- -------------------------------------------------------------------------------
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
X Quarterly Report Pursuant to Section 13 or 15(d) of the Securities
- --- Exchange Act of 1934 for the quarterly period ended June 30, 1997
OR
- --- Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934 for the transition period from _____ to _____.
Commission File Number: 0-22667
TSI INTERNATIONAL SOFTWARE LTD.
(Exact name of registrant as specified in its charter)
Delaware 06-1132156
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
45 Danbury Road, Wilton, CT 06897
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code:
203-761-8600
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes No X
------- -------
As of July 31, 1997, Registrant had outstanding 9,056,542 shares of Common
Stock, $.01 par value.
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TSI INTERNATIONAL SOFTWARE LTD.
TABLE OF CONTENTS
PAGE
----
ITEM 1 FINANCIAL INFORMATION (UNAUDITED)
Financial Statements
Balance Sheets as of and June 30, 1997 and
December 31, 1996...................................................................... 3
Statements of Income for the Three Months
and Six Months Ended
June 30, 1997 and 1996................................................................. 4
Condensed Statements of Cash Flows for the Six Months
Ended June 30, 1997 and 1996........................................................... 5
Notes to Financial Statements............................................................. 6
ITEM 2. Management's Discussion and
Analysis of Financial Condition and Results of Operations................................ 8
PART II OTHER INFORMATION
ITEM 2. SALE OF UNREGISTERED SECURITIES.................................................. 18
ITEM 4. SUBMISSION OF MATTERS TO VOTE OF
SECURITY HOLDERS.......................................................................... 18
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K................................................. 18
SIGNATURES............................................................................................ 19
2
TSI INTERNATIONAL SOFTWARE LTD.
BALANCE SHEETS
JUNE 30, DECEMBER 31,
1997 1996
-------------------- ------------------
(Unaudited)
ASSETS
------
Current assets:
Cash $ 513,100 $ 41,300
Accounts receivable, less allowances of (unaudited)
$350,200 and $319,900 5,428,400 4,380,900
Current portion of investment in licensing
contracts receivable, net of unearned finance
income of (unaudited) $81,200 and
$84,200 701,000 742,000
Prepaid expenses and other current assets 878,900 388,000
----------- ------------
Total current assets 7,521,400 5,552,200
Furniture, fixtures and equipment, net 1,386,300 1,304,400
Investment in licensing contracts receivable, net of
unearned finance income of (unaudited) $42,100, and
$50,100, less current portion 508,700 551,600
Other assets 124,100 113,100
----------- ------------
$ 9,540,500 $ 7,521,300
=========== ============
LIABILITIES AND STOCKHOLDERS' (DEFICIENCY)
------------------------------------------
Current liabilities:
Accounts payable $ 1,067,700 $ 694,800
Accrued expenses 1,291,900 1,486,500
Current portion of deferred maintenance
revenue 3,891,500 4,591,200
----------- ------------
Total current liabilities 6,251,100 6,772,500
Long-term debt (note 3) 3,840,100 2,790,100
Other long-term liabilities 23,400 27,400
Deferred maintenance revenue, less current portion 204,800 225,000
----------- ------------
Total liabilities 10,319,400 9,815,000
----------- ------------
Stockholders' (deficiency) (notes 2 and 3):
Convertible preferred stock ($8,219,000 aggregate
liquidation preference) 9,100 8,600
Common stock (3,888,166 shares authorized,
par value $.01) 30,000 30,000
Additional paid-in capital 8,881,700 7,888,800
Accumulated deficit (9,457,100) (10,036,600)
Cumulative foreign currency translation adjustment (177,600) (119,500)
Treasury stock, at cost (65,000) (65,000)
----------- ------------
Total stockholders' (deficiency) (778,900) (2,293,700)
----------- ------------
$ 9,540,500 $ 7,521,300
=========== ============
See accompanying notes to financial statements.
3
TSI INTERNATIONAL SOFTWARE LTD.
STATEMENTS OF INCOME
(UNAUDITED)
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
------- -------
1997 1996 1997 1996
------------ ----------- ----------- -----------
Revenues:
Software licensing $ 3,174,800 $ 1,878,400 $ 5,905,900 $ 3,660,900
Service, maintenance and other 2,980,000 2,357,900 5,756,800 4,663,900
------------ ----------- ----------- -----------
Total revenues 6,154,800 4,236,300 11,662,700 8,324,800
------------ ----------- ----------- -----------
Cost of revenues:
Software licensing 133,200 88,100 306,700 181,400
Service, maintenance and other 530,300 466,500 1,078,500 897,900
------------ ----------- ----------- -----------
Total cost of revenues: 663,500 554,600 1,385,200 1,079,300
------------ ----------- ----------- -----------
Gross profit 5,491,300 3,681,700 10,277,500 7,245,500
------------ ----------- ----------- -----------
Operating expenses:
Product development 1,056,400 831,000 2,129,800 1,610,300
Selling and marketing 3,088,400 2,001,000 5,672,100 3,894,800
General and administrative 1,008,800 628,000 1,786,000 1,356,300
------------ ----------- ----------- -----------
Total operating expenses 5,153,600 3,460,000 9,587,900 6,861,400
------------ ----------- ----------- -----------
Operating income 337,700 221,700 689,600 384,100
Borrowing expenses (90,600) (69,700) (153,700) (148,200)
Interest income 29,700 34,400 60,200 74,600
------------ ----------- ----------- -----------
Income before income taxes 276,800 186,400 596,100 310,500
Provision for income taxes 10,000 - 16,600 3,000
------------ ----------- ----------- -----------
Net income $ 266,800 $ 186,400 $ 579,500 $ 307,500
============ ========== =========== ===========
Net income per share $0.04 $0.03 $0.09 $0.05
============ ========== =========== ===========
Weighted average number of common
and common equivalent shares
outstanding 6,561,247 5,880,714 6,510,368 5,804,559
============ ========== =========== ===========
See accompanying notes to financial statements.
4
TSI INTERNATIONAL SOFTWARE LTD.
