UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON DC 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934. For the quarterly period ended March 31, 2002.
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934.
For the transition period from ____________ to _____________
COMMISSION FILE NUMBER 0-23067
CONCORD COMMUNICATIONS, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
MASSACHUSETTS 04-2710876
(State of incorporation) (IRS Employer Identification Number)
600 NICKERSON ROAD
MARLBORO, MASSACHUSETTS 01752
(508) 460-4646
(ADDRESS AND TELEPHONE OF PRINCIPAL EXECUTIVE OFFICES)
----------------
INDICATE BY CHECK MARK WHETHER REGISTRANT (1) HAS FILED ALL REPORTS REQUIRED TO
BE FILED BY SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 DURING
THE PRECEDING 12 MONTHS, AND (2) HAS BEEN SUBJECT TO SUCH FILING REQUIREMENTS
FOR THE PAST 90 DAYS;
YES X NO
16,974,508 SHARES OF THE REGISTRANT'S COMMON STOCK, $0.01 PAR VALUE, WERE
OUTSTANDING AS OF APRIL 22, 2002.
THIS DOCUMENT CONTAINS 28 PAGES.
CONCORD COMMUNICATIONS, INC.
FORM 10-Q, MARCH 31, 2002
CONTENTS
Item Number Page
PART I: FINANCIAL INFORMATION
Item 1. Condensed Consolidated Financial Statements
Condensed Consolidated Balance Sheets:
March 31, 2002 and December 31, 2001 3
Condensed Consolidated Statements of
Operations: Three months ended March 31,
2002 and March 31, 2001 4
Condensed Consolidated Statements of Cash Flows:
Three months ended March 31, 2002 and March 31, 2001 5
Notes to Condensed Consolidated Financial Statements 6-9
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 10-24
Item 3. Quantitative and Qualitative Disclosures about Market Risk 25
PART II: OTHER INFORMATION
Item 1. Legal Proceedings 26
Item 2. Changes in Securities and Use of Proceeds 26
Item 3. Defaults Upon Senior Securities 26
Item 4. Submission of Matters to a Vote of Security Holders 27
Item 5. Other Information 27
Item 6. Exhibits and Reports on Form 8-K 27
SIGNATURE 28
2
PART I: FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
CONCORD COMMUNICATIONS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(UNAUDITED)
MARCH 31, DECEMBER 31,
2002 2001
------------- -------------
ASSETS
Current Assets:
Cash and cash equivalents ................................ $ 12,481,104 $ 9,010,811
Marketable securities .................................... 58,595,503 59,333,068
Accounts receivable, net of allowance of $1,642,377 and
$1,409,835 at March 31, 2002 and December 31, 2001,
respectively ............................................ 16,337,725 16,537,131
Prepaid expenses and other current assets ................ 3,405,409 3,057,797
------------- -------------
Total current assets ................................. 90,819,741 87,938,807
------------- -------------
Equipment and Improvements, at cost:
Equipment ................................................ 20,420,402 19,636,704
Leasehold improvements ................................... 6,017,789 5,956,710
------------- -------------
26,438,191 25,593,414
Less-- Accumulated depreciation and amortization.......... 16,313,341 14,798,688
------------- -------------
10,124,850 10,794,726
------------- -------------
Deferred Tax Asset............................................ 3,500,000 3,500,000
Other Long-Term Assets........................................ 268,692 246,655
------------- -------------
Total long-term assets ............................... 3,768,692 3,746,655
------------- -------------
$ 104,713,283 $ 102,480,188
============= =============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Accounts payable ......................................... $ 3,511,493 $ 3,553,417
Accrued expenses.......................................... 13,843,588 13,278,825
Deferred revenue.......................................... 23,879,326 22,141,078
------------- -------------
Total current liabilities ............................ 41,234,407 38,973,320
------------- -------------
Stockholders' Equity:
Common stock, $0.01 par value:
Authorized -- 50,000,000 shares
Issued and outstanding-- 16,964,743 and 16,901,193
shares at March 31, 2002 and December 31, 2001,
respectively............................................. 169,647 169,012
Additional paid-in capital ............................... 96,895,095 96,365,287
Deferred compensation .................................... (173,608) (241,547)
Accumulated other comprehensive income ................... 776,616 1,892,264
Accumulated deficit ...................................... (34,188,874) (34,678,148)
------------- -------------
Total stockholders' equity ........................... 63,478,876 63,506,868
------------- -------------
$ 104,713,283 $ 102,480,188
============= =============
The accompanying notes are an integral part of these
condensed consolidated financial statements.
3
CONCORD COMMUNICATIONS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
THREE MONTHS ENDED
-------------------------------
MARCH 31, MARCH 31,
2002 2001
------------ ------------
Revenues:
License revenues .......................................... $ 14,060,607 $ 13,070,834
Service revenues .......................................... 10,176,605 7,364,499
------------ ------------
Total revenues ....................................... 24,237,212 20,435,333
------------ ------------
Cost of Revenues:
Cost of license revenues .................................. 566,431 696,387
Cost of service revenues .................................. 3,818,658 4,269,040
------------ ------------
Total cost of revenues ............................... 4,385,089 4,965,427
------------ ------------
Gross profit .......................................... 19,852,123 15,469,906
------------ ------------
Operating Expenses:
Research and development .................................. 5,741,467 6,404,872
Sales and marketing ....................................... 12,134,553 12,419,248
General and administrative ................................ 2,054,700 2,546,759
Stock-based compensation .................................. 32,665 191,823
------------ ------------
Total operating expenses .............................. 19,963,385 21,562,702
------------ ------------
Operating loss .................................. (111,262) (6,092,796)
------------ ------------
Other Income (Expense):
Interest income .......................................... 776,042 799,591
Other expense ............................................ (28,449) (6,001)
------------ ------------
Total other income, net ............................. 747,593 793,590
------------ ------------
Income (loss) before income taxes ................... 636,331 (5,299,206)
Provision for income taxes ..................................... 147,057 66,298
------------ ------------
Net income (loss) .............................................. $ 489,274 $ (5,365,504)
============ ============
Net income (loss) per common and potential common share:
Basic ..................................................... $ 0.03 $ (0.32)
============ ============
Diluted ................................................... $ 0.03 $ (0.32)
============ ============
Weighted average common and potential common shares outstanding:
Basic ..................................................... 16,931,200 16,560,541
============ ============
Diluted ................................................... 18,025,665 16,560,541
============ ============
The accompanying notes are an integral part of these
condensed consolidated financial statements.
4
CONCORD COMMUNICATIONS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
THREE MONTHS ENDED
-------------------------------
MARCH 31, MARCH 31,
2002 2001
------------ ------------
Cash Flows from Operating Activities:
Net income (loss) ............................................. $ 489,274 $ (5,365,404)
Adjustments to reconcile net income (loss) to net cash provided
by (used in) operating activities-
Depreciation and amortization ............................ 1,514,653 1,484,999
Stock-based compensation ................................. 32,665 191,823
Changes in current assets and liabilities:
Accounts receivable .................................. 199,406 2,841,267
Prepaid expenses and other currents assets ........... (347,612) (403,788)
Accounts payable ..................................... (41,924) (782,533)
Accrued expenses ..................................... 47,023 152,508
Deferred revenue ..................................... 1,738,248 1,089,040
------------ ------------
Net cash provided by (used in) operating
activities ........................................ 3,631,733 (792,188)
------------ ------------
Cash Flows from Investing Activities:
Purchases of equipment and improvements ....................... (844,777) (1,319,687)
Change in other assets ........................................ (22,037) (5,555)
Investments in marketable securities .......................... (2,107,607) (3,072,840)
Proceeds from sales of marketable securities .................. 2,247,264 2,655,028)
------------ ------------
Net cash used in investing activities ................... (727,157) (1,743,054)
------------ ------------
Cash Flows from Financing Activities:
Proceeds from issuance of common stock ........................ 565,717 39,238
------------ ------------
Net cash provided by financing activities ............... 565,717 39,238
------------ ------------
Net increase (decrease) in cash and cash equivalents .......... 3,470,293 (2,496,004)
Cash and Cash Equivalents, beginning of period ................ 9,010,811 10,725,265
------------ ------------
Cash and Cash Equivalents, end of period ...................... $ 12,481,104 $ 8,229,261
============ ============
Supplemental Disclosure of Cash Flow Information:
Cash paid for taxes ........................................... $ 97,100 $ 40,500
============ ============
Supplemental Disclosure of Noncash Transactions:
Reversal of deferred compensation related to forfeitures of
stock options ............................................ $ (35,274) $ (1,072,709)
============ ============
Unrealized (loss) gain on available-for-sale securities ....... $ (597,905) $ 941,988
============ ============
The accompanying notes are an integral part of these
condensed consolidated financial statements.
