1
Exhibit 13
SELECTED FINANCIAL DATA
The selected consolidated financial data for the year ended June 30, 1998, 1997,
the six months ended June 30, 1996 and the year ended December 31, 1995 have
been derived from the Company's financial statements included elsewhere in this
Annual Report which have been audited by Deloitte and Touche, LLP, independent
certified public accountants, whose report thereon is also included elsewhere in
this Annual Report. The selected consolidated financial data for the years ended
December 31, 1994 and 1993 and as of December 31, 1995, 1994 and 1993, have been
derived from audited financial statements of the Company which are not included
in this Annual Report. To assist the reader in the analysis of results of
operations, unaudited results of operations for the twelve months ended June 30,
1996 and the six months ended June 30, 1995 are also provided. The selected
consolidated financial data set forth below should be read in conjunction with
Management's Discussion and Analysis of Financial Condition and Results of
Operations and the Consolidated Financial Statements and Notes thereto elsewhere
in this Annual Report. The earnings-per-share amounts prior to fiscal year 1998
have been restated to comply with Statement of Financial Accounting Standards
No. 128 "Earnings per Share" (SFAS 128) as required. For further discussion of
earnings per share and the impact of SFAS 128, see Note 1 to the consolidated
financial statements beginning on page 13-22. The financial information for the
periods presented below includes all adjustments necessary for a fair
presentation of results of operations.
Six Months Six Months Twelve Months
Year Ended June 30, Ended Ended Ended Year Ended December 31,
-------------------- June 30, June 30, June 30, ----------------------------
1998 1997 1996 1995 1996 1995 1994 1993
-------- --------- --------- ------- --------- -------- ------- -------
STATEMENT OF OPERATIONS:
Revenues:
Processing, servicing and merchant discount $159,255 $ 104,522 $ 33,305 $23,581 $ 59,053 $ 49,330 $38,282 $28,986
License fees 28,952 33,088 10,970 - 10,970 - - -
Maintenance Fees 25,848 22,567 1,978 - 1,978 - - -
Other 19,809 16,268 4,787 - 4,788 - 984 1,906
-------- --------- --------- ------- --------- -------- ------- -------
Total revenues 233,864 176,445 51,040 23,581 76,789 49,330 39,266 30,892
Expenses:
Cost of processing, servicing and support 129,924 102,721 35,438 14,461 51,236 30,258 24,212 18,387
Research and development 36,265 32,869 9,907 3,019 13,765 6,876 4,724 3,605
Sales and marketing 28,839 32,670 17,167 3,060 21,349 7,242 4,427 3,640
General and administrative 20,677 18,707 7,338 1,915 9,598 4,134 2,598 2,381
Depreciation and amortization 24,999 24,919 6,997 1,194 8,246 2,485 1,922 1,377
In-process research and development 719 140,000 122,358 - 122,358 - - -
Charge for stock warrants 32,827 - - - - - - -
Exclusivity amortization 2,963 5,958 - - - - - -
-------- --------- --------- ------- --------- -------- ------- -------
Total expenses 277,213 357,844 199,205 23,649 226,552 50,995 37,883 29,390
Net gain on dispositions of assets 36,173 6,250 - - - - - -
-------- --------- --------- ------- --------- -------- ------- -------
Income (loss) from operations (7,176) (175,149) (148,165) (68) (149,763) (1,665) 1,383 1,502
Interest:
Income 3,464 2,153 1,659 535 3,104 2,135 298 165
Expense (632) (834) (325) (330) (484) (645) (795) (279)
-------- --------- --------- ------- --------- -------- ------- -------
Income (loss) before income taxes (4,344) (173,830) (146,831) 137 (147,143) (175) 886 1,388
Income tax expense (benefit) (641) (12,017) (8,628) 62 (8,650) 40 400 368
-------- --------- --------- ------- --------- -------- ------- -------
Income (loss) before extraordinary item (3,703) (161,813) (138,203) 75 (138,493) (215) 486 1,020
Extraordinary item - - (364) - (364) - - -
-------- --------- --------- ------- --------- -------- ------- -------
Net income (loss) $ (3,703) $(161,813) $(138,567) $ 75 $(138,857) $ (215) $ 486 $ 1,020
======== ========= ========= ======= ========= ======== ======= =======
Diluted income (loss) per common share before
extraordinary item $ (0.07) $ (3.44) $ (3.69) $ - $ (4.14) $ (0.01) $ 0.02 $ 0.04
Diluted income (loss) per common share $ (0.07) $ (3.44) $ (3.70) $ - $ (4.15) $ (0.01) $ 0.02 $ 0.04
Equivalent number of shares outstanding 55,087 46,988 37,420 29,299 33,435 28,219 27,103 26,886
BALANCE SHEET DATA:
Working capital $ 78,238 $ 20,002 $ 45,496 $10,481 $ 45,496 $ 81,792 $11,399 $ 623
Total assets 250,112 223,836 196,230 31,696 196,230 115,642 30,512 17,669
Long-term obligations, less current portion 6,467 8,401 8,324 7,735 8,324 7,282 8,213 8,968
Total stockholder's equity 183,854 148,644 137,675 16,493 137,675 99,325 16,372 2,985
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
OVERVIEW
The business was founded in 1981, and following a number of
acquisitions and divestitures, reorganized it corporate structure on December
22, 1997. CheckFree Holdings Corporation (the "Company") is the parent
corporation of CheckFree Corporation, the principal operating company of the
business. In connection with the restructuring, holders of common stock, $.01
par value of CheckFree Corporation (the "Common Stock") became holders of an
identical number of shares of Common Stock of CheckFree Holdings Corporation.
The restructuring was effected by a merger conducted pursuant to Section 251(g)
of the Delaware General Corporation Law, which provides for the formation of a
holding company structure without a vote of the stockholders of the Company.
(For more detailed information concerning the restructuring, please refer to the
Company's Form 8-K filed on December 30, 1997.)
The Company is the leading provider of electronic commerce services,
software and related products for over 2.4 million consumers, 1,000 businesses
and 850 financial institutions. The Company designs, develops and markets
services that enable its customers to make electronic payments and collections,
receive electronic bills and on-line banking offerings, automate paper-based
recurring financial transactions and conduct secure transactions on the
Internet. As a result of significant acquisitions in 1996 and 1997, the Company
operates in three business segments: Electronic Commerce, Software and
Investment Services. The Company's electronic transaction processing services,
software and related products are targeted to financial institutions,
businesses, institutional investment portfolio managers, and their customers.
Electronic Commerce. Electronic Commerce services offered to financial
institutions and their customers include electronic bill payment, electronic
home banking, electronic bill presentment and business payments. The Company
generates bill payment and home banking revenues through contracts with
financial institutions which typically include an implementation fee, a base
monthly fee per customer account on services provided by the Company, plus a
variable per transaction fee which decreases based on the volume of processed
transactions. Contracts typically have three-to-five year terms and generally
provide for a monthly minimum fee if certain transaction volumes are not
achieved.
For businesses, the Company provides business payment and bill
presentment services, including business electronic bill payment, automated
balance transfer services, and automatic payment collection services to
companies in the health and fitness and various other service industries. The
Company generates revenues from transaction fees and implementation fees. The
Company generated revenue from credit card discount fees until March 1997 when
the automatic accounts receivable collection business was sold, generating a
gain on the sale of $6,250,000.
On January 27, 1997, the Company acquired Intuit Services Corporation
("ISC") for a total of $199.0 million, including 12.6 million shares of the
Company's Common Stock valued at $177.2 million and the present value of cash
payments due to Intuit, Inc. ("Intuit") under the Services and License Agreement
of $19.6 million. Pursuant to terms of the purchase agreement, in November 1997
the Company received a purchase price adjustment from Intuit in the amount of
$8.9 million. In addition to strengthening the Company's leading share of the
bill payment and home banking market, under the merger agreement, the Company
was the exclusive provider of bill payment and home-banking services for
Intuit's personal financial software product, Quicken, through October 1, 1997.
The Company believes there is a significant opportunity to expand the
market for electronic commerce among financial institutions, businesses, and
their customers. Paper transactions impose significant costs that can be reduced
through electronic execution. The continuing penetration of personal computers
and modems into U.S. households, along with the growth in on-line interactive
services, are providing the technical infrastructure required to accelerate the
acceptance of electronic commerce. In addition, the Company believes the key
requirements that must be addressed to increase acceptance of electronic
commerce applications include: (1) maintenance of industry-wide quality levels
for security, accuracy, reliability, and convenience; (2) reduction in
transaction processing costs; (3) application of easy-
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to-use interfaces; and (4) development of seamless integration with the existing
financial infrastructure and existing relationships among all parties to a
financial transaction. As a result, the Company believes that the opportunity
exists to provide an integrated set of electronic services that further automate
financial transactions for financial institutions, businesses and their
customers. Today, a consumer can access his or her bank account through the
internet, receive a series of bills electronically through the financial
institution's web site, directly access the merchant's web site for further
details on the bill, then approve payment of the bill directly from their home
computer.
Software. The Company entered this segment with the acquisition of
Servantis Holdings, Inc. ("Servantis") on February 21, 1996. Servantis was
acquired for $165.1 million, primarily through the issuance of 5.7 million
shares of the Company's Common Stock valued at $20.00 per share and $42.5
million paid to retire Servantis' long-term debt.
The Company has been a leading provider of electronic commerce and
financial applications software and services for businesses and financial
institutions. The Company has designed, marketed, licensed and supported
software products for electronic corporate banking, financial lending,
regulatory compliance, and document imaging. In addition, the Company offers
software consulting and remote processing services.
The Company's software revenues are derived primarily from the sale of
software licenses and software maintenance fees. Software is sold under
perpetual licenses and maintenance fees are received through renewable
agreements. Software products licensed by the Company provide systems that range
from back-office operations to front-end interface with the clients of the
Company's customers. Applications include electronic funds transfer, electronic
wholesale banking, reconciliation, mortgage loan automation, and imaging
technologies, among others.
During fiscal 1998, the Company made the decision to divest itself of
those software applications that do not directly promote its stated strategic
direction. As a result, the following sales transactions have been completed:
(a) on August 29, 1997, the Company sold its recovery management business for
$33.5 million, which resulted in a gain on the sale of $28.2 million; (b) on
March 24, 1998, the Company sold its item processing business for $3.4 million,
which resulted in a gain on the sale of $3.2 million; (c) on April 20, 1998, the
Company sold its wire and electronic banking businesses for $18.3 million, which
resulted in a gain of the sale of $14.7 million. Subsequent to the year ended
June 30, 1998, on July 6, 1998, the Company paid $.6 million and agreed to
additional installments totaling $0.3 million to a third party that agreed to
assume its leasing business. In conjunction with the transaction, the Company
paid an additional $3.0 million to a customer to relieve itself from further
obligations under a consulting agreement. The sale and related transactions
resulted in a loss of $4.7 million which was provided for in the year ended June
30, 1998; and on September 11, 1998, the Company sold its mortgage business for
$21.1 million, which is subject to a working capital adjustment within 30 days
of closing. As part of the transaction, the Company retained responsibility for
certain customer obligations. The expected gain on this transaction is estimated
to be approximately $5.4 million.
The Company's imaging and safe box accounting applications remain
available for sale. Applications remaining in the Company's software portfolio
include its reconciliation and regulatory compliance offerings.
Management believes that the major factors affecting customer decisions
in this market, in addition to price, are product availability, flexibility, the
comprehensiveness of offered products, and the availability and quality of
product maintenance, customer support, and training. The Company's ability to
compete successfully also requires that it continue to develop and maintain
software products and respond to regulatory change and technological advances.
Investment Services. On May 9, 1996, the Company entered this business
segment with the Security APL acquisition for $53 million through the issuance
of 2.8 million shares of the Company's Common Stock. The Company offers
portfolio accounting and performance measurement to investment advisors,
brokerage firms, banks and insurance companies. Clients are able to leverage
their systems and
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streamline operations. The Company designs custom solutions with clients,
allowing investment managers the kind of functionality that dramatically
increases productivity. The full range of portfolio management systems solutions
include date conversion, personnel training, trading systems, graphical client
reporting, performance measurement, technical network support, interface setup,
and DTC processing on behalf of clients.
The Company generates revenues based on the number of portfolios
managed, transaction fees, and implementation fees. Services are provided under
contracts with institutional investors through contracts with terms of
one-to-three years, which generally provide for minimum fees if certain
transaction volumes are not met.
RESULTS OF OPERATIONS
On April 19, 1996, the Company elected to change its fiscal year end
from December 31 to June 30. To assist in the analysis of the results of
operations, results from the unaudited periods for the year ended June 30, 1996
and the six months ended June 30, 1995 are also provided. The following table
sets forth percentages of revenue represented by certain consolidated statements
of operations data:
Year ended June 30, Year Ended Six months ended June 30,
------------------------------- December 31, -------------------------
1998 1997 1996 1995 1996 1995
---- ---- ---- ---- ---- ----
Total revenues 100.0% 100.0% 100.0% 100.0% 100.0% 100.0%
Expenses:
Cost of processing, servicing and support 55.6 58.2 66.7 61.3 69.4 61.3
Research and development 15.5 18.6 17.9 13.9 19.4 12.8
Sales and marketing 12.3 18.5 27.8 14.7 33.6 13.0
General and administrative 8.8 10.6 12.5 8.4 14.4 8.1
Depreciation and amortization 10.7 14.1 10.7 5.0 13.7 5.1
In-process research and development 0.3 79.3 159.3 - 239.7 -
Charge for stock warrants 14.0 - - - - -
Exclusivity amortization 1.3 3.4 - - - -
----- ----- ------ ----- ------ -----
Total expenses 118.5 202.8 295.0 103.4 390.3 100.3
Net gain on dispositions of assets 15.4 3.5 - - - -
----- ----- ------ ----- ------ -----
Income (loss) from operations (3.1) (99.3) (195.0) (3.4) (290.3) (0.3)
Interest:
Income 1.5 1.2 4.0 4.3 3.3 2.3
Expense (0.3) (0.4) (0.6) (1.3) (0.6) (1.4)
----- ----- ------ ----- ------ -----
Income (loss) before income taxes (1.9) (98.5) (191.6) (0.4) (287.7) 0.6
Income tax expense (benefit) (0.3) (6.8) (11.3) 0.1 (16.9) 0.3
----- ----- ------ ----- ------ -----
Income (loss) before extraordinary item (1.6%) (91.7%) (180.4%) (0.4%) (270.8%) 0.3%
====== ====== ====== ====== ====== =====
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YEAR ENDED JUNE 30, 1998 AND 1997
Revenues. Total revenue increased by $57.5 million, or 32.6%, from
$176.4 million to $233.9 million for the years ended June 30, 1997 and 1998,
respectively. Estimated purchased profits in deferred revenues assumed in the
Servantis acquisition in February 1996 have been eliminated as a purchase
accounting adjustment, reducing 1997 revenue by approximately $7.8 million. On a
pro forma basis, total revenue increased 32.3% as a result of growth of 50% in
Electronic Commerce, 33% in Investment Services and 6% in Software. Pro forma
results are based on prior year results excluding the elimination of purchased
profits and adjusting for the ISC acquisition and divestitures of the Company's
securities business which was sold in October 1996, the credit card processing
business which was sold in March 1997, and the recovery management business
which was sold in August 1997. Pro forma growth in the Electronic Commerce
business unit is driven primarily by an increase in subscribers from
approximately 1.7 million at June 30, 1997 (includes ISC subscribers) to over
2.4 million at June 30, 1998. Investment Services revenue growth is due
primarily to an increase in portfolios managed from approximately 350,000 at
June 30, 1997 to over 500,000 at June 30, 1998. Growth in Software is primarily
the result of license and related maintenance and services growth in the
reconciliation and compliance product lines on a year over year basis. It should
be noted that the rate of the Company's subscriber growth is primarily
determined by the direct marketing efforts of its financial institution clients.
