10-Q 1 e10-q.txt FORM 10-Q PERIOD ENDED JUNE 30, 2000 1 ================================================================================ UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q [X] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 for the quarterly period ended June 30, 2000 or [ ] Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 for the transition period from ______ to ______. Commission File Number: 0-20710 PEOPLESOFT, INC. (Exact name of registrant as specified in its charter) DELAWARE 68-0137069 (State or other jurisdiction of (I.R.S. Employer Identification No.) incorporation or organization) 4460 HACIENDA DRIVE, PLEASANTON, CA 94588 (Address of principal executive officers) (Zip Code) REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (925) 694-3000 Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ] Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date:
OUTSTANDING AT CLASS JULY 19, 2000 ----- ------------- Common Stock, par value $.01 ................... 279,663,126
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PAGE NO. -------- PART I FINANCIAL INFORMATION ITEM 1 -- Financial Statements Condensed Consolidated Balance Sheets as of December 31, 2 1999 and June 30, 2000 Condensed Consolidated Statements of Operations for the Three and Six Months Ended June 30, 1999 and June 30, 2000 3 Condensed Consolidated Statements of Cash Flows for the 4 Six Months Ended June 30, 1999 and June 30, 2000 Notes to Condensed Consolidated Financial Statements 5 ITEM 2 -- Management's Discussion and Analysis of Financial Condition and Results of Operations 11 ITEM 3 -- Financial Risk Management 18 PART II OTHER INFORMATION ITEM 1 -- Legal Proceedings 31 ITEM 2 -- Changes in Securities and Use of Proceeds 32 ITEM 3 -- Defaults upon Senior Securities 32 ITEM 4 -- Submission of Matters to a Vote of Security Holders 32 ITEM 5 -- Other Information 32 ITEM 6 -- Exhibits and Reports on Form 8-K 32 SIGNATURES 33
1 3 PART I - FINANCIAL INFORMATION ITEM 1 - FINANCIAL STATEMENTS PEOPLESOFT, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (In thousands)
December 31, June 30, 1999 2000 ----------- ----------- (Unaudited) ASSETS Current assets: Cash and cash equivalents $ 414,019 $ 506,614 Short-term investments 290,122 130,061 Accounts receivable, net 331,104 378,246 Investments in corporate equity securities 260,664 121,479 Deferred income taxes -- 52,804 Other current assets 63,467 92,591 ----------- ----------- Total current assets 1,359,376 1,281,795 Property and equipment, at cost 359,549 378,144 Less accumulated depreciation and amortization (187,056) (206,368) ----------- ----------- 172,493 171,776 Investments 67,852 160,187 Deferred income taxes 18,774 28,628 Capitalized software, less accumulated amortization 27,286 20,134 Other assets 42,097 46,161 ----------- ----------- Total assets $ 1,687,878 $ 1,708,681 =========== =========== LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Accounts payable $ 27,555 $ 57,047 Accrued liabilities 121,434 106,802 Accrued compensation and related expenses 130,245 132,582 Income taxes payable 19,055 33,230 Deferred income taxes 23,945 -- Deferred revenues 429,929 436,643 ----------- ----------- Total current liabilities 752,163 766,304 Long-term debt 69,000 69,000 Other long-term liabilities 14,050 8,960 Long-term deferred revenues 88,046 84,474 Commitments and contingencies (see notes) Stockholders' equity: Common stock 2,709 2,779 Additional paid-in capital 538,643 607,887 Accumulated other comprehensive income 143,298 56,575 Retained earnings 79,969 112,702 ----------- ----------- Total stockholders' equity 764,619 779,943 ----------- ----------- Total liabilities and stockholders' equity $ 1,687,878 $ 1,708,681 =========== ===========
See accompanying notes to condensed consolidated financial statements. 2 4 PEOPLESOFT, INC. CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (In thousands, except per share amounts) (Unaudited)
Three Months Ended June 30, Six Months Ended June 30, --------------------------- --------------------------- 1999 2000 1999 2000 --------- --------- --------- --------- Revenues: License fees $ 79,979 $ 109,833 $ 178,706 $ 200,068 Services 275,053 280,963 525,883 543,015 Development and other services 5,649 29,358 6,201 52,490 --------- --------- --------- --------- Total revenues 360,681 420,154 710,790 795,573 Costs and Expenses: Cost of license fees 9,637 7,828 22,144 18,261 Cost of services 147,312 149,435 286,162 292,722 Cost of development services 5,236 26,644 5,647 47,741 Sales and marketing 100,548 112,059 204,317 198,589 Product development 76,140 84,237 143,101 164,136 General and administrative 23,751 23,802 46,058 49,436 Restructuring charges 3,089 -- 7,444 -- Contribution to Momentum Business Applications -- -- 176,409 -- --------- --------- --------- --------- Total costs and expenses 365,713 404,005 891,282 770,885 --------- --------- --------- --------- Operating (loss) income (5,032) 16,149 (180,492) 24,688 Other income, net 4,525 8,187 11,973 25,864 --------- --------- --------- --------- (Loss) income before income taxes (507) 24,336 (168,519) 50,552 Provision for income taxes 35 8,388 3,239 17,819 --------- --------- --------- --------- Net (loss) income $ (542) $ 15,948 $(171,758) $ 32,733 ========= ========= ========= ========= Basic (loss) income per share $ (0.00) $ 0.06 $ (0.66) $ 0.12 Shares used in basic per share computation 262,481 277,053 260,137 275,814 --------- --------- --------- --------- Diluted (loss) income per share $ (0.00) $ 0.06 $ (0.66) $ 0.12 Shares used in diluted per share computation 262,481 280,609 260,137 281,574 --------- --------- --------- ---------
See accompanying notes to condensed consolidated financial statements. 3 5 PEOPLESOFT, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (In thousands) (Unaudited)
For the Six Months Ended June 30, 1999 2000 --------- --------- Operating activities: Net (loss) income $(171,758) $ 32,733 Adjustments to reconcile net (loss) income to net cash used in operating activities: Depreciation and amortization 45,606 41,013 Provision for doubtful accounts 3,242 247 Gain on sales of investments and loss on disposition of property and equipment, net -- (8,587) Restructuring charges and other non-cash items 2,228 (1,334) Changes in operating assets and liabilities: Accounts receivable 14,577 (54,014) Cash received from sales of accounts receivable 22,931 22,617 Accounts payable and accrued liabilities (19,515) (1,919) Accrued compensation and related expenses 19,492 2,337 Income taxes payable (21,150) 14,175 Deferred income taxes (7,727) (35,638) Deferred revenues 20,925 3,142 Other assets and liabilities (22,028) (31,668) --------- --------- Net cash used in operating activities (113,177) (16,896) Investing activities: Purchase of investments available for sale (187,408) (200,172) Proceeds from maturities and sales of investments available for sale 197,551 232,411 Proceeds from maturities of investments held to maturity 22,521 46,610 Purchase of property and equipment (23,724) (29,229) Additions to capitalized software (1,926) -- Proceeds from sale of acquired software -- 5,592 Acquisitions -- (7,509) --------- --------- Net cash provided by investing activities 7,014 47,703 Financing activities: Net proceeds from sale of common stock and exercise of stock options 36,752 55,866 Tax benefits from exercise of stock options 3,626 7,712 Distribution of Momentum Business Applications shares (78,622) -- Payments on capital leases (115) (101) --------- --------- Net cash (used in) provided by financing activities (38,359) 63,477 Effect of foreign exchange rate changes on cash (2,126) (1,689) --------- --------- Net (decrease) increase in cash and cash equivalents (146,648) 92,595 Cash and cash equivalents at beginning of period 531,722 414,019 --------- --------- Cash and cash equivalents at end of period $ 385,074 $ 506,614 ========= ========= Supplemental disclosures: Cash paid for interest $ 1,893 $ 2,007 Cash paid for income taxes, net of refunds $ 28,736 $ 25,197 ========= =========
See accompanying notes to condensed consolidated financial statements 4 6 PEOPLESOFT, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) 1. BASIS OF PRESENTATION The information for the three- and six-month periods ended June 30, 1999 and 2000 is unaudited but includes all adjustments (consisting only of normal, recurring adjustments) that the Company's management believes to be necessary for the fair presentation of the financial position, results of operations, and changes in cash flows for the periods presented. 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 at the date of the financial statements and the reported amounts of revenues and expenses during the reported periods. Despite management's best effort to establish good faith estimates and assumptions, and to manage the achievement of the same, actual results may differ. Certain prior-period amounts have been reclassified to conform to the current period presentation. The Company merged with The Vantive Corporation ("Vantive") on December 31, 1999. This merger was accounted for using the pooling of interests method of accounting and therefore the condensed consolidated financial statements reflect the combined financial position, operating results and cash flows of PeopleSoft and Vantive as if they had been combined for all periods presented. The results of operations of Momentum Business Applications, Inc. ("Momentum Business Applications") were consolidated with the results of operations of the Company through March 15, 1999. The Condensed Consolidated Statement of Operations for the six-month period ended June 30, 1999 includes Momentum Business Application's results through March 15, 1999. The accompanying interim financial statements should be read in conjunction with the financial statements and related notes included in the Company's Annual Report to Stockholders (Form 10-K) for the year ended December 31, 1999. Certain information and footnote disclosures normally included in annual financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to the Securities and Exchange Commission's rules and regulations. Interim results of operations for the three- and six-month periods ended June 30, 2000 are not necessarily indicative of operating results or performance levels that can be expected for the full fiscal year. 2. PER SHARE DATA Basic income (loss) per share is computed by dividing net income (loss) by the weighted average number of common shares outstanding during the period. Diluted income per share is computed by dividing net income by the sum of weighted average number of common shares outstanding and dilutive common equivalent shares outstanding during the period. Common equivalent shares consist of the shares issuable upon the exercise of stock options, warrants and convertible subordinated notes (using the treasury stock method). 5 7 The following table sets forth the computation of basic and diluted income (loss) per share.