5
CONCORD COMMUNICATIONS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
FORM 10-Q, MARCH 31, 2002
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
(a) Basis of Presentation
The accompanying condensed consolidated financial statements have been
presented by Concord Communications, Inc. (the "Company") unaudited (except the
balance sheet information as of December 31, 2001 which has been derived from
audited financial statements) in accordance with accounting principles generally
accepted in the United States for interim financial statements and with the
instructions to Form 10-Q and Regulation S-X pertaining to interim financial
statements. Accordingly, these interim financial statements do not include all
information and footnotes required by accounting principles generally accepted
in the United States for complete financial statements. The financial statements
reflect all adjustments and accruals which management considers necessary for a
fair presentation of financial position as of March 31, 2002 and December 31,
2001, and the results of operations for the three months ended March 31, 2002
and 2001. The results for the interim periods presented are not necessarily
indicative of results to be expected for any future period. The financial
statements should be read in conjunction with the audited financial statements
and the notes thereto included in the Company's 2001 Annual Report on Form 10-K
filed with the Securities and Exchange Commission in March 2002.
(b) Principles of Consolidation
The accompanying consolidated financial statements include the accounts of
the Company and its wholly owned subsidiaries. All material intercompany
accounts and transactions have been eliminated in consolidation.
(c) Cash, Cash Equivalents and Marketable Securities
The Company follows the provisions of Statement of Financial Accounting
Standards (SFAS) No. 115, Accounting for Certain Investments in Debt and Equity
Securities. The Company has classified its marketable securities as
available-for-sale and recorded them at fair value, with the unrealized gains
and losses reported as a separate component of stockholders' equity. The Company
considers highly liquid investments, purchased with an original maturity of 90
days or less, to be cash equivalents. Cash and cash equivalents were $12,481,104
and $9,010,811, at March 31, 2002 and December 31, 2001, respectively and
consisted of money market funds.
(d) Revenue Recognition
The Company's revenues consist of software license revenues and service
revenues. Software license revenues are recognized in accordance with the
American Institute of Certified Public Accountants' Statement of Position (SOP)
97-2, Software Revenue Recognition, as modified by SOP 98-9, Modification of SOP
97-2, Software Revenue Recognition with respect to Certain Transactions. Under
SOP 97-2, software license revenues are recognized upon execution of a contract
and delivery of software, provided that the license fee is fixed and
determinable, no significant production, modification or customization of the
software is required and collection is considered probable by management.
Revenues under multiple-element arrangements, which typically include software
products, services and maintenance sold together, are allocated to each element
using the residual method in accordance with SOP 98-9. Under the residual
method, the fair value of the undelivered elements is deferred and subsequently
recognized. The Company has established sufficient vendor specific objective
evidence for professional services, training and maintenance and customer
support services based on the price charged when these elements are sold
separately. Accordingly, software license revenue is recognized under the
residual method in arrangements in which software is licensed with professional
services, training and maintenance and customer support services.
Service revenues include professional services, training and maintenance
and customer support fees. Professional services are not essential to the
functionality of the other elements in an arrangement and are accounted for
separately. Service revenues are recognized as the services are performed.
6
Maintenance revenues are derived from customer support agreements generally
entered into in connection with initial license sales and subsequent renewals.
Maintenance and customer support fees include the right to unspecified upgrades
on a when-and-if-available basis and ongoing technical support. Maintenance
revenues are recognized ratably over the term of the maintenance period.
Payments for maintenance fees are generally made in advance and are included in
deferred revenue. As of March 31, 2002 and December 31, 2001, deferred revenue
includes approximately $19.7 million and $17.1 million of deferred maintenance
revenues.
(e) Use of Estimates in the Preparation of Financial Statements
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities, disclosure of contingent assets and liabilities at the date of the
financial statements and the reported amounts of revenues and expenses during
the reporting period. Actual results could differ from those estimates.
(f) Financial Instruments, Concentration of Credit Risk and Significant
Customers
The Company has estimated the fair value of financial instruments using
available market information and appropriate valuation methodologies. The
carrying values of cash, cash equivalents, marketable securities, accounts
receivable, and accounts payable approximate fair market value due to the
short-term nature of these financial instruments. Financial instruments that
potentially subject the Company to concentrations of credit risk are principally
cash, cash equivalents, marketable securities and accounts receivable. The
Company has no significant off-balance-sheet or concentration of credit risk
exposure such as foreign exchange contracts, option contracts or other foreign
hedging arrangements. The Company maintains its cash, cash equivalents and
marketable securities with established financial institutions. Concentration of
credit risk with respect to accounts receivable is limited to certain customers
to whom the Company makes substantial sales. To reduce its credit risk, the
Company routinely assesses the financial strength of its customers. The Company
maintains an allowance for potential credit losses but historically has not
experienced any significant losses related to individual customers or groups of
customers in any particular industry or geographic area. No individual customer
or reseller accounted for more than 10% of revenue for the three months ended
March 31, 2002 or March 31, 2001. No one customer accounted for more than 10% of
accounts receivable as of March 31, 2002. One customer accounted for 13.4% of
accounts receivable at December 31, 2001; a total of 7.2% of the receivables
from this customer was included in the Company's deferred revenue at December
31, 2001.
(g) Reclassifications
Certain amounts in the prior period's financial statements have been
reclassified to conform to the current period's presentation.
2. BASIC AND DILUTED INCOME/LOSS PER COMMON SHARE
The Company computes earnings per share following the provisions of SFAS
No. 128, Earnings per Share. SFAS No. 128 establishes standards for computing
and presenting earnings per share and applies to entities with publicly held
common stock or potential common stock. Basic net income (loss) per share is
computed using the weighted-average number of common shares outstanding for a
period. Diluted net income (loss) per share is computed using the
weighted-average number of common and dilutive common-equivalent shares
outstanding for the period. Diluted net loss per share is the same as basic net
loss per share for the three months ended March 31, 2001, as the effects of
potential common stock are antidilutive. Dilutive common-equivalent shares
primarily consist of employee stock options. The dilutive effect of outstanding
stock options is computed using the treasury stock method. For the three months
ended March 31, 2002, employee stock options to purchase 1,915,772 shares were
outstanding but not included in the diluted weighted-average share calculation
as their effects would have been antidilutive. For the three months ended March
31, 2001, employee stock options to purchase 3,542,350 shares were outstanding
but not included in the diluted weighted-average share calculation as the effect
would have been antidilutive as a result of the Company's reported loss for the
period.
7
Calculation of the basic and diluted net income (loss) per share and
potential common share are as follows:
THREE MONTHS ENDED
-------------------------------
MARCH 31, MARCH 31,
2002 2001
------------ -------------
Net income (loss) applicable to common stockholders ............. $ 489,274 $ (5,365,504)
------------ ------------
Weighted average common shares outstanding ...................... 16,931,200 16,560,541
Potential common shares pursuant to stock options
1,094,465 --
------------ ------------
Diluted weighted average shares ................................. 18,025,665 16,560,541
============ ============
Basic net income (loss) per common share ........................ $ 0.03 $ (0.32)
============ ============
Diluted net income (loss) per common and potential common share . $ 0.03 $ (0.32)
============ ============
3. COMPREHENSIVE LOSS
Comprehensive loss for the three months ended March 31, 2002 and 2001 is as
follows:
THREE MONTHS ENDED
------------------------------
MARCH 31, MARCH 31,
2002 2001
----------- ------------
Net income (loss) applicable to common stockholders............ $ 489,274 $(5,365,504)
Unrealized (loss) gain on marketable securities ............... (597,908) 941,988
----------- -----------
Comprehensive loss ............................................ $ (108,634) $(4,423,516)
=========== ===========
4. SEGMENT REPORTING AND INTERNATIONAL INFORMATION
The Company follows the provisions of SFAS No. 131, Disclosures about
Segments of an Enterprise and Related Information. SFAS No. 131 establishes
standards for reporting information regarding operating segments in annual
financial statements and requires selected information for those segments to be
presented in interim financial reports issued to stockholders. SFAS No. 131 also
establishes standards for related disclosures about products and services and
geographic areas. Operating segments are identified as components of an
enterprise about which separate, discrete financial information is available for
evaluation by the chief operating decision maker, or decision making group, in
making decisions on how to allocate resources and assess performance. The
Company's chief decision making group, as defined under SFAS No. 131, is the
Executive Management Committee.
