-----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, IRKDvd1IdzbQW0cqGiJ1quUJqVXUv/ZNYVngEpVOE4xgi/KzWuJcGEq5ixFJxDmi vMW1FHO7xIfIJiPn0uOsGQ== 0000950149-98-001904.txt : 19981123 0000950149-98-001904.hdr.sgml : 19981123 ACCESSION NUMBER: 0000950149-98-001904 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 19980930 FILED AS OF DATE: 19981116 DATE AS OF CHANGE: 19981120 FILER: COMPANY DATA: COMPANY CONFORMED NAME: INTERNATIONAL MICROCOMPUTER SOFTWARE INC /CA/ CENTRAL INDEX KEY: 0000814929 STANDARD INDUSTRIAL CLASSIFICATION: 7372 IRS NUMBER: 942862863 STATE OF INCORPORATION: CA FISCAL YEAR END: 0630 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 000-15949 FILM NUMBER: 98753279 BUSINESS ADDRESS: STREET 1: 1895 E FRANCISCO BLVD CITY: SAN RAFAEL STATE: CA ZIP: 94901 BUSINESS PHONE: 4154543000 MAIL ADDRESS: STREET 1: 1895 EAST FRANCISCO BLVD CITY: SAN RAFAEL STATE: CA ZIP: 94901 10-Q 1 FORM 10-Q DATED SEPTEMBER 30, 1998 1 UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington D.C. 20549 FORM 10-Q [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarter ended SEPTEMBER 30, 1998 ------------------ [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from ________________ to ________________ Commission File Number 0-15949 INTERNATIONAL MICROCOMPUTER SOFTWARE, INC. (Exact name of registrant as specified in its charter) CALIFORNIA 94-2862863 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) identification No.) 75 ROWLAND WAY, NOVATO, CA 94949 (Address of principal executive offices) (Zip code) (415) 257-3000 (Registrant's telephone number including area code) Indicate by check mark whether 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, and (2) has been subject to such filing requirements for the past 90 days. YES [X] NO [ ] As of November 10, 1998, 5,676,229 shares of Registrant's common stock, no par value, were outstanding. 2 INTERNATIONAL MICROCOMPUTER SOFTWARE, INC. AND SUBSIDIARIES INDEX
Page ---- PART I - FINANCIAL INFORMATION Item 1. Interim Consolidated Financial Statements Consolidated Balance Sheets at September 30, 1998 and June 30, 1998 3 Consolidated Statements of Operations for the three months ended September 30, 1998 and 1997 4 Consolidated Statements of Cash Flows for the three months ended September 30, 1998 and 1997 5 Notes to Consolidated Financial Statements 6-10 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 11-18 Item 3. Quantitative and Qualitative Disclosures About Market Risk 18 PART II - OTHER INFORMATION Item 1. Legal Proceedings 19 Item 2. Changes in Securities and Use of Proceeds 19 Item 3. Defaults upon Senior Securities 19 Item 4. Submission of Matters to a Vote of Security Holder 19 Item 5. Other Information 19 Item 6. Exhibits and Reports on Form 8-K 19 SIGNATURES 20
2 3 INTERNATIONAL MICROCOMPUTER SOFTWARE, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (IN THOUSANDS, EXCEPT FOR PER SHARE AMOUNTS) (Unaudited)
SEPTEMBER 30, 1998 JUNE 30, 1998 ------------------ ------------- ASSETS Current assets: Cash and cash equivalents $ 3,878 $ 2,093 Receivables, less allowances for doubtful accounts and returns of $4,298 and $4,231 13,441 13,149 Inventories, net 6,188 6,549 Prepaid royalties and licenses, net 2,886 2,517 Deferred tax assets, net 2,666 1,762 Other current assets 779 759 -------- -------- Total current assets 29,838 26,829 Furniture and equipment, net 3,430 3,430 Deferred tax assets, net 2,218 2,676 Capitalized software development costs, net 1,742 2,101 Other assets, net 62 314 -------- -------- Total assets $ 37,290 $ 35,350 ======== ======== LIABILITIES AND SHAREHOLDERS' EQUITY Current liabilities: Credit line payable 9,623 7,948 Short-term debt and other obligations 904 842 Trade accounts payable 9,140 6,915 Current portion of notes payable 1,359 1,434 Wages, benefits and sales tax payable 890 932 Contracts payable 1,470 1,621 Deferred revenue 126 Income taxes payable 5 313 -------- -------- Total current liabilities 23,517 20,005 Long-term debt and other obligations 1,443 1,682 -------- -------- Total liabilities 24,960 21,687 Shareholders' equity: Common stock, no par value; 300,000,000 authorized; issued and outstanding 5,668,729 and 5,684,170 shares, respectively 12,445 12,718 Retained earnings 41 1,255 Cumulative translation adjustment 129 (25) Notes receivable from shareholders (285) (285) -------- -------- Total shareholders' equity 12,330 13,663 -------- -------- Total liabilities and shareholders' equity $ 37,290 $ 35,350 ======== ========
See Notes to Consolidated Financial Statements 3 4 INTERNATIONAL MICROCOMPUTER SOFTWARE, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS (IN THOUSANDS EXCEPT FOR SHARE AND PER SHARE AMOUNTS) (UNAUDITED)
THREE MONTHS ENDED SEPTEMBER 30, ------------------------------------------------------------------- 1998 1997 ----------------------------- ------------------------------ Net revenues $ 13,360 100.0% 12,511 $ 100.0% Product costs 5,370 40.2% 4,531 36.2% ----------- ----------- ----------- ------------ Gross margin 7,990 59.8% 7,980 63.8% Costs and expenses: Sales and marketing 5,684 42.5% 3,655 29.2% General and administrative 1,744 13.1% 991 7.9% Research and development 2,281 17.1% 1,635 13.1% Write-off of purchased research and development 6,367 50.9% ----------- ----------- ----------- ------------ Total operating expenses 9,709 72.7% 12,648 101.1% ----------- ----------- ----------- ------------ Operating loss (1,719) (12.9)% (4,668) (37.3)% Other expense, net (177) (1.3)% (198) (1.6)% ----------- ----------- ----------- ------------ Loss before income taxes (1,896) (14.2)% (4,866) (38.9)% Benefit for income taxes (683) (5.1)% (1,752) (14.0)% ----------- ----------- ----------- ------------ Net loss $ (1,214) (9.1)% (3,114) $ (24.9)% =========== =========== =========== ============ Net loss per share - Basic and diluted $ (0.21) $ (0.60) =========== =========== Weighted average common and equivalent shares used to compute net loss per share - Basic and diluted 5,666,790 5,169,289 =========== ===========
