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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2003
COMMISSION FILE NUMBER 0-020992
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INSIGHTFUL CORPORATION
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 04-2842217
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION)
1700 WESTLAKE AVE. N. #500
SEATTLE, WASHINGTON 98109-3044
(206) 283-8802
(ADDRESS AND TELEPHONE NUMBER OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
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SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
COMMON STOCK, $.01 PAR VALUE
(TITLE OF CLASS)
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Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [X]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in rule 12b-2 of the Securities Exchange Act of 1934). Yes [ ] No [X]
The aggregate market value of the voting stock held by nonaffiliates of the
registrant, based on the closing sale price of the registrant's common stock on
June 30, 2003, as reported on the Nasdaq SmallCap Market, was $10,716,994. The
number of shares of common stock, $.01 par value, outstanding as of April 13,
2004 was 12,129,898.
DOCUMENTS INCORPORATED BY REFERENCE IN PART III OF THIS 10-K:
Portions of registrant's definitive proxy statement to be filed pursuant to
Regulation 14A promulgated by the Securities and Exchange Commission under the
Securities Exchange Act of 1934, which definitive proxy statement shall be filed
within 120 days after the end of the registrant's fiscal year ended December 31,
2003, are incorporated by reference in Part III of this report.
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TABLE OF CONTENTS
PAGE
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PART I
ITEM 1. BUSINESS. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1
ITEM 2. PROPERTIES. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 12
ITEM 3. LEGAL PROCEEDINGS . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 12
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY-HOLDERS . . . . . . . . . . . . . . . . . . . . . . 12
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS . . . . . . . . . . . . . 13
ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS . . . . . 15
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK. . . . . . . . . . . . . . . . . . . 27
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA . . . . . . . . . . . . . . . . . . . . . . . . . . 28
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE. . . . . . 53
ITEM 9A. CONTROLS AND PROCEDURES . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 53
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT. . . . . . . . . . . . . . . . . . . . . . . 54
ITEM 11. EXECUTIVE COMPENSATION. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 54
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS. 54
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS. . . . . . . . . . . . . . . . . . . . . . . . . 54
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES. . . . . . . . . . . . . . . . . . . . . . . . . . . . . 54
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K. . . . . . . . . . . . . . . . 55
SIGNATURES. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 58
TRADEMARKS
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Insightful Corporation, the Insightful logo, "Insightful Intelligence From
Data", S-PLUS, S-PLUS Analytic Server, StatServer, InFact, Graphlet and S-PLUS
Graphlets are registered trademarks of Insightful Corporation. S,
ArrayAnalyzer, FinMetrics, Anatolytics, "Human-like Intelligence", Visimine,
InCRMent, Garch, SpatialStats and SeqTrial are trademarks of Insightful
Corporation.
i
PART I
FORWARD-LOOKING STATEMENTS
Our disclosure and analysis in this report contain forward-looking
statements, which provide our current expectations or forecasts of future
events. Forward-looking statements in this report include, without limitation:
- information concerning possible or assumed future results of
operations, trends in financial results and business plans, including
those relating to earnings growth and revenue growth;
- statements about the level of our costs and operating expenses
relative to our revenues, and about the expected composition of our
revenues;
- statements about expected future sales trends for our products;
- statements about our future capital requirements and the sufficiency
of our cash, cash equivalents, investments and available bank
borrowings to meet these requirements;
- information about the anticipated release dates of new products;
- other statements about our plans, objectives, expectations and
intentions; and
- other statements that are not historical facts.
Words such as "believes," "anticipates" and "intends" may identify
forward-looking statements, but the absence of these words does not necessarily
mean that a statement is not forward-looking. Forward-looking statements are
subject to known and unknown risks and uncertainties and are based on
potentially inaccurate assumptions that could cause actual results to differ
materially from those expected or implied by the forward-looking statements. Our
actual results could differ materially from those anticipated in the
forward-looking statements for many reasons, including the factors described in
the section entitled Important Factors That May Affect Our Business, Our
Operating Results and Our Stock Price in this report. Other factors besides
those described in this report could also affect actual results. You should
carefully consider the factors described in the section entitled Important
Factors That May Affect Our Business, Our Operating Results and Our Stock Price
in evaluating our forward-looking statements.
You should not unduly rely on these forward-looking statements, which speak
only as of the date of this report. We undertake no obligation to publicly
revise any forward-looking statement to reflect circumstances or events after
the date of this report, or to reflect the occurrence of unanticipated events.
ITEM 1. BUSINESS.
DESCRIPTION OF THE COMPANY
We provide enterprises with scalable data analysis solutions designed that
facilitate decision-making by revealing patterns, trends and relationships. We
are a leading supplier of software and services for the statistical analysis,
data mining and knowledge access industry segments enabling customers to gain
intelligence from numerical data and text.
Our products include S-PLUS(R), StatServer(R), S-PLUS Analytic Server(R),
Insightful Miner and InFact(R). Our consulting services provide specialized
expertise and proven processes for the design, development and deployment of
analytical solutions.
We have been delivering data analysis solutions for 17 years to companies
in financial services, pharmaceuticals, biotechnology, telecommunications and
manufacturing as well as government and research institutions.
Headquartered in Seattle, Washington, we also have North American offices
in New York and North Carolina. Our international offices are located in France,
Switzerland, and the United Kingdom, with distributors around the world.
We originally incorporated in Massachusetts in 1984 and reincorporated in
Delaware in 2001. Our principal executive offices are located at 1700 Westlake
Ave. N, Suite 500, Seattle, Washington 98109, and our telephone number is (206)
283-8802. Our Internet address is http://www.insightful.com.
PRODUCTS
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DATA ANALYSIS PRODUCTS
S-PLUS(R)
S-PLUS is our flagship product for statistical data analysis. The software
offers technical professionals a flexible, extensible and productive platform
for data analysis and visualization. S-PLUS is based on our award-winning
object-oriented "S" programming language, which we licensed on an exclusive
worldwide basis from Lucent Technologies Inc. until we acquired the rights to
"S" in January 2004. S-PLUS offers a wide range of analytic methods for
extracting intelligence from large data sets, and allows its users to create
customized analytical applications that operate in the Windows and UNIX
environments.
Insightful Miner
Insightful Miner is a highly scalable data analysis workbench for
predictive modeling, data mining and statistical data analysis. The intuitive
drag-and-drop interface makes it easy to create self-documenting visual
workmaps. Insightful Miner provides data miners, business analysts and data
analysis professionals with a full suite of scalable components for data access,
management and modeling, and its unique pipeline architecture allows the user to
process very large data sets. Insightful Miner is an open and extensible tool
that offers full integration with the S-PLUS programming language. Insightful
Miner offers deployment capabilities via batch mode, predictive model markup
language (PMML), or generated C code. Insightful Miner has a low cost of
ownership compared to its competitors, with a desktop entry-level version and
multiple server versions offered under perpetual licenses rather than annual
rental agreements.
Verticalized Toolkits
To complement S-PLUS and Insightful Miner, we offer toolkits for the
financial services and pharmaceutical markets to allow users to perform
specialized data analysis.
Server Products(R)
Insightful's S-Plus Server products enable our customers to deploy
statistical data analysis throughout an organization, leveraging existing
Web-based or client/server technologies using server computers running
Windows(R) and UNIX(R) operating systems. Our server products are data
warehouse-independent and integrate seamlessly with standard database and file
formats. With our server products, a wide range of statistical models and data
visualization capabilities are built and stored in a central server for access
by non-technical users, who can apply these analytical techniques using a simple
and familiar Web browser interface, or dedicated graphical user interfaces
written using Java technology. Our server products enable end-users to analyze
and understand technical or business information without requiring expertise in
statistics or statistical tools.
TEXT ANALYSIS PRODUCTS
InFact(R)
We launched our text analysis product, InFact, in April 2002 to provide
text analysis for knowledge workers. InFact combines statistical text mining
methods with linguistic techniques that apply natural language processing, such
as full sentence deep syntactic parsing, to text search and analysis.
Researchers are able to utilize InFact's natural language question and answer
and tabular exploratory search interfaces to efficiently uncover information
they are searching for. InFact thus enables researchers to experience higher
levels of productivity, and to improve the quality of their research. InFact has
been initially targeted at the defense/intelligence and pharmaceutical markets.
SERVICES
We deliver support for our data analysis products through our maintenance,
consulting, and training services.
We provide product updates and unspecified product upgrades and customer
support services under an annual maintenance agreement. Our consulting and
training organization provides fee-based services, including deployment
assistance, project management, integration with existing customer applications
and related services to our customers. We also offer a series of fee-based
training courses to our customers. Courses can be taken at Insightful offices,
at the customer's site, or at other prearranged sites for larger customer
groups.
OPERATIONS
MARKETING AND SALES
Our data analysis solutions serve a variety of industries including
financial services, pharmaceuticals and biotechnology, telecommunications,
manufacturing, plus government and research. Our data analysis solutions are
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used in a variety of functions including research, engineering, production,
marketing, and finance. We focus our statistics and data analysis business on
two vertical markets: financial services and pharmaceuticals.
We acquire domestic customers for our products and consulting services
through the combination of a domestic telesales organization and an outside
sales team. Leads are generated from direct mail, public relations, the
Internet, seminars and tradeshows. Our telesales and direct sales forces then
qualify and pursue these leads, working in coordination with consulting
services.
Internationally, we have direct sales force offices in France, Switzerland
and the United Kingdom. In other countries, we primarily sell through a network
of resellers and distributors, who may work in conjunction with the direct sales
force on global accounts. For information regarding revenues by geography,
please refer to note 14 to our financial statements included in this report.
Insightful has three reporting segments: domestic data analysis,
international data analysis and text analysis. For information regarding
revenues and losses from operations for each of our last three fiscal years,
please refer to our financial statements included in this report.
The text analysis segment is currently dependent on a few customers, all of
which are departments of the United States government. The loss of any one or
more of these customers would have a material adverse effect on the segment.
CUSTOMER TECHNICAL SUPPORT
Technical support for our products is provided by a staff of engineers
located in Seattle and other direct offices in Europe. Support is only available
to customers who purchase an annual maintenance service. The initial one-year
maintenance contract is bundled into the license fees on most of our products.
International customers who purchase products from distributors receive
first-line technical support from their respective local distributors, with
further support and escalation provided by our direct offices.
MANUFACTURING AND DISTRIBUTION
We utilize several third party vendors to replicate our products. This
permits us to manage peak volumes customary in the software industry and to
avoid high fixed costs associated with daily fluctuations in orders and customer
contacts.
We subcontract with third party vendors to replicate all of our S-PLUS
product line updates. We warehouse inventory at a regional facility and process
domestic orders internally out of our Seattle office. Most international orders
are processed and fulfilled by third party vendors located in the United Kingdom
that also provide warehousing and fulfillment services.
FUNDED RESEARCH
We have a funded research group that receives funding from U.S. federal
agencies for work performed under government grants. Research projects are
primarily performed under cost reimbursement arrangements, which provide funding
on a time and materials basis based on agency approved labor, overhead and
profit rates. The terms of these arrangements generally require us to submit
both progress and final reports. Research projects are focused primarily on
extending the frontiers of data analysis for numeric, textual signal and image
data. Funding is generally received through cash requests or installment
payments. These amounts are recognized either as the work is performed under
time and material contracts, or on a percentage of completion basis for fixed
bid contracts, and are recorded as an offset against our total research and
development costs. Receivables resulting from this activity are included in
other receivables on the balance sheets. Funded research recognized in
operations was approximately $4,307,000 in 2003, $4,674,000 in 2002 and
$4,827,000 in 2001.
PRODUCT DEVELOPMENT
Our product development organization is responsible for software
development, product documentation and quality assurance. The organization's
priorities are to continue technical innovation for power and performance and to
respond to market feedback by continuing to design products for ease-of-use.
Our development team consists of specialists in software engineering,
quality assurance, mathematics, statistics, computer science, engineering and
documentation, user interface design and advanced Microsoft Windows, UNIX and
Internet technologies.
Gross research and development costs charged to operations were
approximately $6,469,000 in 2003, $7,918,000 in 2002 and $7,574,000 in 2001. We
did not capitalize any software research and development costs during the year
ended December 31, 2003, as we did not incur significant software research and
development costs between the technological feasibility date and the general
release date.
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COMPETITION
Our S-PLUS product targets statisticians and data managers in the
statistics market. This market is competitive, fragmented and mature. We face
competition in the statistics market primarily from large enterprise software
vendors and our potential customers' information technology departments who may
create custom-made applications instead of using Insightful software. These
departments may seek to develop data analysis solutions utilizing R, a free
statistics software package that performs operations similar to the "S" language
that forms the core of our S-PLUS product. The dominant competitor in our
industry is SAS Institute. Other companies with which we compete include, but
are not limited to, SPSS, Inc., StatSoft Inc., The Mathworks, Inc. and Minitab,
Inc. In addition to competition from other statistical software companies, we
also face competition from providers of software for specific statistical
applications.
In the data mining and knowledge access markets, we face competition from
many companies, including SAS Institute, SPSS, IBM, NCR, Autonomy, Verity,
Inxight, ClearForest and Iphrase, many of which are much larger than we are.
With the exception of SAS and SPSS, these competitors do not currently offer the
range of analytical capability we offer, and as a result are both competitors
and potential partners for our technology.
INTELLECTUAL PROPERTY RIGHTS AND LICENSES
Our software is proprietary and we attempt to protect it with copyrights,
patents, trade secret laws and internal nondisclosure safeguards, as well as
restrictions on copying, disclosure and transferability that are incorporated
into our software license agreements. Generally, our products are not physically
copy-protected. In order to retain exclusive ownership rights to all software
developed by us, we license all software and provide it in executable code, with
contractual restrictions on copying, disclosure and transferability. As is
customary in the industry, we generally license our products to end-users by use
of a "shrink-wrap" license. Certain specialized products may utilize a written,
signed license agreement with the customer. The source code for most of our
products is protected as a trade secret and as unpublished copyrighted work. In
addition, we have entered into nondisclosure and inventions agreements with all
of our employees. However, judicial enforcement of these agreements may be
uncertain. We hold one issued patent on InFact and have several other patents
applications pending.
During the reporting period we were a worldwide licensee of the "S"
programming language from Lucent Technologies Inc. Under that license, we had
the right to use, sublicense and support the "S" language in exchange for
royalties. In January 2004 we acquired the copyrights to the software code
underlying the "S" programming language from Lucent for $2.0 million.
Due to the rapid pace of technological change in the software industry, we
believe that patent, trade secret and copyright protection are less significant
to our competitive position than factors such as the knowledge, ability and
experience of our personnel, new product development, frequent product
enhancements, name recognition and ongoing reliable product maintenance and
support.
EMPLOYEES
As of December 31, 2003, our continuing operations employed approximately
106 full-time and part-time employees, of whom 21 reside outside the United
States. As necessary, we supplement our employees with temporary and contract
personnel in our continuing operations. As of December 31, 2003, we employed 12
temporary and contract employees, one of whom was located outside the United
States. None of our employees is represented by a labor union or is subject to a
collective bargaining agreement. We have never experienced a work stoppage and
believe that our employee relations are good.
IMPORTANT FACTORS THAT MAY AFFECT OUR BUSINESS, OUR OPERATING RESULTS AND OUR
STOCK PRICE
In addition to the other information contained in this annual report, you
should carefully read and consider the following risk factors. If any of these
risks actually occur, our business, financial condition or operating results
could be adversely affected and the trading price of our common stock could
decline.
OUR OPERATING RESULTS FLUCTUATE AND COULD FALL BELOW EXPECTATIONS OF
SECURITIES ANALYSTS AND INVESTORS, RESULTING IN A DECREASE IN OUR STOCK
PRICE.
Our operating results have varied widely in the past, and we expect that
they could continue to fluctuate in the future. Our stock price could decrease
if our operating results for a particular quarter or year fall below the
expectations of securities analysts and investors. Some of the factors that
could affect the amount and timing of our revenues and related expenses and
cause our operating results to fluctuate include:
- our primary reliance on one product family;
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- our ability to penetrate new markets;
- our ability to develop, introduce and market new products on a timely
basis;
- market acceptance of our products;
- our ability to compete in the highly competitive statistics, data
mining and knowledge access markets;
- our ability to obtain government research contracts;
- our ability to expand our sales and support infrastructure;
- our ability to maintain our relationships with key partners;
- our ability to successfully expand our international operations;
- our ability to maintain third-party licenses;
- our inability to protect our intellectual property rights;
- our ability to attract and retain key employees or management team
members; and
- general economic conditions, which may affect our customers'
purchasing decisions;
As a result of these factors, we cannot predict our revenues and expenses
with certainty, and future product revenues may differ from historical patterns.
It is particularly difficult to predict the timing or amount of our license
revenues because:
- our sales cycles are lengthy and variable, typically ranging between
two and eight months from our initial contact with a potential
customer;
- for our newest products, we have no history by which to gauge the
sales cycles or acceptance rates;
- a substantial portion of our sales are completed at the end of the
quarter and, as a result, a substantial portion of our license
revenues are recognized in the last days of a quarter;
- the amount of unfulfilled orders for our products at the beginning of
a quarter is typically small; and
- delay of new product releases can result in a customer's decision to
delay execution of a contract or, for contracts that include the new
release as an element of the contract, will result in deferral of
revenue recognition until such release.
Even though our revenues are difficult to predict with certainty, we base
our decisions regarding our operating expenses on anticipated revenue trends.
Many of our expenses are relatively fixed, and we cannot quickly reduce spending
if our revenues are lower than expected. As a result, revenue shortfalls could
result in significantly lower income or greater loss than anticipated for any
given period, which could result in a decrease in our stock price.
IF POTENTIAL CUSTOMERS DO NOT CONTINUE TO PURCHASE THE S-PLUS PRODUCT
FAMILY, OUR REVENUES AND OPERATING RESULTS WILL BE ADVERSELY AFFECTED.
License revenues from the S-PLUS product and add-on modules account for
nearly all of our license revenues. We expect license revenues from the S-PLUS
product family to continue to account for a substantial amount of our future
revenues. As a result, factors adversely affecting the pricing of or demand for
the S-PLUS product family, such as competition or technological change, could
dramatically affect our operating results. If we are unable to successfully
deploy current versions of the S-PLUS product family and to develop, introduce
and establish customer acceptance of new and enhanced versions of the S-PLUS
product family, our revenues and operating results will be adversely affected.
IF WE ARE UNABLE TO PENETRATE NEW END-USER MARKETS WITH OUR CURRENT AND
FUTURE PRODUCTS, THE GROWTH OF OUR BUSINESS WILL BE LIMITED.
We focus our statistics business on two vertical markets: financial
services and pharmaceuticals. In order to grow our business at a satisfactory
rate, we will need to expand into new end-user markets within these two vertical
markets for our statistics software, and we must simultaneously develop and sell
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new products that address these and other markets. We will need to
simultaneously invest in the scalability and deployability of our statistics
product offerings and in the further development and enhancement of our data
mining and knowledge access products. These simultaneous investments may strain
our financial resources and diffuse management's time and attention. If any of
these initiatives fails, our business will not grow and could fail.
IF WE ARE UNSUCCESSFUL IN THE MARKETING AND SELLING OF INFACT AND
INSIGHTFUL MINER, OUR REVENUES AND OPERATING RESULTS WILL BE ADVERSELY
AFFECTED.
We cannot predict the degree to which our newest products, InFact and
Insightful Miner, will achieve market acceptance or the extent to which they
will perform as our customers expect. If our new products contain defects or
errors, or otherwise do not operate as expected, their market acceptance may be
delayed or limited, and our reputation may be damaged. If our new products such
as InFact do not achieve market acceptance in the timeframe we expect, we may
decide to discontinue further investment in them. If we are unsuccessful in
selling new products such as InFact, the growth of our business will be limited
and our revenues and operating results will be adversely affected.
MANY POTENTIAL CUSTOMERS ARE NOT YET AWARE OF THE BENEFITS OF KNOWLEDGE
ACCESS SOLUTIONS UTILIZING RELATIONSHIP SEARCH CAPABILITIES, AND OUR
PRODUCTS MAY NOT ACHIEVE MARKET ACCEPTANCE.
The market for knowledge access solutions is still emerging and continued
growth in demand for and acceptance of these solutions remains uncertain. Even
if this market grows, businesses may purchase our competitors' solutions or
develop their own. We intend to spend considerable resources educating potential
customers not only about our solutions but also about the value of such systems
in general. Even with these educational efforts, however, market acceptance of
our solutions may not increase. If our products do not achieve market
acceptance, our results will suffer.
IF WE ARE UNABLE TO COMPETE SUCCESSFULLY IN THE STATISTICS, DATA MINING AND
KNOWLEDGE ACCESS MARKETS, OUR BUSINESS WILL FAIL.
Our S-PLUS product suite targets the statistics and data analysis market.
This market is highly competitive, fragmented and mature. We face competition in
the statistics and data analysis market primarily from large enterprise software
vendors and our potential customers' information technology departments. These
departments may seek to develop data analysis solutions that utilize R, an
open-source software package that performs operations similar to the "S"
language that forms the core of our S-PLUS product. The dominant competitor in
our industry is SAS Institute. Other companies with which we compete include,
but are not limited to, SPSS, Inc., StatSoft Inc., Mathworks and Minitab, Inc.
In addition to competition from other statistical software companies, we also
face competition from providers of software for specific statistical
applications.
In the data mining and knowledge access markets, we face competition from
many companies, including SAS Institute, SPSS, IBM, NCR, Autonomy, Verity,
Inxight, ClearForest and Iphrase, many of which are much larger than we are.
In addition, as we develop other new products, or attempt to expand our
sales into new vertical and end-user markets, we may begin competing with
companies with whom we have not previously competed. It is also possible that
new competitors will enter the market. An increase in competitive pressures in
our market or our failure to compete effectively may result in pricing
reductions, reduced gross margins and loss of market share. Many of our
competitors have longer operating histories, greater name recognition, larger
customer bases and significantly greater financial, technical, marketing and
other resources than we do. We could also experience competition from companies
in other sectors of the broader market for business intelligence software, like
providers of on-line analytical processing, or OLAP, business intelligence and
analytical application software, as well as from companies in other sectors.
OUR BUSINESS IS SENSITIVE TO THE RISKS ASSOCIATED WITH GOVERNMENT FUNDING
DECISIONS.
We regularly apply for and are granted research contracts from a variety of
government agencies and funding programs. Over the last three fiscal years,
these contracts have generated from $4.3 to $4.8 million annually in offsets to
our research and development expenses. We may not receive new funded research
contracts or any renewals of government-funded projects currently in process,
and we may decide to cancel or reassign certain ongoing projects that are not
aligned with our core business needs. The personnel and other costs associated
with these programs are relatively fixed in the short run, and a sudden
cancellation or non-renewal of a major funding program or multiple smaller
programs would be harmful to our annual results. A substantial portion of the
research grant money we receive is granted to us based on our status as a small
business, the definition of which varies depending on the individual contract
terms. If and when the number of our employees or the amount of our revenues
grow beyond the limits prescribed in any of these contracts, we will no longer
be eligible for such research contracts and we will have to incur certain
research and development expenses without the benefit of offsets.
