs 806 517
Other accrued expenses 3,219 2,273
Deferred revenue 894 1,267
Income taxes payable 126 301
Deferred royalty payable-Novell 619 708
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Total current liabilities 7,095 6,118
Minority interest in subsidiary 669 695
Redeemable convertible preferred stock -- 4,026
Stockholders' equity (deficit):
Convertible preferred stock -- 3,915
Common stock 25,712 205
Retained deficit (4,270) (4,514)
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Total stockholders' equity (deficit) 21,442 (394)
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Total liabilities and stockholders'
equity (deficit) $29,206 $10,445
======= =======
See accompanying notes.
3
Pervasive Software Inc.
Condensed Consolidated Statements of Operations
(in thousands, except per share data)
THREE MONTHS ENDED
SEPTEMBER 30,
------------------
1997 1996
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Revenues $ 7,671 $ 5,090
Costs and expenses:
Cost of revenues and technical support 1,164 734
Sales and marketing 3,112 1,905
Research and development 2,251 1,120
General and administrative 630 709
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Total costs and expenses 7,157 4,468
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Operating income 514 622
Interest and other income (expense), net (19) 17
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Income before income taxes and minority
interest 495 639
Provision for income taxes (146) (164)
Minority interest in earnings of
subsidiary, net of tax (19) (17)
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Net income $ 330 $ 458
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Net income per share $ 0.02 $ 0.03
======= =======
Shares used in computing net income per
share 13,562 13,299
======= =======
See accompanying notes.
4
Pervasive Software Inc.
Condensed Consolidated Statements of Cash Flows
(in thousands)
THREE MONTHS ENDED
SEPTEMBER 30,
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1997 1996
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CASH FROM OPERATING ACTIVITIES
Net income $ 330 $ 458
Adjustments to reconcile net income to
net cash provided by (used in)
operating activities:
Depreciation and amortization 293 133
Other non cash items 69 158
Change in current assets and
liabilities:
(Increase) decrease in trade accounts
receivable (790) 261
(Increase) decrease in prepaid expenses
and other current assets (251) 21
Increase in accounts payable and
accrued liabilities 307 101
Increase (decrease) in deferred revenue (373) 459
Increase (decrease) in income taxes
payable (165) 164
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Net cash provided by (used in)
operating activities (580) 1,755
CASH FROM INVESTING ACTIVITIES
Purchase of property and equipment (757) (264)
Increase in other assets (3) --
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Net cash used in investing activities (760) (264)
CASH FROM FINANCING ACTIVITIES
Payment of royalty to Novell (98) (149)
Proceeds from exercise of stock options 117 --
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Net cash provided by (used in)
financing activities 19 (149)
Effect of exchange rate on cash and
cash equivalents (132) (68)
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Increase (decrease) in cash and cash
equivalents (1,453) 1,274
Cash and cash equivalents at beginning
of period 4,058 2,739
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Cash and cash equivalents at end of
period $ 2,605 $4,013
======= ======
See accompanying notes.
5
PERVASIVE SOFTWARE INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 1997
1. GENERAL AND BASIS OF FINANCIAL STATEMENTS
The unaudited interim condensed consolidated financial statements include the
accounts of Pervasive Software Inc. and its majority-owned subsidiaries
(collectively, the "Company" or "Pervasive"). All material intercompany
accounts and transactions have been eliminated in consolidation.
The financial statements included herein reflect all adjustments, consisting
only of normal recurring adjustments, which in the opinion of management are
necessary to fairly state the Company's financial position, results of
operations and cash flows for the periods presented.
These financial statements should be read in conjunction with the Company's
consolidated financial statements and notes thereto for the year ended June 30,
1997, which are contained in the Company's Registration Statement on Form S-1
(File No. 333-32199). The results of operations for the three months ended
September 30, 1997 are not necessarily indicative of results that may be
expected for any other interim period or for the full fiscal year.
2. INITIAL PUBLIC OFFERING
On September 25, 1997 the Company completed an initial public offering in
which the Company sold 2,000,000 shares of common stock for net proceeds to the
Company of $18.6 million, before deducting expenses of the offering. In
addition, stockholders of the Company sold 2,000,000 shares in the offering plus
500,000 shares upon subsequent exercise of an option granted to the underwriters
for over-allotments. The shares sold by the Company and selling shareholders
represented approximately 35% of the outstanding shares of the Company. The net
offering proceeds were received from the underwriters on October 1, 1997 and
have been recorded as "Proceeds receivable from initial public offering" in the
Condensed Consolidated Balance Sheet at September 30, 1997.
3. REDEEMABLE CONVERTIBLE PREFERRED STOCK AND UNAUDITED STOCKHOLDER'S EQUITY
Upon closing of the initial public offering, each outstanding share of the
Company's Series A, B and C Convertible Preferred Stock and Redeemable
Convertible Preferred Stock was automatically converted into one share of common
stock of the Company resulting in the issuance of 9,713,132 shares of common
stock. Unaudited stockholders' equity as of September 30, 1997 is adjusted for
the conversion of the preferred stock as set forth in the accompanying Condensed
Consolidated Balance Sheet.
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4. EARNINGS PER SHARE
Net income per share is computed using the weighted average number of shares
of common stock and dilutive common equivalent shares from convertible preferred
stock (using the "as if-converted" method) and from stock options (using the
treasury stock method). Pursuant to Securities and Exchange Commission Staff
Accounting Bulletins, common stock and common equivalent shares issued by the
Company during the 12-month period prior to the offering have been included in
the calculation (using the treasury stock method) as if they were outstanding
for all periods presented regardless of whether they are dilutive.