(In thousands, except per share amounts) Three Months Ended June 30, Six Months Ended June 30, --------------------------- --------------------------- 1999 2000 1999 2000 --------- --------- --------- --------- Numerator: Net (loss) income $ (542) $ 15,948 $(171,758) $ 32,733 Denominator: Denominator for basic (loss) income per share -- weighted average shares outstanding 262,481 277,053 260,137 275,814 Employee stock options -- 3,556 -- 5,760 Denominator for diluted (loss) income per share -- adjusted weighted average shares outstanding assuming exercise of common equivalent shares 262,481 280,609 260,137 281,574 --------- --------- --------- --------- Basic (loss) income per share $ (0.00) $ 0.06 $ (0.66) $ 0.12 --------- --------- --------- --------- Diluted (loss) income per share $ (0.00) $ 0.06 $ (0.66) $ 0.12 ========= ========= ========= =========
Approximately 20.0 million shares of weighted average common stock equivalents at prices ranging from $15.00 to $46.50 and 8.9 million shares of weighted average common stock equivalents at prices ranging from $19.17 to $46.50 were excluded in the computation of diluted earnings per share during the three- and six-month periods ended June 30, 2000 because the options' exercise prices were greater than the average market price of the common shares during the period. Common stock equivalents were not included in the calculation of diluted loss per share during the three and six months ended June 30, 1999 because they would have a dilutive effect on the loss per share. Approximately 51.5 million and 47.1 million shares of weighted average common stock equivalents at prices ranging from $0.001 and $46.50 were outstanding during the three and six month periods ended June 30, 1999. 3. COMPREHENSIVE LOSS The components of comprehensive loss, net of taxes, were as follows:
(in thousands) Three Months Ended Six Months Ended June 30, June 30, --------------------------- --------------------------- 1999 2000 1999 2000 --------- --------- --------- --------- Net (loss) income $ (542) $ 15,948 $(171,758) $ 32,733 Other comprehensive (loss) income: Net change in unrealized gain on investments available-for-sale -- (43,571) -- (85,034) Foreign currency translation 401 (2,223) (2,124) (1,689) --------- --------- --------- --------- Comprehensive loss $ ( 141) $ (29,846) $(173,882) $ (53,990) ========= ========= ========= =========
4. INVESTMENTS IN CORPORATE EQUITY SECURITIES The Company has classified certain investments in Internet start-up companies as investments available for sale, included in "Investments in corporate equity securities" in the accompanying condensed consolidated balance sheets. Realized gains on the sale of these investments for the three- and six-month periods ended June 30, 2000 were $0 and $9.5 million. The aggregate fair value of corporate equity securities held at June 30, 2000, was $121.5 million. Gross unrealized gains were $102.3 million as of June 30, 2000, and are included, net of deferred income taxes of $39.4 million, as a component of "Accumulated other comprehensive income" in the accompanying condensed consolidated balance sheets. The unrealized holding gains relate to one investment in equity securities in a company that completed its public offering in the third quarter of 1999. These securities are subject to lock-up provisions, which expire in August 2000. Subsequent to June 30, 2000, the Company sold a portion of these marketable equity securities, which generated gross gains of more than $50 million. 6 8 5. FINANCIAL INSTRUMENTS The Company has only limited involvement with derivative financial instruments and does not use them for trading purposes. The Company enters into forward foreign exchange contracts and interest rate contracts to manage certain exposures to fluctuations in foreign exchange and interest rates. The Company has written policies that place all foreign currency forward transactions under the direction of corporate treasury and restrict all derivative transactions to those intended for hedging purposes. Forward Foreign Exchange Contracts The Company has a foreign exchange hedging program designed to mitigate the potential for future adverse impact on intercompany balances due to changes in foreign currency exchange rates. The program uses forward foreign currency exchange contracts as the vehicle for hedging these intercompany balances. The Company uses two multinational banks for substantially all of these contracts. In general, these contracts have terms of three months or less. Gains and losses on the settled contracts are included in "Other income, net" and are recognized in the current period, consistent with the period in which the gain or loss of the underlying transaction is recognized. During the three-month periods ended June 30, 1999 and 2000 the Company recorded net gains from these settled contracts and underlying foreign currency exposures that were insignificant and $1.3 million. During the six-month periods ended June 30, 1999 and 2000 the Company recorded a net loss of approximately $(0.4) million and a gain of approximately $2.4 million, from these settled contracts and underlying foreign currency exposures. At June 30, 2000, the Company had outstanding forward exchange contracts totaling $65.2 million, to exchange Euros ($56.5 million), Singapore dollars ($7.7 million), South African rands ($0.1 million), Swiss francs ($2.8 million), New Zealand dollars ($0.7 million), Hong Kong dollars ($0.4 million) and Canadian dollars ($1.7 million) for U.S. dollars, and to exchange U.S. dollars for Australian dollars ($0.6 million) and British pounds ($4.1 million). Each of these contracts had maturity dates through July 2000 and a book value that approximates fair value. The cost and the fair value of these foreign currency exchange contracts was not material at June 30, 2000. Interest Rate Contracts Starting June 2000, the Company has entered into interest rate swap agreements to reduce the impact of changes in interest rates on its $70.0 million floating rate synthetic lease obligation. The interest rate on the synthetic lease obligation is a floating rate, currently LIBOR plus 1%, that at the Company's election resets on a 1, 2, 3, or 6-month interval. At June 30, 2000, the Company had one outstanding interest rate swap agreement with a commercial bank, having a total notional principal amount of $44.0 million. This agreement effectively changes the Company's interest rate exposure on the $44.0 million due 2003 to a fixed 7.1225%. The interest rate contract matches the underlying terms of the synthetic lease obligation. Concentrations of Credit Risk The Company does not have a concentration of credit or operating risk in any one industry or any one geographic region within or outside of the United States. 6. TRANSFER OF FINANCIAL ASSETS The Company transfers accounts receivable under certain software license agreements with customers to financial institutions. The Company records such transfers as sales of the related accounts receivable when it is considered to have surrendered control of such receivables under the provisions of Statement of Financial Accounting Standards No. 125, "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities" ("SFAS 125"). As of June 30, 2000, the Company had servicing obligations related to approximately $8.7 million of accounts receivable that had been sold under these arrangements. In the event that these receivables are not fully repaid to the financial institution, the Company could be obligated to pay up to ten percent of the amount of the accounts receivable. 7 9 7. RESTRUCTURING AND EXIT CHARGES In the first quarter of 1999, the Company adopted a restructuring plan and incurred a pretax restructuring charge of $4.4 million. PeopleSoft eliminated approximately 430 redundant and unnecessary positions, primarily in the U.S., in the administration, sales support, and marketing support areas. All severance costs associated with this restructuring were paid in 1999 and were funded through operating cash flow. During the second and third quarters of 1999, Vantive, which subsequently merged with the Company, adopted a restructuring plan and incurred pretax charges of $4.3 million to implement a restructuring program aimed at reducing its cost structure. The restructuring charges consisted primarily of write-offs of operating assets associated with the termination of certain projects and relationships that were inconsistent with changes in the operational direction of Vantive. Additional charges were associated with employee severance. As a result of these restructuring actions, five U.S. employees separated from Vantive, including the former chief executive officer and chief operating officer. Approximately $0.7 million of the restructuring charges were cash charges, substantially paid in 1999 and funded through operating cash flow. The remaining $3.7 million represented fixed asset write-downs in the amount of $3.0 million, non-cash compensation expense in the amount of $0.5 million and write-off of the remaining unamortized goodwill attributable to the Wayfarer acquisition in the amount of $0.2 million. In the fourth quarter of 1999, the Company incurred a pretax exit charge of $34.1 million resulting from the merger of PeopleSoft and Vantive. The exit charge included employee severance, write-off of duplicative equipment and other fixed assets, costs associated with the elimination of excess facilities, and costs to terminate contracts with third parties that provide redundant or conflicting services. Approximately 44 redundant positions in the U.S., primarily in the management and administration areas, were eliminated. At June 30, 2000, a total of 43 employees had separated from the Company. The following table sets forth the components of the Company's restructuring reserves as of June 30, 2000, which are included in "Accrued liabilities."
(In thousands) Employee Asset Costs Write-Downs Leases Other Total -------- ----------- -------- -------- -------- Balance December 31, 1999 $ 4,168 $ 1,536 $ 5,870 $ 11,535 $ 23,109 Cash payments (2,883) -- (702) (653) (4,238) Non-cash items -- (840) -- -- (840) -------- -------- -------- -------- -------- Balance June 30, 2000 $ 1,285 $ 696 $ 5,168 $ 10,882 $ 18,031 ======== ======== ======== ======== ========
8. COMMITMENTS AND CONTINGENCIES Beginning on January 29, 1999, a series of class action lawsuits were filed in the United States District Court for the Northern District of California against the Company and certain of its officers and directors, alleging violations of Section 10(b) of the Securities Exchange Act of 1934. The actions were consolidated in June 1999 under the name of the lead case Suttovia v. Duffield, et al., C 99-0472. Following appointment of lead plaintiffs under the provisions of the Private Securities Litigation Reform Act, a consolidated amended complaint was filed on December 6, 1999 (the "Consolidated Complaint"). The Consolidated Complaint named the Company and David Duffield, Albert Duffield, Ronald Codd, Kenneth Morris, Margaret Taylor, Aneel Bhusri, James Bozzini, Cyril Yansouni and George Still as defendants. The Consolidated Complaint purported to bring claims on behalf of all purchasers of PeopleSoft common stock during the period April 22, 1997 to January 28, 1999. The Consolidated Complaint alleged that PeopleSoft misrepresented, inter alia, the degree of market acceptance of its products, the technical capabilities of its products, the success of certain acquisitions it had made, and the anticipated financial performance of the Company in fiscal 1999. The Consolidated Complaint abandoned all of the allegations in the original complaints concerning alleged accounting improprieties, including claims of improper 8 10 accounting related to the Company's write-downs for "in process research and development" in connection with various acquisitions, and improper accounting related to the Company's spin-off of Momentum Business Applications, Inc. (Momentum had been a named defendant in the original actions, but was eliminated as a defendant when the Consolidated Complaint was filed). On February 10, 2000, the defendants filed motions to dismiss the Consolidated Complaint. The motions were heard on May 4, 2000. On May 26, 2000, following post-hearing submissions, the Court entered an order: a) dismissing all claims against defendants Albert Duffield, Kenneth Morris, Margaret Taylor, Aneel Bhusri, James Bozzini, George Still and Cyril Yansouni, without leave to amend; b) dismissing all claims relating to the time period prior to May 27, 1998; c) denying the motion to dismiss as to various forward-looking statements allegedly made by the Company between May 27, 1998 and January 28, 1999; and d) limiting the class period for which claims may be asserted to the same time period. A First Amended Complaint was filed on June 12, 2000. The Court has set a case management schedule pursuant to which the Company will be required to provide discovery to plaintiffs prior to December 29, 2000. A final pre-trial conference will be held on March 12, 2001. The Company believes it has valid defenses to the claims that have not already been dismissed by the Court. However, no assurance can be given that if there is an unfavorable resolution of the litigation, there would not be a material adverse impact on the Company's future financial position or results of operations or cash flows. However, the Company has in place insurance that would be available in the event of an adverse result to cover at least a portion of any amounts determined to be payable, subject to a deductible. On June 30, 2000, a stockholder derivative lawsuit was filed in the California Superior Court, County of Alameda, entitled Marble v. Duffield, et al., naming as defendants David Duffield, Kenneth Morris, Margaret Taylor, Albert Duffield, Ronald Codd, Cyril Yansouni, Aneel Bhusri, George Still, James Bozzini and George Battle. The action alleges that the defendants breached their fiduciary duties and engaged in alleged acts of insider trading when they sold stock while failing to disclose material adverse information allegedly in their possession. The suit seeks unspecified damages, treble damages and attorneys fees. The action is based on many of the same allegations that are the subject of the securities class action litigation pending in federal district court, including many allegations that already have been dismissed in the federal action. The Company believes that the derivative claims are not proper due to plaintiffs' failure to make pre-suit demand on the Company as required by law, and intends to file a motion dismissing the litigation on those grounds. The Company is party to various legal disputes and proceedings arising from the ordinary course of general business activities. In the opinion of management, resolution of these matters is not expected to have a material adverse effect on the financial position, results of the operations and cash flows of the Company. However, depending on the amount and the timing, an unfavorable resolution of some or all of these matters could materially affect the Company's future results of operations or cash flows in a particular period. 9 11 9. SEGMENT AND GEOGRAPHIC AREAS Based on the criteria of Statement of Financial Accounting Standards No. 131, "Disclosures about Segments of an Enterprise and Related Information," ("SFAS 131"), which establishes standards for the way in which public companies disclose certain information about operating segments in the Company's financial reports, the Company identified its chief executive officer ("CEO") as the chief operating decision maker. During the six month period ended June 30, 2000, the Company's CEO evaluated revenue performance based on two segments: North America, which includes the U.S. and Canada, and International, which includes all other geographic regions. Employee headcount and operating costs are managed by functional areas, rather than by revenue segments, and are only reviewed by the CEO on a company-wide basis. In addition, the Company does not account for or report to the CEO its assets or capital expenditures by any other segment. Thus, the Company is not required to disclose any additional information pursuant to SFAS 131. The accounting policies for each of the reportable segments shown below are the same as those described in the summary of significant accounting policies. The following table presents a summary of operating information and certain balance sheet information by operating segment for the periods presented.
