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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: September 30, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from ____________ to ____________
COMMISSION FILE NUMBER: 0-27752
ANALOGY, INC.
(Exact name of registrant as specified in its charter)
OREGON 93-0892014
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
9205 SW GEMINI DRIVE
BEAVERTON, OREGON 97008
(Address of principal executive offices and zip code)
503-626-9700
(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 [ ]
COMMON STOCK, NO PAR VALUE 9,436,586
(Class) (Shares outstanding at October 30, 1998)
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ANALOGY, INC.
FORM 10-Q
INDEX
Page
----
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements:
Consolidated Balance Sheets - September 30, 1998
and March 31, 1998........................................................ 2
Consolidated Statements of Operations - Three Months and Six Months
ended September 30, 1998 and 1997......................................... 3
Consolidated Statements of Cash Flows - Six Months
ended September 30, 1998 and 1997......................................... 4
Notes to Consolidated Financial Statements................................ 5
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations........................................ 7
Item 3. Quantitative and Qualitative Disclosure About Market Risk....... 15
PART II - OTHER INFORMATION
Item 4. Submission of Matters to a Vote of Security Holders.............. 15
Item 6. Exhibits and Reports on Form 8-K................................. 15
1
PART I - FINANCIAL INFORMATION
ANALOGY, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In thousands)
(Unaudited)
September 30, March 31,
1998 1998
------------------ -------------
ASSETS
Current assets:
Cash and cash equivalents $ 1,676 $ 8,130
Accounts receivable 5,754 3,946
Prepaid expenses 1,331 1,160
Other assets, net 2,041 506
---------- -----------
Total current assets 10,802 13,742
Furniture, fixtures and equipment, net of accumulated
depreciation and amortization of $9,274 and $8,073 3,178 3,811
Library costs, net 4,222 3,924
Other assets, net 2,141 1,498
---------- -----------
$ 20,343 $ 22,975
---------- -----------
---------- -----------
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable and accrued expenses $ 1,430 $ 1,895
Current portion of capital leases 463 536
Accrued salaries and benefits 2,371 2,726
Unearned revenue 8,027 7,254
---------- -----------
Total current liabilities 12,291 12,411
Non-current portion of capital leases 288 454
Deferred contract revenue 2,025 1,308
Other liabilities 91 107
Shareholders' equity:
Common stock, no par value, authorized 35,000 shares;
9,437 and 9,330 shares issued and outstanding 18,343 17,906
Other comprehensive loss- foreign currency translation (172) (205)
Accumulated deficit (12,523) (9,006)
---------- -----------
Total shareholders' equity 5,648 8,695
---------- -----------
$ 20,343 $ 22,975
---------- -----------
---------- -----------
The accompanying notes are an integral part of these consolidated financial
statements.
2
ANALOGY, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share amounts)
(Unaudited)
Three months ended Six months ended
September 30, September 30,
----------------------------- -----------------------------
1998 1997 1998 1997
------------- ----------- ------------ -------------
Revenue:
Product licenses $ 4,045 $ 3,470 $ 6,880 $ 6,221
Service and other 2,372 3,272 4,949 5,733
--------- -------- --------- ----------
Total revenue 6,417 6,742 11,829 11,954
Cost of revenue:
Product licenses 393 423 913 970
Service and other 220 958 554 1,546
--------- -------- --------- ----------
Total cost of revenue 613 1,381 1,467 2,516
--------- -------- --------- ----------
Gross profit 5,804 5,361 10,362 9,438
Operating expenses:
Research and development 2,296 1,192 4,692 2,703
Sales and marketing 3,080 3,216 6,683 6,304
General and administrative 621 756 1,305 1,424
Amortization of intangibles 92 92 184 184
Restructuring charges - - 557 -
--------- -------- --------- ----------
Total operating expenses 6,089 5,256 13,421 10,615
--------- -------- --------- ----------
Operating (loss) income (285) 105 (3,059) (1,177)
Other expense, net (30) (31) (232) (6)
--------- -------- --------- ----------
(Loss) income before income
taxes (315) 74 (3,291) (1,183)
Income tax expense (benefit) 47 19 226 (295)
--------- -------- --------- ----------
Net (loss) income $ (362) $ 55 $ (3,517) $ (888)
--------- -------- --------- ----------
--------- -------- --------- ----------
Basic net (loss) income per share $ (0.04) $ 0.01 $ (0.37) $ (0.10)
--------- -------- --------- ----------
--------- -------- --------- ----------
Diluted net (loss) income per share $ (0.04) $ 0.01 $ (0.37) $ (0.10)
--------- -------- --------- ----------
--------- -------- --------- ----------
Shares used in per share calculations:
Basic 9,417 9,171 9,388 9,149
--------- -------- --------- ----------
--------- -------- --------- ----------
Diluted 9,417 9,808 9,388 9,149
--------- -------- --------- ----------
--------- -------- --------- ----------
The accompanying notes are an integral part of these consolidated financial
statements.
