-----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, A7wu7bH2W0Vk/1z48JhyDQNXfu3RmQCGYtfT022c0y/Ua0J8MOqLSrGwdpuoaK9d BXOXZi95kD8Tx3YmphOZXw== 0001012870-97-000562.txt : 19970327 0001012870-97-000562.hdr.sgml : 19970327 ACCESSION NUMBER: 0001012870-97-000562 CONFORMED SUBMISSION TYPE: 10-K405 PUBLIC DOCUMENT COUNT: 6 CONFORMED PERIOD OF REPORT: 19961231 FILED AS OF DATE: 19970326 SROS: NASD FILER: COMPANY DATA: COMPANY CONFORMED NAME: MERCURY INTERACTIVE CORPORATION CENTRAL INDEX KEY: 0000867058 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-PREPACKAGED SOFTWARE [7372] IRS NUMBER: 770224776 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K405 SEC ACT: 1934 Act SEC FILE NUMBER: 000-22350 FILM NUMBER: 97563660 BUSINESS ADDRESS: STREET 1: 470 POTRERO AVE CITY: SUNNYVALE STATE: CA ZIP: 94086 BUSINESS PHONE: 4085239900 MAIL ADDRESS: STREET 1: 470 POTRERO AVE CITY: SUNNYVALE STATE: CA ZIP: 94086 10-K405 1 FORM 10-K - ------------------------------------------------------------------------------- - ------------------------------------------------------------------------------- UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ---------------- FORM 10-K [X]ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 [FEE REQUIRED]. [_]TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 [NO FEE REQUIRED]. FOR THE FISCAL YEAR ENDED DECEMBER 31, 1996 COMMISSION FILE NUMBER: 0-22350 MERCURY INTERACTIVE CORPORATION (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) DELAWARE 77-0224776 (STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.) 470 POTRERO AVENUE, SUNNYVALE, CA 94086 (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (408) 523-9900 ---------------- SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT: COMMON STOCK, $0.002 PAR VALUE ---------------- 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 a 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 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 was approximately $129,908,000 as of February 28, 1997, based upon the closing sale price reported for that date on the Nasdaq National Market. Shares of Common Stock held by each officer and director and by each person who owns 5% or more of the outstanding Common Stock have been excluded because such persons may be deemed to be affiliates. This determination of affiliate status is not necessarily conclusive for other purposes. The number of shares of Registrant's Common Stock outstanding as of February 28, 1997 was 16,184,347. DOCUMENTS INCORPORATED BY REFERENCE PORTIONS OF THE PROXY STATEMENT FOR REGISTRANT'S 1997 ANNUAL MEETING OF STOCKHOLDERS TO BE HELD APRIL 30, 1997 ARE INCORPORATED BY REFERENCE IN PART III OF THIS FORM 10-K REPORT. - ------------------------------------------------------------------------------- - ------------------------------------------------------------------------------- TABLE OF CONTENTS
PAGE ---- PART I Item 1. Business....................................................... 2 General........................................................ 2 Products....................................................... 3 Research and Development....................................... 5 Marketing, Sales and Support................................... 5 Competition.................................................... 7 Manufacturing.................................................. 7 Patents, Trademarks and Licenses............................... 7 Personnel...................................................... 8 Operations in Israel........................................... 9 Item 2. Properties..................................................... 9 Item 3. Legal Proceedings.............................................. 9 Item 4. Submission of Matters to a Vote of Security Holders............ 10 PART II Market for the Registrant's Common Equity and Related Item 5. Stockholder Matters............................................ 10 Item 6. Selected Consolidated Financial Data........................... 11 Management's Discussion and Analysis of Financial Condition and Item 7. Results of Operations.......................................... 12 Item 8. Financial Statements and Supplementary Data.................... 19 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure........................................... 19 PART III Item 10. Directors and Executive Officers of the Registrant............. 19 Item 11. Executive Compensation......................................... 19 Item 12. Security Ownership of Certain Beneficial Owners and Management. 19 Item 13. Certain Relationships and Related Transactions................. 19 PART IV Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K............................................................ 20
1 PART I ITEM 1. BUSINESS GENERAL Mercury Interactive Corporation and its subsidiaries (hereafter, collectively, "Mercury Interactive" or the "Company") develop, market and support a family of automated client/server and Web-based system (Internet and intranets) tools for testing business-critical enterprise applications. Since 1989, the Company's testing solutions have helped corporate development organizations, system integrators and independent software developers identify client/server system problems with greater accuracy, speed and efficiency than traditional methods allow. The power, speed and flexibility of distributed computing architectures-- with PCs running Microsoft Windows, UNIX workstations, network servers, database servers and Web-based systems--have prompted many companies to adopt them on an enterprise-wide basis to support business-critical applications. Client/server solutions are designed to be scalable to accommodate rapid growth, in order to allow customers to boost productivity by enhancing information availability and to provide the customer a competitive advantage. However, the very nature of client/server computing creates challenges for businesses that develop and deploy custom-built applications. As client/server systems are installed to accommodate traditional business needs, even the most simple application or system changes can adversely impact the delivery and performance of the solution. Thorough testing of client applications in enterprise-wide, multi-user environments is required so that the solution is reliable and responsive to user needs. Testing is particularly important to organizations that deploy enterprise client/server systems to conduct business-critical transactions, such as securities trading, account management, order services, billing, etc. Mercury Interactive is committed to continuing research and development in order to achieve its strategy of offering advanced and innovative testing solutions for evolving business needs. The Company's innovative solutions are designed to automate and orchestrate all phases of software and system quality assurance, and to provide a common thread that allows customers to reduce application development time, increase productivity and decrease operating expenses. Today, that common thread makes its way through some of the world's largest business organizations. Chase Manhattan, Lucent Technologies, American Express, AT&T, IBM, KPMG Peat Marwick, Motorola, Bell Canada, and Siemens, among others, all rely on the Company's solutions for testing their client/server applications and systems. 2 PRODUCTS The Company's current and announced automated client/server testing tools are presented and described below. TYPICAL LIST PRICE PRODUCT NAME PRODUCT DESCRIPTION STATUS RANGE* - ------------------------------------------------------------------------------- XRunner Automated application Release 1.0-1991 $60,000 for five users testing for UNIX/X Window Release 4.0-July 1996 - ------------------------------------------------------------------------------- WinRunner Automated application Release 1.0-June 1993 $2,850-$5,000 per user testing for MS Windows, Release 4.0-March 1996 Windows NT, Windows 95 and OS/2 - ------------------------------------------------------------------------------- LoadRunner Automated multi-user Release 1.0-November 1993 $40,000-$50,000 for testing for UNIX, RTE, Release 4.0-May 1996 package simulating 50 MS Windows, Windows NT users and Windows 95 - ------------------------------------------------------------------------------- TestDirector Automated test management Release 1.0-November 1994 $8,995 for server plus 5 system for QA workgroups Release 2.0-March 1996 users, additional users for $495 each - ------------------------------------------------------------------------------- SQLInspector Middleware testing and Release 2.0-May 1995 $495-$895 per user analysis for MS Windows - ------------------------------------------------------------------------------- WebTest World Wide Web application Product family released $195-$995 per copy testing March 1996 - ------------------------------------------------------------------------------- Astra SiteManager Visual Web site management Release 1.0-October 1996 $495 per copy tool - ------------------------------------------------------------------------------- Astra SiteTest Web site stress testing Release 1.0-December 1996 $9,500 per copy
*Prices vary within the ranges shown according to system configuration and country where purchased. XRunner The Company's XRunner(R) is an automated GUI regression tool which tests X Window applications running under UNIX. XRunner makes test development easier by incorporating simplified test script management, point-and-click selection and interactive debugging. These features boost new testers' productivity while providing a complete testing solution for evolving business needs. XRunner features the RapidTest Script Wizard which automatically learns an application and generates tests for unattended regression testing. XRunner was originally released in 1991. WinRunner The Company's WinRunner(R) tests client/server GUI applications on Windows 3.1, Windows 95 and Windows NT platforms. WinRunner simplifies test automation by providing powerful, productive and cost-effective test solutions. WinRunner includes RapidTest(TM) technology which assists new testers in overcoming the initial barriers to test automation. WinRunner utilizes Mercury Interactive's point-and-click Visual Testing(TM) to help users quickly create test and verification scenarios. WinRunner provides support for leading development environments such as SAP, Oracle Developer/2000, Visual Basic, PowerBuilder, ActiveX controls and Open Interface Elements. WinRunner was made generally available in 1993. 3 LoadRunner The Company's LoadRunner(R) is an integrated client/server and Web load testing tool. It provides a scalable load testing solution for managing the risks of client/server systems. LoadRunner uses a minimum of hardware resources to provide consistent, repeatable and measurable load to exercise the system just like real users would. LoadRunner automates both client and server load testing from a single point of control while helping developers get an accurate view of system behavior and performance throughout the application development lifecycle. LoadRunner is available for Windows, Windows 95, Windows NT, UNIX and Remote Terminal Emulation (RTE). LoadRunner was made generally available in 1993. TestDirector The Company's TestDirector(TM) is a workgroup test management software which directs the quality assurance process for software development. TestDirector helps developers and testers be more productive by walking them through a full regression test cycle from planning and design, automated test creation, manual and automatic test execution, defect tracking and application quality analysis. TestDirector was first released in 1994. SQLInspector The Company's SQLInspector(TM) is a powerful, simple tool for viewing application function calls to databases. SQLInspector includes performance data so that developers can analyze their application's database access, and better understand how to tune the application. SQLInspector 2.0 was integrated into Mercury Interactive's product family when the Company acquired Blue Lagoon Software in 1995. WebTest The Company's WebTest is the first technology designed specifically for testing World Wide Web applications. The new technology helps information system organizations improve the quality and reliability of Web-based systems by allowing developers to measure response time to a browser request, to determine the maximum number of hits the server can support and to validate the systems' ability to function correctly under varying conditions. WebTest extends Mercury Interactive's GUI testing tools, WinRunner and XRunner, allowing them to interact with Web pages, browsers, HTML links and images. WebTest together with LoadRunner tests Web site performance and capacity by emulating Web user HTTP traffic between the browser and server. WebTest was released in March 1996. Astra SiteManager The Company's Astra(TM) SiteManager(TM) is a comprehensive visual Web site management tool that is designed to meet the challenges faced by Webmasters and business managers of rapidly growing Web sites with changing contents and shape. Astra SiteManager scans an entire Web site--highlighting functional areas with color-coded links and URLs--to create a complete visual map of a Web site. It pinpoints broken links or access problems, compares maps as a site changes, identifies key usage patterns for improving Web site effectiveness and validates dynamically generated pages. Astra SiteManager was released in October 1996. Astra SiteTest The Company's Astra SiteTest(TM) is a stress testing tool for Web-based systems--Internet and intranets--that provides consistent, repeatable and measurable load to exercise the systems as real users would. Astra SiteTest helps Webmasters get an accurate view of system behavior and performance throughout the application development lifecycle. Astra SiteTest was first released in December 1996. 4 RESEARCH AND DEVELOPMENT Since its inception, the Company has made substantial investments in research and product development. The Company believes that its success will depend in large part on its ability to maintain and enhance its current product line, develop new products, maintain technological competitiveness and meet an expanding range of customer requirements, each of which is essential to maintaining the Company's current leadership position in its market. The technologies that drive the Company's products are aimed at providing a consistent and comprehensive solution to software quality issues throughout the software development organization. By enabling reliable automation of testing, these technologies enable the Company's products to provide substantial productivity improvement. The Company believes that it was the first to comprehensively address client/server software quality by combining key enabling technologies such as output synchronization, GUI-based application testing, multi-platform portability, text recognition and multi-user testing. Mercury Interactive's products are designed to be used throughout the development, maintenance and porting processes and are available on a variety of computing platforms and operating environments. In addition to the teams developing software testing products, the Company maintains an advanced research group that is responsible for exploring new directions and applications of core technologies, migrating new technologies into the existing product lines and maintaining research relationships outside the Company both within industry and academia. The research and development group also maintains relationships with third party software vendors and with all major hardware vendors on whose platforms the Company's products operate. Key development engineers are rotated to assignments in customer support positions in the Company's major markets for periods ranging from three months to two years. This improves feedback from current customers and strengthens ties between the Customer Support Organization and the research and development group. The Company's primary research and development group is located near Tel Aviv, Israel. Performing research and development in Israel offers a number of strategic advantages. Israeli engineers typically hold advanced degrees in computer-related disciplines. In addition to lower personnel costs, operation in Israel allows the Company to enjoy research subsidies from the government of Israel. Geographic proximity to Europe, a strategic market for the Company, offers another key advantage. As of December 31, 1996, the Company's research and development group consisted of 160 employees. During 1996, 1995 and 1994, gross research and development costs were $10.5 million, $14.4 million and $4.7 million, respectively. The Company anticipates that it will continue to commit substantial resources to research and development in the future. See "Management's Discussion and Analysis of Financial Condition and Results of Operations." MARKETING, SALES AND SUPPORT Direct Sales The Company markets its products primarily through its direct sales and service organization, which focuses on major accounts. The Company employs technically proficient salespeople and highly skilled field application engineers capable of serving the sophisticated needs of prospective customers' engineering and management staffs. As of December 31, 1996, the Company's direct sales and service force consisted of 113 employees. The Company has thirteen sales and support centers throughout the United States. Internationally, the Company's subsidiaries operate seven sales and support offices located in Canada, the United Kingdom, France, Germany, Japan, Australia and Israel. The Company also markets its products through distributors in Europe and Pacific Rim countries. 5 International sales represented 37%, 29% and 26% of the Company's total revenues in 1996, 1995 and 1994, respectively. The Company expects that in future periods, international sales will continue to account for a significant portion of the Company's total revenue. See "Management's Discussion and Analysis of Financial Condition and Results of Operations." Alternate Channels The Company has an indirect sales channel of value added resellers and major system integrators, including Andersen Consulting, EDS and KPMG Peat Marwick. The indirect sales channel accounted for 43% and 23% of total license revenue in the years ended December 31, 1996 and 1995, respectively. The Company believes that the indirect sales channel will account for an increasingly significant portion of the Company's total revenue in future periods. There is no assurance that the Company will be successful in further developing such channels, that such relationships will result in significant additional sales or that any sales through such channels will have the same profitability, if any, of sales obtained through the Company's direct sales force. In addition, the Company expects its direct and indirect sales channels to compete with each other. Successful indirect sales efforts depend on the abilities, resources, reputations, motivations, and strategies of third parties, and the Company has little control over such factors. If the Company's efforts at further developing these indirect sales channels are unsuccessful, if such channels are unproductive or if the Company were to lose one or more of its value added resellers or major system integrators, there could be a material adverse effect on the Company's results of operations or financial position. Customer Support Organization The Company believes that strong customer support is crucial to both the initial marketing of its products and maintenance of customer satisfaction, which in turn, enhances the Company's reputation and generates repeat orders. In addition, the Company believes that the customer interaction and feedback involved in its ongoing support functions provide the Company with information on market trends and customer requirements that is critical to future product development efforts. Pre-sales support is provided by sales personnel and post-sales support is provided by the Company's Customer-Support Organization ("CSO") pursuant to renewable annual maintenance contracts. As of December 31, 1996, the Company's CSO consisted of 46 employees. The maintenance contracts provide for technical and emergency support as well as software upgrades, on an if and when available basis. When the Company's local sales and support offices are unable to solve a problem, the Company's engineers and product developers in Israel work with the support personnel. By taking advantage of time differences, the Company can provide support around the clock, ensuring prompt resolution of problems. Pricing The Company licenses its software to customers under non-exclusive license agreements that restrict use of the products to internal purposes on designated computer networks. The Company typically licenses software products to allow up to a set number of users to access the software on a network at any one time, using any workstation attached to that network. The Company's products are priced to encourage customers to purchase multiple products and licenses because the cost to the Company of supporting a one-user configuration is almost as high as a multiple-user configuration. License fees are dependent on the product licensed, the number of users of the product licensed and the country in which such licenses are sold, as international prices tend to be higher than United States prices. In addition, the Company sells annual maintenance contracts which include on-site customer support and upgrades for approximately 15% of the license purchase price. Sales to the Company's indirect sales channel partners which are intended for resale to end users are made at varying discounts off of the Company's list prices, generally based on the sales volume of the indirect sales channel partner. 6 Backlog The time between order and delivery of the Company's products is generally quite short. The number of orders, as well as the size of individual orders, can vary substantially from month to month. Because of the short period between order receipt and shipment of products, the Company typically does not have a backlog of unfilled orders and believes that backlog is neither significant to an understanding of its business nor representative of potential revenue for any future period. COMPETITION While the Company believes it is the leading provider of automated client/server and Web-based testing tools, several other companies compete in the automated client/server testing market and several potential customers have decided to develop testing utilities internally. The market for automated client/server and Web testing tools is relatively young and competing solutions for the problem of software testing productivity are evolving rapidly. The Company faces direct competition primarily from several public and privately-held companies. The market for software products in general is highly competitive and the Company expects to face substantial competition from established and emerging companies. There could be a material adverse effect on the Company's results of operations and financial position if any of the major software manufacturers, which have significantly greater resources than the Company, decided to devote substantial resources to entering the software or Web-based testing markets or if there is an increase in developing testing utilities internally by the Company's customers or potential customers. A variety of external and internal factors could adversely affect the Company's ability to compete. These include the relative functionality, price/performance and reliability of the products offered by the Company and its competitors, the timing and success of new product development or enhancement efforts of the Company and its competitors and the effectiveness of the marketing efforts of the Company and its competitors. There can be no assurance that the Company will be able to compete successfully in the future or that competitive pressures will not adversely affect the Company's business. MANUFACTURING The Company's products are principally composed of user manuals and storage media, such as diskettes, tapes and/or CD-ROM, much of which is produced by the Company in its facility in Israel. The Company believes that there is an adequate supply of and source for the raw materials for its products and that there are multiple sources available for storage media duplication and manual printing. The Company performs final quality-control tests on its products. Although the Company believes that its quality control activities effectively accomplish the Company's product quality goals, there can be no assurance that the Company's quality control efforts will always be completely successful. Undetected material programming errors, product tampering, and exposure to a computer virus in the product development, duplication, assembly or distribution process, whether performed by the Company, its contractors, distributors, or resellers, could have a material adverse effect on shipments of new and existing products. Assembly and packaging of final products are performed both by the Company and by domestic and overseas subcontractors of the Company. PATENTS, TRADEMARKS AND LICENSES The Company primarily relies upon a combination of copyright, trademark and trade secret laws and license agreements to establish and protect proprietary rights in its products. The source code for the Company's products is protected both as a trade secret and as an unpublished copyrighted work. Despite these precautions, it may be possible for a third party to copy or otherwise obtain and use the Company's products or technology without authorization, or to develop similar technology independently. In addition, effective copyright and trade secret protection may be unavailable or limited in certain foreign countries. Because the software industry is characterized by rapid technological change, the Company believes that factors such as the technological and creative skills of its personnel, new product developments, frequent product 7 enhancements, name recognition and reliable product maintenance are more important to establishing and maintaining a technology leadership position than the various legal protections of its technology. The Company holds one patent on an element contained in certain of its products, and it has filed several other U.S. and foreign patent applications on various elements of its products. There can be no assurance that patents will be issued with respect to any of those applications or, if issued, that the patents will provide meaningful protection for the Company. Although the Company believes that its products and other proprietary rights do not infringe the proprietary rights of third parties, and although the Company has received no communications from third parties alleging the infringement of the proprietary rights of such parties, except as discussed under "Item 3, Legal Proceedings", there can be no assurance that infringement claims will not be asserted against the Company in the future or that any such claims will not require the Company to enter into royalty arrangements or result in costly litigation. PERSONNEL As of December 31, 1996, the Company had a total of 380 employees, of which 147 were based in the United States and 233 were based internationally. Of the total, 178 were engaged in marketing, sales and related customer support services, 160 were in research and development, and 42 were in general and administrative functions. The Company's future success depends in significant part upon the continued service of its key sales, technical and managerial personnel and its continuing ability to attract and retain highly qualified sales, technical and managerial personnel. Competition for such personnel is intense and there can be no assurance that the Company can retain its key sales, technical and managerial employees or that it can attract, assimilate or retain other highly qualified sales, technical and managerial personnel in the future. None of the Company's employees are represented by a labor union. The Company has never experienced any work stoppages. The executive officers of the Company as of March 1, 1997, are as follows:
NAME AGE POSITION - ---- --- -------- Aryeh Finegold 50 Chairman of the Board of Directors Amnon Landan 38 President, Chief Executive Officer and Director Sharlene Abrams 39 Vice President of Finance and Administration, Chief Financial Officer and Secretary Kenneth R. Klein 37 Vice President of North American Sales
Mr. Aryeh Finegold, a founder of the Company, has served as Chairman of the Board of Directors since the Company's incorporation in July 1989, served as Chief Executive Officer from July 1989 until January 1997 and served as President from July 1989 until March 1995. Previously, Mr. Finegold was President, Chief Executive Officer and Chairman of the Board of Directors of Ready Systems, Inc. He also co-founded Daisy Systems, Inc., serving as its President and Chief Executive Officer. Previously, Mr. Finegold was a product line architect in the micro-processor division at Intel Corporation. Mr. Amnon Landan has served as President and Chief Executive Officer of the Company since February 1997, and has been a director of the Company since February 1996. From October 1995 to January 1997 he served as President, and from March 1995 to September 1995 he served as President of North American Operations. He served as Chief Operating Officer from August 1993 until March 1995. From December 1992 to August 1993, he served as the Company's Vice President of Operations and from June 1991 to December 1992, he served as Vice President of Research and Development. From November 1989 to June 1991, he served in several technical positions with the Company. 8 Ms. Sharlene Abrams has served as Vice President of Finance and Administration and Chief Financial Officer of the Company since November 1993. She has served as Secretary of the Company since February 1996. Prior to joining the Company, Ms. Abrams was employed at Price Waterhouse LLP for more than five years, most recently as a senior manager. Mr. Kenneth R. Klein has served as Vice President of North American Sales for the Company since April 1995. From May 1992 to March 1995, he served as the Company's Western Area Sales Manager. From March 1990 to May 1992, Mr. Klein served as Regional Sales Manager for Interactive Development Environments, a CASE tool company. OPERATIONS IN ISRAEL The Company's research and development operations are primarily located in Israel and may be affected by economic, political and military conditions in that country. The Company's business is also dependent on trading relationships between Israel and other countries. Accordingly, the Company's operations could 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 the high technology industry in that country. The Company's operations also benefit from the availability of highly skilled and relatively low cost scientific and technical personnel in Israel. 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. ITEM 2. PROPERTIES The Company is headquartered in Sunnyvale, California, where it leases approximately 33,000 square feet under a lease that expires in July 1998. The Company's research and development activities are conducted by the Company's subsidiary in Israel, where that subsidiary leases approximately 23,800 square feet under a lease that expires in December 2000. In addition, in 1995, the Company purchased land in Israel for potential future expansion. The Company's field sales and support operations occupy leased facilities in 12 locations in the United States, one location in Canada, three locations in Europe and three locations in the Pacific Rim.. The Company believes that its existing facilities are adequate for its current needs and that additional space will be available as needed. ITEM 3. LEGAL PROCEEDINGS During 1994 and 1995, the Company and its Chairman had been engaged in the defense of certain lawsuits brought by a former employee. As a result of settlement negotiations which commenced during 1995, the matters were settled for $2.0 million, which the Company recorded during the fourth quarter of 1995. On August 21, 1995, the Company was served with a complaint filed in the United States District Court for the Eastern District of Virginia by Performix, Inc., a software company located in McLean, Virginia. The complaint alleges that an employee of the Company attempted to copy without authorization one of the plaintiff's software programs. The matter was settled on March 7, 1996 and, as a result, the Company recorded a charge of approximately $2.6 million during the quarter ending March 31, 1996, reflecting settlement costs and related legal fees. On February 13, 1995, the Company's U.K. subsidiary, Mercury Interactive (UK) Limited, was served with a complaint brought by Mercury Communications Limited ("Mercury Communications") a subsidiary of Cable and Wireless PLC. The complaint alleges that use by the Company's subsidiary of "Mercury" and "Mercury 9 Interactive" in the U.K. infringes upon Mercury Communications' U.K. trademark rights. On March 13, 1996, the Company settled this matter without material adverse effect on the consolidated financial position or results of operations of the Company. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS No matters were submitted during the fourth quarter of 1996 to a vote of the holders of Mercury Interactive Corporation's Common Stock through the solicitation of proxies or otherwise. PART II ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS MARKET FOR COMMON STOCK Mercury Interactive Corporation Common Stock is traded on the Nasdaq National Market tier of The Nasdaq Stock Market under the symbol MERQ. The following table lists the high and low sales price since January 1, 1995:
HIGH LOW ------ ------ 1996: First quarter ended March 31................................ $24.00 $14.00 Second quarter ended June 30................................ $23.75 $11.25 Third quarter ended September 30............................ $16.00 $11.25 Fourth quarter ended December 31............................ $19.25 $ 9.50 1995: First quarter ended March 31................................ $17.75 $12.00 Second quarter ended June 30................................ $24.25 $17.00 Third quarter ended September 30............................ $28.63 $20.00 Fourth quarter ended December 31............................ $28.25 $18.00
The trading price of the Company's Common Stock is subject to wide fluctuations in response to quarterly variations in operating results, announcements of technological innovations or new products by the Company or its competitors, as well as other events or factors. In addition, the stock market has from time to time experienced extreme price and volume fluctuations that have particularly affected the market price of many high technology companies and that often have been unrelated to the operating performance of these companies. These broad market fluctuations may adversely affect the market price of the Company's Common Stock. HOLDERS OF RECORD On February 28, 1997, there were approximately 5,300 holders of record of Mercury Interactive Corporation Common Stock. DIVIDENDS The Company paid no dividends during fiscal 1996. The Company intends to retain earnings for use in its business and does not anticipate paying any cash dividends in the foreseeable future. 10 ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA
YEAR ENDED DECEMBER 31, --------------------------------------------- 1996 1995 1994 1993 1992 -------- -------- ------- ------- ------- (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) Statement of Operations Data: Revenue: License....................... $ 43,270 $ 32,765 $20,270 $11,830 $ 4,287 Service....................... 11,280 6,685 3,180 1,170 45 -------- -------- ------- ------- ------- Total revenue............... 54,550 39,450 23,450 13,000 4,332 -------- -------- ------- ------- ------- Cost of revenue: License....................... 3,419 2,626 1,594 1,637 667 Service....................... 3,240 1,887 872 364 35 -------- -------- ------- ------- ------- Total cost of revenue....... 6,659 4,513 2,466 2,001 702 -------- -------- ------- ------- ------- Gross profit.................... 47,891 34,937 20,984 10,999 3,630 -------- -------- ------- ------- ------- Operating expenses: Research and development...... 10,499 14,355 4,710 2,506 2,289 Less: grants.................. (2,203) (1,567) (1,156) (717) (629) -------- -------- ------- ------- ------- Research and development, net. 8,296 12,788 3,554 1,789 1,660 -------- -------- ------- ------- ------- Marketing and selling......... 30,460 23,146 11,128 7,005 4,142 Less: grants.................. -- (350) (821) -- -- -------- -------- ------- ------- ------- Marketing and selling, net.... 30,460 22,796 10,307 7,005 4,142 General and administrative.... 4,113 3,911 2,531 996 1,182 Settlement of litigation...... 2,600 2,000 -- -- -- -------- -------- ------- ------- ------- Total operating expenses.... 45,469 41,495 16,392 9,790 6,984 -------- -------- ------- ------- ------- Income (loss) from operations... 2,422 (6,558) 4,592 1,209 (3,354) Other income, net............... 3,361 2,277 1,348 209 83 -------- -------- ------- ------- ------- Income (loss) before provision for income taxes............... 5,783 (4,281) 5,940 1,418 (3,271) Provision for income taxes...... 1,157 970 891 56 -- -------- -------- ------- ------- ------- Net income (loss)............... $ 4,626 $ (5,251) $ 5,049 $ 1,362 $(3,271) ======== ======== ======= ======= ======= Net income (loss) per share..... $ 0.28 $ (0.38) $ 0.38 $ 0.12 $ (1.50) ======== ======== ======= ======= ======= Weighted average common shares and equivalents................ 16,563 13,947 13,337 11,338 2,180 ======== ======== ======= ======= ======= DECEMBER 31, --------------------------------------------- 1996 1995 1994 1993 1992 -------- -------- ------- ------- ------- Balance Sheet Data: Working capital............... $ 78,082 $ 75,475 $33,722 $31,069 $ 4,523 Total assets.................. 117,489 112,820 49,594 41,733 11,056 Long-term debt................ -- -- -- 441 473 Stockholders' equity.......... 99,039 92,616 39,167 33,003 5,705
11 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS RESULTS OF OPERATIONS The following table sets forth, as a percentage of revenues, certain consolidated statement of operations data for the periods indicated (after giving effect to rounding). These operating results are not necessarily indicative of the results for any future period.
YEAR ENDED DECEMBER 31, ----------------- 1996 1995 1994 ---- ---- ---- Revenue: License.................................................... 79% 83% 86% Service.................................................... 21 17 14 --- --- --- Total Revenue............................................ 100 100 100 --- --- --- Cost of revenue: License.................................................... 6 7 7 Service.................................................... 6 4 4 --- --- --- Total cost of revenue.................................... 12 11 11 --- --- --- Gross margin............................................... 88 89 89 --- --- --- Operating expenses: Research and development, net.............................. 15 32 15 Marketing and selling, net................................. 56 58 44 General and administrative................................. 7 10 11 Settlement of litigation................................... 5 5 -- --- --- --- Total operating expenses................................. 83 105 70 --- --- --- Income (loss) from operations................................ 5 (16) 19 Other income, net............................................ 6 5 6 --- --- --- Income (loss) before provision for income taxes.............. 11 (11) 25 --- --- --- Provision for income taxes................................... 2 2 4 --- --- --- Net income (loss)............................................ 9% (13)% 21% === === ===
Revenue License revenue increased to $43.3 million in 1996 from $32.8 million in 1995 and $20.3 million in 1994. The Company's growth in license revenue is attributable primarily to growth in license fees from the LoadRunner product as well as sales of TestSuite, which was released in June 1995. License revenue also benefited from the Company's ongoing expansion into alternate sales and distribution channels, such as referral partners, system integrators and value added resellers. License revenue included approximately $23.5 million and $7.5 million from indirect sales channels in 1996 and 1995, respectively, excluding, in 1995, a one time payment of $1.7 million from Compuware, in exchange for the right to OEM the Company's products. Revenue received from alternate channels was not significant in 1994. Service revenue increased to $11.3 million or 21% of total revenue in 1996 from $6.7 million or 17% of total revenue in 1995 and $3.2 million or 14% of total revenue in 1994. This increase in service revenue in 1996 compared to 1995 and 1994 is primarily due to increases in the Company's base of installed users and the associated increase in maintenance, customer training and support revenue. The Company expects that service revenue will continue to increase in absolute dollars as long as the Company's customer base continues to grow. International revenue represented 37%, 29%, and 26% of total revenue in 1996, 1995 and 1994, respectively. The Company continued to expand operations internationally during 1996 and 1995 and increased 12 international headcount and marketing and sales activities. The increase in international revenue, as a percentage of total revenue in 1996 compared to 1995 and 1994, resulted primarily from additional license revenue in Europe and the Pacific Rim. The Company expects international revenue to continue to increase in absolute dollars and, to a lesser extent, as a percentage of revenue in the future; however, achievement of these results cannot be assured. Cost of revenue License cost of revenue, as a percentage of license revenue, was 8% in 1996, 1995 and 1994. License cost of revenue primarily reflects personnel related costs. Service cost of revenue, as a percentage of service revenue, was relatively unchanged at 29% in 1996 compared to 28% in 1995, and 27% in 1994. Service cost of revenue consists primarily of costs of providing customer technical support, education and consulting. Research and development For the year ended December 31, 1996, research and development expense was $8.3 million, compared to $12.8 million in 1995 and $3.6 million in 1994. The expense for 1995 included certain non-recurring charges comprised of write-off of in-process research and development and obsolete technology totaling approximately $6.3 million and $650,000, respectively, as well as approximately $750,000 of incentive compensation payments related to the 1995 acquisitions of Blue Lagoon and Semantica. (See Note 8 to Notes to Consolidated Financial Statements.) Total research and development expense for each of the three years is net of certain grants received by the Company's research and development subsidiary in Israel. Excluding the non-recurring charges, research and development expenditures, before reductions for grants, increased to $10.5 million, or 19% of total revenue in 1996, from $6.7 million, or 17% of total revenue in 1995, and $4.7 million, or 20% of total revenue in 1994. The increase in research and development expense is primarily attributable to increases in research and development personnel, which grew to 160 people at December 31, 1996 from 131 people at December 31, 1995 and 95 people at December 31, 1994 and, in 1996, to increased use of research and development subcontractors. The Company obtained grants for research and development from the Office of the Chief Scientist in the Israeli Ministry of Industry and Trade in the amounts of $1.8 million, $1.6 million and $1.2 million in 1996, 1995 and 1994, respectively. The Company expects to apply for additional grants in 1997, but receipt of such grants cannot be assured. These grants are accounted for using the cost reduction method, under which research and development expenses are decreased by the amounts of the grants. The Company is not obligated to repay these grants; however, it has agreed to pay royalties at rates ranging from 2% to 5% of product sales resulting from the research, up to the amount of the grants obtained and for certain grants up to 150% of the grants obtained. Royalty expense under these agreements amounted to approximately $1.1 million, $1.4 million and $0.6 million for the years ended December 31, 1996, 1995, and 1994, respectively. As of December 31, 1996, the Company is committed to pay, if and when earned, $3.3 million in additional royalties. The Company also obtained grants in the total amount of $391,000 during the first half of 1996 for research and development projects from the Israel-U.S. Binational Industrial Research and Development Foundation ("BIRD-F"). There were no BIRD-F grants received in the second half of 1996. The grants are accounted for using the cost reduction method, under which research and development expenses are decreased by the amount of the grant obtained. The Company is not obligated to repay these grants; however, it has agreed to pay BIRD-F royalties at the rate of up to 5% of sales of any product or development resulting from such research, but not in excess of 150% of the grant. Royalty expense under BIRD-F grants amounted to approximately $5,000 for each of the years ended December 31, 1996 and 1995, and $133,000 for the year ended December 31, 1994. As of December 31, 1996, the Company is committed to pay, if and when earned, approximately $1.3 million in royalties. 13 The Company capitalized approximately $1,340,000 and $885,000 of software development costs during the years ended December 31, 1996 and 1995, respectively, in accordance with Statement of Financial Accounting Standards No. 86, "Accounting for the Costs of Computer Software to be Sold, Leased, or Otherwise Marketed." The amount capitalized represented approximately 11% and 12% of the gross research and development expenses in 1996 and 1995, excluding, in 1995, $7.7 million in write-offs of in-process research and development, obsolete technology and incentive compensation related to the Blue Lagoon and Semantica acquisitions. The Company recorded amortization expense of $300,000 in 1996. At December 31, 1996, 1995 and 1994, the Company had a net balance of capitalized software development costs of $1,535,000, $495,000 and $60,000, respectively. The Company intends to continue making significant expenditures on research and development to develop new products and expand the platforms and operating systems on which its products are offered. While the Company believes that these current research and development expenditures will be beneficial in the long term development of its business, there can be no assurances that the development of products will be successful or will not be rendered obsolete by future technology acquisitions or development. Research and development expenditures are incurred substantially in advance of related revenue and in some cases do not result in the generation of revenue. Marketing and selling Marketing and selling expenses were $30.5 million in 1996, compared to $22.8 million in 1995 and $10.3 million in 1994. The 1995 expense included approximately $2.6 million of non-recurring charges, including $1.2 million related to the acquisitions of Blue Lagoon and Semantica (principally, special incentive payments to management and write-off of fixed assets), and an additional $900,000 for severance payments to employees related to the 1995 restructuring of the Company's international operations. The remaining non- recurring amount of $550,000 reflects a 1995 provision for disputed royalties potentially payable under research and development grants received from the Office of the Chief Scientist in Israel. Estimated penalties and interest of $150,000 related to the potential assessment were recorded in 1995 as other income, net. During the third quarter of 1996, the Company resolved this matter and, as a result, recorded benefits of $300,000 and $150,000 to marketing and selling expenses and other income, net, respectively. Excluding these non-recurring items, marketing and selling expenses increased to $30.8 million, or 57% of revenue in 1996, from $20.2 million, or 51% of revenue in 1995, and $10.3 million, or 44% of revenue in 1994. Approximately $2.5 million of the increase during 1996 and $1.8 million of the increase during 1994 resulted from increased worldwide marketing and sales activities, including increased advertising and marketing communications, increased participation in seminars and trade shows and expansion into alternate distributions channels. In addition, the increase in expenses reflects increases in personnel in the marketing and sales departments to 132 employees at December 31, 1996 from 85 employees at December 31, 1995 and 59 employees at December 31, 1994. Personnel-related expenses, including travel and commissions, resulted in approximately $5.1 million of the increase during 1996 and $6.4 million of the increase during 1995. The remainder of the year-to-year spending increases reflect primarily additional costs for facilities and office equipment and, in 1995, additional royalty payments on Chief Scientist grants. The Company obtained grants in the amounts of $350,000 and $821,000 during 1995 and 1994, respectively, from the Government of Israel through the Fund for the Encouragement of Marketing Activities ("the Marketing Fund") which were used to offset marketing expenses for the year. Under the terms of the marketing grant, if and when export sales from Israel to certain countries exceed a predetermined base of historical export sales from Israel, a royalty of 3% of the increase in export sales from Israel must generally be paid, up to the amount of the grant obtained. Royalty expense under this agreement amounted to approximately $420,000 and $181,000 in 1996 and 1995 and has been included in marketing and selling expense. As of December 31, 1996, the Company is committed to pay, if and when earned, $550,000 in royalties. 