(In thousands) Three Months Ended June 30, Six Months Ended June 30, ------------------------------- ------------------------------- 1999 2000 1999 2000 ----------- ----------- ----------- ----------- Revenues from unaffiliated customers North America $ 281,240 $ 329,271 $ 577,539 $ 628,761 International 79,441 90,883 133,251 166,812 ----------- ----------- ----------- ----------- Consolidated $ 360,681 $ 420,154 $ 710,790 $ 795,573 =========== =========== =========== =========== Operating (loss) income North America $ (17,400) $ (9,407) $ (198,441) $ (11,110) International 12,368 25,556 17,949 35,798 ----------- ----------- ----------- ----------- Consolidated $ (5,032) $ 16,149 $ (180,492) $ 24,688 =========== =========== =========== =========== Identifiable assets North America $ 1,285,693 $ 1,483,969 $ 1,285,693 $ 1,483,969 International 149,875 224,712 149,875 224,712 ----------- ----------- ----------- ----------- Consolidated $ 1,435,568 $ 1,708,681 $ 1,435,568 $ 1,708,681 =========== =========== =========== ===========
Revenues from Europe represented 14% and 13% of total revenues for the three-month periods ended June 30, 1999 and 2000. Revenues from Europe represented 11% and 12% of total revenues for the six-month periods ending June 30, 1999 and June 30, 2000. 10. REVENUE RECOGNITION PeopleSoft adopted Statement of Position ("SOP") 98-9, "Modification of SOP 97-2, Software Revenue Recognition, With Respect to Certain Transactions", on January 1, 2000 and has changed certain business policies to meet the requirements of this SOP. In December 1999, the Securities and Exchange Commission ("SEC") issued Staff Accounting Bulletin No. 101, "Revenue Recognition in Financial Statements" ("SAB 101") and amended it in March and June 2000 with respect to the effective dates. PeopleSoft is required to adopt the provisions of SAB 101 in its fourth fiscal quarter of 2000 and is currently in the process of assessing the impact of its adoption. While SAB 101 does not supersede the software industry specific revenue recognition guidance, which the Company believes it is in compliance with, once complete guidance is disseminated, SAB 101 may change current interpretations of software revenue recognition requirements, which could result in PeopleSoft recording a cumulative effect of a change in accounting principles in the fourth quarter of 2000, retroactive to January 1, 2000 and could require PeopleSoft to defer revenue recognized during the first two quarters of 2000 into subsequent periods. 10 12 ITEM 2 -- MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS This Discussion and Analysis of Financial Condition and Results of Operations contains descriptions of the Company's expectations regarding future trends affecting its business. These forward-looking statements and other forward-looking statements made elsewhere in this document are made in reliance upon safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Future results are subject to risks and uncertainties, which could cause actual results and performance to differ significantly from those contemplated by the forward-looking statements. For a discussion of factors that could affect future results, see " Factors That May Affect Future Results and Market Price of Stock." Forward-looking statements contained throughout this Report include but are not limited to those identified with a footnote (1) symbol. The Company undertakes no obligation to update the information contained in this Item 2. As more fully described in the "Merger" section of the Management's Discussion and Analysis of financial condition and Results of Operations included in the 1999 Annual Report on Form 10-K, PeopleSoft, Inc. ("PeopleSoft") merged with The Vantive Corporation ("Vantive") on December 31, 1999. The condensed consolidated financial statements for the three- and six-month periods ended June 30, 1999 included in this report on Form 10-Q have been prepared following the pooling of interests method of accounting and therefore reflect the combined operating results and cash flows of PeopleSoft and Vantive as if they had been combined for the prior-year periods presented. Certain prior period amounts have been reclassified to conform to the current period presentation. The management's discussion and analysis of financial condition and results of operations that follows is also based on the assumption that PeopleSoft and Vantive were combined for the three- and six-month periods ended June 30, 1999. RESULTS OF OPERATIONS The following table sets forth, the percentage of dollar change period over period and the percentage of total revenues represented by certain line items in the Company's condensed consolidated statements of operations, for the three- and six-month periods ended June 30, 1999 and 2000.
Three months ended June 30, Six months ended June 30, ------------------------------------- ---------------------------------------- Percentage of Percentage of Percentage of Percentage of Dollar Change Total Revenues Dollar Change Total Revenues 2000/1999 1999 2000 2000/1999 1999 2000 -------------- ---- ---- ---------- ---- ---- Revenues: License fees ............................. 37% 22% 26% 12% 25% 25% Services ................................. 2 76 67 3 74 68 Development and other services ........... * 2 7 * 1 7 --- --- --- --- --- --- Total revenues ................... 16 100 100 12 100 100 === === === === === === Costs and expenses: Cost of license fees ..................... (19)% 3% 2% (18)% 3% 2% Cost of services ......................... 1 41 36 2 40 37 Cost of development services ............. * 1 6 * 1 6 Sales and marketing ...................... 11 28 27 (3) 29 25 Product development ...................... 11 21 20 15 20 21 General and administrative ............... 0 7 6 7 6 6 Restructuring charges .................... n/a 1 n/a n/a 1 n/a Contribution to Momentum Business Applications ............... n/a n/a n/a n/a 25 n/a --- --- --- --- --- --- Total costs and expenses ......... 10 101 96 (14) 125 97 === === === === === === Operating (loss) income .................... * (1)% 4% (114)% (25)% 3% --- --- --- --- --- --- Other income, net .......................... 81 1 2 116 2 3 --- --- --- --- --- --- Provision for income taxes ................. * 0 2 * 0 2 === === === === === ===
*Not meaningful 11 13 REVENUES Revenue from license fees increased by 37%, from $80.0 million in the second quarter of 1999 to $109.8 million in the second quarter of 2000. The increase in revenue from license fees was primarily the result of increased license fees from the Company's Enterprise Resource Planning ("ERP") back office products and an increase in license fees of the Company's CRM and supply chain management products. During the second quarter of 1999, due to uncertainties arising from product related issues, the Company deferred revenue totaling approximately $10.0 million for two business units. For the year-to-date period, revenue from license fees increased by 12% from $178.7 million during the six-month period ended June 30, 1999 to $200.1 million during the six-month period ended June 30, 2000. The increase in revenue from license fees during the year-to-date period was primarily the result of an increase in license fees from the Company's supply chain management products and an increase in license fees for the Company's ERP back office products. At December 31, 1999 and June 30, 2000, the Company had deferred license revenue in the amount of $70.8 million and $57.6 million. The deferred license revenue balances do not include items which are both deferred and unbilled. The Company's practice is to net such deferred items against the related receivable balances. As of December 31, 1999 and June 30, 2000, $37.0 million and $58.9 million in unbilled receivables was netted against deferred license revenue. Revenue from services increased by 2% from $275.1 million in the second quarter of 1999 to $281.0 million in the second quarter of 2000. The change in services revenue during the second quarter of 2000 when compared to the second quarter of 1999 resulted primarily from an increase in maintenance revenue in the amount of $21.4 million, partially offset by decreases in training revenue of $11.9 million and consulting revenue of $3.5 million. On a sequential basis, revenue from training services was essentially flat; revenue from consulting services increased by 11%. Due to factors such as changes in deferred revenue balances, we cannot give you assurance that revenue from consulting services will continue to increase. Revenue from services as a percentage of total revenues was 76% and 67% for the quarters ended June 30, 1999 and 2000. The decrease in service revenue as a percentage of total revenues during the second quarter of 2000 reflects primarily the change in revenue mix during the quarter, which includes revenue from development services in the amount of $29.4 million compared to $5.6 million in the prior-year quarter and 37% increase in license revenue. Excluding revenues from development services, revenue from services would have been 72% of total revenues. For the year-to-date period, revenue from services increased by 3% from $525.9 million, or 74% of total revenues, in the prior year period to $543.0 million, or 68% of total revenues, in the current year-to-date period. An increase in revenue from maintenance services in the amount of $40.3 million was partially offset by decreases in revenue from training services in the amount of $20.7 million and consulting services in the amount of $2.5 million. If PeopleSoft is not successful in expanding its consulting and training services, total revenues for the Company could be adversely impacted in the future(1). Revenue from development services increased from $5.6 million during the second quarter of 1999 to $29.4 million during the second quarter of 2000. Per the terms of the development agreement with Momentum Business Applications, Inc. ("Momentum"), the Company performs development services on behalf of Momentum; Momentum pays one hundred and ten percent (110%) of the Company's fully burdened costs relating to the research and development provided by the Company. Cost of development services increased from $5.2 million during the second quarter of 1999 to $26.6 million during the second quarter of 2000. The first quarter of 1999 was the first quarter of Momentum's existence and since then, many more projects have been undertaken by Momentum. The Company also charges Momentum a quarterly administrative fee of $0.1 million. For the year-to-date period, revenue from development services increased from $6.2 million during the six months ended June 30, 1999 to $52.5 million during the ----------------------- (1) Forward-Looking Statement 12 14 six months ended June 30, 2000; cost of development services increased from $5.6 million during the six-month period ended June 30, 1999 to $47.7 million during the same period in the current year. Cost of development services for the six months ended June 30, 2000 includes approximately $2.3 million of third-party royalty costs for technology that will be incorporated into products developed by Momentum. During the third quarter of 2000, the Company expects revenues from development services to increase; but in the fourth quarter of 2000, with the anticipated general availability of PeopleSoft 8, the Company expects revenues from development services to decrease from the third quarter of 2000. Total revenues increased by 16% from $360.7 million in the second quarter of 1999 to $420.2 million in the second quarter of 2000. The increase in total revenues during the quarter is primarily attributable to the $29.9 million increase in revenue from license fees and the $23.7 million increase in revenue from development services. For the year-to-date period, total revenues increased by 12% from $710.8 million during the six months ended June 30, 1999 to $795.6 million during the six months ended June 30, 2000. The year-to-date increase is attributable to an increase of $46.3 million in revenue from development services, an increase in revenue from license fees of $21.4 million and an increase in revenue from services of $17.1 million. Revenues by Segment At June 30, 2000, the Company is organized by geographic areas, in two operating segments: North America, which includes operations in the U.S. and Canada, and International, which includes operations in all other regions. During the second quarter of 2000, revenues from the North America segment increased by 17% from $281.2 million, or 78% of total revenues, in the second quarter of 1999 to $329.3 million, or 78% of total revenues, in the second quarter of 2000. The quarter-over-quarter increase was primarily attributable to an increase in revenues from development services in the amount of $23.7 million and an increase in license revenues in the amount of $22.2 million. For the year-to-date period, revenues from the North America segment increased by 9% from $577.5 million, or 81% of total revenues, to $628.8 million, or 79% of total revenues. The year-to-date increase in revenues from the North America segment is primarily the result of the increase in revenues from development services, which increased by $46.3 million. Revenues from the International segment increased by 14% from $79.4 million, or 22% of total revenues, in the second quarter of 1999 to $90.9 million, or 22% of total revenues, in the second quarter of 2000. Within the International segment, revenues from Europe represented 14% and 13% of total revenues during the second quarter of 1999 and the second quarter of 2000, where the Company experienced growth in revenues from services compared to the prior-year quarter. For the year-to-date period, revenues from the International segment increased by 25% from $133.3 million, or 19% of total revenues, during the six months ended June 30, 1999 to $166.8 million, or 21% of total revenues, during the same period in the current year. Revenues from Europe represented 11% and 12% of total revenues during the year-to-date period. The year-to-date increase in revenues from the International segment is primarily due to increases in revenues from the Europe and Latin America regions. COSTS AND EXPENSES Cost of license fees consists principally of royalties, technology access fees for certain third-party software products and amortization of capitalized software costs. Cost of license fees decreased from $9.6 million in the second quarter of 1999 to $7.8 million in the second quarter of 2000, representing 3% and 2% of total revenues. Cost of license fees represented 12% of license fee revenues in the second quarter of 1999 and 7% of license fee revenues in the second quarter of 2000. During the six months ended June 30, 1999 and 2000, cost of license fees decreased from $22.1 million to $18.3 million, representing 3% and 2% or total revenues and 12% and 9% of license revenues. The quarter-to-date and year-to-date decrease in cost of license fees was due in part to resolution of a royalty liability of $2.4 million, where payment was no longer required. Royalties associated with certain software products currently under development by joint business arrangements and charges associated with software products and technologies acquired from --------------------------------- (1) Forward-Looking Statement 13 15 various third-party vendors may cause the cost of license fees to increase in future periods in dollar amount and as a percentage of license fee revenues(1). The Company's products are based on a combination of internally developed technology and application products, as well as bundled third-party products and technology. Cost of license fees as a percentage