See Notes to Consolidated Financial Statements 4 5 INTERNATIONAL MICROCOMPUTER SOFTWARE, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS THREE MONTHS ENDED SEPTEMBER 30, 1998 AND 1997 (IN THOUSANDS) (Unaudited)
1998 1997 ------- ------- Cash flows from operating activities: Net loss $(1,214) $(3,114) Adjustments to reconcile net loss to net cash provided (used) by operating activities Depreciation and amortization 1,094 802 Deferred taxes 2 (2,290) Write-off of purchased in-process research and development 6,367 Write-off of deferred offering costs 215 Changes in: Receivables, net (612) (1,681) Inventories, net 361 (292) Prepaid royalties and licenses, net (658) (490) Other current assets (17) (69) Trade accounts payable 2,225 294 Wages, benefits and sales tax payable (151) 7 Contracts payable (42) 8 Deferred revenue 126 Income taxes payable (756) (355) Foreign currency translation 153 145 ------- ------- Net cash provided (used) by operating activities 726 (668) ------- ------- Cash flows from investing activities: Purchase of equipment (269) (484) Additions to capitalized software development costs (139) Cash paid for acquisition of software development costs and in-process technologies (1,233) Other (16) ------- ------- Net cash used by investing activities (408) (1,733) ------- ------- Cash flows from financing activities: Credit line borrowings 2,025 2,605 Credit line repayments (350) (515) Repayments under term loan, net (188) (306) Capital lease and other obligations repayments (67) (119) Proceeds from issuance of common stock 47 112 ------- ------- Net cash provided by financing activities 1,467 1,777 ------- ------- Net increase in cash and cash equivalents 1,785 (624) Cash and cash equivalents at beginning of period 2,093 1,126 ------- ------- Cash and cash equivalents at end of the period $ 3,878 $ 502 ======= ======= SUPPLEMENTAL DISCLOSURES OF NON-CASH FINANCING AND INVESTING ACTIVITIES Equipment acquired through capital lease obligations $ 239 $ 305 Acquisition of products and in-process technologies in exchange for: Trade payables $ 383 Notes payable $ 1,034 Common stock $ 5,240 IMSI common stock received in satisfaction of receivable $ 320
See Notes to Consolidated Financial Statements 5 6 INTERNATIONAL MICROCOMPUTER SOFTWARE, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. BASIS OF PRESENTATION The accompanying interim consolidated financial statements have been prepared from the records of International Microcomputer Software, Inc. and Subsidiaries (the "Company") without audit. In the opinion of management, all adjustments, which consist only of normal recurring adjustments (other than those described below), necessary to present fairly the financial position, results of operations and cash flows as of and for the periods ended September 30, 1998, and for all periods presented, have been made. The interim consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto contained in the Company's Annual Report on Form 10-K for the fiscal year ended June 30, 1998. The results of operations for the three months ended September 30, 1998 and 1997 are not necessarily indicative of the results to be expected for the full year. See "Management's Discussion and Analysis of Financial Condition and Results of Operations." Certain reclassifications have been made to prior periods to conform to the presentation as of and for the periods ended September 30, 1998. 2. INVENTORIES Inventories consist primarily of CD ROMs, diskettes, manuals, hardware, freight-in, production costs and packing supplies for the Company's software products. Inventories are valued at the lower of cost or market, on a first-in, first-out basis, and consist of:
September 30, June 30, 1998 1998 ------------- -------- Raw materials $ 2,860 $ 2,882 Finished goods 4,008 4,282 ------- ------- 6,868 7,164 Reserves for obsolescence (680) (615) ------- ------- $ 6,188 $ 6,549 ======= =======
The Company evaluates the estimated net realizable value of inventories at each balance sheet date and records write downs to net realizable value and reserves for obsolescence for any finished goods or raw materials for which the carrying value is in excess of the estimated net realizable value. 3. CAPITALIZED SOFTWARE DEVELOPMENT COSTS Costs incurred in the initial design phase of software development are expensed as incurred as research and development. Once the point of technological feasibility is reached, direct production costs are capitalized. The Company ceases capitalizing computer software costs when the product is available for general release to customers. Costs associated with acquired completed software are capitalized. Total capitalized software development costs were $5,400,000 and $5,261,000 at September 30, 1998 and June 30, 1998, respectively, less accumulated amortization of $3,658,000 and $3,160,000, respectively. 6 7 The Company amortizes capitalized software development costs on a product-by-product basis. The amortization for each product is the greater of the amount computed using (a) the ratio of current gross revenues to the total of current and anticipated future gross revenues for the product or (b) 18 or 60 months. In addition, the Company evaluates the net realizable value of each software product at each balance sheet date and records write-downs to net realizable value for any products for which the carrying value is in excess of the estimated net realizable value. During the quarter ended September 30, 1998, the Company reevaluated the economic lives of products for which it capitalized software acquisition or development costs. As a result, effective July 1, 1998, the Company increased the amortization period from 36 to 60 months for acquired software development costs related to visual content products. The effect of this change in accounting estimate was $99,000 in the first quarter of fiscal 1999. Effective April 1, 1998, the Company had increased the amortization period from 18 to 36 months. Total visual content amortization expense, charged to product costs, was $158,000 and $222,000 in the three month periods ended September 30, 1998 and September 30, 1997 respectively. 