14 General and administrative General and administrative expense increased to $4.1 million, or 7% of revenue in 1996, from $3.9 million, or 10% of revenue in 1995, and $2.5 million, or 11% of revenue in 1994. The increases reflect primarily additions in headcount to support expanding operations and increased legal costs. Other income, net Other income, net consists primarily of interest income and foreign exchange gains and losses. In 1996, the Company earned interest income primarily on its investments in municipal equity securities and other tax favored instruments. In 1995, the Company's investments consisted primarily of U.S. Treasury securities and municipal and federal agency issues. The significant increase in other income, net to $3.4 million in 1996 from $2.3 million in 1995 and $1.3 million in 1994 resulted from the investment of the proceeds from the Company's secondary offering of Common Stock in August 1995. Provision for income taxes The Company has accounted for income taxes in accordance with the provisions of Statement of Financial Accounting Standards No. 109, "Accounting for Income Taxes," for all periods presented. In 1994, the Company utilized its remaining U.S and Israeli net operating losses, which offset a portion of its taxable income for the year. As a result, the effective tax rate for the year was 15%. The tax provision recorded for 1995 reflected U.S. and foreign taxes after consideration of non-deductible charges related to the Blue Lagoon and Semantica acquisitions. The Company participates in special programs sponsored by the government of Israel relating to taxation. Provisions in future years will depend upon the mix of worldwide income and the tax rates in effect for various tax jurisdictions. Net income (loss) The Company reported net income of $4.6 million in 1996, compared to a net loss of $5.3 million in 1995 and net income of $5.0 million in 1994, respectively. The results of operations for 1995 were impacted by the Blue Lagoon and Semantica acquisitions and other non-recurring events, discussed above. The Company's operating expenses are based in part on its expectations of future revenues, and expenses are generally incurred in advance of revenues. The Company plans to continue to expand and increase its operating expenses to support anticipated revenue growth. If revenues do not materialize in a quarter as expected, the Company's results from operations for that quarter are likely to be materially adversely affected. Results of operations may be disproportionately affected by a reduction in revenues because only a small portion of the Company's expenses varies with its revenues. INFLATION Inflation has not had a significant impact on the Company's operating results to date. FACTORS THAT MAY AFFECT FUTURE RESULTS The statements in this Item 7 in the last sentence of each of the second and third paragraphs under the caption "Revenue", the first sentence of the sixth paragraph under the caption "Research and Development," the fourth sentence in the paragraph under the caption "Net Income (Loss)", the last sentence in the third paragraph and the second sentence in the tenth paragraph under this caption "Factors that May Affect Future Results" and the fourth paragraph under the caption "Liquidity and Capital Resources" are forward looking statements. In addition, the Company may from time to time make oral forward looking statements. The factors set forth under the captions "Revenue," "Research and Development," "Net Income (Loss)" and "Liquidity and Capital Resources" as well as the following, are important risk factors that could cause actual results to differ materially from those projected in any such forward looking statements. 15 The market for software products, and in particular, internet-related products, is generally characterized by rapidly changing technology, frequent new product introductions and changes in customer requirements, which can render existing products obsolete or unmarketable. The Company believes that a major factor in its future success will be its ability to continue to develop and introduce in a timely and cost-effective manner enhancements to its existing products and new products that will gain market acceptance. There can be no assurance that the Company will be able to identify, develop, manufacture, market or support new products or enhancements successfully, that any new products or enhancements will gain market acceptance, or that the Company will be able to respond effectively to technological changes. There can be no assurance that the Company will not encounter technical or other difficulties that could delay introduction of new products in the future. If the Company is unable to introduce new products or enhancements and respond to industry changes on a timely basis, its business could be materially adversely affected. The market for automated software testing products is relatively new and undeveloped. Marketing and sales techniques in the automated software testing marketplace, as well as the bases for competition, are not well established. There can be no assurance that a significant market for automated software testing products will be developed or that the Company's products will be accepted in any expanded market. Although the Company believes that the current trend toward increased use of automated software testing will continue, a majority of software testing is still carried out manually, and there can be no assurance that the automated software market will enjoy continued growth. The Company's current products and products under development are limited in number and concentrated exclusively in the software testing market. The life cycles of the Company's products are difficult to estimate due in large measure to the recent emergence of the Company's market as well as the unknown future effect of product enhancements and competition. Price reductions or declines in demand for the Company's software testing products, whether as a result of competition, technological change or otherwise, would have a materially adverse effect on the Company's results of operations or financial position. The Company may from time to time experience significant fluctuation in quarterly operating results. Such fluctuations in quarterly operating results may occur in the future due to many factors, some of which are outside of the Company's control. Products are generally shipped as orders are received, and, consequently, quarterly sales and operating results depend primarily on the volume and timing of orders received during the quarter, which are difficult to forecast. In particular, the Company has historically received a substantial portion of its orders at the end of the quarter. If an unanticipated order shortfall occurs at the end of a quarter, the Company's operating results for that quarter could be materially adversely affected. A significant portion of the Company's operating expenses are relatively fixed, and planned expenditures are based on sales forecasts. All of the foregoing may result in unanticipated quarterly earning shortfalls or losses. Accordingly, the Company believes that period-to-period comparisons of its results of operations are not necessarily meaningful and should not be relied upon as indications of future performance. The Company faces direct competition from several public and privately-held companies. The market for software products in general is highly competitive and the Company expects to face competition from established and emerging companies. There could be a material adverse effect on the Company's results of operations or financial position if any of the major software manufacturers, which have significantly greater resources than the Company, decided to devote substantial resources to entering the software or Web-based testing markets or if there is an increase in developing testing utilities internally by the Company's customers or potential customers. A variety of external and internal factors could materially adversely affect the Company's ability to compete. These include the relative functionality, price/performance and reliability of the products offered by the Company and its competitors, the timing and success of new product development or enhancement efforts of the Company and its competitors, and the effectiveness of the marketing efforts of the Company and its competitors. There can be no assurance that the Company will be able to compete successfully in the future or that competitive pressures will not materially adversely affect the Company's business. 16 Sales to customers located outside the United States have historically accounted for a significant percentage of revenue and the Company anticipates that such sales will continue to be a significant percentage of the Company's total revenue. Accordingly, factors such as currency fluctuations, political and economic instability and trade restrictions could have a negative impact on the Company's financial performance. The Company is continuing to strengthen its European sales organization to enhance that organization's contribution to revenues. During the third quarter of 1996, the Company hired sales managers in the U.K. and France and is currently recruiting other sales personnel in Europe. However, the success of these efforts is not assured and depends in part on the Company's ability to attract, develop and retain successful sales personnel in that region. If European or other international revenues do not materialize in a quarter as expected, the Company's results from operations for that quarter are likely to be materially adversely affected. A significant portion of the Company's operating expenses are relatively fixed, and planned expenditures are based on sales forecasts. All of the foregoing may result in unanticipated quarterly earning shortfalls or losses. Certain of the Company's sales are made in currencies other than the U.S. Dollar and its financial results are reported in U.S. Dollars. Fluctuations in the rates of exchange between the U.S. Dollar and other currencies may have a materially adverse effect on the Company's results of operations and financial position. To date, the Company has not hedged against currency translation risks. As part of its growth strategy, the Company may from time to time acquire or invest in complementary businesses, products or technologies. For example, during 1995, the Company acquired Blue Lagoon Software and EBY Semantica. While there are currently no commitments with respect to any particular acquisition, Company management frequently evaluates the strategic opportunity available related to complementary products, technologies or businesses. The process of integrating an acquired company's business into the Company's operations may result in unforeseen operating difficulties and expenditures and may absorb significant management attention that would otherwise be available for the ongoing development of the Company's business. Moreover, there can be no assurance that the anticipated benefits of any acquisition will be realized. Future acquisitions by the Company could result in potentially dilutive issuances of equity securities, the incurrence of additional expenses, debt or contingent liabilities as well as amortization expenses related to goodwill or other intangible assets, any of which could materially adversely affect the Company's operating results and financial condition. Since its inception, the Company has obtained royalty-bearing grants from various Israeli government agencies. While the Company expects to receive additional grants in the future, any such grants will likely decline as a percentage of gross research and development spending and there can be no assurance that the Company will receive any such grants. Termination or substantial reduction of such grants or changes in revenue classification affecting royalties could have a materially adverse effect on the Company. The terms of certain grants prohibit the manufacture of products developed under these grants outside of Israel and the transfer of technology developed pursuant to the terms of these grants to any person, without the prior written consent of the government of Israel. As a result, if the Company is unable to obtain the consent of the government of Israel, the Company may not be able to take advantage of strategic manufacturing and other opportunities outside of Israel. Since 1991, the Company has experienced significant annual increases in revenue. This growth has placed and, if it continues, will place a significant strain on the Company's management, resources and operations. To accommodate its growth, the Company is implementing a variety of new or expanded business and financial systems, procedures and controls, including the improvement of its accounting and other internal management systems. There can be no assurance that the implementation of such systems, procedures and controls can be completed successfully, or without disruption of the Company's operations. If the Company's growth continues, the Company may be required to hire and integrate substantial numbers of new employees. The market has become increasingly competitive both in the United States and Israel and may require the Company to pay higher salaries. The Company's failure to manage growth effectively could have a materially adverse effect on the Company's results of operations or financial position. 17 The Company's success depends to a significant extent on the performance of its senior management and certain key employees. Competition for highly skilled employees, including sales, technical and management personnel is intense in the computer industry. The Company's failure to attract additional qualified employees or to retain the services of key personnel could materially adversely affect the Company's business. The Company currently relies on a combination of trademark, copyright and trade secret laws and contractual provisions to protect its proprietary rights in its products. The Company presently has no registered copyrights. The Company holds one patent on an element contained in certain of its products, and it has filed several other U.S. and foreign patent applications on various elements of its products. There can be no assurance that patents will be issued with respect to any of those applications or, if issued, that the patents will provide meaningful protection for the Company. There can be no assurance that the Company's competitors will not independently develop technologies that are substantially equivalent or superior to the Company's technology. There can also be no assurance that the measures taken by the Company to protect its propriety rights will be adequate to prevent misappropriation for the technology or independent development by others of similar technology. In addition, the laws of various countries in which the Company's products may be sold may not protect the Company's products and intellectual property rights to the same extent as the laws of the United States. There can be no assurance that third parties will not assert intellectual property infringement claims against the Company or that any such claims will not require the Company to enter into royalty or cross-license arrangements or result in costly litigation. In selling its products, the Company relies primarily on "shrink wrap" licenses that are not signed by licensees. The provisions in such licenses limiting the Company's exposure to potential product liability claims may therefore be unenforceable under the laws of certain jurisdictions. Although the Company carries errors and omissions insurance against such claims, there can be no assurance that such insurance will continue to be available on acceptable terms, if at all, or that such insurance will provide the Company with adequate protection against any such claims. Although the Company has not experienced any product liability claims to date, the sale and support of products by the Company may entail the risk of such claims. A significant product liability claim against the Company could have a material adverse effect upon the Company's business, financial condition and results of operations. The Company's stock price has been and will continue to be subject to significant volatility. Past financial performance should not be considered a reliable indicator of future performance, and investors should not use historical trends to anticipate results or trends in future periods. If revenues or earnings in any quarter fail to meet expectations of the investment community, there could be an immediate and significant impact on the Company's stock price. In addition, the Company's stock price may be affected by broader market trends that may be unrelated to the Company's performance. The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the recorded amounts of assets and liabilities, disclosure of those assets and liabilities at the date of the financial statements and the recorded amounts of expenses during the reporting period. A change in the facts and circumstances surrounding these estimates could result in a change to the estimates and impact future operating results. LIQUIDITY AND CAPITAL RESOURCES From its inception in 1989 through its initial public offering, the Company financed its operations primarily through private sales of equity securities in an aggregate amount of $12.6 million and cash generated from operations. In addition, the Company has obtained cumulative grants of $6.2 million, which were used for marketing and research and development activities. The Company completed its initial public offering of Common Stock in November 1993, in which it raised $25.8 million. In August 1995, the Company completed its secondary public offering of Common Stock which raised an additional $53.7 million. 18 Cash, cash equivalents and investments decreased to $80.0 million at December 31, 1996 from $85.7 million at December 31, 1995. The Company used $2.9 million of cash for operating activities, including an increase in trade accounts receivable as a result of increased revenues, and payments of certain costs associated with the acquisitions of Blue Lagoon and Semantica, legal expenses, and restructuring of international operations. During 1996, the Company received $1.9 million in cash from the issuance of Common Stock under its employee stock option and purchase plans. At December 31, 1996 the Company held approximately $26.7 million in short-term investments and $9.0 million in long-term investments, which consisted of investments in high quality financial, government and corporate securities. The Company used $4.6 million, $7.0 million and $3.2 million in cash for purchases of capital equipment during 1996, 1995 and 1994, respectively. In 1995, in addition to expenditures for computers and related equipment, the Company purchased land in Israel for $2.6 million for potential future expansion. The purchases in 1996 and 1994 were primarily for computers and related equipment. As of December 31, 1996, the Company had no material commitments for capital expenditures. Assuming there is no significant change in the Company's business, the Company believes that its current cash and investment balances and cash flow from operations will be sufficient to fund the Company's cash needs for at least the next twelve months. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA Financial statements required pursuant to this Item are presented beginning on page F-1 of this report. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE During the twenty-four month period preceding December 31, 1996, the Company neither changed accountants nor had disagreements with its accountants on any matter of accounting principles or practices, financial statement disclosure or auditing scope and procedures. PART III Certain information required by Part III is omitted from this Annual Report on Form 10-K because the Company will file a definitive proxy statement within 120 days after the end of its fiscal year pursuant to Regulation 14A (the "Proxy Statement") for its Annual Meeting of Stockholders, currently scheduled for April 30, 1997, and the information included in the Proxy Statement is incorporated herein by reference. ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT The information concerning the Company's officers required by this Item is incorporated by reference to the section of Part I of this Annual Report entitled "Item 1. Business--Personnel." The information concerning the Company's directors required by this Item is incorporated by reference to the information under the heading "Election of Directors--Nominees" in the Company's Proxy Statement. ITEM 11. EXECUTIVE COMPENSATION The information required by this Item is incorporated by reference to the Company's Proxy Statement under the heading "Executive Compensation." ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT The information required by this Item is incorporated by reference to the Company's Proxy Statement under the heading "Security Ownership of Certain Beneficial Owners and Management." ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS The information required by this Item is incorporated by reference to the Company's Proxy Statement under the heading "Certain Transactions." 19 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K (a) The following documents are filed as a part of this report: 1. Financial Statements. The following financial statements of Mercury Interactive Corporation are filed as a part of this report:
PAGE ---- Report of Independent Accountants F-1 Consolidated Balance Sheet at December 31, 1996 and 1995 F-2 Consolidated Statement of Operations for the years ended December 31 1996, 1995 and 1994 F-3 Consolidated Statement of Stockholders' Equity for the years ended December 31, 1996, 1995 and 1994 F-4 Consolidated Statement of Cash Flows for the years ended December 31, 1996, 1995 and 1994 F-5 Notes to Consolidated Financial Statements F-6
2. Schedules The following financial statement schedule is filed as part of this Form 10-K: Schedule II--Valuation and Qualifying Accounts for the Three Years Ended December 31, 1996 Financial statement schedules not listed above have been omitted because they are not applicable or the required information is shown in the financial statements or notes thereto. 3. Exhibits 2.1 /6/ Agreement and Plan of Reorganization by and among the Company, Blue Lagoon Software and David L. Cherin dated April 25, 1995. 2.2 Share Purchase Agreement between the Company and EBY-Semantica, executed December 12, 1995. 3.3 /1/ Certificate of Incorporation of Registrant, as amended and restated to date. 3.4 /1/ By-laws of Registrant, as amended to date. 10.1 /1/,/2/ 1989 Stock Option Plan and forms of Incentive Stock Option Agreement and Nonstatutory Stock Option Agreement. 10.2 /1/ Form of Directors' and Officers' Indemnification Agreement. 10.3 /1/ Registration and Information Rights Agreement made as of March 13, 1992. 10.4 /7/ Lease Agreement dated August 19, 1994 between the Registrant, and Microtec Research, Inc., covering the property at 470 Potrero Avenue, Sunnyvale, California. 10.5 /1/ Lease Agreement dated August 30, 1990 between the Registrant and Reuven Down covering the property at 4 Hayotzrim Street, Or Yehudah, a suburb of Tel Aviv, Israel (translated from original Hebrew). 10.7 /1/ Consulting Agreement by and between the Registrant and Aryeh Finegold, dated March 1, 1992. 10.8 /1/ Agreement by and between Mercury Interactive (Israel) Limited, a wholly-owned subsidiary of the Registrant ("Mercury Israel"), and the Office of the Chief Scientist in the Ministry of Industry and Trade dated February 11, 1991 (translation from original Hebrew). 10.9 /1/ Agreement by and between Mercury Israel and the Office of the Chief Scientist in the Ministry of Industry and Trade dated February 10, 1992 (translation from original Hebrew).
