-----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, SQzKEynYBmfgh2c6v9ERI8OKB0wpieEljOgx3nPqjySKKQqR9YgXuQk7mnfezwO0 RJ9kz1W6WW7y/UKM/alvVg== 0000909518-99-000263.txt : 19990427 0000909518-99-000263.hdr.sgml : 19990427 ACCESSION NUMBER: 0000909518-99-000263 CONFORMED SUBMISSION TYPE: 10-K405 PUBLIC DOCUMENT COUNT: 3 CONFORMED PERIOD OF REPORT: 19990131 FILED AS OF DATE: 19990426 FILER: COMPANY DATA: COMPANY CONFORMED NAME: COMVERSE TECHNOLOGY INC/NY/ CENTRAL INDEX KEY: 0000803014 STANDARD INDUSTRIAL CLASSIFICATION: TELEPHONE & TELEGRAPH APPARATUS [3661] IRS NUMBER: 133238402 STATE OF INCORPORATION: NY FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K405 SEC ACT: SEC FILE NUMBER: 000-15502 FILM NUMBER: 99601094 BUSINESS ADDRESS: STREET 1: 170 CROSSWAYS PARK DR CITY: WOODBURY STATE: NY ZIP: 11797 BUSINESS PHONE: 5166777200 MAIL ADDRESS: STREET 1: 170 CROSSWAYS PARK DRIVE STREET 2: 170 CROSSWAYS PARK DRIVE CITY: WOODBURY STATE: NY ZIP: 11797 10-K405 1 ================================================================================ SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-K Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 for the Year ended January 31, 1999 Commission File Number 0-15502 COMVERSE TECHNOLOGY, INC. (Exact name of registrant as specified in its charter) NEW YORK 13-3238402 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 170 CROSSWAYS PARK DRIVE WOODBURY, NEW YORK 11797 (Address of principal executive offices) Registrant's telephone number, including area code: 516-677-7200 Securities registered pursuant to Section 12(b) of the Act: Name of each exchange Title of each class on which registered ------------------- ------------------- Not applicable Not applicable Securities registered pursuant to Section 12(g) of the Act: COMMON STOCK, $.10 PAR VALUE PER SHARE (Title of Class) 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 voting stock held by non-affiliates of the registrant on April 22, 1999 was approximately $4,390,000,000. The closing price of the registrant's common stock on the NASDAQ National Market System on April 22, 1999 was $63.25 per share. There were 69,730,005 shares of the registrant's common stock outstanding on April 22, 1999. DOCUMENTS INCORPORATED BY REFERENCE The registrant hereby incorporates by reference in this report the information required by Part III appearing in the registrant's proxy statement or information statement distributed in connection with the 1999 Annual Meeting of Shareholders of the registrant or in an amendment to this report on Form 10K/A. ---------------------------- TRILOGUE and Access NP are registered trademarks and TRILOGUE INfinity, AUDIODISK, ULTRA, and SignalWare are trademarks of the Company. - ii - PART I ITEM 1. BUSINESS. THE COMPANY Comverse Technology, Inc. ("Comverse" and, together with its subsidiaries, the "Company") designs, develops, manufactures, markets and supports computer and telecommunications systems and software for multimedia communications and information processing applications. The Company's products are used in a broad range of applications by fixed and wireless telephone network operators, government agencies, call centers, financial institutions and other public and commercial organizations worldwide. The Company's line of enhanced services platform ("ESP") products enable telecommunications network operators to offer a variety of revenue-generating services that are accessible to large numbers of simultaneous users, including a broad range of integrated messaging, information distribution and personal assistant services, such as call answering, voice mail, fax mail, unified messaging (voice, fax and e-mail in a single mailbox), pre-paid services, wireless data and Internet-based services such as Internet messaging, short text messaging, and audiotext. The Company's principal market for ESP systems consists of organizations that use the systems to provide services to the public, often on a subscription or pay-per-usage basis, and includes both fixed and wireless telephone network operators and other telecommunications services organizations. The Company markets its ESP systems throughout the world, with its own direct sales force and in cooperation with a number of leading international vendors of telecommunications infrastructure equipment. The Company is the market-share leader in providing large capacity ESP systems for wireless and wireline telecommunications network operators. More than 290 fixed and wireless telephone network operators in more than 75 countries, including 13 of the 20 largest telephone companies in the world, have selected the Company's platforms to provide enhanced telecommunications services to their public customers. Major network operators using the Company's ESP systems include, among others, AT&T (USA), Bell Atlantic (USA), BellSouth (USA), Cable & Wireless (UK), DDI (Japan), Deutsche Telekom (Germany), Hongkong Telecom (Hong Kong), Mannesmann D2 (Germany), NTT (Japan), SBC Communications (USA), SFR (France), Sprint PCS (USA), Telecom Italia (Italy), Telmex (Mexico) and Telstra (Australia). The Company also manufactures multiple channel, multimedia digital monitoring systems, which support the monitoring, recording, surveillance, and information gathering and analysis activities of law enforcement and intelligence agencies, and digital recording systems which support the voice, fax and data recording and analysis activities of call centers and a variety of other commercial and governmental organizations. The Company's monitoring systems enable many simultaneous users to monitor, record and process voice, image (facsimile) and data communications from multiple channels in a variety of analog and digital formats, provide facilities for archiving large volumes of 1 recorded information and allow the use of computer database processing techniques for analysis, management and retrieval operations. The systems have been sold to law enforcement, military and intelligence agencies that monitor and record communication channels for a variety of purposes, such as surveillance in support of police actions and the collection and processing of information for intelligence analysis. Customers such as inbound and outbound call centers, emergency service (e.g., "911") providers, correctional facilities, public health and safety organizations and financial institutions use the Company's call recording systems to record and process large volumes of audio, image and data communications. Traditionally, analog tape recorders, alone or coupled with a variety of special purpose devices, have been used for these applications. The worldwide growth in telecommunications traffic in general and digital communications in particular, and the increasing use of a variety of digital transmission formats in telecommunications networks, have created a need for user organizations to modernize their monitoring, recording and processing capabilities. The Company's systems provide a number of advantages over analog, tape recorder-based equipment, including improvements in capacity, reliability, accuracy, processing efficiency and archiving and retrieval capabilities. Most importantly, the systems enable users to adapt efficiently to the emergence of new telecommunications technologies, such as digital transmission and enhanced signaling systems, for which analog, tape recorder-based equipment was not designed. These products have been sold to end-users in more than 30 countries. The Company markets a variety of proprietary telecommunications software products, including products that are integrated with its systems and products that work in combination with other systems to support intelligent network ("IN") and advanced intelligent network ("AIN") applications, such as 800 number translation, Internet routing, short text messaging, local number portability, cellular roaming and emergency "911" services, as well as "interactive voice response" based enhanced services, such as virtual private network, network announcement, customer service/customer care, operator-free collect calling, call forwarding and directory services. Telecommunications software customers of the Company include, among others, Alcatel USA, British Telecom, Compaq, Ericsson, Level 3, Lucent, MCI, Nokia, Qualcomm, Siemens and Sun Microsystems. Through subsidiaries and affiliates, the Company is also involved in the development of technologies and products incorporating video compression and networking, the design and development of systems for telephone answering service bureaus, the operation of telemessaging service bureaus and capital market activities for its own account. Throughout this document, references are made to technologies, features, capabilities, capacities and specifications in conjunction with the Company's products and technological resources. Such references do not necessarily apply to all product lines, models and system configurations. The Company was incorporated in the State of New York in October 1984. Its principal executive offices are located at 170 Crossways Park Drive, Woodbury, New York 11797, where its telephone number is (516) 677-7200. 2 THE COMPANY'S PRODUCTS ENHANCED SERVICES PLATFORMS ("ESPS") The market for network-based ESP systems has grown rapidly over the past several years. The Company believes that a number of factors have contributed to this growth, including the heightened emphasis among wireless and wireline telecommunications network operators on offering new services for revenue-generation and competitive differentiation, the increasing public awareness and acceptance of multimedia messaging services, the expanding availability from the major telephone companies of call answering services, and the growing use of wireless telephone services, which almost universally offer a mailbox-based call answering service. The Company's primary focus has been on supplying large-capacity ESP systems, which are marketed under the names Access NP and TRILOGUE INfinity, to fixed and wireless telecommunications network operators. These organizations benefit from the ability to offer their customers, often on a subscription or pay-per-call basis, a variety of revenue-generating services provided by the Company's systems, such as automated call answering, voice and fax messaging, unified messaging, pre-paid services, wireless data and Internet-based services such as Internet messaging, short text messaging, audiotext, voice activated dialing, call screening, personal number service, one-touch call return, automated personal assistant services and "virtual telephone" service. With call answering and voice and fax messaging, telephone operating companies benefit not only from service subscription fees, but also from traffic revenue generated by the increase in billable completed calls. In addition, these services improve overall network efficiency by reducing congestion from repeated unbillable busy/no-answer calls. Wireless telephone service operators are almost universally adding voice mailboxes to their service offerings, and often as part of their basic service package, not only because of these benefits, but also because wireless messaging services directly increase billable airtime by stimulating outbound calls. The Company's ESP systems have been designed and packaged to meet the capacity, reliability, scalability, maintainability and physical requirements of large telephone network operators. The systems are offered in a variety of sizes and configurations, extending to a single-system capacity of up to 6,000 ports and 1,000,000 mailboxes, and can be clustered for larger capacity installations. The systems also offer redundancy of critical components, so that no single failure will interrupt the service. The Company's platforms are available in both centralized and widely distributed configurations, and maintain their integrity as a single system in distributed configurations. The Company's distributed architecture incorporates Voice Over Internet Protocol ("VoIP") and Wide Area Networking ("WAN") technologies to reduce the cost of long distance message transmissions, message retrievals, voice signature transmissions, and pre-paid service database inquiries. This architecture utilizes lower cost Packet Switched networks, such as the Internet, rather than more costly, traditional circuit switched methods, to reduce the network operators' cost of operation. 3 The Company's systems also incorporate components that are compatible with the IN and AIN protocols for Intelligent Peripherals ("IP"), permitting the Company's network operator customers to develop and deploy services based on the overall IN/AIN architecture. In addition, when the system is configured as a Service Node ("SN"), it enables customers to offer next-generation IN/AIN-based services such as personal number, call screening/caller introduction, one-touch call return and pre-paid. The incorporation of IN and AIN-related software also allows a customer, which has not yet implemented intelligent network infrastructure, to purchase an ESP system from the Company with the confidence that it contains a built-in migration path to IN/AIN standards, should the network operator decide to implement IN/AIN infrastructure in the future. The Company's platforms incorporate proprietary and third-party software, and industry standard and proprietary hardware, in an open, standards-based system architecture. Most hardware is based on Industry Standard Architecture ("ISA"), which facilitates the integration of commercially available ISA technologies with the Company's core proprietary technologies. The systems support a wide variety of digital telephony interfaces and signaling systems, enabling them to adapt to a variety of different telephony environments and IN/AIN applications, and provide a "universal port" -- a single port that supports any combination of voice and fax services at any time during a single call. The Company has also introduced Internet messaging capabilities, enabling end-users to access their voice, fax and e-mail text messages from anywhere in the world via the World Wide Web. MONITORING AND RECORDING SYSTEMS The Company's AUDIODISK systems are multiple channel, multimedia digital monitoring systems, sold primarily to law enforcement and intelligence agencies, which enable multiple users simultaneously to monitor, record and process audio, image (facsimile) and data communications over multiple channels in a variety of analog and digital formats, and provide facilities for archiving large volumes of recorded information. The systems automatically decode and record a variety of signals without operator intervention and store the recorded information on magnetic and optical disks to permit quick and easy random access and the use of computer database techniques for analysis, archival and retrieval operations. AUDIODISK also enables multiple users to access the same recorded information simultaneously for processing and analysis. The Company's ULTRA line of multiple channel, multimedia digital recording systems are marketed primarily to call centers, financial institutions, emergency "911" service providers, correctional institutions, and other organizations that record large volumes of communications, and require fast and easy retrieval of recorded information. Traditionally, analog tape recorders, alone or coupled with a variety of other special purpose devices, have been utilized for communications monitoring, recording and related applications. The limited capacity and 4 processing capability inherent in these systems have imposed constraints on organizations that process large amounts of multimedia information from multiple channels and that need to store the processed information for long periods while keeping it available for rapid retrieval. The Company's systems interface with a variety of analog and digital communications protocols and automatically recognize and adapt to voice, fax or modem content on each recorded channel. Most importantly, they also enable users to adapt efficiently to the emergence of new telecommunications technologies, such as digital transmission and enhanced signaling systems, for which analog, tape recorder-based equipment was not designed. The systems provide a number of advantages over analog, tape recorder-based systems, including improvements in capacity, reliability, accuracy, processing efficiency and archiving and retrieval capabilities. The AUDIODISK product design is based on open system architecture and client/server concepts, and supports a broad range of multimedia monitoring capabilities. AUDIODISK capabilities include the recording, processing and retrieval of analog audio signals, such as telephone and radio channels; analog facsimile and modem communications; digital audio and data signals, including ISDN, T1 and, E1; and telephony signaling, including Pulse Dialing, DTMF, Calling Line Identification and Call Progress Tones (such as busy, no-answer and ringback). AUDIODISK systems interface with most central office telephone switches for legal monitoring applications. AUDIODISK systems simultaneously process incoming signals over multiple channels, apply digital signal processing technologies and use magnetic and optical disks for temporary and long-term digital storage. Digital signal processing technologies that are employed by AUDIODISK to enhance monitoring applications include, among others, signal compression, automatic signal identification, automatic signal interpretation and noise cancellation. Magnetic and optical disks permit virtually instantaneous retrieval and sharing of stored information among many users. The systems also enable users to transmit multimedia information among multiple sites over communication links. AUDIODISK is designed to support various communications links, including T1, E1, ISDN, Dial-up telephone lines (over modems), satellite links and TCP/IP over Ethernet (with routers). AUDIODISK systems also provide a facility for archiving large volumes of recorded information on rewritable optical disks. This archive function allows a single recording session, groups of sessions, a single recording channel, selected channels or all channels to be stored on the same disk. The archive disk records all the signals on a particular channel and automatically associates the signal-related information ("SRI") as well as the date and time with the recorded information. For larger AUDIODISK systems, automatic disk library systems, referred to as "jukeboxes", provide very large amounts of on-line storage. The product employs a database management system to provide a central facility for access to all stored information. This feature allows any operator to use computer database query techniques to retrieve the audio and SRI data quickly and efficiently. The Company offers AUDIODISK systems in a range of configurations, which share substantially the same hardware, software and user interface. The AUDIODISK systems' multimedia server can be configured in a variety of models to support a range of applications, including large, fixed-site audio monitoring platforms. Moreover, several AUDIODISK multimedia servers may be networked for 5 increased capacity or to satisfy redundancy requirements. Storage configurations include magnetic disks, optical drives and optical jukebox devices. Removable optical cartridges are used for archiving, with each cartridge capable of storing up to 180 compressed audio hours. Multiple jukebox configurations provide automated management of optical media, with virtually unlimited audio and fax storage capacity available for rapid automated retrieval. ULTRA systems provide Computer-Telephony Integration ("CTI") enabled recording, including integration with major PBX/ACDs, Predictive Dialers and middleware products. The CTI connection allows the customer to easily search calls through database queries. In addition, selective recording is possible through time-driven schedules or event triggers. ULTRA systems support high volume of simultaneous playbacks over the telephone or through LANs, WANs, and the Internet. Immediate access to recordings is possible through advanced optical disk technology and jukeboxes. The ULTRA Series comprises six products, tailored to customer-specific requirements for capacity, storage and special features. TELECOMMUNICATIONS SOFTWARE PRODUCTS The Company's telecommunications software products are marketed through its DGM&S Telecom ("DGM&S") and Amarex Technology ("Amarex") subsidiaries. DGM&S provides Signalling System Number 7 ("SS7") telecommunications software marketed under the name SignalWare. DGM&S's SignalWare products support IN/AIN applications for voice, data and mobility communications services such as 800 number translation, Internet routing, local number portability and cellular roaming. DGM&S's products enable global connectivity, inter-platform portability, client/server flexibility and clustering reliability. The products provide the global standards and national variants needed to communicate between the disparate signaling protocols worldwide, and enable operators to use either a UNIX or Windows NT platform. Amarex, acquired by Comverse on February 26, 1999, develops software-based intelligent peripherals and service nodes for telecommunications network operators, which enable a wide range of interactive voice response-based services. Amarex also develops software for call center-based customer service applications. The Company licenses its telecommunications software products to leading services providers and manufacturers of telecommunications infrastructure equipment worldwide, including, among others, Alcatel USA, British Telecom, Compaq, Ericsson, Level 3, Lucent, MCI, Nokia, Qualcomm, Siemens and Sun Microsystems. MARKETS, SALES AND MARKETING The Company's ESP systems are marketed by the Company throughout the world, with its own direct sales force as well as local distributors, and in cooperation with a number of leading international vendors of telecommunications infrastructure equipment. The Company is a market share leader in providing large capacity messaging systems for telephone network operators around the world. 