3
ANALOGY, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
(In thousands)
(Unaudited)
Six months ended September 30,
--------------------------------------
1998 1997
----------------- --------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $ (3,517) $ (888)
Adjustments to reconcile net loss to net cash
provided by (used in) operating activities:
Depreciation and amortization 2,058 1,845
Changes in operating assets and liabilities:
Accounts receivable (1,610) 2,271
Prepaid expenses and other assets (181) (216)
Accounts payable and accrued expenses (956) (1,181)
Unearned revenue (1,070) (264)
---------- ----------
Net cash (used in) provided by operating activities (5,276) 1,567
---------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Maturities of marketable securities -- 1,700
Capital expenditures for furniture, fixtures and equipment (447) (819)
Capital expenditures for library costs (955) (1,131)
---------- ----------
Net cash used in investing activities (1,402) (250)
---------- ----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Principal payments on capital lease obligations (317) (250)
Proceeds from exercise of stock options and warrants 437 231
---------- ----------
Net cash provided by (used in) financing activities 120 (19)
---------- ----------
Effect of exchange rate changes on cash and cash equivalents 104 (12)
---------- ----------
Net (decrease) increase in cash and cash equivalents (6,454) 1,286
Cash and cash equivalents at beginning of period 8,130 1,827
---------- ----------
Cash and cash equivalents at end of period $ 1,676 $ 3,113
---------- ----------
---------- ----------
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid for:
Interest $ 158 $ 68
Income taxes 138 158
SUPPLEMENTAL DISCLOSURE OF NONCASH INFORMATION:
Acquisition of equipment under capital lease obligations $ 78 $ 63
Recognition of deferred and unearned contract revenue 2,560 --
The accompanying notes are an integral part of these consolidated financial
statements.
4
ANALOGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. BASIS OF PRESENTATION
The unaudited financial information included herein for the three and six
months ended September 30, 1998 and 1997 was prepared in conformity with
generally accepted accounting principles. The financial information as of
March 31, 1998 is derived from the Analogy, Inc. (the "Company") consolidated
financial statements included in the Company's Annual Report on Form 10-K for
the year ended March 31, 1998. Certain information or footnote disclosures
normally included in financial statements prepared in accordance with
generally accepted accounting principles have been condensed or omitted,
pursuant to the rules and regulations of the Securities and Exchange
Commission. In the opinion of management, the accompanying consolidated
financial statements include all adjustments necessary (which are of a normal
and recurring nature) for the fair presentation of the results of the interim
periods presented. The accompanying consolidated financial statements should
be read in conjunction with the Company's audited consolidated financial
statements for the year ended March 31, 1998, as included in the Company's
Annual Report on Form 10-K for the year ended March 31, 1998.
Operating results for the three and six months ended September 30, 1998 are
not necessarily indicative of the results that may be expected for the entire
fiscal year ending March 31, 1999, or any portion thereof.
2. RECLASSIFICATIONS
At September 30, 1998, the Company recorded deferred contract revenue
primarily related to a long term contract received during the current
quarter, and reclassified certain similar prior period amounts to conform
with the current period presentation. Certain other prior period amounts have
been reclassified to conform with the current period presentation.
3. COMPREHENSIVE LOSS
On April 1, 1998, the Company adopted Statement of Financial Accounting
Standards No. 130, "Reporting Comprehensive Income" ("SFAS 130"), which
establishes requirements for disclosure of comprehensive income. The
objective of SFAS 130 is to report all changes in equity that result from
transactions and economic events other than transactions with owners.
Comprehensive income is the total of net income and all other non-owner
changes in equity. Adoption of SFAS 130 did not impact the Company's
consolidated financial position, results of operations or cash flows for the
three and six months ended September 30, 1998 and 1997. The reconciliation of
net (loss) income to comprehensive (loss) income is as follows (in thousands):
Three Months Ended September 30,
--------------------------------------
1998 1997
---------- ---------
Net (loss) income $ (362) $ 55
Foreign currency translation adjustments 24 (1)
---------- ---------
---------- ---------
Comprehensive (loss) income $ (338) $ 54
---------- ---------
---------- ---------
Six Months Ended September 30,
--------------------------------------
1998 1997
---------- ---------
Net loss $ (3,517) $ (888)
Foreign currency translation adjustments 33 (19)
---------- ---------
Comprehensive loss $ (3,484) $ (907)
---------- ---------
---------- ---------
5
4. NET LOSS/INCOME PER SHARE
The Company has adopted Financial Accounting Standards Board Statement of
Financial Accounting Standards No. 128, "Earnings per Share" ("SFAS 128").
Basic net loss per common share is computed by dividing net loss by the
weighted average number of shares of common stock outstanding for the period.
