-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, Hi7GyudXhv/jT2BuDC45JwXd6k3n8EN8VNEwyz5Jh1ZK/uz4lHarOpoEQAVOIUkC az4I/yC/CAPChG8e4qONag== 0000927016-02-002239.txt : 20020424 0000927016-02-002239.hdr.sgml : 20020424 ACCESSION NUMBER: 0000927016-02-002239 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 20020331 FILED AS OF DATE: 20020424 FILER: COMPANY DATA: COMPANY CONFORMED NAME: PEGASYSTEMS INC CENTRAL INDEX KEY: 0001013857 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-COMPUTER PROCESSING & DATA PREPARATION [7374] IRS NUMBER: 042787865 STATE OF INCORPORATION: MA FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 001-11859 FILM NUMBER: 02619029 BUSINESS ADDRESS: STREET 1: 101 MAIN ST CITY: CAMBRIDGE STATE: MA ZIP: 02142-1590 BUSINESS PHONE: 6173749600 MAIL ADDRESS: STREET 1: 101 MAIN ST CITY: CAMBRIDGE STATE: MA ZIP: 02142-1590 10-Q 1 d10q.txt FORM 10-Q 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 March 31, 2002 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: 1-11859 PEGASYSTEMS INC. (Exact name of Registrant as specified in its charter) Massachusetts 04-2787865 (State or other jurisdiction of (IRS Employer Identification No.) incorporation or organization) 101 Main Street Cambridge, MA 02142-1590 (Address of principal executive offices) (zip code) (617) 374-9600 (Registrant's telephone number including area code) Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No --- ____ There were 33,465,221 shares of the Registrant's common stock, $.01 par value per share, outstanding on April 15, 2002. 1 PEGASYSTEMS INC. AND SUBSIDIARIES Index to Form 10-Q
Page ---- Part I - Financial Information Item 1. Condensed Consolidated Financial Statements Condensed Consolidated Balance Sheets at March 31, 2002 and December 31, 2001 3 Condensed Consolidated Statements of Operations for the three months ended March 31, 2002 and 2001 4 Condensed Consolidated Statements of Cash Flows for the three months ended March 31, 2002 and 2001 5 Notes to Condensed Consolidated Financial Statements 6 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 13 Item 3. Quantitative and Qualitative Disclosures About Market Risk 21 Part II - Other Information Item 1. Legal Proceedings 21 Item 2. Changes in Securities and Use of Proceeds 22 Item 3. Defaults upon Senior Securities 22 Item 4. Submission of Matters to a Vote of Security Holders 22 Item 5. Other Information 22 Item 6. Exhibits and Reports on Form 8-K 22 SIGNATURES 23 EXHIBIT INDEX 24
2 PEGASYSTEMS INC. Condensed Consolidated Balance Sheets (in thousands, except share-related amounts)
March 31, December 31, 2002 2001 ------------ ----------- Assets Current assets: Cash and cash equivalents ................................................ $ 41,340 $ 33,017 Trade accounts receivable, net of allowance for doubtful accounts of $1,035 in 2002 and $1,034 in 2001 ............................................................... 7,821 9,592 Short-term license installments, net ..................................... 35,512 31,359 Prepaid expenses and other current assets ................................ 954 2,286 ------------ ------------ Total current assets ................................................. 85,627 76,254 Long-term license installments, net ...................................... 38,030 43,155 Equipment and improvements, net .......................................... 2,787 3,053 Acquired technology ...................................................... 1,342 -- Purchased software and other assets, net ................................. 2,019 2,610 Goodwill ................................................................. 3,167 -- ------------ ------------ Total assets ....................................................... $ 132,972 $ 125,072 ============ ============ Liabilities and Stockholders' Equity Current liabilities: Accounts payable and accrued expenses .................................... $ 10,547 $ 12,840 Deferred revenue ......................................................... 8,522 6,176 Current portion of capital lease obligations ............................. 27 81 ------------ ------------ Total current liabilities ............................................ 19,096 19,097 Commitments and contingencies (Note 5) Deferred income taxes ....................................................... 1,000 1,000 Other long-term liabilities ................................................. 204 17 ------------ ------------ Total liabilities ................................................. 20,300 20,114 Stockholders' equity: Preferred stock, $.01 par value, 1,000,000 shares authorized; no shares issued and outstanding............................ -- -- Common stock, $.01 par value, 45,000,000 shares authorized; 33,448,743 shares and 32,754,648 shares issued and outstanding in 2001 and 2000, respectively ............................. 335 328 Additional paid-in capital ............................................... 105,226 101,318 Stock warrants ........................................................... 3,271 2,897 Retained earnings ........................................................ 4,195 757 Accumulated other comprehensive loss ..................................... (355) (342) ------------ ------------ Total stockholders' equity ........................................... 112,672 104,958 ------------ ------------ Total liabilities and stockholders' equity ......................... $ 132,972 $ 125,072 ============ ============
See notes to condensed consolidated financial statements. 3 PEGASYSTEMS INC. Condensed Consolidated Statements of Operations (in thousands, except per share amounts) Three Months Ended March 31, 2002 2001 -------- -------- Revenue: Software license .............................. $ 16,266 $ 10,882 Services ...................................... 7,945 12,723 -------- -------- Total revenue ............................... 24,211 23,605 -------- -------- Cost of revenue: Cost of software license ...................... 643 648 Cost of services .............................. 7,292 10,244 -------- -------- Total cost of revenue ....................... 7,935 10,892 -------- -------- Gross Profit ..................................... 16,276 12,713 Operating expenses: Research and development ...................... 5,750 4,991 Selling and marketing ......................... 5,729 4,909 General and administrative .................... 2,409 2,990 -------- -------- Total operating expenses .................... 13,888 12,890 -------- -------- Income (loss) from operations .................... 2,388 (177) Installment receivable interest income ........... 1,258 1,450 Other interest income, net ....................... 143 214 Other expense, net ............................... (151) (143) -------- -------- Income before provision for income taxes ......... 3,638 1,344 Provision for income taxes ....................... 200 250 -------- -------- Net income ....................................... $ 3,438 $ 1,094 ======== ======== Earnings per share: Basic .......................................... $ 0.10 $ 0.03 ======== ======== Diluted ........................................ $ 0.10 $ 0.03 ======== ======== Weighted average number of common and common equivalent shares outstanding: Basic .......................................... 32,799 32,595 ======== ======== Diluted ........................................ 34,739 33,462 ======== ======== See notes to condensed consolidated financial statements. 4 PEGASYSTEMS INC. Condensed Consolidated Statements of Cash Flows (in thousands)
Three Months Ended March 31, 2002 2001 -------- -------- Cash Flows from Operating Activities: Net income .................................................... $ 3,438 $ 1,094 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization ............................. 1,184 1,470 Changes in operating assets and liabilities: Trade and installment accounts receivable ............... 3,044 93 Prepaid expenses and other current assets ............... 1,325 (684) Accounts payable and accrued expenses ................... (2,825) (555) Deferred revenue ........................................ 2,287 1,643 -------- -------- Net cash provided by operating activities ............ 8,453 3,061 -------- -------- Cash Flows from Investing Activities: Acquisition of 1mind (See note 3) ............................. (573) -- Purchase of equipment and improvements ........................ (140) (188) Other long term assets and liabilities ........................ 59 92 -------- -------- Net cash used in investing activities ................ (654) (96) -------- -------- Cash Flows from Financing Activities: Payments of capital lease obligations ......................... (54) (80) Exercise of stock options ..................................... 620 53 -------- -------- Net cash provided by (used in) financing activities .. 566 (27) -------- -------- Effect of exchange rate changes on cash and cash equivalents ....... (42) (141) -------- -------- NET INCREASE IN CASH AND CASH EQUIVALENTS .................................................. 8,323 2,797 -------- -------- CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD ..................... 33,017 17,339 -------- -------- CASH AND CASH EQUIVALENTS, END OF PERIOD ........................... $ 41,340 $ 20,136 ======== ========
See notes to condensed consolidated financial statements. 5 PEGASYSTEMS INC. Notes to Condensed Consolidated Financial Statements March 31, 2002 Note 1 - Basis of presentation Our unaudited condensed consolidated financial statements of Pegasystems Inc. (the "Company") have been prepared in accordance with accounting principles generally accepted in the United States of America and with the instructions to Form 10-Q and Article 10 of Regulation S-X. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the three months ended March 31, 2002 are not necessarily indicative of the results that may be expected for the full year ending December 31, 2002. We suggest that these condensed consolidated financial statements be read in conjunction with the consolidated financial statements and notes thereto for the year ended December 31, 2001, included in our 2001 Annual Report on Form 10-K filed with the Securities and Exchange Commission ("SEC"). Certain amounts in the Company's 2001 condensed consolidated financial statements were reclassified to be consistent with the current presentation. Reimbursements received for out-of-pocket expenses have been reflected as services revenue, in compliance with Financial Accounting Standards Board Staff Announcement Topic No. D-103; in prior periods the reimbursements had been reflected as reduction of cost of services.
(in thousands) Three months ended March 31, 2001 -------------- Services revenue as reported previously ............... $ 11,935 Add: Reimbursements for out-of-pocket expenses ........ 788 ----------- Services revenue, reclassified ........................ $ 12,723 Cost of services as reported previously ............... $ 9,456 Add: Reimbursements for out-of-pocket expenses ........ 788 ----------- Cost of services, reclassified ........................ $ 10,244
Note 2 - Significant Accounting Policies (a) Business The Company and its subsidiaries develop, market, license and support software that enables transaction intensive-organizations to manage a broad array of customer interactions. We also offer consulting, training, and maintenance and support services to facilitate the installation and use of our products. (b) Management Estimates and Reporting The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the periods presented. Actual results could differ from those estimates. Significant assets and liabilities with reported amounts based on estimates include trade and installment accounts receivable, long term license installments and deferred revenue. 6 (c) Principles of Consolidation The consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries, Pegasystems Limited (a United Kingdom company), Pegasystems Company (a Canadian company), Pegasystems Worldwide Inc. (a United States corporation), and Pegasystems Pty Ltd. (an Australian company), Pegasystems Investments Inc. (a United States corporation) and Pegasystems Private Limited (a Singapore company). All intercompany accounts and transactions have been eliminated in consolidation. (d) Foreign Currency Translation The translation of assets and liabilities of our foreign subsidiaries is made at period-end exchange rates, while revenue and expense accounts are translated at the average exchange rates during the period transactions occurred. The resulting translation adjustments are reflected as a separate component of accumulated other comprehensive loss. Realized and unrealized exchange gains or losses from transactions and adjustments are reflected in other income, net, in the accompanying consolidated statements of operations. (e) Revenue Recognition Our revenue is derived from two primary sources: software license fees and service fees. We offer two types of software licenses: perpetual licenses and term licenses. Perpetual license fees are generally payable at the time the software is delivered, and are generally recognized as revenue upon customer acceptance. Term software license fees are generally payable on a monthly basis under license agreements that generally have a five-year term and may be renewed for additional years at the customer's option. The present value of future license payments is generally recognized as revenue upon customer acceptance and commitment to the contractual payment stream. A portion of the fee from each arrangement is initially deferred and recognized as installment receivable interest income over the license term. In addition, many of our license agreements provide for license fee increases based on inflation. The net present value of such increases is recognized as revenue when the values are determinable. For purposes of the present value calculations, the discount rates used are estimates of customers' borrowing rates, typically below prime rate, and have varied between 3.5% and 8.0% for the past few years. As a result, revenue that we recognize relative to these types of license arrangements may be impacted by changes in market interest rates. For term license agreement renewals, license revenue is recognized upon customer commitment to the new license terms. Our service revenue is comprised of fees for software implementation, consulting, maintenance, and training services. Our software implementation and consulting agreements typically require us to provide a specified level of implementation services for a specified fee, with additional consulting services available at an hourly rate. Revenues for time and material projects are recognized as fees are billed. Revenues for fixed price projects are recognized once the fair value of services and any other elements to be delivered under the arrangement can be determined. Costs associated with fixed price contracts are expensed as incurred. Historically, we have had difficulty accurately estimating the time and resources needed to complete fixed price projects. As a result, determination of the fair value of the elements of the contract has generally occurred later in the implementation process, typically when implementation is complete and remaining services are no longer significant to the project. Prior to the point at which the fair value of the elements of a contract can be determined, revenue recognition for fixed price projects is limited to amounts equal to costs incurred, resulting in no gross profit. Once the fair values of the elements of a contract are apparent, profit 7 associated with the fixed price services elements will begin to be recognized. Software license customers are offered the option to enter into a maintenance contract, which requires the customer to pay a monthly maintenance fee over the term of the maintenance agreement, typically renewable annually. Prepaid maintenance fees are deferred and are recognized evenly over the term of the maintenance agreement. We generally recognize training fees as the services are provided. We reduce revenue for estimates of the fair value of potential concessions during the period in which revenue is initially recorded, which are in turn recognized as revenue when the related elements are completed and provided to the customer. (f) Concentration of Credit Risk Financial instruments that potentially subject us to a concentration of credit risk consist of short term cash investments, trade accounts receivable and long-term license installments receivable. We record long-term license installments in accordance with its revenue recognition policy, which results in receivables from customers (due in periods exceeding one year from the reporting date, primarily from large organizations with strong credit ratings). We grant credit to customers who are located throughout the world. We perform credit evaluations of its customers and generally do not request collateral from its customers. Amounts due under long-term license installments are expected to be received as follows:
License Installments Years ended December 31, in thousands) 2002 ........................... $ 25,345 2003 ........................... 23,028 2004 ........................... 18,161 2005 ........................... 12,508 2006 ........................... 6,352 2007 ........................... 259 -------- 85,653 Deferred license interest income ........ (12,111) -------- Total license installments receivable ... $ 73,542 ========
(g) Cash and Cash Equivalents We consider all highly liquid investments with remaining maturities of three months or less at the date of purchase to be cash equivalents. (h) Equipment and Improvements Equipment and improvements are recorded at cost. Depreciation is computed using the straight-line method over the estimated useful lives of the assets, which are three years for equipment and five years for furniture and fixtures. Leasehold improvements and equipment under capital lease are amortized over the lesser of the life of the lease or the useful life of the asset. Repairs and maintenance costs are expensed as incurred. (i) Impairment of Long-Lived Assets We evaluate our long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying amount of such assets may not be recoverable. If such assets are considered to be impaired, the impairment to be recognized is measured by the amount by which the carrying amount of the asset exceeds the fair value of the asset. 8 (j) Research and Development and Software Costs Research and development costs, other than certain software related costs, are expensed as incurred. Capitalization of software costs begins upon the establishment of technical feasibility, generally demonstrated by a working model or an operative version of the computer software product that is completed in the same language and is capable of running on all of the platforms as the product to be ultimately marketed. Such costs have not been material to date, and no internal costs were capitalized during the first quarter of 2002 and 2001. Software costs are included in cost of software license revenue. No amortization expense for internally developed capitalized software costs was charged to cost of software license revenue during the first quarter of 2002 and 2001. (k) Net Earnings Per Share Basic earnings per share is computed based on the weighted average number of common shares outstanding during the period. Diluted earnings per share includes, to the extent inclusion of such shares would be dilutive to earnings per share, the effect of outstanding options and warrants, computed using the treasury stock method.
