10-K 1 w51509e10vk.htm 10-K e10vk
 

 
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
Form 10-K
 
ANNUAL REPORT
PURSUANT TO SECTIONS 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
 
     
(Mark One)    
þ
  ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
    For the fiscal year ended December 31, 2007
OR
o
  TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
    For the transition period from          to          
 
Commission file number: 001-33184
Double-Take Software, Inc.
(Exact name of registrant as specified in its charter)
 
     
Delaware   20-0230046
(State or other jurisdiction of   (I.R.S. Employer
Incorporation or organization)   Identification No.)
257 Turnpike Road, Suite 210
  01772
Southborough, Massachusetts   (Zip Code)
(Address of principal executive offices)    
 
(877) 335-5674
(Registrant’s telephone number, including area code)
 
Securities registered pursuant to Section 12(b) of the Act:
 
     
Title of Each Class
 
Name of Each Exchange on Which Registered
 
Common Stock, $0.001 par value
  The NASDAQ Stock Market
 
Securities registered pursuant to Section 12(g) of the Act: None
 
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.  YES o     NO þ
 
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.  YES o     NO þ
 
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 þ     NO o
 
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.  o
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
 
             
Large accelerated filer o
  Accelerated filer þ   Non-accelerated filer o
(Do not check if a smaller reporting company)
  Smaller reporting Company o
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act)  YES o     NO þ
 
As of June 30, 2007, the last business day of the Registrant’s most recently completed second fiscal quarter, the aggregate market value of the Registrant’s Common Stock held by nonaffiliates was approximately $346.9 million.
 
The number of shares of Registrant’s Common Stock outstanding as of February 29, 2008 was 21,945,514.
 
DOCUMENTS INCORPORATED BY REFERENCE
 
Part III of this Form 10-K incorporates by reference certain portions of the Registrant’s proxy statement for its 2008 Annual Meeting of Shareholders to be filed with the Commission not later than 120 days after the end of the fiscal year covered by this report.
 


 

 
CAUTIONARY ADVICE REGARDING FORWARD-LOOKING STATEMENT
 
Statements contained in this Form 10-K that are not historical facts may be forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934 (the “Exchange Act”). We intend such forward-looking statements to be covered by the safe harbor provisions for forward-looking statements contained in Section 21E of the Exchange Act. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date this Form 10-K is filed with the Securities and Exchange Commission (“SEC”).
 
We may, in some cases, use words such as “project,” “believe,” “anticipate,” “plan,” “expect,” “estimate,” “intend,” “should,” “would,” “could,” “potentially,” “will,” or “may,” or other words that convey uncertainty of future events or outcomes to identify these forward-looking statements. Forward-looking statements in this annual report include statements about:
 
  •  competition and competitive factors in the markets in which we operate;
 
  •  demand for replication software;
 
  •  the advantages of our technology as compared to others;
 
  •  changes in customer preferences and our ability to adapt our product and services offerings;
 
  •  our ability to obtain and maintain distribution partners and the terms of these arrangements;
 
• our plans for future product developments;
 
  •  the integration of TimeSpring Software Corporation, now known as Double-Take Software Canada, Inc. and TimeData products into our business;
 
  •  our ability to develop and maintain positive relationships with our customers;
 
  •  our ability to maintain and establish intellectual property rights;
 
  •  our ability to retain and hire necessary employees and appropriately staff our development, marketing, sales and distribution efforts;
 
  •  our cash needs and expectations regarding cash flow from operations;
 
  •  our ability to manage and grow our business and execution of our business strategy; and
 
  •  our financial performance.
 
