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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[X]Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934
For the quarterly period ended March 31, 2001
or
[_]Transition report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the transition period from to
Commission File Number 000-27389
INTERWOVEN, INC.
(Exact name of Registrant as specified in its charter)
Delaware 77-0523543
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
1195 West Fremont Avenue, Suite 2000, 94087
Sunnyvale, CA (Zip Code)
(Address of principal executive
offices)
(408) 774-2000
(Registrant's telephone number including area code)
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. Yes [X] No [_]
There were 102,883,442 shares of the Company's Common Stock outstanding on
May 7, 2001.
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TABLE OF CONTENTS
Page
No.
----
PART I FINANCIAL INFORMATION
Item 1--Financial Statements:
Unaudited Condensed Consolidated Balance Sheets as of March 31, 2001
and December 31, 2000................................................ 3
Unaudited Condensed Consolidated Statements of Operations for the
Three Months Ended March 31, 2001 and 2000........................... 4
Unaudited Condensed Consolidated Statements of Cash Flows for the
Three Months Ended March 31, 2001 and 2000........................... 5
Notes to Unaudited Condensed Consolidated Financial Statements........ 6
Item 2--Management's Discussion and Analysis of Financial Condition and
Results of Operations................................................... 11
Item 3--Quantitative and Qualitative Disclosures about Market Risk....... 27
PART II OTHER INFORMATION
Item 1--Legal Proceedings................................................ 28
Item 2--Changes in Securities and Use of Proceeds........................ 28
Item 3--Defaults upon Senior Securities.................................. 28
Item 4--Submission of Matters to a Vote of Securities Holders............ 28
Item 5--Other Information................................................ 28
Item 6--Exhibits and Reports on Form 8-K................................. 28
SIGNATURE................................................................ 29
2
PART I FINANCIAL INFORMATION
Item 1. Financial Statements
INTERWOVEN, INC.
UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands)
March December 31,
31, 2001 2000
-------- ------------
ASSETS
------
Current assets:
Cash and cash equivalents............................. $105,767 $ 75,031
Short-term investments................................ 111,025 147,253
Accounts receivable, net of allowance for doubtful
accounts of $883 and $564, respectively.............. 44,212 36,806
Prepaid expenses...................................... 6,656 7,392
Other current assets.................................. 3,666 2,860
-------- --------
Total current assets................................ 271,326 269,342
Property and equipment, net............................. 17,051 14,889
Intangible assets, net.................................. 218,770 238,502
Restricted cash......................................... 605 605
Other assets............................................ 870 871
-------- --------
$508,622 $524,209
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
------------------------------------
Current liabilities:
Accounts payable...................................... $ 6,271 $ 9,918
Accrued liabilities................................... 27,289 25,411
Deferred revenue...................................... 38,193 34,529
-------- --------
Total current liabilities........................... 71,753 69,858
-------- --------
Stockholders' equity:
Common stock, 500,000 shares authorized, 102,507 and
102,171 shares issued and outstanding.................. 27 27
Additional paid-in capital.............................. 540,459 539,969
Deferred stock-based compensation....................... (21,482) (27,627)
Accumulated other comprehensive income.................. 199 --
Accumulated deficit..................................... (82,334) (58,018)
-------- --------
Total stockholders' equity.......................... 436,869 454,351
-------- --------
$508,622 $524,209
======== ========
The accompanying notes are an integral part of these condensed consolidated
financial statements.
3
INTERWOVEN, INC.
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share amounts)
Three months
ended March 31,
-----------------
2001 2000
-------- -------
Revenues:
License.................................................. $ 39,033 $ 9,388
Services................................................. 21,511 4,472
-------- -------
Total revenues......................................... 60,544 13,860
-------- -------
Cost of revenues:
License.................................................. 490 66
Services................................................. 16,116 4,654
-------- -------
Total cost of revenues................................. 16,606 4,720
-------- -------
Gross profit 43,938 9,140
-------- -------
Operating expenses:
Research and development................................. 8,923 2,208
Sales and marketing...................................... 28,545 9,669
General and administrative............................... 5,770 1,960
Amortization of deferred stock-based compensation........ 4,575 833
Amortization of acquired intangible assets............... 22,072 52
-------- -------
Total operating expenses............................... 69,885 14,722
-------- -------
Loss from operations....................................... (25,947) (5,582)
Interest income and other, net............................. 2,779 2,537
-------- -------
Net loss before provision for income taxes................. (23,168) (3,045)
Provision for income taxes................................. 1,148 --
-------- -------
Net loss................................................... $(24,316) $(3,045)
======== =======
Basic and diluted net loss per share....................... $ (0.25) $ (0.03)
======== =======
Shares used in computing basic and diluted net loss per
share..................................................... 98,406 87,040
======== =======
The accompanying notes are an integral part of these condensed consolidated
financial statements.
4
INTERWOVEN, INC.
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
Three months ended
March 31,
-------------------
2001 2000
-------- ---------
Cash flows from operating activities:
Net loss................................................. $(24,316) $ (3,045)
Adjustments to reconcile net loss to net cash provided by
(used in) operating activities:
Depreciation........................................... 1,756 382
Amortization of deferred stock based compensation...... 4,575 833
Amortization of acquired intangible assets............. 22,072 52
Provisions for doubtful accounts....................... 400 (13)
Changes in assets and liabilities:
Accounts receivable.................................... (7,806) (6,910)
Prepaid expenses and other assets...................... (70) (203)
Accounts payable....................................... (3,647) 494
Accrued liabilities.................................... 2,764 3,658
Deferred revenue....................................... 3,664 6,688
-------- ---------
Net cash (used in) provided by operating activities.. (608) 1,936
-------- ---------
Cash flows from investing activities:
Purchase of property and equipment....................... (3,918) (1,467)
Purchases of investments................................. (55,473) (127,814)
Maturities of investments................................ 91,974 13,090
-------- ---------
Net cash provided by (used in) investing activities.. 32,583 (116,191)
-------- ---------
Cash flows from financing activities:
Proceeds from exercise of warrants into common stock..... -- 10
Proceeds from issuance of common stock through stock
options................................................. 2,562 484
Proceeds from issuance of common stock for follow-on
offering................................................ -- 152,662
-------- ---------
Net cash provided by financing activities............ 2,562 153,156
-------- ---------
Cumulative effect of foreign currency translation........ (74) --
Purchase price adjustment................................ (3,727) --
Net increase in cash and cash equivalents................ 30,736 38,901
Cash and cash equivalents at beginning of period......... 75,031 10,983
-------- ---------
Cash and cash equivalents at end of period............... $105,767 $ 49,884
======== =========
The accompanying notes are an integral part of these condensed consolidated
financial statements.
5
INTERWOVEN, INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
Note 1. Summary of Significant Accounting Policies:
Basis of Presentation
The interim unaudited condensed consolidated financial statements have been
prepared on the same basis as the annual consolidated financial statements
and, in the opinion of management, reflect all adjustments, which include only
normal recurring adjustments, necessary to present fairly the Company's
financial position, results of operations and cash flows as of March 31, 2001
and 2000 and for the three months ended March 31, 2001 and 2000. These
unaudited condensed consolidated financial statements and notes thereto should
be read in conjunction with the Company's audited financial statements and
related notes included in the Company's 2000 Annual Report on Form 10-K/A. The
results of operations for the three months ended March 31, 2001 are not
necessarily indicative of results that may be expected for any other interim
period or for the full fiscal year.
Revenue recognition
Revenue consists principally of fees for licenses of the Company's software
products, maintenance, consulting, and training. The Company recognizes
revenue using the residual method in accordance with Statement of Position 97-
2 (SOP 97-2), "Software Revenue Recognition," as amended by SOP 98-9,
"Modification of SOP 97-2, Software Revenue Recognition with Respect to
Certain Transactions." Under the residual method, revenue is recognized in a
multiple element arrangement in which Company-specific objective evidence of
fair value exists for all of the undelivered elements in the arrangement, but
does not exist for one or more of the delivered elements in the arrangement.
Company-specific objective evidence of fair value of maintenance and other
services is based on the Company's customary pricing for such maintenance
and/or services when sold separately. At the outset of the arrangement with
the customer, the Company defers revenue for the fair value of its undelivered
elements (e.g., maintenance, consulting, and training) and recognizes revenue
for the remainder of the arrangement fee attributable to the elements
initially delivered in the arrangement (i.e., software product) when the basic
criteria in SOP 97-2 have been met. If such evidence of fair value for each
element of the arrangement does not exist, all revenue from the arrangement is
deferred until such time that evidence of fair value does exist or until all
elements of the arrangement are delivered.
