10-Q 1 d564578d10q.htm FORM 10-Q Form 10-Q
Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

Form 10-Q

 

 

(Mark One)

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2013

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 0-27975

 

 

Mattersight Corporation

(Exact Name of Registrant as Specified in Its Charter)

 

 

 

Delaware   36-4304577

(State or Other Jurisdiction of

Incorporation or Organization)

 

(I.R.S. Employer

Identification No.)

200 S. Wacker Drive

Suite 820

Chicago, Illinois 60606

(Address of Registrant’s Principal Executive Offices) (Zip Code)

(877) 235-6925

(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 Section 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  ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (Section 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  x    No  ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.:

 

Large accelerated filer   ¨    Accelerated filer   x
Non-accelerated filer   ¨  (Do not check if a smaller reporting company)    Smaller reporting company   x

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  x

The number of shares of the registrant’s Common Stock outstanding as of July 30, 2013 was 17,450,971.

 

 

 


Table of Contents

TABLE OF CONTENTS

 

     Page  

Part I. Financial Information

  

Item 1. Financial Statements (unaudited)

     1   

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

     14   

Item 3. Quantitative and Qualitative Disclosures about Market Risk

     26   

Item 4. Controls and Procedures

     26   

Part II. Other Information

  

Item 1. Legal Proceedings

     27   

Item 1A. Risk Factors

     27   

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

     28   

Item 6. Exhibits

     28   

Signatures

     29   


Table of Contents

Part I. Financial Information

 

Item 1. Financial Statements

MATTERSIGHT CORPORATION

CONDENSED CONSOLIDATED BALANCE SHEETS

(Unaudited and in thousands, except share and per share data)

 

     June 30,
2013
    December 31,
2012
 
ASSETS:   

Current Assets:

    

Cash and cash equivalents

   $ 10,875      $ 14,419   

Receivables (net of allowances of $15 and $12)

     2,921        2,568   

Prepaid expenses

     4,943        4,359   

Other current assets

     330        305   
  

 

 

   

 

 

 

Total current assets

     19,069        21,651   

Equipment and leasehold improvements, net

     5,444        4,727   

Goodwill

     972        972   

Intangibles, net

     274        236   

Other long-term assets

     3,881        3,776   
  

 

 

   

 

 

 

Total assets

   $ 29,640      $ 31,362   
  

 

 

   

 

 

 
LIABILITIES AND STOCKHOLDERS’ EQUITY:   

Current Liabilities:

    

Short-term debt

   $ 6,096      $ 3,703   

Accounts payable

     1,158        781   

Accrued compensation and related costs

     1,262        1,335   

Unearned revenue

     5,464        5,853   

Other current liabilities

     2,811        2,889   
  

 

 

   

 

 

 

Total current liabilities

     16,791        14,561   

Long-term unearned revenue

     1,511        2,374   

Other long-term liabilities

     1,837        1,231   
  

 

 

   

 

 

 

Total liabilities

     20,139        18,166   
  

 

 

   

 

 

 

Series B Stock, $0.01 par value; 5,000,000 shares authorized and designated; 1,649,122 and 1,649,201 shares issued and outstanding at June 30, 2013 and December 31, 2012, respectively, with a liquidation preference of $8,999 and $8,705 at June 30, 2013 and December 31, 2012, respectively

     8,411        8,411   

Stockholders’ Equity:

    

Preferred Stock, $0.01 par value; 35,000,000 shares authorized; none issued and outstanding

     —         —    

Common Stock, $0.01 par value; 50,000,000 shares authorized; 18,827,937 and 18,407,848 shares issued at June 30, 2013 and December 31, 2012, respectively; and 17,347,911 and 17,114,880 outstanding at June 30, 2013 and December 31, 2012, respectively

     188        184   

Additional paid-in capital

     220,670        216,667   

Accumulated deficit

     (207,996     (201,000

Treasury stock, at cost, 1,480,026 and 1,292,968 shares at June 30, 2013 and December 31, 2012, respectively

     (7,728     (7,027

Accumulated other comprehensive loss

     (4,044     (4,039
  

 

 

   

 

 

 

Total stockholders’ equity

     1,090        4,785   
  

 

 

   

 

 

 

Total liabilities and stockholders’ equity

   $ 29,640      $ 31,362   
  

 

 

   

 

 

 

See accompanying notes to the Condensed Consolidated Financial Statements.

 

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Table of Contents

MATTERSIGHT CORPORATION

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(Unaudited and in thousands, except per share data)

 

     For the Three Months Ended
June 30,
    For the Six Months  Ended
June 30,
 
     2013     2012     2013     2012  

Revenue:

        

Behavioral Analytics revenue

   $ 7,566      $ 7,557      $ 15,760      $ 16,113   

Other revenue

     349        376        671        721   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total services revenue

     7,915        7,933        16,431        16,834   

Reimbursed expenses

     49        102        131        200   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total revenue

     7,964        8,035        16,562        17,034   

Operating expenses:

        

Cost of Behavioral Analytics revenue

     2,514        2,947        5,237        6,135   

Cost of other revenue

     198        187        354        391   
  

 

 

   

 

 

   

 

 

   

 

 

 

Cost of services

     2,712        3,134        5,591        6,526   

Reimbursed expenses

     49        102        131        200   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total cost of revenue, exclusive of depreciation and amortization shown below:

     2,761        3,236        5,722        6,726   

Sales, marketing and development

     5,394        5,447        11,624        10,631   

General and administrative

     2,113        2,007        4,384        3,963   

Severance and related costs

     —          14        —          693   

Depreciation and amortization

     913        755        1,879        1,622   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

     11,181        11,459        23,609        23,635   
  

 

 

   

 

 

   

 

 

   

 

 

 

Operating loss

     (3,217     (3,424     (7,047     (6,601

Interest and other expense, net

     (97     (113     (188     (215
  

 

 

   

 

 

   

 

 

   

 

 

 

Loss from continuing operations before income taxes

     (3,314     (3,537     (7,235     (6,816

Income tax (provision) benefit

     (9     (11     239        (21
  

 

 

   

 

 

   

 

 

   

 

 

 

Loss from continuing operations

     (3,323     (3,548     (6,996     (6,837

Loss from discontinued operations, net of tax

     —          (23     —          (104
  

 

 

   

 

 

   

 

 

   

 

 

 

Net loss

     (3,323     (3,571     (6,996     (6,941

Dividends related to Series B Stock

     (147     (148     (294     (297
  

 

 

   

 

 

   

 

 

   

 

 

 

Net loss available to Common Stock holders

   $ (3,470   $ (3,719   $ (7,290   $ (7,238
  

 

 

   

 

 

   

 

 

   

 

 

 

Per share of Common Stock:

        

Basic loss from continuing operations

   $ (0.21   $ (0.23   $ (0.44   $ (0.45
  

 

 

   

 

 

   

 

 

   

 

 

 

Basic loss from discontinued operations

   $ —        $ —        $ —        $ (0.01
  

 

 

   

 

 

   

 

 

   

 

 

 

Basic net loss available to Common Stock holders

   $ (0.21   $ (0.23   $ (0.44   $ (0.46
  

 

 

   

 

 

   

 

 

   

 

 

 

Per share of Common Stock:

        

Diluted loss from continuing operations

   $ (0.21   $ (0.23   $ (0.44   $ (0.45
  

 

 

   

 

 

   

 

 

   

 

 

 

Diluted loss from discontinued operations

   $ —        $ —        $ —        $ (0.01
  

 

 

   

 

 

   

 

 

   

 

 

 

Diluted net loss available to Common Stock holders

   $ (0.21   $ (0.23   $ (0.44   $ (0.46
  

 

 

   

 

 

   

 

 

   

 

 

 

Shares used to calculate basic net loss per share

     16,469        15,966        16,394        15,858   
  

 

 

   

 

 

   

 

 

   

 

 

 

Shares used to calculate diluted net loss per share

     16,469        15,966        16,394        15,858   
  

 

 

   

 

 

   

 

 

   

 

 

 

Stock-based compensation, primarily restricted stock, is included in individual line items above:

        

Cost of Behavioral Analytics revenue

   $ 55      $ 5      $ 59      $ 11   

Sales, marketing and development

     1,302        557        2,151        1,254   

General and administrative

     539        314        1,057        714   

Severance and related costs

     —          —          —          268   

See accompanying notes to the Condensed Consolidated Financial Statements.

 

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MATTERSIGHT CORPORATION

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS

(Unaudited and in thousands)

 

     For the Three Months Ended
June 30,
    For the Six Months  Ended
June 30,
 
     2013     2012     2013     2012  

Net loss

   $ (3,323   $ (3,571   $ (6,996   $ (6,941

Other comprehensive loss:

        

Effect of currency translation

     3        (7     (5     (2
  

 

 

   

 

 

   

 

 

   

 

 

 

Comprehensive net loss

   $ (3,320   $ (3,578   $ (7,001   $ (6,943
  

 

 

   

 

 

   

 

 

   

 

 

 

See accompanying notes to the Condensed Consolidated Financial Statements.

 

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MATTERSIGHT CORPORATION

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited and in thousands)

 

     For the Six Months  Ended
June 30,
 
     2013     2012  

Cash Flows from Operating Activities:

    

Net loss

   $ (6,996   $ (6,941

Less: net loss from discontinued operations

     —          (104
  

 

 

   

 

 

 

Net loss from continuing operations

     (6,996     (6,837

Adjustments to reconcile net loss from continuing operations to net cash used in operating activities:

    

Depreciation and amortization

     1,879        1,622   

Stock-based compensation

     3,267        1,979   

Severance and related costs

     —          268   

Other

     3        (2

Changes in assets and liabilities:

    

Receivables

     (356     720   

Prepaid expenses

     137        (1,035

Other assets

     (11     (276

Accounts payable

     378        708   

Accrued compensation and related costs

     55        (181

Unearned revenue

     (1,252     (4,088

Other liabilities

     (367     (195
  

 

 

   

 

 

 

Total Adjustments

     3,733        (480
  

 

 

   

 

 

 

Net cash used in continuing operations

     (3,263     (7,317

Net cash used in discontinued operations

     —          (179
  

 

 

   

 

 

 

Net cash used in operating activities

     (3,263     (7,496
  

 

 

   

 

 

 

Cash Flows from Investing Activities:

    

Capital expenditures and other

     (882     (900
  

 

 

   

 

 

 

Net cash used in continuing investing activities

     (882     (900

Net cash used in discontinued investing activities

     —          —     
  

 

 

   

 

 

 

Net cash used in investing activities

     (882     (900
  

 

 

   

 

 

 

Cash Flows from Financing Activities:

    

Proceeds from line of credit

     2,400        3,691   

Decrease in restricted cash

     —          1,500   

Proceeds from stock compensation and employee stock purchase plans, net

     81        233   

Purchase of shares of Series B Stock

     —          (3,743

Principal payments under capital lease obligations

     (1,165     (1,070

Acquisition of treasury stock

     (701     (797

Payment of Series B Stock dividends

     —          (300

Fees from issuance of Common Stock

     —          (49
  

 

 

   

 

 

 

Net cash provided by (used in) continuing financing activities

     615        (535

Net cash used in discontinued financing activities

     —          —     
  

 

 

   

 

 

 

Net cash provided by (used in) financing activities

     615        (535
  

 

 

   

 

 

 

Effect of exchange rate changes on cash and cash equivalents by continuing operations

     (14     (3

Effect of exchange rate changes on cash and cash equivalents by discontinued operations

     —          —     
  

 

 

   

 

 

 

Effect of exchange rate changes on cash and cash equivalents

     (14     (3
  

 

 

   

 

 

 

Decrease in cash and cash equivalents

     (3,544     (8,934

Cash and cash equivalents, beginning of period

     14,419        29,408   
  

 

 

   

 

 

 

Cash and cash equivalents of continuing operations, end of period

   $ 10,875      $ 20,474   
  

 

 

   

 

 

 

Non-Cash Investing and Financing Transactions:

    

Capital lease obligations incurred

   $ 1,752      $ 987   

Capital equipment purchased on credit

     1,752        987   

Supplemental Disclosures of Cash Flow Information:

    

Interest paid

   $ 172      $ 214   

See accompanying notes to the Condensed Consolidated Financial Statements.

