-----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, NWkTO6Px6jWXwwk2gg2fjpHXNJvrKy+QwlCzOPzBh+zylKSNiHitRcgbIu6LR1iy BHmnaWlhfYaWvrWydbBdgA== 0000950005-97-000835.txt : 19971016 0000950005-97-000835.hdr.sgml : 19971016 ACCESSION NUMBER: 0000950005-97-000835 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 3 CONFORMED PERIOD OF REPORT: 19970831 FILED AS OF DATE: 19971015 SROS: NASD FILER: COMPANY DATA: COMPANY CONFORMED NAME: INTEGRATED SYSTEMS INC CENTRAL INDEX KEY: 0000775163 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-PREPACKAGED SOFTWARE [7372] IRS NUMBER: 942658153 STATE OF INCORPORATION: CA FISCAL YEAR END: 0228 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 000-18268 FILM NUMBER: 97696252 BUSINESS ADDRESS: STREET 1: 3260 JAY ST CITY: SANTA CLARA STATE: CA ZIP: 95054-3309 BUSINESS PHONE: 4089801500 MAIL ADDRESS: STREET 1: 3260 JAY STREET CITY: SANTA CLARA STATE: CA ZIP: 95054-3309 10-Q 1 FORM 10-Q SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 ---------- FORM 10-Q (Mark One) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934. For the quarterly period ended August 31, 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 number: 0-18268 ------------------------------ INTEGRATED SYSTEMS, INC. (Exact name of Registrant as specified in its charter) California 94-2658153 (State or other jurisdiction (I.R.S. employer of incorporation or organization) identification no.) ------------------------------ 201 Moffett Park Drive Sunnyvale, CA 94089 (408) 542-1500 (Address, including zip code, of Registrant's principal executive offices and telephone number, including area code) ------------------------------ Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ___X___ No ______ The number of shares outstanding of the Registrant's Common Stock on September 30, 1997 was 23,252,586 shares. The Exhibit Index is located on page 14. Page 1 of 22 pages. INTEGRATED SYSTEMS, INC. INDEX Page ---- PART I - FINANCIAL INFORMATION Item 1. Financial Statements 3 Condensed Consolidated Balance Sheets as of August 31, 1997 and February 28, 1997 4 Condensed Consolidated Statements of Income for the Three and Six Months Ended August 31, 1997 and 1996 5 Condensed Consolidated Statements of Cash Flows for the Six Months Ended August 31, 1997 and 1996 6 Notes to Condensed Consolidated Financial Statements 7 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 9 PART II - OTHER INFORMATION Item 4. Submission of matters to a vote of Security Holders 14 Item 6. Exhibits and Reports on Form 8-K 14 SIGNATURES 15 pRISM+, MATRIXx and SNiFF+ are either registered trademarks or trademarks of Integrated Systems, Inc. ================================================================================ This Form 10-Q contains forward-looking statements (as defined in the Private Securities Litigation Reform Act of 1995), including but not limited to statements regarding the Company's expectations, hopes or intentions regarding the future. Actual results and trends could differ materially from those discussed in the forward-looking statements. In addition, past trends should not be perceived as indicators of future performance. Among the factors that could cause actual results to differ from the forward-looking statements are those detailed elsewhere in this Report in Management's Discussion and Analysis of Financial Condition and Results of Operations and in the Company's Securities and Exchange Commission reports. ================================================================================ -2- PART I - FINANCIAL INFORMATION Item 1. Financial Statements The condensed consolidated interim financial statements included herein have been prepared by Integrated Systems, Inc. ("the Company"), without audit, pursuant to the rules and regulations of the Securities and Exchange Commission. Although certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to such rules and regulations, the Company believes that the disclosures made are adequate to make the information presented not misleading. It is suggested that the condensed consolidated interim financial statements be read in conjunction with the consolidated financial statements and the notes thereto included in the Company's Annual Report on Form 10-K for the year ended February 28, 1997. The February 28, 1997 condensed consolidated balance sheet data was derived from the audited financial statements, but does not include all disclosures required by generally accepted accounting principles. The accompanying condensed consolidated interim financial statements have been prepared in all material respects in conformity with the standards of accounting measurements set forth in Accounting Principles Board Opinion No. 28 and, in the opinion of management, reflect all adjustments, consisting only of normal recurring adjustments, necessary to summarize fairly the financial position, results of operations, and cash flows for the periods indicated. The results of operations for the interim periods presented are not necessarily indicative of the results to be expected for the full year. -3- INTEGRATED SYSTEMS, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (in thousands)
August 31, February 28, 1997 1997 ----------- ------------- (unaudited) ASSETS Current assets: Cash and cash equivalents $ 20,868 $ 25,585 Marketable securities 4,813 4,483 Accounts receivable, net 26,843 28,266 Deferred income taxes 1,385 1,676 Prepaid expenses and other 4,542 4,136 -------- -------- Total current assets 58,451 64,146 Marketable securities 36,840 24,627 Property and equipment, net 18,771 17,956 Intangible assets, net 2,504 3,136 Deferred income taxes 1,293 1,293 Other assets 1,073 1,344 -------- -------- Total assets $118,932 $112,502 ======== ======== LIABILITIES Current liabilities: Accounts payable $ 5,766 $ 4,143 Accrued payroll and related expenses 4,207 3,407 Other accrued liabilities 6,047 4,514 Income taxes payable 738 1,442 Deferred revenue 13,501 12,621 -------- -------- Total current liabilities 30,259 26,127 Other liabilities 249 203 -------- -------- Total liabilities 30,508 26,330 -------- -------- SHAREHOLDERS' EQUITY Common Stock, no par value, 50,000 shares authorized: 23,230 and 23,039 shares issued and outstanding at August 31, 1997 and February 28, 1997, respectively 62,488 61,158 Unrealized holding gain on marketable securities, net 267 148 Translation adjustment (1,483) (1,130) Retained earnings 27,152 25,996 --------- --------- Total shareholders' equity 88,424 86,172 --------- --------- Total liabilities and shareholders' equity $ 118,932 $ 112,502 ========= ========= The accompanying notes are an integral part of these condensed consolidated financial statements.