The following table presents the approximate revenue by major geographical
regions:
THREE MONTHS ENDED
----------------------------
MARCH 31, MARCH 31,
2002 2001
----------- -----------
United States ................................ $14,696,000 $13,044,000
Europe ....................................... 5,395,000 4,149,000
Rest of the World............................. 4,146,000 3,238,000
----------- -----------
Total ........................................ $24,237,000 $20,431,000
=========== ===========
No one country, except the United States, accounts for greater than 10% of
total revenues. Substantially all of the Company's assets are located in the
United States.
The Company's reportable segments are determined by customer type: managed
service providers/ telecommunications carriers (MSP/TC) and enterprise. The
accounting policies of the segments are the same as
8
those described in Note 1. The Executive Management Committee evaluates segment
performance based on revenue. Accordingly, all expenses are considered corporate
level activities and are not allocated to segments. Also, the Executive
Management Committee does not assign assets to these segments.
The table presents the approximate revenue by reportable segment:
THREE MONTHS ENDED
-------------------------------
MARCH 31, MARCH 31,
2002 2001
----------- -----------
MSP/TC............................................. $ 9,847,000 $ 8,451,000
Enterprise......................................... 14,390,000 11,980,000
----------- -----------
Total.............................................. $24,237,000 $20,431,000
=========== ===========
5. RECENT ACCOUNTING PRONOUNCEMENTS
In August 2001, the FASB issued SFAS No. 144, Accounting for the Impairment
or Disposal of Long-Lived Assets, which supercedes SFAS No. 121, Accounting for
the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of.
SFAS No. 144 further refines the requirements of SFAS No. 121, which required
that companies (1) recognize an impairment loss only if the carrying amount of a
long-lived asset is not recoverable based on its undiscounted future cash flows
and (2) measure an impairment loss as the difference between the carrying amount
and fair value of the asset. In addition, SFAS No. 144 provides guidance on
accounting and disclosure issues surrounding long-lived assets to be disposed of
by sale. The Company adopted SFAS No. 144 beginning on January 1, 2002. The
adoption did not have any impact on the Company's consolidated financial
position, results of operations or cash flows.
In November 2001, the Emerging Issues Task Force issued Topic No. D-103
relating to the accounting for reimbursements received for out-of-pocket
expenses. In accordance with Topic No. D-103, reimbursements received for
out-of-pocket expenses incurred should be characterized as revenue in the
statement of operations. The Company has historically accounted for
reimbursements received for out-of-pocket expenses incurred as a reduction to
cost of service revenues in the statement of operations to offset the costs
incurred. The Company adopted Topic No. D-103 on January 1, 2002, and
comparative financial statements for prior periods are reclassified to comply
with the guidance in Topic No. D-103. During the three month periods ended March
31, 2002 and 2001, reimbursed out-of-pocket expenses totaled $6,200 and $4,000,
respectively. There was no impact on the gross profit as a percentage of total
revenues or gross margin for the three month periods ended March 31, 2002 or
2001.
9
CONCORD COMMUNICATIONS, INC.
FORM 10-Q, MARCH 31, 2002
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OVERVIEW
Concord develops, markets and supports the eHealthTM Suite of scalable
information technology (IT) infrastructure fault and performance management
software solutions. eHealthTM integrates fault and performance management of the
systems, applications and networks that comprise today's IT infrastructure.
Concord's solutions optimize the performance and availability of IT
infrastructures on which enterprises, managed service providers and
telecommunication carriers depend for their day-to-day business and operational
success. Concord's software solutions monitor fault conditions throughout the
infrastructure in real time; test availability and responsiveness of critical
services; collect, consolidate, normalize and analyze a high volume of data from
the IT infrastructure; alert IT personnel to faults and potential outages,
maximize uptime of the IT infrastructure and automatically execute corrective
action to restore availability, if desired.
Concord does not provide forecasts of its future financial performance.
From time to time, however, the information provided by Concord or statements
made by our employees may contain forward-looking statements. In particular,
some statements contained in Concord's Form 10-Q for the three month period
ended March 31, 2002, are not historical statements (including, but not limited
to, statements concerning the plan and objectives of management, increases in
revenue (domestically and internationally), increases in sales and marketing,
research and development and general and administrative expenses (domestically
and internationally), Concord's ability to use deferred tax assets, Concord's
success in competing in international markets, Concord's expected future
profitability and Concord's expected liquidity and capital resources). This
document contains forward-looking statements. Any statements contained herein
that do not describe historical facts are forward-looking statements. The
Company makes such forward-looking statements under the provisions of the "safe
harbor" section of the Private Securities Litigation Reform Act of 1995.
The forward-looking statements contained herein are based on current
expectations but are subject to a number of risks and uncertainties. The facts
that could cause actual results to differ materially from current expectations
include the following: risks of intellectual property rights and litigation,
risks in technology development and commercialization, risks in product
development and market acceptance of and demand for the Company's products,
risks of downturns in economic conditions generally, and in the software,
networking and telecommunications industries specifically, risks associated with
competition and competitive pricing pressures, risks associated with
international sales, risks associated with the Company's recent acquisitions and
other risks detailed in this Form 10-Q and in the Company's filings with the
Securities and Exchange Commission.
10
RESULTS OF OPERATIONS
The following table sets forth, for the periods indicated, certain
financial data as percentages of the Company's total revenue:
UNAUDITED THREE MONTHS ENDED
---------------------------------
MARCH 31, MARCH 31,
2002 2001
------------ -----------
Revenues:
License revenues 58.0% 64.0%
Service revenues 42.0 36.0
----- -----
Total revenues 100.0 100.0
Cost of Revenues:
Cost of license revenues 2.3 3.4
Cost of service revenues 15.8 20.9
----- -----
Total cost of revenues 18.1 24.3
----- -----
Gross profit 81.9 75.7
----- -----
Operating Expenses:
Research and development 23.7 31.3
Sales and marketing 50.1 60.8
General and administrative 8.5 12.5
Stock-based compensation 0.1 0.9
----- -----
Total operating expenses 82.4 105.5
----- -----
Loss from operations -0.5 -29.8
Other income, net 3.1 3.9
----- -----
Income (loss) before taxes 2.6 -25.9
Provision for income taxes 0.6 0.3
----- -----
Net income (loss) 2.0% -26.2%
===== =====
REVENUES. Concord's revenues consist of software license revenues and
service revenues. Software license revenues are recognized in accordance with
the American Institute of Certified Public Accountants' Statement of Position
(SOP) 97-2, Software Revenue Recognition, as modified by SOP 98-9, Modification
of SOP 97-2, Software Revenue Recognition with Respect to Certain Transactions.
Under SOP 97-2, software license revenues are recognized upon execution of a
contract and delivery of software, provided that the license fee is fixed or
determinable, no significant production, modification or customization of the
software is required and collection is considered probable by management.
Revenues under multiple-element arrangements, which typically include software
products and maintenance sold together, are allocated to each element using the
residual method in accordance with SOP 98-9. Service revenues are recognized as
the services are performed. Maintenance revenues are derived from customer
support agreements generally entered into in connection with initial license
sales and subsequent renewals. Maintenance revenues are recognized ratably over
the term of the maintenance period. Payments for maintenance fees are generally
made in advance.
TOTAL REVENUES. The Company's total revenues increased 18.6% to $24.2
million in the three months ended March 31, 2002 from $20.4 million in the three
months ended March 31, 2001.
LICENSE REVENUES. Concord's license revenues are derived from the licensing
of software products. License revenues increased 7.6% to $14.1 million, or 58.0%
of total revenues, in the three months ended March 31, 2002 from $13.1 million,
or 64.0% of total revenues, in the three months ended March 31, 2001. The
increase in license revenues resulted from sales to existing customers of new
products, sales to new customers and increased revenues to international
markets. The decrease in license revenues as a percent of total revenues for the
three months ended March 31, 2001 and March 31, 2002 was the result of a
significant increase in service revenues, consisting mainly of maintenance
revenues.
11
SERVICE REVENUES. Concord's service revenues consist of fees for
maintenance, training and professional services. Service revenues increased
38.3% to $10.2 million or 42.0% of total revenues, in the three months ended
March 31, 2002 from $7.4 million or 36.0% of total revenues in the three months
ended March 31, 2001. The increase in service revenues was mainly due to a
significant increase in maintenance revenue which is generated from new and
renewed maintenance contracts. An increase in the number of customers and the
resulting demand for services by these customers further helped drive the
increase in service revenue for the period ended March 31, 2002 compared to
March 31, 2001.