Diluted net loss per common share for all periods presented is the same as
basic net loss per share since all potential dilutive securities are excluded
because they are antidilutive. Basic earnings per common share is computed
using the weighted average number of shares of common stock outstanding for
the period. Diluted earnings per common share is computed using the weighted
average number of shares of common stock and potential common shares related
to stock options and warrants outstanding during the period. Potential common
shares of 637 were used in the calculation of diluted earnings per share for
the quarter ended September 30, 1997.
The dilutive effect of stock options outstanding for the purchase of
1,523,000 shares for the three months and six months ended September 30,
1998, and 1,332,000 shares for the three months and six months ended
September 30, 1997; and warrants outstanding for the purchase of 300,000
shares for the three months and six months ended September 30, 1998, and
410,000 shares for three months and six months ended September 30, 1997,
respectively, were not included in loss per share calculations, because to do
so would have been antidilutive.
5. RESTRUCTURING
Results of operations for the first quarter of fiscal year 1999 included a
$557,000 charge for costs associated with a restructuring plan undertaken to
improve profitability. The restructuring plan consisted of a work force
reduction primarily in the marketing and research and development functions
of the Company. All of the restructuring charges were paid in the first
quarter of fiscal year 1999.
6
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
GENERAL
The Company develops, markets and supports high-performance software and
model libraries for the top-down design and behavioral simulation of
mixed-signal and mixed-technology systems. The Company's core simulator
product, Saber, was introduced in 1987. In addition to Saber, Analogy offers
schematic capture and analysis tools and framework integration products
providing interfaces to the design environments of major electronic design
automation companies.
The Company's product license revenue consists of license fees for its
software products and template and component model library subscription fees.
Service and other revenue consists of software maintenance fees, training,
consulting and both commercial and governmental contract model development
and research and development contracts. The Company's software products are
shipped only after the Company has an executed software license agreement
with a customer. Revenue from software licenses is recognized upon shipment
to the customer. Revenue from sales to resellers is generally recognized upon
shipment to the reseller. In the case of certain long-term contracts, revenue
is recognized on a subscription basis over the life of the contract. Revenue
from library subscription fees is typically billed annually and the related
revenue is recognized ratably over the life of the contract, usually twelve
months. Maintenance is normally billed in advance and recognized ratably over
the life of the contract, which is usually twelve months. Training,
consulting and certain other services revenue is recognized as the services
or portions thereof have been provided. Revenue from contract model
development is generally recognized upon shipment of the underlying models,
or upon acceptance criteria as agreed to with the customer.
The Company received a modeling contract from the U.S. Air Force in fiscal
year 1997. The Company also received a contract from the Defense Advanced
Research Projects Agency ("DARPA") in fiscal year 1997 and a multi-year grant
from the National Institute of Standards and Technology ("NIST") in fiscal
year 1996 which provided funding to the Company for research and development.
The DARPA contract contains cost sharing provisions. The final models under
the U.S. Air Force contract were delivered in the fourth quarter of fiscal
year 1998, therefore, no further revenues will be received in fiscal year
1999 from this source. In addition, revenues from the NIST grant concluded at
the end of the first quarter of fiscal year 1999 and revenues from the DARPA
contract are expected to be minimal in fiscal year 1999, as this award nears
expiration. There can be no assurance that revenues from the U.S. Air Force,
DARPA or NIST will be replaced.
FACTORS THAT MAY AFFECT FUTURE RESULTS
This report, including the following discussion and analysis of financial
condition and results of operations, contains certain statements, trend
analysis and other information that constitute "forward looking statements"
within the meaning of the Private Securities Litigation Reform Act of 1995,
which may involve risks and uncertainties. Such forward looking statements
include, but are not limited to, statements including the words "anticipate,"
"believe," "estimate," "expect," "plan," "intend" and other similar
expressions. These forward looking statements involve risks and uncertainties
that could cause actual results to differ materially from the forward-looking
statements, including, without limitation, the receipt and timing of orders
for the Company's products, the lengthy sales cycles for the Company's
products, the effect of the Asian economic situation, the impact of expense
reductions on the Company, increased adoption of behavioral modeling design
methodologies for mixed-signal and mixed-technology systems design, the
Company's ongoing ability to introduce new products and expand its markets,
seasonal fluctuations in the Company's order patterns and competitive
initiatives, unanticipated costs related to the Year 2000 issue, and other
risks listed from time to time in the Company's periodic reports filed with
the Securities and Exchange Commission or otherwise disclosed by the Company.
Results of operations for the periods discussed below should not be
considered indicative of the results to be expected in any future period, and
fluctuations in operating results may also result in fluctuations in the
market
7
price of the Company's common stock. Like most high technology companies, the
Company faces certain business risks that could have adverse effects on the
Company's results of operations, including those discussed below, and those
discussed elsewhere in this Report.
