-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, OM+BcFpvc3CoPasnqriYqBQlC3oLm5sTH2H8Hcj6HB2Cpjb7v3voVIUwLCpFKCa2 6r98samut3+Ycd2YmJPPNw== 0001047469-99-009981.txt : 19990317 0001047469-99-009981.hdr.sgml : 19990317 ACCESSION NUMBER: 0001047469-99-009981 CONFORMED SUBMISSION TYPE: 10-Q/A PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 19970930 FILED AS OF DATE: 19990316 FILER: COMPANY DATA: COMPANY CONFORMED NAME: SUMMIT DESIGN INC CENTRAL INDEX KEY: 0000925072 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-PREPACKAGED SOFTWARE [7372] IRS NUMBER: 931137888 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q/A SEC ACT: SEC FILE NUMBER: 000-20923 FILM NUMBER: 99566512 BUSINESS ADDRESS: STREET 1: 9305 S W GEMINI DRIVE CITY: BEAVERTON STATE: OR ZIP: 97008 BUSINESS PHONE: 5036439281 MAIL ADDRESS: STREET 1: 9305 S W GEMINI DRIVE CITY: BEVERTON STATE: OR ZIP: 97008 10-Q/A 1 10-Q/A UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q/A (AMENDMENT NO. 1) - ------------------------------------------------------------------------------- X Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 for the quarterly period ended September 30, 1997 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: 0-20923 SUMMIT DESIGN, INC. (Exact name of registrant as specified in its charter) DELAWARE 93-1137888 (State or other jurisdiction of (I.R.S. Employer Identification Number) incorporation or organization) 9305 S. W. GEMINI DRIVE, BEAVERTON, OREGON 97008 (Address of principal executive office) Registrant's Telephone number, including area code: (503) 643-9281 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 ----- ----- As of November 4, 1997, the Registrant had outstanding 14,655,899 shares of Common Stock. SUMMIT DESIGN, INC. INDEX PART I FINANCIAL INFORMATION Item 1 Condensed Consolidated Financial Statements Condensed Consolidated Balance Sheet as of September 30, 1997 (unaudited) and December 31, 1996. 3 Condensed Consolidated Statements of Operations for the three month and nine month periods ended September 30, 1997 and 1996 (unaudited). 4 Condensed Consolidated Statements of Cash Flows for the nine month periods ended September 30, 1997 and 1996 (unaudited). 5 Notes to Condensed Consolidated Financial Statements. 6 Item 2 Management's Discussion and Analysis of Financial Condition and Results of Operations 9 Item 3 Not Applicable PART II OTHER INFORMATION Item 2 Changes in Securities and Use of Proceeds 27 Item 6 Exhibits and Reports on Form 8-K 27 Item 1 and Item 3 through Item 5 Not Applicable Signature 28 Exhibit Index 29 Restatement of Financial Statements and Changes to Certain Information The Registrant previously announced that it would revise the accounting treatment of its September 1997 acquisition of Simulation Technologies Corp. in response to comments received from the Securities and Exchange Commission. Accordingly, this Quarterly Report on Form 10-Q/A is being filed as Amendment No. 1 to the Registrant's Quarterly Report on Form 10-Q filed with the Securities and Exchange Commission on November 14, 1997 for the purpose of restating financial information and related disclosures for the three and nine month periods ended September 30, 1997. See Note 1 to the Condensed Consolidated Financial Statements. -2- SUMMIT DESIGN, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (in thousands)
September 30, 1997 December 31, 1996 ------------------ ----------------- (Restated) (Unaudited) ASSETS Current assets: Cash and cash equivalents ............. $ 17,224 $ 19,801 Accounts receivable, net .............. 5,223 5,578 Prepaid expenses and other ............ 554 490 ------------------ ----------------- Total current assets ................ 23,001 25,869 Furniture and equipment, net ............ 2,608 1,862 Notes receivable from related parties ... 490 - Intangibles, net ........................ 6,246 - Goodwill, net ........................... 3,681 - Deferred taxes .......................... - 500 Deposits and other assets ............... 497 469 ------------------ ----------------- Total assets ........................ $ 36,523 $ 28,700 ------------------ ----------------- ------------------ ----------------- LIABILITIES Current liabilities: Long-term debt, current portion ....... $ 390 $ 473 Capital lease obligation, current portion ............................... 41 66 Accounts payable ...................... 1,900 1,456 Accrued liabilities ................... 4,741 2,880 Deferred revenue ...................... 5,033 3,758 ------------------ ----------------- Total current liabilities ........... 12,105 8,633 Long-term debt, less current portion .... 754 754 Capital lease obligations, less current portion ......................... 59 95 Deferred revenue, less current portion .. 333 67 Deferred taxes .......................... 696 - ------------------ ----------------- Total liabilities ................... 13,947 9,549 ------------------ ----------------- Commitments and contingencies STOCKHOLDERS' EQUITY Common stock, $.01 par value. Authorized 30,000 shares; issued and outstanding 14,862 shares at September 30, 1997 and 14,079 shares at December 31, 1996.................. 148 141 Additional paid-in capital .............. 49,676 33,261 Accumulated deficit ..................... (15,703) (14,251) Treasury stock, at cost, 939 shares at September 30, 1997 ................... (11,545) - ------------------ ----------------- Total stockholders' equity .......... 22,576 19,151 ------------------ ----------------- Total liabilities and stockholders' equity ................ $ 36,523 $ 28,700 ------------------ ----------------- ------------------ -----------------
The accompanying notes are an integral part of the condensed consolidated financial statements -3- SUMMIT DESIGN, INC. CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (In thousands, except per share data) (Unaudited)
Three Months Nine Months Ended Ended September 30, September 30, --------------------- ---------------------- 1997 1996 1997 1996 ---------- -------- ---------- --------- (Restated) (Restated) Revenue: Product licenses..................... $ 6,444 $ 3,851 $ 16,951 $11,143 Maintenance and services............. 1,374 1,168 4,300 3,063 Other................................ 91 142 358 425 ---------- -------- ---------- --------- Total revenue................... 7,909 5,161 21,609 14,631 Cost of revenue: Product licenses..................... 165 156 514 434 Maintenance and services............. 171 124 423 337 Amortization of purchased technologies....................... 54 - 54 - ---------- -------- ---------- --------- Total cost of revenue........... 390 280 991 771 ---------- -------- ---------- --------- Gross profit............... 7,519 4,881 20,618 13,860 ---------- -------- ---------- --------- Operating expenses: Research and development............. 1,817 1,478 4,944 4,386 Sales and marketing.................. 2,705 2,374 7,820 6,811 General and administrative........... 954 789 3,015 2,340 Amortization of intangibles and goodwill........................... 244 - 244 - In-process technology................ 11,689 - 11,689 - ---------- -------- ---------- --------- Total operating expenses........ 17,409 4,641 27,712 13,537 ---------- -------- ---------- --------- Income (loss) from operations............. (9,890) 240 (7,094) 323 Interest expense.......................... (1) (17) (10) (95) Other income, net......................... 347 27 796 49 Gain on sale of TDS product line.......... 5,569 - 5,569 - ---------- -------- ---------- --------- Income (loss) before income taxes......... (3,975) 250 (739) 277 Income tax provision...................... 533 34 713 243 ---------- -------- ---------- --------- Net income (loss)......................... $ (4,508) $ 216 $ (1,452) $ 34 ---------- -------- ---------- --------- ---------- -------- ---------- --------- Earnings per share-Basic: Earnings (loss) per share............ $ (0.31) $ 0.02 $ (0.10) $ (0.00) ---------- -------- ---------- --------- ---------- -------- ---------- --------- Earnings per share-Diluted: Earnings (loss) per share............ $ (0.31) $ 0.02 $ (0.10) $ (0.00) ---------- -------- ---------- --------- ---------- -------- ---------- --------- Number of shares used in computing basic earnings per share.................. 14,456 12,959 14,245 12,608 Number of shares used in computing diluted earnings per share................ 14,456 12,959 14,245 12,608
The accompanying notes are an integral part of the condensed consolidated financial statements -4- SUMMIT DESIGN, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (In thousands) (Unaudited)
Nine Months Ended September 30, ----------------------- 1997 1996 --------- --------- (Restated) Cash flows from operating activities: Net income (loss).................................... $ (1,452) $ 34 Adjustments to reconcile net income (loss) to net cash provided by operating activities: Depreciation and amortization.................... 905 663 Amortization of future contingent share liability.................................... 183 - Gain on sale of TDS product line................. (5,569) - Writeoff of acquired in-process technology....... 11,689 - Loss on asset disposition........................ (1) 5 Changes in assets and liabilities: Accounts receivable.......................... 858 1,439 Prepaid expenses and other................... (27) (96) Accounts payable............................. 436 (74) Accrued liabilities.......................... 1,226 557 Deferred revenue............................. 1,294 1,164 Deferred taxes............................... (126) - Other, net................................... (75) 129 --------- --------- Net cash provided by operating activities........... 9,341 3,821 --------- --------- Cash flows from investing activities: Additions to furniture and equipment................ (1,266) (553) Acquisitons, net of cash received................... (3,816) - Proceeds from sale of TDS product line, net......... 4,643 - Proceeds from sale of assets........................ 8 6 Notes receivable from related parties............... (490) - Invest in Joint Venture............................. - (100) --------- --------- Net cash used in investing activities............ (921) (647) --------- --------- Cash flows from financing activities: Issuance of common stock, net of issuance costs 700 119 Payments to acquire treasury stock.................. (11,555) - Issuance of TriQuest Preferred Stock................ - 986 Stock issuance costs................................ - (674) Repurchase of common stock.......................... - (2) Proceeds from long-term debt........................ - 73 Short term borrowings............................... - (164) Principal payments of debt obligations.............. (81) (411) Principal payments of capital lease obligations..... (61) (1,050) --------- --------- Net cash used in financing activities............ (10,997) (1,123) --------- --------- Increase (decrease) in cash and cash equivalents.................................... (2,577) 2,051 Cash and cash equivalents, beginning of period.......... 19,801 711 --------- --------- Cash and cash equivalents, end of period................ $ 17,224 $ 2,762 --------- --------- --------- --------- Supplemental disclosure of cash flow information: Cash paid during the period for: Interest......................................... $ 10 $ 64 Income taxes..................................... 104 188 Supplemental disclosure of non-cash investing and financing activities: Equipment acquired under capital lease........... - 23 Acquisition, net of cash acquired: Net current assets, other than cash acquired........ $ (1,603) Furniture and equipment............................. 377 In-process technology............................... 11,689 Purchased technology and intangibles................ 10,225 Stock issued........................................ (15,550) Cash used, net of cash acquired..................... (3,816)
The accompanying notes are an integral part of the condensed consolidated financial statements -5- SUMMIT DESIGN, INC. Notes to Condensed Consolidated Financial Statements (Unaudited) 1. BASIS OF PRESENTATION AND RESTATEMENT The accompanying unaudited financial statements have been prepared by Summit Design, Inc. ("the Company") in accordance with the rules and regulations of the Securities and Exchange commission. Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted in accordance with such rules and regulations. The December 31, 1996 balance sheet was derived from the audited financial statements but does not include all of the disclosures required by generally accepted accounting principles. In the opinion of management, the accompanying unaudited financial statements reflect all adjustments, consisting only of normal recurring adjustments, necessary to present fairly the financial position of the Company, and its results of operations and cash flows. These financial statements should be read in conjunction with the audited financial statements and notes thereto for the years ended December 31, 1996, 1995, and 1994 included in the Company's Form 10-K filed for December 31, 1996. After discussion with the staff of the Securities and Exchange Commission (the "staff") the condensed consolidated financial statements as of September 30, 1997 and for the three and nine months ended September 30, 1997 have been restated to reflect a change in the original accounting treatment related to the September 1997 acquisition of SimTech. The Company allocated amounts to IPR&D and intangible assets in the third quarter of 1997 in a manner consistent with widely recognized appraisal practices and in consultation with their independent accountants PricewaterhouseCoopers LLP at the date of the acquisition of SimTech. Subsequent to the acquisition, the SEC staff expressed views that took issue with certain appraisal practices generally employed in determining the fair value of the IPR&D that was the basis for measurement of the Company's IPR&D charge. The charge of $19.9 million, originally reported, was based upon the work of an independent valuation firm that utilized methodologies the SEC has since announced it does not consider appropriate. As a result of computing IPR&D using the SEC preferred methodology, the Company, in consultation with their independent accountants, has revised the amount originally allocated to IPR&D. In addition, Summit adjusted the discount on common shares paid to SimTech shareholders from 28% to 10% and allocated $4.4 million of the purchase price, associated with certain shares, to contingent compensation. The Company has reduced the amount originally allocated to IPR&D from $19.9 million to $11.7 million and increased the amounts allocated to purchased technology, identifiable intangibles, deferred tax liability, and goodwill from $1.0 million to $2.4 million, $1.0 million to $4.1 million, $0 to $1.3 million and $0 to $3.8 million, respectively. These amounts are being amortized on a straight line basis over periods ranging from two to five years. The $4.4 million allocated to compensation will be recorded as expense as the employment obligation lapses. The restatement does not affect previously reported net cash flows for the periods. The effect of this reallocation on previously reported condensed consolidated financial statements as of and for the three and nine months ended September 30, 1997 is as follows (in thousands except per share amounts, unaudited):