4. AMENDED BANK LINE OF CREDIT On May 4, 1998, as amended September 24, 1998, the Company entered into a new line of credit agreement with a bank under which it can borrow the lesser of $13,500,000 or 80% of eligible accounts receivable, at the bank's reference rate plus 1/2% or LIBOR plus 2%, at the Company's option. The line of credit agreement requires the Company to comply with certain financial covenants including maintenance of net worth and working capital requirements. Under the terms of the agreement, all assets not subject to liens of other financial institutions have been pledged as collateral against the line of credit. The credit line expires October 31, 1999. 5. BASIC AND DILUTED EARNINGS PER SHARE Basic EPS is computed by dividing net income (loss) by the weighted average number of common shares outstanding for the period. Diluted EPS reflects the potential dilution that could occur from common shares issuable as a result of the exercise or conversion of stock options, restricted stock warrants or other convertible securities. Net loss and the weighted average numbers of shares outstanding (denominator) used to calculate basic earnings per share are reconciled to the numbers of shares used in calculating diluted earnings per share as follows:
Three Months Ended September 30, ------------------------------------ 1998 1997 ----------- ----------- Net Loss $(1,214,000) $(3,114,000) ----------- ----------- Shares used to compute basic EPS 5,667,000 5,169,000 Add effect of dilutive securities: Stock options 589,000 917,000 ----------- ----------- Shares used to compute diluted EPS 6,256,000(1) 6,086,000(1) =========== ===========
(1) Not presented as results were anti-dilutive 7 8 6. WRITE-OFF OF PURCHASED IN-PROCESS RESEARCH AND DEVELOPMENT There were no acquisitions affecting in-process research and development for the quarter ended September 30, 1998. During the quarter ended September 30, 1997, the Company completed the following four acquisitions of products, in-process technologies or companies. Each was accounted for using purchase accounting. The aggregate purchase prices for the acquisitions were comprised as follows: COMPONENTS OF PURCHASE PRICES FOR ACQUISITIONS
NUMBER OF SHARES OF VALUE OF ASSUMPTION AGGREGATE COMMON COMMON NOTES OF NET PURCHASE SELLER STOCK STOCK PAYABLE CASH LIABILITIES PRICE ------ ---------- ---------- ---------- ---------- ----------- ----------- Quarterdeck....... -- $ -- $ -- $1,000,000 $ -- $1,000,000 MapLinx........... -- -- 233,500 233,500 383,000 850,000 Mediapaq.......... 20,000 240,000 -- -- 160,000 400,000 Corel............. 346,020 5,000,000 640,000 -- -- 5,640,000 ---------- ---------- ---------- ---------- ---------- ---------- 366,020 $5,240,000 $ 873,500 $1,233,500 $ 543,000 $7,890,000 ========== ========== ========== ========== ========== ==========
The Company allocated the purchase prices for the acquisitions as follows: ALLOCATION OF AGGREGATE PURCHASE PRICES OF ACQUISITIONS
PURCHASED IN-PROCESS RESEARCH AND SELLER DEVELOPMENT CAPITALIZED SOFTWARE GOODWILL ------ -------------------- -------------------- -------- Quarterdeck........... $ 517,000 $ 483,000 -- MapLinx............... 506,000 331,000 $13,000 Mediapaq.............. 300,000 100,000 -- Corel................. 5,044,000 517,000 79,000 ---------- ---------- ------- $6,367,000 $1,431,000 $92,000 ========== ========== =======
See notes 2, 4, 5 and 6 to the consolidated financial statements included in the Company's Annual Report on Form 10-K for the Fiscal Year Ended June 30, 1998 for a further description of these acquisitions and the write-off of purchased in-process research and development. 7. NOVEMBER 1998 SUBORDINATED LOAN FACILITY WITH WARRANTS On November 3, 1998, the Company borrowed $2,500,000 under a new three-year subordinated loan facility entered into with Silicon Valley Bank. The interest rate is 12%. As part of the loan facility, the Company issued detachable warrants, which have a five-year term, to purchase shares of the Company's common stock. At closing, the Company issued 30,000 warrants to purchase common stock at $7.00 per share. The warrants issued will increase, as amounts advanced under this facility remain outstanding as follows: Additional warrants If not paid in full prior to: to be issued Exercise price per share ----------------------------- --------------------- ------------------------ October 31, 1999 5,000 $7.00 January 31, 2000 25,000 7.00 April 30, 2001 65,000 6.00 October 31, 2001 125,000 5.00
8 9 The Company will record additional interest expense over the life of the loan facility related to the warrants. 8. OCTOBER 1998 ACQUISITION OF ORG PLUS On September 29, 1998, The Learning Company ("TLC") paid the Company approximately $1,690,000, representing amounts due to the Company, after discount, from the Family Heritage sale ($1,260,000 - see note 3 to the consolidated financial statements included in the Company's Annual Report on Form 10-K for the Fiscal Year Ended June 30, 1998) and other existing contractual agreements ($430,000). The Company had not recorded revenues or receivables for such amounts due from TLC. The $1,690,000 cash receipt from TLC did not result in revenue recognition by the Company for the quarter ended September 30, 1998. Accordingly, such amount was included in cash and cash equivalents and as a current liability at September 30, 1998. On October 2, 1998, TLC and the Company entered into a software license agreement whereby TLC sold Org Plus to the Company in exchange for $3,500,000 as follows: $1,700,000 paid by the Company on October 2, 1998, and $450,000 due on each of January 1, 1999, April 1, 1999, July 1, 1999 and October 1, 1999. In the quarter ending December 31, 1998, the Company will record the value of the Org Plus acquisition. The Company has not yet completed its allocation of the purchase price; however, it expects that the purchase price will be allocated to acquired software development costs, brand and goodwill, to be amortized over periods not to exceed five years. 