The Company's quarterly operating results have in the past and may in the
future vary significantly depending on factors such as the receipt and timing
of significant orders, increased competition, the timing of new product
announcements, changes in pricing policies by the Company or its competitors,
lengthy sales cycles, lack of market acceptance or delays in the introduction
of new or enhanced versions of the Company's products, seasonal factors, the
mix of direct and indirect sales, general economic conditions, and the
potential effect of the Asian economic situation. In particular, the
Company's quarterly operating results have in the past fluctuated as a result
of the large percentage of orders that are not received by the Company until
near the end of the quarter. The Company's expense levels are based, in part,
on its expectations as to future revenue. If revenue levels are below
expectations, results of operations may be disproportionately affected
because only a small portion of the Company's expenses varies with its
revenue. As a result, the Company may not learn of, or be able to confirm,
revenue or earnings shortfalls until late in the quarter or following the end
of the quarter. Seasonal factors, including decreases in revenues in European
markets in the second fiscal quarter resulting from European holidays in July
and August, and cyclical economic patterns in the aerospace, defense,
automotive or other end-user industries also contribute to quarter-to-quarter
fluctuations. Any shortfall in revenue or earnings from expected levels or
other failure to meet expectations of the financial markets regarding results
of operations could have an immediate and significant adverse effect on the
trading price of the Company's common stock in any given period.
The Company has historically derived a significant portion of its revenue
from the aerospace and defense industries, which have been characterized by
significant technological changes, high cyclicality and the potential for
significant downturns in business activity resulting from changes in economic
conditions or governmental resources and spending policies. The Company also
has historically derived a significant portion of its revenue from the
automotive industry. The automotive industry is characterized by high
cyclicality, technological change, fluctuations in manufacturing capacity,
labor issues, and pricing and gross margin pressures. This industry has from
time to time experienced significant economic downturns characterized by
decreased product demand, production over-capacity, price erosion, work
slowdowns and layoffs. No assurance can be given that the industries served
by the Company will experience economic growth, will not experience a
downturn or that any downturn will not be severe, or that such conditions
would not have a material adverse effect on the Company's business, financial
condition and results of operations.
The Company's operating results have depended, and will continue to depend,
upon designers of mixed-signal and mixed-technology systems adopting methods
of design analysis and simulation which use behavioral modeling techniques.
The design analysis and simulation industry is characterized by rapid
technological change, frequent new product introductions and evolving
industry standards. The introduction of products embodying new technologies
and the emergence of new industry standards can render existing products
obsolete and unmarketable. The Company's future success will depend upon its
ability to enhance its current products and to develop or acquire new
products that keep pace with technological developments and emerging industry
standards and address the increasingly sophisticated needs of its customers.
8
RESULTS OF OPERATIONS
The following tables set forth for the periods indicated selected items of
the Company's consolidated statements of operations and such items expressed
as a percentage of total revenue (dollars in thousands):
THREE MONTHS THREE MONTHS
ENDED ENDED
STATEMENT OF OPERATIONS DATA: SEPTEMBER 30, SEPTEMBER 30,
1998 1997
-------------------- ---------------------
Revenue:
Product licenses $ 4,045 63.0 % $ 3,470 51.5 %
Service and other 2,372 37.0 3,272 48.5
-------- -------- --------- --------
Total revenue 6,417 100.0 6,742 100.0
Cost of revenue:
Product licenses 393 6.1 423 6.3
Service and other 220 3.5 958 14.2
-------- -------- --------- --------
Total cost of revenue 613 9.6 1,381 20.5
-------- -------- --------- --------
Gross profit 5,804 90.4 5,361 79.5
Operating expenses:
Research and development 2,296 35.8 1,192 17.7
Sales and marketing 3,080 48.0 3,216 47.7
General and administrative 621 9.7 756 11.2
Amortization of intangibles 92 1.4 92 1.4
-------- -------- --------- --------
Total operating expenses 6,089 94.9 5,256 78.0
-------- -------- --------- --------
Operating (loss) income (285) (4.5) 105 1.5
Other expense, net (30) (0.4) (31) (0.4)
-------- -------- --------- --------
(Loss) income before income taxes (315) (4.9) 74 1.1
Income tax expense 47 0.7 19 0.3
-------- -------- --------- --------
Net (loss) income $ (362) (5.6) % $ 55 0.8 %
-------- -------- --------- --------
-------- -------- --------- --------
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9
SIX MONTHS SIX MONTHS
ENDED ENDED
STATEMENT OF OPERATIONS DATA: SEPTEMBER 30, 1998 SEPTEMBER 30, 1997