Three Months Ended Nine Months Ended September 30, 1997 September 30, 1997 Statements of Operations: As Reported Restated As Reported Restated ----------- -------- ----------- -------- Cost of revenues $ 355 $ 390 $ 956 $ 991 Gross margin 7,554 7,519 20,653 20,618 Operating expenses, excluding In-process technology 5,301 5,720 15,604 16,023 In-process technology 19,937 11,689 19,937 11,689 Income (loss) from operations (11,769) (3,975) (14,888) (7,094) Net income (loss) (12,409) (4,508) (9,353) (1,452) Net income (loss) per share Basic $ (0.86) $ (0.31) $ (0.66) $ (0.10) Diluted $ (0.86) $ (0.31) $ (0.66) $ (0.10)
September 30, 1997 Balance Sheets: As Reported Restated ----------- -------- Noncurrent assets $ 6,378 $ 13,522 Total assets 29,379 36,523 Deferred tax liability 0 696 Accumulated deficit (23,603) (15,703) Total shareholders' equity 15,611 22,576
The results of operations for the nine months ended September 30, 1997 are not necessarily indicative of the results that may be expected for the year ended December 31, 1997 or any other future interim period, and the Company makes no representations related thereto. 2. ACQUISITION OF TRIQUEST DESIGN AUTOMATION, INC. On February 28, 1997, the Company acquired TriQuest Design Automation, Inc., a California corporation (TriQuest"). TriQuest develops hardware description language ("HDL") analysis, optimization and verification tools for the design of high performance, deep submicron integrated circuits. The aggregate consideration for the acquisition (including shares of common stock reserved for issuance upon exercise of TriQuest options assumed by the Company) was 775,000 shares of common stock. The transaction was accounted for as a "pooling of interests" in accordance with generally accepted accounting principles. In compliance with such principles, the Company's operating results have been restated to include the results of TriQuest as if the acquisition had occurred at the beginning of the first period presented. The following presents the previously separate results of TriQuest and Summit (in thousands):
Two Months Ended Year Ended Year Ended February 28, 1997 December 31, 1996 December 31, 1995 ----------------- ----------------- ----------------- (unaudited) Summit Design, Inc. Revenues $1,473 $20,163 $14,292 Net Income (loss) (921) 2,688 (3,123) TriQuest Revenues 199 151 -- Net Income (loss) 143 (1,425) (488)
3. SALE OF TDS PRODUCT LINE On July 11, 1997 the Company sold substantially all of the assets used in its business of developing and marketing its Test Development Series "TDS" Products (the "Asset Sale") to Credence Systems Corporation ("CSC") for $5 million. CSC assumed certain liabilities, including the Company's obligations under TDS maintenance contracts entered into prior to the closing. CSC also agreed to purchase $2 million of Visual interface licenses in the second quarter of 1997. TDS product license, maintenance and services and other revenue for the three months ended September 30, 1997 and 1996 were $0 and $1,758,000, respectively, and for the nine months ended September 30, 1997 and 1996 were $3,530,000 and $5,400,000, respectively, and $7,331,000 for the year ended December 31, 1996. The Company and CSC also entered into a Software OEM License agreement ("OEM Agreement") in which CSC agreed to purchase $16 million of Visual Testbench licenses over a thirty-month period beginning July 1997 subject to specified quarterly maximums and certain additional conditions. Additionally CSC entered into an 18 month maintenance agreement beginning July 1997 for $2 million associated with the Visual Testbench product. -6- SUMMIT DESIGN, INC. Notes to Condensed Consolidated Financial Statements (Unaudited) 4. ACQUISITION OF SIMULATION TECHNOLOGIES CORP. On September 9, 1997, the Company acquired Simulation Technologies Corp. ("SimTech"), a Minnesota Corporation. SimTech develops and distributes hardware-software co-verification, code coverage and HDL debugging software. The aggregate consideration for the acquisition was 1,256,800 shares of the Summit Common Stock, 723,200 options to purchase Summit common stock, and $3,875,000 of cash. An additional $315,000 of direct acquisition costs were also incurred and included in the purchase price. The total consideration at estimated fair value as originally reported and as restated is summarized as follows (in thousands):
Originally As Reported Restated --------- -------- Cash.......................................... $ 3,875 $ 3,875 Common stock of Summit........................ 11,367 14,649 Options to purchase Summit common stock....... 5,299 5,299 Other direct acquisition costs................ 315 315 ------- ------- $20,856 $24,138 ------- ------- ------- -------
The acquisition was accounted for using the purchase method of accounting. Accordingly, the results of SimTech's operations have been combined with those of Summit since the date of acquisition. The allocation of the purchase price to the net assets acquired based upon their estimated fair values as originally reported and as restated is summarized as follows (in thousands):
Originally As Reported Restated --------- -------- Current assets............................... $ 937 $ 937 Property and equipment....................... 377 377 In-process technology........................ 19,937 11,689 Purchased technology......................... 1,037 2,390 Identifiable intangibles..................... 735 4,079 Goodwill..................................... - 3,756 Current liabilities assumed.................. (707) (707) Unearned revenue assumed..................... (1,460) (1,460) Deferred taxes............................... - (1,322) Compensation expense contingent upon future employment.......................... - 4,399 ------- ------- $20,856 $24,138 ------- ------- ------- -------
The amount allocated to in-process technology was written off immediately subsequent to the acquisition of SimTech as the in-process technology had not reached technological feasibility and had no probable alternative future use. The amounts allocated to purchased technology and identifiable intangibles are being amortized on a straight-line basis over two to five years. Additionally, the Company will record a charge to expense for shares issued in the transaction which are contingent upon continued employment for up to two years from the acquisition date. A total of $4.4 million of compensation expense will be recorded as the employment obligation lapses. The following table reflects unaudited pro forma combined results of operations of the Company and SimTech on a basis that the acquisition had taken place at the beginning of the fiscal year for each of the periods presented, excluding the effect of the one time charge of in-process technology:
December 31, 1996 September 30, 1997 ----------------- ----------------- (Restated) (Restated) (In thousands, except per share data) Revenues $ 24,391 $ 25,525 -------- -------- -------- -------- Net Income (loss) $ (4,104) $ 4,594 -------- -------- -------- -------- Net income per diluted share $ (0.31) $ 0.29 -------- -------- -------- -------- Number of shares used in per share calculation 13,292 16,033 -------- -------- -------- --------
In management's opinion, the unaudited pro forma combined results of operations are not indicative of the actual results that would have occurred had the acquisition been consummated at the beginning of 1996 or at the beginning of 1997 or under the ownership and management of the Company. In connection with this transaction the Company also repurchased 939,000 shares of Summit common stock in private transactions at an average price of $12.30 per share for an aggregate of $11,555,000 in cash. 5. NOTE RECEIVABLE In July 1997, the Company entered into an agreement to lend up to $2.5 million to an independent software development company pursuant to a secured loan agreement. Borrowings under this agreement bear interest at prime rate plus 2%. 6. BALANCE SHEET COMPONENTS, (IN THOUSANDS) September 30, 1997 December 31, 1996 ------------------ ----------------- (Unaudited) Accounts Receivable: Trade receivables....................... $ 5,672 $ 6,011 Less allowance for doubtful accounts.... (449) (433) ------------------ ----------------- $ 5,223 $ 5,578 ------------------ ----------------- ------------------ ----------------- Furniture and equipment: Office furniture equipment............. $ 530 $ 513 Computer equipment..................... 4,432 3,154 Leasehold improvements................. 66 41 In-process assets...................... 102 - ------------------ ----------------- 5,130 3,708 Less: accumulated depreciation........... (2,522) (1,846) ------------------ ----------------- $ 2,608 $ 1,862 ------------------ ----------------- ------------------ ----------------- -7- SUMMIT DESIGN, INC. Notes to Condensed Consolidated Financial Statements (Unaudited) Accrued expenses: Commissions payable.................... $ 46 $ 173 Payroll and related benefits........... 2,314 1,610 Accrued management relocation costs.... 160 24 Accounting and legal................... 418 301 Federal and state income taxes payable. 738 18 Sales taxes payable.................... 117 96 Other.................................. 948 658 ------------------ ----------------- Total accrued expenses.............. $ 4,741 $ 2,880 ------------------ ----------------- ------------------ ----------------- Long-term debt: Marketing grant payable to the Israeli $ 364 $ 364 government Chief Scientist grant payable to the Israeli government.... 702 773 Other.................................. 78 90 ------------------ ----------------- Total long-term debt..................... 1,144 1,227 Less current portion..................... (390) (473) ------------------ ----------------- Non current portion...................... $ 754 $ 754 ------------------ ----------------- ------------------ ----------------- 7. IMPACT OF RECENTLY ISSUED ACCOUNTING STANDARDS During February 1997, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards No. 128, "Earnings Per Share" ("SFAS 128") and Statement of Financial Accounting Standards No. 129 "Disclosure of Information about Capital Structure" ("SFAS 129"), which are effective for the Company's 1997 fiscal year. The Company's management has studied the implications of SFAS 128 and SFAS 129, and based on the initial evaluation, does not expect the adoption to have a material impact on the Company's financial condition or results of operations. In June 1997, FASB issued SFAS No. 130, "Comprehensive Income" SFAS No. 130 becomes effective in 1998 and requires reclassification of earlier financial statements for comparative purposes. SFAS No. 130 requires that changes in the amounts of certain items, including foreign currency translation adjustments and gains and losses on certain securities be shown in the financial statements. SFAS No. 130 does not require a specific format for the financial statement in which comprehensive income is reported, but does require that an amount representing total comprehensive income be reported in that statement. Management has not yet determined the effect, if any, of SFAS No. 130 on the consolidated financial statements. Also in June 1997, the FASB issued SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information." This Statement will change the way public companies report information about segments of their business in their annual financial statements and requires them to report selected segment information in their quarterly reports issued to shareholders. It also requires entity-wide disclosures about the products and services an entity provides, the material countries in which it holds assets and reports revenues, and its major customers. The Statement is effective for fiscal years beginning after December 15, 1997. Management has no yet determined the effect, if any, of SFAS No.131 on the consolidated financial statements. In October 1997, the AICPA issued SOP 97-2, "Software Revenue Recognition", which supersedes SOP 91-1 and is effective for transactions entered into in years beginning after December 15, 1997. Management is currently studying the implications of this Statement and does not expect adoption to have a material impact on the Company's financial condition or results of operations. 