Furthermore, a significant portion of our license revenues come from United
States government entities, as well as institutions, healthcare organizations
and private businesses that contract with or are funded by government entities.
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Government appropriations processes are often slow and unpredictable and may be
affected by factors outside of our control. Reductions in government
expenditures and termination or renegotiation of government-funded programs or
contracts could adversely affect our revenue and operating results.
WE MAY BE UNABLE TO EXPAND OUR SALES ORGANIZATION, WHICH COULD HARM OUR
ABILITY TO EXPAND OUR BUSINESS.
To date, we have sold our desktop products primarily through our telesales
department while we have relied on our field sales force to sell our
server-based solutions and place orders for multiple desktop licenses. We
believe our future revenue growth will depend in large part on recruiting,
training and retaining both telesales and direct sales personnel. Our growth
will further depend on expanding our indirect distribution channels. These
indirect channels include value added resellers, or VARs, distributors, original
equipment manufacturer, or OEM, partners, system integrators and consultants. If
we experience difficulty in recruiting and retaining qualified telesales and
direct sales personnel and in establishing third-party relationships with VARs,
distributors, OEM partners and systems integrators and consultants, our sales
could be reduced or our sales growth limited. Even if we successfully expand our
sales force and other distribution channels, the expansion may not result in
expected revenue growth.
IF WE ARE UNABLE TO DEVELOP AND MAINTAIN EFFECTIVE LONG-TERM RELATIONSHIPS
WITH OUR KEY PARTNERS, OR IF OUR KEY PARTNERS FAIL TO PERFORM, OUR ABILITY
TO SELL OUR SOLUTION WILL BE LIMITED.
We rely on our existing relationships with a number of key partners,
including system integrators, VARs, distributors and third-party technology
vendors, that are important to worldwide sales and marketing of our solutions.
In addition, to be successful and to more effectively sell our products to
larger customers, we must develop successful new relationships with other key
partners. These key partners often provide enterprise software, consulting,
implementation and customer support services, and endorse our solution during
the competitive evaluation stage of the sales cycle. Although we seek to
maintain relationships with our key partners, and to develop relationships with
new partners, many of these existing and potential key partners have similar,
and often more established, relationships with our competitors. These existing
and potential partners, many of which have significantly greater resources than
we have, may in the future market software products that compete with our
solution or reduce or discontinue their relationships with us or their support
of our solution.
OUR SALES CYCLE IS VARIABLE, AND SALES DELAYS COULD CAUSE OUR OPERATING
RESULTS TO FLUCTUATE, WHICH COULD CAUSE A DECLINE IN OUR STOCK PRICE.
An enterprise's decision to purchase statistics, data mining and knowledge
access software and services is discretionary, involves a significant commitment
of its resources and is influenced by its budget cycles. Our sales cycles are
long and variable, typically ranging between two and eight months from our
initial contact with a potential customer to the issuance of a purchase order or
signing of a license or services agreement, although the amount of time varies
substantially from customer to customer and occasionally sales require
substantially more time. When economic conditions weaken, sales cycles for
software products and related services tend to lengthen, and as a result, we
experienced longer sales cycles in 2002 and 2003 and we expect to continue to
experience longer sales cycles over the next several quarters. Sales delays
could cause our operating results to fall below the expectations of securities
analysts or investors, which could result in a decrease in our stock price.
WE HAVE INCURRED LOSSES IN RECENT PERIODS, AND MAY CONTINUE TO DO SO, WHICH
COULD CAUSE A DECREASE IN OUR STOCK PRICE.
Until the fourth quarter of 2003, we had posted net losses for each fiscal
quarter since the fourth quarter of 2001. As of December 31, 2003, we had an
accumulated deficit of over $30 million. In future periods we may not realize
the anticipated revenue increases from our new product and positioning
initiatives. In addition, we may be unable to achieve cost savings without
adversely affecting our business and operating results. We may also experience
losses and negative cash flows in the near term, even if sales of our products
and services continue to grow.
We believe that we may need to significantly increase our product
development and professional services efforts to expand our market position and
further increase acceptance of our products. We may not be able to increase our
revenues sufficiently to keep pace with these growing expenditures, if at all,
and as a result may be unable to achieve or maintain profitability in the
future. In addition, if we are unable to grow our revenues, we may be forced to
discontinue certain research and/or development projects, which could limit our
future product development opportunities.
IF WE FAIL TO MAINTAIN EFFECTIVE INTERNAL FINANCIAL AND MANAGERIAL SYSTEMS,
CONTROLS AND PROCEDURES, OUR RESULTS OF OPERATIONS MAY BE ADVERSELY
AFFECTED.
We face the risk that our systems, procedures and controls might not be
adequate to support our operations, maintain accountability for our assets or
ensure proper identification of, and proper accounting treatment for, our
7
activities. Our failure to maintain and implement such adequate systems,
procedures and controls could adversely our business, financial condition and
results of operations.
- In late 2003, we uncovered a theft by an employee and launched an
internal investigation to determine the extent of the loss. As a
result of our investigation, we determined that the theft had occurred
over a period of several years. We ultimately concluded that while
there was no material impact on earnings in any period, approximately
$100,000 of expense in each of 2003 and 2002 needed to be reclassified
to general and administrative expense from several other cost and
expense categories.
- Due to challenges that we faced during the completion of our 2003
financial statement close process, , our independent auditors have
recommended that we initiate a study of our financial close processes,
procedures and controls in order to enhance the quality, efficiency
and timeliness of our financial statement preparation and to ensure
proper identification and accounting treatment for our activities.
We continue to evaluate our operational, financial and accounting systems and
our managerial controls and procedures to determine what additional changes, if
any, might help us to manage our current operations better.
IF WE DO NOT EXPAND OUR INTERNATIONAL OPERATIONS AND SUCCESSFULLY OVERCOME
THE RISKS INHERENT IN INTERNATIONAL BUSINESS ACTIVITIES, THE GROWTH OF OUR
BUSINESS WILL BE LIMITED.
To be successful, we must continue to expand our international operations
and enter new international markets. This expansion may be delayed as a result
of operating expense reduction measures and general economic conditions. If we
do expand internationally, it will require significant management attention and
financial resources to successfully translate and localize our software products
to various languages and to develop direct and indirect international sales and
support channels. Even if we successfully translate our software and develop new
channels, we may not be able to maintain or increase international market demand
for our solutions. We, or our VARs or distributors, may be unable to sustain or
increase international revenues from licenses or from consulting and customer
support. In addition, our international sales are subject to the risks inherent
in international business activities, including
- costs of customizing products for foreign countries;
- export and import restrictions, tariffs and other trade barriers;
- the need to comply with multiple, conflicting and changing laws and
regulations;
- reduced protection of intellectual property rights and increased
liability exposure; and
- regional economic, cultural and political conditions, including the
direct and indirect effects of terrorist activity and armed conflict
in countries in which we do business.
Our foreign subsidiaries operate primarily in local currencies, and their
results are translated into U.S. dollars. We do not currently engage in currency
hedging activities, but we may do so in the future. Changes in the value of the
U.S. dollar relative to foreign currencies increased both our European revenues
and expenses in 2003. Our operating results could be materially harmed if we
enter into license or service agreements providing for significant amounts of
foreign currencies with extended payment terms or extended implementation
timeframes if the values of those currencies fall in relation to the U.S. dollar
over the payment period of the agreement.
DELIVERY OF OUR SOLUTION MAY BE DELAYED IF WE CANNOT CONTINUE TO LICENSE
THIRD-PARTY TECHNOLOGY THAT IS IMPORTANT TO THE FUNCTIONALITY OF OUR
SOLUTION.
We incorporate into our products software that is licensed to us by
third-party software developers. The third-party software currently offered in
conjunction with our solution may become obsolete or incompatible with future
versions of our products. Further, numerous individual and institutional
licensors have contributed software code to S-PLUS in exchange for little or no
consideration, and some of these third parties may choose to revise or revoke
their licensing terms with us. A significant interruption in the supply of this
technology could delay our sales until we can find, license and integrate
equivalent technology. This could take a significant amount of time, perhaps
several months, which would cause our operating results to fall below the
expectations of securities analysts or investors and result in a decrease in our
stock price
INTEGRATION OF FUTURE ACQUISITIONS MAY BE DIFFICULT AND DISRUPTIVE.
8
We have completed several acquisitions of businesses with complementary
technologies or service offerings. In addition to our acquisition of Predict AG
in Switzerland in September 2001, we acquired the statistics businesses of
Waratah Corporation in North Carolina in July 2001, GraS Graphische Systeme GmbH
in Germany in July 2001 and Sigma-Plus SA in France in July 2001. We have since
closed the operation in Germany and have lost certain key personnel acquired
with Predict AG in Switzerland. In the future, we may acquire additional
complementary companies or technologies. Managing these acquisitions has
entailed, and may in the future entail, numerous operational and financial risks
and strains, including
- dilution of stockholders' equity;
- Difficulty and cost in combining the operations and personnel of
acquired businesses with our operations and personnel;
- disruption of our ongoing business and diversion of management's time
and attention to integrating or completing the development or
commercialization of any acquired technologies;
- impairment of relationships with key customers of acquired businesses
due to changes in management and ownership of the acquired businesses;
- impairment of goodwill arising as a result of completed or future
acquisitions, resulting in a financial loss; and
- inability to retain key employees of any acquired businesses.
If we do not successfully integrate any technologies, products, personnel
or operations of companies that we may acquire in the future, our business will
be harmed.
CONTINUED DECREASES IN SERVICE REVENUES COULD DECREASE OUR TOTAL REVENUES
OR DECREASE OUR GROSS MARGINS, WHICH COULD CAUSE A DECREASE IN OUR STOCK
PRICE.
During 2003, our services revenues decreased 31% from the prior
twelve-month period. Consulting and training (service) revenues represented 17%
of our total revenues for the year ended December 31, 2003, and we anticipate
that service revenues will continue to decline in the near term. As a result,
our total revenues may fall in 2004.
OUR WORKFORCE REDUCTIONS AND FINANCIAL PERFORMANCE MAY PLACE ADDITIONAL
STRAIN ON OUR RESOURCES AND MAY HARM THE MORALE AND PERFORMANCE OF OUR
PERSONNEL AND OUR ABILITY TO HIRE NEW PERSONNEL.
In connection with our effort to streamline our operations, reduce costs
and bring our staffing and structure in line with our revenue base, we
restructured our organization with reductions in our workforce by 23 employees
in July 2003. Further reductions could occur if we are unable to grow our
revenues. There have been and may continue to be substantial costs associated
with the workforce reduction related to severance and other employee-related
costs, and our restructuring plan may yield unanticipated consequences, such as
attrition beyond our planned reduction in workforce. In addition, many of the
employees who were terminated possessed specific knowledge or expertise, and
that knowledge or expertise may prove to have been important to our operations.
In that case, their absence may create significant difficulties. Past or future
reductions in Research and Development could adversely affect our ability to
innovate and compete. Further, the reduction in workforce may reduce employee
morale and may create concern among potential and existing employees about job
security at Insightful, which may lead to difficulty in hiring and increased
turnover in our current workforce. In addition, this headcount reduction may
subject us to the risk of litigation, which could result in substantial costs to
us and could divert management's time and attention away from business
operations. Any further workforce reductions may significantly strain our
operational and financial resources and may result in increasing
responsibilities for each of our management personnel. As a result, our ability
to respond to unexpected challenges may be impaired, and we may be unable to
take advantage of new opportunities.
WE MAY BE UNABLE TO OBTAIN THE FUNDING NECESSARY TO SUPPORT THE EXPANSION
OF OUR BUSINESS.
Our future revenues may be insufficient to support the expenses of our
operations and the expansion of our business. We may therefore need additional
equity or debt capital to finance our operations. If we are unable to generate
sufficient cash flow from operations or to obtain funds through additional
financing, we may have to reduce some or all of our development and sales and
marketing efforts and limit the expansion of our business or cease operations.
We believe that our existing cash and cash equivalents and available bank
borrowings will be sufficient to meet the capital requirements of our core
business for at least the next twelve months. However, if during that time
market conditions worsen, or if other unforeseen events should occur, we may
9
need additional funds through public or private equity financing or from other
sources in order to fund our operations and pursue our growth strategy. If our
new products require substantial investment in order to make them commercially
viable, we may need to seek additional funding or we may be forced to
discontinue further investment in them. We have no commitment for additional
financing, and we may experience difficulty in obtaining funding on favorable
terms, if at all.
Our credit line and equipment term loan with Silicon Valley Bank contain
covenants that require us to maintain a certain level of net income. Any
additional financing we obtain may contain covenants that restrict our freedom
to operate our business or may require us to issue securities that have rights,
preferences or privileges senior to our common stock and may dilute your
ownership interest in us.
WORLD EVENTS AND ECONOMIC CONDITIONS COULD ADVERSELY AFFECT OUR REVENUE
GROWTH AND ABILITY TO FORECAST REVENUE.
Our revenue growth and potential for profitability depend on the overall
demand for statistics and data analysis, data mining and knowledge access
software and services. Because our sales are primarily to corporate customers,
our business also depends on general economic and business conditions. Continued
soft demand for computer software caused by a weakened economy, both domestic
and international, may affect our sales and may continue to result in decreased
revenues. As a result of the economic downturn, we may experience difficulties
in collecting outstanding receivables from our customers.
PRIVACY AND SECURITY CONCERNS MAY LIMIT THE EFFECTIVENESS OF AND REDUCE THE
DEMAND FOR OUR SOLUTION.
The effectiveness of our solution relies on the storage and use of data
collected from various sources, including personal information. The collection
and use of such data by our customers for customer profiling may raise privacy
and security concerns, especially in pharmaceutical markets where companies are
subject to the strict privacy requirement of the Health Insurance Portability
and Privacy Act of 1996. Our customers generally have implemented security
measures to protect customer data from disclosure or interception by third
parties. However, the security measures may not be effective against all
potential security threats. If a well-publicized breach of customer data
security were to occur, our products and solutions may be perceived as less
desirable, which could limit our revenue growth.
In addition, due to privacy concerns, some Internet commentators, consumer
advocates and governmental or legislative bodies have suggested legislation to
limit the use of customer profiling technologies. The European Union and some
European countries have already adopted some restrictions on the use of customer
profiling data. If major countries or regions adopt legislation or other
restrictions on the use of customer profiling data, our solution would be less
useful to customers, and our sales could decrease.
IF WE DO NOT RETAIN OUR KEY EMPLOYEES OR MANAGEMENT TEAM, OUR ABILITY TO
EXECUTE OUR BUSINESS STRATEGY WILL BE LIMITED.
Our future performance will depend largely on the efforts and abilities of
our key technical, sales, customer support and managerial personnel and on our
ability to attract and retain them. In addition, our ability to execute our
business strategy will depend on our ability to recruit additional experienced
senior managers and to retain our existing executive officers. We may be unable
to attract and retain such personnel in the future. In addition, due to
competition for qualified employees, we may be required to increase the level of
compensation paid to existing and new employees, which could materially increase
our operating expenses. Our key employees are not obligated to continue their
employment with us and could leave at any time.
RAPID CHANGES IN TECHNOLOGY COULD RENDER OUR PRODUCTS OBSOLETE OR
UNMARKETABLE, AND WE MAY BE UNABLE TO INTRODUCE NEW PRODUCTS AND SERVICES
SUCCESSFULLY AND IN A TIMELY MANNER.
The business software market is characterized by rapid change due to
changing customer needs, rapid technological developments and advances
introduced by competitors. Existing products can become obsolete and
unmarketable when products using new technologies are introduced and new
industry standards emerge. New technologies, including the rapid growth of the
Internet and commercial acceptance of open source software, could change the way
software is sold or delivered. We may also need to modify our products when
third parties change software that we integrate into our products. As a result,
the life cycles of our products are difficult to estimate.
To be successful, we must continue to enhance our current product line and
develop new products that successfully respond to changing customer needs,
technological developments and competitive product offerings. We may not be able
to successfully develop or license the applications necessary to respond to
these changes, or to integrate new applications with our existing products. Past
or future reductions in our research and/or development personnel may harm our
ability to innovate and compete. We may not be able to introduce enhancements
or new products successfully or in a timely manner in the future. If we delay
release of our products and product enhancements, or if they fail to achieve
market acceptance when released, it could harm our reputation and our ability to
attract and retain customers, and our revenues may decline. In addition,
customers may defer or forego purchases of our products if we, our competitors
or major hardware, systems or software vendors introduce or announce new
products or product enhancements.
10
WE MAY BE UNABLE TO ADEQUATELY PROTECT OUR PROPRIETARY RIGHTS, WHICH MAY
LIMIT OUR ABILITY TO COMPETE EFFECTIVELY.
Our success depends in part on our ability to protect our proprietary
rights, including our "S" programming language purchased from Lucent
Technologies in January 2004. To protect our proprietary rights, we rely
primarily on a combination of patent, copyright, trade secret and trademark
laws, confidentiality agreements with employees and third parties and protective
contractual provisions such as those contained in license agreements with
consultants, vendors and customers, although we have not signed these agreements
in every case. Despite our efforts to protect our proprietary rights,
unauthorized parties may copy aspects of our products and obtain and use
information that we regard as proprietary. Generally, our products are not
physically copy-protected. In order to retain exclusive ownership rights to all
software developed by us, we license all software and provide it in executable
code only, with contractual restrictions on copying, disclosure and
transferability. As is customary in the industry, we generally license our
products to end-users by use of a 'shrink-wrap' license. Certain specialized
products may utilize a written, signed license agreement with the customer. The
source code for most of our products is protected as a trade secret and as
unpublished copyrighted work. Other parties may breach confidentiality
agreements and other protective contracts we have entered into, and we may not
become aware of, or have adequate remedies in the event of, a breach. We face
additional risk when conducting business in countries that have poorly developed
or inadequately enforced intellectual property laws. While we are unable to
determine the extent to which piracy of our software products exists, we expect
piracy to be a continuing concern, particularly in international markets and as
a result of the growing use of the Internet. In any event, competitors may
independently develop similar or superior technologies or duplicate the
technologies we have developed, which could substantially limit the value of our
intellectual property.
INTELLECTUAL PROPERTY CLAIMS AND LITIGATION COULD SUBJECT US TO SIGNIFICANT
LIABILITY FOR DAMAGES AND RESULT IN INVALIDATION OF OUR PROPRIETARY RIGHTS.
In the future, we may have to resort to litigation to protect our
intellectual property rights, to protect our trade secrets or to determine the
validity and scope of the proprietary rights of others. Any litigation,
regardless of its success, would probably be costly and require significant time
and attention of our key management and technical personnel. Although we have
not been sued for intellectual property infringement, we may face infringement
claims from third parties in the future. The software industry has seen frequent
litigation over intellectual property rights, and we expect that participants in
the industry will be increasingly subject to infringement claims as the number
of products, services and competitors grows and the functionality of products
and services overlap. Infringement litigation could also force us to
- stop or delay selling, incorporating or using products that
incorporate the challenged intellectual property;
- pay damages;
- enter into licensing or royalty agreements, which may be unavailable
on acceptable terms; or
- redesign products or services that incorporate infringing technology,
which we might not be able to do at an acceptable price, in a timely
fashion or at all.
OUR PRODUCTS MAY SUFFER FROM DEFECTS OR ERRORS, WHICH COULD RESULT IN LOSS
OF REVENUES, DELAYED OR LIMITED MARKET ACCEPTANCE OF OUR PRODUCTS,
INCREASED COSTS AND REPUTATIONAL DAMAGE.
Software products as complex as ours frequently contain errors or defects,
especially when first introduced or when new versions are released. Our
customers are particularly sensitive to such defects and errors because of the
importance of accuracy in software used in analyzing data. We have had to delay
commercial release of past versions of our products until software problems were
corrected, and in some cases have provided product updates to correct errors in
released products. Our new products or releases may not be free from errors
after commercial shipments have begun. Any errors that are discovered after
commercial release could result in loss of revenues or delay in market
acceptance, diversion of development resources, damage to our reputation,
increased service and warranty costs or claims against us.
In addition, the operation of our products could be compromised as a result
of errors in the third-party software we incorporate into our software. It may
be difficult for us to correct errors in third-party software because that
software is not in our control.
11
OUR STOCK PRICE MAY BE VOLATILE.
The price of our common stock has been volatile over the past 12 months.
Our common stock reached a high of $4.90 per share on March 4, 2004 and traded
as low as $0.97 per share on April 30, 2003. As a result of fluctuations in the
price of our common stock, you may be unable to sell your shares at or above the
price you paid for them. The trading price of our common stock could be subject
to fluctuations for a number of reasons, including
- future announcements concerning us or our competitors;
- actual or anticipated quarterly variations in operating results;
- changes in analysts' earnings projections or recommendations;
- announcements of technological innovations;
- the introduction of new products;
- changes in product pricing policies by us or our competitors;
- loss of key personnel;
- proprietary rights litigation or other litigation; or
- changes in accounting standards that adversely affect our revenues and
earnings.
In addition, stock prices for many technology companies fluctuate widely
for reasons that may be unrelated to operating results of these companies. These
fluctuations, as well as general economic, market and political conditions, such
as national or international currency and stock market volatility, recessions or
military conflicts, may materially and adversely affect the market price of our
common stock, regardless of our operating performance and may expose us to class
action securities litigation which, even if unsuccessful, would be costly to
defend and distracting to management. In the past, following periods of
volatility in the market price of a company's securities, securities class
action litigation has often been instituted against these companies. Litigation
brought against us could result in substantial costs and a diversion of
management's attention and resources, which could have a material adverse effect
on our business, financial condition and operating results.
ITEM 2. PROPERTIES.
Our headquarters and principal administrative, finance, selling and
marketing operations are located in approximately 27,000 square feet of leased
office space in Seattle, Washington under a lease that expires in 2004. In North
America, we also lease office space in New York and North Carolina. Our
international offices are located in France, Switzerland and the United Kingdom.
Our Domestic Data Analysis and Text Analysis segments share the Seattle leased
office space and we conduct business related to both our Domestic and
International Data Analysis segments from the remaining offices.
ITEM 3. LEGAL PROCEEDINGS.
On December 5, 2003, the Superior Court for King County, Washington granted
summary judgment in our favor, dismissing a wrongful termination lawsuit brought
by a former employee of ours in December 2002. The employee has subsequently
filed a notice of appeal with the Court of Appeals for the State of Washington.
An evaluation of the likelihood of an adverse outcome cannot be expressed with
sufficient certainty at this time.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY-HOLDERS.
No matters were submitted for a vote of our stockholders during the fourth
quarter of the year ended December 31, 2003.
12
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS.