(in thousands, except per share data) Three Months Ended March 31, 2002 2001 --------- --------- Basic - ----- Net income ........................................................ $ 3,438 $ 1,094 ========= ========= Weighted average common shares outstanding ........................ 32,799 32,595 ========= ========= Basic earnings per share .......................................... $ 0.10 $ 0.03 ========= ========= Diluted - ------- Net income ........................................................ $ 3,438 $ 1,094 ========= ========= Weighted average common shares outstanding ........................ 32,799 32,595 Effect of assumed exercise of stock options ...................... 1,940 867 --------- --------- Weighted average common shares outstanding, assuming dilution ..... 34,739 33,462 ========= ========= Diluted earnings per share ........................................ $ 0.10 $ 0.03 ========= ========= Outstanding options and warrant excluded as impact would be anti-dilutive ................................................ 4,362 6,259 ========= =========
(l) Segment Reporting We currently operate in one operating segment, customer service software. We derive substantially all of our operating revenue from the sale and support of one group of similar products and services. Substantially all of our assets are located within the United States. For the three months ending March 31, 2002 and 2001, the Company derived its operating revenue from the following countries, principally through export from the United States of America: 9 Three Months Ended March 31, --------- (in $ thousands) 2002 2001 ------ ------ United States .... $19,358 80% $17,322 73% United Kingdom ... 3,646 15% 3,339 14% Europe ........... 898 4% 2,565 11% Other ............ 309 1% 379 2% ------ --- ------- --- $24,211 100% $23,605 100% During the first quarter of 2002 and 2001, one customer accounted for approximately 39.7% and 19% of the Company's total revenue, respectively. At March 31, 2002, one customer represented 7% of outstanding accounts receivable and one customer represented 15.3% of long and short-term license installments. (m) Stock Options We periodically grant stock options for a fixed number of shares to employees and directors with an exercise price equal to the fair market value of the shares at the date of the grant. We account for such stock option grants using the intrinsic value method in accordance with APB Opinion No. 25, "Accounting for Stock Issued to Employees", and intend to continue to do so. Stock options granted to non-employee contractors are accounted for using the fair value method in accordance with SFAS No. 123, "Accounting for Stock-Based Compensation". We have adopted the disclosure provisions of SFAS No. 123, "Accounting for Stock-Based Compensation," relative to the impact of the fair value method. (n) Fair Value of Financial Instruments The principal financial instruments held consist of cash and equivalents, accounts receivable and payable, capital lease obligations, and license installment receivables arising from license transactions. The carrying values of cash and cash equivalents, accounts receivable, accounts payable, and capital lease obligations approximates their fair value due to the short-term nature of the accounts. Using current market rates, the fair value of license installment receivables approximates carrying value at March 31, 2002 and 2001. (o) Legal Costs Costs incurred in connection with litigation in which we are involved are expensed as incurred. (p) New Accounting Standards We have adopted the Financial Accounting Standards Board ("FASB") Statement of Financial Accounting Standards ("SFAS") No. 141, "Business Combinations," and SFAS No. 142, "Goodwill and Other Intangible Assets." These pronouncements provide guidance on how to account for the acquisition of businesses and intangible assets, including goodwill, which arise from such activities. SFAS No.141 affirms that only one method of accounting may be applied to a business combination, the purchase method. SFAS No. 141 also provides guidance on the allocation of purchase price to the assets acquired. SFAS No. 142 provides that goodwill resulting from business combinations no longer be amortized to expense, but rather requires an annual assessment of impairment and, if necessary, adjustments to the carrying value of goodwill. We have adopted SFAS No. 143, "Accounting for Obligations Associated with the Retirement of Long-Lived Assets" and SFAS No. 144 "Accounting for the Impairment of Disposal of Long-Lived Assets." SFAS No.143 establishes accounting standards for the recognition and measurement of an asset retirement obligation 10 and its associated asset retirement cost. It also provides guidance for legal obligations associated with the retirement of tangible long-lived assets. SFAS No. 144 establishes a single accounting model for the impairment or disposal of long-lived assets, including discontinued operations. Adoption of these pronouncements is not expected to have a significant effect on our consolidated financial statements. Note 3 - Acquisition On February 6, 2002, we acquired substantially all of the assets of 1mind Corporation (1mind) for initial consideration value of $3.7 million. Depending upon the achievement of specified milestones by the acquired business in 2002 and validation of the negotiated value of 1mind, we may pay up to approximately $6 million in additional consideration substantially in the form of shares of our common stock. We believe that the acquisition will help increase our penetration of the healthcare and insurance markets, strengthen our management and delivery teams and deepen our product offerings. The acquisition of 1mind has been accounted for as purchase and the operations of 1mind have been included in our consolidated financial statements from the date of acquisition. Results of operations would not have changed materially for 2001 or the current year if 1mind had been acquired on January 1, 2001 and 2002, respectively. The cash flow impact of $573 thousand from this acquisition was transaction costs of $614 thousand less cash acquired of $41 thousand. We have not yet completed the process of appraising the fair values of 1mind assets, and therefore, the allocation of purchase price in the condensed consolidated financial statements is based on estimates, and is subject to change. (in thousands) Shares issued (a) ................................... $ 3,295 Warrants issued (b) ................................. 374 ------------ Total purchase price ................................. $ 3,669 ============ Current assets, including cash of $41 $ 339 Equipment and improvements 143 Acquired existing technology (c) 1,400 Goodwill and other intangibles (d) 3,167 Current liabilities (571) Long term liabilities (195) Transaction costs (614) ------------ $ 3,669 ============ (a) 569,949 common shares of Pegasystems Inc. valued at approximately $5.78 per share, the average of closing prices as reported by Nasdaq for the three days before and after January 29, 2002, the date of agreement. (b) Warrants to purchase, for nominal consideration, 83,092 common shares of Pegasystems Inc., valued at approximately $4.50 per warrant using a Black-Scholes model. (c) Acquired existing technology results from a preliminary appraisal report of 1mind intangible assets. (d) Any additional consideration paid will be recorded as goodwill. 11 Note 4 - Comprehensive Income The components of comprehensive income are as follows:
Three Months Ended March 31, (in thousands) 2002 2001 ---------- ---------- Net income .................................................................. $ 3,438 $ 1,094 Foreign currency translation adjustments, net of income taxes ............... (13) (92) ---------- ---------- Comprehensive income ........................................................ $ 3,425 $ 1,002 ========== ==========
Note 5 - Commitments and Contingencies Company Litigation - ------------------ In the Matter of the Arbitration Between Pegasystems Inc, et al., and Ernst & Young, LLP, et al. On June 9, 2000, the Company and two of its officers filed a complaint against Ernst & Young, LLP and Alan B. Levine (a former partner of Ernst & Young) in Massachusetts state court. The Complaint alleges that the defendants committed professional malpractice, breached contractual and fiduciary duties owed to the Company, and issued false and misleading public statements, in connection with advice that Ernst & Young rendered to the Company to record $5 million in revenue in its financial statements for the second fiscal quarter ended June 30, 1997 pursuant to a series of contracts between the Company and First Data Resources, Inc. The complaint sought compensatory damages, including contribution for losses and other costs incurred in connection with certain class action securities litigation, which has been settled. On April 5, 2001, the Court dismissed the Complaint, finding that it was subject to the dispute resolution procedures set forth in an engagement letter between the Company and Ernst & Young. The parties have agreed to arbitrate this dispute. An arbitration hearing has tentatively been scheduled for June 2002. SEC Investigation. The Company previously disclosed that in May 1999 the Boston Office of the Securities and Exchange Commission's Division of Enforcement ("SEC") issued a Formal Order of Private Investigation of the Company and certain individuals, currently or formerly associated with the Company, related primarily to past accounting matters, financial reports, other public disclosures and trading activity in the Company's securities during 1997 and 1998. On March 28, 2002, the Company was advised by the staff of the SEC that the staff had terminated its investigation of the Company and such individuals, with no enforcement action being recommended. Qwest Arbitration. On January 17, 2002, the Company filed a demand for arbitration with the American Arbitration Association in Denver, Colorado against Qwest Corporation, successor in interest to US West Business Resources, Inc. ("Qwest"). The Company is seeking monetary damages in the arbitration relating to Qwest's termination of a software license and service agreement between the parties. On February 8, 2002, Qwest filed a counterclaim against the Company seeking monetary damages for alleged breach of that agreement by the Company. 12 Acquisition - ----------- Under the agreement for acquisition of 1mind, depending upon the achievement of specified milestones by the acquired business in 2002 and validation of the negotiated value of 1mind, the Company will pay up to approximately $6 million in additional consideration, substantially in the form of shares of the Company's common stock. Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Our revenue is derived from two primary sources: software license fees and service fees. We offer two types of software licenses: perpetual licenses and term licenses. Perpetual license fees are generally payable at the time the software is delivered, and are generally recognized as revenue upon customer acceptance. Term software license fees are generally payable on a monthly basis under license agreements that generally have a five-year term and may be renewed for additional years at the customer's option. The present value of future license payments is generally recognized as revenue upon customer acceptance and commitment to the contractual payment stream. A portion of the fee from each arrangement is initially deferred and recognized as installment receivable interest income over the license term. In addition, many of our license agreements provide for license fee increases based on inflation. The net present value of such increases is recognized as revenue when the values are determinable. For purposes of the present value calculations, the discount rates used are estimates of customers' borrowing rates, typically below prime rate, and have varied between 3.5% and 8.0% for the past few years. As a result, revenue that we recognize relative to these types of license arrangements can be impacted by changes in market interest rates. For term license agreement renewals, license revenue is recognized upon customer commitment to the new license terms. Our service revenue is comprised of fees for software implementation, consulting, maintenance, and training services. Our software implementation and consulting agreements typically require us to provide a specified level of implementation services for a specified fee, with additional consulting services available at an hourly rate. Revenues for time and material projects are recognized as fees are billed. Revenues for fixed price projects are recognized once the fair value of services and any other elements to be delivered under the arrangement can be determined. Costs associated with fixed price contracts are expensed as incurred. Historically, we have had difficulty accurately estimating the time and resources needed to complete fixed price projects. As a result, determination of the fair value of the elements of the contract has generally occurred later in the implementation process, typically when implementation is complete and remaining services are no longer significant to the project. Prior to the point at which the fair value of the elements of a contract can be determined, revenue recognition for fixed price projects is limited to amounts equal to costs incurred, resulting in no gross profit. Once the fair values of the elements of a contract are apparent, profit associated with the fixed price services elements will begin to be recognized. Software license customers are offered the option to enter into a maintenance contract, which requires the customer to pay a monthly maintenance fee over the term of the maintenance agreement, typically renewable annually. Prepaid maintenance fees are deferred and are recognized evenly over the term of the maintenance agreement. We generally recognize training fees as the services are provided. 13 We reduce revenue for estimates of the fair value of potential concessions during the period in which revenue is initially recorded, which are in turn recognized as revenue when the related elements are completed and provided to the customer. Historically, it has been difficult for us to predict when we would be able to recognize software license revenue because, as indicated above, our ability to recognize software license revenue is generally related to the completion of implementation services and the acceptance of the licensed software by the customer. This, coupled with our focus on closing large but relatively few license transactions in a given quarter may cause our quarterly operating results to fluctuate significantly. Three months ended March 31, 2002 Compared to Three Months Ended March 31, 2001 Revenue Our total revenue for the three months ended March 31, 2002 ("the first quarter of 2002") increased 3% to $24.2 million from $23.6 million for the three months ended March 31, 2001 ("the first quarter of 2001"). The increase was due to a $5.4 million increase in software license revenue partially offset by a $4.8 million decrease in services revenue. Software license revenue for the first quarter of 2002 increased 49% to $16.3 million from $10.9 million for the first quarter of 2001. The increase was due primarily to a $7.7 million increase in revenue from perpetual licenses, which was partially offset by a decrease of $2.0 million in revenue from term software license renewals. Of the increase in revenue from perpetual licenses, $7.0 million was due to the sale to First Data Resources ("FDR") of a perpetual non-exclusive license that replaced the existing exclusive term license which was due to expire in December 2002. Absent this incremental revenue, operating expenses described below when expressed as a percentage of revenue would have been higher. Under the FDR perpetual license, FDR is obligated to pay $1.95 million per month from March 2002 through December 2002 and $1.18 million per month in 2003 (the "perpetual license fees"). FDR also paid a signing bonus of $0.94 million in March 2002. In the first quarter of 2002, our license revenue includes the March payments and $5.85 million, representing the perpetual license fees due for the months of April, May and June 2002. We expect to recognize, with respect to the perpetual license fees, license revenue of $5.85 million in each of the second and third quarters of 2002 and $3.54 million in the fourth quarter of 2002 and each of the first three quarters of 2003; provided, however, that FDR has the right to terminate the license for convenience on 90 days' notice. The agreement also provides for the possibility of additional revenue from FDR in future years related to their re-licensing of our software to FDR customers, and for incremental Pegasystems revenue from the elimination of previous exclusivity restrictions on Pegasystems sales activities. In the future, we expect to enter into more perpetual license transactions, the effect of which may be to increase our license revenue and cash flow in the short term and to decrease the amount of revenue and cash flow from the renewal of term software license agreements. Historically, a significant portion of our license revenue has been from renewals of term software license agreements. In addition, license transactions with new customers have slowed significantly since the latter part of 2001. Services revenue for the first quarter of 2002 decreased 38% to $7.9 million from $12.7 million for the first quarter 2001. The decrease was due primarily to delayed customer spending and a decrease in new customer license transactions, which we believe were caused by the current generally weak economic conditions. Typically, we derive a substantial portion of our service revenue from services provided in connection with the implementation of software licensed by new customers. Deferred revenue at March 31, 2002 consisted primarily of billed fees from arrangements, for which acceptance of the software license or service milestone had not occurred, the unearned portion of service revenue and advance payment of maintenance fees. Deferred revenue balances increased to $8.5 million as of March 31, 2002 from $6.2 million as of December 31, 2001, due to advance payment of maintenance fees and software licenses. 