6 More than 290 fixed and wireless telephone network operators in more than 75 countries, including 13 of the 20 largest telephone companies in the world, have selected the Company's platforms to provide enhanced telecommunications services to their public customers. Major network operators using the Company's ESP systems include, among others, AT&T (USA), Bell Atlantic (USA), BellSouth (USA), Cable & Wireless (UK), DDI (Japan), Deutsche Telekom (Germany), Hongkong Telecom (Hong Kong), Mannesmann D2 (Germany), NTT (Japan), SBC Communications (USA), SFR (France), Sprint PCS (USA), Telecom Italia (Italy), Telmex (Mexico) and Telstra (Australia). The Company provides its customers with programs of marketing consultation, seminars and materials designed to assist them in marketing enhanced telecommunications services, and also undertakes to play an ongoing supporting role in their business and market planning processes. The Company's AUDIODISK and ULTRA systems are marketed by the Company worldwide through its direct sales force and, where appropriate, through agents, distributors and system integrators. The Company sells AUDIODISK systems primarily to the law enforcement, military and intelligence markets. Primary target markets for the ULTRA Series include call centers, public safety and emergency services organizations and financial institutions. TECHNOLOGIES The Company's research and development efforts focus particularly on the design of very large, high throughput systems, digital signal processing technologies for voice, image and data communications, development of various network and OMAP interfaces, and application development. The Company's products use advanced technologies in the areas of digital signal processing, Voice Over Internet Protocol, facsimile protocols, telephony interfaces, mass storage, digital networking, multi-processor computer architecture and real-time software design. The Company also possesses considerable technology and expertise in the development of software products, solutions and applications within the IN and AIN environment. The Company's products are based upon flexible system architectures specifically designed to handle multiple channel, multimedia communication and processing applications. Multimedia processing computers require a much higher throughput than conventional data processing systems, especially when a large number of channels have to be processed simultaneously. The Company's products employ open system, modular architectures, which use distributed processors, rather than one large central processor, as well as multiple storage devices and digital networking. The product design is intended to be readily adaptable to the usage and capacity requirements of the individual end-user. The product architectures also allow the Company to add enhancements and new technologies to its systems without rendering existing products obsolete. The Company's distributed architecture incorporates VoIP and WAN technologies to reduce the 7 cost of long distance message transmissions, message retrievals, voice signature transmissions, and pre-paid service database inquiries. This architecture utilizes lower cost Packet Switched networks rather than more costly, traditional circuit switched methods, to reduce the network operators' cost of operation. A primary focus of the Company's research and development efforts has been digital signal processing technologies required for voice, image and data communications. Computer systems designed for signal processing applications, such as processing of voice and image communications, handle information differently from conventional data processing systems and require greater processing and storage resources. The computer must be designed to function at a fast and efficient rate to produce a form of speech acceptable to the human ear. The Company has developed a number of speech compression algorithms, which provide the Company's products with optimal compression taking into account the level of speech quality required for each application. The Company also has developed a special signal detector, which identifies signals as voice, fax or modem. Voice processing algorithms currently available with the Company's products include speech enhancement (noise reduction) and variable playback speed with pitch compensation. Fax and modem processing algorithms offered by the Company enable communication and interception of a large number of standard and non-standard communications protocols. The Company has developed interfaces for its products to most telephony environments used around the world, including digital interfaces, such as T1, E1 and ISDN, and SS7 interfaces designed to encompass both basic network connectivity and the IN/AIN capabilities of Intelligent Peripherals and Service Nodes. The Company has also developed Internet Protocols, including VPIM, POP3, HTTP and HTML. The Company has implemented facsimile communication and intercept protocols for Group 3 facsimile. Certain of the Company's products incorporate local area network and wide area network technologies used for the transfer of digitized voice, fax and modem information, as well as for the transfer of data among various network elements. The Company utilizes state-of-the-art mass storage technologies in many of its products. Proprietary algorithms developed by the Company are utilized for storage of multimedia information to facilitate real-time processing of large amounts of information and optimal use of media. A variable number of disks may be configured in a disk array to serve large numbers of users and to provide full or partial disk redundancy for critical applications. Special algorithms utilized by the Company to handle optical disks within a number of jukebox devices include automatic channel-to-disk allocation, automatic retrieval of multimedia information from any disk located in the jukeboxes and redundant archiving on two or more cartridges simultaneously. RESEARCH AND DEVELOPMENT Because of the continuing technological changes that characterize the telecommunications and computer industries, the Company's success will depend, to a considerable extent, upon its ability to continue to develop competitive products through its research and development efforts. The Company currently employs more than 1,350 scientists, engineers and technicians in its research 8 and development efforts, with broad experience in the areas of digital signal processing, computer architecture, facsimile protocols, telephony, digital networking, multi-processing, mass storage, and real-time software design. A portion of the Company's research and development operations benefit from financial incentives provided by government instrumentalities to promote research and development activities, including its research and development activities situated in Israel. The cost of such efforts is affected by the continued availability of funding under such programs. During the past 9 fiscal year, the Company's research and development activities included projects submitted for partial funding under a program administered by the Office of the Chief Scientist of the Ministry of Industry and Trade of the State of Israel, under which reimbursement of a portion of the Company's research and development expenditures will be made subject to final approval of project budgets. The percentage of the Company's total research and development expenditures reimbursed under these programs has declined in recent years, and will continue to decline with the growth in the Company's overall operations, the increasing amount of research and development conducted by the Company at locations other than those in which reimbursement programs are available to it and general reductions in program budgets. The Company pays royalties on its sales of certain products developed in part with funding supplied under such programs. Permission from the government of Israel is required for the Company to manufacture outside of Israel products resulting from research and development activities funded under such programs, or to transfer outside of Israel related technology rights, and in order to obtain such permission the Company may be required to increase the royalties to the applicable funding agencies and/or repay certain amounts received as reimbursement of research and development costs. See "Business--Licenses and Royalties" and "Management's Discussion and Analysis of Financial Condition and Results of Operations." PATENTS AND INTELLECTUAL PROPERTY RIGHTS The Company currently holds a total of 18 United States patents and a number of foreign patents. While the Company files patent applications periodically, no assurance can be given that patents will be issued on the basis of such applications or that, if patents are issued, the claims allowed will be sufficiently broad to protect the Company's technology. In addition, no assurance can be given that any patents issued to the Company will not be challenged, invalidated or circumvented or that the rights granted under the patents will provide significant benefits to the Company. In order to safeguard its unpatented proprietary know-how, trade secrets and technology, the Company relies primarily upon trade secret protection and non-disclosure provisions in agreements with employees and others having access to confidential information. There can be no assurance that these measures will adequately protect the Company from disclosure or misappropriation of its proprietary information. The Company and its customers from time to time receive communications from third parties, including some of the Company's competitors, alleging infringement by the Company of such parties' patent rights. While such communications are common in the computer and telecommunications industries and the Company has in the past been able to obtain any necessary licenses on commercially reasonable terms, there can be no assurance that the Company would prevail in any litigation to enjoin the Company from selling certain of its products on the basis of such alleged infringement, or that the Company would be able to license any valid patents on reasonable terms. 10 LICENSES AND ROYALTIES The Company licenses certain technology, know-how and related rights for use in the manufacture and marketing of its products, and pays royalties to third parties under such licenses and under other agreements entered into in connection with research and development financing. The Company believes that its rights under such licenses and other agreements are sufficient for the manufacturing and marketing of its products and, in the case of licenses, extend for periods at least equal to the estimated useful lives of the related technology and know-how. The Company currently pays royalties on most of its product sales. The royalties vary in amount based upon the revenues attributable to the various components of such products. INTERNATIONAL SALES The Company sells a significant amount of its products outside of North America. International sales and marketing efforts may be adversely affected by a number of factors, including the need for system customization and special integrations, government approvals and export licenses; instability in international trading relations; currency fluctuations; and additional costs of marketing, service and support due to lack of proximity with the end-users. In certain cases, the Company's contracts are denominated in local currencies, and as such, the Company may be adversely affected by fluctuations in those currencies. International sales of certain systems manufactured by the Company also are subject to a variety of legal restrictions governing the export of such products. The Company believes that prevailing economic conditions in the Far East and Southeast Asia have reduced the demand for its systems in certain countries. The Company cannot currently predict the effect on its business should regional economic conditions fail to improve. For additional information regarding foreign operations, see Note 19 of Notes to Consolidated Financial Statements and "Management's Discussion and Analysis of Financial Condition and Results of Operations - Certain Trends and Uncertainties" appearing elsewhere in this report. BACKLOG At January 31, 1999, the backlog of the Company amounted to approximately $164,144,000. Substantially all of the current backlog is expected to be delivered within the next 12 months. SERVICE AND SUPPORT The Company has a strong commitment to provide product service and support to its customers and emphasizes such commitment in its marketing. Because of the intensity of use of systems by telephone network operators and 11 other customers of the Company's products, and their low tolerance for down-time, the Company is required to make a greater commitment to service and support of systems used by these customers, and such commitment increases operating costs. The Company's general warranty policy is to replace or repair any component that fails during a specified warranty period. Broader warranty and service coverage is provided in certain instances, and is usually made available to customers on a contractual basis for an additional charge. The Company provides technical assistance from several locations around the world. Technical support is available for the Company's customers 24 hours-a-day, seven days-a-week. COMPETITION The Company faces strong competition in the markets for all of its products. The market for ESP systems is highly competitive, and includes numerous products offering a broad range of features and capacities. The primary direct competitors are manufacturers of stand-alone voice mail systems, including, among others, Brite Voice Systems, Inc., Centigram Communications Corporation, Glenayre Electronics, Inc., the Octel Messaging division of Lucent Technologies, Inc., Tecnomen Oy, Unisys Corporation, and manufacturers of central office telecommunications equipment, including Telefonaktiebolaget LM Ericsson. In certain applications, such as prepaid telephone service and short text messaging, the Company faces additional competition from switch vendors and other suppliers of telecommunications equipment, such as Logica, CMG and Sema. Competitors of the Company that manufacture other telecommunications equipment may derive a competitive advantage in selling voice processing and message management systems to customers that are purchasing or have previously purchased other compatible equipment from such manufacturers. Indirect competition is provided by voice and fax messaging products employed at end-user sites as an alternative to the use of services available through telephone network operators. This "customer premises equipment" includes a broad range of products, such as stand-alone voice mail systems, products offering "call processing" services that are supplied with voice mail features or integrated with other voice mail systems, as well as personal computer modems and add-on cards and software designed to furnish voice processing and message management features. The Company believes that competition in the sale of ESP systems is based on a number of factors, the most important of which are product features and functionality, system capacity and reliability, marketing and distribution capability and price. Other important competitive factors include service and support and the capability to integrate systems with a variety of central office and cellular switches and other communications systems. The Company believes that the range of features provided by, and the ease of use of, its systems compare favorably with other platforms currently being marketed, and that its 12 ESP systems are the leading systems designed specifically for telephone network operators. The Company anticipates that a number of its direct and indirect competitors will be introducing new or improved ESP systems during the next several years. The Company is aware of a relatively small number of manufacturers of products that compete with the AUDIODISK product line at the present time. Manufacturers of products that have been offered in competition with the AUDIODISK system include Applied Signal Technology, Inc., Atis Uher, the E-Systems division of Raytheon Corporation, GTE Government Systems Division, Harris Corporation, JSI Corporation and Nice Systems, Ltd. Competition also has been provided by manufacturers and integrators of custom designed computer and telecommunications systems in response to particular government procurements in specific markets where they have entrenched customer relationships. The Company believes that it derives a competitive advantage over many potential competitors of its AUDIODISK product line by reason of its ability to offer prospective customers a family of products that can provide a solution to most customer requirements without extensive special development effort. The government market in general is highly competitive and difficult to penetrate, and the Company may be at a competitive disadvantage in respect of certain customers and market segments as a result of its small size in relation to other potential vendors and the existence of entrenched customer relationships with other vendors. The market in which ULTRA products are sold is also highly competitive. Primary competitors include Atis Assmann GmbH, Dictaphone Corporation, Eyretel Ltd., Kreutler GmbH, Nice Systems, Ltd., Racal Recorders Ltd., TEAC America, Inc., Teknekron Infoswitch Corporation and Witness Systems, Inc. Many of the Company's present and potential competitors are considerably larger than the Company, are more established, have a larger installed base of customers and have greater financial, technical, marketing and other resources. MANUFACTURING AND SOURCES OF SUPPLIES The Company's manufacturing operations consist primarily of final assembly and testing, involving the application of extensive testing and quality control procedures to materials, components, subassemblies and systems. The Company uses third parties to perform printed circuit board assembly and sheet metal fabrication. Although the Company generally uses standard parts and components in its products, certain components are presently available only from a limited number of sources. To date, the Company has been able to obtain adequate supplies of all components in a timely manner from existing sources or, when necessary, from alternative sources. However, the inability to obtain sufficient quantities of components or to locate alternative sources of supply if and as required in the future, would adversely affect the Company's operations. The Company maintains organization-wide quality assurance procedures, coordinating the quality control activities of the Company's research and 13 development, manufacturing and service departments. The Company's primary manufacturing and research and development facilities have received certification to Quality Standard ISO 9001. CAPITAL MARKET ACTIVITIES The Company has organized a wholly-owned subsidiary, CTI Capital Corp. ("CTI Capital"), that directly and through a wholly-owned subsidiary in Israel, Comverse Investments Ltd., seeks to identify and implement suitable investments for the Company, and engages in portfolio investment and capital market activities, primarily in Israel. Such activities include, in addition to direct investment in public and private companies, investment and merchant banking activities and short-term trading of debt and equity securities. Through ComSor Investment Fund N.V., formed by CTI Capital in partnership with Quantum Industrial Holdings Ltd., an investment company managed by Soros Fund Management LLC., the Company invests venture capital in high technology firms, primarily located in Israel, and engages in other investment activities. Comverse also engages