-4- INTEGRATED SYSTEMS, INC. CONDENSED CONSOLIDATED STATEMENTS OF INCOME (in thousands, except per share data) (unaudited)
Three Months Ended Six Months Ended August 31, August 31, ------------------------- --------------------------- 1997 1996 1997 1996 ------- -------- -------- -------- Revenue: Product $ 17,182 $ 17,107 $ 32,194 $ 30,825 Services 14,988 8,998 24,564 18,431 ------- -------- -------- -------- Total revenue 32,170 26,105 56,758 49,256 ------- -------- -------- -------- Costs and expenses: Cost of product revenue 3,512 2,086 6,385 4,097 Cost of services revenue 8,961 3,892 13,817 8,066 Marketing and sales 11,242 9,842 21,302 18,663 Research and development 4,747 4,409 9,549 8,121 General and administrative 3,281 2,041 5,727 4,155 Acquisition-related and other -- 926 -- 926 ------- -------- -------- -------- Total costs and expenses 31,743 23,196 56,780 44,028 ------- -------- -------- -------- Income (loss) from operations 427 2,909 (22) 5,228 Interest and other income 979 798 1,774 2,192 ------- -------- -------- -------- Income before income taxes 1,406 3,707 1,752 7,420 Provision for income taxes 471 1,335 596 2,597 ------- -------- -------- -------- Net income $ 935 $ 2,372 $ 1,156 $ 4,823 ======= ======== ======== ======== Earnings per share $ 0.04 $ 0.10 $ 0.05 $ 0.21 ======= ======== ======== ======== Shares used in per share calculations 23,969 23,511 23,910 23,110 ======= ======== ======== ======== The accompanying notes are an integral part of these condensed consolidated financial statements.
-5- INTEGRATED SYSTEMS, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (in thousands) (unaudited)
Six Months Ended August 31, ----------------------------- 1997 1996 -------- -------- Cash flows from operating activities: Net income $ 1,156 $ 4,823 Adjustments to reconcile net income to net cash provided by (used in) operating activities: Depreciation and amortization 2,934 2,067 Write-down of intangible assets -- 616 Deferred income taxes 212 395 Net income from unconsolidated subsidiary -- (267) Changes in assets and liabilities: Accounts receivable 1,265 (1,564) Prepaid expenses and other (406) (222) Accounts payable, accrued payroll and other accrued liabilities 3,956 (2,783) Income taxes payable (704) (3,978) Deferred revenue 880 186 Other assets and liabilities 265 (1,112) -------- -------- Net cash provided by (used in) operating activities 9,558 (1,839) -------- -------- Cash flows from investing activities: Purchases of marketable securities (12,345) (12,631) Additions to property and equipment (2,815) (14,771) Capitalized software development costs (250) (735) Other -- 956 -------- -------- Net cash used in investing activities (15,410) (27,181) -------- -------- Cash flows from financing activities: Repurchase of common stock (187) -- Proceeds from issuance of common stock -- 12,790 Proceeds from exercise of common stock options and purchases under the Employee Stock Purchase Plan 1,517 1,928 Tax benefit from disqualifying dispositions of common stock -- 3,708 -------- -------- Net cash provided by financing activities 1,330 18,426 -------- -------- Effect of exchange rate fluctuations on cash and cash equivalents (195) (30) Net decrease in cash and cash equivalents (4,717) (10,624) Cash and cash equivalents at beginning of period 25,585 21,822 -------- -------- Cash and cash equivalents at end of period $ 20,868 $ 11,198 ======== ======== Supplemental disclosure of cash flow information: Cash paid during the period for income taxes $ 986 $ 2,355 Supplemental schedule of noncash investing activities: Unrealized gain (loss) on marketable securities $ 198 $ (469) The accompanying notes are an integral part of these condensed consolidated financial statements.
-6- INTEGRATED SYSTEMS, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Information for the three and six months ended August 31, 1997 and 1996 is unaudited) 1. Summary of Significant Accounting Policies The condensed consolidated financial statements include the accounts of Integrated Systems, Inc. and its wholly owned subsidiaries, after elimination of all significant intercompany accounts and transactions, and should be read in conjunction with the Company's Annual Report on Form 10-K for the year ended February 28, 1997. These condensed consolidated financial statements do not include all disclosures normally required by generally accepted accounting principles. 2. Earnings Per Share Earnings per share is computed using the weighted average number of common and common equivalent shares outstanding during the period. Common equivalent shares result from the assumed exercise of outstanding stock options that have a dilutive effect when applying the treasury stock method. The following table sets forth the calculation of earnings per share for purposes of this report:
Three Months Ended Six Months Ended August 31, August 31, ------------------ ---------------- (in thousands, except per share data) 1997 1996 1997 1996 ---- ---- ---- ---- (unaudited) (unaudited) Primary: Net income $ 935 $ 2,372 $ 1,156 $ 4,823 ======= ======== ======== ======== Number of shares: Weighted average number of common shares outstanding 23,182 22,335 23,151 21,921 Dilutive effect of stock options, net 787 1,176 759 1,189 ------- -------- -------- -------- 23,969 23,511 23,910 23,110 ======= ======== ======== ======== Earnings per share $ 0.04 $ 0.10 $ 0.05 $ 0.21 ======= ======== ======== ========
Fully diluted earnings per share, for all periods presented, were not materially different from the amounts shown above. 3. Contingencies In January 1997, a former employee filed a complaint against the Company and certain of its officers, alleging claims for, among other things, breach of contract, fraud, negligent misrepresentation and labor code violations. The complaint seeks general and specific damages of no less than $1.5 million plus exemplary damages, attorney's fees and costs of suit. The Company has filed answers to the complaint denying all of the allegations and asserting various affirmative defenses. The Company believes it has meritorious defenses to the claims and intends to defend the suit vigorously. In fiscal 1997, a distributor for the Company's sales and service subsidiary in Paris, France filed a complaint against the subsidiary alleging breach of contract. The complaint seeks damages of approximately $850,000. An answer to the complaint has been filed denying the allegations. The Company believes it has meritorious defenses to the claim and intends to defend the suit vigorously. The Company is involved in a contract dispute with a customer. Management believes it has meritorious defenses in relation to this dispute. The litigation and dispute are subject to inherent uncertainties and thus, there can be no assurance that the litigation or dispute will be resolved favorably to the Company or that they will not have a material adverse effect on the Company's financial position or results of operations. The Company is subject to various other legal proceedings and claims, either asserted or