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| ACTU > SEC Filings for ACTU > Form 10-K on 12-Mar-2009 | All Recent SEC Filings |
12-Mar-2009
Annual Report
Overview
This Management's Discussion and Analysis of Financial Condition and Results of Operations ("MD&A") should be read in conjunction with the other sections of this Annual Report on Form 10-K, including "Business," "Selected Financial Data," and "Financial Statements and Supplementary Data", as well as the "Notes to the Consolidated Financial Statements." This MD&A contains a number of forward-looking statements, all of which are based on our current expectations, beliefs and strategies and could be affected by the uncertainties and risk factors described throughout this filing and particularly in the "Risk Factors" section.
Our actual results may differ materially from those indicated in such forward-looking statements. See "Risk Factors" and "Special Note Regarding Forward-Looking Statements" in this Report on Form 10-K and the risks discussed in other reports we have furnished or filed from time to time with the SEC.
Our Business
General
Actuate Corporation ("We", "Actuate" or the "Company") was incorporated in November 1993 in the State of California and reincorporated in the State of Delaware in July 1998. Actuate provides software and services to develop and deploy Rich Internet Applications ("RIA") that deliver rich interactive content that improve customer loyalty and corporate performance. Applications built on Actuate's open source-based platform provide all stakeholders inside and outside the firewall, including employees, customers, partners and citizens with information that they can easily access and understand to maximize revenue, cut costs, improve customer satisfaction, streamline operations, create competitive advantage and make better decisions. Our goal is to ensure that all users can use decision-making information in their day-to-day activities, opening up completely new avenues for improving corporate performance.
The software industry is currently experiencing significant challenges, primarily due to a deteriorating macroeconomic environment, which is primarily characterized by diminished product demand. As a result of this downturn, some of our customers may face financial challenges in fiscal 2009. It is unclear when the macroeconomic environment may improve. We are seeing increasing pressures on our customers' Information Technology budgets, and therefore our customers are looking for more flexibility in the type of software and the timing of such purchases. The current economic downturn in our customers' industries has contributed to the reduction in our license revenues and could continue to adversely impact our future business, operating results and financial condition.
Facing uncertainty and cost pressures in their own businesses, some of our customers are waiting to purchase our products and are increasingly seeking purchasing terms and conditions that are less favorable to us. This trend has partially contributed to lower license revenues for fiscal 2008 and this trend may continue in fiscal 2009.
Our customers may also experience adverse changes in their business and, as a result, may delay or default on their payment obligations, file for bankruptcy or modify or cancel plans to license our products. If our customers are not successful in generating sufficient revenue or are precluded from securing financing, they may not be able to pay, or may delay payment of, accounts receivable that are owed to us, although these obligations are generally not cancelable. Additionally, our customers may seek to renegotiate existing contractual commitments. Though we have not yet experienced any unusual levels of defaults, any material payment default by our customers or significant reductions in existing contractual commitments could have a material adverse effect on our financial condition and operating results.
Business Model
We began shipping our first product in January 1996. We sell software products through two primary means: (i) directly to end-user customers through our direct sales force and (ii) through indirect channel partners such as OEMs, resellers and system integrators. OEMs generally integrate our products with their applications and either provide hosting services or resell them with their products. Our other indirect channel partners resell our products to end-user customers. Our revenues are derived from license fees for software products and fees for services relating to such products, including software maintenance and support, consulting and training.
Fiscal Year 2008
Our total revenues for fiscal year 2008 were $130.9 million, which were approximately 7% lower than our prior fiscal year revenues of $140.6 million. License revenues decreased by 25% from $53.2 million in fiscal year 2007 to $39.9 million in fiscal year 2008. The decrease was primarily due to unfavorable economic conditions that began in late fiscal 2007 and continue to adversely impact the financial services industry, a key component of Actuate's customer portfolio. This decrease in license revenue was partially offset by a 4% increase in services revenues. This increase was primarily driven by maintenance and support revenues that continue to grow as our installed base increases. For fiscal year 2008, we reported net income of $13.6 million or $0.21 per diluted share compared to net income of $20.2 million or $0.29 per diluted share in fiscal year 2007. This decrease in net income was driven primarily by the lower license revenues over the same period last year. Our operating margin decreased from $16.1 million or 11% of total revenues in fiscal year 2007 to $11.5 million, or 9% of total revenues in fiscal year 2008. Our operating margins were negatively impacted by approximately $360,000 as a result of fluctuations in foreign currency exchange rates which positively impacted our revenues by approximately $110,000 and negatively impacted our expenses by approximately $470,000 for fiscal year 2008.