CONDENSED STATEMENTS OF CASH FLOWS
REPRESENTING INCREASES (DECREASES) IN CASH
(UNAUDITED)
SIX MONTHS
ENDED JUNE 30,
---------------------------------------------------
1997 1996
------------------- ---------------------
Cash flows from operating activities:
Net cash provided (used) by operating activities $ (1,216,300) $ 440,900
Cash used by investing activities-Purchase of furniture
fixtures and equipment (337,800) (238,100)
Cash flows from financing activities:
Net borrowings (repayments) under revolving line
of credit 1,050,000 (300,000)
Payments under capital leases (21,400) (37,200)
Proceeds from sale of preferred stock (note 4) 993,400 -
------------- ------------
Net cash (used) provided by financing activities 2,022,000 (337,200)
Effect of exchange rate changes on cash 3,900 (1,700)
------------- ------------
Net change in cash 471,800 (136,100)
Cash at beginning of period 41,300 142,500
------------- ------------
Cash at end of period $ 513,100 $ 6,400
============= ============
Supplemental information:
Cash paid for:
Interest $ 145,800 $ 137,400
Income taxes 20,000 20,000
Non-cash investing activity --
Acquisition of equipment under capital leases $ 30,000 -
============= ============
See accompanying notes to financial statements.
5
TSI INTERNATIONAL SOFTWARE LTD.
NOTES TO FINANCIAL STATEMENTS
(Unaudited)
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The Company
TSI International Software Ltd. (the "Company") develops, markets,
licenses and supports computer software and related services which allow
organizations to integrate their business applications within the enterprise and
with outside business partners. The Company's customers are located primarily
throughout the U.S. and Western Europe and represent a broad range of
industries.
(a) Unaudited Interim Financial Statements
The interim financial statements contained herein are unaudited, but, in
the opinion of management, include all adjustments (consisting of normal
recurring adjustments) necessary for a fair presentation of the financial
position, results of operations and cash flows for the periods presented.
Results of operations for the periods presented herein are not necessarily
indicative of results of operations for any subsequent quarter or the entire
fiscal year ending December 31, 1997.
Reference should be made to the Registration Statement on Form S-1 (No.
333-27293) filed in connection with the Company's initial public offering
("IPO") which include its audited financial statements for the year ended
December 31, 1996.
Certain information and footnote disclosures normally included in financial
statements prepared in accordance with generally accepted accounting principles
have been condensed or omitted pursuant to the Securities and Exchange
Commission's rules and regulations.
(b) Revenue Recognition
Software licensing revenues are recognized upon shipment of the product if
there are no significant post-delivery obligations, or at a later date once such
obligations are satisfied. Maintenance contract revenue is recognized ratably
over the term of the contracts, which are generally for one year. The
unrecognized portion of maintenance revenue is classified as deferred
maintenance revenue in the accompanying balance sheets. Consulting and training
revenues are recognized as services are performed.
The Company licenses its KEY/MASTER product on a term-use basis for 15 to
60 month periods. The contracts provide for maintenance and generally do not
have renewal or purchase options. At contract inception, the present value of
the payments to be received under the contract is apportioned between software
licensing revenue and maintenance revenue and recognized as described above.
The present value of the payments to be received are recorded as the investment
in licensing contracts receivable. License interest revenue is recognized over
the term of the contract at a constant rate of return.
(c) Net Income Per Share
Net income per share is usually calculated using the weighted average
number of common and common equivalent shares outstanding during each period,
after retroactive adjustment for stock splits. In addition, the Securities and
Exchange Commission requires that shares issued or options and warrants granted
within one year of an IPO at prices below the IPO price be shown as outstanding
(using the Treasury Stock method) for all periods presented. Further, in
connection with the IPO, all outstanding preferred stock will be converted into
common stock on the basis described in note 6 of the financial statements
included in the Registration Statement on Form S-1, and accordingly are shown
as outstanding for all periods presented. Following are the components of
common stock used to calculate net income per share:
6
TSI INTERNATIONAL SOFTWARE LTD.
NOTES TO FINANCIAL STATEMENTS
(Unaudited)
Three Months Ended Six Months Ended
June 30, June 30,
-------------------------------- --------------------------------
1997 1996 1997 1996
--------- -------- ---------- ---------
Weighted average common shares
outstanding 2,886,822 2,886,822 2,886,822 2,886,822
Increment for shares issued within
one year of the IPO 232,167 232,167 232,167 232,167
Common shares expected to be issued
for conversion of preferred stock 2,609,415 2,609,415 2,609,415 2,609,415
Dilutive effect of stock options 832,843 152,310 781,964 76,155
--------- --------- --------- ---------
Weighted average common and common
equivalent shares outstanding 6,561,247 5,880,714 6,510,368 5,804,559
========= ========= ========= =========
(d) Use of Estimates
The preparation of financial statements in accordance with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements, and the reported amounts of revenue and expenses during the
reporting period. Actual results could differ from those estimates.
(2) SALE OF PREFERRED STOCK
On May 15, 1997, the Company sold 50,000 shares of Series E convertible
preferred stock at $20 per share to Mitsui & Co., Ltd. and two foreign
investors. At the closing of the IPO, these shares were converted into an
aggregate of 150,000 shares of common stock.
7
TSI INTERNATIONAL SOFTWARE LTD.
NOTES TO FINANCIAL STATEMENTS
(Unaudited)
(3) SUBSEQUENT EVENTS
The Company completed its initial public offering of common stock, $.01 par
value, on July 2, 1997. Pursuant to the IPO, 4,000,000 shares were sold to the
public, of which 3,000,000 were previously unissued shares sold by the Company
and 1,000,000 were sold by certain selling stockholders. The net proceeds of
$24.4 million (net of expenses of $700,000) were used to repay $3.4 million of
indebtedness under the Company's bank credit line. The remaining portion of the
proceeds has been added to the Company's working capital and will be used for
general corporate purposes. Pending such use, the funds are invested in short-
term, interest-bearing, investment-grade obligations. In July 1997, the
underwriters exercised their overallotment option and purchased an additional
600,000 shares of Common Stock from the selling stockholders.