 

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MATTERSIGHT CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

Note One — General

In the opinion of management, the accompanying unaudited condensed consolidated financial statements of Mattersight Corporation (“we,” “Mattersight,” or the “Company”) include all normal and recurring adjustments necessary for a fair presentation of our condensed consolidated financial position as of June 30, 2013 and December 31, 2012, the condensed consolidated results of our operations for the three months and six months ended June 30, 2013 and June 30, 2012, the condensed consolidated statements of our comprehensive loss for the three months and six months ended June 30, 2013 and June 30, 2012, and our condensed consolidated cash flows for the six months ended June 30, 2013 and June 30, 2012, and are in accordance with United States generally accepted accounting principles (“GAAP”) and in conformity with Securities and Exchange Commission (“SEC”) Article 8-03 of Regulation S-X; provided, that certain information and disclosures normally included in financial statements prepared in accordance with GAAP have been condensed or omitted.

The accompanying unaudited condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements and the notes thereto in Mattersight’s Annual Report on Form 10-K for the fiscal year ended December 31, 2012 filed with the SEC on March 14, 2013. The results of operations for the three and six months ended June 30, 2013 are not necessarily indicative of the results to be expected for the full year.

The preparation of financial statements in conformity with GAAP requires management to make certain estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting periods. Actual results could differ from those estimates.

Note Two — Summary of Significant Accounting Policies

For a description of the Company’s Summary of Significant Accounting Policies, see Note Two “Summary of Significant Accounting Policies” of the “Notes to Consolidated Financial Statements” included in our Annual Report filed on Form 10-K for the year ended December 31, 2012.

Note Three — Discontinued Operations

The Company sold its Integrated Contact Solutions (“ICS”) Business Unit and “eLoyalty” registered trademark / trade name to Magellan Acquisition Sub, LLC, a Colorado limited liability company and wholly-owned subsidiary of TeleTech Holdings, Inc., a Delaware corporation, on May 28, 2011, and the Company changed its name from eLoyalty Corporation to Mattersight Corporation effective May 31, 2011. Therefore, the results of operations of the ICS Business Unit are reported as discontinued operations for all periods presented. Additionally, certain corporate and general costs that had historically been allocated to the ICS Business Unit were reallocated to the Company and are reflected in all periods presented.

The following table summarizes the components included within loss from discontinued operations, net of tax, within the Company’s Condensed Consolidated Statements of Operations for the periods indicated.

 

      For the Three Months Ended
June 30,
     For the Six Months  Ended
June 30,
 
(In millions)    2013      2012      2013      2012  

Net sales

   $ —         $ —        $ —         $ —     

Total expenses

     —           —           —           (0.1
  

 

 

    

 

 

    

 

 

    

 

 

 

Loss from discontinued operations

   $ —         $ —         $ —         $ (0.1
  

 

 

    

 

 

    

 

 

    

 

 

 

Intraperiod tax allocation requires that the provision for income taxes be allocated between continuing operations and other categories of earnings (such as discontinued operations or other comprehensive loss) for each tax jurisdiction. In periods in which there is a year-to-date pre-tax loss from continuing operations and pre-tax income in other categories of earnings, the tax provision is first allocated to the other categories of earnings. A related tax benefit is then recorded in continuing operations. While intraperiod tax allocation in general does not change the overall tax provision, it may result in a gross-up of the individual components, thereby changing the amount of tax provision included in each category. For the three months and six months ended June 30, 2013, the intraperiod allocation was not applicable because we no longer have any discontinued operations activity. For the three months and six months ended June 30, 2012, the intraperiod allocation was not applicable because we had a pretax loss in both continuing and discontinued operations. The Company no longer anticipates any impact on income from discontinued operations due to the sale of the ICS Business Unit.

 

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Note Four — Revenue Recognition

Behavioral Analytics Revenue

Behavioral Analytics revenue consists of Managed services revenue and Consulting services revenue derived from the performance of the Behavioral Analytics Service and related services (collectively, “Behavioral Analytics”).

Managed services revenue consists of planning, deployment, training, and subscription fees derived from Behavioral Analytics contracts. Planning, deployment, and training fees, which are considered to be installation fees related to Behavioral Analytics subscription contracts, are deferred until the installation is complete and are then recognized over the subscription period of the applicable subscription contract. The subscription periods of these contracts generally range from three to five years after the go-live date or, in cases where the Company contracts with a client for a short-term pilot of Behavioral Analytics prior to committing to a longer subscription period, if any, the subscription or pilot periods generally range from three to twelve months after the go-live date. Installation costs incurred are deferred up to an amount not to exceed the amount of deferred installation revenue and additional amounts that are recoverable based on the contractual arrangement. These costs are included in Prepaid expenses and Other long-term assets. Such costs are amortized over the subscription period of the contract. Costs in excess of the foregoing revenue amount are expensed in the period incurred.

The amount of revenue generated from subscription fees is based on a number of factors, such as the number of users to whom the Behavioral Analytics Service is provided, the type and number of Behavioral Analytics offerings deployed to the client, and in some cases, the number of hours of calls analyzed during the relevant month of the subscription period. This revenue is recognized as the service is performed for the client.

Consulting services revenue primarily consists of fees charged to the Company’s clients to provide post-deployment follow-on consulting services, which include custom data analysis, the implementation of enhancements, and training. These follow-on consulting services are generally performed for the Company’s clients on a fixed-fee basis. Revenue is recognized as the services are performed, with performance generally assessed on the ratio of actual hours incurred to-date compared to the total estimated hours over the entire term of the contract.

Other Revenue

Other revenue consists of Marketing Managed Services revenue and CRM Services revenue.

Marketing Managed Services revenue is derived from marketing application hosting. This revenue is generally in the form of fixed monthly fees received from the Company’s clients and is recognized as the services are performed for the client. Any related setup fee would be recognized over the term of the hosting contract.

CRM Services revenue consists of fees generated from the Company’s operational consulting services, which are provided to the Company’s clients on a time-and-materials or fixed-fee basis. The Company recognizes revenue as the services are performed for time-and-materials projects. For fixed-fee projects, revenue is recognized based on the ratio of hours incurred to-date compared to the total estimated hours over the entire term of the contract.

 

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Note Five — Stock-Based Compensation

The Company has two stock-based compensation plans, the Mattersight Corporation 1999 Stock Incentive Plan (the “1999 Plan”) and the Mattersight Corporation Employee Stock Purchase Plan (the “ESPP”), each as described more fully in Note Thirteen in the Company’s Annual Report filed on Form 10-K for the year ended December 31, 2012.

 

     For the Three
Months  Ended
June 30,
     For the Six
Months  Ended
June 30,
 
     2013      2012      2013      2012  

Stock-based compensation expense (in millions)

   $ 1.9       $ 0.9       $ 3.3       $ 2.0   

The Company recognizes stock-based compensation expense on a straight-line basis over the vesting period. The Company has established its forfeiture rate based on historical experience.

As of June 30, 2013, there were a total of 1,317,455 shares of the Company’s common stock, par value $0.01 per share (“Common Stock”), available for future grants under the 1999 Plan and from treasury stock. The Common Stock is traded on the NASDAQ Global Market under the symbol MATR.

Restricted Stock

Restricted stock award activity was as follows for the six months ended June 30, 2013:

 

           Weighted  
           Average  
     Shares     Price  

Nonvested balance at December 31, 2012

     821,363      $ 6.81   
  

 

 

   

Granted

     173,661      $ 4.56   

Vested

     (191,680   $ 6.18   

Forfeited

     (121,597   $ 6.94   
  

 

 

   

Nonvested balance at June 30, 2013

     681,747      $ 6.40   
  

 

 

   

 

     For the Three
Months  Ended
June 30,
     For the Six
Months  Ended
June 30,
 
(In millions)    2013      2012      2013      2012  

Total fair value of restricted and installment stock awards vested

   $ 0.3       $ 1.0       $ 0.8       $ 2.6   

Compensation expense related to restricted stock awards

     0.6         0.6         1.1         1.4   

As of June 30, 2013, there remained $3.5 million of unrecognized compensation expense related to restricted stock awards. These costs are expected to be recognized over a weighted average period of 1.5 years.

Stock Options

During the three months ended June 30, 2013, options to purchase a total of 70,000 shares of Common Stock were granted to the Company’s Board of Directors on May 17, 2013. The exercise price per share is $3.80, the closing price for shares of Common Stock on the grant date. The options will vest 25% on May 31, 2014, and the balance will vest ratably over the following 12 quarters, with a maximum exercise term of 10 years.

