-----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, A4sz6m/XbEOqRSAOq3D1mTiq9j08ysbVrys8Imq7RW9fGD7rD2n/waClobzU3jGR KxNdG1pv2M5QAUDWQfCJ+g== 0000930661-97-002718.txt : 19971121 0000930661-97-002718.hdr.sgml : 19971121 ACCESSION NUMBER: 0000930661-97-002718 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 12 CONFORMED PERIOD OF REPORT: 19970930 FILED AS OF DATE: 19971120 SROS: NYSE FILER: COMPANY DATA: COMPANY CONFORMED NAME: STERLING SOFTWARE INC CENTRAL INDEX KEY: 0000716714 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-PREPACKAGED SOFTWARE [7372] IRS NUMBER: 751873956 STATE OF INCORPORATION: DE FISCAL YEAR END: 0930 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 001-08465 FILM NUMBER: 97724719 BUSINESS ADDRESS: STREET 1: 300 CRESCENT COURT STREET 2: SUITE 1200 CITY: DALLAS STATE: TX ZIP: 75201 BUSINESS PHONE: 2149811000 MAIL ADDRESS: STREET 1: 300 CRESCENT COURT STREET 2: SUITE 1200 CITY: DALLAS STATE: TX ZIP: 75201 10-K 1 FORM 10-K - ------------------------------------------------------------------------------- - ------------------------------------------------------------------------------- SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-K [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED SEPTEMBER 30, 1997 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 NO. 1-8465 STERLING SOFTWARE, INC. (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) DELAWARE 75-1873956 (STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.) 300 CRESCENT COURT, SUITE 1200 DALLAS, TEXAS 75201 (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES, INCLUDING ZIP CODE) REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (214) 981-1000 SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT: TITLE OF EACH CLASS NAME OF EACH EXCHANGE ON WHICH REGISTERED ------------------- ----------------------------------------- Common Stock, $0.10 Par Value New York Stock Exchange Rights to Purchase Series A Junior New York Stock Exchange Participating Preferred Stock, $0.10 Par Value SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT: NONE 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 [_] Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [X] The aggregate market value of the Registrant's Common Stock held by non- affiliates of the Registrant was $1,262,736,131, based on the closing sales price of $34 5/16 of the Registrant's Common Stock on the New York Stock Exchange on November 10, 1997. As of November 10, 1997, 38,587,938 shares of the Registrant's Common Stock were outstanding. DOCUMENTS INCORPORATED BY REFERENCE Portions of the proxy statement for the Annual Meeting of Stockholders of the Registrant to be held during 1998 are incorporated by reference in Part III. - ------------------------------------------------------------------------------- - ------------------------------------------------------------------------------- STERLING SOFTWARE, INC. TABLE OF CONTENTS
FORM 10-K ITEM PAGE -------------- ---- PART I. Item 1. Business................................................... 1 Item 2. Properties................................................. 12 Item 3. Legal Proceedings.......................................... 12 Item 4. Submission of Matters to a Vote of Security Holders........ 12 PART II. Item 5. Market for Registrant's Common Equity and Related Stockholder Matters........................................ 13 Item 6. Selected Financial Data.................................... 14 Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.................................. 15 Item 7A. Quantitative and Qualitative Disclosure About Market Risk.. 21 Item 8. Financial Statements and Supplementary Data................ 22 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure................................... 48 PART III. Item 10. Directors and Executive Officers of the Registrant......... 48 Item 11. Executive Compensation..................................... 48 Item 12. Security Ownership of Certain Beneficial Owners and Management................................................. 48 Item 13. Certain Relationships and Related Transactions............. 48 PART IV. Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K........................................................ 49
PART I ITEM 1. BUSINESS. GENERAL Sterling Software, Inc. ("Sterling Software" or the "Company") was founded in 198l and became a publicly owned corporation in l983. Sterling Software is a recognized worldwide supplier of software products and services within three major markets: systems management, applications management and federal systems. Consistent with Sterling Software's decentralized operating structure, major markets are served by independently operated business groups which consist of divisions and business units that focus on specific business niches within those markets. See Notes 5 and 6 of Notes to Consolidated Financial Statements. Sterling Software believes that its decentralized organizational structure promotes operating flexibility, improves responsiveness to customer requirements and focuses management on achieving revenue and operating profit objectives. Sterling Software has historically expanded its operations through internal growth and by business and product acquisitions. In connection with the Company's acquisition of the Software Division of Texas Instruments Incorporated ("TI Software"), on June 30, 1997, the Company reorganized into three highly-focused business groups: the Systems Management Group, the Applications Management Group and the Federal Systems Group. The reorganization resulted in the Systems Management and Applications Management groups assuming direct responsibility for the international distribution of their products. The Company's Federal Systems Group was not significantly affected by the reorganization. As of September 30, 1997, the Company's business groups were organized as follows: . The Systems Management Group, headquartered in Plano, Texas, provides products that enable customers to ensure the quality of service of mission-critical information technology ("IT") applications across enterprise networked computing environments. The group specializes in automation, network management, service desk, storage management and VM systems management products. Linking these products is the group's Business-Centric Automation initiative, a pragmatic, business-focused approach to ensuring the availability and reliability of these applications; . The Applications Management Group, headquartered in Plano, Texas, provides application development products and services for business modeling through code generation, as well as products and services that enable customers to extend the life and usefulness of legacy applications and to facilitate enterprise information access. These software products provide developers the ability to build model-based applications through traditional and object-oriented techniques and to maximize the life, reuse and value of their legacy systems; and . The Federal Systems Group, headquartered in McLean, Virginia, provides specialized IT services to the federal government under numerous multi- year contracts. Major customers of this group include the U.S. Department of Defense ("DoD") and the National Aeronautics and Space Administration ("NASA"). Federal Systems' personnel also serve as a source of technical expertise for other divisions of Sterling Software and provide specialized technical services for non-governmental customers. Worldwide revenue from the Company's Systems Management, Applications Management and Federal Systems Groups represented 38%, 29% and 25%, respectively, of the Company's total 1997 revenue. Revenue from the Company's international operations represented 37% of the Company's 1997 revenue. See Notes 5 and 6 of Notes to Consolidated Financial Statements. On September 30, 1996, Sterling Software completed the spin-off of Sterling Commerce, Inc. ("Sterling Commerce"), which owns and operates the businesses conducted by Sterling Software's former Electronic Commerce Group. The results of operations of Sterling Commerce for 1996 and 1995 have been classified as discontinued operations in the accompanying Consolidated Financial Statements. Through June 30, 1997, the Company sold, marketed and provided first-level support outside of the United States and Canada for Sterling 1 Commerce's interchange and communications software products, the results of which are included in the business segment information presented in the accompanying Consolidated Financial Statements under "Corporate and other". See "Shared Management and Other Relationships with Sterling Commerce" below. A large percentage of Sterling Software's business is recurring business through annual and multi-year product support agreements, generally having terms ranging from one to three years, fixed-term product lease and rental agreements, generally having terms ranging from month-to-month to year-to- year, and multi-year federal contracts generally having terms ranging from one to five years. Recurring revenue represented 52% and 54% of the Company's total revenue in 1997 and 1996, respectively. Sterling Software's customer base includes approximately 95 of the 100 largest, and approximately 400 of the 500 largest, U.S. industrial and service corporations, ranked by 1996 revenues as reported in Fortune magazine. At September 30, 1997, the Company employed approximately 3,100 employees in 85 offices worldwide. The Company has direct sales and marketing offices in 22 countries and distributors and agents in an additional 33 countries. SYSTEMS MANAGEMENT GROUP Effective June 30, 1997, Sterling Software reorganized the Systems Management Group by combining the Company's former Systems Management Group and the related portions of the Company's international operations. The new Systems Management Group, comprised of five divisions and one business unit, provides products that enable customers to ensure the quality of service of mission-critical IT applications across enterprise networked computing environments. The group specializes in automation, network management, service desk, storage management and VM systems management products. Linking these products is the group's Business-Centric Automation initiative, a pragmatic, business-focused approach to ensuring the availability and reliability of these applications. The purpose of Business-Centric Automation is to correlate system and network resources to the business applications that depend on these functions, and to provide the complete context that IT management personnel need to match their activities to the priorities of their business. As of September 30, 1997, the group employed approximately 700 people. Worldwide revenue from the Systems Management Group represented 38% of the Company's revenue during 1997 and 39% of the Company's revenue during both 1996 and 1995. The Operations Management Division provides three product lines under the SOLVE family name. SOLVE:Netmaster automates network management operations across large-scale enterprises. This product family provides management and monitoring of both Systems Network Architecture ("SNA") and Transmission Control Protocol/Internet Protocol ("TCP/IP") networks from one console. The SOLVE:Operations product family provides and participates in enterprise-wide automation solutions, addressing both mainframe (OS/390 and SNA) and distributed (Simple Network Management Protocol ("SNMP") and non-SNMP) systems resources. SOLVE:Operations products are available as standalone products within the OS/390 environment and as plug-in components for three enterprise management platforms: Hewlett-Packard's "OpenView" and "OpenView IT/Operations" and Tivoli's "Tivoli/TME 10 NetView". SOLVE:Operations is the cornerstone of the System Management Group's Business-Centric Automation initiative. The SOLVE:Operations correlation engine maps system and network resources to the services or business functions they support and the service- level requirements and business priorities associated with these services and functions. This product allows customers to monitor and manage resources as elements of their service commitment. SOLVE:Central is an integrated suite of products for running the enterprise IT service desk and is comprised of: SOLVE:Problem for problem tracking and resolution; SOLVE:Change for managing the systems change process; SOLVE:Configuration for tracking software and hardware configuration changes; and SOLVE:Asset for business management of computer assets and the services they deliver. The Storage Management Division provides software products under the SAMS family name. These products manage, monitor and automate data storage in both distributed and centralized environments. SAMS:Vantage is a client/server system that provides comprehensive automation, interactive reporting, analysis 2 and predictive modeling capabilities for enterprise-wide storage. SAMS:Vantage delivers centralized management of distributed storage across OS/390, UNIX, Windows NT and NetWare environments. The SAMS:Vantage storage management approach is designed to remain consistent across platforms and to allow organizations to: manage enterprise data storage in a uniform manner; implement consistent storage management policies and standards; provide centralized management of distributed data; and enforce the protection of critical data, regardless of where it resides. On the OS/390 platform, SAMS:Vantage ties into the division's data management products providing a comprehensive OS/390 storage management suite. The input/output ("I/O") component of SAMS:Vantage, the first I/O performance monitor to work across multiple RAID (redundant array of inexpensive disks) subsystems and DASD (data access storage devices), analyzes I/O performance and recommends device specific solutions to improve response times and increase efficiency. The SAMS family of products also includes SAMS:Disk, a data storage management backup and recovery system; SAMS:Recover, a disaster recovery product that complements IBM's DFHSM product; and SAMS:Allocate, a centralized allocation control system. In addition, in 1997, the division introduced SAMS:Vista, a comprehensive tape management reporting system which enhances tape management systems and assists in the management of robotic tape systems and high capacity tape devices. The VM Software Division, through its VM family of products, provides systems management software and World Wide Web enabling software for IBM's VM/ESA operating system. The VM:Manager product family provides integrated solutions for automated operations, storage management, service-level management, security and disaster recovery and database administration. VM:Manager is designed to enable VM sites to operate at maximum availability with minimal systems administration personnel, thereby controlling costs, improving performance and increasing user productivity. The VM:Webserver product family enables customers to deliver World Wide Web services from the VM operating system and to deliver VM applications and data across intranets or the Internet. VM:Webserver is a World Wide Web server for VM, which allows customers to exploit user-friendly web browsers to deliver mainframe-based information to end-users on any platform. VM:Webserver acts as a repository for home pages and documents created using Hypertext Markup Language ("HTML") and also stores, retrieves, and processes information in various formats, including text, graphics, sound, images, video and Java applets. VM:Webserver for OfficeVision is a turn-key World Wide Web interface to the E-mail and calendaring features of IBM's OfficeVision/VM, a mainframe-based office automation solution. VM:Webserver Gateway, released in 1997, provides a general-purpose, VM-based tool for web-enabling IBM mainframe applications, including those running on OS/390 (or previous versions of MVS) and VSE/ESA. The Systems Management Group's new Europe and Asia Pacific Divisions and the Latin America Operation have responsibility for sales, marketing and first- level support of the group's products outside of the United States and Canada. The Europe Division is responsible for direct and indirect sales and support in Austria, Belgium, Denmark, Finland, France, Germany, Italy, Luxembourg, Norway, Portugal, Spain, Sweden, Switzerland, The Netherlands and the United Kingdom. The division's distributor operation manages agents and distributors in international markets not served by direct operations, including Eastern Europe, the Middle East and South Africa. The Asia Pacific Division is responsible for direct and indirect sales and support in Asia and the Pacific Rim, including Australia, Japan, Malaysia, New Zealand, Singapore and South Korea. The group's Latin America Operation is responsible for direct sales and support of the group's products in Brazil and indirect sales and support in other Latin American markets. APPLICATIONS MANAGEMENT GROUP Effective June 30, 1997, Sterling Software reorganized the Applications Management Group by combining the Company's former Applications Management and Information Management groups, the related portion of the Company's international operations and the business formerly operated by TI Software. The new Applications Management Group, comprised of three divisions, provides application development products and services for business modeling through code generation, as well as products and services that enable customers to extend the life and usefulness of legacy applications and to facilitate enterprise information access. These software products provide developers the ability to build model-based applications through traditional and object- oriented techniques and to maximize the life, reuse and value of their legacy systems. As of September 30, 1997, 3 the group employed approximately 1,100 people. Worldwide revenue from the Company's Applications Management Group represented 29%, 25% and 27% of the Company's revenue during 1997, 1996 and 1995, respectively. The new Applications Development Division markets application development products and services for business modeling through code generation. Its new COOL family of products is designed to provide developers the ability to build model-based applications through traditional and object-oriented techniques. COOL:Biz is a comprehensive business modeling toolset that promotes an understanding of organizations and processes with a "common language" for communicating business needs. The product's methodology for process mapping and job design allows business and IT professionals to work together to design business processes. COOL:Dat supports integrated data, data flow and database modeling. COOL:Dat's conceptual, logical and physical data models are maintained separately to provide flexibility, but are linked so that changes in one are reflected in the others, resulting in integrated modeling and development projects. COOL:Gen is designed to allow developers to model and generate error free code in a structured, repeatable manner. With COOL:Gen, high-level specifications are driven forward into dynamic, scalable applications targeting multiple platforms. COOL:Jex is an object-oriented analysis and design solution supporting the Unified Modeling Language industry standard notation and allows modeling of complex application requirements, driven directly from business requirements. COOL:Cubes, expected to be released in the first-half of 1998, will represent the latest in component based development technology and will contain tools for modeling specifications and architectures, plus component design techniques to maximize reuse of computer software code. The Information Management Division markets products and services under the VISION family name that enable customers to extract value from their existing corporate data and maximize the return on their IT investment by extending the life and usefulness of their legacy applications. By improving existing applications, customers can reconcile their legacy and new development strategies, conserving resources to permit the implementation of required new systems. VISION:Results is an information management and report generation system for IBM enterprise servers and a dynamic complement to COBOL. VISION:Builder and VISION:Transact are application development tools for batch and on-line environments, respectively, that operate on major IBM enterprise server platforms. The VISION:Legacy suite of tools addresses the functions required to assess the quality and maintainability of applications, restructure old COBOL programs, redocument the flow of control through legacy systems and graphically represent the architecture and flow of existing systems. The VISION:Legacy suite of products, including VISION:Inspect, VISION:Assess, VISION:Recode and VISION:Redocument, helps address the "Year 2000" effort with system-wide analysis capabilities and reports to help identify and modify date and date-related fields. The division also offers consulting services in conjunction with its software products to provide customized approaches to address the "Year 2000" issue. In addition, the VISION family of products includes database query and reporting products that monitor and control databases. VISION:Clearaccess facilitates end-user access as a query and reporting tool and VISION:Clearmanage allows database managers to monitor and control database access in a client/server environment. The Applications Management Group's new Applications International Division is responsible for sales, marketing and first-level support of the group's products outside of the United States and Canada. The division operates through three regions, representing Central Europe, Western Europe and Asia Pacific, as well as a distributor operation. The two European regions are responsible for direct sales and support in Austria, Belgium, France, Germany, Holland, Italy, Portugal, Spain, Switzerland and the United Kingdom. The Asia Pacific region is responsible for sales and support in Asia and the Pacific Rim, including Australia, Japan, Malaysia, New Zealand, Singapore and South Korea. The distributor operation manages agents and distributors in international markets not served by direct operations. FEDERAL SYSTEMS GROUP The Federal Systems Group, comprised of two divisions, provides specialized IT services to the federal government under numerous multi-year contracts. In 1997, Sterling Software began its 31st year of service to 4 both NASA and the DoD, the group's major customers. In 1997, the group was performing work under 142 contracts. Federal Systems' personnel also serve as a source of technical expertise for other divisions of Sterling Software and provide specialized technical services for non-governmental customers. As of September 30, 1997, the group employed approximately 1,200 people. Revenue from the Federal Systems Group represented 25% of the Company's revenue during 1997 and 26% of the Company's revenue during both 1996 and 1995. The Information Technology Division provides specialized IT services, generally requiring top secret security clearances, to military command and control, intelligence and weather agencies. The division specializes in data handling, secure communications, networking, systems integration and application development in support of varied technical projects ranging from satellite data collection to counter-terrorism. In 1997, the division expanded its work in weather applications, intelligence applications and command, control and communications through competitively awarded and follow-on contracts. The division also increased its commercial work in electronic image management. The division's computing resources include data processing facilities approved for classified operations and substantial hardware and software configurations to support software life cycle activities in a distributed processing environment. The Scientific Systems Division is a provider of scientific software support and specialized IT services to civil sectors of the federal government, particularly in scientific and engineering areas, and a provider of specialty software products in advanced visualization and virtual reality. The division's contracts include projects for spacecraft imagery, supercomputing outsourcing, systems administration and network security, and applications such as theoretical and experimental aerodynamics, aerospace testing and transportation safety. Under contract to NASA, the division's engineers designed and now operate the NASA Science Internet and developed the prototypes of new knowledge-based air traffic management software which was successfully field-tested by the Federal Aviation Administration at airports in Denver and Dallas/Fort Worth. The division's customers include the Jet Propulsion Laboratory and the NASA Ames, Lewis and Marshall Centers. In 1997, the division was a member of the industry team that won the Stratospheric Observatory for Infrared Astronomy (SOFIA) contract to modify and operate a Boeing 747-carried infrared telescope to conduct scientific astronomy missions. In 1997, the division and its staff received various honors and awards from its customers, including a NASA-Ames Total Quality Management Incentive Award and the nomination of two of the division's developed applications for the NASA 1997 Software of the Year Award. SHARED MANAGEMENT AND OTHER RELATIONSHIPS WITH STERLING COMMERCE The Board of Directors of Sterling Software (the "Board") currently has nine members. Messrs. Sterling L. Williams, Sam Wyly, Charles J. Wyly, Jr. and Evan A. Wyly are officers and directors of Sterling Software and are also directors of Sterling Commerce. In addition, Sterling L. Williams is the Chairman of the Board of Sterling Commerce and Jeannette P. Meier serves as an Executive Vice President of both Sterling Software and of Sterling Commerce. On March 13, 1996, Sterling Commerce completed the initial public offering (the "Offering") of 13,800,000 shares of its common stock, par value $0.01 per share ("Commerce Stock"). In anticipation of the Offering, Sterling Software and Sterling Commerce entered into a number of agreements (the "Intercompany Agreements") for the purpose of defining certain relationships between them. As a result of Sterling Software's then ownership interest in Sterling Commerce, the terms of such Intercompany Agreements were not the result of arm's length negotiation. The Intercompany Agreements included a tax allocation agreement, an indemnification agreement and an international distributor agreement. The tax allocation agreement provides that for periods during which Sterling Commerce and/or its subsidiaries are included in the Company's consolidated federal income tax returns or consolidated, combined or unitary state tax returns, the Company is required to pay to or is entitled to receive from Sterling Commerce its allocable portion of the consolidated federal and state income tax liability or refunds, respectively. The indemnification agreement provides, among other things, that each party thereto (the "Indemnifying Party") will indemnify the other party thereto and its directors, officers, employees, agents and representatives (each, an "Indemnified Party") for liabilities that may be incurred by an 5 Indemnified Party relating to (i) the businesses, operations or assets conducted or owned or formerly conducted or owned by the Indemnifying Party and its subsidiaries (except, in the case where the Company is the Indemnifying Party, the businesses, operations and assets of Sterling Commerce and its subsidiaries) or (ii) the failure by the Indemnifying Party to comply with any other agreements executed in connection with the Offering. In addition, the indemnification agreement provides that Sterling Commerce will indemnify the Company and its directors, officers, employees, agents and representatives for any liabilities resulting from or arising out of certain acts, failures to act or the provision of incorrect factual information by Sterling Commerce in connection with the Internal Revenue Service ("IRS") ruling request that cause Sterling Software's pro rata distribution (the "Distribution") of its remaining ownership interest in Sterling Commerce to be taxable to the Company or its stockholders. The international distributor agreement (the "International Distributor Agreement"), which was terminated effective as of June 30, 1997, defined the terms pursuant to which the Company acted as the exclusive distributor of certain Sterling Commerce products in markets outside the United States and Canada. See Item 7. "Management's Discussion and Analysis of Financial Condition and Results of Operations--Business Combinations, Divestitures and Reorganizations--Termination of International Distributor Agreement" and Note 3 of Notes to Consolidated Financial Statements. Conflicts of interest may arise between Sterling Software and Sterling Commerce in a number of areas relating to such ongoing contractual and other relationships, including potential competitive business activities, tax and employee benefit matters, indemnity arrangements, and the continued service of certain directors and executive officers of each of Sterling Software and Sterling Commerce as directors and executive officers of the other company. The Board will utilize such procedures in evaluating the terms and provisions of any material transactions between Sterling Software and Sterling Commerce and their respective affiliates as the Board may deem appropriate in light of its fiduciary duties under state law. PRODUCT LICENSES Sterling Software's products are generally licensed under perpetual use, fixed-term or usage-based agreements. Sterling Software typically does not sell or otherwise transfer title to its software products. The Company's license agreements generally restrict the use of the product to designated sites or central processing units and prohibit reproduction, transfer or disclosure of the product; however, some license agreements may cover multiple sites or multiple central processing units at one site. In 1997, 1996 and 1995, 43%, 44% and 42%, respectively, of the Company's revenue consisted of products revenue. PRODUCT SUPPORT Product support is available to Sterling Software customers, typically through annual contracts generally priced from 12% to 22% of the then current license fee. Sterling Software's product support contracts allow customers to receive updated versions of Sterling Software's products when and if they become available, as well as bug fixing and Internet and telephone access to Sterling Software's technical personnel. In 1997, 1996, and 1995, 26%, 28% and 29%, respectively, of the Company's revenue consisted of product support revenue. SERVICES Services provided by Sterling Software primarily include specialized IT services in support of federal government contracts provided through the Company's Federal Systems Group. Sterling Software provides training and education in support of its software products, in the form of customer training seminars, videos and instruction materials. Sterling Software also offers product-specific consulting and education services within the Applications Management Group to better enable customers to successfully use the group's products. In 1997, 1996 and 1995, 31%, 28% and 29%, respectively, of the Company's revenue consisted of services revenue. 6 PRODUCT DEVELOPMENT Each domestic division within Sterling Software's Systems Management, Applications Management and Federal Systems groups has its own development function. Sterling Software's product development programs in each of these divisions include the enhancement of existing products and introduction of new products based upon current and anticipated customer needs. The Company believes that this organizational structure facilitates development cost control and focuses the development function on the customer's needs. Approximately 400 of Sterling Software's employees were engaged in product development at September 30, 1997. Gross product development costs in 1997, 1996 and 1995 were $42,421,000, $36,448,000 and $39,359,000, respectively, of which the Company capitalized $19,307,000, $15,527,000 and $11,657,000, respectively, as the cost of developing and testing new or significantly enhanced software products. Most of the products currently offered by the Company are Year 2000 compliant, with the remaining currently offered products expected to become compliant in 1998 through new releases. See Item 7. "Management's Discussion and Analysis of Financial Condition and Results of Operations--Other Matters". SALES AND MARKETING Consistent with its decentralized operating structure, Sterling Software conducts its sales and marketing activities in multiple software divisions focused on specific product markets. Sterling Software sells its products and services through a combination of direct sales and telesales organizations, and in certain foreign countries, through independent agents and distributors. The use of telesales has proven effective in reaching customers at a minimal cost. Each domestic division within the Systems Management and Applications Management groups has its own United States sales and marketing organization. In addition, the Systems Management and Applications Management groups have divisions and business units which focus specifically on the international marketplace for their respective product lines. Additionally, the Federal Systems Group has its own sales organization which focuses specifically on specialized IT service offerings to the federal IT market. CUSTOMERS Sterling Software's customers include approximately 95 of the 100 largest, and approximately 400 of the 500 largest, U.S. industrial and service corporations, ranked by 1996 revenues as reported in Fortune magazine. In the year ended September 30, 1997, agencies, branches, and departments of the federal government accounted for approximately 25% of the Company's consolidated revenue. COMPETITION The computer software and services industry is highly competitive. Sterling Software competes with both large companies with substantially greater resources and small specialized companies that compete in a particular geographic region or market niche. Sterling Software also competes with internal programming staffs of corporations and, increasingly, with hardware manufacturers. Some internal programming staffs of corporations are capable of developing products similar to those offered by the Company. In general, however, the Company believes that the time and costs associated with custom software development significantly exceed the time and costs required to license and install comparable Sterling Software products. Also, competition within the Company's federal business is increasing because of continued federal budget constraints and cutbacks. In addition, continuing consolidation among providers of technical services to the federal government is increasing the size and market presence of many of the Company's competitors in this market segment. Sterling Software believes that its products will continue to be selected by customers due to superior product functionality, reliability and technical support, ease of product installation and use, close integration between the products and customer business applications and, finally, the Company's history of success and reputation for providing quality products. 7 EMPLOYEES Sterling Software's business is dependent upon its ability to attract and retain qualified personnel, who are in limited supply. The Company's operations could be adversely affected if it were to lose the services of a significant number of qualified employees or if it were unable to obtain additional qualified employees when needed. The market for highly qualified personnel in the IT industry is extremely competitive, making it difficult for companies in this industry, including Sterling Software, to attract and retain qualified employees. The Company strives to maintain excellent employee relations, attractive office facilities and challenging working environments, and offers competitive compensation and benefits packages. At September 30, 1997, the Company employed approximately 3,100 people. INTELLECTUAL PROPERTY RIGHTS The Company relies primarily on a combination of copyright, patent and trademark laws, confidentiality procedures and contractual provisions to protect its intellectual property rights. The Company routinely enters into nondisclosure and confidentiality agreements with employees, contractors, consultants, vendors and customers, and its software licenses generally prohibit the unauthorized use or disclosure of the Company's proprietary intellectual property rights. Despite the Company's efforts to protect its proprietary rights, unauthorized parties may attempt to copy aspects of the Company's products or to obtain and use information that the Company regards as proprietary. In addition, the laws of some foreign countries do not protect the Company's proprietary rights to the same extent as the laws of the United States. In general, however, management believes that the competitive position of the Company depends primarily on the skill, knowledge, creativity and experience of Sterling Software's personnel and their ability to develop, market and support software products, and that its business is not materially dependent on copyright protection, trademarks or patents. The Company does not believe that any of its products infringe on the valid proprietary rights of third parties in any material respect. However, a large number of patents, trademarks and copyrights have been, and are being, issued, registered or asserted in the software industry and there can be no assurance that the Company is aware of all such intellectual property rights that may pose a risk of infringement by the Company's products, especially with respect to United States patents, which can cover extremely broad concepts and the applications for which are confidential until the patents are issued. Licenses for a number of software products have been granted to the Company for its own use or for remarketing to its customers. In the aggregate, these licenses are significant to the business of the Company, but the Company believes that the loss of any one of these licenses would not materially affect the Company's financial position or results of operations. The COOL, VISION, SAMS, VM and SOLVE families of product names and the marks "Sterling Software" and "Business-Centric Automation" used herein are registered or unregistered trademarks owned by the Company. BACKLOG Sterling Software's backlog relates principally to the uncompleted portion of multi-year professional services contracts with agencies of the federal government, including renewal options with government agencies, a portion of which is restricted by law to a term ending on the last day of the government agencies' then current fiscal year. Determination of the Company's backlog involves estimation, particularly with respect to customer requirements contracts and multi-year contracts of a cost-reimbursement or incentive nature. A large portion of the Company's federal government contracts is funded for one year or less and is subject to contract award, extension or expiration at different times during the year, and all of the Company's federal government contracts are subject to termination by the government. Based upon past practices, the Company believes that the contract 8 renewal options included in existing contracts will be exercised for the full period designated in such contracts, but no assurance can be given that such contracts will be renewed. Total backlog, including federal government contract renewal options not yet exercised and multi-year product support contracts at September 30, 1997 and 1996, was $240,485,000 and $170,912,000, respectively. Of these amounts, 96% and 97%, respectively, related to federal government sources, primarily in the Company's Federal Systems Group. The dollar value of federal government renewal options not yet exercised or funded included in the Company's total backlog at September 30, 1997 and 1996, was $113,981,000 and $65,951,000, respectively. Approximately $104,019,000 of the September 30, 1997 backlog is expected to be realized in the year ending September 30, 1998. EXECUTIVE OFFICERS The following information regarding the executive and other officers of Sterling Software is as of November 15, 1997.
