10-Q 1 b40036cce10-q.txt CONCORD COMMUNICATIONS, INC. 1 UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON DC 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, 2001. 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 0-23067 CONCORD COMMUNICATIONS, INC. (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) MASSACHUSETTS 04-2710876 (State of incorporation) (IRS Employer Identification Number) 600 NICKERSON ROAD MARLBORO, MASSACHUSETTS 01752 (508) 460-4646 (ADDRESS AND TELEPHONE OF PRINCIPAL EXECUTIVE OFFICES) ---------------- INDICATE BY CHECK MARK WHETHER REGISTRANT (1) HAS FILED ALL REPORTS REQUIRED TO BE FILED BY SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 DURING THE PRECEDING 12 MONTHS, AND (2) HAS BEEN SUBJECT TO SUCH FILING REQUIREMENTS FOR THE PAST 90 DAYS; YES [X] NO [ ] 16,694,473 SHARES OF THE REGISTRANT'S COMMON STOCK, $0.01 PAR VALUE, WERE OUTSTANDING AS OF JULY 31, 2001. THIS DOCUMENT CONTAINS 34 PAGES. THE EXHIBIT INDEX IS ON PAGE 25. 2 CONCORD COMMUNICATIONS, INC. FORM 10-Q, JUNE 30, 2001 CONTENTS Item Number Page ART I: FINANCIAL INFORMATION Item 1. Condensed Consolidated Financial Statements Condensed Consolidated Balance Sheets: June 30, 2001 and December 31, 2000 3 Condensed Consolidated Statements of Operations: Three and six months ended June 30, 2001 and June 30, 2000 4 Consolidated Statements of Cash Flows: Six months ended June 30, 2001 and June 30, 2000 5 Notes to Condensed Consolidated Financial Statements 6-8 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 9-20 Item 3. Quantitative and Qualitative Disclosures about Market Risk 21 PART II: OTHER INFORMATION Item 1. Legal Proceedings 22 Item 2. Changes in Securities and Use of Proceeds 22 Item 3. Defaults Upon Senior Securities 22 Item 4. Submission of Matters to a Vote of Security Holders 22 Item 5. Other Information 22 Item 6. Exhibits and Reports on Form 8-K 23 SIGNATURE 24 EXHIBIT INDEX 25 2 3 PART I: FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS CONCORD COMMUNICATIONS, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (UNAUDITED)
JUNE 30, DECEMBER 31, 2001 2000 ------------- ------------- ASSETS Current Assets: Cash, cash equivalents and marketable securities $ 64,384,349 $ 63,251,427 Accounts receivable, net of allowance of $1,306,941 and $1,525,965 in 2001 and 2000, respectively 16,225,719 20,000,193 Prepaid expenses and other current assets 2,829,316 2,409,350 ------------- ------------- Total current assets 83,439,384 85,660,970 ------------- ------------- Equipment and Improvements, at cost: Equipment 18,501,469 16,085,465 Leasehold improvements 5,922,306 6,080,105 ------------- ------------- 24,423,775 22,165,570 Less-- Accumulated depreciation and amortization 11,823,429 9,140,170 ------------- ------------- Equipment and Improvements, net 12,600,346 13,025,400 ------------- ------------- Deferred Tax Asset 3,500,000 3,500,000 Other Long-term Assets 100,559 89,689 ------------- ------------- $ 99,640,289 $ 102,276,059 ============= ============= LIABILITIES AND STOCKHOLDERS' EQUITY Current Liabilities: Accounts payable $ 2,195,120 $ 3,117,627 Accrued expenses 13,115,006 11,108,921 Deferred revenue 20,744,981 17,303,928 ------------- ------------- Total current liabilities 36,055,107 31,530,476 ------------- ------------- Common Stock, $0.01 par value: Authorized -- 50,000,000 shares Issued and outstanding -- 16,693,010 and 16,554,944 shares, in 2001 and 2000 respectively 166,930 165,549 Additional paid-in capital 95,104,062 95,479,340 Deferred compensation (139,964) (1,509,880) Accumulated other comprehensive income 789,832 135,159 Accumulated deficit (32,335,678) (23,524,585) ------------- ------------- Total stockholders' equity 63,585,226 70,745,583 ------------- ------------- $ 99,640,289 $ 102,276,059 ============= =============
The accompanying notes are an integral part of these consolidated financial statements. 3 4 CONCORD COMMUNICATIONS, INC. CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
THREE MONTHS ENDED SIX MONTHS ENDED ----------------------------- ----------------------------- JUNE 30, JUNE 30, JUNE 30, JUNE 30, 2001 2000 2001 2000 ------------ ------------ ------------ ------------ Revenues: License revenues $ 13,481,341 $ 17,508,011 $ 26,552,175 $ 32,360,538 Service revenues 8,132,413 5,302,463 15,492,911 9,718,209 ------------ ------------ ------------ ------------ Total revenues 21,613,754 22,810,474 42,045,086 42,078,747 Cost of Revenues 4,395,437 2,645,657 9,356,864 5,072,020 ------------ ------------ ------------ ------------ Gross profit 17,218,317 20,164,817 32,688,222 37,006,727 ------------ ------------ ------------ ------------ Operating Expenses: Research and development 6,280,825 4,682,927 12,685,696 9,471,007 Sales and marketing 12,886,783 10,529,866 25,306,029 19,755,921 General and administrative 2,244,952 1,704,138 4,791,711 3,119,827 Stock-based compensation 48,607 214,914 240,430 469,171 Acquisition-related charges -- -- -- 4,300,000 ------------ ------------ ------------ ------------ Total operating expenses 21,461,167 17,131,845 43,023,866 37,115,926 ------------ ------------ ------------ ------------ Operating (loss) income (4,242,850) 3,032,972 (10,335,644) (109,099) Other income net 797,261 795,442 1,524,551 1,551,374 ------------ ------------ ------------ ------------ (Loss) income before income taxes and extraordinary items (3,445,589) 3,828,414 (8,811,093) 1,442,175 Provision for income taxes -- 1,378,230 -- 487,230 ------------ ------------ ------------ ------------ (Loss) income before extraordinary items (3,445,589) 2,450,184 (8,811,093) 954,945 Extraordinary loss upon early retirement of debt, net of tax benefit of $72,000 -- -- -- (216,010) ------------ ------------ ------------ ------------ Net (loss) income $ (3,445,589) $ 2,450,184 $ (8,811,093) $ 738,935 ============ ============ ============ ============ Net (loss) income per common and potential common share: Basic $ (0.21) $ 0.15 $ (0.53) $ 0.05 ============ ============ ============ ============ Diluted $ (0.21) $ 0.15 $ (0.53) $ 0.04 ============ ============ ============ ============ Weighted average common and potential commons shares outstanding: Basic 16,672,323 16,286,467 16,616,432 15,861,661 ============ ============ ============ ============ Diluted 16,672,323 16,741,150 16,616,432 16,463,660 ============ ============ ============ ============
The accompanying notes are an integral part of these consolidated financial statements. 4 5 CONCORD COMMUNICATIONS, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
SIX MONTHS ENDED ------------------------------- JUNE 30, JUNE 30, 2001 2000 ------------- ------------ Cash Flows from Operating Activities: Net (loss) income $ (8,811,093) $ 738,935 Adjustments to reconcile net (loss) income to net cash provided by operating activities: Depreciation and amortization 3,026,726 1,769,302 Stock-based compensation 240,430 469,171 Changes in current assets and liabilities: Accounts receivable 3,774,474 (2,881,813) Prepaid expenses and other current assets (430,836) 190,623 Accounts payable (922,507) (505,525) Accrued expenses 2,006,085 (196,906) Deferred revenue 3,441,053 2,949,408 ------------ ------------ Net cash provided by operating activities 2,324,332 2,533,195 ------------ ------------ Cash Flows from Investing Activities: Purchases of equipment and improvements (2,601,672) (5,618,003) Net (investments in) proceeds from marketable securities (3,096,698) 2,947,099 ------------ ------------ Net cash used in investing activities (5,698,370) (2,670,904) ------------ ------------ Cash Flows from Financing Activities: Repayments of bank borrowings -- (2,962,466) Proceeds from shares issued in connection with employee stock plans and warrants exercised 755,589 1,858,272 ------------ ------------ Net cash provided by (used in) financing activities 755,589 (1,104,194) ------------ ------------ Net Decrease in Cash and Cash Equivalents (2,618,449) (1,241,903) Cash and Cash Equivalents, beginning of period 10,725,265 10,629,528 ------------ ------------ Cash and Cash Equivalents, end of period $ 8,106,816 $ 9,387,625 ============ ============ Supplemental Disclosure of Cash Flow Information: Cash paid for interest $ -- $ 33,592 ============ ============ Cash paid for taxes $ 49,000 $ 328,556 ============ ============ Supplemental Disclosure of Noncash Transactions: Reversal of deferred compensation related to forfeited stock options $ (1,129,486) $ -- ============ ============ Retirement of fully depreciated assets $ 343,467 $ -- ============ ============ Conversion of redeemable convertible preferred stock to common stock $ -- $ 11,723,017 ============ ============ Unrealized gain on available-for-sale securities $ 654,673 $ 52,500 ============ ============