 

     For the Three
Months  Ended

June 30,
     For the Six
Months  Ended

June 30,
 
     2013      2012      2013      2012  

Compensation expense related to option awards (in millions)

   $ 0.3       $ 0.2       $ 0.6       $ 0.5   

 

 

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Option activity was as follows for the six months ended June 30, 2013:

 

           Weighted  
           Average  
     Options     Exercise Price  

Outstanding as of December 31, 2012

     1,766,236      $ 9.03   
  

 

 

   

Granted

     417,500      $ 4.54   

Exercised

     (4,498   $ 3.47   

Forfeited

     —        $ —     
  

 

 

   

Outstanding as of June 30, 2013

     2,179,238      $ 8.18   
  

 

 

   

Exercisable as of June 30, 2013

     1,142,190      $ 10.47   
  

 

 

   

Outstanding intrinsic value at June 30, 2013 (in millions)

   $ —       
  

 

 

   

Exercisable intrinsic value at June 30, 2013 (in millions)

   $ —       
  

 

 

   

 

     For the Three Months
Ended June 30,
     For the Six Months
Ended June 30,
 
(In millions)    2013      2012      2013      2012  

Total fair value of stock options vested

   $ 0.3       $ 0.3       $ 0.5       $ 0.5   

Intrinsic value of stock options exercised

     —           0.1         —           0.2   

Proceeds received from option exercises

     —           0.1         —           0.2   

As of June 30, 2013, there remained $3.3 million of unrecognized compensation expense related to stock options. These costs are expected to be recognized over a weighted average period of 1.9 years.

The fair value for options granted for the six months ended June 30, 2013 and June 30, 2012 was estimated on the date of grant using a Black-Scholes option-pricing model. The following assumptions represent the year-to-date weighted average for all option grants issued.

 

     For the Six Months Ended
June 30,
 
     2013     2012  

Risk-free interest rates

     0.62     0.57

Expected dividend yield

     —          —     

Expected volatility

     67     67

Expected lives

     6 years        6 years   

Historical Company information is the primary basis for the selection of expected life, expected volatility, and expected dividend yield assumptions. The risk-free interest rate is selected based on the yields from U.S. Treasury Strips with a remaining term equal to the expected term of the options being valued.

Other Stock Compensation

Employee Stock Purchase Plan

The ESPP is intended to qualify as an employee stock purchase plan under section 423 of the Internal Revenue Code. Under the ESPP, eligible employees are permitted to purchase shares of Common Stock at below-market prices. The purchase period opens on the first day and ends on the last business day of each calendar quarter. The shares of Common Stock issued under the ESPP were as follows:

     For the Three
Months  Ended

June 30,
     For the Six
Months  Ended

June 30,
 
     2013      2012      2013      2012  

Shares of Common Stock issued

     11,631         5,823         21,221         14,303   
  

 

 

    

 

 

    

 

 

    

 

 

 

Expense related to ESPP (in thousands)

   $ 10       $ 11       $ 19       $ 24   
  

 

 

    

 

 

    

 

 

    

 

 

 

 

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The fair value for ESPP purchases for the six months ended June 30, 2013 and June 30, 2012 was estimated using a Black-Scholes pricing model. The Company used the following year-to-date weighted average assumptions:

 

     For the Six Months Ended
June 30,
 
     2013     2012  

Risk-free interest rates

     0.07     0.03

Expected dividend yield

     —          —     

Expected volatility

     36     45

Expected lives

     0.25 years        0.24 years   

Salary Replacement Program

On May 9, 2013, the Compensation Committee of the Board of Directors (the “Compensation Committee”) approved the reinstatement of the Salary Replacement Program (the “Program”) to be effective from July 1, 2013 through June 30, 2014 (the “Effective Period”). Participation is mandatory for any employee whose annual base salary is equal to or greater than $125,000 (each such employee, a “Participant”). Under the Program, on a quarterly basis, Participants receive periodic grants of unrestricted Mattersight Common Stock (subject to Compensation Committee approval of each grant to the executive officers) in exchange for a 25% reduction in the cash salaries otherwise payable to Participants during such quarterly period. A total of 146,267 shares of Common Stock were granted to Participants under the Program during the three months and six months ended June 30, 2013.

Program History

On November 8, 2006, the Compensation Committee adopted the Program to be effective December 1, 2006 through December 31, 2007. On October 12, 2007, the Compensation Committee approved the modification and extension of the Program, with a new effective period from November 1, 2007 until December 31, 2008, subject to amendment or termination by the Company as provided for herein. On February 13, 2008, the Compensation Committee approved further modifications in respect of eligibility criteria and the salary adjustment and stock grant percentages applicable to Participants at the Vice President level and above. By subsequent approval of the Board of Directors, the Program was suspended as of January 2009.

Commissions

Beginning in May 2013, the Company paid all commissions with shares of unrestricted Common Stock. A total of 195,960 shares of unrestricted Common Stock were granted during the three months and six months ended June 30, 2013. The Company recorded $0.3 million of expense for this Program during the three months ended June 30, 2013.

Note Six — Severance and Related Costs

Severance costs are comprised primarily of contractual salary and related fringe benefits over the severance payment period. Facility costs include losses on contractual lease commitments, net of estimated sublease recoveries, and impairment of leasehold improvements and certain office assets.

For the three months and six months ended June 30, 2013, there was no expense related to severance and related costs. For the three months and six months ended June 30, 2012, the Company recorded less than $0.1 million and $0.7 million of expense related to severance and related costs for the elimination of one position.

For the six months ended June 30, 2013, the Company made no cash payments related to cost-reduction actions and facility operating expense. During the six months ended June 30, 2012, the Company made cash payments of $0.7 million related to cost-reduction actions and facility operating expense.

As of June 30, 2013, there was no amount reserved for severance and related costs.

 

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The severance and related costs and their utilization for the six months ended June 30, 2012 was as follows:

 

     Employee               
(In millions)    Severance     Facilities      Total  

Balance, December 31, 2011

   $ —        $ —        $ —     
  

 

 

   

 

 

    

 

 

 

Charges

     0.7       —           0.7  

Adjustments charged to severance and related costs

     —          —           —     
  

 

 

   

 

 

    

 

 

 

Charged to severance and related costs

     0.7       —           0.7  

Payments

     (0.7     —           (0.7

Other

     —          —           —     
  

 

 

   

 

 

    

 

 

 

Balance, June 30, 2012

   $ —        $ —         $ —     
  

 

 

   

 

 

    

 

 

 

As of June 30, 2012, there was no amount reserved for severance and related costs.

Note Seven Current Prepaid Expenses

Current prepaid expenses primarily consist of deferred costs and prepaid commissions related to Behavioral Analytics contracts. These costs are recognized over the subscription periods of the respective contracts, generally three to five years after the go-live date or, in cases where the Company contracts with a client for a short-term pilot of the Behavioral Analytics Service prior to committing to a longer subscription period, if any, the subscription or pilot periods generally range from three to twelve months after the go-live date. Costs included in current prepaid expenses will be recognized within the next twelve months. Current prepaid expenses consisted of the following:

 

     As of  
(In millions)    June 30,
2013
     December 31,
2012
 

Deferred costs

   $ 1.5       $ 1.8   

Prepaid commissions

     1.5         1.7   

Other

     1.9         0.9   
  

 

 

    

 

 

 

Total

   $ 4.9       $ 4.4   
  

 

 

    

 

 

 

Note Eight — Intangible Assets, net

Intangible assets reflect costs related to patent and trademark applications, Marketing Managed Services customer relationships acquired in 2004, and the 2003 purchase of a license for certain intellectual property. Patent and trademark applications are amortized over 120 months. The other intangible assets are fully amortized. Amortization expense of intangible assets for the three months and six months ended June 30, 2013 was $0.1 million, and will be $0.2 million annually thereafter. Amortization expense of intangible assets for the three months and six months ended June 30, 2012 was $16 thousand and $33 thousand, respectively. There was no impairment charge for the three months and six months ended June 30, 2013. There was an impairment charge of $2 thousand for the six months ended June 30, 2012.

 

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Table of Contents
     As of  
(In millions)    June 30,
2013
    December 31,
2012
 

Gross intangible assets

   $ 3.1      $ 2.9   

Accumulated amortization of intangible assets

     (2.8     (2.7
  

 

 

   

 

 

 

Total

   $ 0.3      $ 0.2   
  

 

 

   

 

 

 

Note Nine Other Long-Term Assets

Other long-term assets primarily consist of deferred costs and prepaid commissions related to Behavioral Analytics. These costs are recognized over the terms of the respective contracts, generally three to five years. Costs included in long-term assets will be recognized over the remaining term of the contracts beyond the first twelve months. Other long-term assets consisted of the following:

 

     As of  
     June 30,      December 31,  
(In millions)    2013      2012  

Deferred costs

   $ 1.9       $ 1.8   

Prepaid commissions

     1.8         1.7   

Other

     0.2         0.3   
  

 

 

    

 

 

 

Total

   $ 3.9       $ 3.8   
  

 

 

    

 

 

 

Note Ten Short-Term Debt

On May 30, 2013, the Company, together with its wholly-owned subsidiaries Mattersight Europe Holding Corporation and Mattersight International Holding, Inc., as co-borrowers, entered into an Amended and Restated Loan and Security Agreement with Silicon Valley Bank (the “Amended and Restated Credit Facility”). The Amended and Restated Credit Facility (i) extends the maturity date of the revolving line to 2015; (ii) modifies the borrowing base from one based upon the Company’s unrestricted cash to one based upon the Company’s available accounts receivable; (iii) provides for a varying interest rate based on the Company’s ratio of unrestricted cash to debt; and (iv) requires the Company to maintain a tangible net worth of at least three million dollars ($3,000,000). The terms and conditions of the Amended and Restated Credit Agreement are otherwise substantially the same as those contained in the Loan and Security Agreement, dated June 29, 2012, by and between the Company, the subsidiary borrowers thereto, and Silicon Valley Bank (the “Credit Facility”). The Credit Facility provides for a $10.0 million revolving line of credit maturing in 2015 and is secured by a security interest in the Company’s accounts receivable, equipment, inventory, cash, deposit accounts, securities, and all other investment property, supporting obligations, financial assets, and other personal property, with the exception of the Company’s intellectual property rights. On June 29, 2012, the Company used approximately $3.7 million of the line of credit under the Credit Facility to repay in full the principal balance of $3.6 million, and accrued and unpaid interest outstanding of $0.1 million, under the promissory notes issued by the Company to various affiliates of Technology Crossover Ventures to settle previously disclosed arbitration. On June 30, 2013, the Company borrowed an additional $2.4 million on the line of credit. The $6.1 million principal amount outstanding under the Credit Facility will accrue interest at a floating annual rate equal to three quarters of one percentage point (0.75%) above the United States prime rate, payable monthly. Upon execution of the Credit Facility, the Company paid a commitment fee, and in addition, the Company is obligated to pay a fee equal to one-eighth of one percent (0.125%) per annum of the average unused portion of the Credit Facility, payable quarterly in arrears. Short-term debt was $6.1 million as of June 30, 2013 and interest expense for the three months and six months ended June 30, 2013 was $37 thousand and $83 thousand, respectively. The current interest rate for the quarter ended June 30, 2013 was 4%. The Company was in compliance with all its debt covenants under the Credit Facility as of June 30, 2013.