INTERNATIONAL REVENUES. Concord's international revenues increased 29.2% to
$9.5 million or 39.4% of total revenues for the three months ended March 31,
2002 from $7.4 million or 36.2% of total revenues for the three months ended
March 31, 2001. International revenues are primarily driven by customers based
in Europe, as well as the continued expansion of operations outside the United
States and the establishment of additional reseller relationships.
COST OF REVENUES. Cost of revenues includes expenses associated with
royalty costs, production, fulfillment and product documentation, along with
personnel costs associated with providing customer support in connection with
maintenance, training and professional service contracts. Royalty costs are
composed of third party software costs. Cost of revenues decreased 11.6% to $4.4
million, or 18.1% of total revenues, in the three months ended March 31, 2002
from $5.0 million, or 24.3% of total revenues, in the three months ended March
31, 2001, resulting in gross margins of 81.9% and 75.7% respectively. The
decrease in cost of revenues as a percent of sales was driven by increased
efficiencies and better management of expenses in the customer support
organization. We expect to maintain our cost of revenues as a percentage of
total revenues; however, this will depend upon our royalty costs and our revenue
growth, among other factors. Accordingly, there can be no assurance that we will
be successful in maintaining our cost of revenues as a percentage of total
revenues.
RESEARCH AND DEVELOPMENT EXPENSES. Research and development expenses
consist primarily of personnel costs associated with software development.
Research and development expenses decreased 10.4% to $5.7 million, or 23.7% of
total revenues, in the three months ended March 31, 2002 from $6.4 million, or
31.3% of total revenues, in the three months ended March 31, 2001. The decrease
in research and development expenses was primarily due to a decrease in
headcount in research and development from 143 to 131 people as well as a
reduction of discretionary expenses for the period ended March 31, 2002 compared
to March 31, 2001. We intend to decrease our research and development expenses
as a percentage of total revenues. Our ability to decrease these expenses as a
percentage of revenue will depend upon our revenue growth, among other factors.
Accordingly, there can be no assurance that we will be successful in decreasing
our expenses as a percentage of total revenues.
SALES AND MARKETING EXPENSES. Sales and marketing expenses consist
primarily of salaries, commissions to sales personnel and agents, travel,
tradeshow participation, public relations, advertising and other promotional
expenses. Sales and marketing expenses decreased 2.3% to $12.1 million, or 50.1%
of total revenues, in the three months ended March 31, 2002 from $12.4 million,
or 60.8% of total revenues, in the three months ended March 31, 2001. The
decrease in sales and marketing expenses was primarily the result of a reduction
in marketing and promotional activities as well as a reduction in headcount in
sales and marketing from 183 to 178 people from March 31, 2001 to March 31,
2002. We intend to decrease our sales and marketing expenses as a percentage of
total revenues. Our ability to decrease these expenses as a percentage of
revenue will depend upon our revenue growth, among other factors. Accordingly,
there can be no assurance that we will be successful in decreasing our expenses
as a percentage of total revenues.
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses
consist primarily of salaries for financial, accounting, legal, administrative
and management personnel. General and administrative expenses decreased 19.3% to
$2.1 million, or 8.5% of total revenues, in the three months ended March 31,
2002 from $2.5 million, or 12.5% of total revenues, in the three months ended
March 31, 2001. The decrease in general and administrative expenses is due to a
decrease in headcount from 41 to 34 people as well as a reduction in
discretionary expenses. We expect to decrease these expenses as a percentage of
revenue; this will ultimately depend upon our revenue growth, among other
factors. Accordingly, there can be no assurance that we will be successful in
decreasing our expenses as a percentage of total revenues.
12
STOCK-BASED COMPENSATION. Stock-based compensation relates to the issuance
of stock options with exercise prices below the deemed fair value of the
Company's common stock at the date of grant. Deferred stock-based compensation
is amortized through charges to operations over the vesting period of the
options, which is generally four years. For the three months ended March 31,
2002 and 2001, stock-based compensation expense was approximately $33,000 and
$192,000, respectively. The Company recorded a reversal of deferred stock based
compensation of approximately $35,000 and $1.1 million for the three months
ended March 31, 2002 and 2001, respectively, related to forfeitures of stock
options by terminated employees.
OTHER INCOME. Other income consists of interest earned on funds available
for investment, net of foreign currency exchange gains and losses and
miscellaneous foreign taxes. The Company had net other income of $748,000 and
$794,000 for the three months ended March 31, 2002 and 2001, respectively.
PROVISION FOR INCOME TAXES. The Company recorded an income tax provision of
approximately $147,000 and $66,000 in the three months ended March 31, 2002 and
2001 respectively. The income tax provision for the three months ended March 31,
2002 and 2001 is mainly related to foreign taxes resulting from the
profitability of certain of the Company's foreign operations. In 2002, the
Company estimated that it would not need to record a provision for domestic
federal and state income taxes as a result of the use of net operating loss
carryforwards.
LIQUIDITY AND CAPITAL RESOURCES
As of March 31, 2002, the Company had cash, cash equivalents and marketable
securities of $71.1 million, an increase of $2.8 million from $68.3 million as
of December 31, 2001. Concord had working capital of $49.6 million and $48.9
million as of March 31, 2002 and December 31, 2001, respectively. The increase
in working capital was primarily attributable to an increase in cash, cash
equivalents and marketable securities due to income from continuing operations
during the quarter.
Net cash provided by operating activities was $3.6 million for the three
months ended March 31, 2002 and $792,000 for the three months ended March 31,
2001. Accounts receivable decreased $199,000 due to an increase in the allowance
for accounts receivable. Deferred revenue increased $1.7 million mainly due to
an increase in new and renewed maintenance contracts.
Investing activities have consisted of the acquisition of property and
equipment, most notably computer and networking equipment to support the
corporate infrastructure and also investments in marketable securities. The
Company manages its market risk on its investment securities by selecting
investment grade securities with the highest credit ratings of relatively short
duration that trade in highly liquid markets.
Financing activities consisted primarily of the issuance of common stock
from the exercise of stock options during the three months ended March 31, 2002
and 2001.
As of March 31, 2002, the Company has future payments under facility and
certain equipment lease agreements expiring through June 2007 of $3.6 million,
$10.4 million and $4.9 million in one year, one to three years, and thereafter,
respectively.
The Company has deferred tax assets of approximately $21.9 million, the
largest component of which represents NOL carryforwards and research and
development credits. The Company has partially reserved for these deferred tax
assets by recording a valuation allowance of $18.4 million. The resulting net
deferred tax asset is based on the Company's estimate of NOL carryforwards it
expects to use in the next two years; all other tax assets have been fully
reserved. Pursuant to paragraphs 20 to 25 of SFAS No. 109, the Company
considered both positive and negative evidence in assessing the need for a
valuation allowance at December 31, 2001. The factors that weighed most heavily
on the Company's decision to record a valuation allowance were (i) the
substantial restrictions on the use of certain of its existing NOL and credit
carryforwards and (ii) the uncertainty of future profitability. In addition, the
Company is subject to rapid technological change, competition from substantially
larger competitors, a limited family of products and other related risks, as
more thoroughly described in the "Risk Factors" section of the Company's Form
10-K for the year ended December 31, 2001. As a result, the Company found the
evidence
13
described above to be the most reliable objective evidence available in
determining that a valuation allowance against its tax assets would be
necessary.
Pursuant to the Tax Reform Act of 1986, the utilization of net operating
loss (NOL) carryforwards for tax purposes may be subject to an annual limitation
if a cumulative change of ownership of more than 50% occurs over a three-year
period. At December 31, 2001, the utilization of approximately $2,309,000 of the
Company's NOL carryforwards are restricted to $330,000 per year as a result of
an ownership change that occurred in 1995. In addition, the utilization of
approximately $15,663,000 of NOL carryforwards that were acquired as a result of
the FirstSense acquisition is also restricted as a result of a prior ownership
change of FirstSense. Utilization of the FirstSense NOL carryforwards is limited
to $4.3 million per year.
As of December 31, 2001, the Company's NOL deferred tax asset includes
approximately $2.3 million pertaining to the benefit associated with the
exercise and subsequent disqualifying disposition of incentive stock options by
the Company's employees. When and if the Company realizes this asset, the
resulting change in the valuation allowance will be credited directly to
additional paid-in capital, pursuant to the provisions of SFAS No. 109.