Historical subscriber growth, therefore, may not be indicative of future growth.
For example, in the fourth quarter of fiscal 1998, many of the Company's
financial institution clients reduced marketing efforts to their customers to
convert from a PC based software front-end offering to a more efficient
web-based offering, which resulted in a decline in subscriber growth.
Processing and servicing revenue increased by $64.8 million, or 69%,
from $94.5 million to $159.3 million in the years ending June 30, 1997 and 1998,
respectively. On a pro forma basis, excluding the elimination of purchased
profits and the sale of the recovery management business, processing and
servicing revenue increased by 46% from $109.4 million to $159.3 million in the
years ending June 30, 1997 and 1998, respectively. This growth is due primarily
to the increase in subscribers in the Electronic Commerce business and the
increase in portfolios managed in the Investment Services business mentioned
above.
Merchant discount revenue decreased from $10.0 million to $0 from the
year ended June 30, 1997 to the same period in 1998 due to the sale of the
Company's credit card processing business in March 1997.
License fee revenue decreased by 12%, or $4.1 million, from $33.1
million for the twelve months ended June 30, 1997 to $29.0 million in the same
period in 1998. On a pro forma basis, adjusting for the sales of the Company's
securities and recovery management businesses, license revenue increased by $2.7
million, from $26.3 million to $29.0 million on a year over year basis.
Increases in pro forma license revenue are driven primarily by growth in
reconciliation and compliance software sales.
Maintenance revenue increased from $22.6 million to $25.8 million from
the year ended June 30, 1997 to the year ended June 30, 1998. On a pro forma
basis, excluding elimination of purchased profits and adjusting for the sales of
the securities and recovery management businesses, maintenance revenue increased
by 2.4%, from $25.2 million to $25.8 million for the same periods. Customer
retention rates in the mid to upper 80% range are offset by average maintenance
price increases of approximately 7%, as well as first year maintenance from new
license sales.
Other revenue, consisting mainly of consulting fees, increased by $3.5
million, or 21%, from $16.3 million to $19.8 million for the years ended June
30, 1997 and 1998, respectively. On a pro forma basis, excluding the elimination
of purchased profits and adjusting for the sales of the securities and recovery
management businesses, other revenue increased from $15.9 million to $19.8
million on a year over year basis. Year to date increases are due to increased
implementations in all business segments.
Cost of Processing, Servicing and Support. Processing, servicing, and
support costs consist primarily of data processing costs, customer care,
technical support, third party transaction fees and consulting delivery costs.
The cost of processing, servicing and support was $102.7 million and $129.9
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million or 58.2% and 55.6% of total revenue for the year ended June 30, 1997 and
1998, respectively. Cost of processing, servicing and support as a percentage of
servicing only revenue (all except license) and net of purchased profits of $6.5
million in the 1997 servicing only revenue, was 68.5% and 63.4% for the
respective twelve-month periods. The efficiency improvement year over year is
due primarily to the economies of scale and leverage inherent in the Company's
business model as well as an increase in the percentage of electronic
transaction processing versus paper processing, which resulted in lower customer
care and remittance costs per transaction. In June 1998, the Company processed
55% of payments electronically in the core processing business, an increase from
45% in June 1997. Electronic transactions for ISC operations have increased from
10% at June 1997 to 19% at June 1998.
Research and Development. Research and development expenses consist
primarily of salaries and consulting fees paid to software engineers and
business development personnel. Research and development costs were $32.9
million and $36.3 million, or 18.6% and 15.5% of total revenue for the years
ended June 30, 1997 and 1998, respectively. Excluding purchased profits,
research and development costs were 17.8% and 15.5% for the same twelve-month
periods. The absolute dollar increase of $3.4 million was due primarily to
additional resources supporting the Company's platform integration efforts
referred to as project Genesis and efforts associated with Year 2000 compliance
activities. There were no costs capitalized for Year 2000 activities or for
project Genesis in either fiscal year, however approximately $0.7 million was
capitalized in fiscal 1998 for initial phases of key customer care and bill
presentment initiatives. Management expects capitalization of development costs
to increase significantly in fiscal 1999 as key strategic initiatives continue
to progress.
Sales and Marketing. Sales and marketing expenses consist primarily of
salaries and commissions of sales associates, public relations and advertising
costs, customer acquisition fees, and royalties paid to distribution partners.
Sales and marketing costs were $32.7 million and 18.5% of total revenues for the
year ended June 30, 1997 and $28.8 million and 12.3% of total revenues for the
same period in 1998. In conjunction with the purchase of ISC, the Company agreed
to pay a $1.0 million per month marketing charge to Intuit for six months
commencing in February 1997. Excluding purchased profits and five months of
Intuit marketing charges in fiscal 1997 and one month in fiscal 1998, sales and
marketing costs were 15.0% and 11.9% of total revenue for the years ended June
30, 1997 and 1998, respectively. Underlying costs as a percentage of revenue has
declined due to economies of scale and leverage inherent in the Company's
business model.
General and Administrative. General and administrative expenses consist
principally of salaries for administrative, executive, finance and human
resource employees. General and administrative expenses were $18.7 million and
$20.7 million, or 10.6% and 8.8% of total revenue for the year ended June 30,
1997 and 1998, respectively. Excluding purchased profits, general and
administrative expenses were 10.2% and 8.8% of total revenue for the same
respective periods. Overall, the Company's general and administrative costs have
decreased as a percentage of revenue on a year over year basis due to its
ability to leverage corporate support services as revenue continues to grow.
Depreciation and Amortization. Depreciation and amortization expenses
have increased slightly from $24.9 million in fiscal year 1997 to $25.0 million
in fiscal year 1998. Decreased amortization related to reductions in tangible
and intangible assets resulting from the sales of the securities business in
October 1996, the recovery management business in August 1997, the item
processing business in March 1998 and the wire and electronic banking business
in April 1998 and reductions in intangible assets related to the release of a
deferred tax benefit valuation allowance in the quarter ended September 30, 1997
and a purchase price adjustment related to the ISC acquisition in the quarter
ended December 31, 1997, is offset by increases in depreciation and amortization
resulting from purchases of property, plant and equipment required for Genesis
development, data center centralization and in support of the general growth of
the business as well as tangible and intangible asset additions related to the
purchase of ISC in January 1997.
In-Process Research and Development. In-process research and
development of $140.0 million in 1997 was related to the purchase of ISC and $.7
million in 1998 was related to the purchase of Advanced Mortgage Technologies,
Inc. ("AMTI"). Amounts allocated to in-process research and development for
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each of the acquisitions were based on independent appraisals and were expensed
at the time of the related acquisition.
Charge for Stock Warrants. The $32.8 million charge for stock warrants
in the year ended June 30, 1998 resulted from two separate transactions. A $32.4
million charge resulted from the vesting of three million warrants in March 1998
related to a ten year processing agreement with a strategic partner announced by
the Company in October 1997. A $0.4 million charge resulted from the vesting of
25,000 warrants in June of 1998 related to a five year consulting agreement with
a third party. These non-cash charges are based on a Black-Scholes option
pricing model valuation of the warrants at the date of vesting. An additional
seven million warrants will vest incrementally upon achievement of a series of
certain strategic targets and each incremental vesting of warrants will result
in a future non-cash charge based on the fair market value of the Company's
Common Stock at the date of vesting.
Exclusivity Amortization. Exclusivity amortization expense in the years
ended June 30, 1997 and 1998 are the result of the exclusivity arrangement the
Company entered into with Intuit upon the purchase of ISC in January 1997.
Net Gain on Dispositions of Assets. The net gain on dispositions of
assets totaling $6.3 million in the year ended June 30, 1997 resulted from the
sale of the credit card business in March 1997. The June 30, 1998 figure of
$36.2 million is the net result of several transactions. The Company realized
gains on the sales of its recovery management, item processing, and electronic
banking / wire businesses of $28.2 million, $3.2 million and $14.7 million,
respectively. The gains were offset by an anticipated loss from the pending sale
of the leasing business of $4.7 million, expected losses on non-cancelable
contracts and related costs totaling $1.0 million resulting in the decision to
exit the Web Investor portion of the Investment Services segment and charges
totaling $4.2 million for certain equipment and other assets related primarily
to data center consolidations where the Company determined the book value of the
assets exceeded their net realizable value.
Interest. Interest income increased by 59%, or $1.3 million, from $2.2
million to $3.5 million for the years ended June 30, 1997 and 1998,
respectively. The increase is explained by an increase in average cash and
investments from $39.2 million to $49.3 million combined with an increase in
average yield.
Interest expense decreased from $0.8 million to $0.6 million for the
years ended June 30, 1997 June 30, 1998, respectively due to lower outstanding
notes payable and capital lease obligations on a year over year basis.
Income Taxes. The effective income tax benefit was 6.9% and 14.8% for
the years ended June 30, 1997 and 1998, respectively. For both years, the
difference between the effective rate and the statutory rate of 35% was due
primarily to non-deductible in-process research and development expenses,
non-deductible intangible amortization, and state and local taxes.
SIX MONTHS ENDED JUNE 30, 1996 AND 1995
Revenues. Processing, servicing and merchant discount revenues
increased $9.7 million, or 41.2%, from $23.6 million for the six month period in
1995 to $33.3 million for the same period in 1996. The increase was due
primarily to $5.7 million of processing and servicing revenue recognized from
the acquisitions of Servantis, Security APL and Interactive Solutions
Corporation, a 20% increase in the number of bill payment and home banking
consumers (prior to consumers acquired from Servantis) and a 17% increase in the
number of transactions processed. In June 1995, the Company reduced its per
transaction prices to a major customer based on increased volume of transactions
attributable to such customer as part of the Company's monitoring of its pricing
structure in each of the markets in which it competes. In addition, license
fees, maintenance fees, and other revenue all increased as a result of the
business acquisitions.
Cost of Processing, Servicing and Support. Processing, servicing and
support expenses, as a percentage of servicing revenues (all revenues except
license fees) were 61.3% and 88.4% for the six
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months ended June 30, 1995 and 1996, respectively. Excluding purchased profits
of $9.7 million in 1996, processing, servicing and support costs would have been
71.2% of servicing revenue for the six months ended June 30, 1996 versus 61.2%
in 1995. Processing, servicing and supports costs increased as a percentage of
servicing due primarily to two pricing changes: (a) in June 1995, the Company
reduced its per transaction pricing to a major business services customer based
on increased volume of transactions attributable to such customer as part of the
Company's monitoring of its pricing structure; and (b) in September 1995, the
Company introduced new service and pricing options, including a lower priced
bill payment only service to target new users.
Research and Development. Research and development expenses were $3.0
million and $9.9 million, or 12.8% and 19.4% of revenue during the six months
ended June 30, 1995 and 1996, respectively. The increase of $6.9 million was due
to $2.7 million of research and development incurred by the acquired companies,
plus development efforts on new and existing services and related products,
including Electronic Cash Disbursement for business, expanded home banking
offerings, enhanced payment processing systems and bill presentment.
Sales and Marketing. Sales and marketing costs were $3.1 million and
$17.2 million, or 13.0% and 33.6% of revenue for the six months ended June 30,
1995 and 1996, respectively. The significant increase of $14.1 million is due to
a $6.5 million direct consumer marketing campaign and $7.7 million of increased
sales and marketing expenses incurred by the acquired companies during the six
months period in 1996.
General and Administrative. General and administrative expenses were
$1.9 million and $7.3 million, or 8.1% and 14.4% of revenue for the six months
ended June 30, 1995 and 1996, respectively. This increase of $5.4 million was
due to $3.9 million of increased general and administrative expenses related to
the acquired companies, increased expenses related to becoming and being a
public company (such as legal fees and investor relations) and additional
management, finance and human resource associates.
Depreciation and Amortization. Depreciation and amortization expenses
were $1.2 million and $7.0 million or 5.1% and 13.7% of revenue for the six
months ended June 30, 1995 and 1996, respectively. The increase of $5.8 million
was due primarily to $5.5 million of increased depreciation and amortization
expenses related to the acquired companies and the resulting increase in
depreciation from $7.1 million of property additions (primarily computer
related) for the six months ended June 30, 1996 to support continued product
development and the growth of the Company.
In-Process Research and Development. The Company incurred $122.4
million of in-process research and development costs for the six months ended
June 30, 1996, in conjunction with the acquisitions of Servantis, Security APL
and Interactive Solutions Corporation ("IS"). The amounts allocated to
in-process research and development for each acquisition were based on
independent appraisals.