MARKET INFORMATION
Our common stock is quoted on the Nasdaq SmallCap Market under the symbol
IFUL. The following table presents quarterly information on the price range of
the common stock. This information indicates the high and low sales prices for
our common stock for each full quarterly period within the two most recent
fiscal years.
HIGH LOW
------ ------
FISCAL YEAR ENDED DECEMBER 31, 2002:
First Quarter. . . . . . . . . . . . $3.020 $2.050
Second Quarter . . . . . . . . . . . $3.400 $1.990
Third Quarter. . . . . . . . . . . . $2.460 $0.880
Fourth Quarter . . . . . . . . . . . $1.360 $0.660
FISCAL YEAR ENDED DECEMBER 31, 2003:
First Quarter. . . . . . . . . . . . $1.550 $0.930
Second Quarter . . . . . . . . . . . $1.500 $0.970
Third Quarter. . . . . . . . . . . . $2.370 $1.210
Fourth Quarter . . . . . . . . . . . $2.500 $1.750
HOLDERS
As of March 19, 2004, the number of stockholders of record of Common Stock
was 295. This figure does not include the number of stockholders whose shares
are held of record by a broker or clearing agency, but does include each such
brokerage house or clearing agency as a single holder of record.
DIVIDENDS
We have never paid any cash dividends on our Common Stock and do not
anticipate paying any cash dividends in the foreseeable future. We currently
intend to retain any future earnings to fund the development and growth of our
business. In addition, the terms of our credit facility with Silicon Valley Bank
prohibit us from paying dividends.
EQUITY COMPENSATION PLAN INFORMATION
The following table provides information regarding our existing
compensation plans and individual compensation arrangements pursuant to which
our equity securities may be issued to employees, directors, consultants,
advisors or other persons in exchange for consideration in the form of
services.
NUMBER OF SECURITIES TO BE NUMBER OF SECURITIES REMAINING
ISSUED UPON EXERCISE OF WEIGHTED-AVERAGE EXERCISE AVAILABLE FOR FUTURE ISSUANCE UNDER
OUTSTANDING OPTIONS, WARRANT PRICE OF OUTSTANDING OPTIONS, EQUITY COMPENSATION PLANS (EXCLUDING
AND RIGHTS WARRANTS AND RIGHTS SECURITIES REFLECTED IN COLUMN (a))
PLAN CATEGORY (a) (b) (c)
- ------------------- ----------------------------- ------------------------------- -------------------------------------
Equity compensation
plans approved by 2,562,498(1) $2.2753 2,788,166
security holders
Total 2,562,498 $2.2753 2,788,166
(1) Issuable under our 1992 Stock Plan, 1992 Non-Employee Director Stock Option Plan, 1996 Non-Qualified, Non-Officer
Stock Option Plan, 2001 Stock Option and Incentive Plan, as amended and restated, and 2001 Non-Employee Director
Stock Option Plan, as amended and restated.
13
ITEM 6. SELECTED FINANCIAL DATA.
The selected financial data set forth below was derived from our
consolidated audited financial statements. You should read this information in
conjunction with the financial statements and notes in this filing as well as
the section of this report entitled Management's Discussion and Analysis of
Financial Condition and Results of Operation. We closed our Internet division in
September 2000 and sold our engineering and education products division in the
first quarter of 2001. All selected data reflects the discontinuance of both of
those operations.
YEAR ENDED DECEMBER 31,
----------------------------------------------------
2003 2002 2001 2000 1999
------------- -------- -------- -------- -------
(THOUSANDS, EXCEPT PER SHARE DATA)
CONSOLIDATED STATEMENT OF OPERATIONS:
Total revenues. . . . . . . . . . . . . . . . . $ 17,217 $16,394 $17,426 $15,246 $12,212
Gross profit. . . . . . . . . . . . . . . . . . 12,727 11,029 11,234 10,739 8,935
Income (loss) from continuing operations. . . . (1,436) (3,508) (698) 1,307 875
Net income (loss) . . . . . . . . . . . . . . . (1,573) (3,081) 2,414 (6,000) 1,453
Basic net income (loss) per share-continuing. . (0.13) (0.31) (0.06) 0.12 0.09
operations (1)
Diluted net income (loss) per share-continuing. (0.13) (0.31) (0.06) 0.12 0.08
operations (1)
Basic net income (loss) per share (1) . . . . . (0.14) (0.27) 0.22 (0.57) 0.15
Diluted net income (loss) per share (1) . . . . (0.14) (0.27) 0.22 (0.54) 0.14
AS OF DECEMBER 31,
----------------------------------------------------
2003 2002 2001 2000 1999
------------- -------- -------- -------- -------
(THOUSANDS)
CONSOLIDATED BALANCE SHEET:
Total assets. . . . . . . . . . . . . . . . . . $ 13,456 $14,036 $15,695 $10,506 $13,911
Long-term debt, less current portion. . . . . . 161 289 - 39 90
Stockholders' equity. . . . . . . . . . . . . . 3,857 5,437 7,437 3,875 8,634
- --------------
(1) See Note 2 of Notes to Consolidated Financial Statements for an explanation of the method
used to calculate basic and diluted net income (loss) per share.
14
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following discussion and analysis should be read in conjunction with our
Selected Financial Data section, our Consolidated Financial Statements and the
information described in the Business - Important Factors That May Affect Our
Business, Our Operating Results and Our Stock Price section included elsewhere
in this report.
DESCRIPTION OF THE COMPANY
We provide enterprises with scalable data analysis solutions consisting of
software and services designed to facilitate decision-making by revealing
patterns, trends and relationships. We are a supplier of these software and
services for the statistical analysis, data mining and knowledge access industry
segments enabling customers to gain intelligence from numerical data and text.
Our products include S-PLUS(R), StatServer(R), S-PLUS Analytic Server(R),
Insightful Miner, and InFact(R) . Our consulting services provide specialized
expertise and proven processes for the design, development and deployment of
analytical solutions.
We have been delivering data analysis solutions for 17 years to companies
in financial services, pharmaceuticals, biotechnology, telecommunications and
manufacturing as well as government and research institutions.
Headquartered in Seattle, Washington, we also have North American offices
in New York and North Carolina. Our international offices are located in France,
Switzerland, and the United Kingdom, with distributors around the world.
BUSINESS OUTLOOK
We provide our customers with useful and innovative software and services
to derive intelligence from the data they collect. Several converging trends
point to a significant long-term potential for the data analysis software
market. First, organizations currently collect far more data, in a variety of
formats, than they actually analyze. Second, increasing amounts of additional
information are being collected by organizations. Third, organizations are
seeking to apply new and increasingly complex analytic techniques to their
ever-increasing collection of data in order to gain significant improvements in
the quality and efficacy of products built, marketed, and sold and to
improvements in the efficiency of business processes. Overall, the confluence of
these trends should result in significant long-term potential for data analysis
software companies such as Insightful.
Our product direction for the S-PLUS Product Family mirrors these data
analysis industry trends. Our focus has been, and will continue to be, to build
on S-PLUS' position as a leader for statistical model prototyping and data
visualization used extensively by individual statisticians building statistical
models. Our vision is to continually enhance the S-PLUS product family to
provide a seamless environment where sophisticated business analytics can be
developed on the desktop and then deployed to production on servers handling
many gigabytes of data and deployed to hundreds and even thousands of users,
without the need for expensive re-implementation. We will increasingly enable
S-PLUS programmers and other IT professionals to use the S-PLUS product family
to deploy analytic applications to mission critical production environments.
Our direction also involves tailoring our solutions to meet the needs of
certain market segments. Throughout our history, we have, to varying degrees,
tailored our data analysis solutions to the needs of the following industries:
securities and banking, life sciences, manufacturing, telecommunications,
environmental, and defense/intelligence. Our largest efforts have focused on
life sciences and financial services. We also serve the academic community,
though our objective there is not to drive short-term increased revenues but
rather seed for future commercial sales. Since we are seeing more of our
customers explore and adopt open-source data analysis technologies, instead of
purchasing commercial software products, our direction involves extending our
products to provide increasing value add in the form of scaling to large amounts
of data as well as tailored to specific vertical markets. We are focusing our
resources on higher-value initiatives in the three industries that currently
account for the majority of our revenues: life sciences, securities and banking
for data analysis, and defense/intelligence.
We will continue to invest in both our existing and new products, as well
as in expanding our sales and marketing efforts. We anticipate that our growth
will primarily be driven by software license revenues and that our professional
services revenue will remain flat or even decline somewhat. Growth for our
software license and maintenance revenues will be driven primarily by our
high-end products, Insightful Miner, S-PLUS Server, and our vertical application
modules such as S+Finmetrics and S+Array Analyzer.
15
REVIEW OF ACCOUNTING PRACTICES
On, March 31, 2004, we filed a Form 12b-25 notification of late filing with
the Securities and Exchange Commission with respect to the filing of this annual
report, and disclosed that during the audit process, management made our
independent auditors aware of specific allegations made by a former employee who
was terminated in the first quarter of 2002, and who filed a lawsuit for
wrongful termination against us in December 2002. In an April 2003 deposition,
the former employee alleged, among other things, that we improperly recognized
services revenues in 2001 and 2002. While we had performed an internal review of
the specific allegations made in the deposition in April and May of 2003, our
independent auditors recommended further review of the projects identified in
the deposition and recommended that management perform additional analysis to
satisfy itself that the consolidated financial statements are fairly presented
for the entire audit period. Accordingly, we delayed the filing of this annual
report in order to allow time to complete an independent investigation of the
projects identified in the deposition. The investigation efforts were directed
by the audit committee of our board, and carried out by our outside law firm
with our full cooperation. Based on the investigation, our audit committee has
determined, with the advice of management, that our financial statements for the
2001 and 2002 years, and for the quarters included therein, present fairly, in
all material respects, the consolidated financial position, results of
operations, and cash flows of the Company in conformity with accounting
principles generally accepted in the United States.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
We have based our discussion and analysis of our financial condition and
results of operations upon our consolidated financial statements, which have
been prepared in accordance with accounting principles generally accepted in the
United States. The preparation of these financial statements requires us to make
estimates and judgments that affect the reported amounts of assets, liabilities,
revenues and expenses, and related disclosure of contingent assets and
liabilities. On an on-going basis, we evaluate our critical accounting policies
and estimates, including those related to revenue recognition, bad debts,
intangible assets, restructuring, asset impairment, and contingencies and
litigation. We base our estimates on historical experience and on various other
assumptions that we believe to be reasonable under the circumstances, the
results of which form the basis for making judgments about the carrying values
of assets and liabilities that are not readily apparent from other sources.
Actual results may differ from these estimates under different assumptions or
conditions. We believe the following critical accounting policies affect the
more significant judgments and estimates used in the preparation of our
consolidated financial statements.
Revenue Recognition
Our revenue recognition policy is significant because our revenues are a
key component of our results of operations. We follow very specific and detailed
guidelines, discussed in Note 2 of the financial statements, in measuring
revenues.
We derive our revenues primarily from three sources: license revenues,
which consist of software license fees, maintenance revenues, consisting of fees
for maintenance and support, and professional services revenues, which are
comprised of fees for consulting and training. The revenue recognition rules for
software companies are complex and require our management to exercise judgment
and make a number of estimates. For example, many of our contracts contain
multiple element arrangements, which require us to make assumptions and
judgments in order to allocate the total price among the various elements we
must deliver, to determine whether vendor specific evidence of fair value exists
for each element, to determine if undelivered elements are deemed essential, and
to determine whether and when each element has been delivered. We also evaluate
whether there is any material risk of customer non-payment or product returns.
If we were to change any of these assumptions or judgments, it could cause a
material increase or decrease in the amount of revenue that we report in a
particular period. Revenue that we cannot recognize in a particular period is
reflected on our balance sheet as deferred revenue and recognized over time as
the applicable revenue recognition criteria are satisfied. These estimates are
made based upon all of the information available to us at the time. Material
differences may result in the amount and timing of our revenue for any given
period if different judgments are made or different estimates are used.
Sales Returns
We provide an estimated reserve for return rights at the time of sale. We
offer our customers a 30-day return policy on all of our products. Refunds are
provided to customers upon return to us of the complete product package,
including all original materials, CD-ROM or other media. Our provision for
sales returns is estimated based on historical returns experience and our
judgment of future return risk.
Bad Debts
16
A considerable amount of judgment is required when we assess the ultimate
realization of receivables. It is a significant estimate and is regularly
evaluated taking into consideration past experience, current economic
conditions, aging of the amounts, and the current credit-worthiness of each
customer. Customer credit worthiness is subject to many business and finance
risks facing each customer and is subject to sudden changes.
Impairment of Goodwill and Other Long Lived Assets
At least annually we evaluate goodwill arising from acquired businesses for
potential impairment indicators. Our judgments regarding the existence of
impairment indicators are based on legal factors, market conditions and expected
future operational performance of our acquired businesses. In 2002 we recorded
an $800,000 impairment of goodwill and in 2003 we recorded an additional
$462,000 impairment based upon our estimates of the discounted future cash flows
of our acquired businesses. Future events could cause us to conclude that
additional impairment indicators exist and that goodwill associated with our
acquired business is impaired.
Impairment losses will be charged to earnings in the period in which they
are identified. We will continue to evaluate goodwill for impairment and, should
an impairment be indicated, the corresponding charge will be taken in that
period. Separable intangible assets that do not have indefinite lives are
amortized over their useful lives.
Contingencies
We are engaged in legal actions arising in the ordinary course of business.
We are required to assess the likelihood of any adverse judgments or outcomes to
these matters as well as potential ranges of possible losses. A determination
of the amount of reserves required, if any, for these contingencies are made
after careful analysis of each individual matter. The required reserves if any,
may change in the future due to new developments in each matter or changes in
approach, such as a change in settlement strategy for a particular matter.
DISCONTINUED OPERATIONS
On January 23, 2001, we sold the operations of our Engineering and
Education Products Division, or EEPD, for cash proceeds of $7,000,000 resulting
in a gain of $3,849,000 recorded in 2001, and a $427,000 gain recorded in 2002.
Components of the net aggregate gain are included in the table below. As of
December 31, 2001, other accrued liabilities included approximately $360,000
related to a contingency resulting from the disposition. The contingency was
resolved favorably during 2002 reducing other accrued liabilities from $585,000
to $258,000 and income taxes from $140,000 to $40,000 resulting in a gain of
$427,000.
Cash proceeds . . . . . . . . . . . . . . . . $ 7,000,000
Net assets transferred. . . . . . . . . . . . (1,002,000)
Employee severance and termination benefits . (853,000)
Transaction costs . . . . . . . . . . . . . . (571,000)
Other accrued liabilities . . . . . . . . . . (258,000)
Taxes . . . . . . . . . . . . . . . . . . . . (40,000)
------------
Income from discontinued operations. . . $ 4,276,000
============
17
The 2001 loss from discontinued operations consist of EEPD's revenues of
$74,000 offset by costs and expenses of $811,000 for the period through January
23, 2001, the date of disposition. The loss recorded in 2003 related to
previously unidentified third party contractual commitments of EEPD. The amounts
were not material to the periods in which they applied, primarily 1999 and 2000.
We believe that all significant contingencies relating to the discontinued
operations have now been resolved.
ACQUISITIONS
In July 2001, we completed the acquisition of a data analysis consulting
business from Waratah Corporation. This acquisition provides us with expanded
resources and expertise in the pharmaceutical and healthcare markets, while
establishing an East Coast consulting office. The aggregate purchase price of
$303,000 consisted of $150,000 cash, common stock valued at $99,000, a common
stock warrant valued at $41,000 and direct transaction costs of $13,000. The
value of the 34,530 shares of common stock issued was determined based on the
average market price of our common stock over a three-day period before and
after the date of acquisition. The warrant (to purchase 20,000 shares of common
stock, at an exercise price of $2.90, and expiring on July 13, 2006) was valued
using the Black-Scholes model. We recorded an intangible asset for the value
allocated to non-compete agreements of $44,000, which was amortized on a
straight-line basis over a two-year period, representing the expected life of
the non-compete agreements that we acquired. The difference between the purchase
price and the fair value of the assets acquired in the amount of $240,000 has
been recorded as goodwill.
In July 2001, we also completed the formation of a French subsidiary and
acquired the data analysis operations of Sigma-Plus, our longtime distributor in
France. The formation of a French subsidiary provided us with an expanded direct
sales channel and local consulting expertise in both Paris and Toulouse. The
aggregate purchase price of $255,000 consisted of $212,000 cash and direct
transaction costs of $43,000. We recorded an intangible asset for the value
allocated to non-compete agreements of $51,000, which were amortized on a
straight-line basis over a two-year period, representing the expected life of
the non-compete agreements that we acquired. The difference between the purchase
price and the fair value of the assets acquired in the amount of $203,000 was
recorded as goodwill. In the fourth quarter of 2003, when we performed our
annual impairment analysis, we determined that a loss from impairment of
goodwill of $203,000 was indicated based on our updated assumptions for future
cash flows. This analysis resulted in the write-down of all goodwill originally
recorded in this transaction.
In September 2001, we completed the acquisition of Predict AG (Predict).
This acquisition provided us with a multi-lingual professional services team
consisting of a multi-lingual team of business and technical experts in analytic
CRM, business intelligence, data mining, data warehousing, predictive modeling,
and statistical analysis. The organization has also formed the core team for our
central European office, which focuses primarily on Switzerland and Germany. The
aggregate consideration paid was $2,214,000 consisting of $1,466,000 cash,
common stock valued at $691,000, and direct transaction costs of $57,000. The
value of the 300,000 shares of common stock issued was determined based on the
average market price of our common stock over a three-day period before and
after the date of acquisition. We recorded intangible assets for the value
allocated to non-compete agreements and customer relationships totaling
$215,000, which were amortized on a straight-line basis over a two-year period,
representing the expected life of the non-compete agreements that we acquired.
We recorded $426,000 for the value allocated to deferred stock-based
compensation in connection with restrictions on 185,010 shares of common stock
otherwise issuable as part of the acquisition, which was being amortized over a
three-year vesting period using a graded vesting approach. However, in the first
quarter of 2003, our European General Manager resigned prior to the expiration
of the restriction on his shares. Consequently, these shares were returned to
us and related stock-based compensation expense recognized in previous periods
was reversed resulting in a reduction in sales and marketing expense of $139,000
in 2003. As of December 31, 2003, all employees in receipt of restricted stock
had terminated. The difference between the purchase price for Predict AG and the
fair value of the assets acquired in the amount of $1,374,000 was recorded as
goodwill.
During 2002 the continued decline in the market for IT software and
services prompted a re-assessment of all key assumptions underlying our goodwill
valuation judgments, including those related to short and longer term growth
rates. In the fourth quarter of 2002, using an October 1, 2002 measurement date,
we performed our annual impairment analysis and determined that a loss from
impairment of goodwill of $800,000 was required. This resulted primarily from a
decline in the service revenues for our Swiss operations due to weak economic
conditions, which caused the forecasted undiscounted cash flows to be less than
the book value of Predict. In the fourth quarter of 2003, when we next performed
our annual impairment analysis, we determined that an additional loss of
$259,000 was indicated based on our updated assumptions for future cash flows,
which reflected reduced growth rates based on our economic outlook for that
region. Due to uncertain market conditions and potential changes in our strategy
and product portfolio, it is possible that forecasts used to support our
intangible assets may change in the future, which could result in additional
non-cash charges that would adversely affect our results of operations and
financial condition.
18
In January 2002, we acquired the data analysis operations of GraS
Graphische Systeme GmbH, or GraS, our longtime distributor in Germany. The
transaction provided us with an expanded direct sales channel in Germany.
Consideration for the acquisition was cash of $157,000. We recorded an
intangible asset for the value allocated to customer relationships of $31,000,
which was amortized on a straight-line basis over a two-year period,
representing the expected life of the customer relationships that we acquired.
The difference between the purchase price and the fair value of the assets
acquired in the amount of $126,000 was recorded as goodwill. In July 2003, we
combined our German operations with our Swiss subsidiary headquartered in Basel,
Switzerland and closed the German office. At that time we evaluated the goodwill
acquired in the acquisition of our German and Swiss businesses for impairment
and determined that none had occurred.
The remaining goodwill recorded in connection with these acquisitions is
not subject to amortization, but is subject to periodic evaluation for
impairment.
The results of GraS, Predict, Waratah and Sigma Plus have been included in
our operating results since their respective acquisition dates.
19
RESULTS OF OPERATIONS
As an aid to understanding our operating results, the table below indicates the percentage relationships of revenue and
expense items included in the Consolidated Statements of Operations for the years ended December 31, 2003, 2002 and 2001, and the
percentage changes in those items for the years ended December 31, 2003, 2002, and 2001.
PERCENTAGE CHANGE
PERCENT OF TOTAL REVENUE FISCAL YEAR FISCAL YEAR FISCAL YEAR
------------------------ ENDED ENDED ENDED
FISCAL DEC. 31, 2003 DEC. 31, 2002 DEC. 31, 2001
FISCAL FISCAL YEAR ENDED COMPARED TO COMPARED TO COMPARED TO
YEAR ENDED YEAR ENDED DEC. 31, YEAR ENDED YEAR ENDED YEAR ENDED
DEC. 31, 2003 DEC. 31, 2002 2001 DEC. 31, 2002 DEC. 31, 2001 DEC. 31, 2000
----------------- -------------- ----------- -------------- -------------- --------------
Revenues:
Software licenses . . . . . . . 44.4% 37.5% 38.8% 24.3% (8.9)% (0.9)%
Software maintenance. . . . . . 38.6 36.3 29.5 11.5 15.9 19.1
Professional services and
other . . . . . . . . . . . . 17.0 26.2 31.7 (31.6) (22.5) 34.4
----------------- -------------- ----------- -------------- -------------- --------------
Total revenues. . . . . . . 100.0 100.0 100.0 5.0 (5.9) 14.3
Cost of revenues:
Software related. . . . . . . . 11.3 11.1 13.2 6.1 (20.5) 3.8
Professional services and
other . . . . . . . . . . . . 14.8 21.6 22.3 (27.9) (9.2) 56.4
----------------- -------------- ----------- -------------- -------------- --------------
Total cost of revenues 26.1 32.7 35.5 (16.3) (13.4) 37.4
Gross profit. . . . . . . . 73.9 67.3 64.5 15.4 (1.9) 4.6
Operating expenses:
Sales and marketing . . . . . . 40.2 42.7 33.0 (1.2) 21.6 20.2
Research and development. . . . 37.6 48.3 43.5 (18.3) 4.5 8.4
Less-Funded research. . . . . . (25.0) (28.5) (27.7) (7.9) (3.2) 3.2
----------------- -------------- ----------- -------------- -------------- --------------
Research and development,
Net . . . . . . . . . . . . . 12.6 19.8 15.8 (33.4) 18.1 18.9
General and administrative. . . 20.6 18.7 17.6 15.8 - 27.5
Amortization of goodwill
and other intangibles . . . . 1.2 1.3 0.6 - 98.1 52.9
Loss from impairment of
goodwill. . . . . . . . . . . 2.7 4.9 - (42.2) 100.0 -
Restructuring-related charges 5.3 3.0 2.6 81.8 10.1 100.0
----------------- -------------- ----------- -------------- -------------- --------------
Total operating
expenses. . . . . . . . . 82.6 90.4 69.6 (4.1) 22.3 26.7
----------------- -------------- ----------- -------------- -------------- --------------
Loss from operations (8.7) (23.2) (5.1) 60.6 (324.1) (176.9)
Interest income, net. . . . . . . 1.0 0.6 1.8 76.8 (69.8) 51.0
----------------- -------------- ----------- -------------- -------------- --------------
Loss before income
taxes . . . . . . . . . . (7.7) (22.6) (3.3) 64.1 (536.2) (142.4)
Income tax provision. . . . . . . (0.6) (1.2) 0.7 (152.7) (274.8) 71.6
----------------- -------------- ----------- -------------- -------------- --------------
Loss from continuing
operations (8.3) (21.4) (4.0) 59.1 (402.6) (153.4)
----------------- -------------- ----------- -------------- -------------- --------------
Discontinued operations:
Loss from discontinued
operations, net of applicable
income taxes. . . . . . . . . (0.8) - (4.2) (100.0) 100 (89.9)
Gain on disposal of
discontinued operations, net
of tax. . . . . . . . . . . . - 2.6 22.1 - (88.9) 100.0
-------------- ----------- -------------- --------------
Net income or loss. . . . . (9.1)% (18.8)% 13.9% 48.9% (227.6)% 140.2%
================= ============== =========== ============== ============== ==============
20
REVENUES
Total revenues consist of software license, software maintenance, and
professional services revenues. Total revenues decreased from $17,426,000 in
2001 to $16,394,000 in 2002, a decrease of 6%, and increased to $17,217,000 in
2003, an increase of 5% from 2002.