In February 1997, the Financial Accounting Standards Board issued Statement
No. 128, Earnings Per Share (Statement 128), which is required to be adopted for
financial statements issued for periods ending after December 15, 1997. At that
time, the Company will be required to change the method currently used to
compute earnings per share and to restate all prior periods. Under the new
requirements, the presentation of primary earnings per share is replaced with a
presentation of basic earnings per share, the calculation of which excludes the
dilutive effect of common stock equivalents. The adoption of Statement 128 is
expected to result in a basic earnings per share of $0.16 and $2.09 for the
three months ended September 30, 1997 and September 30, 1996, respectively.
Compared to earnings per share as currently presented, the adoption of Statement
128 results in an increase of $0.14 and $2.06 per share for the three months
ended September 30, 1997 and September 30, 1996, respectively. There is no
impact on the fully diluted earnings per share calculation for the periods
presented.
7
PERVASIVE SOFTWARE INC.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
The statements contained in this filing which are not purely historical
statements are forward looking statements within the meaning of Section 21E of
the Securities and Exchange Act of 1934, including statements regarding the
Company's expectations, beliefs, hopes, intentions or strategies regarding the
future. Forward looking statements include statements regarding anticipated or
expected financial trends such as fluctuations in revenues, costs and expenses,
strategies with respect to international expansion, projected hiring needs,
market opportunities and competition. All forward looking statements included in
this document are based upon information available to the Company as of the date
hereof, and the Company assumes no obligation to update any such forward looking
statements. Actual results could differ materially from the Company's current
expectations. Factors and risks that could cause or contribute to such
differences include, but are not limited to, those discussed in "Risk Factors
that May Affect Future Results," and the factors and risks discussed in the
Company's Registration Statement on Form S-1 filed with the Securities and
Exchange Commission and effective as of September 25, 1997 (File. No. 333-32199)
and other reports filed from time to time with the Securities and Exchange
Commission.
OVERVIEW
Pervasive is a leading provider of embedded database software designed to
enable the cost-effective development, deployment and support of low-
maintenance, packaged client/server applications. The Company markets and sells
its products through indirect channels by targeting both independent software
vendors ("ISVs") who build packaged client/server applications and value added
resellers ("VARs") who recommend and sell applications to end users.
The Company derives its revenues primarily from shrink wrap licenses
through ISVs, VARs and distributors and from OEM license agreements with ISVs.
Additionally, the Company generates revenues from user count upgrades as well as
from upgrades to client/server environments from single workstation or peer-to-
peer environments. Shrink wrap license fees depend on both the user count of the
license and whether the license is for the Company's client- or server-based
products. The Company's OEM licensing program offers ISVs volume discounts and
specialized technical support, training and consulting in exchange for embedding
the Company's products in packaged applications and paying to the Company a
royalty based on sales of the applications.
Revenues are generally recognized from the license of software upon the
later of shipment or when all significant vendor obligations have been
satisfied. Revenues related to agreements involving nonrefundable fixed minimum
license fees are generally recognized upon delivery of the product master or
first copy if no significant vendor obligations remain. Per copy
8
royalties in excess of a fixed minimum amount are recognized as revenues when
such amounts are reported to the Company. The Company operates with virtually no
order backlog because its software products are shipped shortly after orders are
received, which makes product revenues in any quarter substantially dependent on
orders booked and shipped throughout that quarter. The Company enters into
agreements with certain distributors that provide for certain stock rotation and
price protection rights. These rights allow the distributor to return products
in a non-cash exchange for other products or for credits against future
purchases. The Company reserves for the cost of estimated sales returns, stock
rotation and price protection rights, as well as for uncollectable accounts
based on experience.
Although the Company's revenues have increased in recent periods, there can
be no assurance that the Company's revenues will grow in future periods, that
they will grow at past rates, or that the Company will remain profitable on a
quarterly or annual basis in the future. Substantially all of the Company's
revenues to date have been attributable to the sale and license of its Btrieve
and Scalable SQL products, and these products are currently expected to account
for substantially all of the Company's revenues for the foreseeable future. The
Company's future operating results are dependent upon continued market
acceptance of its Btrieve and Scalable SQL products and enhancements to these
products. Consequently, a decline in the demand for, or market acceptance of,
the Company's Btrieve and Scalable SQL products as a result of competition,
technological change or other factors, would have a material adverse effect on
the Company's business, operating results and financial condition. See "Risk
Factors that May Affect Future Results."
RESULTS OF OPERATIONS
The following table sets forth for the periods indicated the percentage of
revenues represented by certain lines in the Company's consolidated statements
of operations:
Three Months Ended
September 30,
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1997 1996
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Revenues.......................................... 100% 100%
Costs and expenses:
Cost of revenues and technical support.... 15 14
Sales and marketing....................... 41 38
Research and development.................. 29 22
General and administrative................ 8 14
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Total costs and expenses.......................... 93 88
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Operating income.................................. 7 12
Interest and other income, net............ - -
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Income before income taxes and minority
interest......................................... 7 12
Provision for income taxes................ (2) (3)
Minority interest in earnings of
subsidiary............................... (1) -
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Net income........................................ 4% 9%
=== ===
9
Revenues
The Company's revenues increased to $7.7 million for the three months ended
September 30, 1997, an increase of 51% over the $5.1 million reported for the
comparable period in the prior fiscal year. The increase in the Company's
revenues was attributable primarily to increased market acceptance of the
Company's products, principally licenses of the Company's software operating on
Windows NT and other Microsoft operating systems, and expansion of its world-
wide sales organization. Although the Company's revenues have increased in
recent periods, there can be no assurance that revenues will grow in future
periods, that they will grow at past rates or that the Company will remain
profitable on a quarterly or annual basis in the future.