Under SOP 97-2, revenue attributable to an element in a customer
arrangement is recognized when persuasive evidence of an arrangement exists,
delivery has occurred, the fee is fixed or determinable, collectibility is
probable, and the arrangement does not require services that are essential to
the functionality of the software. If at the outset of the customer
arrangement, the Company determines that the arrangement fee is not fixed or
determinable or that collectibility is not probable, revenue is recognized
when the arrangement fee becomes due and payable.
The Company's specific policies for recognition of license revenues and
services are as follows:
License revenues are recognized when persuasive evidence of an agreement
exists, the product has been delivered, the license fee is fixed or
determinable and collection of the fee is probable. In addition to the
aforementioned items, when assessing probability of collection, the Company
considers maturity of conducting business, history of collection, and product
acceptance within each geographic sales region. Since January 1, 2001, the
Company has recognized revenue upon the signing of the contract and shipment
of the product in Northern Europe. The Company will continue to assess
probability of collections on an individual agreement-by-agreement basis. The
Company does not offer product return rights to resellers or end users.
Services revenues consist of professional services and maintenance fees.
Professional services primarily consist of software installation and
integration, business process consulting and training. Professional services
are predominately billed on a time and materials basis and revenues are
recognized as the services are performed. Maintenance agreements are typically
priced based on a percentage of the product license fee and have a one-
6
INTERWOVEN, INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
year term, renewable annually. Services provided to customers under
maintenance agreements include technical product support and unspecified
product upgrades. Deferred revenues from advanced payments for maintenance
agreements are recognized ratably over the term of the agreement, which is
typically one year.
During the fourth quarter of 2000, the Company adopted Staff Accounting
Bulletin No. 101, "Revenue Recognition in Financial Statements," ("SAB No.
101"). The adoption of SAB No. 101 did not have a material effect on the
Company's consolidated statement of financial position or results of
operation.
The Company expenses all manufacturing, packaging and distribution costs
associated with software license sales as cost of goods sold.
Comprehensive loss
For the three months ended March 31, 2000, comprehensive loss was zero. For
the three months ended March 31, 2001, comprehensive loss of $24.1 million
consists of $273,000 net unrealized investment gain, $74,000 net cumulative
translation loss, and $24.3 million net loss.
Note 2. Net loss per share
The Company computes net loss per share in accordance with SFAS No. 128,
"Earnings per Share" and SEC Staff Accounting Bulletin ("SAB") No. 98. Under
the provisions of SFAS No. 128 and SAB No. 98, basic net loss per share is
computed using the weighted-average number of outstanding shares of common
stock, excluding shares of restricted stock subject to repurchase summarized
below. Diluted net loss per share is computed using the weighted-average
number of shares of common stock outstanding and, when dilutive, potential
common shares from options and unvested restricted stock using the treasury
stock method and from convertible securities on an "as if converted" basis.
The following table sets forth the computation of basic and diluted net
loss per share for the periods indicated (in thousands, except per share
amounts):
Three months
ended March 31,
-----------------
2001 2000
-------- -------
Numerator:
Net loss attributable to common stockholders.......... $(24,316) $(3,045)
Denominator:
Weighted average shares............................... 102,371 94,577
Weighted average unvested common stock subject to
repurchase........................................... (3,965) (7,537)
-------- -------
Denominator for basic and diluted calculation......... 98,406 87,040
-------- -------
Net loss per share:
Basic and diluted..................................... $ (0.25) $ (0.03)
======== =======
Options to purchase 17,999,680 shares of common stock at a weighted-average
exercise price of $11.57 for the three months ended March 31, 2001, and
options to purchase 4,235,022 shares of common stock at a weighted-average
exercise price of $30.46 for the three months ended March 31, 2000, have been
excluded from the computation of diluted net earnings per share for the three
months ended March 31, 2001 and 2000, respectively, as their effect would have
been antidilutive.
7
INTERWOVEN, INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
3,964,816 and 7,537,028 shares of common stock subject to repurchase at a
weighted average price of $0.32 and $0.35 as of March 31, 2001 and 2000,
respectively, have been excluded from the computation of diluted net loss per
share for the three months ended March 31, 2001 and 2000, respectively, as
their effect would have been antidilutive.
Warrants to purchase 149,564 and 116,316 shares of common stock at a
weighted-average exercise price of $2.125 for the three months ended March 31,
2001 and 2000, respectively, have been excluded from the computation of
diluted net earnings per share for the three months ended March 31, 2001 and
2000, respectively, as their effect would have been antidilutive.
Note 3. Follow-on offering
In February 2000, the Company completed its follow-on offering of
12,000,000 shares of common stock at $40.25. The Company sold 4,000,000 shares
in this offering and selling stockholders sold 8,000,000 shares. Net proceeds
to the Company were $152.4 million.
Note 4. Stock Split
On June 1, 2000 the Company's Board of Directors approved a 2-for-1 stock
split of the outstanding shares of common stock in the form of a stock
dividend. These shares were distributed on July 13, 2000. On December 12, 2000
the Company's Board of Directors approved a 2-for-1 stock split of the
outstanding shares of common stock in the form of a stock dividend. The shares
were distributed on January 2, 2001. All share and per share information
included in these consolidated financial statements have been retroactively
adjusted to reflect these stock splits.
Note 5. Recent Pronouncements
In June 1998, the Financial Accounting Standards Board (FASB) issued
Statement No. 133 (SFAS 133), "Accounting for Derivative Instruments and
Hedging Activity", which was subsequently amended by Statement No. 137 (SFAS
137), "Accounting for Derivative Instruments and Hedging Activities: Deferral
of Effective Date of FASB 133" and Statement No.138 (SFAS 138), "Accounting
for Certain Derivative Instruments and Certain Hedging Activities: an
amendment of FASB Statement No. 133". SFAS 137 requires adoption of SFAS 133
in years beginning after June 15, 2000. SFAS 138 establishes accounting and
reporting standards for derivative instruments and addresses a limited number
of issues causing implementation difficulties for numerous entities. The
Statement requires the Company to recognize all derivatives on the balance
sheet at fair value. Derivatives that are not hedges must be recorded at fair
value through earnings. If the derivative qualifies as a hedge, depending on
the nature of the exposure being hedged, changes in the fair value of
derivatives are either offset against the change in fair value of hedged
assets, liabilities, or firm commitments through earnings or are recognized in
other comprehensive income until the hedged cash flow is recognized in
earnings. The ineffective portion of a derivative's change in fair value is
recognized in earnings. The Statement permits early adoption as of the
beginning of any fiscal quarter. The Company adopted SFAS 133 effective
January 1, 2001, and such adoption did not have a material impact on its
consolidated financial statements.
Note 6. Acquisitions
On July 18, 2000, the Company acquired all of the outstanding capital stock
of Neonyoyo in exchange for approximately $8.0 million in cash and
approximately 2,174,000 shares of its common stock. In addition, the Company
assumed options to purchase a total of 33,862 shares of its common stock in
exchange for all issued and outstanding Neonyoyo options and agreed to pay
cash upon the exercise of such assumed options.
8
INTERWOVEN, INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
On October 31, 2000, the Company acquired all of the outstanding capital
stock of Ajuba Solutions, Inc. in exchange for approximately 360,000 shares of
Interwoven common stock. In addition, the Company issued options to purchase a
total of approximately 218,000 shares of its common stock in exchange for all
issued and outstanding Ajuba options. The Company also paid approximately
$650,000 to Ajuba in connection with the acquisition.
On November 1, 2000, the Company acquired all of the outstanding capital
stock of Metacode Technologies, Inc. in exchange for approximately 1,860,000
shares of its common stock. In addition, the Company issued options to
purchase a total of 914,000 shares of its common stock in exchange for all
issued and outstanding Metacode options and the Company also paid
approximately $5.3 million to Metacode in connection with the acquisition.
The amounts and components of the purchase price, and the allocation of the
purchase price to assets acquired, were as follows (in thousands):
Ajuba Metacode
Neonyoyo Solutions Technologies
-------- --------- ------------
Components of purchase price
Net cash..................................... $ 8,000 $ 650 $ 5,250
Equity....................................... 76,311 21,061 114,049
Incremental fair value of stock options
assumed..................................... 6 2,094 30,613
Transaction costs............................ 1,967 1,105 2,601
------- ------- --------
Total purchase price....................... $86,284 $24,910 $152,513
======= ======= ========
Allocation of purchase price
Tangible assets.............................. $ 1,091 $ 2,073 5,206
Intangible assets............................