Software license revenues, consisting of software licenses and
subscriptions, accounted for 39% of total revenues in 2001, 38% in 2002 and 44%
in 2003. Software license revenues decreased from $6,753,000 in 2001 to
$6,151,000 in 2002, a decrease of 9%, and increased to $7,645,000 in 2003, an
increase of 24%. The 2002 decrease was primarily due to dampened demand caused
by the economic slowdown, which adversely affected corporate spending on
information technology in many of the industries we serve. The 2003 increase was
primarily due to increased European license revenues, primarily as a result of
positive fluctuations in foreign exchange rates, and an increase in revenues
from InFact, for which we first recognized revenue in the fourth quarter of
2002.
Software maintenance revenues accounted for 29% of total revenues in 2001,
36% in 2002 and 39% in 2003. Software maintenance revenues increased from
$5,139,000 in 2001 to $5,955,000 in 2002, an increase of 16%, and to $6,641,000
in 2003, an increase of 12%. These increases were due to an increase in our
installed base and ongoing maintenance renewals.
Professional services revenues generated from consulting and training
activities decreased from $5,534,000 in 2001 to $4,288,000 in 2002, a decrease
of 23%, and to 2,931,000 in 2003, a decrease of 32% from 2002. In 2002 the
revenue decrease in professional services was primarily due to generally weak
economic conditions, resulting in fewer available projects at which time we
reduced our consulting headcount, particularly in our Swiss office. In 2003 the
revenue decrease was primarily due to fewer consulting projects in Switzerland
and North America and we further reduced our consulting headcount. We expect
professional services revenues to continue to decrease in 2004 as we focus on
aligning our services with software license sale opportunities.
Revenues from international operations, which include Europe and Asia
Pacific, increased from $3,963,000 in 2001 to $5,169,000 in 2002, an increase of
30%, to $5,488,000 in 2003, an increase of 6%. The 2002 increase resulted from
our international expansion through acquisition, resulting in the formation of a
French subsidiary in July 2001, a Swiss subsidiary in September 2001 and a
German subsidiary in January 2002. The purpose of the company's aggressive
expansion in Europe was to enhance growth and reduce our exposure to the North
American economy. The 2003 increase was primarily the result of increased
software license revenue partially offset by lower professional service
revenues, particularly in Switzerland. Most of the increase in revenues from
international operations was attributable to positive fluctuations in foreign
exchange rates.
We expect our license and maintenance revenues to grow in 2004, subject to
the successful launch of new products and continued worldwide economic recovery,
as we continue to increase our sales and marketing resources.
COST OF REVENUES
Total cost of revenues decreased from $6,192,000 in 2001 to $5,365,000 in
2002, a decrease of 13%, and decreased to $4,490,000 in 2003, a decrease of 16%
from 2002. The 2002 and 2003 decrease in total cost of revenues was primarily
due to decreases in professional service costs offset somewhat in 2003 by an
increase in the cost of software-related revenue.
The cost of software-related revenue, which consists of royalties for
third-party software, product media, product duplication, manuals and costs of
maintenance, decreased as a percentage of total software-related revenues from
19% in 2001, to 15% in 2002, and to 14% in 2003. The 2002 decrease was primarily
due to decreased sales of products with royalty costs while the 2003 decrease
was primarily due to revenue growth exceeding the growth in costs of software
licenses. Until January 2004, we were a worldwide licensee of the "S"
programming language from Lucent Technologies Inc. Under the license, we had the
right to use, sublicense and support the "S" language in exchange for royalties,
which are included in the cost of software licenses. In January 2004 we acquired
the copyrights to the software code underlying the "S" Programming language for
$2.0 million resulting in a cessation of future royalty payments to Lucent
Technologies.
We expect that the cost of software-related revenue will decrease primarily as
the result of a decrease in royalty costs due to the January 2004 Lucent
Technologies agreement, offset somewhat by the amortization cost of the
copyright intangible asset which is being amortized over a three year period.
21
The cost of professional services consists primarily of salaries, and other
operating costs of employees who provide consulting services and product
training. The cost of professional services as a percentage of professional
services revenues increased from 70% in 2001, to 82% in 2002 and to 87% in 2003.
The 2002 and 2003 increases were primarily due to decreases in professional
services revenue partially offset by the reduction of professional services
expenses, which lagged the related revenue decrease. We expect the cost of
professional services to fluctuate with changes in service revenues and for our
services margin to gradually improve as utilization of existing resources grow.
We expect that the reductions in professional services personnel that we
implemented during our restructuring in mid-2003 will help us improve our
service margins.
OPERATING EXPENSES
Sales and marketing expenses consist primarily of salaries, travel,
facilities costs for sales and marketing personnel, promotional activities, and
costs of advertising and trade shows. Sales and marketing increased from
$5,759,000 in 2001 to $7,002,000 in 2002, an increase of 22% from 2001, and to
$6,919,000 in 2003, a decrease of 1%. As a percentage of total revenues, sales
and marketing expenses increased from 33% in 2001 to 43% in 2002 and decreased
to 40% in 2003. The increase in 2002 over 2001 was primarily due to the addition
of our French, Swiss and German subsidiaries. The decrease in 2003 was
primarily due to the closing of our German office in July 2003 and reduction in
workforce in our Swiss office. In 2004, we expect sales and marketing expenses
to increase as we allocate more resources to that area, but to remain flat as a
percentage of total revenues.
Net research and development expenses consist primarily of salaries and
related benefits, equipment for software developers, facility costs, and
payments to outside contractors, less funded research. Net research and
development expenses increased from $2,747,000 in 2001 to $3,244,000 in 2002, an
18% increase, and decreased to $2,162,000 in 2003, a decrease of 33%. Net
research and development increased as a percentage of total revenues from 16% in
2001 to 20% in 2002, and decreased to 13% in 2003. Gross research and
development expenses increased from $7,574,000 in 2001 to $7,918,000 in 2002, a
5% increase, and decreased 18% to $6,469,000 in 2003. In 2002 the increase
research and development costs was primarily due to an increased investment in
new product offerings, such as Insightful Miner and InFact, and to a decrease in
funded research. In 2003, the decrease was primarily attributable to workforce
reductions implemented in July 2002 and July 2003. Funded research, which
consists primarily of government grants for research projects, decreased from
$4,827,000 in 2001 to $4,674,000 in 2002, a decrease of 3%, and decreased to
$4,307,000 in 2003, a decrease of 8%. The change in funded research is
attributable to the number of awarded contracts as well as to a more focused
approach of aligning research funding with our core products. We expect our net
research and development expenses to increase due to both a reduction in funded
research as well as through additional hiring of development personnel.
General and administrative expenses consist primarily of salaries and
related costs associated with finance, accounting, investor relations, human
resources, administration and facilities activities. General and administrative
expenses increased from $3,063,000 in 2001 to $3,074,000 in 2002, an increase of
less than 1%, and increased to $3,559,000 in 2003, an increase of 16%. As a
percentage of total revenues, general and administrative expenses increased from
18% in 2001 to 19% in 2002 and to 21% in 2003. The 2003 increase was
attributable to continuing increases in insurance, legal, compliance and audit
expenses. We expect future increases in general and administrative expenses
relating to continuing increases in legal, compliance and audit expenses.
In late 2003 we uncovered a theft by an employee and launched an internal
investigation to determine the extent of the loss. As a result of our
investigation, we determined that the theft had occurred over a period of
several years. We ultimately concluded that while there was no material impact
on earnings in any period, approximately $100,000 of expense in each of 2003 and
2002 needed to be reclassified to general and administrative expense from
several other cost and expense categories. As part of our internal controls
review, we have implemented controls to reduce the risk of this type of incident
reoccurring.
Amortization of stock-based compensation expense consists of amounts
related to common stock issued in acquisitions, which were subject to
cancellation in the event of employee termination. Amortization of deferred
stock-based compensation was $44,000 in 2001, $220,000 in 2002 and $34,000 in
2003. In addition, in 2003, our European General Manager resigned prior to the
expiration of the restriction on his shares. Consequently, in 2003 these shares
were returned to us and related stock-based compensation expense recognized in
previous periods was reversed resulting in a reversal of previously recognized
deferred stock-based compensation expense of $139,000 and a reduction of
deferred stock-based compensation of $128,000. In 2001, stock-based compensation
expense was included in the functional operating expense categories as follows:
$28,000 for sales and marketing, $9,000 for cost of professional services
revenues, and $7,000 for research and development. In 2002, stock-based
compensation expense of $111,000 was included in sales and marketing, $79,000 in
cost of professional services revenues, and $30,000 in research and development.
In 2003, the net stock-based compensation expense credit of $105,000 was
included in sales and marketing. The credit is the result of $139,000 in
deferred stock compensation expense previously recognized being reversed due to
the return of restricted shares issued in the acquisition of Predict AG, offset
by deferred stock compensation expense of $34,000.
22
In 2002, we recorded a loss from impairment of $800,000 resulting from a
write-down of the carrying value of goodwill for Predict AG as computed under
FAS 142. In 2003 we recorded an additional loss from impairment of $462,000
consisting of a $259,000 write-down of the carrying value of goodwill for
Predict AG and a $203,000 write-down of the carrying value of goodwill for Sigma
Plus. The 2002 impairment was due to the continued decline in the market for IT
software and services from the September 2001 date of acquisition of Predict and
to our July 2002 restructuring, which resulted in the termination of nearly 50%
of the headcount in our Swiss office. The 2003 impairment was the result of a
decrease in the discounted future cash flows from our French and Swiss
subsidiaries as computed under FAS 142 caused by a reduction in our revenue
growth expectations based on our economic outlook for that region.
RESTRUCTURING-RELATED CHARGES
In November 2001, July 2002 and July 2003 we implemented workforce
reductions in order to better align our costs with our revenues. The 2001
restructuring expense totaled $455,000 and resulted from the reduction of
approximately 24 employees, or 13% of our employee base at the time. All of the
restructuring charge related our Domestic Data Analysis segment. As of December
31, 2003, all severance and termination benefits related to this workforce
reduction were paid.
The 2002 restructuring expense totaled $501,000 and resulted from a
workforce reduction of 31 employees, or 18% of our employee base at the time. Of
the $501,000 restructuring charge, $170,000 related to our International Data
Analysis segment and the remaining $331,000 was attributable to our Domestic
Data Analysis segment. All of the 2002 restructuring charges related to employee
severance and termination benefits. As of December 31, 2002, $418,000 of the
severance and termination benefits had been paid and $83,000 remained accrued on
that date, with the remaining benefits paid in January 2003.
The 2003 restructuring expense totaled $911,000 and included a workforce
reduction of 23 employees, or 18% of our employee base at the time. Of the
$911,000 restructuring charge, $288,000 related to our International Data
Analysis segment and the remaining $623,000 was attributable to our Domestic
Data Analysis segment. As part of this restructuring, the Company combined its
German operations with its Swiss subsidiary headquartered in Basel, Switzerland.
On September 30, 2003, Shawn Javid, President and CEO, resigned from the
company. The 2003 restructuring charges, including charges associated with the
resignation of Shawn Javid, consisted primarily of employee severance and
termination payments and lease termination costs, as well as a $176,000 non-cash
compensation charge related to a modification of stock options upon termination
of Mr. Javid. As of December 31, 2003 $321,000 in termination benefits remained
to be paid, of which $257,000 will be paid in 2004 and the remaining $64,000 in
2005.
INTEREST INCOME AND EXPENSE
Interest and other income decreased from $341,000 in 2001 to $128,000 in
2002, and increased to $189,000 in 2003. The decrease in 2002 was due to a
decrease in prevailing interest rates. The increase in 2003 was primarily
attributable to an exchange gain of $136,000 related to foreign currency
transactions.
Interest expense increased from $27,000 in 2001 to $33,000 in 2002, and
decreased to $21,000 in 2003. The higher expense in 2002 was due to borrowings
of $450, 000 under an equipment term loan with Silicon Valley Bank. The
decrease in 2003 was due to the $128,000 principal pay down of the equipment
loan.
INCOME TAXES
As of December 31, 2003, the Company had net operating loss carryforwards
of approximately $22,464,000 and research and development and other tax credit
carryforwards of approximately $2,210,000. Utilization of net operating loss
carryforwards may be subject to certain limitations under Section 382 of the
Internal Revenue Code. Deferred tax assets, which have arisen primarily as a
result of these net operating losses and other tax credits also reflect the
effect of temporary differences between the tax basis of assets and liabilities
and the corresponding financial statement amounts. Due to the uncertainty of our
ability to utilize its deferred tax assets, a valuation allowance has been
established for financial reporting purposes equal to the amount of the net
deferred tax assets.
Income tax expense of $115,000 in 2001 reflects the provision for foreign
income taxes associated with our international operations. The income tax
benefit in 2002 of $201,000 primarily relates to a reversal of income taxes
payable and a tax refund on completion of a tax audit at one of our
international operations. Income tax expense of $106,000 in 2003 reflects
provision for foreign income taxes associated with our international operations.
DISCONTINUED OPERATIONS
On January 23, 2001 we sold the assets of EEPD for cash proceeds of
$7,000,000. As a result of this transaction, we recorded the operations of EEPD
as discontinued operations. We recorded a net gain of $3,849,000 on the sale in
2001 after taking into account net assets transferred and certain liabilities
arising from the transaction including severance and transaction costs. The
liabilities arising from the sale included accruals related to certain
contingencies resulting from the disposition. In
23
2002, these contingencies were favorably resolved resulting in a net gain of
$427,000 also recorded as a gain on disposal of discontinued operations.
In 2001 EEPD's operating loss totaled $737,000, representing revenues
earned of $74,000 offset by costs and expenses of $811,000 for the 23-day period
ending January 23, 2001. During 2003 we recorded a loss from discontinued
operations of $137,000 related to previously unidentified potential third party
contractual commitments of EEPD. The amounts were not material to the periods in
which they applied, primarily 1999 and 2000.
NET OPERATING RESULTS
Net loss from continuing operations in 2001 was $698,000 compared to a net
loss from continuing operations of $3,508,000 in 2002 and $1,436,000 in 2003.
The 2001 loss from continuing operations resulted from slower than expected
revenue growth in the second half of the year due to a slowing economy, a change
in the revenue mix to a higher proportion of services revenues with lower gross
profit, and to acquisition related amortization and deferred compensation
charges. We incurred a loss from continuing operations of $1,338,000 in the
fourth quarter of 2001. This loss was also the result of higher operating
expenses in 2001, including a $455,000 restructuring charge related to employee
severance and termination benefits, the operating costs associated with the
three acquisitions completed in the third quarter of 2001, and amortization and
deferred compensation charges related to our acquisition of Predict AG in
Switzerland. The 2002 loss from continuing operations resulted from lower total
revenues, higher sales and marketing costs resulting from international
expansion, higher net research and development expense resulting from an
increase in our product line, the $800,000 loss from impairment of goodwill
related to our Swiss subsidiary, and the $501,000 restructuring charge. We
incurred a loss from continuing operations of $1,127,000 in the fourth quarter
of 2002 as compared to a $1,338,000 loss in the prior year comparable quarter.
The fourth quarter 2002 loss included a loss from impairment of goodwill charge
of $800,000 and a $297,000 increase in expense, offset in part by a $508,000
improvement in gross profit due to a higher mix of software revenues as compared
to services. The 2003 loss from continuing operations primarily resulted from
the $911,000 restructuring charge and $462,000 loss from impairment of goodwill.
The fourth quarter of 2003 resulted in income from continuing operations of
$209,000. This income was the result of higher revenues than in previous
quarters coupled with expense saving measures taken earlier in the year offset
somewhat by the impairment of goodwill charge of $462,000.
Net income in 2001 was $2,414,000 compared to a net loss of $3,081,000 in
2002 and a net loss of $1,573,000 in 2003. The 2001 net income reflected our
loss from continuing operations offset by the net gain on the sale of EEPD and
the EEPD operating loss. The 2002 net loss reflected our net loss from
continuing operations offset slightly by the remaining gain on the sale of EEPD.
The 2003 net loss reflected our loss from continuing operations and loss from
discontinued operations of $137,000 related to EEPD.
CONTINGENCIES
On December 13, 2002, Wajih Alaiyan, a former employee of ours, filed a
complaint against us in the Superior Court for King County, Washington. Mr.
Alaiyan was formerly employed by the Company and he alleged that his employment
was wrongfully terminated. On December 5, 2003, a judge for the Superior Court
for King County, Washington granted summary judgment in our favor and dismissed.
Mr. Alayian has appealed the decision. . An evaluation of the likelihood of an
adverse outcome cannot be expressed with sufficient certainty at this time. An
unfavorable outcome could have a material effect on our operating position,
results of operations, and cash flows.
LIQUIDITY AND CAPITAL RESOURCES
Cash and cash equivalents increased to $7,139,000 at the end of 2003 from
$6,819,000 at the end of 2002 and $6,278,000 at December 31, 2001. We generated
$815,000 in cash from operations in 2003 compared to $768,000 in 2002 and
$198,000 in 2001. Operating cash inflows in 2003 and 2002 were primarily the
result of losses from continuing operations adjusted for non-cash depreciation,
amortization and goodwill impairment, and benefiting from a decrease in
receivables in 2002 and an increase in deferred revenue in both years.
Investing activities resulted in the net use of $256,000 in 2003,
$1,285,000 in 2002 and $3,303,000 in 2001. In 2003 and 2002 investing activities
resulted primarily from the purchases of capital equipment. In 2001 investing
activities consisted primarily of capital expenditures of $1,400,000 related to
continuing operations and $1,744,000 for acquisitions.
Financing activities used cash of $39,000 in 2003 and provided cash inflows
$1,197,000 in 2002 and $542,000 in 2001. In 2001 financing activities cash
inflows resulted primarily from proceeds from the exercise of stock options and
stock issued through the employee stock purchase plan, offset in part by
payments made on debt. In 2002 financing cash inflows included $450,000 from
equipment financings. $380,000 from subscription receivable from a director and
$451,000 from proceeds via the
24
exercise of stock options and stock issued through the employee stock purchase
plan. In 2003, payments made on equipment financings exceeded the proceeds from
the exercise of stock options and stock issued through the employee stock
purchase plan.
In March 2003, we renewed a $3.5 million working capital revolving line of
credit and security agreement with Silicon Valley Bank, or SVB, which expired in
March 2004. This facility is secured by our accounts receivable and allows us to
borrow up to the lesser of (a) 75% of our eligible accounts receivable (advances
against U.S. Government accounts will be permitted up to 20% of the amount
outstanding under the line of credit) or (b) $3.5 million and bears interest at
the prime rate, which was 4.0% as of December 31, 2003, plus 1%. At December
31, 2003, no amounts had been borrowed and $1,445,000 was available for future
borrowings under the line of credit facility.
In March 2003, we also renewed an equipment term loan and security
agreement with SVB which expired in March 2004., This facility allows us to take
advances on the cost of eligible equipment less than 90 days old and is secured
by the underlying equipment. We borrowed $450,000 under this facility in 2002
and the remaining outstanding balance was $290,000 at December 31, 2003. These
term loan advances bear interest at the prime rate, which was 4.0% as of
December 31, 2003, plus 1%. Advances are repaid over a 36-month period. At
December 31, 2003, $375,000 was available under this facility for future
equipment borrowings.
These credit facilities contain covenants that limit our net losses and
restrict the amount of capital expenditures not financed through the equipment
term loan. In addition, we are prohibited from paying dividends. We were in
compliance with these covenants as of December 31, 2003. These credit facilities
may be utilized to finance future capital investments, including technology
necessary to support our new product lines. These credit facilities expand our
liquid resources and ability to maintain an adequate balance of cash-on-hand.
Advances taken on the equipment term loan totaled $450,000 in 2002 and none in
2003. There were no advances outstanding under the line of credit at December
31, 2003.
In 2001 net cash proceeds from the sale of EEPD amounted to $5,084,000,
including proceeds on the sale of $7,000,000 offset by $1,916,000 in employee
severance and termination benefits, professional fees and vendor commitments. In
2002 cash outflows for discontinued operations relating to employee severance
and termination benefits amounted to $169,000. In 2003 cash outflows for
discontinued operations relating to contractual commitments of EEPD amounted to
$137,000.
At December 31, 2003, our principal unused sources of liquidity consisted
of cash and cash equivalents of $7,139,000 and our bank line of credit. Our
liquidity needs are principally for financing of accounts receivable, capital
assets, strategic investments, product development, and flexibility in a dynamic
and competitive operating environment.
The following are our contractual commitments (as of December 31, 2003):
YEAR ENDING DECEMBER 31,
------------------------
2004 2005 2006 2007 2008 THEREAFTER TOTAL
-------- --------- -------- -------- ------- ----------- ----------
Commitments:
Equipment financings $129,000 $ 129,000 $ 32,000 $ - $ - $ - $ 290,000
Operating leases 773,000 167,000 130,000 110,000 47,000 63,000 1,290,000
-------- --------- -------- -------- ------- ----------- ----------
Total commitments $902,000 $ 296,000 $162,000 $110,000 $47,000 $ 63,000 $1,580,000
======== ========= ======== ======== ======= =========== ==========
25
We believe that our existing cash and cash equivalents, investments and
available bank borrowings will be sufficient to meet our capital requirements
for at least the next 12 months. However, if during that time market conditions
worsen, or if other unforeseen events should occur, we would likely deem it
necessary to seek additional funds through public or private equity financing or
from other sources in order to fund our operations and pursue our growth
strategy. We have no commitment for additional financing, and we may experience
difficulty in obtaining funding on favorable terms, if at all. Any financing we
obtain may contain covenants that restrict our freedom to operate our business
or may require us to issue securities that have rights, preferences or
privileges senior to our common stock and may dilute your ownership interest in
Insightful.