8. SUBSEQUENT EVENT--(UNAUDITED): On June 30, 1998, the Company acquired ProSoft Oy ("ProSoft"), a Company located in Finland. ProSoft develops software tools used to verify embedded systems software prior to the availability of a hardware prototype. The aggregate consideration for the acquisition (including shares of common stock reserved for issuance upon exercise of ProSoft options which were exchanged for options of the Company) was 248,334 shares of common stock. The transaction was accounted for as a "pooling of interests" in accordance with generally accepted accounting principles. In compliance with such principles, the Company's financial statements have been restated to include the accounts of ProSoft as if the acquisition had occurred at the beginning of the first period presented herein. The effect of the combination did not have a material impact on the net sales and net income of the combined entity. -8- ITEM 2 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS IMPORTANT NOTE ABOUT FORWARD LOOKING STATEMENTS The following discussion contains forward looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. Predictions of future events are inherently uncertain. Actual events could differ materially from those predicted in the forward looking statements as a result of the risks set forth in the following discussion, and, in the particular, the risks discussed below under the subheading "Additional Risk Factors that Could Affect Operating Results and Market Price of Stock." OVERVIEW Summit previously announced it would revise the accounting treatment of its September 1997 acquisition of SimTech in response to comments received from the Securities and Exchange Commission. The following discussion includes all changes that have been made related to the restatement. Summit was founded in December 1993 to act as the holding company for Test Systems Strategies, Inc. ("TSSI") and SEE Technologies Software Environment for Engineers Ltd. ("SEE Technologies"), (now Summit Design (EDA) Ltd.) (collectively , the "Reorganization"). TSSI was founded in 1979 to develop and market integrated circuit ("IC" or "chip") manufacturing test products. In January 1993, TSSI retained a new Chief Executive Officer and began to restructure its senior management team. Thereafter, the Company broadened its strategy from focusing primarily on manufacturing test products to include providing graphical Systems Level Design Automation ("SLDA") design creation and verification tools and integrating these with its core technology. As part of its strategy, in early 1994, TSSI acquired SEE Technologies, an Israeli company that, through its predecessor, began operations in 1983 and had operated primarily as a research and development and consulting company focused on the electronic design automation ("EDA") and SLDA market. As a result of the Reorganization, TSSI and SEE Technologies became wholly-owned subsidiaries of Summit in the first quarter of 1994. The Company's ongoing implementation of its strategy has involved significant expenditures. Following the Reorganization, the Company significantly increased its research and development expenditures to support the continued development of SLDA and Design to Test products. To promote its products, the Company has added sales and marketing staff, increasing its sales and marketing expenditures by 147% from 1993 to 1996, and has restructured its key distributor relationships. This concurrent effort to develop products and promote market awareness and acceptance of its products in a new and evolving market contributed to the Company's annual losses. The Company introduced its first SLDA product, Visual HDL for VHDL 1.0, in the first quarter of 1994. This product lacked compiled simulation and operated only on a PC platform. In the third quarter of 1994, with the release of version 2.5, Summit expanded the simulation capability of Visual HDL for VHDL and introduced its UNIX-based version of this product. Prior to the Reorganization, the Company's TDS product and related maintenance revenue accounted for all of the Company's revenue. After the Reorganization, the Company's revenue has been predominantly derived from two product lines, Visual HDL, which includes Visual HDL for VHDL and Visual HDL for Verilog, and TDS. As of July 1, 1997 with the sale of the TDS product line, Design to Test products are no longer a source of revenue. With the acquisition of TriQuest Design Automation ("TriQuest") in February 1997 and Simulation Technologies Corp ("SimTech"), in September 1997,the Company has also derived revenue from verification products which include hardware-software co-verification, code coverage,and HDL debugging products as well as analysis, verification and RTL optimization tools. Revenue consists primarily of fees for licenses of the Company's software products, maintenance and customer training. Revenue from the sale of software licenses is recognized at the later of the time of shipment or satisfaction of all acceptance terms. Maintenance revenue is deferred and recognized ratably over the term of the maintenance agreement, which is typically 12 months. Revenue from customer training is recognized when the service is performed. The Company sells its products through a direct sales force in North America and selected European countries and through distributors in the Company's other international markets. Revenue from product sales through distributors is recognized net of the associated distributor -9- discounts. Fees received for granting distribution rights are deferred and recognized ratably over the term of the distribution agreement. Although the Company has not adopted a formal return policy, the Company generally reimburses customers in full for returned products. Estimated sales returns are recorded upon delivery of the product. The Company's products have a range of prices which depend on platform, HDL language, functionality and duration of license. In addition, the Company's products perform a variety of functions, certain of which are, and in the future may be, offered as separate products or discrete point solutions by the Company's existing and future competitors. For example, certain companies currently offer design entry products without simulators. There can be no assurance that such competition will not cause the Company to offer point solutions instead of, or in addition to, the Company's current software products. Such point solutions would be priced lower than the Company's current product offerings and could cause the Company's average selling prices to decrease. Accordingly, based on these and other factors, the Company expects that average selling prices for its products may continue to fluctuate in the future. The Company has entered into a joint venture with Anam, effective April 1, 1996, pursuant to which the joint venture corporation (Summit Asia) shall acquire exclusive rights to sell, distribute and support all of Summit's products in the Asia-Pacific region, excluding Japan. Summit Asia has acted in such capacity since April 1, 1996. Prior to that date, Anam was an independent distributor of the Company's products in Korea. The amount of revenue from sales through Summit Asia which is remitted to the Company is fixed by the joint venture agreement at a percentage which approximates the percentage applicable to sales through Anam prior to the formation of the joint venture. Excluding one-time sales of technology, sales through Anam accounted for 2.4% and 3.6% of the Company's total revenue and for 21.7% and 33.8% of the Company's revenue attributable to the Asia-Pacific region excluding Japan for the years ended December 31, 1995 and 1994, respectively. For the year ended December 31, 1996, Anam and Summit Asia together accounted for 3.8% of the Company's revenue for the nine months ended September 30, 1997. Summit Asia accounted for 3.0% of the Company's revenue. The Company accounts for its ownership interest in Summit Asia on the equity method of accounting and, as a result, the Company's pro rata share of the earnings and losses of Summit Asia is recognized as income or losses in the Company's income statement in "Other income, net." The Company does not expect Summit Asia to recognize a profit for the foreseeable future and thus does not expect to recognize income from its investment in Summit Asia for the foreseeable future, if at all. Approximately 26%, 51%, 38% and 51% of the Company's total revenue for the three months ended September 30, 1997 and 1996, and for the nine months ended September 30, 1997 and 1996, respectively, were attributable to sales made outside the United States. The decline in the percentage of revenue from sales made outside the United States for the three and nine months ended September 30, 1997 as compared to the same periods in 1996 is primarily the result of domestic sales to one customer. The Company expects that international revenue will continue to represent a significant portion of its total revenue. The Company's international revenue is currently denominated in U.S. dollars. As a result, increases in the value of the U.S. dollar relative to foreign currencies could make the Company's products more expensive and, therefore, potentially less competitive in those markets. The Company pays the expenses of its international operations in local currencies and does not engage in hedging transactions with respect to such obligations. International sales and operations are subject to numerous risks, including tariff regulations and other trade barriers, requirements for licenses, particularly with respect to the export of certain technologies, collectability of accounts receivable, changes in regulatory requirements, difficulties in staffing and managing foreign operations and extended payment terms. (1) On February 28, 1997, Summit completed its acquisition of TriQuest. TriQuest develops HDL analysis, optimization and verification tools for the design of high performance, deep submicron integrated circuits. The transaction is being accounted for as a "pooling of interest" in accordance with generally accepted accounting principals. - ------------------- (1) This paragraph contains forward-looking statements reflecting current expectations. There can be no assurance that the Company's actual future performance will meet the Company's current expectations. Investors are strongly encouraged to review the section entitled "Additional Risk Factors That Could Affect Operating Results and Market Price of Stock" commencing on page 19 for a discussion of factors that could affect future performance. -10- Effective July 1, 1997 the Company sold substantially all of the assets used in its business of developing and marketing its Test Development Series "TDS" Products (the "Asset Sale") to Credence Systems Corporation ("CSC"). The increase in the Company's product licenses revenue during the last nine quarters has been primarily due to increased revenue associated with the Company's SLDA products. The Asset Sale will allow the Company to focus on the development and marketing of these products. Substantially all of the Company's Design to Test product license revenue and related maintenance and services revenue for the year ended December 31, 1996 and the nine months ended September 30, 1997 were attributable to the TDS products. As of July 1, 1997, TDS products ceased to be a source of such revenues. CSC assumed the Company's obligations under TDS maintenance contracts entered into prior to the closing and the Company will not recognize deferred revenue associated with such contracts after June 30, 1997. The Company maintained exclusive rights to its Visual Testbench technology and CSC agreed to purchase a minimum of $16,000,000 of Visual Testbench licenses over a thirty-month period beginning July 1997 subject to specified quarterly maximums and certain additional conditions, and $2,000,000 of maintenance over an eighteen month period beginning July 1997. At the completion of the thirty month period, under certain conditions, CSC may obtain shared ownership to the Visual Testbench for sales into the ATE marketplace. On September 9, 1997, the Company acquired SimTech, a company that develops and distributes hardware-software co-verification, code coverage and HDL debugging software. The aggregate consideration for the acquisition was 1,256,800 shares of Summit common stock, 723,200 options to purchase Summit common stock and $3,875,000 in cash. The transaction was accounted for using the purchase method of accounting. Accordingly, the results of operations for the period from September 9, 1997 are included in the consolidated financial statements. The purchase price was allocated to the net assets acquired based on their estimated fair market values at the date of acquisition. After discussion with the staff of the Securities and Exchange Commission (the "staff") the condensed consolidated financial statements as of September 30, 1997 and for the three and nine months ended September 30, 1997 have been restated to reflect a change in the original accounting treatment related to the September 1997 acquisition of SimTech. The Company allocated amounts to IPR&D and intangible assets in the third quarter of 1997 in a manner consistent with widely recognized appraisal practices and in consultation with their independent accountants PricewaterhouseCoopers LLP at the date of the acquisition of SimTech. Subsequent to the acquisition, the SEC staff expressed views that took issue with certain appraisal practices generally employed in determining the fair value of the IPR&D that was the basis for measurement of the Company's IPR&D charge. The charge of $19.9 million, originally reported, was based upon the work of an independent valuation firm that utilized methodologies the SEC has since announced it does not consider appropriate. As a result of computing IPR&D using the SEC preferred methodology, the Company, in consultation with their independent accountants, has revised the amount originally allocated to IPR&D from $19.9 million to $11.7 million. In addition, Summit adjusted the discount on common shares paid to SimTech shareholders from 28% to 10% and allocated $4.4 million of the purchase price, associated with certain shares, to contingent compensation. The Company has reduced the amount originally allocated to IPR&D and increased the amounts allocated to purchase technology, identifiable intangibles, deferred tax liability, and goodwill from $1.0 million to $2.4 million, $1.0 million to $4.1 million, $0 to $1.3 million and $0 to $3.8 million, respectively. These amounts are being amortized on a straight line basis over periods ranging from two to five years. The $4.4 million allocated to compensation will be recorded as expense as the employment obligation lapses. -11- RESULTS OF OPERATIONS The following table sets forth for the periods indicated, certain financial data as a percentage of revenue.