Interest. Interest income increased from $0.5 million for the six
months ended June 30, 1995 to $1.7 million for the six months ended June 30,
1996. The increase was due to the income from the investment proceeds of the
initial public offering in September 1995.
Interest expense of $0.3 million for the six months ended June 30, 1995
was comparable to the interest expense of $0.3 million for the six months ended
June 30, 1996.
Income Taxes. The effective income tax rate was 45.1% and (5.9%) or the
six months ended June 30, 1995 and 1996, respectively. For the six months ended
June 30, 1995, the effective tax rate was more than the statutory federal rate
of 35% due to state and local taxes and non-deductible intangible asset
amortization. For the six months ended June 30, 1996, the effective tax benefit
was less than the statutory rate due primarily to non-deductible in-process
research and development and intangible asset amortization.
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9
TWELVE MONTHS ENDED JUNE 30, 1996 AND DECEMBER 31, 1995
Revenues. Processing, servicing and merchant discount revenues
increased $9.7, million or 19.7%, from $49.3 million to $59.0 million for the
twelve-month periods ending December 31, 1995 and June 30, 1996, respectively.
The increase was due primarily to $5.7 million of processing and servicing
revenue recognized since the acquisitions of Servantis in February 1996, IS in
March 1996, and Security APL in May 1996 as well as an increase in the number of
bill payment and home banking consumers (prior to consumers acquired from
Servantis) and an increase in the number of transactions processed. In June
1995, the Company reduced its per transaction prices to a major customer based
on increased volume of transactions attributable to the customer as part of the
Company's on-going monitoring of its pricing structure in each of the markets in
which it competed. Additionally, the introduction of license fees, maintenance
fees, and other revenues are all attributable to the acquisitions noted above.
Cost of Processing, Servicing and Support. Processing, servicing and
support expenses, as a percentage of servicing only revenues (all revenues
except license fees) were 61.3% for the twelve months ended December 31, 1995
and 77.8% for the twelve months ended June 30, 1996. Processing, servicing and
supports costs increased as a percentage of servicing only revenue due primarily
to two pricing changes: (a) in June 1995, the Company reduced its per
transaction pricing to a major business services customer based on increased
volume of transactions attributable to such customer as part of the Company's
monitoring of its pricing structure; and (b) in September 1995, the Company
introduced new service and pricing options, including a lower priced bill
payment only service to target new users.
Research and Development. Research and development expenses were $6.9
million or 13.9% of revenue for the twelve months ended December 31, 1995 and
$13.8 million or 17.9% of revenue for the twelve months ended June 30, 1996. The
increase of $6.9 million was due to $2.7 million of research and development
incurred by the acquired companies, plus development efforts on new and existing
services and related products, including Electronic Cash Disbursement for
business, expanded home banking offerings, enhanced payment processing systems,
and bill presentment.
Sales and Marketing. Sales and marketing expenses were $7.2 million or
14.7% of revenue for the twelve months ended December 31, 1995 and $21.3 million
or 27.8% of revenue for the twelve months ended June 30, 1996. The increase of
$14.1 million is due to a $6.5 million direct consumer marketing campaign and
$7.7 million of increased sales and marketing expenses incurred by the acquired
companies during the second half of 1996.
General and Administrative. General and administrative expenses were
$4.1 million and $9.6 million, or 8.4% and 12.5% of revenue for the twelve
months ended December 31, 1995 and June 30, 1996, respectively. This increase of
$5.5 million was due to $3.9 million of increased general and administrative
expenses related to the acquired companies and increased expenses related to
becoming and being a public company (such as legal fees and investor relations).
Depreciation and Amortization. Depreciation and amortization expenses
were $2.5 million and $8.2 million or 5.0% and 10.7% of revenue for the six
months ended June 30, 1995 and 1996, respectively. The increase of $5.7 million
was due primarily to $5.5 million of increased depreciation and amortization
expenses related to the acquired companies and the resulting increase in
depreciation from property additions (primarily computer related) in the second
half of 1996 to support continued product development and the growth of the
Company.
In-Process Research and Development. The Company incurred $122.4
million of in-process research and development costs for the twelve months ended
June 30, 1996, in conjunction with the acquisitions of Servantis, Security APL
and IS. The amounts allocated to in-process research and development for each
acquisition were based on independent appraisals.
Interest. Interest income increased from $2.1 million for the twelve
months ended December 31, 1995 to $3.1 million for the twelve months ended June
30, 1996. The increase was due primarily to the income from the investment
proceeds of the initial public offering that took place in September 1995 which
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10
provided three months of earnings in the twelve months ended December 31, 1995
and five months earnings in the twelve months ended June 30, 1996 prior to the
acquisitions mentioned above.
Income Taxes. In the twelve month period ended December 31, 1995, the
Company incurred a tax expense of $40,000 while incurring a pre-tax loss of
$175,000. The effective tax rate for the twelve month period ending June 30,
1996 was (5.9%). The difference in both years between the effective tax rate and
the statutory rate of 35% was due to non-deductible expenses including
intangible amortization in both 1995 and 1996 and additionally, in-process
research and development in 1996.
SEGMENT INFORMATION
The following table sets forth operating revenue and operating income
by industry segment for the periods noted (in thousands). Charges identified as
in-process research and development, charge for stock warrants, exclusivity and
net gain on dispositions of assets are separated from the operating results of
the segment for a better understanding of the underlying performance of each
segment. Explanations of these charges can be found in the Year ended June 30,
1998 and 1997 section of this report:
YEAR ENDED JUNE 30,
1998 1997
--------------- --------------
Operating Revenue:
Electronic Commerce $ 137,972 $ 85,926
Software 66,143 68,113
Investment Services 29,749 22,406
--------------- --------------
Total Operating Revenue $ 233,864 $ 176,445
=============== ==============
Operating Income (Loss):
Electronic Commerce $ (1,342) $ (20,487)
Software 8,393 4,324
Investment Services 6,225 2,171
Corporate (20,116) (21,449)
In Process Research and Development (719) (140,000)
Charge for Stock Warrants (32,827) -
Exclusivity (2,963) (5,958)
Net Gain on Dispositions of Assets 36,173 6,250
--------------- --------------
Total Operating Loss $ (7,176) $ (175,149)
=============== ==============
Revenue in the Electronic Commerce business unit increased by $52.0
million, or 61%, from $85.9 million to $137.9 million for the years ended June
30, 1997 and 1998, respectively. On a pro forma basis, assuming twelve months of
ISC results are included in and the credit card processing business is excluded
from reported results, revenue increased 50% which was driven primarily by
growth in subscribers from approximately 1.7 million at June 30, 1997 to
approximately 2.4 million at June 30, 1998. The segment reported an operating
loss of $20.5 million for the year ended June 30, 1997 and an operating loss of
$1.3 million for the year ended June 30, 1998, a reported improvement of $19.2
million year over year. On a pro forma basis, operating results improved from a
loss of $31.4 million for the year ended June 30, 1997 to a loss of $1.3 million
for the same period in 1998. Favorable operating results are primarily due to
continued revenue growth as well as continued efficiency improvements in
remittance and customer care costs, reduction in costs from the integration of
ISC and significant economies of scale and leverage inherent in the segment's
business model. Cost improvements in customer care and remittance are primarily
the result of growth in the percentage of electronic versus paper payments, year
over year. It should be noted that the rate of the Company's subscriber growth
is primarily determined by the direct marketing efforts of its financial
institution clients. Historical subscriber growth, therefore, may not be
indicative of future growth. In the fourth quarter of fiscal 1998, many of the
Company's financial institution clients reduced marketing efforts toward new
subscribers to allow them time to convert from a PC based software front-end
offering to a more efficient web-based offering, which resulted in a decline in
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11
quarter over quarter subscriber growth. While the Company believes this is a
short-term occurrence, there is no assurance that subscriber growth will return
to its previous double-digit quarterly growth rate.
Software revenue decreased from $68.1 million to $66.1 million for the
years ended June 30, 1997 and 1998, respectively, on a reported basis. On a pro
forma basis, adjusting the prior year to exclude the effect of purchased profits
and to eliminate results contributed by the credit management business, revenue
increased by 6% year over year. Revenue growth is primarily the result of
increased license sales driven by growth in the Company's reconciliation and
compliance products and related maintenance and services revenue generated from
new license sales in fiscal 1997 and 1998. Reported operating profits improved
from $4.3 million for the year ended June 30, 1997 to $8.4 million for the year
ended June 30, 1998. On a pro forma basis, operating income increased from $5.3
million to $8.3 million for the same periods, respectively. Gains on the sale of
divested businesses allowed the Company to release a deferred tax benefit
valuation allowance which in turn reduced goodwill and other intangible assets
related to the Servantis acquisition. Additionally, at the end of the third
quarter of fiscal 1998, when the Company announced intentions to divest software
units, related intangible assets were reclassified on the balance sheet as
assets held for sale and amortization on these intangibles ceased at that time.
The resulting decrease in intangible amortization in Software on a year over
year basis was approximately $3.7 million. Of the software products announced
for sale, item processing, electronic banking and wire sales took place in the
year ended June 30, 1998. Subsequent to year-end 1998, leasing was sold in July
1998 and mortgage in September 1998. This leaves only imaging and safe box
accounting to be disposed.
Revenue in Investment Services has increased by 33% from $22.4 million
to $29.7 million for the year ended June 30, 1997 and 1998, respectively. This
improvement is due primarily to an increase in the number of portfolios managed
from approximately 350,000 at June 30, 1997 to approximately 500,000 at June 30,
1998. Approximately 60,000 of the portfolio growth took place in the fourth
quarter of 1998 alone. Operating profits increased from $2.2 million to $6.2
million from fiscal 1997 to fiscal 1998. Improvements in operating results are
due to the leverage and economies of scale inherent in the segment's business
model.
The Corporate segment represents charges for the Company's human
resources, legal, accounting and finance functions and various other unallocated
overhead charges. Corporate achieved an improvement in operating costs from
$21.4 million for the year ended June 30, 1997 to $20.1 million for the same
period in 1998. The improvements are due to successful efforts to assimilate the
various acquisitions and leverage the existing infrastructure in response to
overall growth in the business.
In-process research and development in the year ended June 30, 1997 is
related to the acquisition of ISC in January 1997 and in the year ended June 30,
1998 is related to the acquisition of AMTI in October 1997.
YEAR 2000
State of Readiness: The Company is moving all of its Electronic
Commerce Division processing to Year 2000-ready environments and is making
satisfactory progress to ensure that all of its systems will be ready for any
date-based functions related to the millennium. An inventory of all
information-technology and non-information technology systems is maintained and
periodically updated. Those functions that are likely to have a material effect
on Company business have been identified and assessed. Validation is based on
third party representations and/or internal testing. Based on a review of
third-party representations, the Company is not currently aware of any
third-party issue applicable to the Year 2000 that is likely to have a material
impact on the conduct of business, the results of operations or the financial
condition of the company. Previous implementation phases included building a
Year 2000-ready data center and the physical move of the processing systems to
that center. The final implementation phase will include the planned migration
of customers from the Chicago and Columbus systems to the Year 2000-ready
environment (previously referred to as Genesis) followed by applicable testing
on that system to be completed by the middle of 1999. In anticipation of limited
customer migration from the Austin system to Genesis before January 1, 2000, the
Austin system has been made Year 2000 ready and testing with
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financial institutions is underway. Any of the existing systems or facilities
that will be retained have been or will be made Year 2000-ready by the end of
calendar 1998. During the first half of calendar 1999, the company will address
any remaining Year 2000 functions that are not considered "mission-critical".
Costs to Address the Company's Year 2000 Issues: Although the
development of Genesis has taken into account relevant Year 2000 issues, the
planned conversion was not accelerated due to Year 2000 issues and explicit Year
2000 costs are not included in Genesis development costs. The following chart
reflects the Company's Year 2000-specific costs. The fiscal year 1998 costs are
attributed to remediation of legacy systems and applications. The costs to
complete include remediation, testing and independent verification but are
primarily budgeted to remedy any contingencies that have not heretofore been
anticipated.
(IN THOUSANDS)
YEAR ENDED JUNE 30,
COST TO ---------------------
BUSINESS SEGMENT COMPLETE 1998 1997 TOTAL
------------ ----- ------ -------
Electronic Commerce $ 1,400 $ 100 $ - $ 1,500
Software 500 500 - 1,000
Investment Services 701 375 - 1,076
Corporate 300 - - 300
------- ----- -------- -------
Total $ 2,901 $ 975 $ - $ 3,876
======= ===== ======== =======
Risks of the Company's Year 2000 Issues: In order to accurately process
transactions, the Company must rely on technology supported by its customers and
suppliers. Transaction processing relies on transmissions of data from consumer
personal computers, through financial institution and merchant web servers and
the internet, over third party data and voice communication lines, and through
the Fed Funds System. Failure by the Company, its customers or suppliers to
adequately address the Year 2000 issues in a timely manner could impede the
Company's ability to process transactions and have a direct impact on its
ability to generate revenue per agreements with financial institution, merchant
and direct customers. This in turn could have a material impact on the conduct
of business, the results of operations and the financial condition of the
Company. Accordingly, the Company plans to address all Year 2000 issues before
problems materialize. The Company believes that associated costs are adequately
budgeted for in its fiscal year 1999 business plans. However, should efforts on
the part of the Company, its customers and suppliers fail to adequately address
their relevant Year 2000 issues, the most likely worst case scenario would be a
total loss of revenue to the Company.
The Company's Contingency Plans: The Company is internally reviewing
and testing all mission critical systems and major system components for Year
2000 compliance and intends to have an independent review of this testing
completed by the end of calendar 1998. Additionally, Year 2000 considerations
will be incorporated into the Company's business contingency plans in the same
timeframe.
The Company cannot guarantee that its efforts will prevent all
consequences and there may be undetermined future costs due to business
disruption that may be caused by customers, suppliers or unforeseen
circumstances.