The accompanying notes are an integral part of these consolidated financial statements. 5 6 CONCORD COMMUNICATIONS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) FORM 10-Q, JUNE 30, 2001 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES BASIS OF PRESENTATION The accompanying consolidated financial statements have been presented by Concord Communications, Inc. (the "Company") unaudited (except the balance sheet information as of December 31, 2000 which has been derived from audited financial statements) in accordance with accounting principles generally accepted in the United States for interim financial statements and with the instructions to Form 10-Q and Regulation S-X pertaining to interim financial statements. Accordingly, these interim financial statements do not include all information and footnotes required by accounting principles generally accepted in the United States for complete financial statements. The financial statements reflect all adjustments and accruals which management considers necessary for a fair presentation of financial position as of June 30, 2001 and December 31, 2000, and the results of operations for the three and six months ended June 30, 2001 and 2000. The results for the interim periods presented are not necessarily indicative of results to be expected for any future period. The financial statements should be read in conjunction with the audited financial statements and the notes thereto included in the Company's 2000 Annual Report on Form 10-K filed with the Securities and Exchange Commission in March 2001. REVENUE RECOGNITION The Company's revenues consist of software license revenues and service revenues. Software license revenues are recognized in accordance with the American Institute of Certified Public Accountants' Statement of Position ("SOP") 97-2, Software Revenue Recognition, as modified by SOP 98-9, Modification of SOP 97-2, Software Revenue Recognition with respect to Certain Transactions. Under SOP 97-2, software license revenues are recognized upon execution of a contract and delivery of software, provided that the license fee is fixed and determinable, no significant production, modification or customization of the software is required and collection is considered probable by management. Revenues under multiple element arrangements, which typically include software products and maintenance sold together, are allocated to each element using the residual method in accordance with SOP 98-9. Service revenues are recognized as the services are performed. Maintenance revenues are derived from customer support agreements generally entered into in connection with initial license sales and subsequent renewals. Maintenance revenues are recognized ratably over the term of the maintenance period. Payments for maintenance fees are generally made in advance. RECLASSIFICATIONS Certain amounts in the prior year's financial statements have been reclassified to conform to the current year's presentation. USE OF ESTIMATES IN THE PREPARATION OF FINANCIAL STATEMENTS The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. 2. BASIC AND DILUTED INCOME/LOSS PER COMMON SHARE The Company follows the provisions of Statement of Financial Accounting Standards (SFAS) No. 128, Earnings Per Share. SFAS No. 128 establishes standards for computing and presenting earnings per share and applies to entities with publicly held common stock or potential common stock. Basic net (loss) income per share is computed using the weighted-average number of common shares outstanding during the period. Diluted net income per share is computed using the weighted-average number of 6 7 common and dilutive common-equivalent shares outstanding during the period. Dilutive common-equivalent shares primarily consist of employee stock options. Diluted loss per share is the same as basic loss per share for the three and six month periods ending June 30, 2001, as the effects of potential common stock are antidilutive. For the three and six months ending June 30, 2001, employee stock options to purchase 2,540,323 and 2,495,353 shares respectively, were outstanding but not included in the diluted weighted-average share calculation as the effect would have been antidilutive. Calculations of the basic and diluted net income/loss per share and potential common share are as follows:
THREE MONTHS ENDED SIX MONTHS ENDED ----------------------------- ----------------------------- JUNE 30, JUNE 30, JUNE 30, JUNE 30, 2001 2000 2001 2000 ----------- ----------- ------------ ----------- Net (loss) income available to common stockholders..... $(3,445,589) $ 2,450,184 $ (8,811,093) $ 738,935 =========== =========== ============ =========== Weighted average common shares outstanding............. 16,672,323 16,286,467 16,616,432 15,861,661 Potential common shares pursuant to stock options and warrants............................................. -- 454,683 -- 601,999 Diluted weighted average shares....................... 16,672,323 16,741,150 16,616,432 16,463,660 ----------- ----------- ----------- ----------- Basic net (loss) income per common share................................................ $ (0.21) $ 0.15 $ (0.53) $ 0.05 =========== =========== ============ =========== Diluted net (loss) income per common and potential common share.......................................... $ (0.21) $ 0.15 $ (0.53) $ 0.04 =========== =========== ============ ===========
3. COMPREHENSIVE (LOSS) INCOME Comprehensive (loss) income for the three months and six months ended June 30, 2001 and 2000 is as follows:
THREE MONTHS ENDED SIX MONTHS ENDED ---------------------------- --------------------------- JUNE 30, JUNE 30, JUNE 30, JUNE 30, 2001 2000 2001 2000 ------------ ---------- ------------ ---------- Net (loss) income........................ $(3,445,589) $2,450,184 $(8,811,093) $ 738,935 Unrealized (loss) gain on marketable securities............................... (287,315) 133,620 654,673 52,500 ----------- ---------- ---------- --------- Comprehensive (loss) income.......... $(3,732,904) $2,583,804 $(8,156,420) $ 791,435 =========== ========== =========== =========
4. ACQUISITIONS On February 4, 2000, the Company consummated a transaction pursuant to which it acquired FirstSense Software, Inc. ("FirstSense"). Under the terms of the agreement, the shareholders and option holders of FirstSense received an aggregate of 1,940,000 equivalent Concord shares to effect the business combination. The transaction has been accounted for as a pooling of interests. Accordingly, all prior period financial statements presented have been restated to reflect the combination of the respective companies, as required by APB Opinion No. 16, "Accounting for Business Combinations". All inter-company transactions have been eliminated as a result of the business combination. As a part of the transaction, the Company incurred direct, acquisition-related charges of approximately $4,300,000. All of such costs have been charged to operations in fiscal 2000 upon consummation of the FirstSense acquisition in February 2000. 7 8 5. SEGMENT REPORTING AND INTERNATIONAL INFORMATION The Company follows the provisions of SFAS No. 131, Disclosures about Segments of an Enterprise and Related Information. SFAS No. 131 establishes standards for reporting information regarding operating segments in annual financial statements and requires selected information for those segments to be presented in interim financial reports issued to stockholders. SFAS No. 131 also establishes standards for related disclosures about products and services and geographic areas. Operating segments are identified as components of an enterprise about which separate, discrete financial information is available for evaluation by the chief operating decision maker, or decision making group, in making decisions on how to allocate resources and assess performance. The Company's chief decision making group, as defined under SFAS 131, is the Executive Management Committee. The following table presents the approximate revenue by major geographical regions:
THREE MONTHS ENDED SIX MONTHS ENDED ---------------------------- ----------------------------- JUNE 30, JUNE 30, JUNE 30, JUNE 30, 2001 2000 2001 2000 ----------- ----------- ----------- ----------- United States.................. $13,534,000 $17,270,000 $26,578,000 $29,255,000 Europe......................... 4,904,000 3,491,000 9,053,000 8,285,000 Rest of the World.............. 3,176,000 2,049,000 6,414,000 4,539,000 ----------- ----------- ----------- ----------- Total......................... $21,614,000 $22,810,000 $42,045,000 $42,079,000 =========== =========== =========== ===========
No one country, except the United States, accounts for greater than 10% of total revenues. Substantially all of the Company's assets are located in the United States. The Company's reportable segments are determined by customer type: service providers/telecommunications companies (SP/T) and enterprise. The accounting policies of the segments are the same as those described in Note 1. The Executive Management Committee evaluates segment performance based on revenue. Accordingly, all expenses are considered corporate level activities and are not allocated to segments. Also, the Executive Management Committee does not assign assets to these segments. The table presents the approximate revenue by reportable segment:
THREE MONTHS ENDED SIX MONTHS ENDED ------------------------------ ------------------------------ JUNE 30, JUNE 30, JUNE 30, JUNE 30, 2001 2000 2001 2000 ---------- ----------- ----------- ----------- SP/T............................ $10,480,000 $ 8,640,000 $18,931,000 $17,800,000 Enterprise...................... 11,134,000 14,170,000 23,114,000 24,279,000 ----------- ----------- ----------- ----------- Total............................ $21,614,000 $22,810,000 $42,045,000 $42,079,000 =========== =========== =========== ==========