in direct strategic and capital management investment activities for its own account. OPERATIONS IN ISRAEL A substantial portion of the Company's research and development and manufacturing operations are located in Israel and, accordingly, may be affected by economic, political and military conditions in that country. To date, the Company's operations have not been materially affected by armed conflict in the Middle East, but no assurances can be given that escalation of hostilities in the future might not have a significant negative impact on the Company's business. Israel is a member of the United Nations, the International Monetary Fund, the International Bank for Reconstruction and Development, and the International Finance Corporation, and is a signatory to the General Agreement on Tariffs and Trade, which provides for reciprocal lowering of trade barriers among its members. In addition, Israel has been granted preferences under the Generalized System of Preferences from the United States, Australia, Canada, and Japan. These preferences allow Israel to export the products covered by such programs either duty-free or at reduced tariffs. Israel and the European Union are parties to a Free Trade Agreement pursuant to which, subject to rules of origin, Israel's industrial exports to the European Union are exempt from customs duties and other non-tariff barriers and import restrictions. Israel also has an agreement with the United States to establish a Free Trade Area ("FTA") which is intended ultimately to eliminate all tariff and certain non-tariff barriers on most trade between the two countries. Under the FTA agreement, most products received immediate duty-free status in 1985, and all tariffs have since been eliminated. In 1993, Israel entered into an agreement with the European Free Trade Association ("EFTA"), which includes Austria, Norway, Finland, Switzerland, Iceland and Liechtenstein, that established a free-trade zone between Israel and EFTA nations exempting 14 manufactured goods and some agricultural goods and processed foods from customs duties, while reducing duties on other goods. Israel is the only country which has free-trade area agreements with the United States as well as with the European Union and EFTA states. The end of the Cold War has also enabled Israel to establish commercial and trade relations with a number of nations, including Russia, China and the nations of Eastern Europe, with whom Israel had not previously had such relations. The Company's business is also dependent to some extent on trading relationships between Israel and other countries. Certain of the Company's products incorporate components imported into Israel from the United States and other countries and most of the Company's products are sold outside of Israel. Accordingly, the Company's operations would be adversely affected if major hostilities involving Israel should occur or if trade between Israel and its current trading partners were interrupted or curtailed. The Company benefits from various policies of the Government of Israel, including reduced taxation and special subsidy programs, designed to stimulate economic activity, particularly high technology industry, in that country. As a condition of its receipt of funds for various research and development projects conducted under programs sponsored by the Government of Israel, the Company has agreed that products resulting from these projects may not be manufactured, nor may the technology developed in the projects be transferred, outside of Israel without government consent. Israel's economy has from time to time been subject to significant inflation. This inflation, and the associated increases in salaries that are linked by Israeli law to increases in the consumer price index, have increased the cost of the Company's operations in Israel, and salary costs have further increased as a result of the growing competition for qualified scientific, engineering and technical personnel in Israel. The increases in costs in recent periods have not, in each instance, been offset by proportional devaluation of the Israeli shekel against the U.S. dollar, and accordingly have had a negative impact on the Company's overall results of operations. The results of operations of the Company have been favorably affected by participation in Israeli Government programs related to research and development, as well as utilization of certain tax incentives and other incentives available under applicable Israeli laws and regulations, some of which have been reduced, discontinued or otherwise modified in recent years. In addition, the Company's ability to obtain benefits under various discretionary funding programs has declined and may continue to decline as its internal financial and operational resources increase relative to other applicants. The results of operations of the Company could be adversely affected if these programs were further reduced or eliminated and not replaced with equivalent programs or if its ability to participate in these programs were to be reduced significantly. 15 EMPLOYEES At January 31, 1999, the Company employed 3,220 individuals, approximately 71% of whom are scientists, engineers and technicians engaged in research and development, marketing and support activities. The Company is not a party to any collective bargaining or other agreement with any labor organization; however, certain provisions of the collective bargaining agreements between the Histadrut (General Federation of Labor in Israel) and the Coordinating Bureau of Economic Organizations (including the Industrialists' Association) are applicable to the Company's Israeli employees by order of the Israeli Ministry of Labor. Israeli law generally requires the payment by employers of severance pay upon the death of an employee, his retirement or upon termination of his employment, and the Company provides for such payment obligations through monthly contributions to an insurance fund. Israeli employees and employers are required to pay pre-determined sums to the National Insurance Institute, which payment covers medical and other benefits similar to the benefits provided by the United States Social Security Administration. The continuing success of the Company will depend, to a considerable extent, on the contributions of its senior management and key employees, many of whom would be difficult to replace, and on the Company's ability to attract and retain qualified employees in all areas of its business. Competition for such personnel is intense, particularly in the computer and telecommunications industries. In order to attract and retain talented personnel, and to provide incentives for their performance, the Company has emphasized the award of stock options as an important element of its compensation program, including options to purchase shares in certain of the Company's subsidiaries, and provides cash bonuses based on several parameters, including the profitability of the recipients' respective business units. ITEM 2. PROPERTIES. As of January 31, 1999, the Company leased an aggregate of approximately 1,007,000 square feet of space for its operations worldwide, including approximately 510,000 square feet in Tel Aviv, Israel, approximately 199,000 square feet in Wakefield, Massachusetts, approximately 98,000 square feet in Andover, Massachusetts, approximately 48,000 square feet in Woodbury, New York, approximately 31,000 square feet in Mt. Laurel, New Jersey, approximately 22,000 square feet in Irvine, California, and an aggregate of approximately 99,000 square feet at various other locations in the United States, Western Europe, the Far East and Australia. The aggregate base monthly rent for the facilities under lease at January 31, 1999 was approximately $1,262,000, and all of such leases are subject to various pass-throughs and escalation adjustments. In February 1999, the Company leased approximately 168,000 additional square feet in Wakefield, Massachusetts, for a base monthly rent of approximately $236,000, also subject to pass-throughs and escalation adjustments. 16 The Company believes that its facilities currently under lease are adequate for its current operations, and that additional facilities are available on competitive market terms to provide for such future expansion of the Company's operations as may be warranted. ITEM 3. LEGAL PROCEEDINGS. On November 5, 1998, Comverse's subsidiary, Comverse Network Systems, Inc. ("CNS"), filed a complaint against Priority Call Management, Inc. ("PCM") alleging that PCM is infringing and has infringed certain patents owned by CNS. CNS is seeking a declaratory judgment, injunctive relief, compensatory and treble damages and attorneys fees. PCM answered the complaint, asserting numerous affirmative defenses, and is seeking a declaratory judgment that it has not infringed the CNS patents and that the patents are invalid. On March 16, 1999, PCM filed an amended answer and counterclaim asserting violations of the Sherman Antitrust Act, tortious interference and patent misuse. In its counterclaim PCM seeks declaratory judgments, compensatory and treble damages in unspecified amounts and attorneys fees. Currently, the parties are engaged in discovery. The Company from time to time is subject to claims in legal proceedings arising in the ordinary course of its business. There are currently no such claims that individually or in the aggregate are believed by management to pose any material risk to its business or financial condition. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. No matters were submitted to a vote of security holders during the fourth quarter of the last fiscal year. 17 PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS. The Common Stock trades on the NASDAQ National Market System under the symbol CMVT. The following table sets forth the range of closing prices of the Common Stock as reported on NASDAQ for the past three calendar years and for the period from January 1 through April 22, 1999. All prices have been adjusted to reflect the three-for-two stock split, effected in the form of a stock dividend distributed on April 15, 1999. YEAR CALENDAR QUARTER LOW HIGH ---- ---------------- --- ---- 1996 1/1/96 - 3/31/96 11.08 16.75 4/1/96 - 6/30/96 15.26 20.79 7/1/96 - 9/30/96 15.83 27.58 10/1/96 - 12/31/96 21.71 25.42 1997 1/1/97 - 3/31/97 24.58 30.92 4/1/97 - 6/30/97 24.33 34.67 7/1/97 - 9/30/97 30.63 35.38 10/1/97 - 12/31/97 21.50 36.13 1998 1/1/98 - 3/31/98 20.42 32.67 4/1/98 - 6/30/98 28.17 36.71 7/1/98 - 9/30/98 24.42 37.96 10/1/98 - 12/31/98 19.96 47.33 1999 1/1/99 - 4/22/99 43.63 64.38 There were 2,502 holders of record of Common Stock at April 22, 1999. Such record holders include a number of holders who are nominees for an undetermined number of beneficial owners; the Company believes that the number of beneficial owners of the shares of Common Stock outstanding at such date was approximately 30,000. The Company has not declared or paid any cash dividends on its equity securities and does not expect to pay any cash dividends in the foreseeable future, but rather intends to retain its earnings to finance the development and growth of the Company's business. Any future determination as to the declaration and payment of dividends will be made by the Board of Directors in its discretion, and will depend upon the Company's earnings, financial condition, capital requirements and other relevant factors. See "Management's Discussion and Analysis of Financial Condition and Results of Operations--Liquidity and Capital Resources." 18 ITEM 6. SELECTED FINANCIAL DATA. The following tables present selected consolidated financial data for the Company for each of the years in the four years ended December 31, 1997, the one month period ended January 31, 1998, and the year ended January 31, 1999. Such information has been derived from the Company's audited consolidated financial statements and should be read in conjunction with the Company's consolidated financial statements and the notes to the consolidated financial statements included elsewhere in this report. All financial information presented herein for periods prior to the 1995 acquisition of DGM&S has been retroactively adjusted to account for that transaction as a pooling of interests. All financial information presented herein has been retroactively adjusted for the January 1998 merger with Boston Technology, Inc. ("Boston") to account for that transaction as a pooling of interests. All per share data has been restated to reflect a three-for-two stock split effected as a 50% stock dividend to shareholders of record on March 31, 1999, distributed on April 15, 1999.
TRANSITION YEAR PERIOD ENDED ENDED YEAR ENDED DECEMBER 31, JANUARY 31, JANUARY 31, ----------------------------------------------------------------------------------------------------------------- 1994(1) (2) 1995 (2) 1996 (2) 1997(3) 1998 1999 (IN THOUSANDS, EXCEPT PER SHARE DATA) Statement of Operations Data: Sales $ 197,206 $ 242,416 $ 389,639 $ 488,940 $ 14,401 $ 696,094 Cost of sales 79,060 104,980 169,524 202,640 21,146 (4) 279,690 Selling, general and administrative 59,898 72,953 93,604 138,305 51,892 (4) 151,985 Research and development, net 26,349 41,310 66,228 96,626 13,481 132,820 Royalties and license fees 2,385 3,321 10,443 12,325 520 16,552 Non-recurring charges - 21,000 - - 41,877 - Interest and other income, net 3,100 5,323 2,376 4,719 175 8,263 Income (loss) before income tax provision 32,352 4,322 52,307 43,923 (114,340) 123,310 Income tax provision 7,310 2,162 10,170 9,398 867 11,783 ---------- ---------- ---------- --------- ---------- ---------- Net income (loss) $ 25,042 $ 2,160 $ 42,137 $ 34,525 $(115,207) $ 111,527 ========== ========== ========== ========= ========== ========== Earnings per share - diluted $ 0.43 $ 0.04 $ 0.67 $ 0.50 $ (1.77) $ 1.55 ========== ========== ========== ========= ========== ========== Weighted average number of common and common equivalent shares outstanding 57,909 58,140 66,566 68,954 65,030 71,825 DECEMBER 31, JANUARY 31, ----------------------------------------------- --------------------- 1994(5) 1995(5) 1996(5) 1997 1998 1999 (IN THOUSANDS) Balance Sheet Data: Working capital $ 185,660 $ 193,693 $ 332,660 $ 395,744 $ 280,793 $ 707,281 Total assets 272,791 306,115 519,074 622,931 527,652 1,031,393 Long-term debt, including current portion 63,852 61,361 117,605 142,075 124,257 415,247 Stockholders' equity 158,405 176,080 288,550 346,161 231,390 381,662
(1) Includes results for DGM&S for its fiscal year ended September 30. (2) Includes results for Boston for its fiscal year ended January 31. (3) Includes results for Boston for the 11 months ended December 31, 1997. (4) Includes approximately $7.8 million in cost of sales and $36.1 million in selling, general and administrative relating to charges as a result of the merger with Boston. (5) Includes amounts for Boston as of its fiscal year ended January 31. 19 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS. RESULTS OF OPERATIONS INTRODUCTION On January 14, 1998, Comverse consummated a merger (the "Merger") with Boston Technology, Inc., a Delaware corporation ("Boston"), in a transaction accounted for as a pooling of interests. The Company's financial statements for the years ended December 31, 1996 and 1997 include the operations of Boston for its fiscal year ended January 31, 1997 and the eleven months ended December 31, 1997, respectively. COMPARISON OF YEAR ENDED JANUARY 31, 1999 ("FISCAL 1998") TO YEAR ENDED DECEMBER 31, 1997 ("FISCAL 1997") Sales. Sales increased from Fiscal 1997 to Fiscal 1998 by approximately $207,154,000 (42%). This increase is primarily attributable to higher volume of sales of systems and parts of enhanced service platform products. Cost of Sales. Cost of sales increased by approximately $77,050,000 (38%) from Fiscal 1997 to Fiscal 1998 primarily as a result of the increase in sales. Gross margins increased from approximately 58.6% in Fiscal 1997 to approximately 59.8% in Fiscal 1998. Selling, General and Administrative Expenses. Selling, general and administrative expenses increased from Fiscal 1997 to Fiscal 1998 by approximately $13,680,000 (10%) and as a percentage of sales decreased from approximately 28% in Fiscal 1997 to approximately 22% in Fiscal 1998. The increased amount was a result of increased sales, marketing and administrative activities associated with the overall growth of the Company's operations, and particularly with the expansion of direct sales and marketing activities. Research and Development Expenses. Net research and development expenses during Fiscal 1998 increased by approximately $36,194,000 (37%) over Fiscal 1997 due to overall growth of research and development operations, the initiation of significant new research and development projects and increases in salaries and other costs associated with research and development operations in Israel. Royalties and License Fees. Royalties and license fees increased from Fiscal 1997 to Fiscal 1998 by approximately $4,227,000 (34%) due primarily to growth in sales of royalty-bearing products. Income Tax Provision. Provision for income taxes increased from Fiscal 1997 to Fiscal 1998 by approximately $2,385,000 (25%), while the Company's overall effective tax rate decreased from approximately 21% during Fiscal 1997 to approximately 9% in Fiscal 1998. The Company's overall rate of tax is reduced significantly by the tax benefits associated with qualified activities of certain of its Israeli subsidiaries, which are entitled to favorable income tax 20 rates under a program of the Israeli Government for "Approved Enterprise" investments in that country. Net Income. Net income after taxes increased from approximately $34,525,000 in Fiscal 1997 to approximately $111,527,000 in Fiscal 1998, an increase of approximately $77,002,000 (223%), while net income after taxes as a percentage of sales increased from approximately 7.1% in Fiscal 1997 to approximately 16.0% in Fiscal 1998. The increases resulted primarily from the factors described above. TRANSITION PERIOD In 1998, the Company changed its fiscal year from the calendar year to the fiscal year ending January 31, corresponding to Boston's fiscal year. As a result of the change in fiscal year, the Company's results of operations for the one month ended January 31, 1998 have previously been reported separately as a transition period and included on a transition report on Form 10-K. The Company had sales of $14,401,000, costs and expenses of $129,608,000, and a net loss of $115,207,000 for the one month ended January 31, 1998. Included in these results are $85,763,000 for merger and other related costs. COMPARISON OF 1996 AND 1997 OPERATIONS Sales. Sales increased from 1996 to 1997 by approximately $99,301,000 (25%), primarily resulting from increased sales of enhanced services platform products. Cost of Sales. Cost of sales increased by approximately $33,116,000 (20%) from 1996 to 1997 primarily as a result of the increase in sales. Gross margins increased from approximately 56.5% in 1996 to approximately 58.6% in 1997. Selling, General and Administrative Expenses. Selling, general and administrative expenses increased from 1996 to 1997 by approximately $44,701,000 (48%) and as a percentage of sales increased from approximately 24% in 1996 to approximately 28% in 1997. The increased amount was a result of increased sales, marketing and administrative activities associated with the overall growth of the Company's operations, and particularly with the expansion of direct sales and marketing activities. Research and Development Expenses. Net research and development expenses during 1997 increased by approximately $30,398,000 (46%) over 1996 due to overall growth of research and development operations, the initiation of significant new research and development projects and increases in salaries and other costs associated with research and development operations in Israel. Royalties and License Fees. Royalties and license fees increased from 1996 to 1997 by approximately $1,882,000 (18%) due primarily to growth in sales of royalty-bearing products. 