The forward-looking statements are based on our beliefs, assumptions and expectations of our future performance, taking into account all information currently available to us. These beliefs, assumptions and expectations can change as a result of many possible events or factors, not all of which are known to us or are within our control. If a change occurs, our business, financial condition and results of operations may vary materially from those expressed in our forward-looking statements. There are a number of important factors that could cause actual results to differ materially from the results anticipated by these forward-looking statements. These important factors include those that we discuss in “Risk Factors,” Management’s Discussion and Analysis of Financial Condition and Results of Operations,” Business and elsewhere in this annual report. You should read these factors and the other cautionary statements made in this annual report as being applicable to all related forward-looking statements wherever they appear in this annual report. If one or more of these factors materialize, or if any underlying assumptions prove incorrect, our actual results, performance or achievements may vary materially from any future results, performance or achievements expressed or implied by these forward-looking statements. We undertake no obligation to publicly update any forward-looking statements, whether as a result of new information, future events or otherwise, except as required by law.


1


 

 
PART I
 
Item 1.   Business.
 
Overview
 
Double-Take Software develops, sells and supports affordable software that reduces downtime and protects data for business-critical systems. We believe that we are the leading supplier of replication software for Microsoft server environments and that our business is distinguished by our focus on software license and recurring maintenance sales, our productive distribution network and our efficient services infrastructure. Organizations of all sizes increasingly rely on application systems and stored electronic data to conduct business. Threats of business disruptions from events such as 9/11 and Hurricane Katrina and new regulations that have increased data protection requirements for businesses in many industries are causing more organizations to re-examine their data and server recovery strategies. Our software responds to these needs by continuously replicating changes made to application data on a primary operating server to a duplicate server located on- or off-site. Because the duplicate server can commence operating in place of the primary server at almost any time, our software facilitates rapid failover and application recovery in the event of a disaster or other service interruption. With our recent acquisition of TimeSpring Software Corporation (“TimeSpring”), now known as Double-Take Software Canada, Inc. (“Double-Take Canada”) and its TimeData products we can also recover data from almost any point in time from a repository located on- or off-site.
 
Our success has been driven in large part by our software technology, which was first released in 1995 and has been enhanced by years of customer feedback. Residing on the server operating system, our software continuously monitors and captures file system activity. Intercepting file system changes enables our software to replicate only those changes that are being written to files. Our hardware- and application-independent software efficiently protects data created by any application on almost any type or brand of disk storage on any brand of server running Windows file systems.
 
We sell our software through multiple channels, including a global distribution network that is supported by an experienced direct sales force. Our distribution partners include leading server manufacturers, such as Dell Computer Corporation and Hewlett-Packard Company, leading distributors, such as Bell Microproducts Inc. and Tech Data Corporation, and over 500 value-added resellers that we believe are generally well-connected with small- and medium-sized enterprises. Our direct sales force augments the revenue generated by our distribution partners and actively supports them in their third-party sales efforts.
 
Our broad distribution network, coupled with affordable price points, feature-rich proven software, modest implementation costs and dependable support, makes our software accessible and scalable from small enterprises of 20 people to Fortune 500 companies. As of December 31, 2007, our customer base of more than 15,000 organizations included over half of the Fortune 500 companies, as well as a large number of law firms, financial institutions, hospitals, school districts and government entities. We believe that we have a highly satisfied customer base. Many of our customers provide references that help us to generate new sales opportunities and to shorten sales cycles. Our sales personnel often enlist the assistance of satisfied customers to recommend our software to potential customers in similar industries or that have similar applications or server configurations. The breadth and diversity of our customers frequently allows us to refer to a similar configuration when making a new sale. The satisfaction of our customer base also contributes to reduced support costs.
 
We believe that the software replication market is large and growing, and that our software is particularly attractive to businesses in the small-and medium-sized enterprise information technology market, which has been growing at a faster rate than the large enterprise information technology market. We expect that growth in our market will continue to be driven by a number of factors, including the following:
 
  •  the rapid growth in digital data, driven by increased usage of automated systems;
 
  •  an increased focus on protecting a growing number of business-critical applications, such as email applications, particularly in service-oriented industries;
 
  •  a heightened awareness of the potential for natural and man-made disasters;


2


 

 
  •  the increasingly high cost of downtime, which is partly attributable to an increase in the sharing of applications with customers, partners and remote users; and
 
  •  government and industry regulations, such as the Health Insurance Portability and Accountability Act of 1996 and the Sarbanes-Oxley Act of 2002, which require data protection and recovery.
 