On May 8, 1997, the Board of Directors approved, at the closing of the IPO:
(i) an increase in the number of authorized shares of common stock and preferred
stock to 20,000,000 and 5,000,000 shares, respectively; and (ii) a three-for-one
common stock split. The accompanying financial statements have been
retroactively adjusted to reflect this common stock split.
Pursuant to the Company's Certificate of Incorporation, upon closing of the
IPO all outstanding shares of preferred stock were converted into an aggregate
of 2,759,715 shares of common stock.
Upon completion of the IPO, certain outstanding warrants were exercised
into an aggregate of 296,827 shares of Common Stock, on a net exercise basis.
8
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
FORWARD-LOOKING INFORMATION
This report contains or may contain certain forward-looking statements and
information that are based on beliefs of, and information currently available
to, the Company's management as well as estimates and assumptions made by the
Company's management. When used in this report, words such as "anticipate,"
"believe," "estimate," "expect," "future," "intend," "plan," and similar
expressions as they relate to the Company or the Company's management, identify
forward-looking statements. The Company's actual results may differ
significantly from the results discussed in the forward-looking statements.
Factors that might cause such a difference include, but are not limited to, (i)
the effects of rapid technological change and the need to make frequent product
transitions, (ii) the potential for software defects, (iii) the impact of
competitive products and pricing, (iv) less than anticipated growth in the
market for the SAP R/3 system and related services, (v) uncertainties in
attracting and retaining needed management, marketing, sales, professional
services and product development personnel, (vi) the Company's ability to manage
growth, (vii) the success of the Company's Mercator product line, (viii) the
Company's ability to develop additional distribution channels, and (ix) those
discussed in "Factors That May Affect Future Results" contained herein and in
the Company's other filings with the Securities and Exchange Commission,
including but not limited to those discussed under the heading "Risk Factors" in
the Company's Registration Statement on Form S-1 (File No. 333-27293). Should
one or more of these risks or uncertainties materialize, or should the
underlying estimates or assumptions prove incorrect, actual results or outcomes
may vary significantly from those anticipated, believed, estimated, expected,
intended or planned.
Overview
The Company was incorporated in Connecticut in 1985 and reincorporated in
Delaware in September 1993. In June 1991, the Company began developing its
Mercator product and in December 1993 released Version 1.0 of Mercator. The
Company released the latest version of the Mercator in May 1996 and released its
Mercator for R/3 product in June 1996.
Historically, the Company had derived a majority of its revenues from
products other than Mercator, primarily its Trading Partner family of products
and each KEY/MASTER product. However, revenue related to Mercator has grown
significantly in each of the last three years and has increased as a percentage
of total revenues. The Company believes that future growth in revenues, if any,
will be mainly attributable to its Mercator product line. In view of the
relatively recent introduction of Mercator, the Company believes it cannot
accurately predict the amount of revenues that will be attributable to such
products or the life of such products. To the extent the Company's Mercator
products do not achieve market acceptance, the Company's business, operating
results and financial condition will be materially and adversely affected.
The Company's revenues are derived principally from two sources: (i)
license fees for the use of the Company's software products and (ii) service
fees for maintenance, consulting services and training related to the Company's
software products. The Company generally recognizes revenue from software
license fees upon shipment, unless the Company has significant post-delivery
obligations, in which case revenues are recognized when such obligations are
satisfied. The Company's KEY/MASTER product is licensed under term-use contracts
rather than for a one-time license fee, and the Company recognizes revenue from
such arrangements on a present=value basis at the inception of the contract.
Revenues from consulting and training are recognized as services are performed,
and maintenance revenues are recognized ratably over the maintenance period,
typically one year. The Company does not actively market new contracts for
KEY/MASTER but continues to receive KEY/MASTER revenues, principally maintenance
revenue. As a result, KEY/MASTER accounts for a larger proportion of maintenance
revenues than license revenues and increases the percentage of the Company's
total revenues represented by services, maintenance and other revenue. The
Company intends to increase the scope of its service offerings with the goal of
increasing license revenues from sales of its products. The Company does not
believe that the mix of software licensing and service, maintenance and other
revenues will change substantially in the future.
THREE MONTHS ENDED JUNE 30, 1997 COMPARED WITH THREE MONTHS ENDED JUNE 30, 1996
Revenues:
Total Revenues. The Company's total revenues increased 45% from $4.2
million in the second quarter of 1996 to $6.2 million in the comparable period
of 1997.
Software Licensing. Software licensing revenues increased 69% from $1.9
million in the second quarter of 1996 to $3.2 million in the comparable period
of 1997, primarily as a result of an increase in Mercator license revenues and,
to a lesser extent, an increase in Trading Partner PC revenues from an EDI
enablement program for a large computer company.
Service, Maintenance and Other. Service, maintenance and other revenues
increased 26% from $2.4 million in the second quarter of 1996 to $3.0 million in
the comparable period of 1997, mainly as a result of higher professional
service fees associated with sales of Mercator and, to a lesser extent, an
increase in Mercator maintenance revenue, partially offset by a decrease in
KEY/MASTER maintenance revenues. Maintenance revenues attributable to
KEY/MASTER were $1.2 million and $1.1 million for the second quarter of 1996 and
1997, respectively.
Cost of Revenues. Cost of software licensing revenues consists primarily
of media, manuals, distribution costs and the cost of third party software that
the Company resells. Cost of service, maintenance and other revenues consists
primarily of personnel-related costs in providing maintenance, technical
support and professional services (consulting and training) to customers. Gross
margin on software licensing revenues is higher than gross margin on service,
maintenance and other revenues, reflecting the low materials, packaging and
other costs of software products compared with the relatively high personnel
costs associated with providing maintenance, technical support, consulting and
training services. Cost of service, maintenance and other revenues also varies
based upon the mix of maintenance, technical support, consulting and training
services.
9
Cost of Software Licensing. Cost of software licensing revenues increased
51% from $88,100 in the second quarter of 1996 to $133,200 in the comparable
period of 1997, primarily due to increased sales of software licenses. Software
licensing gross margin remained relatively constant at 95% and 96% in the
second quarters of 1996 and 1997, respectively.