Workforce................................... 582 1,480 1,700
Goodwill.................................... 75,983 25,733 143,473
Assumed liabilities......................... (25) (4,376) (566)
In-process research and development......... 1,724 -- 100
Covenants not to compete.................... 6,929 -- --
Completed technology........................ -- -- 2,600
------- ------- --------
Net assets acquired........................ $86,284 $24,910 $152,513
======= ======= ========
The following unaudited pro forma financial data representing the results
of operations had the entities been combined with Interwoven for the three
months ended March 31, 2000 and 2001 includes the straight-line amortization
of intangibles over a period of two to four years and excludes the charges for
in-process research and development (in thousands, except per share amounts).
Three Months
Ended March 31,
------------------
2000 2001
-------- --------
Revenue................................................. $ 14,539 $ 60,544
Net loss................................................ $(34,548) $(24,316)
Weighted average common shares.......................... 91,460 98,406
Net loss per share...................................... $ (0.38) $ (0.25)
The Company recorded deferred compensation of $288 million related to the
assumption of the options and exchange of the Company's shares in the
acquisitions. Amortization of the deferred compensation was $4.6 million for
the quarter ended March 31, 2001.
9
INTERWOVEN, INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
The acquisition of Neonyoyo, Ajuba Solutions and Metacode Technologies were
structured as tax-free acquisitions of stock. Therefore, the differences
between the recognized fair values of acquired net assets and their historical
tax bases are not deductible for tax purposes. A deferred tax liability has
been recognized for the differences between assigned fair values of
intangibles for book purposes and the tax bases of such assets.
Note 7. Subsequent Event
In April 2001, the Company announced an optional two-for-one exchange
program of all Interwoven employee stock options that are currently
outstanding for new options that will be granted under the Interwoven 1999
Equity Incentive Plan and 2000 Stock Incentive Plan. Until May 18, 2001,
Interwoven employees will have an option to exchange all or part of their
existing options for new option(s) with an exercise price per share of $14.63
and a four-year vesting period, beginning May 18, 2001, with a six-month
"cliff". The Company will account for the exchanged options as a variable
option plan whereby the accounting charge for the options will be reassessed
and reflected in the income statement for each reporting period.
10
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations
This report contains forward-looking statements within the meaning of
Section 27A of the Securities Act of 1933 and Section 21E of the Securities
Exchange Act of 1934, including statements regarding deferred compensation
costs, expansion of our professional services organization, expected increases
in expenses, and other expectations regarding future financial and operating
results. All forward-looking statements included in this document are based on
the information available to us on the date hereof, and we assume no
obligation to update any such forward-looking statements. Actual results may
differ materially from the results discussed in this report. Factors that
might cause such a difference include, but are not limited to, those discussed
in "Factors Affecting Future Results". Readers are urged to review and
consider carefully the various disclosures made by us in this report and in
our other reports filed with the Securities and Exchange Commission, including
our 2000 Annual Report on Form 10-K/A, that advise interested parties of risks
and uncertainties that affect our business.
The following discussion and analysis of the financial condition and
results of operations should be read in conjunction with our Financial
Statements and Notes appearing elsewhere in this Form 10-Q.
Overview
Interwoven was incorporated in March 1995 to provide software products and
services for web content management. Our products allow large teams of people
across an enterprise to contribute and edit web content on a collaborative
basis, reducing the time-to-web for critical eBusiness initiatives. From March
1995 through March 1997, we were a development stage company conducting
research and development for our initial products. In May 1997, we shipped the
first version of our principal product, TeamSite. We have subsequently
developed and released enhanced versions of TeamSite and have introduced
related products. As of March 31, 2001, we had sold our products and services
to over 740 customers. We market and sell our products primarily through a
direct sales force and augment our sales efforts through relationships with
systems integrators and other strategic partners. We are headquartered in
Sunnyvale, California and maintain additional offices in the metropolitan
areas of Atlanta, Boston, Chicago, Dallas, Los Angeles, New York City, San
Francisco, Seattle and Washington, D.C. In addition, we have offices in
Australia, Brazil, Canada, France, Hong Kong, Germany, Japan, Mexico,
Netherlands, Norway, United Kingdom, Singapore, Spain and Sweden. We had 968
employees as of March 31, 2001.
We derive revenues from the license of our software products and from
services we provide to our customers. To date, we have derived the majority of
our license revenues from licenses of TeamSite. License revenues are
recognized when persuasive evidence of an agreement exists, the product has
been delivered, the license fee is fixed or determinable and collection of the
fee is probable. In addition to the aforementioned items, when assessing
probability of collection, we consider maturity of conducting business,
history of collection, and product acceptance within each geographic sales
region. Services revenues consist of professional services and maintenance
fees. Professional services primarily consist of software installation and
integration, business process consulting and training. We generally bill our
professional services customers on a time and materials basis and recognize
revenues as the services are performed. Maintenance agreements are typically
priced based on a percentage of the product license fee, and typically have a
one-year term that is renewable annually. Services provided to customers under
maintenance agreements include technical product support and an unspecified
number of product upgrades as released by us during the term of a maintenance
agreement. Revenues from maintenance support agreements are recognized ratably
over the term of the agreement.
Consistent with authoritative guidance on revenue recognition, we assess
the probability of collection on all software license agreements and defer
revenue when collection is not probable. From inception through the fourth
quarter of 2000, the limited collection history and infancy of our
international sales infrastructure as well as uncertain product acceptance
lead us to defer revenue until cash collection for sales occurring outside the
United States. We now believe that a more mature sales infrastructure coupled
with a history of collections in several geographic regions allows us to
ascertain that collections are probable in Northern Europe. Therefore,
11
since January 1, 2001, we have recognized revenue upon the signing of the
contract and shipment of the product in Northern Europe. We will continue to
assess probability of collections on an individual agreement-by-agreement
basis. Further, we will continually assess the appropriateness of revenue
recognition on sales agreements in other geographic locations once we have
developed an adequate infrastructure, collection history, and product
acceptance within those geographic regions.
We have incurred substantial costs to develop our technology and products,
to recruit and train personnel for our engineering, sales and marketing and
services organizations, and to establish our administrative organization. As a
result, we have incurred net losses through the quarter ending March 31, 2001
and had an accumulated deficit of $82.3 million as of March 31, 2001. We
anticipate that our cost of services revenues and operating expenses in
absolute dollars will increase substantially in the future as we grow our
services organization to support an increased level and expanded number of
services offered, increase our sales and marketing operations, develop new
distribution channels, fund greater levels of research and development, and
improve our operational and financial systems. In addition, our limited
operating history and the weakness of the current economic environment
generally makes the prediction of future results of operations difficult and,
accordingly, there can be no assurance that we will achieve or sustain
profitability.
We have generally made business decisions with reference to net profit
metrics excluding non-cash charges, for example, acquisition and stock based
compensation charges. We expect to continue to make acquisitions, incur stock
based compensation and intangible amortization charges, which will increase
our losses inclusive of these non-cash expenses.
We acquired a total of four corporations in 1999 and 2000: Lexington
Software Associates, Inc.; Neonyoyo Inc.; Ajuba Solutions Inc.; and Metacode
Technologies, Inc. Under U.S. generally accepted accounting principles, we
have accounted for the four business combinations using the purchase method of
accounting and recorded the market value of our common stock and options
issued in connection with them and the amount of direct transaction costs as
the cost of acquiring these entities. That cost is allocated among the
individual assets acquired and liabilities assumed, including various
identifiable intangible assets such as goodwill, in-process research and
development, acquired technology, acquired workforce and convenants not to
compete, based on their respective fair values.
We allocated the excess of the purchase cost over the fair value of the net
assets to goodwill. The impact of purchase accounting on our operating results
is significant. The impact of these mergers and acquisitions resulted in
amortization of acquired intangible assets of $22.1 million for the quarter
ended March 31, 2001. We have also recorded deferred compensation related to
options assumed and shares issued to effect business combinations and options
granted below fair market value associated with our initial public offering in
October 1999, of which amortization was $4.6 million in the quarter ended
March 31, 2001.
The following table reflects the prospective impact of deferred
compensation costs and the annual amortization of purchased intangibles
attributable to our mergers and acquisitions that have closed in the past two
years (in thousands):
Fiscal Year
-------------------------------
2001 2002 2003 2004
-------- ------- ------- ------
Intangible Assets........................... $ 88,244 $86,444 $63,272 $ 542
Stock Based Compensation.................... 15,308 7,645 3,464 1,209
-------- ------- ------- ------
$103,552 $94,089 $66,736 $1,751
======== ======= ======= ======
In April 2001, we announced an optional two-for-one exchange program of all
our employee stock options that are currently outstanding for new options that
will be granted under our 1999 Equity Incentive Plan and 2000 Stock Incentive
Plan. Until May 18, 2001, our employees will have an option to exchange all or
part of their existing options for new option(s) with an exercise price per
share of $14.63 and a four-year vesting period, beginning May 18, 2001, with a
six-month "cliff". We will account for the exchanged options as a variable
option plan whereby the accounting charge for the options will be reassessed
and reflected in the income statement for each subsequent reporting period
until the new options are exercised and vested.