20 3. Exhibits 10.10 /1/ Agreement by and between Mercury Israel and the Office of the Chief Scientist in the Ministry of Industry and Trade dated December 13, 1992 (translation from original Hebrew). 10.11 /1/,/2/ Form of 1993 Employee Stock Purchase Plan and form of Agreements. 10.12 /1/ 401(k) Plan. 10.14 /1/ Microsoft Solutions Channel Alliance Agreement dated March 5, 1993 between Registrant and Microsoft Corporation. 10.15 /2/,/4/ 1994 Directors' Stock Option Plan and form of Agreements. 10.16 /3/ Agreement by and between Mercury Israel and the Office of the Chief Scientist in the Ministry of Industry and Trade dated May 5, 1993 (translation from original Hebrew). 10.17 /3/ Agreement by and between Mercury Israel and the Office of the Chief Scientist in the Ministry of Industry and Trade dated June 21, 1993 (translation from original Hebrew). 10.18 /3/ Agreement by and between Mercury Israel and the Fund for the Encouragement of Marketing Abroad in the Ministry of Industry and Trade dated February 15, 1993 (translation from original Hebrew). 10.19 /5/ Agreement by and between Mercury Israel and the Office of the Chief Scientist in the Ministry of Industry and Trade dated November 13, 1994 (translation from original Hebrew). 10.20 /5/ Agreement by and between Mercury Israel and the Office of the Chief Scientist in the Ministry of Industry and Trade dated November 13, 1994 (translation from original Hebrew). 10.21 /7/ Agreement by and between Mercury Israel and the Fund for the Encouragement of Marketing Abroad in the Ministry of Industry and Trade dated January 1, 1996 (translation from original Hebrew). 10.22 /7/ Agreement by and between Mercury Israel and the Office of the Chief Scientist in the Ministry of Industry and Trade dated September 30, 1995 (translation from original Hebrew). 10.23 /7/ Agreement by and between Mercury Israel and the Office of the Chief Scientist in the Ministry of Industry and Trade dated September 30, 1995 (translation from original Hebrew). 10.24 /8/ Preferred Share Purchase Rights Agreement 10.25 /9/ 1996 Supplemental Stock Plan 11.1 Computation of Net Income (Loss) per Common and Common Equivalent Shares. 21.1 Subsidiaries of Registrant. 23.1 Consent of Independent Accountants. 24.1 Power of Attorney (see page 23). 27.1 Financial Data Schedule.
- -------- (1) Incorporated by reference to identically numbered exhibits filed in response to Item 16(a), "Exhibits," of the Registrant's Registration Statement on Form S-1, as amended (File No. 33-68554), which was declared effective on October 29, 1993. (2) Designates management contract or compensatory plan arrangements required to be filed as an exhibit of this Annual Report on Form 10-K. (3) Exhibits 10.16, 10.17 and 10.18 are incorporated by reference to Exhibits 10.1, 10.2 and 10.3, respectively, filed with the Form 10-Q for the three month period ended March 31, 1994. (4) Incorporated by reference to identically numbered exhibits filed with the Form 10-Q for the three month period ended September 30, 1994. (5) Incorporated by reference to identically numbered exhibits filed with the Form 10-K for the year ended December 31, 1994. (6) Incorporated by reference to the identically numbered exhibit to the Company's Registration Statement on Form S-3, No. 33-95066, filed with the Securities and Exchange Commission on July 27, 1995. 21 (7) Incorporated by reference to the identically numbered exhibit filed with the Form 10-K for the period ended December 31, 1995. (8) Incorporated by reference to Exhibit 1 to the Company's Form 8-A, filed with the Securities and Exchange Commission on July 9. 1996. (9) Incorporated by reference to Exhibit 4.2 to the Company's Registration Statement on Form S-8, No. 333-09913, filed with the Securities and Exchange Commission on August 9, 1996. (b) Reports on Form 8-K: No report on Form 8-K was filed during the fourth quarter of the year ended December 31, 1996. 22 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant, Mercury Interactive Corporation, a corporation organized and existing under the laws of the State of Delaware, has duly caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized. MERCURY INTERACTIVE CORPORATION /s/ Sharlene Abrams By __________________________________ Sharlene Abrams, Vice President of Finance and Administration, Chief Financial Officer and Secretary Dated: March 20, 1997 KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature appears below constitutes and appoints jointly and severally, Aryeh Finegold and/or Sharlene Abrams and each one of them, his or her attorneys-in-fact, each with the power of substitution, for him or her in any and all capacities, to sign any and all amendments to this Annual Report on Form 10-K and to file the same, with exhibits thereto and other documents in connection therewith, with the Securities and Exchange Commission, hereby ratifying and confirming all that each of said attorneys-in-fact, or his or her substitute or substitutes, may do or cause to be done by virtue hereof. Signatures Title Date /s/ Aryeh Finegold Chairman of the Board of March 20, 1997 - --------------------- Directors Aryeh Finegold /s/ Amnon Landan President, Chief Executive March 20, 1997 - --------------------- Officer and Director (Principal Amnon Landan Executive Officer) /s/ Sharlene Abrams Vice President of Finance and March 20, 1997 - --------------------- Administration, Chief Financial Sharlene Abrams Officer (Principal Financial and Accounting Officer) and Secretary /s/ Igal Kohavi Director March 20, 1997 - --------------------- Igal Kohavi /s/ Yair Shamir Director March 20, 1997 - --------------------- Yair Shamir /s/ Giora Yaron Director March 20, 1997 - --------------------- Giora Yaron 23 REPORT OF INDEPENDENT ACCOUNTANTS To the Board of Directors and Stockholders of Mercury Interactive Corporation In our opinion, the consolidated financial statements listed in the index appearing under Item 14.(a)(1.) and (2.) on page 20 present fairly, in all material respects, the financial position of Mercury Interactive Corporation and its subsidiaries at December 31, 1996 and 1995, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 1996, in conformity with generally accepted accounting principles. 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 audits of these statements in accordance with generally accepted auditing standards which 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, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for the opinion expressed above. PRICE WATERHOUSE LLP San Jose, California January 31, 1997 F-1 MERCURY INTERACTIVE CORPORATION CONSOLIDATED BALANCE SHEET (in thousands, except per share amounts)
DECEMBER 31, ------------------ 1996 1995 -------- -------- ASSETS Current assets: Cash and cash equivalents................................ $ 44,337 $ 45,850 Short-term investments................................... 26,686 31,996 Trade accounts receivable (net of allowance for doubtful accounts and sales returns of $1,136 and $705). 18,503 12,158 Government grant and other receivables (Note 2).......... 3,139 2,621 Inventories.............................................. 560 510 Prepaid expenses and other assets........................ 3,307 2,544 -------- -------- Total current assets................................... 96,532 95,679 Long-term investments...................................... 8,954 7,819 Property and equipment, net (Note 2)....................... 10,413 8,762 Deposits and other assets.................................. 1,590 560 -------- -------- $117,489 $112,820 ======== ======== LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Accounts payable......................................... $ 1,859 $ 1,272 Accrued liabilities (Note 2)............................. 8,782 13,846 Deferred revenue......................................... 7,809 5,086 -------- -------- Total current liabilities.............................. 18,450 20,204 -------- -------- Commitments and contingencies (Notes 5 and 9) Stockholders' equity (Note 3): Preferred Stock, no par value, 5,000 shares authorized; none issued and outstanding............................. -- -- Common Stock, par value $.002 per share, 25,000 shares authorized; 16,056 and 15,728 shares issued and outstanding......... 32 31 Capital in excess of par value........................... 100,235 98,309 Cumulative translation adjustment........................ (99) 31 Accumulated deficit...................................... (1,129) (5,755) -------- -------- Total stockholders' equity............................. 99,039 92,616 -------- -------- $117,489 $112,820 ======== ========
The accompanying notes are an integral part of these consolidated financial statements. F-2 MERCURY INTERACTIVE CORPORATION CONSOLIDATED STATEMENT OF OPERATIONS (in thousands, except per share amounts)
YEAR ENDED DECEMBER 31, ------------------------- 1996 1995 1994 ------- ------- ------- Revenue: License........................................... $43,270 $32,765 $20,270 Service........................................... 11,280 6,685 3,180 ------- ------- ------- Total revenue................................... 54,550 39,450 23,450 ------- ------- ------- Cost of revenue: License........................................... 3,419 2,626 1,594 Service........................................... 3,240 1,887 872 ------- ------- ------- Total cost of revenue........................... 6,659 4,513 2,466 ------- ------- ------- Gross profit........................................ 47,891 34,937 20,984 ------- ------- ------- Operating expenses: Research and development (Note 8)................. 10,499 14,355 4,710 Less: grants (Note 5)............................. (2,203) (1,567) (1,156) ------- ------- ------- Research and development, net..................... 8,296 12,788 3,554 ------- ------- ------- Marketing and selling............................. 30,460 23,146 11,128 Less: grants (Note 5)............................. -- (350) (821) ------- ------- ------- Marketing and selling, net........................ 30,460 22,796 10,307 ------- ------- ------- General and administrative........................ 4,113 3,911 2,531 Settlement of litigation (Note 9)................. 2,600 2,000 -- ------- ------- ------- Total operating expenses........................ 45,469 41,495 16,392 ------- ------- ------- Income (loss) from operations....................... 2,422 (6,558) 4,592 Other income, net (Note 2).......................... 3,361 2,277 1,348 ------- ------- ------- Income (loss) before provision for income taxes..... 5,783 (4,281) 5,940 Provision for income taxes.......................... 1,157 970 891 ------- ------- ------- Net income (loss)................................... $ 4,626 $(5,251) $ 5,049 ======= ======= ======= Net income (loss) per share......................... $ 0.28 $ (0.38) $ 0.38 ======= ======= ======= Weighted average common shares and equivalents (Note 1)................................................. 16,563 13,947 13,337 ======= ======= =======
The accompanying notes are an integral part of these consolidated financial statements. F-3 MERCURY INTERACTIVE CORPORATION CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY (in thousands)
COMMON STOCK ------------- CAPITAL IN STOCKHOLDER CUMULATIVE EXCESS OF LOANS TRANSLATION ACCUMULATED SHARES AMOUNT PAR VALUE RECEIVABLE ADJUSTMENT DEFICIT TOTAL ------ ------ ---------- ----------- ----------- ----------- ------- Balance at December 31, 1993................... 12,443 $25 $ 38,565 $(100) $ 66 $(5,553) $33,003 Stock issued under stock option and employee stock purchase plans... 333 1 890 65 -- -- 956 Tax benefit related to stock options.......... -- -- 375 -- -- -- 375 Currency translation adjustment............. -- -- -- -- (216) -- (216) Net income.............. -- -- -- -- -- 5,049 5,049 ------ --- -------- ----- ----- ------- ------- Balance at December 31, 1994................... 12,776 26 39,830 (35) (150) (504) 39,167 Stock issued in exchange for Blue Lagoon Software (Note 8)...... 66 -- 1,431 -- -- -- 1,431 Issuance of Common Stock in secondary public offering, net of issuance costs of $483. 2,408 4 53,714 -- -- -- 53,718 Stock issued under stock option and employee stock purchase plans... 478 1 2,766 35 -- -- 2,802 Tax benefit related to stock options.......... -- -- 568 -- -- -- 568 Currency translation adjustment............. -- -- -- -- 181 -- 181 Net loss................ -- -- -- -- -- (5,251) (5,251) ------ --- -------- ----- ----- ------- ------- Balance at December 31, 1995................... 15,728 31 98,309 -- 31 (5,755) 92,616 Stock issued under stock option and employee stock purchase plans... 328 1 1,887 -- -- 1,888 Tax benefit related to stock options.......... 39 -- 39 Currency translation adjustment............. -- -- -- -- (130) (130) Net income.............. -- -- -- -- -- 4,626 4,626 ------ --- -------- ----- ----- ------- ------- Balance at December 31, 1996................... 16,056 $32 $100,235 $ -- $ (99) $(1,129) $99,039 ====== === ======== ===== ===== ======= =======
The accompanying notes are an integral part of these consolidated financial statements. F-4 MERCURY INTERACTIVE CORPORATION CONSOLIDATED STATEMENT OF CASH FLOWS INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (in thousands)
YEAR ENDED DECEMBER 31, -------------------------- 1996 1995 1994 ------- -------- ------- Cash flows from operating activities: Net income (loss).................................. $ 4,626 $ (5,251) $ 5,049 Adjustments to reconcile net income (loss) to net cash provided by operating activities: Depreciation and amortization..................... 3,263 2,156 1,172 Non-cash acquisition and other non-recurring charges (Note 8)................................. -- 2,255 -- Changes in assets and liabilities: Trade accounts receivable........................ (6,527) (4,562) (3,513) Government grant and other receivables........... (564) (790) (474) Inventories...................................... (44) 125 54 Prepaid expenses and other assets................ (410) (1,549) (1,092) Accounts payable................................. 591 (282) 711 Accrued liabilities (including in 1996 the payment of litigation related accruals of $2,000 and acquisition and restructuring accruals of $3,550)......................................... (5,087) 10,689 1,108 Deferred revenue................................. 2,594 (705) 323 ------- -------- ------- Net cash provided by (used for) operating activities..................................... (1,558) 2,086 3,338 ------- -------- ------- Cash flows from investing activities: Investment proceeds, net........................... 4,149 (15,990) (897) Acquisition of property and equipment.............. (4,596) (6,958) (3,200) Capitalization of software development costs (Note 1)................................................ (1,340) (885) (60) ------- -------- ------- Net cash used in investing activities............. (1,787) (23,833) (4,157) ------- -------- ------- Cash flows from financing activities: Proceeds from issuance of Common Stock, net........ 1,888 56,520 956 Tax benefit associated with exercise of stock options........................................... 39 568 375 Repayment of bank borrowings....................... -- -- (541) ------- -------- ------- Net cash provided by financing activities......... 1,927 57,088 790 ------- -------- ------- Effect of exchange rate changes on cash............. (95) 44 (317) ------- -------- ------- Net increase (decrease) in cash..................... (1,513) 35,385 (346) Cash and cash equivalents at beginning of period.... 45,850 10,465 10,811 ------- -------- ------- Cash and cash equivalents at end of period.......... $44,337 $ 45,850 $10,465 ======= ======== ======= SUPPLEMENTAL DISCLOSURE: Cash paid during the period for income taxes........ $ 1,182 $ 838 $ 625
The accompanying notes are an integral part of these consolidated financial statements. F-5 MERCURY INTERACTIVE CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 1--THE COMPANY AND ITS SIGNIFICANT ACCOUNTING POLICIES Mercury Interactive Corporation (the "Company"), incorporated in Delaware in July 1989, develops, markets and supports a family of automated client/server and Web-based system tools for testing business-critical enterprise applications. The Company operates in one industry segment. See Note 7 for geographic reporting. No customer accounted for more than 10% of the Company's sales in 1996, 1995 or 1994. BASIS OF PRESENTATION The Company has a wholly-owned research and development subsidiary incorporated in Israel and sales subsidiaries in Canada, Europe and the Pacific Rim for marketing, distribution and support of products. The consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries. All significant intercompany accounts and transactions have been eliminated. FOREIGN CURRENCY TRANSLATION The functional currency of the Company's subsidiary in Israel is the U.S. dollar. Assets and liabilities in Israel are translated at year-end exchange rates, except for property and equipment, which is translated at historical rates. Revenues and expenses are translated at average exchange rates in effect during the year, except for costs related to those balance sheet items which are translated at historical rates. Foreign currency translation gains and losses, which have not been material to date for this subsidiary, are included in the statement of operations. The functional currency of all other subsidiaries are the local currencies. Accordingly, all assets and liabilities of these subsidiaries are translated at the current exchange rate at the end of the period and revenues and costs at average exchange rates in effect during the period. The gains and losses from translation of these subsidiaries' financial statements are recorded directly into a separate component of stockholders' equity. Net gains and losses resulting from foreign exchange transactions were not significant during any of the periods presented. CASH AND CASH EQUIVALENTS The Company considers all highly liquid debt instruments purchased with a maturity of three months or less at the date of purchase to be cash equivalents. SHORT-TERM AND LONG-TERM INVESTMENTS The Company considers all investments with maturities of less than one year as of December 31, 1996 to be short-term investments and all investments with maturities greater than one year to be long-term investments. In accordance with Statement of Financial Accounting Standards No. 115, "Accounting for Certain Investments in Debt and Equity Securities", the Company has categorized its marketable securities as "available for sale" securities. The investments, which all have contractual maturities of less than two years, are carried at cost plus accrued interest, and approximated market value for the entire fiscal year. Realized gains or losses are determined on the specific identification method and are reflected in income. F-6 MERCURY INTERACTIVE CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) The portfolio of short and long-term investments (including cash and cash equivalents) consisted of the following at December 31, 1996 (in thousands):
INVESTMENT TYPE --------------- Cash.............................................................. $10,287 Debt (state or political subdivision)............................. 57,355 Money market preferred stock...................................... 12,335 ------- Total........................................................... $79,977 =======