NAME AGE POSITION --------------------- --- ------------------------------------------------------------------ Sam Wyly 63 Chairman of the Board and Director Charles J. Wyly, Jr. 64 Vice Chairman of the Board and Director Sterling L. Williams 54 President, Chief Executive Officer and Director Geno P. Tolari 54 Executive Vice President and Chief Operating Officer Werner L. Frank 68 Executive Vice President M. Gene Konopik 54 Executive Vice President and Group President Jeannette P. Meier 50 Executive Vice President, Finance and Administration and Secretary F.L. "Mike" Harvey 59 Senior Vice President and Group President Don J. McDermett, Jr. 39 Senior Vice President and General Counsel B. Carole Morton 51 Senior Vice President and Division President Gillian M. Parrillo 50 Senior Vice President and Group President R. Logan Wray 38 Senior Vice President and Chief Financial Officer Ivan S. Hughes(1) 45 Vice President, Organizational Development Pamela L. Isbell(1) 38 Vice President, Financial Planning Julie Kupp(1) 34 Vice President, Investor Relations Evan A. Wyly 35 Vice President and Director Laura Appling(1) 35 Controller Susan D. Tiholiz(1) 49 Treasurer
-------- (1) Although Ivan S. Hughes, Pamela L. Isbell, Julie Kupp, Laura Appling and Susan D. Tiholiz are officers of the Company, the Company does not consider such employees to be "executive officers" of the Company, as that term is defined in regulations promulgated by the Securities and Exchange Commission (the "Commission"). Sam Wyly co-founded Sterling Software in 1981 and since such time has served as Chairman of the Board and a director. In 1963, Mr. Wyly founded University Computing Company, a computer software and services company, and served as President or Chairman from 1963 until 1979. University Computing created a computer utility network, one of the earliest and most successful marriages of computing and telecommunications. University Computing was one of the original participants in the software products industry in the late 1960s when the then market-dominant IBM unbundled computer hardware and software. In 1968, Mr. Wyly founded Datran, Inc., which was envisioned as the nation's first all- digital switched "telephone company for computers" and contributed to the break up of AT&T's telephone monopoly and the resulting benefits of increased competition in the telecommunications industry. These Wyly-founded companies are among the forerunners of today's electronic commerce industry. Mr. Wyly co-founded Earth Resources Company, an oil refining and silver mining company, and served as its Executive Committee Chairman from 1968 to 1980. Mr. Wyly and his brother, Charles J. Wyly, Jr., bought the 20 restaurant Bonanza Steakhouse chain in 1967. It grew to 9 approximately 600 restaurants by 1989, during which time Sam Wyly served as Chairman. Sam Wyly currently serves as Chairman of Michaels Stores, Inc. ("Michaels Stores"), a specialty retail chain (which has grown from 70 to 525 stores in 13 years of Wyly control), a director of Sterling Commerce, and as a partner of Maverick Capital, Ltd., an investment fund management company. Sam Wyly is the father of Evan A. Wyly. Sam Wyly is the Chairman of the Executive Committee and the 1996 Stock Option Committee of the Board. Charles J. Wyly, Jr. co-founded Sterling Software in 1981 and since such time has served as a director, and as Vice Chairman since 1984. He served as an officer and director of University Computing Company, a computer software and services company, from 1964 to 1975, including President from 1969 to 1973. Mr. Wyly and his brother, Sam Wyly, founded Earth Resources Company, an oil refining and silver mining company, and Charles J. Wyly, Jr. served as Chairman of the Board from 1968 to 1980. Mr. Wyly served as Vice Chairman of the Bonanza Steakhouse chain from 1967 to 1989. Mr. Wyly currently serves as Vice Chairman of Michaels Stores and as a director of Sterling Commerce. Charles J. Wyly, Jr. is the father-in-law of Donald R. Miller, Jr., a director of the Company. Mr. Wyly is a member of the Executive Committee and the 1996 Stock Option Committee of the Board. Sterling L. Williams co-founded Sterling Software in 1981 and since such time has served as President, Chief Executive Officer and a director of Sterling Software. Mr. Williams has served as Chairman of the Board and a director of Sterling Commerce since December 1995. From December 1995 to October 1996 Mr. Williams served as Chief Executive Officer of Sterling Commerce. He currently serves as a director of INPUT, an information technology market research company. Mr. Williams is a member of the Executive Committee and the 1996 Stock Option Committee of the Board. Geno P. Tolari has served as an Executive Vice President of Sterling Software since March 1990 and as Chief Operating Officer since April 1996. From November 1986 to March 1990 he served as a Senior Vice President of Sterling Software. Mr. Tolari served as President of the Systems Management Group from December 1994 until February 1997 and as President of the Federal Systems Group from October 1985 until December 1994. Werner L. Frank has served as an Executive Vice President of Sterling Software since April 1996. He served as Executive Vice President, Business Development from December 1994 to April 1996. From October 1984 until December 1994 Mr. Frank served as an Executive Vice President of Sterling Software. From July 1993 until December 1994 Mr. Frank served as President of Sterling Software's former Enterprise Software Group. From 1985 until July 1993 Mr. Frank served as President of Sterling Software's former Systems Software Group. M. Gene Konopik has served as an Executive Vice President of Sterling Software and President of Sterling Software's Federal Systems Group since December 1994. From July 1993 until December 1994 Mr. Konopik served as the President of Sterling Software's Information Technology Division. Prior to July 1993 he served as the President of the former Intelligence and Military Division of Sterling Software. Jeannette P. Meier has served as Executive Vice President, Finance & Administration of Sterling Software since May 1997 and as Secretary since 1985. Prior to May 1997, she served as Executive Vice President (since July 1993), as Chief Financial Officer (since June 1996) and as General Counsel (since 1985) of Sterling Software. Prior to July 1993, Ms. Meier served as Senior Vice President of Sterling Software. Ms. Meier also serves as Executive Vice President of Sterling Commerce. F.L. "Mike" Harvey has served as a Senior Vice President of Sterling Software since June 1997 and as President of the Applications Management Group since October 1996. From March 1993 through June 1997, he served as President of Omega Consulting Group Inc., a software consulting company, and from February 1992 to February 1993 he served as Vice President of Restrac Inc., a human resources software company. Don J. McDermett, Jr. has served as Senior Vice President and General Counsel of Sterling Software since May 1997. From July 1996 until May 1997 he served as Vice President, Legal of Sterling Software. Prior to that 10 time Mr. McDermett was employed for 12 years by Thompson & Knight, P.C., a Dallas-based law firm, having been a senior shareholder in that firm's corporate practice group since 1993. B. Carole Morton has served as a Senior Vice President of Sterling Software and President of Sterling Software's Information Management Division since October 1995. From October 1996 through June 1997 she also served as President of the former Information Management Group. Ms. Morton served as President of Sterling Software's former Applications Engineering Division from December 1994 until October 1995 and President of the former Applications Management Division from July 1993 through November 1994. Prior to July 1993, she served as President of the former Dylakor Division. Gillian M. Parrillo has served as a Senior Vice President of Sterling Software since February 1997 and as President of Sterling Software's Systems Management Group since July 1997. Ms. Parrillo served as Group President of the former International Group from February 1997 until July 1997 and as President of the Storage Management Division from October 1995 until February 1997. She served as President of the former Distributor Division from July 1993 until September 1995. Prior to July 1993, Ms. Parrillo served as Vice President of Distributor Operations for Systems Center, Inc. R. Logan Wray has served as Senior Vice President and Chief Financial Officer of the Company since May 1997. Prior to that time he was employed by Ernst & Young LLP, a national accounting firm, having been a partner in that firm since 1994. Ivan S. Hughes has served as Vice President, Organizational Development of the Company since June 1997. Prior to joining the Company he was employed for 19 years by Texas Instruments Incorporated, where he served as Human Resources Director for TI Software from July 1995 to June 1997 and as Human Resources Director for the European, Middle Eastern and African operations of TI Software from June 1992 to July 1995. Pamela L. Isbell has served as Vice President, Financial Planning of Sterling Software since April 1996. From April 1988 until April 1996 Ms. Isbell served as a Financial Analyst of Sterling Software. Julie G. Kupp has served as Vice President, Investor Relations of Sterling Software since April 1996. From September 1995 to April 1996 Ms. Kupp served as Director, Investor Relations and from April 1995 to September 1995 she served as Senior Financial Analyst of Sterling Software. From December 1993 to April 1995 Ms. Kupp served as Director of Accounting. Prior to December 1993, Ms. Kupp was employed by Ernst & Young LLP, a national accounting firm, most recently as Audit Senior Manager. Evan A. Wyly has served as a director of Sterling Software since July 1992 and as a Vice President of Sterling Software since December 1994. He has been a Managing Partner of Maverick Capital, Ltd., an investment fund management company, since 1991. In 1988, Mr. Wyly founded Premier Partners Incorporated, a private investment firm, and served as President prior to joining Maverick Capital, Ltd. Mr. Wyly also serves as a director of Sterling Commerce and as a director and officer of Michaels Stores, a specialty retail chain. Laura Appling has served as Controller of Sterling Software since April 1996. From July 1993 to April 1996 Ms. Appling served as Vice President, Finance for Sterling Commerce's Banking Systems Group. From October 1992 to July 1993 Ms. Appling served as Senior Financial Analyst for Sterling Software. Susan D. Tiholiz has served as Treasurer of the Company since November 1997. She served as Director of Treasury from June 1996 until November 1997 and as a consultant to the Company from December 1995 to June 1996. Prior to joining the Company, Ms. Tiholiz was employed for 17 years by Atlantic Richfield Company (ARCO), a global energy company, serving in various capacities within finance, treasury and human resources, most recently as a financial manager in its domestic natural gas marketing unit. 11 ITEM 2. PROPERTIES. With its principal executive office located in Dallas, Texas, the Company leases offices and facilities in or near more than 70 cities in the United States and worldwide. Headquarters offices for the Company's groups and divisions are located in the following cities: Bellevue, Nebraska; London, England; McLean, Virginia; Paris, France; Plano, Texas; Rancho Cordova, California; Redwood City, California; Reston, Virginia; Sydney, Australia; and Woodland Hills, California. Other major United States and international facilities are located in Amsterdam, The Netherlands; Atlanta, Georgia; Brussels, Belgium; Dusseldorf, Germany; Herndon, Virginia; Milan, Italy; San Bernardino, California; Tokyo, Japan and Wiesbaden, Germany. ITEM 3. LEGAL PROCEEDINGS. On November 30, 1994, Sterling Software acquired KnowledgeWare, Inc. ("KnowledgeWare"), in a stock-for-stock acquisition. On March 14, 1995, the Commission entered an Order Directing Private Investigation and Designating Officers to take Testimony titled "In the Matter of KnowledgeWare, Inc. (NY- 6231)". The investigation generally relates to (i) trading in KnowledgeWare securities from July 1, 1992 through the time of the stock-for-stock transaction by which Sterling Software acquired KnowledgeWare, (ii) KnowledgeWare's compliance with its Commission filing and reporting obligations and (iii) the adequacy and/or accuracy of KnowledgeWare's public disclosures, recordkeeping and accounting controls. In addition to the potential liability of the Company's wholly owned subsidiary that was the surviving corporation in the KnowledgeWare merger, Sterling Software may have an indemnity obligation with respect to certain individuals who may be subject to the Commission's investigation. While any legal investigation or proceeding involves inherent uncertainty, Sterling Software's management believes based upon presently available information that the ultimate resolution of the Commission's investigation will not materially affect the financial condition or results of operations of the Company. The Company is also subject to certain legal proceedings and claims that arise in the normal course of its business. In the opinion of management, the amount of the liability, if any, ultimately incurred by Sterling Software with respect to any existing proceedings and claims, net of applicable reserves and available insurance, will not materially affect the financial condition or results of operations of the Company. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. The Company did not submit any matters to a vote of security holders during the fourth quarter of the fiscal year covered by this report. 12 PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS. The Company's common stock, par value $0.10 per share ("Common Stock"), is traded on the New York Stock Exchange under the symbol "SSW". The high and low sales prices for the Common Stock for the periods indicated are set forth below.
PRICE RANGE --------------- HIGH LOW ------- ------- Year Ended September 30, 1997(1): Quarter Ended: December 31, 1996............................................ $34 5/8 $28 1/4 March 31, 1997............................................... $32 5/8 $27 1/4 June 30, 1997................................................ $33 5/8 $27 3/8 September 30, 1997........................................... $36 3/4 $30 7/8 Year Ended September 30, 1996: Quarter Ended: December 31, 1995............................................ $62 3/8 $40 March 31, 1996............................................... $72 5/8 $48 3/4 June 30, 1996................................................ $81 3/8 $70 3/8 September 30, 1996........................................... $77 1/2 $62 7/8
- -------- (1) The sales prices for all periods subsequent to September 30, 1996 reflect the tax-free Distribution by Sterling Software of all shares of Commerce Stock held by Sterling Software to record holders of Common Stock on the close of business on that date. Stockholders received 1.59260 shares of Commerce Stock for each share of Common Stock owned as of that date. At November 10, 1997, the Company had approximately 1,022 holders of record of Common Stock. With the exception of the tax-free Distribution of shares of Commerce Stock to the Company's stockholders on September 30, 1996, the Company did not pay dividends on the Common Stock during the two years ended September 30, 1997 and does not expect to pay dividends in the foreseeable future. 13 ITEM 6. SELECTED FINANCIAL DATA. The following selected financial data should be read in conjunction with the consolidated financial statements of the Company included elsewhere herein.