Three Months Ended Nine Months Ended September 30, September 30, ------------------ ------------------ 1997 1996 1997 1996 -------- -------- -------- -------- (Restated) (Restated) Revenue: Product licenses. . . . . . . . . 81.5 % 74.6 % 78.4 % 76.2 % Maintenance and services. . . . . 17.4 22.6 19.9 20.9 Other . . . . . . . . . . . . . . 1.1 2.8 1.7 2.9 -------- -------- -------- -------- Total revenue . . . . . . . . 100.0 100.0 100.0 100.0 Cost of revenue: Product licenses. . . . . . . . . 2.1 3.0 2.4 3.0 Maintenance and services. . . . . 2.2 2.4 2.0 2.3 Amortization of purchased technologies . . . . . . . . . . 0.7 - 0.2 - -------- -------- -------- -------- Total Cost of revenue . . . . 5.0 5.4 4.6 5.3 -------- -------- -------- -------- Gross profit. . . . . . . . . 95.0 94.6 95.4 94.7 Operating expenses: Research and development. . . . . 23.0 28.6 22.8 30.0 Sales and marketing . . . . . . . 34.2 46.0 36.2 46.6 General and administrative (a). . 12.1 15.3 14.0 16.0 Amortization of intangibles and goodwill . . . . . . . . . . . . 3.1 1.1 - In-process technology . . . . . . 147.8 - 54.1 - -------- -------- -------- -------- Total operating expenses. . . 220.2 89.9 128.2 92.6 -------- -------- -------- -------- Income-from operations . . . . . . . . (125.2) 4.7 (32.8) 2.1 Other income (expense), net. . . . . . 74.8 0.2 29.4 (0.3) -------- -------- -------- -------- Income (loss) before income taxes. . . (50.4) 4.9 (3.4) 1.8 Income tax provision . . . . . . . . . 6.7 0.7 3.3 1.7 -------- -------- -------- -------- Net income (loss) . . . . . .. . . . . (57.1) % 4.2 % (6.7) % 0.1 % -------- -------- -------- -------- -------- -------- -------- --------
(a) General and administrative expenses for the nine months ended September 30, 1997 include a one-time charge of $379,000 (1.8% of revenue) for costs relating to the acquisition of TriQuest. TOTAL REVENUE The Company's revenue is comprised of product licenses revenue, maintenance and services revenue and other revenue. Total revenue increased by 53.2% from $5.2 million for the three months ended September 30, 1996 to $7.9 million for the three months ended September 30, 1997 and total revenue increased by 47.7% from $14.6 million for the nine months ended September 30, 1996 to $21.6 million for the nine months ended September 30, 1997. Sales through one distributor accounted for 12.3% and 13.5% of the Company's total revenue for the three months ended September 30, 1997 and 1996, respectively. Sales through one distributor accounted for 12.9% and 15.5% of the Company's total revenue for the nine months ended September 30, 1997 and 1996, respectively. Sales to one customer accounted for 41.4 % of total revenue for the three months ended September 30, 1997 and 25% of total revenue for the nine months ended September 30, 1997. No single customer accounted for more than 10% of the Company's total revenue for the three months and nine months ended September 30, 1996. -12- PRODUCT LICENSES REVENUE The Company's product licenses revenue is derived from license fees from the Company's SLDA Design and Verification products and additionally, from Design to Test products through June 30, 1997. Product licenses revenue increased by 67.3% from $3.9 million for the three months ended September 30, 1996 to $6.4 million for the three months ended September 30, 1997, and increased by 52.1% from $11.1 million for the nine months ended September 30, 1996 to $17.0 million for the nine months ended September 30, 1997. Because of the addition of SLDA functionality to Visual Testbench beginning with the release of Version 2.0 in December 1996, the Company recognizes revenue from Visual Testbench products as SLDA revenue instead of Design to Test revenue. SLDA revenue increased 135% from $3.4 million for the three months ended September 30, 1996 to $7.9 million for the three months ended September 30, 1997. SLDA revenue increased 98% from $9.1 million for the nine months ended September 30, 1996 to $18.0 million for the nine months ended September 30, 1997. The increase in SLDA revenue for the three months and nine months ended September 30, 1997 over the same period in 1996 was primarily attributable to sales to a single customer and to revenue from the Verification product portfolio that was not shipping in the comparable period in 1996. Significant sales to the single customer are expected to continue over the next nine quarters pursuant to contractual arrangements with that customer. As a result of the sale of all of the assets used in the business of developing and marketing the TDS Products effective July 1, 1997, there were no Design to Test revenues for the three months ended September 30, 1997 as compared to $1 million for the three months ended September 30, 1996. MAINTENANCE AND SERVICES REVENUE The Company's maintenance and services revenue is derived from maintenance contracts and training classes offered to purchasers of the Company's software products. Maintenance and services revenue increased 17.6% from $1.2 million for the three months ended September 30, 1996 to $1.4 million for the three months ended September 30, 1997. Maintenance and services revenue increased 40.4% from $3.1 million for the nine months ended September 30, 1996 to $4.3 million for the nine months ended September 30, 1997. The increase in maintenance and services revenue for the three months ended September 30, 1997 over the same period in 1996, was comprised of $940,000 attributable to additional maintenance revenue related to growth in the installed base of SLDA customers over the previous year, less $761,000 of Design to Test maintenance revenue for the three months ended September 30, 1996 for which there was no revenue in the comparable period in 1997 as a result of the sale of the TDS product line. OTHER REVENUE Other revenue consists of revenue from one-time technology sales and fees received for granting distribution rights. For the three months ended September 30, 1997 and 1996, respectively, other revenue was comprised of $91,000 and $142,000 of distribution rights fees. For the nine months ended September 30, 1997 and 1996, respectively, other revenue was comprised of $358,000 and $425,000 of distribution rights fees. In May 1997 a distribution agreement expired; and, as a result, the distribution rights fees paid at the inception of the agreement and amortized to revenue at $50,000 each quarter over the agreement period will no longer be a source of other revenue. Total other revenue relating to the TDS product line amounted to $42,000 and $75,000 for the nine months ended September 30, 1997 and September 30, 1996, respectively. No material costs were associated with other revenue for the three months and nine months ended September 30, 1997 and 1996. -13- COST OF REVENUE COST OF PRODUCT LICENSES REVENUE Cost of product licenses revenue includes product packaging, software documentation, labor and other costs associated with handling, packaging and shipping product and other production related costs plus the amortization of purchased technology acquired in the SimTech purchase. The cost of product license revenue increased from $156,000 for the three months ended September 30, 1996 to $165,000 for the three months ended September 30, 1997 and increased from $434,000 for the nine months ended September 30, 1996 to $514,000 for the nine months ended September 30, 1997. As a percentage of product licenses revenue, the cost of product licenses revenue decreased from 4.1% of product license revenue to 2.6% of product license revenue for the three months ended September 30, 1996 and 1997, respectively, and also decreased from 3.9% to 3.0% of product license revenue for the nine months ended September 30, 1996 and 1997, respectively. The decrease in the cost of product license revenue as a percent of product license revenue for the three months and nine months ended September 30, 1997 over the same periods in 1996 was due primarily to spreading fixed costs over increased revenues and cost savings from delivering verification products electronically. COST OF MAINTENANCE AND SERVICES REVENUE Cost of maintenance and services revenue, which consists primarily of personnel costs for customer support and training classes offered to purchasers of the Company's products, increased 37.9% from $124,000 for the three months ended September 30, 1996 to $171,000 for the three months ended September 30, 1997 and increased 25.5% from $337,000 for the nine months ended September 30, 1996 to $423,000 for the nine months ended September 30, 1997. As a percentage of maintenance and services revenue, the cost of maintenance and services revenue increased from 10.6% for the three months ended September 30, 1996 to 12.4% for the three months ended September 30, 1997 and decreased from 11% for the nine months ended September 30, 1996 to 9.8% for the nine months ended September 30, 1997. The decrease in the cost of maintenance and services revenue as a percent of revenue for the nine months ended September 30, 1997 over the same period in 1996 was primarily the result of the Company operating below forecasted staffing levels during the first half of 1997. The Company has increased headcount during the third quarter of 1997. AMORTIZATION OF PURCHASED TECHNOLOGIES The Company recorded $2.4 million of purchased technologies (intangibles) as part of the SimTech acquisition which are being amortized to cost of revenue on a straight line basis over periods ranging from two to five years beginning September 9, 1997. The Company expensed $54,000 for the three and nine months ended September 30, 1997. OPERATING EXPENSES RESEARCH AND DEVELOPMENT Research and development expenses consist of the engineering and operations support costs of developing new products and enhancements to existing products and performing quality assurance activities. Research and development expenses increased 22.9% from $1.5 million for the three months ended September 30, 1996 to $1.8 million for the three months ended September 30, 1997. Research and development expenses increased 12.7% from $4.4 million for the nine months ended September 30, 1996 to $4.9 million for the nine months ended September 30, 1997. A significant amount of the increase was attributable to compensation expense in the amount of $183,000 for the three and nine months ended September 30, 1997 recorded in connection with the Company's acquisition of SimTech in September 1997. The Company is recording $4.4 million of compensation expense for shares issued as part of the acquisition which are contingent upon continued employment and are expensed as the employment obligation lapses. Additionally, during the three months ended September 30, 1997, in connection with the sale of the TDS product line on July 1, 1997, the Company's research and development staff decreased by 15 engineers. With the acquisition of SimTech on September 9, 1997 the Company added 28 engineers. Additionally, the Company hired 18 new engineers during the third quarter of 1997. As a percentage of total revenue, research and development expenses decreased from 28.6% for the three months ended September 30, 1996 to 23.0% for the three months ended September 30, 1997 and also decreased as a percentage of revenue from 30.0% for the nine months ended September 30, 1996 to 22.9% for the nine months ended September 30, 1997. The decrease in expense as a percentage of revenue is the result of revenues increasing 53% and 48% for the three and nine months ended September 30, 1997, respectively. The Company continues to believe that significant investment in research and development is required to remain competitive in its markets. -14- Software development costs are accounted for in accordance with Financial Accounting Standards Board Statement No. 86, under which the Company is required to capitalize software development costs after technological feasibility has been established. To date, development costs have been expensed as incurred since technological feasibility generally has not been established until shortly before the release of a new product, and no material development costs have been incurred after establishment of technological feasibility. SALES AND MARKETING Sales and marketing expenses, consisting primarily of salaries, commissions and promotional costs, increased 13.9% from $2.4 million for the three months ended September 30, 1996 to $2.7 million for the three months ended September 30, 1997 and increased 14.8% from $6.8 million for the nine months ended September 30, 1996 to $7.8 million for the nine months ended September 30, 1997. The increase for the nine months ended September 30, 1997 over the same period in 1996 was attributable to the addition of ten sales and marketing personnel and the related increased commissions and travel expenses. As a percentage of total revenue, sales and marketing expenses decreased from 46.0% for the three months ended September 30, 1996 to 34.2% for the three months ended September 30, 1997 and decreased from 46.6% for the nine months ended September 30, 1996 to 36.2% for the nine months ended September 30, 1997. The decrease as a percentage of revenue was primarily attributable to the increase in total revenue for 1997. GENERAL AND ADMINISTRATIVE General and administrative expenses consist primarily of the corporate, finance, human resource, information services, administrative, and legal and accounting expenses of the Company. General and administrative expenses increased 20.9% from $789,000 for the three months ended September 30, 1996 to $954,000 for the three months ended September 30, 1997 and increased 28.8% from $2.3 million for the nine months ended September 30, 1996 to $3.0 million for the nine months ended September 30, 1997, which includes a $379,000 one-time charge for costs associated with the acquisition of TriQuest. Excluding this one-time charge, general and administrative expenses increased by $296,000 (12.6%) for the nine months ended September 30, 1997 as compared to the same period in the prior year. As a percentage of total revenue, excluding the one time charge for costs associated with the acquisition of TriQuest, general and administrative expenses decreased from 15.3% for the three months ended September 30, 1996 to 12.1% for the three months ended September 30, 1997 and decreased from 16.0% for the nine months ended September 30, 1996 to 12.2% for the nine months ended September 30, 1997. The decrease as a percentage of total revenue was attributable to the increase in total revenue in 1997. The Company expects general and administrative expenses to increase in absolute dollars to support future sales and operations, including acquired operations, and the additional costs associated with being a public company.