As of March 31, 2002, Concord's principal sources of liquidity included
cash, cash equivalents, and marketable securities. The Company believes that its
current cash, cash equivalents, and marketable securities and cash provided by
future operations will be sufficient to meet the working capital and anticipated
capital expenditure requirements for at least the next 12 months. Although
operating activities may provide cash in certain periods, to the extent Concord
experiences growth in the future, its operating and investing activities may
require additional cash. Consequently, any such future growth may require
Concord to obtain additional equity or debt financing.
CRITICAL ACCOUNTING POLICIES
In December 2001, the SEC requested that all registrants list their three
to five most "critical accounting policies" in the Management Discussion and
Analysis section of their Annual Report on Form 10-K. The SEC indicated that a
"critical accounting policy" is one which is both important to the portrayal of
the company's financial condition and results and requires management's most
difficult, subjective or complex judgements, often as a result of the need to
make estimates about the effect of matters that are inherently uncertain. We
believe that the following three accounting policies fit this definition:
Revenue Recognition, Accounts Receivable and Accounting for Income Taxes.
(a) Revenue Recognition Policy
We recognize revenue from the sale of software licenses when persuasive
evidence of an arrangement exists, the product has been delivered, the fee is
fixed and determinable and collection of the resulting receivable is reasonably
assured. Delivery generally occurs when product is delivered to a common carrier
and the delivery terms are FOB Concord. All revenues generated from our
worldwide operations are approved at our corporate headquarters, located in the
United States.
At the time of the transaction, we assess whether the fee associated with
our revenue transaction is fixed and determinable and whether or not collection
is reasonably assured. We assess whether the fee is fixed and determinable based
on the payment terms associated with the transaction. If a significant portion
of a fee is due after our normal payment terms, which are usually 30 to 60 days
from invoice date, we account for the fee as not being fixed and determinable.
In these cases, we usually recognize revenue upon receipt of cash.
We assess collection based on a number of factors, including past
transaction history with the customer and the credit-worthiness of the customer.
We do not request collateral from our customers. If we determine that collection
of a fee is not reasonably assured, we defer the fee and usually recognize
revenue upon receipt of cash.
For all sales, we use either a purchase order or signed license agreement
as evidence of an arrangement. Sales through our resellers are usually evidenced
by a master agreement governing the relationship together with purchase orders
on a transaction-by-transaction basis.
14
For arrangements with multiple obligations (for example, undelivered
maintenance and support), we allocate revenue to each component of the
arrangement using the residual value method based on the fair value of the
undelivered elements. This means that we defer revenue from the fee arrangement
equivalent to the fair values of the undelivered elements. We determine fair
values for ongoing maintenance and support obligations using our internal
pricing policies for maintenance and by referencing the prices at which we have
sold separate maintenance contract renewals to our customers. We determine fair
values of services, such as training or consulting, by referencing the prices at
which we have separately sold comparable services to our customers.
Our arrangements do not generally include clauses involving acceptance of
our products by our customers. However, if an arrangement includes an acceptance
provision, revenue recognition occurs upon the earlier of receipt of a written
customer acceptance or expiration of the acceptance period.
(b) Accounts Receivable Policy
We perform ongoing credit evaluations of our customers and adjust credit
limits based upon payment history and the customer's current credit worthiness,
as determined by our review of their current credit information. We continuously
monitor collections and payments from our customers and maintain a provision for
estimated credit losses based on a percentage of our accounts receivable, our
historical experience and any specific customer collection issues that we have
identified. While such credit losses have historically been within our
expectations and appropriate reserves have been established, we cannot guarantee
that we will continue to experience the same credit loss rates that we have
experienced in the past.
(c) Accounting for Income Taxes Policy
As part of the process of preparing our consolidated financial statements
we are required to estimate our income taxes in each of the jurisdictions in
which we operate. To do this, we estimate our actual current tax liabilities,
while also assessing temporary differences resulting from differing treatment of
items, such as deferred revenue, for tax and accounting purposes. These
differences result in deferred tax assets and liabilities, which are included
within our consolidated balance sheet. We must then assess the likelihood that
our deferred tax assets will be recovered from future taxable income. To the
extent we believe that recovery is not likely, we must establish a valuation
allowance. To the extent we establish a valuation allowance or increase this
allowance in a period, we must include an expense within the tax provision in
the statement of operations.
Significant management judgement is required in determining our provision
for income taxes, our deferred tax assets and liabilities and any valuation
allowance recorded against our net deferred tax assets. We have recorded a
valuation allowance of $18.4 million as of March 31, 2002, due to uncertainties
related to our ability to utilize some of our deferred tax assets, primarily
consisting of the utilization of certain net operating loss carryforwards from
prior years. We are unsure whether we will have sufficient future taxable income
to allow us to use these net operating losses, before they expire. The valuation
allowance is based on our estimates of taxable income by jurisdiction in which
we operate and the period over which our deferred tax assets will be
recoverable. In the event that actual results differ from these estimates or we
adjust these estimates in future periods we may need to establish an additional
valuation. Establishing new or additional valuation allowances could materially
adversely impact our financial position and results of operations.
Our net deferred tax assets as of March 31, 2002 were $3.5 million, net of
a valuation allowance of $18.4 million.
The above listing is not intended to be a comprehensive list of all of our
accounting policies. In many cases, the accounting treatment of a particular
transaction is specifically dictated by accounting principles generally accepted
in the United States, with no need for management's judgement in their
application. There are also areas in which the exercise of management's
judgement in selecting an available alternative would not produce a materially
different result. See our audited consolidated financial statements and notes
thereto which begin on page F-1 of the Annual Report on Form 10-K for the year
ended December, 31, 2001 and which contain accounting policies and other
disclosures required by generally accepted accounting principles.
15
FACTORS THAT COULD AFFECT FUTURE RESULTS
References in these risk factors to "we," "our," the "Company," and "us"
refer to Concord Communications, Inc., a Massachusetts corporation. Any
investment in our common stock involves a high degree of risk. If any of the
following risks actually occur, our business, results of operations and
financial condition would likely suffer.
This document contains forward-looking statements. Any statements contained
in this document that do not describe historical facts are forward-looking
statements. Concord makes such forward-looking statements under the provisions
of the "safe harbor" section of the Private Securities Litigation Reform Act of
1995. In particular, statements contained in Management's Discussion and
Analysis of Financial Condition and Results of Operations, which are not
historical facts (including, but not limited to, statements concerning: the
plans and objectives of management; increases in sales and marketing, research
and development, customer support and service, and general and administrative
expenses; expectations regarding increased competition and Concord's ability to
compete successfully; sustenance of revenue growth both domestically and
internationally; the size, scope and description of Concord's target customer
market; future product development, including but not limited to anticipated
expense levels to fund product development, acquisitions and the integration of
acquired companies; and our expected liquidity and capital resources) constitute
forward-looking statements. Forward-looking statements contained herein are
based on current expectations, but are subject to a number of risks and
uncertainties. Concord's actual future results may differ significantly from
those stated in any forward-looking statements. Factors that may cause such
differences include, but are not limited to, the factors discussed below.
OUR FUTURE OPERATING RESULTS ARE UNCERTAIN.
Prior to 2001, we marketed and sold our products primarily in the
performance management market. In 2001, our product functionality was expanded
to include both fault and performance management features to penetrate the fault
management market. Accordingly, we have a limited operating history in this
expanded market upon which we can evaluate our business. As currently developed,
our product is an integrated fault and performance management tool that manages
applications, systems and networks. The integrated fault and performance market
is highly competitive and rapidly evolving. Additionally, many of our
competitors in this new market have a longer operating history and greater
resources. Our limited operating history and the uncertain economic climate
makes the prediction of future results of operations difficult or impossible.
Our prospects must be considered in light of the risks, costs, and difficulties
frequently encountered by emerging companies operating in the highly competitive
software industry.
THE MARKET FOR INTEGRATED FAULT AND PERFORMANCE MANAGEMENT SOFTWARE IS EMERGING.
The market for our integrated fault and performance solution is in an early
stage of development. Although the rapid expansion and increasing complexity of
computer applications, systems, and networks in recent years has increased the
demand for fault and performance management software products, the awareness of,
and the need for, an integrated fault and performance solution is a recent
development. Because the market for this solution is only beginning to develop,
it is difficult to assess:
- the size of this market;
- the appropriate features and prices for products to address this market;
- the optimal distribution strategy; and
- the competitive environment that will develop.