21 Income Tax Provision. Provision for income taxes decreased from 1996 to 1997 by approximately $772,000 (8%), while the Company's overall effective tax rate increased from approximately 19% during 1996 to approximately 21% in 1997. The Company's overall rate of tax is reduced significantly by the tax benefits associated with qualified activities of certain of its Israeli subsidiaries, which are entitled to favorable income tax rates under a program of the Israeli Government for "Approved Enterprise" investments in that country. Net Income. Net income after taxes decreased from approximately $42,137,000 in 1996 to approximately $34,525,000 in 1997, a decrease of approximately $7,612,000 (18%), while net income after taxes as a percentage of sales decreased from approximately 10.8% in 1996 to approximately 7.1% in 1997. The decreases resulted primarily from the factors described above. LIQUIDITY AND CAPITAL RESOURCES At January 31, 1999, the Company had cash and cash equivalents of approximately $583,959,000, bank time deposits and short-term investments of approximately $73,658,000 and working capital of approximately $707,281,000. The Company believes that its existing working capital, together with funds generated from operations, will be sufficient to provide for its planned operations for the foreseeable future. The Company regularly examines opportunities for strategic acquisitions of other companies or lines of business and anticipates that it may from time to time issue additional debt and/or equity securities either as direct consideration for such acquisitions or to raise additional funds to be used (in whole or in part) in payment for acquired securities or assets. The issuance of such securities could be expected to have a dilutive impact on the Company's shareholders, and there can be no assurance as to whether or when any acquired business would contribute positive operating results commensurate with the associated investment. The Company's liquidity and capital resources have not been, and are not anticipated to be, materially affected by restrictions pertaining to the ability of its foreign subsidiaries to pay dividends or by withholding taxes associated with any such dividend payments. CERTAIN TRENDS AND UNCERTAINTIES The Company has benefited from the growth in its business and capital base over the past several years to make significant new investment in its operations and infrastructure intended to enhance its opportunities for future growth and profitability. The Company intends to continue to make significant investments in the growth of its business, and to examine opportunities for additional growth through acquisitions and strategic investments. The impact of these decisions on future profitability cannot be predicted with assurance, and the Company's commitment to growth may increase its vulnerability to unforeseen downturns in its markets, technology changes and shifts in competitive conditions. However, the Company believes that significant opportunities exist in the markets for each of its main product lines, and that continued strong investment in its technical, product development, marketing and sales capabilities will enhance its opportunities for long term growth and profitability. 22 The telecommunications industry is subject to rapid technological change. The Company's revenue stream will depend on its ability to enhance its existing products and to introduce new products on a timely and cost-effective basis. This includes any customer-requested custom software enhancements required in the normal course of product delivery and customer demands for the technological convergence of the Company's products. The Company's products involve sophisticated hardware and software technology that performs critical functions to highly demanding standards. There can be no assurance that the Company's current or future products will not develop operational problems, which could have a material adverse effect on the Company. In addition, if the Company were to delay the introduction of new products, or to delay the delivery of specific custom software enhancements, the Company's operating results could be adversely affected. The Company sells a majority of its products to companies in the telecommunications industry. This industry is undergoing significant change as a result of deregulation and privatization worldwide, reducing restrictions on competition in the industry. Unforeseen changes in the regulatory environment may have an impact on the Company's revenues and/or costs in any given part of the world. The worldwide ESP system industry is already highly competitive and the Company expects competition to intensify. The Company believes that existing competitors will continue to present substantial competition, and that other companies, many with considerably greater financial, marketing and sales resources than the Company, may enter the ESP system markets. Moreover, as the Company enters into new markets for enhanced services as a result of its own research and development efforts or acquisitions, it is likely to ecounter new competitors. As a result of its significantly greater concentration on a small number of large telephone company customers, Boston's business has historically been considerably more volatile than that of Comverse, and the operations of the combined Company are likely to be less predictable and subject to greater risks from actions of individual customers than the operations of Comverse in recent years. The market for telecommunications monitoring systems is also in a period of significant transition. Budgetary constraints, uncertainties resulting from the introduction of new technologies in the telecommunications environment and shifts in the pattern of government expenditures resulting from geopolitical events have increased uncertainties in the market, resulting in certain instances in the attenuation of government procurement programs beyond their originally expected performance periods and an increased incidence of delay, cancellation or reduction of planned projects. The delay and uncertainties surrounding the Communications Assistance for Law Enforcement Act ("CALEA") have had a significant negative impact on acquisition plans of law enforcement agencies in North America engaged in monitoring activities. Competitive conditions in this sector have also been affected by the increasing use by certain potential government customers of their own internal development resources rather than outside vendors to provide certain technical solutions. In addition, a number of established government contractors, particularly developers and integrators of technology products, have taken steps to redirect their marketing strategies and product plans in reaction to cut-backs in their traditional areas of focus, resulting in an increase in the number of competitors and the range of products offered in response to particular requests for proposals. The lack of predictability in the timing and scope of government procurements have similarly made planning decisions more difficult and have increased the associated risks. The Company has historically derived a significant portion of its sales and operating profit from contracts for large system installations with major customers. Boston's operating results, in particular, have often been 23 characterized by volatility and lack of predictability, reflecting its traditional customer concentration among major telecommunications services providers such as the Regional Bell Operating Companies. The Company continues to emphasize large capacity systems in its product development and marketing strategies. Contracts for large installations typically involve a lengthy and complex bidding and selection process, and the ability of the Company to obtain particular contracts is inherently difficult to predict. The Company believes that opportunities for large installations will continue to grow in both its commercial and government markets, and intends to continue to expand its research and development, manufacturing, sales and marketing and product support capabilities in anticipation of such growth. However, the timing and scope of these opportunities and the pricing and margins associated with any eventual contract award are difficult to forecast, and may vary substantially from transaction to transaction. The Company's future operating results may accordingly exhibit a higher degree of volatility than the operating results of other companies in its industries that have adopted different strategies, and than the Company has experienced in prior periods. Although the Company is actively pursuing a number of significant procurement opportunities in the United States and internationally, both the timing of any eventual procurements and the probability of the Company's receipt of significant contract awards are uncertain. The degree of dependence by the Company on large system orders, and the investment required to enable the Company to perform such orders, without assurance of continuing order flow from the same customers and predictability of gross margins on any future orders, increase the risk associated with its business. The Company has significantly increased its expenditures in all areas of its operations during recent periods, including the areas of research and development and marketing and sales, and the Company plans to further increase these expenditures in the foreseeable future. The increase in research and development expenditures reflects the Company's concentration on enhancing the range of features and capabilities of its existing product lines and developing new generations of its products. The Company believes that these efforts are essential for the continuing competitiveness of its product offerings and for positioning itself to participate in future growth opportunities in both the commercial and government sectors. The increase in sales and marketing expenditures primarily results from the Company's decision to expand its activities and direct presence in a growing number of world markets. The Company's costs of operations have also been affected by increases in the cost of its operations in Israel, resulting both from general inflation and increases in the cost of attracting and retaining qualified scientific, engineering and technical personnel in Israel, where the demand for such personnel is growing rapidly with the expansion of technology-based industries in that country. The increase in these costs in recent years has not been offset in each instance by proportional devaluation of the Israeli shekel against the United States dollar, and accordingly has had a negative impact on the Company's overall results of operations. Continuation of such trends may have a material adverse effect on the Company's future results of operations. A significant portion of the Company's research and development and manufacturing operations are located in Israel and may be affected by regulatory, political, military and economic conditions in that country. The Company's historical operating results reflect substantial benefits from programs sponsored by the Israeli government for the support of research and development, as well as favorable tax rates available to "Approved Enterprises" in Israel. The Israeli government has indicated its intention to reexamine 24 certain of its policies in these areas. Recently, the government acted to increase, from between 2% and 3% of associated product sales to 3% of associated product revenues (including service and other related revenues), the annual rate of royalties to be applied to repayment of benefits under the conditional grant program administered by the Office of the Chief Scientist of the Ministry of Industry and Trade, a program in which the Company has regularly participated and under which it continues to receive significant benefits through reimbursement of up to 50% of qualified research and development expenditures. The Company's repayment of amounts received under the program will be accelerated through these higher royalty rates until repayment is completed. Repayment of any amounts received under programs which have been, or will be, approved by the Office of the Chief Scientist after January 1, 1999 will entail repayment of the amount received (calculated in US Dollars), plus interest on such amount at a rate equal to the 12-month LIBOR rate in effect at the time of the approval of the program. In addition, permission from the government of Israel is required for the Company to manufacture outside of Israel products resulting from research and development activities funded under such programs, or to transfer outside of Israel related technology rights, and in order to obtain such permission the Company may be required to increase the royalties to the applicable funding agencies and/or repay certain amounts received as reimbursement of research and development costs. The Israeli authorities have also indicated that these research and development funding programs will be significantly further reduced in the future, particularly for larger entities such as the Company. The Israeli government has also shortened the period of the tax moratorium applicable to "Approved Enterprises" from four years to two years. Although this change has not affected the tax status of the Company's projects that were eligible for the moratorium prior to 1997, it applies to the subsequent "Approved Enterprises" of the Company. If further changes in the law or government policies regarding those programs were to result in their termination or adverse modification, or if the Company were to become unable to participate in or take advantage of those programs, the cost to the Company of its operations in Israel would materially increase and there would be an adverse effect on the results of the Company's operations as a whole. To the extent the Company increases its activities outside Israel, such increased activities will not be eligible for programs sponsored by Israel. Most of the Company's research and development and manufacturing operations attributable to Boston are expected to continue to be located in the United States and thus will not be eligible for the benefits of those programs. Accordingly, the effective cost to the Company of its future research and development activities in particular, and its operations in general, could significantly increase relative to that of Comverse, historically. The Company currently derives a significant portion of its total sales from customers outside of the United States. International transactions involve particular risks, including political decisions affecting tariffs and trade conditions, rapid and unforeseen changes in economic conditions in individual countries, turbulence in foreign currency and credit markets, and increased costs resulting from lack of proximity to the customer. Volatility in international currency exchange rates may have a significant impact on the Company's operating results. The Company has, and anticipates that it will continue to receive, significant contracts denominated in foreign (primarily Western European and Japanese) currencies. As a result of the unpredictable timing of purchase orders and payments under such contracts and other factors, it is often not practicable for the Company to effectively hedge the risk of significant changes in currency rates during the contract period. Since the Company will hedge the exchange rate risks associated with long-term contracts denominated in foreign currencies only to a limited extent, operating results 25 can be affected by the impact of currency fluctuations as well as the cost of such hedging. Prevailing economic conditions in the Far East and Southeast Asia have significantly reduced the demand for the Company's systems in certain countries. The Company cannot currently predict the effect on its business should regional economic conditions fail to improve. Moreover, the Company's future operating results and financial condition will be adversely affected should current economic instability result in more widespread slowdown or recessionary conditions in other major world markets, or in severe trade or currency disruptions. The Company has undertaken a comprehensive program to evaluate "Year 2000 compliance" of its products and systems. The Company considers a product to be "Year 2000 compliant" if the product, when used properly and in conformity with the product information provided by the Company, will accurately store, display, process, provide and/or receive data from, into and between the twentieth and twenty-first centuries, including leap year calculations, provided that all other technology used in combination with the Company product properly exchanges date data with the product. Although the Company believes that its current products generally either are, or upon the completion of current modification programs will be, Year 2000 compliant, no assurance can be given that its Year 2000 compliance efforts will prove to be fully successful or that unanticipated costs and problems will not be encountered in such efforts. In addition, the Company has determined that older generations of certain of its products are not and cannot, without unreasonable effort and expense, be made Year 2000 compliant. The costs incurred to date related to the Company's Year 2000 compliance program have been less than $5,000,000. The program is expected to continue through fiscal 1999, but is not anticipated to have a material adverse effect on the Company's business or financial condition. The Company anticipates that widespread litigation may be brought in the future against vendors of systems and components of systems that are unable to properly manage data related to the Year 2000. The Company's agreements with customers typically contain provisions designed to limit generally the Company's liability for customer claims. It is possible, however, that these measures will not provide protection from Year 2000 liability claims, as a result of existing or future laws or unfavorable judicial decisions. Any such claims could result in a material adverse affect on the Company's business, financial condition and results of operations, including increased warranty costs, customer satisfaction issues and potential legal damages. The Company has initiated a comprehensive program to address Year 2000 readiness in its internal systems and with its customers and suppliers. The Company's program has been designed to address its most critical internal systems first and to gather information regarding the Year 2000 compliance of products supplied to it and into which the Company's products are integrated. Assessment and remediation are proceeding in tandem, and the Company intends to have its critical internal systems in Year 2000 compliance by the end of the third quarter of 1999. These activities are intended to encompass all major categories of systems in use by the Company, including manufacturing, engineering, sales, finance and human resources. The costs incurred to date related to these programs have been less than $5,000,000. 