Cost of Service, Maintenance and Other. Cost of service, maintenance and
other revenues increased 14% from $467,000 in the second quarter of 1996 to
$530,000 in the comparable period of 1997, primarily due to increased
professional services rendered, particularly Mercator-related services. Service,
maintenance and other gross margin was 80% and 82% for the second quarter of
1996 and 1997, respectively.
Operating Expenses
Product Development. Product development expenses include expenses
associated with the development of new products and enhancements to existing
products and consist primarily of salaries, recruiting and other personnel-
related expenses, depreciation of development equipment, supplies, travel and
allocated facilities and communications costs. Product development costs
increased 27% from $831,000 in the second quarter of 1996 to $1.1 million in the
second quarter of 1997 due to increased product development activities related
to the Mercator product line. Product development expenses as a percentage of
total revenue decreased from 20% in the second quarter of 1996 to 17% in the
second quarter of 1997 due to the large increase in revenues, as compared to a
smaller increase in product development costs. The Company believes that a
significant level of research an development expenditures is required to remain
competitive. Accordingly, the Company anticipates that it will continue to
devote substantial resources to research and development. The Company expects
that the dollar amount of research and development expenses will increase
through at least the remainder of 1997. To date, all research and development
expenditures have been expensed as incurred.
Selling and Marketing. Selling and marketing expenses consist of sales and
marketing personnel costs, including sales commissions, recruiting, travel,
advertising, public relations, seminars, trade shows, product descriptive
literature and allocated facilities and communications costs. Selling and
marketing costs increased 54% from $2.0 million in the second quarter of 1996 to
$3.1 million in the second quarter of 1997, primarily due to the increased
number of sales and marketing personnel and increased expenditures for
Mercator-related marketing programs. Selling and marketing expenses as a
percentage of total revenues rose from 47% in the second quarter of 1996 to 50%
in the second quarter of 1997 due to the increase in sales and marketing
personnel and higher Mercator-related marketing costs. The Company expects to
continue hiring additional sales and marketing personnel and to increase
promotional expenses through at least the remainder of 1997 to address Mercator
marketing opportunities and anticipates that sales and marketing expenses will
increase in absolute dollar amount.
General and Administrative. General and administrative expenses consist
primarily of salaries, recruiting and other personnel-related expenses for the
Company's administrative, executive and finance personnel as well as outside
legal and audit costs. General and administrative expenses increased 61% from
$628,000 in the second quarter of 1996 to $1.0 million in the second quarter of
1997, primarily due to increased administrative costs to support the Company's
growth. General and administrative expenses as a percentage of total revenues
increased slightly from 15% in the second quarter of 1996 to 16% in the second
quarter of 1997. The Company believes that the dollar amount of its general and
administrative expenses will increase as the Company expands its administrative
staff and incurs additional costs (including directors' and officers' liability
insurance, investor relations programs and increased professional fees) related
to being a public company.
Other Income (Expense), Net
Interest income represents interest earned on the Company's term-use
contracts and was negligible for the quarters ended June 30, 1996 and 1997.
Borrowing expenses were $70,000 in the second quarter of 1996 as compared to
$90,600 in the second quarter of 1997 due to higher borrowing levels incurred in
1997 to support the Company's growth.
Provision for Income Taxes
Due to the utilization of net operating loss carryforwards, the provisions
for income taxes for the quarters ended June 30, 1996 and 1997 were not
significant.
10
SIX MONTHS ENDED JUNE 30, 1997 COMPARED WITH SIX MONTHS ENDED JUNE 30, 1996
Revenues:
Total Revenues. The Company's total revenues increased 40% from $8.3
million in the first six months of 1996 to $11.7 million in the comparable
period of 1997.
Software Licensing. Software licensing revenues increased 61% from $3.7
million in the first six months of 1996 to $5.9 million in the comparable period
of 1997, primarily as a result of an increase in Mercator license revenues and
an increase in Trading Partner PC revenues from an EDI enablement program for
a large computer company.
Service, Maintenance and Other. Service, maintenance and other revenues
increased 24% from $4.7 million in the first six months of 1996 to $5.8 million
in the comparable period of 1997, mainly as a result of higher professional
services associated with sales of Mercator and, to a lesser extent, an increase
in Mercator maintenance revenue, partially offset by a decrease in KEY/MASTER
maintenance revenues. Maintenance revenues attributable to KEY/MASTER were $2.4
million and $2.2 million for the first six months of 1996 and 1997,
respectively.
Cost of Revenues
Cost of Software Licensing. Cost of software licensing revenues increased
70% from $181,000 in the first six months of 1996 to $307,000 in the comparable
period of 1997, primarily due to increased sales of software licenses and resale
of third party software. Software licensing gross margins were 95% each in the
first six months of 1996 and 1997.
Cost of Service, Maintenance and Other. Cost of service, maintenance and
other revenues increased 20% from $898,000 in the first six months of 1996 to
$1.1 million in the comparable period of 1997, primarily due to increased
professional services rendered, particularly Mercator-related services. Service,
maintenance and other gross margins were 81% for the first six months of
1996 and 1997.
Operating Expenses
Product Development. Product development costs increased 32% from $1.6
million in the first six months of 1996 to $2.1 million in the comparable period
of 1997 due to increased product development related to the Mercator product
line. Product development expenses as a percentage of total revenue decreased
from 19% in the first six months of 1996 to 18% in the first six months of 1997
due to the large increase in revenues, as compared to a smaller increase in
product development costs.
Selling and Marketing. Selling and marketing costs increased 46% from $3.9
million in the first six months of 1996 to $5.7 million in the first six months
of 1997, primarily due to the increased number of sales and marketing personnel.
Selling and marketing expenses as a percentage of total revenues rose from 47%
in the second quarter of 1996 to 49% in the second quarter of 1997 due to the
increase in sales and marketing personnel and higher Mercator-related marketing
costs.
General and Administrative. General and administrative expenses increased
32% from $1.4 million in the first six months of 1996 to 1.8 million in the
comparable period of 1997, primarily due to increased administrative costs to
support the Company's growth. General and administrative expenses as a
percentage of total revenues decreased from 16% in the first six months of 1996
to 15% in the comparable period of 1997.