Licenses of the Company's software operating on Windows NT or other
Microsoft operating systems increased to approximately 39% of the Company's
revenues in the three months ended September 30, 1997 from approximately 29% in
the comparable period in the prior year. Licenses of the Company's software
operating on NetWare represented approximately 56% and 66% of the Company's
revenues in the three months ended September 30, 1997 and 1996, respectively.
The Company believes that the increase in the percentage of revenues
attributable to licenses of the Company's products operating on Windows NT and
other Microsoft operating systems is due to both the increased market acceptance
of the Company's products operating on Microsoft platforms and to the increased
market penetration of Microsoft platforms relative to other operating systems.
The Company expects that the percentages of its revenues attributable to
licenses of its software operating on particular platforms will continue to
change from time to time and there can be no assurance that the Company's
revenues attributable to licenses of its software operating on Windows NT, or
any other operating system platform, will grow in the future, or at all.
International revenues, consisting of all revenues from customers located
outside of North America, were $3.2 million and $1.6 million for the three
months ended September 30, 1997 and 1996, representing 42% and 31% of total
revenues, respectively. The increase in dollar amount was primarily attributable
to expansion of the Company's international sales organization, particularly in
Europe. The Company believes that revenues from international markets represent
a significant opportunity and expects that international revenues may account
for an increasing portion of its revenues in the future as the Company expands
internationally, primarily in Europe and Japan, but also in other areas of the
world. See "Risk Factors that May Affect Future Results -- Risks Associated
with International Sales and Operations."
Costs and Expenses
Cost of Revenues and Technical Support. Cost of revenues and technical
support consists primarily of the cost to manufacture and fulfill orders for the
Company's shrink wrap software products and the cost to provide technical
support, primarily telephone support, which is typically provided within 30 days
of purchase. Cost of revenues and technical support was $1.2 million and
$700,000 in the three months ended September 30, 1997 and 1996, representing 15%
and 14% of revenues, respectively. The increase in cost of revenues and
technical support was attributable to increased sales volume, increased
technical support personnel in the U.S. and the establishment of a European
support center. The Company anticipates that cost of revenues and technical
support will continue to increase in dollar amount as the Company incurs higher
support costs with the expansion of international operations and that such costs
could vary as a percentage of revenues relative to fiscal 1997.
10
Sales and Marketing. Sales and marketing expenses consist primarily of
salaries, commissions and bonuses earned by sales and marketing personnel,
foreign sales office expenses, travel and entertainment and promotional
expenses. Sales and marketing expenses were $3.1 million and $1.9 million in the
three months ended September 30, 1997 and 1996, representing 41% and 38% of
revenues, respectively. The increase in dollar amounts was primarily
attributable to increased costs associated with hiring additional sales and
marketing personnel and increased infrastructure costs associated with foreign
sales office expansion. The Company expects that sales and marketing expenses
will continue to increase in dollar amount as the Company continues to hire
additional sales and marketing personnel, increase lead generation activities
and expand its international operations. Sales and marketing expenses are likely
to continue to fluctuate as a percentage of revenues due to the timing of costs
associated with new product releases and international expansion.
Research and Development. Research and development expenses consist
primarily of personnel and related costs. Research and development expenses were
$2.3 million and $1.1 million in the three months ended September 30, 1997 and
1996, representing 29% and 22% of revenues, respectively. The increases, both in
dollar amount and as a percentage of revenues are primarily due to the increased
hiring of, and contracting with, additional research and development personnel.
The Company anticipates that it will continue to devote substantial resources to
research and development and that such expenses will continue to increase in
dollar amount.
Research and development costs that were eligible for capitalization in
accordance with Statement of Financial Accounting Standards No. 86 were
insignificant during these periods, and, accordingly, the Company charged all
software development costs to research and development expenses.
General and Administrative. General and administrative expenses consist
primarily of the personnel and other costs of the Company's finance, human
resources, information systems and administrative departments. General and
administrative expenses were $630,000 and $709,000 in the three months ended
September 30, 1997 and 1996, representing 8% and 14% of revenues, respectively.
General and administrative expenses decreased as a percentage of revenue
primarily because of significant revenue growth that outpaced general and
administrative expenditures. The Company believes that its general and
administrative expenses will increase in dollar amount in fiscal 1998 as the
Company's administrative staff expands to support its growing world-wide
operations and as a result of an increase in expense associated with being a
public company.
Provision for Income Taxes. The estimated effective tax rates for the three
months ended September 30, 1997 and 1996 were 30% and 26%, respectively. The tax
provision for fiscal 1997 consisted of federal, state and foreign taxes on
current income and foreign withholding, offset by the benefit from partial
release of the Company's valuation allowance recorded against its net deferred
tax asset. The increase in the estimated effective tax rate for fiscal 1998 is
primarily due to increased foreign taxes associated with the Company's increased
operations overseas. The
11
Company expects its effective tax rate to increase after fiscal 1998 once the
Company's deferred tax asset is fully realized.
LIQUIDITY AND CAPITAL RESOURCES
On September 25, 1997 the Company completed an initial public offering in
which the Company sold 2,000,000 shares of common stock for net proceeds to the
Company of $18.6 million, before deducting expenses of the offering. The
offering proceeds were received from the underwriters on October 1, 1997.
Cash used in operations was $580,000 for the three months ended September
30, 1997 as compared with cash generated from operations of $1.8 million for the
comparable period in the prior fiscal year. The decrease in cash generated
resulted primarily from increases in accounts receivable and decreases in
deferred revenue during the respective periods.