In order to size the operations to meet the expected business and economic environment for our products, we implemented a restructuring plan during the second half of the year to eliminate 46 positions held by Actuate employees primarily in North America. This restructuring impacted all functional areas. The reduction in force was completed in fiscal year 2008. The restructuring plan also resulted in the recognition of costs related to the consolidation of facilities, the cancellation of certain lease contracts and the write-off of fixed assets located at facilities that have been vacated.
In early November of 2008, we entered into a revolving Credit Agreement with Wells Fargo Foothill, LLC ("WFF"), part of Wells Fargo & Company. The Credit Agreement provided for a revolving line of credit in the principal amount of up to $50 million and was arranged in anticipation of a stock buyback through a "modified Dutch auction" tender offer in December 2008. The tender offer was successfully completed in late December 2008 and resulted in repurchase of approximately 17.1 million shares at a price of $3.50 per share. The offering resulted in a total cost of $60 million and was equally funded with both cash reserves and borrowings from the Credit Agreement with WFF. Prior to the commencement of the tender offer in the fourth quarter of fiscal year 2008, we had repurchased an additional 2.6 million shares through our accelerated stock buy back program that was authorized by our Board in early February 2008.
Recent U.S. sub-prime mortgage defaults have had a significant impact across various sectors of the financial markets, causing global credit and liquidity issues. The short-term funding markets experienced credit issues during fiscal 2008. This led to liquidity disruption in asset-backed commercial paper and failed auctions in the auction rate market. If the global credit market continues to deteriorate, our investment portfolio may be impacted and we could determine that some of our investments are other than temporarily impaired. This could materially adversely impact our results of operations and financial condition.
We own investments in marketable securities that have been designated as "available for sale" or "trading securities" in accordance with SFAS No. 115, Accounting for Certain Investments in Debt and Equity Securities. Available for sale securities are carried at fair value with the unrealized gains and losses reported in
"Accumulated Other Comprehensive Income (Loss)," a component of Stockholders' Equity. Trading securities are carried at fair value with unrealized gains and losses reported in results of operations.
At December 31, 2008, we held $16.5 million (par value) of investments comprised of ARS, which are variable-rate debt securities and have a long-term maturity with the interest rate being reset through Dutch auctions that are typically held every 28 days. Prior to February 2008, the securities had historically traded at par and are callable at par at the option of the issuer. Interest is typically paid at the end of each auction period or semiannually. At December 31, 2008, all of the ARS we held were AAA/Aaa rated, with most collateralized by student loans guaranteed by the U.S. government under the Federal Family Education Loan Program.
In November 2008, we elected to participate in a rights offering by UBS, our investment broker, which provides us with rights (the "Put Option") to sell UBS $16.5 million of our ARS portfolio at par value, at any time during a two-year sale period beginning June 30, 2010. By electing to participate in the rights offering, we granted UBS the right, exercisable at any time prior to June 30, 2010 or during the two-year sale period, to purchase or cause the sale of our ARS (the "Call Right"). UBS has stated that it will only exercise the Call Right for the purpose of restructurings, dispositions or other solutions that will provide their clients with par value for their ARS. UBS has agreed to pay their clients the par value of their ARS within one day of settlement of any Call Right transaction. Notwithstanding the Call Right, we are permitted to sell ARS to parties other than UBS, in which case the Put Option attached to the ARS that are sold would be extinguished. We classified the Put Option as a non-current security. As such, we recorded a net realized loss of approximately $84,000 related to the difference between the gain recognized on the Put Option and the realized loss on the $16.5 million (par value) portion of our ARS portfolio.