11
Other Income (Expense), Net
Interest income represents interest earned on the Company's term-use
contracts and was $60,000 for the first six months of 1997 compared to $75,000
for the first six months of 1996 due to lower amounts of term contracts.
Borrowing expenses were $148,000 in the first six months of 1996 as compared to
$154,000 in the comparable period of 1997.
Provision For Income Taxes
Due to the utilization of net operating loss carryforwards, the provisions
for income taxes for the six-month periods ended June 30, 1996 and 1997 were not
significant.
LIQUIDITY AND CAPITAL RESOURCES
The Company had funded its operations to date primarily through private
sales of equity securities and its $4.0 million bank line of credit and cash
generated through operations. On May 15, 1997, the Company raised an additional
$1.0 million through the sale of Preferred Stock to Mitsui & Co., Ltd. and two
other foreign investors. Operating activities provided (used) net cash of
$441,000 and $(1.2 million) during the first six months of 1996 and 1997,
respectively.
Investing activities (used) net cash of $(238,000) and $(338,000) during
the first six months of 1996 and 1997, respectively, primarily to fund capital
expenditures needed to support expansion of the Company's business. Financing
activities (used) generated net cash of $(337,000) and $2.0 million, for the
first six months of 1996 and 1997, respectively, from (repayments) borrowings of
debt and the sale of Preferred Stock in 1997 as described above. Since December
31, 1996, the Company experienced an increase in accounts receivable from $4.4
million at December 31, 1996 to $5.4 million at June 30, 1997. The Company
experienced an increase in days sales outstanding from December 31, 1996 to June
30, 1997 from approximately 70 days to approximately 79 days. This ratio is down
from the March 31, 1997 level of approximately 86 days. Through June 1997,
additional borrowings were required to fund the higher levels of receivables.
Capital expenditures have been, and future capital expenditures are
anticipated to be, primarily for facilities, equipment and computer software to
support expansion of the Company's operations. As of June 30, 1997, the Company
had no material commitments for capital expenditures. The Company's bank line
of credit generally limits capital expenditures to $400,000 per quarter.
At June 30, 1997, the Company had $513,000 in cash due to large collections
of accounts receivable at the end of June 1997. Because these funds were
uncleared funds, the loan balance could not be repaid until early July, 1997.
Prior to the closing of the IPO, the Company repaid $450,000 of its $3.8 million
in borrowings outstanding at June 30, 1997 under its bank line of credit.
On July 2, 1997, the Company completed its initial public offering of
4,000,000 shares of Common Stock. The net proceeds of the offering of $24.4
million (net of expenses of $700,000) were used to repay $3.4 million of
indebtedness under the Company's bank credit line and the remainder of the
proceeds was added to the Company's working capital.
The Company's bank line of credit remained in effect after the IPO and the
maximum amount that can be borrowed under the bank line of credit is $4.0
million, with borrowings limited to a percentage of eligible accounts receivable
and term contracts, plus the amount of the bank line of credit guaranteed by the
Connecticut Development Authority ($600,000 at June 30, 1997). The bank line of
credit expires in November 1998. Borrowings may take the form of prime rate
loans (which bear interest at the bank's prime rate plus 1.0%) or LIBOR rate
loans (which bear interest at the applicable LIBOR rate plus 3.0%). The entire
outstanding loan balance at June 30, 1997 consisted of prime rate loans (bearing
interest at 9.5%). The Company's obligation under this credit line are secured
by substantially all of the Company's assets. The bank line of credit contains
certain financial covenants and also prohibits cash dividends, mergers and
acquisitions. The Company is currently in compliance with these covenants. Upon
the closing of the IPO, the loan balance was repaid in full and accordingly,
there are currently no amounts outstanding under this credit line. As of
June 30, 1997, in addition to its borrowings outstanding under its bank line of
credit, the Company had $68,600 of capital lease obligations.
The Company believes that the proceeds from the IPO, together with its
current cash and cash equivalent balances, its line of credit and net cash
generated by operations, will be sufficient to meet its anticipated cash needs
12
for working capital, capital expenditures and business expansion for at least
the next 12 months. Thereafter, if cash generated by operations is insufficient
to satisfy the Company's operating requirements, the Company may seek additional
debt or equity financing.
FACTORS THAT MAY AFFECT FUTURE RESULTS
Risk of Fluctuations in Operating Results. The Company's quarterly and
annual operating results have varied significantly in the past and are expected
to do so in the future. Accordingly, the Company believes that period to
period comparisons of its results of operations are not necessarily meaningful
and should not be relied upon as indications of future performance. The
Company's revenues and results of operations are difficult to forecast and could
be adversely affected by many factors, including, among others: the size, timing
and terms of individual license transactions; the sales cycle for the Company's
products; demand for and market acceptance of the Company's products and related
services (particularly its Mercator products); the number of businesses
implementing the SAP R/3 system as well as the number of such businesses
requiring third party business application integration software and related
services; the Company's ability to expand, and market acceptance of, its
professional services business; the timing of expenditures by the Company in
anticipation of product releases or increased revenue; the timing of product
enhancements and product introductions by the Company and its competitors;
market acceptance of enhanced versions of the Company's existing products and of
new products; changes in pricing policies of the Company and its competitors;
variations in the mix of products and services sold by the Company; the mix of
channels through which products and services are sold; the success of the
Company in penetrating international markets; the buying patterns and budgeting
cycles of customers; personnel changes, the Company's ability to attract and
retain qualified sales, professional services and research and development
personnel and the rate at which such personnel become productive; and general
economic conditions. In particular, the ability of the Company to achieve growth
in the future will depend on its success in adding a substantial number of
sales, professional services and research and development personnel. Competition
for such personnel is intense and there can be no assurance the Company will be
able to attract and retain these personnel.