To date, the Company's investing activities have consisted primarily of
capital expenditures totaling approximately $757,000 and $264,000 in the three
months ended September 30, 1997 and 1996, respectively, to acquire equipment,
mainly computer hardware and software, for the Company's growing employee base.
The Company expects that its capital expenditures will increase as the Company's
employee base grows. At September 30, 1997, the Company did not have any
material commitments for capital expenditures.
At September 30, 1997, the Company had $2.6 million in cash and cash
equivalents and $18.9 million in working capital. The Company has a $2.0 million
revolving line of credit and a $2.0 million equipment line with a bank, but has
at no time borrowed under such lines. The Company has granted a first priority
security interest in substantially all of its tangible assets as security for
its obligations under its credit lines.
12
RISK FACTORS THAT MAY AFFECT FUTURE RESULTS
In addition to other information in this Report on Form 10-Q, the following
risk factors should be considered in evaluating the Company and its business.
LIMITED OPERATING HISTORY; MARGINAL PROFITABILITY; FUTURE OPERATING RESULTS
UNCERTAIN
The Company was founded in January 1994. Accordingly, the Company's
prospects must be considered in light of the risks and difficulties frequently
encountered by companies in the early stage of development, particularly
companies in new and rapidly evolving markets. To address these risks, the
Company must, among other things, respond to competitive developments, continue
to attract, retain and motivate qualified personnel and continue to improve its
products. Although the Company has been profitable for the six most recent
fiscal quarters, this profitability has been marginal and, except for the
quarters ended September 30, 1994 and December 31, 1994, the Company incurred
net losses in each quarter from inception through the quarter ended March 31,
1996 and as of September 30, 1997, the Company had an accumulated deficit of
approximately $4.3 million. The Company's operating losses and marginal
profitability have been due in part to the commitment of significant resources
to the Company's technical support, research and development and sales and
marketing organizations. The Company expects to continue to devote substantial
resources to these areas and as a result will need to recognize significant
quarterly revenues to maintain profitability. In particular, the Company intends
to hire a significant number of sales and research and development personnel in
fiscal 1998 and beyond, which the Company believes is required if the Company is
to achieve significant revenue growth in the future. Although the Company's
revenues have increased in recent periods, there can be no assurance that the
Company's revenues will grow in future periods, that they will grow at past
rates or that the Company will remain profitable on a quarterly or annual basis
in the future. See "Management's Discussion and Analysis of Financial Condition
and Results of Operations."
OPERATING RESULTS SUBJECT TO SIGNIFICANT FLUCTUATIONS; SEASONALITY
The Company's quarterly revenues, expenses and operating results have
varied significantly in the past and are likely to vary significantly in the
future due to a variety of factors, such as demand for the Company's products,
the size and timing of significant orders and their fulfillment, the number,
timing and significance of product enhancements and new product announcements by
the Company and its competitors, changes in pricing policies by the Company
or its competitors, customer order deferrals in anticipation of enhancements or
new products offered by the Company or its competitors, the ability of the
Company to develop, introduce and market new and enhanced versions of its
products on a timely basis, changes in the Company's level of operating
expenses, budgeting cycles of its customers, product life cycles, software
defects and other product quality problems, the Company's ability to attract and
retain qualified personnel, changes in the Company's sales incentive plans,
changes in the mix of domestic and
13
international revenues, the level of international expansion, foreign currency
exchange rate fluctuations, performance of indirect channel partners, changes in
the mix of indirect channels through which the Company's products are offered,
the impact of acquisitions of competitors and indirect channel partners, the
Company's ability to control costs and general domestic and international
economic and political conditions. The Company operates with virtually no order
backlog because its software products are shipped shortly after orders are
received, which makes product revenues in any quarter substantially dependent on
orders booked and shipped throughout that quarter. As a result, if orders in the
first month or two of a quarter fall short of expectations, it is unlikely that
the Company will be able to meet its revenue targets for that quarter. In
addition, the Company is substantially reliant upon indirect sales channels over
which the Company has little or no control. Moreover, the Company's expense
levels are based to a significant extent on the Company's expectations of future
revenues and therefore are relatively fixed in the short term. If revenue levels
are below expectations, operating results are likely to be adversely and
disproportionately affected because only a small portion of the Company's
expenses vary with its revenues.
The Company's business has experienced and is expected to continue to
experience seasonal customer buying patterns. In recent years, the Company has
had relatively stronger demand for its products during the quarters ending
December 31 and June 30 and demand has been relatively weaker in the quarters
ending March 31 and September 30. The Company believes that this pattern may
continue. To the extent international operations constitute a greater
percentage of the Company's revenues in future periods, the Company anticipates
the effect of seasonal buying patterns on the Company's business could be more
pronounced in subsequent periods as a result of reduced sales activity in Europe
and Japan during the summer months.
Based upon all of the factors described above, the Company believes that
its quarterly revenues, expenses and operating results are likely to vary
significantly in the future, that period-to-period comparisons of its operating
results are not necessarily meaningful and that, in any event, such comparisons
should not be relied upon as indications of future performance. The Company has
limited ability to forecast future revenues, and it is likely that in some
future quarter the Company's operating results will be below the expectations of
public securities analysts and investors. In the event that operating results
are below expectations, or in the event that adverse conditions prevail or are
perceived to prevail generally or with respect to the Company's business, the
price of the Company's Common Stock would likely be materially adversely
affected. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations."