9. OCTOBER 1998 ACQUISITION OF ZEDCOR, INC. In October 1998, the Company acquired 100% of the common stock of Zedcor, Inc., a major internet provider of art and animations, for a total purchase price of $3,500,000 as follows: $970,500 in IMSI stock (176,455 shares at $5.50 per share) and $2,529,500 in cash payments, payable as follows: $300,000 due November 1, 1998, and approximately $185,800 due in twelve quarterly payments, commencing on November 1, 1998. The Company has not yet completed its allocation of the purchase price, however it expects that the $3,500,000 purchase price will be allocated to software development costs related to visual content products and goodwill, to be amortized over periods not to exceed five years. 10. QUARTER ENDED SEPTEMBER 30, 1998 CHARGES In the quarter ended September 30, 1998 the Company increased reserves for cooperative advertising commitments by approximately $500,000, incurred approximately $350,000 of expenses related to the move its corporate headquarters from San Rafael to Novato, California, and wrote off approximately $250,000 of deferred offering costs related to the preparation of an S-1 filing earlier in fiscal 1998. 9 10 11. COMPREHENSIVE INCOME Comprehensive income includes changes in the balance of items that are reported directly in a separate component of stockholders' equity on the condensed consolidated balance sheets. The reconciliation of net loss to comprehensive loss is as follows.
Three Months Ended September 30, -------------------------------- 1998 1997 ------------ ------------ Net Loss $(1,214,000) $(3,114,000) Other comprehensive gain Foreign currency translation adjustments 153,000 145,000 Total comprehensive loss $(1,061,000) $(2,969,000) =========== ===========
10 11 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following information should be read in conjunction with the consolidated financial statements and the notes thereto and in conjunction with Management's Discussion and Analysis of Financial Condition and Results of Operations in the Company's Form 10-K for the year ended June 30, 1998 (the "Form 10-K"). This quarterly report on Form 10-Q, and in particular Management's Discussion and Analysis of Financial Condition and Results of Operations, may contain forward-looking statements regarding future events or the future performance of the Company that involve certain risks and uncertainties including those discussed in the "Other Factors that May Affect Future Operating Results" section of this Form 10-Q, as well as in the Company's Form 10-K, as filed with the Securities and Exchange Commission ("SEC"). Actual events or the actual future results of the Company may differ materially from any forward-looking statements due to such risks and uncertainties. The Company assumes no obligation to update these forward-looking statements to reflect actual results or changes in factors or assumptions affecting such forward-looking statements. This analysis is not intended to serve as a basis for projection of future events. OVERVIEW AND SUMMARY OF RESULTS The Company reported net revenues for the three months ended September 30, 1998 of $13,360,000 compared to $12,511,000 for the comparable quarter in fiscal 1998, representing an increase of 7%. The Company reported a net loss of $1,214,000 or ($0.21) per share for the quarter ended September 30, 1998, compared to a net loss of $3,114,000 or ($0.60) per share for the comparable quarter of fiscal 1998, representing an increase in earnings of $1,900,000. In the quarter ended September 30, 1998 the Company increased reserves for cooperative advertising commitments by approximately $500,000, incurred approximately $350,000 of expenses related to the move its corporate headquarters from San Rafael to Novato, California, and wrote off approximately $250,000 of deferred offering costs related to the preparation of an S-1 filing earlier in fiscal 1998. During the comparable quarter of fiscal 1998, the Company incurred a charge of $6,400,000 relating to the write-off of in-process research and development costs. RESULTS OF OPERATIONS NET REVENUES Net revenues for the three month period ended September 30, 1998 were $13,360,000 compared to $12,511,000 in the comparable quarter of the previous fiscal year, representing an increase of 7%. During the quarter ended September 30, 1998, the Company's significant new product releases and upgrades included VoiceDirect(TM) Continuous and VoiceDirect Continuous Gold, a speech recognition software for use in Windows(R); DreamHouse(R) 3D and Talk & Draw Architect, both of which are building design software programs; MasterClips(R) 500,000+, MasterClips 1,000,001 and MasterClips Web Art, premium clip art software available on CD-Rom and online; Micro Cookbook Deluxe Suite, which included over 12,000 recipes; and Hijaak(R) Express v4.5, a graphic tool used for converting, capturing and organizing graphic images. 11 12 Net revenues in absolute dollars and as a percentage of total net revenues for each of the Company's principal product categories were as follows for the periods indicated: Three Months Ended September 30,
1998 1997 ------------------- ------------------- Business applications $ 6,096,000 46% $ 6,206,000 50% Utilities 1,577,000 12% 2,312,000 18% Visual content 3,909,000 29% 2,805,000 22% Other products 1,778,000 13% 1,188,000 10% ----------- --- ----------- --- Total $13,360,000 100% $12,511,000 100% =========== === =========== ===