OFF-BALANCE SHEET ARRANGEMENTS
We provide indemnifications of varying scope and size to certain customers
against claims of intellectual property infringement made by third parties
arising from the use of our products. We evaluate estimated losses for such
indemnifications under SFAS 5, Accounting for Contingencies, as interpreted by
FIN 45. We consider such factors as the degree of probability of an unfavorable
outcome and the ability to make a reasonable estimate of the amount of loss. To
date, we have not encountered material costs as a result of such obligations and
have not accrued any liabilities related to such indemnifications in our
financial statements.
RECENT ACCOUNTING PRONOUNCEMENTS
In December 2003, the SEC issued Staff Accounting Bulletin (SAB) No. 104,
"Revenue Recognition" (SAB No. 104), which codifies, revises and rescinds
certain sections of SAB No. 101, "Revenue Recognition", in order to make this
interpretive guidance consistent with current authoritative accounting and
auditing guidance and SEC rules and regulations. SAB 104's primary purpose is to
rescind accounting guidance contained in SAB 101 related to multiple element
revenue arrangements, superseded as a result of the issuance of EITF 00-21
Accounting for Revenue Arrangements with Multiple Deliverables. Additionally,
SAB 104 rescinds the SEC's Revenue Recognition in Financial Statements
Frequently Asked Questions and Answers (the FAQ) issued with SAB 101 that had
been codified in SEC Topic 13, Revenue Recognition. Selected portions of the FAQ
have been incorporated into SAB 104. While the wording of SAB 104 has changed to
reflect the issuance of EITF 00-21, the revenue recognition principles of SAB
101 remain largely unchanged by the issuance of SAB 104. Adoption of this
standard had no material impact on the company's financial position, results of
operations or cash flows.
26
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
We develop products in the United States and sell them worldwide. As a
result, our financial results could be affected by factors such as changes in
foreign currency exchange rates or weak economic conditions in foreign markets.
We operate in the United Kingdom, Germany, France and Switzerland and incur
expenses and generate billings denominated in those local currencies. Interest
income and expense are sensitive to changes in the general level of U.S.
interest rates, particularly since our investments are in short-term
instruments. Based on the short-term nature and current levels of our
investments and debt, however, we do not believe that there is any material
market risk or exposure.
Our general investing policy is to limit the risk of principal loss and
ensure the safety of invested funds by limiting credit and market risk. We
currently invest in highly liquid money market accounts. All highly liquid
investments with original maturities of three months or less are considered to
be cash equivalents.
27
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
INSIGHTFUL CORPORATION AND SUBSIDIARIES
FINANCIAL STATEMENTS AS OF DECEMBER 31, 2003 AND 2002
TOGETHER WITH AUDITORS' REPORT
INDEX. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . PAGE
- ------ ----
Report of Ernst & Young LLP, Independent Auditors. . . . . . . . . . . . . . . . . . . . . 29
Consolidated Balance Sheets as of December 31, 2003 and 2002 . . . . . . . . . . . . . . . 30
Consolidated Statements of Operations for the Years ended December 31, 2003, 2002 and 2001 31
Consolidated Statements of Stockholders' Equity. . . . . . . . . . . . . . . . . . . . . . 32
Consolidated Statements of Cash Flows. . . . . . . . . . . . . . . . . . . . . . . . . . . 33
Notes to Consolidated Financial Statements . . . . . . . . . . . . . . . . . . . . . . . . 34
28
REPORT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS
To The Board of Directors and Stockholders
Insightful Corporation:
We have audited the accompanying consolidated balance sheets of Insightful
Corporation as of December 31, 2003 and 2002 and the related consolidated
statements of operations, stockholders' equity and cash flows for each of the
three years in the period ended December 31, 2003. These financial statements
are the responsibility of the Company's management. Our responsibility is to
express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States. Those standards require that we plan and perform
the audit to obtain reasonable assurance about whether the financial statements
are free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements. An
audit also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the consolidated financial position of Insightful
Corporation at December 31, 2003 and 2002, and the consolidated results of its
operations and its cash flows for each of the three years in the period ended
December 31, 2003, in conformity with accounting principles generally accepted
in the United States.
/S/ ERNST AND YOUNG LLP
Seattle, Washington
February 24, 2004
except for the second paragraph of Note 12,
as to which the date is March 27, 2004
29
INSIGHTFUL CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
DECEMBER 31,
-------------------------
2003 2002
-------------- ---------
ASSETS
------
Current assets:
Cash and cash equivalents . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 7,139 $ 6,819
Trade accounts receivable, less reserves of $333 and $305 at
December 31, 2003 and 2002, respectively. . . . . . . . . . . . . . . . . . . . . . 3,210 2,346
Other receivables . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 726 955
Inventories . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 130 102
Prepaid expenses. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 292 204
-------------- ---------
Total current assets. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11,497 10,426
Property and equipment, net . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 984 2,055
Goodwill. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 800 1,230
Other intangibles, net of accumulated amortization of $481 and $267 at
December 31, 2003 and 2002, respectively. . . . . . . . . . . . . . . . . . . . . . . 122 276
Other assets. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 53 49
-------------- ---------
$ 13,456 $ 14,036
============== =========
LIABILITIES AND STOCKHOLDERS' EQUITY
------------------------------------
Current liabilities:
Current portion of long-term debt . . . . . . . . . . . . . . . . . . . . . . . . . . $ 129 $ 129
Accounts payable. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 914 1,030
Accrued payroll and payroll-related items . . . . . . . . . . . . . . . . . . . . . . 1,372 1,135
Accrued expenses and other current liabilities. . . . . . . . . . . . . . . . . . . . 1,390 1,236
Deferred revenue. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5,633 4,780
-------------- ---------
Total current liabilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9,438 8,310
Long-term debt, less current portion. . . . . . . . . . . . . . . . . . . . . . . . . . 161 289
Commitments and contingencies
Stockholders' equity:
Preferred stock, $0.01 par value-
Authorized-1,000,000 shares
Issued and outstanding-none . . . . . . . . . . . . . . . . . . . . . . . . . . . . - -
Common stock, $0.01 par value-
Authorized-20,000,000 shares
Issued and outstanding-11,474,444 and 11,518,277 shares at
December 31, 2003 and 2002, respectively. . . . . . . . . . . . . . . . . . . . . . 115 115
Additional paid-in capital. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 34,319 34,316
Deferred stock-based compensation . . . . . . . . . . . . . . . . . . . . . . . . . . - (162)
Accumulated deficit . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (30,454) (28,881)
Cumulative translation gain (loss). . . . . . . . . . . . . . . . . . . . . . . . . . (123) 49
-------------- ---------
Total stockholders' equity. . . . . . . . . . . . . . . . . . . . . . . . . . . . 3,857 5,437
-------------- ---------
$ 13,456 $ 14,036
============== =========
The accompanying notes are an integral part of these consolidated financial statements.
30
INSIGHTFUL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
2003 2002 2001
-------- -------- --------
Revenues:
Software licenses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 7,645 $ 6,151 $ 6,753
Software maintenance. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6,641 5,955 5,139
Professional services and other . . . . . . . . . . . . . . . . . . . . . . . . . . . 2,931 4,288 5,534
-------- -------- --------
Total revenues. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17,217 16,394 17,426
-------- -------- --------
Cost of revenues:
Software related. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,944 1,832 2,303
Professional services and other . . . . . . . . . . . . . . . . . . . . . . . . . . . 2,546 3,533 3,889
-------- -------- --------
Total cost of revenues. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4,490 5,365 6,192
-------- -------- --------
Gross profit. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 12,727 11,029 11,234
-------- -------- --------
Operating expenses:
Sales and marketing . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6,919 7,002 5,759
Research and development. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6,469 7,918 7,574
Less-Funded research. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (4,307) (4,674) (4,827)
-------- -------- --------
Research and development, net . . . . . . . . . . . . . . . . . . . . . . . . . . . 2,162 3,244 2,747
General and administrative. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3,559 3,074 3,063
Amortization of goodwill (2001) and other intangibles . . . . . . . . . . . . . . . . 212 212 107
Loss from impairment of goodwill. . . . . . . . . . . . . . . . . . . . . . . . . . . 462 800 -
Restructuring-related charges . . . . . . . . . . . . . . . . . . . . . . . . . . . . 911 501 455
-------- -------- --------
Total operating expenses. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14,225 14,833 12,131
-------- -------- --------
Loss from operations. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (1,498) (3,804) (897)
Other income. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 189 128 341
Interest expense. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (21) (33) (27)
-------- -------- --------
Loss before income taxes. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (1,330) (3,709) (583)
Income tax provision (benefit). . . . . . . . . . . . . . . . . . . . . . . . . . . . . 106 (201) 115
-------- -------- --------
Loss from continuing operations . . . . . . . . . . . . . . . . . . . . . . . . . . . (1,436) (3,508) (698)
Discontinued operations:
Loss from discontinued operations, net of tax . . . . . . . . . . . . . . . . . . . . (137) - (737)
Gain on disposal of discontinued operations, net of tax . . . . . . . . . . . . . . . - 427 3,849
-------- -------- --------
Net income (loss) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $(1,573) $(3,081) $ 2,414
======== ======== ========
Basic and diluted loss per share-continuing operations. . . . . . . . . . . . . . . . . $ (0.13) $ (0.31) $ (0.06)
======== ======== ========
Basic and diluted net income (loss) per share-discontinued operations . . . . . . . . . $ (0.01) $ 0.04 $ 0.29
======== ======== ========
Basic and diluted net income (loss) per share . . . . . . . . . . . . . . . . . . . . . $ (0.14) $ (0.27) $ 0.22
======== ======== ========
Weighted-average number of common shares outstanding. . . . . . . . . . . . . . . . . . 11,404 11,287 10,858
======== ======== ========
Weighted-average number common shares outstanding assuming dilution . . . . . . . . . . 11,404 11,287 10,858
======== ======== ========
The accompanying notes are an integral part of these consolidated financial statements.
31
INSIGHTFUL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(IN THOUSANDS)
NUMBER $0.01 ADDITIONAL STOCK-
OF PAR- PAID-IN BASED ACCUMULATED
SHARES VALUE CAPITAL COMPENSATION DEFICIT
-------- ------- ------------ -------------- -------------
Balance, January 1, 2001 . . . . . . . . . . . . . . . 10,696 107 32,525 - (28,214)
Exercise of stock options and Employee
Stock Purchase Plan. . . . . . . . . . . . . . . . 296 3 514 - -
Collection of subscription receivable. . . . . . . . . - - - - -
Issuance of common stock in connection
with Predict acquisition and deferred stock-based
compensation . . . . . . . . . . . . . . . . . . . 300 3 688 (426) -
Issuance of common stock and warrants
in connection with Waratah acquisition . . . . . . 34 - 140 -
Amortization of stock-based compensation . . . . . . - - - 44 -
Net income . . . . . . . . . . . . . . . . . . . . . - - - - 2,414
Translation adjustment . . . . . . . . . . . . . . . - - - - -
Comprehensive income . . . . . . . . . . . . . . . . - - - - -
-------- ------- ------------ -------------- -------------
Balance, December 31, 2001 . . . . . . . . . . . . . . 11,326 113 33,867 (382) (25,800)
Exercise of stock options and Employee
Stock Purchase Plan. . . . . . . . . . . . . . . . 192 2 449 - -
Collection of subscription receivable. . . . . . . . - - - - -
Amortization of stock-based compensation . . . . . . - - - 220 -
Net loss . . . . . . . . . . . . . . . . . . . . . . - - - - (3,081)
Translation adjustment . . . . . . . . . . . . . . . - - - - -
Comprehensive loss . . . . . . . . . . . . . . . . . - - - - -
-------- ------- ------------ -------------- -------------
Balance, December 31, 2002 . . . . . . . . . . . . . . $11,518 $ 115 $ 34,316 $ (162) $ (28,881)
Amortization of stock-based compensation . . . . . . - - - 34 -
Exercise of stock options and Employee
Stock Purchase Plan. . . . . . . . . . . . . . . . 72 1 88 - -
Stock-based compensation related to modification
of Stock option grant. . . . . . . . . . . . . . . - - 181 - -
Cancellation of Predict acquisition related
common stock and deferred compensation . . . . . . (116) (1) (266) 128 -
Net loss . . . . . . . . . . . . . . . . . . . . . . - - - - (1,573)
Translation adjustment . . . . . . . . . . . . . . . - - - - -
Comprehensive loss . . . . . . . . . . . . . . . . . - - - - -
-------- ------- ------------ -------------- -------------
Balance, December 31, 2003 . . . . . . . . . . . . . . $11,474 $ 115 $ 34,319 $ - $ (30,454)
======== ======= ============ ============== =============
COMPRE-
TRANS- STOCK- HENSIVE
SUBSCRIPTION LATION HOLDERS' INCOME
RECEIVABLE ADJUSTMENT EQUITY (LOSS)
-------------- ------------ ---------- ---------
Balance, January 1, 2001 . . . . . . . . . . . . . . . (550) 7 3,875 -
Exercise of stock options and Employee
Stock Purchase Plan. . . . . . . . . . . . . . . . - - 517 -
Collection of subscription receivable. . . . . . . . . 170 - 170 -
Issuance of common stock in connection
with Predict acquisition and deferred stock-based
compensation . . . . . . . . . . . . . . . . . . . - - 265 -
Issuance of common stock and warrants
in connection with Waratah acquisition . . . . . . - - 140 -
Amortization of stock-based compensation . . . . . . - - 44
Net income . . . . . . . . . . . . . . . . . . . . . - - 2,414 2,414
Translation adjustment . . . . . . . . . . . . . . . - 12 12 12
---------
Comprehensive income . . . . . . . . . . . . . . . . - - - $ 2,426
-------------- ------------ ---------- =========
Balance, December 31, 2001 . . . . . . . . . . . . . . (380) 19 7,437 -
Exercise of stock options and Employee
Stock Purchase Plan. . . . . . . . . . . . . . . . - - 451 -
Collection of subscription receivable. . . . . . . . 380 - 380 -
Amortization of stock-based compensation . . . . . . - - 220
Net loss . . . . . . . . . . . . . . . . . . . . . . - - (3,081) (3,081)
Translation adjustment . . . . . . . . . . . . . . . - 30 30 30
---------
Comprehensive loss . . . . . . . . . . . . . . . . . - - - $ (3,051)
-------------- ------------ ---------- =========
Balance, December 31, 2002 . . . . . . . . . . . . . . $ - $ 49 $ 5,437 -
Amortization of stock-based compensation . . . . . . - - 34 -
Exercise of stock options and Employee
Stock Purchase Plan. . . . . . . . . . . . . . . . - - 89 -
Stock-based compensation related to modification
of Stock option grant. . . . . . . . . . . . . . . - - 181 -
Cancellation of Predict acquisition related
common stock and deferred compensation . . . . . . - - (139) -
Net loss . . . . . . . . . . . . . . . . . . . . . . - - (1,573) (1,573)
Translation adjustment . . . . . . . . . . . . . . . - (172) (172) (172)
---------
Comprehensive loss . . . . . . . . . . . . . . . . . - - - $ (1,745)
-------------- ------------ ---------- =========
Balance, December 31, 2003 . . . . . . . . . . . . . . $ - $ (123) $ 3,857 -
============== ============ ==========
The accompanying notes are an integral part of these consolidated financial statements.
32
INSIGHTFUL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
2003 2002 2001
-------- -------- --------
Operating activities:
Net income (loss) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $(1,573) $(3,081) $ 2,414
Less-Income (loss) from discontinued operations . . . . . . . . . . . . . . . (137) 427 3,111
-------- -------- --------
Loss from continuing operations . . . . . . . . . . . . . . . (1,436) (3,508) (697)
Adjustments to reconcile loss from continuing
operations to net cash provided by operating activities-
Depreciation, and amortization charges. . . . . . . . . . . . . . . . . . . 1,336 1,289 754
Amortization (reversal) of stock-based compensation . . . . . . . . . . . . (105) 220 44
Non-cash compensation charge. . . . . . . . . . . . . . . . . . . . . . . . 181 - -
Other non-cash charges. . . . . . . . . . . . . . . . . . . . . . . . . . . 12 - -
Goodwill impairment . . . . . . . . . . . . . . . . . . . . . . . . . . . . 462 800 -
Loss on disposition of assets . . . . . . . . . . . . . . . . . . . . . . . 165 - -
Changes in current assets and liabilities:
Trade and other receivables . . . . . . . . . . . . . . . . . . . . . . . (506) 1,391 (540)
Inventories . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (27) (31) -
Prepaid expenses. . . . . . . . . . . . . . . . . . . . . . . . . . . . . (79) 49 (72)
Decrease (increase) in other assets . . . . . . . . . . . . . . . . . . . - 52 (48)
Accounts payable. . . . . . . . . . . . . . . . . . . . . . . . . . . . . (110) (345) 115
Accrued expenses, payroll and other current liabilities . . . . . . . . . 257 (59) (169)
Deferred revenue. . . . . . . . . . . . . . . . . . . . . . . . . . . . . 665 962 763
-------- -------- --------
Net cash provided by operating activities . . . . . . . . . . . . . . . 815 820 150
-------- -------- --------
Investing activities:
Purchases of property and equipment (197) (1,069) (1,400)
Capitalized patent costs. . . . . . . . . . . . . . . . . . . . . . . . . . . (59) (92) (111)
Acquisitions, net of cash acquired. . . . . . . . . . . . . . . . . . . . . . - (176) (1,744)
-------- -------- --------
Net cash used in investing activities . . . . . . . . . . . . . . . . . (256) (1,337) (3,255)
-------- -------- --------
Financing activities:
Payments on debt. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (128) (84) (145)
Proceeds from debt. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . - 450 -
Cash received on subscription receivable from director - 380 170
Proceeds from exercise of stock options and employee stock purchase plan. . 89 451 517
-------- -------- --------
Net cash provided by (used in) financing activities . . . . . . . . . . (39) 1,197 542
-------- -------- --------
Effect of exchange rate changes on cash and cash equivalents. . . . . . . . . . (63) 30 12
-------- -------- --------
Net cash (used in) provided by continuing operations. . . . . . . . . . . . . . 457 710 (2,551)
-------- -------- --------
Net cash provided by (used in) discontinued operations. . . . . . . . . . . . . (137) (169) 5,084
-------- -------- --------
Net increase in cash and cash equivalents . . . . . . . . . . . . . . . . . . . 320 541 2,533
-------- -------- --------
Cash and cash equivalents, beginning of year. . . . . . . . . . . . . . . . . . 6,819 6,278 3,745
-------- -------- --------
Cash and cash equivalents, end of year. . . . . . . . . . . . . . . . . . . . . $ 7,139 $ 6,819 $ 6,278
======== ======== ========
Supplemental disclosure of cash flow information:
Cash paid during the year for-
Interest. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 21 $ 30 $ 12
======== ======== ========
Income taxes. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 82 $ 9 $ 65
======== ======== ========
Supplemental disclosure of noncash investing and financing activities:
Issuance of common stock and warrants in connection with acquisitions and
deferred stock-based compensation. . . . . . . . . . . . . . . . . . . . . $ - $ - $ 832
======== ======== ========
The accompanying notes are an integral part of these consolidated financial statements.
33
INSIGHTFUL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
(1) DESCRIPTION OF BUSINESS
CONTINUING OPERATIONS
Insightful Corporation and subsidiaries, or Insightful, provides
enterprises with scalable data analysis solutions consisting of software and
services that facilitate decision-making by revealing patterns, trends and
relationships. The company is a supplier of these software and services for
statistical data mining, business analytics, knowledge management, and
information retrieval enabling clients to gain intelligence from numerical data,
text and images
Our products include S-PLUS , StatServer , S-PLUS Analytic Server
,,Insightful Miner, and InFact . Our consulting services provide specialized
expertise and proven processes for the design, development and deployment of
analytical solutions.
We have been delivering data analysis solutions for 17 years to companies
in financial services, pharmaceuticals, biotechnology, telecommunications and
manufacturing, as well as government and research institutions.
Headquartered in Seattle, Washington, we also have North American offices
in New York City and North Carolina. Our international offices are located in
France, Switzerland, and the United Kingdom, with distributors around the world.
DISCONTINUED OPERATIONS
In January 2001, we closed the sale of our Engineering and Education
Products Division (EEPD) to a third party for cash proceeds of $7,000,000
resulting in gains of $3,849,000 recorded in 2001 and $427,000 recorded in 2002.
The gain on disposal of discontinued operations recorded in 2002 resulted from
the favorable resolution of certain contingencies relating to the transaction
during the second and third quarters of 2002.
The results of EEPD are presented on a net basis in the accompanying
consolidated statements of operations as discontinued operations.
The 2001 loss from discontinued operations consists of EEPD's revenue of
$74,000 offset by costs and expenses of $811,000 for the period through January
23, 2001, the date of disposition. The loss of $137,000 recorded in 2003 related
to previously unidentified potential third party contractual commitments of
EEPD. The amounts were not material to the periods in which they applied,
primarily 1999 and 2000. We believe that all significant contingencies relating
to the discontinued operations have now been resolved.
(2) SIGNIFICANT ACCOUNTING POLICIES
(a) PRINCIPLES OF CONSOLIDATION
The accompanying consolidated financial statements include the accounts of
Insightful and its subsidiaries. All intercompany accounts and transactions have
been eliminated in consolidation.
The accompanying consolidated financial statements reflect the application
of certain accounting policies as described in this note and elsewhere in the
consolidated financial statements and notes.