DEPENDENCE ON INDIRECT SALES CHANNEL; DISTRIBUTOR CONCENTRATION
The Company derives substantially all of its revenues from its indirect
sales channel, consisting of ISVs, VARs, system integrators, consultants and
distributors. The Company has invested, and intends to continue to invest,
significant resources to develop this channel, which could adversely affect the
Company's operating margins. There can be no assurance that the Company will be
able to attract additional indirect channel partners that will be able to market
and support the Company's products. In addition, many of the Company's indirect
channel
14
partners offer competing product lines. Therefore, there can be no assurance
that any of the Company's current indirect channel partners will continue to
represent or recommend the Company's products. Further, the inability to recruit
new indirect channel partners, or the loss of, or a significant reduction in
revenues from, any particular indirect channel partner could materially
adversely affect the Company's business, operating results and financial
condition.
Some of the Company's ISVs, VARs and end users place their orders through
distributors. A relatively small number of distributors have accounted for a
significant percentage of the Company's revenues. In the three months ended
September 30, 1997 and 1996, two distributors accounted for a combined 22% and
29% of revenues, respectively. The Company expects that it will continue to be
dependent upon a limited number of distributors for a significant portion of its
revenues in future periods and such distributors are expected to vary from
period to period. The loss of a major distributor or any reduction in orders by
such distributor, including reductions due to market or competitive conditions,
combined with the inability to replace the distributor on a timely basis could
have a material adverse effect on the Company's business, operating results and
financial condition. The Company's operating results may in the future be
subject to substantial period-to-period fluctuations as a consequence of such
distributor concentration.
SIGNIFICANT COMPETITION
The market for the Company's products is intensely competitive and subject
to rapid change. The Company primarily encounters competition from large, public
companies, including Microsoft Corporation ("Microsoft"), Oracle Corporation
("Oracle"), Informix Corporation ("Informix"), Sybase, Inc. ("Sybase") and
International Business Machines Corporation ("IBM"). Each of these companies
offers database products competitive with the Company's products. In particular,
Sybase offers a small memory footprint database software product, SQL Anywhere,
which directly competes with the Company's Scalable SQL product. In addition,
because there are relatively low barriers to entry in the software market, the
Company may encounter additional competition from other established and emerging
companies. Most of the Company's competitors have longer operating histories,
significantly greater financial, technical, marketing and other resources than
the Company, significantly greater name recognition and a large installed base
of customers. As a result, the Company's competitors may be able to respond more
quickly to new or emerging technologies and changes in customer requirements, or
to devote greater resources to the development, promotion and sale of
competitive products, than can the Company. There is also a substantial risk
that announcements of competing products by large competitors could result in
the cancellation of customer orders in anticipation of the introduction of such
new products. In addition, current and potential competitors have established or
may establish cooperative relationships among themselves or with third parties
to increase the ability of their products to address customer needs and which
may limit the Company's ability to sell its products through particular
distribution partners. Accordingly, new competitors or alliances among current
and new competitors may emerge and rapidly gain significant market share. The
Company also expects that competition will increase as a result of software
industry consolidation. Increased competition is likely to result in price
reductions, fewer customer orders, reduced margins and loss of market share, any
of which
15
could materially adversely affect the Company. There can be no assurance that
the Company will be able to compete successfully against current and future
competitors or that the competitive pressures faced by the Company will not
materially adversely affect its business, operating results and financial
condition.
RELIANCE ON INSTALLED BASE
In connection with the acquisition of certain software and related
technology from Novell in April 1994, the Company entered into a license
agreement permitting, among other things, the then-current version of Btrieve to
be reproduced and distributed on a royalty-free basis as part of or together
with current and future versions of any Novell products, including Novell's
NetWare operating system ("NetWare"). The Company derives significant revenues
from upgrade sales into the NetWare installed base and sales of the Company's
software operating on NetWare represented approximately 56% of the Company's
revenues in the three months ended September 30, 1997. As a result, sales of the
Company's products have been and will continue to be influenced by the market
acceptance of NetWare. NetWare faces substantial competition from other
operating systems, including Microsoft's Windows NT, which the Company believes
has a large and growing share of the worldwide market for client/server
operating systems. If sales of NetWare decrease, Novell discontinues NetWare or
discontinues bundling Btrieve with NetWare or if ISVs, VARs or their end users
migrate to competing client/server operating system platforms, and the Company
is not able to substantially increase sales of its products that run on
competing client/server operating systems, the Company's business, operating
results and financial condition would be materially adversely affected. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations."
PRODUCT CONCENTRATION
Substantially all of the Company's revenues to date have been attributable
to the sale and license of its Btrieve and Scalable SQL products, and these
products are currently expected to account for substantially all of the
Company's revenues for the foreseeable future. The Company's future operating
results are dependent upon continued market acceptance of its Btrieve and
Scalable SQL products and enhancements to these products. Consequently, a
decline in the demand for, or market acceptance of, the Company's Btrieve and
Scalable SQL products as a result of competition, technological change or other
factors, would have a material adverse effect on the Company's business,
operating results and financial condition.
DEPENDENCE ON CONTINUED GROWTH OF THE MARKET FOR CLIENT/SERVER APPLICATIONS AND
EMBEDDED DATABASES
Although demand for client/server applications and embedded databases has
grown in recent years, this market is still emerging and there can be no
assurance that it will continue to grow or that, even if the market does grow,
organizations will continue to adopt the Company's products. The Company has
spent, and intends to continue to spend, considerable resources educating
potential customers about the Company's embedded database products and the
packaged client/server applications market generally. However, there can be no
assurance that
16
such expenditures will enable the Company's products to achieve any additional
degree of market acceptance. The rate at which organizations have adopted the
Company's products has varied significantly by market and by product within each
market, and the Company expects to continue to experience such variations with
respect to its target markets and products in the future. There can be no
assurance that the market for the Company's products will continue to develop or
that the Company's products will be widely accepted. Additionally, there can be
no assurance that the market for client/server and other applications in which
the Company's products are embedded will continue to grow. If the markets for
the Company's products or the applications in which they are embedded fail to
develop, or develop more slowly than the Company currently anticipates, the
Company's business, operating results and financial condition would be
materially adversely affected.