of license fee revenues will likely fluctuate from period to period due principally to the mix of sales of royalty-bearing software products in each period and seasonal fluctuations in revenues contrasted with certain fixed expenses such as the amortization of capitalized software(1). Cost of services consists primarily of employee-related costs and other expenses incurred to provide consulting and installation services, customer care center administrative support, account management field support, training, and product support. These costs increased from $147.3 million in the second quarter of 1999 to $149.4 million in the second quarter of 2000, representing 41% and 36% of total revenues and 54% and 53% of service revenues. Cost of services for the year-to-date period increased from $286.2 million during the six months ended June 30, 1999 to $292.7 million during the six months ended June 30, 2000, representing 40% and 37% of total revenues and 54% of service revenues in each of those periods. The dollar increase in cost of services during the quarter and year-to-date periods is consistent with the increase in services revenue. The Company anticipates cost of services will increase in dollar amount, and may increase as a percentage of service revenues and total revenues in future periods(1). Sales and marketing expenses increased from $100.5 million in the second quarter of 1999 to $112.1 million in the second quarter of 2000, representing 28% and 27% of total revenues in each of those quarters. The increase was primarily attributable to an increase in advertising expenses and sales compensation costs during the quarter. For the year-to-date period, sales and marketing expense decreased from $204.3 million for the six months ended June 30, 1999 to $198.6 million during the six months ended June 30, 2000. The increase in advertising expenses during the second quarter of 2000 partially offset the decrease in sales and marketing expenses during the first quarter of 2000, which resulted in part from a decrease in consulting services related to sales support. Sales and marketing expenses may increase in dollar amount and as a percentage of total revenues in future periods as the Company increases its sales force and marketing and advertising expenses in support of the anticipated general availability of PeopleSoft 8 and the recently acquired CRM product line(1). Software product development expenditures consist of costs related to the Company's staff of software developers and outside consultants, and the associated infrastructure costs required to support software product development initiatives. Software product development expenses increased from $76.1 million in the second quarter of 1999 to $84.2 million in the second quarter of 2000, representing 21% and 20% of total revenues in each of those quarters. The Company's research and development staff consisted of 1,624 and 2,006 employees as of June 30, 1999 and June 30, 2000. For the year-to-date period, product development expenses increased from $143.1 million during the six months ended June 30, 1999 to $164.1 million for the six months ended June 30, 2000. The Company's current focus in application development is to complete its next major release, PeopleSoft 8, which is expected to be the first pure HTML internet client offering from the Company, and includes internet technologies, such as XML, publish-subscribe and business interlink(1). In addition to this major technology shift, the Company expects to deliver enhanced functionality in its core products and a number of new applications, mostly focused on eCommerce and Internet collaboration(1). The Company expects that the dollar amount invested in software product development expenses will continue to increase during the third quarter of 2000 as the Company continues to invest in expanded functionality across all of its software product offerings, including global product requirements and industry specific requirements(1). There can be no assurance that such development efforts will result in products, features or functionality or that software products, features or functionality that are developed will be accepted by the market. --------------------------------- (1) Forward-Looking Statement 14 16 General and administrative expenses were $23.8 million during the second quarter of 1999 and second quarter of 2000, representing 7% and 6% of total revenues. An increase in amortization of goodwill and value of workforce of approximately $1.9 million was offset by various decreases in other areas, including the favorable resolution of a contract liability with a business partner. For the year-to-date period, general and administrative expenses were $46.1 million for the six months ended June 30, 1999 and $49.4 million for the six months ended June 30, 2000. The year to date dollar increase is primarily due to an increase in amortization of goodwill and value of workforce of $3.9 million resulting from the TriMark and Distinction acquisitions in May and August of 1999. RESTRUCTURING AND EXIT CHARGES During the first quarter of 1999, the Company adopted a restructuring plan and incurred a pretax restructuring charge of $4.4 million. PeopleSoft eliminated approximately 430 redundant and unnecessary positions, primarily in the U.S. in the administration, sales support, and marketing support areas. All severance costs associated with this restructuring were paid in 1999 and were funded through operating cash flow. During the second and third quarters of 1999, Vantive, which subsequently merged with the Company, adopted a restructuring plan and incurred pretax charges of $4.3 million to implement a restructuring program aimed at reducing its cost structure. The restructuring charges consisted primarily of write-offs of operating assets associated with the termination of certain projects and relationships that were inconsistent with changes in the operational direction of Vantive. Additional charges were associated with employee severance. As a result of these restructuring actions, five U.S. employees separated from Vantive, including the former chief executive officer and chief operating officer. Approximately $0.7 million of the restructuring charges were cash charges, substantially paid in 1999 and funded through operating cash flow. The remaining $3.7 million represented fixed asset write-downs in the amount of $3.0 million, non-cash compensation expense in the amount of $0.5 million and write-off of the remaining unamortized goodwill attributable to the Wayfarer acquisition in the amount of $0.2 million. In the fourth quarter of 1999, the Company incurred a pretax exit charge of $34.1 million resulting from the merger of PeopleSoft and Vantive. The exit charge included employee severance, write-off of duplicative equipment and other fixed assets, costs associated with the elimination of excess facilities, and costs to terminate contracts with third parties that provide redundant or conflicting services. Approximately 44 redundant positions in the U.S., primarily in the management and administration areas, were eliminated. At June 30, 2000, a total of 43 employees had separated from the Company. The following table sets forth the components of the Company's restructuring reserves as of June 30, 2000, which are included in "Accrued liabilities" in the accompanying condensed consolidated balance sheets.
(in millions) Employee Asset Costs Write-Downs Leases Other Total -------- ----------- ----- ----- ----- Balance December 31, 1999 ......... $ 4.2 $ 1.5 $ 5.9 $11.5 $23.1 Cash payments .................. (2.9) -- (0.7) (0.6) (4.2) Non-cash items ................. -- (0.8) -- -- (0.8) ----- ----- ----- ----- ----- Balance June 30, 2000 ............. $ 1.3 $ 0.7 $ 5.2 $10.9 $18.1 ===== ===== ===== ===== =====
CONTRIBUTION TO MOMENTUM BUSINESS APPLICATIONS During 1998, PeopleSoft formed Momentum Business Applications, Inc. ("Momentum"), a research and development company designed to develop eBusiness, analytic applications and industry-specific software products. All of the outstanding shares of Momentum Class A Common Stock were transferred to a custodian on December 31, 1998 and distributed as a dividend to holders of PeopleSoft Common Stock during January 1999. Prior to the distribution, PeopleSoft contributed $250.0 million to Momentum. PeopleSoft consolidated Momentum into its financial statements for the fourth quarter of 1998. However, during the first quarter of 1999, Momentum no longer met the requirements for consolidation. As a result, the Company incurred a charge of $176.4 million, which represents the $250.0 million contribution less a $78.6 million dividend recorded as of December 31, 1998, investment banker fees of $2.9 million, other expenses related to the formation of Momentum, and expenses incurred by Momentum while consolidated with the Company. 15 17 OTHER INCOME, NET "Other income, net," which includes interest income, interest expense and other, increased from $4.5 million in the second quarter of 1999 to $8.2 million in the second quarter of 2000, and from $12.0 million in the six months ended June 30, 1999 to $25.9 million during the six months ended June 30, 2000. The increase during the quarter was primarily the result of an increase in interest income. The year-to-date increase was primarily the result of $9.5 million in gains on the sale of corporate equity securities during the first quarter of 2000 and an increase in interest income. See also "Investments in Corporate Equity Securities and Unrealized Gains." PROVISION FOR INCOME TAXES The Company's income tax provision increased from an insignificant amount in the three-month period ended June 30, 1999 to $8.4 million for the same period in 2000 and increased from $3.2 million in the six-month period ended June 30, 1999 to $17.8 million for the same period in 2000. The effective tax rate was 38.1% and 34.5% for the six months ended June 30, 1999 and June 30, 2000, excluding the impact of the charges related to Momentum and the restructuring charges occurring in the first half of 1999 as well as the impact of the gain on sale of marketable equity securities in the first quarter of 2000. The 2000 rate is lower than the 1999 rate mainly due to the statutory extension of the research and development credit. The net deferred tax assets at June 30, 2000 were $81.4 million. The valuation of these net deferred tax assets is based on historical tax positions and expectations about future taxable income. NET INCOME (LOSS) PER SHARE Diluted net income (loss) per share increased from an insignificant loss per share in the second quarter of 1999 to net income of $0.06 per share in the second quarter of 2000. Weighted average shares outstanding used in the calculation of diluted net income (loss) per share were 262.5 million for the second quarter of 1999 compared to 280.6 million for the second quarter of 2000. Net loss for the second quarter of 1999 included $3.1 million for restructuring charges. Diluted net income (loss) per share for the year-to-date period increased from a net loss of $(0.66) for the six months ended June 30, 1999 to $0.12 for the six months ended June 30, 2000. Net loss for the six months ended June 30, 1999 included pretax charges of $176.4 million for the contribution to Momentum Business Applications and $7.4 million for restructuring charges. Net income for the six months ended June 30, 2000 included a pretax gain on the sale of corporate equity securities in the amount of $9.5 million. Weighted average shares outstanding, used in the calculation of diluted net income (loss) per share, were 260.1 million for the six months ended June 30, 1999 compared to 281.6 million for the six months ended June 30, 2000. Shares outstanding during 2000 might be impacted by the following factors: (i) any fluctuations in the Company's stock price, which could cause changes in the number of common stock equivalents included in the earnings per share computation; (ii) the issuance of common stock associated with stock option exercises and the employee stock purchase plan; (iii) the issuance of common stock to effect business combinations, should the Company enter into such transactions; and (iv) potential conversion of subordinated notes into common stock of the Company(1). INVESTMENTS IN CORPORATE EQUITY SECURITIES AND UNREALIZED GAINS The Company has classified certain investments in Internet start-up companies as investments available for sale, included in "Investments in corporate equity securities" in the accompanying condensed consolidated balance sheets. Realized gains on the sale of these investments for the three- and six-month periods ended June 30, 2000 were $0 and $9.5 million. The aggregate fair value of corporate equity securities held at June 30, 2000, was $121.5 million. Gross unrealized gains were $102.3 million as of June 30, 2000, and are included, net of deferred income taxes of $39.4 million, as a component of "Accumulated other comprehensive income" in the accompanying condensed consolidated balance sheets. The unrealized --------------------------------- (1) Forward-Looking Statement 16 18 holding gains relate to one investment in equity securities in a company that completed its public offering in the third quarter of 1999. These securities are subject to lock-up provisions, which expire in August 2000. Subsequent to June 30, 2000, the Company sold a portion of these marketable equity securities, which generated gross gains of more than $50 million. The stock market is highly volatile, as a result, we cannot give you assurance that the additional unrealized holding gains as of June 30, 2000 will be realized, and we may even incur losses on our remaining holdings(1). NEWLY ISSUED ACCOUNTING STANDARDS In December 1999, the Securities and Exchange Commission ("SEC") issued Staff Accounting Bulletin No. 101, "Revenue Recognition in Financial Statements" ("SAB 101") and amended it in March and June 2000 with respect to the effective dates. PeopleSoft is required to adopt the provisions of SAB 101 in its fourth fiscal quarter of 2000 and is currently in the process of assessing the impact of its adoption. While SAB 101 does not supersede the software industry specific revenue recognition guidance, which the Company believes it is in compliance with, once complete guidance has been disseminated, SAB 101 may change current interpretations of software revenue recognition requirements, which could result in PeopleSoft recording a cumulative effect of a change in accounting principles in the fourth quarter of 2000 retroactive to January 1, 2000 and could require PeopleSoft to defer revenue recognized during the first two quarters of 2000 into subsequent periods. LIQUIDITY AND CAPITAL RESOURCES At June 30, 2000, the Company had $515.5 million in working capital, including $506.6 million in cash and cash equivalents and $130.1 million in short-term investments, consisting principally of investments in interest-bearing demand deposit accounts with various financial institutions, tax-advantaged money market funds and highly liquid debt and equity securities of corporations, municipalities and the U.S. Government. The Company believes that the combination of cash and cash equivalents and short-term investment balances, issuance of stock under the employee purchase plan and stock option exercises, proceeds from sale of strategic equity security investments, and potential cash flow from operations will be sufficient to satisfy its operating cash requirements and expected purchases of property and equipment at least through the next twelve months(1). The following table summarizes the Company's cash flows from operating, investing and financing activities.