LIQUIDITY AND CAPITAL RESOURCES
The following table sets forth a summary of cash flow activity and
should be read in conjunction with statements regarding the Company's liquidity
and capital resources:
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Summary of Cash Flows
---------------------------------------------------------------------
(in thousands) Six Months
Year Ended Year Ended Ended Year Ended
June 30, June 30, June 30, December 31,
1998 1997 1996 1995
--------------- -------------- -------------- ---------------
Cash provided by (used in)
operating activities $ (11,673) $ (7,831) $ (6,646) $ 2,361
Cash flow provided by (used in)
investing activities 12,767 24,912 (37,132) (22,785)
Cash flow provided by (used in)
financing activities 3,355 (5,982) 925 82,055
--------------- -------------- -------------- ---------------
Net increase (decrease) in
cash and cash equivalents $ 4,449 $ 11,099 $ (42,853) $ 61,631
=============== ============== ============== ===============
While the Company historically funded its business primarily through
cash flows generated from operations, the sale of equity securities and capital
lease financing, from the six months ended June 30, 1996 through the year ended
June 30, 1998, there have been several acquisitions and divestitures that have
had a significant impact on cash flow.
For the year ended June 30, 1998, the Company used $11.7 million of
cash flow in operating activities. During the year, $24.5 million in net
investments in trading securities were reflected as cash used in operations. In
previous periods, all investments were classified as available for sale and
therefore, related investment activities did not impact operating cash flow. The
change to trading securities is an effort to maximize yields within the
Company's conservative investment guidelines and not to significantly impact the
risk profile of the portfolio. From an investing perspective, the Company
generated $54.7 million of cash from the sale of the various software
businesses, $23.8 million from sales and maturities of available for sale
investments, $8.9 million from receipt of a purchase price adjustment related to
the ISC acquisition, and $0.3 million from the sales of other assets. Investing
receipts were offset by $27.9 million of investment in property additions,
primarily for computer and operational equipment and facilities related to
completion of the Norcross, Georgia processing center and in conjunction with
project Genesis; $20.3 million in the purchase of investments ($19.3 million of
available for sale and $1.0 million of trading); $14.9 of investment in a note
receivable in conjunction with the proposed purchase of a building in Columbus,
Ohio; $10.0 million as final payment of the purchase price of ISC; payment of
$1.0 million for the purchase of AMTI; and $0.7 million in capitalization of
software costs. From a financing perspective, $5.4 million of cash was provided
by stock option exercises, the employee stock purchase plan, and the Company's
401(k) matching contribution which was offset by payments of $1.1 million in
satisfaction of an outstanding note payable and $0.9 million in capital lease
obligations. In total, cash and cash equivalents increased by $4.4 million for
the year. As a result of the above, the Company's current ratio has improved
from 1.3 at June 30, 1997 to 2.3 at June 30 1998 and related working capital has
increased from $20.0 million to $78.2 million for the same periods. In the
coming year, the Company expects to earn a profit and believes that existing
cash and cash equivalents and expected cash from remaining software divestitures
early in fiscal 1999 will be sufficient to meet presently anticipated operating,
working capital and capital expenditure requirements for the foreseeable future.
To the extent that additional capital resources are required, the Company has
access to an unused $20 million line of credit.
For the year ended June 30, 1997, the Company used $7.8 million for
operating activities. The sale of certain businesses generated proceeds of $28.9
million while $0.6 million was received from stock options exercised during the
year. The Company invested $11.4 million, net of cash acquired, for the
acquisition of ISC. Certain stockholders from the Security APL purchase
exercised options to sell back to the Company 276,469 of common shares at a
price of $19 per share. The company received proceeds of $16.5 million on net
maturities and sales of available for sale investments, $9.8 million was
invested in property and software additions, while $0.6 million was received on
the sale of property and equipment. Principal payments on capital leases totaled
$1.1 million, $50,000 was applied to the repayment of
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stockholder notes payable and an additional $68,750 was expended on repayment of
outstanding notes payable balances. Cash and cash equivalents increased by $11.1
million for the year.
During the six-month period ended June 30, 1996, the Company used $6.6
million for operating activities. The Company invested $39.4 million, net of
cash acquired, for the acquisitions of Servantis and Security APL. These
acquisitions were partially funded through $10.6 million of maturities and sales
of available for sale investments. $7.1 million of funds were invested in
property additions, $1.3 million on capitalization of software development
costs, $0.6 million on the repayment of notes payable and $.6 million was
applied to principal payments on capital lease obligations. The Company borrowed
$1.1 million under an unsecured loan and received $0.9 million from the exercise
of stock options. Cash and cash equivalents decreased by $42.9 million for the
period.
For the year ended December 31, 1995, the Company received proceeds of
$82.7 from the issuance of 4,975,310 shares of its common stock in the initial
public offering. An additional $2.3 million of cash was generated from operating
activities and $.4 million was received from the combination of stock options
exercised and payments on stockholder notes receivable. $16.4 million of funds
were invested in a net increase in short term U.S. Government securities, $3.4
million was invested in property additions, $3.0 million was invested in a
trademark license and $1.0 million was applied to principal payments on capital
lease obligations. Cash and cash equivalents increased by $61.6 million for the
period.
INFLATION
The Company believes the effects of inflation have not had a
significant impact on the Company's results of operations.
RECENT ACCOUNTING PRONOUNCEMENTS
In June 1997, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") 130, "Reporting
Comprehensive Income," which is effective for fiscal years beginning after
December 15, 1997. The Statement requires businesses to disclose comprehensive
income and its components in their general-purpose financial statements, with
reclassification of comparative (earlier period) financial statements. The
adoption of SFAS 130 is not expected to have a material impact on the Company's
financial statement disclosures.
In June 1997, the FASB issued SFAS 131, "Disclosures about Segments of
an Enterprise and Related Information," which is effective for fiscal years
beginning after December 15, 1997. SFAS 131 redefines how operating segments are
determined and requires disclosure of certain financial and descriptive
information about a company's operating segments. The adoption of SFAS 131 is
not expected to have a material impact on the Company's financial statement
discosures.
In October 1997, the Accounting Standards Executive Committee ("AcSEC")
of the American Institute of Certified Public Accountants issued SOP 97-2,
"Software Revenue Recognition," which is effective for periods beginning after
December 15, 1997. The Statement provides guidance for recognizing revenue on
software transactions (superceding SOP 91-1, "Software Revenue Recognition").
The adoption of SOP 97-2 is not expected to have a material impact on the
Company's revenue recognition policies or financial statement disclosures.
In March 1998, the AcSEC issued SOP 98-1, "Accounting for the Costs of Computer
Software Developed or Obtained for Internal Use," which is effective for periods
beginning after December 15, 1998. The Statement distinguishes accounting for
the costs of computer software developed or obtained for internal use from
guidance under SFAS 86, "Accounting for the Costs of Computer Software to be
Sold, Leased, or Otherwise Marketed." The adoption of SOP 98-1 is not expected
to have a material impact on the Company's software capitalization policies or
financial statement disclosures.
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SAFE HARBOR STATEMENT UNDER THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995
Except for the historical information contained herein, the matters
discussed in this annual report include certain forward-looking statements
within the meaning of Section 27A of the Securities Act of 1933, as amended and
Section 21E of the Securities Exchange Act of 1934, as amended, which are
intended to be covered by the safe harbors created thereby. Those statements
include, but may not be limited to, all statements regarding the intent, belief
and expectations of the Company and its management, such as statements
concerning the Company's future profitability and Year 2000 issues. Investors
are cautioned that all forward-looking statements involve risks and
uncertainties including, without limitation, the factors set forth under the
caption "Business - Business Risks" in the Annual Report on Form 10-K for the
year ended June 30, 1998 and other factors detailed from time to time in the
Company's filings with the Securities and Exchange Commission. One or more of
these factors have affected, and in the future could affect, the Company's
businesses and financial results in future periods and could cause actual
results to differ materially from plans and projections. Although the Company
believes that the assumptions underlying the forward-looking statements
contained herein are reasonable, any of the assumptions could be inaccurate.
Therefore, there can be no assurance that the forward-looking statements
included in this Annual Report will prove to be accurate. In light of the
significant uncertainties inherent in the forward-looking statements included
herein, the inclusion of such information should not be regarded as a
representation by the Company or any other person, that the objectives and plans
of the Company will be achieved. All forward-looking statements made in this
Annual Report are based on information presently available to the Company's
management. The Company assumes no obligation to update any forward-looking
statements.
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INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Stockholders of
CheckFree Holdings Corporation and Subsidiaries:
We have audited the accompanying consolidated balance sheets of CheckFree
Holdings Corporation (the "Company") and its subsidiaries as of June 30, 1998
and 1997 and the related consolidated statements of operations, stockholders'
equity and cash flows for the years ended June 30, 1998 and 1997, the six months
ended June 30, 1996, and the year ended December 31, 1995. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in all
material respects, the financial position of the Company and its subsidiaries at
June 30, 1998 and 1997 and the results of their operations and their cash flows
for the years ended June 30, 1998 and 1997, the six months ended June 30, 1996,
and the year ended December 31, 1995, in conformity with generally accepted
accounting principles.
/s/ DELOITTE & TOUCHE LLP
DELOITTE & TOUCHE LLP
Atlanta, Georgia
August 11, 1998, except for Note 20 as to which
the date is September 11, 1998
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CHECKFREE HOLDINGS CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
JUNE 30, 1998 AND 1997
(IN THOUSANDS, EXCEPT SHARE DATA)
- - --------------------------------------------------------------------------------
ASSETS 1998 1997
CURRENT ASSETS:
Cash and cash equivalents $ 36,535 $ 32,086
Investments 24,533 4,431
Accounts receivable, net 32,960 44,507
Assets held for sale 15,881
Notes receivable 14,882
Prepaid expenses and other assets 4,678 2,197
Deferred income taxes 7,231 3,002
--------- ---------
Total current assets 136,700 86,223
PROPERTY AND EQUIPMENT - Net 50,920 44,027
OTHER ASSETS:
Capitalized software, net 11,387 26,644
Intangible assets, net 30,474 56,896
Investments 1,006 15
Deferred income taxes 12,889 3,063
Other noncurrent assets 6,736 6,968
--------- ---------
Total other assets 62,492 93,586
--------- ---------
$ 250,112 $ 223,836
========== =========
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable $ 8,536 $ 7,051
Accrued liabilities 24,738 31,056
Customer deposits 422 434
Current portion of long-term obligations 1,180 953
Deferred revenue 19,710 26,498
Income taxes payable 3,876 229
--------- ---------
Total current liabilities 58,462 66,221
ACCRUED RENT AND OTHER 1,329 570
LONG-TERM OBLIGATIONS - Less current portion:
Obligations under capital leases 6,467 7,301
Note payable to bank 1,100
--------- ---------
Total long-term obligations 6,467 8,401
COMMITMENTS (Notes 11, 12 and 13)
STOCKHOLDERS' EQUITY:
Preferred stock - 15,000,000 authorized shares, $.01 par value; no amounts issued
or outstanding
Common stock - 150,000,000 authorized shares, $.01 par value; issued 56,364,839 shares,
55,546,321 shares, respectively 564 555
Additional paid-in capital 492,109 454,850
Less:
Treasury stock - at cost, 963,295 shares, 1,041,552 shares, respectively (4,362) (6,007)
Accumulated deficit (304,457) (300,754)
--------- ---------
Total stockholders' equity 183,854 148,644
--------- ---------
$ 250,112 $ 223,836
========= =========
See notes to consolidated financial statements.
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CHECKFREE HOLDINGS CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
- - --------------------------------------------------------------------------------
SIX MONTHS
YEAR ENDED JUNE 30, ENDED YEAR ENDED
---------------------------- JUNE 30, DECEMBER 31,
1998 1997 1996 1995
REVENUES:
Processing and servicing $ 159,255 $ 94,528 $ 27,142 $ 39,536
Merchant discount 9,994 6,163 9,794
License fees 28,952 33,088 10,970
Maintenance fees 25,848 22,567 1,978
Other 19,809 16,268 4,787
------------ ------------ ------------ ------------
Total revenues 233,864 176,445 51,040 49,330
EXPENSES:
Cost of processing, servicing and support 129,924 102,721 35,438 30,258
Research and development 36,265 32,869 9,907 6,876
Sales and marketing 28,839 32,670 17,167 7,242
General and administrative 20,677 18,707 7,338 4,134
Depreciation and amortization 24,999 24,919 6,997 2,485
In-process research and development 719 140,000 122,358
Charge for stock warrants 32,827
Exclusivity amortization 2,963 5,958
------------ ------------ ------------ ------------
Total expenses 277,213 357,844 199,205 50,995
Net gain on dispositions of assets 36,173 6,250
------------ ------------ ------------ ------------
LOSS FROM OPERATIONS (7,176) (175,149) (148,165) (1,665)
OTHER:
Interest income 3,464 2,153 1,659 2,135
Interest expense (632) (834) (325) (645)
------------ ------------ ------------ ------------
LOSS BEFORE INCOME TAXES (4,344) (173,830) (146,831) (175)
INCOME TAX EXPENSE (BENEFIT) (641) (12,017) (8,628) 40
------------ ------------ ------------ ------------
LOSS BEFORE EXTRAORDINARY ITEM (3,703) (161,813) (138,203) (215)
EXTRAORDINARY ITEM, EXTINGUISHMENT
OF DEBT - Net of tax (364)
------------ ------------ ------------ ------------
NET LOSS $ (3,703) $ (161,813) $ (138,567) $ (215)
============ ============ ============ ============
BASIC AND DILUTED LOSS PER SHARE:
Loss before extraordinary item $ (0.07) $ (3.44) $ (3.69) $ (0.01)
Extraordinary item (0.01)
------------ ------------ ------------ ------------
Net Loss $ (0.07) $ (3.44) $ (3.70) $ (0.01)
============ ============ ============ ============
EQUIVALENT NUMBER OF SHARES 55,086,742 46,988,225 37,419,580 28,218,521
============ ============ ============ ============
See notes to consolidated financial statements.