RAPID TECHNOLOGICAL CHANGE AND NEW PRODUCTS
The market for the Company's products is characterized by rapid
technological change, frequent new product introductions and enhancements,
uncertain product life cycles, changes in customer demands and evolving industry
standards. The introduction of products embodying new technologies and the
emergence of new industry standards can render existing products obsolete and
unmarketable. The Company's future success will depend upon its ability to
continue to enhance its current products and to develop and introduce new
products on a timely basis that keep pace with technological developments and
satisfy increasingly sophisticated customer requirements. As a result of the
complexities inherent in client/server computing environments and the
performance demanded by customers for embedded databases, new products and
product enhancements can require long development and testing periods. As a
result, significant delays in the general availability of such new releases or
significant problems in the installation or implementation of such new releases
could have a material adverse effect on the Company's business, operating
results and financial condition. The Company has experienced delays in the past
in the release of new products and new product enhancements. There can be no
assurance that the Company will be successful in developing and marketing, on a
timely and cost effective basis, new products or new product enhancements that
respond to technological change, evolving industry standards or customer
requirements, that the Company will not experience difficulties that could delay
or prevent the successful development, introduction or marketing of these
products or that the Company's new products and product enhancements will
achieve market acceptance.
RISK OF SOFTWARE DEFECTS
Software products as complex as those offered by the Company may contain
errors or defects, particularly when first introduced or when new versions or
enhancements are released. The Company has in the past discovered software
errors in certain of its new products after their introduction. There can be no
assurance that, despite testing by the Company, defects and errors will not be
found in current versions, new versions or enhancements of its products after
commencement of commercial shipments, resulting in loss of revenues or delay in
market acceptance, which could have a material adverse effect on the Company's
business, operating
17
results and financial condition. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations."
YEAR 2000 COMPLIANCE
Many currently installed computer systems and software products are coded
to accept only two digit entries in the date code field. Beginning in the year
2000, these date code fields will need to accept four digit entries to
distinguish twenty-first century dates from twentieth century dates. As a
result, in less than three years, computer systems and/or software used by many
companies may need to be upgraded to comply with such "Year 2000" requirements.
Significant uncertainty exists in the software industry concerning the potential
effects associated with such compliance. Although the latest versions of Btrieve
and Scalable SQL are designed to be Year 2000 compliant, an earlier release of
Scalable SQL is not Year 2000 compliant. There can be no assurance that the
Company's software products that are designed to be Year 2000 compliant contain
all necessary date code changes.
The Company believes that the purchasing patterns of customers and
potential customers may be affected by Year 2000 issues in a variety of ways.
Many companies are expending significant resources to correct or patch their
current software systems for Year 2000 compliance. These expenditures may result
in reduced funds available to purchase software products such as those offered
by the Company. Potential customers may also choose to defer purchasing Year
2000 compliant products until they believe it is absolutely necessary, thus
resulting in potentially stalled market sales within the industry. Conversely,
Year 2000 issues may cause other companies to accelerate purchases, thereby
causing an increase in short-term demand and a consequent decrease in long-term
demand for software products. Additionally, Year 2000 issues could cause a
significant number of companies, including current Company customers, to
reevaluate their current software needs, and as a result switch to other systems
or suppliers. Any of the foregoing could result in a material adverse effect on
the Company's business, operating results and financial condition.
PRODUCT LIABILITY
Although the Company's license agreements with its customers typically
contain provisions designed to limit the Company's exposure to potential product
liability claims, it is possible that such limitation of liability provisions
may not be effective as a result of existing or future laws or unfavorable
judicial decisions. The Company has not experienced any material product
liability claims to date; however, the sale and support of the Company's
products may entail the risks of such claims, which may be substantial in light
of the use of the Company's products in business-critical applications. A
successful product liability claim brought against the Company could have a
material adverse effect on the Company's business, operating results and
financial condition.
18
MANAGEMENT OF CHANGING BUSINESS
The Company has recently experienced a period of significant revenue growth
and an expansion in the number of its employees, the scope of its operating and
financial systems and geographic area of its operations. In particular, the
Company had a total of 182 employees at September 30, 1997, as compared to 109
at September 30, 1996. This growth has resulted in new and increased
responsibilities for management and has placed a strain upon the Company's
financial and other resources. The Company expects that planned expansion of
international operations will lead to increased financial and administrative
demands, such as increased operational complexity associated with expanded
facilities, administrative burdens associated with managing an increasing number
of relationships with foreign partners and expanded treasury functions to manage
foreign currency risks. The Company's future operating results will also depend
on its ability to expand its sales and marketing organizations, further develop
its sales channels to penetrate different and broader markets and expand its
support organization to accommodate growth in the Company's installed base. The
failure of the Company to manage its expansion effectively could have a material
adverse effect on the Company's business, operating results and financial
condition. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations."