12
Results of Operations
Our license and services revenues have grown in each of the last eleven
quarters, and in the three months ended March 31, 2001, except that our
license revenues declined in the three months ended March 31, 1999 from that
in the three months ended December 31, 1998. The decline in that period
reflected the unusually high revenues in the prior period, due in part to a
few large license sales in that period.
The increase in services revenues in the three months ended March 31, 2001
reflects an increase in both professional services and maintenance fees,
generated from a greater number of customers which licensed our products in
prior periods, and it reflects an increase in the number of professional
services staff and a higher effective staff utilization rate.
As a result of our limited operating history and the emerging nature of the
market for web content management software and services in which we compete,
it is difficult for us to forecast our revenues or earnings accurately. It is
possible that in some future periods our results of operations may not meet or
exceed the management's projections, or expectations of public market analysts
and investors. If this occurs, the price of our common stock is likely to
decline. Factors that have caused our results to fluctuate in the past, and
are likely to cause fluctuations in the future, include:
. the size of customer orders and the timing of product and service
deliveries;
. variability in the mix of products and services sold;
. our ability to retain our current customers and attract new customers;
. the amount and timing of operating costs relating to expansion of our
business, including our planned international expansion;
. the announcement or introduction of new products or services by us or
our competitors;
. our ability to attract and retain personnel, particularly management,
engineering and sales personnel and technical consultants;
. our ability to upgrade and develop our systems and infrastructure to
accommodate our growth; and
. costs related to acquisition of technologies or businesses.
As a result of these and other factors, we believe that period-to-period
comparisons of our results of operations may not be meaningful and should not
be relied upon as indicators of our future performance.
13
The following table lists, for the periods indicated, our statement of
operations data as a percentage of total revenues:
Three
months
ended
March 31,
-----------
2001 2000
---- ----
Revenues:
License......................................................... 64% 68%
Services........................................................ 36 32
--- ---
Total revenues................................................ 100 100
Cost of revenues:
License......................................................... 1 0
Services........................................................ 26 34
--- ---
Total cost of revenues........................................ 27 34
Gross profit...................................................... 73 66
Operating expenses:
Research and development........................................ 15 16
Sales and marketing............................................. 47 70
General and administrative...................................... 10 14
Amortization of deferred stock-based compensation............... 8 6
Amortization of acquired intangible assets...................... 36 0
--- ---
Total operating expenses...................................... 116 106
Loss from operations.............................................. (43) (40)
Interest income and other, net.................................... 5 18
Net loss before provision for income taxes........................ (38) (22)
Provision for income taxes........................................ 2 0
--- ---
Net loss.......................................................... (40)% (22)%
=== ===
Three months ended March 31, 2000 and 2001
Revenues
Total revenues increased 337% from $13.9 million for the three months ended
March 31, 2000 to $60.5 million for the three months ended March 31, 2001.
This increase reflects sales to a larger number of new customers and at a
higher average sales price. The number of new customers increased from 255 in
the three months ended March 31, 2000 to 741 in the three months ended March
31, 2001, and the average sales price of an initial production order increased
from $301,000 for the three months ended March 31, 2000 to $335,000 for the
three months ended March 31, 2001. Our ability to attract new customers was a
result of our developing a larger and more experienced sales and marketing
staff, which numbered 125 persons in the three months ended March 31, 2000 and
430 persons in the three months ended March 31, 2001. The increase in average
sales price was a result of larger numbers of user seats being licensed in the
average new order, expanded product configurations, and price increases
between the comparable periods.
License. License revenues increased 316% from $9.4 million for the three
months ended March 31, 2000 to $39.0 million for the three months ended March
31, 2001. License revenues represented 68% and 64% of total revenues,
respectively, in those periods. This increase in license revenues in absolute
dollars reflects the same factors that caused total revenues to increase from
period to period.
Services. Services revenues increased 381% from $4.5 million for the three
months ended March 31, 2000 to $21.5 million for the three months ended March
31, 2001. Services revenues represented 32% and 36% of
14
total revenues, respectively, in those periods. The increase in services
revenues reflects a $9.6 million increase in professional services fees, a
$1.6 million increase in maintenance fees and a $1.8 million increase in
training fees. The increased professional services and maintenance fees were
generated by an expanded number of customers who licensed our products.
Cost of Revenues
License. Cost of license revenues includes expenses incurred to
manufacture, package and distribute our software products and related
documentation, as well as costs of licensing third-party software sold in
conjunction with our software products. Cost of license revenues increased
642% from $66,000 for the three months ended March 31, 2000 to $490,000 for
the three months ended March 31, 2001. Cost of license revenues represented
approximately 1% of license revenues in both periods. The increase in absolute
dollars of cost of license revenues was attributable to an increase in
royalties paid to third party software vendors as well as an increase in the
volume of products shipped.
We expect cost of license revenues to increase in absolute dollar amounts
in the future. We expect cost of license revenues as a percentage of license
revenue to vary from period to period depending upon the royalties to third
party software vendors and amounts of license revenue recognized in each
period.
Services. Cost of services revenues consists primarily of salary and
related costs of our professional services, training, maintenance and support
personnel, as well as subcontractor expenses. Cost of services revenues
increased 246% from $4.7 million for the three months ended March 31, 2000 to
$16.1 million for the three months ended March 31, 2001. Cost of services
revenues represented 104% and 75% of services revenues, respectively, in those
periods. This increase in absolute dollars of cost of services revenues was
primarily attributable to an increase in the number of in-house services
personnel from 82 to 257, and a $1.6 million increase in subcontractor
expenses.
We expect our cost of services revenues to increase for the foreseeable
future as we continue to expand our services staff and consulting
organizations. Since services revenues have lower gross margins than license
revenues, this expansion will reduce our gross margins if our license revenues
do not increase significantly. We expect cost of services revenues as a
percentage of services revenues to vary from period to period depending on
whether the services are performed by our in-house staff or by subcontractors,
and on the overall utilization rates of our in-house professional services
staff. Furthermore, the utilization of in-house staff or sub-contractors is
affected by the mix of services we provide.
Gross Profit
Gross profit increased 381% from $9.1 million for the three months ended
March 31, 2000 to $43.9 million for the three months ended March 31, 2001.
Gross profit represented 66% and 73% of total revenues, respectively, in those
periods. This increase in absolute dollar amounts reflects increased license
and services revenues from a growing customer base. The increase in gross
profit percentage was a result of an improvement in gross margin of our
professional services organization. We have made and we will continue to make
investments in our professional services organization to increase the capacity
of that organization to meet the demand for services from our customers. We
expect gross profit as a percentage of total revenues to fluctuate from period
to period primarily as a result of changes in the relative proportion of
license and services revenues.
Operating Expenses
Research and Development. Research and development expenses consist
primarily of personnel and related costs to support product development
activities. Research and development expenses increased 304% from $2.2 million
for the three months ended March 31, 2000 to $8.9 million for the three months
ended March 31, 2001, representing 16% and 15% of total revenues in those
periods, respectively. This increase in absolute dollar amounts was due to
increases in the number of our product development personnel, which grew from
50 to 158
15
persons, to increased use of subcontractors, and higher associated wages,
salaries and recruitment costs. The decrease in research and development
expenses as a percentage of total revenues relates to a higher growth rate in
total revenues, attributable to our increasing revenue base, as compared to
the growth rate in research and development expenses. We believe that
continued investment in research and development is critical to our strategic
objectives, and we expect that the dollar amounts of research and development
expenses will increase in future periods. We expect that the percentage of
total revenues represented by research and development expenses will fluctuate
from period to period depending primarily on when we hire new research and
development personnel as well as the size and timing of product development
projects. To date, all software development costs have been expensed in the
period incurred.