YEARS ENDED SEPTEMBER 30 -------------------------------------------------- 1997(1) 1996 1995(2) 1994 1993(3) ---------- ---------- -------- -------- -------- (IN THOUSANDS, EXCEPT PER SHARE INFORMATION) Operating data: Revenue.................. $ 488,978 $ 439,171 $396,311 $325,903 $303,207 Cost of sales............ 199,806 182,239 160,735 143,889 149,454 Product development and enhancement............. 23,114 20,921 27,702 20,505 20,919 Selling, general and administrative.......... 197,341 175,237 147,552 112,380 115,403 Income from continuing operations before reorganization costs, purchased research and development, other income (expense), income taxes, extraordinary item and cumulative effect of a change in accounting principle.... 68,717 60,774 60,322 49,129 17,431 Reorganization costs..... 106,037 19,512 87,622 Purchased research and development............. 137,849 62,000 Income (loss) from continuing operations before income taxes, extraordinary item and cumulative effect of a change in accounting principle............... (136,396) 84,886 (18,656) 46,346 (73,153) Income (loss) from continuing operations before extraordinary item and cumulative effect of a change in accounting principle.... (132,968) 60,598 (33,656) 30,586 (48,041) Income from discontinued operations, net of taxes................... 51,187 42,930 27,753 15,194 Gain on the initial public offering of subsidiary, net of taxes................... 126,103 Income (loss) applicable to common stockholders.. (132,968) 237,888 9,129 58,143 (38,106) Average common shares outstanding............. 38,494 32,316 23,649 19,812 17,507 Per common share data: Income (loss) from continuing operations before extraordinary item and cumulative effect of a change in accounting principle: Primary................ (3.45) 1.78 (1.43) 1.33 (2.80) Fully diluted.......... (3.45) 1.73 (1.43) 1.29 (2.80) Income (loss) before extraordinary item and cumulative effect of a change in accounting principle: Primary................ (3.45) 6.98 .39 2.54 (1.93) Fully diluted.......... (3.45) 6.65 .39 2.31 (1.93) Net income (loss): Primary................ (3.45) 6.98 .39 2.54 (2.18) Fully diluted.......... (3.45) 6.65 .39 2.31 (2.18) Balance sheet data: Working capital.......... $ 558,746 $ 732,918 $218,713 $122,961 $ 57,106 Total assets............. 1,065,658 1,097,613 657,711 444,661 364,087 Long-term debt........... 116,668 115,932 117,532 Other noncurrent liabili- ties.................... 49,249 36,397 21,845 18,867 18,331 Stockholders' equity..... 748,254 879,491 348,338 175,804 97,697
14 - -------- (1) On June 30, 1997, Sterling Software completed the acquisition of TI Software for approximately $214,774,000 including costs directly related to the acquisition. The acquisition was accounted for in accordance with the purchase method of accounting and, accordingly, the results of operations of TI Software are included in the Company's results of operations from the date of acquisition. The 1997 results of operations include $137,849,000 of purchased research and development costs, which is the portion of the purchase price attributable to in-process research and development and which was charged to expense in accordance with the purchase method of accounting. The 1997 results of operations also include reorganization costs of $106,037,000 primarily related to the reorganization of the Company's operations in connection with the acquisition of TI Software and the termination of the Company's International Distributor Agreement with Sterling Commerce. These reorganization costs also include the write-down of certain excess cost over net assets acquired related to the Company's federal systems business. The tax benefit related to the purchased research and development and reorganization costs was $39,737,000. See Item. 7 "Management's Discussion and Analysis of Financial Condition and Results of Operations--Business Combinations, Divestitures and Reorganizations" and Notes 2 and 3 of Notes to Consolidated Financial Statements. (2) The 1995 results of operations include $62,000,000 of purchased research and development costs charged to expense in accordance with the purchase method of accounting in connection with the merger of the Company with KnowledgeWare, as well as $19,512,000 of reorganization costs primarily related to the reorganization of the Company's operations in connection with the merger. See Note 2 of Notes to Consolidated Financial Statements. (3) The 1993 results of operations include $87,622,000 of reorganization costs primarily related to the reorganization of the Company's operations in connection with the combination of Sterling Software and Systems Center, Inc. ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS. BUSINESS COMBINATIONS, DIVESTITURES AND REORGANIZATIONS Acquisition of TI Software On June 30, 1997, Sterling Software completed the acquisition (the "Acquisition") of certain assets (including the capital stock of certain foreign subsidiaries) of Texas Instruments Incorporated ("Texas Instruments"). Such assets constitute substantially all of the assets used by TI Software in its business of developing, marketing, licensing, supporting and maintaining application development software and providing related consulting services. The results of operations of TI Software are included in the Company's results of operations from the date of the Acquisition. The cash purchase price paid for such assets was $165,000,000 and was funded from the Company's available cash balances. The total cost of the Acquisition was approximately $214,774,000, including costs directly related to the Acquisition of approximately $49,774,000, consisting of employee termination costs, transaction costs, costs associated with the elimination of duplicate facilities and other direct costs. Results of operations for 1997 include $137,849,000 of purchased research and development costs, which is the portion of the purchase price attributed to in-process research and development, and which was charged to expense in accordance with the purchase method of accounting. Termination of International Distributor Agreement Sterling Commerce, formerly a wholly owned subsidiary of Sterling Software formed to operate the business of Sterling Software's former Electronic Commerce Group, completed the Offering of 13,800,000 shares of Commerce Stock on March 13, 1996. In anticipation of the Offering, Sterling Software and Sterling Commerce entered into the International Distributor Agreement pursuant to which Sterling Software acted as the exclusive distributor of certain Sterling Commerce products in markets outside the United States and Canada. Effective as 15 of June 30, 1997, Sterling Software and Sterling Commerce entered into an agreement terminating the International Distributor Agreement. Contemporaneously with such termination, Sterling Software sold to Sterling Commerce certain of the assets formerly used by Sterling Software in connection with the distribution of certain Sterling Commerce products outside the United States and Canada. In addition, Sterling Software and Sterling Commerce entered into certain short-term transitional arrangements relating to facilities sharing and administrative and other services. In consideration of the termination of the International Distributor Agreement and the sale of assets described above, Sterling Commerce (i) paid to Sterling Software $5,226,000 on June 30, 1997, (ii) subsequently paid to Sterling Software $10,076,000, which was equal to the net book value of the acquired assets and (iii) assumed certain liabilities of Sterling Software. Reorganization Costs The Company's results of operations for 1997 include reorganization costs of $106,037,000 primarily related to the reorganization of the Company's operations in connection with the Acquisition and the termination of the Company's International Distributor Agreement with Sterling Commerce. These reorganization costs also include the write-down of certain excess cost over net assets acquired related to the Company's federal systems business. Of the total reorganization costs, approximately $63,726,000 is a non-cash cost and the remaining $42,311,000 requires cash outlays. Currently, the Company does not expect to incur costs related to this reorganization in excess of the amount charged to operations in 1997. SUBSIDIARY INITIAL PUBLIC OFFERING AND SPIN-OFF Sterling Commerce completed the Offering of 13,800,000 shares of Commerce Stock on March 13, 1996. Pursuant to the Offering, Sterling Software sold to the public 12,000,000 of its 73,200,000 shares of Commerce Stock and Sterling Commerce sold 1,800,000 of previously unissued shares of Commerce Stock. The Offering price was $24 per share of Commerce Stock, resulting in net proceeds to Sterling Software of approximately $265,458,000 after deducting underwriting discounts and commissions and Sterling Software's pro rata share of Offering expenses. Sterling Software recorded a gain of approximately $126,103,000, net of tax, from the sale of Commerce Stock in the Offering. On September 30, 1996, Sterling Software completed the spin-off of Sterling Commerce with the pro rata Distribution of its remaining 81.6% ownership in Sterling Commerce to Sterling Software's stockholders by means of a tax-free dividend. Holders of record of Common Stock as of the close of business on September 30, 1996 received 1.59260 shares of Commerce Stock for each share of Common Stock owned on such date. The Distribution resulted in the reduction of Sterling Software's stockholders' equity in the amount of $113,549,000, representing the book value of net assets distributed. RESULTS OF OPERATIONS The results of operations of Sterling Commerce for 1996 and 1995 have been classified as discontinued operations in the accompanying Consolidated Financial Statements. 1997 Compared to 1996 Total revenue increased $49,807,000, or 11%, in 1997 over 1996 due to increases in all three of the Company's business segments. Total revenue generated from Sterling Software's international operations was $179,880,000 and $167,845,000 in 1997 and 1996, respectively, representing an increase of $12,035,000, or 7%, primarily due to increases in the systems management business segment (up 4%) and in the applications management business segment (up 35%). The significant increase in international revenue from the applications management business segment is primarily attributable to revenue from the new Applications International 16 Division, which includes the international operations that were acquired in the Acquisition. The increase in international revenue from Sterling Software's products and services was partially offset by a decline in revenue from sales of Sterling Commerce's interchange and communications software products and services due to the termination of the International Distributor Agreement during 1997. In addition, international operating results were adversely impacted by foreign currency exchange rate fluctuations in 1997, as a result of a stronger U.S. dollar. Had foreign currency exchange rates remained consistent with the previous year, international revenue would have been higher in 1997 by approximately $11,000,000. Revenue from the Company's international operations represented 37% of total revenue for 1997 and 38% for 1996. The Company currently expects revenue from its international operations to constitute a larger percentage of the Company's total revenue in future reporting periods. The Company's recurring revenue includes revenue from product support agreements generally having terms ranging from one to three years, fixed-term product lease and rental agreements generally having terms ranging from month- to-month to year-to-year, and federal contracts generally having terms ranging from one to five years. Like most federal contracts, Sterling Software's federal contracts permit termination by the government for convenience or for failure to obtain funding. Recurring revenue represented 52% of total revenue in 1997 compared to 54% in the 1996. Revenue from the systems management business segment increased $13,875,000, or 8%, in 1997 over 1996 primarily due to an increase of 15% in products revenue partially offset by a slight decline in product support revenue. The increase in products revenue was mainly attributable to strong domestic and international product sales in the operations management and storage management product lines. Approximately 49% of the systems management business segment's 1997 revenue was derived from the Company's international operations, compared to 51% in 1996. Revenue from the applications management business segment increased $33,138,000, or 30% in 1997 over 1996 due to a 20% increase in products revenue, a 13% increase in product support revenue and a 161% increase in services revenue. The significant increase in revenue from the applications management business segment is primarily attributable to revenue from the new Applications Development and Applications International divisions, which include the domestic and international operations that were acquired in the Acquisition. Approximately 37% of the applications management business segment's 1997 revenue was derived from the Company's international operations, compared to 35% in 1996. Revenue from the federal systems business segment increased $9,602,000 or 9%, due to higher contract billings in both the Information Technology Division and the Scientific Systems Division and due to a contract with the intelligence community added to the Company's federal systems business segment as a result of the Acquisition. In June 1997, NASA announced that the Scientific Systems Division was not selected for continuation of a contract with NASA's Ames Research Center for Federal Information Processing Services; however, the selection of another bidder was later rescinded. Although the final outcome of this procurement remains uncertain, the Company continues to perform services for NASA's Ames Research Center under an extension of the existing contract. Total costs and expenses increased $285,750,000 in 1997 compared to 1996. Excluding the Acquisition-related reorganization costs of $106,037,000 and the write-off of purchased research and development costs of $137,849,000 in 1997, total costs and expenses increased $41,864,000, or 11%, in 1997 compared to 1996. Total cost of sales increased $17,567,000, or 10%, in 1997 compared to 1996, commensurate with the increase in revenue. Cost of sales represented 41% of revenue in 1997 and 1996. Product development expense for 1997 was $23,114,000, net of $19,307,000 of capitalized software costs, as compared with 1996 product development expense of $20,921,000, net of $15,527,000 of capitalized software costs. Gross product development expense was 12% of non-federal revenue in 1997 compared with 11% in 1996. Capitalized development costs represented 46% and 43% of gross development costs in 1997 and 1996, 17 respectively. Product development expenses and the capitalization rate historically have fluctuated, and may in the future continue to fluctuate, from period to period depending in part upon the number and status of software development projects which are in process. Selling, general and administrative expense increased $22,104,000, or 13%, in 1997 compared to 1996 and represented 40% of revenue in both 1997 and 1996. Interest expense decreased $2,821,000 in 1997 compared to 1996 due to the redemption in 1996 of the Company's 5.75% Convertible Subordinated Debentures (the "Debentures"). See Note 10 of Notes to Consolidated Financial Statements. Investment income increased $12,048,000 in 1997 over 1996 as a result of higher average cash and cash equivalents and marketable securities balances. The Company's loss from continuing operations before taxes was $136,396,000 in 1997 as compared to income from continuing operations before taxes of $84,886,000 in 1996. Excluding the $137,849,000 charge for purchased research and development and the $106,037,000 of reorganization costs, income from continuing operations before taxes increased $22,604,000, or 27%, in 1997 compared to 1996 primarily due to higher operating profits in all three of the Company's business segments and increases in investment income. The Company's effective tax rate for the year ended September 30, 1997 was 34% before the net tax benefit related to the reorganization costs and purchased research and development costs, as described above, compared to an effective tax rate of 29% for 1996. The effective tax rate benefit for the year ended September 30, 1997 of 3% significantly varies from the U.S. statutory rate due primarily to technology acquired in jurisdictions with a statutory rate below the U.S. rate and the write-down of excess cost over net assets acquired recorded in connection with previous acquisitions. Income from discontinued operations, net, for 1996 represents the classification of the results of operations of Sterling Commerce as discontinued. See Note 3 of Notes to Consolidated Financial Statements. 1996 Compared to 1995 Total revenue increased $42,860,000, or 11%, in 1996 over 1995 due to increases in all three of the Company's business segments as well as increases in sales of certain electronic commerce products internationally. See "Business Combinations, Divestitures and Reorganizations--Termination of International Distributor Agreement". Total revenue generated from Sterling Software's international operations was $167,845,000 in 1996 and $152,026,000 in 1995, representing an increase of $15,819,000, or 10%, over 1995. Had foreign currency exchange rates remained consistent with the previous year, international revenue would have been higher in 1996 by approximately $2,000,000. Revenue from the Company's international operations represented 38% of total revenue in both 1996 and 1995. The Company's recurring revenue, as described above, represented 54% of total revenue in 1996 compared to 55% of total revenue in 1995. Revenue from the systems management business segment increased $16,147,000, or 10%, in 1996 over 1995 primarily due to an increase of 16% in products revenue. Products revenue increased across all product lines. Product support revenue increased 1% primarily due to increases in the storage management and operations management product lines partially offset by declines in the VM product line due to the continuing trend of consolidation and downsizing by customers using the VM operating system. Approximately 51% of the systems management business segment's 1996 revenue was derived from the Company's international operations, compared to 54% in 1995. Revenue from the applications management business segment increased $2,595,000, or 2%, in 1996 over 1995 primarily due to an increase in products revenue in the information management product line partially offset by products and product support revenue declines of approximately $9,200,000 related to products no longer actively marketed and product marketing rights no longer owned in 1996 versus 1995. In addition, the applications management business segment revenue increase was partially offset by decreases in products and product support revenue in the application development product line and by a decline in consulting services 18 revenue due to the elimination of the Consulting Services Division during 1996. Approximately 35% of the applications management business segment's 1996 revenue was derived from the Company's international operations, compared to 39% in 1995. Federal systems revenue increased $10,486,000, or 10%, in 1996 over 1995 primarily due to higher contract billings in the Information Technology Division, offset in part by lower contract billings in the Scientific Systems Division due to the completion of certain contracts at NASA. Total costs and expenses decreased $39,104,000, or 9%, in 1996 compared to 1995. Excluding the reorganization costs of $19,512,000 and purchased research and development costs of $62,000,000, in connection with the merger of the Company with KnowledgeWare in 1995, total costs and expenses increased $42,408,000, or 13%, in 1996 over 1995. Total cost of sales increased $21,504,000, or 13%, in 1996 compared to 1995, commensurate with the increase in total revenue. Cost of sales represented 41% of revenue in both 1996 and 1995. Product development expense for 1996 of $20,921,000, net of $15,527,000 of capitalized software costs, decreased $6,781,000 from 1995 primarily due to a reduction of gross development costs in the applications management business segment. Capitalized development costs represented 43% and 30% of gross development costs for 1996 and 1995, respectively. The higher capitalization rate is due to a greater number of development projects having reached technological feasibility in 1996 compared to 1995. Product development expenses and the capitalization rate historically have fluctuated, and may in the future continue to fluctuate, from period to period depending in part upon the number and status of software development projects which are in process. Selling, general and administrative expense increased $27,685,000, or 19%, in 1996 over 1995 primarily due to increased sales, marketing and customer support activities supporting revenue growth in the Company's international operations offset by declines in the applications management business segment. Interest expense decreased $5,221,000 in 1996 compared to 1995 primarily due to the redemption in 1996 of the Debentures. See Note 10 of Notes to Consolidated Financial Statements. Investment income in 1996 increased $17,857,000 over 1995 as a result of higher average cash and cash equivalents and marketable securities balances primarily resulting from the net proceeds from the Offering of approximately $265,458,000 and the proceeds from the exercise of stock options and warrants of approximately $276,637,000. Income from continuing operations before income taxes in 1996 was $84,886,000 compared to a loss from continuing operations before income taxes in 1995 of $18,656,000. The loss from continuing operations before income taxes in 1995 is due to reorganization costs of $19,512,000 and $62,000,000 of purchased research and development costs related to the merger with KnowledgeWare and expensed in accordance with the purchase method of accounting. Excluding the reorganization costs and the write-off of purchased research and development costs in 1995, income from continuing operations before income taxes increased $22,030,000, or 35%, over 1995, primarily due to higher profits in the systems management and federal systems business segments partially offset by lower profits in the applications management business segment and losses from the sale of certain electronic commerce products internationally. LIQUIDITY AND CAPITAL RESOURCES The Company maintained a strong liquidity and financial position with $558,746,000 of working capital at September 30, 1997, which includes $435,726,000 of cash and equivalents and $206,965,000 of marketable securities. For the year, net cash flows from operations were $124,703,000. Cash flows from operations, together with other available cash, were used to fund the Acquisition and related costs and to fund additions to property and equipment and capitalized software. The total cost of the Acquisition was approximately $214,774,000, including costs directly related to the Acquisition of approximately $49,774,000. The Company's 1997 results of operations include reorganization costs of $106,037,000 primarily related to the reorganization of the Company's operations in connection with 19 the Acquisition and the termination of the International Distributor Agreement with Sterling Commerce. Of the total reorganization costs, approximately $63,726,000 consisted of non-cash costs and the remaining $42,311,000 required cash outlays. Of the aggregate $92,085,000 of costs directly related to the Acquisition and reorganization costs requiring cash outlays, approximately $40,539,000 had been paid at September 30, 1997. Capitalized software expenditures in 1997 were $19,418,000, primarily for the development of the Company's products and enhancements, compared to $15,852,000 in 1996. Effective July 1, 1997, the Company entered into an amended Revolving Credit Agreement ("Credit Agreement") with an unsecured borrowing capacity of $35,000,000. The Credit Agreement requires that certain financial ratios be maintained. Borrowings under the Credit Agreement will bear interest at the lower of the lender's base rate or the Eurodollar lending rate plus one-half percent and will mature on June 30, 2000. No amounts were borrowed during 1997 or outstanding under the Credit Agreement at September 30, 1997. At September 30, 1997, after the utilization of approximately $1,443,000 for standby letters of credit, approximately $33,557,000 was available for borrowing under the Credit Agreement. Certain of the Company's foreign subsidiaries have separate lines of credit totaling $21,305,000 that are used for foreign exchange exposure management and working capital requirements. These lines of credit are guaranteed by Sterling Software, Inc. At September 30, 1997, $1,081,000 was outstanding pursuant to these foreign lines of credit. During 1996, Sterling Software received proceeds of approximately $276,637,000 from the exercise of approximately 9,222,000 employee stock options and warrants. Also in 1996, the Company sold to the public 12,000,000 of its 73,200,000 shares of Commerce Stock resulting in net proceeds to the Company of approximately $265,458,000, after deducting underwriting discounts and commissions and the Company's pro rata share of Offering expenses. On December 20, 1995, the Company gave notice of the redemption of all of the $114,922,000 then outstanding principal amount of the Debentures, effective February 12, 1996. Approximately $114,912,000 principal amount of the Debentures were converted into 4,056,000 shares of Common Stock. On October 2, 1995, the Company renewed a share repurchase program authorizing the repurchase of shares of its Common Stock from time to time through open-market transactions. From October 2, 1995 to March 31, 1996, approximately 1,336,000 shares of Common Stock were repurchased under the program for an aggregate purchase price of approximately $59,372,000. No shares of Common Stock have been repurchased subsequent to March 31, 1996, and it is the Company's present intention not to resume the repurchase of Common Stock. At September 30, 1997, the Company's existing capital commitments consisted primarily of commitments under lease arrangements for office space and equipment. The Company intends to meet such obligations primarily from cash flow from operations. The Company believes available cash balances, cash equivalents and short-term investments combined with cash flows from operations and amounts available under existing credit agreements are sufficient to meet the Company's cash requirements for the foreseeable future. OTHER MATTERS Demand for many of the Company's products tends to increase with increases in the rate of inflation as customers strive to improve employee productivity and reduce costs. However, the effect of inflation on the Company's relatively labor intensive cost structure could adversely affect its results of operations to the extent the Company is unable to recover increased operating costs through increased prices for, or increased sales of, its products and services. The assets and liabilities of the Company's non-U.S. operations are translated into U.S. dollars at exchange rates in effect as of the respective balance sheet dates, and revenue and expense accounts of these operations are translated at average exchange rates during the month the transactions occur. Unrealized translation gains and losses are included as an adjustment to retained earnings. The Company has mitigated a portion of its currency 20 exposure through decentralized sales, marketing and support operations and through international development facilities, in which substantially all costs are local-currency based. In the past, the Company has entered, and may in the future enter into, hedging transactions in an effort to reduce its exposure to currency exchange risks. The Company maintains a strategy of seeking to acquire businesses and products to fill strategic market niches. This acquisition strategy has contributed in part to the Company's growth in revenue and operating profit before reorganization and purchased research and development costs. The impact of future acquisitions on continued growth in revenue and operating profit cannot presently be determined. As widely reported, all users of IT systems are contending with the "Year 2000" compliance issue, i.e., the issue of whether those systems are capable of processing without error or interruption date-related data from more than one century. The Company does not expect to incur significant expense in ensuring that its internal IT systems are Year 2000 compliant, nor does it anticipate any significant difficulties in attaining such compliance. In addition, most of the products currently offered by the Company are Year 2000 compliant, with the remaining currently offered products expected to become compliant in 1998 through new releases. Because Year 2000 compliance is integrated into its normal product development activities, the Company does not expect to incur any significant incremental expense in addressing the Year 2000 compliance issue in its products. The Company's products operate on and in IT systems consisting of third party hardware and software, some of which may not be fully Year 2000 compliant. Regardless of whether the Company's products are Year 2000 compliant, there can be no assurance that customers will not assert Year 2000 related claims against the Company. FORWARD-LOOKING INFORMATION This report and other reports and statements filed by the Company from time to time with the Securities and Exchange Commission (collectively, "SEC Filings") contain, or may contain, certain forward-looking statements and information that are based on the beliefs of, and information currently available to, the Company's management, as well as estimates and assumptions made by the Company's management. When used in SEC Filings, words such as "anticipate," "believe," "estimate," "expect," "future," "intend," "plan" and similar expressions, as they relate to Sterling Software or Sterling Software's management, identify forward-looking statements. Such statements reflect the current views of Sterling Software with respect to future events and are subject to certain risks, uncertainties and assumptions relating to Sterling Software's operations and results of operations, competitive factors and pricing pressures, shifts in market demand, the performance and needs of the industries served by Sterling Software, the costs of product development and other risks and uncertainties, including, in addition to any uncertainties specifically identified in the text surrounding such statements, uncertainties with respect to changes or developments in social, economic, business, industry, market, legal and regulatory circumstances and conditions and actions taken or omitted to be taken by third parties, including the Company's stockholders, customers, suppliers, business partners, competitors, and legislative, regulatory, judicial and other governmental authorities and officials. Should one or more of these risks or uncertainties materialize, or should the underlying estimates or assumptions prove incorrect, actual results or outcomes may vary significantly from those anticipated, believed, estimated, expected, intended or planned. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK. Not required. 21 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA. STERLING SOFTWARE, INC. INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
PAGE ---- Report of Independent Auditors............................................ 23 Consolidated Financial Statements: Consolidated Balance Sheets as of September 30, 1997 and 1996........... 24 Consolidated Statements of Operations for the Years Ended September 30, 1997, 1996 and 1995.................................................... 25 Consolidated Statements of Stockholders' Equity for the Years Ended September 30, 1997, 1996 and 1995...................................... 26 Consolidated Statements of Cash Flows for the Years Ended September 30, 1997, 1996 and 1995.................................................... 27 Notes to Consolidated Financial Statements.............................. 28