26 The Company currently expects that the total cost of its Year 2000 readiness programs over the current fiscal year will not exceed $5,000,000. The total cost estimate does not include potential costs related to any customer or other claims or the costs of internal software or hardware replaced in the normal course of business. The total cost estimate is based on the current assessment of the Company's Year 2000 readiness needs and is subject to change as the projects proceed. The Company is communicating with its significant suppliers and financial institutions to determine the extent to which the Company is vulnerable to those third parties' failure to remedy their own Year 2000 concerns, and has received assurances of Year 2000 compliance from a number of those contacted. Most of the suppliers under existing contracts with the Company are under no contractual obligation to provide such information to the Company. While the Company currently expects that the Year 2000 issue will not pose significant operational problems, failure to fully identify all Year 2000 dependencies in the Company's systems and in the systems of its suppliers, customers and financial institutions could have material adverse consequences, including delays in the delivery or sale of products. The Company has under consideration various contingency plans which will be developed as needed to assure continuing operations in the event such problems arise. The trading price of the Company's shares may be affected by the factors noted above as well as prevailing economic and financial trends and conditions in the public securities markets. Share prices of companies in technology and government contracting businesses, and particularly smaller and medium-sized publicly traded companies such as the Company, tend to exhibit a high degree of volatility. The Company's revenues and earnings may be more volatile than those of Comverse historically as a result of the greater concentration of Boston's business on a limited number of large customers. Shortfalls in revenues or earnings from the levels anticipated by the public markets could have an immediate and significant effect on the trading price of the Company's shares in any given period. Such shortfalls may result from events that are beyond the Company's immediate control, can be unpredictable and, since a significant proportion of the Company's sales during each fiscal quarter tend to occur in the latter stages of the quarter, may not be discernible until the end of a financial reporting period. These factors contribute to the volatility of the trading value of its shares regardless of the Company's long-term prospects. The trading price of the Company's shares may also be affected by developments, including reported financial results and fluctuations in trading prices of the shares of other publicly-held companies in the telecommunications equipment industry in general, and the Company's industry in particular, which may not have any direct relationship with the Company's business or prospects. EFFECT OF NEW ACCOUNTING PRONOUNCEMENTS During 1998, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 133, "Accounting for Derivative Instruments and Hedging Activities" ("SFAS 133"). SFAS 133 requires that all derivative financial instruments be recognized as either assets or liabilities in the balance sheet. Measurement is at fair value, and if the derivative is not designed as a hedging instrument, changes in fair value (i.e., gains and losses) are to be recognized in earnings in the period of change. If certain conditions are met, a derivative may be designed as a hedge, in which case the accounting for changes in fair value will depend on the specific exposure being hedged. The 27 method that will be used for assessing the effectiveness of a hedging derivative, as well as the measurement approach for determining the ineffective aspects of the hedge, must be established at the inception of the hedge. The methods must be consistent with the Company's approach to managing risk. SFAS 133 will be effective for fiscal years beginning after June 15, 1999. The Company is currently evaluating the impact that the adoption of SFAS 133 will have on its financial statements. FORWARD-LOOKING STATEMENTS From time to time, the Company makes forward-looking statements. Forward-looking statements include financial projections, statements of plans and objectives for future operations, statements of future economic performance, and statements of assumptions relating thereto. The Company may include forward-looking statements in its periodic reports to the Securities and Exchange Commission on Forms 10-K, 10-Q, and 8-K, in its annual report to shareholders, in its proxy statements, in its press releases, in other written materials, and in statements made by employees to analysts, investors, representatives of the media, and others. By their very nature, forward-looking statements are subject to uncertainties, both general and specific, and risks exist that predictions, forecasts, projections and other forward-looking statements will not be achieved. Actual results may differ materially due to a variety of factors, including without limitation those discussed under "Certain Trends and Uncertainties" and elsewhere in this report. Investors and others should carefully consider these and other uncertainties and events, whether or not the statements are described as forward-looking. Forward-looking statements made by the Company are intended to apply only at the time they are made, unless explicitly stated to the contrary. Moreover, whether or not stated in connection with a forward-looking statement, the Company undertakes no obligation to correct or update a forward-looking statement should the Company later become aware that it is not likely to be achieved. If the Company were in any particular instance to update or correct a forward-looking statement, investors and others should not conclude that the Company will make additional updates or corrections thereafter. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK. The Company is exposed to market risk from changes in foreign currency exchange rates, interest rates and equity trading prices, which could impact its results of operations and financial condition. The Company manages its exposure to these market risks through its regular operating and financing activities and, when deemed appropriate, through the use of derivative financial instruments. The Company from time to time uses foreign currency exchange contracts and other derivative instruments to reduce its exposure to the risk that the eventual net cash inflows and outflows resulting from the sale of products to foreign customers will be adversely affected by changes in exchange rates. The use of these derivative financial instruments allows the Company to reduce its exposure to exchange rate movements, since the gains and losses on these 28 contracts substantially offset losses and gains on the assets, liabilities and transactions being hedged. In many instances, the Company elects not to hedge these transactions. Management does not expect any significant changes in the strategies it employs to manage such exposure in the near future. As of January 31, 1999, the Company's foreign currency market exposure that is hedged relates to the Japanese yen. As of January 31, 1999, a 10% appreciation or depreciation from the prevailing market rate of the Japanese yen would not have a material effect on the Company's financial position, results of operations or cash flows. Various financial instruments held by the Company are sensitive to changes in interest rates. Interest rate changes would result in gains or losses in the market value of the Company's investments in debt securities due to differences between the market interest rates and rates at the inception of these financial instruments. Neither a 100 basis point increase nor decrease from current interest rates would have a material effect on the Company's financial position, results of operations or cash flows. Equity investments held by the Company are subject to equity price risks. Neither a 10% increase nor decrease in equity prices would have a material effect on the Company's financial position, results of operations or cash flows. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA. The financial information required by Item 8 is included elsewhere in this report. See Part IV, Item 14. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE. Not applicable. PART III The information required by Part III is omitted pursuant to instruction G(3). 29 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K. Page(s) (a) Documents filed as part of this report. (1) Financial Statements. Index to Consolidated Financial Statements F-1 Independent Auditors' Reports F-2 Consolidated Balance Sheets as of January 31, 1998 and 1999 F-4 Consolidated Statements of Income for the Years Ended December 31, 1996, 1997 and January 31, 1999 F-5 Consolidated Statements of Stockholders' Equity for the Years Ended December 31, 1996, 1997 and January 31, 1999 F-6 Consolidated Statements of Cash Flows for the Years Ended December 31, 1996, 1997 and January 31, 1999 F-7 Notes to Consolidated Financial Statements F-8 (2) Financial Statement Schedules. None (3) Exhibits. The Index of Exhibits commences on the following page. Exhibits numbered 10.3 through 10.8, 10.13 through 10.16 and 10.24 through 10.30 comprise material compensatory plans and arrangements of the registrant. 30 EXHIBITS NO. DESCRIPTION - --- ----------- 2.1* Agreement and Plan of Merger dated as of August 20, 1997, between Registrant and Boston Technology, Inc. (Incorporated by reference to the Definitive Proxy Materials for the Registrant's Annual Meeting of Stockholders held January 13, 1998.) 3 Articles of Incorporation and By-Laws: 3.1* Certificate of Incorporation. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1987.) 3.2* Certificate of Amendment of Certificate of Incorporation effective February 26, 1993. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1992.) 3.3* Certificate of Amendment of Certificate of Incorporation effective January 12, 1995. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1994.) 3.4* By-Laws, as amended. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1987.) 4 Instruments defining the rights of security holders including indentures: 4.1* Excerpts from Certificate of Incorporation. (Incorporated by reference to the Registrant's Registration Statement on Form S-1 under the Securities Exchange Act of 1933, Registration No. 33-9147.) 4.2* Excerpt from Certificate of Amendment of Certificate of Incorporation effective February 26, 1993. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1992.) 4.3* Excerpt from Certificate of Amendment of Certificate of Incorporation effective January 12, 1995. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1994.) 4.4* Excerpts from By-Laws, as amended. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1992.) 4.5* Specimen stock certificate. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1992.) 31 4.6* Indenture dated as of October 4, 1996 from Comverse Technology, Inc. to The Chase Manhattan Bank, N.A., Trustee. (Incorporated by reference to the Registrant's Current Report on Form 8-K under the Securities Exchange Act of 1934 filed October 10, 1996.) 4.7* Specimen 5 3/4% Convertible Subordinated Debenture due 2006. (Incorporated by reference to the Registrant's Current Report on Form 8-K under the Securities Exchange Act of 1934 filed October 10, 1996.) 4.8* Indenture dated as of June 30, 1998 from Comverse Technology, Inc. to The Chase Manhattan Bank, Trustee. (Incorporated by reference to the Registrant's Current Report on Form 8-K under the Securities Exchange Act of 1934 filed July 2, 1998.) 4.9* Specimen 4 1/2% Convertible Subordinated Debenture due 2005. (Incorporated by reference to the Registrant's Current Report on Form 8-K under the Securities Exchange Act of 1934 filed July 2, 1998.) 10 Material contracts: 10.1* Proxy Agreement dated as of September 5, 1991 by and among Comverse Government Systems Corporation, James R. Allen, Robert W. Bazley, Robert T. Marsh and Comverse Technology, Inc. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1991.) 10.2* Visitation Approval Procedure Agreement dated as of September 5, 1991 by and among Comverse Government Systems Corporation, James R. Allen, Robert W. Bazley, Robert T. Marsh and Comverse Technology, Inc. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1991.) 10.3* Form of Stock Option Agreement pertaining to shares of certain subsidiaries of Comverse Technology, Inc. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1993.) 10.4* Employment Agreement effective as of July 1, 1994 by and between Comverse Technology, Inc. and Kobi Alexander. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1994.) 10.5* 1994 Stock Option Plan. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1994.) 10.6* 1995 Stock Option Plan. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1995.) 10.7* 1996 Stock Option Plan. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1996.) 32 10.8* Form of Incentive Stock Option Agreement. (Incorporated by reference to the Registrant's Registration Statement on Form S-1 under the Securities Act of 1933, Registration No. 33-9147.) 10.9* Deed of Guarantee from Comverse Technology, Inc. to Bank Hapoalim B.M. dated July 30, 1986. (Incorporated by reference to the Registrant's Registration Statement on Form S-1 under the Securities Act of 1933, Registration No. 33-9147.) 10.10* Continuing Guarantee from Comverse Technology, Inc. to Bank Leumi le-Israel B.M. (Incorporated by reference to the Registrant's Registration Statement on Form S-1 under the Securities Act of 1933, Registration No. 33-9147.) 10.11* Patent License Agreement by and between Efrat Future Technology Ltd. and VMX, Inc. (Incorporated by reference to the Registrant's Registration Statement on Form S-1 under the Securities Act of 1933, Registration No. 33-9147.) 10.12* Form of Indemnity Agreement between Comverse Technology, Inc. and its Officers and Directors. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1987.) 10.13* 1987 Stock Option Plan, as amended. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1987.) 10.14* Form of Stock Option Agreement for options other than Incentive Stock Options. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1987.) 10.15* 1997 Employee Stock Purchase Plan. (Incorporated by reference to the Definitive Proxy Materials for the Registrant's Annual Meeting of Stockholders held January 13, 1998.) 10.16* 1997 Stock Incentive Compensation Plan. (Incorporated by reference to the Definitive Proxy Materials for the Registrant's Annual Meeting of Stockholders held January 13, 1998.) 10.17* Memorandum of Agreement dated November 22, 1995 between Boston Technology, Inc. and AT&T. (Incorporated by reference to the Annual Report of Boston Technology, Inc. on Form 10-K under the Securities Exchange Act of 1934 for the year ended January 31, 1996, confidential treatment requested as to certain portions.) 10.18* Lease dated November 5, 1990 between Boston Technology, Inc. and Wakefield Park Limited Partnership. (Incorporated by reference to the Annual Report of Boston Technology, Inc. on Form 10-K under the Securities Exchange Act of 1934 for the year ended January 31, 1991.) 10.19* First Amendment dated as of March 31, 1993 to Lease dated November 5, 1990 between Boston Technology, Inc. and Wakefield Park Limited Partnership. (Incorporated by reference to the Quarterly Report of Boston Technology, Inc. on Form 10-Q under the Securities Exchange Act of 1934 for the quarter ended October 31, 1993.) 33 10.20* Second Amendment dated as of August 31, 1994 to Lease dated November 5, 1990 between Boston Technology, Inc. and Wakefield Park Limited Partnership. (Incorporated by reference to the Annual Report of Boston Technology, Inc. on Form 10-K under the Securities Exchange Act of 1934 for the year ended January 31, 1995.) 10.21* License Agreement dated November 15, 1988 between Boston Technology, Inc. and VMX, Inc. (Incorporated by reference to the Registration Statement of Boston Technology, Inc. on Form S-1 under the Securities Act of 1933, Registration No. 33-32134.) 10.22* License Agreement dated January 22, 1990 between Boston Technology, Inc. and Dytel Corporation. (Incorporated by reference to the Annual Report of Boston Technology, Inc. on Form 10-K under the Securities Exchange Act of 1934 for the year ended January 31, 1990.) 10.23* Settlement Agreement dated December 28, 1993 between the Boston Technology, Inc. and Theis Research, Inc. and Peter F. Theis. (Incorporated by reference to the Annual Report of Boston Technology, Inc. on Form 10-K under the Securities Exchange Act of 1934 for the year ended January 31, 1994.) 10.24* Boston Technology, Inc. 1995 Director Stock Option Plan. (Incorporated by reference to the Quarterly Report of Boston Technology, Inc. on Form 10-Q under the Securities Exchange Act of 1934 for the quarter ended July 31, 1995.) 10.25* Boston Technology, Inc. 1992 Directors' Stock Option Plan, as amended. (Incorporated by reference to the Annual Report of Boston Technology, Inc. on Form 10-K under the Securities Exchange Act of 1934 for the year ended January 31, 1994.) 10.26* Boston Technology, Inc. 1994 Stock Incentive Plan. (Incorporated by reference to the Annual Report of Boston Technology, Inc. on Form 10-K under the Securities Exchange Act of 1934 for the year ended January 31, 1994.) 10.27* Boston Technology, Inc. 1989 Incentive Stock Option Plan, as amended. (Incorporated by reference to the Definitive Proxy Materials for Boston Technology, Inc.'s Annual Meeting of Stockholders held July 14, 1992.) 10.28* Boston Technology, Inc. Employee Savings and Profit Sharing Plan. (Incorporated by reference to Registration Statement of Boston Technology, Inc. on Form S-1 under the Securities Act of 1933, Registration No. 33-32134.) 10.29* Boston Technology, Inc. Employee Severance Benefit Plan. (Incorporated by reference to the Current Report of Boston Technology, Inc. on Form 8-K under the Securities Exchange Act of 1934 dated May 9, 1991.) 10.30* Boston Technology, Inc. 1996 Stock Incentive Plan. (Incorporated by reference to the Definitive Proxy Materials for Boston Technology, Inc.'s Annual Meeting of Stockholders held June 25, 1996.) 34 10.31* Lease dated June 7, 1996 between Boston Technology, Inc. and WBAM Limited Partnership. (Incorporated by reference to the Annual Report of Boston Technology, Inc. on Form 10-K under the Securities Exchange Act of 1934 for the year ended January 31, 1997.) 21 Subsidiaries of Registrant. 27 Financial Data Schedule - ----------------- * Incorporated by reference. 35 COMVERSE TECHNOLOGY, INC. AND SUBSIDIARIES INDEX TO CONSOLIDATED FINANCIAL STATEMENTS - -------------------------------------------------------------------------------- PAGE Independent Auditors' Reports F-2 Consolidated Balance Sheets as of January 31, 1998 and 1999 F-4 Consolidated Statements of Income for the Years Ended December 31, 1996, 1997 and January 31, 1999 F-5 Consolidated Statements of Stockholders' Equity for the Years Ended December 31, 1996, 1997 and January 31, 1999 F-6 Consolidated Statements of Cash Flows for the Years Ended December 31, 1996, 1997 and January 31, 1999 F-7 Notes to Consolidated Financial Statements F-8 F-1 INDEPENDENT AUDITORS' REPORT To the Board of Directors and Stockholders of Comverse Technology, Inc. Woodbury, New York We have audited the accompanying consolidated balance sheets of Comverse Technology, Inc. and subsidiaries (the "Company") as of January 31, 1998 and 1999, and the related consolidated statements of income, stockholders' equity and cash flows for years ended December 31, 1996 and 1997 and January 31, 1999. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. The statements of income, stockholders' equity and cash flows for the year ended December 31, 1996 give retroactive effect to the merger of the Company and Boston Technology, Inc., which has been accounted for as a pooling of interests as described in Note 8 to the consolidated financial statements. We did not audit the financial statements of Boston Technology, Inc. for the year ended January 31, 1997, which statements reflect total sales constituting 49% of consolidated total sales for the year ended December 31, 1996. These financial statements were audited by other auditors whose report has been furnished to us, and our opinion, insofar as it relates to the amounts included for Boston Technology, Inc., is based solely on the report of such other auditors. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit 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 and the report of the other auditors provide a reasonable basis for our opinion. In our opinion, based on our report and the report of the other auditors, such consolidated financial statements present fairly, in all material respects, the financial position of Comverse Technology, Inc. and subsidiaries as of January 31, 1998 and 1999, and the results of their operations and their cash flows for the years ended December 31, 1996, 1997 and January 31, 1999 in conformity with generally accepted accounting principles. Deloitte & Touche LLP New York, New York March 8, 1999 (April 15, 1999 as to Note 12) F-2 REPORT OF INDEPENDENT ACCOUNTANTS To the Board of Directors and Stockholders of Boston Technology, Inc.: We have audited the consolidated balance sheet of Boston Technology, Inc. as of January 31, 1997, and the related consolidated statements of operations, stockholders' equity and cash flows for the year ended January 31, 1997 (none of which were included herein). These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audit in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit 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 audit provides 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 Boston Technology, Inc. as of January 31, 1997, and the consolidated results of its operations and its cash flows for the fiscal year ended January 31, 1997 in conformity with generally accepted accounting principles. PricewaterhouseCoopers LLP Boston, Massachusetts April 24, 1997 F-3 COMVERSE TECHNOLOGY, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS JANUARY 31, 1998 AND 1999 (IN THOUSANDS, EXCEPT SHARE DATA)
- ----------------------------------------------------------------------------------------------------------------------- ASSETS 1998 1999 - ------ ---- ---- CURRENT ASSETS: Cash and cash equivalents $ 180,855 $ 583,959 Bank time deposits 35,700 10,000 Short-term investments 60,347 63,658 Accounts receivable, net of allowance for doubtful accounts of $24,454 and $25,218 79,693 192,317 Inventories 63,024 46,689 Prepaid expenses and other current assets 27,863 34,354 Deferred income tax benefits 1,652 1,660 ------------- -------------- TOTAL CURRENT ASSETS 449,134 932,637 PROPERTY AND EQUIPMENT, net 53,413 61,445 INVESTMENTS 6,838 7,902 OTHER ASSETS 18,267 29,409 ------------- -------------- TOTAL ASSETS $ 527,652 $ 1,031,393 ============= ============== - ----------------------------------------------------------------------------------------------------------------------- LIABILITIES AND STOCKHOLDERS' EQUITY 1998 1999 - ------------------------------------ ---- ---- CURRENT LIABILITIES: Accounts payable and accrued expenses $ 125,941 $ 184,870 Bank loans 16,600 247 Advance payments from customers 22,680 39,051 Other current liabilities 3,120 1,188 ------------- -------------- TOTAL CURRENT LIABILITIES 168,341 225,356 CONVERTIBLE SUBORDINATED DEBENTURES 115,000 415,000 LIABILITY FOR SEVERANCE PAY 4,481 4,338 OTHER LIABILITIES 8,440 5,037 ------------- -------------- TOTAL LIABILITIES 296,262 649,731 ------------- -------------- COMMITMENTS AND CONTINGENCIES STOCKHOLDERS' EQUITY: Preferred stock, $0.01 par value--authorized, 2,500,000 shares; issued, none - - Common stock, $0.10 par value -- authorized, 100,000,000 shares; issued and outstanding, 65,086,196 and 68,736,936 shares 6,509 6,874 Additional paid-in capital 217,192 253,065 Retained earnings 6,559 118,086 Accumulated other comprehensive income 1,130 3,637 ------------- -------------- TOTAL STOCKHOLDERS' EQUITY 231,390 381,662 ------------- -------------- TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 527,652 $ 1,031,393 ============= ==============