Sales and Marketing. Sales and marketing expenses consist primarily of
salaries and related costs for sales and marketing personnel, sales
commissions, travel and marketing programs. Sales and marketing expenses
increased 195% from $9.7 million for the three months ended March 31, 2000 to
$28.5 million for the three months ended March 31, 2001, representing 70% and
47% of total revenues, respectively, in those periods. This increase in
absolute dollar amounts primarily relates to increases in sales and marketing
personnel costs of $10.1 million, higher sales commissions and bonuses of $4.8
million and increased marketing-related costs of $2.1 million. The decrease in
sales and marketing expenses as a percentage of total revenues relates to a
higher growth rate in total revenues, attributable to our increasing revenue
base, when compared to the growth rate in sales and marketing expenses. We
expect that the dollar amounts of sales and marketing expenses will increase
in future periods as we continue to invest heavily in order to expand our
customer base and increase brand awareness. We also anticipate that the
percentage of total revenues represented by sales and marketing expenses will
fluctuate from period to period depending primarily on when we hire new sales
personnel, the timing of new marketing programs and the levels of revenues in
each period.
General and Administrative. General and administrative expenses consist
primarily of salaries and related costs for accounting, human resources, legal
and other administrative functions, as well as provisions for doubtful
accounts. General and administrative expenses increased 194% from $2.0 million
for the three months ended March 31, 2000 to $5.8 million for the three months
ended March 31, 2001, representing 14% and 10% of total revenues,
respectively. This increase in dollar amounts was due to additional staffing
of these functions to support expanded operations during the same period. The
decrease in general and administrative expenses as a percentage of total
revenues relates to a higher growth rate in total revenues, attributable to
our increasing revenue base, when compared to the growth rate in general and
administrative expenses. We expect general and administrative expenses to
increase in absolute dollars as we add personnel to support expanding
operations and incur additional costs related to the growth of our business.
We expect that the percentage of total revenues represented by general and
administrative expenses will fluctuate from period to period depending
primarily on when we hire new general and administrative personnel to support
expanding operations as well as the size and timing of expansion projects.
Amortization of Deferred Stock-Based Compensation. We recorded deferred
stock-based compensation of $7.3 million and $30.4 million for stock options
granted in 1999 and stock options granted and assumed in 2000, respectively.
In 2000, we recorded deferred stock-based compensation of $28.8 million in
connection with granting of stock options and issuance of shares related to
the acquisitions of Neonyoyo, Metacode Technologies and Ajuba Solutions.
Amortization of deferred stock-based compensation was $833,000 and $4.6
million for the three months ended March 31, 2000 and 2001, respectively.
Approximately $209,000, $128,000, $408,000 and $88,000 of deferred stock based
compensation amortization relates to personnel in services, research and
development, sales and marketing and general and administrative departments,
respectively, for the three months ended March 31, 2000. Approximately
$103,000, $2.5 million, $1.6 million and $349,000 of deferred stock based
compensation amortization relates to personnel in services, research and
development, sales and marketing and general and administrative departments,
respectively, for the three months ended March 31, 2001. We expect
amortization of deferred stock-based compensation to be $15.3 million and $7.6
million for fiscal year 2001 and 2002, respectively.
Amortization of Acquired Intangible Assets. In July 1999, we recorded
intangible assets of approximately $800,000 in connection with the acquisition
of Lexington Software Associates Incorporated. Goodwill related to
16
this transaction approximated $300,000 and intangible assets related to the
workforce of Lexington Software approximated $500,000 of the purchase price.
The total purchase price for this acquisition was approximately $800,000. In
July 2000, we recorded intangible assets of approximately $85.4 million in
connection with the acquisition of Neonyoyo. Goodwill related to this
transaction approximated $77.9 million and intangible assets related to
workforce and covenants not to compete of Neonyoyo approximated $7.5 million
of the purchase price. The total purchase price for this acquisition was
approximately $88.2 million. The purchase price was allocated to the tangible
and intangible assets acquired and liabilities assumed based upon their
respective fair values at the acquisition date. In October 2000, we recorded
intangible assets of approximately $27.2 million in connection with the
acquisition of Ajuba Solutions, Inc. including goodwill in the amount of
approximately $25.7 million and intangible assets related to workforce of
approximately $1.5 million of the purchase price. The total purchase price for
this acquisition was approximately $24.9 million. In November 2000, we
recorded intangible assets of approximately $147.8 million in connection with
the acquisition of Metacode Technologies, Inc. including goodwill of
approximately $143.5 million, intangible assets related to workforce of
Metacode of approximately $1.7 million and completed technology of
approximately $2.6 million of the purchase price. The total purchase price for
this acquisition was approximately $152.5 million. Amortization of acquired
intangible assets was $52,000 and $22.1 million for the three months ended
March 31, 2000 and 2001, respectively. We expect amortization of acquired
intangible assets to be $88.2 million and $86.4 million for fiscal year 2001
and 2002, respectively.
These acquisitions were accounted for as purchase business combinations. In
conjunction with these acquisitions, we recorded $247.4 million in goodwill
and $13.8 million in other intangible assets. As of March 31, 2001, our stock
price has declined significantly since the respective valuation dates of the
shares issued in connection with each acquisition. Subsequent to March 31,
2001, our stock price has been volatile. Due to these changes, along with
changes in the markets in which we compete and in the United States and global
economics, we have begun an analysis to evaluate our product offerings and
cost containment strategies. In connection with our analysis we also will
evaluate whether the respective fair values of our goodwill and other
intangible assets may be less than their respective carrying values. This
process will include an analysis of estimated cash flows that we expect to
generate from future operations for purposes of determining whether an
impairment of goodwill and other intangible assets has occurred. If, as a
result of our analysis, we determine that there has been an impairment of
goodwill and other intangibles assets, the carrying value of these assets will
be written down to their fair values as a charge against our operating results
in the period that the determination is made. A significant impairment would
harm our financial position and operating results if it were recorded.
Interest Income and Other, Net. Interest income and other, net, increased
from $2.5 million for the three months ended March 31, 2000 to $2.8 million
for the three months ended March 31, 2001 due to increased interest income
earned on proceeds from our initial public offering in October 1999 and our
subsequent public offering in February 2000.
Provision for Income Taxes. A provision of $1.1 million was recorded for
state, federal and foreign taxes in the first quarter of 2001. The provision
was calculated by applying an effective tax rate of 33% to net income before
non-deductible acquisition, intangibles amortization and stock-based
compensation charges.
Liquidity and Capital Resources
Net cash provided by operating activities was $1.9 million in the three
months ended March 31, 2000 and net cash used in operating activities was
$608,000 in the three months ended March 31, 2001. Net cash provided by
operating activities in the prior period reflected decreasing net losses
offset in part by an increase in accounts receivable, accrued liabilities and
deferred revenue. Net cash used in operating activities in the current period
primarily reflected net losses.
During the three months ended March 31, 2000 and March 31, 2001 investing
activities have included purchases of property and equipment, principally
computer hardware and software for our growing number of
17
employees. Cash used to purchase property and equipment was $1.5 million and
$3.9 million during the three months ended March 31, 2000 and March 31, 2001,
respectively. We expect that capital expenditures will increase with our
anticipated growth in operations, infrastructure and personnel. As of March
31, 2001 we had no material capital expenditure commitments.
During the three months ended March 31, 2000 and March 31, 2001, our
investing activities included purchases and maturities of short-term and long-
term investments. Net purchases of investments approximated $114.7 million
during the three months ended March 31, 2000 and net maturities of investment
was $36.5 million during the three months ended March 31, 2001. As of March
31, 2001, we have not invested in derivative securities. We expect that, in
the future, cash in excess of current requirements will continue to be
invested in high credit quality, interest-bearing securities.
Net cash provided by financing activities in the three months ended March
31, 2000 and 2001 was $153.1 million and $2.6 million, respectively. Net cash
provided by financing activities primarily reflects the proceeds of issuance
of common stock in each of these periods.
At March 31, 2001, our sources of liquidity consisted of $216.8 million in
cash, cash equivalents and investments and $199.6 million in working capital.
We have a $5.0 million line of credit with Silicon Valley Bank, which bears
interest at the bank's prime rate, which was 8.00% at March 31, 2001. At March
31, 2001, the line of credit was unused. The line of credit is secured by all
of our tangible and intangible assets, and maintains minimum quarterly
unrestricted cash, cash equivalents and short-term investments, among other
things. We intend to maintain the line of credit. As of March 31, 2001, we
were in compliance with all related financial covenants and restrictions under
the line of credit.
We believe that the current cash, cash equivalents, investments and funds
available under existing credit facilities and the net proceeds from the sale
of the common stock in our initial public offering and follow-on offering,
will be sufficient to meet our working capital requirements for at least the
next 12 months. Thereafter, we may require additional funds to support our
working capital requirements or for other purposes and may seek to raise
additional funds through public or private equity financing or from other
sources. There can be no assurance that additional financing will be available
on acceptable terms, if at all. If adequate funds are not available or are not
available on acceptable terms, we may be unable to develop or enhance our
products, take advantage of future opportunities, or respond to competitive
pressures or unanticipated requirements, which could have a material adverse
effect on our business, financial condition and operating results.