13-18
19
CHECKFREE HOLDINGS CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(IN THOUSANDS, EXCEPT SHARE DATA)
- - --------------------------------------------------------------------------------
NUMBER OF NUMBER OF
SHARES OF COMMON ADDITIONAL SHARES OF TREASURY
COMMON STOCK AT PAID-IN TREASURY STOCK AT
STOCK PAR CAPITAL STOCK COST
BALANCE, DECEMBER 31, 1994 27,619,193 $ 276 $ 17,210 (757,536) $ (629)
Net loss
Stock options exercised 270,262 3 172
Tax benefit associated with exercise of stock
options 57
Sale of common stock, net of expenses related
to public offering 4,975,310 50 82,694
Repayment of loans to stockholders
---------- ----- --------- -------- --------
BALANCE - December 31, 1995 32,864,765 329 100,133 (757,536) (629)
Net loss
Stock options exercised 874,195 9 862
Tax benefit associated with exercise of stock
options 1,100
Issuance of common stock and stock options
pursuant to acquisitions 8,535,840 85 174,727
Repayment of loans to stockholders
---------- ----- --------- -------- --------
BALANCE - June 30, 1996 42,274,800 423 276,822 (757,536) (629)
Net loss
Stock options exercised 636,309 6 591
Tax benefit associated with exercise of stock
options 887
Issuance of common stock and stock options
pursuant to acquisitions 12,635,212 126 176,550
Treasury stock acquired (284,016) (5,378)
---------- ----- --------- -------- --------
BALANCE - June 30, 1997 55,546,321 555 454,850 (1,041,552) (6,007)
Net loss
Stock options exercised 708,661 8 2,204 (47)
Employee stock purchases 109,857 1 1,572
401(k) match 78,257 1,692
Warrants issued 32,827
Tax benefit associated with exercise of stock
options 656
---------- ----- --------- -------- --------
BALANCE - June 30, 1998 56,364,839 $ 564 $ 492,109 (963,295) $ (4,362)
========== ===== ========= ======== ========
STOCKHOLDERS' TOTAL
NOTES ACCUMULATED STOCKHOLDERS'
RECEIVABLE DEFICIT EQUITY
BALANCE, DECEMBER 31, 1994 $ (326) $ (159) $ 16,372
Net loss (215) (215)
Stock options exercised 175
Tax benefit associated with exercise of stock
options 57
Sale of common stock, net of expenses related
to public offering 82,744
Repayment of loans to stockholders 192 192
---- ---------- ---------
BALANCE - December 31, 1995 (134) (374) 99,325
Net loss (138,567) (138,567)
Stock options exercised 871
Tax benefit associated with exercise of stock
options 1,100
Issuance of common stock and stock options
pursuant to acquisitions 174,812
Repayment of loans to stockholders 134 134
---- ---------- ---------
BALANCE - June 30, 1996 - (138,941) 137,675
Net loss (161,813) (161,813)
Stock options exercised 597
Tax benefit associated with exercise of stock
options 887
Issuance of common stock and stock options
pursuant to acquisitions 176,676
Treasury stock acquired (5,378)
---- ---------- ---------
BALANCE - June 30, 1997 - (300,754) 148,644
Net loss (3,703) (3,703)
Stock options exercised 2,165
Employee stock purchases 1,573
401(k) match 1,692
Warrants issued 32,827
Tax benefit associated with exercise of stock
options 656
---- ---------- ---------
BALANCE - June 30, 1998 $ - $ (304,457) $ 183,854
==== ========== =========
See notes to consolidated financial statements.
13-19
20
CHECKFREE HOLDINGS CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
- - --------------------------------------------------------------------------------
SIX MONTHS
YEAR ENDED JUNE 30, ENDED YEAR ENDED
-------------------------- JUNE 30, DECEMBER 31,
1998 1997 1996 1995
OPERATING ACTIVITIES:
Net loss $ (3,703) $ (161,813) $ (138,567) $ (215)
Adjustments to reconcile net loss to net cash
provided by (used in) operating activities:
Extraordinary item, extinguishment of debt, net of tax 364
Write-off of in-process research and development 719 140,000 122,358
Write-off of capitalized software 3,619
Issuance of warrants 32,827
Exclusivity amortization 2,963 4,938
Depreciation and amortization 24,999 24,919 6,997 2,485
Deferred income taxes (5,499) (13,101) (8,654) 79
Net gain on dispositions of assets (36,173) (6,250)
Loss on disposal of property and equipment 641 100 13
Purchases of investments - Trading (28,799)
Proceeds from maturities and sales of investments,
net - Trading 4,267
Accretion of investment discount - net (337)
Change in certain assets and liabilities (net of
acquisitions):
Accounts receivable (5,095) (10,952) (1,110) (1,500)
Prepaid expenses and other (1,834) (2,976) 821 (915)
Refundable income taxes (144)
Accounts payable 1,492 1,249 2,606 223
Accrued liabilities (555) 3,837 3,428 2,623
Customer deposits (13) 366 272 (26)
Deferred revenue 239 7,509 4,586 228
Income taxes payable 2,492 183 153 (153)
-------- ---------- ---------- ------
Net cash provided by (used in) operating activities (11,673) (7,831) (6,646) 2,361
INVESTING ACTIVITIES:
Property additions (27,939) (9,755) (7,090) (3,431)
Proceeds from the sale of property and equipment 340 588 29
Proceeds from the sale of assets 54,650 28,900
Purchase of note receivable (14,882)
Proceeds from purchase price adjustment 8,889
Capitalization of software development costs (731) (1,312)
Purchase of businesses, net of cash acquired (11,000) (11,363) (39,404)
Purchases of investments - Held-to-maturity (1,006) (3,000) (54,079)
Purchases of investments - Available-for-sale (19,311)
Proceeds from maturities and sales of investments,
net - Available-for-sale 23,757 19,542 10,645 37,725
Purchase of trademark license (3,000)
-------- ---------- ---------- ------
Net cash provided by (used in) investing activities 12,767 24,912 (37,132) (22,785)
(Continued)
13-20
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CHECKFREE HOLDINGS CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
- - --------------------------------------------------------------------------------
SIX MONTHS
YEAR ENDED JUNE 30, ENDED YEAR ENDED
-------------------------- JUNE 30, DECEMBER 31,
1998 1997 1996 1995
FINANCING ACTIVITIES:
Proceeds from sale of common stock $ 82,744
Repayment of notes payable and other debt extinguishment $ (1,144) $ (69) $ (609) (75)
Proceeds from notes payable 1,100 225
Principal payments under capital lease obligations (931) (1,076) (571) (1,038)
Proceeds from stock options exercised 2,165 591 871 232
Proceeds from employee stock purchase plan 1,573
Proceeds from employee 401(k) plan 1,692
Purchase of treasury stock (5,378)
Receipts (payments) on stockholder notes (50) 134 (33)
--------- --------- --------- --------
Net cash provided by (used in) financing activities 3,355 (5,982) 925 82,055
--------- --------- --------- --------
NET INCREASE (DECREASE) IN CASH AND
CASH EQUIVALENTS 4,449 11,099 (42,853) 61,631
CASH AND CASH EQUIVALENTS:
Beginning of period 32,086 20,987 63,840 2,209
--------- --------- --------- --------
End of period $ 36,535 $ 32,086 $ 20,987 $ 63,840
========= ========= ========= ========
See notes to consolidated financial statements.
(Concluded)
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CHECKFREE HOLDINGS CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
AS OF AND FOR THE YEARS ENDED JUNE 30, 1998 AND 1997,
THE SIX MONTHS ENDED JUNE 30, 1996,
AND THE YEAR ENDED DECEMBER 31, 1995
- - --------------------------------------------------------------------------------
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Organization - CheckFree Holdings Corporation (the "Company") is the
parent company of CheckFree Corporation ("CFC"), the principal operating
company of the business. CFC was organized in 1981 and is a leading
provider of transaction procession services, software and related products
to financial institutions and businesses and their customers throughout
the United States. See Note 18 for a description of the Company's business
segments. Following a number of acquisitions and divestitures, CFC
reorganized its corporate structure on December 22, 1997. In connection
with the restructuring, holders of common stock ("Common Stock") of CFC
became holders of an identical number of shares of Common Stock of the
Company. The restructuring was effected by a merger conducted pursuant to
Section 251(g) of the Delaware General Corporation Law, which provides for
the formation of a holding company structure without a vote of the
stockholders of the Company.
Principles of Consolidation and Change in Fiscal Year - The accompanying
consolidated financial statements include the results of operations of the
Company and its wholly-owned subsidiaries. All significant intercompany
transactions have been eliminated.
The accompanying consolidated financial statements have been prepared in
accordance with generally accepted accounting principles ("GAAP"). The
preparation of financial statements in conformity with GAAP requires
management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the reported
amounts of revenues and expenses during the reporting period. Actual
results could differ from those estimates.
Effective January 1, 1996, the Company changed its fiscal year-end from
December 31 to June 30. The following presents unaudited summarized
consolidated financial information for the six months ended June 30, 1995:
Total revenues $ 23,581,000
Loss from operations (68,000)
Income taxes 62,000
Net income 75,000
Net income per share (basic and diluted) Nil
Processing Agreements - The Company has agreements with transaction
processors to provide origination and settlement services for the Company.
Under the agreements, the Company must fund service fees and returned
transactions when presented. These agreements expire at various dates
through June 1999.
Transaction Processing - In connection with the timing of the Company's
financial transaction processing, the Company is exposed to credit risk in
the event of nonperformance by other parties, such as
13-22
23
returns and chargebacks. The Company utilizes credit analysis and other
controls to manage its credit risk exposure. The Company also maintains a
reserve for future returns and chargebacks.
Cash and Cash Equivalents - The Company considers all highly liquid debt
instruments (primarily United States government agency obligations and
commercial paper) purchased with maturities of three months or less to be
cash equivalents. Substantially all cash and cash equivalents are on
deposit with six financial institutions.
Investments - The Company's investments consist primarily of United States
government, government agency or state obligations. The Company classifies
these investments as available-for-sale, trading or held-to-maturity
securities in accordance with Statement of Financial Accounting Standards
("SFAS") 115, "Accounting for Certain Investments in Debt and Equity
Securities". Such investments are carried at amortized cost, which
approximates market value.
Property and Equipment - Property and equipment are stated at cost.
Property and equipment are depreciated using the straight-line and
accelerated methods over the estimated useful lives as follows: land
improvements, building and building improvements, 15 to 30 years; computer
equipment, software, and furniture, 3 to 7 years. Equipment under capital
leases is amortized using the straight-line method over the terms of the
leases. Leasehold improvements are amortized over the lesser of the
estimated useful lives or remaining lease periods.
Capitalized Software Costs - Software development costs incurred prior to
the establishment of technological feasibility are expensed as incurred.
Software development costs incurred after the technological feasibility of
the subject software product has been established are capitalized in
accordance with SFAS 86, "Accounting for the Costs of Computer Software to
Be Sold, Leased, or Otherwise Marketed." Capitalized software development
costs are amortized on a product-by-product basis using either the
estimated economic life of the product on a straight-line method or the
ratio of current year gross product revenue to current and anticipated
future gross product revenue, whichever is greater. Unamortized software
development costs in excess of estimated future net revenues from a
particular product are written down to estimated net realizable value.
Amortization of software costs totaled $5,198,000, $7,687,000, $2,521,000,
and $208,000 for the years ended June 30, 1998 and 1997, the six months
ended June 30, 1996, and the year ended December 31, 1995, respectively.
Intangible Assets - The costs of identified intangible assets are
generally amortized on a straight-line basis over periods from 8 months to
15 years. Goodwill is amortized on a straight-line basis over 10 years. At
each balance sheet date, a determination is made by management to
ascertain whether the intangible assets have been impaired based on
several criteria, including, but not limited to, sales trends,
undiscounted operating cash flows, and other operating factors.
Capital Stock - On April 21, 1995, the Company's stockholders increased
the authorized number of shares of $.01 par value Common Stock to
25,000,000 and on August 8, 1995 increased the number of authorized shares
of $.01 par value Common Stock to 150,000,000. In addition, on August 8,
1995, the Company's stockholders authorized the Board of Directors to
issue up to 15,000,000 shares of $.01 par value preferred stock in one or
more series and to establish such relative voting, dividend, redemption,
liquidation, conversion and other powers, preferences, rights,
qualifications, limitations and restrictions as the Board of Directors may
determine without further stockholder approval. No preferred shares have
been issued.
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Advertising - The Company expenses advertising costs as incurred.
Advertising expenses were $4,275,000, $2,110,000, $7,159,000, and
$1,758,000 for the years ended June 30, 1998 and 1997, the six months
ended June 30, 1996, and the year ended December 31, 1995, respectively.
Basic and Diluted Loss Per Share - On July 1, 1997, the Company adopted
the provisions of SFAS 128 "Earnings Per Share" and has restated per share
data for all prior periods where applicable. Basic loss per common share
is determined by dividing loss available to common shareholders by the
weighted average number of common shares outstanding. Diluted
per-common-share amounts assume the issuance of common stock for all
potentially dilutive equivalent shares outstanding. Anti-dilution
provisions of SFAS 128 requires consistency between diluted
per-common-share amounts and basic per-common-share amounts in loss
periods. For the periods reported, there were no differences between basic
and diluted earnings per share. The number of anti-dilutive equivalent
shares excluded from the per share calculations are 1,725,000, 1,218,000,
1,931,000, and 2,843,000 for the years ended June 30, 1998 and 1997, the
six months ended June 30, 1996, and the year ended December 31, 1995,
respectively. All share and per share information has been adjusted for
the five-for-one stock split on May 1, 1995 and the 5.2614-for-one split
on the effective date of the initial public offering (September 28, 1995).
Impairment of Long-Lived Assets - In accordance with SFAS 121, "Accounting
for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be
Disposed of," the Company periodically assesses the likelihood of
recovering the cost of long-lived assets based on its expectations of
future profitability and undiscounted cash flows of the related business
operations. These factors, along with management's plans with respect to
the operations, are considered in assessing the recoverability of
property, equipment and purchased intangibles. During 1998, in conjunction
with the Company's platform integration efforts referred to as project
Genesis, the Company consolidated three processing centers from Chicago,
Illinois, Austin, Texas, and Columbus, Ohio, into one processing center
located in Norcross, Georgia. As a result of this consolidation and a
physical inventory of fixed assets at the related business units, all
identified assets which were determined to have no alternative use or
value were written off. Of the total write-off of $4.0 million, $3.0
million was recorded in the quarter ended September 30, 1997 and the
remaining $1.0 million in the quarter ended June 30, 1998.