14 International revenues were 20% of total consolidated revenues for the first quarter of 2002 and 27% for the first quarter of 2001. Our international revenues may continue to fluctuate in the future because such revenues generally result from a small number of product acceptances during a given period. Historically, most of our contracts have been denominated in U.S. dollars. However, we expect that more of our contracts in the future may be denominated in foreign currencies, thereby exposing us to increased currency exchange risk. Cost of revenue Cost of software license revenue for the first quarter of 2002 was $0.6 million, the same as for the first quarter of 2001. Costs of software license includes the amortization associated with stock purchase warrant we issued in September 1997 under an agreement with FDR and the amortization of the intellectual property we purchased from 1mind. Costs of software license as a percentage of license revenue decreased to 4% for first quarter of 2002 from 6% for the first quarter of 2001, due to the increase in software license revenue. Cost of services consists primarily of the costs of providing implementation, consulting, maintenance, and training services. Cost of services for the first quarter of 2002 decreased 29% to $7.3 million from $10.2 million for the first quarter of 2001, due to reduced staff costs including compensation, travel and facilities expense. Cost of services as a percentage of service revenue increased to 92% for the first quarter of 2002 from 81% for the first quarter of 2001. The percentage increase was primarily due to reduced services revenue partially offset by reduced staff costs. Our services management will continue to review the resource requirements to ensure they are appropriately aligned with revenue expectations. Operating expenses Research and development expenses for the first quarter of 2002 increased 15% to $5.8 million from $5.0 million for 2001. As a percentage of total revenue, research and development expenses increased to 24% for the first quarter 2002 from 21% for the first quarter of 2001. These increases were the result of growth in staffing costs including compensation and benefits, and increased use of third party consultants. Selling and marketing expenses for the first quarter of 2002 increased 17% to $5.7 million from $4.9 million for the first quarter of 2001. As a percentage of total revenue, selling and marketing expenses increased to 24% for the first quarter of 2002 from 21% for the first quarter of 2001. The increases were due to increased spending on staff related costs and marketing programs. General and administrative expenses for the first quarter of 2002 decreased 19% to $2.4 million from $3.0 million for the first quarter of 2001. As a percentage of total revenue, general and administrative expenses decreased to 10% for the first quarter of 2002 from 13% for the first quarter of 2001. These decreases were due primarily to reduced incentive compensation and depreciation expense. Installment receivable interest income Installment receivable interest income, which consists of the portion of all term license fees under software license agreements that is attributable to the time value of money, decreased 13% in the first quarter of 2002 to $1.3 million from $1.5 million for the first quarter of 2001. The decrease was due to a lower average discount rate for our portfolio of term software licenses. A portion of the fee from each term license arrangement is initially deferred and recognized as installment receivable interest income over the remaining term of the license. For purposes of the present value calculations, the discount rates used are estimates of customers' borrowing rates, typically below prime rate, and have varied between 3.5% and 8.0% during the past few years. Other interest income, net 15 Other interest income, net decreased 33% to $0.1 million for the first quarter of 2002 from $0.2 million for the first quarter of 2001. The decrease was due to lower interest rates, partially offset by larger invested cash balances. Other expense, net Other expense, net, which consists primarily of currency exchange losses and reseller development funds received from third-party vendors of computer hardware products, was essentially unchanged from the first quarter of 2001. Income before provision for income taxes Income before provision for income taxes increased to $3.6 million for the first quarter of 2002 from $1.3 million for the first quarter of 2001. This $2.3 million improvement was due primarily to a $5.4 million improvement in software license gross margin from increased revenues, partially offset by a $1.8 million reduction in service gross margin due to lower service revenues, increased operating expenses of $1.0 million and a reduction in installment receivable interest income. Provision for income taxes The provision for the first quarter of 2002 is for current taxes on foreign subsidiary income. We have made minimal provisions for United States federal and state income taxes due to the availability of reserved loss carry forwards to offset current period income tax provision. Liquidity and Capital Resources We have funded our operations primarily from cash flow from operations and the proceeds of our public stock offerings. At March 31, 2002, we had cash and cash equivalents of $41.3 million and working capital of $66.5 million. Net cash provided by operations for the first quarter of 2002 was $8.5 million compared with $3.1 million for the first quarter of 2001. Of the $5.4 million improvement, $1.3 million was due to improved profitability and $3.0 million was due to improved collections of accounts receivable, primarily from perpetual licenses. Billings during the first quarter include annual license and maintenance amounts for some customers, typically resulting in greater cash collections in the first quarter than in other quarters of the year. The remaining improvement was due to net changes in deferred revenues, accounts payable and accrued expenses. We, like many companies, are beginning to see longer payment cycles from some customers, which has increased the percentage of our trade accounts receivable that are over ninety days past due. Net cash used in investing activities for the first quarter of 2002 was $0.7 million compared with $0.1 million for the first quarter of 2001. The increased use of cash was due to the transaction costs associated with the 1mind acquisition. On February 6, 2002, we acquired substantially all of the assets of 1mind for initial consideration valued at $3.7 million, consisting of 569,949 shares of our common stock and warrants to purchase for nominal consideration 83,092 shares of our common stock. Depending upon the achievement of specified milestones by the acquired business in 2002 and validation of the negotiated value of 1mind, we may pay up to approximately $6 million in additional consideration substantially in the form of shares of our common stock. (See note 3 of notes to condensed consolidated financial statements). 16 Net cash provided by financing activities for the first quarter of 2002 was $0.6 million compared with $27 thousand used in the first quarter of 2001. The increase was primarily due to the proceeds from stock option exercises. We believe that current cash, cash equivalents, and cash flow from ongoing operations will be sufficient to fund our operations until at least the end of 2002. Material risks to additional cash flow from operations include, but are not limited to continued under-utilization of our service personnel and our possible inability to enter into license transactions with new customers to offset the adverse impact on our long term liquidity arising from entering into more perpetual software licenses. There can be no assurance that changes in our plans or other events affecting our operations will not result in materially accelerated or unexpected expenditures. In addition, there can be no assurance that additional capital if needed will be available on reasonable terms, if at all, at such time as we require. We have commitments under non-cancelable leases. Inflation Inflation has not had a significant impact on our operating results to date, and we do not expect it to have a significant impact in the future. Our unbilled term license and maintenance fees are typically subject to annual increases based on recognized inflation indexes. Forward-looking statements This Report contains certain forward-looking statements. For this purpose, any statements contained herein that are not statements of historical fact may be deemed to be forward-looking statements. Without limiting the generality of the foregoing, the words "believes", "anticipates", "plans", "expects", and similar expressions are intended to identify forward-looking statements. There are a number of important factors that could cause our actual results to differ materially from those indicated by forward-looking statements made in this report and presented elsewhere by management from time to time. Some of the important risks and uncertainties that may cause our operating results to differ materially or adversely are discussed below. Our stock price has been volatile. Quarterly results have fluctuated and are likely to continue to fluctuate significantly. The market price of our common stock has been and may continue to be highly volatile. Factors that are difficult to predict, such as quarterly revenues and operating results, statements and ratings by financial analysts, and overall market performance, will have a significant effect on the price for shares of our common stock. Revenues and operating results have varied considerably in the past from period to period and are likely to vary considerably in the future. We plan product development and other expenses based on anticipated future revenue. If revenue falls below expectations, financial performance is likely to be adversely affected because only small portions of expenses vary with revenue. As a result, period-to-period comparisons of operating results are not necessarily meaningful and should not be relied upon to predict future performance. The timing of license revenues is related to the completion of implementation services and product acceptance by the customer, the timing of which has been difficult to predict accurately. There can be no assurance that we will be profitable on an annual or quarterly basis or that earnings or revenues will meet analysts' expectations. Fluctuations may be particularly pronounced because a significant portion of revenues in any quarter is attributable to product acceptance or license renewal by a relatively small number of customers. Fluctuations also reflect a policy of recognizing revenue upon product acceptance or license renewal in an amount equal to the present value of the total committed payments due during the term. Customers generally do not accept products until the end of a lengthy sales cycle and an implementation period, typically ranging from one to six months but in some cases significantly longer. In addition, we are more focused on closing larger but fewer license transactions than in the past. This may increase the volatility 17 in our quarterly operating results. Risks over which we have little or no control, including customers' budgets, staffing allocation, and internal authorization reviews, can significantly affect the sales and acceptance cycles. Changes dictated by customers may delay product implementation and revenue recognition. We will need to develop new products, evolve existing ones, and adapt to technology change. Technical developments, customer requirements, programming languages and industry standards change frequently in our markets. As a result, success in current markets and new markets will depend upon our ability to enhance current products, to develop and introduce new products that meet customer needs, keep pace with technology changes, respond to competitive products, and achieve market acceptance. Product development requires substantial investments for research, refinement and testing. There can be no assurance that we will have sufficient resources to make necessary product development investments. We may experience difficulties that will delay or prevent the successful development, introduction or implementation of new or enhanced products. Inability to introduce or implement new or enhanced products in a timely manner would adversely affect future financial performance. Our products are complex and may contain errors. Errors in products will require us to ship corrected products to customers. Errors in products could cause the loss of or delay in market acceptance or sales and revenue, the diversion of development resources, injury to our reputation, or increased service and warranty costs which would have an adverse effect on financial performance. We have historically sold to the financial services market. This market is consolidating rapidly, and faces uncertainty due to many other factors. We have historically derived a significant portion of our revenue from customers in the financial services market, and our future growth depends, in part, upon increased sales to this market. Competitive pressures, industry consolidation, decreasing operating margins within this industry, currency fluctuations, geographic expansion and deregulation affect the financial condition of our customers and their willingness to pay. In addition, customers' purchasing patterns are somewhat discretionary. As a result, some or all of the factors listed above may adversely affect the demand by customers. The financial services market is undergoing intense domestic and international consolidation. In recent years, several customers have been merged or consolidated. Future mergers or consolidations may cause a decline in revenues and adversely affect our future financial performance. If existing customers do not renew their term licenses, our financial results may suffer. A significant portion of total revenue has been attributable to term license renewals. While historically a majority of customers have renewed their term licenses, there can be no assurance that a majority of customers will continue to renew expiring term licenses. A decrease in term license renewals absent offsetting revenue from other sources would have a material adverse effect on future financial performance. In addition, transition to prepaid perpetual licenses may have a material adverse impact on the amount of term license renewal revenues in future periods. We depend on certain key personnel, and must be able to attract and retain qualified personnel in the future. The business is dependent on a number of key, highly skilled technical, managerial, consulting, sales, and marketing personnel, including Mr. Trefler, our Chief Executive Officer. The loss of key personnel could adversely affect financial performance. We do not have any significant key-man life insurance on any officers or employees and do not plan to obtain any. Our success will depend in large part on the ability to hire and retain qualified personnel. The number of potential employees who have the extensive knowledge of computer hardware and operating systems needed to develop, sell and maintain our products is limited, and competition for their services is intense, and there can be no assurance that we will be able to attract and retain such personnel. If we are unable to do so, our business, operating results, and financial condition could be materially adversely affected. The market for our offerings is increasingly and intensely competitive, rapidly changing, and highly fragmented. The market for customer relationship management software and related implementation, consulting and training services is intensely competitive and highly fragmented. We currently encounter 18 significant competition from internal information systems departments of potential or existing customers that develop custom software. We also compete with companies that target the customer interaction and workflow markets and professional service organizations that develop custom software in conjunction with rendering consulting services. Competition for market share and pressure to reduce prices and make sales concessions are likely to increase. Many competitors have far greater resources and may be able to respond more quickly and efficiently to new or emerging technologies, programming languages or standards or to changes in customer requirements or preferences. Competitors may also be able to devote greater managerial and financial resources to develop, promote and distribute products and provide related consulting and training services. There can be no assurance that we will be able to compete successfully against current or future competitors or that the competitive pressures faced by us will not materially adversely affect our business, operating results, and financial condition. We must manage increased business complexity and growth effectively. Our business has grown in size, geographic scope and complexity and we have expanded our product offerings and customer base. This growth and expansion has placed, and is expected to continue to place, a significant strain on management, operations and capital needs. Continued growth will require us to hire, train and retrain many employees in the United States and abroad, particularly additional sales and financial personnel. We will also need to enhance our financial and managerial controls and reporting systems. We cannot assure that we will attract and retain the personnel necessary to meet our business challenges. Failure to manage growth effectively may materially adversely affect future financial performance. We rely on certain third-party relationships. We have a number of relationships with third parties that are significant to sales, marketing and support activities and product development efforts. We rely on relational database management system applications and development tool vendors, software and hardware vendors, and consultants to provide marketing and sales opportunities for the direct sales force and to strengthen our products through the use of industry-standard tools and utilities. We also have relationships with third parties that distribute our products. In particular, we rely on our relationship with First Data Resources for the distribution of products to the credit card market and with PFPC Inc. for distribution of products to the mutual fund market. There can be no assurance that these companies, most of which have significantly greater financial and marketing resources, will not develop or market products that compete with ours in the future or will not otherwise end their relationships with or support of us. We may face product liability and warranty claims. Our license agreements typically contain provisions intended to limit the nature and extent of our risk of product liability and warranty claims. There is a risk that a court might interpret these terms in a limited way or could hold part or all of these terms to be unenforceable. Also, there is a risk that these contract terms might not bind a party other than the direct customer. Furthermore, some of our licenses with our customers are governed by non-U.S. law, and there is a risk that foreign law might give us less or different protection. Although we have not experienced any material product liability claims to date, a product liability suit or action claiming a breach of warranty, whether or not meritorious, could result in substantial costs and a diversion of management's attention and our resources. We face risks from operations and customers based outside of the U.S. Sales to customers headquartered outside of the United States represented approximately 23%, 26% and 21% of our total revenue in 2001, 2000 and 1999, respectively. We, in part through our wholly-owned subsidiaries based in the United Kingdom, Singapore, and Australia, market products and render consulting and training services to customers based in Canada, the United Kingdom, France, Germany, the Netherlands, Belgium, Switzerland, Austria, Ireland, Sweden, South Africa, Mexico, Australia, Hong Kong, and Singapore. We have established offices in continental Europe and in Australia. We believe that our continued growth will necessitate expanded international operations requiring a diversion of managerial attention and financial resources. We anticipate hiring additional personnel to accommodate international growth, and we may also enter into agreements with local distributors, representatives, or resellers. If we are unable to do one or more of these things in a timely 19 manner, our growth, if any, in our foreign operations will be restricted, and our business, operating results, and financial condition could be materially and adversely affected. In addition, there can be no assurance that we will be able to maintain or increase international market demand for our products. Most of our international sales are denominated in U.S. dollars. Accordingly, any appreciation of the value of the U.S. dollar relative to the currencies of those countries in which we distribute our products may place us at a competitive disadvantage by effectively making our products more expensive as compared to those of our competitors. Additional risks inherent in our international business activities generally include unexpected changes in regulatory requirements, increased tariffs and other trade barriers, the costs of localizing products for local markets and complying with local business customs, longer accounts receivable patterns and difficulties in collecting foreign accounts receivable, difficulties in enforcing contractual and intellectual property rights, heightened risks of political and economic instability, the possibility of nationalization or expropriation of industries or properties, difficulties in managing international operations, potentially adverse tax consequences (including restrictions on repatriating earnings and the threat of "double taxation"), enhanced accounting and internal control expenses, and the burden of complying with a wide variety of foreign laws. There can be no assurance that one or more of these factors will not have a material adverse effect on our foreign operations, and, consequentially, our business, operating results, and financial condition. We face risks related to intellectual property claims or appropriation of our intellectual property rights. We rely primarily on a combination of copyright, trademark and trade secrets laws, as well as confidentiality agreements to protect our proprietary rights. In October 1998, we were granted a patent by the United States Patent and Trademark Office relating to the architecture of our systems. We cannot assure that such patent will not be invalidated or circumvented or that rights granted there under or the description contained therein will provide competitive advantages to our competitors or others. Moreover, despite our efforts to protect our proprietary rights, unauthorized parties may attempt to copy aspects of our products or to obtain the use of information that we regard as proprietary. In addition, the laws of some foreign countries do not protect our proprietary rights to as great an extent as do the laws of the United States. There can be no assurance that our means of protecting our proprietary rights will be adequate or that our competitors will not independently develop similar technology. We are not aware that any of our products infringe the proprietary rights of third parties. There can be no assurance, however, that third parties will not claim infringement by us with respect to current or future products. We expect that software product developers will increasingly be subject to infringement claims as the number of products and competitors in our industry segment grows and the functionality of products in different industry segments overlaps. Any such claims, with or without merit, could be time-consuming, result in costly litigation, cause product shipment delays, or require us to enter into royalty or licensing agreements. Such royalty or licensing agreements, if required, may not be available on terms acceptable to us or at all, which could have a material adverse effect upon our business, operating results, and financial condition. We face risks related to the acquisition of 1mind. On February 6, 2002, we acquired substantially all of the assets and specified liabilities of 1mind Corporation and its wholly owned subsidiary (collectively, "1mind"). Following the acquisition of 1mind, we intend to intensify our focus on marketing and selling our products and services within the healthcare market. We face risks in connection with integrating 1mind's technology and personnel into the combined company. Additionally, we face risks involved with integrating and retaining key former 1mind personnel. Overcoming these risks may result in undue cost or delay and may require us to divert management time and attention from our primary business operations. The result could be an adverse effect on our financial results. 