 

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Note Eleven — Loss Per Share

The following table sets forth the computation of the loss and shares used in the calculation of basic and diluted loss per share:

 

     For the Three Months Ended
June 30,
 
(In millions)    2013     2012  

Loss from continuing operations

   $ (3.4   $ (3.5

Dividends related to Series B Stock(1)

     (0.1     (0.1
  

 

 

   

 

 

 

Loss from continuing operations available to Common Stock holders

     (3.5     (3.6

Loss from discontinued operations

     —          (0.1
  

 

 

   

 

 

 

Net loss available to Common Stock holders

   $ (3.5   $ (3.7
  

 

 

   

 

 

 

Per common share:

    

Basic/diluted loss from continuing operations

   $ (0.21   $ (0.23
  

 

 

   

 

 

 

Basic/diluted loss from discontinued operations

   $ —        $ —     
  

 

 

   

 

 

 

Basic/diluted net loss available to Common Stock holders

   $ (0.21   $ (0.23 )
  

 

 

   

 

 

 
(In thousands)             

Weighted average shares of Common Stock outstanding

     16,469        15,966   
  

 

 

   

 

 

 

Currently antidilutive Common Stock equivalents(2)

     1,649        2,247   
  

 

 

   

 

 

 

 

     For the Six Months Ended
June 30,
 
(In millions)    2013     2012  

Loss from continuing operations

   $ (7.0   $ (6.8

Dividends related to Series B Stock(1)

     (0.3     (0.3
  

 

 

   

 

 

 

Loss from continuing operations available to Common Stock holders

     (7.3     (7.1

Loss from discontinued operations

     —          (0.1
  

 

 

   

 

 

 

Net loss available to Common Stock holders

   $ (7.3   $ (7.2
  

 

 

   

 

 

 

Per common share:

    

Basic/diluted loss from continuing operations

   $ (0.44   $ (0.45
  

 

 

   

 

 

 

Basic/diluted loss from discontinued operations

   $ —        $ (0.01
  

 

 

   

 

 

 

Basic/diluted net loss available to Common Stock holders

   $ (0.44   $ (0.46 )
  

 

 

   

 

 

 
(In thousands)             

Weighted average shares of Common Stock outstanding

     16,394        15,858   
  

 

 

   

 

 

 

Currently antidilutive Common Stock equivalents(2)

     1,635        2,500   
  

 

 

   

 

 

 

 

(1) The Board of Directors did not declare a dividend payment on the 7% Series B Convertible Preferred Stock, par value $0.01 per share (the “Series B Stock”), which was accrued, for the dividend periods July 1, 2012 through December 31, 2012 and January 1, 2013 through June 30, 2013 (the aggregate amount of these dividends was approximately $0.6 million). The Board of Directors declared a cash dividend of $0.1785 per share on the Series B Stock for the dividend period January 1, 2012 through June 30, 2012; the semi-annual dividend payment of $0.3 million for such period was paid on July 2, 2012.
(2) In periods in which there was a loss, the effect of Common Stock equivalents, which is primarily related to the Series B Stock, was not included in the diluted loss per share calculation as it was antidilutive.

 

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Note Twelve — Leases

Capital Leases

The Company acquired $1.8 million and $1.0 million of computer equipment and leasehold improvements using capital leases during the first six months of 2013 and 2012, respectively. These assets were related primarily to investments in the Company’s Behavioral Analytics Service. There was $1.1 million of depreciation on capital leases in the first six months of 2013 and 2012. All capital leases are for terms of either thirty or thirty-six months. The liabilities for these capital leases are included in “Other current liabilities” and “Other long-term liabilities” on the balance sheet.

The following is a schedule, by year, of future minimum lease payments under capital leases, together with the present value of the net minimum lease payments as of June 30, 2013:

 

(In millions)       

Year

   Amount  

2013

   $ 1.0   

2014

     1.5   

2015

     0.9   

2016

     0.1   
  

 

 

 

Total minimum lease payments

   $ 3.5   

Less: estimated executory costs

     (0.2
  

 

 

 

Net minimum lease payments

   $ 3.3   

Less: amount representing interest

     (0.4
  

 

 

 

Present value of minimum lease payments

   $ 2.9   
  

 

 

 

Capital leases consisted of the following:

 

     As of  
(In millions)    June 30,
2013
     December 31,
2012
 

Other current liabilities

   $ 1.5       $ 1.6   

Other long-term liabilities

     1.4         0.7   
  

 

 

    

 

 

 

Total

   $ 2.9       $ 2.3   
  

 

 

    

 

 

 

Note Thirteen — Segment Information

The Company operates in a single business segment, focused primarily on Behavioral Analytics.

Note Fourteen Fair Value Measurements

The Company reports certain assets and liabilities at fair value. Fair value is an exit price and establishes a three-tier valuation hierarchy for ranking the quality and reliability of the information used to determine fair values. The first tier, Level 1, uses quoted market prices in active markets for identical assets or liabilities. Level 2 uses inputs, other than quoted market prices for identical assets or liabilities in active markets, which are observable either directly or indirectly. Level 3 uses unobservable inputs in which there are little or no market data, and requires the entity to develop its own assumptions. A financial asset or liability’s classification within the hierarchy is determined based on the lowest level input that is significant to the fair value measurement.

The following table provides the assets and liabilities carried at fair value measured on a recurring basis:

 

     Fair Value Measurements at June 30, 2013 Using  
     Total carrying      Quoted Prices in      Other      Significant  
     at June 30,      Active Markets      Observable      Unobservable  

(In millions)

   2013      (Level 1)      (Level 2)      (Level 3)  

Money market fund

   $ 9.8      $ 9.8      $ —         $ —     

 

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Table of Contents

 

     Fair Value Measurements at December 31, 2012 Using  
     Total carrying      Quoted Prices in      Other      Significant  
     at December 31,      Active Markets      Observable      Unobservable  

(In millions)

   2012      (Level 1)      (Level 2)      (Level 3)  

Money market fund

   $ 13.4       $ 13.4       $ —         $ —     

Note Fifteen — Fair Value of Financial Instruments

The carrying values of cash and cash equivalents, accounts receivable, accounts payable, and short-term debt approximated their fair values as of June 30, 2013 and December 31, 2012 due to the short-term nature of these instruments.

Note Sixteen — Recent Accounting Pronouncements

In July 2012, the Financial Accounting Standards Board (“FASB”) issued ASU No. 2012-02, Intangibles—Goodwill and Other (Topic 350) – Testing Indefinite-Lived Intangible Assets for Impairment. ASU 2012-02 permits an entity to first assess qualitative factors to determine whether it is more likely than not that an indefinite-lived intangible asset is impaired as a basis for determining whether it is necessary to perform the quantitative impairment test in accordance with Subtopic 350-30. If an entity concludes that it is not more likely than not that the indefinite-lived intangible asset is impaired, then no further action is required. If an entity concludes otherwise, then it is required to determine the fair value of the indefinite-lived intangible asset and perform the quantitative impairment test. ASU 2012-02 is effective for annual and interim impairment tests performed for fiscal years beginning after September 15, 2012, with early adoption permitted. The adoption of this ASU did not have a material impact on the Company’s condensed consolidated financial statements.

Note Seventeen — Litigation and Other Contingencies

The Company is a party to various agreements, including all client contracts, under which it may be obligated to indemnify the other party with respect to certain matters, including, but not limited to, indemnification against third-party claims of infringement of intellectual property rights with respect to software and other deliverables provided by the Company in the course of providing services to its clients. These obligations may be subject to various limitations on the remedies available to the other party, including, without limitation, limits on the amounts recoverable and the time during which claims may be made, and may be supported by indemnities given to the Company by applicable third parties. Payment by the Company under these indemnification clauses is generally subject to the other party making a claim that is subject to challenge by the Company and dispute resolution procedures specified in the particular agreement. Historically, the Company has not been obligated to pay any claim for indemnification under its agreements, and management is not aware of future indemnification payments that it would be obligated to make.

Under its By-Laws, subject to certain exceptions, the Company has agreed to indemnify its officers and directors for certain events or occurrences while the officer or director is, or was, serving at its request in such capacity or in certain related capacities. The Company has separate indemnification agreements with each of its directors and officers that requires it, subject to certain exceptions, to indemnify them to the fullest extent authorized or permitted by its By-Laws and the Delaware General Corporation Law. The maximum potential amount of future payments the Company could be required to make under these indemnification agreements is unlimited; however, the Company has a director and officer liability insurance policy that limits its exposure and enables it to recover a portion of any future amounts paid. As a result of its insurance policy coverage, the Company believes the estimated fair value of these indemnification agreements is minimal. The Company had no liabilities recorded for these agreements as of June 30, 2013.

 

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Background

Mattersight Corporation (together with its subsidiaries and predecessors, “Mattersight,” “we,” “us,” or the “Company”) is a leader in enterprise analytics focused on customer and employee interactions and behaviors. Mattersight’s Behavioral Analytics Service captures and analyzes customer and employee interactions, employee desktop data, and other contextual information to optimally route customers to the best available employee, improve operational performance, and predict future customer and employee outcomes. Mattersight’s analytics are based on millions of proprietary algorithms and the application of unique behavioral models. The Company’s SaaS+ delivery model combines analytics in the cloud with deep customer partnerships to drive significant business value. Mattersight’s solutions are used by leading companies in the healthcare, insurance, financial services, telecommunications, cable, utilities, education, hospitality, and government industries.

 

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Through the performance of Behavioral Analytics, the Company generates two types of revenue:

 

  (1) Managed services revenue, which is recurring, annuity revenue from long-term (generally three- to five-year) contracts and pilots, which are shorter term (generally three to twelve months), and includes subscription and amortized deployment revenue; and

 

  (2) Consulting services revenue, which is generally project-based and sold on a time-and-materials or fixed-fee basis and includes follow-on consulting services revenue.

Set forth below is a more detailed description of the capabilities that the Company currently offers.