See notes to consolidated financial statements. F-4 COMVERSE TECHNOLOGY, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF INCOME YEARS ENDED DECEMBER 31, 1996, 1997 AND JANUARY 31, 1999 (IN THOUSANDS, EXCEPT PER SHARE DATA)
- --------------------------------------------------------------------------------------------------------------------------- DECEMBER 31, DECEMBER 31, JANUARY 31, 1996 1997 1999 ---- ---- ---- Sales $ 389,639 $ 488,940 $ 696,094 Cost of sales 169,524 202,640 279,690 ------------ ------------ ------------ Gross margin 220,115 286,300 416,404 Operating expenses: Research and development, net 66,228 96,626 132,820 Selling, general and administrative 93,604 138,305 151,985 Royalties and license fees 10,443 12,325 16,552 ------------ ----------- ------------ Income from operations 49,840 39,044 115,047 Interest and other income, net 2,467 4,879 8,263 ------------ ----------- ------------ Income before income tax provision 52,307 43,923 123,310 Income tax provision 10,170 9,398 11,783 ------------ ----------- ------------ Net income $ 42,137 $ 34,525 $ 111,527 ============ =========== ============ Earnings per share: Basic $ 0.73 $ 0.54 $ 1.68 ============ =========== ============ Diluted $ 0.67 $ 0.50 $ 1.55 ============ =========== ============
See notes to consolidated financial statements. F-5 COMVERSE TECHNOLOGY, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY YEARS ENDED DECEMBER 31, 1996, 1997 AND JANUARY 31, 1999 (IN THOUSANDS, EXCEPT SHARE DATA)
- ------------------------------------------------------------------------------------------------------------------------------------ Accumulated Other Comprehensive Income Total Common Stock Additional Unrealized Cumulative Stock- Number of Par Paid-in Treasury Stock Retained Gains Translation holders' Shares Value Capital Shares Amount Earnings (Losses) Adjustment Equity ------ ----- ------- ------ ------ -------- -------- ---------- ------ BALANCE, JANUARY 1, 1996 56,755,091 $5,676 $129,285 (597,791) $(8,599) $ 48,925 $ 646 $ 147 $176,080 Comprehensive income: Net income 42,137 Unrealized gain on available-for- sale securities 901 Translation adjustment 191 Total comprehensive income 43,229 Issuance of treasury stock upon exercise of stock options 528,894 7,534 (3,993) 3,541 Issuance of treasury stock for employee stock purchase plan 68,897 1,065 (197) 868 Exercise of stock options 567,498 57 2,798 2,855 Conversion of debentures 4,645,152 464 58,181 58,645 Acquisition of additional interest in majority-owned subsidiary 8,250 1 148 149 Tax benefit of dispositions of stock options 3,183 3,183 - ------------------------------------------------------------------------------------------------------------------------------------ BALANCE, DECEMBER 31, 1996 61,975,991 6,198 193,595 86,872 1,547 338 288,550 Comprehensive income: Net income 34,525 Unrealized (loss) on available-for- sale securities (430) Translation adjustment 106 Total comprehensive income 34,201 AT&T warrant exercises 828,216 83 (83) Common stock issued for acquisition 243,750 24 16 Retained earnings of acquired company (8) 661 661 Common stock issued for employee stock purchase plan 76,382 8 1,298 1,306 Issuance of treasury stock upon exercise of stock options (292) (292) Exercise of stock options 1,886,204 188 14,601 14,789 Tax benefit of dispositions of stock options 6,930 6,930 - ------------------------------------------------------------------------------------------------------------------------------------ BALANCE, DECEMBER 31, 1997 65,010,543 $6,501 $216,333 $121,766 $1,117 $444 $346,161 ========== ====== ======== ======== ====== ==== ======== BALANCE, FEBRUARY 1, 1998 65,086,196 $6,509 $ 217,192 $ 6,559 $ 641 $ 489 $231,390 Comprehensive income: Net income 111,527 Unrealized gain on available-for-sale securities 2,874 Translation adjustment (367) Total comprehensive income 114,034 AT&T warrant exercise 649,500 65 (65) Common stock issued for employee stock purchase plan 105,333 10 2,288 2,298 Exercise of stock options 2,895,907 290 33,650 33,940 - ------------------------------------------------------------------------------------------------------------------------------------ BALANCE, JANUARY 31, 1999 68,736,936 $6,874 $253,065 $118,086 $3,515 $ 122 $381,662 ========== ====== ======== ======== ====== ====== ========
See notes to consolidated financial statements. F-6 COMVERSE TECHNOLOGY, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS YEARS ENDED DECEMBER 31, 1996, 1997 AND JANUARY 31, 1999 (IN THOUSANDS)
- ---------------------------------------------------------------------------------------------------------------------------- DECEMBER 31, DECEMBER 31, JANUARY 31, 1996 1997 1999 ---- ---- ---- CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 42,137 $ 34,525 $ 111,527 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization 15,493 22,000 20,872 Changes in assets and liabilities: Accounts receivable (46,044) (23,977) (112,624) Inventories (17,816) (14,818) 16,335 Prepaid expenses and other current assets (1,503) (17,802) (6,491) Accounts payable and accrued expenses 35,459 8,314 58,929 Advance payments from customers 5,130 8,595 16,371 Liability for severance pay 409 807 (143) Other (305) 3,657 (440) ----------- ----------- ----------- NET CASH PROVIDED BY OPERATING ACTIVITIES 32,960 21,301 104,336 ----------- ----------- ----------- CASH FLOWS FROM INVESTING ACTIVITIES: Maturities and sales (purchases) of bank time deposits and investments, net (27,792) (53,524) 24,199 Purchase of property and equipment (32,227) (36,532) (24,673) Capitalization of software development costs (4,466) (6,008) (8,569) Other (1,331) - - ------------ ----------- ----------- NET CASH (USED IN) INVESTING ACTIVITIES (65,816) (96,064) (9,043) ------------ ------------ ----------- CASH FLOWS FROM FINANCING ACTIVITIES: Net proceeds from issuance of debentures 111,899 - 292,672 Proceeds from issuance of common stock in connection with exercise of stock options, warrants, and employee stock purchase plan 7,412 23,041 36,238 Net proceeds from bank loans and other debt 10,510 28,989 (21,099) ----------- ---------- ------------ NET CASH PROVIDED BY FINANCING ACTIVITIES 129,821 52,030 307,811 ----------- ---------- ----------- NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 96,965 (22,733) 403,104 CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR 113,791 210,756 180,855 ----------- ---------- ---------- CASH AND CASH EQUIVALENTS, END OF YEAR $ 210,756 $ 188,023 $ 583,959 =========== ========== ========== SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION: Cash paid during the year for interest $ 3,276 $ 9,184 $ 14,094 =========== ========== ========== Cash paid during the year for income taxes $ 5,116 $ 10,811 $ 2,452 =========== ========== ==========
See notes to consolidated financial statements. F-7 COMVERSE TECHNOLOGY, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED DECEMBER 31, 1996, 1997 AND JANUARY 31, 1999 - -------------------------------------------------------------------------------- 1. ORGANIZATION AND BUSINESS Comverse Technology, Inc. ("Comverse" and, together with its subsidiaries, "CTI" or the "Company") was organized as a New York corporation in October 1984. The Company is engaged in the design, development, manufacture, marketing and support of special purpose computer and telecommunications systems and software for multimedia communications and information processing applications. 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES PRINCIPLES OF CONSOLIDATION - The consolidated financial statements include the accounts of Comverse and its wholly-owned and majority-owned subsidiaries. All material intercompany balances and transactions have been eliminated. CASH, CASH EQUIVALENTS AND BANK TIME DEPOSITS - The Company considers all highly liquid investments purchased with original maturities of three months or less to be cash equivalents. Bank deposits with maturities in excess of three months are classified as bank time deposits. SHORT-TERM INVESTMENTS - The Company classifies all of its short-term investments (including U.S. treasury bills) as available-for-sale, accounted for at fair value, with resulting unrealized gains or losses reported as a separate component of stockholders' equity, on a net-of-tax basis. CONCENTRATION OF CREDIT RISK - Financial instruments which potentially expose the Company to concentration of credit risk, consist primarily of cash investments and accounts receivable. The Company places its cash investments with high-credit quality financial institutions and currently invests primarily in bank time deposits, money market funds placed with major banks and financial institutions, corporate commercial paper, corporate medium-term notes, and U.S. government obligations that have maturities of one year or less. Accounts receivable are generally diversified due to the number of commercial and government entities comprising the Company's customer base and their dispersion across many geographical regions. The Company believes no significant concentration of credit risk exists with respect to these cash investments and accounts receivable. INVENTORIES - Inventories are stated at the lower of cost or market. Cost is determined by the first-in, first-out method. PROPERTY AND EQUIPMENT - Property and equipment are carried at cost less accumulated depreciation and amortization. The Company depreciates its property and equipment on a straight-line basis over periods ranging from three to seven years. The cost of maintenance and repairs is charged to operations as incurred. Significant renewals and betterments are capitalized. INCOME TAXES - The Company accounts for its income using the asset and liability method. Under this method, deferred tax assets and liabilities are determined based on differences between financial reporting and tax F-8 bases of assets and liabilities, and are measured using the enacted tax rates and laws that are expected to be in effect when the differences are expected to reverse. REVENUE AND EXPENSE RECOGNITION - Revenues from product sales are generally recognized upon shipment. Products shipped for customer trials are carried in finished goods inventory until customer acceptance is obtained, at which time revenue is recognized. Revenues from certain contracts are recognized under the percentage-of-completion method on the basis of physical completion to date or using actual costs incurred to total expected costs under the contract. Amounts received from customers in excess of revenues earned under the percentage-of-completion method are recorded as advance payments from customers. Related contract costs include all direct material and labor costs and those indirect costs related to contract performance, and are included in cost of sales in the consolidated statements of income. Expenses incurred in connection with research and development activities, other than certain software development costs that are capitalized, and selling, general and administrative expenses are charged to operations as incurred. SOFTWARE DEVELOPMENT COSTS - Software development costs are capitalized upon the establishment of technological feasibility and are amortized over the estimated useful life of the software, which to date has been four years or less. Amortization begins in the period in which the related product is available for general release to customers. Amortization expenses amounted to $3,079,000, $3,546,000 and $3,230,000 for the years ended December 31, 1996, 1997 and January 31, 1999, respectively. FUNCTIONAL CURRENCY AND FOREIGN CURRENCY TRANSACTION GAINS AND LOSSES - The United States dollar (the "dollar") is the functional currency of the major portion of the Company's foreign operations. Most of the Company's sales, and materials purchased for manufacturing, are denominated in or linked to the dollar. Certain operating costs, principally salaries, of foreign operations are denominated in local currencies. In those instances where a foreign subsidiary has a functional currency other than the dollar, the Company records any necessary foreign currency translation adjustment, reflected in stockholders' equity, at the end of each reporting period. Net gains (losses) from foreign currency transactions, included in the consolidated statements of income, approximated $(1,012,000), $(2,192,000) and $2,847,000 for the years ended December 31, 1996, 1997 and January 31, 1999, respectively. The Company occasionally enters into foreign exchange forward contracts and options on foreign currencies. The purpose of the Company's foreign currency hedging activities is to protect the Company from the risk that the eventual dollar cash flows resulting from the sale of products to international customers will be adversely affected by changes in exchange rates. Any gain or loss on a foreign exchange contract which hedges a firm commitment is deferred until the underlying transaction is realized, at which time it is included in the consolidated statement of income. The Company also purchases foreign exchange options which permit, but do not require, the Company to exchange foreign currencies at a future date with another party at a contracted exchange rate. To finance premiums paid on such options, from time to time the Company may also write offsetting options at exercises prices which limit, but do not eliminate, the effect of purchased options as a hedge. As of January 31, 1999, the Company had purchased foreign exchange options of approximately $7,000,000 and written foreign exchange options of approximately $7,000,000 in Japanese yen. F-9 OTHER ASSETS - Licenses of patent rights and acquired "know-how" are recorded at cost and amortized using the straight-line method over the estimated useful lives of the related technology, not exceeding five years. Goodwill and other intangible assets associated with acquired subsidiaries are amortized over periods ranging from five to twelve years. Debt issue costs are amortized over the term of the related debt, on a straight-line basis. LONG-LIVED ASSETS - The Company reviews for the impairment of long-lived assets and certain identifiable intangibles whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. An impairment loss would be recognized when estimated future cash flows expected to result from the use of the asset and its eventual disposition are less than its carrying amount. No such impairment losses have been identified by the Company. PERVASIVENESS OF ESTIMATES - The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. RECLASSIFICATIONS - Certain prior year amounts have been reclassified to conform to the manner of presentation in the current year. 3. RESEARCH AND DEVELOPMENT A significant portion of the Company's research and development operations are located in Israel where the Company derives substantial benefits from participation in programs sponsored by the Government of Israel for the support of research and development activities conducted in that country. The Company's research and development activities include projects partially funded by the Office of the Chief Scientist of the Ministry of Industry and Trade of the State of Israel (the "OCS") under which the funding organization reimburses a portion of the Company's research and development expenditures under approved project budgets. The Company is currently involved in several ongoing research and development projects supported by the OCS. The Company is required to pay royalties to the OCS based on the sale of products incorporating technology developed in these projects. In addition, under the terms of the applicable funding agreements, products resulting from projects funded by the OCS may not be manufactured outside of Israel without government approval. The amounts reimbursed by the OCS for the years ended December 31, 1996, 1997 and January 31, 1999 were $9,172,000, $16,276,000 and $16,732,000, respectively. F-10 4. SHORT-TERM INVESTMENTS The Company classifies all of its short-term investments as available-for-sale securities. The following is a summary of available-for-sale securities as of January 31, 1999:
GROSS GROSS ESTIMATED UNREALIZED UNREALIZED FAIR COST GAINS LOSSES VALUE ------------------------------------------------------------------------- (IN THOUSANDS) Corporate debt securities $ 40,819 $ 924 $ 6 $ 41,737 ---------- --------- ------- ---------- Common stock 13,993 3,448 1,082 16,359 Mutual funds investing in U.S. government and agencies obligations 1,929 70 - 1,999 Preferred stock 3,173 481 91 3,563 ----------- --------- ------- ---------- Total equity securities 19,095 3,999 1,173 21,921 ----------- --------- ------- ---------- $ 59,914 $ 4,923 $ 1,179 $ 63,658 =========== ========= ======= ========== The following is a summary of available-for-sale securities as of January 31, 1998: GROSS GROSS ESTIMATED UNREALIZED UNREALIZED FAIR COST GAINS LOSSES VALUE ------------------------------------------------------------------------- (IN THOUSANDS) U.S. treasury notes $ 248 $ 4 $ - $ 252 Corporate debt securities 35,722 129 - 35,851 U.S. Government agency bonds 750 - - 750 --------- -------- ------- ---------- Total debt securities 36,720 133 - 36,853 --------- -------- ------- ---------- Common stock 14,359 1,880 1,347 14,892 Mutual funds investing in U.S. government and agencies obligations 1,929 49 - 1,978 Preferred stock 5,981 804 161 6,624 ---------- -------- ------- ---------- Total equity securities 22,269 2,733 1,508 23,494 ---------- -------- ------- ---------- $ 58,989 $ 2,866 $ 1,508 $ 60,347 ========== ======== ======= ==========
During the year ended January 31, 1999, the gross realized gains on sales of securities totaled approximately $1,358,000 and the gross realized losses totaled approximately $5,472,000. F-11 The amortized cost and estimated fair value of debt securities at January 31, 1999, by contractual maturity, are as follows:
ESTIMATED COST FAIR VALUE ---- ---------- (IN THOUSANDS) Due in one year or less $ 20,898 $ 20,931 Due after one year through three years 18,051 18,139 Due after three years 1,870 2,667 ---------- ---------- $ 40,819 $ 41,737 ========== ========== 5. INVENTORIES Inventories consist of: JANUARY 31, 1998 1999 ---- ---- (IN THOUSANDS) Raw materials $ 29,735 $ 23,944 Work in process 20,413 11,171 Finished goods 12,876 11,574 ----------- ----------- $ 63,024 $ 46,689 =========== =========== 6. PROPERTY AND EQUIPMENT Property and equipment consists of: JANUARY 31, 1998 1999 ---- ---- (IN THOUSANDS) Fixtures and equipment $ 99,667 $ 124,331 Transportation vehicles 2,872 1,985 Leasehold improvements 2,148 3,044 ----------- ----------- 104,687 129,360 Less accumulated depreciation and amortization (51,274) (67,915) ------------ ------------ $ 53,413 $ 61,445 =========== =========== F-12 7. OTHER ASSETS Other assets consist of: JANUARY 31, 1998 1999 ---- ---- (IN THOUSANDS) Software development costs, net of accumulated amortization of $10,896 and $14,126 $ 9,801 $ 15,140 Debt issue costs, net of accumulated amortization of $415 and $1,078 2,696 9,140 Other assets 5,770 5,129 ----------- ----------- $ 18,267 $ 29,409 =========== ===========
8. BUSINESS COMBINATIONS On January 14, 1998, Boston Technology, Inc., a Delaware corporation, ("BTI") merged with and into Comverse in a transaction that was accounted for as a pooling of interests. BTI designed, developed, manufactured, marketed and supported standard and customized enhanced services platforms and software applications for the telephone network operator market. Pursuant to the merger, the issued and outstanding shares of BTI at the effective date of the merger were converted into an aggregate of approximately 27,211,778 shares of Comverse's common stock and outstanding options and warrants to purchase BTI stock were converted into options and warrants to purchase an aggregate of 5,187,398 Comverse shares. The table below sets forth the unaudited separate and combined results of CTI and BTI for the fiscal years ended December 31, 1996 and 1997:
CTI BTI ADJUSTMENTS COMBINED --- --- ----------- -------- (In thousands, except per share amounts) 1996 Sales $ 197,181 $ 192,458 $ 389,639 Net income $ 27,988 $ 14,149 $ 42,137 Earnings per share - diluted $ 1.16 $ 1.01 1997 Sales $ 280,281 $ 210,525 $ (1,866) $ 488,940 Net income (loss) $ 43,500 $ (7,503) $ (1,472) $ 34,525 Earnings per share - diluted $ 1.61 $ 0.75