The development of this market and our growth will depend significantly
upon the desire and success of telecommunication carriers, managed services
providers, and enterprises to integrate fault and performance management for
their applications, systems, and networks. Moreover, it will depend on the
willingness of telecommunication carriers, managed service providers, systems
integrators, and outsourcers to integrate fault and performance management
software into their product and service offerings. The market for integrated
fault and performance management software may not grow or we may fail to assess
and address the needs of this market.
16
THE MARKET FOR OUR PRODUCTS IS INTENSELY COMPETITIVE.
The market for our products is new, intensely competitive, rapidly
evolving, and subject to technological change. Our current and future
competitors include:
- report toolset vendors;
- fault management software vendors;
- application performance software vendors;
- enterprise management software, framework and platform providers;
- large, well established management framework companies that have
developed network management platforms;
- developers of network element management solutions;
- probe vendors.
We expect competition to persist, increase, and intensify in the future
with possible price competition developing in our markets. Many of our current
and potential competitors have longer operating histories and significantly
greater financial, technical and marketing resources and name recognition than
us. We do not believe our market will support a large number of competitors and
their products. If we do not provide products that achieve success in our market
in the short term, we could suffer an insurmountable loss in market share and
brand name acceptance. We cannot ensure that we will compete effectively with
current and future competitors.
THE MARKET FOR PERFORMANCE AND FAULT MANAGEMENT OF SOFTWARE APPLICATIONS,
SYSTEMS AND NETWORKS IS BECOMING INCREASINGLY TARGETED BY LARGER COMPANIES WITH
SUBSTANTIALLY GREATER RESOURCES.
A considerable portion of our revenue is generated from sales of products
that manage both the fault and performance aspects of software applications and
systems. This market is very competitive and we are in direct competition with
larger companies with substantially greater resources. These larger companies
are able to devote considerable resources to the development of competitive
products and the creation and maintenance of direct and indirect sales channels.
The continued presence of these larger companies in this market may impact our
ability to retain or increase our market share.
MARKET ACCEPTANCE OF OUR EHEALTH(TM) PRODUCT FAMILY IS CRITICAL TO OUR SUCCESS.
We currently derive substantial product revenues from our eHealth(TM)
product family, and we expect that revenues from these products will continue to
account for almost all of our product revenues in the foreseeable future. Broad
market acceptance of these products is critical to our future success. We cannot
ensure that market acceptance of our eHealth(TM) Suite of products will increase
or even remain at current levels. Factors that may affect the market acceptance
of our integrated solution include:
- the availability and price of competing solutions, products and
technologies; and
- the success of our sales efforts and those of our marketing partners.
Moreover, if demand for integrated fault and performance management
software products increases, we anticipate that our competitors will introduce
additional competitive products and new competitors could enter our market and
offer alternative products resulting in decreased market acceptance of our
products.
WE MAY NEED FUTURE CAPITAL FUNDING.
We plan to continue to expend substantial funds on the continued
development, marketing, and sale of the eHealth(TM) product family. We cannot
ensure that our existing capital resources, the proceeds from our initial public
offering during October 1997, and any funds that may be generated from future
operations together will be sufficient to finance our future operations or that
other sources of funding will be available on terms acceptable to us, if at all.
17
In addition, future sales of substantial amounts of our securities in the public
market could adversely affect prevailing market prices and could impair our
future ability to raise capital through the sale of our securities.
WE MUST INTRODUCE PRODUCT ENHANCEMENTS AND NEW PRODUCTS ON A TIMELY BASIS.
Because of rapid technological change in the software industry and
potential changes in the IT infrastructure, fault and performance management
software market, and changes in industry standards, the life cycle of versions
of our eHealth(TM) products is difficult to estimate. We cannot ensure that:
- we will successfully develop and market enhancements to our
eHealth(TM) products or successfully develop new products that respond
to technological changes, evolving industry standards or customer
requirements;
- we will not experience difficulties that could delay or prevent the
successful development, introduction and sale of such enhancements or
new products; or
- such enhancements or new products will adequately address the
requirements of the marketplace and achieve market acceptance.
THE NEED FOR OUR PRODUCTS MAY DECREASE IF MANUFACTURERS INCORPORATE OUR PRODUCT
FEATURES INTO THEIR PRODUCT OFFERINGS.
Our products manage the performance of computer applications, systems, and
networks. Presently, manufacturers of both hardware and software have not
implemented these management functions into their products in any significant
manner. These products typically include, but are not limited to, operating
systems, workstations, network devices, and software. If manufacturers begin to
incorporate these management functions into their products it may decrease the
value of our products and have a substantial impact on our business.
WE CANNOT ENSURE THAT OUR REVENUES WILL GROW OR THAT WE WILL BE PROFITABLE.
As a company, we have expended considerable resources to develop innovative
products that have enabled us to penetrate new markets both in the United States
and internationally. As a result of these efforts, we achieved revenue growth
and profitability for the fiscal years ended 2000, 1999, and 1998. However, as
the worldwide economy weakened in 2001, our revenues did not grow at expected
levels. We operated at a net loss and we cannot ensure that we can generate
revenue growth on a quarterly or annual basis, or that we can achieve or sustain
any revenue growth in the future. Our annual revenue in 2002 may be lower than
our annual revenue in 2001.
In an effort to return to profitability, we have reduced our operating
expenses for 2001 and plan to continue to limit operating expenses for 2002.
However, competition in the marketplace may require us to increase our operating
expenses in the future in order to:
- fund higher levels of research and development;
- increase our sales and marketing efforts;
- develop new distribution channels;
- broaden our customer support capabilities; and
- expand our administrative resources in anticipation of future growth.
To the extent that increases in our expenses precede or are not followed by
increased revenue, our profitability will continue to suffer. Our revenue must
grow substantially in order for us to become profitable on a quarterly or annual
basis. In addition, in view of the rapidly evolving nature of our business and
markets and our limited operating history in our current market, we believe that
one should not rely on period-to-period comparisons of our financial results as
an indication of our future performance.
18
OUR QUARTERLY OPERATING RESULTS MAY FLUCTUATE.
We are likely to experience significant fluctuations in our quarterly
operating results caused by many factors, including, but not limited to:
- changes in the demand for our products by customers or group of
customers;
- the timing, composition, and size of orders from our customers,
including the tendency for significant bookings to occur in the last
month of each fiscal quarter;
- our customers' spending patterns and budgetary resources for fault and
performance management software solutions;
- the success of our new customer generation activities;
- introductions or enhancements of products, or delays in the
introductions or enhancements of products, by us or our competitors;
- changes in our pricing policies or those of our competitors;
- changes in the distribution channels through which products are sold;
- our success in anticipating and effectively adapting to developing
markets and rapidly changing technologies;
- our success in attracting, retaining, and motivating qualified
personnel;
- changes in the features and functions of products sold by us and our
competitors;
- the publication of opinions about us and our products, or our
competitors and their products, by industry analysts or others;
- changes in general economic conditions; and
- geopolitical conditions in the world.
Though our services revenue has been increasing as a percentage of total
revenues, we do not have a significant ongoing revenue stream that may mitigate
quarterly fluctuations in operating results, as do other software companies with
a longer history of operations. Increases in our revenues will also depend on
our successful implementation of our distribution strategy as we attempt to
expand our channels of distribution. Due to the buying patterns of certain of
our customers and also to our own sales incentive programs focused on annual
sales goals, revenues in our fourth quarter could be higher than revenues in our
first quarter of the following year. There also may be other factors, such as
seasonality and the timing of receipt and delivery of orders within a fiscal
quarter, that significantly affect our quarterly results, which are difficult to
predict given our limited operating history.
Our quarterly sales and operating results depend generally on:
- the volume and timing of orders within the quarter;
- the tendency of sales to occur late in fiscal quarters; and
- our fulfillment of orders received within the quarter.
A significant portion of our product sales occur in the final month of each
fiscal quarter. Any delay in the shipment of products prior to the end of the
quarter may result in decreased revenues for the quarter. Additionally, intense
competition and budgetary constraints placed upon our customers typically
increase during the final month of a fiscal quarter and may adversely affect the
revenues for that quarter.
In addition, our expense levels are based in part on our expectations of
future orders and sales, which are extremely difficult to predict. A substantial
portion of our operating expenses is related to personnel, facilities, and
19
sales and marketing programs. Accordingly, we may not be able to adjust our
fixed expenses quickly enough to address any significant shortfall in demand for
our products in relation to our expectations.