unasserted, which arise in the ordinary course of business. While management does not believe that the outcome of any of the legal matters will have a material adverse effect on the Company's consolidated financial position, there can be no assurance that these matters will be resolved favorably to the Company. -7- 4. Recent Accounting Pronouncements In February 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 128 ("SFAS No. 128"), "Earnings per Share," which specifies the computation, presentation and disclosure requirements for earnings per share. SFAS No. 128 supersedes Accounting Principles Board Opinion No. 15, is effective for financial statements issued for periods ending after December 15, 1997, and requires that prior periods be restated. In June 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 130 ("SFAS No. 130"), "Reporting Comprehensive Income," which establishes standards of disclosure and financial statement presentation for reporting total comprehensive income in individual components. SFAS No, 130 is effective for fiscal years beginning after December 15, 1997, and will require earlier periods to be restated to reflect application of the provisions of SFAS No. 130. In June 1997, the Financial Accounting Standard Board issued Statement of Financial Accounting Standards No. 131 ("SFAS No. 131"), "Disclosures About Segments of an Enterprise and Related Information," which specifies disclosure requirements for segment reporting. The above statements supersedes SFAS No. 14 and SFAS No. 18 and is effective for fiscal years beginning after December 15, 1997, and requires earlier years to be restated if practicable. The impact of the adoption of the above statements on the financial statements of the Company has not yet been determined. -8- Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations The following information should be read in conjunction with the condensed consolidated interim financial statements and the notes thereto included in Item 1 of this Quarterly Report and with Management's Discussion and Analysis of Financial Condition and Results of Operations contained in the Company's Annual Report on Form 10-K for the year ended February 28, 1997, as filed with the Securities and Exchange Commission on May 29, 1997. Overview Integrated Systems, Inc. ("the Company") designs, develops, markets and supports software products and provides related engineering services principally for embedded microprocessor-based applications. The Company currently derives substantially all of its revenues from licensing these products and providing related maintenance and engineering and consulting services. In July 1996, the Company acquired Epilogue Technology Corporation ("Epilogue"), a New Mexico corporation in the business of developing network management and embedded Internet software for telecommunications and data communications equipment manufacturers, embedded software suppliers and networking related integrated circuit manufacturers. The combination was accounted for as a pooling of interests. The results of operations for Epilogue have been included only since the date of acquisition, as previous results were not significant. In November 1996, the Company amended the terms of the acquisition of Diab Data, Inc. ("Diab Data") which was acquired in fiscal year 1996 in a transaction accounted for under the equity method of accounting. Revising the terms of the original acquisition agreement requires the Company to consolidate the results of Diab Data from the fourth quarter of fiscal year 1997 forward. Forward-Looking Information is Subject to Risk and Uncertainty; Additional Risks and Uncertainties Except for the historical information contained in this Quarterly Report, the matters herein contain "forward-looking" statements and information (as defined in the Private Securities Litigation Reform Act of 1995) that involve risk and uncertainty. These forward-looking statements include, but are not limited to, the Company's liquidity and capital needs and various business environment and trend information. Actual future results and trends may differ materially depending on a variety of factors, including the volume and timing of orders received during the quarter, the mix of and changes in distribution channels through which the Company's products are sold, the timing and acceptance of new products and product enhancements by the Company or its competitors, changes in pricing, buyouts of run-time licenses, product life cycles, the level of the Company's sales of third party products, purchasing patterns of distributors and customers, competitive conditions in the industry, business cycles affecting the markets in which the Company's products are sold, extraordinary events, such as litigation or acquisitions, including related charges, and economic conditions generally or in various geographic areas. All of the foregoing factors are difficult to forecast. The future operating results of the Company may fluctuate as a result of these and the other risk factors detailed in the Company's Annual Report on Form 10-K for the year ended February 28, 1997, and other documents filed by the Company with the Securities and Exchange Commission. Due to all of the foregoing factors, the Company believes that period-to-period comparisons of its results of operations are not necessarily meaningful and should not be relied upon as an indication of future performance. During the previous fiscal year, the Company's actual performance did not meet market expectations. It is likely that, in some future quarters, the Company's operating results will be below the expectations of stock market analysts and investors. Consequently, the purchase or holding of the Company's Common Stock involves an extremely high degree of risk. -9- Results of Operations The following table sets forth for the periods presented the percentage of total revenue represented by each line item in the Company's condensed consolidated statements of income and the percentage change in each line item from the prior year period:
Percentage of Period-to-Period Total Revenue Percentage Change -------------------- --------------------- Three Months Ended Three Months Ended August 31, August 31, 1997 1996 1997 compared to 1996 ------ ------ --------------------- Revenue: Product 53% 66% - % Services 47 34 67 --- --- Total revenue 100 100 23 --- --- Costs and expenses: Cost of product revenue 11 8 68 Cost of services revenue 28 15 130 Marketing and sales 35 38 14 Research and development 15 17 8 General and administrative 10 7 61 Acquisition-related and other - 4 N/M --- --- Total costs and expenses 99 89 37 --- --- Income from operations 1 11 (85) Interest and other income 3 3 23 --- --- Income before income taxes 4 14 (62) Provision for income taxes 1 5 (65) --- --- Net income 3% 9% (61)% === === N/M = Not Meaningful
-10-