RISKS ASSOCIATED WITH INTERNATIONAL SALES AND OPERATIONS
The Company anticipates that for the foreseeable future a significant
portion of its revenues will be derived from sources outside North America and
the Company intends to continue expanding its sales and support operations
internationally. In order to successfully expand international sales, the
Company must establish additional foreign operations, expand its international
sales channel management and support organizations, hire additional personnel,
customize its products for local markets, recruit additional international
resellers and increase the productivity of existing international resellers. To
the extent that the Company is unable to do so in a timely and cost-effective
manner, the Company's sales growth internationally, if any, will be limited, and
the Company's business, operating results and financial condition could be
materially adversely affected. Even if the Company is able to successfully
expand its international operations there can be no assurance that the Company
will be able to maintain or increase international market demand for its
products.
The Company's international operations are generally subject to a number of
risks, including costs of customizing products for foreign countries,
protectionist laws and business practices favoring local competition, dependence
on local vendors, compliance with multiple, conflicting and changing government
laws and regulations, longer sales cycles, greater difficulty or delay in
accounts receivable collection, import and export restrictions and tariffs,
difficulties in staffing and managing foreign operations, foreign currency
exchange rate fluctuations and the associated effects on product demand,
multiple and conflicting tax laws and regulations and political and economic
instability. To date, a majority of the Company's revenues and costs have been
denominated in U.S. dollars. However, the Company believes that in the future,
an increasing portion of the Company's revenues and costs will be denominated in
foreign
19
currencies. Although the Company may from time to time undertake foreign
exchange hedging transactions to reduce its foreign currency transaction
exposure, the Company does not currently attempt to eliminate all foreign
currency transaction exposure. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations."
DEPENDENCE ON KEY PERSONNEL
The Company's success depends to a significant extent upon the efforts of
Ron R. Harris, the Company's President and Chief Executive Officer, and other
key management, sales and marketing, technical support and research and
development personnel, none of whom are bound by an employment contract. The
loss of key management or technical personnel could adversely affect the
Company. The Company believes that its future success will depend in large part
upon its continuing ability to attract and retain highly skilled managerial,
sales and marketing, technical support and research and development personnel.
Like other software companies, the Company faces intense competition for such
personnel, and the Company has at times experienced and continues to experience
difficulty in recruiting qualified personnel. There can be no assurance that the
Company will be successful in attracting, assimilating and retaining additional
qualified personnel in the future. The loss of the services of one or more of
the Company's key individuals, or the failure to attract and retain additional
qualified personnel, could have a material adverse effect on the Company's
business, operating results and financial condition.
LIMITED PROTECTION OF PROPRIETARY TECHNOLOGY; RISKS OF INFRINGEMENT; USE OF
LICENSED TECHNOLOGY
The Company relies primarily on a combination of copyright, trademark and
trade secret laws, confidentiality procedures and contractual provisions to
protect its proprietary rights. The Company licenses its database software
products primarily under "shrink wrap" licenses (i.e., licenses included as part
of the product packaging). Shrink wrap licenses are not negotiated with or
signed by individual licensees, and purport to take effect upon the opening of
the product package. However, the Company believes that such measures afford
only limited protection. There can be no assurance that others will not develop
technologies that are similar or superior to the Company's technology or design
around the copyrights and trade secrets owned by the Company. Despite the
Company's efforts to protect its proprietary rights, unauthorized parties may
attempt to copy aspects of the Company's products or to obtain and use
information that the Company regards as proprietary. Policing unauthorized use
of the Company's products is difficult, and although the Company is unable to
determine the extent to which piracy of its software products exists, software
piracy can be expected to be a persistent problem. Embedded software products,
like those offered by the Company, can be especially susceptible to software
piracy. In addition, the laws of some foreign countries do not protect the
Company's proprietary rights as fully as do the laws of the U.S.
The Company is not aware that it is infringing any proprietary rights of
third parties. There can be no assurance, however, that third parties will not
claim infringement by the Company of their intellectual property rights. The
Company expects that software product
20
developers increasingly will be subject to infringement claims as the number of
products and competitors in the Company's industry segment grows and the
functionality of products in different industry segments overlaps. Any such
claims, with or without merit, could be time consuming to defend, result in
costly litigation, divert management's attention and resources, cause product
shipment delays or require the Company to enter into royalty or licensing
agreements. Such royalty or licensing agreements, if required, may not be
available on terms acceptable to the Company, if at all. In the event of a
successful claim of product infringement against the Company and failure or
inability of the Company to either license the infringed or similar technology
or develop alternative technology on a timely basis, the Company's business,
operating results and financial condition could be materially adversely
affected.
The Company relies upon certain software that it licenses from third
parties, including software that is integrated with the Company's internally
developed software and used in its products to perform key functions. There can
be no assurance that these third-party software licenses will continue to be
available to the Company on commercially reasonable terms. The loss of or
inability to maintain any such software licenses could result in shipment delays
or reductions until equivalent software could be developed, identified, licensed
and integrated which could materially adversely affect the Company's business,
operating results and financial condition.
VOLATILITY OF STOCK PRICE
The market price of the Common Stock is highly volatile and may be
significantly affected by factors such as actual or anticipated fluctuations in
the Company's revenues and operating results, announcements of technological
innovations, new or enhanced products by the Company or its competitors,
developments with respect to copyrights or proprietary rights, conditions and
trends in the software and other technology industries, adoption of new
accounting standards affecting the software industry, changes in financial
estimates by securities analysts, general market conditions and other factors.
In addition, the stock market has from time to time experienced significant
price and volume fluctuations that have particularly affected the market prices
for the securities of technology companies. In the past, following periods of
volatility in the market price of a particular company's securities, securities
class action litigation has often been brought against the company. There can be
no assurance that such litigation will not occur in the future with respect to
the Company. Such litigation could result in substantial costs and a diversion
of management's attention and resources, which could have a material adverse
effect upon the Company's business, operating results and financial condition.