Behavioral Analytics

The Company’s multi-channel technology captures the unstructured data of voice interactions (conversations), related customer and employee data, and employee desktop activity, and applies millions of proprietary algorithms against those interactions. Each interaction contains hundreds of attributes that get scored and ultimately detect patterns of behavior or business process that provide the transparency and predictability necessary to enhance revenue, improve the customer experience, improve efficiency, and predict and navigate outcomes. Adaptive across industries, programs, and industry-specific processes, the Company’s Behavioral Analytics offerings enable its clients to drive measurable economic benefit through the improvement of contact center performance, customer satisfaction and retention, fraud reduction, and streamlined back office operations. Specifically, through its Behavioral Analytics offerings, Mattersight helps its clients:

 

   

Automatically measure customer satisfaction and agent performance on every analyzed call;

 

   

Identify and understand customer personality;

 

   

Identify optimal customer/employee behavioral pairing for call routing;

 

   

Improve rapport between agent and customer;

 

   

Reduce call handle times while improving customer satisfaction;

 

   

Identify opportunities to improve self-service applications;

 

   

Improve cross-sell and up-sell success rates;

 

   

Improve the efficiency and effectiveness of collection efforts;

 

   

Measure and improve supervisor effectiveness and coaching;

 

   

Improve agent effectiveness by analyzing key attributes of desktop usage;

 

   

Predict likelihood of customer attrition;

 

   

Predict customer satisfaction and Net Promoter Scores® without customer surveys;

 

   

Predict likelihood of debt repayment;

 

   

Predict likelihood of a sale or cross-sell; and

 

   

Identify fraud callers and improve authentication processes.

The Company has designed a highly-scalable, flexible, and adaptive application platform to enable the Company to implement and operate its Behavioral Analytics offerings for its clients. These offerings are primarily delivered through a SaaS+ model, as a managed subscription service from which Mattersight derives Managed services revenue and Consulting services revenue. Managed services revenue consists of revenue from deployment and subscription services and Consulting services revenue consists of revenue from post-deployment follow-on services, including coaching, training, and custom data analysis.

In addition to our Behavioral Analytics offerings, Mattersight also generates revenue from the following services:

(1) Marketing Managed Services, which consist of marketing application hosting services, from which the Company derives Managed services revenue; and

(2) CRM Services, which consist of operational consulting services that enhance business performance through improved process efficiencies and redesign of workflows, from which the Company derives Consulting services revenue.

 

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Table of Contents

Types of Revenue

Managed Services Revenue

Growth in Managed services revenue is primarily driven by the execution of new Behavioral Analytics contracts, under which we deploy and provide ongoing managed services related to our proprietary Behavioral Analytics System and provide related Business Monitoring services. Based on each client’s business requirements, the Behavioral Analytics System is configured and integrated into the client’s environment and then deployed in either a remote-hosted or, in one case, an on-premise hosted environment. Thereafter, the client’s selection of our Behavioral Analytics offerings is provided, on a subscription basis, for a period that is generally three to five years after the go-live date or, in the cases where the Company contracts with a client for a short-term pilot of the Behavioral Analytics Service prior to committing to a longer subscription period, if any, the subscription or pilot periods generally range from three to twelve months after the go-live date. The fees and costs related to the initial deployment are deferred and amortized over the term of the contract.

We also generate Managed services revenue from Marketing Managed Services, specifically, from hosted customer and campaign data management. This source of Managed services revenue will continue to diminish over time as we focus on growth through Behavioral Analytics.

Consulting Services Revenue

In addition to the Consulting services revenue generated by our Behavioral Analytics contracts, we derive a portion of this type of revenue from CRM Services for long-standing accounts. We expect Consulting services revenue from CRM Services to continue to diminish over time as demand for these services continues to decline and we focus on growth through Behavioral Analytics. We bill for Consulting services on a time-and-materials or fixed-fee basis.

Business Outlook

Based upon Mattersight’s business development efforts and third-party market research, we believe there has been a fundamental shift in the way large enterprises view data. The trends suggest that large enterprises today appreciate that there is value in data that can be derived from their front and back offices, but they have not yet established efficient and effective methods to capture, analyze, and create value from this data. We seek to help large enterprises capitalize on this data with our Behavioral Analytics solutions and, as a leader in this rapidly growing market, we believe we are uniquely positioned to capitalize on this opportunity. We estimate the market potential in the U.S. for all of our current analytics offerings at over $10 billion per year. The market for enterprise analytics is very new and we currently estimate it to be less than 5% penetrated.

Our business strategy to increase revenue, profitability, and capture market share includes the following elements:

 

   

Win business with new clients, focusing on predictive behavioral routing;

 

   

Develop partnerships and strategic alliances to expand sales leverage, improve brand awareness, and reach new industries while providing value to our mutual clients;

 

   

Increase up-sell and cross-sell ratios by deepening and broadening our relationships with existing clients;

 

   

Continue to invest in innovative proprietary technology, new applications, and delivery methods;

 

   

Continue bookings growth and improve operating leverage; and

 

   

Expand our sales and marketing efforts with seasoned enterprise sales agents and strategic marketing professionals.

Resulting from our delivery of measurable economic benefit to our clients, we have seen increased penetration within existing accounts, due to an increase in adoption of our base Behavioral Analytics offerings across separate and distinct business units, as well as the adoption of new applications within existing business units. For this reason, we will continue to focus on further penetrating what we estimate to be a large existing base market with a less expensive cost of acquisition. In addition, our strategy to further invest in sales and marketing, coinciding with the fundamental shift in enterprise data utilization described above, has led to an increasing number of discussions with potential new clients and strategic partners.

 

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Managed Services Backlog

The Behavioral Analytics Managed services backlog was $83.2 million as of June 30, 2013 and $89.1 million as of December 31, 2012. The decrease in backlog is due to an adjustment for the impact of the termination of a portion of an existing Behavioral Analytics contract partially offset by year-to-date bookings.

Mattersight uses the term “backlog” to reflect the estimated future amount of Managed services revenue related to its Managed services contracts. The value of these contracts is based on anticipated usage volumes over the anticipated contract term. The anticipated contract term is based on the fixed term of the contract, plus contractually agreed upon, but optional, extension or renewal periods. Actual volumes may be greater or less than anticipated. In addition, these contracts typically are cancellable without cause based on the customer making a substantial early termination payment or forfeiture of prepaid contract amounts.

Critical Accounting Policies and Estimates

Our management’s discussion and analysis of financial condition and results of operations is based upon our condensed consolidated financial statements, which have been prepared in accordance with GAAP. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenue, and expenses, and related disclosure of contingent assets and liabilities. On an ongoing basis, we evaluate our estimates, including those related to the costs and timing of completion of client projects, our ability to collect accounts receivable, the timing and amounts of expected payments associated with cost reduction activities, and the ability to realize our net deferred tax assets, contingencies, and litigation. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances. Actual results may differ from these estimates under different assumptions or conditions.

We believe the following critical accounting policies affect the more significant judgments and estimates used in the preparation of our condensed consolidated financial statements.

Revenue Recognition

Behavioral Analytics Revenue

Behavioral Analytics revenue consists of Managed services revenue and Consulting services revenue derived from the performance of Behavioral Analytics.

Managed services revenue consists of planning, deployment, training, and subscription fees derived from Behavioral Analytics contracts. Planning, deployment, and training fees, which are considered to be installation fees related to Behavioral Analytics subscription contracts, are deferred until the installation is complete and are then recognized over the subscription period of the applicable subscription contract. The subscription periods of these contracts generally range from three to five years after the go-live date or, in cases where the Company contracts with a client for a short-term pilot of Behavioral Analytics prior to committing to a longer subscription period, if any, the subscription or pilot periods generally range from three to twelve months after the go-live date. Installation costs incurred are deferred up to an amount not to exceed the amount of deferred installation revenue and additional amounts that are recoverable based on the contractual arrangement. These costs are included in Prepaid expenses and Other long-term assets. Such costs are amortized over the subscription period of the contract. Costs in excess of the foregoing revenue amount are expensed in the period incurred.

The amount of revenue generated from subscription fees is based on a number of factors, such as the number of users to whom the Behavioral Analytics Service is provided, the type and number of Behavioral Analytics offerings deployed to the client, and in some cases, the number of hours of calls analyzed during the relevant month of the subscription period. This revenue is recognized as the service is performed for the client.

Consulting services revenue primarily consists of fees charged to the Company’s clients to provide post-deployment follow-on consulting services, which include custom data analysis, the implementation of enhancements, and training. These follow-on consulting services are generally performed for the Company’s clients on a fixed-fee basis. Revenue is recognized as the services are performed, with performance generally assessed on the ratio of actual hours incurred to-date compared to the total estimated hours over the entire term of the contract.

Other Revenue

Other revenue consists of Marketing Managed Services revenue and CRM Services revenue.

 

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Marketing Managed Services revenue is derived from marketing application hosting. This revenue is generally in the form of fixed monthly fees received from the Company’s clients and is recognized as the services are performed for the client. Any related setup fee would be recognized over the term of the hosting contract.

CRM Services revenue consists of fees generated from the Company’s operational consulting services, which are provided to the Company’s clients on a time-and-materials or fixed-fee basis. The Company recognizes revenue as the services are performed for time-and-materials projects. For fixed-fee projects, revenue is recognized based on the ratio of hours incurred to-date compared to the total estimated hours over the entire term of the contract.

Reimbursed Expenses

Reimbursed expenses revenue includes billable costs related to travel and other out-of-pocket expenses incurred while performing services for the Company’s clients. The cost of third-party product and support may be included within this category if the transaction does not satisfy the requirements for gross reporting. An equivalent amount of reimbursable expenses is included in Cost of revenue.

Unearned Revenue

Payments received for Managed services contracts in excess of the amount of revenue recognized for these contracts are recorded as unearned revenue until revenue recognition criteria are met.

Allowance for Doubtful Accounts

The Company maintains allowances for doubtful accounts for estimated losses resulting from clients not paying for unpaid or disputed invoices for contractual services provided. Additional allowances may be required if the financial condition of our clients deteriorates.

Stock-Based Compensation

Stock-based compensation cost is measured at the grant date based on the fair value of the award and is recognized as expense over the vesting period. Determining fair value of stock-based awards at the grant date requires certain assumptions. The Company uses historical information as the basis for the selection of expected life, expected volatility, expected dividend yield assumptions, and anticipated forfeiture rates. The risk-free interest rate is selected based on the yields from U.S. Treasury Strips with a remaining term equal to the expected term of the options being valued.

Severance and Related Costs

Severance and related costs includes cost-reduction actions, principally consisting of personnel reductions and an office consolidation. The portion of the accruals that related to employee severance represents contractual severance for identified employees and generally is not subject to a significant revision. The portion of the accruals that related to office space reductions, office closures, and associated contractual lease obligations are based in part on assumptions and estimates of the timing and amount of sublease rentals, which may be affected by overall economic and local market conditions. To the extent estimates of the success of our sublease efforts changed, adjustments increasing or decreasing the related accruals have been recognized.

Income Taxes

We have recorded income tax valuation allowances on our net deferred tax assets to account for the unpredictability surrounding the timing of realization of our U.S. and non-U.S. net deferred tax assets due to uncertain economic conditions. The valuation allowances may be reversed at a point in time when management determines realization of these tax assets has become more likely than not, based on a return to predictable levels of profitability.