For our fiscal year ended December 31, 2007, we had revenue of $82.8 million, an increase of 36% from fiscal 2006 revenue of $60.8 million. The matters discussed in this “Business” section should be read in conjunction with the Consolidated Financial Statements found under Item 8 of Part II of this annual report, which include additional financial information about our total assets, revenue and measures of profits and loss and financial information about geographic areas.
 
Organization; Principal Executive Offices
 
We were organized as a New Jersey corporation in 1991, and we reincorporated in Delaware in 2003. In July 2006 we changed our name to Double-Take Software, Inc. from NSI Software, Inc. Our principal executive offices are located at 257 Turnpike Road, Suite 210, Southborough, Massachusetts 01772, and our main telephone number at that address is (877) 335-5674. We maintain our general corporate website at www.doubletake.com. The contents of our website, however, are not a part of this annual report.
 
Our Strategy
 
Our goal is to provide affordable software that will reduce our customers’ downtime for business-critical systems to as close to zero as possible and offer effective protection and recovery for less critical systems. In striving for this goal, we seek to be the leading provider of software for application availability and data protection. We are pursuing the following key initiatives:
 
  •  Expand our Customer Base within our Current Markets.  We plan to gain additional customers in the markets we currently serve by expanding our distribution network to reach more customers and by leveraging our existing customer base. We believe our customers are very satisfied and will continue to provide references across multiple industries, multiple configurations and multiple applications. In addition, we plan to continue to offer enhancements to our current software to broaden its appeal.
 
  •  Cross-sell Existing and New Software to our Customer Base.  We plan to sell software for additional applications to our current customers and believe that many of our existing customers will acquire more licenses to the software that they are already using. We also believe that a large majority of our customers will renew in the future because of their satisfaction with our software and customer support. We plan to offer new software that complements our existing software and applications and achieves additional customer objectives. We expect that our new offerings primarily will be developed internally, but we anticipate that we may in some instances hire third-party developers to develop software on our behalf or acquire new offerings through strategic transactions. For example, in December 2007 we acquired Montreal-based TimeSpring Software, now known as Double-Take Software Canada, Inc. Corporation, which provides software that allows users to recover protected data from any point in time. We plan to offer this functionality to new and existing customers in 2008.
 
  •  Enter New Markets.  We plan to enter into new markets and grow our presence in markets where we currently have a small presence. We expect to do this through expansion of our channel by creating or expanding relationships with partners that serve different markets. We also plan to continue to grow our presence in the larger enterprise market by leveraging our supportive customer base. We believe that small- and medium-sized enterprises frequently lead in the adoption of cost effective technology solutions out of necessity and that large institutions follow by replacing more expensive solutions with cost effective solutions. We have seen organizations in the larger enterprise market adopt our software, and we expect this trend to continue.
 
  •  Expand Globally.  We believe that the market potential outside the United States is at least as large as the market within and offers us significant growth potential. We plan to extend our global reach though the expansion of our direct and channel sales efforts and through strategic acquisitions. For example, in May 2006 we acquired our main European distributor, now known as Double-Take Software S.A.S., or Double-


3


 

  Take EMEA, with offices in France, the United Kingdom and Belgium. We also work closely with Hewlett-Packard, which has a strong international presence and is our largest OEM, and we plan to continue our increased focus and sales support on international sales. In August 2006, we established a full time presence in Asia.
 
  •  Continue to Innovate.  We plan to continue to focus on enhancing our existing software and to develop new, innovative software. For example, in 2007 we introduced new software products and features that protect the full system state of a server, including operating system and application configuration. We believe that software innovations will also help us to expand our addressable market, and we have software in the development pipeline that we expect will help us to scale up to serve larger entities and to scale down to serve even smaller enterprises. For example, we have released software for support of Microsoft’s Small Business Server. We also plan to continue to monitor market dynamics and to prepare to apply our technology to other server operating systems to the extent significant market opportunities exist.
 