-------------------- ---------------------
Revenue:
Product licenses $ 6,880 58.2 % $ 6,221 52.0 %
Service and other 4,949 41.8 5,733 48.0
-------- -------- ---------- -------
Total revenue 11,829 100.0 11,954 100.0
Cost of revenue:
Product licenses 913 7.7 970 8.2
Service and other 554 4.7 1,546 12.8
-------- -------- ---------- -------
Total cost of revenue 1,467 12.4 2,516 21.0
-------- -------- ---------- -------
Gross profit 10,362 87.6 9,438 79.0
Operating expenses:
Research and development 4,692 39.7 2,703 22.6
Sales and marketing 6,683 56.5 6,304 52.8
General and administrative 1,305 11.0 1,424 11.9
Amortization of intangibles 184 1.6 184 1.5
Restructuring charges 557 4.7 - -
-------- -------- ---------- -------
Total operating expenses 13,421 113.5 10,615 88.8
-------- -------- ---------- -------
Operating loss (3,059) (25.9) (1,177) (9.8)
Other expense, net (232) (1.9) (6) (0.1)
-------- -------- ---------- -------
Loss before income taxes (3,291) (27.8) (1,183) (9.9)
Income tax expense (benefit) 226 1.9 (295) (2.5)
-------- -------- ---------- -------
Net loss $ (3,517) (29.7) % $ (888) (7.4) %
-------- -------- ---------- -------
-------- -------- ---------- -------
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SECOND QUARTER AND FIRST SIX MONTHS OF FISCAL YEARS 1999 AND 1998
REVENUE
Total revenue decreased 4.8% to $6.4 million in the second quarter of fiscal
year 1999 from $6.7 million in the second quarter of fiscal year 1998, and
decreased 1.0% to $11.8 million in the first six months of fiscal year 1999
from $12.0 in the first six months of fiscal year 1998. No one customer
accounted for 10% or more of total revenue in the second quarter or first six
months of fiscal years 1999 or 1998.
Product license revenue increased 16.6% to $4.0 million in the second quarter
of fiscal year 1999 from $3.5 million in the second quarter of fiscal year
1998, and increased 10.6% to $6.9 million in the first six months of fiscal
year 1999 from $6.2 million in the first six months of fiscal year 1998. The
increases resulted from increased demand for the Company's products from
customers in the U.S. and Europe, offset by reduced demand from customers in
Asia in the first six months of fiscal year 1999.
Service and other revenue decreased 27.5% to $2.4 million in the second
quarter of fiscal year 1999 from $3.3 million in the second quarter of fiscal
year 1998, and decreased 13.7% to $4.9 million in the first six months of
fiscal year 1999 from $5.7 million in the first six months of fiscal year
1998. The changes were due primarily to decreased revenues under the NIST
grant and U.S. government contracts, offset by increasing demand for the
Company's maintenance and other services resulting from growth in the
Company's installed base. The final models under the U.S. Air Force contract
were delivered in the fourth quarter of fiscal year 1998, therefore, no
further revenues will be received in fiscal year 1999 from this source. In
addition, revenues from
10
the NIST grant concluded at the end of the first quarter of fiscal year 1999
and revenues from the DARPA contract are expected to be minimal in fiscal
year 1999, as this award nears expiration. There can be no assurance that
revenues from the U.S. Air Force, DARPA or NIST will be replaced. Revenues
recognized under these contracts, in the aggregate were $27,000 and $1.1
million for the three months ended September 30, 1998 and 1997, respectively,
and $137,000 and $1.6 million for the six months ended September 30, 1998 and
1997, respectively.
Total revenues from U.S. government-related sources, including the previously
mentioned specific awards, were not significant as a percentage of total
revenues in the first six months of fiscal year 1999, and were approximately
13.3% of total revenues in the first six months of fiscal year 1998.
The Company sells its products and services through its wholly-owned
subsidiaries in Europe and through distributors in Asia. International
revenue was $6.0 million (51% of total revenue) in the first six months of
fiscal year 1999 compared to $5.4 million (45% of total revenue) in the first
six months of fiscal year 1998. The Company is continuing to monitor the
Asian financial situation and the potential impact on its customers.
COST OF REVENUE
Total cost of revenue decreased 55.6% to $613,000 in the second quarter of
fiscal year 1999 from $1.4 million in the second quarter of fiscal year 1998,
and decreased 41.7% to $1.5 million in the first six months of fiscal year
1999 from $2.5 million in the first six months of fiscal year 1998.
Cost of product license revenue consists primarily of documentation expense,
media manufacturing costs, supplies, shipping expense and the amortization of
component and template model library costs and royalty payments. The Company
does not capitalize development costs for software products since the time
between the establishment of a working model of the software product and its
commercialization is typically of a short duration. Cost of product license
revenue decreased to 9.7% of product license revenue in the second quarter of
fiscal year 1999 from 12.2% in the second quarter of fiscal year 1998, and
decreased to 13.3% of product license revenue in the first six months of
fiscal year 1999 from 15.6% in the first six months of fiscal year 1998.