(b) REVENUE RECOGNITION
We offer a variety of scalable data analysis software products, maintenance
contracts, training and consulting services to our customers. We record revenue
in accordance with Statement of Position (SOP) No. 97-2, Software Revenue
Recognition, as amended by SOP No. 98-9, Modification of SOP 97-2, Software
Revenue Recognition, with Respect to Certain Transactions and related
interpretations including Technical Practice Aids. License revenue consists
principally of software license fees earned under perpetual software license
agreements and is generally recognized upon delivery of the software, after
execution of a non-cancellable signed license agreement or receipt of a
definitive purchase order (when appropriate), if collection of the resulting
receivable is probable, the fee is fixed or determinable, and vendor-specific
objective evidence exists for all undelivered elements. Revenues under such
arrangements, which may include several different software products and services
sold together, are allocated based on the residual method in accordance with SOP
No. 98-9. Under the residual method, the fair value of the undelivered
non-essential elements is deferred and subsequently recognized when earned. We
have established vendor-specific
34
INSIGHTFUL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(CONTINUED)
DECEMBER 31, 2003
objective evidence ("VSOE") of fair value for professional services and training
services. In addition, we have established VSOE for maintenance related to most
of our products. For software products sold with maintenance where VSOE for the
maintenance element has not been established, all revenue under the arrangement
is recognized over the maintenance term provided all other revenue recognition
criteria have been met. VSOE is based on the price charged when an element is
sold separately or, in case of an element not yet sold separately, the price
established by authorized management, if it is probable that the price, once
established, will not change before market introduction. Standard terms for
license agreements typically call for payment within 30 to 45 days. Probability
of collection is typically based upon the assessment of the customer's financial
condition through review of their current financial statements or credit
reports. For existing customers, prior payment history is also used to evaluate
probability of collection. We provide for estimated returns at the time of sale
under an unconditional 30-day return policy based on historical experience
Maintenance revenue is recognized ratably over the term of the related
contracts, which generally span one year or less. The initial one-year
maintenance contract is bundled into the license fees on most of our products.
Maintenance services, which include unspecified product upgrades on a
when-and-if available basis, are priced based on a percentage of the current
list price of the licensed software products. Maintenance renewals are optional.
Consulting revenues typically include deployment assistance, project
management, integration with existing customer applications and related services
typically performed on a time-and-materials basis under separate service
arrangements. Revenues from consulting and training services are generally
recognized as services are performed. Standard terms for renewal of maintenance
contracts, consulting services and training call for payment within 30 to 45
days.
Fees from licenses sold together with consulting are generally recognized
upon shipment of the software, provided that all other revenue recognition
criteria are met, payment of the license fees are not dependent upon the
performance of the services, and the consulting services are not essential to
the functionality of the licensed software. If the services are essential to the
functionality of the software, or payment of the license fees is dependent upon
the performance of the services, both the software license and consulting fees
are recognized under the percentage of completion method of contract accounting.
Revenue from fixed-term licenses sold with maintenance is recognized on a
straight-line basis over the license term if all other aspects of SOP 97-2 are
satisfied. All sales made through indirect channels including value added
resellers, or VARs, and distributors are accounted for using the sell-through
method.
If the fee is not fixed or determinable, revenue is recognized as payments
become due from the customer. If an acceptance period is required, revenues are
recognized upon the earlier of customer acceptance or the expiration of the
acceptance period.
Amounts received in advance for maintenance agreements are recorded as
deferred revenue on the accompanying consolidated balance sheets.
(c) CASH EQUIVALENTS
Cash equivalents are stated at cost, which approximates market, and consist
of short-term, highly liquid investments with original maturities of less than
three months at the time of purchase. Cash equivalents consisted primarily of
investments in institutional money market funds.
(d) INVENTORIES
Inventories are stated at the lower of cost (first-in, first-out) or market
and consist principally of CDs and users manuals.
35
INSIGHTFUL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(CONTINUED)
DECEMBER 31, 2003
(e) PROPERTY AND EQUIPMENT
Property and equipment is stated at cost less accumulated depreciation and
amortization. We provide for depreciation and amortization by charges to
operations on a straight-line basis over the estimated useful lives of the
respective assets, as follows:
ASSET CLASSIFICATION USEFUL LIVES
- ------------------------------- ----------------------
Computer equipment and software 3 years
Furniture and fixtures. . . . . 5 years
Leasehold improvements. . . . . Shorter of useful life
or lease term
(f) RESEARCH AND DEVELOPMENT
We account for our software research and development costs in accordance
with Statement of Financial Accounting Standards (SFAS) No. 86, Accounting for
the Costs of Computer Software to Be Sold, Leased or Otherwise Marketed. During
the years ended December 31, 2003, 2002 and 2001, we expensed all research and
development costs, as those costs incurred from the technological feasibility
date (defined as a working model) to the general release date were not material.
(g) FUNDED RESEARCH
We have a funded research group that receives funding from U.S. federal
agencies for work performed under government grants. Research projects are
primarily performed under cost reimbursement arrangements, which typically
provide funding on a time and materials basis based on agency approved labor,
overhead and profit rates. The terms of these arrangements generally require us
to submit both progress and final reports. Research projects are focused
primarily on extending the frontiers of data analysis for numeric, textual
signal & image data. Funding is generally received through cash requests or
installment payments. These amounts are recognized either as the work is
performed under time and material contracts, or on a percentage of completion
basis for fixed bid contracts, and are recorded as an offset against our total
research and development costs. Receivables resulting from this activity are
included in other receivables on the balance sheets.
(h) EARNINGS PER SHARE
Basic net income (loss) per share is calculated using the weighted-average
number of shares of common stock outstanding. Stock issued subject to
restrictions is excluded from the calculation. Diluted net income (loss) per
share reflects the dilutive effect of common stock equivalents, (including stock
options and warrants) unless their effect on earnings per share from continuing
operations is anti-dilutive.
A reconciliation of basic and diluted shares outstanding is as follows:
YEARS ENDED DECEMBER 31,
-------------------------------------
2003 2002 2001
----------- ----------- -----------
Weighted average common shares outstanding . . . . . . . . . . 11,435,000 11,518,000 10,908,000
Restricted common stock subject to repurchase. . . . . . . . . (31,000) (231,000) (50,000)
Weighted-average common shares used in calculation of basic and
diluted income (loss) per share. . . . . . . . . . . . . . . 11,404,000 11,287,000 10,858,000
Options to purchase 2,562,000, 3,040,000 and 3,387,000 shares of common
stock in 2003, 2002, and 2001, respectively, and warrants of 20,000 for each of
the three years, were excluded from the computation of diluted net loss per
share because their effect is anti-dilutive.
36
INSIGHTFUL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(CONTINUED)
DECEMBER 31, 2003
(i) FOREIGN CURRENCY TRANSLATION
The functional currency of our foreign subsidiaries is the local currency
in the country in which the subsidiary is located. Assets and liabilities of
foreign locations are translated to U.S. dollars using the exchange rate at each
balance sheet date. Income and expense accounts are translated using an average
rate of exchange during the period. Foreign currency translation adjustments are
accumulated as a separate component of stockholders' equity. The effect of
aggregate transaction gains and losses is included in other income. Aggregate
transaction gain was approximately $136,000 for the year ended December 31,
2003. Our aggregate transaction loss was approximately $5,000 for the year
ended December 31, 2002 and our aggregate transaction gain was approximately
$5,000 for the year ended December 31, 2001.
(j) GOODWILL AND OTHER INTANGIBLES
Goodwill represents the excess of the purchase price over the fair value of
net assets acquired in business acquisitions accounted for under the purchase
method of accounting. Other intangibles consist primarily of amounts allocated
to non-compete agreements and customer relationships as a result of business
acquisitions and capitalized legal patent fees.
Until December 31, 2001 we amortized goodwill originating from acquisitions
completed before June 30, 2001 on a straight-line basis over its estimated
useful life. Goodwill originating from acquisitions completed between July 1,
2001 and December 31, 2001 was not amortized.
Effective January 1, 2002, we adopted SFAS No. 142, Goodwill and Other
Intangible Assets. As required by SFAS 142, we no longer amortize goodwill, but
instead test it for impairment at least annually. Additional goodwill impairment
tests are performed when events occurs or circumstances change that would more
likely than not reduce the fair value of a reporting unit below its carrying
amount. Under the test, if the carrying amount of a reporting unit that includes
goodwill exceeds the fair value of the reporting unit, we must measure the
impairment loss. Impairment loss is measured as the excess, if any, of the
carrying amount of reporting unit goodwill over its implied fair value. The
implied fair value of goodwill is determined as the excess of the fair value of
the reporting unit over fair values of all of the unit's assets and liabilities,
including any unrecognized intangible assets. We have identified four reporting
units that have goodwill, Waratah, Insightful UK, Insightful Predict/Germany and
Insightful France. We determine fair values of reporting units using the present
value method of measurement of future cash flows.
Our net income (loss), adjusted to exclude goodwill amortization, was as
follows:
YEARS ENDED DECEMBER 31,
------------------------
2003 2002 2001
---- ---- ----
Reported net income (loss) . . . . . . . . . $(1,573,000) $(3,081,000) $2,414,000
Add back goodwill amortization, net of tax . - - 68,000
------------ ------------ ----------
Adjusted net income (loss) . . . . . . . . . $(1,573,000) $(3,081,000) $2,482,000
============ ============ ==========
There was no significant impact on basic or diluted income or loss per
share due to the amortization of goodwill, net of taxes.
In assessing the recoverability of our goodwill and other intangible
assets, we must make assumptions regarding estimated future cash flows and other
factors. Our future cash flows are based on current volume and pricing levels
with anticipated rates of growth and change. If our estimated future cash flows
or other assumptions were to change, we could be required to record impairment
charges for those assets for which the carrying value is not supported by the
future cash flows.
Other intangibles are stated at cost less accumulated amortization. We
provide for amortization by charges to operations on a straight-line basis,
which approximates the pattern in which the economic benefits of the intangible
asset are consumed or otherwise used up, over their estimated useful lives, as
follows:
ASSET CLASSIFICATION USEFUL LIVES
- ---------------------- ------------
Non-compete agreements. . . . . . . 2 years
Customer relationships. . . . . . . 2 years
Patents . . . . . . . . . . . . . . 3 years
37
INSIGHTFUL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(CONTINUED)
DECEMBER 31, 2003
(k) IMPAIRMENT OF LONG-LIVED ASSETS
In accordance with SFAS No. 144, Accounting for Impairment or Disposal of
Long-Lived Assets, we evaluate the carrying values of intangible assets (other
than goodwill) and other long-lived assets on a regular basis for the existence
of facts or circumstances, both internal and external that may suggest that the
carrying amount of these assets may not be recoverable. Recoverability of assets
held and used is measured by a comparison of the carrying amount of an asset to
estimated undiscounted future cash flows expected to be generated by the asset.
If the carrying amount is higher, the impairment loss is measured by the amount,
if any, by which the carrying amount of the assets exceeds their fair value
based on the present value of estimated expected future cash flows.
(l) ADVERTISING COSTS
We expense advertising costs as incurred. Total advertising expenses were
approximately $53,000, $39,000 and $33,000 for the years ended December 2003,
2002, and 2001, respectively.
(m) CONCENTRATION OF CREDIT RISK
SFAS No. 105, Disclosure of Information about Financial Instruments with
Off-Balance-Sheet Risk and Financial Instruments with Concentrations of Credit
Risk, requires disclosure of any significant off-balance-sheet and credit risk
concentrations. Financial instruments that subject us to credit risk consist
primarily of cash and cash equivalents and accounts receivable. We maintain the
majority of our cash balances with one financial institution in the amounts that
exceed federally insured levels.
Our accounts receivable and customer base are dispersed across many
different geographic areas throughout North America and Europe and consist of
companies in a variety of industries. We assess each customer's financial
condition through the review of current financial statements or credit reports.
For existing customers, prior payment history is also used to evaluate
probability of collection and credit worthiness. We do not require collateral or
other security to support credit sales.
During the years ended December 31, 2003, 2002 and 2001, we did not have
any one customer that accounted for greater than 10% of net revenues. As of
December 31, 2003 and 2002, we did not have any one customer that accounted for
greater than 10% of accounts receivable.
(n) USE OF ESTIMATES
The preparation of these consolidated financial statements in conformity
with accounting principles generally accepted in the United States requires
management to make estimates and assumptions that affect the amounts reported in
the financial statements. Changes in these estimates and assumptions may have a
material impact on the consolidated financial statements. We have used estimates
in determining certain provisions, including receivable reserves, useful lives
for property and equipment, useful lives of intangibles, impairment losses
related to goodwill, and tax liabilities.
(o) FINANCIAL INSTRUMENTS
At December 31, 2003, we had the following financial instruments: cash and
cash equivalents, accounts receivable, other receivables, accounts payable,
accrued liabilities, and debt. The carrying value of cash and cash equivalents,
receivables and payables approximates fair value based on the liquidity of these
financial instruments or based on their short-term nature. The carrying value of
equipment financing debt approximates fair value based on the market interest
rates available to us for debt of similar risk and maturities.
(p) RECENT ACCOUNTING PRONOUNCEMENTS
In December 2003, the SEC issued Staff Accounting Bulletin (SAB) No. 104,
"Revenue Recognition" (SAB No. 104), which codifies, revises and rescinds
certain sections of SAB No. 101, "Revenue Recognition", in order to make this
interpretive guidance consistent with current authoritative accounting and
auditing guidance and SEC rules and regulations. SAB 104's primary purpose is to
rescind accounting guidance contained in SAB 101 related to multiple element
revenue arrangements, superseded as a result of the issuance of EITF 00-21
Accounting for Revenue Arrangements with Multiple Deliverables.
38
INSIGHTFUL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(CONTINUED)
DECEMBER 31, 2003
Additionally, SAB 104 rescinds the SEC's Revenue Recognition in Financial
Statements Frequently Asked Questions and Answers (the FAQ) issued with SAB 101
that had been codified in SEC Topic 13, Revenue Recognition. Selected portions
of the FAQ have been incorporated into SAB 104. While the wording of SAB 104 has
changed to reflect the issuance of EITF 00-21, the revenue recognition
principles of SAB 101 remain largely unchanged by the issuance of SAB 104.
Adoption of this standard had no material impact on the company's financial
position, results of operations or cash flows.
(q) SEGMENT INFORMATION
SFAS No. 131, "Disclosures About Segments of an Enterprise and Related
Information," establishes standards for reporting information about operating
segments in annual financial statements. It also establishes standards for
related disclosures about products, services, geographical areas and major
customers. In the third quarter of 2003, management changed the way the Company
is organized and the way it presents information about its operating performance
to its chief operating decision maker. As a result, three operating segments
were identified: Domestic Data Analysis, International Data Analysis and Text
Analysis. Segment information for the years ended December 31, 2003, 2002, and
2001 has been presented in accordance with the current segment definitions. The
Company measures segment performance based on their income or loss from
operations. Assets are not allocated to segments for internal reporting
presentations.
DOMESTIC DATA ANALYSIS YEARS ENDED DECEMBER 31,
-------------------------
2003 2002 2001
----------- ----------- -----------
Revenues . . . . . . . . . . . . . . . . . 11,084,000 11,002,000 13,463,000
Depreciation expense . . . . . . . . . . . 759,000 864,000 4848,000
Loss from operations . . . . . . . . . . . (401,000) (1,401,000) 1,382,000
INTERNATIONAL DATA ANALYSIS YEARS ENDED DECEMBER 31,
-------------------------
2003 2002 2001
----------- ----------- -----------
Revenues . . . . . . . . . . . . . . . . . 5,488,000 5,169,000 3,963,000
Depreciation expense . . . . . . . . . . . 283,000 155,000 149,000
Loss from operations . . . . . . . . . . . (689,000) (2,210,000) (2,279,000)
TEXT ANALYSIS YEARS ENDED DECEMBER 31,
-------------------------
2003 2002 2001
----------- ----------- -----------
Revenues . . . . . . . . . . . . . . . . . 645,000 223,000 -
Depreciation expense . . . . . . . . . . . 83,000 48,000 -
Loss from operations . . . . . . . . . . . (408,000) (193,000) -
Non-operating income and expenses are not tracked by segment.
(r) INCOME TAXES
We account for income taxes under the liability method. Under the liability
method, deferred tax assets and liabilities are determined based on differences
between financial reporting and tax base of assets and liabilities and are
measured using enacted tax rates and laws that will be in effect when the
differences are expected to reverse. Valuation allowances are established, when
necessary, to reduce tax assets to the amounts expected to be realized.
(s) STOCK-BASED COMPENSATION
We have elected to follow Accounting Principles Board Opinion No. 25,
Accounting for Stock Issued to Employees (APB No. 25), and related
interpretations, in accounting for employee stock options rather than the
alternative fair value accounting allowed by Statement of Financial Accounting
Standards No. 123, Accounting for Stock-Based Compensation (SFAS No. 123). Under
APB No. 25, compensation expense related to our employee stock options is
measured based on the intrinsic value of the stock option. SFAS No. 123 requires
companies that continue to follow APB No. 25 to provide pro forma disclosure of
the impact from applying the fair value method of SFAS No. 123.
The assumptions used to calculate the pro forma effect of the application
of SFAS No. 123 and the weighted average information are as follows:
39
INSIGHTFUL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(CONTINUED)
DECEMBER 31, 2003
YEARS ENDED DECEMBER 31,
------------------------
2003 2002 2001
------------- ------------- -------------
Risk-free interest rates . . 2.06% - 3.74% 1.45% - 4.03% 2.17% - 5.07%
Expected dividend yield. . . None None None
Expected lives . . . . . . . 5.4 years 7 years 7 years
Expected volatility. . . . . 79% 162% 95%
The effect of applying SFAS No. 123 would be as follows:
YEARS ENDED DECEMBER 31,
------------------------
2003 2002 2001
------------ ------------ ------------
Net income (loss) as reported . . . . . . . . . . . . . $(1,573,000) $(3,081,000) $ 2,414,000
Add: Stock-based compensation as reported . . . . . . . (105,000) 220,000 44,000
Deduct: Stock-based compensation determined under
FAS 123 . . . . . . . . . . . . . . . . . . . . . . . (1,102,000) (1,506,000) (1,322,000)
------------ ------------ ------------
Pro forma net income (loss) . . . . . . . . . . . . . . $(2,780,000) $(4,367,000) $ 1,136,000
============ ============ ============
Basic and diluted income (loss) per share as reported . $ (0.14) $ (0.27) $ 0.22
============ ============ ============
Pro forma basic and diluted net income (loss) per share $ (0.24) $ (0.39) $ 0.10
============ ============ ============
We recognize compensation expense for options granted to non-employees in
accordance with the provisions of Emerging Issues Task Force Issue 96-18,
Accounting for Equity Instruments that are Issued to Other Than Employees for
Acquiring, or in Conjunction with Selling, Goods or Services, which require
using a fair-value based option pricing model and remeasuring the related
compensation expense using the current fair value of such stock options until
the performance date has been reached.
Deferred stock-based compensation consists of amounts related to common
stock issued in acquisitions, which are subject to cancellation related to
employee termination. Such amounts are amortized into compensation expense over
the vesting period using a graded vesting method. Upon the employee
termination, stock compensation expense related to unvested awards is reversed.
(t) OTHER COMPREHENSIVE INCOME
SFAS No. 130, Reporting Comprehensive Income, establishes standards for
reporting and display of comprehensive income and its components in the
financial statements. The only item of other comprehensive income (loss) which
we currently report is foreign currency translation adjustments.
(u) RECLASSIFICATION OF AMOUNTS
Certain prior year amounts have been reclassified to conform to the current
year presentation. Specifically, maintenance update and technical support costs
in 2002 and 2001 have been reclassified from cost of professional services and
other revenues to software related cost of revenues.
(3) GOODWILL AND OTHER INTANGIBLES
40
INSIGHTFUL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(CONTINUED)
DECEMBER 31, 2003
Goodwill activity was as follows in 2002 and 2003:
Goodwill at December 31, 2001. . . . . . . $1,874,000
Goodwill recorded in acquisition of GraS 126,000
Acquisition costs. . . . . . . . . . . . 30,000
Impairment . . . . . . . . . . . . . . . (800,000)
-----------
Goodwill at December 31, 2002. . . . . . 1,230,000
Currency translation adjustment. . . . . 32,000
Impairment . . . . . . . . . . . . . . . (462,000)
-----------
Goodwill at December 31, 2003. . . . . . . $ 800,000
-----------
All of the goodwill and goodwill activity shown above related to the
International Data Analysis segment, except for goodwill of $240,000 acquired in
the Waratah transaction in 2001, which has remained unchanged at December 31,
2003.
Upon adoption of SFAS 142 on January 1, 2002 we performed the transitional
goodwill impairment test, which indicated no goodwill impairment. Based on the
results of our annual goodwill impairment tests as of October 1, 2002 and 2003,
we recorded goodwill impairment losses of $800,000 and $259,000, respectively,
arising from our Insightful Predict/Germany reporting unit. In addition, as of
October 1, 2003 we recognized a goodwill impairment loss of $203,000 arising
from our Insightful France reporting unit. These goodwill impairment losses
arose from a reduction in the estimated future cash flows from these units,
primarily as a result of decreased revenue forecasts based on a more cautious
outlook for the European region.
Other intangible assets consist of the following:
DECEMBER 31, 2003 DECEMBER 31, 2002
------------------------------------ -----------------------------------
GROSS OTHER GROSS OTHER
CARRYING ACCUMULATED INTANGIBLES, CARRYING ACCUMULATED INTANGIBLES,
AMOUNT AMORTIZATION NET AMOUNT AMORTIZATION NET
-------- -------------- -------- -------- -------------- --------
Non-compete agreements. . . $146,000 $ (146,000) $ - $146,000 $ (91,000) $ 55,000
Customer relationships. . . 195,000 (195,000) - 195,000 (118,000) 77,000
Capitalized patent expenses 262,000 (140,000) 122,000 202,000 (58,000) 144,000
-------- -------------- -------- -------- -------------- --------
Total . . . . . . . . . $603,000 $ (481,000) $122,000 $543,000 $ (267,000) $276,000
======== ============== ======== ======== ============== ========
Other intangibles are scheduled to be fully amortized by December 31, 2006
with corresponding amortization estimated to be $79,000, $35,000 and $8,000 for
2004, 2005 and 2006, respectively.
41
INSIGHTFUL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(CONTINUED)
DECEMBER 31, 2003
(4) FINANCING ARRANGEMENTS
In March 2003, we renewed a $3.5 million working capital revolving line of
credit and security agreement with Silicon Valley Bank, or SVB, which expired in
March 2004. This facility is secured by our accounts receivable and allows us to
borrow up to the lesser of (a) 75% of our eligible accounts receivable (advances
against U.S. Government accounts will be permitted up to 20% of the amount
outstanding under the line of credit) or (b) $3.5 million and bears interest at
the prime rate, which was 4.0% as of December 31, 2003, plus 1%. At December
31, 2003, no amounts had been borrowed and $1,445,000 was available for future
borrowings under the line of credit facility.
In March 2003, we also renewed an equipment term loan and security
agreement with SVB which expired in March 2004., This facility allows us to take
advances on the cost of eligible equipment less than 90 days old and is secured
by the underlying equipment. We borrowed $450,000 under this facility in 2002
and the remaining outstanding balance was $290,000 at December 31, 2003. These
term loan advances bear interest at the prime rate, which was 4.0% as of
December 31, 2003, plus 1%. Advances are repaid over a 36-month period. At
December 31, 2003, $375,000 was available under this facility for future
equipment borrowings.
These credit facilities contain covenants that limit our net losses and
restrict the amount of capital expenditures not financed through the equipment
term loan. In addition, we are prohibited from paying dividends. We were in
compliance with these covenants as of December 31, 2003.