8 9 CONCORD COMMUNICATIONS, INC. FORM 10-Q, JUNE 30, 2001 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS OVERVIEW Concord develops, markets and supports a suite of highly scalable software solutions, our eHealth SuiteTM family of products, which maximizes the availability and performance of networks, systems, and applications that form the critical underlying IT infrastructure on which businesses depend for their operations. Concord's software solutions monitor to detect fault conditions throughout the infrastructure in real time; test availability and responsiveness of critical services; collect, consolidate, normalize and analyze high volumes of data from the IT infrastructure; alert IT personnel to faults and potential outages and automatically execute corrective action to restore availability and maximize uptime of the internet infrastructure, if desired. This document contains forward-looking statements. Any statements contained herein that do not describe historical facts are forward-looking statements. Concord makes such forward-looking statements under the provisions of the "safe harbor" section of the Private Securities Litigation Reform Act of 1995. The forward-looking statements contained herein are based on current expectations, but are subject to a number of risks and uncertainties. Concord's actual future results may differ significantly from those stated in any forward-looking statements. Factors that may cause such differences include, but are not limited to, the factors discussed elsewhere in this Form 10-K under the heading "Risk Factors". RESULTS OF OPERATIONS The following table sets forth, for the periods indicated, certain financial data as percentages of the Company's total revenue:
UNAUDITED THREE MONTHS ENDED SIX MONTHS ENDED -------------------------- -------------------------- JUNE 30, JUNE 30, JUNE 30, JUNE 30, 2001 2000 2001 2000 -------- -------- --------- -------- Revenues: License revenues 62.4% 76.8% 63.2% 76.9% Service revenues 37.6 23.2 36.8 23.1 ----- ----- ----- ----- Total revenues 100.0 100.0 100.0 100.0 Cost of Revenues 20.3 11.6 22.3 12.1 ----- ----- ----- ----- Gross profit 79.7 88.4 77.7 87.9 Operating Expenses: Research and development 29.1 20.5 30.2 22.5 Sales and marketing 59.6 46.2 60.2 46.9 General and administrative 10.4 7.5 11.4 7.4 Stock-based compensation 0.2 0.9 0.6 1.1 Acquisition-related charges 0.0 0.0 0.0 10.2 ----- ----- ----- ----- Total operating expenses 99.3 75.1 102.4 88.1 ----- ----- ----- ----- (Loss) income from Operations (19.6) 13.3 (24.6) (0.3) Other income, net 3.7 3.5 3.6 3.7 ----- ----- ----- ----- (Loss) income before taxes (15.9) 16.8 (21.0) 3.4 Provision for income taxes 0.0 6.0 0.0 1.2 ----- ----- ----- ----- Net (loss) income before extraordinary items (15.9) 10.7 (21.0) 2.3 Extraordinary items 0.0 0.0 0.0 (0.5) ----- ----- ----- ----- Net (loss) income (15.9)% 10.7% (21.0)% 1.8% ----- ----- ----- -----
9 10 TOTAL REVENUES. The Company's total revenues decreased 5% to $21.6 million in the three months ended June 30, 2001 from $22.8 million in the three months ended June 30, 2000. Total revenue was consistent at $42.1 million in the six months ended June 30, 2001 with $42.1 million in the six months ended June 30, 2000. LICENSE REVENUES. The Company's license revenues, which are derived from the licensing of software products, decreased 23% to $13.5 million, or 62.4% of total revenues, in the three months ended June 30, 2001, from $17.5 million, or 76.8% of total revenues in the three months ended June 30, 2000. License revenues decreased 17.9% to $26.6 million, or 63.2% of total revenues, in the six months ended June 30, 2001, from $32.4 million, or 76.9% of total revenues in the six months ended June 30, 2000. The decrease of license revenues is due to the general slowdown of the economy in the United States and abroad. The decrease in license revenues as a percent of total revenues was, in part, due to a significant increase in service revenues. SERVICE REVENUES. The Company's service revenues, which consist of fees for maintenance, training and professional services, increased 53.4% to $8.1 million, or 37.6% of total revenues, in the three months ended June 30, 2001 from $5.3 million, or 23.2% of total revenues, in the three months ended June 30, 2000. Service revenues increased 59.4% to $15.5 million, or 36.8% of total revenues, in the six months ended June 30, 2001 from $9.7 million, or 23.1% of total revenues, in the six months ended June 30, 2000. The increase in service revenues was attributed to an increase of our customer base and the resulting demand for services by these customers. COST OF REVENUES. Cost of revenues includes expenses associated with royalty costs, production, fulfillment and product documentation, along with personnel costs associated with providing customer support in connection with maintenance, training and professional service contracts. Royalty costs are composed of third party software costs. Cost of revenues increased 66.1% to $4.4 million, or 20.3% of total revenues, in the three months ended June 30, 2001 from $2.6 million, or 11.6% of total revenues, in the three months ended June 30, 2000, resulting in gross margins of 79.7% and 88.4% in each respective period. Cost of revenues increased 84.5% to $9.4 million, or 22.3% of total revenues, in the six months ended June 30, 2001 from $5.1 million, or 12.1% of total revenues, in the six months ended June 30, 2000, resulting in gross margins of 77.7% and 87.9% in each respective period. The increase in cost of revenues as a percent of sales was primarily driven by the increased spending in customer support to be more responsive to growing customer needs. We expect to decrease our cost of revenues as a percentage of total revenues; however, this will depend on our royalty costs and our growth, among other factors. RESEARCH AND DEVELOPMENT EXPENSES. Research and development expenses consist primarily of personnel costs associated with software development. Research and development expenses increased 34.1% to $6.3 million, or 29.1% of total revenues, in the three months ended June 30, 2001 from $4.7 million, or 20.5% of total revenues, in the three months ended June 30, 2000. Research and development expenses increased 33.9% to $12.7 million, or 30.2% of total revenues, in the six months ended June 30, 2001 from $9.5 million, or 22.5% of total revenues, in the six months ended June 30, 2000. The increase in absolute dollars in research and development expenses was primarily due to increased headcount in research and development from 118 to 149 people for the period from June 30, 2000 to June 30, 2001. We intend to decrease our research and development expenses as a percentage of total revenues; however, this depends on our growth, among other factors. SALES AND MARKETING EXPENSES. Sales and marketing expenses consist primarily of salaries, commissions to sales personnel and agents, travel, tradeshow participation, public relations, advertising and other promotional expenses. Sales and marketing expenses increased 22.4% to $12.9 million, or 59.6% of total revenues, in the three months ended June 30, 2001 from $10.5 million, or 46.2% of total revenues, in the three months ended June 30, 2000. Sales and marketing expenses increased 28.1% to $25.3 million, or 60.2% of total revenues, in the six months ended June 30, 2001 from $19.8 million, or 46.9% of total revenues, in the six months ended June 30, 2000. The increase in absolute dollars was primarily the result of increased headcount to continue to build the direct sales force along with additional marketing and promotional activities to penetrate the market. Headcount in sales and marketing increased from 152 to 194 people from June 30, 2000 to June 30, 2001. We intend to decrease our sales and marketing expenses as a percentage of total revenues; however, this depends on our growth, among other factors. GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses consist primarily of salaries for financial, administrative and management personnel and related travel expenses, as well as legal, bad debt and other accounting expenses. General and administrative expenses increased 31.7% to $2.2 million, or 10.4% of total revenues, in the three months ended June 30, 2001 from $1.7 million, or 7.5% of total revenues, in the three months ended June 30, 2000. General and administrative expenses increased 53.6% to $4.8 million, or 11.4% of total revenues, in the six months ended June 30, 2001 from $3.1 million, or 7.4% of total revenues, in the six months ended June 30, 2000. The increase in absolute dollars year over year is associated with an increase of costs in general support areas, such as human resources, finance and legal services, which will enable the Company to scale its infrastructure in anticipation of future growth. Headcount in general and administrative functions increased from 24 to 42 10 11 people from June 30, 2000 to June 30, 2001. We intend to decrease our general and administrative expenses as a percentage of total revenues; however, this depends on our growth, among other factors. ACQUISITION-RELATED EXPENSES. Acquisition-related expenses of approximately $4.3 million were incurred in the six months ending June 30, 2000 related to accounting, legal and investment