20 PEGASYSTEMS INC. Item 3. Quantitative and Qualitative Disclosures about Market Risk Market risk represents the risk of loss that may affect us due to adverse changes in financial market prices and rates. Our market risk exposure is primarily fluctuations in foreign exchange rates and interest rates. We have not entered into derivative or hedging transactions to manage risk in connection with such fluctuations. We derived approximately 20% of our total revenue in the first quarter of 2002 from sales to customers based outside of the United States. Certain of our international sales are denominated in foreign currencies. The price in dollars of products sold outside the United States in foreign currencies will vary as the value of the dollar fluctuates against such foreign currencies. Although our sales denominated in foreign currencies in the first quarter of 2002 were not material, there can be no assurance that such sales will not be material in the future and that there will not be increases in the value of the dollar against such currencies that will reduce the dollar return to us on the sale of our products in such foreign currencies. We believe that at current market interest rates, the fair value of license installments receivable approximates carrying value as reported on our balance sheets. However, there can be no assurance that the fair value will approximate the carrying value in the future. Factors such as increasing interest rates can reduce the fair value of the license installments receivable. The carrying value reflects a weighted average of historic discount rates, and moves with market rates as new license installment receivables are added to the portfolio, which mitigates exposure to market interest rate risk. Part II - Other Information: Item 1. Legal Proceedings In the Matter of the Arbitration Between Pegasystems Inc, et al., and Ernst & Young, LLP, et al. On June 9, 2000, the Company and two of its officers filed a complaint against Ernst & Young, LLP and Alan B. Levine (a former partner of Ernst & Young) in Massachusetts state court. The Complaint alleges that the defendants committed professional malpractice, breached contractual and fiduciary duties owed to the Company, and issued false and misleading public statements, in connection with advice that Ernst & Young rendered to the Company to record $5 million in revenue in its financial statements for the second fiscal quarter ended June 30, 1997 pursuant to a series of contracts between the Company and First Data Resources, Inc. The complaint sought compensatory damages, including contribution for losses and other costs incurred in connection with certain class action securities litigation, which have been settled. On April 5, 2001, the Court dismissed the Complaint, finding that it was subject to the dispute resolution procedures set forth in an engagement letter between the Company and Ernst & Young. The parties have agreed to arbitrate this dispute. An arbitration hearing has tentatively been scheduled for June 2002. SEC Investigation. The Company previously disclosed that in May 1999 the Boston Office of the Securities and Exchange Commission's Division of Enforcement ("SEC") issued a Formal Order of Private Investigation of the Company and certain individuals, currently or formerly associated with the Company, related primarily to past accounting matters, financial reports, other public disclosures and trading activity in the Company's securities during 1997 and 1998. On March 28, 2002 the Company was advised by the staff of the SEC that the staff had terminated its investigation of the Company and such individuals, with no enforcement action being recommended. Qwest Arbitration. On January 17, 2002, the Company filed a demand for arbitration with the American Arbitration Association in Denver, Colorado against Qwest Corporation, successor in interest to US West Business Resources, Inc. ("Qwest"). The Company is seeking monetary damages in the arbitration relating to 21 Qwest's termination of a software license and service agreement between the parties. On February 8, 2002, Qwest filed a counterclaim against the Company seeking monetary damages for alleged breach of that agreement by the Company. Item 2. Changes in Securities and Use of Proceeds None. Item 3. Defaults upon Senior Securities Not applicable. Item 4. Submission of Matters to a Vote of Security Holders None. Item 5. Other Information None. Item 6. Exhibits and Reports on Form 8-K (a) Exhibits: See Exhibit Index attached hereto (b) Reports on Form 8-K: (1) On February 6, 2002, we filed a report on Form 8-K with the Securities and Exchange Commission reporting the acquisition of 1mind Corporation. (2) On April 9, 2002, we filed a report on Form 8-K with the Securities and Exchange Commission reporting the termination by the Commission of its investigation of the Company and certain individuals. 22 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. Pegasystems Inc. Date: April 23, 2002 /s/ Alan Trefler ----------------------------------- Chairman and Chief Executive Officer /s/ Christopher Sullivan --------------------------------------- Treasurer and Chief Financial Officer (principal financial officer and chief accounting officer) 23 Exhibit Index 10.1 Refreshed Software License and Support Agreement dated March 1, 2002 by and between the Registrant and First Data Resources Inc. (confidential treatment requested as to certain portions). 24 EX-10.1 3 dex101.txt LICENSE AND SUPPORT AGMT DATED MARCH 1, 2002 Exhibit 10.1 REFRESHED SOFTWARE LICENSE AND SUPPORT AGREEMENT dated as of March 1, 2002 by and between PEGASYSTEMS INC. and FIRST DATA RESOURCES INC. REFRESHED SOFTWARE LICENSE AND SUPPORT AGREEMENT This Refreshed Software License and Support Agreement (this "Agreement") is entered into as of March 1, 2002, by and between PEGASYSTEMS INC., a Massachusetts corporation with its principal place of business at 101 Main Street, Cambridge, Massachusetts 02142-1590 ("Pegasystems"), and FIRST DATA RESOURCES INC., a Delaware corporation with its principal place of business at 7302 Pacific Street, Omaha, Nebraska 68114 ("FDR"). WHEREAS, Pegasystems is in the business of inter alia developing, marketing, licensing, and installing customer service management software to automate customer interactions, including the Software (as hereafter defined); and WHEREAS, FDR and its Affiliates are in the business of providing information processing products and services to a broad range of financial institutions and other commercial enterprises; WHEREAS, Pegasystems and FDR are parties to a Software License and Support Agreement, dated as of June 27, 1997 (the "1997 Agreement"), under the terms of which FDR and its Affiliates obtained from Pegasystems: (i) the right to use the Software to create Derivative Works (as hereinafter defined); (ii) the right to use the Software and the Derivative Works in connection with the development, provision, and delivery of Products (as hereinafter defined); (iii) the right to market, distribute, and sublicense the Software and Derivative Works to clients of FDR and its Affiliates, and; (iv) certain maintenance, upgrade, enhancement and support services for the Software; WHEREAS, Pegasystems and FDR wish to terminate the 1997 Agreement, the OPCF Agreement (defined below), the letter agreement between the parties dated February 1, 2000, and the letter agreement between the parties dated September 25, 1998, and to entirely refresh their agreements and understandings with respect to the subject matters covered by those agreements; NOW THEREFORE, in consideration of the premises, covenants, representations, and warranties contained herein, and for other good and valuable consideration, the receipt and sufficiency of which are hereby acknowledged, Pegasystems and FDR agree as follows: DEFINITIONS Unless the context shall otherwise require, the capitalized terms used herein shall have the respective meanings specified below: "AAA" means the American Arbitration Association. --- "AAA Rules" means AAA's then-current Commercial Arbitration Rules. --------- 1 "Acquirer" means a Person which has an arrangement with a Merchant to -------- obtain Tickets from such Merchant and present the Tickets to an Issuer for payment. "Active Account" means, for any month, a cardholder account (or its -------------- equivalent) of an Active Account Client maintained on the Omaha Platform that has debit or credit activity or a balance during such month and for which a statement (or its equivalent) is issued or made available to the related cardholders. "Active Account Client(s)" has the meaning specified in Section 5.1(d). ------------------------ -------------- "Active Account Credit" has the meaning specified in Section 5.1(d). --------------------- -------------- "Active Account Fee" has the meaning specified in Section 5.1(d). ------------------ -------------- "Affiliate" means, with respect to any Person, any other Person which, --------- directly or indirectly, owns or controls, is owned or controlled by, or is under common control with, such Person, provided, however, that Alan Trefler shall not be considered an Affiliate. As used herein, "control" means the power to direct the management or affairs of a Person and "ownership" means the beneficial ownership of more than 50% of the equity securities of the Person. "Arbitrators" has the meaning specified in Section 12.3(b)(ii). ----------- ------------------- "Basic Qualifications" has the meaning specified in Section 12.3(b)(ii). -------------------- ------------------- "Cards" has the meaning specified in Exhibit B. ----- --------- "Confidential Information" has the meaning specified in Section 10.1. ------------------------ ------------ "Derivative Works" means derivative works (as defined in ss. 101 of the ---------------- Copyright Act) of the Software that were created in whole or in part by or on behalf of FDR or its Affiliates and owned by FDR pursuant to the terms of the 1997 Agreement, and for purposes of this Agreement consist of all or any portion of the Evolve Applications or the OPCF Application, including any further modifications, enhancements, updates or upgrades of any of the foregoing created pursuant to this Agreement. "Dispute" has the meaning specified in Section 12.3(a). ------- --------------- "Documentation" has the meaning specified in Section 4.5. ------------- ----------- "Effective Date" shall mean March 1, 2002. -------------- "Encumbrance" shall mean any lien, claim, charge, security interest, ----------- mortgage, pledge, easement, conditional sale or other title retention agreement, defect in title, covenant or other restrictions of any kind which could materially impair the ability of FDR or any of its Affiliates to use or exploit the item that is so encumbered. 2 "End User" means any Third Party who is authorized by FDR or an Affiliate -------- of FDR to use the Software or a Derivative Work pursuant to an End User Agreement, whether such use is on a system maintained by the Third Party, or on a system maintained by FDR or an Affiliate and accessed remotely by the Third Party through the Internet or other public or private network. "End User Agreement" means an agreement between FDR or an Affiliate of FDR ------------------ and an End User pursuant to which such End User is granted limited rights to use the Software or a Derivative Work, and including, where applicable to use of the Software, the terms and conditions set forth in Exhibit E. --------- "Escrow Agreement" has the meaning specified in Section 11.1. ---------------- ------------ "Evolve Applications" means collectively the E-Customer Service ------------------- Application, Evolve Collections Application, Evolve Customer Service Application and Evolve Credit Application. "Evolve Collections Application" means a Derivative Work that delivers ------------------------------ account collections functionality and is currently marketed by FDR under the brand name "Evolve Collections". "Evolve Credit Application" means a Derivative Work that delivers account ------------------------- credit functionality and is currently marketed by FDR under the brand name "Evolve Credit". "Evolve Customer Service Application" means a Derivative Work that delivers ----------------------------------- customer service functionality and is currently marketed by FDR under the brand name "Evolve Customer Service". "E-Customer Service Application" means a Derivative Work that delivers ------------------------------ customer service functionality in an e-commerce environment and is currently marketed by FDR under the brand name "e-Customer Service" or "Evolve E-Customer Service". "Exhibit I Clients" has the meaning set forth in Exhibit I. ----------------- --------- "Expenses" means any and all expenses incurred in connection with -------- investigating, defending or asserting any claim, action, suit or proceeding incident to any matter indemnified against under the Agreement (including, without limitation, court filing fees, court costs, arbitration fees or costs, witness fees and reasonable fees and expenses of legal counsel, investigators, expert witnesses, consultants, accountants and other professionals). "FDR Client" means a customer of FDR which is then currently using the ---------- Evolve Collections Application, the Evolve Customer Service Application or the Evolve Credit Application. "Intellectual Property Right" means the intangible legal right or interests --------------------------- evidenced by or embodied in: (i) any idea, design, concept, technique, invention, discovery, or improvement, regardless of patentability, but including patents, letters patent, patent applications, trade secrets, 3 and know-how; (ii) any work of authorship, regardless of copyrightability, but including copyrights and any moral rights recognized by law; (iii) any trademark, trade name, or service mark; and (iv) any other similar rights. "Issuer" means an issuer of Cards. ------ "Losses" means any and all losses, costs, obligations, liabilities, ------ settlement payments, awards, judgments, fines, penalties, damages, expenses, deficiencies or other charges. "MasterCard" means MasterCard International, Inc., and its successors and ---------- assigns. "Merchant" means a Person which has the right to acquire or otherwise -------- acquire a Ticket as payment for goods, services or otherwise. "1997 Agreement" has the meaning given in the recitals to this Agreement. -------------- "New Releases" means any enhancements, upgrades, or new releases of the ------------ Software. "Omaha Platform" means the transaction processing systems presently located -------------- in Omaha, Nebraska, Tulsa, Oklahoma, and Sidney, Australia, and related call centers, wherever located, or the successors to any such systems wherever located; provided this definition does not include the transaction processing systems of PaySys International Inc. or First Data Europe. "OPCF Agreement" means the letter agreement between the parties dated June -------------- 30, 2001, concerning the development and use of the OPCF Application. "OPCF Application" means a Derivative Work developed by the parties and ---------------- licensed to FDR under the OPCF Agreement, which work provides product control file functionality that is maintained by FDR on servers operated by FDR and accessed remotely by a Third Party through the Internet or other public or private network. "Payee" has the meaning specified in Section 5.3. ----- ----------- "Payer" has the meaning specified in Section 5.3. ----- ----------- "Payments" has the meaning specified in Section 5.3. -------- ----------- "Pegasystems Application" means a Card application proprietary to ----------------------- Pegasystems or in which Pegasystems has a financial or ownership interest, which has substantially similar functionality to the Evolve Collections Application, the Evolve Customer Service Application or the Evolve Credit Application. "Pegasystems Client" shall mean a customer of Pegasystems which is then ------------------ currently using a Pegasystems Application. 4 "Person" means any general partnership, limited partnership, corporation, ------ limited liability company, bank or other financial institution, joint venture, trust, business trust, governmental agency, cooperative, association, individual or other entity, and the heirs, executors, administrators, legal representatives, successors and assigns of such Person as the context may require. "Product" has the meaning specified in Exhibit B. ------- --------- "Relationship Manager" has the meaning specified in Article 3. -------------------- --------- "Senior Level Policy Team" has the meaning specified in Section 12.3(a). ------------------------ --------------- "Service Bureau Processing" means the processing by FDR or any of its ------------------------- Affiliates of data of FDR, any of its Affiliates, or any customers of FDR or any of its Affiliates. "Software" means the Pegasystems' application development architecture, -------- including the core software components, tools, templates, rules, definitions, documentation and other materials which are identified in Exhibit A. --------- "Software License Fees" has the meaning set forth in Section 5.1(a). --------------------- -------------- "Software Maintenance Fees" has the meaning set forth in Section 5.1(b). ------------------------- -------------- "Support and Maintenance Period" has the meaning set forth in Section 4.2(d). "Templates" has the meaning specified in Exhibit A. --------- --------- "Term" shall have the meaning set forth in Section 9.1. ---- ----------- "Third Party" means any Person other than FDR, Pegasystems, or their ----------- respective Affiliates. "Ticket" means a record (whether paper, magnetic, electronic or otherwise) ------ which is created to evidence the use of a Card as payment for goods, services, cash advances or otherwise for a credit or refund or otherwise performs in a similar payment authorization function. "Visa" means, individually or collectively, as appropriate, VISA U.S.A., ---- Inc., and/or VISA International, Inc., and either of their successors or assigns. Each definition in this Agreement includes the singular and the plural, and reference to the neuter gender includes the masculine and feminine where appropriate. The headings to the Articles and Sections hereof are for convenience of reference and shall not affect the meaning or interpretation of this Agreement. Except as otherwise stated, reference to Articles, Sections, and Exhibits mean the Articles, Sections, and Exhibits of this Agreement. Any Exhibits are hereby incorporated by reference into and shall be deemed a part of this Agreement. Unless the context clearly indicates otherwise, the word "including" means "including but not limited to." 5 ARTICLE 1 TERMINATION OF EXISTING AGREEMENTS The 1997 Agreement, the OPCF Agreement, the letter agreement between the parties dated February 1, 2000, and the letter agreement between the parties dated September 25, 1998, are terminated as of March 1, 2002, and replaced in their entirety with the terms and conditions of this Agreement. ARTICLE 2 LICENSE GRANT 2.1. License to Use Software. (a) Pegasystems hereby grants to FDR and its ----------------------- Affiliates a nontransferable (except as provided herein), nonexclusive, worldwide license to: (i) use the Software in connection with the development, provision and delivery of Derivative Works for Products that may be used on or in connection with the Omaha Platform or by End Users who process on the Omaha Platform; (ii) use, modify, enhance, update and upgrade the Derivative Works or any portion thereof in connection with the development, provision and delivery of Derivative Works for Products on the Omaha Platform; and (iii) market, distribute and sublicense the Software and/or all or any portion of the Derivative Works (but not the Software alone) to such End Users in connection with the development, provision and delivery of Derivative Works for Products on the Omaha Platform; provided, however, that FDR may not use the Software under subparts (i) through (iii) hereof to provide or deliver Derivative Works for Products in connection with any Card portfolio in which the majority of cardholder accounts do not have account addresses in North America, South America or Australia, if such Card portfolio is not receiving transaction processing services on or from the Omaha Platform as of the Effective Date. Notwithstanding anything in this Agreement to the contrary, FDR's rights in the Derivative Works shall not be construed to provide ownership rights in the Software or its design. Upon payment in full of the Software License Fees set forth in Section 5.1(a), the licenses granted under this Section 2.1(a) shall -------------- -------------- become perpetual and irrevocable. (b) Without limiting Section 2.1(a), the license rights granted -------------- hereunder include: (i) the right to use the Software and Derivative Works for the provision of Service Bureau Processing for customers of FDR and its Affiliates solely in connection with Products; (ii) the right to make such copies of the Software and Derivative Works and install the Software and Derivative Works at such locations as FDR and its Affiliates reasonably deem necessary to effectuate this Section 2.1, provided that Pegasystems' proprietary ----------- notices are reproduced on any copies of the Software; and (iii) the right to use the Software and Derivative Works for data storage back-up, archival, and disaster recovery purposes. (c) (i) Except pursuant to the Escrow Agreement, neither FDR nor any of its Affiliates (nor any Person under its Control or employ) shall, directly or indirectly, reverse engineer, disassemble, decompile, or take or permit to be taken any similar action, or in any way use the Software's source code, object code or Documentation to create any Intellectual Property Right that provides functionality similar to that of the Software. If FDR obtains access to the source code or other Deposit Materials (as defined in the Escrow Agreement) under the terms of 6 the Escrow Agreement, FDR's right therein shall be coextensive with the rights granted under this Section 2.1. ----------- (ii) FDR will immediately advise Pegasystems in writing once FDR or any of its Affiliates has reason to believe that any provision of this Section 2.1(c) has been violated. - -------------- (iii) Notwithstanding any other provision of this Agreement, any breach or violation of Section 2.1(c)(i) by FDR or any of its Affiliates shall ----------------- constitute a material breach permitting Pegasystems to terminate this Agreement in accordance with the provisions of Section 9.3(a). -------------- (d) Nothing herein shall be deemed to prevent or preclude FDR from developing, licensing, using, marketing or selling software (other than the Software or any Derivative Work) that, from an architectural point of view (i.e., an integrated application development architecture containing a rules engine and work-flow automation) performs the same function or a substantially similar function as the Software. (e) FDR agrees that neither FDR nor its Affiliates shall distribute or sublicense the Software to any Third Party unless such Third Party has signed an End User Agreement. 2.2. Sublicense of Evolve Applications. In the event Pegasystems desires to --------------------------------- license the Evolve Applications for sublicensing to customers, Pegasystems and FDR will enter into a separate license agreement with appropriate terms and conditions, including provision for a license fee to FDR of five million dollars ($5,000,000), payable immediately upon signing of such license agreement, and an ongoing royalty to FDR of fifteen percent (15%). 2.3. Reservation of Rights. Each party reserves for its sole benefit all --------------------- rights not specifically granted to the other party under this Agreement. Specifically: (a) Pegasystems reserves all ownership rights in the Software, interfaces and standard exits which Pegasystems has developed to enhance the capabilities and interoperability of the Software and the Products, and the parties agree that such Software, interfaces and exits (identified in Exhibit A) --------- shall not be deemed a "joint work" under the Copyright Act. Except as expressly provided in this Agreement, Pegasystems does not transfer or license any Intellectual Property Right to FDR or its Affiliates. (b) FDR reserves all ownership rights in the Derivative Works and Products and the interfaces and standard exits FDR developed to enhance the interoperability of the Software and the Derivative Works and Products, and the parties agree that neither the Products, the Derivative Works, or such interfaces and exits shall be deemed a "joint work" under the Copyright Act. FDR does not transfer or license any Intellectual Property Right to Pegasystems with respect to the Evolve Applications, OPCF or any Derivative Works or Products. 7 2.4. Resources. Pegasystems shall provide resources for development work on --------- a time and materials basis as set forth in Exhibit G, less a discount of 15%. --------- 2.5. Use of Trademarks. FDR may, at its sole option, use Pegasystems' name ----------------- or trademarks in advertisements or promotional materials for the Software, Derivative Works, or Products, provided that FDR shall not incorporate any Pegasystems trademark into the name of any Derivative Work or Product without Pegasystems' consent. FDR shall in each such case comply with Pegasystems' reasonable policies regarding the use of Pegasystems' trademarks. ARTICLE 3 RELATIONSHIP MANAGEMENT Both parties shall designate one of its employees to be its relationship manager (the "Relationship Manager"). Each Relationship Manager's responsibilities shall include, without limitation: (i) having direct responsibility for the overall performance of its party under this Agreement; (ii) interacting with the other party's Relationship Manager; and (iii) supervising the performance of such party's obligations under this Agreement. The Relationship Managers of the parties shall meet telephonically or in person, as needed, but no less often than quarterly to review and resolve issues relating to this Agreement. ARTICLE 4 SUPPORT AND MAINTENANCE 4.1. Support and Maintenance. During the Support and Maintenance Period, ----------------------- Pegasystems shall: (i) maintain and support the Software for the purposes for which it is designed; and (ii) support the Software in any hardware or software operating environment supported by Pegasystems. FDR shall be offered any New Release of the Software when it is released generally to other Pegasystems customers. 4.2. Support and Maintenance for FDR and its Affiliates. (a) Pegasystems -------------------------------------------------- shall provide to FDR and its Affiliates during the Support and Maintenance Period, the support and maintenance services set forth in Exhibit D. --------- (b) FDR will be responsible for providing primary customer support to End Users for Derivative Works. During the Support and Maintenance Period, Pegasystems' customer support obligation with respect to Derivative Works for End Users shall be to consult with FDR regarding specific support issues which FDR has made best efforts to resolve, but has been unable to resolve, and at the request of FDR, Pegasystems shall interact with the End User. (c) During the Support and Maintenance Period, Pegasystems will be responsible for providing primary customer support to End Users for the Software according to the terms set forth in Exhibit D. --------- (d) For the purposes of this Agreement, the "Support and Maintenance Period" shall be the years 2002 through 2003, and thereafter during any year in which FDR elects to 8 receive Support and Maintenance services and pays the Software Maintenance Fees set forth in Section 5.1(b). -------------- 4.3. Training. Pegasystems shall provide training to FDR according to the -------- terms set forth in Exhibit D. --------- 4.4. Resources. The parties shall provide personnel and other resources for --------- support and maintenance according to the terms set forth in Exhibit D. --------- 4.5. Documentation. Pegasystems has previously furnished and shall continue ------------- to furnish in electronic form to FDR documentation relating to the Software, training and maintenance ("Documentation") during the Support and Maintenance Period. The Documentation shall be consistent with industry practice for software similar to the Software for uses similar to the uses authorized hereunder. FDR may reproduce such documentation in hardcopy form, for its use and for its End Users, provided that FDR reproduces Pegasystems' proprietary notices. ARTICLE 5 PAYMENT 5.1. Fees. (a) FDR shall pay to Pegasystems the Software License Fees shown ---- in Exhibit H. FDR shall pay the Software License Fees in the monthly amounts --------- shown in Exhibit H on the twenty-first day of each month (e.g., the payment for --------- April 2002 will occur on April 21, 2002). Upon the final payment of the fees under this Section, as reflected in Exhibit H, FDR's license in the Software and --------- Derivative Works under this Agreement shall become perpetual and irrevocable as set forth in Section 2.1. ----------- (b) In addition to the Software License Fees, FDR shall pay to Pegasystems annual Software Maintenance Fees in the amount of $900,000, payable on January 21 of 2003, and of any year after 2003 in which FDR elects to receive Support and Maintenance Services. If the Support and Maintenance Period is allowed to lapse, then FDR may not reinstate a Support and Maintenance Period without paying for all missed Support and Maintenance Periods. (c) If this Agreement is fully executed by Pegasystems on or before March 31, 2002, FDR shall pay a signing bonus of $940,000.00 immediately upon execution. (d) In addition to the Software License Fees and Software Maintenance Fees, an annualized fee, payable monthly, will be calculated based upon the number of Active Accounts of any (i) Exhibit I Clients or (ii) Pegasystems Client (A) which begins using the Evolve Collections Application, the Evolve Customer Service Application or the Evolve Credit Application, and (B) such use of the Evolve Application causes Pegasystems to incur diminished revenue from the respective Pegasystems Application (collectively, "Active Account Clients"), that have subscribed to and are using the Evolve Collections Application, the Evolve Customer Service Application or the Evolve Credit Application (the "Active Account Fee"). The Active Account Fee shall be [* - confidential information filed separately by the SEC] per Active Account, per Evolve Application subscribed to by an Active Account Client; provided, however, no Active Account of an Active Account Client shall be counted more than twice regardless of the number of Evolve Applications subscribed to by the Active Account Client for such Active Account. (For example, the monthly amount of Active Account Fees for 10 million Active Accounts of one Active Account Client using the Evolve Customer Service Application and Evolve Collections Application would be as follows: 10 million Active Accounts times [* - Confidential information filed separately with the SEC] times 2 = [* - Confidential information filed separately with the SEC], divided by 12 = [* - Confidential information filed separately with the SEC]. The same amount would result if such Active Account Client used the Evolve Credit Application in addition to the Evolve Collections Application and Evolve Customer Service Application). From the Effective Date, the Active 9 Account Fee with respect to Exhibit I Clients will be calculated monthly and --------- aggregated toward a credit to FDR in the amount of $2,500,000 (the "Active Account Credit"). The month after the amount of aggregated Active Account Fees for Exhibit I Clients is equal to or greater than the Active Account Credit, FDR --------- shall begin paying the Active Account Fee to Pegasystems as incurred and calculated each month going forward; provided, however, FDR will pay Active Account Fees for Pegasystems Clients included within the Active Account Clients, regardless of whether the Active Account Credit has been fully satisfied. For the avoidance of doubt, except as expressly provided herein with respect to a Pegasystems Client, no Active Account Fees will be due and payable, and FDR shall not be liable to Pegasystems for Active Account Fees, unless and until the amount of aggregated Active Account Fees calculated hereunder with respect to Exhibit I Clients from and after the Effective Date is equal to or greater than - --------- $2,500,000. As applicable, the Active Account Fee will be payable on a monthly basis on the twenty-first day of the month based on the number of Active Accounts for the month preceding, determined as of the last day of such month. The calculation of the Active Account Fees shall be adjusted as follows: the Active Account Fee shall be calculated on 33% of Active Accounts of an Active Account Client thirty days after the day the Evolve Application is first installed for such Active Account Client and has passed applicable acceptance tests or is first used in production (the "Installation Date"); 66% of Active Accounts of an Active Account Client sixty days after the Installation Date; and 100% of Active Accounts for an Active Account Client ninety days after the Installation Date and for each month thereafter so long as such Evolve Application is installed. Notwithstanding the foregoing, if FDR allows a customer to use the Evolve Application in a production environment without paying revenue to FDR for such use, the Installation Date for such Evolve Application shall be the earlier of: (x) the date on which FDR begins to receive revenue from such Active Account Client for the use of such Evolve Application; or (y) ninety days after the date on which the Active Account Client began to use the Evolve Application in a production environment. 5.2. Fixed Fees. The Software License Fees set forth in Section 5.1(a) and ---------- -------------- the Active Account Fees set forth in Section 5.1(d) shall be fixed, and shall -------------- not be subject to adjustment for changes in the Consumer Price Index or for any other reason. Starting in 2005, the Software Maintenance Fees may be subject to change at Pegasystems' election based upon percentage increases in the Consumer Price Index for All Urban Workers ("CPI-U"), as published by the U.S. Department of Labor. Pegasystems may increase the Software Maintenance Fees once per year (effective for the Software Maintenance Fees paid in January of a year) by a percentage amount equal to the percentage change in the CPI-U during a period described below up to three percent (3%). For increases in the CPI-U for the given time period which exceed three percent (3%), Pegasystems may increase the Software Maintenance by an additional amount not to exceed one-half (1/2) of the percentage by which the percentage change in the CPI-U for such period exceeds three percent (3%). (For example, if the CPI-U for 2005 increases by 9%, Pegasystems may increase the Software Maintenance Fees payable January 21, 2006 by 6% [3 + (1/2 times 6) = 6]. Pegasystems shall notify FDR of the percentage change in the CPI-U which shall be calculated by comparing the CPI-U at the beginning and end of a twelve month period ending three months prior to the effective date of any such increase. Notwithstanding the foregoing, the Software Maintenance Fees may increase up to the percentage increase in CPI-U in the event FDR elects not to receive Support and Maintenance for one year or more. 5.3. Taxes. FDR shall pay or hold Pegasystems harmless from any and all ----- taxes, value added taxes, charges, duties, and the like arising from any End User's use of the Software or Products, excluding only any taxes based upon the net income or net worth of Pegasystems or any taxes imposed in lieu of such taxes on net income or net worth. In addition to any amounts ("Payments") payable under this Agreement by one party ("Payer") to the other party ("Payee"), 10 the Payer shall be responsible for any value added taxes, sales taxes, and other transfer-based taxes imposed on such Payments, excluding, however, all taxes based upon the net income or net worth of Payee or any taxes imposed in lieu of such taxes on net income or net worth. In all events, Payer (or, with respect to taxes specified in the first sentence of this Section 5.3, FDR) shall have the ----------- right to control any proceeding involving any taxes described herein for which Payer is responsible and shall receive the reasonable cooperation of Payee in respect thereof. 5.4. Equalization of Fees. In the event (i) an FDR Client begins using a -------------------- Pegasystems Application and (ii) FDR should incur diminished revenue from the respective Evolve Application due to the usage of the Pegasystems Application by such FDR Client, Pegasystems will pay to FDR fifteen percent (15%) of the software license fees (or other fees attributable to the usage of the Pegasystems Application) and maintenance fees received by Pegasystems from such client with respect to the Pegasystems Application, payable as earned by Pegasystems. 5.5. Audit. Each party shall, upon request, provide to the other party ----- information reasonably pertaining to the disclosing party's compliance with the terms of this Agreement, but only to the extent the disclosure of such information does not violate confidentiality obligations of the disclosing party. ARTICLE 6 WARRANTIES 6.1. Warranties of FDR. FDR represents and warrants that: ----------------- (a) It is a corporation validly organized and existing under the laws of the State of Delaware; (b) It has full power and authority under its organizational documents and the laws of the State of Delaware to execute and deliver this Agreement and to perform its obligations hereunder; (c) It has by proper action duly authorized the execution and delivery of this Agreement, when validly executed and delivered, this Agreement shall constitute legal, valid, and binding agreement of FDR enforceable in accordance with its respective terms; and (d) The execution, delivery and performance of this Agreement does not and will not conflict in any material respect with or constitute a material default under its organizational documents or under the terms and conditions of any documents, agreements (oral or written) or other writings to which it is a party. 