18
FACTORS AFFECTING FUTURE RESULTS
The risks and uncertainties described below are not the only risks we face.
These risks are the ones we consider to be significant to your decision
whether to invest in our common stock at this time. We might be wrong. There
may be risks that you in particular view differently than we do, and there are
other risks and uncertainties that we do not presently know or that we
currently deem immaterial, but that may in fact harm our business in the
future. If any of these events occur, our business, results of operations and
financial condition could be seriously harmed, the trading price of our common
stock could decline and you may lose all or part of your investment.
In addition to other information in this Form 10-Q, the following factors
should be considered carefully in evaluating Interwoven and our business.
Our operating history is limited, so it will be difficult for you to evaluate
our business in making an investment decision.
We were incorporated in March 1995 and have a limited operating history. We
are still in the early stages of our development, which makes the evaluation
of our business operations and our prospects difficult. We shipped our first
product in May 1997. Since that time, we have derived substantially all of our
revenues from licensing our TeamSite product and related products and
services. In evaluating our common stock, you should consider the risks and
difficulties frequently encountered by early stage companies in new and
rapidly evolving markets, particularly those companies whose businesses depend
on the Internet. These risks and difficulties, as they apply to us in
particular, include:
. potential fluctuations in operating results and uncertain growth rates;
. limited market acceptance of our products;
. concentration of our revenues in a single product or family of products;
. our dependence on an increasing number of large orders;
. our need to expand our direct sales forces and indirect sales channels;
. our need to manage rapidly expanding operations;
. our need to attract, train and retain qualified personnel;
. our need to establish and maintain strategic relationships with other
companies, some of whom may in the future become our competitors;
. our need to expand internationally;
. our ability to integrate acquired businesses and technologies;
. delay or deferral of customer implementations of our products;
. the size and timing of individual license transactions;
. the appropriate mix of products and services sold;
. our ability to develop and market new products and control costs; and
. changes in the economy and foreign exchange rates.
One or more of the foregoing factors may cause our operating expenses to be
disproportionately high during any given period or may cause our net revenue
and operating results to fluctuate significantly. Based upon the preceding
factors, we may experience a shortfall in revenue or earnings or otherwise
fail to meet public market expectations, which could materially adversely
affect our business, financial condition and the market price of our common
stock.
19
If we do not increase our license revenues significantly, we will fail to
achieve and sustain operating profitability.
We have incurred net losses from operations in each quarter since our
inception through the quarter ended September 30, 2000. Our net losses
amounted to $6.3 million in 1998, $15.7 million in 1999, $32.1 million in 2000
and 24.3 million for the three months ended March 31, 2001. As of March 31,
2001, we had an accumulated deficit of approximately $82.3 million. We plan to
expand our sales and marketing, research and development, and professional
services organizations. As a result, if we are to sustain operating
profitability on a quarterly and annual basis, we will need to increase our
revenues significantly, particularly our license revenues. We cannot predict
when we will become profitable, if at all.
Our operating results fluctuate widely and are difficult to predict, so we may
fail to satisfy the expectations of investors or market analysts and our stock
price may decline.
Our quarterly operating results have fluctuated significantly in the past,
and we expect them to continue to fluctuate unpredictably in the future. The
main factors affecting these fluctuations are:
. the discretionary nature of our customer's purchase and budget cycles;
. the size and complexity of our license transactions;
. potential delays in recognizing revenue from license transactions;
. timing of new product releases;
. sales force capacity;
. seasonal variations in operating results; and
. variations in the fiscal or quarterly cycles of our customers.
It is possible that in some future periods our results of operations may
not meet or exceed the forecasts periodically disclosed by management or the
expectations of public market analysts and investors. If this occurs, the
price of our common stock is likely to decline. Further, we anticipate that
our sequential percentage rate of revenue growth will decline in future
quarters in part because of the difficulty of maintaining high growth rates
calculated off progressively larger base revenue numbers.
Since large orders are increasingly important to us, our quarterly results are
subject to wide fluctuation.
We derive a significant portion of our license revenues from relatively
large orders. We expect the percentage of larger orders as related to total
orders to increase. This dependence on large orders makes our net revenue and
operating results more likely to vary from quarter to quarter because the loss
of any particular large order is significant.
As a result, our operating results could suffer if any large orders are
delayed or cancelled in any future period. We expect that we will continue to
depend upon a small number of large orders for a significant portion of our
license revenues.
We face significant competition, which could make it difficult to acquire and
retain customers and inhibit any future growth.
We expect the competition in the market in which we operate to persist and
intensify in the future. Competitive pressures may seriously harm our business
and results of operations if they inhibit our future growth, or require us to
hold down or reduce prices, or increase our operating costs. Our competitors
include, but are not limited to:
. potential customers that use in-house development efforts;
20
. developers of software that directly addresses the need for web content
management, such as Documentum, Eprise, Filenet, Intranet Solutions,
Rational Software and Vignette.
We also face potential competition from our strategic partners or from
other companies, such as Microsoft, Oracle or IBM, that may in the future
decide to enter our market. Many of our existing and potential competitors
have longer operating histories, greater name recognition, larger customer
bases and significantly greater financial, technical and marketing resources
than we do. Many of these companies can also leverage extensive customer bases
and adopt aggressive pricing policies to gain market share. Potential
competitors may bundle their products in a manner that discourages users from
purchasing our products. Barriers to entering the web content management
software market are relatively low.
Although we believe the number of our competitors is increasing, we believe
there may be consolidation in the web content management software industry. We
expect that the general downturn of stock prices in the Internet and
technology industries since March 2000 will result in significant acceleration
of this trend, with fewer but more financially sound competitors surviving
that are better able to compete with us for our current and potential
customers.
If we fail to establish and maintain strategic relationships, the market
acceptance of our products, and our profitability, may suffer.
To offer products and services to a larger customer base our direct sales
force depends on strategic partnerships and marketing alliances to obtain
customer leads, referrals and distribution. If we are unable to maintain our
existing strategic relationships or fail to enter into additional strategic
relationships, our ability to increase our sales and reduce expenses will be
harmed. We would also lose anticipated customer introductions and co-marketing
benefits. Our success depends in part on the success of our strategic partners
and their ability to market our products and services successfully. We also
rely on our strategic partnerships to aid in the development of our products.
Should our strategic partners not regard us as significant for their own
businesses, they could reduce their commitment to us or terminate their
respective relationships with us, pursue other partnerships or relationships,
or attempt to develop or acquire products or services that compete with our
products and services. Even if we succeed in establishing these relationships,
they may not result in additional customers or revenues.
Because the market for our products is new, we do not know whether existing
and potential customers will purchase our products in sufficient quantity for
us to achieve profitability.
The market for web content management software in which we sell is new and
rapidly evolving. We expect that we will continue to need intensive marketing
and sales efforts to educate prospective clients about the uses and benefits
of our products and services. Various factors could inhibit the growth of the
market and market acceptance of our products and services. In particular,
potential customers that have invested substantial resources in other methods
of conducting business over the Internet may be reluctant to adopt a new
approach that may replace, limit or compete with their existing systems. We
cannot be certain that a viable market for our products will continue to
expand.
The recent economic downturn may reduce our sales and may cause us to
experience operating losses.
In recent months many signs have pointed to widespread economic slowdowns
in the markets we serve. Capital spending in general and capital spending on
web initiatives in particular may decline. This trend could harm our sales if
it results in order cancellations or delays, and the longer the trend
continues the more harm our sales will suffer. In addition, since many of our
customers may be suffering adverse effects of the general economic slowdown,
we may find that collecting accounts receivable from existing or new customers
will take longer than we expect or that some accounts receivable will become
uncollectable.
21
Acquisitions may harm our business by being more difficult than expected to
integrate, by diverting management's attention or by subjecting us to
unforeseen accounting problems.
As part of our business strategy, we may seek to acquire or invest in
additional businesses, products or technologies that we feel could complement
or expand our business. If we identify an appropriate acquisition opportunity,
we might be unable to negotiate the terms of that acquisition successfully,
finance it, develop the intellectual property acquired from it or integrate it
into our existing business and operations. We may also be unable to select,
manage or absorb any future acquisitions successfully. Further, the
negotiation of potential acquisitions, as well as the integration of an
acquired business, especially if it involved our entering a new market, would
divert management time and other resources and put us at a competitive
disadvantage. We may have to use a substantial portion of our available cash,
including proceeds from public offerings, to consummate an acquisition. On the
other hand, if we consummate acquisitions through an exchange of our
securities, our stockholders could suffer significant dilution. In addition,
we cannot assure you that any particular acquisition, even if successfully
completed, will ultimately benefit our business.