banking fees associated with the acquisition of FirstSense Software, Inc. in February 2000. OTHER INCOME. Other income consists of interest earned on funds available for investment net of interest expense in connection with the financing of capital equipment and interest expense paid by FirstSense on an outstanding term loan obtained by FirstSense prior to the acquisition by Concord. The Company had net other income of $797,000 for the three months ended June 30, 2001 and net other income of $795,000 for the three months ended June 30, 2000. The Company had net other income of $1.5 million for the six months ended June 30, 2001 and net other income of $1.6 million for the six months ended June 30, 2000. EXTRAORDINARY ITEMS. The Company recognized an extraordinary loss of $216,000 (net of the tax benefit of $72,000) related to the early extinguishment of certain debt that the Company assumed as part of the FirstSense acquisition. BENEFIT FROM INCOME TAXES. The Company did not record any income tax benefit in the six months ended June 30, 2001 versus an income tax expense of $487,000 in the six months ended June 30, 2000. The Company did not record such a benefit in 2001 based on its estimate of its year-end tax position. LIQUIDITY AND CAPITAL RESOURCES The Company financed its operations, prior to its initial public offering, primarily through the private sales of equity securities and a credit line for equipment purchases. On October 24, 1997, the Company completed its initial public offering yielding the Company net proceeds of approximately $34.7 million. The Company had working capital of $47.4 million at June 30, 2001. Net cash provided by operating activities was $2.0 million and $2.5 million for the six months ended June 30, 2001 and 2000, respectively. Cash, cash equivalents and marketable securities were $64.4 million and $59.4 million at June 30, 2001 and 2000, respectively. Accounts receivable decreased $3.8 million due to lower license revenue for the period ending June 30, 2001. Investing activities have consisted of the acquisition of property and equipment, most notably computer and networking equipment to support the growing employee base and corporate infrastructure and also investments in marketable securities. The Company manages its market risk on its investment securities by selecting investment grade securities with the highest credit ratings of relatively short duration that trade in highly liquid markets. Financing activities consisted primarily of the issuance of common stock and exercise of options during the six months ended June 30, 2001 and 2000 and from the repayments of borrowings on a subordinated debt financing by FirstSense. Pursuant to the Tax Reform Act of 1986, the utilization of net operating loss carryforwards for tax purposes may be subject to an annual limitation if a cumulative change of ownership of more than 50% occurs over a three-year period. As a result of the Company's 1995 preferred stock financings, such a change in ownership has occurred. As a result of this ownership change, the use of the net operating loss (NOL) carryforwards is limited. The Company has determined that its initial public offering did not cause another ownership change. In addition, NOL carryforwards acquired as a result of the FirstSense acquisition are also restricted as a result of a prior ownership change. The Company has deferred tax assets of approximately $14.9 million composed primarily of net operating loss carryforwards and research and development credits. The Company has partially reserved for these deferred tax assets by recording a valuation allowance of $11.4 million. The net tax asset is based on the Company's estimate of NOL carryforwards it expects to use in the next two years; all other tax assets have been fully reserved. Pursuant to paragraphs 20 to 25 of SFAS No. 109, the Company considered both positive and negative evidence in assessing the need for a valuation allowance. The factors that weighed most heavily on the Company's decision to record a valuation allowance were (i) the substantial restrictions on the use of certain of its existing NOL carryforwards and (ii) the uncertainty of future profitability. 11 12 As a result of the Company's ownership change described above, the future use of approximately $6.6 million of the Company's NOL carryforwards are limited to only $330,000 per year; the substantial majority of such NOL carryforwards will expire before they can be used. The FirstSense NOL carryforwards are limited to $4.2 million per year. Pursuant to the provisions of SFAS No. 109, the Company used all of its remaining unrestricted NOL and credit carryforwards in computing the 1998 tax provision. As a part of restating its financial statements to reflect the FirstSense acquisition, the Company determined that approximately $3.0 million of valuation allowance previously recorded by FirstSense prior to the acquisition was not necessary, given the Company's estimates of future taxable income. Accordingly, pursuant to SFAS No. 109, the Company recorded an asset and reduced its provision for income taxes in the period in which such NOL carryforwards were generated by FirstSense. The Company is also subject to rapid technological change, competition from substantially larger competitors, a limited family of products and other related risks, as more thoroughly described in the "Risk Factors" section beginning on page 13 and in the "Risk factors" section of the Company's Form 10-K, for the fiscal year ended December 31, 2000. The Company's dependence on a single product family in an emerging market makes the prediction of future results difficult, if not impossible, especially in the highly competitive software industry. As a result, the Company found the evidence described above to be the most reliable objective evidence available in determining that a valuation allowance against its tax assets would be necessary. The Company's net operating loss deferred tax asset includes approximately $3.75 million pertaining to the benefit associated with the exercise and subsequent disqualifying disposition of incentive stock options by the Company's employees. When and if the Company realizes this asset, the resulting change in the valuation allowance will be credited directly to additional paid-in capital, pursuant to the provisions of SFAS No. 109. 12 13 RISK FACTORS References in these risk factors to "we," "our" the "Company" and "us" refer to Concord Communications, Inc., a Massachusetts corporation. Any investment in our common stock involves a high degree of risk. If any of the following risks actually occur, our business, results of operations and financial condition would likely suffer. This document contains forward-looking statements. Any statements contained herein that do not describe historical facts are forward-looking statements. Concord makes such forward-looking statements under the provisions of the "safe harbor" section of the Private Securities Litigation Reform Act of 1995. The forward-looking statements contained herein are based on current expectations, but are subject to a number of risks and uncertainties. Concord's actual future results may differ significantly from those stated in any forward-looking statements. Factors that may cause such differences include, but are not limited to, the factors discussed below. OUR FUTURE OPERATING RESULTS ARE UNCERTAIN. We changed our focus to network management software in 1991 and commercially introduced our first Network Health(R) product in 1995. We acquired Empire Technologies in October 1999 and FirstSense Software in February 2000, bringing us into the broader performance, availability and fault management market. Accordingly, we have a relatively limited operating history in this broader market upon which you can evaluate our business and prospects can be based. We incurred significant net losses in each of the five fiscal years prior to earning a small profit in 1997, and remaining profitable in 1998, 1999 and 2000. As of June 30, 2001, we had accumulated net losses of approximately $32.3 million. Our limited operating history makes the prediction of future results of operations difficult or impossible. Our prospects must be considered in light of the risks, costs and difficulties frequently encountered by emerging companies, particularly companies in the competitive software industry. WE CANNOT ENSURE THAT OUR REVENUES WILL GROW OR THAT WE WILL BE PROFITABLE. Although we have achieved revenue growth and profitability for the fiscal years ended 2000, 1999, 1998 and 1997, we cannot ensure that we can generate revenue growth on a quarterly or annual basis, or that we can achieve or sustain any revenue growth. In addition, we have increased, and may increase in the future, our operating expenses in order to: - fund higher levels of research and development; - increase our sales and marketing efforts; - develop new distribution channels; - broaden our customer support capabilities; and - expand our administrative resources in anticipation of future growth. To the extent that increases in our expenses precede or are not followed by increased revenue, our profitability will continue to suffer. Our revenue must grow substantially in order for us to become profitable on a quarterly or annual basis. In