F-13 BTI had a January fiscal year end. Accordingly, the consolidated statement of income data combines the historical statement of income data of the Company for the years ended December 31, 1996 and 1997 with the historical statement of income data of BTI for the fiscal years ended January 31, 1997 and the eleven months ended December 31, 1997, respectively. In 1998, the Company changed its fiscal year from the calendar year to the fiscal year ending January 31, corresponding to BTI's fiscal year. As a result of the change in fiscal year, the Company's results of operations for the one month ended January 31, 1998 have previously been reported separately as a transition period and included on a transition report on Form 10-K. The Company had sales of $14,401,000, costs and expenses of $129,608,000, and a net loss of $115,207,000 for the one month ended January 31, 1998. Included in these results are $85,763,000 for merger and other related costs. In February 1997, the Company acquired all of the outstanding stock of Enhanced Communications Corporation ("ECC"), a company providing outsourcing of voice messaging, for 243,750 shares of the Company's common stock. The combination has been accounted for as a pooling of interests. The Company did not restate prior financial statements for this acquisition due to immateriality and recorded the book value of the net assets of ECC of $661,000 in the statement of stockholders' equity. In February 1999, the Company acquired all of the outstanding stock of Amarex Technology, Inc., a company that develops software-based applications for the telephone network operator and call center markets, for 346,007 shares of the Company's common stock and the assumption of options and warrants to purchase 119,643 shares of the Company's common stock. The combination is being accounted for as a pooling of interests. The pro-forma effects of the acquisition would not have a material effect on the Company's financial statements. 9. ACCOUNTS PAYABLE AND ACCRUED EXPENSES Accounts payable and accrued expenses consist of: JANUARY 31, 1998 1999 ---- ---- (IN THOUSANDS) Accounts payable $ 37,488 $ 63,606 Accrued salaries 15,492 22,645 Accrued vacation 6,718 9,004 Accrued royalties 6,271 18,165 Other accrued expenses 59,972 71,450 ----------- ----------- $ 125,941 $ 184,870 =========== =========== 10. CONVERTIBLE SUBORDINATED DEBENTURES In October 1996, the Company issued $115,000,000 of convertible subordinated debentures bearing interest at 5-3/4% per annum, payable semi-annually. The debentures mature on October 1, 2006. The debentures F-14 are convertible into shares of the Company's common stock at a conversion price of $30.50 per share, subject to adjustment in certain events. The debentures are subordinated in right of payment to all existing and future senior indebtedness of the Company. The debentures are redeemable at the option of the Company, in whole or in part, at prices decreasing from 102% of the face amount on October 12, 1999 to par on October 1, 2001. The debenture holders may require the Company to repurchase the debentures at par in the event that the common stock ceases to be publicly traded and, in certain instances, upon a change in control of the Company. In June 1998, the Company issued $300,000,000 of convertible subordinated debentures bearing interest at 4-1/2% per annum, payable semi-annually. The debentures mature on July 1, 2005. The debentures are convertible into shares of the Company's common stock at a conversion price of $43.00 per share, subject to adjustment in certain events. The debentures are subordinated in right of payment to all existing and future senior indebtedness of the Company. The debentures are redeemable at the option of the Company, in whole or in part, at prices decreasing from 101.8% of the face amount on July 10, 2001 to par on July 10, 2003. The debenture holders may require the Company to repurchase the debentures at par in the event that the common stock ceases to be publicly traded and, in certain instances, upon a change in control of the Company. 11. LIABILITY FOR SEVERANCE PAY Liability for severance pay consists of the Company's unfunded liability for severance pay to employees of certain foreign subsidiaries and accrued severance to the Company's chief executive officer. The Company's statutory obligation for severance pay to employees of its Israeli subsidiaries is determined on the basis of each individual's current salary and length of employment. Funding is currently provided primarily by premiums paid by the Company to insurance providers. The Company is obligated under an agreement with its chief executive officer to provide a severance payment upon the termination of his employment with the Company. Approximately $1,405,000 and $1,648,000 has been accrued as of January 31, 1998 and 1999, respectively, relating to this liability. 12. COMMON STOCK STOCK SPLIT - On April 15, 1999, the Company effected a three-for-two stock split by paying a 50% stock dividend to stockholders of record on March 31, 1999. All share and per share information has been retroactively restated in the consolidated financial statements to reflect this split. 13. STOCK OPTIONS EMPLOYEE STOCK OPTIONS - At January 31, 1999, 10,388,732 shares of common stock were reserved for issuance upon the exercise of options then outstanding and 413,730 shares were available for future grant under Comverse's Stock Option Plans, under which options may be granted to key employees, directors, and other persons rendering services to the Company. Options which are designated as "incentive stock options" under the option plans may be granted with an exercise price not less than the F-15 fair market value of the underlying shares at the date of grant and are subject to certain quantity and other limitations specified in Section 422 of the Internal Revenue Code. Options which are not intended to qualify as incentive stock options may be granted at any price, but not less than the par value of the underlying shares, and without restriction as to amount. The options and the underlying shares are subject to adjustment in accordance with the terms of the plans in the event of stock dividends, recapitalizations and similar transactions. The right to exercise the options generally vests in annual increments over periods of up to four years from the date of grant or the date of commencement of the grantee's employment with the Company. The changes in the number of options were as follows:
YEAR ENDED -------------------------------------------------------- DECEMBER 31, JANUARY 31, 1996 1997 1999 ---- ---- ---- Outstanding at beginning of year 6,930,338 8,359,442 12,395,693 Granted during the year 2,838,204 1,657,125 1,345,291 Exercised during the year (1,096,392) (1,886,204) (2,895,907) Canceled, terminated and expired (312,708) (213,507) (456,345) ------------- ------------- ------------- Outstanding at end of year 8,359,442 7,916,856 10,388,732 ============ ============ ============
At January 31, 1999, options to purchase an aggregate of 3,288,803 shares were vested and currently exercisable under the option plans and options to purchase an additional 7,099,929 shares vest at various dates extending through the year 2003. Weighted average option exercise price information was as follows:
YEAR ENDED -------------------------------------------------------- DECEMBER 31, JANUARY 31, 1996 1997 1999 ---- ---- ---- Outstanding at beginning of year $ 7.50 $ 11.08 $ 17.27 Granted during the year 18.07 28.69 21.44 Exercised during the year 5.95 8.25 11.73 Canceled, terminated and expired 11.70 17.98 20.83 Exercisable at year end 6.51 7.79 13.58
Significant option groups outstanding at January 31, 1999 and related weighted average price and life information were as follows:
Weighted Average Weighted Weighted Range of Number Remaining Average Number Average Exercise Price Outstanding Contractual Life Exercise Price Exercisable Exercise Price -------------- ----------- ---------------- -------------- ----------- -------------- $ 1.25 - $15.83 2,890,941 5.96 $ 9.84 2,106,596 $ 8.51 $16.99 - $20.00 1,113,189 9.68 19.99 2,437 16.99 $20.83 - $20.83 4,132,746 8.99 20.83 858,662 20.83 $22.17 - $34.55 2,251,856 8.23 27.94 321,108 27.41 ------------ ---- -------- ---------- ------- 10,388,732 8.06 $ 19.23 3,288,803 $ 13.58 ============ ==== ======== ========== =======
F-16 The Company applies Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees," and related interpretations in accounting for its option plans. Accordingly, as all options have been granted at exercise prices equal to fair market value on the date of grant, no compensation expense has been recognized by the Company in connection with its stock-based compensation plans. Had compensation cost for the Company's stock option plans been determined based upon the fair value at the grant date for awards under these plans consistent with the methodology prescribed under Statement of Financial Accounting Standards ("SFAS") No. 123, "Accounting for Stock-Based Compensation", the Company's net income and earnings per share would have been reduced by approximately $4,962,000, $13,505,000 and $28,769,000 or $.07, $.20 and $0.40 per diluted share for the years ended December 31, 1996, 1997 and January 31, 1999, respectively. The weighted average fair value of the options granted for the years ended December 31, 1996, 1997 and January 31, 1999 is estimated at $9.47, $15.47 and $11.16 on the date of grant (using the Black-Scholes option pricing model) with the following weighted average assumptions for the years ended December 31, 1996, 1997 and January 31, 1999, respectively: volatility of 56%, 54% and 55%, risk-free interest rate of 6.3%, 6.5% and 4.7% and an expected life of 4.6, 4.7 and 5.0 years. OPTIONS ON SUBSIDIARY SHARES - In accordance with the requirements of his employment agreement, the chief executive officer of Comverse holds options to acquire up to 7.5% of the shares of certain subsidiaries, other than Comverse Network Systems, Inc. In addition, Comverse has granted to certain other employees of the Company options to acquire shares of certain subsidiaries, other than Comverse Network Systems, Inc., as a means of providing incentives directly tied to the performance of those subsidiaries. The portion of the shares of the subsidiaries upon which such options have been granted varies among the subsidiaries affected, not exceeding in any instance 10.8% of the shares outstanding assuming exercise in full. The options have terms of ten years and become exercisable and vest over various periods ranging up to seven years from the date of initial grant. The exercise price of each option is equal to the higher of the book value of the underlying shares at the date of grant or the fair market value of such shares at that date determined on the basis of an arms'-length transaction with a third party or, if no such transactions have occurred, on a reasonable basis as determined by a committee of the Board of Directors. 14. WARRANTS In November 1995, the Company entered into an agreement to supply its products to a customer. Pursuant to this agreement, the Company issued warrants to purchase shares of its common stock at an exercise price of $14.36 per share. The warrants vest in five equal annual increments, commencing with the first anniversary of the date of grant, and remain exercisable for 30 months after first becoming exercisable. As of January 31, 1999, warrants to purchase 1,914,432 shares are outstanding, none of which are exercisable. 15. EMPLOYEE STOCK PURCHASE PLAN Under the 1997 Employee Stock Purchase Plan ("ESPP"), all employees who had completed three months of employment are entitled, through payroll deductions of amounts up to 10% of their base salary, to purchase shares F-17 of the Company's common stock at 85% of the lesser of the market price at the offering commencement date or the offering termination date. The number of shares available under the ESPP is 375,000, of which 105,333 had been issued as of January 31, 1999. 16. EARNINGS PER SHARE ("EPS") Basic earnings per share is determined by using the weighted average number of shares of common stock outstanding during each period. Diluted earnings per share further assumes the issuance of common shares for all dilutive potential common shares outstanding. The calculation for earnings per share for the years ended December 31, 1996, 1997 and January 31, 1999 was as follows:
DECEMBER 31, 1996 DECEMBER 31, 1997 JANUARY 31, 1999 ----------------------------- -------------------------- ---------------------------- Per-Share Per-Share Per-Share Income Shares Amount Income Shares Amount Income Shares Amount ------ ------ ------ ------ ------ ------ ------ ------ ------ (In thousands, except per share data) BASIC EPS Net Income $ 42,137 57,335 $ 0.73 $ 34,525 63,620 $ 0.54 $111,527 66,300 $1.68 ====== ====== ===== EFFECT OF DILUTIVE SECURITIES Options 5,180 5,334 5,525 Convertible debentures 2,586 4,051 -------- ------- ------ -------- ------- ------ -------- -------- ----- DILUTED EPS $ 44,723 66,566 $ 0.67 $ 34,525 68,954 $ 0.50 $111,527 71,825 $1.55 ======== ======= ====== ======== ======= ====== ======== ======== =====
Debentures convertible into 3,770,492 shares, 3,770,492 shares and 10,747,236 shares were outstanding as of December 31, 1996, 1997 and January 31, 1999, respectively, but were not included in the computation of diluted EPS because the effect of including them would be antidilutive. 17. INTEREST AND OTHER INCOME, NET Interest and other income, net, consists of the following:
YEAR ENDED DECEMBER 31, JANUARY 31, 1996 1997 1999 ---- ---- ---- (IN THOUSANDS) Interest and dividend income $ 9,199 $ 15,692 $ 25,410 Interest expense (5,667) (9,727) (15,154) Other, net (1,065) (1,086) (1,993) --------- ---------- ----------- $ 2,467 $ 4,879 $ 8,263 ========= ========== ===========
F-18 18. INCOME TAXES The provision for income taxes consists of the following:
YEAR ENDED DECEMBER 31, JANUARY 31, 1996 1997 1999 ---- ---- ---- (IN THOUSANDS) Current: Federal $ 9,885 $ 3,471 $ - State 1,235 703 127 Foreign 1,950 2,216 11,664 ---------- ---------- ---------- 13,070 6,390 11,791 ---------- ---------- ---------- Deferred (benefit): Federal (2,716) 2,810 (430) State (206) 215 13 Foreign 22 (17) 409 ---------- ----------- ---------- (2,900) 3,008 (8) ----------- ---------- ---------- $ 10,170 $ 9,398 $ 11,783 ========== ========== ========== The reconciliation of the U.S. Federal statutory tax rate to the Company's effective tax rate is as follows: YEAR ENDED DECEMBER 31, JANUARY 31, 1996 1997 1999 ---- ---- ---- (IN THOUSANDS) U.S. Federal statutory rate 35% 35% 35% Consolidated worldwide income in excess of U.S. income (18) (31) (37) Foreign income taxes 4 5 9 Other (2) 12 3 -------- -------- -------- Company's effective tax rate 19% 21% 10% ======== ======== ========
Deferred income taxes reflect the net tax effects of (a) temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes and (b) operating loss carryforwards. The tax effects of significant items comprising the Company's deferred tax asset and liability at January 31, 1998 and 1999 is as follows: F-19
JANUARY 31, 1998 1999 ---- ---- (IN THOUSANDS) Deferred tax liability: Expenses deductible for tax purposes and not for financial reporting purposes $ 1,433 $ 94 Unrealized gain on available-for-sale securities 679 1,301 ---------- --------- $ 2,112 $ 1,395 ========== ========= Deferred tax asset: Reserves not currently deductible $ 20,262 $ 22,417 Tax loss carryforwards 17,480 25,160 Inventory capitalization 388 276 Other 852 - ---------- --------- 38,982 47,853 Less: valuation allowance (37,330) (46,193) ---------- --------- Total deferred tax asset $ 1,652 $ 1,660 ========== =========
At January 31, 1999, the Company had net operating loss carryforwards for Federal income tax purposes of approximately $68 million, which begin to expire in 2018. Income tax has not been provided on unrepatriated earnings of foreign subsidiaries as currently it is the intention of the Company to reinvest such foreign earnings in their operations. 19. BUSINESS SEGMENT INFORMATION The Company is engaged in one business segment: the design, development, manufacture, marketing and support of special purpose computer and telecommunications systems and software for multimedia communications and information processing applications. Sales by country, based on end-user location, as a percentage of total sales, for the years ended December 31, 1996 and 1997 and January 31, 1999 were as follows:
DECEMBER 31, JANUARY 31, ------------ ----------- 1996 1997 1999 ---- ---- ---- United States 49% 33% 26% Germany 4% 4% 11% Japan 14% 13% 8% Other foreign 33% 50% 55% ----- ----- -------- Total 100% 100% 100% ===== ===== ========
During the year ended December 31, 1996, sales to a customer constituted 11% of total sales. No customer accounted for 10% of sales for the year ended December 31, 1997 or January 31, 1999. F-20 Condensed operating information for the years ended December 31,1996 and 1997 and January 31, 1999 were as follows:
(IN THOUSANDS) UNITED STATES ISRAEL OTHER ELIMINATIONS TOTAL YEAR ENDED DECEMBER 31, 1996 Sales $ 299,181 $ 137,184 $ 12,216 $ (58,942) $ 389,639 Costs and expenses (280,599) (106,713) (11,763) 59,276 (339,799) ----------- ------------ ---------- ---------- ----------- Operating income (loss) $ 18,582 $ 30,471 $ 453 $ 334 $ 49,840 =========== ============ ========== ========== =========== YEAR ENDED DECEMBER 31, 1997 Sales $ 343,158 $ 203,636 $ 18,511 $ (76,365) $ 488,940 Costs and expenses (342,396) (163,847) (17,694) 74,041 (449,896) ----------- ------------ ---------- ----------- ----------- Operating income (loss) $ 762 $ 39,789 $ 817 $ (2,324) $ 39,044 =========== ============ ========== =========== =========== YEAR ENDED JANUARY 31, 1999 Sales $ 342,368 $ 407,809 $ 32,838 $ (86,921) $ 696,094 Costs and expenses (365,711) (274,218) (30,263) 89,145 (581,047) ------------ ------------ ---------- ---------- ----------- Operating income (loss) $ (23,343) $ 133,591 $ 2,575 $ 2,224 $ 115,047 ============ ============ ========== ========== ===========