Six Months Ended June 30, 1999 2000 (in millions) ------- ------- Net cash (used in) provided by: Operating activities ................................................. $(113.2) $ (17.0) Investing activities ................................................. 7.0 47.8 Financing activities ................................................. (38.4) 63.5 Effect of exchange rate changes on cash and cash equivalents ......... (2.1) (1.7) ------- ------- (Decrease) increase in cash and cash equivalents ......................... $(146.7) $ 92.6 ======= =======
Net cash used in operating activities was $113.2 and $17.0 million during the six-month periods ended June 30, 1999 and 2000. Cash used in operating activities for the first six months of 1999 resulted primarily from the net loss for the period, which included the $176.4 contribution to Momentum Business Applications, plus a decrease in income taxes payable of approximately $21.1 million and an increase in --------------------------------- (1) Forward-Looking Statement 17 19 other assets and liabilities of approximately $22.0 million, all of which were partially offset by non-cash charges of approximately $51.1 million, including amortization and depreciation, a decrease in accounts receivable of approximately $37.5 million and an increase in deferred revenues of approximately $20.9 million. Excluding the contribution to Momentum Business Applications, operating activities provided cash of approximately $63.2 million. The cash used in operating activities during the six months ended June 30, 2000 was primarily the result of net income of $32.7 million plus non-cash items totaling approximately $31.3 million, including depreciation and amortization, and an increase in income taxes payable of approximately $14.2 million, offset by an increase in accounts receivable of approximately $31.4 million, a decrease in deferred income taxes of approximately $35.6 million and an increase in other assets and liabilities of approximately $31.7 million. Net cash provided by investing activities was $7.0 million during the six-month period ended June 30, 1999 and $47.7 million during the six-month period ended June 30, 2000. The Company's principal source of cash from investing activities in the six-month period ended June 30, 1999 included net proceeds from maturities of investments in the amount of $32.7 million, which were partially offset by purchases of property and equipment in the amount of $23.7 million. The Company's principal source of cash from investing activities during the six-month period ended June 30, 2000 was net proceeds from maturities and sales of investments of $78.9 million, which were partially offset by purchases of property and equipment in the amount of $29.2 million. Net cash used in financing activities during the six-month period ended June 30, 1999 was $38.4 million compared to net cash provided by financing activities during the six-month period ended June 30, 2000, in the amount of $63.5 million. The principal use of cash for financing activities during the six months ended June 30, 1999 was the Company's distribution of $78.6 million in Momentum Business Applications shares to PeopleSoft stockholders, which was partially offset by proceeds from the exercise of common stock options by employees and issuance of stock under the employee stock purchase program in the amount of $36.8 million. The principal source of cash provided by financing activities during the six-month period ended June 30, 2000 was proceeds from the exercise of common stock options by employees and issuance of stock under the employee stock purchase program in the amount of $55.9 million . ITEM 3 - FINANCIAL RISK MANAGEMENT FOREIGN EXCHANGE RISK During the six months ended June 30, 1999 and 2000, the Company's revenue originating outside the United States was 23% and 24% of total revenues, including revenues generated in Europe of 11% and 12% of total revenues during the same periods. Revenues from all other geographic regions were less than 10% of total revenues. International sales are made mostly from the Company's foreign sales subsidiaries in the local countries and are typically denominated in the local currency of each country. These subsidiaries incur most of their expenses in the local currency as well. The Company's international business is subject to risks typical of an international business, including, but not limited to: differing economic conditions, changes in political climate, differing tax structures, local regulations and restrictions, and foreign exchange rate volatility. Accordingly, the Company could experience a material adverse effect on its business and results of operations arising from its foreign operations. 18 20 The Company's exposure to foreign exchange rate fluctuations arises in part from intercompany accounts in which the cost of software, including certain development costs, incurred in the United States is charged to the Company's foreign sales subsidiaries. These intercompany accounts are typically denominated in the functional currency of the foreign subsidiary in order to centralize foreign exchange risk with the parent company in the United States. The Company is also exposed to foreign exchange rate fluctuations as the financial results of foreign subsidiaries are translated into U.S. dollars in consolidation. As exchange rates vary, these results, when translated, may vary from expectations and adversely impact overall expected profitability(1). The Company has a foreign exchange hedging program designed to mitigate the potential for future adverse impact on intercompany balances due to changes in foreign currency exchange rates. The program uses forward foreign currency exchange contracts as the vehicle for hedging these intercompany balances. The Company uses two multinational banks for substantially all of these contracts. In general, these contracts have terms of three months or less. Gains and losses on the settled contracts are included in "Other income, net" and are recognized in the current period, consistent with the period in which the gain or loss of the underlying transaction is recognized. During the three-month periods ended June 30, 1999 and 2000 the Company recorded net gains from these settled contracts and underlying foreign currency exposures that were insignificant and $1.3 million. During the six-month periods ended June 30, 1999 and 2000 the Company recorded a net loss of approximately $(0.4) million and a gain of approximately $2.4 million, respectively, from these settled contracts and underlying foreign currency exposures. At June 30, 2000, the Company had outstanding forward exchange contracts totaling $65.2 million, to exchange Euros ($56.5 million), Singapore dollars ($7.7 million), South African rands ($0.1 million), Swiss francs ($2.8 million), New Zealand dollars ($0.7 million), Hong Kong dollars ($0.4 million) and Canadian dollars ($1.7 million) for U.S. dollars, and to exchange U.S. dollars for Australian dollars ($0.6 million) and British pounds ($4.1 million). Each of these contracts had maturity dates through July 2000 and a book value that approximates fair value. The cost and the fair value of these foreign currency exchange contracts was not material at June 30, 2000. The foreign exchange hedging program is managed in accordance with a corporate policy approved by the Company's Board of Directors. In addition to hedging existing transactional exposures, the Company's foreign exchange management policy allows for the hedging of anticipated transactions, and exposure resulting from the translation of foreign subsidiary financial results into U.S. dollars. Such hedges can only be undertaken to the extent that the exposures are highly certain, reasonably estimatable, and significant in amount. No such hedges have been undertaken through June 30, 2000. INTEREST RATE RISK The Company invests its cash in a variety of financial instruments, consisting principally of investments in interest-bearing demand deposit accounts with financial institutions, tax-advantaged money market funds and highly liquid debt and equity securities of corporations, municipalities and the U.S. Government. These investments are denominated in U.S. dollars. Cash balances in foreign currencies overseas are operating balances and are only invested in short-term time deposits of the local operating bank. The Company accounts for its cash equivalents and investments under Statement of Financial Accounting Standards No. 115, "Accounting for Certain Investments in Debt and Equity Securities" ("SFAS 115"). The Company classifies debt and preferred equity securities based on management's intention on the date of purchase and reevaluates such designation as of each balance sheet date. Debt securities which management has the intent and ability to hold to maturity are classified as held to maturity and reported at amortized cost. All other debt and equity securities are classified as available for sale and carried at fair value with net unrealized gains and losses included in "Accumulated other comprehensive income", net of tax. Investments in both fixed rate and floating rate interest earning instruments carries a degree of interest rate risk. Fixed rate securities may have their fair market value adversely impacted due to a rise in interest --------------------------------- (1) Forward-Looking Statement 19 21 rates, while floating rate securities may produce less income than expected if interest rates fall. Due in part to these factors, the Company's future investment income may fall short of expectations due to changes in interest rates or the Company may suffer losses in principal if forced to sell securities which have seen a decline in market value due to changes in interest rates(1). The Company's investments are made in accordance with an investment policy approved by the Board of Directors. At June 30, 2000, the average maturity of the Company's investment securities was approximately eight months. All investment securities had maturities of less than two years. The following table presents certain information about the financial instruments held by the Company at June 30, 2000 that are sensitive to changes in interest rates. These instruments are not leveraged and are held for purposes other than trading. The Company believes its investment securities, comprised of highly liquid debt securities of corporations, municipalities, and the U.S. Government, are similar enough to aggregate. Because of the Company's effective tax rate, the Company finds it advantageous to invest largely in tax-advantaged securities. The average interest rates below reflect a weighted average rate for both taxable investments and tax-exempt investments. Below is a tabular presentation of the maturity profile of the Company's investment securities held at June 30, 2000.