Percentage of Period-to-Period Total Revenue Percentage Change ---------------- --------------------- Six Months Ended Six Months Ended August 31, August 31, 1997 1996 1997 compared to 1996 ------ ------ --------------------- Revenue: Product 57 % 63 % 4 % Services 43 37 33 --- --- Total revenue 100 100 15 --- --- Costs and expenses: Cost of product revenue 11 8 56 Cost of services revenue 24 16 71 Marketing and sales 38 38 14 Research and development 17 17 18 General and administrative 10 8 38 Acquisition-related and other - 2 N/M --- --- Total costs and expenses 100 89 29 --- --- Income from operations - 11 N/M Interest and other income 3 4 (19) --- --- Income before income taxes 3 15 (76) Provision for income taxes 1 5 (77) --- --- Net income 2 % 10 % (76)% === === N/M = Not Meaningful
Revenue The Company's total revenue increased 23% to $32.2 million in the second quarter of fiscal year 1998 from $26.1 million in the second quarter of fiscal year 1997 and 15% to $56.8 million in the first six months of fiscal year 1998 from $49.3 million in the first six months of fiscal year 1997. Product revenue increased marginally to $17.2 million in the second quarter of fiscal year 1998 from $17.1 million in the second quarter of fiscal year 1997, and 4% to $32.2 million in the first six months of fiscal year 1998 from $30.8 million in the first six months of fiscal year 1997. The dollar increases in product revenue are primarily due to the inclusion of product revenue from Diab Data and Epilogue in fiscal year 1998, plus increased unit shipments of SNiFF+(TM). Services revenue increased 67% to $15.0 million in the second quarter of fiscal year 1998 from $9.0 million in the second quarter of fiscal year 1997, and 33% to $24.6 million in the first six months of fiscal year 1998 from $18.4 million in the first six months of fiscal year 1997. These dollar increases are the result of both an increase in maintenance revenue from a growing installed base of customers, and from an increase in engineering services and consulting activities at Doctor Design, Inc. ("Doctor Design"), an engineering services subsidiary specializing in multimedia hardware, software and application specific integrated circuit technology. The percentage of the Company's total revenue from customers located internationally was 31% and 37% in the second quarters of fiscal years 1998 and 1997, respectively, and 31% and 38% in the first six months of fiscal years 1998 and 1997, respectively. These percentage decreases are primarily due to growth at Doctor Design, which has a predominately domestic customer base. -11- Costs and Expenses The Company's cost of product revenue as a percentage of product revenue increased from 12% in the second quarter of fiscal year 1997 to 20% in the second quarter of fiscal year 1998, and from 13% in the first six months of fiscal year 1997 to 20% in the first six months of fiscal year 1998. These percentage increases were due to increases in the proportion of product revenue subject to third party royalty costs, the write-off of certain prepaid royalties, and increased amortization of capitalized software development costs. The Company's cost of services revenue as a percentage of services revenue increased from 43% in the second quarter of fiscal year 1997 to 60% in the second quarter of fiscal year 1998, and from 44% in the first six months of fiscal year 1997 to 56% in the first six months of fiscal year 1998. These percentage increases were due to an increase in lower margin fixed price contracts. In particular, during the second quarter of fiscal year 1998, the Company was required to procure a significant amount of materials with no associated margin, under the terms of a large engineering services contract. Excluding this anomaly, cost of services revenue as a percentage of services was 51% for the second quarter and the first six months of fiscal year 1998. Marketing and sales expenses were $11.2 million and $9.8 million in the second quarters of fiscal years 1998 and 1997, respectively, representing 35% and 38% of total revenue, respectively, and $21.3 million and $18.7 million in the first six months of fiscal years 1998 and 1997, respectively, representing 38% of total revenue in both six month periods. The dollar increases for all periods presented were primarily due to the Company's continued investment in it's domestic and international sales and support infrastructure. In addition, the Company incurred employee terminations related costs in Europe in the second quarter of fiscal year 1998. Research and development expenses were $4.7 million and $4.4 million in the second quarters of fiscal years 1998 and 1997, respectively, representing 15% and 17%, respectively, of total revenue, and $9.5 million and $8.1 million in the first six months of fiscal years 1998 and 1997, respectively, representing 17% of total revenue in both six month periods. The dollar increases for all periods presented were primarily the result of increased personnel and consulting expenses associated with the development of the Company's pRISM+(TM) development environment, MATRIXxR version 6.0 and other new products, and enhancing existing products. Costs that are required to be capitalized under Statement of Financial Accounting Standards No. 86, "Accounting for the Costs of Computer Software to be Sold, Leased or Otherwise Marketed" ("SFAS No. 86") were $150,000 in the second quarter of fiscal year 1998 compared to $450,000 in the second quarter of fiscal year 1997, and $250,000 in the first six months of fiscal year 1998 compared to $735,000 in the first six months of fiscal year 1997. The amounts capitalized represent approximately 3% of total research and development expenditures for the second quarter of fiscal year 1998 compared to 9% in the second quarter of the previous fiscal year, and 3% in the first six months of fiscal year 1998 compared to 8% in the first six months of fiscal year 1997. The amount of research and development expenditures capitalized in a given time period depends upon the nature of the development performed and, accordingly, amounts capitalized may vary from period to period. Capitalized costs are being amortized using the greater of the amount computed using the ratio that current gross revenues for a product bear to the total of current and anticipated future gross revenues for that product, or on a straight line basis over three years. Amortization for the second quarter of fiscal year 1998 was $232,000 compared to $206,000 for the second quarter of fiscal year 1997, and $513,000 in the first six months of fiscal year 1998 compared to $435,000 in the first six months of fiscal year 1997. General and administrative expenses were $3.3 million and $2.0 million in the second quarters of fiscal years 1998 and 1997, respectively, representing 10% and 8% of total revenue, respectively, and $5.7 million and $4.2 million in the first six months of fiscal years 1998 and 1997, respectively, representing 10% and 8% of total revenue, respectively. The dollar increases for all periods presented were primarily the result of increased headcount, related in part to the acquisition of Epilogue and the consolidation of Diab Data, combined with significant growth