Net revenues in the business applications category for the three month period ended September 30, 1998 decreased by $110,000 or 2% from the comparable period of fiscal 1998. The introduction of five new products during the period subsequent to September 30, 1997 (E-mail animator, Flow, Lumiere, MasterPhoto Studio, MultiMedia Fusion) compensated in part for a relative decline in TurboProject and TurboCAD revenue during the quarter ended September 30, 1998. In the quarter ended September 30, 1997, TurboCAD sales had increased due to an upgrade and introduction of TurboCAD Pro in the preceding quarter. Net revenues in the utilities category for the three month period ended September 30, 1998 decreased by $735,000, or 32%, from the comparable period of fiscal 1998. Increased sales during the quarter ended September 30, 1998 of the VoiceDirect product line were offset by a decline in sales from Net Accelerator and WinDelete, which are at the end of their version cycle. Net revenues in the visual content category for the three month period ended September 30, 1998 increased by $1,104,000, or 39%, respectively from the comparable period of fiscal 1998. The increase in revenue during the quarter ended September 30, 1998 is due primarily to the successful introduction of MasterClips 500,000+ and MasterClips 1,000,001. Net revenues in the other products category for the three month period ended September 30, 1998 increased by $590,000, or 50%, from the comparable period of fiscal 1998. The increase is due primarily to sales of Micro Cookbook and proceeds from the sale of Family Heritage. Net revenues from domestic sales increased by 10% to $9,108,00, or 68% of net revenues, for the three month period ended September 30, 1998 from $8,284,000, or 66% of net revenues, for the comparable period in the previous fiscal year. Net revenues from international sales were $4,252,000 or 32% of net revenues for the three month period ended September 30, 1998, compared to $4,227,000 or 34% net revenues for the three months ended September 30, 1997. The Company's international net revenues in the three month period ended September 30, 1998 were generated primarily from Germany, the United Kingdom and Australia. Although the Company believes that the risks associated with transactions in foreign currencies are mitigated by diversified exposure to multiple currencies, the Company's operating results may be affected by the risks customarily associated with international operations, including a devaluation of the U.S. dollar, increases in duty rates, exchange or price controls, longer collection cycles, government regulations, political instability and changes in international tax laws. 12 13 The Company recognizes revenue, net of estimated returns and allowances, upon shipment of a product and only when no significant obligations remain and collectability is probable. The Company's return policy allows its distributors, subject to certain limitations, to return purchased products in exchange for new products or for credit towards future purchases as part of stock balancing programs. In addition, the Company provides price protection to its distributors when it reduces the prices of its products. End users may return products through dealers and distributors within a reasonable period from the date of purchase for a full refund, and retailers may return older versions of products for a full refund. Various distributors and resellers may have different return practices that adversely affect the number of products that are returned to the Company. Product returns often occur when the Company introduces upgrades and new versions of products or when distributors or resellers overestimate demand. The Company's allowances for doubtful accounts and returns is based upon its best judgment and estimates at the time and is comprised of both reserves for expected bad debts and reserves for expected sales returns. Reserves for doubtful accounts and expected sales returns is based primarily on historical averages and were 24.2% and 24.3% of gross receivables at September 30, 1998 and June 30, 1998, respectively. PRODUCT COSTS Product costs increased from $4,531,000 to $5,370,000 representing an increase as a percentage of net revenues were 36% to 40% three month periods ended September 30, 1997 and September 30, 1998, respectively. Major factors contributing to the increase were higher material and labor costs due to increased product shipments, the effect of deferred revenue, and increased amortization costs of capitalized software due to acquisitions made in the fiscal year ended June 30, 1998. The Company amortizes capitalized software development costs on a product-by-product basis. The amortization for each product is the greater of the amount computed using (a) the ratio of current gross revenues to the total of current and anticipated future gross revenues for the product or (b) 18 or 60 months. During the quarter ended September 30, 1998, the Company reevaluated the economic lives of products for which it capitalized software acquisition or development costs. As a result, effective July 1, 1998, the Company increased the amortization period from 36 to 60 months for acquired software development costs related to visual content products. The effect of this change in accounting estimate was $99,000 in the first quarter of fiscal 1999. Total visual content amortization expense, charged to product costs, was $158,000 and $222,000 in the three month periods ended September 30, 1998 and September 30, 1997 respectively. SALES AND MARKETING Sales and marketing expenses increased from $3,655,000 to $5,683,000 for the three month periods ended September 30, 1997 and September 30, 1998, respectively. Sales and marketing expenses as a percentage of net revenues increased from 29% to 43% of net revenues for the three month periods ended September 30, 1997 and September 30, 1998, respectively. The increases are primarily due to the booking of additional reserves for cooperative advertising, and increased marketing staff, merchandisers and corporate sales representatives. 