The Company uses an asset and liability approach for financial accounting and reporting of income taxes. Deferred income taxes are provided when tax laws and financial accounting standards differ with respect to the amount of income for the year, the basis of assets and liabilities and for tax loss carryforwards. The Company does not provide U.S. deferred income taxes on earnings of U.S. or foreign subsidiaries, which are expected to be indefinitely reinvested.

The Company may recognize the tax benefit from an uncertain tax position only if it is more likely than not that the tax position will be sustained on examination by the taxing authorities, based on the technical merits of the position. The tax benefits recognized in the financial statements from such a position should be measured based on the largest benefit that has a greater than 50% likelihood of being realized upon ultimate settlement. Significant judgment is used to determine the likelihood of the benefit. There is additional guidance on derecognition, classification, interest and penalties on income taxes, accounting in interim periods, and disclosure requirements.

 

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Intraperiod tax allocation requires that the provision for income taxes be allocated between continuing operations and other categories of earnings (such as discontinued operations or other comprehensive loss) for each tax jurisdiction. In periods in which there is a year-to-date pre-tax loss from continuing operations and pre-tax income in other categories of earnings, the tax provision is first allocated to the other categories of earnings. A related tax benefit is then recorded in continuing operations. While intraperiod tax allocation in general does not change the overall tax provision, it does affect the amount of tax provision included in each category. For the three months and six months ended June 30, 2013, the intraperiod allocation was not applicable because we no longer have any discontinued operations activity. For the three months and six months ended June 30, 2012, the intraperiod allocation was not applicable because we had a pretax loss in both continuing and discontinued operations.

Other Significant Accounting Policies

For a description of the Company’s other significant accounting policies, see Note Two “Summary of Significant Accounting Policies” of the “Notes to Consolidated Financial Statements” included in our Annual Report filed on Form 10-K for the year ended December 31, 2012.

Forward-Looking Statements

Statements in this Form 10-Q that are not historical facts are “forward-looking statements” and are made pursuant to the safe harbor provisions of Section 27A of the Securities Act of 1933, as amended (the “Securities Act”), and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). These forward-looking statements, which may be identified by use of words such as “plan,” “may,” “might,” “believe,” “expect,” “intend,” “could,” “would,” “should,” and other words and terms of similar meaning, in connection with any discussion of our prospects, financial statements, business, financial condition, revenues, results of operations, or liquidity, involve risks and uncertainties that could cause actual results to differ materially from those described in the forward-looking statements. In addition to other factors and matters contained or incorporated in this document, important factors that could cause actual results or events to differ materially from those indicated by such forward-looking statements include, without limitation, those noted under “Risk Factors” included in Part I Item 1A of our Form 10-K for the year ended December 31, 2012, as well as the following:

 

   

Uncertainties associated with the attraction of, and the ability to execute contracts with, new clients, the continuation of existing, and execution of new, engagements with existing clients, and the timing of related client commitments;

 

   

Reliance on a relatively small number of clients for a significant percentage of our revenue;

 

   

Risks involving the variability and predictability of the number, size, scope, cost, and duration of, and revenue from, client engagements;

 

   

Management of the other risks associated with increasingly complex client projects and new service offerings, including execution risk; and

 

   

Management of growth and development of, and introduction of, new service offerings.

We cannot guarantee any future results, levels of activity, performance, or achievements. The statements made in this Form 10-Q represent our views as of the date of this Form 10-Q, and it should not be assumed that the statements made in this Form 10-Q remain accurate as of any future date. Moreover, we assume no obligation to update forward-looking statements, except as may be required by law.

Second Quarter of 2013 Compared with Second Quarter of 2012

Services revenue is total revenue excluding reimbursable expenses that are billed to our clients. Our services revenue remained constant at $7.9 million in the second quarter of both 2013 and 2012.

Behavioral Analytics revenue remained constant at $7.6 million in the second quarter of both 2013 and 2012.

Other revenue was $0.3 million in the second quarter of 2013 and was $0.4 million in the second quarter of 2012.

The Company’s top five clients accounted for 72% of total revenue in the second quarter of 2013 and 70% of total revenue in the second quarter of 2012. The top 10 clients accounted for 91% of total revenue in the second quarter of 2013 and 93% of total revenue in the second quarter of 2012. In the second quarter of 2013 and 2012, there were four and three clients, respectively, that each accounted for 10% or more of total revenue. In the second quarter of 2013, Vangent, Inc., Progressive Casualty Insurance Company, Allstate Insurance Company, and United HealthCare Services, Inc., accounted for 20%, 16%, 15%, and 11% of total revenue, respectively. In the second quarter of 2012, Vangent, Inc., Allstate Insurance Company, and Progressive Casualty Insurance Co. accounted for 20%, 18%, and 14% of total revenue, respectively. Higher concentration of revenue with a single client or a limited group of clients creates increased revenue risk if one of these clients significantly reduces its demand for our services.

 

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Cost of Revenue Before Reimbursed Expenses, Exclusive of Depreciation and Amortization

Cost of Services

Cost of services primarily consists of labor costs, including salaries, fringe benefits, and incentive compensation, royalties, and other client-related third-party outside services. Cost of services excludes depreciation and amortization.

Cost of Behavioral Analytics revenue was $2.5 million, or 33% of Behavioral Analytics revenue in the second quarter of 2013, compared to $2.9 million, or 39% of Behavioral Analytics revenue, in the second quarter of 2012. The favorable decrease in cost and percentage was primarily due to improved productivity in our delivery organization resulting in lower compensation costs and better leverage of our cost structure supporting our subscription clients.

Cost of other revenue was $0.2 million, or 57% of Other revenue in the second quarter of 2013, compared to $0.2 million, or 50% of Other revenue, in the second quarter of 2012. The percentage increase was largely due to slightly lower Other revenue.

Sales, Marketing and Development

Sales, marketing and development expenses consist primarily of salaries, incentive compensation, commissions, and employee benefits for business development, account management, marketing, and product development personnel. The personnel costs included in this item are net of any labor costs directly related to the generation of revenue, which are represented in Cost of services.

Sales, marketing and development expenses remained constant at $5.4 million in the second quarter of both 2013 and 2012.

General and Administrative

General and administrative expenses consist primarily of salaries, incentive compensation, and employee benefits for administrative personnel, as well as facilities costs, a provision for uncollectible amounts, and costs for our corporate technology infrastructure and applications.

General and administrative expenses increased $0.1 million, or 5%, to $2.1 million in the second quarter of 2013 from $2.0 million in the second quarter of 2012. This increase is due to higher compensation expense.

Severance and Related Costs

Severance and related costs includes cost-reduction actions, principally consisting of personnel reductions and an office consolidation. The cost-reduction actions taken during fiscal year 2012 resulted in annual cash savings of $0.3 million. Costs related to office space reductions and office closures were paid pursuant to contractual lease terms through January 2012.

There were no severance and related costs in the second quarter of 2013. In the second quarter of 2012, the $14 thousand of expense was related to an adjustment for severance and related costs for the elimination of one position that occurred in the first quarter of 2012.

Depreciation and Amortization

Depreciation increased $0.1 million, to $0.9 million in the second quarter of 2013 compared to $0.8 million in the second quarter of 2012. The increase of $0.1 million in depreciation and amortization is primarily related to an increased rate of investment in the second quarter of 2013.

 

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Operating Loss

Primarily as a result of the factors described above, we experienced an operating loss of $3.2 million for the second quarter of 2013, compared to an operating loss of $3.4 million for the second quarter of 2012.

Interest and Other Expense, Net

Non-operating interest and other expense was $0.1 million of expense in the second quarter of both 2013 and 2012. In the second quarter of both 2013 and 2012, the $0.1 million of expense was primarily related to interest expense on our short-term debt and capital lease obligation.

Income Tax (Provision) Benefit

The income tax provision was less than $0.1 million in the second quarters of 2013 and 2012. As of June 30, 2013, total net deferred tax assets of $65.1 million were fully offset by a valuation allowance. The level of uncertainty in predicting when we will achieve profitability, sufficient to utilize our net U.S. and non-U.S. operating losses and realize our remaining deferred tax assets, requires that an income tax valuation allowance be recognized in the financial statements.

Loss from Discontinued Operations

There was no loss from discontinued operations in the second quarter of 2013. The loss from discontinued operations of less than $0.1 million in the second quarter of 2012 was due to settlement costs relating to a former employee of the ICS Business Unit.

Net Loss Available to Common Stockholders

We reported net loss available to common stockholders of $3.5 million in the second quarter of 2013 compared to net loss available to common stockholders of $3.7 million in the second quarter of 2012. Accrued dividends to holders of our Series B Stock were $0.1 million in the second quarters of 2013 and 2012. In the second quarter of 2013, there was net loss of $0.21 per share on a basic and diluted basis, compared to net loss of $0.23 per share on a basic and diluted basis in the second quarter of 2012.

First Six Months of 2013 Compared with First Six Months of 2012

Services revenue is total revenue excluding reimbursable expenses that are billed to our clients. Our services revenue decreased $0.4 million, or 2%, to $16.4 million in the first six months of 2013, from $16.8 million in the first six months of 2012.

Behavioral Analytics revenue was $15.8 million in the first six months of 2013 and was $16.1 million in the first six months of 2012. The $0.3 million, or 2%, decrease in Behavioral Analytics revenue in the first six months of 2013 was primarily due to the completion of a few subscription contracts, partially offset by revenue associated with new client agreements and expansion at several existing clients.

Other revenue remained constant at $0.7 million in the first six months of 2013 and 2012.

The Company’s top five clients accounted for 68% of total revenue in the first six months of 2013 and 2012. The top 10 clients accounted for 90% of total revenue in the first six months of 2013 and 91% of total revenue in the first six months of 2012. In the first six months of 2013 and 2012, there were four clients that accounted for 10% or more of total revenue. In the first six months of 2013, Vangent, Inc., Progressive Casualty Insurance Company, Allstate Insurance Company, and United HealthCare Services, Inc., accounted for 19%, 15%, 14%, and 10% of total revenue, respectively. In the first six months of 2012, Vangent, Inc., Allstate Insurance Company, Progressive Casualty Insurance Co., and Health Care Service Corporation accounted for 19%, 17%, 13%, and 10% of total revenue, respectively. Higher concentration of revenue with a single client or a limited group of clients creates increased revenue risk if one of these clients significantly reduces its demand for our services.

Cost of Revenue Before Reimbursed Expenses, Exclusive of Depreciation and Amortization

Cost of Services

Cost of services primarily consists of labor costs, including salaries, fringe benefits, and incentive compensation, royalties, and other client-related third-party outside services. Cost of services excludes depreciation and amortization.