6.2. Warranties of Pegasystems. Pegasystems represents and warrants that: ------------------------- 11 (a) It is a corporation validly organized and existing under the laws of the Commonwealth of Massachusetts; (b) It has full power and authority under its organizational documents and the laws of the Commonwealth of Massachusetts to execute and deliver this Agreement and to perform its obligations hereunder; (c) It owns all rights in the Software, free of Encumbrances or has the necessary rights to license the Software to FDR, its Affiliates, and End Users as provided herein; (d) It owns all property rights or has all rights and licenses necessary to grant to FDR the rights granted hereunder and to perform Pegasystems' obligations hereunder; (e) It has by proper action duly authorized the execution and delivery of this Agreement and when validly executed and delivered, this Agreement shall constitute a legal, valid, and binding agreement of Pegasystems enforceable in accordance with its terms; (f) The execution, delivery and performance of this Agreement does not and will not conflict in any material respect with or constitute a material default under its organizational documents or under the terms and conditions of any documents, agreements (oral or written) or other writings to which it is a party; (g) It has used and will use its best efforts to ensure that no computer viruses are coded or introduced into the Software or the Derivative Works by Pegasystems or its employees. Pegasystems agrees that in the event that a virus is found, it will use its best efforts to assist FDR in reducing the effect of such virus. Pegasystems shall have no liability or obligation under this Section 6.2(g) if FDR has not conducted commercially reasonable virus -------------- checking procedures in each instance before initially using or providing the Derivative Works to each End User. (h) The Software shall be free of any disabling mechanism or device, hidden program, time-out or lock-out mechanism; (i) (1) It possesses the equipment, personnel and other expertise necessary to develop, support and maintain the Software and deliver the services contemplated hereunder; (2) the development, support and maintenance of the Software and the delivery of the services contemplated hereunder shall be in a professional and workmanlike manner in accordance with the highest applicable professional standards; and (3) the development, support and maintenance of the Software and the delivery of the services contemplated hereunder shall not be performed in violation of any applicable law, rule or regulation of any jurisdictions in which Pegasystems does business; (j) The Software when used by FDR, its Affiliates and their End Users as contemplated by this Agreement does not and shall not infringe any Intellectual Property Right of any Third Party; 12 (k) The Software: (i) is fully operable on all hardware and software operating environments currently supported by Pegasystems in its lines of business; and (ii) is the current version of all software of Pegasystems that may be used for the purposes contemplated by this Agreement; and (l) The documentation for the Software shall be sufficient to describe the use, operation and system and hardware requirements for the Software. 6.3. No Other Warranties. THE WARRANTIES SET FORTH IN THIS ARTICLE 6 AND ------------------- --------- ELSEWHERE IN THIS AGREEMENT ARE THE SOLE AND EXCLUSIVE WARRANTIES OF THE PARTIES WITH RESPECT TO THE SUBJECT MATTER OF THIS AGREEMENT. EXCEPT AS EXPRESSLY STATED HEREIN, NEITHER PARTY MAKES TO THE OTHER ANY WARRANTIES, EXPRESS OR IMPLIED, INCLUDING, WITHOUT LIMITATION, IMPLIED WARRANTIES OF MERCHANTABILITY OR FITNESS FOR A PARTICULAR PURPOSE. ARTICLE 7 INDEMNITIES 7.1. FDR's Indemnification. FDR will indemnify Pegasystems, its Affiliates, --------------------- and their respective officers, employees, and agents, from and against any Losses and Expenses arising out of or relating to: (a) the use of Software or Derivative Works by FDR, its Affiliates, and their End Users, except to the extent that any such Loss or Expense (i) arises out of Pegasystems' material breach of this Agreement or (ii) is a Loss or Expense for which Pegasystems is required to indemnify FDR, its Affiliates, and their respective End Users pursuant to Section 7.2(b); or (b) a material breach by FDR or its Affiliates of -------------- a material representation, warranty, or covenant contained in this Agreement. 7.2. Pegasystems' Indemnification. (a) Pegasystems will indemnify FDR, its ---------------------------- Affiliates, and their respective officers, employees, and agents, from and against any Losses and Expenses arising out of or relating to a material breach by Pegasystems or its Affiliates of any material representation, warranty or covenant contained this in Agreement. (b) Pegasystems will indemnify FDR, its Affiliates, and their respective officers, employees, agents, and End Users, from and against any Loss or Expense arising out of or relating to a claim that (i) the Software as used by FDR, its Affiliates or their respective End Users as contemplated by this Agreement or (ii) Pegasystems' name or trademarks infringes the Intellectual Property Right of any Third Party, provided that the party seeking indemnification promptly notifies Pegasystems of each claim that comes to such party's attention, and cooperates fully with and permits Pegasystems to control its disposition. FDR may at its own expense participate in any action arising from any such infringement claim. To resolve any claim, Pegasystems may (i) procure Intellectual Property Rights sufficient to resolve the claim or (ii) replace or modify the allegedly infringing software so that it becomes noninfringing, provided, however, that any such replacement or modification shall not adversely affect the performance of 13 the Software or Pegasystems' obligations under this Agreement. Notwithstanding anything to the contrary in this Section 7.2(b), Pegasystems' obligations under -------------- this Section 7.2(b) do not extend to claims of infringement to the extent that -------------- such claims are based on Derivative Works or modifications to the Software developed by FDR. ARTICLE 8 LIMITATION OF LIABILITY 8.1. Limitation of FDR's Liability. Except for the obligation to pay fees ----------------------------- to Pegasystems pursuant to Article 5, FDR's aggregate liability within any --------- calendar year to Pegasystems and its Affiliates for all matters arising from, out of, or in connection with this Agreement, whether in contract, tort, or otherwise, shall be limited to an amount not to exceed $ 9,250,000. 8.2. Limitation of Pegasystems' Liability. Except for the liabilities of ------------------------------------ Pegasystems caused by breach of the warranty in Section 6.2(f) or provided for -------------- in Section 7.2(b), which liabilities shall be unlimited, Pegasystems' aggregate -------------- liability within any calendar year to FDR and its Affiliates for all matters arising from, out of, or in connection with this Agreement, whether in contract, tort, or otherwise, shall be limited to an amount not to exceed $9,250,000. 8.3. No Special Damages. NOTWITHSTANDING ANY PROVISION IN THIS AGREEMENT TO ------------------ THE CONTRARY, NEITHER PARTY SHALL BE LIABLE TO THE OTHER FOR ANY INCIDENTAL, CONSEQUENTIAL, SPECIAL, INDIRECT, OR PUNITIVE DAMAGES. ARTICLE 9 TERM AND TERMINATION 9.1. Term. This agreement shall commence on the Effective Date and shall ---- continue in effect until terminated in accordance with the provisions of this Article 9. - --------- 9.2. Termination by FDR. Notwithstanding anything in this Agreement to the ------------------ contrary, FDR may terminate this Agreement: (a) If Pegasystems fails to maintain or support the Software, no longer has as a principal line of business the development of workflow automation engine software, or otherwise is in material breach of this Agreement, and thirty (30) days after FDR gives notice of such breach (with designation that such breach is grounds for termination) to Pegasystems, Pegasystems has not: (i) cured such breach; or (ii) taken steps that would, in FDR's reasonable judgement, cure such breach within an acceptable period of time; (b) Immediately upon notice to Pegasystems if: (i) Pegasystems becomes bankrupt, insolvent (either a deficit in net worth or the inability to pay debts as they mature), or is dissolved; (ii) Pegasystems makes an assignment for the benefit of its creditors or an offer of settlement, extension, or composition to its unsecured creditors generally; (iii) Pegasystems has 14 ceased to do business, for any reason, for a period of at least ten (10) days; or (iv) Pegasystems files a voluntary petition of bankruptcy, suffers or permits the appointment of a receiver for its business or assets, or becomes subject to any proceeding under any bankruptcy or insolvency law, whether domestic or foreign, or has wound up or liquidated, voluntarily or otherwise, or a case is commenced or a petition is filed against Pegasystems under any applicable liquidation, conservatorship, bankruptcy, moratorium, insolvency, reorganization or similar law for the relief of debtors from time to time in effect and generally affecting the rights of creditors, and such filing is not dismissed within sixty (60) days after being served on Pegasystems. (c) For convenience at any time by giving ninety (90) days advance notice to Pegasystems. Fees paid and payable through the effective date of termination under this Section 9.2(c) are non-refundable. -------------- 9.3. Termination by Pegasystems. Notwithstanding anything in this Agreement -------------------------- to the contrary, Pegasystems may terminate this Agreement: (a) If FDR is in material breach of this Agreement, and thirty (30) days after Pegasystems gives notice of such breach to FDR (with designation that such breach is grounds for termination), if FDR has not: (i) cured such breach; or (ii) taken steps that would, in Pegasystems' reasonable judgement, cure such breach within an acceptable period of time; provided if the alleged breach is the failure to pay any portion of the fees under Section 5.1, and FDR has ----------- disputed its obligation to pay any such amount, non-payment shall not be grounds for termination until thirty (30) days after FDR fails to pay any amount found to be due pursuant to the dispute resolution procedures set forth in Section ------- 12.3(a) in the event of a dispute under Sections 5.1(a)-(c), and Section 12.3 in - ------- ------------------- ------------ the event of a dispute under Section 5.1(d). -------------- (b) Immediately upon notice to FDR if: (i) FDR becomes bankrupt, insolvent (either a deficit in net worth or the inability to pay debts as they mature), or is dissolved; (ii) FDR makes an assignment for the benefit of its creditors or an offer of settlement, extension, or composition to its unsecured creditors generally; (iii) FDR has ceased to do business, for any reason, for a period of at least ten (10) days; or (iv) FDR files a voluntary petition of bankruptcy, suffers or permits the appointment of a receiver for its business or assets, or becomes subject to any proceeding under any bankruptcy or insolvency law, whether domestic or foreign, or has wound up or liquidated, voluntarily or otherwise, or a case is commenced or a petition is filed against FDR under any applicable liquidation, conservatorship, bankruptcy, moratorium, insolvency, reorganization or similar law for the relief of debtors from time to time in effect and generally affecting the rights of creditors, and such filing is not dismissed within sixty (60) days after being served on FDR. 9.4. Consequences of Termination. (a) If this Agreement is terminated by --------------------------- Pegasystems under Section 9.3(a) on account of FDR's failure to pay the Software -------------- License Fees due under Section 5.1(a), the licenses granted to FDR under this -------------- Agreement shall be terminated, and FDR shall cease marketing the Software and Derivative Works to new customers and shall immediately stop using the Software and Derivative Works if an election for continued use is not made under Section ------- 9.4(d). If, prior to making the final payment of the Software License Fee - ------ 15 under Section 5.1(a) this Agreement is terminated by Pegasystems under Section -------------- ------- 9.3 for any reason other than non-payment, FDR shall have the right to retain - --- the license under Section 2.1, and to have such license become perpetual and ----------- irrevocable by paying the remaining balance of Software License Fees then due within thirty (30) days of such termination. (b) If this Agreement is terminated by FDR under Section 9.2 before it ----------- has paid all of the Software License Fees due under Section 5.1(a), FDR shall -------------- have the right to retain its licenses under this Agreement by continuing to pay such fees, and at such time as those fees are paid in full, FDR's license under this Agreement shall become perpetual and irrevocable as set forth in Section ------- 2.1. If FDR elects not to pay the remaining amounts due under Section 5.1(a), - --- -------------- FDR's licenses under this Agreement shall cease. (c) If this Agreement is terminated by either party pursuant to Sections 9.2 or 9.3 at any time after FDR has paid in-full the Software License - ------------ --- Fees under Section 5.1(a), FDR's licenses with respect to the Software and -------------- Derivative Works under this Agreement shall remain in full force and effect in perpetuity. (d) In the event of termination of FDR's license in the Software and Derivative Works for any reason prior to the time FDR has paid in full the Software License Fees under Section 5.1(a), in addition to FDR's rights under -------------- Sections 9.4(a) and 9.4(b), FDR may elect to continue use of the Software and - --------------- ------ Derivative Works as provided herein for a period of up to one hundred eighty (180) days for purposes of transitioning existing End Users and of orderly cessation of use of the Software and Derivative Works, by continuing to pay the Software License Fees set forth in Exhibit H and Active Account Fees, if --------- applicable, or applicable pro rata portions thereof, for the time period of such use. (e) If: (i) this Agreement is terminated under Section 9.2(a) or -------------- Section 9.2(b) or (ii) Pegasystems terminates Support and Maintenance for any - -------------- reason after FDR has paid in full the Software License Fee under Section 5.1(a), -------------- or prior to such payment if FDR subsequently elects to pay the Software License Fees under Section 9.4(a) or Section 9.4(b) (except with respect to a -------------- -------------- termination under Section 9.2(c)), then such termination shall be deemed to be a --------------- release event under the Escrow Agreement, and FDR shall have a nontransferable, nonexclusive, royalty-free license to use the source code to support the Software and the Derivative Works. (f) Upon termination of this Agreement for any reason, each party will promptly cease using and return to the other party: (i) all advertising and promotional materials that bear a trademark or copyright notice of such other party; and (ii) all items (whether tangible or electronic) that contain Confidential Information of the other party, except (A) items that have been properly sold or licensed to the other party, and (B) such materials as FDR may deem necessary to exercise its continuing rights under this Agreement, including the source code for the Software and Derivative Works to the extent FDR has rights thereto under this Agreement. (g) In addition, nothing in this Section 9.4 shall limit the right of ----------- either party to seek injunctive relief, to the extent available in respect of breaches of this Agreement. 16 9.5. Survival. The following provisions shall survive termination or -------- expiration of this Agreement: Section 2.1 (to the extent the license under that ----------- Section is or becomes perpetual and irrevocable or FDR otherwise obtains access to the source code or other Deposit Materials under the terms of the Escrow Agreement), Sections 5.1(d), 5.3 and 5.4, Articles 7 and 8, Sections 9.4, 9.5, --------------- --- --- ---------- - ------------ --- 9.6, Articles 10 and 11, and Sections 12.2, 12.3, 12.4, and 12.11. - --- ----------- -- ------------- ---- ---- ----- 9.6. Rights Cumulative. The rights of the parties to terminate this ----------------- Agreement under this Article 9 are cumulative and the existence of any right --------- under any provision or subsection is not exclusive of any right under any other provision or subsection of this Agreement. ARTICLE 10 CONFIDENTIALITY 10.1. Definition. For the purposes of this agreement, the term ---------- "Confidential Information" shall mean: (a) any data or information that is competitively sensitive material, and not generally known to the public, including, but not limited to, product planning information, marketing strategies, marketing or business plans, financial information, operating details, customer relationships or profiles, sales estimates, and internal performance results relating to past, present, or future business activities of either FDR or Pegasystems, or either party's respective Affiliates, or any of their customers, clients, or suppliers; (b) any scientific or technical information, design, process, procedure, formula, or improvement that is commercially valuable or nonpublic or secret in the sense that its confidentiality affords the party from which it is derived a competitive advantage over its competitors or possible competitors; or (c) any confidential or proprietary concepts, documentation, reports, data, specifications, computer software, source code, object code, flow charts, databases, innovations, information, know-how, show-how, trade secrets (whether patentable or copyrightable). Without limiting the scope of the foregoing, Confidential Information includes, without limitation, all documents, inventions, substances, engineering and laboratory notebooks, drawings, diagrams, specifications, bills of material, equipment, prototypes, or models, and any other tangible or intangible manifestations of any one or more of the foregoing (including electronic records) which either now exist or come into the control or possession of either party. 10.2. Restrictions. Except as expressly authorized by the prior written ------------ consent of the other party, each party shall: (a) limit access to all Confidential Information of the other party received by it to its employees who have a bona fide need to know to consummate the transactions contemplated by --------- this Agreement, and only for use in connection therewith; (b) advise those of its employees, agents, or contractors having any access to the Confidential Information of the other party of the proprietary nature thereof and its obligations hereunder; (c) take all necessary action by instruction or agreement with its employees to protect the confidential nature of the Confidential Information of the other party and to fulfill its obligations under this agreement; (d) safeguard all Confidential Information of the other party received by it using the utmost degree of care (which standard of care shall not be less than the degree of care used by it in safeguarding its own similar information or material); (e) use all Confidential Information of the other party received by it solely to consummate the transactions contemplated by this agreement; (f) not disclose any Confidential Information of the other party to third parties; 17 and (g) not disclose the terms of this Agreement or provide a copy of it to any third party. Upon the request of either party at the expiration of the Term or the termination of this Agreement, the other party shall surrender to the requesting party all memoranda, notes, records, drawings, manuals, records, and other documentation or materials (and all tangible or electronic copies of the same) pertaining to or including Confidential Information of the requesting party. Upon the return of such materials, an executive officer of the party returning the materials agrees to certify in writing that the foregoing materials have been duly surrendered to the requesting party. 10.3. Exceptions. The requirements set forth in Section 10.2 shall not ---------- ------------ apply to any Confidential Information that a party can demonstrate: (a) was in the public domain prior to the date of this agreement or which subsequently entered into the public domain through no fault or action of such demonstrating party; (b) was lawfully received by the party from a third party which is not bound by an obligation of confidence to such third party; (c) was already in the possession of the party prior to receipt thereof, directly or indirectly, from the other party; (d) is required to be disclosed in a judicial or administrative proceeding or under a rule or regulation after all reasonable legal and equitable remedies for maintaining such Confidential Information in confidence have been exhausted, including, but not limited to, giving the other party as much advance notice of the possibility of such disclosure (if permitted) as practicable so that the other party may attempt to stop such disclosure to obtain a protective order, an order to disclose such information in camera or --------- other such relief concerning such disclosure; or (e) is subsequently or independently developed by employees, consultants, or agents of the party disclosing the Confidential Information without violation of the terms of this Agreement. 