In connection with our acquisitions, we may be required to write off
software development costs or other assets, incur severance liabilities,
amortization expenses related to goodwill and other intangible assets, or
incur debt, any of which could harm our business, financial condition, cash
flows and results of operations. The companies we acquire may not have audited
financial statements, detailed financial information, or adequate internal
controls. There can be no assurance that an audit subsequent to the completion
of an acquisition will not reveal matters of significance, including with
respect to revenues, expenses, contingent or other liabilities, and
intellectual property. Any such write off could harm our financial results.
We may be required to write off all or a portion of the value of assets we
acquired in our recent business combinations.
Accounting principles require companies like us to review the value of
assets from time to time to determine whether those values have been impaired.
Because our stock price has declined in recent periods, and the stock prices
of other companies comparable to us and to companies we acquired have declined
in recent periods, we have begun a process of determining whether the value on
our balance sheet that those acquired companies represent should be adjusted
downward. This process would include an analysis of estimated cash flows
expected from future operations. If as a result of this analysis we determine
there has been an impairment of goodwill and other intangible assets, the
carrying value of those assets will be written down to fair value as a charge
against operating results in the period that the determination is made. Any
significant impairment would harm our operating results for the period, our
financial position, and the price of our stock.
Our lengthy sales cycle makes it particularly difficult for us to forecast
revenue, requires us to incur high costs of sales, and aggravates the
variability of quarterly fluctuations.
The time between our initial contact with a potential customer and the
ultimate sale, which we refer to as our sales cycle, typically ranges between
three and nine months depending largely on the customer. If we do not shorten
our sales cycle, it will be difficult for us to reduce sales and marketing
expenses. In addition, as a result of our lengthy sales cycle, we have only a
limited ability to forecast the timing and size of specific sales. This makes
it more difficult to predict quarterly financial performance, or to achieve
it, and any delay in completing sales in a particular quarter could harm our
business and cause our operating results to vary significantly.
We rely heavily on sales of one product, so if it does not continue to achieve
market acceptance we will continue to experience operating losses.
Since 1997, we have generated substantially all of our revenues from
licenses of, and services related to, our TeamSite product. We believe that
revenues generated from TeamSite will continue to account for a large portion
of our revenues for the foreseeable future. A decline in the price of
TeamSite, or our inability to increase license sales of TeamSite, would harm
our business and operating results more seriously than it would if we had
22
several different products and services to sell. In addition, our future
financial performance will depend upon successfully developing and selling
enhanced versions of TeamSite. If we fail to deliver product enhancements or
new products that customers want it will be more difficult for us to succeed.
We depend on our direct sales force to sell our products, so future growth
will be constrained by our ability to hire, train and retain sales personnel.
We sell our products primarily through our direct sales force, and we
expect to continue to do so in the future. Our ability to sell more products
is limited by our ability to hire, train and retain direct sales personnel,
and we believe that there is significant competition for direct sales
personnel with the advanced sales skills and technical knowledge that we need.
Some of our competitors may have greater resources to hire or retain personnel
with that skill and knowledge. If we are not able to hire or retain
experienced and competent sales personnel, our business would be harmed.
Furthermore, because we depend on our direct sales force, any turnover in our
sales force can significantly harm our operating results. Sales force turnover
tends to slow sales efforts until replacement personnel can be recruited and
trained to become productive. See "--We must attract and retain qualified
personnel, which is particularly difficult for us because we compete with
other Internet-related software companies and are located in the San Francisco
Bay area, where competition for personnel is extremely intense."
If we do not continue to develop our indirect sales channel, we will be less
likely to increase our revenues.
If we do not develop indirect sales channels, we may miss sales
opportunities that might be available through these channels. For example,
domestic and international resellers may be able to reach new customers more
quickly or more effectively than our direct sales force. Our investment of
resources to develop indirect sales channels may not succeed in establishing a
channel that can market our products effectively and provide timely and cost-
effective customer support and services. In addition, we may not be able to
manage conflicts across our sales channels, and our focus on increasing sales
through our indirect channel may divert management resources and attention
from direct sales.
We must attract and retain qualified personnel, which is particularly
difficult for us because we compete with other Internet-related software
companies and are located in the San Francisco Bay area, where competition for
personnel is extremely intense.
Our success depends on our ability to attract and retain qualified,
experienced employees. We compete for experienced engineering, sales and
consulting personnel with Internet professional services firms, software
vendors, consulting and professional services companies. It is also
particularly difficult to recruit and retain personnel in the San Francisco
Bay area, where we are located. Although we provide compensation packages that
include incentive stock options, cash incentives and other employee benefits,
the volatility and current market price of our common stock may make it
difficult for us to attract, assimilate and retain highly qualified employees
in the future. In addition, our customers generally purchase consulting and
implementation services. While we have recently established relationships with
some third-party service providers, we continue to be the primary provider of
these services. It is difficult and expensive to recruit, train and retain
qualified personnel to perform these services, and we may from time to time
have inadequate levels of staffing to perform these services. As a result, our
growth could be limited due to our lack of capacity to provide those services,
or we could experience deterioration in service levels or decreased customer
satisfaction, any of which would harm our business.
If we do not improve our operational systems on a timely basis, we will be
more likely to fail to manage our growth properly.
We have expanded our operations rapidly in recent years. We intend to
continue to expand our operational systems for the foreseeable future to
pursue existing and potential market opportunities. This rapid growth places a
significant demand on management and operational resources. In order to manage
our growth, we need to
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implement and improve our operational systems, procedures and controls on a
timely basis. If we fail to implement and improve these systems in a timely
manner, our business will be seriously harmed.
Difficulties in introducing new products and upgrades in a timely manner will
make market acceptance of our products less likely.
The market for our products is characterized by rapid technological change,
frequent new product introductions and Internet-related technology
enhancements, uncertain product life cycles, changes in customer demands and
evolving industry standards. We expect to add new content management
functionality to our product offerings by internal development, and possibly
by acquisition. Content management technology is more complex than most
software, and new products or product enhancements can require long
development and testing periods. Any delays in developing and releasing new
products could harm our business. New products or upgrades may not be released
according to schedule or may contain defects when released. Either situation
could result in adverse publicity, loss of sales, delay in market acceptance
of our products or customer claims against us, any of which could harm our
business. If we do not develop, license or acquire new software products, or
deliver enhancements to existing products on a timely and cost-effective
basis, our business will be harmed.
Stock based compensation charges and amortization of goodwill and other
intangibles will reduce our reported net income.
Under U.S. generally accepted accounting principles that apply to us, we
have accounted for the four business combinations since our inception using
the purchase method of accounting. Under purchase accounting, we recorded the
market value of our common shares issued in connection with mergers and
acquisitions with the fair value of the stock options assumed, which became
options to purchase our common shares and the amount of direct transaction
costs as the cost of acquiring these entities. That cost is allocated to the
individual assets acquired and liabilities assumed, including various
identifiable intangible assets such as goodwill, in-process research and
development, acquired technology, acquired workforce and covenants not to
compete, based on their respective fair values. We have also recorded deferred
compensation related to options assumed and shares issued to effect business
combinations as well as options granted below fair market value associated
with our initial public offering in October 1999.
The amortization of intangibles and deferred stock based compensation
resulted in expenses of approximately $885,000 and $26.6 million, for the
quarters ended March 31, 2000 and 2001. The future amortization expense
related to the acquisitions and deferred stock based compensation may be
accelerated as management assesses the value and useful life of the intangible
assets.
Our stock option repricing program will require us to record a compensation
charge on a quarterly basis as a result of variable plan accounting treatment,
which will lower our earnings. As of May 7, 2001, provided all employees
exchange their options under the program, the magnitude of this charge would
be approximately $11.2 million amortized quarterly until all options are
either exercised, forfeited or cancelled.
Our products might not be compatible with all major platforms, which could
limit our revenues.
Our products currently operate on the Microsoft Windows NT, Microsoft
Windows 2000, Linux, IBM AIX, Hewlett Packard UX and Sun Solaris operating
systems. In addition, our products are required to interoperate with leading
web content authoring tools and web application servers. We must continually
modify and enhance our products to keep pace with changes in these
applications and operating systems. If our products were to be incompatible
with a popular new operating system or Internet business application, our
business would be harmed. In addition, uncertainties related to the timing and
nature of new product announcements, introductions or modifications by vendors
of operating systems, browsers, back-office applications, and other Internet-
related applications, could also harm our business.