13 14 GENERAL AND ADMINISTRATIVE General and administrative expenses increased from $991,000 to $1,744,000 for the three month periods ended September 30, 1997 and September 30, 1998, respectively. These increases are primarily due to the Company's write-off of deferred offering costs relating to preparation for an S-1 filing, the Company's move to its corporate headquarters, and continued infrastructure improvements and headcount additions, primarily in the areas of information systems, human resources, accounting and operations. General and administrative expenses as a percentage of net revenues increased from 8% to 13% of net revenues for the three month period ended September 30, 1997 and September 30, 1998, respectively. RESEARCH AND DEVELOPMENT Research and development expenses increased from $1,635,000 to $2,282,000 for the three month periods ended September 30, 1997 and September 30, 1998. This increase can be attributed to an increase in domestic headcount, the utilization of additional independent contractors and other third party development costs relating to the development and expansion of the Company's product offerings. Research and development costs as a percentage of net revenues increased from 13% to 17% of net revenues for the three month periods ended September 30, 1997 and September 30, 1998, respectively. The percentage increases reflect the Company's continued commitment to invest in research and development. WRITE-OFF OF PURCHASED IN-PROCESS RESEARCH AND DEVELOPMENT There were no acquisitions affecting in-process research and development for the quarter ended September 30, 1998. In the period ended September 30, 1997, the Company expensed $6,367,000 of in-process research and development resulting from the acquisitions from Corel, Quarterdeck, MapLinx and MediaPaq. These transactions have been described in detail in the Company's 10-K for the year ended June 30, 1998. OTHER EXPENSE, NET Other expense, net, which consists of interest expense on short- and long-term borrowings as well as net gains or losses on foreign currency transactions, decreased from $198,000 to $177,000 for the three month periods ended September 30, 1997 and September 30, 1998, respectively. For the three month period ended September 30, 1998, other expense, net consisted of $105,000 in foreign exchange gain and $282,000 of interest expense, compared to $107,000 in foreign exchange loss and $91,000 of interest expense for the comparable period in the previous fiscal year. PROVISION FOR INCOME TAXES The Company's effective tax rate is 36% for the three month period ended September 30, 1998 and for the three month period ended September 30, 1997. 14 15 OCTOBER 1998 ACQUISITION OF ORG PLUS On September 29, 1998, The Learning Company ("TLC") paid the Company approximately $1,690,000, representing amounts due to the Company, after discount, from the Family Heritage sale ($1,260,000 - see note 3 to the consolidated financial statements included in the Company's Annual Report on Form 10-K for the Fiscal Year Ended June 30, 1998) and other existing contractual agreements ($430,000). The Company had not recorded revenues or receivables for such amounts due from TLC. The $1,690,000 cash receipt from TLC did not result in revenue recognition by the Company for the quarter ended September 30, 1998. Accordingly, such amount was included in cash and cash equivalents and as a current liability at September 30, 1998. On October 2, 1998, TLC and the Company entered into a software license agreement whereby TLC sold Org Plus to the Company in exchange for $3,500,000 as follows: $1,700,000 paid by the Company on October 2, 1998, and $450,000 due on each of January 1, 1999, April 1, 1999, July 1, 1999 and October 1, 1999. In the quarter ending December 31, 1998, the Company will record the value of the Org Plus acquisition. The Company has not yet completed its allocation of the purchase price; however, it expects that the purchase price will be allocated to acquired software development costs, brands and goodwill, to be amortized over periods not to exceed five years. LIQUIDITY AND CAPITAL RESOURCES The Company has financed its working capital and capital expenditure requirements primarily from net income before depreciation and amortization, short-term and long-term bank borrowings, capitalized leases and sales of common stock pursuant to the exercise of options. Working capital decreased to $6,321,000 at September 30, 1998 from $7,728,000 at June 30, 1998 resulting primarily from an increase in credit line borrowings. The Company's operating activities provided (used) net cash of $726,000 and ($668,000) for the three months ended September 30, 1998 and September 30, 1997 respectively. For the three months ended September 30, 1998, net cash provided by operating activities resulted from primarily an increase in current liabilities of $1.4 million, a major component of which was the increased liability of $1.7 million due to the Org Plus transaction described above and a reduction in income taxes payable of $756,000. The increase in current liabilities was offset in part by an increase in prepaid royalties and licenses of $658,000. For the three months ended September 30, 1997, net cash used by operating activities resulted primarily from a decrease in deferred taxes and income taxes payable of $2.6 million, net income before depreciation of $2.3 million, and an increase in accounts receivable of $1.7 million that was offset primarily by the one-time write-off of capitalization costs of $6.4 million. The Company's investing activities (used) net cash of ($408,000) and ($1,733,000) during the three months ended September 30, 1998 and September 30, 1997 respectively. For the three months ended September 30, 1998, net cash used by investing activities resulted from equipment purchases of $269,000 and additions to software development costs of $139,000. For the three months ended September 30, 1997, net cash used by investing activities was due 15 16 primarily to the acquisition of software development costs and in-process technlogies of $1.2 million and equipment purchases of $484,000. The Company's financing activities provided net cash of $1.5 and $1.8 million during the three months ended September 30, 1998 and September 30, 1997 respectively. For the three month period ended September 30, 1998, net cash provided by financing activities resulted primarily in net credit line borrowings of $1.7 million. For the three month period ended September 