at Doctor Design. Acquisition-related and other costs in the second quarter and six month period of fiscal year 1997 comprised the write-off of intangible assets related to a prior acquisition and direct costs related to the acquisition of Epilogue. Interest and other income was $1.0 million in the second quarter of fiscal 1998 compared to $0.8 million in the second quarter of fiscal year 1997. The increase is primarily due to higher interest earned from increased holdings of cash and marketable securities in fiscal year 1998. Interest and other income was $1.8 million in the first six months of fiscal year 1998 compared to $2.2 million in the first six months of fiscal year 1997. This decrease is due to the inclusion in fiscal year 1997 of net operating income of $480,000 from Diab Data which was required to be accounted for under the equity method of accounting until the fourth quarter of fiscal year 1997, offset, in part, by increased interest income in fiscal year 1998. -12- Recent Accounting Pronouncements In February 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 128 ("SFAS No. 128"), "Earnings per Share," which specifies the computation, presentation and disclosure requirements for earnings per share. SFAS No. 128 supersedes Accounting Principles Board Opinion No. 15, is effective for financial statements issued for periods ending after December 15, 1997, and requires that prior periods be restated. In June 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 130 ("SFAS No. 130"), "Reporting Comprehensive Income," which establishes standards of disclosure and financial statement presentation for reporting total comprehensive income in individual components. SFAS No, 130 is effective for fiscal years beginning after December 15, 1997, and will require earlier periods to be restated to reflect application of the provisions of SFAS No. 130. In June 1997, the Financial Accounting Standard Board issued Statement of Financial Accounting Standards No. 131 ("SFAS No. 131"), "Disclosures About Segments of an Enterprise and Related Information," which specifies disclosure requirements for segment reporting. The above statements supersedes SFAS No. 14 and SFAS No. 18 and is effective for fiscal years beginning after December 15, 1997, and requires earlier years to be restated if practicable. The impact of the adoption of the above statements on the financial statements of the Company has not yet been determined. Liquidity and Capital Resources The Company funds its operations principally through cash flows from operations. As of August 31, 1997, the Company had $62.5 million of cash, cash equivalents and marketable securities. This represents an increase of $7.8 million from February 28, 1997. In April 1997, the Company announced that the Board of Directors had authorized a new common stock repurchase program allowing the Company to repurchase up to 1,000,000 shares of common stock for cash, from time-to-time at market prices. No time limit was set for the completion of the program. In April 1997, the Company repurchased 20,000 shares of common stock for $187,500. Net cash provided by operating activities during the first six months of fiscal year 1998 totaled $9.6 million, as compared to net cash used of $1.8 million in the first six months of fiscal year 1997. Net cash provided by operating activities increased, in spite of a decrease in net income, due mainly to changes in accounts receivable, accounts payable, accrued payroll and other accrued liabilities, income taxes payable, and deferred revenue. Net cash used in investing activities totaled $15.4 million in the first six months of fiscal year 1998 compared to $27.2 million in fiscal year 1997. Net cash used in investing activities was higher in fiscal year 1997 due primarily to the purchase of a building in March 1996. Net cash provided by financing activities totaled $1.3 million in the first six months of fiscal year 1998 compared to $18.4 million in the first six months of fiscal year 1997. Net cash provided by financing activities was significantly higher in the first six months of fiscal 1997 due to the issuance of common stock in May 1996. In addition the proceeds from the exercise of options to purchase common stock and purchases under the Employee Stock Purchase Plan were lower in the first six months of fiscal year 1998. The first six months of fiscal year 1997 also benefited from a large tax benefit from disqualifying dispositions of common stock. The Company believes that cash flows from operations, together with existing cash balances, will be adequate to meet the Company's cash requirements for working capital, stock repurchase and capital expenditures for the next 12 months and the foreseeable future. -13- PART II - OTHER INFORMATION Item 4. Submission of Matters to a Vote of Security Holders At the Annual Meeting of Shareholders held July 15, 1997, the shareholders elected directors of the Company with the following nominees receiving the votes indicated: Name For Withheld ---- --- -------- John C. Bolger 19,191,456 126,719 Narendra K. Gupta 19,195,350 122,825 Vinita Gupta 19,186,168 132,007 Thomas Kailath 19,191,400 126,775 Richard C. Murphy 19,191,456 126,719 David P. St. Charles 19,153,398 164,777 Item 6. Exhibits and Reports on Form 8-K (a) Exhibits. The following exhibit is filed herewith:
Exhibit Page Number Title Number ------- ----- ------ 10.03 Registrant's 1988 Stock Option Plan, as amended to date 16 27.00 Financial Data Schedule 22
(b) Reports on Form 8-K. No reports on Form 8-K were filed by Registrant during the three months ended August 31, 1997. -14- SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. Dated: October 14, 1997 INTEGRATED SYSTEMS, INC. (Registrant) /S/ DAVID P. ST. CHARLES -------------------------------- DAVID P. ST. CHARLES President and Chief Executive Officer /S/ WILLIAM C. SMITH -------------------------------- WILLIAM C. SMITH Vice President, Finance and Chief Financial Officer -15- EX-10.3 2 1988 STOCK OPTION PLAN INTEGRATED SYSTEMS, INC. 1988 Stock Option Plan As Adopted September 26, 1988 As Amended through March 28, 1997 1. PURPOSE. This Stock Option Plan ("Plan") is established to provide incentive for selected persons to promote the financial success and progress of Integrated Systems, Inc. (the "Company") by granting such persons options to purchase shares of common stock of the Company. 2. ADOPTION AND SHAREHOLDER APPROVAL. This Plan shall be approved by the shareholders of the Company, in any manner permitted by applicable corporate law, within twelve (12) months before or after the date this Plan is adopted by the Board of Directors of the Company (the "Board") and after the date of certain amendments to the Plan. In addition, no later than twelve (12) months after the Company becomes subject to Section 16(b) of the Securities Exchange Act of 1934, as amended (the "Exchange Act") the Company will comply with the requirements of Rule 16b-3 with respect to shareholder approval. 