Due to all of the foregoing factors, we believe that our quarterly
operating results are likely to vary significantly in the future. Therefore, in
some future quarter our results of operations may fall below the expectations of
securities analysts and investors. In such event, the trading price of our
common stock would likely suffer.
THE IMPACT OF THE RECENT TERRORIST ATTACKS AND THE RISK OF FUTURE TERRORIST
ATTACKS MAY ADVERSELY IMPACT OUR REVENUE.
The tragic events of September 11, 2001 impacted our sales to companies in
the New York City area and our sales to the United States government. These
markets have not yet recovered from the events of September 11, 2001 and it is
impossible to determine when, and if, they will recover. Sales in the New York
City area and sales to the United States government are a significant source of
revenue for us and our business may be adversely affected as these areas
recover. Additionally, recent terrorist warnings, both in the United States and
internationally, suggest the possibility of future terrorist attacks. As we sell
products both in the United States and internationally, the occurrence of future
terrorist attacks may adversely affect our business.
OUR SUCCESS IS DEPENDENT UPON SALES TO TELECOMMUNICATION CARRIERS, SERVICE
PROVIDERS, AND ENTERPRISE CUSTOMERS.
We derive and likely will continue to derive a significant portion of our
revenues from the sales of our products to telecommunication carriers, service
providers, and enterprise customers. These markets worldwide have suffered from
a turbulent economy during 2000 and 2001, turbulence that has been exacerbated
by the tragic events of September 11, 2001 and their aftermath. Concord has been
negatively affected by the downturn in capital spending within this market. The
volume of sales of our products and services to telecommunication carriers,
service providers, and enterprise customers may increase slower than we expect
or may decrease.
OUR COMMON STOCK PRICE COULD EXPERIENCE SIGNIFICANT VOLATILITY.
The market price of our common stock may be highly volatile and could be
subject to wide fluctuations in response to:
- variations in results of operations;
- announcements of technological innovations or new products by us or our
competitors;
- changes in financial estimates by securities analysts; or
- other events or factors.
In addition, the financial markets have experienced significant price and
volume fluctuations that have particularly affected the market prices of equity
securities of many high technology companies and that often have been unrelated
to the operating performance of such companies or have resulted from the failure
of the operating results of such companies to meet market expectations in a
particular quarter. Broad market fluctuations or any failure of our operating
results in a particular quarter to meet market expectations may adversely affect
the market price of our common stock leading to an increased risk of securities
class action litigation. Such litigation could result in substantial costs and a
diversion of our attention and resources.
OUR INDUSTRY IS SUBJECT TO RAPID TECHNOLOGICAL CHANGE. OUR SUCCESS DEPENDS UPON
MAINTENANCE OF STANDARD PROTOCOLS.
The software industry is characterized by:
- rapid technological change;
- frequent introductions of new products;
20
- changes in customer demands; and
- evolving industry standards.
The introduction of products embodying new technologies and the emergence
of new industry standards can render existing products and integrated solutions
obsolete and unmarketable. Our eHealth(TM) - Network product's analysis and
reporting, as well as the quality of its reports, depends upon its utilization
of the industry-standard Simple Network Management Protocol (SNMP) and the data
resident in conventional Management Information Bases (MIBs). Any change in
these industry standards, the development of vendor-specific proprietary MIB
technology, or the emergence of new network technologies could affect the
compatibility of our eHealth(TM) - Network products with these devices, which in
turn could affect its analysis and generation of comprehensive reports or the
quality of the reports. Similarly, our Live Health(TM) - Fault Manager product
receives only SNMP traps from failing devices, systems, and applications. Any
change in these industry standards could hinder the effectiveness of this
product. Furthermore, although our eHealth(TM) Suite of products currently runs
on industry-standard UNIX operating systems and Windows NT, any significant
change in industry-standard operating systems could affect the demand for, or
the pricing of, our products and solutions.
WE RELY ON STRATEGIC PARTNERS AND OTHER EVOLVING DISTRIBUTION CHANNELS.
Our distribution strategy is to develop multiple distribution channels,
including sales through:
- strategic marketing partners;
- value added resellers;
- system integrators;
- telecommunication carriers;
- original equipment manufacturers ("OEMs"); and
- independent software vendors and international distributors.
We have developed a number of these relationships and intend to continue to
develop new "channel partner" relationships. Our success will depend in large
part on our development of these additional distribution relationships and on
the performance and success of these third parties, particularly
telecommunication carriers and other network service providers. We sell our
products in the United States through both direct sales to customers and
indirect sales to customers through our channel partners. Internationally, we
sell our products almost exclusively through indirect sales via our channel
partners. Our international channel partners are located in Europe, the Middle
East, Africa, Asia, and North and South America and are subject to local laws,
regulations, and customs that may make it difficult to accurately assess the
potential revenue that can be generated from a certain market. Our success
depends upon our ability to attract and retain valuable channel partners and to
accurately assess the size and vitality of the markets in which our products are
sold. While we have implemented policies and procedures to achieve this, we
cannot predict the extent to which we are able to attract and retain valuable
channel partners. Additionally, our channel partners may not be successful in
marketing and selling our products. We may:
- fail to attract important and effective channel partners;
- fail to penetrate our targeted market segments through the use of
channel partners; or
- lose any of our channel partners, as a result of competitive products
offered by other companies, or products developed internally by these
channel partners or otherwise.
WE MAY FAIL TO MANAGE SUCCESSFULLY OUR GROWTH.
We have experienced significant growth in our sales and operations
personnel; our products have become increasingly complex; and our product
distribution channels are being developed and expanded. Our growth, coupled with
the rapid evolution of our markets, has placed, and is likely to continue to
place, significant strains on
21
our administrative, operational, and financial resources and increase demands on
our internal systems, procedures, and controls that may affect the overall
profitability of the company.
OUR SUCCESS DEPENDS ON OUR RETENTION OF KEY PERSONNEL.
Our performance depends substantially on the performance of our key
technical and senior management personnel. We may lose the services of any of
such persons. We do not maintain key person life insurance policies on any of
our employees. Our success depends on our continuing ability to identify, hire,
train, motivate, and retain highly qualified management, technical, and sales
and marketing personnel. We experience intense competition for such personnel
and are constantly exploring new avenues for attracting and retaining key
personnel. However, we cannot ensure that we will successfully attract,
assimilate, or retain highly qualified technical, managerial or sales and
marketing personnel in the future.
OUR FAILURE TO EXPAND INTO INTERNATIONAL MARKETS COULD HARM OUR BUSINESS.
We intend to continue to expand our operations outside of the United States
and enter additional international markets, primarily through the establishment
of channel partner arrangements. We expect to commit additional time and
development resources to customizing our products and services for selected
international markets and to developing international sales and support
channels. We cannot ensure that such efforts will be successful.
We face certain difficulties and risks inherent in doing business
internationally, including, but not limited to:
- costs of customizing products and services for international markets;
- dependence on independent resellers;
- multiple and conflicting regulations;
- exchange controls;
- longer payment cycles;
- unexpected changes in regulatory requirements;
- import and export restrictions and tariffs;
- difficulties in staffing and managing international operations;
- greater difficulty or delay in accounts receivable collection;
- potentially adverse tax consequences;
- the burden of complying with a variety of laws outside the United
States;
- the impact of possible recessionary environments in economies outside
the United States;
- political and economic instability; and
- exposure to foreign currency fluctuations.
Our successful expansion into certain countries will require additional
modification of our products, particularly national language support. Presently,
virtually all of our current export sales are denominated in United States
dollars. To the extent that international sales do continue to be denominated in
U.S. dollars, an increase in the value of the United States dollar relative to
other currencies could make our products and services more expensive and,
therefore, potentially less competitive in international markets. In certain
European Union countries, however, we have introduced pricing in Euros in 2002.
To the extent that future international sales are denominated in foreign
currency, our operating results will be subject to risks associated with foreign
currency fluctuation. Additionally, as we increase our international sales,
seasonal fluctuations in revenue generation resulting from lower sales that
typically occur during the summer months in Europe and other parts of the world
may affect our total revenues.
22
OUR FAILURE TO PROTECT OUR INTELLECTUAL PROPERTY RIGHTS MAY HARM OUR COMPETITIVE
POSITION.
Our success depends significantly upon our proprietary technology. We rely
on a combination of patent, copyright, trademark and trade secret laws,
non-disclosure agreements, and other contractual provisions to establish,
maintain, and protect our proprietary rights. These means afford only limited
protection.