Future maturities of debt as of December 31, 2003 are:
YEAR ENDING DECEMBER 31,
------------------------
2004 2005 2006 2007 2008 THEREAFTER TOTAL
---- ---- ---- ---- ---- ---------- -----
Equipment term loan . . $ 129,000 $ 129,000 $32,000 - - - $290,000
(5) BUSINESS RESTRUCTURINGS
In November 2001, July 2002 and July 2003 we implemented workforce
reductions in order to better align our costs with our revenues. The 2001
restructuring expense totaled $455,000 and resulted from the reduction of
approximately 24 employees, or 13% of our employee base at the time. All of the
restructuring charge related to our Domestic Data Analysis segment and
represented employee severance and termination benefits. As of December 31,
2001, $366,000 of the severance and termination benefits related to this
workforce reduction had been paid and $89,000 remained accrued on that date,
with the remaining benefits paid in 2002.
The 2002 restructuring expense totaled $501,000 and resulted from a
workforce reduction of 31 employees, or 18% of our employee base at the time. Of
the $501,000 restructuring charge, $170,000 related to our International Data
Analysis segment and the remaining $331,000 was attributable to our Domestic
Data Analysis segment. All of the 2002 restructuring charges related to employee
severance and termination benefits. As of December 31, 2002, $418,000 of the
severance and termination benefits had been paid and $83,000 remained accrued on
that date, with the remaining benefits paid in January 2003.
The 2003 restructuring expense totaled $911,000 (all recognized in 2003)
and included a workforce reduction of 23 employees, or 18% of our employee base
at the time. Of the $911,000 restructuring charge, $288,000 related to our
International Data Analysis segment and the remaining $623,000 was attributable
to our Domestic Data Analysis segment. As part of this restructuring, the
Company combined its German operations with its Swiss subsidiary headquartered
in Basel, Switzerland. On September 30, 2003, Shawn Javid, President and CEO,
resigned from the company. The 2003 restructuring charges, including charges
associated with the resignation of Shawn Javid, consisted primarily of employee
severance and termination payments and lease termination costs, as well as a
$176,000 non-cash compensation charge related to a modification of stock options
upon termination of Mr. Javid. As of December 31, 2003 $321,000 in termination
benefits remained to be paid, of which $257,000 will be paid in 2004 and the
remaining $64,000 in 2005.
42
INSIGHTFUL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(CONTINUED)
DECEMBER 31, 2003
(6) PROPERTY AND EQUIPMENT
Property and equipment consist of the following:
DECEMBER 31,
------------
2003 2002
------------ ----------
Computer equipment and software. . . . . . . . $ 3,933,000 $5,300,000
Furniture and fixtures . . . . . . . . . . . . 545,000 529,000
Leasehold improvements . . . . . . . . . . . . 218,000 215,000
------------ ----------
4,696,000 6,044,000
Less-Accumulated depreciation and amortization 3,712,000 3,989,000
------------ ----------
$ 984,000 $2,055,000
============ ==========
Depreciation expense on fixed assets was approximately $1,125,000,
$1,067,000 and $633,000 for the years ended December 2003, 2002, and 2001,
respectively
(7) INCOME TAXES
Income (loss) from continuing operations before taxes consisted of the
following:
YEARS ENDED DECEMBER 31,
------------------------
2003 2002 2001
------------ ------------ ----------
United States . . . .$ (484,000) $(2,444,000) $ 9,000
Foreign . . . . . . (846,000) (1,265,000) (592,000)
------------ ------------ ----------
Total . . . . . . . $(1,330,000) $(3,709,000) $(583,000)
============ ============ ==========
43
INSIGHTFUL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(CONTINUED)
DECEMBER 31, 2003
The provisions for income taxes consisted of the following:
YEARS ENDED DECEMBER 31,
------------------------
2003 2002 2001
---------- ---------- ----------
Current tax (benefit) expense-
Federal . . . . . . . . . . . . . . . . . . . . . . . . . . - $ (98,000) $ 50,000
State . . . . . . . . . . . . . . . . . . . . . . . . . . . 5,000 (100,000) 140,000
Foreign . . . . . . . . . . . . . . . . . . . . . . . . . . 101,000 (103,000) 65,000
---------- ---------- ----------
106,000 (301,000) 255,000
---------- ---------- ----------
Deferred tax expense (benefit)-
Federal . . . . . . . . . . . . . . . . . . . . . . . . . . 182,000 (483,000) (818,000)
State . . . . . . . . . . . . . . . . . . . . . . . . . . . - - -
---------- ---------- ----------
182,000 (483,000) (818,000)
Increase (decrease) in valuation reserve. . . . . . . . . . . . (182,000) 483,000 818,000
Tax benefit (expense) relating to discontinued operations . . . - 100,000 (140,000)
---------- ---------- ----------
Income tax (benefit) provision relating to continuing
operations. . . . . . . . . . . . . . . . . . . . . . $ 106,000 $(201,000) $ 115,000
========== ========== ==========
A reconciliation of the federal statutory rate to our effective tax rate is
as follows:
YEARS ENDED DECEMBER 31,
------------------------
2003 2002 2001
------- ------- -------
Income tax provision (benefit) at federal statutory rate . (34.0)% (34.0)% (34.0)%
Increase (decrease) in tax resulting from-
State tax provision, net . . . . . . . . . . . . . . . . 0.2 - -
Foreign tax provision. . . . . . . . . . . . . . . . . . 7.0 (2.7) 11.2
Other permanent items. . . . . . . . . . . . . . . . . . 11.7 0.5 3.8
Alternative Minimum Tax. . . . . . . . . . . . . . . . . - - 8.6
Research credit. . . . . . . . . . . . . . . . . . . . . 4.5 3.5 -
Acquisition related. . . . . . . . . . . . . . . . . . . - 8.9 -
Other. . . . . . . . . . . . . . . . . . . . . . . . . . (0.7) 6.5 -
Operating losses providing no current benefit. . . . . . 18.6 11.9 30.1
------- ------- -------
7.3% (5.4)% 19.7%
======= ======= =======
At December 31, 2003, we have available net operating loss carryforwards of
approximately $22,464,000 and tax credit carryforwards of approximately
$2,210,000. The net operating loss carryforwards may be used to offset future
federal taxable income through the year ending December 31, 2022 while the tax
credit carryforwards may be used to offset future federal income taxes through
the year ending December 31, 2021. The Internal Revenue Code contains provisions
that limit the net operating loss and credit carryforwards available to be used
in any given year upon the occurrence of certain events, including significant
changes in ownership interests. Approximately $3.3 million of the net operating
losses generated for federal income tax purposes are not available to reduce
income tax expense for financial reporting purposes because the tax effects of
tax deductions for employee stock options in excess of the related financial
reporting compensation expense are recognized through equity. To the extent
that net operating losses, when realized, relate to stock option deductions, the
resulting benefits will be credited to shareholders' equity.
A valuation allowance has been established to reflect the uncertainty of
generating future taxable income necessary to utilize available tax loss
carryforwards.
44
INSIGHTFUL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(CONTINUED)
DECEMBER 31, 2003
The significant components of the deferred tax assets and liabilities are
as follows:
DECEMBER 31,
------------
2003 2002
------------- -------------
Net operating loss carryforward . . . . . . . . . . . . . . . $ 7,551,000 $ 7,623,000
Accounts receivable reserves. . . . . . . . . . . . . . . . . 69,000 108,000
Accrued liabilities . . . . . . . . . . . . . . . . . . . . . 718,000 462,000
Research and development and other tax credit carryforwards . 2,185,000 2,512,000
------------- -------------
10,523,000 10,705,000
Valuation allowance . . . . . . . . . . . . . . . . . . . . . (10,523,000) (10,705,000)
------------- -------------
Net deferred tax asset. . . . . . . . . . . . . . . . . . $ - $ -
============= =============
Due to the uncertainty surrounding the realization of its deferred tax
assets, we have recorded a full valuation allowance against our deferred tax
assets. The valuation allowance decreased by $182,000 during 2003 and increased
by $482,000 and $818,000 in 2002 and 2001, respectively.
(8) COMMITMENTS AND CONTINGENCIES
We have non-cancelable operating leases for our various facilities and
certain office and other equipment. The future minimum commitments under our
non-cancelable operating lease arrangements, exclusive of operating costs are as
follows:
YEAR ENDING DECEMBER 31,
- ------------------------
2004 . . . . . . . . . . $ 773,000
2005 . . . . . . . . . . 167,000
2006 . . . . . . . . . . 130,000
2007 . . . . . . . . . . 110,000
2008 . . . . . . . . . . 47,000
Thereafter . . . . . . . 63,000
----------
$1,290,000
==========
Rental expense under our operating leases was approximately $991,000,
973,000 and $861,000 for the years ended December 31, 2003, 2002 and 2001,
respectively.
45
INSIGHTFUL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(CONTINUED)
DECEMBER 31, 2003
In certain of our licensing agreements we provide intellectual property
infringement indemnifications. These indemnifications are excluded from the
initial recognition and measurement requirements of FASB Interpretation No. 45,
Guarantor's Accounting and Disclosure Requirements for Guarantees. Including
Indirect Guarantees of Indebtedness of Others. The Company's policy is to record
any obligation under such indemnification when a required payment under such
indemnification is probable and the amount of the future loss is estimable. At
December 31, 2003 and 2002 there were no such indemnifications for which a
required payment was deemed to be probable or estimable; therefore, no accrual
has been made for potential losses associated with these indemnifications.
On or about December 13, 2002, Wajih Alaiyan, a former employee of ours,
filed a complaint against us in the Superior Court for King County, Washington.
Mr. Alaiyan alleges that his employment was wrongfully terminated, and he seeks
an unspecified amount of damages. We deny Mr. Alaiyan's claim and will
vigorously defend the lawsuit. An evaluation of the likelihood of an adverse
outcome cannot be expressed with sufficient certainty at this time. An
unfavorable outcome could have a material effect on our operating position,
results of operations, and cash flows.
(9) STOCKHOLDERS' EQUITY
(a) STOCK OPTION PLANS
Under the Company's 2001 Stock Option and Incentive Plan (the 2001 Plan),
the Board of Directors may grant incentive stock options, nonqualified stock
options, awards of common stock and authorizations to make direct purchases of
Insightful's stock to eligible employees and others, as defined. In 2002, the
stockholders approved automatically increasing the number of shares of common
stock issuable under the plan by 7% or 1 million shares, whichever is less, at
the commencement of each year. The options typically vest over a four-year
period. At December 31, 2003, we had 1,772,000 shares available for future
options grants under the 2001 Plan. On January 1, 2004 the number of shares
issuable under the Plan was increased by 803,000.
The Company has a 2001 Non-Employee Director Stock Option Plan (the 2001
Directors' Plan) under which our non-employee directors receive annual grants to
purchase shares of our common stock. All of our option grants under the 2001
Directors' Plan are made at or above fair market value at the time of grant.
These options are exercisable upon grant. At December 31, 2003, we had 840,000
options available for future grant under the 2001 Directors' Plan.
We also have a Non-Qualified, Non-Officer Stock Option Plan (the 1996
Non-Officer Plan) under which employees and consultants to Insightful can be
granted nonqualified options to purchase stock. The vesting of options granted
under the 1996 Non-Officer Plan is determined at the date of grant. Each option
expires 10 years from the date of grant, subject to earlier termination if the
optionee ceases to serve Insightful other than by reason of death or disability,
and is not transferable. At December 31, 2003, we had 176,000 options available
for future grant under the 1996 Non-Officer Plan.
46
INSIGHTFUL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(CONTINUED)
DECEMBER 31, 2003
Our stock option activity for all plans is as follows:
WEIGHTED
AVERAGE
NUMBER OF EXERCISE
SHARES PRICE
----------- ---------
Outstanding at January 1, 2001 2,860,000 $ 2.81
Granted 1,734,000 $ 2.34
Exercised (230,000) $ 1.80
Canceled (977,000) $ 2.94
-----------
Outstanding at December 31, 2001 3,387,000 $ 2.61
Granted 824,000 $ 1.50
Exercised (122,000) $ 2.37
Canceled (1,049,000) $ 2.71
-----------
Outstanding at December 31, 2002 3,040,000 $ 2.28
-----------
Granted 369,000 $ 1.16
Exercised (40,000) $ 1.40
Canceled (807,000) $ 2.08
-----------
Outstanding at December 31, 2003 2,562,000 $ 2.18
===========
Exercisable at December 31, 2003 1,693,000 $ 2.43
Exercisable at December 31, 2002 1,410,000 $ 2.69
Exercisable at December 31, 2001 1,435,000 $ 2.85
The weighted average fair value as of the grant dates of options granted in
2003, 2002, and 2001 was $0.80, $1.46, and $1.81, respectively.
The following table summarizes information about stock options outstanding
and exercisable at December 31, 2003:
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
WEIGHTED AVERAGE
RANGE OF REMAINING WEIGHTED AVERAGE WEIGHTED AVERAGE
EXERCISE PRICES SHARES CONTRACTUAL LIFE EXERCISE PRICE SHARES EXERCISE PRICE
- ---------------- ---------------- ---------------- ----------------- --------- ---------------
..97 - 1.28 647,000 8.84 years $ 1.20 223,000 $ 1.24
1.31 - 1.75 721,000 7.49 years 1.66 473,000 1.67
1.84 - 2.69 678,000 6.41 years 2.35 569,000 2.37
2.75 - 5.56 516,000 4.41 years 3.89 428,000 3.94
----------------
..97 - 5.50 2,562,000 6.92 years $ 2.18 1,693,000 $ 2.43
================ =========
(b) EMPLOYEE STOCK PURCHASE PLAN
We have an employee stock purchase plan (ESPP) that allows eligible
employees to purchase Insightful common stock at the lesser of 85% of fair value
on certain prescribed dates as defined in the ESPP, through payroll deductions
of up to 10% of compensation. During the years ended December 31, 2003, 2002,
and 2001, we issued 20,000, 70,000, and 66,000 shares under the ESPP,
respectively. As of December 31, 2003, 300,000 shares remain available for
future purchase.
47
INSIGHTFUL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(CONTINUED)
DECEMBER 31, 2003
(c) WARRANTS
In conjunction with the 2001 acquisition of a data analysis consulting
business from Waratah Corporation (see Note 11), warrants to purchase 20,000
shares of common stock at an exercise price of $2.90 were issued. The warrants
expire on July 13, 2006 and were valued at $41,000 based on the Black-Scholes
model.
(d) COMMON SHARES RESERVED
At December 31, 2003 common stock reserved for future issuance was as
follows:
Outstanding stock options . . . . . . . . 2,562,000
Stock options available for grant . . . . 2,788,000
ESPP. . . . . . . . . . . . . . . . . . . 408,000
Warrants to purchase common stock . . . . 20,000
---------
5,778,000
=========
(10) 401(K) RETIREMENT PLAN
We sponsor a 401(k) plan that is available to all employees who satisfy
certain eligibility requirements relating to minimum age, length of service and
hours worked. Eligible employees may elect to contribute up to 20% of their
pre-tax gross earnings, subject to statutory limitations regarding maximum
contributions. We match employees' contributions at the discretion of our
management. No contributions were made by the company during 2003 or 2002.
Amounts charged to expense for matching contributions were approximately
$177,000 in 2001.
(11) ACQUISITIONS
On January 1, 2002, we completed the acquisition of a data analysis
software business from Graphische Systeme GmbH (GraS), our former German
distributor. The acquisition provided us with an expanded direct sales channel
in Germany. Consideration for the acquisition was cash of $157,000. In July 2003
the German operations were combined with our Swiss subsidiary and the German
office was closed as part of a corporate restructuring to align costs with
revenues.
In September 2001, we completed the acquisition of Predict AG (Predict).
This acquisition provided us with a European professional services headquarters.
The aggregate consideration was $2,214,000, consisting of cash of $1,466,000,
common stock valued at $691,000 and direct transaction costs of $57,000. The
value of the 300,000 shares of common stock issued was determined based on the
average market price of our common stock over a three-day period before and
after the date of acquisition.
In July 2001, we completed the acquisition of a data analysis consulting
business from Waratah Corporation. This acquisition provided us with expanded
resources, while establishing an East Coast consulting office. The aggregate
consideration paid was $304,000 consisting of $150,000 cash, common stock valued
at $99,000, a common stock warrant valued at $41,000 and direct transaction
costs of $14,000. The value of the 34,530 common shares issued was determined
based on the average market price of our common shares over a three-day period
before and after the date of acquisition. The warrant (to purchase 20,000 shares
of common stock, at an exercise price of $2.90, and expiring on July 13, 2006)
was valued using the Black-Scholes model.
In July 2001, we acquired the data analysis software distribution
operations of Sigma-Plus, our longtime distributor in France. The acquisition
provided us with an expanded direct sales channel and local consulting resources
in Paris and Toulouse. The aggregate consideration was $255,000 consisting of
$212,000 cash and direct transaction costs of $43,000.
The results of GraS, Predict, Waratah and Sigma Plus have been included in
our operating results since their respective acquisition dates.
48
INSIGHTFUL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(CONTINUED)
DECEMBER 31, 2003
The following table summarizes the allocation of the purchase price of each
acquisition to the assets acquired (thousands omitted):
PREDICT WARATAH SIGMA-PLUS GRAS
Current assets. . . . . . . . . . . . . . . . . . . . . .$ 385 $ - $ - $ -
Property, plant, and equipment. . . . . . . . . . . . . . 159 20 1 -
Non-compete agreements. . . . . . . . . . . . . . . . . . 51 44 51 -
Customer relationships. . . . . . . . . . . . . . . . . . 164 - - 31
Goodwill. . . . . . . . . . . . . . . . . . . . . . . . . 1,374 240 203 126
--------- -------- ----------- -----
Total assets acquired. . . . . . . . . . . . . . . . 2,133 304 255 157
Current liabilities assumed . . . . . . . . . . . . . . . (345) - - -
--------- -------- ----------- -----
Total purchase price. . . . . . . . . . . . . . . . . . . 1,788 304 255 157
Deferred stock-based compensation . . . . . . . . . . . . 426 - - -
--------- -------- ----------- -----
Total consideration, including deferred stock-based
compensation . . . . . . . . . . . . . . . . . . . $ 2,214 $ 304 $ 255 $ 157
========= ======== =========== =====
Of the $800,000 in goodwill at December 31, 2003, approximately $240,000 is
deductible for tax purposes.
Non-compete agreements. The value assigned to the non-compete agreements
was determined using the income approach giving consideration to the desire,
effectiveness and feasibility of effective competition by the covenantor in the
absence of the covenant.
Customer relationships. The value assigned the customer relationships
was determined using the discounted cash flow approach. Under this approach, all
relevant facts and circumstances affecting future cash flows are considered and
the determined fair values are based upon estimations of underlying cash flows
to be received, discounted to their present value using appropriate current
market interest rates.
The lives assigned to the identified intangible assets described above are
two years. Amortization expense for these intangibles was $133,000, $169,000 and
$39,000 in 2003, 2002 and 2001, respectively, and was recorded based on the
straight-line method.
Goodwill. The excess of the purchase price over the fair value of the
assets acquired is recorded as goodwill.
Deferred stock-based compensation. In connection with the employment
agreements and related stock retention agreements with three of Predict's key
employees, 185,010 shares of Insightful common stock otherwise issuable to these
employees pursuant to the purchase agreement are subject to restriction, and are
being released from the restriction over a three-year vesting period. The value
of the restricted shares of $426,000 was recorded as deferred stock-based
compensation and is being amortized over a three-year vesting period using a
graded vesting approach. During 2002, the eligibility requirements related to
the stock issued to one individual were waived pursuant to an employment
termination settlement. Accordingly, remaining deferred stock-based compensation
of $51,000 relating to that employee's rescinded shares was recognized as stock
compensation expense. Amortization of deferred stock-based compensation arising
from the restricted stock was $34,000, $220,000 and $44,000 in 2003, 2002 and
2001, respectively, offset by a reversal of $139,000 in 2003. In the first
quarter of 2003, $139,000 of deferred stock based compensation expense
previously recognized was reversed as a result of termination of employee
holders of 116,000 restricted shares issued in the acquisition of Predict AG.
As of December 31, 2003, there were no remaining shares subject to the
restriction.
The unaudited pro forma combined historical results of operations for 2001,
as if the businesses acquired in 2001 had been acquired on January 1, 2001, are
as follows:
YEAR ENDED DECEMBER 31, 2001
PRO FORMA
------------------------------
Total revenues . . . . . . . . . . . . . . . . . . . . . . . . . . $ 19,751,000
Amortization of intangibles and deferred stock-based compensation
Expense. . . . . . . . . . . . . . . . . . . . . . . . . . . . . (214,000)
Income from continuing operations. . . . . . . . . . . . . . . . . (897,000)
Net income (loss). . . . . . . . . . . . . . . . . . . . . . . . . 2,214,000
Basic net income (loss) per share. . . . . . . . . . . . . . . . . 0.20
Diluted net income (loss) per share. . . . . . . . . . . . . . . . 0.20
49
INSIGHTFUL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(CONTINUED)
DECEMBER 31, 2003
The pro forma information does not reflect the results of GraS which are
immaterial. In addition, the pro forma information does not purport to be
indicative of the results that would have been attained had these events
occurred at the beginning of the period presented and is not necessarily
indicative of future results.
(12) SUBSEQUENT EVENTS
In January 2004, we signed an agreement with Lucent Technologies to
acquire the copyrights to the software code underlying the "S" Programming
language for $2.0 million. Prior to this agreement we were a worldwide licensee
of the "S" programming language from Lucent Technologies Inc. Under that
license, we had the right to use, sublicense and support the "S" language in
exchange for royalties, with a minimum annual exclusivity fee of $450,000 and
variable royalties of 3% to 6% of revenues. Of the $2.0 million purchase price,
$1.5 million was paid in January 2004 with the remaining $0.5 million to be paid
in January 2005. As a result of this transaction, $1,779,000 will be capitalized
as an intangible asset, representing the price paid less amounts owed and no
longer payable, and will be amortized over a 3-year life.
On March 27, 2004 we renewed our credit facility with Silicon Valley Bank
on substantially the same terms as the prior credit line and term loan
agreement.
50
INSIGHTFUL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(CONTINUED)
DECEMBER 31, 2003
(13) VALUATION AND QUALIFYING ACCOUNTS
A rollforward of the allowance for doubtful accounts and allowance for
sales returns for the years ended December 31, 2003, 2002 and 2001 is as
follows:
BALANCE, CHARGED TO
BEGINNING OF OPERATING BALANCE, END OF
PERIOD RESULTS(2) DEDUCTIONS(1) PERIOD
Year Ended December 31, 2003:
Allowance for doubtful accounts . . . . . $ 176,000 $ 210,000 $ (96,000) $290,000
Allowance for sales returns . . . . . . . 129,000 (61,000) (25,000) 43,000
------------- ------------ ----------------- --------
Total reserve for accounts receivable $ 305,000 $ 149,000 $ (121,000) $333,000
============= ============ ================= ========
Year Ended December 31, 2002:
Allowance for doubtful accounts . . . . . $ 135,000 $ 66,000 $ 25,000 $176,000
Allowance for sales returns . . . . . . . 133,000 189,000 193,000 129,000
------------- ------------ ----------------- --------
Total reserve for accounts receivable $ 268,000 $ 255,000 $ 218,000 $305,000
============= ============ ================= ========
Year Ended December 31, 2001:
Allowance for doubtful accounts . . . . . $ 112,000 $ 65,000 $ 42,000 $135,000
Allowance for sales returns . . . . . . . 270,000 (108,000) 29,000 133,000
------------- ------------ ----------------- --------
Total reserve for accounts receivable $ 382,000 $ (43,000) $ 71,000 $268,000
============= ============ ================= ========
_______________
(1) Deductions for accounts receivable represent accounts written off, net of recoveries. Deductions
for sales returns represent product returns received.