30, 1997, net cash provided by financing activities resulted primarily in net credit line borrowings of $2.1 million. On May 4, 1998, as amended September 24, 1998, the Company entered into a new line of credit agreement with a bank under which it can borrow the lesser of $13,500,000 or 80% of eligible accounts receivable, at the bank's reference rate plus 1/2 % or LIBOR plus 2%, at the Company's option. The line of credit agreement requires the Company to comply with certain financial covenants including maintenance of net worth and working capital requirements. Under the terms of the agreement, all assets not subject to liens of other financial institutions have been pledged as collateral against the line of credit. The credit line expires October 31, 1999. On November 3, 1998, the Company borrowed $2,500,000 under a new three-year subordinated loan facility entered into with Silicon Valley Bank. The interest rate is 12%. As part of the loan facility, the Company issued detachable warrants, which have a five-year term, to purchase shares of the Company's common stock. At closing, the Company issued 30,000 warrants to purchase common stock at $7.00 per share. The warrants issued will increase, as amounts advanced under this facility remain outstanding as follows:
Additional warrants If not paid in full prior to: to be issued Exercise price per share ----------------------------- --------------------- ------------------------ October 31, 1999 5,000 $7.00 January 31, 2000 25,000 7.00 April 30, 2001 65,000 6.00 October 31, 2001 125,000 5.00
The Company will record additional interest expense over the life of the loan facility related to the warrants. The Company believes that its existing cash and cash equivalents, cash flow from operations, any remaining availability under its line of credit, and proceeds from the subordinated loan facility will be sufficient to satisfy the Company's working capital and capital expenditure requirements for at least the next 12 months. However, in order to support expansion of the Company's operations, future acquisitions of products or companies, increases in expenses or other factors, the Company expects to seek additional debt or equity financing in the near term. The Company's forecast period of time through which its financial resources will be adequate to support its working capital and capital expenditure requirements is a forward-looking statement that involves risks and uncertainties, and actual results could vary. There can be no assurance that such funding, if needed, will be available on terms attractive to the Company, or at all. Furthermore, any additional equity financing may be dilutive to shareholders, and debt financing, if available, may involve restrictive covenants. The failure of the Company to raise capital when 16 17 needed could have a material adverse effect on the Company's business, operating results and financial condition. OTHER FACTORS THAT MAY AFFECT FUTURE OPERATING RESULTS The Company has experienced, and expects to continue to experience, significant fluctuations in operating results due to a variety of factors. The Company has experienced growth during fiscal 1998, 1997 and 1996. However, the Company reported a net loss in the current quarter of $1.2 million due in part to an increase in reserves for cooperative advertising commitments, the Company's move of its corporate headquarters, and the write-off of deferred offering costs relating to the preparation of an S-1 filing earlier in the year. In addition, for the quarter ended September 30, 1997, the Company reported a net loss of approximately $3.1 million, reflecting in part charges, accounted for primarily as a write-off of in-process research and development, amounting to approximately $6.4 million relating to several product acquisition and licensing transactions. Factors that may cause fluctuations in operating results in the future include, but are not limited to, market acceptance of the Company's products or those of its competitors; the timing of introductions of new products and new versions of existing products; expenses relating to the development and promotion of such new product and new version introductions; product returns and reserves; difficulty in securing retail shelf space for the Company's products; changes in pricing policies by the Company or its competitors; changes in product mix; projected and actual changes in platforms and technologies; timely and successful adaptation to such platforms or technologies; the accuracy of forecasts of, and fluctuations in, consumer demand; the extent of third party royalty payments; market seasonality; the rate of growth of the consumer software market; fluctuations in foreign exchange rates; the timing of orders or order cancellation from major customers; order cancellations; changes or disruptions in the consumer software distribution channels; the successful acquisition and integration of new businesses, products and technologies; the timing of any write-offs in connection with such acquisitions; and economic conditions, both generally and within the Company's industry. In addition, the Company's strategy is to increase the focus of its sales efforts on volume licensing to corporate accounts, and the timing of such licenses could significantly affect quarterly results of operations. The Company may also be required to pay fees in advance or to guarantee royalties, which may be substantial, or to obtain software licenses from third parties before the commercial viability of such software has been determined, which could cause operating results to fluctuate. As a result of these and other factors, the Company's operating results in any given period are inherently difficult to predict. Any significant shortfall in revenues and earnings from the levels expected by securities analysts and shareholders could result in a substantial decline in the trading price of the Company's common stock. While the Company's business has not generally been materially affected by seasonal trends, the