3. TYPES OF OPTIONS AND SHARES. Options granted under this Plan (the "Options") may be either (a) incentive stock options ("ISOs") within the meaning of Section 422 of the Internal Revenue Code of 1986 (the "Code"), or (b) nonqualified stock options ("NQSOs"), as designated at the time of grant. The shares of stock that may be purchased upon exercise of Options granted under this Plan (the "Shares") are shares of the common stock of the Company. 4. NUMBER OF SHARES. The maximum number of Shares that may be issued pursuant to Options granted under this Plan is Seven Million (7,000,000) Shares, subject to adjustment as provided in this Plan. If any Option is terminated for any reason without being exercised in whole or in part, the Shares thereby released from such Option shall be available for purchase under other Options subsequently granted under this Plan. At all times during the term of this Plan, the Company shall reserve and keep available such number of Shares as shall be required to satisfy the requirements of outstanding Options under this Plan. 5. ADMINISTRATION. This Plan may be administered by the Board or a Committee appointed by the Board (the "Committee"). If, at the time the Company registers under the Exchange Act, a majority of the Board is not comprised of Disinterested Persons, the Board shall appoint a Committee consisting of not less than three persons (who need not be members of the Board), each of whom is a "Disinterested Person" (as defined in Section 6(b)(iv) of the Plan) and an "Outside Director" (as defined in Section 6(b)(vi) of the Plan) or qualifies under transition rules as an Outside Director. As used in this Plan, references to the "Committee" shall mean either such Committee or the Board if no Committee has been established. After registration of the Company under the Exchange Act, Board members who are not Disinterested Persons may not vote on any matters affecting the administration of this Plan or on the grant of any Options pursuant to this Plan to any officer or director of the Company or other person (in each case, an "Insider") whose transactions in the Company's common stock are subject to Section 16(b) of the Exchange Act, but any such member may be counted for determining the existence of a quorum at any meeting of the Board during which action is taken with respect to Options or administration of this Plan and may vote on the grant of any Options pursuant to this Plan other than to Insiders. The interpretation by the Committee of any of the provisions of this Plan or any Option granted under this Plan shall be final and binding upon the Company and all persons having an interest in any Option or any Shares purchased pursuant to an Option. The Committee may delegate the authority to officers of the Company to grant Options under this Plan to Optionees who are not Insiders of the Company. No Optionee shall be eligible to receive more than 500,000 Shares at any time during the term of this Plan pursuant to the grant of Options hereunder. -16- 6. ELIGIBILITY. Options may be granted only to such employees, officers, directors and consultants of the Company or any Parent, Subsidiary or Affiliate of the Company (as defined below) as the Committee shall select from time to time in its sole discretion ("Optionees"), provided that only employees of the Company or a Parent or Subsidiary of the Company shall be eligible to receive ISOs. An Optionee may be granted more than one Option under this Plan. (a) Assumption of Options. The Company may, from time to time, assume outstanding options granted by another company, whether in connection with an acquisition of such other company or otherwise, by either (i) granting an option under this Plan in replacement of the option assumed by the Company, or (ii) treating the assumed option as if it had been granted under this Plan if the terms of such assumed option could be applied to an option granted under this Plan. Such assumption shall be permissible if the holder of the assumed option would have been eligible to be granted an option hereunder if the other Company had applied the rules of this Plan to such grant. (b) Definitions. As used in the Plan, the following terms shall have the following meanings: (i) "Parent" means any corporation (other than the Company) in an unbroken chain of corporations ending with the Company if, at the time of the granting of the Option, each of such corporations other than the Company owns stock possessing 50% or more of the total combined voting power of all classes of stock in one of the other corporations in such chain. (ii) "Subsidiary" means any corporation (other than the Company) in an unbroken chain of corporations beginning with the Company if, at the time of granting of the Option, each of the corporations other than the last corporation in the unbroken chain owns stock possessing 50% or more of the total combined voting power of all classes of stock in one of the other corporations in such chain. (iii) "Affiliate" means any corporation that directly, or indirectly through one or more intermediaries, controls or is controlled by, or is under common control with another corporation, where "control" (including the terms "controlled by" and "under common control with") means the possession, direct or indirect, of the power to cause the direction of the management and policies of the corporation, whether through the ownership of voting securities, by contract or otherwise. (iv) "Disinterested Person" shall have the meaning set forth in Rule 16b-3(d)(3) as promulgated by the Securities and Exchange Commission ("SEC") under Section 16(b) of the Exchange Act, as such rule is amended from time to time and as interpreted by the SEC. (v) "Fair Market Value" shall mean the fair market value of the Shares as determined by the Committee from time to time in good faith. If a public market exists for the Shares, the Fair Market Value shall be the average of the last reported bid and asked prices for Common Stock of the Company on the last trading day prior to the date of determination or, in the event the Common Stock of the Company is listed on a stock exchange or the Nasdaq National Market, the Fair Market Value shall be the closing price on such exchange or quotation system on the last trading day prior to the date of determination. (vi) "Outside Director" shall mean any director who is not (i) a current employee of the Company or any Parent, Subsidiary or Affiliate of the Company, (ii) a former employee of the Company or any Parent, Subsidiary or Affiliate of the Company who is receiving compensation for prior services (other than benefits under a tax-qualified pension plan), (iii) a current or former officer of the Company or any Parent, Subsidiary or Affiliate of the Company or (iv) currently receiving compensation for personal services in any capacity, other than as a director, from the Company or any Parent, Subsidiary or Affiliate of the Company; provided, however, that at such time as the term "Outside Director", as used in Section 162(m) of the Code, is -17- defined in the regulations promulgated under Section 162(m), "Outside Director" shall have the meaning set forth in such regulations, as amended from time to time and as interpreted by the Internal Revenue Service. 