REVENUE RECOGNITION The Company's product revenues are derived from product licensing fees, and the Company's service revenues are derived from maintenance support services, training and consulting. Revenue from product licensing fees is recognized upon shipment and resolution of any material vendor obligations. Products shipped, for which material vendor obligations exist, are recorded as deferred revenue. Service revenue from customer maintenance fees for ongoing customer support and product updates is recognized ratably over the period of the contract. Payments for maintenance fees are generally made in advance, are nonrefundable and are classified as deferred revenue. Revenues for training and consulting services are recognized as the services are provided. INVENTORIES Inventories are stated at the lower of standard cost, which approximates actual cost, using the first-in, first-out method, or market. PROPERTY AND EQUIPMENT Property and equipment are stated at cost less accumulated depreciation. Depreciation is computed for financial reporting purposes using the straight- line method over the estimated economic lives of assets, which are three to ten years for office furniture and equipment, three to five years for computers and related equipment and four to ten years for leasehold improvements, or the term of the lease, whichever is shorter. RESEARCH AND DEVELOPMENT In accordance with Statement of Financial Accounting Standards No. 86 "Accounting for Costs of Computer Software to be Sold, Leased or Otherwise Marketed," all costs incurred to establish the technological feasibility of a computer product to be sold, leased or otherwise marketed are expensed as research and development costs. Costs incurred subsequent to the establishment of technological feasibility, and prior to the general release of the product to the public are capitalized. Amortization of capitalized software development costs is provided on a product-by-product basis using the straight-line method over the estimated economic life of the product of two years. The Company capitalized approximately $1,340,000 and $885,000 of software development costs during the years ended December 31, 1996 and 1995, respectively. The amount capitalized represented approximately 11% and 12% of the gross research and development expenses in 1996 and 1995, excluding, in 1995, $7.7 million in write-offs of in-process research and development, obsolete technology and incentive compensation related to the Blue Lagoon and Semantica acquisitions. No amortization was recorded by the Company through 1995; however, in conjunction with the Blue Lagoon and Semantica acquisitions, the Company assessed the impact of the acquisitions on its product development strategy and wrote-off approximately $450,000 of capitalized development costs as obsolete. The Company recorded amortization expense of $300,000 in 1996. At December 31, 1996 and 1995, the Company had a net balance of capitalized software development costs of $1,535,000 and $495,000, respectively. F-7 MERCURY INTERACTIVE CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) STOCK-BASED COMPENSATION The Company accounts for stock-based compensation using the intrinsic value method presented in Accounting Principles Board Opinion (APB) No. 25, "Accounting for Stock Issued to Employees" and related interpretations. The Company's policy is to grant options with an exercise price equal to the quoted market price of the Company's stock on the grant date. Accordingly, no compensation cost has been recognized in the Company's statements of operations. The Company provides additional pro forma disclosures as required under Statement of Financial Accounting Standard No. 123 (SFAS 123), "Accounting for Stock-Based Compensation." See Note 3. INCOME TAXES The Company has accounted for income taxes in accordance with the provisions of Statement of Financial Accounting Standards No. 109 (SFAS 109) for all periods presented. SFAS 109 requires, among other things, that deferred income taxes be provided for temporary differences between the financial reporting basis and the tax basis of the Company's assets and liabilities, and the benefit of utilizing net operating loss carryforwards be reflected as part of the income tax provision. CONCENTRATION OF RISKS Financial instruments which potentially subject the Company to concentrations of credit risk consist principally of cash equivalents, investments and accounts receivable. The Company invests primarily in money market accounts and marketable securities and places its investments with high quality financial, government or corporate institutions. The Company's accounts receivable are derived from sales to customers located primarily in the U.S., Canada, Europe, Pacific Rim and Israel. The Company performs ongoing credit evaluations of its customers and to date has not experienced any material losses. NET INCOME (LOSS) PER SHARE Net income (loss) per common and common equivalent share is computed using the weighted average number of common and dilutive common equivalent shares outstanding during each year. Dilutive common equivalent shares consist of common stock issuable upon the exercise of stock options (using the treasury stock method). Common equivalent shares are excluded from the computation if their effect is anti-dilutive. MANAGEMENT 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 previously reported amounts have been reclassified to conform to the 1996 consolidated financial statement presentation. F-8 MERCURY INTERACTIVE CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) NOTE 2--FINANCIAL STATEMENT COMPONENTS
DECEMBER 31, ---------------- 1996 1995 ------- ------- (IN THOUSANDS) Government grant and other receivables: Government grant receivables................................ $ 1,484 $ 924 Employee receivables........................................ 529 828 Other receivables........................................... 1,126 869 ------- ------- $ 3,139 $ 2,621 ======= ======= Property and equipment: Land........................................................ $ 2,878 $ 2,557 Computers and equipment..................................... 10,151 6,676 Office furniture and equipment.............................. 2,306 1,912 Leasehold improvements...................................... 2,148 1,719 ------- ------- 17,483 12,864 Less: accumulated depreciation and amortization............. (7,070) (4,102) ------- ------- $10,413 $ 8,762 ======= ======= Accrued liabilities: Accrued acquisition costs................................... $ -- $ 3,025 Payroll and accrued commissions (including payroll taxes)... 2,738 2,915 Legal....................................................... 40 2,133 Accrued vacation and severance.............................. 1,538 2,017 Royalties (Note 5).......................................... 1,062 1,399 Income taxes................................................ 636 399 Other....................................................... 2,768 1,958 ------- ------- $ 8,782 $13,846 ======= =======
YEAR ENDED DECEMBER 31, -------------------- 1996 1995 1994 ------ ------ ------ (IN THOUSANDS) Other income, net: Interest income......................................... $3,148 $1,987 $1,302 Foreign exchange gains and other........................ 213 290 46 ------ ------ ------ $3,361 $2,277 $1,348 ====== ====== ======
NOTE 3--COMMON STOCK In August 1989, the Company adopted a stock option plan (the "Plan"). Options granted under the Plan are for periods not to exceed ten years. For holders of 10% or more of the total combined voting power of all classes of the Company's stock, options may not be granted at less than 110% of the fair value of the Common Stock at the date of grant and the option term may not exceed 5 years. Incentive stock option grants under the Plan must be at exercise prices no less than 100% of the fair market value and non-statutory stock option grants under the Plan must be at exercise prices no less than 85% of the fair market value of the stock on the date of grant. Options are immediately exercisable but all shares purchased upon exercise of options are subject to repurchase by the Company until vested. Options generally vest over a period of four years. F-9 MERCURY INTERACTIVE CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) In May 1996, the Company adopted a stock option plan solely for grants to employees of the Company and its subsidiaries located outside the United states (the "Supplemental Plan"). The Company reserved 500,000 shares of Common Stock for issuance upon exercise of stock options to be granted under this plan. The provisions of the Supplemental Plan regarding options term, grant price, exercise price, and vesting period are identical to those of the 1989 plan. The following table presents the combined activity of the Plan and the Supplemental Plan for the years ended December 31, 1994, 1995 and 1996 (shares in thousands):
OPTIONS OUTSTANDING OPTIONS ----------------------- AVAILABLE NUMBER OF WEIGHTED FOR GRANT SHARES AVERAGE PRICE --------- --------- ------------- Balance outstanding at December 31, 1993.... 375 1,034 $ 2.40 Additional shares authorized................ 500 -- Options granted............................. (931) 931 10.70 Options canceled............................ 104 (104) 12.32 Options exercised........................... -- (237) 0.43 ------ ----- Balance outstanding at December 31, 1994.... 48 1,624 7.12 Additional shares authorized................ 800 -- Options granted............................. (824) 824 15.98 Options canceled............................ 136 (136) 9.09 Options exercised........................... -- (308) 4.23 ------ ----- Balance outstanding at December 31, 1995.... 160 2,004 10.70 Additional shares authorized................ 1,209 -- Options granted............................. (1,878) 1,878 12.08 Options canceled............................ 523 (523) 14.45 Options exercised........................... -- (234) 7.34 ------ ----- Balance outstanding at December 31, 1996.... 14 3,125 11.28 ====== ===== Options vested at December 31, 1996......... 1,034 9.42 ===== Weighted average fair value per share of options granted during: 1995...................................... 11.66 1996...................................... 8.18
In May of 1996, the Board of Directors authorized the Company to offer all employees with outstanding options at exercise prices in excess of $16.00 per share the opportunity to exchange such options for new options. Each new option was issued under the same terms as the surrendered options. As a result, options covering 271,083 shares ranging in price from $16.75 to $19.00 were canceled and options for an equal number of shares were granted at the exercise price of $12.75. F-10 MERCURY INTERACTIVE CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) The following table presents weighted average price and life information about significant option groups outstanding under the Plan and the Supplemental Plan at December 31, 1996 (shares in thousands):
WEIGHTED AVERAGE REMAINING RANGE OF NUMBER CONTRACTUAL WEIGHTED AVERAGE EXERCISE PRICES OUTSTANDING LIFE (YRS) EXERCISE PRICE --------------- ----------- ---------------- ---------------- $ 0.10- 3.70................. 179 5.73 $0.46 7.00-12.00................. 1,274 6.17 9.71 12.38-12.75................. 1,381 9.07 12.69 13.50-21.13................. 291 8.49 17.90 ----- 3,125 7.70 11.28 =====
DIRECTORS' STOCK OPTION PLAN On August 3, 1994, the Board of Directors of the Company adopted the 1994 Directors' Stock Option Plan (the "Directors' Plan"). The Company reserved 500,000 shares of Common Stock for issuance upon exercise of stock options to be granted during the ten year term of the Directors' Plan. Only outside directors may be granted options under the Directors' Plan. The Plan provided for an initial option grant to outside directors of the Company as of August 3, 1994 or upon initial election to the Board of Directors after August 3, 1994. In addition, the Plan provides for automatic annual grants of 5,000 shares upon reelection of the individual to the Board of Directors. The option term shall be ten years, and options shall be exercisable while such person remains a director. The exercise price shall be 100% of fair market value on the date of grant. These options will vest as to 5,000 shares annually for each director on the date of each Annual Meeting of Stockholders of the Company after the date of grant of such option. The annual option grant shall vest in full on the fifth anniversary following each individual's reelection to the Board of Directors. The following table presents the activity of the Directors' Plan for the years ended December 31, 1994, 1995 and 1996 (shares in thousands):
OPTIONS OUTSTANDING OPTIONS ----------------------- AVAILABLE NUMBER OF WEIGHTED FOR GRANT SHARES AVERAGE PRICE --------- --------- ------------- Initial shares authorized..................... 500 -- Options granted............................... (100) 100 $ 9.13 Options canceled.............................. -- -- -- Options exercised............................. -- -- -- ---- --- Balance outstanding at December 31, 1994...... 400 100 9.13 Options granted............................... (20) 20 21.13 Options canceled.............................. -- -- 9.09 Options exercised............................. -- (10) 9.13 ---- --- Balance outstanding at December 31, 1995...... 380 110 11.31 Options granted............................... (45) 45 14.75 Options canceled.............................. 45 (45) 12.28 Options exercised............................. -- (20) 9.13 ---- --- Balance outstanding at December 31, 1996...... 380 90 13.03 ==== === Options vested at December 31, 1996........... 15 11.33 ===
F-11 MERCURY INTERACTIVE CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) 1993 EMPLOYEE STOCK PURCHASE PLAN In October 1993, the Board of Directors and stockholders adopted the Employee Stock Purchase Plan (the "ESPP") and reserved 500,000 shares for issuance. Under the plan, employees are granted the right to purchase shares of Common Stock at a price per share that is the lesser of: (i) 85% of the fair market value of the shares at the participant's entry date into the two- year offering period, or (ii) the fair market value at the end of each six- month segment within such offering period. During 1996, 1995 and 1994, approximately 94,000, 160,000 and 104,000 shares, respectively, were purchased under the Employee Stock Purchase Plan. FAS 123 DISCLOSURE The Company has adopted the disclosure provisions only of Statement of Financial Accounting Standards No. 123, Accounting for Stock-based Compensation (FAS 123) and will continue to account for its stock option plans in accordance with the provisions of APB 25 Accounting for Stock Issued to Employees. Accordingly, no compensation cost has been recognized for the stock option plans or the ESPP. Pursuant to the requirements of FAS 123, the following are pro forma net loss and net loss per share for 1996 and 1995, as if the compensation cost for the option plans and the ESPP had been determined based on the fair value at the grant date for grants in 1996 and 1995, consistent with the provisions of FAS 123:
1996 1995 ----- ------ Pro forma net loss (in thousands)................................ (437) (7,459) Pro forma net loss per share..................................... (0.03) (0.53)
The fair value of options and shares issued pursuant to the option plans and the ESPP at the grant date were estimated using the Black-Scholes model with the following weighted average assumptions:
OPTION PLANS ESPP ---------- ---------- 1996 1995 1996 1995 ---- ---- ---- ---- Expected life (years)................................... 4.45 4.90 0.5 0.5 Risk-free interest rate................................. 6.20 6.85 5.13 5.92 Volatility.............................................. 94% 90% 94% 90% Dividend yield.......................................... None None None None
NOTE 4--INCOME TAXES Income (loss) before income taxes consists of the following (in thousands):
YEAR ENDED DECEMBER 31, ----------------------- 1996 1995 1994 ------ ------- ------ Domestic................................................ $ (933) $ (204) $5,265 Foreign................................................. 6,716 (4,077) 675 ------ ------- ------ $5,783 $(4,281) $5,940 ====== ======= ======
F-12 MERCURY INTERACTIVE CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) The provision for income taxes is comprised of the following (in thousands):
YEAR ENDED DECEMBER 31, ---------------------- 1996 1995 1994 ------ ------ ------ Current: Federal............................................... $ (110) $1,250 $ 670 State................................................. 65 390 400 Foreign............................................... 528 49 46 ------ ------ ------ Total............................................... 483 1,689 1,116 ------ ------ ------ Deferred: Federal............................................... 597 (507) (100) State................................................. 77 (212) (79) Foreign............................................... -- -- (46) ------ ------ ------ Total............................................... 674 (719) (225) ------ ------ ------ Total................................................... $1,157 $ 970 $ 891 ====== ====== ======
Deferred tax assets consist of the following (in thousands):
DECEMBER 31, --------------------- 1996 1995 1994 ------- ------ ---- Net operating loss carryforwards......................... $ 2,021 $ 275 $ -- State taxes.............................................. -- 55 65 Capitalized research and development costs............... 26 103 85 Accruals................................................. 244 745 60 Depreciation and other................................... -- 41 15 ------- ------ ---- 2,291 1,219 225 Valuation allowance...................................... (2,021) (275) -- ------- ------ ---- $ 270 $ 944 $225 ======= ====== ====
The Company has provided a valuation allowance of $2,021,000 at December 31, 1996 for net operating loss carryforwards in domestic and foreign jurisdictions, for which realization of future benefit is uncertain. The provision for income taxes differs from the amount obtained by applying the statutory federal income tax rate to income before taxes as follows (in thousands):
DECEMBER 31, ------------------------- 1996 1995 1994 ------- ------- ------- Statutory federal tax (benefit).............. $ 2,024 $(1,498) $ 2,079 State tax, net of federal benefit........ 58 257 197 Utilization of net operating loss carryforwards.......... -- (192) (1,130) Foreign rate differentials from U.S. statutory rate......... (2,194) 1,449 (100) Non-deductible expenses. 68 1,510 20 Non-utilized net operating losses....... 1,746 -- -- Tax-exempt interest..... (779) (482) (46) Other................... 234 (74) (129) ------- ------- ------- $ 1,157 $ 970 $ 891 ======= ======= =======
F-13 MERCURY INTERACTIVE CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) As of December 31, 1996, there are no net earnings of subsidiary companies to be distributed for which U.S. income taxes would have to be provided. The Company's Israeli facilities have been granted the status of an "Approved Enterprise" under the Israeli law for the Encouragement of Capital Investments, 1959, as amended. An Approved Enterprise is eligible for significant tax rate reductions for several years following the first year in which the Company has Israeli taxable income (after consideration of tax losses carried forward). The Company realized tax savings of approximately $2.2 million, $300,000 and $100,000 in 1996, 1995 and 1994, respectively, as a result of this tax holiday. Because the Israeli Company currently has three overlapping Approved Enterprise plans, the tax holidays and rate reductions which the Company will be able to realize in future years are expected to extend until 2004. NOTE 5--COMMITMENTS AND CONTINGENCIES ROYALTY COMMITMENTS Through October 31, 1990 and during the first half of 1996, the Company obtained grants for research and development projects from the Israel-U.S. Binational Industrial Research and Development Foundation ("BIRD-F"). At the time the grants were received, successful development of the related projects was not assured. These grants were accounted for using the cost reduction method, under which research and development expenses that are effectively funded by the grant, are decreased by the amount of grants obtained. The Company was not obligated to repay the grants regardless of the outcome of its development efforts; however, it has agreed to pay BIRD-F royalties at the rate of up to 5% of sales of any product or development resulting from such research, but not in excess of 150% of the grants. Royalty expense under this agreement amounted to approximately $5,000 for each of the years ended December 31, 1996 and 1995, respectively, and $133,000 for the year ended December 31, 1994. As of December 31, 1996, the Company is committed to pay, if and when earned, $1.3 million in additional royalties. During the years 1991 through 1996, the Company obtained additional research and development grants from the Office of the Chief Scientist in the Ministry of Industry and Trade ("Chief Scientist") in Israel. These grants were similar in nature to the BIRD-F grants and were accounted for by the same method. Grants obtained were offset against research and development expense for the same periods. The Company was not obligated to repay the grants regardless of the outcome of its development efforts; however, it has agreed to pay royalties at the rate of 2%-5% of product sales resulting from the research, up to the amount of the grants obtained and for certain grants up to 150% of the grant obtained. Royalty expense under this agreement amounted to approximately $1.1 million, $1.4 million and $0.6 million for the years ended December 31, 1996, 1995 and 1994, respectively. As of December 31, 1996, the Company is committed to pay, if and when earned, $3.3 million in additional royalties. During 1994 and 1995, the Company obtained marketing grants from the Israeli Government, through the Fund for the Encouragement of Marketing Activities, for participation in marketing expenses incurred to increase export sales from Israel. The grants are received from the government of Israel for approved programs for marketing activities and are recognized on the cost reduction basis as a reduction of marketing expenses as such expenses are incurred. During the years ended December 31, 1995 and 1994, the Company received $350,000 and $821,000, respectively, of marketing grant participation. Under the terms of the marketing grant, if and when export sales from Israel to certain countries exceed a predetermined base of historical export sales from Israel, a royalty of 3% of the increase in export sales from Israel must generally be paid, up to the amount of the grant obtained. Royalties expense under this agreement amounted to approximately $420,000, $181,000 and $20,000 for the years ended December 31, 1996, 1995 and 1994, respectively. As of December 31, 1996, the Company is committed to pay, if and when earned, $550,000 in additional royalties. F-14 MERCURY INTERACTIVE CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) During the fourth quarter of 1995, representatives from the Office of the Chief Scientist approached a number of companies in Israel, including the Company's research and development subsidiary, to reassess methods used to classify revenues subject to royalties payable under grants received. As a result of the review, the Office of the Chief Scientist asserted that certain revenues for the years 1991-1995 may have been subject to a rate higher than originally paid. As a result, during the fourth quarter of 1995 the Company recorded charges of $550,000 and $150,000, representing the Company's estimate of additional royalties (recorded in marketing and sales expense) and related interest (charged against other income, net), respectively. The dispute was settled during the third quarter of 1996, resulting in a net benefit to operations of $300,000. Also during the third quarter of 1996, in conjunction with this settlement, the Company reversed the interest charge of $150,000. As a result of the resolution, prospective royalty payments will be made on an expanded product base. LEASE COMMITMENTS The Company leases facilities for its headquarters in Sunnyvale, California and sales offices in the U.S. and foreign locations under non-cancelable operating leases that expire from 1997 through 2000. Certain of these leases contain renewal options. The Company also leases certain U.S. sales offices and certain equipment and vehicles under various leases with lease terms ranging from month-to-month up to one year. Future minimum payments under the facilities and equipment leases with non-cancelable terms in excess of one year are as follows as of December 31, 1996 (in thousands): 1997............................................................. $1,539 1998............................................................. 1,116 1999............................................................. 531 2000............................................................. 375 ------ Total............................................................ $3,561 ======