Recent Accounting Pronouncements - In June 1997, the Financial Accounting
Standards Board ("FASB") issued SFAS 130, "Reporting Comprehensive
Income," which is effective for fiscal years beginning after December 15,
1997. The Statement requires businesses to disclose comprehensive income
and its components in their general-purpose financial statements, with
reclassification of comparative (earlier period) financial statements. The
adoption of SFAS 130 is not expected to have a material impact on the
Company's financial statement disclosures.
In June 1997, the FASB issued SFAS 131, "Disclosures about Segments of an
Enterprise and Related Information," which is effective for fiscal years
beginning after December 15, 1997. SFAS 131 redefines how operating
segments are determined and requires disclosure of certain financial and
descriptive information about a company's operating segments. The adoption
of SFAS 131 is not expected to have a material impact on the Company's
financial statement disclosures.
In October 1997, the Accounting Standards Executive Committee ("AcSEC") of
the American Institute of Certified Public Accountants issued Statement of
Position ("SOP") 97-2, "Software Revenue Recognition," which is effective
for fiscal years beginning after December 15, 1997. The Statement provides
guidance for recognizing revenue on software transactions (superseding SOP
91-1, "Software Revenue Recognition"). The adoption of SOP 97-2 is not
expected to have a material impact on the Company's revenue recognition
policies or financial statement disclosures.
13-24
25
In March 1998, the AcSEC issued SOP 98-1, "Accounting for the Costs of
Computer Software Developed or Obtained for Internal Use," which is
effective for fiscal years beginning after December 15, 1998. The
Statement distinguishes accounting for the costs of computer software
developed or obtained for internal use from guidance under SFAS 86,
"Accounting for the Costs of Computer Software to Be Sold, Leased, or
Otherwise Marketed." The adoption of SOP 98-1 is not expected to have a
material impact on the Company's software capitalization policies or
financial statement disclosures.
Reclassifications - Certain amounts in the prior years' financial
statements have been reclassified to conform to the 1998 presentation.
REVENUE RECOGNITION
- Processing and Servicing - Processing and servicing revenues include
revenues from transaction processing, electronic funds transfer and
monthly service fees on consumer funds transfer services. The Company
recognizes revenue when the services are performed.
As part of processing certain types of transactions, the Company
earns interest from the time money is collected from its customers
until the time payment is made to the applicable merchants. These
revenues, which are generated from trust account balances not
included on the Company's balance sheet, are included in processing
and servicing and totaled $9,676,000, $3,228,000, $1,019,000, and
$1,623,000 for the years ended June 30, 1998 and 1997, the six months
ended June 30, 1996, and the year ended December 31, 1995,
respectively.
- Merchant Discount - Merchant discount revenues are recognized when
the services are performed. Interchange fees incurred in the
settlement of merchant credit card transactions are included in
processing and servicing expenses.
- License Fees - Revenue from software license agreements is recognized
upon delivery of the software if there are no significant
postdelivery obligations in accordance with SOP 91-1. The revenue
related to significant postdelivery obligations is deferred and
recognized using the percentage-of-completion method.
- Maintenance Fees - Maintenance fee revenue is recognized ratably over
the term of the related contractual support period, generally 12
months.
- Other - Other revenue consists primarily of consulting and training
services. Consulting revenue is recognized principally on a
percentage-of-completion basis and training revenue is recognized
upon delivery of the related service.
EXPENSE CLASSIFICATION
- Processing, Servicing and Support- Processing, servicing and support
costs consist primarily of data processing costs, customer care and
technical support, and third party transaction fees, which consist
primarily of credit card interchange fees and ACH transaction fees.
- Research and Development - Research and development expenses consist
primarily of salaries and consulting fees paid to software engineers
and business development personnel.
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- Sales and Marketing - Sales and marketing expenses consist primarily
of salaries and commissions of sales employees, public relations and
advertising costs, customer acquisition fees and royalties paid to
distribution partners.
- General and Administrative - General and administrative expenses
consist primarily of salaries for administrative, executive, finance,
and human resource employees.
- Depreciation and Amortization - Depreciation and amortization on
capitalized assets is recorded on a straight-line basis over the
appropriate useful lives.
- In-process Research and Development - In-process research and
development consists of charges resulting from acquisitions whereby
the purchase price allocated to in-process software development was
based on the determination that in-process research and development
had no alternative future use after taking into consideration the
potential for usage of the software in different products, resale of
the software, or other internal use.
- Charge for Stock Warrants - Charge for stock warrants consists of
noncash charges for vested warrants issued to third parties under
agreements whereby issued warrants vest upon achievement of certain
strategic objectives.
- Exclusivity Amortization - Exclusivity amortization consists of the
amortization of an intangible asset established in conjunction with a
marketing agreement with a strategic partner whereby the Company
retains certain exclusive rights to bill payment processing through
the partner's financial management software over a specific period of
time.
2. ACQUISITIONS AND DISPOSITIONS
On October 3, 1997, the Company acquired certain assets of Advanced
Mortgage Technologies, Inc. ("AMTI") for cash of $1.0 million. The
acquisition was treated as a purchase for accounting purposes, and
accordingly, the assets and liabilities were recorded based on their fair
values at the date of the acquisition. Of the total purchase price, $0.2
million was allocated to goodwill and $0.1 million to other identifiable
intangible assets. Additionally, $0.7 million was allocated to in-process
research and development, which was charged to operations at the time of
the acquisition.
On January 27, 1997, the Company acquired Intuit Services Corporation
("ISC") for a total of $199.0 million, including 12.6 million shares of
common stock valued at $177.2 million, the present value of cash payments
due to Intuit, Inc. under the Services and License Agreement of $19.6
million and acquisition costs of $2.2 million. The acquisition was treated
as a purchase for accounting purposes, and, accordingly, the assets and
liabilities were recorded based on their fair values at the date of the
acquisition. Of the total purchase price, $28.9 million was allocated to
goodwill. In addition, $140.0 million was allocated to in-process research
and development, which was charged to operations at the time of the
acquisition. $7.9 million was allocated to an exclusivity agreement with
Intuit, Inc. and is being amortized on a straight-line basis over the
contractual life of eight months. A further $3.5 million was allocated to
other identifiable intangible assets and $20.3 million allocated to
tangible assets. ISC's operations are included in the consolidated results
of operations from the date of the acquisition.
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On May 9, 1996, the Company acquired Security APL, Inc. ("Security APL")
for $53 million, including 2.8 million shares of common stock, valued at
$18.50 per share. The acquisition was treated as a purchase for accounting
purposes, and, accordingly, the assets and liabilities were recorded based
on their fair values at the date of the acquisition. Of the total purchase
price, $10.9 million was allocated to goodwill, $9.0 million to other
identifiable intangible assets and $9.8 million to tangible assets.
Additionally, $28.8 million was allocated to in-process research and
development, which was charged to operations at the time of the
acquisition. Security APL's operations are included in the consolidated
results of operations from the date of the acquisition.
In March 1996, the Company acquired Interactive Solutions Corp. ("IS") for
$3.0 million, including 85,000 shares of common stock valued at $21.25 per
share. The acquisition was treated as a purchase for accounting purposes,
and, accordingly, the assets and liabilities were recorded based on their
fair values at the date of the acquisition. Of the total purchase price,
$3.0 million was allocated to in-process research and development, which
was charged to operations at the time of the acquisition. IS' operations
are included in the consolidated results of operations from the date of
the acquisition.
On February 21, 1996, the Company acquired Servantis Systems Holdings,
Inc. ("Servantis") for $165.1 million, including 5.7 million shares of
common stock, valued at $20.00 per share, the issuance of stock options
valued at $8.2 million and the retirement of certain debt of $42.5
million. The acquisition was treated as a purchase for accounting
purposes, and accordingly, the assets and liabilities were recorded based
on their fair values at the date of the acquisition. Of the total purchase
price, $11.2 million was allocated to goodwill, $46.5 million to other
identifiable intangible assets and $55.2 million to tangible assets. In
addition, $90.6 million was allocated to in-process research and
development, which was charged to operations at the time of the
acquisition. Servantis' operations are included in the consolidated
results of operations from the date of the acquisition.
Consistent with the Company's policy for internally developed software,
the Company determined the amounts to be allocated to in-process research
and development based on whether technological feasibility had been
achieved and whether there was any alternative future use for the
technology. As of the date of the acquisitions, the Company concluded that
the in-process research and development had no alternative future use
after taking into consideration the potential for usage of the software in
different products, resale of the software and internal usage.
The unaudited pro forma results of operations of the Company for the year
ended June 30, 1997, the six months ended June 30, 1996, and the twelve
months ended June 30, 1996, assuming the acquisitions occurred at the
beginning of each period are as follows (in thousands, except per share
data):
YEAR ENDED SIX MONTHS ENDED 12 MONTHS ENDED
JUNE 30, JUNE 30, JUNE 30,
1997 1996 1996
Total revenues $ 194,354 $ 69,607 $ 131,815
Loss before extraordinary item (28,567) (34,290) (43,872)
Net loss (28,567) (34,655) (44,236)
Net loss per share (basic and diluted) $ (0.53) $ (0.65) $ (0.81)
Weighted average shares outstanding 54,272 53,630 54,529
This information is presented to facilitate meaningful comparisons to
on-going operations and to other companies. The unaudited pro forma
amounts above do not include a charge for in-process research and
development of $122.4 million and $140.0 million arising from the
Servantis, Security APL and IS
13-27
28
acquisitions in 1996 and the ISC acquisition in 1997, respectively.
Previous operations of AMTI were insignificant and therefore, require no
pro forma considerations. The unaudited pro forma information is not
necessarily indicative of the actual results of operations had the
transactions occurred at the beginning of the periods presented, nor
should it be used to project the Company's results of operations for any
future periods.
On April 20, 1998, the Company sold certain software and related assets of
its wire transfer and cash management businesses for cash of $18.25
million resulting in a net gain on the sale of $14.7 million.
On March 24, 1998, the Company sold certain software and related assets of
its item processing business for cash of $3.4 million resulting in a net
gain on the sale of $3.2 million.
On August 29, 1997, the Company sold certain software and related assets
of its recovery management business for cash of $33.5 million resulting in
a net gain on the sale of $28.2 million.
On March 26, 1997, the Company sold certain assets and certain contracts
and licensed certain proprietary software for processing automatic
accounts receivable through credit cards or the Automated Clearing House
resulting in a net gain on the sale of $6,250,000.
3. INVESTMENTS
Investments as of June 30, 1998 and 1997 are as follows (in thousands):
JUNE 30,
------------------------
1998 1997
Available-for-Sale - U.S. Government and Government Agency
Obligations $ 4,446
Held-to-Maturity - State Obligations $ 1,006
Trading 24,533
-------- -------
Total $ 25,539 $ 4,446
======== =======
Available-for-Sale - Gross unrealized gains and losses related to
available-for-sale investments at June 30, 1997 were insignificant. In
addition, sales of securities and related realized gains/losses, based on
the specific identification cost method, were insignificant for each of
the periods presented.
Held-to-Maturity - The difference between the amortized cost and the
aggregate fair value of held-to-maturity investment at June 30, 1998 was
insignificant.
Trading - Trading investments are classified as current assets and are
recorded at fair value.
Contractual maturities of debt securities classified as held-to-maturity
at June 30, 1998 are as follows:
Due after one year through five years $1,006
======
Expected maturities will differ from contractual maturities because debt
issuers may have the right to call or prepay obligations with or without
call or prepayment penalties.
13-28
29
4. ACCOUNTS RECEIVABLE
Accounts receivable consist of the following (in thousands):
JUNE 30,
-----------------------
1998 1997
Trade accounts receivable $22,739 $22,049
Unbilled trade accounts receivable 10,654 20,958
Other receivables 3,037 5,717
------- -------
36,430 48,724
Less allowance for doubtful accounts 3,470 4,217
------- -------
Total $32,960 $44,507
======= =======
5. ASSETS HELD FOR SALE
In April 1998, the Company announced plans to divest several of its
software businesses through the sale of software and related assets.
Assets of the Company's mortgage, leasing, imaging, and safe box
accounting businesses totaling $15.9 million are comprised of trade,
unbilled, and other accounts receivable (net of an allowance for doubtful
accounts), property, and equipment dedicated to the businesses,
capitalized software, and other purchased intangible assets. Sales of all
businesses are expected to be completed by September 30, 1998 and the
assets are anticipated to be recovered from the proceeds of the sales.
6. NOTE RECEIVABLE
In May 1998, in anticipation of a tax-free exchange of property, the
Company loaned $14.9 million to a third party to purchase a building on
its behalf. Interest of 8% is earned monthly commencing in June 1998 and
the note is payable at the earlier of the sale of the Company's building
in Columbus, Ohio, or May 1999. The estimated fair value of the note
receivable approximates the carrying value based on currently available
instruments with similar interests rates and remaining maturities.
7. INCOME TAXES
The Company accounts for income taxes in accordance with SFAS 109,
"Accounting for Income Taxes," which requires an asset and liability
approach to financial accounting and reporting for income taxes. In
accordance with SFAS 109, deferred income tax assets and liabilities are
computed annually for differences between the financial statement and tax
bases of assets and liabilities that will result in taxable or deductible
amounts in the future based on enacted tax laws and rates applicable to
the periods in which the differences are expected to affect taxable
income. Income tax expense (benefit) is the tax payable or refundable for
the period plus or minus the change during the period in deferred tax
assets and liabilities.