 

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Cost of Behavioral Analytics revenue was $5.2 million, or 33% of Behavioral Analytics revenue in the first six months of 2013, compared to $6.1 million, or 38% of Behavioral Analytics revenue, in the first six months of 2012. The favorable decrease in cost and percentage was primarily due to lower Behavioral Analytics revenue, improved productivity in our Delivery organization resulting in lower compensation costs and better leverage of our cost structure supporting our subscription clients.

Cost of other revenue was $0.4 million, or 53% of Other revenue in the first six months of 2013, compared to $0.4 million, or 54% of Other revenue, in the first six months of 2012. The favorable percentage decrease was largely due to lower compensation expense.

Sales, Marketing and Development

Sales, marketing and development expenses consist primarily of salaries, incentive compensation, commissions, and employee benefits for business development, account management, marketing, and product development personnel. The personnel costs included in this item are net of any labor costs directly related to the generation of revenue, which are represented in Cost of services.

Sales, marketing and development expenses increased $1.0 million, or 9%, to $11.6 million in the first six months of 2013 from $10.6 million in the first six months of 2012. This increase is due to higher compensation combined with decreased cost transfer to Cost of services due to lower cost deferrals and improved margins.

General and Administrative

General and administrative expenses consist primarily of salaries, incentive compensation, and employee benefits for administrative personnel, as well as facilities costs, a provision for uncollectible amounts, and costs for our corporate technology infrastructure and applications.

General and administrative expenses increased $0.4 million, or 11%, to $4.4 million in the first six months of 2013 from $4.0 million in the first six months of 2012. This increase is due to higher compensation expense.

Severance and Related Costs

Severance and related costs includes cost-reduction actions, principally consisting of personnel reductions and an office consolidation. The cost-reduction actions taken during fiscal year 2012 resulted in annual cash savings of $0.3 million. Costs related to office space reductions and office closures were paid pursuant to contractual lease terms through January 2012.

There were no severance and related costs in the first six months of 2013. In the first six months of 2012, the $0.7 million of expense was related to severance and related costs for the elimination of one position.

Depreciation and Amortization

Depreciation increased $0.3 million, to $1.9 million in the first six months of 2013 compared to $1.6 million in the first six months of 2012. The increase of $0.3 million in depreciation and amortization is primarily related to an increased rate of investment for the first six months of 2013.

Operating Loss

Primarily as a result of the factors described above, we experienced an operating loss of $7.0 million for the first six months of 2013, compared to an operating loss of $6.6 million for the first six months of 2012.

Interest and Other Expense, Net

Non-operating interest and other expense was $0.2 million of expense in the first six months of 2013 and 2012. In the first six months of 2013 and 2012, the $0.2 million of expense was primarily related to interest expense on our short-term debt and capital lease obligation.

Income Tax Benefit (Provision)

The income tax benefit was $0.2 million in the first six months of 2013 and the tax provision was less than $0.1 million in the first six months of 2012. The income tax benefit was due to a favorable tax ruling on a previously accrued income tax liability. As of June 30, 2013, total net deferred tax assets of $65.1 million were fully offset by a valuation allowance. The level of uncertainty in predicting when we will achieve profitability, sufficient to utilize our net U.S. and non-U.S. operating losses and realize our remaining deferred tax assets, requires that an income tax valuation allowance be recognized in the financial statements.

 

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Loss from Discontinued Operations

There was no loss from discontinued operations in the first six months of 2013. The loss from discontinued operations of $0.1 million in the first six months of 2012 was due to settlement costs relating to a former employee of the ICS Business Unit.

Net Loss Available to Common Stockholders

We reported net loss available to common stockholders of $7.3 million in the first six months of 2013 compared to net loss available to common stockholders of $7.2 million in the first six months of 2012. Accrued dividends to holders of our Series B Stock were $0.3 million in the first six months of 2013 and 2012. In the first six months of 2013, there was net loss of $0.44 per share on a basic and diluted basis, compared to net loss of $0.46 per share on a basic and diluted basis in the first six months of 2012.

Liquidity and Capital Resources

Introduction

Our principal capital requirements are to fund working capital needs, capital expenditures for Behavioral Analytics and infrastructure requirements, and other revenue generation and growth investments. As of June 30, 2013, our principal capital resources consisted of our cash and cash equivalents balance of $10.9 million, which includes $0.2 million in foreign bank accounts.

The decrease in cash during the first six months of 2013 was primarily the result of the net loss before non-cash items, capital lease principal payments, capital expenditures, and the acquisition of treasury stock, partially offset by proceeds from our revolving line of credit agreement. Prior to June 30, 2012, restricted cash was primarily used as collateral for letters of credit issued in support of future capital lease obligations. See “Credit Facility” description below.

The decrease in cash during the first six months of 2012 was primarily the result of the net loss before non-cash items, a decrease in unearned revenue reflecting the recognition of previously deferred revenue, capital expenditures, cash dividend payments on Series B Stock, acquisition of treasury stock, and capital lease principal payments, partially offset by accounts receivable collections and an increase in accrued compensation and related costs.

Cash Flows from Operating Activities

Net cash used in operating activities of continuing operations during the first six months of 2013 and 2012 was $3.3 million and $7.3 million, respectively. During the first six months of 2013, cash outflows of $3.3 million from operating activities consisted primarily of the net loss before non-cash items of $1.8 million, a $1.3 million decrease in unearned revenue reflecting the recognition of previously deferred revenue, and a $0.4 million increase in receivables reflecting an increase in Days Sales Outstanding (“DSO”).

During the first six months of 2012, cash outflows of $7.3 million from operating activities consisted primarily of the net loss before non-cash items of $2.9 million, a $4.1 million decrease in unearned revenue reflecting the recognition of previously deferred revenue partially offset by accounts receivable collections of $0.7 million.

There was no net cash used in operating activities of discontinued operations during the first six months of 2013. Net cash used in operating activities of discontinued operations during the first six months of 2012 was $0.2 million.

DSO was 33 days at June 30, 2013 compared to 26 days at December 31, 2012, an increase of seven days. Because a high percentage of our revenue is dependent on a relatively small number of clients, delayed payments by a few of our larger clients could result in a reduction of our available cash, which in turn may cause fluctuation in our DSO. We do not expect any significant collection issues with our clients; see “Accounts Receivable Customer Concentration” for additional information on cash collections.

 

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As of June 30, 2013, there were no outstanding liabilities for severance and related costs. See Note Six “Severance and Related Costs” of the “Notes to Condensed Consolidated Financial Statements”.

Cash Flows from Investing Activities

The Company used $0.9 million of cash in continuing investing activities during the first six months of 2013 compared to $0.9 million of cash in continuing investing activities during the first six months of 2012.

Capital expenditures were primarily used to purchase computer hardware and software during the first six months of 2013 and 2012, respectively. We currently expect to incur new capital investments of between $4.0 million and $5.0 million for fiscal year 2013 and plan on funding approximately $3.0 million to $3.8 million of these purchases with capital leases.

There was no net cash used in discontinued investing activities during the first six months of 2013 and 2012.

Cash Flows from Financing Activities

Net cash provided by continuing financing activities was $0.6 million during the first six months of 2013 compared to $0.5 million of cash used by the Company in continuing financing activities during the first six months of 2012.

Net cash proceeds of $0.6 million during the first six months of 2013 were primarily attributable to proceeds from our revolving line of credit agreement of $2.4 million, partially offset by: (i) $1.2 million of principal payments under our capital lease obligations and (ii) $0.7 million of cash used to acquire treasury stock.

Net cash outflows of $0.5 million during the first six months of 2012 were primarily attributable to: (i) $3.7 million to purchase shares of Series B stock, (ii) $1.1 million of principal payments under our capital lease obligations; (iii) $0.8 million of cash used to acquire treasury stock; and (iv) $0.3 million for cash dividend payments on Series B Stock partially offset by proceeds from our revolving line of credit agreement of $3.7 million and a decrease in restricted cash of $1.5 million. The treasury stock acquired in each year reflects shares that were obtained to meet employee tax obligations associated with stock award vestings.

There was no net cash used in discontinued financing activities during the first six months of 2013 and 2012.

Historically, we have not paid cash dividends on our Common Stock, and we do not expect to do so in the future. The Board of Directors did not declare a dividend payment on Series B Stock, which was accrued, for the dividend periods July 1, 2012 through December 31, 2012 and January 1, 2013 through June 30, 2013 (the aggregate amount of these dividends was approximately $0.6 million). A cash dividend on the Series B Stock of $0.3 million was paid on January 3, 2012, for the dividend period July 1, 2011 through December 31, 2011 and a cash dividend of $0.3 million was paid on July 2, 2012, for the period January 1, 2012 through June 30, 2012. Under the terms of the Certificate of Designations for the Series B Stock, unpaid dividends are cumulative and accrue at the rate of 7% per annum, payable semi-annually in January and July. The amount of each dividend accrual will be decreased by any conversions of the Series B Stock into Common Stock, as such conversions require the Company to pay accrued but unpaid dividends at the time of conversion. Conversions of Series B Stock became permissible at the option of the holder after June 19, 2002.

Pursuant to a tender offer commenced in the first quarter of 2012, Mattersight purchased 19,758 shares of Series B Stock, at a price of $8.71 per share (representing $8.60 per share plus accrued and unpaid dividends), for an aggregate cost of approximately $172,092, excluding fees and expenses related to the tender offer. These shares represented approximately 1.2% of the Series B Stock outstanding as of April 13, 2012.

The Company expects to acquire between $0.4 million and $0.5 million of treasury stock during the third quarter of 2013 to meet employee tax obligations associated with the Company’s stock-based compensation programs.

Liquidity

Our near-term capital resources consist of our current cash balance, together with anticipated future cash flows, financing from capital leases, and our revolving line of credit (See “Credit Facility” below). Our balance of cash and cash equivalents was $10.9 million as of June 30, 2013.

 

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We anticipate that our current unrestricted cash resources, together with operating revenue and capital lease financing, should be sufficient to satisfy our short-term working capital and capital expenditure needs for the next twelve months. Management will continue to assess opportunities to maximize cash resources by actively managing our cost structure and closely monitoring the collection of our accounts receivable. If, however, our operating activities, capital expenditure requirements, or net cash needs differ materially from current expectations due to uncertainties surrounding the current capital market, credit and general economic conditions, competition, or the termination of a large client contract, then there is no assurance that we would have access to additional external capital resources on acceptable terms.