7. TERMS AND CONDITIONS OF OPTIONS. The Committee shall determine whether each Option is to be an ISO or an NQSO, the number of Shares for which the Option shall be granted, the exercise price of the Option, the periods during which the Option may be exercised, and all other terms and conditions of the Option, subject to the following terms and conditions: (a) Form of Option Grant. Each Option granted under this Plan shall be evidenced by a written Stock Option Grant ("Grant") in such form (which need not be the same for each Optionee) as the Committee shall from time to time approve, which Grant shall comply with and be subject to the terms and conditions of this Plan. (b) Exercise Price. The exercise price of an Option shall be not less than the Fair Market Value of the Shares, at the time that the Option is granted. The exercise price of any Option granted to a person owning 10% or more of the total combined voting power of all classes of stock of the Company or any Parent or Subsidiary of the Company ("Ten Percent Shareholder") shall not be less than 110% of the Fair Market Value of the Shares at the time of the grant, as determined by the Committee in good faith. (c) Exercise Period. Options shall be exercisable within the times or upon the events determined by the Committee as set forth in the option grant; provided, however, that no Option shall be exercisable after the expiration of ten years from the date the option is granted, and provided further that no Option granted to a Ten Percent Shareholder shall be exercisable after the expiration of five years from the date the Option is granted. (d) Limitations on ISOs. The aggregate Fair Market Value (determined as of the time an Option is granted) of stock with respect to which ISOs are exercisable for the first time by an Optionee during the calendar year (under this Plan or under any other incentive stock option plan of the Company or any Parent or Subsidiary of the Company) shall not exceed $100,000. If the Fair Market Value of stock with respect to which ISOs are first exercised exceeds $100,000, the Options for the first $100,000 worth of stock shall be ISOs and options for the amount in excess of $100,000 shall be NQSOs. (e) Date of Grant. The date of grant of an Option shall be the date on which the Committee makes the determination to grant such Option unless otherwise specified by the Committee. The Grant representing the Option shall be delivered to the Optionee within a reasonable time after the granting of the Option. (f) Assumed Options. In the event the Company assumes an option granted by another company, the terms and conditions of such option shall remain unchanged (except the exercise price and the number and nature of shares issuable upon exercise, which will be adjusted appropriately pursuant to Section 425(c) of the Code). In the event the Company elects to grant a new option rather than assuming an existing option (as specified in Section 6(a), such new option need not be granted at Fair Market Value on the date of grant and may instead be granted with a similarly adjusted exercise price. 8. EXERCISE OF OPTIONS. (a) Notice. Options may be exercised only by delivery to the Company of a written notice and exercise agreement in a form approved by the Committee, stating the number of Shares being purchased, the restrictions imposed on the Shares and such representations and agreements regarding the Optionee's investment intent and access to information as may be required by the Company to comply with applicable securities laws together with payment in full of the exercise price for the number of Shares being purchased. -18- (b) Payment. Payment for the Shares may be made (i) in cash (by check); (ii) by surrender of shares of common stock of the Company that have been owned by Optionee for more than six (6) months (and which have been paid for within the meaning of SEC Rule 144 and, if such shares were purchased from the Company by use of a promissory note, such note has been fully paid with respect to such shares) or were obtained by the Optionee in the open public market, having a Fair Market Value equal to the exercise price of the Option; (iii) where permitted by applicable law and approved by the Committee in its sole discretion, by tender of a full recourse promissory note having such terms as may be approved by the Committee; (iv) provided that a public market for the Company's stock exists, through a "same day sale" commitment from the Optionee and a broker-dealer that is a member of the National Association of Securities Dealers (a "NASD Dealer") whereby the Optionee irrevocably elects to exercise the Option and to sell a portion of the Shares so purchased to pay for the exercise price and whereby the NASD Dealer irrevocably commits upon receipt of such Shares to forward the exercise price directly to the Company; or (v) by any combination of the foregoing where approved by the Committee in its sole discretion. Optionees who are not employees or directors of the Company shall not be entitled to purchase Shares with a promissory note unless the note is adequately secured by collateral other than the Shares. (c) Withholding Taxes. Prior to issuance of the Shares upon exercise of an Option, the Optionee shall pay or make adequate provision for any federal or state withholding obligations of the Company, if applicable. (d) Limitations on Exercise. Notwithstanding the exercise periods set forth in the Grant, exercise of an Option shall always be subject to the following limitations: (i) If an Optionee ceases to be employed by the Company or any Parent, Subsidiary or Affiliate of the Company for any reason except death or disability, the Optionee may exercise such Optionee's Options to the extent (and only to the extent) that it would have been exercisable upon the date of termination, within three (3) months after the date of termination (or such shorter time period as may be specified in the Grant), provided that, if Optionee is an Insider and the Company is subject to Section 16(b) of the Exchange Act, the Optionee's Option will be exercisable for a period of time sufficient to allow such Optionee from having a matching purchase and sale under Section 16(b), with any extension beyond three (3) months from termination of employment in the case of an Option constituting an ISO being deemed to be as an NQSO, and provided further that in no event may an Option be exercisable later than the expiration date of the Option. (ii) If an Optionee's employment with the Company or any Parent, Subsidiary or Affiliate of the Company is terminated because of the death of the Optionee or disability of Optionee within the meaning of Section 22(e)(3) of the Code, such Optionee's Options may be exercised to the extent (and only to the extent) that it would have been exercisable by the Optionee on the date of termination, by the Optionee (or the Optionee's