(2) AMORTIZATION OF INTANGIBLES AND GOODWILL The Company recorded $4.1 million in intangibles (excluding $2.4 million of purchased technologies) and $3.8 million of goodwill as part of the SimTech acquisition, which are being amortized to expense on a straight line basis over periods ranging from two to five years beginning September 9, 1997. The Company expensed $244,000 for the three and nine months ended September 30, 1997. ACQUIRED IN-PROCESS TECHNOLOGY For the three and nine months ended September 30, 1997, $11.7 million of the purchase price for the acquisition of SimTech ($25.4 million) was allocated to in-process technology and, accordingly, was expensed as of the acquisition date (September 9, 1997). The amount allocated to the in-process technology represented the technology that had not yet reached technological feasibility and had no alternative future use. The value assigned to purchased in-process technology was related primarily to two research projects for which technological feasibility had not been established, V-CPU ($8.1 million) and HDL Score ($3.1 million). The value was determined by estimating the net cash flows from the sale of products resulting from the completion of such projects, and discounting the net cash flows back to their present value. The Company then estimated the stage of completion of the products at the date of the acquisition based on the code that had been completed at the date of acquisition as compared to total estimated code at completion. The percentages derived from such calculation were then applied to the net present value of future cash flows to determine the in-process technology charge. The nature of the efforts to develop the purchased in-process technology into commercially viable products principally related to the completion of all planning, designing, prototyping, verification and testing activities that are necessary to establish that the product can be produced to meet its design specification, including function, features and technical performance requirements. The originally estimated costs to be incurred to develop the purchased in-process technology into commercially viable products was approximately $1.8 million. The estimated resulting net cash flows from such products were based on Summit management's estimates of revenues, costs of sales, research and development costs, selling, general and administrative costs, and income taxes from such projects. The estimated revenues include average compounded annual revenue growth rates for the V-CPU and HDL Score products of 155% to 88% during 1998 to 2000, declining slightly in 2001 and declining thereafter as other new products are expected to enter the market.(2) These projections are based on Summit management's estimates of market size and growth (which are supported by independent market data), expected trends in technology and the nature and expected timing of new product introductions by Summit. Estimated cost of sales of 5% is consistent with Summit's current cost of sales and future expectations for cost of sales. Sales, marketing and general administrative costs are expected to be higher than the Company's average costs in the introduction phase and then stabilize upon introduction at levels that are expected to be consistent with the Company's expected overall costs in these areas in future periods. Research and development costs are expected to be higher than the Company's average costs in the introduction and early phases of product sales and then decline below the Company's average costs as sales of the products begin to decline in 2001. This research and development cost pattern is consistent with the Company's historical experience through product life cycles. Income taxes were estimated at 30%, which are consistent with the Company's anticipated tax rate for the foreseeable future.(1) Summit released the commercial version of the V-CPU hardware/software coverification product in the first quarter of 1998, consistent with expectations at the time of the acquisition. A market requirement for extensive embedded system component interfaces called bus functional models ("BFM") and instruction set simulators ("ISS") was underestimated in the introduction schedule and has caused delays in initial sales of the product. Summit introduced the HDL Score product in the second quarter of 1998, approximately four months later than originally anticipated, due to delays in completing the control logic support functionality that was essential for product introduction to take place. For 1998, the Company estimates that revenues from the sales of the products acquired in connection with the SimTech acquisition will fall short of forecast by 10%.(2) The Company's forecast of revenues for 1999 reflects that the shortfall of revenues in 1998 related to HDL Score will be realized in 1999 and that V-CPU will have revenues that are approximately 50% of those originally estimated due to the delays in availability of BFM's and ISS's.(2) Although these delays affected the timing of the realization of revenue from these products as originally estimated by Summit, Summit believes the aggregate revenue streams originally anticipated from these products will be realized and that there has been no material change in expected return on investment related to these products.(2) However, there can be no assurance that Summit will realize revenue for V-CPU and HDL Score in the amounts estimated, and actual revenue realized from either or both of these products may be significantly lower than expected.(1) - ------------------- (1) This paragraph contains forward-looking statements reflecting current expectations. There can be no assurance that the Company's actual future performance will meet the Company's current expectations. Investors are strongly encouraged to review the section entitled "Additional Risk Factors That could Affect Operating Results and Market Price of Stock" commencing on page 19 for a discussion of factors that could affect future performance. (2) This statement is a forward-looking statement reflecting current expectations. There can be no assurance that the Company's actual future performance will meet the Company's current expectations. Investors are strongly encouraged to review the section entitled "Additional Risk Factors That Could Affect Operating Results and Market Price of Stock" commencing on page 19 for a discussion of factors that could affect future performance. -15- INTEREST EXPENSE Interest expense decreased from $17,000 for the three months ended September 30, 1996 to $1,000 for the three months ended September 30, 1997 and decreased from $95,000 for the nine months ended September 30, 1996 to $10,000 for the nine months ended September 30, 1997 due to decreased borrowings under the Company's bank line of credit, long term debt and capital leases obligations. OTHER INCOME, NET Other income consists of interest income associated with available cash balances, gains or losses from the sale of property and equipment, the Company's pro rata share of the earnings and losses of Summit Design Asia and foreign exchange rate differences resulting from paying operating expenses of foreign operations in the local currency. Other income was $27,000 for the three months ended September 30, 1996 and $347,000 for the three months ended September 30, 1997 and $49,000 for the nine months ended September 30, 1996 and $796,000 for the nine months ended September 30, 1997. The increase in other income was primarily due to increased interest earned on the Company's cash holdings. GAIN ON SALE OF TDS PRODUCT LINE On July 11, 1997 the Company sold substantially all of the assets used in its business of developing and marketing its Test Development Series "TDS" Products to CSC for $5 million. CSC assumed certain liabilities, including the Company's obligations under TDS maintenance contracts entered into prior to the closing. The Company has recorded a gain on the sale of $5,569,000. INCOME TAX PROVISION The income tax provision increased from $34,000 for the three months ended September 30, 1996 to $533,000 for the three months ended September 30, 1997 and increased from $243,000 for the nine months ended September 30, 1996 to $713,000 for the nine months ended September 30, 1997. The Company utilized substantially all of its U.S. Federal and State net operating loss carryforwards to offset a considerable portion of U.S. taxable income for the nine months ending September 30, 1997. The provision of $713,000 for the nine months ended September 30, 1997 is comprised of $1,357,000 of Federal, State and foreign taxes payable, less $644,000 of deferred tax benefit recognized for research and development credits and alternative minimum tax credits. The provision for the nine months ended September 30, 1996 is comprised primarily of Japanese withholding tax on sales in Japan through June 1996 and alternative minimum tax. VARIABILITY OF OPERATING RESULTS The Company has experienced significant quarterly fluctuations in operating results and cash flows and it is likely that these fluctuations will continue in future periods. These fluctuations have been, and may in the future be, caused by a number of factors, including the rate of acceptance of new products, corporate acquisitions and consolidations, product, customer and channel mix, the size and timing of orders, lengthy sales cycles, the timing of new product announcements and introductions by the Company and its competitors, seasonal factors, rescheduling or cancellation of customer orders, the Company's ability to continue to develop and introduce new products and product enhancements on a timely basis, the level of competition, purchasing and payment patterns and product enhancements on a timely basis, the level of competition, purchasing and payment patterns, pricing policies of the Company and its competitors, product quality issues, currency fluctuations and general economic conditions. The Company has generally recognized a substantial portion of its revenue in the last month of each quarter, with this revenue concentrated in the latter part of the month. Any significant deferral of purchases of the -16- Company's products could have a material adverse effect on the Company's business, financial condition and results of operations in any particular quarter, and to the extent that significant sales occur earlier than expected, operating results for subsequent quarters may be adversely affected. The Company's revenue is difficult to forecast for several reasons. The market for certain of the Company's software products is evolving. The Company's sales cycle is typically six to nine months and varies substantially from customer to customer. In addition, a significant portion of the Company's sales are made through indirect channels and can be harder to predict. The Company establishes its expenditure levels for product development, sales and marketing and other operating activities based primarily on its expectations as to future revenue. As a result, if revenue in any quarter falls below expectations, expenditure levels could be disproportionately high as a percentage of revenue, and the Company's operating results for that quarter would be adversely affected. Based upon the factors described above, the Company believes that its quarterly revenue, expenses and operating results are likely to vary significantly in the future, that period-to-period comparisons of its results of operations are not necessarily meaningful and that, as a result, such comparisons should not be relied upon as indications of the Company's future performance. Moreover, although the Company's revenue has increased in recent periods, there can be no assurance that the Company's revenue will grow in future periods or that the Company will remain profitable on a quarterly or annual basis. Due to the foregoing or other factors, it is likely that the Company's results of operations may be below investors' and market analysts' expectations in some future quarters, which could have a severe adverse effect on the market price of the Company's Common Stock. EFFECTIVE CORPORATE TAX RATES The Company is taxed in its jurisdictions of operations based on the extent of taxable income generated in each jurisdiction. For income tax purposes, revenue is attributed to the taxable jurisdiction where the sales transactions generating the revenue were initiated. All sales transactions by Summit Design (EDA) Ltd., the Company's Israeli subsidiary, to the Company were recorded as arm's length transactions based on an intercompany pricing agreement. All sales transactions by the Company are to unrelated parties and are based upon prevailing market prices. There is no offset of taxes between the United States and Israel. The Israeli operations are performed entirely by Summit Design (EDA) Ltd., which is a separate taxable Israeli entity. The Company's future effective tax rate depends in part on the availability of United States and Israeli net operating loss ("NOLs") and credit carryforwards. As of December 31, 1996, the Company had recorded U.S. federal and state NOLs of approximately $9.0 million and $5.6 million, respectively and Israeli NOLs of approximately $4.7 million. In addition the Company has $1 million in credit carry forwards for U.S. tax purposes as of December 31, 1996. Neither the United States nor the Israeli taxing authorities have verified the accuracy or availability of the Company's NOLs and credit carryforward amounts. However, as a result of the Asset Sale and the Company's current taxable income in the United States for the nine months ended September 30, 1997, the Company expects to utilize substantially all of the U.S. NOLs to offset current taxable income during 1997.