Expected Maturity As of June 30, 2000 ------------------------- (in millions) One Year or More than Principal Fair Less One year Amount Value ----------- --------- --------- ------- Available-for-sale securities .......... $ 272.9 $ 160.3 $ 433.3 $ 433.1 Weighted average interest rate ......... 4.52% 4.18% ======= =======
The Company enters into interest rate contracts to manage certain exposures to fluctuations in interest rates. Starting June 2000, the Company has entered into interest rate swap agreements to reduce the impact of changes in interest rates on its $70.0 million floating rate synthetic lease obligation. The interest rate on the synthetic lease obligation is a floating rate, currently LIBOR plus 1%, that at the Company's election resets on a 1, 2, 3, or 6-month interval. At June 30, 2000, the Company had one outstanding interest rate swap agreement with a commercial bank, having a total notional principal amount of $44.0 million. That agreement effectively changes the Company's interest rate exposure on the $44.0 million due 2003 to a fixed 7.1225%. The interest rate contract matches the underlying terms of the synthetic lease obligation. In August 1997, the Company issued an aggregate of $69.0 million in principal amount of convertible subordinated notes, due August 2002, to certain investors. These notes bear interest at a rate of 4.75% per annum and are convertible into the Company's common stock at the investor's option at any time at a conversion price equal to $50.82 per share. Based on the traded yield to maturity, the approximate fair market value of the convertible subordinated notes was $59.3 million and $60.8 million as of December 31, 1999 and June 30, 2000. EQUITY INVESTMENT RISK The Company has classified certain investments in Internet start-up companies as investments available for sale, included in "Investments in corporate equity securities" in the accompanying condensed consolidated balance sheets. Realized gains on the sale of these investments for the three- and six-month periods ended June 30, 2000 were $0 and $9.5 million. The aggregate fair value of corporate equity securities held at June 30, 2000, was $121.5 million. Gross unrealized gains were $102.3 million as of June 30, 2000, and are included, net of deferred income taxes of $39.4 million, as a component of "Accumulated other comprehensive income" in the accompanying condensed consolidated balance sheets. The unrealized holding gains relate to one investment in equity securities in a company that completed its public offering in the third quarter of 1999. These securities are subject to lock-up provisions, which expire in August 2000. Subsequent to June 30, 2000, the Company sold a portion of these marketable equity securities, which generated gross gains of approximately $53.0 million. The stock market is highly volatile, as a result, we cannot give you assurance that the additional unrealized holding gains as of June 30, 2000 will be realized, and we may even incur losses on our remaining holdings(1). --------------------------------- (1) Forward-Looking Statement 20 22 FACTORS THAT MAY AFFECT FUTURE RESULTS AND MARKET PRICE OF STOCK The Company has identified certain forward-looking statements in the Management's Discussion and Analysis of Financial Condition and Results of Operations and elsewhere in this Form 10-Q with a footnote (1) symbol. The Company may also make oral forward-looking statements from time to time. Actual results may differ materially from those projected in any such forward-looking statements due to a number of factors, including those set forth below and elsewhere in this Form 10-Q. The Company operates in a dynamic and rapidly changing environment that involves numerous risks and uncertainties. The following section lists some, but not all, of these risks and uncertainties that may have a material adverse effect on the Company's business, financial condition or results of operations. This section should be read in conjunction with the unaudited Condensed Consolidated Financial Statements and Notes included in this report on Form 10-Q and Management's Discussion and Analysis of Financial Condition and Results of Operations for the year ended December 31, 1999 contained in the Company's 1999 Annual Report to Stockholders on Form 10-K. GENERAL AVAILABILITY, MARKET ACCEPTANCE AND SUPPORT OF PEOPLESOFT 8 MAY NOT OCCUR OR BE SUCCESSFUL Over the past two years, PeopleSoft concentrated most of its product development efforts on PeopleSoft 8, the Company's next release of its core Enterprise Resource Planning ("ERP") applications. PeopleSoft 8 marks a fundamental, generational change in architecture from a traditional client-server architecture to PeopleSoft's new Internet Architecture, the first pure HTML server-centric development platform delivered by a major enterprise application company. If the Company's development efforts are not successful or PeopleSoft 8 is released with significant undetected problems, PeopleSoft may need to spend additional resources to complete the product or only have its prior client server based ERP products available for sale. Even when PeopleSoft completes development of PeopleSoft 8, we cannot give you assurance that the market will accept 100 percent Internet based ERP applications. The Company is at risk for low or slow acceptance of this new type of software. If the marketplace does not accept PeopleSoft 8, PeopleSoft will only have its prior client server based ERP products available for sale, and PeopleSoft's revenues could be adversely impacted. In additional to the significant resources utilized in the development of PeopleSoft 8, PeopleSoft has spent and committed significant resources to plan and implement programs to market, sell, install and support PeopleSoft 8. If the general availability of PeopleSoft 8 is delayed versus the anticipated release date, we can not give you assurance that the Company will not lose certain license transactions to customers who are not willing to wait for the completion of the products and PeopleSoft's revenues during the time it takes to complete the products and after, could be adversely impacted. The Company is training its services personnel and business partners to provide installation and support services to new clients and clients who upgrade to PeopleSoft 8. However, we cannot give you assurance that this training will be complete by the time PeopleSoft 8 becomes available. If demand for PeopleSoft 8 is greater than expected, we cannot give you assurance that our services organization will be able to implement and support PeopleSoft 8 in a timely manner and as a result, revenues could be adversely impacted. PEOPLESOFT'S CONTINUED SUCCESS DEPENDS UPON ITS ABILITY TO RETAIN AND ATTRACT A SUFFICIENT NUMBER OF QUALIFIED EMPLOYEES. PeopleSoft believes that its future success will depend in large part upon its ability to attract, train and retain highly skilled technical, managerial, sales and marketing personnel. Although PeopleSoft invests significant resources in recruiting and retaining employees, competition for personnel in the software industry is intense, and, at times, PeopleSoft has had difficulty locating highly qualified candidates within desired geographic locations, or with certain industry-specific domain expertise. If PeopleSoft's competitors increase their use of non-compete agreements, the pool of available sales and technical personnel may further narrow in certain areas, even if the non-compete agreements are ultimately unenforceable. PeopleSoft may grant large numbers of options or other stock-based awards to attract and retain personnel, which could be highly dilutive to PeopleSoft stockholders. The failure to attract, train, 21 23 retain and effectively manage employees could increase PeopleSoft's costs, hurt PeopleSoft's development and sales efforts and cause a degradation of PeopleSoft's customer service. During the last two years, PeopleSoft has experienced turnover of several senior executives. PeopleSoft has hired or promoted qualified candidates to fill these positions. However, since the employees are new to the positions, it is possible that the newly hired or promoted employees will not easily transition into these leadership roles or be able to successfully lead PeopleSoft in its efforts to grow the company. In addition, uncertainty created by turnover of key employees could cause fluctuations in PeopleSoft's stock price and further turnover of PeopleSoft employees. PEOPLESOFT COULD EXPERIENCE FLUCTUATIONS IN QUARTERLY OPERATING RESULTS WHICH COULD ADVERSELY IMPACT ITS STOCK PRICE. PeopleSoft's revenues and results of operations are difficult to predict and may fluctuate substantially from quarter to quarter. License revenues in any quarter depend substantially upon PeopleSoft's total contracting activity and its ability to recognize revenues in that quarter in accordance with its revenue recognition policies. PeopleSoft's contracting activity is difficult to forecast for a variety of reasons, including the following: - a significant portion of PeopleSoft's license agreements are completed within the last few weeks of each quarter; - PeopleSoft's sales cycle is relatively long and increasingly variable since PeopleSoft has broadened its marketing emphasis to include software product solutions for a customer's overall business; - the size of license transactions can vary significantly; - the possibility of economic downturns that are characterized by decreased product demand, price erosion, technological shifts, work slowdowns and layoffs may substantially reduce contracting activity; - customers may unexpectedly postpone or cancel system replacement or new system evaluations due to changes in their strategic priorities, project objectives, budgetary constraints or company management; - customer evaluations and purchasing processes vary significantly from company to company, and a customer's internal approval and expenditure authorization process can be difficult and time consuming, even after selection of a vendor; - changes in PeopleSoft's sales incentive plans have had and may continue to have an unpredictable impact on business patterns; and - the number, timing and significance of software product enhancements and new software product announcements by PeopleSoft and its competitors may affect purchase decisions. Several factors may require PeopleSoft to defer recognition of license revenue for a significant period of time after entering into a license agreement, including: - whether the license agreement relates partially or entirely to then unavailable software products; - whether enterprise transactions include both currently deliverable software products and software products that are under development or other undeliverable elements; - whether the customer demands services that include significant modifications, customizations or complex interfaces that could delay product delivery or acceptance; 22 24 - whether the transaction involves acceptance criteria that may preclude revenue recognition or if there are identified product-related issues, such as known defects; and - whether the transaction involves payment terms or fees that depend upon contingencies. Because of the factors listed above and other specific requirements under GAAP for software revenue recognition, PeopleSoft must have very precise terms in its license agreements in order to recognize revenue when it initially delivers software or performs services. Although PeopleSoft has a standard form of license agreement that meets the criteria under GAAP for current revenue recognition on delivered elements, it negotiates and revises these terms and conditions in some transactions. Negotiation of mutually acceptable terms and conditions can extend the sales cycle, and sometimes PeopleSoft does not obtain terms and conditions that permit revenue recognition at the time of delivery or even as work on the project is completed. Variances or slowdowns in PeopleSoft's prior quarter contracting activity may impact its consulting, training and maintenance service revenues since these revenues typically follow license fee revenues. PeopleSoft's ability to maintain or increase service revenue primarily depends on its ability to increase the number of its licensing agreements. In particular, the significant decrease in license revenues in 1999 versus the prior year may have a significant impact on service revenues and earnings in fiscal 2000. In addition, PeopleSoft's expense levels, operating costs and hiring plans are based on projections of future revenues and are relatively fixed. If PeopleSoft's actual revenues fall below expectations, its net income is likely to be disproportionately adversely affected. RECENT ACCOUNTING PRONOUNCEMENTS COULD ADVERSELY IMPACT PEOPLESOFT'S PROFITABILITY BY DELAYING SOME REVENUE RECOGNITION INTO FUTURE PERIODS. Over the past several years, the American Institute of Certified Public Accountants issued Statement of Position, or SOP 97-2, "Software Revenue Recognition," SOP 98-4, "Deferral of the Effective Date of a Provision of SOP 97-2, Software Revenue Recognition," and SOP 98-9, "Modification of SOP 97-2, Software Revenue Recognition, With Respect to Certain Transactions." These standards address software revenue recognition matters primarily from a conceptual level and do not include specific implementation guidance. PeopleSoft believes that it is currently in compliance with SOPs 97-2,98-4 and SOP 98-9. PeopleSoft adopted SOP 98-9 on January 1, 2000 and has changed certain business policies to meet the requirements of this SOP. The American Institute of Certified Public Accountants has only issued some implementation guidelines for these standards and the accounting profession is still discussing a wide range of potential interpretations. These implementation guidelines, once finalized, could lead to unanticipated changes in PeopleSoft's current revenue accounting practices that could cause PeopleSoft to recognize lower profits. As a result, PeopleSoft may change its business practices significantly in order to continue to recognize a substantial portion of its license revenues when it delivers its software products. These changes may reduce demand, extend sales cycles, increase administrative costs and otherwise adversely affect PeopleSoft. In December 1999, the Securities and Exchange Commission ("SEC") issued Staff Accounting Bulletin No. 101, "Revenue Recognition in Financial Statements" ("SAB 101") and amended it in March and June 2000 with respect to the effective dates. PeopleSoft is required to adopt the provisions of SAB 101 in its fourth fiscal quarter of 2000 and is currently in the process of assessing the impact of its adoption. While SAB 101 does not supersede the software industry specific revenue recognition guidance, which the Company believes it is in compliance with, once complete guidance has been disseminated, SAB 101 may change current interpretations of software revenue recognition requirements, which could result in PeopleSoft, recording a cumulative effect of a change in accounting principles in the fourth quarter of 2000 retroactive to January 1, 2000 and could require PeopleSoft to defer revenue recognized during the first two quarters of 2000 into subsequent periods. 