Licensing of the Company's software products historically has accounted for
a substantial portion of the Company's revenues, and the Company anticipates
that this trend will continue for the foreseeable future. Software license
revenues are difficult to forecast for a number of reasons. The Company
typically does not have a material backlog of unfilled orders, and revenues in
any quarter are substantially dependent on orders booked and shipped in that
quarter. The length of the sales cycles for the Company's products can vary
significantly from customer to customer and from product to product and, in
certain instances, can be as long as nine months or more. Furthermore, the terms
and conditions of individual license transactions, including prices and
discounts, may be negotiated based on volumes and commitments, and may vary
considerably from customer to customer. In addition, the Company has generally
recognized a substantial portion of its quarterly software licensing revenues in
the last month of each quarter. Accordingly, the cancellation or deferral of
even a small number of purchases of the Company's products has in the past and
could in the future have a material adverse effect on the Company's business,
operating results and financial condition.
The Company's future revenues will also be difficult to predict and the
Company has, in the past, failed to achieve its revenue expectations for certain
periods. The Company's expense levels are based, in part, on its expectation of
future revenues, and expense levels are, to a large extent, fixed in the short
term. The Company may be unable to adjust spending in a timely manner to
compensate for any unexpected revenue shortfall. If revenue levels are below
expectations for any reason, operating results are likely to be materially and
adversely affected. Net income may be disproportionately affected by a reduction
in revenue because a large portion of the Company's expenses is related to
headcount that cannot be easily reduced without adversely affecting the
Company's business. In addition, the Company currently intends to increase its
operating expenses by expanding its research and product development staff,
particularly research and development personnel to be devoted to the Company's
Mercator product line, increasing its professional services and sales and
marketing operations, expanding distribution channels and hiring personnel in
other operating areas. The Company expects to experience a significant time lag
between the date professional services, sales and technical personnel are hired
and the date such personnel become fully productive. The timing of such
expansion and the rate at which new technical, professional services and sales
personnel become productive as well as the timing of the introduction and
success of new distribution channels
13
could cause material fluctuations in quarterly results of operations.
Furthermore, to the extent such increased operating expenses precede or are not
subsequently followed by increased revenues, the Company's business, operating
results and financial condition could be materially and adversely affected.
Due to the foregoing factors, it is likely that in some future quarter the
Company's revenue or operating results will not meet the expectations of public
market analysts and investors. In such event, the price of the Company's Common
Stock would likely be materially and adversely affected.
Dependence on Mercator Product Line. The Company introduced its Mercator
products in 1993. In recent years, a significant portion of the Company's
revenue has been attributable to licenses of its Mercator products and related
services, and the Company expects that represent an increasing portion of the
Company's total revenue for the foreseeable future. The development and
marketing of its Mercator product line as required the Company to, among other
things, focus its attention and resources away from some of its traditional
products, market its products to a different customer base and shift a large
portion of its development efforts to the Mercator product line. Accordingly,
the Company's future operating results are highly dependent on the market
acceptance and growth of its Mercator product line and enhancements thereto.
There can be no assurance that market acceptance of the Mercator product line
will increase or remain at current levels or that the Company will be able to
successfully market the Mercator product line and develop extensions and
enhancements to this product line on a long-term basis. In the event the
Company's current or future competitors release new products that provide, or
are perceived as providing, more advanced features, greater functionality,
better performance, better compatibility with other systems or lower prices than
the Mercator product line, demand for the Company's products and services would
likely decline. See "-- Risks Associated with Technological Change, Product
Enhancements and New Product Development" and "-- Competition." A decline in
demand for, or market acceptance of, the Mercator product line 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 SAP R/3 System Implementations. A substantial portion of the
Company's sales of its Mercator products and related services has been
attributable to sales of Mercator for R/3 and related services. The Company
believes that its future revenue growth, if any, will also depend in part upon
continued sales of Mercator for R/3 and related services. The Company has
devoted and must continue to devote substantial resources to identifying
potential customers in the R/3 market, building relationships with strategic
partners and attracting and retaining skilled technical, sales and professional
services personnel with expertise in R/3systems. Personnel with expertise in the
R/3 system are in high demand and as such are typically difficult to hire and
retain. Regardless of the investments the Company makes in pursuing this new
market, there can be no assurance that the Company will be successful in
implementing a sales and marketing strategy appropriate for this market or in
attracting and retaining the necessary skilled personnel.
Demand for and market acceptance of Mercator for R/3 and related services
will be dependent on the continued market acceptance of the SAP R/3 system. As a
result, any factor adversely affecting demand for or use of SAP's R/3 system
could have a material adverse effect on the Company's business, operating
results and financial condition. Implementation of the SAP R/3 system is a
costly and time-consuming process and there can be no assurance that businesses
will choose to purchase such systems. Furthermore, there can be no assurance
that businesses which may implement such systems will wish to commit the
additional resources required to implement Mercator for R/3. In addition, SAP
could in the future introduce business application integration solutions
competitive with Mercator for R/3 and related services. Moreover, any changes in
or new versions of SAP's R/3 system could materially and adversely affect the
Company's business, operating results and financial condition if the Company
were not able to successfully develop or implement any related changes to
Mercator for R/3 in a timely fashion. The Company will also be required to
maintain ALE certification for Mercator for R/3. In order to maintain such
certification, the Company's product must adhere to SAP's technical
specifications which are updated by SAP from time to time, and the Company has
no control over whether and when such specifications will be changed. Any
material change by SAP in such specifications could require the Company to
devote significant development resources to updating this product to comply with
such specifications. In such event, there can be no assurance that the Company
would be able to successfully modify Mercator for R/3 on a timely basis, if at
all, and any failure to do so could materially and adversely affect the
Company's business, operating results and financial condition.
14
Risks Associated with Technological Change, Product Enhancements and New
Product Development. The market for the Company's products and services is
characterized by extremely rapid technological change, frequent new product
introductions and enhancements, evolving industry standards, and rapidly
changing customer requirements. The introduction of products incorporating new
technologies and the emergence of new industry standards could render existing
products obsolete and unmarketable. Accordingly, the life cycles of the
Company's products are difficult to estimate. The Company's future success will
depend in part upon its ability to anticipate changes and enhance its current
products and develop and introduce new products that keep pace with
technological advancements and address the increasingly sophisticated needs of
its customers. The Company's products may be rendered obsolete if the Company
fails to anticipate or react to change. Development of enhancements to existing
products and new products depends, in part, on the timing of releases of new
versions of applications systems by vendors, the introduction of new
applications, systems or computing platforms, the timing of changes in
platforms, the release of new standards or changes to existing standards, and
changing customer requirements, among other factors. There can be no assurance
that the Company will be successful in developing and marketing product
enhancements or new products that respond to technological change, evolving
industry standards and changing customer requirements, that the Company will not
experience difficulties that could delay or prevent the successful development,
introduction and marketing of these products or product enhancements, or that
its product enhancements or new products will adequately meet the requirements
of the marketplace and achieve any significant degree of market acceptance. The
Company has in the past experienced delays in the introduction of product
enhancements and new products and may experience such delays in the future.