addition, in view of the rapidly evolving nature of our business and markets, our recent acquisitions and our limited operating history in our current market, we believe that one should not rely on period-to-period comparisons of our financial results as an indication of our future performance. In light of our strong performance in 1998, we used all of our remaining unrestricted tax net operating loss and credit carryforwards in 1998. Accordingly, we recorded a tax benefit of $986,000 during 1998, and a tax provision of $4.3 million during 1999 and $375,000 for 2000. The continuing restrictions on our future use of our net operating loss carryforwards will severely limit the benefit, if any, we will attribute to this asset. OUR QUARTERLY OPERATING RESULTS MAY FLUCTUATE. We are likely to experience significant fluctuations in our quarterly operating results caused by many factors, including, but not limited to: - changes in the demand for our products by customers or group of customers; - the timing, composition and size of orders from our customers, including the tendency for significant bookings to occur in the last month of each fiscal quarter; 13 14 - our success in integrating products from acquisitions to our current product line; - our customers' spending patterns and budgetary resources for performance management software solutions; - the success of our new customer generation activities; - introductions or enhancements of products, or delays in the introductions or enhancements of products, by us or our competitors; - changes in our pricing policies or those of our competitors; - changes in the distribution channels through which products are sold; - our success in anticipating and effectively adapting to developing markets and rapidly changing technologies; - changes in networking or communications technologies; - our success in attracting, retaining and motivating qualified personnel; - changes in the mix of products sold by us and our competitors; - the publication of opinions about us and our products, or our competitors and their products, by industry analysts or others; and - changes in general economic conditions. Though our services revenue has been increasing as a percentage of revenue, we do not have a significant ongoing revenue stream that may mitigate quarterly fluctuations in operating results as other software companies with a longer history of operations. Increases in our revenues will also depend on our successful implementation of our distribution strategy as we are trying to expand our channels of distribution. Due to the buying patterns of certain of our customers and also to our own sales incentive programs focused on annual sales goals, revenues in our fourth quarter could be higher than revenues in our first quarter of the following year. There also may be other factors, such as seasonality and the timing of receipt and delivery of orders within a fiscal quarter, that significantly affect our quarterly results, which are difficult to predict given our limited operating history. Our quarterly sales and operating results depend generally on: - the volume and timing of orders within the quarter; - the tendency of sales to occur late in fiscal quarters; and - our fulfillment of orders received within the quarter. In addition, our expense levels are based in part on our expectations of future orders and sales, which are extremely difficult to predict. A substantial portion of our operating expenses are related to personnel, facilities and sales and marketing programs. Accordingly, we may not be able to adjust our fixed expenses quickly enough to address any significant shortfall in demand for our products in relation to our expectations. Due to all of the foregoing factors, we believe that our quarterly operating results are likely to vary significantly in the future. Therefore, in some future quarter our results of operations may fall below the expectations of securities analysts and investors. In such event, the trading price of our common stock would likely suffer. THE MARKET FOR PERFORMANCE MANAGEMENT SOFTWARE IS EMERGING. The market for our products is in an early stage of development. Although the rapid expansion and increasing complexity of computer networks, systems and applications in recent years has increased the demand for performance management software products, the awareness of and the need for such products is a recent development. Because the market for these products is only beginning to develop, it is difficult to assess: - the size of this market; - the appropriate features and prices for products to address this market; - the optimal distribution strategy; and - the competitive environment that will develop. 14 15 The development of this market and our growth will depend significantly upon the willingness of telecommunications carriers, ISPs, systems integrators and outsourcers to integrate performance management software into their product and service offerings. The market for performance management software may not grow or we may fail to assess properly and address the needs of this market. OUR SUCCESS IS DEPENDENT UPON SALES TO TELECOMMUNICATIONS CARRIERS. We derive a significant portion of our revenues, and likely will continue to, from the sales of our products to telecommunications carriers. The domestic telecommunications market has suffered from a turbulent economy during 2000 and early 2001, and Concord has been negatively affected by the downturn in capital spending within this market. Our future performance depends upon telecommunications carriers' increased incorporation of our products and services as part of their package of product and service offerings to end users. Our products may fail to perform favorably in and become an accepted component of the telecommunications carriers' product and service offerings. The volume of sales of our products and services to telecommunications carriers may increase slower than we expect or may decrease. MARKET ACCEPTANCE OF OUR EHEALTH(TM) PRODUCT FAMILY IS CRITICAL TO OUR SUCCESS. We currently derive substantially all of our product revenues from our eHealth(TM) product family, and we expect that revenues from these products will continue to account for substantially all of our product revenues for the foreseeable future. Broad market acceptance of these products is critical to our future success. We cannot ensure that market acceptance of our eHealth(TM) product will increase or even remain at current levels. Factors that may affect the market acceptance of our products include: - the availability and price of competing products and technologies; and - the success of our sales efforts and those of our marketing partners. Moreover, if demand for performance management software products increases, we anticipate that our competitors will introduce additional competitive products and new competitors could enter our market and offer alternative products. Product introductions by our competitors may also reduce future market acceptance of our products. OUR INDUSTRY IS SUBJECT TO RAPID TECHNOLOGICAL CHANGE. OUR SUCCESS DEPENDS UPON MAINTENANCE OF STANDARD PROTOCOLS. The software industry is characterized by: - rapid technological change; - frequent introductions of new products; - changes in customer demands; and - evolving industry standards. The introduction of products embodying new technologies and the emergence of new industry standards can render existing products obsolete and unmarketable. Our Network Health(R) products' analysis and reporting, as well as the quality of its reports, depends upon its utilization of the industry-standard Simple Network Management Protocol (SNMP) and the data resident in conventional Management Information Bases (MIBs). Any change in these industry standards, the development of vendor-specific proprietary MIB technology, or the emergence of new network technologies could affect the compatibility of our Network Health(R) products with these devices which, in turn, could affect its analysis and generation of comprehensive reports or the quality of the reports. Furthermore, although our products currently run on industry-standard UNIX operating systems and Windows NT, any significant change in industry-standard operating systems could affect the demand for, or the pricing of, our products. WE MUST INTRODUCE PRODUCT ENHANCEMENTS AND NEW PRODUCTS ON A TIMELY BASIS. Because of rapid technological change in the software industry and potential changes in the performance management software market and industry standards, the life cycle of versions of our eHealth(TM) products is difficult to estimate. We cannot ensure that: - we will successfully develop and market enhancements to our eHealth(TM) products or successfully develop new products that respond to technological changes, evolving industry standards or customer requirements; 15 16 - we will not experience difficulties that could delay or prevent the successful development, introduction and sale of such enhancements or new products; or - that such enhancements or new products will adequately address the requirements of the marketplace and achieve any significant degree of market acceptance. OUR ACQUISITIONS MAY NEGATIVELY IMPACT OUR RESULTS OF OPERATIONS. In October 1999, we acquired Empire Technologies, Inc. Empire is a provider