We have no reason to believe that any of the underlying issuers of our ARS are presently at risk of default. Through December 31, 2008, we have continued to receive interest payments on the ARS in accordance with their terms. We believe we will ultimately be able to liquidate our ARS related investments without significant loss primarily due to the collateral securing ARS and the legal settlements we have entered into with UBS. However, it could take until final maturity of the ARS (up to 39 years) to realize our investments' par value. Due to the changes and uncertainty in the ARS market, we believe the recovery period for these investments is likely to be longer than 12 months and as a result, we have classified these investments as long-term as of December 31, 2008.
Since February 2008, most ARS auctions have failed for these securities and there is no assurance that future auctions will succeed and, as a result, our ability to liquidate our investment and fully recover the par value in the near term may be limited non-existent. In the event the Company needs to access these funds, it will not be able to do so without a loss of principal, unless a future auction on these investments is successful. The Company has reduced the carrying value of these ARS investments as of December 31, 2008 through a charge to other income/(expense). This reduction was largely offset by a gain recognized on the Put Option described above. The net reduction amounted to approximately $84,000. The Company will evaluate these investments on a quarterly basis. For additional discussion please refer to the Note 4 of our Consolidated Financial Statements.
During the first half of fiscal year 2008, we recorded facility related restructuring charges totaling $271,000. These charges primarily related to lease exit costs associated with our South San Francisco facility; the closure of one of the three floors in our Toronto, Canada facility and the consolidation of our Vienna, Virginia facilities into one location. We also incurred approximately $132,000 in legal fees related to a previous restructuring which involved the terminations of former employees in one of our European subsidiaries.
During the second half of fiscal year 2008, we recorded approximately $1.1 million in costs consisting of severance, benefits and related legal fees when we initiated a restructuring of our North America sales force to size the operation to meet the expected business and economic environment. This restructuring resulted in workforce reductions of 46 total personnel and was concentrated mainly in North America across all levels of the sales organization.
All restructuring charges were accounted for in accordance with Financial Accounting Standards ("SFAS") No. 146, "Accounting for Costs Associated with Exit or Disposal Activities" ("SFAS 146").
Our total headcount at the end of fiscal year 2008 was 533 compared to 581 employees at the end of last year.
Fiscal Year 2009
A significant portion of our revenues have historically been derived from customers in the financial services industry. The Company expects that it will continue to derive a significant portion of its revenues from these financial services customers for the foreseeable future. Unfavorable economic conditions starting in late fiscal 2007 have adversely impacted the financial services industry throughout fiscal 2008. If this trend continues into 2009, it will likely have a material adverse effect on the Company's business, financial condition and results of operations. We currently anticipate that our total revenues in fiscal year 2009 will be lower than those levels experienced in fiscal year 2008, and fiscal year 2009 license revenues may decrease by as much as 20% from fiscal year 2008 levels.
During fiscal year 2009, we expect three additional trends to continue that would have a significant impact on the results of our operations. We currently believe that corporate IT budgets will grow only modestly if at all in the fiscal year 2009, particularly among financial services companies in the United States. Second, corporations are reluctant to buy software from new vendors and we continue to witness corporations consolidating their Business Intelligence, RIA and Performance Management software purchases into fewer suppliers. Finally, we expect to experience vigorous competition in the RIA market. Several of our competitors have released products that are marketed to be directly competitive with our RIA offerings. The existence of these competitive products may require additional sales and marketing efforts to differentiate our products, which could result in extended sales cycles. We believe that competition in the RIA market will be vigorous in the near future.
For fiscal year 2009, we will continue to pursue the strategic initiatives to improve revenue growth that we began introducing in fiscal year 2004 as well as an initiative related to Performance Management, which we introduced in fiscal 2007. These initiatives are as follows:
• Selling to IT Management-We are re-focusing our sales efforts on selling our products to IT managers who we believe generally recognize the technical advantages of our products. We hope this initiative will result in increased license revenue in the short term.
• Solution Selling to Line-of-Business Management-We are creating Performance Management applications and software solutions to market to line-of-business managers. These offerings are in the areas of performance management and customer self service reporting. We hope these initiatives will result in increased license revenue over the medium-to-long term.