10.4. News Releases. Neither FDR nor Pegasystems shall release or publish ------------- news releases, public announcements, advertising or other publicity relating to this Agreement or to the transactions contemplated hereunder without the prior review and written approval of the other party, which approval shall not be unreasonably withheld or delayed; provided, however, that either party may make -------- ------- such disclosures as are required by legal, accounting, or regulatory requirements after making reasonable efforts in the circumstances to consult in advance with the other party and comply generally with this Section 10.4. ------------ 10.5. Injunctive Relief. Pegasystems and FDR agree that money damages would ----------------- not be a sufficient remedy for a breach of the confidentiality obligations set forth in this Article 10. Accordingly, in addition to all other remedies at law ---------- or in equity that either party may have, such party shall be entitled to specific performance and injunctive or other equitable relief arising from any breach of such provisions. ARTICLE 11 SOURCE CODE ESCROW 11.1. Source Code Escrow. Pegasystems and FDR are parties to a Source Code ------------------ Escrow Agreement dated October 9, 1997 (the "Escrow Agreement"). Within thirty (30) days after the execution and delivery of this Agreement, Pegasystems, FDR and Fort Knox Escrow Services, Inc. (or its successor) shall enter into a letter agreement in the form set forth in Exhibit F with --------- 18 respect to continuation of the Escrow Agreement, with such changes in the form as may be reasonably requested by Fort Knox Escrow Services, Inc. (or its successor). 11.2. Rights under Section 365(n) of the U.S. Bankruptcy Code. All rights ------------------------------------------------------- and licenses granted by Pegasystems to FDR and its Affiliates hereunder are, and shall otherwise be deemed to be, for purposes of Section 365(n) of the U.S. Bankruptcy Code, licenses of rights to "intellectual property" as defined in Section 101 of the Bankruptcy Code. The parties agree that FDR and its Affiliates, as licensees of such rights under this Agreement, shall retain and may fully exercise all of its rights and elections under the Bankruptcy Code. ARTICLE 12 GENERAL 12.1. Assignment and Change in Control. Neither party may assign this -------------------------------- Agreement or any interest in it, or delegate any of its obligations under this Agreement, without the prior written consent of the other party, except that (i) FDR may assign this Agreement to an Affiliate without such consent; and (ii) either party may assign this Agreement without such consent to the surviving entity in the event of a merger or consolidation of a party with another entity, to the purchaser of substantially all of the stock of a party, or to a purchaser of all or substantially all of the assets of the business to which the Agreement relates. This Agreement shall be binding upon and inure to the benefit of each party and their permitted successors and assigns. 12.2. Relationship of Parties. Nothing in this Agreement shall be deemed by ----------------------- the parties, or by any Third Party, to create a partnership, joint venture or similar relationship between the parties and, except as otherwise expressly provided herein, no party shall be deemed to be the agent of the other party, it being understood and agreed that neither the method of computing compensation nor any other provision contained herein shall be deemed to create any relationship between the parties hereto other than the relationship of independent parties contracting for services. Neither party to this Agreement has or shall hold itself out as having any authority to enter into any contract or create any obligation or liability on behalf of, in the name of, or binding upon the other party. 12.3. Dispute Resolution. (a) Subject to Section 12.4, any material ------------------ ------------ dispute, controversy or claim between FDR (or any affiliate of FDR) and Pegasystems (or any affiliate of Pegasystems) arising from or in connection with this Agreement, whether based on contract, tort, common law, equity, statute, regulation, order or otherwise ("Dispute") shall be resolved in accordance with ------- this Section 12.3: ------------ (i) Upon written request of FDR or Pegasystems, the issue shall be brought before a committee (the "Senior Level Policy Team") comprised of ------------------------ Pam Schwalb and J. C. Dennis representing FDR, and Rick Jones and David Wells representing Pegasystems (or comparable level successors to such individuals, as appropriate). The Senior Level Policy Team shall meet as often as necessary to discuss the Dispute and negotiate in good faith to resolve the Dispute. The members of the 19 Senior Level Policy Team may be substituted at the discretion of FDR or Pegasystems, as the case may be, upon five days' notice. (ii) Arbitration for the resolution of a Dispute may not be commenced until the earlier of: (A) the date on which the Senior Level Policy Team concludes in good faith that amicable resolution through continued negotiation of the matter does not appear likely; or (B) fifteen days after the date the Dispute became subject to the review of the Senior Level Policy Team. (b) Any Dispute that remains unresolved after compliance with the provisions of Section 12.3(a), regardless of the magnitude thereof or the amount --------------- in controversy or whether such Dispute would otherwise be considered justiciable or ripe for resolution by a court or arbitral tribunal, may be submitted by either party to, and finally determined by, arbitration in accordance with the provisions of this Section 12.3(b). Arbitration under this Section 12.3(b) shall --------------- --------------- be the sole means for resolving any dispute under this Agreement. (i) Any such arbitration shall be conducted by the AAA in accordance with the AAA Rules, except as the AAA Rules conflict with the provisions of this Article 12, in which event the provisions of this Article 12 shall ---------- ---------- control. (ii) The arbitration panel (the "Panel") shall consist of three ----- arbitrators independent of the parties (the "Arbitrators"). The Arbitrators ----------- shall be appointed pursuant to AAA's Rules for selecting arbitrators. Each Arbitrator shall have at least ten years' experience as a senior manager in the software development or data processing industry (the "Basic ----- Qualifications"). -------------- (iii) Should an Arbitrator refuse or be unable to proceed with arbitration proceedings as called for by this Section 12.3(b), the --------------- Arbitrator shall be replaced by the AAA. Each such replacement Arbitrator shall satisfy the Basic Qualifications. If an Arbitrator is replaced after the arbitration hearing has commenced, then a rehearing shall take place in accordance with the provisions of this Section 12.3(b) and the AAA Rules. --------------- (iv) The arbitration shall be conducted in Chicago, Illinois, or in such other location as the parties may designate by mutual written consent; provided, however, that the Panel may from time to time convene, carry on -------- ------- hearings, inspect property or documents, and take evidence at any location which the Panel deems appropriate. 20 (v) The Panel may in its discretion order a pre-hearing exchange of information including production of documents, exchange of summaries of testimony or exchange of statements of position, and shall schedule promptly all discovery and other procedural steps and otherwise assume case management initiative and control to effect an efficient and expeditious resolution of the Dispute. (vi) At any oral hearing of evidence in connection with an arbitration pursuant to this Section 12.3(b), each party and its legal --------------- counsel shall have the right to examine its witnesses and to cross-examine the witnesses of the other party. No testimony of any witness shall be presented in written form unless the opposing party or parties shall have the opportunity to cross-examine such witness, except as the parties otherwise agree in writing or except under extraordinary circumstances where, in the opinion of the Panel, the interests of justice require a different procedure. (vii) Within fifteen (15) days after the closing of the arbitration hearing, the Panel shall prepare and distribute to the parties a writing setting forth the Panel's findings of facts and conclusions of law relating to the Dispute, including the reasons for the giving or denial of any award. (viii) Except as necessary in court proceedings to enforce this arbitration provision or an award rendered hereunder, or to obtain interim relief, neither a party nor an Arbitrator may disclose the existence, content or results of any arbitration hereunder without the prior written consent of both parties. (ix) A judgment upon the award rendered by the Panel may be entered in any court having jurisdiction thereof. (x) FDR and Pegasystems agree to share equally the cost of any administrative fee, any compensation of the Arbitrators and any expenses of any witnesses or proof produced at the direct request of the Panel. (xi) The parties shall each bear all their own costs of arbitration, including legal fees. (xii) The Panel shall not have the power to award consequential damages. (xiii) The Federal Arbitration Act, 9 U.S.C. Sections 1 through 14, except as modified hereby, shall govern the interpretation and enforcement of this Section 12.3(b). --------------- Notwithstanding the foregoing, the parties agree to continue performing their respective obligations under this Agreement while the Dispute is being resolved unless or until such obligations are terminated or expire in accordance with the provisions hereof. 21 12.4. Judicial Procedure. Nothing in Section 12.3 shall be construed to ------------------ ------------ prevent any party from seeking from a court a temporary restraining order or other temporary or preliminary relief pending final resolution of a Dispute pursuant to Section 12.3. ------------ 12.5. Notice. All notices from one party to the other shall be in writing ------ and shall be given by personal service, telecopy, registered mail or certified mail (or its equivalent), or overnight courier to the other party at its respective address or telecopy telephone number set forth below. Mailed notices and notices by overnight courier shall be deemed to be given upon actual receipt by the party to be notified. Notices delivered by telecopy shall be confirmed in writing by overnight courier and shall be deemed to be given upon actual receipt by the party to be notified. If to FDR: First Data Resources Inc. 10825 Farnam Drive Omaha, Nebraska 68154 Attention: President Telephone Number: (402) 222-6950 Telecopy Number: (402) 222-5094 With a copy to: First Data Resources Inc. 10825 Farnam Drive Omaha, Nebraska 68154 Attention: General Counsel Telephone Number: (402) 222-5556 Telecopy Number: (402) 222-7700 If to Pegasystems: Pegasystems Inc. 101 Main Street 22 Cambridge, MA 02142 Attention: President Telephone Number: (617) 374-9600 Telecopy Number: (617) 374-9620 With a copy to: Pegasystems Inc. 101 Main Street Cambridge, MA 02142 Attention: Vice President and General Counsel Telephone Number: (617) 374-9600 Telecopy Number: (617) 374-9620 A party may change its address or addresses set forth above by giving the other party notice of the change in accordance with the provisions of this Section ------- 12.5. Delivery to any party designated above to receive copies of notices shall - ---- not, by itself, be considered notice to any party pursuant to this Section 12.5, ------------ and that failure to deliver a copy shall not, by itself, cause delivery of notice to any other party to be insufficient or invalid. 12.6. Waiver. Any term or provision of this Agreement may be waived, or the ------ time for its performance may be extended, by the party entitled to the benefit thereof. Any such waiver shall be validly and sufficiently authorized for the purposes of this Agreement if, as to any party, it is authorized in writing by an authorized representative of such party. The failure of either 23 party hereto to enforce at any time any provision of this Agreement shall not be construed to be a waiver of such provision, nor in any way to affect the validity of this Agreement or any part hereof or the right of any party thereafter to enforce each and every such provision. No waiver of any breach of this Agreement shall be held to constitute a waiver of any other or subsequent breach. 12.7. Force Majeure. Neither party shall be responsible or liable for ------------- delays in its performance hereunder resulting from causes beyond its reasonable control (such as government laws or regulations, acts of God, catastrophes, weather difficulties, or labor or transportation problems). Any such cause shall extend the performance of the delayed obligation to the extent of the delay so incurred. 12.8. Severability. Wherever possible, each provision hereof shall be ------------ interpreted in such manner as to be effective and valid under applicable law, but in case any one or more of the provisions contained herein shall, for any reason, be held to be invalid, illegal or unenforceable in any respect, such provision shall be ineffective to the extent, but only to the extent, of such invalidity, illegality or unenforceability without invalidating the remainder of such invalid, illegal or unenforceable provision or provisions or any other provisions hereof, unless such a construction would be unreasonable. 12.9. Entire Agreement. This Agreement, including Exhibits, sets forth all ---------------- of the promises, agreements, conditions, and understandings between the parties respecting the subject matter hereof and supersedes all negotiations, conversations, discussions, correspondence, memorandums and agreements between the parties concerning the subject matter. This Agreement may not be modified except by a writing signed by authorized representatives of each party to this Agreement. This Agreement may be executed in any number of counterparts, each of which shall be deemed an original but all of which together shall constitute one and the same instrument. 12.10. Governing Law. This Agreement shall be governed by the laws of the ------------- Commonwealth of Massachusetts as to all matters including validity, construction, effect, performance and remedies without giving effect to the principles of choice of law thereof. 12.11. Non-solicitation. During the Term and for one (1) year after the ---------------- expiration or other termination of this Agreement: (a) Neither FDR nor any of its Affiliates shall, without the prior written consent of Pegasystems, directly or indirectly attempt to specifically solicit any employee of Pegasystems or any of its Affiliates to became an employee of FDR or any of its Affiliates or otherwise induce any such employee to terminate his or her employment with Pegasystems or its Affiliates. (b) Neither Pegasystems nor any of its Affiliates shall, without the prior written consent of FDR, directly or indirectly attempt to specifically solicit any employee of FDR or any of its Affiliates to became an employee of Pegasystems or any of its Affiliates or 24 otherwise induce any such employee to terminate his or her employment with FDR or its Affiliates. 25 IN WITNESS WHEREOF, the parties hereto have executed this Agreement as of the date first written above. PEGASYSTEMS INC FIRST DATA RESOURCES INC. By: /s/ Alan Trefler By: /s/ Eula Adams Alan Trefler Eula Adams CEO Senior Executive Vice President Dated: 3/28/02 Dated: 3/28/02 26 EXHIBIT A SOFTWARE FDR has received, accepted and delivered into a production environment the following PegaCRM Software items: a) PegaWORKS core workflow management and rules-based engine comprised of: Item Processing . Interactive Tracking and Control . Prioritized Worklist . Audit Trail . Duplicate Searching and Selection . Electronic Folder . Flexible Unit Processing . Extended Duplicate and Offset Search . Work Manager . Centralized Workbaskets . Inbound Workbasket Security . Service Routing and Control . Quality Control Management . Multiple Edit Rules . High Volume Processing . Objective Based Processing Management and Reporting . Management Override Facilities . Timeliness Standards . Aging and Productivity Reports by Operator . Operator Group Reporting . Quality Reporting . Calendar Aging Reports 27 . Weekly Reporting . Multiple Divisions b) PegaCONNECT Interface components: . GEXT Go External Interface for C and C++ Programs . GAPI/WFFAPI Interface for C_++ and JAVA . SOAP/XML Interface . MQ Interfacing for IBM MQ messaging . GRDB Interactive Relational Database Interface for Imbedded SQL . 3270 Server Foreign Application Interface . Customer Information File Interface . Customer Information Query Interface . Accounting Extract Interface . External Security Interface . Com-In and Com-out Structured Message Interfaces . Formatted Message Processing Interface c) MOLINK Dialer API for Mosaix CTI/Outbound Dialer integration d) PegaWEB servlet engine for delivery of PegaWORKS user interface to Browser clients. e) PegaREACH client for delivery of PegaWORKS user interface to MS Windows based clients. f) PegaWORKBENCH development tool for the development of PegaWORKS rules objects and workflows. Template Access Pegasystems has provided FDR the capabilities to access and develop template workflow rule objects, which are visibly designated and are subject to special processing in the rule base management routines such that customers cannot modify Template workflow rule objects (or create new rules with the Template designation). Pegasystems has provided FDR with the same developer-privileged access to this Template mechanism (creation of Template workflow rule objects) that Pegasystems provides to its internal developers. 28 EXHIBIT B PRODUCTS "Products" means any information processing services or products provided to any Person in connection with: (i) any electronic payment system principally based on access of accounts or their equivalents by credit cards, retail cards, co-branding cards, corporate/commercial cards, affinity cards, proprietary or private label cards, debit cards, stored value or prepaid cards, chip cards, smart cards, any other instrument or device used to access an account, and the successors of each of the foregoing (collectively, "Cards"); (ii) the use of Cards in connection with home banking and payment systems; and (iii) electronic payment systems marketed for use with Card applications, whether or not such applications are for Card or non-Card accounts. Products shall not include: (i) the development, provision or delivery of Acquirer front-end applications (work station products and services in customer service call centers or through Internet or other direct customer access); (ii) services or products provided in connection with any systems or platforms used primarily for the provision of products or services to oil or petroleum product retailers; or (iii) services or products provided in connection with the current FDR Acquirer systems or platforms (currently referred to as the "CES" or "North Platform" and the "Nabanco" or "South Platform") or their successors which are used primarily for the provision of products and services to Merchants and Acquirers. Notwithstanding anything to the contrary in this Agreement, Products includes services or products provided to a customer in connection with a system or platform described in clause (ii) of the preceding paragraph and for whom FDR's primary relationship is the provision of products or services for use in connection with Visa or MasterCard Cards. 29 EXHIBIT C FDR PARTICIPATION IN STRATEGIC PLANNING FOR DEVELOPMENT OF FUTURE ENHANCEMENTS AND NEW RELEASES FDR shall be entitled to participate in all user groups, information exchanges, client websites and other programs sponsored by Pegasystems for its customers for the purposes of constructive information gathering and best practices evaluation of system design and delivery. FDR agrees to not use this access for direct or indirect selling or marketing of FDR products without the express permission and consent of Pegasystems. Pegasystems will give consideration to any ideas, suggestions or other comments FDR may offer from time to time with respect to the Software, including enhancements or improvements that FDR may suggest. Pegasystems shall be entitled to participate in all user groups, information exchanges, (FDR-hosted) client websites and other programs sponsored by FDR for its customers for the purposes of constructive information gathering and best practices evaluation of system design and delivery as applicable to Pegasystems' obligations under this Agreement. Pegasystems agrees to not use this access for direct or indirect selling or marketing of Pegasystems products without the express permission and consent of FDR. The terms of this Exhibit C shall be applicable only during the Support and --------- Maintenance Period. 