Long-lived assets by country of domicile consist of: JANUARY 31, 1998 1999 ---- ---- (IN THOUSANDS) United States $ 47,681 $ 47,996 Israel 28,576 41,826 Other 1,444 2,210 ---------- --------- $ 77,701 $ 92,032 ========== ========= 20. COMMITMENTS AND CONTINGENCIES LEASES - The Company leases office, manufacturing, and warehouse space under non-cancelable operating leases. Rent expense for all leased premises approximated $7,839,000, $11,705,000 and $15,081,000 in the years ended December 31, 1996, 1997 and January 31, 1999, respectively. F-21 As of January 31, 1999, the minimum annual rent obligations of the Company were approximately as follows: TWELVE MONTHS ENDED JANUARY 31, AMOUNT (IN THOUSANDS) 2000 $ 18,086 2001 18,595 2002 17,207 2003 12,714 2004 and thereafter 40,947 ----------- $ 107,549 =========== EMPLOYMENT AGREEMENTS - The Company is obligated under employment contracts with its chief executive officer to provide salary, bonuses, and fringe benefits through June 30, 2000. Minimum salary payments under the contracts currently amount to $350,000 per year and aggregate $496,000 through June 30, 2000. The executive is entitled to annual bonuses equal to at least 3% of the Company's consolidated after-tax net income during each year. Upon termination or expiration of the term of employment, the executive is entitled to receive a severance payment equal to $102,487 for each year of his previous and current employment with the Company, which is increased by the rate of 10% per annum compounded for each year of employment, plus continued employment-related benefits for the period of 36 months thereafter. If the termination of employment results from a unilateral termination or fundamental breach of the agreement by the Company, or the resignation of the executive within six months following a change in control of the Company not approved by the executive in his capacity as a director of Comverse, the executive is entitled to an additional payment equal to 299% of the average annual cash compensation, including salary and any bonus payments, received by the executive from the Company during the three immediately preceding fiscal years, plus an amount equal to the income tax resulting from such payment. The agreements also provide for the executive to receive options entitling him to purchase 7-1/2% of the equity of Comverse's subsidiaries, other than Comverse Network Systems, Inc., at prices equal to the higher of book value of the underlying shares at the date of option grant or the fair market value of such shares at that date determined on the basis of an arms'-length transaction with a third party or, if no such transactions have occurred, on a reasonable basis as determined by the Board of Directors. Most other employment agreements of the Company are terminable with or without cause with prior notice of 60 days or less. In certain instances, the termination of employment agreements without cause entitles the employees to certain benefits, including acceleration of the vesting of stock options and severance payments of as much as one year's compensation. LICENSES AND ROYALTIES - The Company licenses certain technology, "know-how," software and related rights for use in the manufacture and marketing of its products, and pays royalties to third parties under such licenses and under other agreements entered into in connection with research and product development activities. The Company currently pays royalties on the sale of most of its product lines in varying amounts based upon the revenues attributed to the various components of such products. Royalties typically range up to 6% of net sales of the related products and, in the case of royalties due to government funding sources F-22 in respect of research and development projects, are required to be paid until the funding organization has received total royalties ranging from 100% to 150% of the amounts received by the Company under the approved project budgets. DIVIDEND RESTRICTIONS - The ability of Comverse's Israeli subsidiaries to pay dividends is governed by Israeli law, which provides that cash dividends may be paid by an Israeli corporation only out of retained earnings as determined for statutory purposes in Israeli currency. In the event of a devaluation of the Israeli currency against the dollar, the amount in dollars available for payment of cash dividends out of prior years' earnings will decrease accordingly. Cash dividends paid by an Israeli corporation to United States residents are subject to withholding of Israeli income tax at source at a rate of up to 25%, depending on the particular facilities which have generated the earnings that are the source of the dividends. INVESTMENTS - In 1997, wholly-owned subsidiaries of Comverse and Quantum Industrial Holdings Ltd. organized two new companies to make investments primarily relating to Israel, including investments in high technology ventures. Each participant committed a total of $25,000,000 to the capital of the new companies, for use as suitable investment opportunities are identified. Quantum Industrial Holdings Ltd. is the principal direct investment vehicle of the Quantum Group, a group of investment funds managed by Soros Fund Management LLC. GUARANTIES - The Company has obtained bank guaranties primarily for performance of certain obligations under contracts with customers. These guaranties, which aggregated approximately $20,919,000 at January 31, 1999, are to be released by the Company's performance of specified contract milestones, which are scheduled to be completed primarily during 1999. LITIGATION - On November 5, 1998, Comverse's subsidiary, Comverse Network Systems, Inc. ("CNS"), filed a complaint against Priority Call Management, Inc. ("PCM") alleging that PCM is infringing and has infringed certain patents owned by CNS. CNS is seeking a declaratory judgment, injunctive relief, compensatory and treble damages and attorneys fees. PCM answered the complaint, asserting numerous affirmative defenses, and is seeking a declaratory judgment that it has not infringed the CNS patents and that the patents are invalid. On March 16, 1999, PCM filed an amended answer and counterclaim asserting violations of the Sherman Antitrust Act, tortious interference and patent misuse. In its counterclaim PCM seeks declaratory judgments, compensatory and treble damages in unspecified amounts and attorneys fees. Currently, the parties are engaged in discovery. The Company is subject to certain other legal actions arising in the normal course of business. After taking into consideration legal counsel's evaluation of such actions, management is of the opinion that their final resolution will not have any significant adverse effect upon the Company's financial position or results of operations. 21. FAIR VALUE OF FINANCIAL INSTRUMENTS The estimated fair value amounts have been determined by the Company, using available market information and appropriate valuation methodologies. However, considerable judgment is necessarily required in interpreting market data to develop the estimates of fair value. Accordingly, the estimates presented herein are not necessarily indicative of the amounts that the Company could realize in a current market exchange. The use of different market assumptions and/or estimation methodologies may have a material effect on the estimated fair value amounts. F-23
JANUARY 31, ---------------------------------------------------------------- 1998 1999 ---- ---- CARRYING ESTIMATED CARRYING ESTIMATED AMOUNT FAIR VALUE AMOUNT FAIR VALUE ------ ---------- ------ ---------- (IN THOUSANDS) Liabilities: Convertible subordinated debentures $ 115,000 $ 116,438 $ 415,000 $ 646,475 Off-balance sheet financial instruments: Foreign exchange forward contracts and options used for hedging purposes $ - $ (126) $ - $ (909)
CASH AND CASH EQUIVALENTS, BANK TIME DEPOSITS, SHORT-TERM INVESTMENTS, ACCOUNTS RECEIVABLE, INVESTMENTS, AND ACCOUNTS PAYABLE - The carrying amounts of these items are a reasonable estimate of their fair value. CONVERTIBLE SUBORDINATED DEBENTURES AND FOREIGN EXCHANGE FORWARD CONTRACTS - The fair value of these securities is estimated based on quoted market prices or recent sales for those or similar securities. The fair value estimates presented herein are based on pertinent information available to management as of January 31, 1999. Although management is not aware of any factors that would significantly affect the estimated fair value amounts, such amounts have not been comprehensively revalued for purposes of these financial statements since that date, and current estimates of fair value may differ significantly from the amounts presented herein. 22. EFFECT OF NEW ACCOUNTING PRONOUNCEMENT During 1998, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 133, "Accounting for Derivative Instruments and Hedging Activities" ("SFAS 133"). SFAS 133 requires that all derivative financial instruments be recognized as either assets or liabilities in the balance sheet. Measurement is at fair value, and if the derivative is not designed as a hedging instrument, changes in fair value (i.e., gains and losses) are to be recognized in earnings in the period of change. If certain conditions are met, a derivative may be designed as a hedge, in which case the accounting for changes in fair value will depend on the specific exposure being hedged. The method that will be used for assessing the effectiveness of a hedging derivative, as well as the measurement approach for determining the ineffective aspects of the hedge, must be established at the inception of the hedge. The methods must be consistent with the Company's approach to managing risk. SFAS 133 will be effective for fiscal years beginning after June 15, 1999. The Company is currently evaluating the impact that the adoption of SFAS 133 will have on its financial statements. F-24 23. QUARTERLY INFORMATION (UNAUDITED) The following table shows selected results of operations for each of the quarters during the years ended December 31, 1997 and January 31, 1999:
FISCAL QUARTER ENDED MARCH 31, JUNE 30, SEPT. 30, DEC. 31, APRIL 30, JULY 31, OCT.31, JAN. 31, 1997 1997 1997 1997 1998 1998 1998 1999 ---- ---- ---- ---- ---- ---- ---- ---- (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) Sales $ 126,848 $ 133,012 $ 140,327 $ 88,753 $ 160,481 $ 167,404 $ 178,107 $ 190,102 Gross profit $ 74,221 $ 80,101 $ 85,081 $ 46,897 $ 94,616 $ 99,688 $ 107,158 $ 114,942 Net income (loss) $ 15,494 $ 17,050 $ 18,246 $ (16,265) $ 23,970 $ 26,067 $ 29,121 $ 32,369 Diluted earnings per share $ 0.23 $ 0.25 $ 0.26 $ (0.23) $ 0.34 $ 0.37 $ 0.41 $ 0.44 ========= ========= ========== ========= ======== ========== ========= =========
The difference between income per share and the sum of the income per share for the quarters comprising the year is due to differences in the calculation of the weighted average number of shares outstanding over the respective periods and rounding adjustments. F-25 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. COMVERSE TECHNOLOGY, INC. (Registrant) By: /s/ Kobi Alexander -------------------------------- Date: April 22, 1999 Kobi Alexander, President Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed by the following persons on behalf of the Registrant and in the capacities and on the dates indicated. /s/ Kobi Alexander April 22, 1999 - -------------------------------------------- Kobi Alexander, President, Chairman of the Board and Chief Executive Officer; Director /s/ Igal Nissim April 22, 1999 - -------------------------------------------- Igal Nissim, Chief Financial Officer /s/ Zvi Alexander April 22, 1999 - -------------------------------------------- Zvi Alexander, Director /s/ Itsik Danziger April 22, 1999 - -------------------------------------------- Itsik Danziger, Director /s/ John H. Friedman April 22, 1999 - -------------------------------------------- John H. Friedman, Director /s/ Francis E. Girard April 22, 1999 - -------------------------------------------- Francis E. Girard, Director /s/ Sam Oolie April 22, 1999 - -------------------------------------------- Sam Oolie, Director /s/ William F. Sorin April 22, 1999 - -------------------------------------------- William F. Sorin, Director /s/ Carmel Vernia April 22, 1999 - -------------------------------------------- Carmel Vernia, Director /s/ Shaula A. Yemini April 22, 1999 - -------------------------------------------- Dr. Shaula A. Yemini, Director F-26 EXHIBIT INDEX NO. DESCRIPTION - --- ----------- 2.1* Agreement and Plan of Merger dated as of August 20, 1997, between Registrant and Boston Technology, Inc. (Incorporated by reference to the Definitive Proxy Materials for the Registrant's Annual Meeting of Stockholders held January 13, 1998.) 3 Articles of Incorporation and By-Laws: 3.1* Certificate of Incorporation. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1987.) 3.2* Certificate of Amendment of Certificate of Incorporation effective February 26, 1993. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1992.) 3.3* Certificate of Amendment of Certificate of Incorporation effective January 12, 1995. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1994.) 3.4* By-Laws, as amended. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1987.) 4 Instruments defining the rights of security holders including indentures: 4.1* Excerpts from Certificate of Incorporation. (Incorporated by reference to the Registrant's Registration Statement on Form S-1 under the Securities Exchange Act of 1933, Registration No. 33-9147.) 4.2* Excerpt from Certificate of Amendment of Certificate of Incorporation effective February 26, 1993. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1992.) 4.3* Excerpt from Certificate of Amendment of Certificate of Incorporation effective January 12, 1995. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1994.) 4.4* Excerpts from By-Laws, as amended. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1992.) 4.5* Specimen stock certificate. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1992.) 4.6* Indenture dated as of October 4, 1996 from Comverse Technology, Inc. to The Chase Manhattan Bank, N.A., Trustee. (Incorporated by reference to the Registrant's Current Report on Form 8-K under the Securities Exchange Act of 1934 filed October 10, 1996.) 4.7* Specimen 5 3/4% Convertible Subordinated Debenture due 2006. (Incorporated by reference to the Registrant's Current Report on Form 8-K under the Securities Exchange Act of 1934 filed October 10, 1996.) 4.8* Indenture dated as of June 30, 1998 from Comverse Technology, Inc. to The Chase Manhattan Bank, Trustee. (Incorporated by reference to the Registrant's Current Report on Form 8-K under the Securities Exchange Act of 1934 filed July 2, 1998.) 4.9* Specimen 4 1/2% Convertible Subordinated Debenture due 2005. (Incorporated by reference to the Registrant's Current Report on Form 8-K under the Securities Exchange Act of 1934 filed July 2, 1998.) 10 Material contracts: 10.1* Proxy Agreement dated as of September 5, 1991 by and among Comverse Government Systems Corporation, James R. Allen, Robert W. Bazley, Robert T. Marsh and Comverse Technology, Inc. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1991.) 10.2* Visitation Approval Procedure Agreement dated as of September 5, 1991 by and among Comverse Government Systems Corporation, James R. Allen, Robert W. Bazley, Robert T. Marsh and Comverse Technology, Inc. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1991.) 10.3* Form of Stock Option Agreement pertaining to shares of certain subsidiaries of Comverse Technology, Inc. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1993.) 10.4* Employment Agreement effective as of July 1, 1994 by and between Comverse Technology, Inc. and Kobi Alexander. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1994.) 10.5* 1994 Stock Option Plan. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1994.) 10.6* 1995 Stock Option Plan. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1995.) 10.7* 1996 Stock Option Plan. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1996.) 10.8* Form of Incentive Stock Option Agreement. (Incorporated by reference to the Registrant's Registration Statement on Form S-1 under the Securities Act of 1933, Registration No. 33-9147.) 10.9* Deed of Guarantee from Comverse Technology, Inc. to Bank Hapoalim B.M. dated July 30, 1986. (Incorporated by reference to the Registrant's Registration Statement on Form S-1 under the Securities Act of 1933, Registration No. 33-9147.) 10.10* Continuing Guarantee from Comverse Technology, Inc. to Bank Leumi le-Israel B.M. (Incorporated by reference to the Registrant's Registration Statement on Form S-1 under the Securities Act of 1933, Registration No. 33-9147.) 10.11* Patent License Agreement by and between Efrat Future Technology Ltd. and VMX, Inc. (Incorporated by reference to the Registrant's Registration Statement on Form S-1 under the Securities Act of 1933, Registration No. 33-9147.) 10.12* Form of Indemnity Agreement between Comverse Technology, Inc. and its Officers and Directors. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1987.) 10.13* 1987 Stock Option Plan, as amended. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1987.) 10.14* Form of Stock Option Agreement for options other than Incentive Stock Options. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1987.) 10.15* 1997 Employee Stock Purchase Plan. (Incorporated by reference to the Definitive Proxy Materials for the Registrant's Annual Meeting of Stockholders held January 13, 1998.) 10.16* 1997 Stock Incentive Compensation Plan. (Incorporated by reference to the Definitive Proxy Materials for the Registrant's Annual Meeting of Stockholders held January 13, 1998.) 10.17* Memorandum of Agreement dated November 22, 1995 between Boston Technology, Inc. and AT&T. (Incorporated by reference to the Annual Report of Boston Technology, Inc. on Form 10-K under the Securities Exchange Act of 1934 for the year ended January 31, 1996, confidential treatment requested as to certain portions.) 10.18* Lease dated November 5, 1990 between Boston Technology, Inc. and Wakefield Park Limited Partnership. (Incorporated by reference to the Annual Report of Boston Technology, Inc. on Form 10-K under the Securities Exchange Act of 1934 for the year ended January 31, 1991.) 10.19* First Amendment dated as of March 31, 1993 to Lease dated November 5, 1990 between Boston Technology, Inc. and Wakefield Park Limited Partnership. (Incorporated by reference to the Quarterly Report of Boston Technology, Inc. on Form 10-Q under the Securities Exchange Act of 1934 for the quarter ended October 31, 1993.) 10.20* Second Amendment dated as of August 31, 1994 to Lease dated November 5, 1990 between Boston Technology, Inc. and Wakefield Park Limited Partnership. (Incorporated by reference to the Annual Report of Boston Technology, Inc. on Form 10-K under the Securities Exchange Act of 1934 for the year ended January 31, 1995.) 10.21* License Agreement dated November 15, 1988 between Boston Technology, Inc. and VMX, Inc. (Incorporated by reference to the Registration Statement of Boston Technology, Inc. on Form S-1 under the Securities Act of 1933, Registration No. 33-32134.) 10.22* License Agreement dated January 22, 1990 between Boston Technology, Inc. and Dytel Corporation. (Incorporated by reference to the Annual Report of Boston Technology, Inc. on Form 10-K under the Securities Exchange Act of 1934 for the year ended January 31, 1990.) 10.23* Settlement Agreement dated December 28, 1993 between the Boston Technology, Inc. and Theis Research, Inc. and Peter F. Theis. (Incorporated by reference to the Annual Report of Boston Technology, Inc. on Form 10-K under the Securities Exchange Act of 1934 for the year ended January 31, 1994.) 10.24* Boston Technology, Inc. 1995 Director Stock Option Plan. (Incorporated by reference to the Quarterly Report of Boston Technology, Inc. on Form 10-Q under the Securities Exchange Act of 1934 for the quarter ended July 31, 1995.) 10.25* Boston Technology, Inc. 1992 Directors' Stock Option Plan, as amended. (Incorporated by reference to the Annual Report of Boston Technology, Inc. on Form 10-K under the Securities Exchange Act of 1934 for the year ended January 31, 1994.) 10.26* Boston Technology, Inc. 1994 Stock Incentive Plan. (Incorporated by reference to the Annual Report of Boston Technology, Inc. on Form 10-K under the Securities Exchange Act of 1934 for the year ended January 31, 1994.) 10.27* Boston Technology, Inc. 1989 Incentive Stock Option Plan, as amended. (Incorporated by reference to the Definitive Proxy Materials for Boston Technology, Inc.'s Annual Meeting of Stockholders held July 14, 1992.) 10.28* Boston Technology, Inc. Employee Savings and Profit Sharing Plan. (Incorporated by reference to Registration Statement of Boston Technology, Inc. on Form S-1 under the Securities Act of 1933, Registration No. 33-32134.) 10.29* Boston Technology, Inc. Employee Severance Benefit Plan. (Incorporated by reference to the Current Report of Boston Technology, Inc. on Form 8-K under the Securities Exchange Act of 1934 dated May 9, 1991.) 10.30* Boston Technology, Inc. 1996 Stock Incentive Plan. (Incorporated by reference to the Definitive Proxy Materials for Boston Technology, Inc.'s Annual Meeting of Stockholders held June 25, 1996.) 10.31* Lease dated June 7, 1996 between Boston Technology, Inc. and WBAM Limited Partnership. (Incorporated by reference to the Annual Report of Boston Technology, Inc. on Form 10-K under the Securities Exchange Act of 1934 for the year ended January 31, 1997.) 21 Subsidiaries of Registrant. 27 Financial Data Schedule - ----------------- * Incorporated by reference. EX-21 2 EXHIBIT 21 SUBSIDIARIES OF COMVERSE TECHNOLOGY, INC. JURISIDICTION OF SUBSIDIARY INCORPORATION Amarex Technology, Inc. Delaware Boston Technology Australia/New Zealand, Inc. Delaware Boston Technology Europe, Inc. Delaware Boston Technology Foreign Sales Corp. Barbados Boston Technology India, Inc. Delaware Boston Technology International Inc., S.A. de C.V. Mexico Boston Technology International, Inc. Delaware Boston Technology Investments, Inc. Delaware Boston Technology Japan, Inc. Delaware Boston Technology Mexico, Inc. Delaware Boston Technology Pac Rim, Inc. Delaware Boston Technology Securities, Inc. Delaware Boston Technology Servicios Mexico S.C. Mexico Comverse Australasia Pty. Ltd. Australia Comverse do Brasil Ltda. Brazil Comverse Infosys, Inc. Delaware Comverse Infosys Ltd. Israel Comverse Infosys Technology, Inc. Delaware Comverse Infosys UK Ltd. U.K. Comverse Investments Limited Israel Comverse Managed Services, Inc. Delaware Comverse Network Systems Hong Kong Ltd. Hong Kong Comverse Network Systems, Inc. Delaware Comverse Network Systems Japan Ltd. Japan Comverse Network Systems Ltd. Israel Comverse Network Systems OY Finland Comverse Network Systems UK Ltd. U.K. Comverse Technology GmbH Germany Comverse Technology Italy Srl. Italy Comverse Technology Singapore Pte Ltd. Singapore CTI Capital Corporation Delaware DGM&S Telecom, Inc. New Jersey MITIC Syndication Pty Ltd. South Africa Netology Ltd.Israel Startel Corporation California Telmessage International BVI Ltd. British Virgin Islands Telemessage Pty Ltd. South Africa Telemesser International (1995) Ltd. Israel Telemesser Netherlands Ltd. Netherlands Telemesser U.K. Ltd. U.K. Telemesser Limited Israel Voice Mail One Delaware EX-27 3
5 THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE COMPANY'S FORM 10-K FOR THE YEAR ENDED 1/31/99 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS. 1,000 YEAR JAN-31-1999 JAN-31-1999 583,959 73,658 192,317 25,218 46,689 932,637 129,360 67,915 1,031,393 225,356 415,000 6,874 0 0 374,788 1,031,393 696,094 696,094 279,690 279,690 301,357 0 15,154 123,310 11,783 111,527 0 0 0 111,527 1.68 1.55
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