22 REPORT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS The Board of Directors and Stockholders Sterling Software, Inc. We have audited the accompanying consolidated balance sheets of Sterling Software, Inc. (the "Company") as of September 30, 1997 and 1996, and the related consolidated statements of operations, stockholders' equity, and cash flows for each of the three years in the period ended September 30, 1997. Our audits also included the financial statement schedule listed under Item 14(a) of the Company's Annual Report on Form 10-K for the year ended September 30, 1997. These financial statements and schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and schedule based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of the Company at September 30, 1997 and 1996, and the consolidated results of its operations and its cash flows for each of the three years in the period ended September 30, 1997 in conformity with generally accepted accounting principles. Also, in our opinion, the related financial statement schedule, when considered in relation to the basic financial statements taken as a whole, presents fairly in all material respects the information set forth therein. /s/ Ernst & Young LLP Dallas, Texas November 7, 1997 23 STERLING SOFTWARE, INC. CONSOLIDATED BALANCE SHEETS SEPTEMBER 30, 1997 AND 1996 (IN THOUSANDS, EXCEPT SHARE INFORMATION)
1997 1996 ---------- ---------- ASSETS Current assets: Cash and cash equivalents........................... $ 435,726 $ 524,237 Marketable securities............................... 206,965 231,919 Accounts and notes receivable, net.................. 149,422 133,383 Income tax receivable............................... 9,941 8,000 Prepaid expenses and other current assets........... 24,847 17,104 ---------- ---------- Total current assets.............................. 826,901 914,643 Property and equipment, net........................... 48,598 39,330 Computer software, net of accumulated amortization of $87,258 in 1997 and $84,099 in 1996.................. 70,422 57,488 Excess cost over net assets acquired, net of accumulated amortization of $20,650 in 1997 and $26,128 in 1996...................................... 84,701 69,504 Noncurrent deferred income taxes...................... 22,130 2,986 Other assets.......................................... 12,906 13,662 ---------- ---------- $1,065,658 $1,097,613 ========== ========== LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Accounts payable and accrued liabilities............ $ 172,700 $ 77,737 Amounts due to Sterling Commerce, Inc............... 35,134 Deferred revenue.................................... 95,455 68,854 ---------- ---------- Total current liabilities......................... 268,155 181,725 Noncurrent deferred revenue........................... 20,432 15,778 Other noncurrent liabilities.......................... 28,817 20,619 Contingencies and commitments Stockholders' equity: Common stock, $.10 par value; 75,000,000 shares authorized; 39,904,000 and 39,807,000 shares issued in 1997 and 1996, respectively..................... 3,990 3,981 Additional paid-in capital.......................... 806,021 804,451 Retained earnings (deficit)......................... (3,506) 130,156 Less treasury stock, at cost; 1,352,000 and 1,372,000 shares in 1997 and 1996, respectively.... (58,251) (59,097) ---------- ---------- Total stockholders' equity........................ 748,254 879,491 ---------- ---------- $1,065,658 $1,097,613 ========== ==========
See accompanying notes. 24 STERLING SOFTWARE, INC. CONSOLIDATED STATEMENTS OF OPERATIONS YEARS ENDED SEPTEMBER 30, 1997, 1996 AND 1995 (IN THOUSANDS, EXCEPT PER SHARE INFORMATION)
1997 1996 1995 --------- -------- -------- Revenue: Products..................................... $ 210,434 $192,464 $168,300 Product support.............................. 129,426 123,401 113,752 Services..................................... 149,118 123,306 114,259 --------- -------- -------- 488,978 439,171 396,311 Costs and expenses: Cost of sales: Products and product support................. 69,783 72,201 57,726 Services..................................... 130,023 110,038 103,009 --------- -------- -------- 199,806 182,239 160,735 Product development and enhancement.......... 23,114 20,921 27,702 Selling, general and administrative.......... 197,341 175,237 147,552 Reorganization costs......................... 106,037 19,512 Purchased research and development........... 137,849 62,000 --------- -------- -------- 664,147 378,397 417,501 --------- -------- -------- Income (loss) from continuing operations before other income (expense) and income taxes....... (175,169) 60,774 (21,190) Other income (expense): Interest expense............................. (540) (3,361) (8,582) Investment income............................ 38,902 26,854 8,997 Other........................................ 411 619 2,119 --------- -------- -------- 38,773 24,112 2,534 --------- -------- -------- Income (loss) from continuing operations before income taxes.................................. (136,396) 84,886 (18,656) Provision (benefit) for income taxes........... (3,428) 24,288 15,000 --------- -------- -------- Income (loss) from continuing operations....... (132,968) 60,598 (33,656) Discontinued operations, net of applicable in- come taxes: Income from discontinued operations, net...... 51,187 42,930 Gain on the initial public offering of subsid- iary, net.................................... 126,103 --------- -------- -------- 177,290 42,930 --------- -------- -------- Net income (loss).............................. (132,968) 237,888 9,274 Preferred stock dividends...................... 145 --------- -------- -------- Income (loss) applicable to common stockhold- ers........................................... $(132,968) $237,888 $ 9,129 ========= ======== ======== Income (loss) per common share: Income (loss) from continuing operations Primary.................................... $ (3.45) $ 1.78 $ (1.43) ========= ======== ======== Fully diluted.............................. $ (3.45) $ 1.73 $ (1.43) ========= ======== ======== Net income (loss) Primary.................................... $ (3.45) $ 6.98 $ .39 ========= ======== ======== Fully diluted.............................. $ (3.45) $ 6.65 $ .39 ========= ======== ========
See accompanying notes. 25 CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY YEARS ENDED SEPTEMBER 30, 1997, 1996 AND 1995 (IN THOUSANDS)
PREFERRED STOCK COMMON STOCK TREASURY STOCK ------------------ -------------- ---------------- NUMBER NUMBER ADDITIONAL RETAINED NUMBER TOTAL OF PAR OF PAR PAID-IN EARNINGS OF STOCKHOLDERS' SHARES VALUE SHARES VALUE CAPITAL (DEFICIT) SHARES COST EQUITY -------- ------- ------ ------ ---------- --------- ------ -------- ------------- Balance at September 30, 1994.. 200 $ 20 22,378 $2,238 $192,064 $ 572 1,793 $(19,090) $175,804 Net income.................... 9,274 9,274 Preferred stock dividends..... (145) (145) Issuance of common stock and treasury stock for acquisition, net of issuance costs........................ 720 72 55,515 (1,701) 18,111 73,698 Issuance of common stock pursuant to stock options and warrants, including tax benefit of $25,251........... 3,431 343 88,505 88,848 Issuance of common stock to retirement plan.............. 607 (28) 304 911 Other......................... (200) (20) 61 (186) (8) 93 (52) -------- ------- ------ ------ -------- -------- ------ -------- -------- Balance at September 30, 1995.. 26,529 2,653 336,752 9,515 56 (582) 348,338 Net income.................... 237,888 237,888 Acquisition of common stock for treasury................. 1,336 (59,372) (59,372) Issuance of common stock pursuant to stock options and warrants, including tax benefit of $47,112........... 9,222 922 322,827 323,749 Issuance of common stock pursuant to conversion of 5.75 % Debentures............ 4,056 406 111,970 112,376 Proceeds from subsidiary initial public offering, net of minority interest of $7,382....................... 32,736 32,736 Distribution of subsidiary.... (113,549) (113,549) Issuance of common stock to retirement plan.............. 127 (20) 857 984 Adjustment to unrealized gains (losses) on available- for-sale securities, net of tax.......................... (1,178) (1,178) Other......................... 39 (2,520) (2,481) ------ ------ -------- -------- ------ -------- -------- Balance at September 30, 1996.. 39,807 3,981 804,451 130,156 1,372 (59,097) 879,491 Net loss...................... (132,968) (132,968) Issuance of common stock pursuant to stock options, including tax benefit of $450......................... 104 10 1,865 1,875 Issuance of common stock to retirement plan.............. (295) (20) 845 550 Adjustment to unrealized gains (losses) on available- for-sale securities, net of tax.......................... 2,381 2,381 Other......................... (7) (1) (3,075) 1 (3,075) ------ ------ -------- -------- ------ -------- -------- Balance at September 30, 1997.. 39,904 $3,990 $806,021 $ (3,506) 1,352 $(58,251) $748,254 ====== ====== ======== ======== ====== ======== ========
See accompanying notes. 26 STERLING SOFTWARE, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS YEARS ENDED SEPTEMBER 30, 1997, 1996 AND 1995 (IN THOUSANDS)
1997 1996 1995 --------- -------- -------- Operating activities: Net income (loss)............................. $(132,968) $237,888 $ 9,274 Less: Income from discontinued operations..... (177,290) (42,930) --------- -------- -------- Income (loss) from continuing operations...... (132,968) 60,598 (33,656) Adjustments to reconcile income (loss) from continuing operations to net cash provided by operating activities: Depreciation and amortization............... 34,520 31,599 27,916 Provision for losses on accounts receivable................................. 3,950 4,857 4,351 (Benefit) provision for deferred income taxes...................................... (19,145) 11,411 9,851 Purchased research and development.......... 137,849 62,000 Reorganization costs........................ 63,726 8,925 Changes in operating assets and liabilities, net of effects of business acquisitions: Decrease (increase) in accounts and notes receivable............................... 28,294 (3,153) (25,757) (Decrease) increase in amounts due to Sterling Commerce, Inc. ................. (35,134) 35,134 Increase in prepaid expenses and other assets................................... (1,095) (16,109) (4,973) Increase (decrease) in accounts payable, accrued liabilities and income taxes payable.................................. 38,034 (61,541) (4,852) Increase in deferred revenue.............. 183 546 9,088 Other..................................... 6,489 (2,181) 146 --------- -------- -------- Net cash provided by operating activities............................. 124,703 61,161 53,039 Investing activities: Purchases of property and equipment........... (26,631) (11,991) (22,467) Purchases and capitalized cost of development of computer software......................... (19,418) (15,852) (12,287) Business acquisitions, net of cash acquired... (194,871) (7,001) (15,090) Purchases of investments...................... (255,888) (576,299) (143,827) Proceeds from sales of investments............ 284,703 406,072 129,749 Other......................................... 584 379 (88) --------- -------- -------- Net cash used in investing activities... (211,521) (204,692) (64,010) Financing activities: Purchases of treasury stock................... (59,372) Preferred stock dividends..................... (145) Retirement and redemption of debt and capital lease obligations............................ (7,483) (13,222) (73,128) Proceeds from issuance of debt, net of issuance costs............................... 8,166 6,014 68,832 Net proceeds from subsidiary public offering.. 265,458 Proceeds from issuance of common stock pursuant to the exercise of stock options and warrants..................................... 1,425 276,637 63,597 Other......................................... (1,487) (4,162) (3,270) --------- -------- -------- Net cash provided by financing activities............................. 621 471,353 55,886 Cash flows provided by discontinued operations.. 17,819 32,354 Effect of foreign currency exchange rate changes on cash........................................ (2,314) (314) 127 --------- -------- -------- (Decrease) increase in cash and equivalents..... (88,511) 345,327 77,396 Cash and cash equivalents at beginning of year.. 524,237 178,910 101,514 --------- -------- -------- Cash and cash equivalents at end of year........ $ 435,726 $524,237 $178,910 ========= ======== ======== Supplemental cash flow information: Interest paid................................. $ 540 $ 4,453 $ 7,968 ========= ======== ======== Income taxes paid............................. $ 6,308 $ 91,902 $ 10,243 ========= ======== ========
See accompanying notes. 27 STERLING SOFTWARE, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS SEPTEMBER 30, 1997, 1996 AND 1995 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES The Company Sterling Software, Inc. ("Sterling Software" or the "Company") was founded in 198l and became a publicly owned corporation in 1983. Sterling Software is a recognized worldwide supplier of software products and services within three major markets: systems management, applications management and federal systems. Consistent with Sterling Software's decentralized operating structure, major markets are served by independently operated business groups which consist of divisions and business units that focus on specific business niches within those markets. Sterling Software believes that its decentralized organizational structure promotes operating flexibility, improves responsiveness to customer requirements and focuses management on achieving revenue and operating profit objectives. Sterling Software has historically expanded its operations through internal growth and by business and product acquisitions. Basis of Presentation The consolidated financial statements include the accounts of Sterling Software after elimination of all significant intercompany balances and transactions. Certain amounts for periods ended prior to September 30, 1997, have been reclassified to conform to the current year presentation. The financial statements have been prepared in conformity with generally accepted accounting principles which require management to make estimates and assumptions that affect the reported amounts of assets, liabilities and the disclosure of contingencies at September 30, 1997 and 1996 and the results of operations for the years ended September 30, 1997, 1996 and 1995. While management has based their assumptions and estimates on the facts and circumstances currently known, final amounts may differ from such estimates. Revenue Revenue from license fees, including leasing transactions, for standard software products is recognized when the software is delivered, provided no significant future vendor obligations exist and collection is probable. Service revenue and revenue from products involving installation or other services are recognized as the services are performed. Product support contracts allow customers to receive updated versions of Sterling Software's products when and if they become available, as well as bug fixing, and Internet and telephone access to the Company's technical personnel. Revenue from product support contracts, including product support included in initial license fees, is recognized ratably over the contract period. All significant costs and expenses associated with product support contracts are expensed ratably over the contract period. If software product transactions include the right to receive future products, a portion of the software product revenue is deferred and recognized as products are delivered. Contract accounting is applied for sales of software products requiring significant modification or customization, such that revenue is recognized only when the modification or customization is complete. When products, product support, and services are billed prior to the time the related revenue is recognized, deferred revenue is recorded and related costs paid in advance are deferred. Revenue from specialized information technology ("IT") services provided to the federal government under multi-year contracts is recognized as the services are performed. Revenue for services provided under other long-term contracts is recognized using the percentage-of-completion method of accounting. Losses on long-term 28 contracts are recognized when the current estimate of total contract costs indicates a loss on a contract is probable. Software Development Costs The Company capitalizes the costs of developing and testing new or significantly enhanced software products in accordance with the provisions of Statement of Financial Accounting Standard No. 86 ("FAS 86"), "Accounting for the Costs of Computer Software to be Sold, Leased or Otherwise Marketed". Unamortized software development costs of $40,116,000 and $36,242,000 are included in "Computer software, net" at September 30, 1997 and 1996, respectively. Pursuant to FAS 86, costs are capitalized when technological feasibility of the product is established. Technological feasibility is established either upon the completion of a detailed program design or the completion of a working model. The establishment of technological feasibility and the ongoing assessment of recoverability of capitalized software development costs require judgment by management with respect to certain external factors, including, but not limited to, anticipated future revenues, estimated economic life and changes in software and hardware technologies. Software development capitalized costs include, among other things, programmers salaries and benefits, outside contractor costs, computer time and allocated facilities costs. Depreciation and Amortization Property and equipment are recorded at cost and depreciated using the straight-line method over average useful lives of three to 20 years. Computer software costs are amortized on a product-by-product basis using the greater of the amount computed by taking the ratio of current year net revenue to estimated future net revenue or the amount computed by the straight-line method over periods ranging from three to seven years. Excess costs over the net assets of businesses acquired are amortized on a straight-line basis over periods of seven to 40 years. Other intangible assets are amortized on a straight-line basis over periods of three to ten years. Depreciation and amortization consists of the following for the years ended September 30, 1997, 1996 and 1995 (in thousands):
1997 1996 1995 ------- ------- ------- Property and equipment............................. $13,644 $11,463 $ 9,922 Purchased computer software........................ 6,731 5,926 4,203 Capitalized computer software development costs.... 9,605 7,871 8,505 Excess costs over net assets of businesses ac- quired............................................ 4,278 5,839 4,894 Intangible assets.................................. 262 500 392 ------- ------- ------- $34,520 $31,599 $27,916 ======= ======= =======
Income Taxes The Company's income taxes are presented in accordance with the provisions of Statement of Financial Accounting Standard No. 109 ("FAS 109"), "Accounting for Income Taxes," which requires the use of the asset and liability method of accounting for income taxes. Under the asset and liability method, a deferred tax asset or liability is recognized for estimated future tax effects attributable to temporary differences and carryforwards. The measurement of deferred income tax assets is adjusted by a valuation allowance, if necessary, to recognize future tax benefit only to the extent, based on available evidence, it is more likely than not it will be realized. Stock Options The Company has elected to follow Accounting Principles Board Opinion No. 25 ("APB 25"), "Accounting for Stock Issued to Employees," in accounting for its employee stock options and stock based 29 awards. Under APB 25, if the exercise price of an employee's stock option equals or exceeds the market price of the underlying stock on the date of grant, no compensation expense is recognized. The Company will provide pro forma disclosures as required under Statement of Financial Accounting Standard No. 123 ("FAS 123"), "Accounting for Stock-Based Compensation". Earnings Per Common Share Primary earnings per common share data is computed using the weighted average number of common shares and common share equivalents represented by stock options and warrants, if such stock options and warrants have a dilutive effect in the aggregate. For purposes of this computation, income applicable to common stockholders is adjusted to reflect use of net cash proceeds on the assumed exercise of stock options and warrants to purchase outstanding long-term debt or government securities, if such stock options and warrants have a dilutive effect in the aggregate. For the years ended September 30, 1997 and 1995, the net loss per common share calculations for such periods is based on the weighted average number of common shares outstanding during the year. The numbers of shares used in the computations of net loss per common share was 38,494,000 and 23,649,000 for the years ended September 30, 1997 and 1995, respectively. The numbers of shares used in the computations of primary and fully diluted income per common share for the year ended September 30, 1996 were 34,071,000 and 36,045,000, respectively. In February 1997, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standard No. 128 ("FAS 128"), "Earnings Per Share," which is required to be adopted for both interim and annual financial statements for periods ending after December 15, 1997. At that time, the Company will be required to change the method currently used to compute earnings per share and to restate all prior periods. This change is expected to result in restated earnings per share as follows:
YEARS ENDED SEPTEMBER 30 -------------------- 1997 1996 1995 ------ ----- ------ Income (loss) from continuing operations: Basic............................................... $(3.45) $1.88 $(1.43) Diluted............................................. $(3.45) $1.75 $(1.43) Net income (loss): Basic............................................... $(3.45) $7.36 $ .39 Diluted............................................. $(3.45) $6.73 $ .39
Foreign Currency Translation The assets and liabilities of the Company's non-U.S. operations are translated into U.S. dollars at exchange rates in effect as of the respective balance sheet dates, and revenue and expense accounts of these operations are translated at average exchange rates during the month the transactions occur. Unrealized translation gains and losses are included as an adjustment to retained earnings. Cash and Equivalents Cash equivalents consist primarily of highly liquid investments in investment-grade commercial paper of various issuers and repurchase agreements backed by U.S. Treasury securities, with maturities of three months or less when purchased. Cash equivalents are recorded at fair value. Marketable Securities and Other Investments The Company currently invests excess cash in a diversified portfolio of marketable securities consisting of a variety of investment-grade securities, including commercial paper, medium-term notes, U.S. government 30 obligations and certificates of deposit. The fair values for marketable securities are based on quoted market prices. All marketable securities and long-term investments are classified as available-for-sale securities. Unrealized holding gains and losses on securities available-for-sale are recorded as a component of stockholders' equity, net of any related tax effect. The amortized cost of debt securities in this category is adjusted for amortization of premiums and accretion of discounts to maturity. Such amortization is included in investment income. Realized gains and losses and declines in values judged to be other-than- temporary, if any, on available-for-sale securities are included in investment income. Excess Cost Over Net Assets Acquired Excess cost over net assets acquired is amortized on a straight-line basis over periods of seven to 40 years. The carrying amount of such costs which are not associated with other assets acquired in a purchase business combination is reviewed by management if facts and circumstances suggest that such amount may be impaired. If this review indicates that the costs will not be recoverable, as determined based on the estimated discounted future cash flows of the entity acquired over the remaining amortization period, the carrying amount is reduced by the estimated shortfall of cash flows. The carrying amount of costs associated with other assets acquired in a purchase business combination is included in impairment evaluations when events or circumstances exist that indicate the carrying amount of those assets may not be recoverable. Recent Developments In October 1997 the FASB approved the American Institute of Certified Public Accountants Statement of Position ("SOP 97-2"), "Software Revenue Recognition," which will be effective for transactions occurring after September 30, 1998. The Company's accounting policy for software revenue recognition is generally in compliance with SOP 97-2 and its adoption is not expected to have a material impact on the financial position or results of operations of the Company. In June 1997 the FASB issued Statement of Financial Accounting Standard No. 130 ("FAS 130"), "Reporting Comprehensive Income". FAS 130 establishes standards for reporting and display of comprehensive income and its components in a full set of general-purpose financial statements. FAS 130 is effective for fiscal years beginning after December 15, 1997. The adoption of FAS 130 will require additional disclosure in the Company's financial statements but will not have any impact on the financial position or results of operations of the Company. Also in June 1997, the FASB issued Statement of Financial Accounting Standard No. 131 ("FAS 131"), "Disclosures about Segments of an Enterprise and Related Information". FAS 131 establishes standards for the way that public business enterprises report information about operating segments in annual financial statements and requires that those enterprises report selected information about operating segments in interim financial reports issued to stockholders. It also establishes standards for related disclosures about products and services, geographic areas and major customers. FAS 131 is effective for financial statements for fiscal years beginning after December 15, 1997. The adoption of FAS 131 is not expected to have a material impact on the information the Company currently discloses about its business segments. 2. BUSINESS ACQUISITIONS AND REORGANIZATIONS Acquisition of TI Software On June 30, 1997, Sterling Software completed the acquisition (the "Acquisition") of certain assets (including the capital stock of certain foreign subsidiaries) of Texas Instruments Incorporated ("Texas Instruments"). Such assets constituted substantially all of the assets used by Texas Instruments' Software Division ("TI Software") in its business of developing, marketing, licensing, supporting and maintaining 31 application development software and providing related consulting services. The results of operations of TI Software are included in the Company's results of operations from the date of the Acquisition. The cash purchase price paid for such assets was $165,000,000 and was funded from the Company's available cash balances. The total cost of the Acquisition was approximately $214,774,000, including costs directly related to the Acquisition of approximately $49,774,000, consisting of employee termination costs, transaction costs, costs associated with the elimination of duplicate facilities and other direct costs. The components of the aggregate cost were as follows (in thousands): Cash paid to Texas Instruments..................................... $165,000 TI Software employee severance and benefits........................ 28,696 Elimination of duplicate facilities and leases of TI Software...... 10,578 Transaction costs.................................................. 4,904 Other costs........................................................ 5,596 -------- $214,774 ========
The Acquisition has been accounted for in accordance with the purchase method of accounting. The aggregate purchase price has been allocated to the assets and liabilities acquired, with the remainder recorded as excess cost over net assets acquired, based on estimates of fair values as follows (in thousands): Working capital (deficit)......................................... $(10,100) Property and equipment............................................ 4,530 Software.......................................................... 24,054 Purchased research and development costs charged to expense....... 137,849 Other liabilities................................................. (32) Excess cost over net assets acquired.............................. 58,473 -------- $214,774 ========
The estimates of fair value were determined by the Company's management based on information furnished by the management of TI Software and an independent valuation of acquired software and research and development. The cost of the Acquisition which was allocable to purchased research and development costs was charged to expense in 1997 in accordance with the purchase method of accounting. The following unaudited pro forma information presents the Company's results of operations as if the Acquisition had occurred at October 1, 1996. The pro forma information has been prepared by combining the results of operations of the Company and TI Software for the years ended September 30, 1997 and 1996, adjusted for the elimination of charges for purchased research and development costs and reorganization costs, additional amortization expense and the resulting impact on the provision for income taxes. This pro forma information does not purport to be indicative of what would have occurred had the Acquisition and related reorganization occurred as of that date or of results of operations which may occur in the future (in thousands, except per share data):
YEARS ENDED SEPTEMBER 30 ----------------- 1997 1996 -------- -------- Revenue................................................... $653,353 $709,660 Income before other income (expense) and income taxes..... $ 40,400 $ 54,146 Income from continuing operations......................... $ 50,769 $ 50,785 Income from continuing operations per share............... $ 1.28 $ 1.46
32 Acquisition of KnowledgeWare On November 30, 1994, Sterling Software acquired KnowledgeWare, Inc. ("KnowledgeWare"), a provider of applications development software and services, for approximately $106,000,000, in a stock-for-stock acquisition (the "Merger") accounted for in accordance with the purchase method of accounting. In connection with the Merger, the Company issued approximately 2,421,000 shares of the Company's common stock, par value $0.10 per share ("Common Stock"), valued at approximately $74,443,000 and reserved approximately 340,000 shares of Common Stock for issuance upon exercise of KnowledgeWare's options and warrants. In addition, the Company incurred costs directly related to the Merger of approximately $31,672,000. The results of operations of KnowledgeWare are included in the Company's results of operations from the date of the Merger. In addition, the 1995 results of operations include $62,000,000 of purchased research and development costs charged to expense in accordance with the purchase method of accounting. Reorganization Costs The Company's 1997 results of operations include costs of $106,037,000 primarily related to the reorganization of the Company's operations in connection with the Acquisition and the termination of the International Distributor Agreement dated March 4, 1996 (the "International Distributor Agreement") with Sterling Commerce, Inc. ("Sterling Commerce"), formerly a wholly owned subsidiary of Sterling Software formed to operate the business of Sterling Software's former Electronic Commerce Group. These reorganization costs also include the write-down of certain excess cost over net assets acquired related to the Company's federal systems business. Of the total reorganization costs, approximately $63,726,000 consisted of non-cash costs and the remaining $42,311,000 required cash outlays, $13,504,000 of which had been paid as of September 30, 1997. The components of the reorganization costs were as follows (in thousands): Employee termination costs........................................ $ 18,539 Write-down of software products which will not be actively market- ed............................................................... 17,591 Write-down of excess cost over net assets acquired................ 38,955 Elimination of duplicate facilities and equipment................. 19,993 Out of pocket costs related to the reorganization................. 5,109 Other costs....................................................... 5,850 -------- $106,037 ========