Our Software and Services
 
Double-Take Software.  Our Double-Take software provides continuous protection of data to reduce or eliminate data loss, as well as the ability to recover rapidly the application and server needed to utilize that data through automatic or manually initiated failover. This combination of data protection with high availability failover provides significantly higher levels of availability than solutions that address only data protection or that provide local failover clustering but that do not provide data redundancy or protection across multiple locations.
 
We derive nearly all of our software revenue from our Double-Take software, which generated 97% of our total software revenue for the year ended December 31, 2005, 96% of our total software revenue for the year ended December 31, 2006 and 98% of our total software revenue for the year ended December 31, 2007. In addition, we derive substantially all of our maintenance and professional services revenue from associated maintenance and customer support of these applications.
 
Our Double-Take software is easily installed on each protected “source” server as well as on each “target” server that will store copies of the protected data and be prepared to take over for the protected server and its applications. This software-based approach provides several important features and benefits:
 
  •  Real-time Byte Level Change Capture.  Our file system filtering technology monitors all file input and output (I/O) to files selected for protection and captures changes as they occur, without the overhead of additional disk reads to compare file content. This approach captures only the bytes written to the file system, rather than full files or disk blocks, and allows Double-Take to replicate any application data, including open files such as databases, messaging systems or other transactional applications. As a result, data can be protected continuously with very little system impact or overhead.
 
  •  Storage Architecture Independence.  Double-Take can replicate to or from almost any storage type supported by the host operating system. Not only can replication occur between storage types such as Fibre Channel or iSCSI Storage Area Networks and directly attached disks, but source and target disks that have completely different geometries or multiple source volumes can be consolidated onto a single large capacity target volume. As a result, customers can use their existing storage systems and even replicate between storage systems of different types. Only solutions that run along with the applications and replicate logical file system structures can provide this level of flexibility and performance.
 
  •  Integrated Application and Server Availability.  Software replicating between servers can easily monitor and failover other functions such as server name, IP addresses or integrated applications between servers. As a result, not only is data protected, but the operating system and applications that use that data to provide services to users can be replicated and activated quickly and automatically, even on different hardware or virtual servers. Double-Take provides application managers for a variety of the business-critical applications that companies rely on to run their businesses.
 
  •  Standards-Based IP Networking Support.  Double-Take utilizes standard IP networking for data replication, monitoring and failover, allowing data to be protected and servers to be managed remotely over great distances. In addition to capturing the smallest byte level changes possible, our software is optimized for


4


 

  long-distance, wide-area network communications providing built-in data compression and flow control capabilities, as well as leveraging advanced functionality such as encryption, wide area network optimizations and quality of service controls provided by existing IP infrastructure.
 
Double-Take Features and Benefits
 
         
Feature
 
Description
 
Customer Benefit
 
Continuous, Real-time Data Replication
  File system changes are captured as they are made on the source server(s) and transmitted immediately according to system policies.   Potential for data loss is reduced and sometimes eliminated.
Delta File Replication
  Only file changes or “deltas” are captured and transmitted across the network.   The amount of network bandwidth required to keep a secondary copy of data synchronized is minimized, and data can be replicated to a remote target server across any IP connection.
Replicates Open Files
  Even open files can be mirrored and changes replicated almost immediately.   Applications can be protected while they are in use providing increased availability and reducing potential for data loss.
Many to One Replication
  Data from many source servers may be replicated to a single target server.   Shares the cost of a target server among many source machines, and allows centralized data protection.
Automatic Failover
  Can stand in for multiple servers simultaneously; the target server assumes the IP addresses and names of failed servers and restarts applications.   Users can automatically access data on the target server, reducing down-time associated with a source (production) server failure.
System State Recovery
  Replicates changes, such as patches to operating systems and applications.   Enables full server recovery to most recent state, including files, operating systems and applications.
File Selection
  Users can define which files are to be replicated at a volume, directory, file and wildcard level. The location of data on the target can also be specified.   Allows exact control of which files are replicated and where they are stored for maximum flexibility.
Flow Control
  Automatically queues transactions on the source server if network resources are not available or are restricted by policy.   Runs reliably in spite of network disruptions or peak loads, without severely affecting the performance of the source server.
Transmission Limiting
  The amount of bandwidth available for replication, as well as start and stop conditions, may be defined by the network administrator.   Allows replication to share a network link with other applications, preserving bandwidth for other applications.
Data Compression
  Data transmitted between the source and target may be compressed, using various industry-standard algorithms.   Allows user to minimize the amount of network bandwidth used to protect data, especially in wide area network configurations.