23 25 PEOPLESOFT HAS RECENTLY EXPANDED ITS TECHNOLOGY INTO SEVERAL NEW BUSINESS AREAS AND CANNOT BE CERTAIN THAT ITS EXPANSION WILL BE SUCCESSFUL. PeopleSoft's future success depends on the Internet being accepted and widely used for commerce. PeopleSoft has recently expanded its technology into a number of new business areas to foster long-term growth, including electronic commerce, on-line business services and other products and services that can be offered over the Internet. These areas are relatively new to PeopleSoft's product development, sales and marketing personnel and PeopleSoft cannot be assured that the markets for these products will develop or that it will be able to compete effectively or will generate significant revenues in these new areas making PeopleSoft's success in this area is difficult to predict. PEOPLESOFT'S RECENT AND FUTURE ACQUISITIONS MAY NOT BE SUCCESSFUL. PeopleSoft may acquire or invest in complementary companies, products and technologies, and enter into joint ventures and strategic alliances with other companies. Risks commonly encountered in such transactions include: - the difficulty of assimilating the operations and personnel of the combined companies; - the risk that PeopleSoft may not be able to integrate the acquired technologies or products with its current products and technologies; - the potential disruption of PeopleSoft's ongoing business; - the inability to retain key technical and managerial personnel; - the inability of management to maximize the financial and strategic position of PeopleSoft through the successful integration of acquired businesses; - adverse impact on PeopleSoft's annual effective tax rate; - dilution of existing equity holders caused by capital stock issuances to the stockholders of acquired companies or to retain employees of the acquired companies; - difficulty in maintaining controls, procedures and policies; - potential adverse impact on PeopleSoft's relationships with partner companies or third-party providers of technology or products; - the impairment of relationships with employees and customers; and - issues with product quality, product architecture, legal contingencies, product development issues, or other significant issues that may not be detected through PeopleSoft's due diligence process. In addition, combinations with other companies may not qualify for pooling of interests accounting, which would require PeopleSoft to use the purchase method of accounting. The purchase method of accounting for business combinations may require large write-offs of any in process research and development costs related to companies being acquired, as well as ongoing amortization costs for goodwill and other intangible assets valued in the combinations with companies. Such write-offs and ongoing amortization charges may have a significant negative impact on operating margins and net income in the quarter of the combination and for several subsequent years. PeopleSoft may not be successful in overcoming these risks or any other problems encountered in connection with such transactions. 24 26 PEOPLESOFT DEPENDS ON THIRD-PARTY TECHNOLOGY THAT COULD RESULT IN INCREASED COSTS OR DELAYS IN THE PRODUCTION AND IMPROVEMENT OF PEOPLESOFT'S PRODUCTS. PeopleSoft licenses numerous critical third-party software products that it incorporates into its own software products. If any of the third-party software vendors were to change their product offerings or terminate PeopleSoft's licenses, PeopleSoft might need to incur additional development costs to ensure continued performance of its products. In addition, if the cost of licensing any of these third-party software products significantly increases, PeopleSoft's gross margin levels could significantly decrease. PeopleSoft relies on existing partnerships with certain other software vendors who are also competitors. If these vendors change their business practices in the future, PeopleSoft may be compelled to find alternative vendors with complementary software, which may not be available on attractive terms, or may not be as widely accepted or as effective as the software provided by PeopleSoft's existing vendors. THE RELATIONSHIP WITH MOMENTUM BUSINESS APPLICATIONS MAY NEGATIVELY IMPACT PEOPLESOFT BECAUSE PEOPLESOFT GAVE UP SOME CONTROL OVER RESEARCH AND DEVELOPMENT. PeopleSoft faces a number of risks as a result of its relationship with Momentum Business Applications and the distribution of the Momentum Business Applications Class A Common Stock to PeopleSoft stockholders. These include: - PeopleSoft has less control over important research and development projects. PeopleSoft and Momentum must agree on project selection, budgets, timetables and specifications for each project, and Momentum has oversight responsibilities for the actual product development; - PeopleSoft could face restrictions on the amount and timing of its utilization of, or could lose, the tax benefits associated with the research and development expenditures on the projects pursued by Momentum; and - if PeopleSoft chooses to acquire Momentum, it will likely be required to record significant accounting charges relating to acquisition of in-process research and development and amortization of goodwill, which would decrease earnings. THERE IS INTENSE COMPETITION IN THE INDUSTRY, WHICH REQUIRES THAT PEOPLESOFT CONSTANTLY CREATE NEW PRODUCTS, IMPROVE ITS EXISTING PRODUCTS AND SELL ITS PRODUCTS AT COMPETITIVE PRICES. PeopleSoft competes with a variety of software vendors, including Internet application vendors in the enterprise application software market segment, vendors in the manufacturing software application market segment, vendors in the emerging enterprise resource optimization software solutions market segment, providers of human resource management system software products, providers of financial management systems software products, and numerous small firms that offer products with new or advanced features. As a result, the market for business application software has been and continues to be intensely competitive. Some competitors have become more aggressive with their payment terms and/or issuance of contractual implementation terms or guarantees. PeopleSoft may be unable to continue to compete successfully with new and existing competitors without lowering prices or offering other favorable terms. In addition, PeopleSoft believes it must differentiate itself through different or more subtle architectural and technological factors. Some of PeopleSoft's competitors may have an advantage over PeopleSoft due to their significant worldwide presence, longer operating and product development history, and substantially greater financial, technical and marketing resources than PeopleSoft. At least one competitor has a larger installed base. In addition, Oracle Corporation is a competitor whose relational database management system underlies a significant portion of PeopleSoft's installed applications. 25 27 Furthermore, potential customers may consider outsourcing options, including data center outsourcing and service bureaus, as viable alternatives to licensing PeopleSoft's software products. PeopleSoft began an outsourcing partner program in 1999 and began hosting its own service bureau in early 2000, both of which the Company believes address the needs of the marketplace; however, these programs may not be successful. PEOPLESOFT MAY CHANGE PRICING PRACTICES WHICH COULD IMPACT OPERATING MARGINS OR CUSTOMER ORDERING PATTERNS. In the future, PeopleSoft may choose to make changes to its pricing practices. For example, PeopleSoft may offer additional discounts to customers, reduce transactions that involve a perpetual use license to its software products, or change maintenance pricing. Such changes could reduce margins or inhibit PeopleSoft's ability to sell its products. SERVICES REVENUES CARRY LOWER GROSS MARGINS THAN LICENSE REVENUES AND AN OVERALL INCREASE IN SERVICES REVENUE AS A PERCENTAGE OF TOTAL REVENUES COULD HAVE AN ADVERSE IMPACT ON PEOPLESOFT'S BUSINESS. Because service revenues have lower gross margins than license revenues, a continued increase in the percentage of total revenue represented by service revenues could have a detrimental impact on our overall gross margins and could adversely affect operating results. In addition, PeopleSoft sub-contracts certain consulting services to third parties which generally carry lower gross margins than PeopleSoft's service business overall. As a result, PeopleSoft's gross margins can be negatively impacted based on the percentage of service revenues as a percentage of total revenue and the mix between services which are provided by PeopleSoft employees versus services provided by third party consultants. IF AN INDUSTRY STANDARD DEVELOPMENT TOOL IS ESTABLISHED, CONFORMANCE TO THE STANDARD COULD REQUIRE A COSTLY REDESIGN OF EXISTING SOFTWARE PRODUCTS. PeopleSoft's software products include a suite of proprietary software development tools, known as PeopleTools, which are fundamental to the effective use of PeopleSoft's software products. While no industry standard exists for software development tools, several companies have focused on providing software development tools and each of them is attempting to establish its software development tools as the accepted industry standard. If a software product other than PeopleTools becomes the clearly established and widely accepted industry standard, PeopleSoft may not be able to respond appropriately or rapidly to the emergence of an industry standard or might be compelled to abandon or modify PeopleTools in favor of such an established standard; be forced to redesign its software products to operate with such third party's software development tools; or face the potential sales obstacle of marketing a proprietary software product against other vendors' software products that incorporate a standardized software development toolset. PEOPLESOFT'S SIGNIFICANT INTERNATIONAL OPERATIONS AND SALES SUBJECT IT TO RISKS ASSOCIATED WITH RAPID AND UNEXPECTED GROWTH OUTSIDE OF THE UNITED STATES. PeopleSoft continues to invest in an effort to enhance its international operations. The global reach of PeopleSoft's business could cause it to be subject to unexpected, uncontrollable and rapidly changing events and circumstances in addition to those experienced in United States locations. Changes in the following factors, among others, could have an adverse impact on PeopleSoft's business and earnings: - conducting business in currencies other than United States dollars subjects PeopleSoft to factors such as currency controls and fluctuations in currency exchange rates; - PeopleSoft may be unable to hedge some transactions because of uncertainty or the inability to reasonably estimate its foreign exchange exposure; - PeopleSoft may hedge some anticipated transactions and transaction exposures, but could experience losses if exchange rates move in the opposite direction; 26 28 - differing foreign technical standards; - increased cost and development time required to localize PeopleSoft products; - lack of experience in a particular geographic market; - regulatory, social, political, labor or economic conditions in a specific country or region; - laws, policies and other regulatory requirements affecting trade and investment including loss or modification of exemptions for taxes and tariffs, and import and export license requirements; - exposure to different legal standards; and - operating costs in many countries are higher than in the United States. THE EURO CREATES UNCERTAINTY FOR PEOPLESOFT'S PRODUCT DEVELOPMENT AND AS A RESULT COULD IMPACT SALES. PeopleSoft's latest software release contains European Monetary Union, or EMU, functionality that allows for dual currency reporting and information management. However, since the Euro will not be the sole legally required currency in any of the member nations until 2002, it is possible that all issues related to conversion to EMU have not surfaced yet, and may not have been adequately addressed. In addition, PeopleSoft's products may be used with third-party products that may or may not be EMU compliant. Although PeopleSoft continues to take steps to address the impact, if any, of EMU compliance for such third-party products, failure of any critical technology components to operate properly under EMU may adversely affect sales or require PeopleSoft to incur unanticipated expenses to remedy any problems. PEOPLESOFT'S CONTINUED GROWTH DEPENDS UPON ITS ABILITY TO BUILD AND MAINTAIN RELATIONSHIPS WITH THIRD PARTIES. A key aspect of PeopleSoft's sales and marketing strategy is to build and maintain strong working relationships with businesses that PeopleSoft believes play an important role in the successful marketing of its software products. PeopleSoft's current and potential customers often rely on third-party system integrators to develop, deploy and manage client/server applications. PeopleSoft believes that its marketing and sales efforts are enhanced by the worldwide presence of these companies. However, these companies, most of which have significantly greater financial and marketing resources than PeopleSoft, may start, or in some cases increase, the marketing of business application software in competition with PeopleSoft, or may otherwise discontinue their relationships with or support of PeopleSoft. If PeopleSoft's partners are unable to recruit and adequately train a sufficient number of consulting personnel to support the implementation of PeopleSoft's software products, PeopleSoft may lose customers. In addition, integrators who generate consulting fees from customers by providing implementation services may be less likely to recommend PeopleSoft's software application architecture, including PeopleTools, if these products are more difficult to install and maintain than competitors' similar product offerings. Also, PeopleSoft has in the past, and may in the future, enter into various development or joint business arrangements to develop new software products or extensions to its existing software products. Under these joint business arrangements, PeopleSoft may distribute itself or jointly sell with its business partners an integrated software product and pay a royalty to the business partner based on end-user license fees. While PeopleSoft intends to develop business applications that are integrated with its software products, these software products may in fact not be integrated or brought to market or the market may not accept the integrated enterprise solution. As a result, PeopleSoft may not achieve the revenues that it anticipated at the time it entered into the joint business arrangement. 