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30
Income tax expense (benefit) consists of the following (in thousands):
SIX MONTHS
YEAR ENDED JUNE 30, ENDED YEAR ENDED
-------------------------- JUNE 30, DECEMBER 31,
1998 1997 1996 1995
Current:
Federal $ 3,795 $ (123)
State and local 1,063 $ 1,084 $ 25 85
------ --------- -------- ----
Total current 4,858 1,084 25 (38)
Deferred federal and state taxes (5,499) (13,101) (8,653) 78
------ --------- -------- ----
Total income tax expense (benefit) $ (641) $ (12,017) $ (8,628) $ 40
====== ========= ======== ====
Income tax expense differs from the amounts computed by applying the U.S.
federal statutory income tax rate of 35 percent to income before income
taxes as a result of the following (in thousands):
SIX MONTHS
YEAR ENDED JUNE 30, ENDED YEAR ENDED
-------------------------------- JUNE 30, DECEMBER 31,
1998 1997 1996 1995
Computed "expected" tax benefit $ (1,520) $ (60,844) $ (49,923) $ (60)
Nondeductible in-process research and
development of acquired businesses 252 49,000 41,602
Nondeductible intangible amortization 1,189 839 219 65
State and local taxes, net of federal income
tax benefit 21 (553) (626) 56
Other, net (583) (459) 100 (21)
------ --------- -------- ----
Total income tax expense (benefit) $ (641) $ (12,017) $ (8,628) $ 40
====== ========= ======== ====
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31
The tax effects of temporary differences that give rise to significant
portions of the deferred tax assets and deferred tax liabilities at June
30, 1998 and 1997 are as follows (in thousands):
JUNE 30,
--------------------------
1998 1997
Deferred tax assets:
Net operating loss carryforwards $ 1,155 $ 9,150
Intangible assets 1,870 5,117
Allowance for bad debts and returns 1,699 1,812
Accrued compensation and related items 1,731 339
Stock warrants 12,964
Reserve accruals 3,212 911
Property and equipment 55
Valuation allowance (6,000)
-------- --------
Total deferred tax assets 22,631 11,384
Deferred tax liabilities:
Capitalized software (1,926) (5,259)
Property and equipment (19)
Prepaid expenses (566) (60)
-------- --------
Total deferred tax liabilities (2,511) (5,319)
-------- --------
Net deferred tax asset $ 20,120 $ 6,065
======== ========
At June 30, 1998, the Company has approximately $1,155,000 of state net
operating loss carryforwards available, expiring in 2009 to 2012. The
valuation allowance at June 30, 1997 reduced deferred tax assets to the
amount the Company believed more likely than not would be realized. During
the year ended June 30, 1998, gains resulted from the sale of certain
software operations enabled the Company to realize the full value of
deferred tax assets. The resulting elimination of the valuation allowance
reduced unamortized intangible assets resulting from the Servantis
acquisition.
8. PROPERTY AND EQUIPMENT
The components of property and equipment are as follows (in thousands):
JUNE 30,
------------------------
1998 1997
Land and land improvements $ 3,146 $ 3,146
Building and building improvements 16,692 14,442
Computer equipment and software licenses 55,526 41,264
Furniture and equipment 9,002 7,107
------- -------
Total 84,366 65,959
Less accumulated depreciation and amortization 33,446 21,932
------- -------
Property - net $50,920 $44,027
======= =======
13-31
32
9. INTANGIBLE ASSETS
The components of intangible assets are as follows (in thousands):
June 30,
--------------------------
1998 1997
Workforce $ 5,179 $ 8,370
Tradenames 815 4,150
Customer base 1,231 3,440
Goodwill 28,927 41,126
Exclusivity 7,900
------- -------
Total 36,152 64,986
Less accumulated amortization 5,678 8,090
------- -------
Intangible assets, net $30,474 $56,896
======= =======
10. ACCRUED LIABILITIES
The components of accrued liabilities are as follows (in thousands):
JUNE 30,
--------------------------
1998 1997
Salaries and related costs $ 9,374 $ 10,716
Services and license agreement accrual 9,887
Reserve for contract and other losses 5,655
Processing fees 2,335 2,658
Reserve for returns and chargebacks 1,944 1,224
Other 5,430 6,571
-------- --------
Total $ 24,738 $ 31,056
======== ========
The reserve for contract and other losses at June 30, 1998 is comprised of
$4.7 million related to an estimated loss from the sale of the leasing
business that occurred on July 7, 1998 (see Note 20, "Subsequent Events")
and $1.0 million for accrued contract losses and related costs which
resulted in the decision to exit the Web Investor business.
11. LONG-TERM DEBT AND NOTE PAYABLE
In March 1996, the Company executed an unsecured note payable with a bank
for $1.1 million. The principal amount was due in July 1998, with interest
payable quarterly based on the LIBOR rate (total of 5.8% at June 30,
1997). In January of 1998, the note was paid in full.
The estimated fair value of the Company's note payable approximated its
carrying amounts as of June 30, 1997 based on currently available debt
with similar interest rates and remaining maturities.
During the six months ended June 30, 1996, the Company retired certain
debt in connection with a business acquisition, resulting in an
extraordinary loss of $364,000, net of income taxes of $205,000.
13-32
33
In May, 1997 the Company obtained a working capital line-of-credit which
enables the Company to borrow up to $20 million, based on the collateral
of eligible accounts receivable. The line expires in October 1999, and
contains certain restrictive covenants, including defined quarterly
operating results, minimum tangible net worth requirements, and the
prohibition of dividend payments. No funds have been drawn against the
line through June 30, 1998.
12. OBLIGATIONS UNDER CAPITAL LEASES
During 1993, the Company entered into a 20-year lease with the Department
of Development of the State of Ohio for land and an office building
located in Columbus, Ohio. The Company has the option to purchase the land
and building for $1 at the termination of the lease and thus, the Company
has recorded the transaction as a capital lease. The lease payments are
secured by a $751,500 standby letter of credit agreement with a bank and
are partially guaranteed by an officer and principal stockholder of the
Company. The standby letter of credit is collateralized by a savings
account totaling $609,292 at June 30, 1998 and certain real estate
adjacent to the leased property. The lease contains certain covenants, the
most restrictive of which require the Company to maintain certain debt to
equity ratios and tangible net worth and working capital levels.
The Company also leases certain computer equipment, furniture and
telephone equipment under capital leases. The Company is required to pay
certain taxes, insurance and other expenses related to the leased
property.
The following is a summary of property under capital leases included in
the accompanying balance sheets (in thousands):
JUNE 30,
------------------------
1998 1997
Land $ 3,146 $ 3,146
Building 4,526 4,526
Computer equipment 2,371 4,318
------- -------
Total 10,043 11,990
Less accumulated depreciation 2,017 3,081
------- -------
Property held under capital leases $ 8,026 $ 8,909
======= =======
13-33
34
Future minimum lease payments required by the capital leases and the net
future minimum lease payments are as follows (in thousands):
FISCAL YEAR
ENDING JUNE 30,
1999 $ 1,372
2000 1,332
2001 1,091
2002 976
2003 837
Thereafter 5,451
-------
Total future minimum lease payments 11,059
Less amount representing interest 3,681
-------
Net future minimum lease payments $ 7,378
=======
13. OPERATING LEASES
The Company leases certain office space and equipment under operating
leases. Certain leases contain renewal options and generally provide that
the Company shall pay for insurance, taxes and maintenance. In addition,
certain leases include rent escalations throughout the terms of the
leases. Total expense under all operating lease agreements for the years
ended June 30, 1998 and 1997, the six months ended June 30, 1996, and the
year ended December 31, 1995 was $5,800,000, $5,882,000, $1,936,000, and
$665,000, respectively. Minimum future rental payments under these leases
are as follows (in thousands):
FISCAL YEAR
ENDING JUNE 30,
1999 $ 6,289
2000 6,395
2001 5,427
2002 4,869
2003 3,769
Thereafter 6,800
--------
Total $ 33,549
========
14. EMPLOYEE BENEFIT PLANS
Retirement Plan - The Company has a defined contribution 401(k) retirement
plan covering substantially all of its employees. Under the plan eligible
employees may contribute a portion of their salary until retirement and
the Company, at its discretion, may match a portion of the employee's
contribution. Total expense under the plan amounted to $859,000,
$1,862,000 , $367,000, and $97,000 for the years ended June 30, 1998 and
1997, the six months ended June 30, 1996, and the year ended December 31,
1995, respectively.
13-34
35
Group Medical Plan - The Company has a group medical self-insurance plan
covering certain of its employees. The Company has employed an
administrator to manage this plan. Under terms of this plan, both the
Company and eligible employees are required to make contributions to this
plan. The administrator reviews all claims filed and authorizes the
payment of benefits. The Company has stop-loss insurance coverage on all
individual claims exceeding $100,000. Total expense under this plan
amounted to $2,522,000, $3,458,000, $1,140,000, and $626,000 for the years
ended June 30, 1998 and 1997, the six months ended June 30, 1996, and the
year ended December 31, 1995, respectively. The Company expenses amounts
as claims are incurred and recognizes a liability for incurred but not
reported claims. At June 30, 1998 and June 30, 1997, the Company has
accrued $308,000 and $378,000, respectively, as a liability for costs
incurred but not paid under this plan.
15. COMMON STOCK
During 1995, the Company adopted the 1995 Stock Option Plan (the "1995
Plan"). The 1995 Plan replaces in its entirety the 1993 Stock Option Plan
(the "1993 Plan"). The options granted under the 1995 and 1993 Plans may
be either incentive stock options or non-statutory stock options. The
terms of the options granted under the 1995 and 1993 Plans are at the sole
discretion of a committee of members of the Company's Board of Directors,
not to exceed ten years. Generally, options vest at either 33% or 20% per
year from the date of grant. The 1995 Plan provides that the Company may
grant options for not more than 5,000,000 shares of common stock to
certain key employees, officers and directors. Options granted under the
1995 and 1993 Plans are exercisable according to the terms of each option,
however, in the event of a change in control or merger as defined, the
options shall become immediately exercisable. At June 30, 1998, 956,289
additional shares are available for grant in the aggregate for all Plans.
Previously, the Company had adopted the 1983 Incentive Stock Option Plan
and the 1983 Non-Statutory Stock Option Plan (collectively, the "1983
Plans"), which provided that the Board of Directors may grant options for
shares of common stock to certain employees and directors. Under the terms
of the 1983 Plans, options are exercisable over a period up to ten years
from the grant date. In the event the Company is sold, options outstanding
under the 1983 Plans must be repurchased at a price calculated as if the
options had been fully exercised.
All options granted under the 1983 Plans, the 1993 Plan, and the 1995 Plan
were granted at exercise prices not less than the fair market value of the
underlying common stock at the date of grant. In the event that shares
purchased through the exercise of incentive stock options are sold within
one year of exercise, the Company is entitled to a tax deduction. The tax
benefit of the deduction is not reflected in the consolidated statements
of operations but is reflected as an increase in additional paid-in
capital.
13-35
36
The following summarizes the stock option activity from January 1, 1995 to
June 30, 1998:
YEAR ENDED
------------------------------------------------ SIX MONTHS ENDED YEAR ENDED
JUNE 30, 1998 JUNE 30, 1997 JUNE 30, 1996 DECEMBER 31, 1995
----------------------- ----------------------- ------------------------ ------------------------
WEIGHTED WEIGHTED WEIGHTED WEIGHTED
NUMBER OF AVERAGE NUMBER OF AVERAGE NUMBER OF AVERAGE NUMBER OF AVERAGE
SHARES EXERCISE PRICE SHARES EXERCISE PRICE SHARES EXERCISE PRICE SHARES EXERCISE PRICE
Outstanding - Beginning
of period 4,441,461 $ 9.59 2,908,218 $ 4.58 2,901,782 $ 1.19 3,074,736 $ 0.82
Granted 137,334 25.60 2,282,056 14.32 459,289 21.79 160,746 7.12
Exercised (711,227) 3.17 (636,309) 1.01 (874,195) 0.99 (270,262) 0.65
Cancelled (742,006) 12.63 (112,504) 14.88 (22,020) 1.06 (63,438) 0.73
----------
Issued in conjunction
with Servantis
Acquisition 443,362 1.52
---------- ---------- ---------- ----------
Outstanding - End of
period 4,365,562 $ 15.23 4,441,461 $ 9.59 2,908,218 $ 4.58 2,901,782 $ 1.19
========== ========== ========== ========== ========== ========== ========== ==========
Options exercisable at
end of period 1,352,516 $ 6.81 1,218,341 $ 1.17 1,433,781 $ 1.16 1,732,206 $ 0.84
========== ========== ========== ========== ========== ========== ========== ==========
Weighted average per
share fair value of options
granted during the year $ 10.77 $ 6.68 $ 8.45 $ 2.92
========== ========== ========== ==========
The following table summarizes information about options outstanding at
June 30, 1998:
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
--------------------------------------------------------------------------------
WEIGHTED AVERAGE WEIGHTED AVERAGE
------------------------------- -----------------------------
REMAINING EXERCISE EXERCISE
RANGE OF EXERCISE PRICES NUMBER CONTRACTUAL LIFE PRICE NUMBER PRICE
$0.85 - $10.00 1,012,811 4.9 $ 1.13 823,408 $ 0.98
$10.00 - $15.00 1,257,191 8.6 13.74 302,259 14.05
$15.00 - $20.00 697,860 8.4 17.60 182,060 17.35
$20.00 - $25.00 214,089 8.9 23.16 44,789 22.21
$25.00 - $30.00 1,183,611 9.8 26.07
---------- ----------
4,365,562 $ 15.23 1,352,516 $ 6.81
========== ======= ========== ======
The fair value of each option grant is estimated on the date of grant
using the Black-Scholes option-pricing model with the following
weighted-average assumptions used for grants in the years ended June 30,
1998 and 1997, the six months ended June 30, 1996, and the year ended
December 31, 1995, respectively: dividend yield of 0% in all periods;
expected volatility of 48%, 47%, 40%, and 40%; risk-free interest rates
of 5.21%, 6.41%, 6.68% and 5.25%; and expected lives of 3-5 years.
Under the 1997 Associate Stock Purchase Plan, effective for the six-month
period beginning January 1, 1997, the Company is authorized to issue up to
one million shares of common stock to its full-time employees, nearly all
of whom are eligible to participate. Under the terms of the Plan,
employees can choose, every six months, to have up to 15% of their salary
withheld to purchase the Company's common stock. The purchase price of the
stock is 85% of the lower of its beginning-of-period or end-of-period
market price. Approximately 39% of eligible employees participated in the
Plan in the second half of the year ended June 30, 1997, approximately 32%
in the first half of 1998 and approximately 49% in the
13-36
37
second half of 1998. Under the plan, 53,013 shares were issued in July of
1997, 56,844 in January of 1998 and 48,631 in July of 1998 from employees'
salary withholdings from the respective previous six-month period.