(2) The 2001 and 2003 reductions in the charges to revenue for the allowance for sales returns was
attributable to a reduction in the required reserve based on updated customer returns history and
a shift in revenues towards consulting services in 2001. Our provision for sales returns is
estimated based on historical returns experience and our judgment of future return risk.
(14) GEOGRAPHIC DATA
We report consolidated operating results based on geographic areas. A
summary of key financial data by region is as follows:
UNITED STATES FOREIGN TOTAL
-------------- ---------- -----------
YEAR ENDED DECEMBER 31, 2003
Revenue . . . . . . . . . . . . . . . . $ 11,729,000 $5,488,000 $17,217,000
Long-lived assets . . . . . . . . . . . 1,033,000 926,000 1,959,000
Total Net Assets. . . . . . . . . . . . 2,255,000 1,602,000 3,857,000
YEAR ENDED DECEMBER 31, 2002
Revenue . . . . . . . . . . . . . . . . $ 11,225,000 $5,169,000 $16,394,000
Long-lived assets . . . . . . . . . . . 1,976,000 1,634,000 3,610,000
Total Net Assets. . . . . . . . . . . . 3,575,000 1,862,000 5,437,000
YEAR ENDED DECEMBER 31, 2001
Revenue . . . . . . . . . . . . . . . . $ 13,463,000 $3,963,000 $17,426,000
Long-lived assets . . . . . . . . . . . 2,274,000 2,128,000 4,402,000
Total Net Assets. . . . . . . . . . . . 4,675,000 2,761,000 7,437,000
51
INSIGHTFUL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(CONTINUED)
DECEMBER 31, 2003
(15) UNAUDITED QUARTERLY DATA
2003
----
Q1 Q2 Q3(1) Q4(2)
-- -- ----- -----
Revenue $4,296,000 $ 4,314,000 $ 4,024,000 $ 4,583,000
Gross profit 3,071,000 3,042,000 2,999,000 3,615,000
Income (loss) from continuing operations (355,000) (300,000) (990,000) 209,000
Loss from discontinued operations - (137,000) - -
Net income (loss) (355,000) (437,000) (990,000) 209,000
Basic and diluted net income (loss) per share (0.03) (0.04) (0.09) 0.02
2002
----
Q1 Q2 Q3(1) Q4(2)
-- -- ----- -----
Revenue $4,391,000 $ 3,883,000 $ 3,870,000 $ 4,250,000
Gross profit 2,893,000 2,425,000 2,676,000 3,023,000
Loss from continuing operations (216,000) (1,020,000) (1,145,000) (1,127,000)
Gain on disposal of discontinued operations - 327,000 100,000 -
Net loss (216,000) (693,000) (1,045,000) (1,127,000)
Basic and diluted loss per share (0.02) (0.06) (0.09) (0.10)
_______________
(1) We incurred a loss from continuing operations of $990,000 in the third quarter of 2003 that
included a restructuring charge of $911,000.
(2) We generated income from continuing operations of $209,000 in the fourth quarter of 2003 that
included a loss from impairment of goodwill charge of $462,000.
(3) We incurred a loss from continuing operations of $1,145,000 in the third quarter of 2002 that
included a restructuring charge of $501,000.
(4) We incurred a loss from continuing operations of $1,127,000 in the fourth quarter of 2002
that included a loss from impairment of goodwill charge of $800,000.
52
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
There were no disagreements with our accountants on accounting and
financial disclosure in 2003.
ITEM 9A. CONTROLS AND PROCEDURES.
Evaluation of disclosure controls and procedures. Our chief executive
officer and our chief financial officer, after evaluating the effectiveness of
our "disclosure controls and procedures" (as defined in Rules 13a-15(e) and
15d-15(e) under the Securities Exchange Act of 1934) as of the end of the period
covered by this annual report, have concluded that, as of that date, our
disclosure controls and procedures were effective in ensuring that information
required to be disclosed by us in this annual report is accumulated and
communicated by our management, to allow timely decisions regarding required
disclosure.
53
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS.
(a) The information regarding our directors required by this item is
incorporated into this annual report by reference to the section entitled
"Proposal 1: Election of Director" in the proxy statement for our annual meeting
of stockholders to be held on June 11, 2004.
(b) The information regarding our executive officers required by this item
is incorporated into this annual report by reference to the section entitled
"Executive Officers" in the proxy statement for our annual meeting of
stockholders to be held on June 11, 2004.
(c) The information regarding our Code of Ethics required by this item is
incorporated into this annual report by reference to the section entitled
"Corporate Governance" in the proxy statement for our annual meeting of
stockholders to be held on June 11, 2004.
We will file the proxy statement for our 2004 annual meeting of
stockholders within 120 days of December 31, 2003, our fiscal year-end.
ITEM 11. EXECUTIVE COMPENSATION.
The information regarding executive compensation required by this item is
incorporated into this annual report by reference to the section entitled
"Summary Compensation Table" in the proxy statement for our annual meeting of
stockholders to be held on June 11, 2004. We will file the proxy statement for
our 2004 annual meeting of stockholders within 120 days of December 31, 2003,
our fiscal year-end.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS.
The information regarding beneficial ownership of our common stock required
by this item is incorporated into this annual report by reference to the section
entitled "Security Ownership of Certain Beneficial Owners and Management" and
"Equity Compensation Plan Information" in the proxy statement for our 2004
annual meeting of stockholders to be held on June 11, 2004. We will file the
proxy statement within 120 days of December 31, 2003, our fiscal year-end.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
The information regarding certain relationships and related transactions
required by this item is incorporated into this annual report by reference to
the section entitled "Certain Relationships and Related Transactions" in the
proxy statement for our 2004 annual meeting of stockholders to be held on June
11, 2004. We will file the proxy statement within 120 days of December 31, 2003,
our fiscal year-end.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES.
The information regarding principal accountant fees and services required
by this item is incorporated into this annual report by reference to the section
entitled "Independent Auditors" in the proxy statement for our 2004 annual
meeting of stockholders to be held on June 11, 2004. We will file the proxy
statement within 120 days of December 31, 2003, our fiscal year-end.
54
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K.
(a) The following documents are filed as a part of this report:
1. Financial Statements. The following consolidated financial
statements of Insightful Corporation are filed as part of this report.
Report of Independent Public Accountants.
Consolidated Balance Sheets as of December 31, 2003 and 2002.
Consolidated Statements of Operations for the years ended December 31,
2003, 2002 and 2001.
Consolidated Statements of Stockholders' Equity for the years ended
December 31, 2003, 2002 and 2001.
Consolidated Statements of Cash Flows for the years ended December 31,
2003, 2002 and 2001.
Notes to Consolidated Financial Statements.
2. Schedules. Schedules have been omitted because they are not
applicable or are not required or the information required to be set forth
in the Schedules is included in the Consolidated Financial Statements or
related notes.
3. Exhibits.
EXHIBIT
NUMBER DESCRIPTION
- ------- -----------
3.1 Amended and Restated Certificate of Incorporation of the registrant (Exhibit 3.1) (A)
3.2 Amended and Restated Bylaws of the registrant (Exhibit 3.2) (A)
10.1 1996 Non-Qualified, Non-Officer Stock Option Plan (Exhibit 4.4) (B)
10.2 2001 Stock Option and Incentive Plan, as amended and restated (Exhibit 10.1) (C)
10.3 2001 Non-Employee Director Stock Option Plan, as amended and restated (Exhibit 10.2) (C)
10.4 Amended and Restated 2001 Employee Stock Purchase Plan (Exhibit 10.1) (D)
10.5* Software License Agreement, dated February 18, 1996, by and between the registrant and Lucent Technologies,
Inc. (Exhibit 10.1) (E)
10.6* Amendment to Software License Agreement, dated September 25, 1997, by and between the registrant and Lucent
Technologies, Inc. (Exhibit 10.20) (F)
10.7* Intellectual Property Agreement, dated as of January 23, 2001, by and between the registrant and MathSoft
Engineering & Education, Inc. (Exhibit 2.2) (G)
10.8 License Agreement, dated as of January 23, 2001, by and between the registrant and MathSoft Engineering &
Education, Inc. (Exhibit 2.4) (G)
10.9 Right of First Offer to Exclusive Commercial License, dated as of January 23, 2001, by and between the registrant
and MathSoft Engineering & Education, Inc. (Exhibit 2.5) (G)
10.10 Non-Competition Agreement, dated as of January 23, 2001, by and between the registrant and MathSoft Corporate
Holdings, Inc. (Exhibit 2.6) (G)
10.11 Transition Services Agreement, dated as of January 23, 2001, by and among the registrant, MathSoft Engineering
& Education, Inc. and MathSoft Corporate Holdings, Inc. (Exhibit 2.7) (G)
10.12 Trademark License Agreement, dated as of January 23, 2001, by and between the registrant and MathSoft
Engineering & Education, Inc. (Exhibit 2.8) (G)
10.13 Pledge Agreement dated as of September 10, 2001, by and between the registrant and Patrick Schuenemann
(Exhibit 10.1) (H)
10.14 Satisfaction, Release and Termination Agreement, dated January 8, 2002, by and between the registrant and Charles
Digate. (Exhibit 10.1) (I)
10.15 Loan and Security Agreement, dated March 29, 2002, by and between the registrant and Silicon Valley Bank
(Exhibit 10.2) (J)
55
EXHIBIT
NUMBER DESCRIPTION
- ------- -----------
10.16 Negative Pledge Agreement, dated March 29, 2002, by and between the registrant and Silicon Valley Bank (Exhibit
10.3) (J)
10.17 Loan Modification Agreement, dated August 15, 2002, by and between the registrant and Silicon Valley Bank
(Exhibit 10.1) (K)
10.18 Amendment No. 1 to Loan and Security Agreement, dated March 28, 2003, by and between the registrant and
Silicon Valley Bank (Exhibit 10.1) (L)
10.19 Assignment and License Agreement, effective January 19, 2004, between Lucent Technologies and the registrant
(Exhibit 10.1) (M)
21.1** Subsidiaries of the registrant
23.1** Consent of Ernst & Young LLP, independent auditors
24.1** Power of attorney (contained on signature page)
31.1** Certification of Chief Executive Officer pursuant to Rules 13a-14(a) and 15d-14(a) under the Securities Exchange
Act of 1934, as amended
31.2** Certification of Chief Financial Officer pursuant to Rules 13a-14(a) and 15d-14(a) under the Securities Exchange
Act of 1934, as amended
32.1** Certification of Chief Executive Officer furnished pursuant to Rules 13a-14(b) and 15d-14(b) under the Securities
Exchange Act of 1934, as amended, and 18 U.S.C. Sec. 1350, as adopted pursuant to Section 906 of the Sarbanes-
Oxley Act of 2002
32.2** Certification of Chief Financial Officer furnished pursuant to Rules 13a-14(b) and 15d-14(b) under the Securities
Exchange Act of 1934, as amended, and 18 U.S.C. Sec. 1350, as adopted pursuant to Section 906 of the Sarbanes-
Oxley Act of 2002
_______________________________
** Filed herewith.
* Confidential treatment granted by order of the SEC.
(A) Incorporated by reference to the designated exhibit included in the registrant's Quarterly Report on Form 10-Q for the
quarter ended September 30, 2001 (SEC File No. 0-20992), filed on November 14, 2001.
(B) Incorporated by reference to the designated exhibit included in the registrant's Registration Statement on Form S-8 (SEC
File No. 333-18245), filed December 19, 1996.
(C) Incorporated by reference to the designated exhibit included in the registrant's Registration Statement on Form S-8 (SEC
File No. 333-91878), filed July 3, 2002.
(D) Incorporated by reference to the designated exhibit included in the registrant's Quarterly Report on Form 10-Q for the
quarter ended June 30, 2002 (SEC File No. 0-20992), filed August 14, 2002.
(E) Incorporated by reference to the designated exhibit included in the registrant's Quarterly Report on Form 10-Q for the
quarter ended December 31, 1996 (SEC File No. 0-20992), filed February 14, 1997.
(F) Incorporated by reference to the designated exhibit included in the registrant's Annual Report on Form 10-K for the year
ended June 30, 1997 (SEC File No. 0-20992), filed September 29, 1997.
(G) Incorporated by reference to the designated exhibit included in the registrant's Current Report on Form 8-K (SEC File No.
0-20992), filed February 7, 2001.
(H) Incorporated by reference to the designated exhibit included in the registrant's Current Report on Form 8-K (SEC File No.
0-20992), filed October 10, 2001.
(I) Incorporated by reference to the designated exhibit included in the registrant's Current Report on Form 8-K (SEC File No.
0-20992), filed January 31, 2002.
(J) Incorporated by reference to the designated exhibit included in the registrant's Quarterly Report on Form 10-Q for the
quarter ended March 31, 2002 (SEC File No. 0-20992), filed May 15, 2002.
(K) Incorporated by reference to the designated exhibit included in the registrant's Quarterly Report on Form 10-Q for the
quarter ended September 30, 2002 (SEC File No. 0-20992), filed November 14, 2002.
(L) Incorporated by reference to the designated exhibit included in the registrant's Quarterly Report on Form 10-Q for the
quarter ended March 31, 2003 (SEC File No. 0-20992), filed May 15, 2003.
(M) Incorporated by reference to the designated exhibit included in the registrant's Current Report on Form 8-K (SEC File No.
0-20992), filed February 3, 2004.
56
(b) Reports on Form 8-k
On October 1, 2003, we filed a current report on Form 8-K to announce the
resignation of our chief executive officer and the appointment of an interim
chief executive officer.
On October 30, 2003, we furnished a current report on Form 10-K to announce
our financial results for the quarter ended September 30, 2003.
57
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, as amended, the registrant has duly caused this report to
be signed on its behalf by the undersigned, thereunto duly authorized.
April 14, 2004
INSIGHTFUL CORPORATION
By: /s/ Jeffrey E. Coombs
-----------------------------
Jeffrey Coombs
President and Chief Executive Officer
(Principal Executive Officer)
By: /s/ Fred Schapelhouman
-----------------------------
Fred Schapelhouman
Chief Financial Officer
(Principal Financial and Accounting Officer)
POWER OF ATTORNEY
Each person whose individual signature appears below hereby authorizes and
appoints Kenneth J. Moyle, Jr. and Fred Schapelhouman, and each of them, with
full power of substitution and resubstitution and full power to act without the
other, as his true and lawful attorney-in-fact and agent to act in his name,
place and stead and to execute in the name and on behalf of each person,
individually and in each capacity stated below, and to file, any and all
amendments to this report, and to file the same, with all exhibits thereto, and
other documents in connection therewith, with the Securities and Exchange
Commission, granting unto said attorneys-in-fact and agents, and each of them,
full power and authority to do and perform each and every act and thing,
ratifying and confirming all that said attorneys-in-fact and agents or any of
them or their or his substitute or substitutes may lawfully do or cause to be
done by virtue thereof.
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
SIGNATURE TITLE DATE
--------- ----- ----
/s/ JEFFREY E. COOMBS President and Chief Executive Officer (Principal April 13, 2004
- ------------------------------- Executive Officer)
Jeffrey E. Coombs
/s/ Fred Schapelhouman Chief Financial Officer (Principal Financial and April 13, 2004
- ------------------------------- Accounting Officer)
Fred Schapelhouman
/s/ Arthur H. Reidel Director April 13, 2004
- -------------------------------
Arthur H. Reidel
/s/ Christopher C. Covington Director April 13, 2004
- -------------------------------
Christopher C. Covington
/s/ Mark C. Ozur Director April 13, 2004
- -------------------------------
Mark C. Ozur
/s/ Samuel R. Meshberg Chairman of the Board of Directors April 13, 2004
- -------------------------------
Samuel R. Meshberg
58
EXHIBIT INDEX
EXHIBIT
NUMBER DESCRIPTION
- --------- -----------
3.1 Amended and Restated Certificate of Incorporation of the registrant (Exhibit 3.1) (A)
3.2 Amended and Restated Bylaws of the registrant (Exhibit 3.2) (A)
10.1 1996 Non-Qualified, Non-Officer Stock Option Plan (Exhibit 4.4) (B)
10.2 2001 Stock Option and Incentive Plan, as amended and restated (Exhibit 10.1) (C)
10.3 2001 Non-Employee Director Stock Option Plan, as amended and restated (Exhibit 10.2) (C)
10.4 Amended and Restated 2001 Employee Stock Purchase Plan, as amended and restated (Exhibit 10.1) (D)
10.5* Software License Agreement, dated February 18, 1996, by and between the registrant and Lucent Technologies, Inc.
(Exhibit 10.1) (E)
10.6* Amendment to Software License Agreement, dated September 25, 1997, by and between the registrant and Lucent
Technologies, Inc. (Exhibit 10.20) (F)
10.7 Intellectual Property Agreement, dated as of January 23, 2001, by and between the registrant and MathSoft
Engineering & Education, Inc. (Exhibit 2.2) (G)
10.8 License Agreement, dated as of January 23, 2001, by and between the registrant and MathSoft Engineering &
Education, Inc. (Exhibit 2.4) (G)
10.9 Right of First Offer to Exclusive Commercial License, dated as of January 23, 2001, by and between the registrant
and MathSoft Engineering & Education, Inc. (Exhibit 2.5) (G)
10.10 Non-Competition Agreement, dated as of January 23, 2001, by and between the registrant and MathSoft Corporate
Holdings, Inc. (Exhibit 2.6) (G)
10.11 Transition Services Agreement, dated as of January 23, 2001, by and among the registrant, MathSoft Engineering &
Education, Inc. and MathSoft Corporate Holdings, Inc. (Exhibit 2.7) (G)
10.12 Trademark License Agreement, dated as of January 23, 2001, by and between the registrant and MathSoft
Engineering & Education, Inc. (Exhibit 2.8) (G)
10.13 Pledge Agreement dated as of September 10, 2001, by and between the registrant and Patrick Schuenemann (Exhibit
10.1) (H)
10.14 Satisfaction, Release and Termination Agreement, dated January 8, 2002, by and between the registrant and Charles
Digate. (Exhibit 10.1) (I)
10.15 Loan and Security Agreement, dated March 29, 2002, by and between the registrant and Silicon Valley Bank
(Exhibit 10.2) (J)
10.16 Negative Pledge Agreement, dated March 29, 2002, by and between the registrant and Silicon Valley Bank (Exhibit
10.3) (J)
10.17 Loan Modification Agreement, dated August 15, 2002, by and between the registrant and Silicon Valley Bank
(Exhibit 10.1) (K)
10.18 Amendment No. 1 to Loan and Security Agreement, dated March 28, 2003, by and between the registrant and Silicon
Valley Bank (Exhibit 10.1) (L)
10.19 Assignment and License Agreement, effective January 19, 2004, between Lucent Technologies and the registrant
(Exhibit 10.1) (M)
21.1** Subsidiaries of the registrant
23.1** Consent of Ernst & Young LLP, independent auditors
24.1** Power of attorney (contained on signature page)
31.1** Certification of Chief Executive Officer pursuant to Rules 13a-14(a) and 15d-14(a) under the Securities Exchange
Act of 1934, as amended
31.2** Certification of Chief Financial Officer pursuant to Rules 13a-14(a) and 15d-14(a) under the Securities Exchange Act
of 1934, as amended
32.1** Certification of Chief Executive Officer furnished pursuant to Rules 13a-14(b) and 15d-14(b) under the Securities
Exchange Act of 1934, as amended, and 18 U.S.C. Sec. 1350, as adopted pursuant to Section 906 of the Sarbanes-
Oxley Act of 2002
32.2** Certification of Chief Financial Officer furnished pursuant to Rules 13a-14(b) and 15d-14(b) under the Securities
Exchange Act of 1934, as amended, and 18 U.S.C. Sec. 1350, as adopted pursuant to Section 906 of the Sarbanes-
Oxley Act of 2002
_______________________________
** Filed herewith.
* Confidential treatment granted by order of the SEC.
(A) Incorporated by reference to the designated exhibit included in the registrant's Quarterly Report on Form 10-Q for the
quarter ended September 30, 2001 (SEC File No. 0-20992), filed on November 14, 2001.
(B) Incorporated by reference to the designated exhibit included in the registrant's Registration Statement on Form S-8 (SEC
File No. 333-18245), filed December 19, 1996.
(C) Incorporated by reference to the designated exhibit included in the registrant's Registration Statement on Form S-8 (SEC
File No. 333-91878), filed July 3, 2002.
(D) Incorporated by reference to the designated exhibit included in the registrant's Quarterly Report on Form 10-Q for the
quarter ended June 30, 2002 (SEC File No. 0-20992), filed August 14, 2002.
(E) Incorporated by reference to the designated exhibit included in the registrant's Quarterly Report on Form 10-Q for the
quarter ended December 31, 1996 (SEC File No. 0-20992), filed February 14, 1997.
(F) Incorporated by reference to the designated exhibit included in the registrant's Annual Report on Form 10-K for the year
ended June 30, 1997 (SEC File No. 0-20992), filed September 29, 1997.
(G) Incorporated by reference to the designated exhibit included in the registrant's Current Report on Form 8-K (SEC File No.
0-20992), filed February 7, 2001.
(H) Incorporated by reference to the designated exhibit included in the registrant's Current Report on Form 8-K (SEC File No.
0-20992), filed October 10, 2001.
(I) Incorporated by reference to the designated exhibit included in the registrant's Current Report on Form 8-K (SEC File No.
0-20992), filed January 31, 2002.
(J) Incorporated by reference to the designated exhibit included in the registrant's Quarterly Report on Form 10-Q for the
quarter ended March 31, 2002 (SEC File No. 0-20992), filed May 15, 2002.
(K) Incorporated by reference to the designated exhibit included in the registrant's Quarterly Report on Form 10-Q for the
quarter ended September 30, 2002 (SEC File No. 0-20992), filed November 14, 2002.
(L) Incorporated by reference to the designated exhibit included in the registrant's Quarterly Report on Form 10-Q for the
quarter ended March 31, 2003 (SEC File No. 0-20992), filed May 15, 2003.
(M) Incorporated by reference to the designated exhibit included in the registrant's Current Report on Form 8-K (SEC File No.
0-20992), filed February 3, 2004.