CONTROL OF COMPANY BY OFFICERS, DIRECTORS AND FIVE PERCENT STOCKHOLDERS
As of November 13, 1997, the executive officers, directors, five percent or
greater stockholders and their affiliates in the aggregate beneficially owned
approximately 63.9% of the Common Stock. As a result, acting together these
stockholders will be able to exercise effective control over all matters
requiring stockholder approval, including the election of directors and approval
of significant corporate transactions. Such concentration of ownership may have
the effect of delaying or preventing a change in control of the Company.
21
ANTI-TAKEOVER EFFECTS OF CERTIFICATE OF INCORPORATION, BYLAWS AND DELAWARE LAW
The Company's Restated Certificate of Incorporation and Bylaws contain
certain provisions that may have the effect of discouraging, delaying or
preventing a change in control of the Company or unsolicited acquisition
proposals that a stockholder might consider favorable, including provisions:
authorizing the issuance of "blank check" preferred stock; establishing advance
notice requirements for stockholder nominations for elections to the Board of
Directors or for proposing matters that can be acted upon at stockholders'
meetings; eliminating the ability of stockholders to act by written consent;
requiring super-majority voting to approve certain amendments to the Restated
Certificate of Incorporation; limiting the persons who may call special meetings
of stockholders; and providing for a Board of Directors with staggered, three-
year terms. In addition, certain provisions of Delaware law and the Company's
1997 Stock Incentive Plan (the "1997 Plan") may also have the effect of
discouraging, delaying or preventing a change in control of the Company or
unsolicited acquisition proposals.
22
PART II. OTHER INFORMATION
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
In connection with the initial public offering of the Company (the "IPO"),
the Company mailed an Action by Written Consent (the "Consent") on or about
August 12, 1997 to its holders of Preferred Stock and on or about August 22,
1997 to its holders of Common Stock.
The Company's stockholders approved the following matters contained in the
Consent:
(a) The filing of a Restated Certificate of Incorporation upon the
closing of the Company's IPO.
(b) The form Indemnification Agreement for the Company's executive
officers and directors.
(c) The Company's 1997 Stock Incentive Plan
(d) The Employee Stock Purchase Plan.
Consents representing all of the shares of the Company's Preferred Stock
(9,713,132 shares) and 836,250 of the 1,447,024 shares of the Company's Common
Stock outstanding as of July 31, 1997 were received by the Company.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits under Item 601 of Regulation S-K
3.1* Restated Certificate of Incorporation
3.2* Bylaws of the Company
4.1* Reference is made to Exhibits 3.1, 3.2 and 4.3
4.2* Specimen Common Stock certificate
4.3* Investors' Rights Agreement dated April 19, 1995, between
the Company and the investors named therein
10.1* Form of Indemnification Agreement
10.2* 1997 Stock Incentive Plan
10.3* Employee Stock Purchase Plan
10.4* First Amended and Restated 1994 Incentive Plan
10.5* Amendment and Restatement of Credit Agreement dated March
31, 1997 between the Company and Texas Commerce Bank
National Association
10.6* Lease Agreement dated October 5, 1994 between the Company
and Colina West Limited
23
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K. (CONTINUED)
10.7* First Amendment to Lease Agreement dated September 8, 1995
between the Company and Colina West Limited
10.8* Sublease Agreement dated December 10, 1996 between the
Company and Reynolds, Loeffler & Dowling, P.C.
10.9* Joint Venture Agreement dated March 26, 1995 between the
Company and Novell Japan, Ltd., AG Tech Corporation and
Empower Ltd.
11.1 Computation of Earnings Per Share
27.1 Financial Data Schedule
*Incorporated by reference to the Company's Registration Statement
on Form S-1 (File No. 333-32199).
(b) Reports on Form 8-K
No Reports on Form 8-K were filed during the quarter ended
September 30, 1997.
24
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Date: November 13, 1997 PERVASIVE SOFTWARE INC.
(Registrant)
By: /s/ James R. Offerdahl
---------------------------
James R. Offerdahl
Vice President of Finance
and Administration and
Chief Financial Officer
(Duly Authorized Officer
and Principal Financial
Officer)
25
EXHIBIT INDEX
EXHIBIT
NUMBER DESCRIPTION
3.1* Restated Certificate of Incorporation
3.2* Bylaws of the Company
4.1* Reference is made to Exhibits 3.1, 3.2 and 4.3
4.2* Specimen Common Stock certificate
4.3* Investors' Rights Agreement dated April 19, 1995,
between the Company and the investors named therein
10.1* Form of Indemnification Agreement
10.2* 1997 Stock Incentive Plan
10.3* Employee Stock Purchase Plan
10.4* First Amended and Restated 1994 Incentive Plan
10.5* Amendment and Restatement of Credit Agreement dated
March 31, 1997 between the Company and Texas Commerce
Bank National Association
10.6* Lease Agreement dated October 5, 1994 between the
Company and Colina West Limited
10.7* First Amendment to Lease Agreement dated September 8,
1995 between the Company and Colina West Limited
10.8* Sublease Agreement dated December 10, 1996 between the
Company and Reynolds, Loeffler & Dowling, P.C.
10.9* Joint Venture Agreement dated March 26, 1995 between
the Company and Novell Japan, Ltd., AG Tech Corporation
and Empower Ltd.
11.1 Computation of Earnings Per Share
27.1 Financial Data Schedule
* Incorporated by reference to the Company's Registration Statement on
Form S-1 (File No. 333-32199).
26