Credit Facility

On May 30, 2013, the Company, together with its wholly-owned subsidiaries Mattersight Europe Holding Corporation and Mattersight International Holding, Inc., as co-borrowers, entered into an Amended and Restated Loan and Security Agreement with Silicon Valley Bank (the “Amended and Restated Credit Facility”). The Amended and Restated Credit Facility (i) extends the maturity date of the revolving line to 2015; (ii) modifies the borrowing base from one based upon the Company’s unrestricted cash to one based upon the Company’s available accounts receivable; (iii) provides for a varying interest rate based on the Company’s ratio of unrestricted cash to debt; and (iv) requires the Company to maintain a tangible net worth of at least three million dollars ($3,000,000). The terms and conditions of the Amended and Restated Credit Agreement are otherwise substantially the same as those contained in the Loan and Security Agreement, dated June 29, 2012, by and between the Company, the subsidiary borrowers thereto, and Silicon Valley Bank (the “Credit Facility”).

The principal amount outstanding under the Credit Facility accrues interest at a floating annual rate equal to three quarters of one percentage point (0.75%) above the United States prime rate, payable monthly. Upon execution of the Credit Facility, the Company paid a commitment fee, and in addition, the Company is obligated to pay a fee equal to one-eighth of one percent (0.125%) per annum of the average unused portion of the Credit Facility, payable quarterly in arrears. There was $6.1 million outstanding under the Amended and Restated Credit Facility at June 30, 2013, which is accruing interest at a rate of 4.0%.

The Credit Facility imposes various restrictions on the Company, including usual and customary limitations on the ability of the Company or any of its subsidiaries to incur debt and to grant liens upon their assets, and prohibits certain consolidations, mergers, and sales and transfers of assets by the Company and its subsidiaries. The Credit Facility includes usual and customary events of default for facilities of this nature (with customary grace periods, as applicable) and provides that, upon the occurrence of an event of default, payment of all amounts payable under the Credit Facility may be accelerated and/or the lenders’ commitments may be terminated. In addition, upon the occurrence of certain insolvency or bankruptcy related events of default, all amounts payable under the Credit Facility will automatically become immediately due and payable, and the lenders’ commitments will automatically terminate.

See Note Ten “Short-Term Debt” of the “Notes to Condensed Consolidated Financial Statements” for further discussion.

Accounts Receivable Customer Concentration

As of June 30, 2013, four clients, Vangent, Inc., United HealthCare Services, Inc., Allstate Insurance Company, and CVS Pharmacy, Inc., accounted for 31%, 20%, 15%, and 13% of total gross accounts receivable, respectively. Of these amounts, we have collected 100% from Vangent, Inc., 62% from United HealthCare Services, Inc., 90% from Allstate Insurance Company, and 53% from CVS Pharmacy, Inc., through August 6, 2013. Of the total June 30, 2013 gross accounts receivable, we have collected 70% as of August 6, 2013. Because we have a high percentage of our revenue dependent on a relatively small number of clients, delayed payments by a few of our larger clients could result in a reduction of our available cash.

Capital Lease Obligations

Capital lease obligations as of June 30, 2013 and December 31, 2012 were $2.9 million and $2.3 million, respectively. We are a party to a capital lease agreement with a leasing company to lease hardware and software. We expect to incur new capital lease obligations of between $3.0 million to $3.8 million for fiscal year 2013 as we continue to expand our investment in the infrastructure for Behavioral Analytics.

 

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Contractual Obligations

Cash will also be required for operating leases and non-cancellable purchase obligations, as well as various commitments reflected as liabilities on our balance sheet as of June 30, 2013. These commitments are as follows:

 

 

(In millions)

Contractual Obligations

   Total      Less
Than 1
Year
     1 – 3
Years
     3 – 5
Years
     More
Than 5
Years
 

Letters of credit

   $ 0.3       $ 0.3       $ —         $ —         $ —     

Operating leases

     2.6         1.0         1.4         0.2         —     

Capital leases

     3.5         1.9         1.6         —           —     

Purchase obligations

     2.1         2.1         —           —           —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 8.5       $ 5.3       $ 3.0       $ 0.2       $ —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Letters of Credit

The amounts set forth in the chart above reflect standby letters of credit issued as collateral for capital leases. Specifically, these amounts reflect the face amount of these letters of credit that expire in each period presented.

Leases

The amounts set forth in the chart above reflect future principal, interest, and executory costs of the leases entered into by the Company for technology and office equipment, as well as office and data center space. Liabilities for the principal portion of the capital lease obligations are reflected on our balance sheet as of June 30, 2013 and December 31, 2012.

Purchase Obligations

Purchase obligations include $1.4 million of commitments reflected as liabilities on our balance sheet as of June 30, 2013, as well as $0.8 million of non-cancellable obligations to purchase goods or services in the future. As of December 31, 2012, purchase obligations include $0.9 million of commitments reflected as liabilities on our balance sheet, as well as $0.9 million of non-cancellable obligations to purchase goods or services in the future.

Recent Accounting Pronouncements

In July 2012, the FASB issued ASU No. 2012-02, Intangibles—Goodwill and Other (Topic 350) — Testing Indefinite-Lived Intangible Assets for Impairment. ASU 2012-02 permits an entity to first assess qualitative factors to determine whether it is more likely than not that an indefinite-lived intangible asset is impaired as a basis for determining whether it is necessary to perform the quantitative impairment test in accordance with Subtopic 350-30. If an entity concludes that it is not more likely than not that the indefinite-lived intangible asset is impaired, then no further action is required. If an entity concludes otherwise, then it is required to determine the fair value of the indefinite-lived intangible asset and perform the quantitative impairment test. ASU 2012-02 is effective for annual and interim impairment tests performed for fiscal years beginning after September 15, 2012, with early adoption permitted. The adoption of this ASU did not have a material impact on the Company’s condensed consolidated financial statements.

 

Item 3. Quantitative and Qualitative Disclosures about Market Risk

There have been no material changes in market risk as of June 30, 2013 from that described in the Company’s Annual Report filed on Form 10-K for the year ended December 31, 2012.

 

Item 4. Controls and Procedures

Evaluation of Disclosure Controls and Procedures

Mattersight maintains disclosure controls and procedures that have been designed to ensure that information required to be disclosed by the Company in the reports it files or submits under the Securities Exchange Act of 1934 is recorded, processed, summarized, and reported within the time periods specified in the rules and forms of the SEC and such information is accumulated and communicated to Company management, including its principal executive officers, to allow timely decisions regarding required disclosure. The Company’s Chief Executive Officer and Chief Financial Officer evaluated the effectiveness of the design and operation of the Company’s disclosure controls and procedures as of the end of the period covered by this report, as required by Rule 13a-15 of the Securities Exchange Act of 1934. Based on this evaluation, our Chief Executive Officer and Chief Financial Officer concluded that, as of the end of the period covered by this report, the Company’s disclosure controls and procedures were effective.

 

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As of the last business day of our second fiscal quarter (June 30, 2013), our public float, as calculated in accordance with Rule 12b-2 under the Securities Exchange Act of 1934, as amended (“Rule 12b-2”), was less than $50 million. As such, we became a smaller reporting company (as defined in Rule 12b-2) on such date. In addition to being a smaller reporting company, we will continue to be an accelerated filer (as defined in Rule 12b-2) through the end of the fiscal year. At the end of our fiscal year, we will cease to be an accelerated filer and will only be a smaller reporting company.

Changes in Internal Control over Financial Reporting

During the first quarter of 2013, we completed the implementation of a new accounting and management information system. There have been no changes in Mattersight’s internal control over financial reporting that occurred during the second quarter of 2013 that has materially affected, or is reasonably likely to affect materially, the Company’s internal control over financial reporting.

Part II. Other Information

 

Item 1. Legal Proceedings

See discussion under Note Seventeen “Litigation and Other Contingencies” to the Notes to the Condensed Consolidated Financial Statements included in Item 1 of Part I of this Quarterly Report on Form 10-Q, which is incorporated herein by reference.

 

Item 1A. Risk Factors

There have been no material changes with respect to the factors disclosed in our Annual Report filed on Form 10-K for the year ended December 31, 2012.

 

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Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

Repurchase of Equity Securities

The following table provides information relating to the Company’s purchase of shares of its Common Stock in the second quarter of 2013. All of these purchases reflect shares withheld to satisfy tax withholding obligations related to stock awarded under the Salary Replacement Program or vestings under other stock programs. The Company has not adopted a Common Stock repurchase plan or program.

 

 

Period

   Total Number
of Shares
Purchased
     Average
Price Paid
Per Share
 

April 1, 2013 – April 30, 2013

     —         $ —     

May 1, 2013 – May 31, 2013

     101,812       $ 3.75   

June 1, 2013 – June 30, 2013

     42,510       $ 2.93   
  

 

 

    

Total

     144,322       $ 3.51   
  

 

 

    

 

Item 6. Exhibits

 

    10.1   Amended and Restated Loan and Security Agreement between Silicon Valley Bank, Mattersight Corporation, Mattersight Europe Holding Corporation, and Mattersight International Holding, Inc., dated May 30, 2013 (incorporated by reference to Exhibit 10.1 to the Company’s 8-K filed on June 4, 2013).
    10.2   First Amendment to Executive Employment Agreement, dated July 1, 2013, between David R. Gustafson and Mattersight Corporation (incorporated by reference to Exhibit 10.1 to the Company’s 8-K filed on July 3, 2013).
**31.1   Certification of Kelly D. Conway under Section 302 of the Sarbanes-Oxley Act of 2002.
**31.2   Certification of Mark Iserloth under Section 302 of the Sarbanes-Oxley Act of 2002.
**32.1   Certification of Kelly D. Conway and Mark Iserloth under Section 906 of the Sarbanes-Oxley Act of 2002.
    99.1   Mattersight Corporation 2006/2007 Salary Replacement Program (as Amended and Restated as of May 9, 2013) (incorporated by reference to Exhibit 99.1 to the Company’s 8-K filed on May 13, 2013).
**101   The following materials from our Quarterly Report on Form 10-Q for the quarter ended June 30, 2013 are formatted in eXtensible Business Reporting Language (XBRL): (i) condensed consolidated balance sheets, (ii) condensed consolidated statements of operations, (iii) condensed consolidated statements of comprehensive loss, (iv) condensed consolidated statements of cash flows, and (v) notes to the unaudited condensed consolidated financial statements.

 

** Filed herewith.

 

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized, on August 8, 2013.

 

MATTERSIGHT CORPORATION
By   /s/ MARK ISERLOTH
  Mark Iserloth
  Vice President and Chief Financial Officer
  (Duly authorized signatory and
  Principal Financial Officer)
By   /s/ WILLIAM B. NOON
  William B. Noon
  Vice President of Finance
  (Duly authorized signatory and
  Principal Accounting Officer)

 

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