We have ten issued and seven pending U.S. patents, and various foreign
counterparts. We cannot ensure that patents will issue from our pending
applications or from any future applications or that, if issued, any claims
allowed will be sufficiently broad to protect our technology. In addition, we
cannot ensure that any patents that have been or may be issued will not be
challenged, invalidated or circumvented, or that any rights granted by those
patents would protect our proprietary rights. Failure of any patents to protect
our technology may make it easier for our competitors to offer equivalent or
superior technology.
We have sought also to protect our intellectual property through the use of
copyright, trademark, and trade secret laws. Despite our efforts to protect our
proprietary rights, unauthorized parties may attempt to copy aspects of our
products or services, or to obtain and use information that we regard as
proprietary. Third parties may also independently develop similar technology
without breach of our proprietary rights.
In addition, the laws of some foreign countries do not protect proprietary
rights to as great an extent as do the laws of the United States. In addition,
many of our products are licensed under end user license agreements (also known
as "shrinkwrap" licenses) that are not signed by licensees. The law governing
the enforceability of shrinkwrap license agreements is not settled in most
jurisdictions. There can be no guarantee that we would achieve success in
enforcing one or more shrinkwrap license agreements if we sought to do so in a
court of law.
WE LICENSE CERTAIN TECHNOLOGIES FROM THIRD PARTIES.
We license from third parties, generally on a non-exclusive basis, certain
technologies used in our products. The termination of any such licenses, or the
failure of the third-party licensors to adequately maintain or update their
products, could result in delay in our shipment of certain of our products while
we seek to implement technology offered by alternative sources, and any required
replacement licenses could prove costly. While it may be necessary or desirable
in the future to obtain other licenses relating to one or more of our products
or relating to current or future technologies, we cannot ensure that we will be
successful in doing so on commercially reasonable terms or at all.
INTELLECTUAL PROPERTY INFRINGEMENT CLAIMS WOULD HARM OUR BUSINESS.
Although we do not believe that we are infringing upon the intellectual
property rights of others, claims of infringement are becoming increasingly
common as the software industry develops legal protections for software
products. Litigation may be necessary to protect our proprietary technology, and
third parties may assert infringement claims against us with respect to their
proprietary rights. Any claims or litigation can be time-consuming and expensive
regardless of their merit. Infringement claims against us can cause product
release delays, require us to redesign our products, or require us to enter into
royalty or license agreements, which agreements may not be available on terms
acceptable to us or at all.
PRODUCT DEFECTS COULD RESULT IN THE LOSS OF OR DELAY IN MARKET ACCEPTANCE OF OUR
PRODUCTS.
As a result of their complexity, software products may contain undetected
errors or failures when first introduced or as new versions are released. We
cannot ensure that, despite testing by us and testing and use by current and
potential customers, errors will not be found in new products we ship or, if
discovered, that we will successfully correct such errors in a timely manner or
at all. The occurrence of errors and failures in our products could result in
loss of, or delay in, market acceptance of our products, and alleviating such
errors and failures could require significant expenditure of capital and other
resources by us.
23
WE MAY NOT HAVE SUFFICIENT PROTECTION AGAINST PRODUCT LIABILITY CLAIMS.
Because our products are used by our customers to identify and predict
current and future application, system, and network problems and to avoid
failures of the network to support critical business functions, design defects,
software errors, misuse of our products, incorrect data from network elements,
or other potential problems, within or out of our control, may arise from the
use of our products and could result in financial or other damages to our
customers. While we do not maintain product liability insurance, our license
agreements with our customers typically contain provisions designed to limit our
exposure to potential claims as well as any liabilities arising from such
claims. As a matter of practice, our license agreements limit our liability in
regards to product liability claims, and in many agreements, our maximum
liability for product liability claims is limited to the equivalent of the cost
of the products licensed under that agreement. However, any litigation or
similar procedure related to a product liability claim may require considerable
resources to be expended that could adversely affect the business and decrease
future revenue.
24
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
DERIVATIVE FINANCIAL INSTRUMENTS, OTHER FINANCIAL INSTRUMENTS AND DERIVATIVE
COMMODITY INSTRUMENTS. The Company does not have any derivative financial
instruments, other financial instruments or derivative commodity instruments for
which fair value disclosure would be required. All of the Company's investments
are in investment grade securities with high credit ratings of relatively short
duration that trade in highly liquid markets and are carried at fair value on
the Company's books. Accordingly, the Company has no quantitative information
concerning the market risk of participating in such investments.
PRIMARY MARKET RISK EXPOSURES. The Company's primary market risk exposure is in
the area of interest rate risk. The Company's investment portfolio of cash
equivalents and marketable securities is subject to interest rate fluctuations,
but the Company believes this risk is immaterial due to the short-term nature of
these investments. Substantially all of the Company's business outside the
United States is conducted in U.S. dollar-denominated transactions, whereas the
Company's operating expenses in its international branches are denominated in
local currency. The Company has no foreign exchange contracts, option contracts
or other foreign hedging arrangements. The Company believes that the operating
expenses of its foreign operations are immaterial, and therefore any associated
market risk is unlikely to have a material adverse effect on the Company's
business, results of operations or financial condition.
The Company's current export sales are denominated in United States dollars. To
the extent that international sales continue to be denominated in United States
dollars, an increase in the value of the United States dollar relative to other
currencies could make the Company's products and services more expensive and,
therefore, potentially less competitive in international markets.
25
CONCORD COMMUNICATIONS, INC.
FORM 10-Q, MARCH 31, 2002
PART II: OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The Company is not a party to any litigation that it believes could have a
material adverse effect on the business, results of operations and financial
condition of the Company.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
(a) Issuance of Securities
On February 4, 2000, the Company completed a merger with FirstSense
Software, Inc. The Company has reserved for issuance in connection with the
merger, 1,940,000 shares of Concord Common Stock. The Company issued the shares
in a private placement transaction pursuant to Section 4(2) under the Securities
Act of 1933. The merger was accounted for as a pooling of interests. The Company
has filed a Form S-3 Registration Statement to cover the resale of the
securities issued in the merger.
(b) Use of Proceeds
On October 16, 1997, the Company commenced an initial public offering
("IPO") of 2,900,000 shares of common stock, par value $.01 per share (the
"Common Stock"), of the Company pursuant to the Company's final prospectus dated
October 15, 1997 (the "Prospectus"). The Prospectus was contained in the
Company's Registration Statement on Form S-1, which was declared effective by
the Securities and Exchange Commission (SEC File No. 333-33227) on October 15,
1997. Of the 2,900,000 shares of Common Stock offered, 2,300,000 shares were
offered and sold by the Company and 600,000 shares were offered and sold by
certain shareholders of the Company. As part of the IPO, the Company granted the
several underwriters an overallotment option to purchase up to an additional
435,000 shares of Common Stock (the "Underwriters' Option"). The IPO closed on
October 21, 1997 upon the sale of 2,900,000 shares of Common Stock to the
underwriters. On October 24, 1997, the Representatives, on behalf of the several
underwriters, exercised the Underwriters' Option, purchasing 435,000 additional
shares of Common Stock from the Company. The aggregate offering price of the
shares of Common stock in the IPO to the public was $40,600,000 (exclusive of
the Underwriters' Option), with proceeds to the Company and selling
shareholders, after deduction of the underwriting discount, of $29,946,000
(before deducting offering expenses payable by the Company) and $7,812,000
respectively. The aggregate offering price of the Underwriters' Option exercised
was $6,090,000, with proceeds to the Company, after deduction of the
underwriting discount, of $5,663,700 (before deducting offering expenses payable
by the Company). The aggregate amount of expenses incurred by the Company in
connection with the issuance and distribution of the shares of Common Stock
offered and sold in the IPO were approximately $3.6 million, including $2.7
million in underwriting discounts and commissions and $950,000 in other offering
expenses. The net proceeds to the Company from the IPO, after deducting
underwriting discounts and commissions and other offering expenses were
approximately $34.7 million. To date, the Company has not utilized any of the
net proceeds from the IPO. The Company has invested all such net proceeds
primarily in US treasury obligations and other interest bearing investment grade
securities.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Not Applicable
26
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 - None
27
CONCORD COMMUNICATIONS, INC.
FORM 10-Q, MARCH 31, 2002
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Concord Communications, Inc.
/s/ Melissa H. Cruz
------------------------------------------
April 23, 2002 Name: Melissa H. Cruz
Title: Executive Vice President of Business
Services and Chief Financial Officer
(Principal Financial Officer and
Principal Accounting Officer)
28