Costs such as documentation expense and supplies are expensed as incurred,
which may not necessarily relate to the number of product licenses shipped
during the period.
Cost of service and other revenue consists primarily of maintenance and
customer support expenses (including product enhancements and improvements,
bug fixes, telephone support, installation assistance and on-site support),
certain contract model development costs associated with the U.S. Air Force
and DARPA contracts and the NIST grant (primarily in the fiscal 1998
periods), and the direct cost of providing services such as training and
consulting. As a percentage of service and other revenue, cost of service and
other revenue decreased to 9.3% of service and other revenue in the second
quarter of fiscal year 1999 from 29.3% in the second quarter of fiscal year
1998, and decreased to 11.2% of service and other revenue in the first six
months of fiscal year 1999 from 27.0% of service and other revenue in the
first six months of fiscal year 1998. The decreases were primarily
attributable to decreased activity under the NIST grant, and the U.S. Air
Force and DARPA contracts, which had higher costs associated with them than
the Company's other services. The final models under the U.S. Air Force
contract were delivered in the fourth quarter of fiscal year 1998, therefore,
no further costs will be incurred in fiscal year 1999 in connection with this
contract. In addition, the NIST grant concluded at the end of the first
quarter of fiscal year 1999 and costs incurred under the DARPA contract are
expected to be minimal in fiscal year 1999 as this award nears expiration.
RESEARCH AND DEVELOPMENT
Research and development expense includes all costs associated with development
of new products and technology research. Costs classified in this category
primarily include such items as salaries, fringe benefits and an allocation of
facilities and systems support costs including depreciation of capital equipment
used in research and development. Research and development expenses increased
92.6% to $2.3 million in the second quarter of fiscal year 1999 from $1.2
million in the second quarter of fiscal year 1998, and increased 73.6% to
11
$4.7 million in the first six months of fiscal year 1999, from $2.7 million
in the first six months of fiscal year 1998. As discussed under "Revenue" and
"Cost of Revenue" above, the final models under the U.S. Air Force contract
were delivered in the fourth quarter of fiscal year 1998, the NIST grant
concluded at the end of the first quarter of fiscal year 1999 and the DARPA
contract expires in fiscal 1999. Accordingly, payroll and overhead related to
research and development personnel performing work under these contracts was
matched with related revenues and recorded as cost of service and other
revenue in fiscal year 1998, whereas similar costs in the first six months of
fiscal year 1999 were recorded as research and development expense, which
increased research and development expense in fiscal 1999. This increase was
partially offset by the work force reduction which occurred in the first
quarter of fiscal 1999, pursuant to the Company's restructuring plan. As a
percentage of total revenue, research and development costs increased to
35.8% in the second quarter of fiscal year 1999 from 17.7% in the second
quarter of fiscal year 1998, and increased to 39.7% in the first six months
of fiscal year 1999 from 22.6% in the first six months of fiscal year 1998.
SALES AND MARKETING
Sales and marketing expense consists primarily of salaries, commissions,
travel and costs of promotional activities. Sales and marketing expense
decreased 4.2% to $3.1 million in the second quarter of fiscal year 1999 from
$3.2 million in the second quarter of fiscal year 1998, but increased 6.0% to
$6.7 million in the first six months of fiscal year 1999 from $6.3 million in
the first six months of fiscal year 1998. The decrease in comparing the
second quarters of fiscal years 1999 and 1998 was primarily the result of the
work force reduction which occurred in the first quarter of fiscal 1999,
pursuant to the Company's restructuring plan. The increase in comparing the
first six months of fiscal years 1999 and 1998 primarily resulted from
increases in personnel, salaries, travel expenses and costs associated with
the Company's corporate image marketing campaign, which began in the fourth
quarter of fiscal year 1998, offset by the effect of the work force reduction
described above. As a percentage of total revenue, sales and marketing
expenses increased to 48.0% in the second quarter of fiscal year 1999 from
47.7% in the second quarter of fiscal year 1998, and increased to 56.5% in
the first six months of fiscal year 1999 from 52.8% in the first six months
of fiscal year 1998, due to decreased revenue in the second quarter and first
six months of fiscal year 1999.
GENERAL AND ADMINISTRATIVE
General and administrative expenses include costs associated with the
Company's executive staff, legal, accounting, corporate systems, facilities
and human resources departments. General and administrative expenses
decreased 17.9% to $621,000 in the second quarter of fiscal year 1999
compared to $756,000 in the second quarter of fiscal year 1998, and decreased
8.4% to $1.3 million in the first six months of fiscal year 1999 compared to
$1.4 million in the first six months of fiscal year 1998. The decreases
primarily resulted from work force reductions implemented during the first
quarter of fiscal year 1999. As a percentage of total revenue, general and
administrative expenses decreased to 9.7% in the second quarter of fiscal
year 1999 from 11.2% in the second quarter of fiscal year 1998, and decreased
to 11.0% in the first six months of fiscal year 1999 from 11.9% in the first
six months of fiscal year 1998.