The Company's 1995 results of operations include reorganization costs of $19,512,000 primarily related to the reorganization of the Company's operations in connection with the Merger with KnowledgeWare. Of the total reorganization costs, approximately $8,377,000 consisted of non-cash costs and the remaining $11,135,000 required cash outlays, substantially all of which had been paid as of September 30, 1996. 3. DISCONTINUED OPERATIONS Sterling Commerce completed the initial public offering (the "Offering") of 13,800,000 shares of its common stock, par value $0.01 per share ("Commerce Stock"), on March 13, 1996. Pursuant to the Offering, Sterling Software sold to the public 12,000,000 of its 73,200,000 shares of Commerce Stock and Sterling Commerce sold 1,800,000 of previously unissued shares of Commerce Stock. The Offering price was $24 per share of Commerce Stock, resulting in net proceeds to Sterling Software of approximately $265,458,000 after deducting underwriting discounts and commissions and Sterling Software's pro rata share of Offering expenses. Sterling Software recorded a gain of approximately $126,103,000, net of tax, from the sale of Commerce Stock in the Offering. On September 30, 1996, Sterling Software completed the spin-off of Sterling Commerce with the pro rata distribution (the "Distribution") of its remaining 81.6% ownership in Sterling Commerce to Sterling Software's stockholders by means of a tax-free dividend. Holders of record of Common Stock as of the close of business on 33 September 30, 1996 received 1.59260 shares of Commerce Stock for each share of Common Stock owned on such date. The Distribution resulted in the reduction of Sterling Software's stockholders' equity in the amount of $113,549,000, representing the book value of net assets distributed. The results of operations of Sterling Commerce for 1996 and 1995 have been classified as discontinued operations. The income from discontinued operations reflected in the table below is inclusive of minority interest held by stockholders other than Sterling Software. Summary operating results of discontinued operations are as follows (in thousands):
YEARS ENDED SEPTEMBER 30 ----------------- 1996 1995 -------- -------- Revenue................................................. $267,773 $203,578 Total costs and expenses................................ $172,568 $131,550 Income before income taxes.............................. $ 96,422 $ 71,550 Income taxes............................................ $ 38,030 $ 28,620 Income from discontinued operations, net................ $ 58,392 $ 42,930
In anticipation of the Offering, Sterling Software and Sterling Commerce entered into a number of agreements (the "Intercompany Agreements") for the purpose of defining certain relationships between them. As a result of Sterling Software's then ownership interest in Sterling Commerce, the terms of such Intercompany Agreements were not the result of arm's-length negotiation. The Intercompany Agreements included a tax allocation agreement, an indemnification agreement and the International Distributor Agreement. The tax allocation agreement provides that for periods during which Sterling Commerce and/or its subsidiaries are included in the Company's consolidated federal income tax returns or consolidated, combined or unitary state tax returns (which periods include the period between the Offering and the Distribution), the Company is required to pay to or entitled to receive from Sterling Commerce its allocable portion of the consolidated federal and state income tax liability or refunds, respectively. The indemnification agreement provides, among other things, that each party thereto (the "Indemnifying Party") will indemnify the other party thereto and its directors, officers, employees, agents and representatives (each, an "Indemnified Party") for liabilities that may be incurred by an Indemnified Party relating to (i) the businesses, operations or assets conducted or owned or formerly conducted or owned by the Indemnifying Party and its subsidiaries (except, in the case where the Company is the Indemnifying Party, the businesses, operations and assets of Sterling Commerce and its subsidiaries) or (ii) the failure by the Indemnifying Party to comply with any other agreements executed in connection with the Offering. In addition, the indemnification agreement provides that Sterling Commerce will indemnify the Company and its directors, officers, employees, agents and representatives for any liabilities resulting from or arising out of certain acts, failures to act or the provision of incorrect factual information by Sterling Commerce in connection with the Internal Revenue Service ("IRS") ruling request that cause the Distribution to be taxable to the Company or its stockholders. The International Distributor Agreement, which was terminated effective as of June 30, 1997 as described below, defined the terms pursuant to which the Company acted as the exclusive distributor of certain Sterling Commerce products in markets outside the United States and Canada. Pursuant to a Termination Agreement dated June 30, 1997, by and between Sterling Software and Sterling Commerce, the International Distributor Agreement was terminated. Contemporaneously with such termination, Sterling Software sold to Sterling Commerce certain of the assets formerly used by Sterling Software in connection with the distribution of certain Sterling Commerce products outside the United States and Canada. In addition, Sterling Software and Sterling Commerce entered into certain short-term transitional arrangements relating to facilities sharing and administrative and other services. In consideration of the termination of the International Distributor Agreement and the sale of assets described above, Sterling Commerce (i) paid to Sterling Software $5,226,000 on June 30, 1997, (ii) subsequently paid to Sterling Software $10,076,000, which was equal to the net book value of the acquired assets, and (iii) assumed certain liabilities of Sterling Software. 34 As a result of various transactions between the Company and Sterling Commerce, including royalties due to Sterling Commerce as a result of the Company acting as an international distributor, tax and other expenses charged to Sterling Commerce and Sterling Commerce's participation in the Company's central cash management program (which participation terminated upon completion of the Distribution on September 30, 1996), amounts payable and receivable from Sterling Commerce arise from time to time. At September 30, 1996, the Company had amounts due to Sterling Commerce of $35,134,000, which were remitted to Sterling Commerce subsequent to September 30, 1996. 4. LEGAL PROCEEDINGS AND CLAIMS On November 30, 1994, Sterling Software acquired KnowledgeWare in a stock- for-stock acquisition. On March 14, 1995, the Securities and Exchange Commission (the "Commission") entered an Order Directing Private Investigation and Designating Officers to take Testimony titled "In the Matter of KnowledgeWare, Inc. (NY-6231)". The investigation generally relates to (i) trading in KnowledgeWare securities from July 1, 1992 through the time of the stock-for-stock transaction by which Sterling Software acquired KnowledgeWare, (ii) KnowledgeWare's compliance with the Commission's filing and reporting obligations and (iii) the adequacy and/or accuracy of KnowledgeWare's public disclosures, recordkeeping and accounting controls. In addition to the potential liability of the Company's wholly owned subsidiary that was the surviving corporation in the KnowledgeWare Merger, Sterling Software may have an indemnity obligation with respect to certain individuals who may be subject to the Commission's investigation. While any legal investigation or proceeding involves inherent uncertainty, Sterling Software's management believes based upon presently available information that the ultimate resolution of the Commission's investigation will not materially affect the financial condition or results of operations of the Company. The Company is also subject to certain legal proceedings and claims that arise in the normal course of its business. In the opinion of management, the amount of the liability, if any, ultimately incurred by Sterling Software with respect to any existing proceedings and claims, net of applicable reserves and available insurance, will not materially affect the financial condition or results of operations of the Company. 5. SEGMENT INFORMATION The Company acquires, develops, markets and supports a broad range of computer software products and services in three major markets: systems management, applications management and federal systems. Major markets are represented through independently operated business segments. The systems management business segment provides products that enable customers to ensure the quality of service of IT applications across enterprise networked computing environments. The applications management business segment provides application development products and services for business modeling through code generation, as well as products and services that enable customers to extend the life and usefulness of legacy applications and to facilitate enterprise information access. The federal systems business segment provides specialized IT services to the federal government under numerous multi-year contracts primarily in support of two major customers, the National Aeronautics and Space Administration and the Department of Defense. Through June 30, 1997, the Company sold, marketed and provided first-level support outside of the United States and Canada for Sterling Commerce's interchange and communications software products, the results of which are included in the business segment information under "Corporate and other". 35 Financial information concerning the Company's operations, by business segment, for the years ended September 30, 1997, 1996 and 1995, is summarized as follows (in thousands):
INDUSTRY SEGMENTS 1997 1996 1995 ----------------- ---------- ---------- -------- Revenue: Systems Management..................... $ 184,679 $ 170,804 $154,657 Applications Management................ 142,942 109,804 107,209 Federal Systems........................ 121,790 112,188 101,702 Corporate and other.................... 39,567 46,375 32,743 ---------- ---------- -------- Consolidated totals.................. $ 488,978 $ 439,171 $396,311 ========== ========== ======== Operating Profit (Loss): Systems Management..................... $ 70,629 $ 65,858 $ 55,471 Applications Management................ 20,842 16,408 21,320 Federal Systems........................ 8,689 7,982 6,648 Reorganization costs................... (106,037) (19,512) Purchased research and development..... (137,849) (62,000) Corporate and other.................... (31,443) (29,474) (23,117) ---------- ---------- -------- Consolidated totals.................. $ (175,169) $ 60,774 $(21,190) ========== ========== ======== Identifiable Assets: Systems Management..................... $ 150,549 $ 135,845 $115,729 Applications Management................ 194,641 107,713 125,410 Federal Systems........................ 58,445 68,809 56,737 Corporate and other.................... 662,023 785,246 306,648 Discontinued operations................ 53,187 ---------- ---------- -------- Consolidated totals.................. $1,065,658 $1,097,613 $657,711 ========== ========== ======== Capital Expenditures (including additions to computer software): Systems Management..................... $ 16,919 $ 14,597 $ 11,808 Applications Management................ 8,968 6,603 7,753 Federal Systems........................ 1,284 1,255 1,518 Corporate and other.................... 18,878 5,388 13,675 ---------- ---------- -------- Consolidated totals.................. $ 46,049 $ 27,843 $ 34,754 ========== ========== ======== Depreciation and Amortization: Systems Management..................... $ 16,014 $ 12,230 $ 10,612 Applications Management................ 13,674 12,926 11,390 Federal Systems........................ 2,231 2,290 2,196 Corporate and other.................... 2,601 4,153 3,718 ---------- ---------- -------- Consolidated totals.................. $ 34,520 $ 31,599 $ 27,916 ========== ========== ======== Revenue from the U.S. Government: Systems Management..................... $ 4,140 $ 3,521 $ 3,250 Applications Management................ 7,455 5,169 2,930 Federal Systems........................ 112,802 104,052 97,650 ---------- ---------- -------- Consolidated totals.................. $ 124,397 $ 112,742 $103,830 ========== ========== ========
The amounts presented for "Corporate and other" include corporate expense, cash balances, marketable securities, long-term investments, deferred income tax balances, other assets, the results of operations and assets of the Company's retail software division, and, through June 30, 1997, the results of operations relating to the international distribution of certain Sterling Commerce products. 36 6. OPERATIONS BY GEOGRAPHIC AREA The Company's operations in the United States and international markets at September 30, 1997, 1996 and 1995 and for the years then ended are summarized as follows (in thousands):
GEOGRAPHICAL SEGMENT INFORMATION 1997 1996 1995 -------------------------------- ---------- ---------- -------- Revenue: United States........................... $ 294,273 $ 252,181 $225,923 Europe.................................. 106,848 88,611 89,659 Pacific................................. 33,789 36,905 35,185 Canada and Latin America................ 14,501 15,099 12,801 Corporate and other..................... 39,567 46,375 32,743 ---------- ---------- -------- $ 488,978 $ 439,171 $396,311 ========== ========== ======== Operating Profit (Loss): United States........................... $ 74,948 $ 72,824 $ 54,940 Europe.................................. 12,664 9,773 16,925 Pacific................................. 7,265 3,970 7,242 Canada and Latin America................ 5,283 3,681 4,332 Reorganization costs.................... (106,037) (19,512) Purchased research and development...... (137,849) (62,000) Corporate and other..................... (31,443) (29,474) (23,117) ---------- ---------- -------- $ (175,169) $ 60,774 $(21,190) ========== ========== ======== Identifiable Assets: United States........................... $ 226,944 $ 217,021 $200,527 Europe.................................. 145,111 82,537 77,856 Pacific................................. 25,900 9,236 15,055 Canada and Latin America................ 5,680 3,573 4,438 Corporate and other..................... 662,023 785,246 306,648 Discontinued operations................. 53,187 ---------- ---------- -------- $1,065,658 $1,097,613 $657,711 ========== ========== ========
The amounts presented for "Corporate and other" include corporate expense, cash balances, marketable securities, long-term investments, deferred income tax balances, other assets, the results of operations of the Company's retail software division, and, through June 30, 1997, the results of operations relating to the international distribution of certain Sterling Commerce products. 7. MARKETABLE SECURITIES AND OTHER LONG-TERM INVESTMENTS At September 30, 1997 and 1996, all of the Company's marketable securities and other long-term investments were classified as available-for-sale and consist of the following (in thousands):
GROSS UNREALIZED --------------- AGGREGATE AMORTIZED FAIR COST HOLDING HOLDING VALUE BASIS GAINS LOSSES --------- --------- ------- ------- September 30, 1997 Commercial paper....................... $ 14,887 $ 14,887 U.S. corporate notes................... 96,520 96,337 $ 291 $(108) U.S. government obligations............ 14,947 15,018 (71) Municipal obligations.................. 74,140 73,982 161 (3) Other.................................. 6,471 4,864 1,607 -------- -------- ------ ----- $206,965 $205,088 $2,059 $(182) ======== ======== ====== =====
37
GROSS UNREALIZED --------------- AGGREGATE AMORTIZED FAIR COST HOLDING HOLDING VALUE BASIS GAINS LOSSES --------- --------- ------- ------- September 30, 1996 Commercial paper...................... $ 33,468 $ 33,468 U.S. corporate notes.................. 76,115 76,577 $ 25 $ (487) U.S. government obligations........... 76,062 76,265 89 (292) Municipal obligations................. 25,507 25,501 6 Other................................. 20,767 21,889 28 (1,150) -------- -------- ---- ------- $231,919 $233,700 $148 $(1,929) ======== ======== ==== =======
At September 30, 1997, scheduled maturities of investments in debt securities are: $96,325,450 principal amount within one year and $104,160,651 principal amount between one and five years. 8. ACCOUNTS AND NOTES RECEIVABLE Accounts and notes receivable consist of the following at September 30 (in thousands):
1997 1996 -------- -------- Trade................................................... $141,981 $115,427 Unbilled................................................ 19,593 24,032 -------- -------- 161,574 139,459 Less: Allowance for doubtful accounts................... 12,152 6,076 -------- -------- $149,422 $133,383 ======== ========
At September 30, 1997 and 1996, accounts receivable include $38,806,000 and $35,975,000, respectively, due under contracts with the federal government and related agencies. The remainder of the Company's receivables are due principally from corporations in diverse industries located in North America, Europe and Asia Pacific, which mitigates exposure to concentrations of credit risk. Trade receivables are generally not collateralized. The Company performs periodic credit evaluations of its customers' financial conditions. 9. PROPERTY AND EQUIPMENT Property and equipment consist of the following at September 30 (in thousands):
1997 1996 ------- ------- Computer and peripheral equipment......................... $39,734 $38,663 Furniture, fixtures and other equipment................... 35,731 33,067 Leasehold improvements.................................... 15,563 9,629 ------- ------- 91,028 81,359 Less: Accumulated depreciation............................ 42,430 42,029 ------- ------- $48,598 $39,330 ======= =======
10. LONG-TERM DEBT Effective July 1, 1997, the Company entered into an amended Revolving Credit Agreement ("Credit Agreement") with an unsecured borrowing capacity of $35,000,000. The Credit Agreement requires that certain financial ratios be maintained. Borrowings under the Credit Agreement will bear interest at the lower of the lender's base rate or the Eurodollar lending rate plus one-half percent and will mature on June 30, 2000. No amounts were borrowed during 1997 or outstanding under the Credit Agreement at September 30, 1997. At September 30, 1997, after the utilization of approximately $1,443,000 for standby letters of credit, approximately $33,557,000 was available for borrowing under the Credit Agreement. Certain of the Company's foreign subsidiaries have separate lines of credit totaling $21,305,000 that are used for foreign exchange exposure management and working capital requirements. These lines of credit are guaranteed by Sterling Software, Inc. At September 30, 1997, $1,081,000 was outstanding pursuant to these foreign lines of credit. 38 On December 20, 1995, the Company gave notice of the redemption of all of the $114,922,000 then outstanding principal amount of its 5.75% Convertible Subordinated Debentures (the "Debentures"), effective February 12, 1996. Approximately $114,912,000 principal amount of the Debentures were converted into 4,056,000 shares of Common Stock. 11. ACCOUNTS PAYABLE AND ACCRUED LIABILITIES Accounts payable and accrued liabilities consist of the following at September 30 (in thousands):
1997 1996 -------- ------- Trade accounts payable................................... $ 41,777 $16,712 Accrued compensation..................................... 49,728 37,242 Accrued acquisition and reorganization costs............. 45,545 4,017 Other accrued liabilities................................ 35,650 19,766 -------- ------- $172,700 $77,737 ======== =======
Accrued acquisition and reorganization costs at September 30, 1997 are primarily due to the Acquisition and subsequent reorganization and are primarily for the remaining commitments pursuant to employee termination costs and the elimination of duplicate facilities and equipment. 12. INCOME TAXES The provision (benefit) for income taxes on income (loss) from continuing operations is composed of the following (in thousands):
YEARS ENDED SEPTEMBER 30 ------------------------- 1997 1996 1995 ------- ------- ------- Current: Federal.......................................... $11,309 $10,055 $ 4,449 State............................................ 2,310 Foreign.......................................... 2,098 2,822 700 Deferred: Federal.......................................... (17,330) 10,551 9,087 State............................................ (1,685) 2,970 764 Foreign.......................................... (130) (2,110) ------- ------- ------- $(3,428) $24,288 $15,000 ======= ======= =======
39 The effective income tax rate on income (loss) from continuing operations before income taxes differed from the federal income tax statutory rate for the following reasons (in thousands):
YEARS ENDED SEPTEMBER 30 -------------------------- 1997 1996 1995 -------- ------- ------- Tax expense (benefit) at U.S. federal statutory rate.......................................... $(47,739) $29,703 $(6,530) Increases (reductions) in tax expense (benefit) resulting from: Purchased research and development for which no income tax benefit was recognized........ 36,251 21,700 Taxes on foreign subsidiaries' income at rates less than the U.S. federal statutory rates....................................... (1,307) Recognition of previously unrecognized deferred income tax asset................... (3,022) (7,853) (1,197) Amortization and write-down of excess cost over net assets acquired.................... 14,663 1,680 1,761 Foreign sales corporation.................... (1,891) (1,568) (2,163) State income taxes, net of federal benefit... (125) 2,970 764 Other........................................ (258) (644) 665 -------- ------- ------- $ (3,428) $24,288 $15,000 ======== ======= =======
Income (loss) before income taxes includes foreign pretax earnings (losses) of $7,269,000, $3,525,000 and $(4,300,000) for the years ended September 30, 1997, 1996 and 1995, respectively. Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Significant components of the Company's net deferred tax asset as of September 30 are as follows (in thousands):
1997 1996 ------- ------- Deferred income tax assets: Net operating loss carryforwards....................... $35,116 $44,167 General business and alternative minimum tax credit carryforwards......................................... 5,219 5,073 Foreign tax credit carryforwards....................... 6,583 Foreign taxes creditable on undistributed foreign source income......................................... 5,397 5,397 Reserves and reorganization accruals................... 59,924 12,640 ------- ------- Deferred income tax assets........................... 105,656 73,860 ------- ------- Deferred income tax liabilities: Capitalized software costs............................. 12,958 11,292 Depreciation and amortization.......................... 2,253 2,110 Other future income tax liabilities.................... 27,491 13,626 ------- ------- Deferred income tax liabilities...................... 42,702 27,028 ------- ------- Deferred income tax asset net of deferred income tax liability............................................. 62,954 46,832 Less valuation allowance............................... (40,824) (43,846) ------- ------- Net deferred income tax asset........................ $22,130 $ 2,986 ======= =======
The valuation allowance relates principally to certain net operating loss and credit carryforwards. Although realization is not assured, management believes that future taxable income based on expected future earnings of the Company will more likely than not utilize a portion of the net operating loss carryforwards, tax credit carryforwards and other future tax deductions in existence at September 30, 1997, equivalent to the net deferred income tax asset. As there can be no assurances on amounts in excess of the net deferred income tax asset, the aforementioned valuation allowance has been recorded and may change as estimates during the carryforward periods change. 40 At September 30, 1997, the Company had net operating loss and tax credit carryforwards for federal income tax purposes of approximately $63,750,000 and $5,220,000, respectively. These carryforwards will expire at various times between 1998 and 2009, with approximately $63,750,000 of the net operating loss carryforwards expiring between 2007 and 2009. The utilization of substantially all of these carryforwards is restricted to future taxable income of certain of the Company's wholly owned subsidiaries and limited by Section 382 of the Internal Revenue Code of 1986, as amended (the "Code"). Thus, the Company's utilization of these carryforwards cannot be assured. 13. COMMITMENTS The Company leases certain facilities and equipment under operating leases. Total rent expense for the years ended September 30, 1997, 1996 and 1995 was $22,667,000, $19,366,000 and $26,359,000, respectively. At September 30, 1997, minimum future rental payments due under all operating leases, net of estimated future sublease income, are as follows (in thousands): 1998.......................................... $ 26,859 1999.......................................... 23,729 2000.......................................... 18,212 2001.......................................... 13,958 2002.......................................... 9,207 Thereafter.................................... 31,923 -------- $123,888 ========
14. PREFERRED STOCK The Company is authorized to issue up to 10,000,000 shares of preferred stock, par value $0.10 per share ("Preferred Stock"). The Board of Directors of Sterling Software has authorized the issuance of up to 750,000 shares of Preferred Stock, designated as Series A Junior Participating Preferred Stock ("Series A Junior Preferred Stock"), pursuant to the terms of the Rights Agreement dated as of December 18, 1996 (the "Rights Plan"). The Board of Directors of the Company is authorized, without action by the stockholders, to issue Preferred Stock and fix for each series the number of shares, designation, dividend rights, voting rights, redemption rights and other rights. 15. RIGHTS PLAN On December 18, 1996, the Board of Directors of the Company declared a dividend distribution of one right (a "Right") for each share of Common Stock outstanding at the close of business on December 31, 1996 (the "Record Date"), pursuant to the terms of the Rights Plan. The Rights Plan also provides, subject to specified exceptions and limitations, that shares of Common Stock issued after the Record Date will be entitled to and accompanied by Rights. Pursuant to the Rights Plan, one Right to purchase 1/100th of a share of Series A Junior Preferred Stock (structured so as to be substantially the equivalent of a share of Common Stock) is attached to each issued and outstanding share of Common Stock. Subject to certain conditions, each Right entitles the holder to purchase 1/100th of a share of Series A Junior Preferred Stock at a price (the "Purchase Price") of $200.00 per 1/100th of a share of Junior Preferred Stock (subject to adjustment). In general, the Rights will not become exercisable, or transferable apart from the shares of Common Stock, unless a person or group of affiliated or associated persons becomes the beneficial owner of, or commences a tender offer that would result in beneficial ownership of, 15% or more of the outstanding shares of Common Stock (any such person or group of persons being referred to in the Rights Plan as an "Acquiring Person"). Thereafter, under certain circumstances, each Right (other than any Rights that are or were beneficially owned by an Acquiring Person, which Rights will be void) could become exercisable to purchase at the Purchase Price a number of shares of Common Stock (or, in certain circumstances, the common stock of a company into which the Company is merged or consolidated or to which the Company sells all or substantially all of its assets) having a market value equal to two times the Purchase Price. The Rights will expire on December 31, 2006, unless earlier redeemed by Sterling Software at a redemption price of $.01 per Right (subject to adjustment), or otherwise exchanged or amended in accordance with the terms of the Rights Plan. 41 16. STOCK OPTIONS AND WARRANTS In April 1996, Sterling Software's Board of Directors adopted, and in May 1996 Sterling Software's stockholders approved, the 1996 Stock Option Plan. In September 1996, the 1996 Stock Option Plan was amended to conform to certain amendments to the rules promulgated under Section 16 of the Securities Exchange Act of 1934. At September 30, 1997, 485,545 shares were reserved for future grants of options under the 1996 Stock Option Plan. Options granted pursuant to the 1996 Stock Option Plan become exercisable generally within 90 days of the date of grant or at a rate of 25% per year and expire either five or ten years from the date of grant. Any tax benefit associated with the exercise of options and warrants is credited to paid-in capital. As a result of the approval of the 1996 Stock Option Plan, Sterling Software's Board of Directors will not issue any of the remaining 1,293,000 options available for grant under Sterling Software's other existing stock option plans. Options that were unexercised with respect to 81,681 shares of Common Stock at the close of business on September 30, 1996 were adjusted to thereafter be exercisable with respect to 207,950 shares at exercise prices ranging from $3.36 to $32.40 to preserve the economic value of such options after the spin- off of Sterling Commerce. Stock option transactions are summarized below for the three years ended September 30, 1997:
1997 1996 1995 ------------------- -------------------- -------------------- WEIGHTED WEIGHTED WEIGHTED AVERAGE AVERAGE AVERAGE EXERCISE EXERCISE EXERCISE OPTIONS PRICE OPTIONS PRICE OPTIONS PRICE --------- -------- ---------- -------- ---------- -------- Options outstanding at October 1.............. 81,681 $46.06 8,085,731 $28.36 6,460,763 $19.34 Conversion adjustment... 126,269 Options assumed in the Merger................. 166,173 50.25 Options granted......... 9,551,900 28.27 1,147,675 42.33 4,886,547 29.79 Options exercised....... (104,503) 13.61 (8,912,213) 27.69 (3,242,780) 17.70 Options terminated and canceled............... (497,193) 26.33 (239,512) 36.26 (184,972) 29.52 --------- ---------- ---------- Options outstanding at September 30........... 9,158,154 28.51 81,681 46.06 8,085,731 28.36 ========= ========== ========== Options exercisable at September 30........... 4,601,704 28.03 81,681 46.06 3,781,222 30.26 ========= ========== ========== Options available for grant at September 30.. 485,545 7,750,000 1,293,704 ========= ========== ==========
Information related to options outstanding at September 30, 1997 is summarized below:
OPTIONS OUTSTANDING OPTIONS EXERCISABLE ----------------------------------------- ------------------------ WEIGHTED AVERAGE WEIGHTED WEIGHTED REMAINING AVERAGE AVERAGE RANGE OF EXERCISE PRICES OPTIONS CONTRACTUAL LIFE EXERCISE PRICE OPTIONS EXERCISE PRICE ------------------------ --------- ---------------- -------------- --------- -------------- $ 3.99-- $27.25 1,171,118 8 Years $26.83 573,718 $26.40 $27.26-- $28.25 6,790,150 8 Years $28.25 4,000,000 $28.25 $28.26-- $35.50 1,196,886 6 Years $31.63 27,986 $29.39 --------- --------- 9,158,154 4,601,704 ========= =========
During 1996 and 1995, 310,097 and 189,300 warrants with an aggregate exercise price of $10,734,659 and $4,012,704, respectively, were exercised for shares of Common Stock. Also, in 1996, 82,650 warrants with an aggregate exercise price of $8,750,155 were canceled. At September 30, 1997 and 1996, no warrants were outstanding. 42 FAS 123 requires disclosure of pro forma net earnings and net earnings per common share information computed as if the Company had accounted for its employee stock options granted subsequent to October 1, 1995 under the fair value method set forth in FAS 123. The fair value of the Company's outstanding stock options was estimated at the date of grant using a Black-Scholes option pricing model with the following weighted average assumptions.
YEARS ENDED SEPTEMBER 30 ---------- 1997 1996 ---- ---- Expected option life in years.................................. 4.0 4.0 Risk-free interest rate........................................ 5.74% 6.14% Volatility factor.............................................. 0.40 0.40
The Company does not have a history of paying dividends and none have been assumed in estimating the fair value of the options. The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options which have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions including the expected stock price volatility. Because, among other things, changes in the subjective input assumptions can materially affect the fair value estimate, in management's opinion, the existing models do not necessarily provide a reliable single measure of the fair value of its employee stock options. For purposes of pro forma disclosures, the estimated fair value of the options is amortized to expense over the options' vesting periods. In addition, because FAS 123 is applicable only to options granted subsequent to October 1, 1995, the pro forma information does not reflect the pro forma effect of all previous stock option grants of the Company. Therefore, the pro forma information is not necessarily indicative of future amounts until FAS 123 is applied to all outstanding stock options.