• Investing in BIRT-We are continuing to make a significant investment in creating a new open source business intelligence and reporting tool, known as BIRT. We hope that BIRT will eventually become widely adopted by Java developers and will create demand for our other commercially available products. The BIRT project is a long-term initiative.
• Selling to Global 9000 Corporations in the Financial Services Sector-We are continuing to focus on selling our products to Global 9000 financial services companies in an effort to increase our substantive market share in this sector. We anticipate a negative impact of the ongoing credit crunch on the Financial Services sector in 2009. However, we believe that once the short term issues in Financial Services are resolved, the industry will once again lead in the adoption of RIA both inside and outside the firewall.
• Delivering a Highly Differentiated Performance Management Offering-We intend to combine Actuate Performancesoft Performance Management applications and Actuate's RIA-ready information platform to provide capabilities for distributing accountability throughout the enterprise.
We have a limited ability to forecast future revenues and expenses, thus the prediction of future operating results is difficult. In addition, historical growth rates in our revenues and earnings should not be considered indicative of future revenue or earnings growth rates or operating results. There can be no assurance that any of our business strategies will be successful or that we will be able to achieve and maintain profitability on a quarterly or annual basis. It is possible that in some future quarter our operating results will be below the expectations of public market analysts and investors, and in such event the price of our common stock could decline.
Critical Accounting Policies, Judgments and Estimates
General. The discussion and analysis of our financial condition and results of operations are based upon our Consolidated Financial Statements, which have been prepared in accordance with generally accepted accounting principles in the United States of America. The preparation of these financial statements requires us to make estimates, assumptions and judgments that can have a significant impact on the reported amounts of assets and liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities at the date of our financial statements. We base our estimates, assumptions and judgments on historical experience and various other factors that we believe to be reasonable under the circumstances. Actual results may differ from these estimates under different assumptions or conditions. On a regular basis we evaluate our estimates, assumptions and judgments and make changes accordingly. We also discuss our critical accounting estimates with the Audit Committee of our Board of Directors. We believe that the estimates, assumptions and judgments involved in revenue recognition, allowances for doubtful accounts, returns and discounts, valuation and impairment of investments, stock-based compensation, accounting for income taxes, contingencies, restructuring and integration costs, impairment of goodwill, intangible assets and long-lived assets have the greatest potential impact on our Consolidated Financial Statements, so we consider these to be our critical accounting policies.
We discuss below the critical accounting estimates associated with these policies. Historically, our estimates, assumptions and judgments relative to our critical accounting policies have not differed materially from actual results. For further information on our significant accounting policies, see the discussion in Note 1 to our Consolidated Financial Statements included in this Annual Report on Form 10-K.
Revenue Recognition. Actuate generates revenues from sales of software licenses and related services. The Company receives software license revenues from licensing its products directly to end-users and indirectly through resellers, system integrators and original equipment manufacturers (OEMs). The Company receives service revenues from maintenance contracts, consulting services and training that Actuate performs for customers.
Actuate recognizes revenues in accordance with AICPA Statement of Position ("SOP") 97-2 ("SOP 97-2"), "Software Revenue Recognition," as amended and modified by SOP 98-9, "Modification of SOP 97-2, Software Revenue Recognition, With Respect to Certain Transactions." For sales to end-user customers, Actuate recognizes license revenues when a license agreement has been signed by both parties or a definitive agreement has been received from the customer, the product has been shipped, there are no unusual uncertainties surrounding the product acceptance, the fees are fixed or determinable, collectibility is probable and vendor-specific objective evidence of fair value exists to allocate the fee to the undelivered elements of the arrangement. Vendor-specific objective evidence of sales to end users is based on the price charged when an element is sold separately. Actuate has not established vendor-specific objective evidence of fair value for its licenses. Therefore, the Company recognizes revenues from arrangements with multiple elements involving software licenses under the residual method. If the license agreement contains payment terms that would indicate that the fee is not fixed or determinable, revenues are recognized as the payments become due and payable, assuming that all other revenue recognition criteria are met.