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We have limited experience conducting operations internationally, which may
make it more difficult than we expect to continue to expand overseas and may
increase the costs of doing so.
To date, we have derived the majority of our revenues from sales to North
American customers. We have recently expanded our international operations.
There are many barriers to competing successfully in the international arena,
including:
. costs of customizing products for foreign countries;
. development of foreign language graphical user interface for
development;
. restrictions on the use of software encryption technology;
. dependence on local vendors;
. compliance with multiple, conflicting and changing governmental laws and
regulations;
. longer sales cycles;
. revenue recognition criteria;
. foreign exchange fluctuations;
. import and export restrictions and tariffs; and
. negotiating and executing sales in a foreign language.
As a result of these competitive barriers, we cannot assure you that we
will be able to market, sell and deliver our products and services in
international markets.
If our services revenue does not grow substantially, our total revenue is
likely to grow at a slower rate.
Our services revenue represents a significant component of our total
revenue--32% and 36% of total revenue for the quarters ended March 31, 2000
and 2001, respectively. We anticipate that services revenue will continue to
represent a significant percentage of total revenue in the future. To a large
extent, the level of services revenue depends upon our ability to license
products which generate follow-on services revenue. Additionally, services
revenue growth depends on ongoing renewals of maintenance and service
contracts. Moreover, as third-party organizations such as systems integrators
become proficient in installing or servicing our products, our services
revenues could decline. Our ability to increase services revenues will depend
in large part on our ability to increase the capacity of our professional
services organization, including our ability to recruit, train and retain a
sufficient number of qualified personnel.
We might not be able to protect and enforce our intellectual property rights,
a loss of which could harm our business.
We depend upon our proprietary technology, and rely on a combination of
patent, copyright and trademark laws, trade secrets, confidentiality
procedures and contractual provisions to protect it. We currently do not have
any issued United States or foreign patents, but we have applied for several
U.S. patents. It is possible that patents will not be issued from our
currently pending patent applications or any future patent application we may
file. We have also restricted customers access to our source code and required
all employees to enter into confidentiality and invention assignment
agreements. Despite our efforts to protect our proprietary technology,
unauthorized parties may attempt to copy aspects of our products or to obtain
and use information that we regard as proprietary. In addition, the laws of
some foreign countries do not protect our proprietary rights as effectively as
the laws of the United States, and we expect that it will become more
difficult to monitor use of our products as we increase our international
presence. In addition, third parties may claim that our products infringe
theirs.
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Our failure to deliver defect-free software could result in losses and harmful
publicity.
Our software products are complex and have in the past and may in the
future contain defects or failures that may be detected at any point in the
product's life. We have discovered software defects in the past in some of our
products after their release. Although past defects have not had a material
effect on our results of operations, in the future we may experience delays or
lost revenue caused by new defects. Despite our testing, defects and errors
may still be found in new or existing products, and may result in delayed or
lost revenues, loss of market share, failure to achieve acceptance, reduced
customer satisfaction, diversion of development resources and damage to our
reputation. As has occurred in the past, new releases of products or product
enhancements may require us to provide additional services under our
maintenance contracts to ensure proper installation and implementation.
Moreover, third parties may develop and spread computer viruses that may
damage the functionality of our software products. Any damage to or
interruption in the performance of our software could also harm our business.
Defects in our products may result in customer claims against us that could
cause unanticipated losses.
Because customers rely on our products for business critical processes,
defects or errors in our products or services might result in tort or warranty
claims. It is possible that the limitation of liability provisions in our
contracts will not be effective as a result of existing or future federal,
state or local laws or ordinances or unfavorable judicial decisions. We have
not experienced any product liability claims like this to date, but we could
in the future. Further, although we maintain errors and omissions insurance,
this insurance coverage may not be adequate to cover us. A successful product
liability claim could harm our business. Even defending a product liability
suit, regardless of its merits, could harm our business because it entails
substantial expense and diverts the time and attention of key management
personnel.
We have various mechanisms in place to discourage takeover attempts, which
might tend to suppress our stock price.
Provisions of our certificate of incorporation and bylaws that may
discourage, delay or prevent a change in control include:
. we are authorized to issue "blank check" preferred stock, which could be
issued by our board of directors to increase the number of outstanding
shares and thwart a takeover attempt;
. we provide for the election of only one-third of our directors at each
annual meeting of stockholders, which slows turnover on the board of
directors;
. we limit who may call special meetings of stockholders;
. we prohibit stockholder action by written consent, so all stockholder
actions must be taken at a meeting of our stockholders; and
. we require advance notice for nominations for election to the board of
directors or for proposing matters that can be acted upon by
stockholders at stockholder meetings.
The location of our facilities subjects us to the risk of earthquakes and
power outages.
Our corporate headquarters, including most of our research and development
operations, are located in the Silicon Valley area of Northern California, a
region known for seismic activity. Additionally, California has experienced
power outages in the recent past. A significant disaster, such as an
earthquake or a prolonged power outage, could have a material adverse impact
on our business, operating results, and financial condition by disrupting our
employees' productivity or damaging our facilities.
26
Fluctuations in the exchange rates of foreign currency may harm our business.
We are exposed to adverse movements in foreign currency exchange rates
because we translate foreign currencies into U.S. Dollars for reporting
purposes. Historically, these risks were minimal for us, but as our
international revenue and operations have grown and continue to grow, the
adverse currency fluctuations could have a material adverse impact on our
financial results. Historically, our primary exposures have related to
operating expenses and sales in Australia, Asia and Europe that were not U.S.
Dollar denominated. The increasing use of the Euro as a common currency for
members of the European Union could affect our foreign exchange exposure.
Item 3. Quantitative and Qualitative Disclosures about Market Risk
We develop products in the United States and market our products in North
America, and, to a lesser extent in Europe and the Pacific Rim. As a result,
our financial results could be affected by factors such as changes in foreign
currency exchange rates or weak economic conditions in foreign markets. Since
a majority of our revenue is currently denominated in U.S. Dollars, a
strengthening of the Dollar could make our products less competitive in
foreign markets. Our interest income and expense is sensitive to changes in
the general level of U.S. interest rates, particularly since the majority of
our financial investments are in cash equivalents and investments. Due to the
nature of our financial investments, we believe that there is no material risk
exposure.
Interest Rate Risk
The primary objective of our investment activities is to preserve principal
while at the same time maximizing yields without significantly increasing
risk. To achieve this objective, we maintain our portfolio of cash equivalents
and short-term and long-term investments in a variety of securities, including
both government and corporate obligations and money market funds. As of March
31, 2001, our entire portfolio matures in one year or less. For a tabular
presentation of interest rate risk sensitive instruments by year of maturity,
including the market value and average interest rates for the Company's
investment portfolio as of December 31, 2000, see the Company's 2000 Form 10-
K/A filed with the Securities and Exchange Commission in March 2001.
We did not hold derivative financial instruments as of March 31, 2001, and
have never held such instruments in the past. In addition, we had no
outstanding debt as of March 31, 2001.
Foreign Currency Risk
Currently the majority of our sales and expenses are denominated in U.S.
Dollars, as a result we have experienced no significant foreign exchange gains
and losses to date. While we do expect to effect some transactions in foreign
currencies in 2001, we do not anticipate that foreign exchange gains or losses
will be significant. We have not engaged in foreign currency hedging
activities to date.
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PART II
OTHER INFORMATION
Item 1. Legal Proceedings
Not applicable.
Item 2. Changes in Securities and Use of Proceeds
Not applicable.
Item 3. Defaults upon Senior Securities
Not applicable.
Item 4. Submission of Matters to a Vote of Securities Holders
Not applicable.
Item 5. Other Information
Not applicable.
Item 6. Exhibits and Reports on Form 8-K
(b) Reports on Form 8-K:
A Form 8-K/A Amendment to Form 8-K dated October 30, 2000 was filed by the
Registrant on January 16, 2001 to report under Item 2: Acquisition or
Disposition of Assets its earlier-reported acquisition of Ajuba Solutions,
Inc. and Metacode Technologies, Inc. and to report under Item 7: Financial
Statements and Exhibits financial statements of businesses acquired and pro
forma financial information.
A Current Report on Form 8-K dated January 23, 2001 was filed by the
Registrant on January 24, 2001 to report under Item 5: Other Events the filing
of its quarterly earnings release and other financial and operating
information and Item 7: Financial Statements and Exhibits with respect to a
press release exhibit.
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SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
INTERWOVEN, INC.
Dated: May 14, 2001 By: /s/ David M. Allen
----------------------------------
David M. Allen
Senior Vice President and Chief
Financial Officer
(Principal Financial and
Accounting Officer)
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