Furthermore, as the number of applications, systems and platforms supported by
the Company's products increases, the Company could experience difficulties in
developing on a timely basis product enhancements which address the increased
number of new versions of applications, systems or platforms served by its
existing products. Failure of the Company, for technological or other reasons,
to develop and introduce product enhancements or new products in a timely and
cost-effective manner or to anticipate and respond adequately to changing market
conditions, as well as any significant delay in product development or
introduction, could cause customers to delay or decide against purchases of the
Company's products, which could have a material adverse effect on the Company's
business, operating results and financial condition.
The Company may, in the future, seek to develop and market enhancements to
existing products or new products which are targeted for applications, systems
or platforms which the Company believes will achieve commercial acceptance.
These efforts could require the Company to devote significant development and
sales and marketing personnel as well as other resources to such efforts which
would otherwise be available for other purposes. There can be no assurance that
the Company will be able to successfully identify such applications, systems or
platforms, or that such applications, systems or platforms will achieve
commercial acceptance or that the Company will realize a sufficient return on
its investment. Failure of these targeted applications, systems or platforms to
achieve commercial acceptance or the failure of the Company to achieve a
sufficient return on its investment could have a material adverse effect on the
Company's business, operating results and financial condition.
In addition, the introduction or announcement by the Company, or by one or
more of its current or future competitors, of products embodying new
technologies or features could render the Company's existing products obsolete
or unmarketable. There can be no assurance that the introduction or announcement
of enhanced or new product offerings by the Company or its current or future
competitors will not cause customers to defer or cancel purchases of existing
Company products. Such deferment or cancellation of purchases could have a
material adverse effect on the Company's business, operating results and
financial condition.
Dependence Upon Development of Distribution Channels. An integral part of the
Company's strategy is to expand both its direct sales force and its indirect
sales channels such as Value-Added Resellers ("VARs"), Independent Software
Vendors ("ISVs"), Systems Integrators ("SIs") and distributors. Although VARs,
ISVs, SIs and distributors have not accounted for a substantial percentage of
the Company's total revenues historically, the Company is increasing resources
dedicated to developing and expanding its indirect distribution channels. There
can be no assurance that the Company will be successful in expanding the number
of indirect distribution channels for its products. Furthermore, any new VARs,
ISVs, SIs or distributors may offer competing products, or have no minimum
purchase requirements of the Company's products. There can also be no assurance
that such third parties will provide adequate levels of services and technical
support. The inability of the Company to enter into additional
15
indirect distribution arrangements, the failure of such third parties to perform
under agreements with the Company and to penetrate their markets, or the
inability of the Company to retain and manage VARs, ISVs, SIs and distributors
with the technical and industry expertise required to market the Company's
products successfully could have a material adverse effect on the Company's
business, operating results and financial condition. There can be no assurance
that the Company's planned efforts to expand its use of VARs, ISVs, SIs and
distributors will be successful. To the extent that the Company is successful in
increasing its sales through indirect sales channels, it expects that those
sales will be at lower per unit prices than sales through direct channels, and
revenue to the Company for each such sale will be less than if the Company had
licensed the same product to the customer directly.
Selling through indirect channels may limit the Company's contacts with its
customers. As a result, the Company's ability to accurately forecast sales,
evaluate customer satisfaction and recognize emerging customer requirements may
be hindered. The Company's strategy of marketing its products directly tend-
users and indirectly through VARs, ISVs, SIs and distributors may result in
distribution channel conflicts. The Company's direct sales efforts may compete
with those of its indirect channels and, to the extent different resellers
target the same customers, resellers may also come into conflict with each
other. Although the Company has attempted to manage its distribution channels to
avoid potential conflicts, there can be no assurance that channel conflicts will
not materially and adversely affect its relationships with existing VARs, ISVs,
SIs or distributors or adversely affect its ability to attract new VARs, ISVs,
SIs and distributors.
The Company also plans to expand its direct sales force. The Company's future
success will depend in part upon the ability of the Company to attract,
integrate, train, motivate and retain new sales personnel. There can be no
assurance that the Company's efforts to expand its direct sales force will be
successful or that the cost of such efforts will not exceed the revenue
generated. In addition, the Company expects to experience a significant time lag
between the date sales personnel are hired and the date such personnel become
fully productive. The Company's inability to manage its sales force expansion
effectively could have a material adverse effect on the Company's business,
operating results and financial condition.
Dependence on Key Personnel; Need to Attract and Retain Sales, Professional
Services and Technical Personnel. The Company's future success depends in large
part on the continued service of its key technical, professional services and
sales personnel, as well as senior management. The loss of the services of any
of one or more of the Company's key employees could have a material adverse
effect on the Company's business, operating results and financial condition. All
employees are employed at-will and the Company has no fixed-term employment
agreements with its employees. The Company's future success also depends on its
ability to attract, train and retain highly qualified sales, technical,
professional services and managerial personnel, particularly sales, professional
services and technical personnel with expertise in the SAP R/3 system. An
increase in the Company's sales staff is required to expand both the Company's
direct and indirect sales activities and to achieve revenue growth. Competition
for such personnel is intense, particularly for personnel with expertise in the
SAP R/3system, and there can be no assurance that the Company can attract,
assimilate or retain such personnel. The Company has at times experienced and
continues to experience difficulty in recruiting qualified technical and sales
personnel, and anticipates such difficulties in the future. The Company has in
the past experienced and in the future expects to continue to experience a
significant time lag between the date technical, professional services and sales
personnel are hired and the date such personnel become fully productive. If the
Company is unable to hire and train on a timely basis and subsequently retain
such personnel in the future, the Company's business, operating results and
financial condition could be materially and adversely affected.