RESTRUCTURING CHARGES
Results of operations for the first quarter of fiscal year 1999 included a
$557,000 charge for costs associated with a restructuring plan undertaken to
improve profitability. The restructuring plan consisted of a work force
reduction primarily in the marketing and research and development functions
of the Company. All of the restructuring charges were paid in the first
quarter of fiscal year 1999.
OTHER EXPENSE, NET
Other expense, net primarily consists of interest expense associated with
capital leases, the effects of foreign currency transaction gains and losses,
and interest income on cash, cash equivalents and marketable securities.
Other expense, net was $30,000 and $31,000 in the second quarters of fiscal
years 1999 and 1998, respectively. Other expense, net was $232,000 and $6,000
in the first six months of fiscal years 1999 and
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1998, respectively. The change in the six month periods was primarily
attributable to amortization of finance charges in the first quarter of
fiscal year 1999, related to the sale of approximately $4.0 million of
accounts receivable to a financial institution in the fourth quarter of
fiscal year 1998, reduced interest income resulting from lower levels of cash
and cash equivalents held during the periods and the effect of foreign
currency transaction gains and losses.
INCOME TAX EXPENSE (BENEFIT)
The Company provided for foreign income and withholding taxes of $226,000 and
$158,000 in the first six months of fiscal years 1999 and 1998, respectively.
In the first quarter of fiscal year 1998 the Company also recorded a benefit
from the utilization of net operating loss carryforwards of $453,000. The
Company's effective tax rate is sensitive to shifts in income and losses
among the various countries in which the Company does business, since in some
countries the Company is in a tax paying position while in other countries
the Company has operating loss carryforwards available to offset taxable
income.
LIQUIDITY AND CAPITAL RESOURCES
Net cash used in operating activities was $5.3 million in the first six
months of fiscal year 1999. This primarily resulted from a net loss for the
period, decreases in accounts payable and accrued expenses as a result of the
timing of payments, an increase in accounts receivable and a decrease in
unearned revenue, offset by adjustments for depreciation and amortization.
Accounts receivable increased compared to the balance at March 31, 1998 which
was net of a March 1998 sale of approximately $4.0 million of accounts
receivable to a financial institution. Unearned revenue decreased as more
revenue was recognized than was billed in the first six months of fiscal year
1999. At September 30, 1998, the Company recorded deferred contract revenue
primarily related to a long term contract received during the current
quarter. (See Note 2 of Notes to Consolidated Financial Statements.)
Net cash used in investing activities was $1.4 million in the first six
months of fiscal year 1999, which primarily included expenditures associated
with the investment in the Company's component and template model libraries
and capital expenditures for the upgrade of corporate information systems.
Net cash provided by financing activities was $120,000 in the first six
months of fiscal year 1999, which included proceeds from the exercise of
stock options and warrants offset by principal payments on capital lease
obligations.
The Company has an operating line of credit with a bank which allows the
Company to receive advances of up to $5.0 million based on 80% of eligible
domestic accounts receivable, and is secured by accounts receivable,
furniture, fixtures and equipment and general intangibles. At September 30,
1998, borrowing capacity under the operating line of credit was approximately
$1.6 million. No amounts were outstanding under this facility at September
30, 1998. Interest is payable monthly at the bank's prime rate plus 0.5%. The
line of credit facility requires the Company to maintain certain financial
and other covenants and matures on March 4, 1999. The Company was in
compliance with, or had received waivers of all covenants at September 30,
1998.
The Company believes its existing cash and cash equivalents, combined with
amounts available under its operating line of credit and cash flows expected
to be generated by operations, will be sufficient to meet its anticipated
cash needs for working capital and capital expenditures through the end of
the current fiscal year. Beyond the end of the current fiscal year, depending
on a variety of factors including the Company's results of operations, the
Company may need to raise additional funds. There can be no assurance that
additional financing would be available and, if available, that the terms
would be acceptable to the Company or that such financing could be obtained
in a timely manner.
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YEAR 2000 ISSUE
The Company is assessing its computer software programs and operating systems
used in its internal operations including development and accounting systems,
to determine their readiness for the Year 2000. The inability of computer
software programs and operating systems to accurately recognize, interpret
and process date data designating the Year 2000 and beyond could cause
systems to yield inaccurate results or encounter operating problems,
including disruption of the business operations these systems control. The
Company is approximately 85% complete with its internal assessment and
expects to complete the internal assessment by the March 31, 1999.