Actuate enters into reseller and distributor arrangements that typically give such distributors and resellers the right to distribute its products to end-users headquartered in specified territories. Actuate recognizes license
revenues from arrangements with U.S. resellers and distributors when there is persuasive evidence of an arrangement with the reseller or distributor, the product has been shipped, the fees are fixed or determinable, and collectibility is probable and vendor-specific objective evidence of fair value exists to allocate the fee to the undelivered elements of the arrangement. Actuate recognizes license revenues from arrangements with international resellers and distributors upon receipt of evidence of sell-through and when all other revenue recognition criteria have been met. If it is not practical to obtain evidence of sell-through, the Company defers revenues until the end-user has been identified and cash has been received. In some instances there is a timing difference between when a reseller completes its sale to the end-user and the period in which Actuate receives the documentation required for revenue recognition. Because Actuate delays revenue recognition until the reporting period in which the required documentation is obtained, it may recognize revenue in a period subsequent to the period in which the reseller completes the sale to its end-user.
Actuate also enters into OEM arrangements that provide for license fees based on the bundling or embedding of its products with the OEM's products. These arrangements generally provide for fixed, irrevocable royalty payments. Actuate recognizes license fee revenues from U.S. and international OEM arrangements when a license agreement has been executed by both parties, the product has been shipped, there are no unusual uncertainties surrounding the product acceptance, the fees are fixed or determinable, collectibility is probable and vendor-specific objective evidence of fair value exists to allocate the fee to the undelivered elements of the arrangement.
Credit-worthiness and collectibility for end-users are assessed based on payment history and current credit profile. When a customer is not deemed credit-worthy, revenues are deferred and recognized upon cash receipt.
Actuate recognizes maintenance revenues, which consist of fees for ongoing support and unspecified product updates, ratably over the term of the contract, typically one year. Consulting revenues are primarily related to standard implementation and configuration. Training revenues are generated from classes offered at the Company's headquarters and customer locations. Revenues from consulting and training services are typically recognized as the services are performed. When a contract includes both, license and service elements, the license fee is typically recognized on delivery of the software, assuming all other revenue recognition criteria are met, provided services do not include significant customization or modification of the product and are not otherwise essential to the functionality of the software.
Allowance for Doubtful Accounts. Our accounts receivable is subject to collection risks. Our gross accounts receivable is reserved against this risk through an allowance for doubtful accounts. This allowance is for estimated losses resulting from the inability of our customers to make required payments. It is a significant estimate and is regularly evaluated by us for adequacy by taking into consideration a combination of factors. We look at factors such as past experience, credit quality of the customer, age of the receivable balance, and current economic conditions. These factors are reviewed to determine whether a specific reserve for bad debt should be recorded to reduce the related receivable to the amount believed to be collectible. We also cease recognizing future revenues on any outstanding domestic maintenance renewal invoices which are older than 90 days past due.
We also record unspecified reserves for bad debt for all other customers based on a variety of factors, including length of time the receivables are past due and historical experience. A reserve percentage is applied to various aged categories of receivables based on historical experience to determine how much of an unspecified reserve is needed. The use of different estimates or assumptions could produce different allowance balances. If the financial condition of our customers were to deteriorate, resulting in an impairment of their ability to make payments, additional allowances might be required.
Fair Value of Financial Instruments and Concentration of Credit Risk. Carrying amounts of our financial instruments including accounts receivable, accounts payable, accrued liabilities and long term debt approximate fair value. The fair values of our cash equivalents, available-for-sale investments in marketable securities and derivative instruments are detailed further in Note 4 of the Consolidated Financial Statements.
Stock-based Compensation. Effective January 1, 2006, we adopted Statement of Financial Accounting Standards No. 123 (revised 2004), "Share-Based Payment" ("SFAS 123(R)"), using the modified prospective method, in which compensation cost was recognized based on the requirements of SFAS 123R for (a) all share-based payments granted or modified after the effective date and (b) for all awards granted to employees prior to the effective date of FAS 123R that remain unvested on the effective date. FAS 123R requires the use of judgment and estimates in performing multiple calculations. We have estimated the expected volatility as an input into the Black-Scholes-Merton valuation formula when . . .
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