YEARS ENDED SEPTEMBER 30 ------------------- 1997 1996 --------- -------- Pro forma net income (loss)............................ $(174,180) $226,037 Pro forma net income (loss) per share: Primary.............................................. $ (4.52) $ 6.63 Fully diluted........................................ $ (4.52) $ 6.32 Weighted-average fair value of options granted during the year.............................................. $ 12.00 $ 6.58
17. POSTRETIREMENT BENEFITS The Company has a plan to provide retirement benefits under the provisions of Section 401(k) of the Code for full time employees and for part time employees who have completed a specified term of service. Pursuant to this plan, eligible participants may elect to contribute a percentage of their annual gross compensation and the Company will contribute additional amounts, as provided by the plan. Benefits under the plan are limited to the assets of the plan. Company contributions charged to expense during 1997, 1996 and 1995 were $2,829,000, $2,315,000 and $2,474,000, respectively. One-half of the Company's contributions are invested in Common Stock. Effective October 1, 1996, the portion of the plan consisting of the Company's contributions was designated as an employee stock ownership plan. During 1997, 1996 and 1995, the investment of the Company's contributions included 19,771, 19,665 and 28,597 shares of Common Stock, respectively. These share contributions include those made with respect to Sterling Commerce employees through September 30, 1996, the date of the spin-off. Certain of the Company's subsidiaries also provide healthcare benefits to eligible retired employees. These benefits are subject to deductibles, copayment provisions and other limitations including retiree premium contributions. The Company's policy is to fund the cost of such postretirement healthcare coverage in amounts determined at the discretion of management. A plan amendment was adopted in October 1994 that reduced 43 the number of employees eligible for participation in the postretirement benefit plan and reduced the Company's future cost for certain eligible participants. The impact of the amendment in 1995 was a curtailment gain of approximately $1,400,000. A plan amendment was adopted in October 1997 that extended coverage to non-spouse dependents of eligible retirees. This amendment is not expected to add additional expense or liability to the plan. The Company and its subsidiaries may amend or change the plan periodically, or may terminate the plan. The following table sets forth the computation of accrued postretirement healthcare benefit costs at September 30 (in thousands):
1997 1996 ------ ------ Accumulated postretirement benefit obligation: Retirees................................................... $1,122 $ 775 Fully eligible active plan participants.................... 930 977 Other active plan participants............................. 1,141 1,259 ------ ------ 3,193 3,011 Assets at fair market value................................ 1,924 1,766 ------ ------ Projected benefit obligation in excess of assets at fair market value................................................ 1,269 1,245 Unrecognized net gain (loss)................................. 1,670 1,768 ------ ------ Accrued postretirement benefit cost........................ $2,939 $3,013 ====== ======
The following table presents net periodic postretirement healthcare benefit costs for the years ended September 30 (in thousands):
YEARS ENDED SEPTEMBER 30 ------------------- 1997 1996 1995 ----- ----- ----- Service cost............................................. $ 86 $ 98 $ 108 Interest cost............................................ 221 205 241 Actual asset return...................................... (159) (112) (90) Net amortization and deferral............................ (223) (233) (208) ----- ----- ----- Net periodic postretirement benefit cost............... $ (75) $ (42) $ 51 ===== ===== =====
The weighted average discount rate used in determining the accumulated postretirement benefit obligation was 7.5% at September 30, 1997 and 1996. The weighted-average annual assumed rate of increase in the per capita cost of covered benefits ("Healthcare Cost Trend Rate") is 9% for 1998 and is assumed to decrease gradually to 5% after 8 years and remain at that level thereafter. The weighted average Healthcare Cost Trend Rate was 9.5% for 1997 and is assumed to decrease gradually to 5% after 9 years and remain at that level thereafter. The Healthcare Cost Trend Rate assumption has a significant effect on the amounts reported. For example, increasing the assumed Healthcare Cost Trend Rate by one percentage point in each year would increase the accumulated postretirement benefit obligation as of September 30, 1997 by $188,400 and the aggregate of the service cost and interest cost components of net periodic postretirement benefit cost for 1997 by $12,900. 18. CHANGE-IN-CONTROL AND EMPLOYMENT ARRANGEMENTS As of September 30, 1997, the Company had change-in-control agreements with 18 of its officers providing for payments based on the individual officer's respective salary, bonus and benefits if there is a change-in-control (as defined) in the Company and termination of employment occurs. The change-in- control agreements further provide that the Company will make certain payments to each officer party thereto to compensate such officer for the economic effect of such officer's liability to pay excise taxes to the extent that payments received by 44 such officer, pursuant to the change-in-control agreement, stock option agreements or otherwise, are considered as "contingent on a change in ownership or control" under Section 280G of the Code (the "Tax Payment"). Additionally, the Company has agreed to make the Tax Payment to one former officer of the Company with respect to excise taxes determined to be payable on benefits received by such former officer under a stock option agreement with the Company. Based on certain assumptions, at September 30, 1997, the Company's maximum liability for salaries, bonuses, benefits and Tax Payments under these agreements was estimated to be approximately $44,000,000. The Company's actual liability, if any, under these agreements will depend on a number of factors, including the level of salaries, bonuses and benefits being received by the then covered officers prior to a change-in-control and the price at which any change-in-control transaction occurs. As of September 30, 1997, the Company had entered into severance agreements with 14 of its officers providing for payments based on the individual officer's respective salary and bonus and continuation of benefits if the Company terminates the officer's employment. In addition, the Company has entered into an agreement with one executive officer that provides for an annual base salary plus agreed-upon bonuses and benefits and converts to a consulting agreement upon the occurrence of certain events. The Company has also entered into a consulting agreement with one of its directors that provides for severance payments based on the director's consulting compensation upon the occurrence of certain events. At September 30, 1997, the Company's maximum estimated liability for future salaries, fees, bonuses and benefits under these agreements was approximately $15,000,000. 45 19. QUARTERLY FINANCIAL RESULTS (UNAUDITED) The Company's consolidated operating results for each quarter of 1997 and 1996 are summarized as follows (in thousands, except per share data):
THREE MONTHS ENDED ------------------------------------------- DECEMBER 31 MARCH 31 JUNE 30 SEPTEMBER 30 ----------- -------- -------- ------------ Year ended September 30, 1997 (1): Revenue Products....................... $36,556 $47,579 $ 52,234 $74,065 Product support................ 30,336 29,179 29,106 40,805 Services....................... 30,249 29,986 32,904 55,979 ------- ------- -------- ------- 97,141 106,744 114,244 170,849 Cost of sales Products and product support... 16,554 18,966 17,668 16,595 Services....................... 26,308 26,056 29,350 48,309 ------- ------- -------- ------- 42,862 45,022 47,018 64,904 ------- ------- -------- ------- Product development and enhancement..................... 4,806 5,011 4,532 8,765 Selling, general and administrative.................. 40,732 43,560 45,288 67,761 Reorganization costs............. 106,037 Purchased research and development..................... 137,849 Income (loss) from continuing operations...................... 12,740 15,324 (185,463) 24,431 Average common shares outstanding..................... 38,439 38,466 38,533 38,549 Income (loss) per common share: Net income (loss): Primary...................... $ .33 $ .40 $ (4.81) $ .62 Fully diluted................ .33 .40 (4.81) .61 Year ended September 30, 1996: Revenue Products....................... $34,972 $45,932 $ 50,027 $61,533 Product support................ 31,194 31,121 30,397 30,689 Services....................... 29,819 29,544 30,122 33,821 ------- ------- -------- ------- 95,985 106,597 110,546 126,043 Cost of sales Products and product support... 15,154 18,062 17,665 21,320 Services....................... 26,076 26,520 26,767 30,675 ------- ------- -------- ------- 41,230 44,582 44,432 51,995 Product development and enhancement..................... 6,072 5,197 4,618 5,034 Selling, general and administrative.................. 38,677 42,606 45,115 48,839 Income from continuing operations...................... 9,018 12,776 17,358 21,446 Income applicable to common stockholders.................... 21,307 152,018 29,394 35,169 Average common shares outstanding..................... 26,630 29,450 35,758 37,432 Income per common share: Income from continuing operations: Primary...................... $ .31 $ .40 $ .47 $ .57 Fully diluted................ .30 .39 .47 .57 Net income: Primary...................... $ .72 $ 4.74 $ .80 $ .93 Fully diluted................ .66 4.42 .80 .93
46 Information concerning the Company's operations by business segment for each quarter of 1997, 1996 and 1995 is summarized as follows (in thousands):
THREE MONTHS ENDED ---------------------------------------------- DECEMBER 31 MARCH 31 JUNE 30 SEPTEMBERN 30 ----------- -------- --------- ------------- Year ended September 30, 1997(1): Revenue: Systems Management............ $ 36,950 $ 43,916 $ 46,045 $ 57,768 Applications Management....... 21,952 21,834 22,015 77,141 Federal Systems............... 27,858 27,954 30,919 35,059 Corporate and other........... 10,381 13,040 15,265 881 -------- -------- --------- -------- Consolidated totals......... $ 97,141 $106,744 $ 114,244 $170,849 ======== ======== ========= ======== Operating Profit (Loss): Systems Management............ $ 12,889 $ 17,099 $ 18,530 $ 22,111 Applications Management....... 2,224 2,824 3,378 12,416 Federal Systems............... 2,395 2,303 1,826 2,165 Reorganization costs.......... (106,037) Purchased research and development.................. (137,849) Corporate and other........... (8,767) (9,075) (6,328) (7,273) -------- -------- --------- -------- Consolidated totals......... $ 8,741 $ 13,151 $(226,480) $ 29,419 ======== ======== ========= ======== Year ended September 30, 1996: Revenue: Systems Management............ $ 35,210 $ 40,969 $ 42,558 $ 52,067 Applications Management....... 26,459 28,228 28,244 26,873 Federal Systems............... 26,262 26,815 27,553 31,558 Corporate and other........... 8,054 10,585 12,191 15,545 -------- -------- --------- -------- Consolidated totals......... $ 95,985 $106,597 $ 110,546 $126,043 ======== ======== ========= ======== Operating Profit (Loss): Systems Management............ $ 11,625 $ 15,535 $ 16,389 $ 22,309 Applications Management....... 3,859 4,630 6,155 1,764 Federal Systems............... 2,300 1,816 2,038 1,828 Corporate and other........... (7,778) (7,769) (8,201) (5,726) -------- -------- --------- -------- Consolidated totals......... $ 10,006 $ 14,212 $ 16,381 $ 20,175 ======== ======== ========= ======== Year ended September 30, 1995: Revenue: Systems Management............ $ 33,374 $ 37,287 $ 37,821 $ 46,175 Applications Management....... 20,010 25,347 29,548 32,304 Federal Systems............... 23,665 24,590 25,372 28,075 Corporate and other........... 6,547 6,905 10,039 9,252 -------- -------- --------- -------- Consolidated totals......... $ 83,596 $ 94,129 $ 102,780 $115,806 ======== ======== ========= ======== Operating Profit (Loss): Systems Management............ $ 11,136 $ 13,460 $ 14,154 $ 16,721 Applications Management....... 4,491 5,125 5,284 6,420 Federal Systems............... 1,526 1,867 1,953 1,302 Reorganization costs.......... (19,512) Purchased research and development.................. (62,000) Corporate and other........... (6,308) (5,386) (5,894) (5,529) -------- -------- --------- -------- Consolidated totals......... $(70,667) $ 15,066 $ 15,497 $ 18,914 ======== ======== ========= ========
- -------- (1) On June 30, 1997, Sterling Software completed the acquisition of TI Software for approximately $214,774,000 including costs directly related to the acquisition. The acquisition was accounted for in accordance with the purchase method of accounting and, accordingly, the results of operations of TI Software are included in the Company's results of operations from the date of acquisition. The 1997 results of operations include $137,849,000 of purchased research and development costs, which is the portion of the purchase price attributable to in-process research and development and which was charged to expense in accordance with the purchase method of accounting. The 1997 results of operations also include reorganization costs of $106,037,000 primarily related to the reorganization of the Company's operations in connection with the acquisition of TI Software and the termination of the Company's International Distributor Agreement with Sterling Commerce. These reorganization costs also include the write-down of certain excess cost over net assets acquired related to the Company's federal systems business. The tax benefit related to the purchased research and development and reorganization costs was $39,737,000. 47 ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE. None. PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT. Information concerning the directors of the Company is set forth in the Proxy Statement to be provided to stockholders in connection with the Company's 1998 Annual Meeting of Stockholders (the "Proxy Statement") under the heading "Proposal I--Election of Directors," which information is incorporated herein by reference. Information concerning compliance with Section 16 of the Securities Exchange Act of 1934, as amended, by persons subject to such Section is set forth in the Proxy Statement under the heading "Section 16(a) Beneficial Ownership Reporting Compliance," which information is incorporated herein by reference. The name, age and position of each executive officer of the Company is set forth under the heading "Executive Officers" in Part I of this report, which information is incorporated herein by reference. ITEM 11. EXECUTIVE COMPENSATION. Information concerning executive compensation is set forth in the Proxy Statement under the headings "Management Compensation" and "Proposal I-- Election of Directors," which information is incorporated herein by reference. Information contained in the Proxy Statement under the caption "Management Compensation--Report of the Executive and Stock Option Committees on Executive Compensation" and "--Stock Performance Chart" is not incorporated by reference herein. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT. Information concerning security ownership of certain beneficial owners and management is set forth in the Proxy Statement under the heading "Security Ownership of Management and Certain Stockholders," which information is incorporated herein by reference. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS. Information concerning certain relationships and related transactions is set forth in the Proxy Statement under the headings "Management Compensation-- Executive and Stock Option Committee Interlocks and Insider Participation" and "Certain Transactions," which information is incorporated herein by reference. 48 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K. (a) The following documents are filed as a part of this Annual Report on Form 10-K. 1. Consolidated Financial Statements: See Index to Consolidated Financial Statements at Item 8. 2. Consolidated Financial Statement Schedule: Schedule II--Valuation and Qualifying Accounts for the Years Ended September 30, 1997, 1996 and 1995. 3. Exhibits: 2.1 Asset Purchase Agreement, dated April 18, 1997, by and between Texas Instruments Incorporated and the Company (1) 2.2 Amendment No. 1 to Asset Purchase Agreement, dated June 19, 1997, by and between Texas Instruments Incorporated, the Company and certain subsidiaries of the Company, and Amendment No. 2 to Asset Purchase Agreement, dated June 28, 1997, by and between Texas Instruments Incorporated, the Company and certain subsidiaries of the Company (2) 3.1 Certificate of Incorporation of the Company, as amended (3) 3.2 Restated Bylaws of the Company (4) 4.1 Form of Common Stock Certificate (5) 4.2 Rights Agreement, dated December 18, 1996, by and between the Company and The First National Bank of Boston, as Rights Agent (6) 10.1 Supplemental Executive Retirement Plan II of Informatics General Corporation ("SERP II"), as amended by Amendment to SERP II (7), (8) 10.2 Sterling Software, Inc. Amended and Restated 1996 Stock Option Plan (8), (9) 10.3 Form of Stock Option Agreement between the Company and each of Sam Wyly and Charles J. Wyly, Jr. (8), (19) 10.4 Form of Stock Option Agreement between the Company and Sterling L. Williams (8), (19) 10.5 Form of Stock Option Agreement between the Company and Jeannette P. Meier (8), (19) 10.6 Form of Stock Option Agreement between the Company and Geno P. Tolari (8), (19) 10.7 1997 Executive Compensation Plan for Group Presidents (8), (11) 10.8 1998 Executive Compensation Plan for Group Presidents (8), (19) 10.9 Employment Agreement, dated December 1, 1994, between the Company and Werner L. Frank (8), (12) 10.10 Consulting Agreement, dated October 1, 1996, between the Company and Michael C. French (8), (11) 10.11 Agreement, dated February 12, 1996, between the Company and Sterling L. Williams (8), (13) 10.12 Form of Change-in-Control Severance Agreement, dated February 12, 1996, between the Company and each of Sam Wyly, Charles J. Wyly, Jr., Sterling L. Williams, Jeannette P. Meier and Geno P. Tolari (8), (13) 10.13 Form of Amendment to Change-in-Control Severance Agreement, dated June 18, 1996, between the Company and each of Sam Wyly, Charles J. Wyly, Jr., Sterling L. Williams, Jeannette P. Meier and Geno P. Tolari (8), (14)
49 10.14 Form of Severance Agreement, dated February 12, 1996, between the Company and each of Jeannette P. Meier and Geno P. Tolari (8), (13) 10.15 Form of Amendment to Severance Agreement, dated August 15, 1997, between the Company and each of Jeannette P. Meier and Geno P. Tolari (8), (19) 10.16 Form of Indemnity Agreement between the Company and each of its directors and officers (7) 10.17 Sterling Software, Inc. Deferred Compensation Plan (adopted effective February 1, 1997) (8), (15) 10.18 First Amendment to Sterling Software, Inc. Deferred Compensation Plan, dated October 27, 1997 (8), (19) 10.19 Third Amended and Restated Revolving Credit Agreement, dated July 1, 1997, by and among the Company, BankBoston, N.A. and Bank One, Texas, National Association and BankBoston, N.A. as agent for itself and Bank One, Texas, National Association (16) 10.20 Tax Allocation Agreement, dated March 4, 1996, between the Company and Sterling Commerce, Inc. (17) 10.21 Indemnification Agreement, dated March 4, 1996, between the Company and Sterling Commerce, Inc. (18) 10.22 International Distributor Agreement, dated March 4, 1996, between Sterling Software International, Inc. and Sterling Commerce International, Inc. (18) 10.23 Amendment No. 1 to International Distributor Agreement, dated January 31, 1997, between Sterling Commerce B.V. and Sterling Software International, Inc. (3) 10.24 Termination Agreement, dated June 30, 1997, between Sterling Software International, Inc. and Sterling Commerce B.V. (2) 10.25 Master Software License Agreement, dated March 4, 1996, by and among the Company, Sterling Commerce, Inc. and their respective subsidiaries parties thereto (18) 10.26 Agreement dated September 19, 1996 by Sterling Commerce, Inc. for the benefit of the Company (11) 11.1 Computation of Earnings Per Share, Year Ended September 30, 1996 (19) 21.1 Subsidiaries of the Company (19) 23.1 Consent of Ernst & Young LLP (19) 27.1 Financial Data Schedule (19)
- -------- (1) Previously filed as an exhibit to the Company's Quarterly Report on Form 10-Q for the quarter ended March 31, 1997 and incorporated herein by reference. In accordance with Item 601 of Regulation S-K, this copy of the Asset Purchase Agreement does not include the schedules or exhibits thereto, which schedules and exhibits are listed in the table of contents to the Asset Purchase Agreement. The Company agrees to furnish supplementary to the Securities and Exchange Commission a copy of such schedules and exhibits upon request. (2) Previously filed as an exhibit to the Company's Current Report on Form 8- K dated June 30, 1997, as amended, and incorporated herein by reference. (3) Previously filed as an exhibit to the Company's Quarterly Report on Form 10-Q for the quarter ended December 31, 1996 and incorporated herein by reference. (4) Previously filed as an exhibit to the Company's Registration Statement No. 33-47131 and incorporated herein by reference. (5) Previously filed as an exhibit to the Company's Registration Statement No. 2-86825 and incorporated herein by reference. (6) Previously filed as an exhibit to the Company's Current Report on Form 8- K dated December 18, 1996 and incorporated herein by reference. (7) Previously filed as an exhibit to the Company's Annual Report on Form 10- K for the fiscal year ended September 30, 1993 and incorporated herein by reference. 50 (8) Management contract or compensatory plan or arrangement required to be filed as an exhibit to this form pursuant to Item 14(c) of Form 10-K. (9) Previously filed as an exhibit to the Company's Registration Statement No. 333-13303 and incorporated herein by reference. (10) Previously filed as an exhibit to the Company's Annual Report on Form 10- K for the fiscal year ended September 30, 1995 and incorporated herein by reference. (11) Previously filed as an exhibit to the Company's Annual Report on Form 10- K for the fiscal year ended September 30, 1996 and incorporated herein by reference. (12) Previously filed as an exhibit to the Company's Annual Report on Form 10- K for the fiscal year ended September 30, 1994 and incorporated herein by reference. (13) Previously filed as an exhibit to the Company's Quarterly Report on Form 10-Q for the quarter ended March 31, 1996 and incorporated herein by reference. (14) Previously filed as an exhibit to the Company's Quarterly Report on Form 10-Q for the quarter ended June 30, 1996 and incorporated herein by reference. (15) Previously filed as an exhibit to the Company's Registration Statement No. 333-37653 and incorporated herein by reference. (16) Previously filed as an exhibit to the Company's Quarterly Report on Form 10-Q for the quarter ended June 30, 1997 and incorporated herein by reference. (17) Previously filed as an exhibit to Registration Statement No. 33-80595 filed by Sterling Commerce, Inc. and incorporated herein by reference. (18) Previously filed as an exhibit to the Quarterly Report on Form 10-Q for the quarter ended March 31, 1996 filed by Sterling Commerce, Inc. and incorporated herein by reference. (19) Filed herewith. (b) Reports on Form 8-K. During the three-month period ended September 30, 1997, the Company filed one Current Report on Form 8-K (the "Report"). The Report, dated June 30, 1997 and filed with the Securities and Exchange Commission on July 1, 1997, included information under Item 2--Acquisition or Disposition of Assets and Item 5--Other Events. On August 13, 1997, the Report was amended to include the financial statements and exhibits required by Item 7 of Form 8-K. 51 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) 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. STERLING SOFTWARE, INC. Date: November 18, 1997 /s/ Sterling L. Williams By: _________________________________ Sterling L. Williams President, Chief Executive Officer and Director (Principal Executive Officer) Date: November 18, 1997 /s/ R. Logan Wray _____________________________________ R. Logan Wray Senior Vice President and Chief Financial Officer (Principal Financial and Accounting Officer) 52 Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated. Date: November 18, 1997 /s/ Robert J. Donachie ------------------------------------- Robert J. Donachie Chairman of the Audit Committee and Director Date: November 18, 1997 /s/ Michael C. French ------------------------------------- Michael C. French Director Date: November 18, 1997 /s/ Phillip A. Moore ------------------------------------- Phillip A. Moore Director Date: November 18, 1997 /s/ Charles J. Wyly, Jr. ------------------------------------- Charles J. Wyly, Jr. Vice Chairman of the Board and Director Date: November 18, 1997 /s/ Evan A. Wyly ------------------------------------- Evan A. Wyly Vice President and Director Date: November 18, 1997 /s/ Donald R. Miller, Jr. ------------------------------------- Donald R. Miller, Jr. Director Date: November 18, 1997 /s/ Alan W. Steelman ------------------------------------- Alan W. Steelman Director Date: November 18, 1997 /s/ Sterling L. Williams ------------------------------------- Sterling L. Williams President, Chief Executive Officer and Director (Principal Executive Officer) Date: November 18, 1997 /s/ Sam Wyly ------------------------------------- Sam Wyly Chairman of the Board and Director 53 SCHEDULE II STERLING SOFTWARE, INC. VALUATION AND QUALIFYING ACCOUNTS YEARS ENDED SEPTEMBER 30, 1997, 1996 AND 1995
ADDITIONS ---------------------- CHARGED TO BALANCE AT CHARGED TO OTHER BALANCE AT BEGINNING COSTS AND ACCOUNTS-- DEDUCTIONS-- END OF OF PERIOD EXPENSES DESCRIBE DESCRIBE PERIOD ---------- ---------- ----------- ------------ ----------- Allowance for doubtful accounts at September 30, 1995.............. $6,532,000 $4,351,000 $(1,563,000)(1) $(2,144,000)(2) $ 7,176,000 ========== ========== =========== =========== =========== Allowance for doubtful accounts at September 30, 1996.............. $7,176,000 $4,857,000 $(1,998,000)(1) $(3,959,000)(2) $ 6,076,000 ========== ========== =========== =========== =========== Allowance for doubtful accounts at September 30, 1997.............. $6,076,000 $3,950,000 $ 4,436,000 (3) $(2,310,000)(2) $12,152,000 ========== ========== =========== =========== ===========
- -------- (1) Offsets to deferred revenue. (2) Accounts written off. (3) Offsets to deferred revenue and allowances for doubtful accounts acquired in the acquisition of the Software Division of Texas Instruments Incorporated. INDEX TO EXHIBITS
EXHIBIT NO. DESCRIPTION ------- ----------- 2.1 Asset Purchase Agreement, dated April 18, 1997, by and between Texas Instruments Incorporated and the Company (1) 2.2 Amendment No. 1 to Asset Purchase Agreement, dated June 19, 1997, by and between Texas Instruments Incorporated, the Company and certain subsidiaries of the Company, and Amendment No. 2 to Asset Purchase Agreement, dated June 28, 1997, by and between Texas Instruments Incorporated, the Company and certain subsidiaries of the Company (2) 3.1 Certificate of Incorporation of the Company, as amended (3) 3.2 Restated Bylaws of the Company (4) 4.1 Form of Common Stock Certificate (5) 4.2 Rights Agreement, dated December 18, 1996, by and between the Company and The First National Bank of Boston, as Rights Agent (6) 10.1 Supplemental Executive Retirement Plan II of Informatics General Corporation ("SERP II"), as amended by Amendment to SERP II (7), (8) 10.2 Sterling Software, Inc. Amended and Restated 1996 Stock Option Plan (8), (9) 10.3 Form of Stock Option Agreement between the Company and each of Sam Wyly and Charles J. Wyly Jr. (8), (19) 10.4 Form of Stock Option Agreement between the Company and Sterling L. Williams (8), (19) 10.5 Form of Stock Option Agreement between the Company and Jeannette P. Meier (8), (19) 10.6 Form of Stock Option Agreement between the Company and Geno P. Tolari (8), (19) 10.7 1997 Executive Compensation Plan for Group Presidents (8), (11) 10.8 1998 Executive Compensation Plan for Group Presidents (8), (19) 10.9 Employment Agreement, dated December 1, 1994 between the Company and Werner L. Frank (8), (12) 10.10 Consulting Agreement, dated October 1, 1996, between the Company and Michael C. French (8), (11) 10.11 Agreement, dated February 12, 1996, between the Company and Sterling L. Williams (8), (13) 10.12 Form of Change-in-Control Severance Agreement, dated February 12, 1996, between the Company and each of Sam Wyly, Charles J. Wyly, Jr., Sterling L. Williams, Jeannette P. Meier and Geno P. Tolari (8), (13) 10.13 Form of Amendment to Change-in-Control Severance Agreement, dated June 18, 1996, between the Company and each of Sam Wyly, Charles J. Wyly, Jr., Sterling L. Williams, Jeannette P. Meier and Geno P. Tolari (8), (14) 10.14 Form of Severance Agreement, dated February 12, 1996, between the Company and each of Jeannette P. Meier and Geno P. Tolari (8), (13) 10.15 Form of Amendment to Severance Agreement, dated August 15, 1997, between the Company and each of Jeannette P. Meier and Geno P. Tolari (8), (19) 10.16 Form of Indemnity Agreement between the Company and each of its directors and officers (7) 10.17 Sterling Software, Inc. Deferred Compensation Plan (adopted effective February 1, 1997) (8), (15) 10.18 First Amendment to Sterling Software, Inc. Deferred Compensation Plan, dated October 27, 1997 (8), (19)
EXHIBIT NO. DESCRIPTION ------- ----------- 10.19 Third Amended and Restated Revolving Credit Agreement, dated July 1, 1997, by and among the Company, BankBoston, N.A. and Bank One, Texas, National Association and BankBoston, N.A. as agent for itself and Bank One, Texas, National Association (16) 10.20 Tax Allocation Agreement, dated March 4, 1996, between the Company and Sterling Commerce, Inc. (17) 10.21 Indemnification Agreement, dated March 4, 1996, between the Company and Sterling Commerce, Inc. (18) 10.22 International Distributor Agreement, dated March 4, 1996, between Sterling Software International, Inc. and Sterling Commerce International, Inc. (18) 10.23 Amendment No. 1 to International Distributor Agreement, dated January 31, 1997, between Sterling Commerce B.V. and Sterling Software International, Inc. (3) 10.24 Termination Agreement, dated June 30, 1997, between Sterling Software International, Inc. and Sterling Commerce B.V. (2) 10.25 Master Software License Agreement, dated March 4, 1996, by and among the Company, Sterling Commerce, Inc. and their respective subsidiaries parties thereto (18) 10.26 Agreement dated September 19, 1996 by Sterling Commerce, Inc. for the benefit of the Company (11) 11.1 Computation of Earnings Per Share, Year Ended September 30, 1996 (19) 21.1 Subsidiaries of the Company (19) 23.1 Consent of Ernst & Young LLP (19) 27.1 Financial Data Schedule (19)