(1) In addition to its NOLs and credit carryforwards, the Company is currently scheduled to receive tax benefits over the next several years under a tax holiday in Israel. The Company's existing Israeli production facility has been granted "Approved Enterprise" status under the Israeli Investment Law, which entitles the Company to reductions in the tax rate normally applicable to Israeli companies with respect to the income generated by its "Approved Enterprise" programs. In particular, the tax holiday covers the seven-year period beginning the first year in which Summit Design (EDA) Ltd. generates taxable income from its "Approved Enterprise" - ------------------------ (1) This paragraph contains forward-looking statements reflecting current expectations. There can be no assurance that the Company's actual future performance will meet the Company's current expectations. Investors are strongly encouraged to review the section entitled "Additional Risk Factors That Could Affect Operating Results and Market Price of Stock" commencing on page 19 for a discussion of factors that could affect future performance. -17- (after using any available NOLs), provided that such benefits will terminate in 2006 regardless of whether the seven-year period has expired. The tax holiday provides that, during such seven-year period, a portion of the Company's taxable income from its Israeli operations will be taxed at favorable tax rates. The termination or reduction of the Company's Israeli tax benefits would have a material adverse effect on the Company's overall actual effective tax rate. The Company has recently applied for "Approved Enterprise" status with respect to a new project and intends to apply in the future with respect to additional projects. There can be no assurance that the Company will be granted any approvals and therefore there can be no assurance the Company will continue to receive favorable tax status in Israel. The Company is also subject to the risk that United States and foreign tax laws and rates may change in a future period or periods, and that any such changes may materially adversely affect the Company's tax rate. As a result of the factors described above and other related factors, there can be no assurance that the Company will maintain a favorable tax rate in future periods. Any increase in the Company's effective tax rate, or variations in the effective tax rate from period to period, could have a material adverse effect on the Company's business, financial condition and results of operations. LIQUIDITY AND CAPITAL RESOURCES The Company completed its initial public offering in October 1996, raising $16.2 million, net of offering expenses. Prior to the IPO, the Company had financed its operations primarily through the private placement of approximately $15.4 million of capital stock, as well as capital equipment leases, borrowings under its bank line of credit, Israeli research and development grants and cash generated from operations. As of September 30, 1997, the Company had approximately $17.2 million in cash and cash equivalents and a $1.0 million bank line of credit with United States National Bank of Oregon ("the Bank"). The line of credit expires on April 30, 1998. Borrowings thereunder accrue interest at specified percentages above the prime lending rate based on the Company's ratio of debt to tangible net worth. Advances under the line of credit are limited to a specified percentage of eligible accounts receivable (as defined in the line of credit). Borrowings under the line of credit are collateralized by the Company's accounts receivable, inventory and general intangible assets, including its intellectual property rights. As of September 30, 1997, the Company had no borrowings outstanding under this line of credit. The Company is obligated to lend up to $2,500,000 to an independent software development company pursuant to a secured loan agreement entered into during July 1997. Borrowings under the agreement bear interest at prime rate plus 2%. As of September 30, 1997, the Company had working capital of approximately $10.9 million. Net cash generated by operating activities was approximately $9.3 million and $3.8 million for the nine months ended September 30, 1997 and 1996, respectively. Cash generated by operating activities resulted primarily from profitable operations plus the increase in accounts payable, accrued liabilities and deferred revenue and a decrease in accounts receivable for the nine months ended September 30, 1997. Cash generated from operating activities for the nine months ended September 30, 1996 resulted primarily from the significant collection of accounts receivable and an increase in deferred revenue. Net cash used in investing activities was approximately $921,000 and $647,000 for the nine months ended September 30, 1997 and 1996, respectively. Net cash used in investing activities for the nine months ended September 30, 1997 was related primarily to the acquisition of Simulation Technologies, Corp. in September 1997, the purchase of furniture and equipment and loans to related parties less the cash provided from the sale of the TDS product line. Net cash used in investing activities for the nine months ended September 30, 1996 related to the acquisition of furniture and equipment and a $100,000 investment in a Joint Venture. Net cash used in financing activities for the nine months ended September 30, 1997,was approximately $11.0 million. Approximately $ 11.6 million was used to purchase treasury stock and $142,000 was used for repayment of long-term debt and capital lease obligations; $700,000 was provided by the issuance of common -18- stock. Net cash used in financing activities for the nine months ended September 30, 1996, was approximately $1.1 million. For the nine months ended September 30, 1996 approximately $1.6 million of cash was used for repayment of short term borrowings, long-term debt and capital lease obligations which was off set by $73,000 of cash provided by proceeds from long-term debt and approximately $1.1 million of cash provided from the issuance of Summit common and TriQuest preferred stock less IPO issuance costs of $674,000. The Company presently believes that its current cash and cash equivalent, together with funds expected to be generated from operations, will satisfy the Company's anticipated working capital and other cash requirements for at least the next 12 months.(2) ADDITIONAL RISK FACTORS THAT COULD AFFECT OPERATING RESULTS AND MARKET PRICE OF STOCK HISTORY OF OPERATING LOSSES; FLUCTUATIONS IN QUARTERLY RESULTS While the Company has generated net income in prior quarters, there can be no assurance that the Company will be profitable in the future. In addition, the Company has experienced significant quarterly fluctuations in operating results and cash flows and it is likely that these fluctuations will continue in future periods. These fluctuations have been, and may in the future be, caused by a number of factors, including the rate of acceptance of new products, corporate acquisitions and consolidations, product, customer and channel mix, the size and timing of orders, lengthy sales cycles, the timing of new product announcements and introductions by the Company and its competitors, seasonal factors, rescheduling or cancellation of customer orders, the Company's ability to continue to develop and introduce new products and product enhancements on a timely basis, the level of competition, purchasing and payment patterns, pricing policies of the Company and its competitors, product quality issues, currency fluctuations and general economic conditions. The Company has generally recognized a substantial portion of its revenue in the last month of each quarter, with this revenue concentrated in the latter part of the month. Any significant deferral of purchases of the Company's products could have a material adverse effect on the Company's business, financial condition and results of operations in any particular quarter, and to the extent that significant sales occur earlier than expected, operating results for subsequent quarters may be adversely affected. The Company's revenue is difficult to forecast for several reasons. The market for certain of the Company's software products is evolving. The Company's sales cycle is typically six to nine months and varies substantially from customer to customer. The Company operates with little product backlog because its products are typically shipped shortly after orders are received. In addition, a significant portion of the Company's sales are made through indirect channels and can be harder to predict. The Company establishes its expenditure levels for product development, sales and marketing and other operating activities based primarily on its expectations as to future revenue. As a result, if revenue in any quarter falls below expectations, expenditure levels could be disproportionately high as a percentage of revenue, and the Company's operating results for that quarter would be adversely affected. Based upon the factors described above, the Company believes that its quarterly revenue, expenses and operating results are likely to vary significantly in the future, that period-to-period comparisons of its results of operations are not necessarily meaningful and that, as a result, such comparisons should not be relied upon as indications of the Company's future performance. Moreover, although the Company's revenue has increased in recent periods, there can be no assurance that the Company's revenue will grow in future periods or that the Company will remain profitable on a quarterly or annual basis. Due to the foregoing or other factors, it is likely that the Company's results of operations may be below investors' and market analysts' expectations in some future quarters, which could have a severe adverse effect on the market price of the Company's Common Stock. - ------------------------ (2) This statement is a forward-looking statement reflecting current expectations. There can be no assurance that the Company's actual future performance will meet the Company's current expectations. Investors are strongly encouraged to review the section entitled "Additional Risk Factors That Could Affect Operating Results and Market Price of Stock" commencing on this page for a discussion of factors that could affect future performance. -19- PRODUCT CONCENTRATION; UNCERTAINTY OF MARKET ACCEPTANCE OF SLDA Prior to July 1997, the Company's revenue was predominantly derived from two product lines, Visual HDL, which includes Visual HDL for VHDL and Visual HDL for Verilog, and TDS. Effective July 1, 1997, as a result of the Asset Sale, TDS products ceased to be a source of revenue. With the acquisition of TriQuest in February 1997 and SimTech in September 1997, the Company also derives revenue from verification products which include hardware-software co-verification, code coverage,and HDL debugging products as well as analysis, verification and RTL optimization tools. The Company believes that SLDA products will continue to account for a substantially all of its revenue in the future. As a result, factors adversely affecting sales of these products, including increased competition, inability to successfully introduce enhanced or improved versions of these products, product quality issues and technological change, could have a material adverse effect on the Company's business, financial condition and results of operations. The Company's future success depends primarily upon the market acceptance of its existing and future SLDA products. The Company commercially shipped its first SLDA product, Visual HDL for VHDL, in the first quarter of 1994. For the three months and the nine months ended September 30, 1997 and for the years ended December 31, 1996, 1995 and 1994, respectively, revenue from SLDA products and related maintenance contracts represented 100%, 83.6%, 60.9%, 43.6% and 34.8%, respectively, of the Company's total revenue. The Company's SLDA products incorporate certain unique design methodologies and thus represent a departure from industry standards for design creation and verification. The Company believes that broad market acceptance of its SLDA products will depend on several factors, including the ability to significantly enhance design productivity, ease of use, interoperability with existing EDA tools, price and the customer's assessment of the Company's financial resources and its technical, managerial, service and support expertise. The Company also depends on its distributors to assist the Company in gaining market acceptance of its products. There can be no assurance that sufficient priority will be given by the Company's distributors to marketing the Company's products or whether such distributors will continue to offer the Company's products. There can be no assurance that the Company's SLDA products will achieve broad market acceptance. A decline in the demand for, or the failure to achieve broad market acceptance of, the Company's SLDA products will have a material adverse effect on the Company's business, financial condition and results of operations. Although demand for SLDA products has increased in recent years, the market for SLDA products is still emerging and there can be no assurance that it will continue to grow or that, even if the market does grow, businesses will continue to purchase the Company's SLDA products. If the market for SLDA products fails to grow or grows more slowly than the Company currently anticipates, the Company's business, financial condition and results of operations would be materially adversely affected. Traditionally, EDA customers have been risk averse in accepting new design methodologies. Because many of Summit's tools embody new design methodologies, this risk aversion on the part of potential customers presents an ongoing marketing and sales challenge to the Company and makes the introduction and acceptance of new products unpredictable. The Company's Visual Testbench product, introduced in the fourth quarter of 1995, provides a new methodology and requires a change in the traditional design flow for creating IC test programs. The Company anticipates a lengthy period of test marketing for the Visual Testbench product. Accordingly, the Company cannot predict the extent, if any, to which it will realize revenue from Visual Testbench in excess of the revenue expected to be received pursuant to an OEM agreement entered into in July 1997. COMPETITION The EDA industry is highly competitive and the Company expects competition to increase as other EDA companies introduce SLDA products. In the SLDA market, the Company principally competes with Mentor -20- Graphics and a number of smaller firms. Indirectly, the Company also competes with other firms that offer alternatives to SLDA and could potentially offer more directly competitive products in the future. Certain of these companies have significantly greater financial, technical and marketing resources and larger installed customer bases than the Company. Some of the Company's current and future competitors offer a more complete range of EDA products and may distribute products that directly compete with the Company's SLDA products by bundling such products with their core product line. In addition, the Company's products perform a variety of functions, certain of which are, and in the future may be, offered as separate products or discrete point solutions by the Company's existing and future competitors. For example, certain companies currently offer design entry products without simulators. There can be no assurance that such competition will not cause the Company to offer point solutions instead of, or in addition to, the Company's current software products. Such point solutions would be priced lower than the Company's current product offerings and could cause the Company's average selling prices to decrease, which could have a material adverse effect on the Company's business, financial condition and results of