Following is a summary of the weighted average fair market value of this
look-back option estimated on the grant date using the Black-Scholes
option pricing model, and the related assumptions used:
SIX-MONTH PERIOD ENDED
----------------------------------------------
JUNE 30, DECEMBER 31, JUNE 30,
1998 1997 1997
Fair value of options $ 9.68 $ 14.10 $ 3.93
Assumptions:
Risk-free interest rate 5.0% 5.0% 5.1%
Expected life 3 months 3 months 3 months
Volatility 48.0% 48.0% 47.0%
Dividend yield 0.0% 0.0% 0.0%
The Company applies APB Opinion 25 "Accounting for Stock Issued to
Employees" and related Interpretations in accounting for its stock option
plans and employee stock purchase plan. Had compensation cost for the
Company's stock-based compensation plans been determined based on the fair
value at the grant dates for awards under those plans in accordance with
the provisions of SFAS 123, "Accounting for Stock-Based Compensation," the
Company's net loss and net loss per share, net of related income tax
effects, would have been as follows (in thousands, except per share data):
YEAR ENDED JUNE 30, SIX MONTHS ENDED YEAR ENDED
------------------------- JUNE 30, DECEMBER 31,
1998 1997 1996 1995
Pro forma net loss $ (9,521) $ (164,089) $ (138,797) $ (245)
========== ========== ========== ==========
Pro forma net loss per share,
(basic and diluted) $ (0.17) $ (3.49) $ (3.71) $ (0.01)
========== ========== ========== ==========
The pro forma amounts are not representative of the effects on reported
net income (loss) for future years.
In January 1997 the Board of Directors approved an amendment to the
Company's 401(k) plan which authorized up to 1,000,000 shares of Common
Stock for the Company's matching contribution. In September 1997, 78,257
shares were issued out of treasury stock to fund the Company's match that
accrued during the year ended June 30, 1997.
As described below, the Company has issued certain stock warrants to third
parties and has accounted for the issuance of such warrants in accordance
with the provisions of EITF 96-18 "Accounting for Equity Instruments That
Are Issued to Other Than Employees for Acquiring, or in Conjunction with
Selling, Goods or Services."
In January 1998 the Company entered into a 10-year processing agreement
with a strategic partner. Under the terms of the agreement, the partner
acquired 10-year warrants exercisable at $20 15/16 for 10 million shares
of the Company's Common Stock. Three million warrants vested upon the
execution of a related processing outsourcing agreement on March 9, 1998
which resulted in the Company recording a non-cash charge of $32.4
million. The charge was based on a Black-Scholes option model valuation of
$10.80 per vested share using the following assumptions: risk-free rate of
5.7%, expected life of 10
13-37
38
years, and volatility rate of 56.4%. The remaining seven million warrants
are to vest upon achievement of specific performance targets set forth in
the agreement. Any shares acquired by the strategic partner under the
terms of this agreement are subject to certain transfer and other
restrictions. In March 1997 the Company entered into a consulting
agreement with a third party. Under the terms of the agreement the
consultant acquired 5-year options exercisable at $13.00 for up to 50,000
shares of the Company's Common Stock. In June of 1998, upon the execution
of a processing agreement with a key customer, 25,000 of the options
vested which resulted in the Company recording a non-cash charge of
$418,000. The charge was based on a Black-Scholes option pricing model
valuation of $16.73 per vested share using the following assumptions:
risk-free rate of 5.6%, expected life of 4 years, and volatility rate of
56.4%. The remaining 25,000 options are to vest upon achievement of
specific performance targets by the key customer set forth in the
agreement. Any shares acquired by the consultant under the terms of the
agreement are subject to certain transfer restrictions. In accordance with
the terms of a joint marketing agreement, a strategic partner has warrants
to purchase up to 650,000 shares of common stock at $20 per share should
the partner attain certain customer acquisition targets.
In September 1998 the Company offered an option repricing program to its
employees. Under the terms of the offer, employees had one week to decide
whether to cancel any outstanding option grant in its entirety and replace
it on a share-for-share basis with an option grant with an exercise price
equal to the fair market value of the Company's stock at the new grant
date. Only those cancellations received within one day after the
designated grant date were accepted and any vested options in such
canceled grants were forfeited. The lives of canceled historical grants
typically ranged from three to five years with straight line vesting
beginning one year from the original grant date. All newly issued option
grants have a life of five years and vesting occurs at 40% beginning two
years from the new grant date and 20% for each year thereafter. A total of
1,333,903 options were returned and had the offer taken place at June 30,
1998, the options exercisable would have reduced by 95,614 to 1,256,902.
As of June 30, 1996 certain stockholders had an option to sell up to
280,565 shares of common stock to the Company at $19 per share which
expired on September 30, 1996. Of the eligible shares, 276,469 were sold
to the Company and were recorded as treasury stock.
16. PREFERRED STOCK
In January 1997, the Company's Board of Directors declared a dividend
distribution of Preferred Share Purchase Rights to protect its
stockholders in the event of an unsolicited attempt to acquire the
Company. On February 14, 1997, the Rights were issued to the Company's
stockholders of record, with an expiration date of 10 years. Until a
person or group acquires 15% or more of the Company's Common Stock, the
Rights will automatically trade with the shares of Common Stock. Only when
a person or group has acquired 15% or more of the Company's Common Stock,
will the Rights become exercisable and separate certificates issued. Prior
to the acquisition by a person or group of beneficial ownership of 15% or
more of the Company's Common Stock, the Rights are redeemable for $.001
per Right at the option of the Board of Directors.
13-38
39
17. SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION (IN THOUSANDS)
YEAR ENDED JUNE 30, SIX MONTHS YEAR ENDED
------------------------ ENDED JUNE 30, DECEMBER 31,
1998 1997 1996 1995
Interest paid $ 632 $ 585 $ 321 $ 645
======= ======== ======== =====
Income taxes paid $ 1,434 $ 1,147 $ 468 $ 211
======= ======== ======== =====
Supplemental disclosure of non-cash
investing and financing activities:
Capital lease additions and purchase of other
long-term assets $ 650 $ 1,914 $ 501 $ 262
======= ======== ======== =====
Purchase price of business acquisitions $ 1,000 $200,997 $265,239
Less: Issuance of common stock and stock
options pursuant to acquisitions 177,188 174,812
Liabilities assumed 145 1,619 44,065
Net present value of future payment due 9,610
Cash acquired in acquisitions 1,217 6,958
------- -------- --------
Net cash paid $ 855 $ 11,363 $ 39,404
======= ======== ========
18. BUSINESS SEGMENTS
Prior to 1996, the Company operated in one segment - Electronic Commerce.
With the acquisition of Servantis in February 1996 and Security APL in May
1996, the Company now also operates in the Software and Institutional
Investment Services segments. The net revenues of each segment are
principally domestic, and no single customer accounted for 10% or more of
consolidated revenues for the years ended June 30, 1998 and 1997 or the
six months ended June 30, 1996. Approximately 13% of the Company's
revenues for the year ended December 31, 1995, were from a single
customer. A further description of each business segment follows:
- Electronic Commerce - Electronic commerce includes electronic home
banking, electronic bill payment and business payments. These
services are primarily directed to financial institutions and
businesses and their customers.
- Software - Software services includes end-to-end software products
for ACH processing, account reconciliation, wire transfer, mortgage
loan origination and servicing, lease accounting and debt recovery.
These products and services are primarily directed to financial
institutions and large corporations.
- Investment Services - Investment services includes investment
portfolio management services and investment trading and reporting
services. These products and services are primarily directed to
institutional investment managers.
13-39
40
The following sets forth certain financial information attributable to the
Company's business segments for the years ended June 30, 1998 and 1997 and
the six months ended June 30, 1996 (in thousands):
SIX-MONTH
YEAR ENDED ENDED
-------------------------- -----------------
1998 1997 JUNE 30, 1996
Revenues:
Electronic Commerce $ 137,972 $ 85,926 $ 29,783
Software 66,143 68,113 18,271
Investment Services 29,749 22,406 2,986
--------- --------- ---------
Total $ 233,864 $ 176,445 $ 51,040
========= ========= =========
Operating income (loss):
Electronic commerce, including charge for
acquired in-process research and development
of $140,000 in 1997 $ (39,423) $(160,195) $ (92,160)
Software, including charge for acquired
in-process research and development
of $719 in 1998 48,854 4,324 (24,675)
Investment Services 5,040 2,171 (28,629)
Corporate (21,647) (21,449) (2,701)
--------- --------- ---------
Total $ (7,176) $(175,149) $(148,165)
========= ========= =========
Identifiable assets:
Electronic Commerce $ 70,192 $ 59,265 $ 29,425
Software 39,346 61,701 96,844
Investment Services 21,187 23,187 25,099
Corporate 119,387 79,683 44,862
--------- --------- ---------
Total $ 250,112 $ 223,836 $ 196,230
========= ========= =========
Capital expenditures:
Electronic Commerce $ 19,532 $ 3,182 $ 4,651
Software 2,197 1,171 1,087
Investment Services 895 1,973 686
Corporate 5,315 3,429 666
--------- --------- ---------
Total $ 27,939 $ 9,755 $ 7,090
========= ========= =========
Depreciation and amortization:
Electronic Commerce $ 9,964 $ 2,094 $ 1,698
Software 6,051 10,501 4,345
Investment Services 4,558 4,379 632
Corporate 4,426 7,945 322
--------- --------- ---------
Total $ 24,999 $ 24,919 $ 6,997
========= ========= =========
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41
19. SELECTED QUARTERLY FINANCIAL DATA (UNAUDITED)
The following quarterly financial information for the years ended June 30,
1998 and 1997 includes all adjustments necessary for a fair presentation
of quarterly results of operations:
(In thousands except share and per share data)
QUARTER ENDED
--------------------------------------------------------------------------
SEPTEMBER 30 DECEMBER 31 MARCH 31 JUNE 30
FISCAL 1998
Total revenue $ 52,087 $ 56,515 $ 61,750 $ 63,512
Income (loss) from operations 17,187 (2,771) (29,323) 7,731
Net income (loss) 9,771 (1,692) (17,540) 5,758
Earnings (loss) per share
(basic and diluted) $ 0.17 $ (0.03) $ (0.32) $ 0.10
============ ============ ============ ============
Basic equivalent number of shares 56,702,917 55,028,174 55,281,335 55,375,715
============ ============ ============ ============
Dilutive equivalent number of shares 56,919,685 55,028,174 55,281,335 55,735,090
============ ============ ============ ============
FISCAL 1997
Total revenue $ 32,662 $ 38,505 $ 50,188 $ 55,089
Loss from operations (12,263) (8,695) (144,957) (9,235)
Net loss (7,730) (5,321) (142,856) (5,905)
Loss per share (basic and diluted) $ (0.19) $ (0.13) $ (2.83) $ (0.11)
============ ============ ============ ============
Basic and diluted equivalent
number of shares 41,620,174 41,533,981 50,499,173 5,446,762
============ ============ ============ ============
The sum of quarterly earnings (loss) per share does not equal the
year-to-date earnings (loss) per share for the respective fiscal periods
due to changes in number of shares outstanding at each quarter end.
Significant Fourth Quarter Adjustments - In the fourth quarter of 1998 the
Company recorded adjustments to reduce its 401(k) match accrual by $2.4
million and its management incentive bonus accrual by $1.7 million. Both
incentive amounts had been provided for ratably over the year in
anticipation of achievement of financial results that would have resulted
in distribution of the amounts accrued in accordance with related plan
provisions.
20. SUBSEQUENT EVENTS
On July 6, 1998 the Company divested itself of certain software related to
its leasing line of business. The Company paid the acquiring party
$639,000 in cash and agreed to five additional quarterly installments of
$60,000 each. Additionally, in conjunction with this transaction, the
Company agreed to pay $3.0 million to a customer to relieve the Company
and acquiring party of further obligations relating to a product related
consulting agreement. The expected loss of $4.7 million was recorded as an
accrued liability in the fourth quarter of the year ended June 30, 1998
and is included in the Net Gain on Dispositions of Assets in the Company's
Statement of Operations.
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On September 11, 1998 the Company sold certain software and other assets
related to its mortgage line of business for $21.1 million. As part of the
sale agreement, the Company retained responsibility for certain customer
obligations and agreed to subcontract with the acquiring company to
perform consulting services relating to retained customer obligations. The
estimated gain on the sale transaction of approximately $5.4 million will
be recorded in the first quarter of fiscal 1999.
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INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Stockholders of
CheckFree Holdings Corporation and Subsidiaries:
We have audited the consolidated financial statements of CheckFree
Holdings Corporation and subsidiaries as of June 30, 1998 and 1997, and for the
years ended June 30, 1998 and 1997, and for the six months ended June 30, 1996
and for the year ended December 31, 1995, and have issued our report thereon
dated August 11, 1998, except for Note 20 as to which the date is September 11,
1998; such financial statements and report are included elsewhere in this Form
10-K. Our audits also included the financial statement schedule of CheckFree
Holdings Corporation and subsidiaries, listed in Item 14. This financial
statement schedule is the responsibility of the Corporation's management. Our
responsibility is to express an opinion based on our audits. In our opinion,
such financial statement schedule, when considered in relation to the basic
consolidated financial statements taken as a whole, presents fairly in all
material respects the information set forth therein.
/s/ DELOITTE & TOUCHE LLP
----------------------------------------
DELOITTE & TOUCHE LLP
Atlanta, Georgia
August 11, 1998
VALUATION AND QUALIFYING ACCOUNTS
For the year ended December 31, 1995, the six
months ended June 30, 1996 and the fiscal years
ended June 30, 1997 and 1998
BALANCE AMOUNT
AS OF ASSUMED IN CHARGES TO CHARGES TO BALANCE
BEGINNING OF BUSINESS COSTS AND OTHER AS OF END
PERIOD COMBINATION EXPENSES DEDUCTIONS DEDUCTIONS OF PERIOD
------ ----------- -------- ---------- ---------- ---------
Allowance for Doubtful
Accounts
1995 $ 27 $ - $ 18 $ - $ 12 $ 33
1996 33 1,861 915 - 529 2,280
1997 2,280 1,000 9,196 - 8,259 4,217
1998 4,217 - 3,441 - 4,188 3,470
Reserve for Returns and
Chargebacks
1995 275 - 370 - 255 390
1996 390 - 251 - 98 543
1997 543 - 1,920 - 1,237 1,226
1998 $1,226 $ - $2,080 $ - $1,362 $1,944
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