5


 

         
Feature
 
Description
 
Customer Benefit
 
Centralized Enterprise Management
  A graphical management interface is provided which can be run from anywhere on the network and allows the user to control all of the servers running our software in their environment.   Allows user to monitor a large number of servers running our software from a single central location, minimizing management costs.
Extensive Reporting/ Verification
  An extensive collection of events, alerts and statistics are made available through standard mechanisms, including SNMP, Log Files and Windows NT/ 2000 Event Viewer/ Performance Monitor.   Prevents silent failures by confirming that your data protection systems are working properly.
 
TimeData Software.  In December 2007 we completed the acquisition of TimeSpring Software Corporation (which was renamed to Double-Take Software Canada, Inc. (“Double-Take Canada”)), a Montreal-based software company that provides the ability to recover copies of protected data from any point-in-time. TimeSpring’s software, currently named “TimeData”, allows customers to recover from operational problems such as files or e-mails that were erroneously deleted, file corruption due to viruses or other malfunctions, or malicious attacks on data files. This software allows customers to protect and recover data in an application-specific manner for Microsoft Exchange and SQL. We expect that in 2008 this software will be re-branded with the Double-Take company name for marketing to our new and existing customers.
 
TimeData Features and Benefits
 
         
Feature
 
Description
 
Customer Benefit
 
Continuous, Real-time Data Protection
  File system changes are captured as they are made on the data server(s) and transmitted immediately according to system policies.   Potential for data loss is reduced and sometimes eliminated.
Delta File Replication
  Only file changes or “deltas” are captured and transmitted across the network.   The amount of network bandwidth required to keep a secondary copy of data synchronized is minimized.
Replicates Open Files
  Even open files can be mirrored and changes replicated almost immediately.   Applications can be protected while they are in use providing increased availability and reducing potential for data loss.
Many to One Replication
  Data from many source servers may be replicated to a single target server.   Shares the cost of a target server among many source machines, and allows centralized data protection.
Any point-in-time Recovery
  File changes are maintained in time sequence order, and can be replayed on the repository server to give the user a view of any file at any point-in-time.   Users can rollback to previous versions of files in the event of an operational error such as a deleted file, virus, or other file system error.
Consistency Points
  Software detects when protected data is in a good state, and allows users to select those points in time when recovering data.   Allows user to easily recover to a point-in-time at which the protected data is in a known, good state.

6


 

         
Feature
 
Description
 
Customer Benefit
 
Application Awareness
  Setup of protection for key applications such as Exchange and SQL are automated for the user.   Eases the process of configuring protection for critical application, and minimizes configuration errors.
 
Software Editions.  Our suite of software has the features and benefits that are described above and is offered in a variety of versions that are aligned to operating system capabilities. Additional versions include those that have been specifically crafted to run within virtual systems and to perform replication only, as well as versions designed to run within Microsoft Cluster Services called GeoCluster. Some versions are also available from OEM partners under different brand names.
 