operations. The Company competes on the basis of certain factors including product capabilities, product performance, price, support of industry standards, ease of use, first to market and customer technical support and service. The Company believes that it competes favorably overall with respect to these factors. However, in particular cases, the Company's competitors may offer SLDA products with functionality which is sought by the Company's prospective customers and which differs from that offered by the Company. In addition, certain competitors may achieve a marketing advantage by establishing formal alliances with other EDA vendors. Further, the EDA industry in general has experienced significant consolidation in recent years, and the acquisition of one of the Company's competitors by a larger, more established EDA vendor could create a more significant competitor. There can be no assurance that the Company will be able to compete successfully against current and future competitors or that competitive pressures faced by the Company will not have a material adverse effect on its business, financial condition and results of operations. There can be no assurance that the Company's current and future competitors will not be able to develop products comparable or superior to those developed by the Company or to adapt more quickly than the Company to new technologies, evolving industry trends or customer requirements. Increased competition could result in price reductions, reduced margins and loss of market share, all of which could have a material adverse effect on the Company's business, financial condition and results of operations. DEPENDENCE ON ELECTRONICS INDUSTRY MARKET Because the electronics industry is characterized by rapid technological change, short product life cycles, fluctuations in manufacturing capacity and pricing and margin pressures, certain segments, including the computer, semiconductor, semiconductor test equipment and telecommunications industries, have experienced sudden and unexpected economic downturns. During these periods, capital spending is commonly curtailed and the number of design projects often decreases. Because the Company's sales are dependent upon capital spending trends and new design projects, negative factors affecting the electronics industry could have a material adverse effect on the Company's business, financial condition and results of operations. A number of electronics companies, including customers of the Company, have recently experienced a slowdown in their businesses. The Company's future operating results may reflect substantial fluctuations from period to period as a consequence of such industry patterns, general economic conditions affecting the timing of orders from customers and other factors. DEPENDENCE ON THIRD PARTIES FOR PRODUCT INTEROPERABILITY Because the Company's products must interoperate with EDA products of other companies, particularly simulation and synthesis products, the Company must have timely access to third party software to perform development and testing of its products. Although the Company has established relationships with a variety of EDA vendors to gain early access to new product information, these relationships may be terminated by either party with limited notice. In addition, such relationships are with companies that are current or potential future competitors of the Company, including Synopsys, Mentor Graphics and Cadence. If any of these relationships were terminated and the Company was -21- unable to obtain, in a timely manner, information regarding modifications of third party products necessary for modifying its software products to interoperate with these third party products, the Company could experience a significant increase in development costs, the development process would take longer, product introductions would be delayed and the Company's business, financial condition and results of operations could be materially adversely affected. NEW PRODUCTS AND TECHNOLOGICAL CHANGE; EVOLVING INDUSTRY STANDARDS The EDA industry is characterized by extremely rapid technological change, frequent new product introductions 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. In addition, customers in the EDA industry require software products that allow them to reduce time to market, differentiate their products, improve their engineering productivity and reduce their design errors. The Company's future success will depend upon its ability to enhance its current products, develop and introduce new products that keep pace with technological developments and emerging industry standards and address the increasingly sophisticated needs of its customers. There can be no assurance that the Company will be successful in developing and marketing product enhancements or new products that respond to technological change or emerging industry standards, that the Company will not experience difficulties that could delay or prevent the successful development, introduction and marketing of these products, or that its new products will adequately meet the requirements of the marketplace and achieve market acceptance. If the Company is unable, for technological or other reasons, to develop and introduce products in a timely manner in response to changing market conditions, industry standards or other customer requirements, particularly if such product releases have been pre-announced, the Company's business, financial condition and results of operations will be materially adversely affected. Software products as complex as those offered by the Company may contain errors that may be detected at any point in the products' life cycles. The Company has in the past discovered software errors in certain of its products and has experienced delays in shipment of products during the period required to correct these errors. There can be no assurance that, despite testing by the Company and by current and potential customers, errors will not be found, resulting in loss of, or delay in, market acceptance and sales, diversion of development resources, injury to the Company's reputation or increased service and warranty costs, any of which could have a material adverse effect on the Company's business, financial condition and results of operations. DEPENDENCE ON DISTRIBUTORS The Company relies on distributors for licensing and support of its products outside of North America. Approximately 34%, 48%, 46%, 42% and 38% of the Company's revenue for the nine months ended September 30, 1997 and 1996 and for the years ended December 31, 1996, 1995 and 1994, respectively, were attributable to sales made through distributors. The Company has also entered into a joint venture with Anam pursuant to which the joint venture corporation (Summit Design Korea, Inc. ("Summit Asia")) shall acquire exclusive rights to sell, distribute and support all of the Company's products in the Asia-Pacific region, excluding Japan. Summit Asia has acted in such capacity since April 1, 1996. Prior to that date, Anam was an independent distributor of the Company's products. During the first quarter of 1997, the Company entered into a distribution agreement with ATE pursuant to which ATE was granted exclusive rights to sell, distribute and support Summit's Visual Testbench products within Japan until October 1998, subject to the Company's ability to terminate the relationship if ATE fails to meet quarterly sales objectives. The agreement may also be terminated by either party for breach. In addition, in the first quarter of 1996, the Company entered into a three-year, exclusive distribution agreement for its SLDA products in Japan with Seiko. In the event Seiko fails to meet specified quotas for two or more quarterly periods, exclusivity can be terminated by Summit, subject to Seiko's right to pay a specified fee to maintain exclusivity. The agreement is renewable for successive five-year terms by mutual agreement of the Company and Seiko and is terminable by either party for breach. In March 1997, the Company entered into a three-year distribution agreement with Kanematsu USA Inc. to which Kanematsu was granted exclusive distribution rights to see, distribute and support certain verification products in Japan. For the year ended December 31, 1996 and nine months ended September 30, 1997, all sales of the Company's products in the Asia-Pacific region were through Seiko, Summit Asia, ATE and Kanematsu. There can be no assurance the relationships with Seiko, Summit Asia, ATE -22- and Kanematsu will be effective in maintaining or increasing sales relative to the levels experienced prior to such relationships. The Company also has independent distributors in Europe and is dependent on the continued viability and financial stability of its distributors. Since the Company's products are used by skilled design engineers, distributors must possess sufficient technical, marketing and sales resources and must devote these resources to a lengthy sales cycle, customer training and product service and support. Only a limited number of distributors possess these resources. In addition, Seiko, Summit Asia, ATE and Kanematsu, as well as the Company's other distributors, may offer products of several different companies, including competitors of the Company. There can be no assurance that the Company's current distributors will continue to market or service and support the Company's products effectively, that any distributor will continue to sell the Company's products or that the distributors will not devote greater resources to products of other companies. The loss of, or a significant reduction in, revenue from the Company's distributors could have a material adverse effect on the Company's business, financial condition and results of operations. INTERNATIONAL SALES AND OPERATIONS Approximately 24%, 37%, 50%, 52% and 39% of the Company's revenue for the three months and nine months ended September 30, 1997 and the years ended December 31, 1996, 1995 and 1994, respectively, were attributable to sales made outside the United States. The decline in the percent of revenue from sales made outside the United States for the three and nine months ended September 30, 1997 is related primarily to domestic sales to one customer. The Company expects that international revenue will continue to represent a significant portion of its total revenue. The Company's international revenue is currently denominated in U.S. dollars. As a result, increases in the value of the U.S. dollar relative to foreign currencies could make the Company's products more expensive and, therefore, potentially less competitive in those markets. The Company pays the expenses of its international operations in local currencies and does not engage in hedging transactions with respect to such obligations. International sales and operations are subject to numerous risks, including tariff regulations and other trade barriers, requirements for licenses, particularly with respect to the export of certain technologies, collectability of accounts receivable, changes in regulatory requirements, difficulties in staffing and managing foreign operations and extended payment terms. There can be no assurance that such factors will not have a material adverse effect on the Company's future international sales and operations and, consequently, on the Company's business, financial condition and results of operations. In order to successfully expand international sales, the Company may need to establish additional foreign operations, hire additional personnel and recruit additional international distributors. This will require significant management attention and financial resources and could adversely affect the Company's operating margins. In addition, to the extent that the Company is unable to effect these additions in a timely manner, the Company's growth, if any, in international sales will be limited. There can be no assurance that the Company will be able to maintain or increase international sales of the Company's products, and failure to do so could have a material adverse effect on the Company's business, financial condition and results of operations. MANAGEMENT OF GROWTH AND ACQUISITIONS Summit's ability to achieve significant growth will require it to implement and continually expand its operational and financial systems, recruit additional employees and train and manage current and future employees. Summit expects any such growth will place a significant strain on its operational resources and systems. Failure to effectively manage any such growth would have a material adverse effect on Summit's business, financial condition and results of operations. On February 28, 1997, Summit completed its acquisition of TriQuest and on September 9, 1997, Summit completed its acquisition of SimTech. As a result of these acquisitions, Summit's operating expenses are expected to increase. There can be no assurance that the integration of TriQuest's and SimTech's business can be successfully completed in a timely fashion, or at all, or that the revenues from TriQuest and SimTech will be sufficient to support the costs associated with the acquired businesses, without adversely affecting Summit's operating margins. Any failure to successfully complete the integration in a timely fashion or to generate sufficient revenues from the acquired business could have a material adverse effect on Summit's business and results of operations. In addition, Summit regularly evaluates acquisition opportunities. Future acquisitions by Summit could result in potentially dilutive issuances of equity securities, the incurrence of debt and contingent liabilities and amortization expenses related to goodwill and other intangible assets, -23- which could materially adversely affect Summit's results of operations. Product and technology acquisitions entail numerous risks, including difficulties in the assimilation of acquired operations, technologies and products, diversion of management's attention to other business concern, risks of entering markets in which Summit has no or limited prior experience and potential loss of key employees of acquired companies. Summit's management has had limited experience in assimilating acquired organizations and products into Summit's operations. No assurance can be given as to the ability of Summit to integrate successfully any operations, personnel or products that have been acquired or that might be acquired in the future, and the failure of Summit to do so could have a material adverse effect on Summit's results of operations. OPERATIONS IN ISRAEL The Company's research and development operations related to its SLDA products are located in Israel and may be affected by economic, political and military conditions in that country. Accordingly, the Company's business, financial condition and results of operations