Total rent expense under operating leases amounted to $1,015,000, $813,000 and $661,000 for the years ended December 31, 1996, 1995 and 1994, respectively. NOTE 6--RELATED PARTIES During May 1994, the Company acquired an approximately 33% interest in Qronus Interactive, Ltd. (Qronus), a newly created company, in exchange for granting to Qronus the right to use the Company's hardware products development environment. Such rights had no book value at the date of exchange. The Company accounts for this investment using the equity method. The net carrying value of the investment at inception and at December 31, 1996 is zero. Qronus had been capitalized by approximately $5.5 million in cash from outside investors, which created an approximately $1.75 million difference between the carrying value of the investment and the Company's underlying equity in the net assets of Qronus. The unrealized gain of approximately $1.75 million resulting from this transaction is being amortized into results of operations over a five year period. The Company's share of losses of Qronus of $520,000, $288,000 and $260,000 for the years ended December 31, 1996, 1995 and 1994, respectively, offset amortization of the unrealized gain by the Company. The Company expects Qronus to generate operating losses in the foreseeable future. The Company expects its portion of such losses to substantially offset the unrealized gain that is being amortized. Losses in excess of the total unrealized gain, if any, will not be recorded by the Company as it has no obligation to fund such losses. F-15 MERCURY INTERACTIVE CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) NOTE 7--GEOGRAPHIC REPORTING
YEAR ENDED DECEMBER 31 (IN THOUSANDS) ------------------------------ 1996 1995 1994 --------- --------- -------- Net revenue to third parties: North America................................. $ 36,446 $ 29,853 $ 18,785 Europe........................................ 12,995 7,955 4,505 Israel and Rest of the World.................. 21,412 12,313 5,170 Eliminations.................................. (16,303) (10,671) (5,010) --------- --------- -------- Consolidated................................ $ 54,550 $ 39,450 $ 23,450 ========= ========= ======== Operating income (loss): North America................................. $ (3,844) $ (2,546) $ 4,149 Europe........................................ 2,413 (871) (259) Israel and Rest of the World.................. 3,961 (2,837) 306 Eliminations.................................. (108) (304) 396 --------- --------- -------- Consolidated................................ $ 2,422 $ (6,558) $ 4,592 ========= ========= ======== Identifiable assets: North America................................. $ 94,748 $ 96,894 $ 41,541 Europe........................................ 6,960 4,986 4,335 Israel and Rest of the World.................. 15,781 10,940 3,718 --------- --------- -------- Consolidated................................ $ 117,489 $ 112,820 $ 49,594 ========= ========= ========
No individual subsidiary had sales to unaffiliated customers or has identifiable assets of 10 percent or more of the related consolidated amounts. Transfers between geographic regions represent intercompany license and service revenue accounted for at prices representative of unaffiliated party transactions. NOTE 8--ACQUISITIONS On May 12, 1995, the Company acquired all of the outstanding stock of Blue Lagoon Software ("Blue Lagoon"), a developer of client/server debugging technology, in exchange for 66,000 shares of the Company's Common Stock and assumption of liabilities of Blue Lagoon. The acquisition has been accounted for by the purchase method of accounting, and the results of operations of Blue Lagoon are included in the Company's consolidated results of operations since the date of the acquisition. Had the Company acquired Blue Lagoon as of January 1, 1995, the pro forma impact on the Company's operations would not have been materially different from the Company's actual results of operations for the year ended December 31, 1995. The purchase price, acquisition costs and net liabilities assumed aggregated approximately $2.3 million, of which $2.2 million was allocated to in-process research and development and taken as a one-time charge to operating expenses based on an independent appraisal obtained by the Company. The remaining amount was allocated to intangibles, including technology of the existing product line. The Company has integrated the acquired technology into its existing products. On December 15, 1995, the Company acquired all of the outstanding stock of EBY Semantica ("Semantica"), a developer of client/server technology, for $3,000,000 in cash. In addition, in December, the Company acquired certain other related technology from a U.S. university for $425,000. The acquisitions were accounted for using the purchase method of accounting, and the results of operations of Semantica have been included in the Company's consolidated results since the date of the acquisition. Had the Company acquired Semantica as of January 1, 1995, the pro forma impact on the Company's operations would not have been F-16 MERCURY INTERACTIVE CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) materially different from the Company's actual results of operations for the year ended December 31, 1995. The purchase price and acquisition costs aggregated approximately $4.1 million, and were allocated to in-process research and development expense based on an independent appraisal obtained by the Company. In conjunction with the integration of Blue Lagoon's and Semantica's operations and technology, the Company assessed the impact on its ongoing operations and product development strategy. As a result, during 1995, the Company recorded non-recurring charges primarily related to the write-off of obsolete technology and fixed assets totaling approximately $900,000 ($450,000 related to Blue Lagoon and $450,000 related to Semantica), and incurred approximately $2.5 million in special incentive compensation for management, customer support, research and development and marketing, selling and general and administrative personnel ($800,000 related to Blue Lagoon and $1.7 million related to Semantica). NOTE 9--LEGAL MATTERS During 1994 and 1995, the Company and its Chairman had been engaged in the defense of certain lawsuits brought by a former employee. As a result of settlement negotiations which commenced during 1995, the matters were settled for $2.0 million, which the Company recorded during the fourth quarter of 1995. On August 21, 1995, the Company was served with a complaint filed in the United States District Court for the Eastern District of Virginia by Performix, Inc., a software company located in McLean, Virginia. The complaint alleges that an employee of the Company attempted to copy without authorization one of the plaintiff's software programs. The matter was settled on March 7, 1996 and, as a result, the Company recorded a charge of approximately $2.6 million during the quarter ending March 31, 1996, reflecting settlement costs and related legal fees. On February 13, 1995, the Company's U.K. subsidiary, Mercury Interactive (UK) Limited, was served with a complaint brought by Mercury Communications Limited ("Mercury Communications") a subsidiary of Cable and Wireless PLC. The complaint alleges that use by the Company's subsidiary of "Mercury" and "Mercury Interactive" in the U.K. infringes upon Mercury Communications' U.K. trademark rights. On March 13, 1996, the Company settled this matter without material adverse effect on the consolidated financial position or results of operations of the Company. F-17 MERCURY INTERACTIVE CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) NOTE 10--SELECTED UNAUDITED QUARTERLY FINANCIAL DATA
QUARTER ENDED ------------------------------------------------------------------------- DEC. SEPT. JUNE DEC. SEPT. JUNE 31, 30, 30, MARCH 31, 31, 30, 30, MARCH 31, 1996 1996 1996 1996 1995 1995 1995 1995 ------- ------- ------- --------- ------- ------- ------- --------- (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) Revenue: License............... $13,920 $11,400 $ 9,350 $ 8,600 $10,202 $ 8,610 $ 7,470 $6,483 Service............... 3,330 2,800 2,750 2,400 2,298 1,640 1,530 1,217 ------- ------- ------- ------- ------- ------- ------- ------ Total revenue....... 17,250 14,200 12,100 11,000 12,500 10,250 9,000 7,700 ------- ------- ------- ------- ------- ------- ------- ------ Cost of revenue: License............... 1,172 1,042 709 496 828 628 588 582 Service............... 998 824 786 632 615 503 472 297 ------- ------- ------- ------- ------- ------- ------- ------ Total cost of revenue............ 2,170 1,866 1,495 1,128 1,443 1,131 1,060 879 ------- ------- ------- ------- ------- ------- ------- ------ Gross profit............ 15,080 12,334 10,605 9,872 11,057 9,119 7,940 6,821 ------- ------- ------- ------- ------- ------- ------- ------ Operating expenses: Research and development............ 2,926 2,721 2,682 2,170 7,182 1,562 4,135 1,476 Less: grants.......... (795) (160) (611) (637) (709) (530) -- (328) ------- ------- ------- ------- ------- ------- ------- ------ Research and development, net....... 2,131 2,561 2,071 1,533 6,473 1,032 4,135 1,148 ------- ------- ------- ------- ------- ------- ------- ------ Marketing and selling... 8,850 7,742 7,278 6,590 9,064 4,799 5,262 4,021 Less: grants.......... -- -- -- -- (350) -- -- -- ------- ------- ------- ------- ------- ------- ------- ------ Marketing and selling, net.................... 8,850 7,742 7,278 6,590 8,714 4,799 5,262 4,021 ------- ------- ------- ------- ------- ------- ------- ------ General and administrative......... 1,159 1,093 1,054 807 1,395 882 834 800 Settlement of litigation............. -- -- -- 2,600 2,000 -- -- -- ------- ------- ------- ------- ------- ------- ------- ------ Total operating expenses............... 12,140 11,396 10,403 11,530 18,582 6,713 10,231 5,969 ------- ------- ------- ------- ------- ------- ------- ------ Income (loss) from operations............. 2,940 938 202 (1,658) (7,525) 2,406 (2,291) 852 Other income, net....... 884 856 776 845 736 651 446 444 ------- ------- ------- ------- ------- ------- ------- ------ Income (loss) before provision for income taxes.................. 3,824 1,794 978 (813) (6,789) 3,057 (1,845) 1,296 Provision for income taxes.................. 763 359 198 (163) 100 611 -- 259 ------- ------- ------- ------- ------- ------- ------- ------ Net income (loss)....... $ 3,061 $ 1,435 $ 780 $ (650) $(6,889) $ 2,446 $(1,845) $1,037 ======= ======= ======= ======= ======= ======= ======= ====== Net income (loss) per share.............. $ 0.19 $ 0.09 $ 0.05 $ (0.04) $ (0.44) $ 0.16 $ (0.14) $ 0.08 ======= ======= ======= ======= ======= ======= ======= ====== Weighted average common shares and equivalents. 16,502 16,614 16,564 15,759 15,615 15,559 12,983 13,670 ======= ======= ======= ======= ======= ======= ======= ======
F-18 SCHEDULE II MERCURY INTERACTIVE CORPORATION VALUATION AND QUALIFYING ACCOUNTS FOR THE THREE YEARS ENDED DECEMBER 31, 1996 (IN THOUSANDS)
ADDITIONS BALANCE AT CHARGED TO DEDUCTIONS BALANCE AT BEGINNING COSTS AND BAD DEBTS END OF DESCRIPTION OF PERIOD EXPENSES CHARGED OFF PERIOD ----------- ---------- ---------- ----------- ---------- Reserve for sales returns and doubtful accounts receivable: December 31, 1996.............. $705 $2,831 $2,400 $1,136 December 31, 1995.............. $115 $ 990 $ 400 $ 705 December 31, 1994.............. $ -- $ 115 $ -- $ 115
EX-2.2 2 SHARE PURCHASE AGREEMENT EXHIBIT 2.2 SHARE PURCHASE AGREEMENT ------------------------ This Share Purchase Agreement (the "Agreement") is entered into by and among the following: 1. EBY-SEMANTICA (TESTING METHODS) LIMITED, formally EBY SOFTWARE LIMITED, a company formed according to the laws of Ireland registration number 221998, having its principal office at 65 Wigmore Street, London, WIH OHR (hereinafter "EBY LTD"). 2. SOFTWARE IDEAS, INC., a company formed according to the laws of Nevis, a Caribbean Island, formed on October 16, 1995 having its principal offices at Landstr. Hauptstr. 2/266, A-1030 Wien (hereinafter "the Seller). 3. MERCURY INTERACTIVE (ISRAEL) LTD., a company formed according to the laws of the State of Israel, registered company number 51-14066-7, having its principal offices at 2 Hayotzrim Street, Or-Yehuda 60218, Israel (hereinafter "the Buyer"). WHEREAS EBY LTD. is the legal owner of the rights in and to the know-how and technology owned, as described in Appendix 1 attached to this Agreement and ---------- hereinafter to be known as the "Technology"; and WHEREAS the Seller is the legal owner of 100% of the outstanding ordinary shares of EBY LTD. (hereinafter the "Shares") and is interested in selling all of the Shares to the Buyer; and WHEREAS the Buyer is interested in acquiring the Shares to become the sole legal owner of EBY LTD. for the main purpose of acquiring the rights to the "Technology". NOW THEREFORE, in consideration of the representations, warranties, covenants, and agreements of the parties hereinafter set forth, the parties hereto, intending to be legally bound, do hereby agree as follows: 1. Sale and Purchase of Shares --------------------------- 1.1 Sale and Purchase of Shares --------------------------- (a) The Seller is selling the Shares at the price of US $3,000 dollar per Share for an aggregate purchase price of US $ 3,000,000, ("the Purchase Price"). The Buyer agrees to such purchase of the Shares and receiving ownership of EBY LTD. as a going concern, paying no more than the Purchase Price and subject to the Seller paying all existing debt, liabilities and obligations of EBY LTD. and subject to Section 6.7 herein. - 2 - 1.2 Escrow of Purchase Price ------------------------ At the Closing, the Buyer shall cause the Purchase Price to be deposited with Advocate Joseph Shefet, who agrees to act as escrow agent (the "Escrow Agent"), under an escrow agreement in the form attached hereto as Appendix 2 (the "Escrow Agreement"). The Escrow ---------- Agent shall hold and distribute the Purchase Price in accordance with the provisions of the Escrow Agreement. 1.3 Closing ------- (a) Subject to satisfaction or waiver of the conditions precedent to the obligations of the parties hereto and the execution and delivery of this Agreement and all other documents required by this Agreement, the sale and purchase of the Shares shall take place at the offices of Zysman, Aharoni, Gayer, 60 Yehuda HaLevi Street, Tel-Aviv 65797, Israel, on or before January 15, 1996, or other time and place as the Buyer and Seller designate orally or in writing (which time and place are designated as the "Closing"). (b) At the Closing the Seller shall deliver (i) properly executed transfer bill of shares certificates signed by the Seller representing the Shares the Buyer is purchasing, to be given to the Escrow Agent, (ii) written technical documentation of the know-how and source codes of the Technology appearing in Appendix 1 herein, to be given prior to or at the Closing to the Buyer, (iii) a copy of two respective resolutions of the Seller and EBY LTD.'s board of directors approving the Agreement and the transfer of the Shares to the Buyer, (iv) a letter of resignation of Seller's representatives as directors and managers of EBY LTD. to be effective upon the Buyer receiving the Shares from the Escrow Agent, such letter to be held by the Escrow Agent, and (v) the written opinion of the Seller's and EBY LTD.'s counsel as described herein to be given to the Buyer at the Closing. Within ten days from the signing of this Agreement at Closing, the Buyer shall make the payment of the Purchase Price by bank transfer of the Purchase Price to the Escrow Agent's bank account as follows: To the main branch of B.A.W.A.G (BLZ 14000), 5 Turchlauben, Vienna, Austria, account no. 10051-094-811. (c) Payment shall be made to the Seller by the Buyer in U.S. dollars. 2. REPRESENTATIONS AND WARRANTIES OF THE SELLER AND EBY LTD -------------------------------------------------------- The Seller and EBY LTD. hereby jointly and severally represent and warrant that the representations and warranties of the Seller and EBY LTD. in this Section 2 are correct and complete as of the date of this Agreement and will be correct and complete as of the Closing (as though made then and as though the Closing were substituted for the date of this Agreement in this Section 2), except as set forth in the disclosure schedule delivered by the Seller and EBY LTD. to the Buyer on the date hereof, a copy of which is attached as Appendix 3 (hereinafter the "Disclosure Schedule"). ---------- - 3 - The Disclosure Schedule will specifically identify the relevant subparagraph contained in Section 2, provided that any information or disclosure contained in the Disclosure Schedule shall be deemed to qualify each of the representations and warranties set forth in this Section 2. The Seller and EBY LTD. jointly and severally represent and warrant as follows: 2.1 Organization, Good Standing and Qualification --------------------------------------------- The Seller and EBY LTD. are duly organized, validly existing and in good standing under the laws of Ireland and the Island of Nevis, respectively, and have all requisite corporate power and authority to carry on business as now conducted in each of the jurisdictions listed in the Disclosure Schedule and are not required to be so qualified by applicable law or regulation in any other jurisdiction based on the nature of each of their operations or the ownership of each of their assets. EBY LTD. does not own, directly, or indirectly, any interest or investment (whether equity or debt) in any corporation, partnership, business, trust or other entity. EBY LTD.'s Memorandum and Articles of Association are attached as Appendix 4 herein, and are ---------- complete and correct. 2.2 Capitalization and Voting Rights -------------------------------- (a) The authorized capital of EBY LTD. consists immediately prior to the Closing, of one million Ordinary Shares, par value one Irish Sterling per share ("Ordinary Shares"), of which one thousand Ordinary Shares are issued and outstanding and one hundred percent owned by the Seller. (b) No additional shares of EBY LTD. have been reserved to be issued, either directly or indirectly, upon exercise of options, warrants or other arrangements to employees, officers, directors and consultants of the Seller and/or EBY LTD., or third parties. The Seller is the owner, beneficially and of record, of all the Shares, free and clear of all liens, encumbrances, security agreements, equities, options, claims, charges and restrictions, and has full power to transfer the Shares to the Buyer without obtaining the consent or approval of any other person or government entity. The Seller will convey to the Buyer good, valid and marketable title to the Shares. 2.3 Employees; Officers ------------------- (a) There are no officers or employees of EBY LTD. as of the date of the Closing. EBY LTD. will be required to pay any compensation, payments and benefits associated with the termination and/or transfer of the employees and officers. Any employees and officers hired in the future from EBY LTD. will be required to sign confidentiality and non-competition agreements as deemed necessary by the Buyer. 2.4 Authorization ------------- All corporate action on the part of the Seller and EBY LTD. directors and shareholders necessary for the authorization, - 4 - execution and delivery of this Agreement, the performance of all obligations of the Seller and EBY LTD. hereunder, and the authorization, issuance and delivery of the Shares has been taken or will be taken prior to the Closing. This Agreement constitutes a valid and legally binding obligation of Seller and EBY LTD. enforceable in accordance with its terms. 2.5 Valid Purchase of Shares ------------------------ The Shares being purchased by the Buyers hereunder, when transferred, sold and delivered in accordance with the terms hereof for the consideration expressed herein, will be fully paid and nonassessable. 2.6 Litigation ---------- (a) There are no claims, actions, suits, proceedings or investigations pending or currently threatened against the Seller and/or EBY LTD. and/or its directors and officers, which question the validity of this Agreement or the right to enter into it, or to consummate the transaction contemplated hereby, or which might result either individually or in the aggregate in any material adverse changes in the assets, conditions, affairs or prospects of EBY LTD., except as described on the Disclosure Schedule, if any. (b) The foregoing includes, without limitation, actions pending or threatened involving the prior employment of any of the Seller's and/or EBY LTD.'s employees and/or consultants,, their use in connection with their business of any information or techniques allegedly proprietary to any of their former employers or consultancy arrangements, or their obligations under any agreements with prior employers or consultancy arrangements. (c) The Seller and/or EBY LTD. is not a party or subject to the provisions of any order, writ, injunction, judgement or decree of any court or government agency or instrumentality and there is no action, suit, proceeding or investigation against either, by any government agency or instrumentality currently pending or which any one of them intends to initiate. 