seasonality of the European, Asia/Pacific and other international markets could impact the Company's operating results and financial condition in a particular quarter given the significant portion of net revenues contributed by international operations. These seasonal patterns may be overshadowed in particular quarters by the timing of new product introductions, expansion into international markets and other factors affecting the Company's business. Furthermore, the markets for the Company's products are characterized by significant price competition, which may cause the Company's operating results to fluctuate. In addition to seasonal and product pricing factors, the Company anticipates that its operating results for the remainder of Fiscal 1999 and Fiscal 2000 17 18 will be affected by the timing and the number of new product releases or upgraded versions of existing products, as well as marketing and promotional expenditures in connection with the product releases and the timing of product announcements or introductions by the Company's competitors. Products are generally shipped as orders are received. The Company has historically operated with little order backlog and sales and operating results for any quarter have depended on the volume and timing of orders received during that quarter, which cannot be predicted with any degree of certainty. However, the Company reported a record backlog at the end of the quarter ended September 30, 1998 due to the release of MasterClips 1,000,001. A significant portion of the Company's operating expenses is relatively fixed, and planned expenditures are based on sales forecasts. Thus, if revenue levels are below expectations due to either the timing of orders received or delays in product releases, operating results are likely to be materially adversely affected. Without growth in revenues in any particular quarter, the Company's increasing fixed operating expenses could cause net income to decline when compared to the same period in the previous year or the immediately preceding quarter. In such event, the market price of the Company's common stock may be materially adversely affected. Due to the foregoing factors, the Company believes that quarter to quarter comparisons of its operating results are not necessarily meaningful and should not be relied upon as indications of future performance. YEAR 2000 RISKS. The Company recognizes the need to ensure its operations will not be adversely impacted by Year 2000 software failures. Software failures due to processing errors potentially arising from calculations using the Year 2000 date are a known risk. The Company has established procedures for evaluating and managing the risks and costs associated with this problem, and, as part of the general upgrade of the Company's information systems, the Company is putting in place systems which will by Year 2000 compliant. The Company has communicated with others with whom it does significant business to determine their Year 2000 compliance readiness and the extent to which the Company is vulnerable to any third party Year 2000 issues. However, there can be no guarantee that the systems of other companies on which the Company's systems relay will be timely converted, or that a failure to convert by another company, or a conversion that is incompatible with the Company's systems, would not have a material adverse effect on the Company. For further discussion please refer to the subheading "Future Performance and Additional Risk Factors" in the Company's Annual Report on Form 10-K for the Fiscal Year Ended June 30, 1998. For further discussion please refer to the subheading "Future Performance and Additional Risk Factors" in the Company's Annual Report on form 10-K for the Fiscal Year Ended June 30, 1998. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The Company is exposed to the impact of interest rate and foreign currency fluctuations. The Company's objective in managing its exposure to interest rate changes and foreign currency fluctuations is to limit the impact of interest rate changes on earnings and cash flow and to lower its overall borrowing costs. The Company's major market risk exposure is changing interest rates in the United States, which would change interest expense on the Company's line of credit and term loan. Most of the Company's international revenues are denominated in foreign currencies. Consequently a decrease in the value of a relevant foreign currency in relation to the U.S. dollar could adversely affect the Company's net revenues. The Company's foreign currency transactional exposures exist primarily with the U.K. pound and German mark. The Company does not utilize interest rate swaps or hedge exposures with foreign currency forward contracts. 18 19 PART II - OTHER INFORMATION ITEM 1. Legal Proceedings Not Applicable ITEM 2. Changes in Securities and Use of Proceeds Not Applicable ITEM 3. Defaults upon Senior Securities Not Applicable ITEM 4. Submission of Matters to a Vote of Security Holders Not Applicable ITEM 5. Other Information Not Applicable ITEM 6. Exhibits and Reports on Form 8-K
Exhibits -------- 27.1 Financial Data Schedule
No report on Form 8-K was filed during the quarter ended September 30, 1998. 19 20 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. DATE: November 16, 1998 INTERNATIONAL MICROCOMPUTER SOFTWARE, INC. By: /s/ MARTIN SACKS ----------------------------------------- Martin Sacks President and Chief Executive Officer (Principal Executive Officer) By: /s/ KENNETH R. FINEMAN ----------------------------------------- Kenneth R. Fineman Vice President of Finance and Chief Financial Officer (Principal Financial Officer) 20 21 EXHIBIT INDEX
Exhibits -------- 27.1 Financial Data Schedule
EX-27.1 2 FINANCIAL DATA SCHEDULE
5 1,000 3-MOS JUN-30-1999 JUL-01-1998 SEP-30-1998 3,878 0 17,739 4,298 6,188 29,838 5,936 2,506 37,290 23,517 0 0 0 12,445 (115) 37,290 13,360 13,360 5,370 5,370 9,709 0 (177) (1,896) (683) (1,214) 0 0 0 (1,214) (.21) (.21)
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