Management of Growth. The Company's business has grown in recent periods,
with total revenues increasing from $13.9 million in 1994 to $16.1 million in
1995 and $19.0 million in 1996 and increasing from $4.2 million for the second
quarter of 1996 to $6.2 million for the comparable period of 1997. The growth of
the Company's business has placed, and is expected to continue to place, a
strain on the Company's administrative, financial, sales and operational
resources and increased demands on its systems and controls. In particular, the
Company noted an increase in days sales outstanding from December 31, 1996 to
June 30, 1997 from approximately 70 days to approximately 79 days, and an
increase in total accounts receivable from $4.4 million to $5.4 million. The
Company believes this increase resulted from the impact of implementing a new
financial
16
accounting system which have since been resolved, and from a lack of sufficient
collections resources in light of the Company's increased sales levels.
To deal with these concerns, the Company has implemented or is in the process
of implementing and will be required to implement in the future a variety of new
and upgraded operational and financial systems, procedures and controls and to
hire additional administrative personnel. There can be no assurance that the
Company will be able to complete the implementation of these systems, procedures
and controls or hire such personnel in a timely manner. The failure of the
Company or its management to respond to, and manage, its growth and changing
business conditions, or to adapt its operational, management and financial
control systems to accommodate its growth could have a material adverse effect
on the Company's business, operating results and financial condition. To promote
growth in the Company's sales and operations, the Company will also have to
expand its sales and marketing organizations, expand and develop its
distribution channels, fund increasing levels of product development and
increase the size of its training, professional services and customer support
organization to accommodate expanded operations, and there can be no assurance
that the Company will be successful in these endeavors.
Competition. The market for the Company's products and services is extremely
competitive and subject to rapid change. Because there are relatively low
barriers to entry in the software market, the Company expects additional
competition from other established and emerging companies. The Company believes
that the competitive factors affecting the market for the Company's products and
services include product functionality and features; quality of professional
services offerings; product quality, performance and price; ease of product
implementation; quality of customer support services; customer training and
documentation; and vendor and product reputation. The relative importance of
each of these factors depends upon the specific customer environment. Although
the Company believes that its products and services currently compete favorably
with respect to such factors, there can be no assurance that the Company can
maintain its competitive position against current and potential competitors.
In the business application integration market, the Company's Mercator
products and related services compete primarily against solutions developed
internally by individual businesses to meet their specific business application
integration needs. As a result, the Company must educate prospective customers
as to the advantages of the Company's products and services as opposed to
internally developed solutions and there can be no assurance that the Company
will be able to adequately educate potential customers to the benefits provided
by the Company's products and services. In the EDI market, the Company's Trading
Partner products compete with products offered by companies offering proprietary
Value-Added Network ("VAN") services as part of their EDI solution and the
Company's PC-based Trading Partner products also compete with PC-based products
offered by a number of other EDI software vendors.
Many of the Company's current and potential competitors have longer operating
histories, significantly greater financial, technical, product development and
marketing resources, greater name recognition and larger customer bases than
the Company. The Company's present or future competitors may be able to develop
products comparable or superior to those offered by the Company, adapt more
quickly than the Company to new technologies, evolving industry trends or
customer requirements, or devote greater resources to the development, promotion
and sale of their products than the Company. Accordingly, there can be no
assurance that the Company will be able to compete effectively in its markets,
that competition will not intensify or that future competition will not have a
material adverse effect on the Company's business, operating results and
financial condition.
The Company expects that it will face increasing pricing pressures from its
current competitors and new market entrants. The Company's competitors may
engage in pricing practices that reduce the average selling prices of the
Company's products and related services. To offset declining average selling
prices, the Company believes that it must successfully introduce and sell
enhancements to existing products and new products on a timely basis and develop
enhancements to existing products and new products that incorporate features
that can be sold at higher average selling prices. To the extent that
enhancements to existing products and new products are not developed in a timely
manner, do not achieve customer acceptance or do not generate higher average
selling prices, the Company's gross margins may decline, and such decline could
have a material adverse effect on the Company's business, operating results and
financial condition.
17
PART II - OTHER INFORMATION
ITEM 2. SALE OF UNREGISTERED SECURITIES
(c) On May 15, 1997, the Company sold 50,000 shares of Series E convertible
preferred stock at $20 per share to Mitsui & Co., Ltd. and two other foreign
investors.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The Company held its Annual Meeting of Stockholders on May 9, 1997, at
which meeting the stockholders elected five directors for terms expiring at the
Company's Annual Meeting of Stockholders in 1998 and for ratification of KPMG
Peat Marwick as the Company's independent auditors for fiscal year 1997. The
votes were as follows:
Election of Directors
- ---------------------
NAME FOR AGAINST
---- ---- -------
Constance F. Galley 1,757,052 1,200
Stewart K.P. Gross 1,757,052 1,200
Ernest E. Keet 1,757,052 1,200
John J. Pendray 1,757,052 1,200
Dennis G. Sisco 1,757,052 1,200
Ratification of Independent Auditors 1,757,052 1,200
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) The following exhibits are filed as part of this Quarterly Report on Form
10-Q:
3.01 Amended and Restated Certificate of Incorporation
3.02 Amended and Restated By Laws
11.1 Computation of Earnings Per Share
27.01 Financial Data Schedule (EDGAR version only)
(b) Reports on Form 8-K.
The Company did not file any reports on Form 8-K during the three-
month period ended June 30, 1997.
18
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.
TSI INTERNATIONAL SOFTWARE LTD.
/s/ Contance F. Galley
Date: August 13, 1997 -----------------------------------------
Constance F. Galley
President and Chief Executive Officer
(Principal Executive Officer)
/s/ Ira A. Gerard
Date: August 13, 1997 ----------------------------------------
Ira A. Gerard
Vice President, Finance and Administration
Chief Financial Officer and Secretary
(Principal Financial Officer)
19