The Company intends to contact major suppliers of products and services to
determine that the products and services provided to the Company are Year
2000 compliant, and to contact major customers to determine their operations
are Year 2000 compliant. The Company expects to complete its assessment of
its major suppliers of products and services and its major customers by
December 31, 1999.
The Company has also assessed its products to determine their readiness for
the Year 2000. The Company's products do not require date-specific
calculations and therefore the Company believes they will be unaffected by
the Year 2000 transition. The Company believes that its 5.0 product version,
scheduled for release near the end of fiscal year 1999 (March 31, 1999) or
the beginning of fiscal year 2000 (April 1999), when used in combination with
compliant operating systems and development environment software of third
parties, will be Year 2000 compliant. To the extent that a user of the
Company's products does not have Year 2000 compliant operating systems, the
Company can give no assurance as to Year 2000 compliance of its products used
on such operating systems.
The Company has not incurred, and does not expect to incur material
incremental costs to ensure Year 2000 compliance of its systems or products.
Certain systems have been targeted for replacement based on Year 2000 and
other technology considerations. The Company anticipates that affected
systems will be replaced prior to June 30, 1999. However, related
expenditures are not anticipated to be material. At this time, the Company
foresees nominal incremental spending for the Year 2000 issue.
Based on the Company's assessment to date, the Company currently believes
that Year 2000 issues will not pose significant risks for the Company.
However, if all Year 2000 issues are not properly identified, or assessment,
remediation and testing are not effected timely with respect to Year 2000
problems that are identified, there can be no assurance that the Year 2000
issue will not have a material adverse impact on the Company's business,
financial condition or results of operations, or adversely affect the
Company's relationships with customers, vendors or others.
Like all businesses, the Company will be at risk from external infrastructure
failures that could arise from Year 2000 failures. It is not clear that
electrical power, telephone and computer networks, for example, will be fully
functional in the countries in which the Company does business in the year
2000. Investigation and assessment of infrastructures, like national power
grids, transportation systems, communications systems or major institutions
such as government or banking systems is beyond the scope and resources of
the Company. Investors should use their own awareness of potential problems
regarding infrastructure issues and their potential impact on the Company's
performance.
The Company has not yet developed a contingency plan for dealing with the
most likely worst-case scenario as such scenario has not yet been clearly
identified. The Company currently plans to complete such contingency planning
by December 31, 1999.
The costs of the Company's Year 2000 assessment, remediation and testing
efforts and the dates on which the Company believes it will complete such
efforts and the timing and effectiveness of the Company's future product
releases are forward-looking statements that are based upon management's best
estimates. Such estimates were derived using numerous assumptions regarding
future events, including the continued availability of certain resources,
third party remediation plans and compliance assurances, and other
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factors. There can be no assurance that these estimates will prove to be
accurate, and actual results could differ materially from those currently
anticipated.
EFFECT OF RECENT ACCOUNTING PRONOUNCEMENTS
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities." SFAS No. 133 establishes accounting and
reporting standards requiring that every derivative instrument be recorded in
the balance sheet as either an asset or liability measured at its fair value.
SFAS No. 133 also requires that changes in the derivative's fair value be
recognized currently in results of operations unless specific hedge
accounting criteria are met. SFAS No. 133 is effective for fiscal years
beginning after June 15, 1999. The Company does not expect SFAS No. 133 to
have a material impact on its consolidated financial statements.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
Not applicable.
PART II - OTHER INFORMATION
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The Company's annual meeting of shareholders was held on August 4, 1998. The
following matters were submitted to shareholders for their consideration:
1. With respect to the two nominees for three-year terms as director
identified in the Company's Proxy Statement; Robert L. Cattoi received
7,397,947 votes and 391,837 votes were withheld and Frank Roehr
received 7,136,482 votes and 653,302 votes were withheld.
2. The amendment to the Company's Amended and Restated 1993 Stock
Incentive Plan Incentive Plan was approved as follows: 6,238,524 shares
were voted in favor, 1,507,620 shares were voted in opposition and
27,950 shares abstained.
3. The appointment of KPMG Peat Marwick, LLP as the Company's
independent auditors for the fiscal year ending March 31, 1999 was
ratified as follows: 7,736,759 shares were voted in favor, 30,775
shares were voted in opposition and 22,250 shares abstained.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) The exhibits filed as part of this report are listed below:
Exhibit No.
-----------
27 Financial Data Schedule
(b) Reports on Form 8-K
A Report on Form 8-K, containing the Company's earnings release for the quarter
ended June 30, 1998 was filed under Item 5, on July 27, 1998.
No other Reports on Form 8-K were filed during the quarter ended September 30,
1998.
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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.
Dated: November 12, 1998
ANALOGY, INC.
By:/s/ GARY P. ARNOLD
------------------
Gary P. Arnold
Chairman of the Board, President
and Chief Executive Officer
(Principal Executive Officer)
( Principal Financial Officer)
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