30 EXHIBIT D SUPPORT AND MAINTENANCE; TRAINING Pegasystems Resources: Pegasystems shall make resources available to FDR for workflow architecture and product development services when and as requested by FDR at the rates set forth in Exhibit G, less a discount of 15%. As reasonably requested by FDR, --------- Pegasystems will support FDR, including working directly with End Users or prospects. Should resolving a problem dictate that a change to Software is required, Pegasystems will be responsible for making a Software modification. Software Maintenance and Enhancement Releases: Pegasystems will support the evolution of the Software through its product enhancement program that provides: . Patch releases to address software errors and problems and are made -------------- available on an as-needed basis. Pegasystems will address critical issues for FDR or End Users who need immediate response and then incorporate the changes in the next Maintenance or Version release. . Maintenance releases to provide new functionality and fixes to address -------------------- Software issues. Pegasystems anticipates two to four maintenance releases per year. . Version releases to provide major enhancements to the functionality or ---------------- the introduction of new capabilities. Pegasystems anticipates one version release per 9 to 12 months. . Documentation releases updating documentation to reflect release or ---------------------- version changes. Documentation releases include updates to Online Help and are provided on an as-needed basis with all Maintenance and Version releases. Pegasystems will make all documentation available to FDR in electronic format. Technical Support: Pegasystems will provide technical support and assistance to FDR's internal users on both usage and technical issues. Pegasystems will establish a high-quality, FDR specific support team responsible for: . capacity planning and defining system & network topology . identifying, designing and building interfaces . setting up systems environment and installing applications 31 . setting up operational and maintenance procedures for ongoing production . troubleshooting implementation and ongoing production issues . monitoring production and exploring options for improving operational productivity and efficiency . training the FDR staff to achieve a high level of self-sufficiency in the use, deployment and support of the Software Pegasystems emergency technical support will be available on a 7 day, 24 hour basis. The support team will make extensive use of telecommunications facilities to diagnose and troubleshoot problems. If necessary and as reasonably requested by FDR, Pegasystems will also provide on-site support (at either FDR facilities or on End User premises) to address critical problems. Pegasystems refers to its technical support philosophy as providing "Private Banker" style individual service (as distinguished from a Help Desk or generic support infrastructure). In addition to Private Banker support, Pegasystems will provide A. Online Customer Support access to FDR staff to the ACTION! system used ----------------------- within Pegasystems to manage and respond to customer issues. B. Newsletters to inform users of upcoming developments, known problems and ----------- operational recommendations. C. Advisory Board access to consult with Pegasystems development staff on -------------- enhancements or opportunities to improve the capability or resiliency of the system. All Technical Support services rendered related to issues not attributed to the Software shall be provided at Pegasystems regular rates set forth in Exhibit G, --------- less a discount of 15%. Training When requested by FDR, Pegasystems will provide training and education services to FDR that consist of: A. Training for Workflow Architects that instructs them in how to develop and -------------------------------- maintain Templates. B. Training on system support and implementation including training on how to --------------------------------------------- install and configure Software and Derivative Works. C. Training on System Administration will be made available to technical --------------------------------- support staff. 32 D. Training on Designing Workflows and Templates using PegaSTAR, Pegasystems' --------------------------------------------- Structured Technique for Analysis and Reengineering. E. Training on future system enhancements and releases. --------------------------------------------------- The above training will be based on FDR access to Pegasystems standard Training Courses, supplemented with specialized education from trainers and other staff. Pegasystems will make its standard course material available to FDR in both hard copy and electronic format for FDR to personalize as Evolve documentation. In addition to the above formal training, if requested by FDR, Pegasystems will provide consulting and education to FDR internal technical staff on the technical and implementation architecture of the system. Pegasystems will also provide design and technical assistance to facilitate FDR internal use of the system. All training services shall be provided at Pegasystems regular rates set forth in Exhibit G, less a discount of 15%. --------- Software and Platform Support On FDR's request, Pegasystems will provide End User technical support to FDR customers for Customer Support Services to handle issues or problems being experienced by FDR staff or End Users. Such support shall include: . Emergency telephone support . Emergency dial-in support . Software error resolution . Software configuration troubleshooting . Performance improvement recommendations All such services shall be provided at Pegasystems regular rates set forth in Exhibit G, less a discount of 15%. - --------- 33 EXHIBIT E END USER AGREEMENT TERMS AND CONDITIONS Every End User Agreement entered into by FDR with an End User for use of the Software and Derivative Works on a computer operated by or for the End User, shall include the following contractual provisions. These requirements shall not apply to any End User Agreement for Evolve e-Customer Service, OPCF or other Derivative Work where Software is not licensed for use by the End User on a computer operated by or for the End User. 1. Restrict the End User's use of the Software or Derivative Work: (i) to object code (subject to commercially-reasonable independent third party escrow arrangements allowing the End User access to the source code only upon the bankruptcy or insolvency of Pegasystems); and to use in connection with Products. 2. Prohibit any assignment, timesharing, rental, or hypothecation of the Software or Derivative Work, or their use by any Third Party other than the End User. 3. Prohibit the passing or transfer of any right, title, or interest to the Software or the Derivative Work to the End User or any other Third Party (except for the non-exclusive and non-transferable right to use the Software or Derivative Work for the specific work processing purposes stated). 4. Prohibit any reverse engineering, disassembly, recompilation, modification, or duplication (except for back-up purposes) of the Software or Derivative Work. 5. For End Users located in the United States, specify that the law governing such End User agreement shall be the law of any U.S. state or the District of Columbia, and provide for a U.S. venue to adjudicate disputes arising thereunder. For End Users located in Canada, specify that the law governing such End User agreement shall be the law of any Canadian province, and provide for a Canadian venue to adjudicate disputes arising thereunder. 6. Except for Pegasystems' indemnity obligations pursuant to Section 8.2(b): -------------- (i) disclaim in a conspicuous manner (and at least as conspicuous as FDR disclaims its own liability), specifically mentioning Pegasystems, Pegasystems' liability for all damages and claims, whether direct, indirect, incidental, consequential, or punitive, and all attorneys' fees and costs, arising from the End User's use of the Software or Derivative Work; (ii) limit the End User's and a Third Party's rights to assert claims for damages against Pegasystems and, without limiting the scope of the foregoing, disclaim the End User's or a Third Party's rights to assert claims for damages against Pegasystems; and, (iii) without limiting the scope of the foregoing, disclaim the End User's or a Third Party's right to assert claims against Pegasystems as a third party beneficiary of this Agreement, or otherwise. 7. Require the End User, at the termination of its End User agreement with FDR, to immediately discontinue use of the Software or Derivative Work, and immediately return to FDR all copies of the Software or Derivative Work and any documentation provided pursuant to an End User Agreement or otherwise. 8. Prohibit publication or dissemination by the End User of any results of benchmark or other testing run on the Software or Derivative Work. 9. Require the End User to maintain the non-public and proprietary character of the Software or Derivative Work. 10. Require the End User to comply fully with all applicable laws and regulations (including relevant export U.S. restrictions and regulations to assure that the Software or Derivative Work are not, directly or indirectly, exported in violation of U.S. law). 11. If such End User Agreement permits the End User to develop work flows or templates specific to it, limit such right to the terms of the End User Agreement, and prohibit the End User from selling or reselling, licensing or relicensing, or otherwise marketing or making available to any Third Party any work flows or templates. 34 EXHIBIT F LETTER AGREEMENT WITH RESPECT TO CONTINUATION OF EXISTING ESCROW AGREEMENT [Insert Date] Michael C. Amiri Fort Knox Escrow Services, Inc. 3539 A Church Street Clarkson, Georgia 30021-1717 Dear Mr. Amiri: Fort Knox Escrow Services, Inc ("Escrow Agent"), Pegasystems Inc. ("Pegasystems") and First Data Resources Inc. ("FDR") are parties to a Source Code Escrow Agreement dated October 9, 1997 ("Escrow Agreement"). This letter is being sent to Escrow Agent jointly by Pegasystems and FDR to confirm the parties mutual agreements and understandings with respect to the amendment of the Escrow Agreement under Section 10(d) thereof. 1. The Escrow Agreement was entered into pursuant the Software License and Support Agreement between Pegasystems and FDR dated June 27, 1997 ("Original Agreement"). Effective March 1, 2002, Pegasystems and FDR have mutually agreed to terminate the Original Agreement, and to replace it with a Refreshed Software License and Support Agreement dated as of March 1, 2002 ("Refreshed Agreement"). 2. Escrow Agent, Pegasystems and FDR hereby agree that the termination of the Original Agreement shall not be deemed to be a event of termination under Section 7(a) of the Escrow Agreement. 3. Pegasystems and FDR acknowledge that the termination of the Original Agreement shall not in any way be deemed to be a release event under Section 5(b) of the Escrow Agreement. 4. Escrow Agent, Pegasystems and FDR hereby agree that the Escrow Agreement shall remain in full force and effect, except effective as of March 1, 2002 (i) the references to the Original Agreement in the following sections and exhibit paragraphs of the 35 Escrow Agreement shall be deemed to be references to the Refreshed Agreement: Section 2, Section 5(b), Section 7(a), Section 9, Exhibit A, first paragraph on page A-1, Exhibit A, last paragraph on page A-3; and (ii) termination of the Refreshed Agreement under the circumstances set forth in Section 9.4(e) thereof shall be deemed to be a release event under Section 5(b) of the Escrow Agreement. If the foregoing accurately expresses our agreements and understandings, please sign the attached copies of this letter and return one copy to Pegasystems and the other copy to FDR, at the addresses indicated in Section 10(h) of the Escrow Agreement. Very truly yours, Pegasystems Inc First Data Resources Inc. By: ___________________ By: _____________________ AGREED and ACCEPTED: Fort Knox Escrow Services, Inc. By: ________________________ Date: _______________________ 36 EXHIBIT G PEGASYSTEMS' PRICING SCHEDULE Pegasystems will make resources available to FDR at its then-current regular and published rates, less a discount of 15%. Rates for services are subject to supplemental billing for reasonable and actual travel expenses. Rates may change on ninety (90) days written notice, and Pegasystems agrees that its rates will be in line with rates from comparable firms. Pegasystems will make available to FDR slots in its standard training courses at Pegasystems' then-current rates less 15%. Any travel of Pegasystems personnel to be reimbursed by FDR shall be approved in advance by FDR, and shall be undertaken in accordance with FDR's established travel policy, a copy of which is attached hereto as Appendix G-1. FDR may modify its travel policy from time to time at its discretion. Upon completion of approved travel, Pegasystems shall provide to FDR an itemized report of all transportation, hotel accommodation, and other reasonable and necessary living expenses incurred in connection with such travel, and the supporting documentation therefor. 37 APPENDIX G-1 FDR TRAVEL POLICY I. Purpose -- Due to the financial responsibility related with business travel, First Data has established this Policy for travel expenditures and determination of need to travel. The Policy ensures operationally responsive and cost effective uses of business travel and maximizes Company gain from travelers' use of approved vendors. II. Purpose and Scope -- The First Data Smart Travel policy promotes alternatives to trips and cost-efficient travel. The policy currently applies to U.S.-based First Data employees only, and it is to be used in conjunction with the First Data Global Travel & Entertainment Guidelines. (Smart Travel details for international employees will be developed.) III. To stay in compliance with the Smart Travel Policy, all First Data employees must meet these requirements: A. Consider the use of travel alternatives to accomplish your business objective. Alternatives include teleconferencing, Web conferencing, and/or video conferencing. B. Consider use of First Data facility meeting rooms before seeking an off-site location. C. Travel objectives should include revenue generation and/or expense savings for First Data. D. Combine multi-purposes into a single trip when possible. E. If you determine travel is essential, submit a Travel Authorization form. F. Obtain travel approval from a member of the Executive Committee through the Travel Authorization form. G. Book all corporate travel through the designated travel agencies. H. Use the preferred suppliers offered by the designated travel agencies for airline tickets, hotels, and car rentals.* I. Accept the lowest airfare offered by the designated travel agency.* J. Purchase airline tickets as far in advance as possible--no less than seven days in advance of travel.* K. Purchase non-refundable airline tickets that can be used for future travel if your original trip is changed or cancelled.* For a list of preferred travel suppliers, please go to FirstWeb at www.firstweb.1dc.com. Click on Tool Box on the top tool bar and then, under - -------------------- General Tools, choose Corporate Travel. *See the following page for an example of price differences for airline ticket purchases. 38 Example of Airline Ticket Fares When Purchased Under Various Conditions
- ---------------------------------------------------------------------------------------------- Denver To LaGuardia United Frontier American* Best Fare** - ---------------------------------------------------------------------------------------------- Advance Purchase: No $1,686 $1,136 $1,531 Frontier lowest by $550 Saturday Stay: No Refundable - ---------------------------------------------------------------------------------------------- Advance Purchase: No N/A $ 451 N/A Frontier lowest by $1,235 Saturday Stay: No Nonrefundable - ---------------------------------------------------------------------------------------------- Advance Purchase: 7 Day $ 536 $ 451 $ 606 Frontier lowest by $1,235 Saturday Stay: No Nonrefundable - ---------------------------------------------------------------------------------------------- Advance: 14 Day $ 511 $ 257 $ 561 Frontier lowest by $1,429 Saturday Stay: No Nonrefundable - ---------------------------------------------------------------------------------------------- Advance: 21 Day $ 411 $ 230 $ 468 Frontier lowest by $1,456 Saturday Stay: No Nonrefundable - ----------------------------------------------------------------------------------------------
*American has no direct flight from Denver to LaGuardia. Prices based on connecting flights with a window of less than two hours. **Best fare calculations based on highest fare noted of $1,686 (United: No Advance/No Saturday stay over/Refundable). 39 Note 1: There are significant price differences in purchases less than 7 days in advance of travel versus purchases made at least 7 days before travel. Also, there are significant differences in less-than-7-day advance refundable and nonrefundable purchases. Note 2: There is no price change if traveler stays over during the week. The only difference occurs with a Saturday stay over. Note 3: The price break for a Saturday stay over is not significant if the ticket is purchased at least 7 days in advance of travel. 40 EXHIBIT H SOFTWARE LICENSE FEES - -------------------------------------------------------------------------------- MONTH AMOUNT OF PAYMENT - -------------------------------------------------------------------------------- March 2002 $ 1,950,378.85 - -------------------------------------------------------------------------------- April 2002 1,950,378.85 - -------------------------------------------------------------------------------- May 2002 1,950,378.85 - -------------------------------------------------------------------------------- June 2002 1,950,378.85 - -------------------------------------------------------------------------------- July 2002 1,950,378.85 - -------------------------------------------------------------------------------- August 2002 1,950,378.85 - -------------------------------------------------------------------------------- September 2002 1,950,378.85 - -------------------------------------------------------------------------------- October 2002 1,950,378.85 - -------------------------------------------------------------------------------- November 2002 1,950,378.85 - -------------------------------------------------------------------------------- December 2002 1,950,378.85 - -------------------------------------------------------------------------------- January 2003 1,179,545.45 - -------------------------------------------------------------------------------- February 2003 1,179,545.45 - -------------------------------------------------------------------------------- March 2003 1,179,545.45 - -------------------------------------------------------------------------------- April 2003 1,179,545.45 - -------------------------------------------------------------------------------- May 2003 1,179,545.45 - -------------------------------------------------------------------------------- June 2003 1,179,545.45 - -------------------------------------------------------------------------------- July 2003 1,179,545.45 - -------------------------------------------------------------------------------- August 2003 1,179,545.45 - -------------------------------------------------------------------------------- September 2003 1,179,545.45 - -------------------------------------------------------------------------------- October 2003 1,179,545.45 - -------------------------------------------------------------------------------- November 2003 1,179,545.45 - -------------------------------------------------------------------------------- December 2003 1,179,545.45 - -------------------------------------------------------------------------------- 2004+ -0- - -------------------------------------------------------------------------------- 41 EXHIBIT I EXHIBIT I CLIENTS The term "Exhibit I Clients" shall mean and include the five (5) FDR customers --------- with the largest number of Active Accounts, excluding [* - confidential information filed separately with the SEC] and [* - confidential information filed separately with the SEC] and the successor in interest to either of them. Upon execution of this Agreement, FDR will provide Pegasystems a list of the then-current Exhibit I Clients. Thereafter, during the term of this --------- Agreement, FDR will notify Pegasystems of any change in the Exhibit I Clients within fifteen (15) days after the end of a calendar quarter during which such a change occurred. For purposes of Section 5.1(d), for the three (3) year period ------- ----- beginning on the Effective Date, any usage of an Evolve Application by [* - confidential information filed separately with the SEC] shall not count toward the calculation of the Active Account Fee or the Active Account Credit. In addition, until the Active Account Credit is fully satisfied, within fifteen (15) days after the end of a calendar quarter, FDR shall provide a written report to Pegasystems on the amount of unused Active Account Credit referenced in Section 5.1(d) herein and a summary of the fees that would be applied to such Active Account Credit. 42 -----END PRIVACY-ENHANCED MESSAGE-----