legal representative) within twelve (12) months after the date of termination (or such shorter time period as may be specified in the Grant), but in any event no later than the expiration date of the Options. (iii) The Committee shall have discretion to determine whether the Optionee has ceased to be employed by the Company or any Parent, Subsidiary or Affiliate of the Company and the effective date on which such employment terminated. (iv) In the case of an Optionee who is a director, independent consultant, contractor or advisor, the Committee will have the discretion to determine whether the Optionee is "employed by the Company or any Parent, Subsidiary or Affiliate of the Company" pursuant to the foregoing Sections. (v) An Option shall not be exercisable unless such exercise is in compliance with the Securities Act of 1933, as amended, and all applicable state securities laws, as they are in effect on the date of exercise. -19- (vi) The Committee may specify a reasonable minimum number of Shares that may be purchased on any exercise of an Option, provided that such minimum number will not prevent the Optionee from exercising the full number of Shares as to which the Option is then exercisable. 9. NONTRANSFERABILITY OF OPTIONS. During the lifetime of the Optionee, an Option shall be exercisable only by the Optionee. No Option may be sold, pledged, assigned, hypothecated, transferred or disposed of in any manner other than by will or by the laws of descent and distribution. 10. PRIVILEGES OF STOCK OWNERSHIP. No Optionee shall have any of the rights of a shareholder with respect to any Shares subject to an Option until the Option has been validly exercised. No adjustment shall be made for dividends or distributions or other rights for which the record date is prior to the date of exercise, except as provided in this Plan. The Company shall provide to each Optionee a copy of the annual financial statements of the Company, at such time after the close of each fiscal year of the Company as they are released by the Company to its shareholders. 11. ADJUSTMENT OF OPTIONS SHARES. In the event that the number of outstanding shares of common stock of the Company is changed by a stock dividend, stock split, reverse stock split, combination, reclassification or similar change in the capital structure of the Company without consideration, the number of Shares available under this Plan and the number of Shares subject to outstanding Options and the exercise price per share of such Options shall be proportionately adjusted, subject to any required action by the Board or shareholders of the Company and compliance with applicable securities; provided, however, that no certificate or scrip representing fractional shares shall be issued upon exercise of any Option and any resulting fractions of a Share shall be ignored. 12. NO OBLIGATION TO EMPLOY. Nothing in this Plan or any Option granted under this Plan shall confer on any Optionee any right to continue in the employ of the Company or any Parent, Subsidiary or Affiliate of the Company or limit in any way the right of the Company or any Parent, Subsidiary or Affiliate of the Company to terminate the Optionee's employment at any time, with or without cause. 13. COMPLIANCE WITH LAWS. The grant of Options and the issuance of Shares upon exercise of any Options shall be subject to and conditioned upon compliance with all applicable requirements of law, including without limitation compliance with the Securities Act of 1933, as amended, any required approval by the Commissioner of Corporations of the State of California, compliance with all other applicable state securities laws and compliance with the requirements of any stock exchange on which the Shares may be listed. The Company shall be under no obligation to register the Shares with the SEC or to effect compliance with the registration or qualification requirements of any state securities laws or stock exchange. 14. RESTRICTIONS ON SHARES. At the discretion of the Committee, the Company may reserve to itself or its assignee(s) in the Grant (a) a right of first refusal to purchase any Shares that an Optionee (or a subsequent transferee) may propose to transfer to a third party and (b) a right to repurchase all Shares held by an Optionee upon the Optionee's termination of employment or service with the Company or its Parent, Subsidiary or Affiliate of the Company for any reason within a specified time as determined by the Committee at the time of grant at (i) the Optionee's original purchase price (provided that the right to repurchase at such price shall lapse at the rate of at least 20% per year from the date of grant), (ii) the Fair Market Value of such Shares as determined by the Committee in good faith or (iii) a price determined by a formula or other provision set forth in the Grant. 15. ASSUMPTION OF OPTIONS BY SUCCESSORS. In the event of a dissolution or liquidation of the Company, a merger in which the Company is not the surviving corporation, or the sale of substantially all of the assets of the Company, any or all outstanding Options shall, notwithstanding any contrary terms of the Grant, accelerate and become exercisable in full at least ten days prior to (and shall expire on) the consummation of such dissolution, liquidation, merger or sale of stock or sale of assets on such conditions as the Committee shall determine unless the successor corporation assumes the outstanding Options or substitutes -20- substantially equivalent options. The aggregate Fair Market Value (determined at the time an Option is granted) of stock with respect to ISOs which first become exercisable in the year of such dissolution, liquidation, merger, sale of stock or sale of assets cannot exceed $100,000. Any remaining accelerated ISOs shall be NQSOs. 16. AMENDMENT OR TERMINATION OF PLAN. The Committee may at any time terminate or amend this Plan in any respect (including, but not limited to, any form of Grant, agreement or instrument to be executed pursuant to this Plan); provided, however, that the Committee shall not, without the approval of the holders of a majority of the outstanding voting shares of the Company, amend this Plan in any manner that requires such shareholder approval pursuant to the Code or the regulations promulgated thereunder as such provisions apply to incentive stock option plans or pursuant to the Exchange Act or Rule 16b-3 (or its successor) promulgated thereunder. 17. TERM OF PLAN. Options may be granted pursuant to this Plan from time to time within a period of ten years from the date this Plan is adopted by the Board. -21- EX-27 3 FINANCIAL DATA SCHEDULE
5 THE SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM Q2 FY98 FORM 10-Q FINANCIAL STATEMENTS AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS. 1,000 6-MOS FEB-28-1998 MAR-01-1997 AUG-31-1997 20,868 4,813 26,843 0 0 58,451 18,771 0 118,932 30,259 0 0 0 62,488 25,936 118,932 32,194 56,758 6,385 20,202 36,578 0 0 1,752 596 1,156 0 0 0 1,156 0.05 0.05
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