of solutions for proactive self-management of UNIX, Linux and Windows NT systems, as well as mission-critical applications. In February 2000, we acquired FirstSense Software, Inc. FirstSense is a provider of application response management solutions. Because these acquisitions will be recorded as "poolings-of-interests" for accounting and financial reporting purposes, we recorded the expenses of these acquisitions, which are substantial, in the period in which each acquisition occurred. INTEGRATING OUR ACQUIRED PRODUCTS AND SERVICES MAY BE DIFFICULT. The anticipated benefits of our acquisitions may not be achieved unless, among other things, our operations, products, services and personnel are successfully combined with those of our acquired companies in a timely and efficient manner. The diversion of our attention, and any difficulties encountered in our transition processes, could harm the combined enterprise. We cannot ensure that we will successfully integrate our acquired companies, because, among other things: - the products and services offered by us and our acquired companies are highly complex and have been developed independently; and - integration of our product lines with those of our acquired companies will require coordination of separate development and engineering teams from each company. If the anticipated benefits of our acquisitions are not achieved or are not achieved in a timely fashion, then our acquisitions could harm our operating results for a significant period of time that cannot now be determined. THE MARKET FOR OUR PRODUCTS IS INTENSELY COMPETITIVE. The market for our products is new, intensely competitive, rapidly evolving and subject to technological change. Our current and future competitors include: - remote monitoring (RMON) probe vendors; - element management software vendors; - systems management software vendors; - other performance analysis and reporting vendors; - companies offering network performance reporting services; - large network management platform vendors which may bundle their products with other hardware and software in a manner that may discourage users from purchasing our products; and - developers of network element management solutions. We expect competition to persist, increase and intensify in the future with possible price competition developing in our markets. Many of our current and potential competitors have longer operating histories and significantly greater financial, technical and marketing resources and name recognition than us. We do not believe our market will support a large number of competitors and their products. In the past, a number of software markets have become dominated by one or a small number of suppliers, and a small number of suppliers or even a single supplier may dominate our market. If we do not provide products that achieve success in our market in the short term, we could suffer an insurmountable loss in market share and brand name acceptance. We cannot ensure that we will compete effectively with current and future competitors. 16 17 OUR FAILURE TO PROTECT OUR INTELLECTUAL PROPERTY RIGHTS MAY HARM OUR COMPETITIVE POSITION IN THE NETWORK MANAGEMENT SOFTWARE MARKET. Our success depends significantly upon our proprietary technology. We rely on a combination of patent, copyright, trademark and trade secret laws, non-disclosure agreements and other contractual provisions to establish, maintain and protect our proprietary rights. These means afford only limited protection. We have ten issued U.S. patents, seven pending U.S. patent applications, and various foreign counterparts. We cannot ensure that patents will issue from our pending applications or from any future applications or that, if issued, any claims allowed will be sufficiently broad to protect our technology. In addition, we cannot ensure that any patents that have been or may be issued will not be challenged, invalidated or circumvented, or that any rights granted thereunder would protect our proprietary rights. Failure of any patents to protect our technology may make it easier for our competitors to offer equivalent or superior technology. We have registered or applied for registration for certain trademarks, and will continue to evaluate the registration of additional trademarks as appropriate. Despite our efforts to protect our proprietary rights, unauthorized parties may attempt to copy aspects of our products or services or to obtain and use information that we regard as proprietary. Third parties may also independently develop similar technology without breach of our proprietary rights. In addition, the laws of some foreign countries do not protect proprietary rights to as great an extent as do the laws of the United States. In addition, many of our products are licensed under shrinkwrap license agreements that are not signed by licensees. The law governing the enforceability of shrinkwrap license agreement is not settled in most jurisdictions. There can be no guarantee that we would achieve success in enforcing one or more shrinkwrap license agreements if we sought to do so in a court of law. WE LICENSE CERTAIN TECHNOLOGIES FROM THIRD PARTIES. We license from third parties, generally on a non-exclusive basis, certain technologies used in our products. The termination of any such licenses, or the failure of the third-party licensors to maintain adequately or update their products, could result in delay in our shipment of certain of our products while we seek to implement technology offered by alternative sources, and any required replacement licenses could prove costly. While it may be necessary or desirable in the future to obtain other licenses relating to one or more of our products or relating to current or future technologies, we cannot ensure that we will be successful in doing so on commercially reasonable terms or at all. INTELLECTUAL PROPERTY INFRINGEMENT CLAIMS WOULD HARM OUR BUSINESS. Although we do not believe that we are infringing the intellectual property rights of others, claims of infringement are becoming increasingly common as the software industry develops and legal protections, including patents, are applied to software products. Litigation may be necessary to protect our proprietary technology, and third parties may assert infringement claims against us with respect to their proprietary rights. Any claims or litigation can be time-consuming and expensive regardless of their merit. Infringement claims against us can cause product release delays, require us to redesign our products or require us to enter into royalty or license agreements, which agreements may not be available on terms acceptable to us or at all. PRODUCT DEFECTS COULD RESULT IN LOSS OR DELAY IN MARKET ACCEPTANCE OF OUR PRODUCTS. As a result of their complexity, software products may contain undetected errors or failures when first introduced or as new versions are released. We cannot ensure that, despite testing by us and testing and use by current and potential customers, errors will not be found in new products we begin of commercial shipments or, if discovered, that we will successfully correct such errors in a timely manner or at all. The occurrence of errors and failures in our products could result in loss of or delay in market acceptance of our products, and alleviating such errors and failures could require significant expenditure of capital and other resources by us. WE MAY NOT HAVE SUFFICIENT PROTECTION AGAINST PRODUCT LIABILITY CLAIMS. Since our products are used by our customers to predict future network, system and application problems and avoid failures of the network to support critical business functions, design defects, software errors, misuse of our products, incorrect data from network elements or other potential problems within or out of our control that may arise from the use of our products could result in financial or other damages to our customers. We do not maintain product liability insurance. Although our license agreements with our customers typically contain provisions designed to limit our exposure to potential claims as well as any liabilities arising from such claims, such provisions may not effectively protect us against such claims and the liability and costs associated therewith. We provide warranties for our products for a period of time (currently three months) after purchase. Our license agreements do not permit product returns by the customer, and product returns for fiscal 2000, 1999 and 1998 represented less than 1.0% of total revenues during each of such periods. We cannot ensure that product returns will not increase as a percentage of total revenues in future periods. 