- -------- (1) Previously filed as an exhibit to the Company's Quarterly Report on Form 10-Q for the quarter ended March 31, 1997 and incorporated herein by reference. In accordance with Item 601 of Regulation S-K, this copy of the Asset Purchase Agreement does not include the schedules or exhibits thereto, which schedules and exhibits are listed in the table of contents to the Asset Purchase Agreement. The Company agrees to furnish supplementary to the Securities and Exchange Commission a copy of such schedules and exhibits upon request. (2) Previously filed as an exhibit to the Company's Current Report on Form 8- K dated June 30, 1997, as amended, and incorporated herein by reference. (3) Previously filed as an exhibit to the Company's Quarterly Report on Form 10-Q for the quarter ended December 31, 1996 and incorporated herein by reference. (4) Previously filed as an exhibit to the Company's Registration Statement No. 33-47131 and incorporated herein by reference. (5) Previously filed as an exhibit to the Company's Registration Statement No. 2-86825 and incorporated herein by reference. (6) Previously filed as an exhibit to the Company's Current Report on Form 8- K dated December 18, 1996 and incorporated herein by reference. (7) Previously filed as an exhibit to the Company's Annual Report on Form 10- K for the fiscal year ended September 30, 1993 and incorporated herein by reference. (8) Management contract or compensatory plan or arrangement required to be filed as an exhibit to this form pursuant to Item 14(c) of Form 10-K. (9) Previously filed as an exhibit to the Company's Registration Statement No. 333-13303 and incorporated herein by reference. (10) Previously filed as an exhibit to the Company's Annual Report on Form 10- K for the fiscal year ended September 30, 1995 and incorporated herein by reference. (11) Previously filed as an exhibit to the Company's Annual Report on Form 10- K for the fiscal year ended September 30, 1996 and incorporated herein by reference. (12) Previously filed as an exhibit to the Company's Annual Report on Form 10- K for the fiscal year ended September 30, 1994 and incorporated herein by reference. (13) Previously filed as an exhibit to the Company's Quarterly Report on Form 10-Q for the quarter ended March 31, 1996 and incorporated herein by reference. (14) Previously filed as an exhibit to the Company's Quarterly Report on Form 10-Q for the quarter ended June 30, 1996 and incorporated herein by reference. (15) Previously filed as an exhibit to the Company's Registration Statement No. 333-37653 and incorporated herein by reference. (16) Previously filed as an exhibit to the Company's Quarterly Report on Form 10-Q for the quarter ended June 30 , 1997 and incorporated herein by reference. (17) Previously filed as an exhibit to Registration Statement No. 33-80595 filed by Sterling Commerce, Inc. and incorporated herein by reference. (18) Previously filed as an exhibit to the Quarterly Report on Form 10-Q for the quarter ended March 31, 1996 filed by Sterling Commerce, Inc. and incorporated herein by reference. (19) Filed herewith. EX-10.3 2 STOCK OPTIONS OF SAM WYLY & CHAS. J. WYLY, JR. Exhibit 10.3 STERLING SOFTWARE, INC. 1996 STOCK OPTION PLAN Stock Option Agreement ---------------------- This Stock Option Agreement (the "Agreement") is entered into by and between Sterling Software, Inc., a Delaware corporation (the "Company"), and ________ (the "Participant"). The Company and the Participant agree as follows: 1. Grant of Stock Option. The Company hereby grants to the Participant --------------------- effective as of ________ (the "Date of Grant"), upon the terms and conditions set forth below and subject to the terms and conditions of the Company's 1996 Stock Option Plan (the "Plan"), an option (the "Stock Option") to purchase from the Company a total of ________ shares of the Company's common stock, par value $0.10 per share ("Common Stock"), at an exercise price per share equal to ________ (the "Option Price"). Any terms, when used in this Agreement with initial capital letters but not defined herein, have the same meanings as in the Plan, the provisions of which are incorporated into this Agreement by reference. The Participant acknowledges receipt of a copy of the Plan. 2. Time of Exercise. The Stock Option may be exercised, in whole or in ---------------- part, at any time on or after the ninetieth (90th) day after the Date of Grant, without regard to whether the Participant is an employee or director of the Company or any Subsidiary at the time of exercise. Notwithstanding the foregoing, in the event of a Change in Control (as defined in Section 1(c) of the Change-in-Control Severance Agreement dated ________ between the Participant and the Company and any amendments thereto) or a threatened Change in Control, all of the unexercised portion of this Stock Option will become immediately exercisable, and the right of the Participant to exercise the Stock Option as to such unexercised portion will continue for the entire term described in Section 3 below, regardless of whether the Participant's employment with the Company or any Subsidiary terminates before the expiration of such term. Whether a Change in Control is threatened will be determined solely by the Board. In no event may the Stock Option be exercised in whole or in part, however, after the expiration of the term described in Section 3 below. 3. Term. The Stock Option will expire and all rights under this Agreement ---- will terminate on the tenth anniversary of the Date of Grant. 4. Restrictions on Exercise. The Stock Option: ------------------------ (a) may be exercised only with respect to full shares and no fractional shares of Common Stock will be issued upon exercise of the Stock Option; and (b) may be exercised in whole or in part, but no certificates representing shares subject to the Stock Option will be delivered if any requisite registration with, clearance by, or consent, approval or authorization of, any governmental authority of any kind having jurisdiction over the exercise of the Stock Option, or issuance of securities upon such exercise, has not been obtained or secured. 5. Manner of Exercise. The Stock Option may be exercised by written ------------------ notice to the Company of the number of shares being purchased and the Option Price to be paid, accompanied by full payment of the Option Price (a) in cash or by check acceptable to the Company, (b) by the transfer to the Company of shares of Common Stock owned by the Participant for at least six months and having an aggregate fair market value per share at the date of exercise equal to the aggregate Option Price (provided that the payment method described in this clause (b) will not be available at any time that the Company is prohibited from purchasing or acquiring such shares of Common Stock), or (c) by a combination of any of the foregoing, provided that payment of the Option Price may also be made by deferred payment from the proceeds of sale through a bank or broker of some or all of the shares to which the exercise relates. Any federal, state or local taxes required to be paid or withheld at the time of exercise will be paid or withheld in full prior to any delivery of shares upon exercise. 6. Transferability of Stock Options. This Stock Option may be -------------------------------- transferred by the Participant on five days prior written notice to the Company. Such notice period may be waived in the discretion of the Secretary of the Company. In the event of a transfer, the transferee will succeed to all of the rights, restrictions and obligations of the Participant under this Agreement. 7. Rights as Stockholder. Neither the Participant nor any of the --------------------- Participant's beneficiaries will be deemed to have any rights as a stockholder with respect to any shares covered by the Stock Option until the issuance of a certificate to the Participant for such shares. 8. Adjustments. The number of shares of Common Stock covered by the Stock ----------- Option evidenced by this Agreement, and the Option Price thereof, will be subject to adjustment as provided in the Plan. No adjustment will be made for dividends or other rights for which the record date is prior to the issuance of the certificate or certificates representing shares issued pursuant to the Stock Option. 9. Rights in Event of Death of Participant. In the event of the death of --------------------------------------- the Participant, the Stock Option may be exercised by the Participant's estate or a person who acquired the right to exercise the Stock Option by bequest or inheritance or by reason of the death of the Participant. In no event may the Stock Option be exercised after the expiration date set forth in Section 3. 10. Stock Purchased for Investment. Unless the shares are covered by a ------------------------------ then current and effective registration statement under the Securities Act of 1933, as then in effect, the Participant, by accepting the Stock Option, represents, warrants, covenants and agrees on behalf of the Participant and the Participant's transferees that all shares of Common Stock purchased upon the exercise of the Stock Option will be acquired for investment and not for resale or distribution, and that upon each exercise of any portion of the Stock Option, the person entitled to exercise the same will furnish evidence satisfactory to the Company (including a written and signed representation) to the effect that the shares are being acquired in good faith for investment -2- and not for resale or distribution. The Participant agrees to furnish or execute such documents as the Company in its discretion deems necessary to (a) evidence such exercise of the Stock Option, (b) determine whether registration is then required under the Securities Act of 1933, as then in effect, and (c) comply with or satisfy the requirements of the Securities Act of 1933, or any other federal, state or local law, as then in effect. 11. Notices. Each notice relating to this Agreement will be in writing and ------- delivered in person or by certified mail to the proper address. Each notice will be deemed to have been given on the date it is received. Each notice to the Company will be addressed to it at its principal office, now 300 Crescent Court, Suite 1200, Dallas, Texas 75201, attention of the Secretary. Each notice to the Participant or other person or persons then entitled to exercise the Stock Option will be addressed to the Participant or such other person or persons at the Participant's address specified below. Anyone to whom a notice may be given under this Agreement may designate a new address by notice to that effect. 12. Employment. This Agreement does not confer upon the Participant any ---------- right to be employed or to continue in the employ of the Company or any Subsidiary, nor does it in any way interfere with the right of the Company or any Subsidiary to terminate the employment of the Participant at any time. 13. No Obligation to Exercise Stock Option. This Agreement does not -------------------------------------- impose any obligation upon the Participant to exercise the Stock Option. 14. Amendments. The Special Stock Option Committee, the Stock Option ---------- Committee or the Board, as authorized pursuant to the Plan, may, without the consent of the Participant, amend this Agreement, or otherwise take action, to accelerate the time or times at which the Stock Option may be exercised, to extend the term described in Section 3 above, to waive any other condition or restriction applicable to the Stock Option or to the exercise of the Stock Option, to reduce the Option Price and to make any other change permitted to be made under the Plan without the consent of the Participant; and may amend the Agreement in any other respect with the consent of the Participant. 15. Governing Law. This Agreement is intended to be performed in the ------------- State of Texas and will be construed and enforced in accordance with and governed by the laws of such State, except as to matters of corporate law, which will be governed by the laws of the State of Delaware. -3- IN WITNESS WHEREOF, the Company and the Participant have executed this Agreement as of the ________. STERLING SOFTWARE, INC. By: -------------------------------------------- Sterling L. Williams President and Chief Executive Officer PARTICIPANT: ----------------------------------------------- Signature ----------------------------------------------- Print Name Social Security Number ------------------------ Address for Notice: ----------------------------------------------- ----------------------------------------------- -4- EX-10.4 3 STOCK OPTION OF STERLING L. WILLIAMS Exhibit 10.4 STERLING SOFTWARE, INC. 1996 STOCK OPTION PLAN Stock Option Agreement ---------------------- This Stock Option Agreement (the "Agreement") is entered into by and between Sterling Software, Inc., a Delaware corporation (the "Company"), and ________ (the "Participant"). The Company and the Participant agree as follows: 1. Grant of Stock Option. The Company hereby grants to the Participant --------------------- effective as of ________ (the "Date of Grant"), upon the terms and conditions set forth below and subject to the terms and conditions of the Company's 1996 Stock Option Plan (the "Plan"), an option (the "Stock Option") to purchase from the Company a total of ________ shares of the Company's common stock, par value $0.10 per share ("Common Stock"), at an exercise price per share equal to ________ (the "Option Price"). Any terms, when used in this Agreement with initial capital letters but not defined herein, have the same meanings as in the Plan, the provisions of which are incorporated into this Agreement by reference. The Participant acknowledges receipt of a copy of the Plan. 2. Time of Exercise. The Stock Option may be exercised, in whole or in ---------------- part, at any time on or after the Date of Grant, without regard to whether the Participant is an employee or director of the Company or any Subsidiary at the time of exercise. In no event may the Stock Option be exercised in whole or in part, however, after the expiration of the term described in Section 3 below. 3. Term. The Stock Option will expire and all rights under this ---- Agreement will terminate on the tenth anniversary of the Date of Grant. 4. Restrictions on Exercise. The Stock Option: ------------------------ (a) may be exercised only with respect to full shares and no fractional shares of Common Stock will be issued upon exercise of the Stock Option; and (b) may be exercised in whole or in part, but no certificates representing shares subject to the Stock Option will be delivered if any requisite registration with, clearance by, or consent, approval or authorization of, any governmental authority of any kind having jurisdiction over the exercise of the Stock Option, or issuance of securities upon such exercise, has not been obtained or secured. 5. Manner of Exercise. The Stock Option may be exercised by written ------------------ notice to the Company of the number of shares being purchased and the Option Price to be paid, accompanied by full payment of the Option Price (a) in cash or by check acceptable to the Company, (b) by the transfer to the Company of shares of Common Stock owned by the Participant for at least six months and having an aggregate fair market value per share at the date of exercise equal to the aggregate Option Price (provided that the payment method described in this clause (b) will not be available at any time that the Company is prohibited from purchasing or acquiring such shares of Common Stock), or (c) by a combination of any of the foregoing, provided that payment of the Option Price may also be made by deferred payment from the proceeds of sale through a bank or broker of some or all of the shares to which the exercise relates. Any federal, state or local taxes required to be paid or withheld at the time of exercise will be paid or withheld in full prior to any delivery of shares upon exercise. 6. Transferability of Stock Options. This Stock Option may be -------------------------------- transferred by the Participant on five days prior written notice to the Company. Such notice period may be waived in the discretion of the Secretary of the Company. In the event of a transfer, the transferee will succeed to all of the rights, restrictions and obligations of the Participant under this Agreement. 7. Rights as Stockholder. Neither the Participant nor any of the --------------------- Participant's beneficiaries will be deemed to have any rights as a stockholder with respect to any shares covered by the Stock Option until the issuance of a certificate to the Participant for such shares. 8. Adjustments. The number of shares of Common Stock covered by the Stock ----------- Option evidenced by this Agreement, and the Option Price thereof, will be subject to adjustment as provided in the Plan. No adjustment will be made for dividends or other rights for which the record date is prior to the issuance of the certificate or certificates representing shares issued pursuant to the Stock Option. 9. Rights in Event of Death of Participant. In the event of the death of --------------------------------------- the Participant, the Stock Option may be exercised by the Participant's estate or a person who acquired the right to exercise the Stock Option by bequest or inheritance or by reason of the death of the Participant. In no event may the Stock Option be exercised after the expiration date set forth in Section 3. 10. Stock Purchased for Investment. Unless the shares are covered by a ------------------------------ then current and effective registration statement under the Securities Act of 1933, as then in effect, the Participant, by accepting the Stock Option, represents, warrants, covenants and agrees on behalf of the Participant and the Participant's transferees that all shares of Common Stock purchased upon the exercise of the Stock Option will be acquired for investment and not for resale or distribution, and that upon each exercise of any portion of the Stock Option, the person entitled to exercise the same will furnish evidence satisfactory to the Company (including a written and signed representation) to the effect that the shares are being acquired in good faith for investment and not for resale or distribution. The Participant agrees to furnish or execute such documents as the Company in its discretion deems necessary to (a) evidence such exercise of the Stock Option, (b) determine whether registration is then required under the Securities Act of 1933, as then in effect, and (c) comply with or satisfy the requirements of the Securities Act of 1933, or any other federal, state or local law, as then in effect. -2- 11. Notices. Each notice relating to this Agreement will be in writing ------- and delivered in person or by certified mail to the proper address. Each notice will be deemed to have been given on the date it is received. Each notice to the Company will be addressed to it at its principal office, now 300 Crescent Court, Suite 1200, Dallas, Texas 75201, attention of the Secretary. Each notice to the Participant or other person or persons then entitled to exercise the Stock Option will be addressed to the Participant or such other person or persons at the Participant's address specified below. Anyone to whom a notice may be given under this Agreement may designate a new address by notice to that effect. 12. Employment. This Agreement does not confer upon the Participant any ---------- right to be employed or to continue in the employ of the Company or any Subsidiary, nor does it in any way interfere with the right of the Company or any Subsidiary to terminate the employment of the Participant at any time. 13. No Obligation to Exercise Stock Option. This Agreement does not -------------------------------------- impose any obligation upon the Participant to exercise the Stock Option. 14. Amendments. The Special Stock Option Committee, the Stock Option ---------- Committee or the Board, as authorized pursuant to the Plan, may, without the consent of the Participant, amend this Agreement, or otherwise take action, to accelerate the time or times at which the Stock Option may be exercised, to extend the term described in Section 3 above, to waive any other condition or restriction applicable to the Stock Option or to the exercise of the Stock Option, to reduce the Option Price and to make any other change permitted to be made under the Plan without the consent of the Participant; and may amend the Agreement in any other respect with the consent of the Participant. 15. Governing Law. This Agreement is intended to be performed in the ------------- State of Texas and will be construed and enforced in accordance with and governed by the laws of such State, except as to matters of corporate law, which will be governed by the laws of the State of Delaware. -3- IN WITNESS WHEREOF, the Company and the Participant have executed this Agreement as of the ________. STERLING SOFTWARE, INC. By: ------------------------------------------- Jeannette P. Meier Executive Vice President PARTICIPANT: ----------------------------------------------- Signature ----------------------------------------------- Print Name Social Security Number: ---------------------- Address for Notice: ----------------------------------------------- ----------------------------------------------- -4- EX-10.5 4 STOCK OPTION OF JEANNETTE P. MEIER Exhibit 10.5 STERLING SOFTWARE, INC. 1996 STOCK OPTION PLAN Stock Option Agreement ---------------------- This Stock Option Agreement (the "Agreement") is entered into by and between Sterling Software, Inc., a Delaware corporation (the "Company"), and ________ (the "Participant"). The Company and the Participant agree as follows: 1. Grant of Stock Option. The Company hereby grants to the Participant --------------------- effective as of ________ (the "Date of Grant"), upon the terms and conditions set forth below and subject to the terms and conditions of the Company's 1996 Stock Option Plan (the "Plan"), an option (the "Stock Option") to purchase from the Company a total of ________ shares of the Company's common stock, par value $0.10 per share ("Common Stock"), at an exercise price per share equal to ________ (the "Option Price"). Any terms, when used in this Agreement with initial capital letters but not defined herein, have the same meanings as in the Plan, the provisions of which are incorporated into this Agreement by reference. The Participant acknowledges receipt of a copy of the Plan. 2. Time of Exercise. The Stock Option may be exercised, in whole or in ---------------- part, according to the following schedule:
Percentage Exercisable Periods ----------- ------- 0% Immediately 25% On the first anniversary of the Date of Grant 50% On the second anniversary of the Date of Grant 75% On the third anniversary of the Date of Grant 100% On the fourth anniversary of the Date of Grant
Notwithstanding the foregoing schedule, in the event of a Change in Control (as defined in Section 1(c) of the Change-in-Control Severance Agreement dated ________ between the Participant and the Company and any amendments thereto) or a threatened Change in Control, all of the unexercised portion of this Stock Option will become immediately exercisable. Whether a Change in Control is threatened will be determined solely by the Board. The unexercised portion of the Stock Option from one annual period may be carried over to a subsequent annual period or periods, and the right of the Participant to exercise the Stock Option as to such unexercised portion will continue for the entire term described in Section 3 below, without regard to whether the Participant is an employee or director of the Company or any Subsidiary at the time of exercise. In no event may the Stock Option be exercised in whole or in part, however, after the expiration of such term. 3. Term. The Stock Option will expire and all rights under this ---- Agreement will terminate on the tenth anniversary of the Date of Grant. 4. Restrictions on Exercise. The Stock Option: ------------------------ (a) may be exercised only with respect to full shares and no fractional shares of Common Stock will be issued upon exercise of the Stock Option; and (b) may be exercised in whole or in part, but no certificates representing shares subject to the Stock Option will be delivered if any requisite registration with, clearance by, or consent, approval or authorization of, any governmental authority of any kind having jurisdiction over the exercise of the Stock Option, or issuance of securities upon such exercise, has not been obtained or secured. 5. Manner of Exercise. The Stock Option may be exercised by written ------------------ notice to the Company of the number of shares being purchased and the Option Price to be paid, accompanied by full payment of the Option Price (a) in cash or by check acceptable to the Company, (b) by the transfer to the Company of shares of Common Stock owned by the Participant for at least six months and having an aggregate fair market value per share at the date of exercise equal to the aggregate Option Price (provided that the payment method described in this clause (b) will not be available at any time that the Company is prohibited from purchasing or acquiring such shares of Common Stock), or (c) by a combination of any of the foregoing, provided that payment of the Option Price may also be made by deferred payment from the proceeds of sale through a bank or broker of some or all of the shares to which the exercise relates. Any federal, state or local taxes required to be paid or withheld at the time of exercise will be paid or withheld in full prior to any delivery of shares upon exercise. 6. Transferability of Stock Options. This Stock Option may be -------------------------------- transferred by the Participant on five days prior written notice to the Company. Such notice period may be waived in the discretion of the Secretary of the Company. In the event of a transfer, the transferee will succeed to all of the rights, restrictions and obligations of the Participant under this Agreement. 7. Rights as Stockholder. Neither the Participant nor any of the --------------------- Participant's beneficiaries will be deemed to have any rights as a stockholder with respect to any shares covered by the Stock Option until the issuance of a certificate to the Participant for such shares. 8. Adjustments. The number of shares of Common Stock covered by the Stock ----------- Option evidenced by this Agreement, and the Option Price thereof, will be subject to adjustment as provided in the Plan. No adjustment will be made for dividends or other rights for which the record date is prior to the issuance of the certificate or certificates representing shares issued pursuant to the Stock Option. -2- 9. Rights in Event of Death or Termination of Employment as a Result of -------------------------------------------------------------------- Disability of Participant. If the Participant dies or terminates employment as - ------------------------- a result of disability prior to termination of the Participant's rights to exercise the Stock Option, any unexercised portion of the Stock Option will become immediately exercisable and may be exercised, subject to all conditions of the Plan and this Agreement, until the expiration of the term set forth in Section 3. In the event of the death of the Participant, the Stock Option may be exercised by the Participant's estate or a person who acquired the right to exercise the Stock Option by bequest or inheritance or by reason of the death of the Participant. For purposes of this section, the Executive Committee of the Board will have sole discretion to determine whether termination of a Participant's employment has occurred "as a result of disability." In no event may the Stock Option be exercised after the expiration date set forth in Section 3. 10. Stock Purchased for Investment. Unless the shares are covered by a ------------------------------ then current and effective registration statement under the Securities Act of 1933, as then in effect, the Participant, by accepting the Stock Option, represents, warrants, covenants and agrees on behalf of the Participant and the Participant's transferees that all shares of Common Stock purchased upon the exercise of the Stock Option will be acquired for investment and not for resale or distribution, and that upon each exercise of any portion of the Stock Option, the person entitled to exercise the same will furnish evidence satisfactory to the Company (including a written and signed representation) to the effect that the shares are being acquired in good faith for investment and not for resale or distribution. The Participant agrees to furnish or execute such documents as the Company in its discretion deems necessary to (a) evidence such exercise of the Stock Option, (b) determine whether registration is then required under the Securities Act of 1933, as then in effect, and (c) comply with or satisfy the requirements of the Securities Act of 1933, or any other federal, state or local law, as then in effect. 11. Notices. Each notice relating to this Agreement will be in writing and ------- delivered in person or by certified mail to the proper address. Each notice will be deemed to have been given on the date it is received. Each notice to the Company will be addressed to it at its principal office, now 300 Crescent Court, Suite 1200, Dallas, Texas 75201, attention of the Secretary. Each notice to the Participant or other person or persons then entitled to exercise the Stock Option will be addressed to the Participant or such other person or persons at the Participant's address specified below. Anyone to whom a notice may be given under this Agreement may designate a new address by notice to that effect. 12. Employment. This Agreement does not confer upon the Participant any ---------- right to be employed or to continue in the employ of the Company or any Subsidiary, nor does it in any way interfere with the right of the Company or any Subsidiary to terminate the employment of the Participant at any time. 13. No Obligation to Exercise Stock Option. This Agreement does not -------------------------------------- impose any obligation upon the Participant to exercise the Stock Option. -3- 14. Amendments. The Special Stock Option Committee, the Stock Option ---------- Committee or the Board, as authorized pursuant to the Plan, may, without the consent of the Participant, amend this Agreement, or otherwise take action, to accelerate the time or times at which the Stock Option may be exercised, to extend the term described in Section 3 above, to waive any other condition or restriction applicable to the Stock Option or to the exercise of the Stock Option, to reduce the Option Price and to make any other change permitted to be made under the Plan without the consent of the Participant; and may amend the Agreement in any other respect with the consent of the Participant. 15. Governing Law. This Agreement is intended to be performed in the ------------- State of Texas and will be construed and enforced in accordance with and governed by the laws of such State, except as to matters of corporate law, which will be governed by the laws of the State of Delaware. -4- IN WITNESS WHEREOF, the Company and the Participant have executed this Agreement as of the ________. STERLING SOFTWARE, INC. By: ----------------------------------------- Sterling L. Williams President and Chief Executive Officer PARTICIPANT: -------------------------------------------- Signature -------------------------------------------- Print Name Social Security Number: --------------------- Address for Notice: -------------------------------------------- -------------------------------------------- -5- EX-10.6 5 STOCK OPTION OF GENO P. TOLARI Exhibit 10.6 STERLING SOFTWARE, INC. 1996 STOCK OPTION PLAN Stock Option Agreement ---------------------- This Stock Option Agreement (the "Agreement") is entered into by and between Sterling Software, Inc., a Delaware corporation (the "Company"), and ________ (the "Participant"). The Company and the Participant agree as follows: 1. Grant of Stock Option. The Company hereby grants to the Participant --------------------- effective as of ________ (the "Date of Grant"), upon the terms and conditions set forth below and subject to the terms and conditions of the Company's 1996 Stock Option Plan (the "Plan"), an option (the "Stock Option") to purchase from the Company a total of ________ shares of the Company's common stock, par value $0.10 per share ("Common Stock"), at an exercise price per share equal to ________ (the "Option Price"). Any terms, when used in this Agreement with initial capital letters but not defined herein, have the same meanings as in the Plan, the provisions of which are incorporated into this Agreement by reference. The Participant acknowledges receipt of a copy of the Plan. 2. Time of Exercise. The Stock Option may be exercised, in whole or in ---------------- part, according to the following schedule:
Percentage Exercisable Periods ----------- ------- 0% Immediately 25% On the first anniversary of the Date of Grant 50% On the second anniversary of the Date of Grant 75% On the third anniversary of the Date of Grant 100% On the fourth anniversary of the Date of Grant
Notwithstanding the foregoing schedule, in the event of a Change in Control (as defined in Section 1(c) of the Change-in-Control Severance Agreement dated ________ between the Participant and the Company and any amendments thereto) or a threatened Change in Control, all of the unexercised portion of this Stock Option will become immediately exercisable, and the right of the Participant to exercise the Stock Option as to such unexercised portion will continue for the entire term described in Section 3 below, regardless of whether the Participant's employment with the Company or any Subsidiary terminates before the expiration of such term. Whether a Change in Control is threatened will be determined solely by the Board. The unexercised portion of the Stock Option from one annual period may be carried over to a subsequent annual period or periods, and the right of the Participant to exercise the Stock Option as to such unexercised portion will continue for the entire term described in Section 3 below, subject to the provisions of Section 9 and 10 below. In no event may the Stock Option be exercised in whole or in part, however, after the expiration of such term. 3. Term. The Stock Option will expire and all rights under this Agreement ---- will terminate on the tenth anniversary of the Date of Grant. 4. Restrictions on Exercise. The Stock Option: ------------------------ (a) may be exercised only with respect to full shares and no fractional shares of Common Stock will be issued upon exercise of the Stock Option; and (b) may be exercised in whole or in part, but no certificates representing shares subject to the Stock Option will be delivered if any requisite registration with, clearance by, or consent, approval or authorization of, any governmental authority of any kind having jurisdiction over the exercise of the Stock Option, or issuance of securities upon such exercise, has not been obtained or secured. 5. Manner of Exercise. The Stock Option may be exercised by written notice ------------------ to the Company of the number of shares being purchased and the Option Price to be paid, accompanied by full payment of the Option Price (a) in cash or by check acceptable to the Company, (b) by the transfer to the Company of shares of Common Stock owned by the Participant for at least six months and having an aggregate fair market value per share at the date of exercise equal to the aggregate Option Price (provided that the payment method described in this clause (b) will not be available at any time that the Company is prohibited from purchasing or acquiring such shares of Common Stock), or (c) by a combination of any of the foregoing, provided that payment of the Option Price may also be made by deferred payment from the proceeds of sale through a bank or broker of some or all of the shares to which the exercise relates. Any federal, state or local taxes required to be paid or withheld at the time of exercise will be paid or withheld in full prior to any delivery of shares upon exercise. 6. Transferability of Stock Options. This Stock Option may be transferred -------------------------------- by the Participant on five days prior written notice to the Company. Such notice period may be waived in the discretion of the Secretary of the Company. In the event of a transfer, the transferee will succeed to all of the rights, restrictions and obligations of the Participant under this Agreement. 7. Rights as Stockholder. Neither the Participant nor any of the --------------------- Participant's beneficiaries will be deemed to have any rights as a stockholder with respect to any shares covered by the Stock Option until the issuance of a certificate to the Participant for such shares. -2- 8. Adjustments. The number of shares of Common Stock covered by the Stock ----------- Option evidenced by this Agreement, and the Option Price thereof, will be subject to adjustment as provided in the Plan. No adjustment will be made for dividends or other rights for which the record date is prior to the issuance of the certificate or certificates representing shares issued pursuant to the Stock Option. 9. Rights in Event of Death or Termination of Employment as a Result of -------------------------------------------------------------------- Disability of Participant. If the Participant dies or terminates employment as - ------------------------- a result of disability prior to termination of the Participant's rights to exercise the Stock Option, any unexercised portion of the Stock Option will become immediately exercisable and may be exercised, subject to all conditions of the Plan and this Agreement, until the expiration of the term set forth in Section 3. In the event of the death of the Participant, the Stock Option may be exercised by the Participant's estate or a person who acquired the right to exercise the Stock Option by bequest or inheritance or by reason of the death of the Participant. For purposes of this section, the Executive Committee of the Board will have sole discretion to determine whether termination of a Participant's employment has occurred "as a result of disability." In no event may the Stock Option be exercised after the expiration date set forth in Section 3. 10. Rights in Event of Termination of Employment Other Than as a Result of ---------------------------------------------------------------------- Death or Disability. With respect to a Participant who is an employee of the - ------------------- Company or any Subsidiary on the Date of Grant, if the Participant ceases to be employed by the Company and all Subsidiaries, other than as a result of death or disability, prior to the termination of the Participant's rights to exercise the Stock Option, any unexercised portion of the Stock Option will continue to vest in accordance with Section 2 and will be exercisable through the 90th day following the last day on which the Participant is entitled to receive any compensation, including but not limited to severance or termination payments ("Compensation"), from the Company. With respect to a Participant who is an employee of the Company or any Subsidiary on the Date of Grant and who subsequently ceases to be employed by the Company and all Subsidiaries due to "retirement," the Stock Option will continue to vest in accordance with Section 2 and will be exercisable until the expiration of the term set forth in Section 3 unless, within 60 days after the date of the Participant's "retirement," the Executive Committee of the Board, in its sole discretion, takes action to disapprove of such "retirement". In the event of such disapproval, the Stock Option will be exercisable through the 90th day following the last day on which the Participant is entitled to receive any Compensation. For purposes of this Agreement, "retirement" will mean termination of employment as a result of a voluntary resignation by the Participant on or after the date on which the Participant has been employed by the Company or any Subsidiary for ten years or more. In no event may the Stock Option be exercised after the expiration date set forth in Section 3. -3- 11. Stock Purchased for Investment. Unless the shares are covered by a then ------------------------------ current and effective registration statement under the Securities Act of 1933, as then in effect, the Participant, by accepting the Stock Option, represents, warrants, covenants and agrees on behalf of the Participant and the Participant's transferees that all shares of Common Stock purchased upon the exercise of the Stock Option will be acquired for investment and not for resale or distribution, and that upon each exercise of any portion of the Stock Option, the person entitled to exercise the same will furnish evidence satisfactory to the Company (including a written and signed representation) to the effect that the shares are being acquired in good faith for investment and not for resale or distribution. The Participant agrees to furnish or execute such documents as the Company in its discretion deems necessary to (a) evidence such exercise of the Stock Option, (b) determine whether registration is then required under the Securities Act of 1933, as then in effect, and (c) comply with or satisfy the requirements of the Securities Act of 1933, or any other federal, state or local law, as then in effect. 12. Notices. Each notice relating to this Agreement will be in writing and ------- delivered in person or by certified mail to the proper address. Each notice will be deemed to have been given on the date it is received. Each notice to the Company will be addressed to it at its principal office, now 300 Crescent Court, Suite 1200, Dallas, Texas 75201, attention of the Secretary. Each notice to the Participant or other person or persons then entitled to exercise the Stock Option will be addressed to the Participant or such other person or persons at the Participant's address specified below. Anyone to whom a notice may be given under this Agreement may designate a new address by notice to that effect. 13. Employment. This Agreement does not confer upon the Participant any ---------- right to be employed or to continue in the employ of the Company or any Subsidiary, nor does it in any way interfere with the right of the Company or any Subsidiary to terminate the employment of the Participant at any time. 14. No Obligation to Exercise Stock Option. This Agreement does not impose -------------------------------------- any obligation upon the Participant to exercise the Stock Option. 15. Amendments. The Special Stock Option Committee, the Stock Option ---------- Committee or the Board, as authorized pursuant to the Plan, may, without the consent of the Participant, amend this Agreement, or otherwise take action, to accelerate the time or times at which the Stock Option may be exercised, to extend the term described in Section 3 above, to waive any other condition or restriction applicable to the Stock Option or to the exercise of the Stock Option, to reduce the Option Price and to make any other change permitted to be made under the Plan without the consent of the Participant; and may amend the Agreement in any other respect with the consent of the Participant. 16. Governing Law. This Agreement is intended to be performed in the State ------------- of Texas and will be construed and enforced in accordance with and governed by the laws of such State, except as to matters of corporate law, which will be governed by the laws of the State of Delaware. -4- IN WITNESS WHEREOF, the Company and the Participant have executed this Agreement as of the ________. STERLING SOFTWARE, INC. By: -------------------------------------- Sterling L. Williams President and Chief Executive Officer PARTICIPANT: ----------------------------------------- Signature ----------------------------------------- Print Name Social Security Number: ------------------ Address for Notice: ----------------------------------------- ----------------------------------------- -5- EX-10.8 6 1998 EXECUTIVE COMP. PLAN FOR GROUP PRESIDENTS Exhibit 10.8 EXECUTIVE COMPENSATION PLAN Sterling Software, Inc. Group Presidents FY98 PURPOSE - ------- The purpose of the Executive Compensation Plan ("Plan") is to provide rewards for Group Presidents based on their ability to achieve and exceed specific Group objectives. ELIGIBILITY - ----------- All Group Presidents ("Participants") are eligible to participate in the Plan. Eligibility of certain persons to participate in the Plan may be changed at any time at the sole discretion of the Chief Operating Officer of Sterling Software, Inc. ("COO"). EFFECTIVE PERIOD - ---------------- The Plan is in effect beginning October 1, 1997 through September 30, 1998, subject to change at any time at the sole discretion of the COO. The Plan does not constitute an employment agreement and the COO reserves the right to terminate the employment of the Participants without cause at any time. GROUP OBJECTIVES - ---------------- Certain Plan compensation will be based on the achievement of specific Group Operating Profit Objectives. Each Participant in the Plan agrees to provide a detailed action plan to achieve his assigned Group Objectives against which his performance will subsequently be measured. Group Objectives, their achievement and the methods of measuring achievement will be determined by the COO for the purposes of this Plan. Objectives are subject to change at any time at the sole discretion of the COO in the exercise of his reasonable business judgment. COMPENSATION TERMS - ------------------ The amounts and types of compensation to be received under the Plan will be determined by each Participant's Executive Compensation Agreement ("Agreement"). PAYMENTS - -------- Salaries provided for under the Agreement are payable bi-weekly from the effective date of the Agreement. Contingent compensation provided for under the Agreement is payable (i) no later than sixty days after the applicable quarter end with respect to compensation based upon quarterly objectives and (ii) no later than ninety-five days after the fiscal year end with respect to compensation based upon annual objectives. No payment of contingent compensation will be EXECUTIVE COMPENSATION PLAN Page Two made unless a Participant is a full-time employee of Sterling Software, Inc. acting in the capacity of a Group President at quarter end, with respect to any quarterly objective, or at September 30, 1998, with respect to an annual objective; provided however that in the event of termination of a Participant's employment as a result of the death or disability of a Participant while acting in the capacity of a Group President, Sterling Software, Inc. shall pay to such Participant a prorated portion of the contingent compensation provided for herein provided that at least 90% of the Group Operating Profit had been attained on a prorata basis as of the Participant's termination of employment. -2- EX-10.15 7 AMENDMENT TO SEVERANCE AGREEMENT Exhibit 10.15 AMENDMENT TO SEVERANCE AGREEMENT THIS AMENDMENT TO SEVERANCE AGREEMENT (this "Amendment") is made and entered into as of the 15th day of August, 1997, by and between Sterling Software, Inc., a Delaware corporation ("Sterling Software"), and ________, an individual (the "Executive"). RECITALS: WHEREAS, Sterling Software and the Executive are parties to a Severance Agreement dated as of ________ (the "Agreement"); and WHEREAS, Sterling Software and the Executive desire to amend the Agreement in the manner set forth in this Amendment; NOW, THEREFORE, Sterling Software and the Executive hereby agree as follows: 1. Amendment. Section 4(b) of the Agreement is hereby amended in its --------- entirety to read as follows: (b) an amount equivalent to the product of ________ times: (i) 100% of the Plan Bonus Amount (as hereinafter defined) in effect immediately prior to the Notice Date, or (ii) if no Plan Bonus Amount shall be in effect or readily determinable by Sterling Software with respect to the Executive immediately prior to the Notice Date, an amount equal to the aggregate amount of the bonus, incentive or other cash compensation, in addition to (but not including) the Executive's annual base salary, received by the Executive pursuant to any bonus, incentive compensation, performance, discretionary pay or similar agreement, policy, plan, program or arrangement (whether or not funded) of the Company during the 365 days immediately prior to the Notice Date. As used herein, the term "Plan Bonus Amount" shall mean the aggregate amount (calculated to avoid duplication, on an annualized basis and with respect only to the fiscal year of Sterling Software in which the Notice Date occurs) of the budgeted or otherwise authorized or contemplated bonus, incentive or other cash compensation, in addition to (but not including) the Executive's base salary, to be paid to the Executive under any bonus, incentive compensation, performance, discretionary pay or similar agreement, policy, plan, program or arrangement (whether or not funded) of the Company upon attainment of 100% of the plan or target amount specified in such agreement, policy, plan, program or arrangement, whether or not attained at the time of termination. 2. References to and Continuation of Agreement. On and after the date ------------------------------------------- hereof, each reference in the Agreement to "this Agreement," "hereunder," "hereof," "herein," or words of like import referring to the Agreement will be a reference to the Agreement as amended by this Amendment. Except as specifically amended by this Amendment, the Agreement will remain in full force and effect and is hereby ratified and confirmed. 3. Governing Law. The validity, interpretation, construction and ------------- performance of this Amendment will be governed by and construed in accordance with the substantive laws of the State of Delaware, without giving effect to conflict of laws principles of such State. 4. Counterparts. This Amendment may be executed in one or more ------------ counterparts, each of which shall be deemed to be an original but all of which together will constitute one and the same agreement. IN WITNESS WHEREOF, the parties have caused this Amendment to be duly executed and delivered as of the date first above written. STERLING SOFTWARE, INC. By: ------------------------------------- Sterling L. Williams, President & Chief Executive Officer ---------------------------------------- -2- EX-10.18 8 1ST AMENDMENT TO DEFERRED COMP. PLAN DTD. 10/27/97 Exhibit 10.18 FIRST AMENDMENT TO STERLING SOFTWARE, INC. DEFERRED COMPENSATION PLAN -------------------------- This First Amendment (this "Amendment") to the Sterling Software, Inc. Deferred Compensation Plan (the "Plan") is made and entered into effective as of the 27th day of October, 1997, with reference to the following facts: A. The Company implemented the Plan effective as of February 1, 1997. B. The Committee wishes to amend the Plan in the manner specified in this Amendment and both the Committee and the Trustee have been furnished with an opinion of counsel, as required by Section 8.4(e) of the Plan, to the effect that this Amendment complies with the amendment requirements of Section 8.4 of the Plan. NOW, THEREFORE, it is agreed as follows: 1. Section 1.2(k) of the Plan is hereby amended to read in its entirety as follows: (a) "Eligible Individual" for a Plan Year means (i) a common law employee ------------------- of the Company whose Compensation is paid on a United States payroll in United States dollars and (A) whose Compensation equaled or exceeded the Threshold Amount in the prior calendar year (or, in the case of an employee employed only during a portion of such prior calendar year, whose annualized Compensation would have equaled or exceeded the Threshold Amount), or (B) who satisfied any alternative eligibility criteria established by the Committee pursuant to Section 7.3(iv) of the Plan; (ii) a member of the Board of Directors who is not a common law employee of the Company; or (iii) a consultant who is not a common law employee of the Company and who is designated by the Committee as eligible to participate in the Plan. An individual's status as an Eligible Individual for a Plan Year shall be determined prior to the first day of such Plan Year. Notwithstanding the foregoing, the Committee may in its discretion (I) determine in writing that an otherwise Eligible Individual may not participate in this Plan for one or more Plan Years, and (II) determine to admit a newly hired employee (whether hired through an acquisition or otherwise) into the Plan on a date other than the first day of a Plan Year and to establish criteria for the admission of such newly hired employees in addition to or in lieu of those set forth above, provided that such criteria are consistent with the purpose of the Plan to provide benefits for a select group of management or highly compensated employees. An individual who is classified by the Company as an independent contractor whose compensation for services is reported by the Company on a form other than Form W-2 or any successor form for reporting wages paid to employees will not be an Eligible Individual, unless the Committee specifically designates such individual by name as an Eligible Individual pursuant to clause (iii) above. 2. The second sentence of Section 3.1(a) of the Plan is hereby amended to read in its entirety as follows: For each subsequent Plan Year, an Eligible Individual may make an election to defer Compensation by filing an Election Form with the Committee on or before the December 31 preceding the Plan Year for which the election is to be effective or, in the case of a newly hired employee who is admitted into the Plan on a date other than the first day of a Plan Year, on or before the date such employee receives his first payroll distribution from the Company. 3. The third and fourth sentences of Section 3.2(a) of the Plan are hereby amended to read in their entirety as follows: The Committee may in its discretion change from time to time the Funds available for hypothetical investment, provided Participants are given at least 90 days' prior written notice of the effective date of the deletion of any Fund (including, without limitation, the deletion of a Fund in connection with the substitution of a new Fund in its place); it being understood, however, that where the deletion of a Fund is beyond the control of the Committee (e.g., where the provider of a Matching Investment unilaterally effects such a deletion), the Committee's obligation shall be to give Participants written notice of the effective date of such deletion as promptly as practicable after the Committee obtains knowledge thereof. The Committee may in its discretion add new Funds at any time and Participants shall be given written notice of such additions as promptly as practicable after the Committee decides to add a new Fund. 4. The second sentence of Section 3.2(b) of the Plan is hereby amended to read in its entirety as follows: Effective as of the beginning of any calendar month, a Participant may change the Fund designations made under this Section 3.2 by filing a new designation, on a form provided by the Committee, at least 15 days prior to the end of the immediately preceding calendar month. 5. Section 7.3(iv) of the Plan is hereby amended to read in its entirety as follows: (iv) determine the Threshold Amount applicable to any Plan Year after the first Plan Year and establish alternative criteria, consistent with the purpose of the Plan to provide benefits to a select group of management or highly compensated employees, for what shall constitute an employee of the Company an Eligible Individual with respect to any given Plan Year, in addition to or in lieu of the eligibility criteria set forth in Section 1.2(k) of the Plan; 6. This Amendment will be effective as of the date first set forth above. As amended hereby, the Plan is in all respects ratified, confirmed and approved and shall continue in full force and effect. 2 7. Capitalized terms used and not otherwise defined herein shall have the respective meanings ascribed to such terms in the Plan. IN WITNESS WHEREOF, this Amendment has been executed on behalf of the Company as of the date first set forth above. STERLING SOFTWARE, INC. By: /s/ Don J. McDermett, Jr. ----------------------------------------- Don J. McDermett, Jr. Senior Vice President & General Counsel 3 EX-11.1 9 COMPUTATION OF EARNINGS PER SHARE EXHIBIT 11.1 STERLING SOFTWARE, INC. COMPUTATION OF EARNINGS PER SHARE YEAR ENDED SEPTEMBER 30, 1996 (IN THOUSANDS, EXCEPT PER SHARE INFORMATION)
FULLY PRIMARY DILUTED -------- -------- Earnings: Earnings applicable to common stockholders............... $237,888 $237,888 Add: Interest expense on amounts outstanding for the 5.75% Convertible Subordinated Debentures (net of applicable income taxes) through date of conversion..... 1,685 -------- -------- $237,888 $239,573 ======== ======== Shares: Weighted average shares outstanding...................... 32,316 32,316 Add common shares issued on assumed exercise of options and warrants............................................ 4,904 4,930 Less common shares assumed repurchased................... (3,149) (2,696) -------- -------- 34,071 34,550 ======== Common shares issued on assumed conversion of 5.75% Convertible Subordinated Debentures through date of conversion................................................ 1,495 -------- 36,045 ======== Earnings per common share: Primary.................................................. $ 6.98 ======== Fully diluted............................................ $ 6.65 ========
EX-21.1 10 LIST OF SUBSIDIARIES EXHIBIT 21.1 STERLING SOFTWARE, INC. LIST OF SUBSIDIARIES
NAME JURISDICTION OF INCORPORATION - ---- ----------------------------- Sterling Software (Eastern), Inc................. Delaware Sterling Software International, Inc............. Delaware Sterling Software International SARL........... France Sterling Software Leasing Company................ Delaware Sterling Software (Midwest), Inc................. Delaware Sterling Software (Southern), Inc................ Georgia Sterling Software (Australia) II Pty Limited... Australia Sterling Software Beratungs und Vertriebs GmbH.......................................... Austria Sterling Software (Canada) II, Inc./Logiciel Sterling (Canada) II, Inc..................... Canada Sterling Software (Korea) Limited.............. Korea Sterling Software (Malaysia) Sdn. Bhd.......... Malaysia Sterling Software (Singapore) II Pte Ltd....... Singapore Sterling Software (Espana) II S.L.............. Spain Sterling Software (UK) III Limited............. United Kingdom Sterling Software (Ireland) I Limited........ Ireland Sterling Software (Netherlands) II B.V....... Netherlands Sterling Software (Benelux) II N.V./S.A.... Belgium Sterling Software (France) III S.A......... France Sterling Software II GmbH.................. Germany Sterling Software (Italia) II Srl.......... Italy Sterling Software (Netherlands) III B.V.... Netherlands Sterling Software (Switzerland) II S.A..... Switzerland Sterling Software (UK) IV Limited............ United Kingdom Sterling Software (U.S.), Inc.................... Delaware Sterling Software (U.S.A.), Inc.................. California Sterling Software (U.S. of America), Inc......... Delaware Southwest Beta Services, Inc..................... Delaware Sterling Software (Pacific) Pty Limited.......... Australia Sterling Software (Australia) Pty Limited...... Australia Systems Center Handelsgesellschaft M.B.H......... Austria Sterling Software (Benelux) NV................... Belgium Sterling Software (Benelux) BVBA............... Belgium Sterling Software do Brasil Participacoes Ltda... Brazil Sterling Software do Brasil Ltda. (49% subsidiary)................................... Brazil Sterling Software (Canada), Inc.................. Canada Sterling Software France II...................... France Sterling Software (France) SA.................... France Sterling Software GmbH........................... Germany KnowledgeWare G.M.B.H.......................... Austria Sterling Software (Israel), Ltd.................. Israel Sterling Software (Italia) Srl................... Italy Sterling Software (Japan) Ltd.................... Japan Sterling Software Technology KK................ Japan Sterling Software (Netherlands) I BV............. Netherlands
NAME JURISDICTION OF INCORPORATION - ---- ----------------------------- Sterling Software International Marketing........ Cayman Islands Sterling Software (Netherlands Antilles) NV.... Netherlands Antilles Sterling Software (Netherlands) IV BV........ Netherlands Sterling Software (New Zealand) Limited.......... New Zealand Sterling Software (Scandinavia) AS............... Norway Sterling Software (Portugal)--Informatica, Lda... Portugal Sterling Software (Singapore) PTE Ltd............ Singapore Sterling Software (Espana), S.A.................. Spain Sterling Software AB............................. Sweden Sterling Software (Switzerland) AG............... Switzerland Sterling Software (UK) II Limited................ United Kingdom Sterling Software (UK) Limited................. United Kingdom Sterling Software (Virgin Islands), Inc.......... U.S. Virgin Islands
Notes: 1. Indented names are subsidiaries of subsidiaries. 2. Inclusion in the list is not a representation that the subsidiary is a significant subsidiary. 3. Except as noted, the voting shares of all subsidiaries are 100% owned by Sterling Software, Inc., its subsidiaries or employee nominees. EX-23.1 11 CONSENT OF ERNST & YOUNG LLP EXHIBIT 23.1 CONSENT OF INDEPENDENT AUDITORS We consent to the incorporation by reference in the Registration Statements on Form S-3 (File No. 333-13303, No. 33-71706, No. 33-54961, No. 33-56685, No. 33-56677, No. 33-56683, No. 33-62057 and No. 33-64073), and in the Registration Statements on Form S-8 (File No. 333-37653, No. 33-65402, No. 33- 69926, No. 33-56681 and No. 33-62059) of Sterling Software, Inc. and in the related Prospectuses of our report dated November 7, 1997, with respect to the consolidated financial statements and schedule of Sterling Software, Inc. included in this Annual Report on Form 10-K for the year ended September 30, 1997. /s/ Ernst & Young LLP Dallas, Texas November 18, 1997 EX-27.1 12 FINANCIAL DATA SCHEDULE
5 THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE CONSOLIDATED FINANCIAL STATEMENTS INCLUDED IN THE STERLING SOFTWARE, INC. ANNUAL REPORT ON FORM 10-K FOR THE YEAR ENDED SEPTEMBER 30, 1997 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS. 1,000 12-MOS SEP-30-1997 OCT-01-1996 SEP-30-1997 435,726 206,965 149,422 12,152 0 826,901 48,598 42,430 1,065,658 268,155 0 0 0 3,990 744,264 1,065,658 488,978 488,978 199,806 664,147 0 3,950 540 (136,396) (3,428) (132,968) 0 0 0 (132,968) (3.45) (3.45)
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