27 29 PEOPLESOFT'S SOFTWARE PRODUCTS AND PRODUCT DEVELOPMENT ARE COMPLEX, WHICH MAKES IT INCREASINGLY DIFFICULT TO INNOVATE, EXTEND ITS PRODUCT OFFERINGS, AND TO AVOID COSTS RELATED TO CORRECTION OF PROGRAM ERRORS. The market for PeopleSoft's software products is characterized by rapid technological change, evolving industry standards, changes in customer requirements and frequent new product introductions and enhancements. PeopleSoft's future success will depend in part upon its ability to: - continue to enhance and expand its core applications; - continue to provide enterprise solutions; - continue to successfully integrate third-party products; - enter new markets; and - develop and introduce new products that keep pace with technological developments, including developments related to the Internet, satisfy increasingly sophisticated customer requirements and achieve market acceptance. PeopleSoft may not be able to enhance existing products or develop and introduce new products in a timely manner. PeopleSoft's software products can be licensed for use with a variety of popular industry standard relational database management systems. There may be future or existing relational database management system platforms that achieve popularity within the business application marketplace and on which PeopleSoft may desire to offer its applications. These future or existing relational database management system products may or may not be architecturally compatible with PeopleSoft's software product design. PeopleSoft may not be able to develop software products on additional platforms with the specifications and within the time frame necessary for market success. Despite testing by PeopleSoft and by third parties, PeopleSoft's software programs, like all software programs generally, may contain a number of undetected errors when they are first introduced or as new releases are subsequently released. This may result in increased costs to correct such errors and reduced acceptance of PeopleSoft's software products in the marketplace. The effort and expense of developing, testing and maintaining software product lines will increase with the increasing number of possible combinations of: - vendor hardware platforms; - operating systems and updated versions; - PeopleSoft application software products and updated versions; and - relational database management system platforms and updated versions. Developing consistent software product performance characteristics across all of these combinations could place a significant strain on PeopleSoft's development resources and software product release schedules. PEOPLESOFT RELIES ON CLIENT INTERFACES WHICH COULD NEGATIVELY IMPACT PEOPLESOFT IF CURRENT OR FUTURE CLIENT INTERFACES ARE NOT COMPATIBLE WITH PEOPLESOFT'S CURRENT SOFTWARE PRODUCT DESIGN. For releases prior to PeopleSoft 8, PeopleSoft supports client platforms using browsers certified to run its Java-based Web client, or Microsoft's Windows family of software products, including Windows 3.1 (for PeopleSoft releases prior to Release 6 only), Windows NT, Windows 95, Windows 98 and Windows 2000. If Microsoft fundamentally changes the architecture of its software products so that users of PeopleSoft's software applications experience significant performance degradation or PeopleSoft's software applications become incompatible with future versions of Microsoft's Windows operating system, it could cause PeopleSoft to expend significant resources to reconfigure its products. With PeopleSoft 8 use of a Web browser as the 28 30 user interface replaces the traditional desktop access through networked Microsoft Windows-based personal computers. Web browser access via the Internet or an intranet involves numerous risks inherent in using the Internet, including security, availability and reliability. PeopleSoft may wish to offer its applications on future or existing user interfaces that achieve popularity within the business application marketplace. These future or existing user interfaces may or may not be architecturally compatible with PeopleSoft's current software product design. PeopleSoft may not be able to support new user interfaces and achieve market acceptance of new user interfaces that it does support. PEOPLESOFT HAS LIMITED PROTECTION OF INTELLECTUAL PROPERTY AND PROPRIETARY RIGHTS AND MAY POTENTIALLY INFRINGE THIRD-PARTY INTELLECTUAL PROPERTY RIGHTS. PeopleSoft considers certain aspects of its internal operations, software and documentation to be proprietary, and relies on a combination of contract, patent, copyright, trademark and trade secret laws and other measures to protect this information. Outstanding applications may not result in issued patents and, even if issued, the patents may not provide any meaningful competitive advantage. Existing copyright laws afford only limited protection. PeopleSoft believes that the rapid pace of technological change in the computer software industry has made trade secret and copyright protection less significant than factors such as: - knowledge, ability and experience of PeopleSoft's employees; - frequent software product enhancements; and - timeliness and quality of support services. PeopleSoft's competitors may independently develop technologies that are substantially equivalent or superior to PeopleSoft's technology. Through an escrow arrangement, PeopleSoft has granted many of its customers a contingent future right to use PeopleSoft's source code solely for internal maintenance services. This possible access to PeopleSoft's source code may increase the likelihood of misappropriation or other misuse of PeopleSoft's intellectual property. Finally, the laws of some countries in which PeopleSoft's software products are or may be licensed do not protect PeopleSoft's software products and intellectual property rights to the same extent as the laws of the United States. Defending PeopleSoft's rights could be costly. Third parties may assert infringement claims against PeopleSoft. These assertions could distract management, require PeopleSoft to enter into royalty arrangements, and could result in costly and time consuming litigation, including damage awards. PEOPLESOFT MAY EXPERIENCE LIABILITY CLAIMS ARISING OUT OF THE LICENSING OF ITS SOFTWARE AND PROVISION OF SERVICES. PeopleSoft's agreements contain provisions designed to limit its exposure to potential liability claims. However, these provisions could be invalidated by unfavorable judicial decisions or by federal, state, local or foreign laws or ordinances. For example, PeopleSoft might not be able to avoid or limit liability for disputes relating to product performance or the provision of services. If a claim against PeopleSoft were successful, PeopleSoft might be required to incur significant expense and pay substantial damages. Even if PeopleSoft was to prevail, the accompanying publicity could adversely impact the demand for PeopleSoft's software. 29 31 PEOPLESOFT'S STOCK PRICE IS VOLATILE AND THERE IS A RISK OF LITIGATION. The trading price of PeopleSoft common stock has in the past and may in the future be subject to wide fluctuations in response to factors such as the following: - revenue or results of operations in any quarter failing to meet the expectations, published or otherwise, of the investment community; - announcements of technological innovations by PeopleSoft or its competitors; - new products or the acquisition of significant customers by PeopleSoft or its competitors; - developments with respect to patents, copyrights or other proprietary rights of PeopleSoft or its competitors; - changes in recommendations or financial estimates by securities analysts; - changes in management; - conditions and trends in the software industry generally; - the announcement of acquisitions or other significant transactions by PeopleSoft or its competitors; - adoption of new accounting standards affecting the software industry; and - general market conditions and other factors. Fluctuations in the price of PeopleSoft's common stock may expose PeopleSoft to the risk of securities class action lawsuits. As a result of the significant declines in the price of its common stock during the second half of fiscal 1998 and the first half of fiscal 1999, several such lawsuits were filed against PeopleSoft. Although PeopleSoft believes that these lawsuits are without merit, defending against them could result in substantial costs and divert management's attention and resources. In addition, any settlement or adverse determination of these lawsuits could subject PeopleSoft to significant liabilities. PeopleSoft cannot be assured that there will not be additional lawsuits in the future. 30 32 PART II - OTHER INFORMATION Item 1. Legal Proceedings Beginning on January 29, 1999, a series of class action lawsuits were filed in the United States District Court for the Northern District of California against the Company and certain of its officers and directors, alleging violations of Section 10(b) of the Securities Exchange Act of 1934. The actions were consolidated in June 1999 under the name of the lead case Suttovia v. Duffield, et al., C 99-0472. Following appointment of lead plaintiffs under the provisions of the Private Securities Litigation Reform Act, a consolidated amended complaint was filed on December 6, 1999 (the "Consolidated Complaint"). The Consolidated Complaint named the Company and David Duffield, Albert Duffield, Ronald Codd, Kenneth Morris, Margaret Taylor, Aneel Bhusri, James Bozzini, Cyril Yansouni and George Still as defendants. The Consolidated Complaint purported to bring claims on behalf of all purchasers of PeopleSoft common stock during the period April 22, 1997 to January 28, 1999. The Consolidated Complaint alleged that PeopleSoft misrepresented, inter alia, the degree of market acceptance of its products, the technical capabilities of its products, the success of certain acquisitions it had made, and the anticipated financial performance of the Company in fiscal 1999. The Consolidated Complaint abandoned all of the allegations in the original complaints concerning alleged accounting improprieties, including claims of improper accounting related to the Company's write-downs for "in process research and development" in connection with various acquisitions, and improper accounting related to the Company's spin-off of Momentum Business Applications, Inc. (Momentum had been a named defendant in the original actions, but was eliminated as a defendant when the Consolidated Complaint was filed). On February 10, 2000, the defendants filed motions to dismiss the Consolidated Complaint. The motions were heard on May 4, 2000. On May 26, 2000, following post-hearing submissions, the Court entered an order: a) dismissing all claims against defendants Albert Duffield, Kenneth Morris, Margaret Taylor, Aneel Bhusri, James Bozzini, George Still and Cyril Yansouni, without leave to amend; b) dismissing all claims relating to the time period prior to May 27, 1998; c) denying the motion to dismiss as to various forward-looking statements allegedly made by the Company between May 27, 1998 and January 28, 1999; and d) limiting the class period for which claims may be asserted to the same time period. A First Amended Complaint was filed on June 12, 2000. The Court has set a case management schedule pursuant to which the Company will be required to provide discovery to plaintiffs prior to December 29, 2000. A final pre-trial conference will be held on March 12, 2001. The Company believes it has valid defenses to the claims that have not already been dismissed by the Court. However, no assurance can be given that if there is an unfavorable resolution of the litigation, there would not be a material adverse impact on the Company's future financial position or results of operations or cash flows. However, the Company has in place insurance that would be available in the event of an adverse result to cover at least a portion of any amounts determined to be payable, subject to a deductible. On June 30, 2000, a stockholder derivative lawsuit was filed in the California Superior Court, County of Alameda, entitled Marble v. Duffield, et al., naming as defendants David Duffield, Kenneth Morris, Margaret Taylor, Albert Duffield, Ronald Codd, Cyril Yansouni, Aneel Bhusri, George Still, James Bozzini and George Battle. The action alleges that the defendants breached their fiduciary duties and engaged in alleged acts of insider trading when they sold stock while failing to disclose material adverse information allegedly in their possession. The suit seeks unspecified damages, treble damages and attorneys fees. The action is based on many of the same allegations that are the subject of the securities class action litigation pending in federal district court, including many allegations that already have been dismissed in the federal action. The Company believes that the derivative claims are not proper due to plaintiffs' failure to make pre-suit demand on the Company as required by law, and intends to file a motion dismissing the litigation on those grounds. 31 33 The Company is party to various legal disputes and proceedings arising from the ordinary course of general business activities. In the opinion of management, resolution of these matters is not expected to have a material adverse effect on the financial position, results of the operations and cash flows of the Company. However, depending on the amount and the timing, an unfavorable resolution of some or all of these matters could materially affect the Company's future results of operations or cash flows in a particular period. Item 2. Changes in Securities and Use of Proceeds None Item 3. Defaults Upon Senior Securities None Item 4. Submission of Matters to a Vote of Security Holders (a) The Company held its annual meeting of stockholders on May 30, 2000. (b) Pursuant to the election of the three directors listed under Item 4(c)(i), Mr. Craig A. Conway, Mr. Cyril J. Yansouni, and Mr. A. George "Skip" Battle were each elected as Class II directors for a term of two years. Mr. David A. Duffield, Mr. George J. Still, Jr., and Mr. Aneel Bhusri were elected at the prior year's annual meeting for a term of two years and still continue as directors. Mr. Steven Goldby was appointed by the Board of Directors as a Class I director on February 3, 2000. (c) The Company's stockholders voted the following matters: (i) Election of three directors. All directors proposed by management were elected.
NUMBER OF VOTES NUMBER OF VOTES NAME OF NOMINEE FOR AGAINST ---------------------- --------------- --------------- Craig A. Conway 238,269,927 1,985,172 Cyril J. Yansouni 202,858,733 1,945,594 A. George "Skip" Battle 203,123,925 2,151,140
Item 5. Other Information None Item 6. Exhibits and Reports on Form 8 - K (a) Exhibits 27.1 Financial Data Schedule (b) Reports on Form 8 - K The Company (the "Registrant") filed a current report on Form 8-K on June 27, 2000 and reported a change effective June 21, 2000 in registrant's certifying accountants, from Ernst & Young LLP to Arthur Andersen LLP. 32 34 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. Dated: August 14, 2000 PEOPLESOFT, INC. By: /s/ STEPHEN F. HILL ---------------------------------------------- Stephen F. Hill Sr. Vice President and Chief Financial Officer (Principal Financial and Accounting Officer) 33 35 Index to Exhibits 27.1 Financial Data Schedule