17 18 WE RELY ON STRATEGIC PARTNERS AND OTHER EVOLVING DISTRIBUTION CHANNELS. Our distribution strategy is to develop multiple distribution channels, including sales through: - strategic marketing partners, such as Cisco Systems; - value added resellers, such as Empowered Networks; - telecommunications carriers, such as MCI WorldCom; - OEMs, such as Network Associates Inc.; and - independent software vendors and international distributors. We have developed a number of these relationships and intend to continue to develop new "channel partner" relationships. Our success will depend in large part on our development of these additional distribution relationships and on the performance and success of these third parties, particularly telecommunications carriers and other network service providers. We have recently established many of our channel partner relationships. Accordingly, we cannot predict the extent to which our channel partners will be successful in marketing our products. We generally expect that our agreements with our channel partners may be terminated by either party without cause. None of our channel partners are required to purchase minimum quantities of our products and none of these agreements contain exclusive distribution arrangements. We may: - fail to attract important and effective channel partners; - fail to penetrate the market segments of our channel partners; or - lose any of our channel partners, as a result of competitive products offered by other companies, products developed internally by these channel partners or otherwise. WE MAY FAIL TO MANAGE SUCCESSFULLY OUR GROWTH. We have experienced significant growth in our sales and operations and in the complexity of our products and product distribution channels. We have increased and are continuing to increase the size of our sales force and coverage territories. Furthermore, we have established and are continuing to establish additional distribution channels through third party relationships. Our growth, coupled with the rapid evolution of our markets, has placed, and is likely to continue to place, significant strains on our administrative, operational and financial resources and increase demands on our internal systems, procedures and controls. OUR SUCCESS DEPENDS ON OUR RETENTION OF KEY PERSONNEL. Our performance depends substantially on the performance of our key technical and senior management personnel, none of whom is bound by an employment agreement. We may lose the services of any of such persons. We do not maintain key person life insurance policies on any of our employees. Our success depends on our continuing ability to identify, hire, train, motivate and retain highly qualified management, technical, and sales and marketing personnel, including recently hired officers and other employees. We experience intense competition for such personnel. We cannot ensure that we will successfully attract, assimilate or retain highly qualified technical, managerial or sales and marketing personnel in the future. OUR FAILURE TO EXPAND INTO INTERNATIONAL MARKETS COULD HARM OUR BUSINESS. We intend to continue to expand our operations outside of the United States and enter additional international markets, primarily through the establishment of additional reseller arrangements. We expect to commit additional time and development resources to customizing our products and services for selected international markets and to developing international sales and support channels. We cannot ensure that such efforts will be successful. We face certain difficulties and risks inherent in doing business internationally, including, but not limited to: - costs of customizing products and services for international markets; 18 19 - dependence on independent resellers; - multiple and conflicting regulations; - exchange controls; - longer payment cycles; - unexpected changes in regulatory requirements; - import and export restrictions and tariffs; - difficulties in staffing and managing international operations; - greater difficulty or delay in accounts receivable collection; - potentially adverse tax consequences; - the burden of complying with a variety of laws outside the United States; - the impact of possible recessionary environments in economies outside the United States; and - political and economic instability. Our successful expansion into certain countries will require additional modification of our products, particularly national language support. Our current export sales are denominated in United States dollars and we currently expect to largely continue this practice as we expand internationally. To the extent that international sales continue to be denominated in U.S. dollars, an increase in the value of the United States dollar relative to other currencies could make our products and services more expensive and, therefore, potentially less competitive in international markets. To the extent that future international sales are denominated in foreign currency, our operating results will be subject to risks associated with foreign currency fluctuation. We would consider entering into forward exchange contracts or otherwise engaging in hedging activities. To date, as all export sales are denominated in U.S. dollars, we have not entered into any such contracts or engaged in any such activities. As we increase our international sales, seasonal fluctuations resulting from lower sales that typically occur during the summer months in Europe and other parts of the world may affect our total revenues. OUR COMMON STOCK PRICE COULD EXPERIENCE SIGNIFICANT VOLATILITY. We completed an initial public offering of our common stock during October 1997. The market price of our common stock may be highly volatile and could be subject to wide fluctuations in response to: - variations in results of operations; - announcements of technological innovations or new products by us or our competitors; - changes in financial estimates by securities analysts; or - other events or factors. In addition, the financial markets have experienced significant price and volume fluctuations that have particularly affected the market prices of equity securities of many high technology companies and that often have been unrelated to the operating performance of such companies or have resulted from the failure of the operating results of such companies to meet market expectations in a particular quarter. Broad market fluctuations or any failure of our operating results in a particular quarter to meet market expectations may adversely affect the market price of our common stock. In the past, following periods of volatility in the market price of a company's securities, securities class action litigation has often been instituted against such a company. Such litigation could result in substantial costs and a diversion of our attention and resources. WE MAY NEED FUTURE CAPITAL FUNDING. We plan to continue to expend substantial funds on the continued development, sales and marketing of the eHealth(TM) product family. We cannot ensure that our existing capital resources, the proceeds from our initial public offering during October 1997 and any funds that may be generated from future operations together will be sufficient to finance our future operations or that other 19 20 sources of funding will be available on terms acceptable to us, if at all. In addition, future sales of substantial amounts of our securities in the public market could adversely affect prevailing market prices and could impair our future ability to raise capital through the sale of our securities. 20 21 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK DERIVATIVE FINANCIAL INSTRUMENTS, OTHER FINANCIAL INSTRUMENTS AND DERIVATIVE COMMODITY INSTRUMENTS. The Company does not invest in derivative financial instruments, other financial instruments or derivative commodity instruments for which fair value disclosure would be required under SFAS No. 107. All of the Company's investments are in investment grade securities with high credit ratings of relatively short duration that trade in highly liquid markets and are carried at fair value on the Company's books. Accordingly, the Company has no quantitative information concerning the market risk of participating in such investments. PRIMARY MARKET RISK EXPOSURES. The Company's primary market risk exposure is in the area of interest rate risk. The Company's investment portfolio of cash equivalents and marketable securities is subject to interest rate fluctuations, but the Company believes this risk is immaterial due to the short-term nature of these investments. Substantially all of the Company's business outside the United States is conducted in U.S. dollar-denominated transactions, whereas the Company's operating expenses in its international branches are denominated in local currency. The Company has no foreign exchange contracts, option contracts or other foreign hedging arrangements. The Company believes that the operating expenses of its foreign operations are immaterial, and therefore any associated market risk is unlikely to have a material adverse effect on the Company's business, results of operations or financial condition. The Company's current export sales are denominated in United States dollars. To the extent that international sales continue to be denominated in United States dollars, an increase in the value of the United States dollar relative to other currencies could make the Company's products and services more expensive and, therefore, potentially less competitive in international markets. 21 22 CONCORD COMMUNICATIONS, INC. FORM 10-Q, JUNE 30, 2001 PART II: OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS The Company is not a party to any litigation that it believes could have a material adverse effect on the business, results of operations and financial condition of the Company. ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS (a) Issuance of Securities On February 4, 2000, the Company completed a merger with FirstSense Software, Inc. The Company has reserved for issuance in connection with the merger, 1,940,000 shares of Concord Common Stock. The Company issued the shares in a private placement transaction pursuant to Section 4(2) under the Securities Act of 1933. The merger was accounted for as a pooling of interests. The Company has filed a Form S-3 Registration Statement to cover the resale of the securities issued in the merger. (b) Use of Proceeds On October 16, 1997, the Company commenced an initial public offering ("IPO") of 2,900,000 shares of common stock, par value $.01 per share (the "Common Stock"), of the Company pursuant to the Company's final prospectus dated October 15, 1997 (the "Prospectus"). The Prospectus was contained in the Company's Registration Statement on Form S-1, which was declared effective by the Securities and Exchange Commission (SEC File No. 333-33227) on October 15, 1997. Of the 2,900,000 shares of Common Stock offered, 2,300,000 shares were offered and sold by the Company and 600,000 shares were offered and sold by certain shareholders of the Company. As part of the IPO, the Company granted the several underwriters an overallotment option to purchase up to an additional 435,000 shares of Common Stock (the "Underwriters' Option"). The IPO closed on October 21, 1997 upon the sale of 2,900,000 shares of Common Stock to the underwriters. On October 24, 1997, the Representatives, on behalf of the several underwriters, exercised the Underwriters' Option, purchasing 435,000 additional shares of Common Stock from the Company. The aggregate offering price of the shares of Common stock in the IPO to the public was $40,600,000 (exclusive of the Underwriters' Option), with proceeds to the Company and selling shareholders, after deduction of the underwriting discount, of $29,946,000 (before deducting offering expenses payable by the Company) and $7,812,000 respectively. The aggregate offering price of the Underwriters' Option exercised was $6,090,000, with proceeds to the Company, after deduction of the underwriting discount, of $5,663,700 (before deducting offering expenses payable by the Company). The aggregate amount of expenses incurred by the Company in connection with the issuance and distribution of the shares of Common Stock offered and sold in the IPO were approximately $3.6 million, including $2.7 million in underwriting discounts and commissions and $950,000 in other offering expenses. The net proceeds to the Company from the IPO, after deducting underwriting discounts and commissions and other offering expenses were approximately $34.7 million. To date, the Company has not utilized any of the net proceeds from the IPO. The Company has invested all such net proceeds primarily in US treasury obligations and other interest bearing investment grade securities. ITEM 3. DEFAULTS UPON SENIOR SECURITIES Not Applicable ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS Not Applicable ITEM 5. OTHER INFORMATION Not Applicable 22 23 ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits The exhibits listed in the accompanying Exhibit Index on page 25 and page 26 are filed or incorporated by reference as part of this Report. 23 24 CONCORD COMMUNICATIONS, INC. FORM 10-Q, JUNE 30, 2001 SIGNATURE 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. Concord Communications, Inc. /s/ Melissa H. Cruz --------------------------------------- Date: August 6, 2001 Name: Melissa H. Cruz Title: Executive Vice President of Business Services and Chief Financial Officer (Principal Financial Officer and Principal Accounting Officer) 24 25 CONCORD COMMUNICATIONS, INC. FORM 10-Q, JUNE 30, 2001 EXHIBIT INDEX
EXHIBIT NO. DESCRIPTION SEC DOCUMENT REFERENCE ------- ----------- ---------------------- 3.01 Restated Articles of Organization of the Company Exhibit No. 3.01 on Form 10-K, for the period ended December 31, 1997 3.02 Restated By-laws of the Company Exhibit No. 3.02 on Form 10-K, for the period ended December 31, 1998 10.01 Working Capital Loan Agreement between the Company and Silicon Valley Bank dated April 3, 1997 Exhibit No. 10.01 to Registration Statement on Form S-1 (No. 333-33227) 10.02 Revolving Promissory Note made by the Company in favor of Silicon Valley Bank Exhibit No. 10.02 to Registration Statement on Form S-1 (No. 333-33227) 10.03 Equipment Line of Credit Letter Agreement between the Exhibit No. 10.03 to Registration Statement on Form S-1 Company and Fleet Bank dated as of June 9, 1997 (No. 333-33227) 10.04 1995 Stock Plan of the Company Exhibit No. 10.04 to Registration Statement on Form S-1 (No. 333-33227) 10.05 1997 Stock Plan of the Company Exhibit No. 10.01 on Form 10-Q, for the period ended June 30, 1998 10.06 1997 Stock Plan of the Company, as amended on March Exhibit No. 10.06 on Form 10-K, for the period ended 12, 1998, March 1, 1999, May 15, 1999 and March 8, December 31, 2000 2000 10.07 1997 Employee Stock Purchase Plan of the Company Exhibit No. 10.06 to Registration Statement on Form S-1 (No. 333-33227) 10.08 1997 Non-Employee Director Stock Option Plan of the Exhibit No. 10.08 on Form 10-K, for the period ended Company as amended on March 8, 2000 December 31, 2000 10.09 The Profit Sharing/401(K) Plan of the Company Exhibit No. 10.08 to Registration Statement on Form S-1 (No. 333-33227) 10.10 Lease Agreement between the Company and John Hancock Exhibit No. 10.09 to Registration Statement on Form S-1 Mutual Life Insurance Company dated March 17, 1994, (No. 333-33227) as amended on March 25,1997 10.11 First Amendment to Lease Agreement between the Company and John Hancock Mutual Life Insurance Exhibit No. 10.10 to Registration Statement on Form S-1 Company dated March 25, 1997 (No. 333-33227) 10.12 Form of Indemnification Agreement for directors and officers of the Company Exhibit No. 10.11 to Registration Statement on Form S-1 (No. 333-33227) 10.13 Restated Common Stock Registration Rights Agreement between the Company and certain investors dated Exhibit No. 10.12 to Registration Statement on Form S-1 August 7, 1986 (No. 333-33227) 10.14 Amended and Restated Registration Rights Agreement between the Company and certain investors dated Exhibit No. 10.13 to Registration Statement on Form S-1 December 28, 1995 (No. 333-33227) 10.15 Management Change in Control Agreement between the Company and John A. Blaeser dated as of August 7, 1997 Exhibit No. 10.14 to Registration Statement on Form S-1 (No. 333-33227) 10.16 Management Change in Control Agreement between the Company and Kevin J. Conklin dated as of July 23, 1997 Exhibit No. 10.15 to Registration Statement on Form S-1 (No. 333-33227) 10.17 Management Change in Control Agreement between the Company and Ferdinand Engel dated as of July 23, 1997 Exhibit No. 10.16 to Registration Statement on Form S-1 (No. 333-33227) 10.18 Management Change in Control Agreement between the Exhibit No. 10.17 to Registration Statement on Form S-1 Company and Gary E. Haroian dated as of July 23, 1997 (No. 333-33227) 10.19 Management Change in Control Agreement between the Exhibit No. 10.18 on Form 10-Q filed on August 14, 2000 Company and Melissa H. Cruz dated as of June 12, 2000 10.20 Management Change in Control Agreement between the Exhibit No. 10.18 to Registration Statement on Form S-1 Company and Daniel D. Phillips, Jr. dated as of July (No. 333-33227) 23, 1997 10.21 Stock Option Agreement dated January 1, 1996 between Exhibit No. 10.19 to Registration Statement on Form S-1 the Company and John A. Blaeser (No. 333-33227) 10.22 Stock Option Agreement dated January 1, 1996 between Exhibit No. 10.20 to Registration Statement on Form S-1 the Company and John A. Blaeser (No. 333-33227) 10.23 Letter Agreement between the Company and Silicon Exhibit No. 10.21 to Registration Statement on Form S-1 Valley Bank dated March 25, 1996 together with the (No. 333-33227) Loan Modification Agreement dated November 14, 1996 10.24 Form of Shrink-Wrap License Exhibit No. 10.22 to Registration Statement on Form S-1 (No. 333-33227) 10.25 Agreement and Plan of Reorganization dated as of Exhibit No. 2.1 on Form 8-K filed on November 12, 1999 October 19, 1999 by and among Concord Communications, Inc., E Acquisition Corp., Empire Technologies, Inc. and the stockholders of Empire Technologies, Inc. 10.26 Agreement and Plan of Reorganization dated as of Exhibit No. 2.1 on Form 8-K filed on February 10, 2000 January 20, 2000 by and among Concord Communications, Inc., F Acquisition Corp., and FirstSense Software, Inc. 10.27 Registration Rights Agreement dated as of February 4, Exhibit No. 99.1 on Form 8-K filed on February 10, 2000 2000 by and among Concord Communications, Inc. and Timothy Barrows, as Securityholder Agent 10.28 2000 Non-Executive Employee Equity Incentive Plan Exhibit 10.28 on Form 10-K, for the period ended December 31, 2000
25 26 CONCORD COMMUNICATIONS, INC. FORM 10-Q, MARCH 31, 2001 EXHIBIT INDEX
EXHIBIT NO. DESCRIPTION SEC DOCUMENT REFERENCE ------- ----------- ---------------------- Management Change in Control Agreement between the Exhibit No. 10.29 on Form 10-Q filed on May 9, 2001 10.29 Company and Ellen Kokos dated as of February 2, 2001 *10.30 Management Change in Control Agreement between the Exhibit No. 10.30 to Current Report on Form 10-Q Company and John F. Hamilton dated as of April 16, 2001
* filed herewith 26