2.7 Technology ---------- (a) EBY LTD. owns all right, title and interest in or to the Technology. (b) The Seller shall provide to the Buyer a package of written technical information describing the Technology in detail as used for the Seller's own use and in enough detail that the Buyer is satisfied that it has received the Technology acquired. Such package shall be furnished by the Seller in the form of one copy in the English language. Seller shall not retain any trade secret or confidential materials constituting the technology. - 5 - (c) The Seller shall have its management representatives stay in contact from time to time with the Buyer's. Whenever reasonably requested by the Buyer, the Seller will review with the Buyer the scope and content of the written information and documentation of the Technology, of interest to the Buyer, and work out practical procedures for promptly disclosing any item of Technology not clear to the Buyer. (d) The Technology is sufficient for its business as now conducted and as proposed to be conducted and such Technology does not conflict with, or infringe upon, the rights of others, including on any copyrights, patents, trademarks, trade names, trade secrets or other intellectual property rights of others. No shareholder, officer, director or, to the best of the knowledge of the Seller and EBY LTD., no employee of EBY LTD., nor any spouse, child or other relative of any of these persons owns or has any interest, directly or indirectly in the Technology. (e) EBY LTD. has exclusive ownership rights to the Technology, is the owner of all the software (including without limitation, source code, object code, data, files, tables, and documentation), and other copyrighted or copyrightable materials included in the Technology. The Seller and EBY LTD. have obtained, where required, the right to use, copy, modify and distribute any third-party programming and materials contained in the Technology and any technical documentation pursuant to any licenses from third parties. (f) The Seller and EBY LTD. have not received any communications alleging that it or they, has or have, violated, or by conducting the business of EBY LTD. as proposed by the Buyer, would violate any of the copyrights, patents, trade secrets or other proprietary rights of any other person or entity, nor are the Seller and EBY LTD. aware of any infringement of the foregoing rights by others. (g) EBY LTD. is not obligated under any contract (including licenses, covenants or commitments of any nature) or other agreement, or subject to any judgement, decree or order of any court or administrative agency, that would interfere with the use of its respective best efforts to promote the interests of itself or that would conflict with it's business as proposed to be conducted by the Buyer. 2.8 Compliance with Other Instruments and Laws ------------------------------------------ (a) EBY LTD. is not in default of any provisions of its respective Memorandum, Articles of Association or Protocols, of any instrument, judgement, order, writ, decree or contract to which it is a party or by which it is bound or, of any provision of law applicable to it. -6- (b) The execution, delivery and performance of this Agreement and the consummation of the transactions contemplated hereby will not result in any such violation of applicable statutes, laws and regulations, or be in conflict with or constitute, with or without the passage of time and giving of notice, either a default under any such provision, instrument, judgement, order, writ, decree or contract or an event which results in the creation of any lien, charge or encumbrance upon any assets of EBY LTD.. 2.9 Agreements; Default ------------------ (a) The Appendices, including the Disclosure Schedule contain all outstanding contracts, licenses, agreements or understandings to which EBY LTD. is a party or by which EBY LTD. or any of EBY LTD.'s assets are bound. There are no agreements, understandings or proposed transactions between EBY LTD. and/or the Seller (regarding the Seller's involvement with EBY LTD.), any of its officers, directors, shareholders, affiliates, or any affiliate thereof, except as identified in the Disclosure Schedule, if any. There is no default, or event that with notice or lapse of time, or both, would constitute a default, by EBY LTD., or to the best knowledge and belief of EBY LTD. or the Seller, any other party to any of the contracts, agreements or understandings listed in the Disclosure Schedule. (b) The consummation of the transactions contemplated by this Agreement will not result in or constitute any of the following: (i) a default, breach or violation or an event that, with notice or lapse of time or both, would constitute a default, breach or violation of the Memorandum and Articles of Association of EBY LTD., or any contract, license, agreement or understanding to which EBY LTD. or the Seller is a party or by which EBY LTD. or its property is bound; (ii) an event that would permit any party to terminate any or to accelerate the maturity of any indebtedness or other direct or indirect obligation of EBY LTD.; or (iii) the creation or imposition of any lien, charge or encumbrance on any of the properties of EBY LTD. 2.10 Disclosure ---------- (a) The Seller and EBY LTD. have fully provided the Buyer with all the information which the Buyer has requested for deciding whether or not to purchase the Shares and all information which they believe is reasonably necessary to enable the Buyer to make such a decision. (b) None of the statements or certificates made or delivered by the Seller or EBY LTD. in connection with this Agreement contains any untrue statement of a material fact or omits to state a material fact necessary to make the statement herein or therein misleading. -7- 2.11 Title to Property and Assets ---------------------------- EBY LTD. owns its property and assets including without limitation the Technology and all rights in such Technology, free and clear of all mortgages, liens, loans and encumbrances. With respect to the property and assets it leases, EBY LTD. is in compliance with such leases and, to the best of its knowledge, holds valid leaseholds interest free of any liens, claims or encumbrances. 2.12 Tax Returns, Payments and Elections ----------------------------------- EBY LTD. has timely filed all tax returns and reports as required by law and the returns and reports are true and correct in all material respects, and paid all taxes and other assessments as due in all jurisdictions and residences in which it operates and resides. EBY LTD. has duly paid, deposited or accrued on its books of account, any and all taxes it is required to pay or which is obligated to withhold from amounts owing to any employee. No current or deferred liability for taxes attributable to any period ending (or the portion of such period ending) after the Closing Date has been incurred by EBY LTD. other than in the ordinary course of business. There is no action, suit, proceeding, investigation, audit, claim, demand, deficiency or additional assessment in progress, pending or threatened against EBY LTD. with respect to any tax nor is there any basis thereof. EBY LTD. is not a party to any tax sharing, allocation or indemnity agreement. EBY LTD. has not waived any statute or limitations in respect of any taxes or agreed to any extension of time with respect to an assessment of deficiency with respect to such taxes. For purposes of this Agreement, the terms "tax" and "taxes" shall mean all taxes and any tax including, without limitation, all income, sales, value added, employment, profit, payroll, use, trade, property, excise, unitary, transfer, registration, transferee or secondary liability for taxes, penalties, interests, fines, duties, withholdings, assessments and charges assessed or imposed by any governmental authority. 2.13 Labor Agreements and Actions ---------------------------- (a) EBY LTD. is not bound by or subject to (and none of its assets or properties are bound by or subject to) any written or oral, express or implied, contract, commitment or arrangement with any labor union, and no labor union has requested or has sought to represent any of the employees, representatives or agents of EBY LTD. (b) There is no strike or other labor dispute involving EBY LTD. pending, or to the best knowledge threatened, which could have a material adverse effect on the assets, properties, financial condition, operating results, or business of EBY LTD. (as such business is presently conducted and as it is proposed to be conducted), nor is EBY LTD. aware of any labor organization activity involving its employees. -8- 2.14 Financial Statements -------------------- (a) If the Buyer does not exercise the option under Section 7 of this Agreement, the Buyer will receive from the Escrow Agent as per the Escrow Agreement herein attached as Appendix 2, a copy of the balance sheet and income statement of EBY LTD. at November 30, 1995, presented in U.S. Dollars according to U.S. generally accepted accounting principles, ("the Financial Statements"). The Financial Statements will be complete and correct in all material respects and fairly represent the financial position of EBY LTD. as of the date thereof, and there will be no material changes in the Financial Statements to be attached and incorporated in this Agreement as Appendix 5 from the date of the Financial Statements ---------- dated November 30, 1995 until receipt of the Financial Statements to be given to the Buyer. (b) As of the signing of this Agreement, the date of the Financial Statements of November 30, 1995 to be given to the Nuyeras stated herein this Agreement, and up to the time the Shares are transferred to the Buyer from the Ecrow Agent, EBY LTD. has no or will not have any debt, liability or obligation of any nature, whether accrued, absolute, contingent or otherwise, and whether due or to become due, that is not or will not be reflected or adequately reserved against in the November 30, 1995 balance sheet, expect for those (i) that have been incurred in the ordinary course of business after November 30, 1995, in an individual amount of less than $5,000 or in an aggregate amount of less than $15,000 or (ii) that are not required by generally accepted accounting principles to be included in the November 30, 1995 balance sheet. 2.15 Applicable Securities Laws -------------------------- The Shares being sold to the Buyer will not require registration with the Securities and Exchange Commission or any governmental agency of any country. It is understood by the Seller and EBY Ltd. that the Buyer will be required under the regulations of the Securities and Exchange Commission to make a disclosure concerning the acquisition of the Shares and to file a copy of this Agreement with the Securities and Exchange Commission. 2.16 Power of Attorney or Suretyship ------------------------------- EBY LTD. has no power of attorney outstanding nor any other agreement of agency (whether as principal or agent) nor has it any obligation or liability, either actual, accrued, accruing or contingent, as guarantor, surety, consignor, endorser, co-maker, indemnitor or otherwise in respect of any person, corporation, partnership, joint venture, association, organization or other entity. -9- 2.17 Insurance --------- The Disclosure Schedule contains a true and correct list of insurance policies held by EBY LTD. concerning its business and properties. EBY LTD. has provided to the Buyer copies of all such insurance policies. Such insurance or comparable insurance will be maintained in full force and effect to and including the Closing. 2.18 Banks ----- The Disclosure Schedule lists the names and addresses of all banks or other financial institutions at which EBY LTD. has an account, deposit or safe deposit, together with a list of names of all persons authorized to draw on these accounts or deposits or to have access to these boxes. 2.19 Environmental Matters --------------------- EBY LTD. has no liability, actual or contingent, for any claims, costs, suits or damages of any kind or nature arising out of the presence of any hazardous materials, in under or on any property that EBY LTD. has at any time owned, operated, occupied or leased. There are no environmental proceedings against the Seller or EBY LTD., nor are they subject to any claim, investigation, action, proceeding, injunction or decree relating to environmental issues. All environmental permits held by EBY LTD. are listed in the Disclosure Schedule, if any. 2.20 Representations Complete ------------------------ The Seller and EBY LTD have disclosed all material information relating specifically to the business, operations and prospects of EBY LTD. None of the representations and warranties made by the Seller and/or EBY LTD. herein or in any appendix, exhibit, schedule or certificate furnished by either of them, or on their behalf, pursuant to this Agreement, contains or at the Closing, will contain any untrue statement of a material fact, or omits to state any material fact required to be stated therein or necessary in order to make the statements made, in the light of the circumstances under which they were made, to be considered misleading. 3. Representations and Warranties of the Buyer ------------------------------------------- The Buyer represents and Warrants to the Seller that: 3.1 Company Existence; Authorization -------------------------------- The Buyer is duly organized and properly registered in the jurisdiction of their organization. All action on the part of the Buyer, its officers, directors and shareholders necessary for the authorization, execution and delivery of this Agreement, and the performance of all obligations hereunder has been taken or will be taken prior to the Closing, and this Agreement constitutes a valid and legally binding obligation of the Buyer enforceable in accordance with its terms, subject only to laws affecting the rights and remedies of creditors. - 10 - The execution, delivery and performance of this Agreement will not violate any provision of the charter documents of the Buyer, or of any instrument, judgment, order, writ, decree or contract to which it is a party or by which it is bound or, to its knowledge, of any provision of law, rule or regulation applicable to the Buyer. 3.2 Disclosure of Information ------------------------- It believes it has received all the information it considers necessary or appropriate for deciding whether to purchase the Shares. The Buyer further represents that it had an opportunity to ask questions and receive answers from the Seller and EBY LTD. regarding the terms and conditions of the purchase of the Shares and has reviewed the relevant written documents of EBY LTD.. The foregoing, however, does not limit or modify the representations and warranties of the Seller and EBY LTD. in Section 2 of this Agreement or the right of the Buyer to rely thereon. 4. Conditions Precedent to the Buyer's Obligations at Closing ---------------------------------------------------------- The obligations of the Buyer to enter into the transaction contemplated by this Agreement are subject to the satisfaction, or waiver in writing by the Buyer, at or before the Closing of each of the following conditions. 4.1 Representations and Warranties ------------------------------ The representations and warranties of the Seller and EBY LTD. contained in this Agreement, the covenant not to compete and the appendices hereto, or any written statement delivered by the Seller or EBY LTD. under this Agreement, shall be true and correct on the date hereof and on and as of the Closing as though made on such date, except as amended by the Seller and EBY Ltd. at the Closing and which amendment shall be specifically approved by the Buyer. 4.2 Performance ----------- The Seller and EBY LTD. shall have performed and complied with all covenants, agreements, obligations and conditions contained in this Agreement that are required to be performed, satisfied or complied with by it on or before the Closing. 4.3 Proceedings, Documents and Certificates --------------------------------------- All corporate and other proceedings in connection with the transactions contemplated at the Closing and all documents incident thereto shall be reasonably satisfactory in form and substance to the Buyer's counsel, and the Buyer and/or the Escrow Agent shall have received all such counterpart, original and certified or other copies of such documents as they may reasonably request. The Escrow Agent shall receive and hold on behalf of the Buyer the following documents: - 11 - (i) a certificate, dated the Closing, signed by the Seller, and President and Chief Financial Officer of EBY LTD. certifying that the conditions set forth in this Section 4 have been fulfilled, (ii) a certificate as to the good standing of EBY LTD. and (iii) certificates of no outstanding tax liability of EBY LTD. from the appropriate authorities of Ireland and the United Kingdom. 4.4 Written Opinion of the Seller's and EBY LTD.'s Legal Counsel ------------------------------------------------------------ A written legal opinion from the legal counsel(s) of the Seller and EBY LTD., to be addressed to the Buyer and to be permitted to be read by relevant third parties, dated the day of the Closing, will be given stating the following: (a) The Seller and EBY LTD. has been duly incorporated, where and when, and list of the present shareholders; (b) Statement of the existing capitalization of the Seller and EBY LTD.; (c) Shares to be sold to and purchased by the Buyer are validly issued and are outstanding shares of EBY LTD.; (d) Whereby at Closing, the Buyer's purchase of the Shares from the Seller will result in the Buyer acquiring 100% ownership and control of EBY LTD.. (e) Legal counsel knows of no litigation, proceeding or investigation which might result in any material adverse change in the business of the Seller and EBY LTD. and ownership of the Shares at closing; (f) The sale of the Shares does not require the approval of any government or third party approval other than the shareholders of the Seller and will not violate any securities laws in the U.S.A., Israel or elsewhere in the world; (g) The total payment of the Purchase Price will be used to pay two existing obligations of EBY LTD. as follows: (1) The Seller, Software Ideas, Inc., will receive $2,875,000 with respect to the agreement dated October 18, 1995, between EBY LTD. and the Seller, and (2) Fiering & Sjolie Handelsgesellschaft m.b.H. will receive $125,000 with respect to an agreement dated November 29, 1995. After such payments, EBY LTD. has no current or deferred liability to the Seller, EBY LTD.'s employees, or any third party. (h) EBY LTD. owes no current or deferred taxes anywhere in the world as of the Closing. - 12 - 4.5 Necessary Consents ------------------ All necessary agreements and consents of any third parties to the consummation of the transactions contemplated by this Agreement, or otherwise pertaining to the matters covered by it, shall have been obtained by the Seller and EBY LTD. and delivered to the Buyer including, without limitation, any and all required consents of any foreign or state securities law commissioner. 4.6 Resignations of Officers and Directors -------------------------------------- All directors and officers of EBY LTD. shall have delivered to the Escrow Agent their resignation as officers and directors of EBY LTD., effective as of the release of the Shares to the Buyer, and such resignations shall be given to the Buyer, simultaneously upon release of the Shares. 4.7 Escrow Agreement ---------------- The Seller and EBY LTD. shall have executed and delivered the Escrow Agreement in the form attached hereto as Appendix 2. 4.8 Technology Acquisition Agreements --------------------------------- The Buyer has been supplied an executed copy of the agreement dated October 18, 1995, between EBY LTD. and the Seller, and an executed copy of the agreement dated November 29, 1995, between EBY LTD. and Fiering & Sjolie Handelsgesellschaft m.b.H., regarding acquisition of the Technology in Appendix 1. Such agreements constitute valid and legally binding obligations of the parties and enforceable in accordance with their terms. 5. Conditions Precedent to the Seller's Obligations at Closing ----------------------------------------------------------- The obligations of the Seller to enter into the transactions contemplated by this Agreement, are subject to the satisfaction, or waiver in writing by the Seller, at or before the Closing of each of the following conditions: 5.1 Representations and Warranties ------------------------------ The representations and warranties of the Buyer contained in this Agreement shall be true and as of the Closing with the same effect as though such representations and warranties had been made on and as of the Closing. 5.2 Payment of Consideration ------------------------ The Buyer shall have delivered the consideration specified in Section 1 of this Agreement. - 13 - 6. Obligations of the Seller After Closing --------------------------------------- 6.1 Survival of Representations, Warranties and Covenants ----------------------------------------------------- The representations, warranties and covenants of the Seller and EBY LTD. contained in this Agreement or in any certificate, document or instrument delivered pursuant hereto, shall survive the Closing for a period of three (3) years. 