could be materially adversely affected if hostilities involving Israel should occur. This risk is heightened due to the restrictions on the Company's ability to manufacture or transfer outside of Israel any technology developed under research and development grants from the government of Israel as described in "--Israeli Research, Development and Marketing Grants." In addition, while all of the Company's sales are denominated in U.S. dollars, a portion of the Company's annual costs and expenses in Israel are paid in Israeli currency. These costs and expenses were approximately $4.3, $4.3 and $2.9 million in 1996, 1995 and 1994, respectively. Payment in Israeli currency subjects the Company to foreign currency fluctuations and to economic pressures resulting from Israel's generally high rate of inflation, which has been approximately 11%, 8% and 15% during 1996, 1995, and 1994, respectively. The Company's primary expense which is paid in Israeli currency is employee salaries for research and development activities. As a result, an increase in the value of Israeli currency in comparison to the U.S. dollar could increase the cost of research and development expenses and general and administrative expenses. There can be no assurance that currency fluctuations, changes in the rate of inflation in Israel or any of the other aforementioned factors will not have a material adverse effect on the Company's business, financial condition or results of operations. In addition, coordination with and management of the Israeli operations requires the Company to address differences in culture, regulations and time zones. Failure to successfully address these differences could be disruptive to the Company's operations. The Company's Israeli production facility has been granted the status of an "Approved Enterprise" under the Israeli Investment Law for the Encouragement of Capital Investments, 1959 (the "Investment Law"). Taxable income of a company derived from an "Approved Enterprise" is eligible for certain tax benefits, including significant income tax rate reductions for up to seven years following the first year in which the "Approved Enterprise" has Israeli taxable income (after using any available net operating losses). The period of benefits cannot extend beyond 12 years from the year of commencement of operations or 14 years from the year in which approval was granted, whichever is earlier. The tax benefits derived from a certificate of approval for an "Approved Enterprise" relate only to taxable income attributable to such "Approved Enterprise" and are conditioned upon fulfillment of the conditions stipulated by the Investment Law, the regulations promulgated thereunder and the criteria set forth in the certificate of approval. In the event of a failure by the Company to comply with these conditions, the tax benefits could be canceled, in whole or in part, and the Company would be required to refund the amount of the canceled benefits, adjusted for inflation and interest. There can be no assurance that the Company's Israeli production facility will continue to operate or qualify as an "Approved Enterprise" or that the benefits under the "Approved Enterprise" regulations will continue, or be applicable, in the future. The loss of, or any material decrease in, these income tax benefits could have a material adverse effect on the Company's business, financial condition and results of operations. DEPENDENCE ON KEY PERSONNEL The Company's future success depends in large part on the continued service of its key technical and management personnel and its ability to continue to attract and retain highly-skilled technical, sales and marketing and management personnel. The Company has entered into employment agreements with certain of its executive officers, however, such agreements do not guarantee the services of these employees and do not contain noncompetition provisions. Competition for personnel in the software industry in general, and the -24- EDA industry in particular, is intense, and the Company has at times in the past experienced difficulty in recruiting qualified personnel. There can be no assurance that the Company will retain its key personnel or that it will be successful in attracting and retaining other qualified technical, sales and marketing and management personnel in the future. The loss of any key employees or the inability to attract and retain additional qualified personnel may have a material adverse effect on the Company's business, financial condition and results of operations. The Company does not carry "key person" life insurance on any of its key personnel. Additions of new personnel and departures of existing personnel, particularly in key positions, can be disruptive and can result in departures of additional personnel, which could have a material adverse effect on the Company's business, financial condition and results of operations. ISRAELI RESEARCH, DEVELOPMENT AND MARKETING GRANTS Summit's Israeli subsidiary has obtained research and development grants from the Office of the Chief Scientist (the "Chief Scientist") in the Israeli Ministry of Industry and Trade of approximately $232,000 and $608,000 in 1993 and 1995, respectively. As of September 30, 1997, the Company was obligated to pay back approximately $232,000 and $470,000 for the 1993 and 1995 grants, respectively. Such obligations are collateralized by all tangible and intangible assets of the Israeli subsidiary. The terms of the grants prohibit the manufacture of products developed under these grants outside of Israel and the transfer of the technology developed pursuant to these grants to any person, without the prior written consent of the Chief Scientist. The Company's Visual HDL for VHDL products have been developed under grants from the Chief Scientist and thus are subject to these restrictions. If the Company is unable to obtain the consent of the government of Israel, the Company would be unable to take advantage of potential economic benefits such as lower taxes, lower labor and other manufacturing costs and advanced research and development facilities that may be available if such technology and manufacturing operations could be transferred to locations outside of Israel. In addition, the Company would be unable to minimize risks particular to operations in Israel, such as hostilities involving Israel. Although the Company is eligible to apply for additional grants from the Chief Scientist, it has no present plans to do so. The Company also received a Marketing Fund Grant from the Israeli Ministry of Industry and Trade for an aggregate of $423,000. The grant must be repaid at the rate of 3% of the increase in exports over the 1993 export level of all Israeli products, until repaid. As of September 30, 1997, approximately $364,000 was outstanding under the grant. LIMITATIONS ON PROTECTION OF INTELLECTUAL PROPERTY AND PROPRIETARY RIGHTS The Company's success depends in part upon its proprietary technology. The Company relies on a combination of copyright, trademark and trade secret laws, confidentiality procedures, licensing arrangements and technical means to establish and protect its proprietary rights. As part of its confidentiality procedures, the Company generally enters into non-disclosure agreements with its employees, distributors and corporate partners, and limits access to, and distribution of, its software, documentation and other proprietary information. In addition, the Company's products are protected by hardware locks and software encryption techniques designed to deter unauthorized use and copying. Despite these precautions, it may be possible for a third party to copy or otherwise obtain and use the Company's products or technology without authorization, or to develop similar technology independently. The Company provides its SLDA products to end-users primarily under "shrink-wrap" license agreements included within the packaged software. In addition, the Company delivers certain of its verification products electronically under an electronic version of a "shrink-wrap" license agreement. These "shrink-wrap" license agreements are not negotiated with or signed by the licensee, and thus may not be enforceable in certain jurisdictions. In addition, the laws of some foreign countries do not protect the Company's proprietary rights as fully as do the laws of the United States. There can be no assurance that the Company's means of protecting its proprietary rights in the United States or abroad will be adequate or that competitors will not independently develop similar technology. The Company could be increasingly subject to infringement claims as the number of products and competitors in the Company's industry segment grows, the functionality of products in its industry segment overlaps and an increasing number of software patents are granted by the United States Patent and Trademark Office. There can be no assurance that a third party will not claim such infringement by the Company with respect to current or future products. Any such claims, with or without merit, could be time-consuming, result -25- in costly litigation, cause product delays or require the Company to enter into royalty or licensing agreements. Such royalty or license agreements, if required, may not be available on terms acceptable to the Company or at all. Failure to protect its proprietary rights or claims of infringement could have a material adverse effect on the Company's business, financial condition and results of operations. POSSIBLE VOLATILITY OF STOCK PRICE The stock markets have experienced price and volume fluctuations that have particularly affected technology companies, resulting in changes in the market prices of the stocks of many companies which may not have been directly related to the operating performance of those companies. Such broad market fluctuations may adversely affect the market price of the Common Stock. In addition, factors such as announcements of technological innovations or new products by the Company or its competitors, market conditions in the computer software or hardware industries and quarterly fluctuations in the Company's operating results may have a significant adverse effect on the market price of the Company's Common Stock. -26- PART II Item 1. Legal Proceedings Not applicable Item 2. Changes in Securities and Use of Proceeds (c) In July and September 1997, the Company issued and sold 4,780 and 25,671 shares of the Company's Common Stock that were not registered under the Securities Act of 1933, as amended (the "Securities Act"), at prices of $0.33 and $1.95, respectively upon exercise of stock options. In September 1997, in connection with the Company's acquisition of SimTech, the Company issued 1,256,777 shares of the Company's Common Stock to the existing shareholders of SimTech in exchange for outstanding shares of capital stock of SimTech. The shares were not registered under the Securities Act, and such issuances were deemed to be exempt from registration in reliance on Section 4(2) of the Securities Act as a transaction not involving a public offering. The recipients of the securities represented their intentions to acquire the securities for investment only and had access to all relevant information regarding the Company necessary to evaluate the investment. (d) The effective date of the Company's first registration statement, filed on Form S-1 under the Securities Act of 1933 (No. 333-6445), was October 17, 1996 (the "Registration Statement"). The class of securities registered was Common Stock. The offering commenced on October 18, 1996 and all securities were sold in the offering. The managing underwriters for the offering were Robertson, Stephens & Company LLC and Needham & Company. A total of 4,600,000 shares were registered pursuant to the Registration Statement. The Company sold 2,000,000 shares of its Common Stock for its own account, for an aggregate offering price of $19,000,000, and 2,600,000 shares of its Common Stock for the account of certain selling stockholders, for an aggregate offering price of $24,700,000. The Company incurred expenses of approximately $2,776,000, of which $1,330,000 represented underwriting discounts and commissions and $1,446,000 represented estimated other expenses. A portion of the underwriting discounts and commissions represented direct or indirect payments to directors, officers, general partners of the Reigstrant or their associates; to persons owing ten (10) percent or more of any class of equity securities of the Company; or to affiliates of the Company. The net offering proceeds to the Company after total expenses was $16,224,000. As of September 30, 1997, the Company had used all of the net proceeds from the offering as follows: $897,000 for the purchase and installation of machinery and quipment, $473,000 for the repayment of indebtedness and $14,854,000 for working capital. The use of the proceeds from the offering does not represent a material change in the use of proceeds described in the prospectus. Item 3. Defaults Upon Senior Securities Not applicable Item 4. Submission of Matters to a Vote of Security Holders Not applicable Item 5. Other Information Not applicable Item 6 Exhibits and Reports on Form 8-K (a) Exhibits * 10.15 Bank Line of Credit Agreement between Registrant and U.S. National Bank of Oregon dated June 24, 1997. * 10.22 Loan Agreement between Registrant and Dasys, Inc. dated July 16, 1997. * 11.1 Statement of Computation of Net Income per Share 27 Financial Data Schedule ----------------- * Previously filed. (b) Reports on Form 8-K On September 24, 1997, the Company filed a report on Form 8-K dated September 9, 1997 in conjunction with the acquisition of Simulation Technologies, Corp. ("SimTech"). On November 12, 1997, the Company amended this filing on Form 8-K /A to include the financial statements of SimTech and the pro forma combined financial statements for the Company and SimTech. -27- 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. SUMMIT DESIGN, INC. By: /s/ C. Albert Koob ------------------------- C. Albert Koob Vice President - Finance, Chief Financial Officer and Secretary (Principal Financial and Accounting Officer and Duly Authorized Officer) Date: March 15, 1999 -28- EXHIBIT INDEX *EXHIBIT 10.15 Bank Line of Credit Agreement between Registrant and U.S. National Bank of Oregon dated June 24, 1997. *EXHIBIT 10.22 Loan Agreement between Registrant and Dasys, Inc. dated July 16, 1997. *EXHIBIT 11.1 Statement of Computation of Net Income Per Share EXHIBIT 27 Financial Data Schedule * Previously filed. -29- EX-27 2 EX-27
5 1,000 9-MOS DEC-31-1997 JAN-01-1997 SEP-30-1997 17,224 0 5,672 449 0 23,001 5,130 2,522 36,523 12,105 0 0 0 148 22,428 36,523 21,609 21,609 991 0 27,712 120 10 (739) 713 (1,452) 0 0 0 (1,452) (0.10) (0.10)
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