6.2 Indemnification --------------- (a) For the period set forth in Section 6.1, the Seller shall indemnify, defend, and hold harmless the Buyer and EBY LTD. and their respective affiliates, successors and assigns, against and in respect of any and all claims, demands, losses, costs, expenses, obligations, liabilities, damages, recoveries, and deficiencies, including interest, penalties and attorneys fees (collectively referred to as "Losses") that EBY LTD. or the Buyer shall directly or indirectly incur or suffer and which arise out of, or are caused or occasioned by, the incorrectness, untruth, or breach of any warranty, representation, covenant or agreement made in this Agreement, or the other exhibits hereto, and all actions and suits incident thereto including any and all personal debts, liabilities or obligations of The Seller, whether past, future, fixed, contingent or otherwise. Notwithstanding for foregoing liability of The Seller under this Section 6.2 shall be limited as set forth in Sections 6.2(b) and 6.2(c). (b) Except with respect to claims based on fraud, the rights of The Buyer and EBY LTD. under this Article VII shall be the exclusive remedy under this Agreement for claim based on the incorrectness, untruth or breach of any warranty, representation, covenant or agreement in this Agreement, or the other exhibits to this Agreement and all actions and suits incident thereto including any and all personal debts, liabilities or obligations of the Seller, whether past, future, fixed, contingent or otherwise and the Seller shall in any event have no liability with respect to any other claim (whether in contract, tort, or otherwise) with respect to or relating to this Agreement, to Escrow Agreement, or the other exhibits to the Agreement. (c) The Buyer will give notice pursuant to Section 11.6 as soon as reasonably practicable to the Seller of any claim by the Buyer for indemnification under this Section or any action or suit against the Buyer or EBY LTD. which, if successfully prosecuted, would result in the proof of incorrectness, untruth or breach of any warranty, representation or agreement made under this Agreement, the Escrow Agreement, or other exhibits or appendices to the Agreement hereto by such persons. Any such notice shall include a description of the basis for the claim or the action or suit in sufficient detail so that the Seller can adequately evaluate the nature of the Buyer's claim. - 14 - The failure promptly to notify the Seller shall not relieve the Seller of its obligations hereunder except to the extent that the failure to so notify materially prejudices the Seller's ability to defend such claim, action or suit. The Seller shall be entitled to control the defense, settlement or other disposition of any such claim, and the Buyer agrees to cooperate with, and to cause EBY LTD. to cooperate with the Seller in any such defense, including, without limitation, by revealing all information pertinent thereto within such person's control and by testing for and on behalf of the Buyer, EBY LTD. or the Seller. The Seller shall have the right, but not the obligation, to compromise or settle any such claim: (i) with the prior consent of the Buyer which consent shall not be unreasonably withheld; or (ii) without the prior consent of the Buyer if the consent of the Buyer was solicited in writing prior to settlement or compromise and such consent was unreasonably withheld. The Seller, in the defense of any such claim, except with the consent of the Buyer, shall not consent to the entry of any judgement or enter into any settlement that does not include as an unconditional term thereof the giving by the claimant or plaintiff to the Buyer and EBY LTD. of a release from all liability in respect to such claim or litigation. (d) Notwithstanding any provision to the contrary in this Agreement, the Buyer and EBY LTD., at their sole option, and at their sole expense, shall have the right but not the obligation, to participate in, though not control, the defense, settlement or other disposition of any action or suit against the Buyer or EBY LTD. which, if successfully prosecuted, could give rise to a claim of indemnification against the Seller hereunder. 6.3 Further Assurances ------------------ At the request of the Buyer, the Seller and his respective successors and assigns, at any time after the Closing, shall execute, acknowledge and deliver any further deeds, assignments, conveyances and other assurances, documents, and instruments of transfer, reasonably requested by the Buyer, and will take any other action consistent with the terms of this Agreement that may reasonably be requested by the Buyer for the purpose of assigning, transferring, granting, conveying, and confirming or reducing to possession or quiet enjoyment the Shares to be conveyed and transferred to the Buyer by this Agreement or any rights assumed by or granted to the Buyer hereunder. - 15 - 6.4 Waiver of Intellectual Property Claims -------------------------------------- The Seller covenants and agrees that it will not now, or at any time in the future, directly or indirectly claim or assert in any action that the products, conduct or operations of EBY LTD. or the Buyer or any of its affiliates, or the practice of the Technology by any of them, infringes or otherwise violates any intellectual property rights of the Seller or any of its affiliates or licensees. 6.5 Waiver of Contribution ---------------------- The Seller expressly acknowledges and agrees that EBY LTD. is becoming a wholly-owned subsidiary of the Buyer on the Closing and although EBY LTD. is a party to this Agreement and has joined in the representations, warranties and covenants made hereunder, the purpose of the representations, warranties and covenants and the indemnification provisions contained herein are primarily, but not exclusively, intended to confer upon the Buyer the right to proceed against the Seller and the Seller shall not allege or seek contribution from EBY LTD. for claims made by the Buyer hereunder and the Seller hereby waives all rights to so allege or so seek. 6.6 Covenant Not To Compete ----------------------- The Seller agrees that after the Closing, the Seller or its associates will not compete, directly or indirectly, engage in the development, manufacture, market or service in the software testing and verification markets dealing with the Technology described in Appendix 1. 6.7 Use of Purchase Price --------------------- The Seller agrees that after Closing and upon the date of release of the Purchase Price by the Escrow Agent to the Seller, to pay within five days, the amount of $125,000 to Fiering & Sjolie Handelsgesellschaft m.b.H. ("Fiering & Sjolie") with respect to the agreement dated November 29, 1995, between EBY LTD. and Fiering & Sjolie, and to accept the remainder of the Purchase Price, $2,875,000, as payment in full for the outstanding obligation between the Seller and EBY LTD. based on the agreement dated October 18, 1995. 7. Option to Acquire Technology ---------------------------- 7.1 For 120 days from the Closing, upon written notice to EBY LTD. and the Seller, the Buyer may, at its sole discretion, elect to rescind its purchase of the Shares of EBY LTD. under this Agreement in exchange for the acquisition from EBY LTD. and the Seller of all Technology. EBY LTD. and the Seller agree to execute such a technology purchase agreement attached as Appendix 6 herein, and that the Purchase Price ---------- paid to the Seller at the Closing under this Agreement will constitute full payment for the Technology under such technology purchase agreement. - 16 - 7.2 Failure of the Seller and EBY LTD. to pass all documents to the Buyer as required under this Agreement would be considered good reason and cause for the Buyer, at the Buyer's choice, not to exercise the option herein described above. 8. Confidentiality --------------- 8.1 It is agreed by the parties to this Agreement that the nature of the transaction herein is confidential, and as such information herein will only be disclosed on an as needed basis to facilitate the transaction and on an as required basis. 8.2 Such confidential information specifically includes all source code, system and user documentation, and other technical documentation pertaining to the Technology and software programs, including any proposed design and specifications for future products and products in development, marketing plans, and all other technical and business information concerning the Technology and the Buyer's business. 8.3 Notwithstanding Sections 8.1 and 8.2, the parties may disclose confidential information where necessary to any regulatory authorities or governmental agencies pursuant to legal process or if required by court order or decree. 8.4 For purposes of this Agreement, information shall not be deemed confidential if such information is available in full from public sources, if such information is received from a third party not under an obligation to keep such information confidential, or if the recipient can conclusively demonstrate that such information was independently developed by the recipient. 8.5 The parties agree that money damages will not be a sufficient remedy for any breach of this Section 8 and that, in addition to all other remedies, the non breaching party shall be entitled to specific performance and injunctive relief or other equitable relief as remedies for any breach or threatened breach. 8.6 In the event that the transactions contemplated by this Agreement shall not be consummated, all such information which shall be in writing shall be returned to the party furnishing the same, including to, to the extent reasonably practicable, all copies or reproductions thereof which may have been prepared and such information will be kept confidential. 8.7 The parties hereto will mutually agree in advance on the form, timing and contents of announcements and disclosures regarding the transactions contemplated by this Agreement. The parties agree that the Buyer may issue a press release announcing the execution of this Agreement. Following the Closing, the Buyer shall have the right to make public disclosures of the terms of this Agreement and the consummation of the transactions contemplated hereby without the written consent of the Seller. -17- 9. Taxes Liabilities and Foreign Exchange -------------------------------------- The consideration to be paid by the Buyer to the Seller for the Shares will be according to Section 1 of this Agreement and each party will be responsible for its own tax liabilities and government approvals such as foreign exchange regulations. 10. Termination Prior to Closing ---------------------------- This Agreement may be terminated at any time prior to the Closing as follows: 10.1 By the mutual consent of the Parties in writing. 10.2 Without liability, if Closing shall not have occurred on or before January 15, 1996. 10.3 Without liability, if a party shall fail to perform any material aspect of this Agreement or materially breach its representations, warranties, agreements, or covenants contained herein, provided such breach shall not be cured within ten days after such party has been notified in writing of the other party's intent to terminate this Agreement pursuant hereto. 10.4 Termination of this Agreement pursuant to this Section 10 shall terminate all obligations of the parties hereunder, except for the obligations of Confidentiality set forth herein. 11. Miscellaneous ------------- 11.1 Survival -------- The representations and warranties of the parties to this Agreement, contained in or made pursuant to this Agreement shall survive the execution and delivery of this Agreement and the Closing and shall in no way be affected by any investigation of the subject matter thereof made by or on behalf of the parties. 11.2 Successors and Assigns ---------------------- Except as otherwise provided herein, the terms and conditions of this Agreement shall inure to the benefit of and be binding upon the respective successors and assigns of the parties. Nothing in this Agreement, express or implied, is intended to confer upon any party other than the parties hereto or their respective successors and assigns, any rights, obligations, or liabilities under or by reason of this Agreement, except as expressly provided in this Agreement. - 18 - 11.3 Settlement of Disputes; Arbitration; Governing Law -------------------------------------------------- (a) In the event of an occurrence of any dispute of disagreement, the Parties shall first exert their best efforts in good faith to resolve the matter amicably between themselves as provided for in this Section. Within 30 days after written demand by either party, the Parties shall each designate a representative from among those personnel acquainted with the work involved who shall discuss and attempt to resolve the dispute or disagreement at the offices of the Buyer in Israel, or such other place agreeable to the Parties. If a resolution has not been reached within 90 days from the date on which the written demand for such working-level discussions was originally made, then the Parties may go to binding arbitration, to the Israeli Institute of Commerical Arbitration Association. The award of such arbitration shall be binding upon the parties. (b) It is agreed that the substantive law governing this Agreement will be the law of the State of Israel and any disputes resolved in arbitration will be governed as such. 11.4 Counterparts ------------ This Agreement may be executed in two or more counterparts, each of which shall be deemed an original, but all of which together shall constitute one and the same instrument. 11.5 Titles, Subtitles, Preamble and Appendices ------------------------------------------ The Titles and subtitles used in this Agreement are used for convenience only and are not to be considered in interpreting this Agreement. The Preamble and Appendices are an integral and inseparable part of this Agreement. 11.6 Notices ------- Unless otherwise provided, any notice required or permitted under this Agreement with respect to parties shall be given in writing and shall be deemed effectively given upon personal delivery to the party to be notified or fourteen (14) business days after deposit with a National Post Office, for dispatch by registered or certified mail, postage prepaid and addressed to the party to be notified at the address set forth in this section as follows: For the Seller and EBY LTD.: Dr. Leopold Specht, Advocate Franziskanerplatz 3/1 1010 Wien Telephone: (0222) 5129074 Fax: (0222) 512 5125377 For the buyer: Mr. Aryeh Feingold Mercury Interactive (Israel) Ltd. 2 Hayotzrim Street Or-Yehuda 60218, Israel Telephone: (03) 5388888 Fax: (03) 5331617 or at such other address as such party may designate by written notice to the other parties; if by facsimile transmission within 48 hours of receipt; in the case of an internationally recognized overnight courier, on the next business day after the date when sent. Any party may change its address for purposes of this paragraph by giving notice of the new address to each of the other parties in the manner set forth above. 11.7 Expenses -------- Irrespective of whether the Closing is effected, the Buyer to this Agreement shall bear the costs and expenses incurred with respect to the negotiation, execution, delivery and performance of this Agreement. The Seller shall pay all such costs and expenses incurred by EBY LTD. and the Seller, provided, however, that the Buyer shall pay, promptly after the Closing, the reasonable itemized legal fees and costs of counsel to the Seller and EBY LTD., up to an aggregate maximum amount of $60,000. There are no finder's fees or broker's fees regarding this Agreement. The Seller and the Buyer each agree to indemnify and hold harmless the other against any loss, liability, damage, cost, claim, or expense incurred by reason of any brokerage commission, or finder's fee alleged to be payable because of any act, omission or statement of the indemnifying party. 11.8 Assignment ---------- The Seller and EBY LTD. shall not assign this Agreement without first obtaining the written consent of the Buyer. The Buyer shall not assign this Agreement to any entity without first obtaining the written consent of the Seller and EBY LTD., which consent shall not be unreasonably held, provided, however that the Buyer may assign its rights and obligations hereunder to any successor or successors of the Buyer by way of reorganization, merger or consolidation and any assignee of all or substantially all of its business and assets or more than 50% of its shares of outstanding capital stock. 11.9 Entire Agreement, Amendments and Waivers ---------------------------------------- This Agreement and the appendices hereto constitute the entire agreement between the parties pertaining to the agreements, representations, warranties, covenants and understandings of the parties and expressly supersedes the Letter of Intent between the parties dated October 19, 1995. No supplement, modification, or amendment of this Agreement shall be binding unless executed by all the parties. Any term of this Agreement may be amended and the observance of any term of this Agreement may be waived (either generally or in a 19 - 20 - particular instance and either retroactively or prospectively), only with the written consent of all the parties hereto. No waiver of any of the provisions of this Agreement shall be deemed, or shall constitute a waiver of any other provision, whether or not similar, nor shall any waiver constitute a continuing waiver. 11.10 Severability ------------ Should any provision of this Agreement be determined to be invalid, it shall be severed from this Agreement and the remaining provisions shall remain in full force and effect. 11.11 Parties in Interest ------------------- Nothing in this Agreement, express or implied, is intended to confer any rights or remedies under or by reason of this Agreement on any persons other than the parties to it and their respective and permitted successors and assigns, nor is anything in this Agreement intended to relieve or discharge the obligation or liability of any third persons to any party to this Agreement, nor shall any provision give any third persons any right of subrogation or action over against any party to this Agreement. 11.12 Advice of Legal Counsel ----------------------- Each party to this Agreement acknowledges and represents that it has been represented by its own legal counsel in connection with the transactions contemplated by this Agreement, with the opportunity to seek advice as to its legal rights from such counsel. Each party further represents that it has been independently advised as to the tax consequences of the transactions contemplated by this Agreement and is not relying on any representations or statements made by any other party as to such consequences. IN ATTESTING THERETO, THE PARTIES BELOW STATE THAT THEY ARE PROPERLY EMPOWERED AND AUTHORIZED BY THEIR RESPECTIVE ENTITIES AND/OR AS INDIVIDUALS, TO EXECUTE THIS AGREEMENT AND HAVE SIGNED THIS AGREEMENT AS OF THE DATE SO INDICATED. ***** 12.12.95 ***** ***** - ---------------------------- ----------------------------- The Seller date The Buyer date By: Lissovskaia Tatiana By:__________________________ ------------------------- Title:______________________ Title:_______________________ ***** 12-12-95 - ---------------------------- EBY LTD. date By: Leopold Sperhl ------------------------- Title:______________________ EX-11.1 3 COMPUTATION OF NET INCOME (LOSS) PER SHARE EXHIBIT 11.1 MERCURY INTERACTIVE CORPORATION COMPUTATION OF NET INCOME (LOSS) PER COMMON AND COMMON EQUIVALENT SHARES (PRIMARY AND FULLY DILUTED) (in thousands, except per share amounts)
YEAR ENDED DECEMBER 31, ---------------------- 1996 1995 1994 ------ ------- ------ Weighted average common shares outstanding.............. 15,908 13,947 12,610 Weighted average common equivalent shares from dilutive options (1)............................................ 655 -- 727 ------ ------- ------ Weighted average common shares and equivalents.......... 16,563 13,947 13,337 ====== ======= ====== Net income (loss)....................................... $4,626 $(5,251) $5,049 ====== ======= ====== Net income (loss) per share............................. $ 0.28 $ (0.38) $ 0.38 ====== ======= ======
- -------- (1) Common equivalent shares are excluded from the computation if their effect is anti-dilutive. EX-21.1 4 SUBSIDIARIES OF REGISTRANT EXHIBIT 21.1 SUBSIDIARIES OF REGISTRANT Mercury Interactive (Israel) Limited, incorporated under the laws of Israel Mercury Interactive (UK) LTD., incorporated under the laws of the United Kingdom Mercury Interactive France SARL, incorporated under the laws of France Mercury Interactive GmbH, incorporated under the laws of Germany Mercury Interactive (Europe) BV, incorporated under the laws of The Netherlands Mercury Interactive (Canada) Inc., incorporated under the laws of Canada Mercury Interactive Japan K.K., incorporated under the laws of Japan Mercury Interactive (Australia) Pty Ltd., incorporated under the laws of Australia EX-23.1 5 CONSENT OF INDEPENDENT ACCOUNTANTS EXHIBIT 23.1 CONSENT OF INDEPENDENT ACCOUNTANTS We hereby consent to the incorporation by reference in the Registration Statements on Form S-8 (No. 33-71018, 33-74728, 33-95178 and 333-09913) of Mercury Interactive Corporation of our report dated January 31, 1997 appearing on page F-1 of this Form 10-K. PRICE WATERHOUSE LLP San Jose, California March 20, 1997 EX-27.1 6 FINANCIAL DATA SCHEDULE
5 1,000 YEAR DEC-31-1996 JAN-01-1996 DEC-31-1996 44,337 26,686 19,639 1,136 560 96,532 12,483 7,070 117,489 18,450 0 32 0 0 99 117,489 54,550 54,550 6,659 6,659 45,469 0 0 5,783 1,157 4,626 0 0 0 4,626 0.28 0.28 -----END PRIVACY-ENHANCED MESSAGE-----