     
Software Products
 
Supported Systems
 
Double-Take for Windows — Server Edition
  Windows Server 2003 Standard Edition, Windows Server 2003 Web Edition and Windows 2000 Server
Double-Take for Windows — Advanced Edition
  Windows Server 2003 Enterprise Edition, Windows 2000 Advanced Server and Windows Powered Appliances
Double-Take for Virtual Systems
  Supports up to five Windows guest operating systems running on a single virtual server host
Double-Take for Windows — Datacenter Edition
  Windows Server 2003 Datacenter Edition and Windows 2000 Datacenter Server
Double-Take for Windows — Storage Server Edition (SSE)
  Windows Storage Server 2003 and Windows Powered NAS devices
Double-Take for Windows — Small Business Server Edition
  Windows Small Business Server 2000 Edition and Windows Small Business Server 2003 Edition
GeoCluster for Windows — Advanced Edition
  Microsoft Cluster Service (MSCS) that runs on Windows Server 2003 Enterprise Edition and Windows 2000 Advanced Server
GeoCluster for Windows — Datacenter Edition
  MSCS that runs on Windows Server 2003 Datacenter Edition and Windows 2000 Datacenter Server
Double-Take — Shadow-Caster
  Runs on Windows Small Business Server 2003 Edition and provides one to one full server system state recovery in a LAN environment.
Double-Take — SRO (Server Recovery Option)
  An add-on module to Double-Take. Provides full server system state recovery on each server where it is installed.
 
Customer Support Services.  We provide comprehensive customer support, which we consider to be both a critical asset and a source of competitive advantage. We have developed our support organization to be a key differentiator for our company and our customers. Unlike the increasing number of software companies that seek to cut costs attributable to customer support, we have chosen to invest in the customer support experience and take pride in our personal interaction with our customers. We view our customer support function as a means to drive renewals, increase licenses with existing customers and acquire new customers. As part of our focus on customer support, we staff our front line support team with senior technicians with the goal of solving customer issues within the first call. We aim to provide an exceptional post-sales product experience for each customer. We believe this support effort will be scalable as our customer base continues to grow.
 
Product support is offered on an annual basis and can be either purchased in advance or at annual renewal points based on the date of initial software purchase. We have support centers in Bracknell, United Kingdom, Montreal, Canada and Indianapolis, Indiana. In addition to our support organization, primary product support for channel and OEM customers is sometimes provided directly by our partners, and we provide escalated engineering support for those partners when needed.
 
Deployment Services.  We have a professional services organization to help our customers with large scale and complex deployments. These offerings give our customers access to our best-practices and knowledge of the surrounding infrastructure to ensure a clean implementation. However, we do not consider our professional services to be strategic to our overall direction, and we try to design and build our software with the idea that it should be

7


 

simple to install and operate without the need for extensive training or associated services. For those clients that meet the scale and complexity requirements, our professional services offerings consist of assessment and design services and implementation and deployment services.
 
Training.  We provide a series of training courses. Training is provided both on-site and off-site to fit the wide variety of needs of our customers and partners. The training courses include both instructor-led as well as computer-based class formats.
 
Our Customers
 
As of December 31, 2007, we had more than 15,000 customers in a variety of industries. Our customers use our software for a variety of purposes in terms of the applications they protect and the configuration of their servers. Our customers deploy our software in installations ranging from two servers to several hundred servers. Our customers include Bank of Montreal, the Boston Celtics, Brattleboro Memorial Hospital, Hatch Mott MacDonald, Hershey Entertainment & Resorts Company, infoUSA Inc., McGuireWoods LLP, MidAmerica Bank, Morgan Stanley, Shorenstein Realty Services, L.P., Suffolk University, The E.W. Scripps Company, The Pentagon, The United States Securities and Exchange Commission, United States Department of Defense and the United States Department of State. Our customers include over half of the Fortune 500 companies, 19 of the 25 largest U.S. law firms in the 2007 The American Lawyer AmLaw 100, over 1,000 financial institutions, over 1,100 hospitals and healthcare service providers and over 1,000 school districts and educational institutions.
 
Our Technology
 
Our Double-Take software is based on flexible and efficient file system replication technology and advanced server and application failover technology. Most client/server applications have not been designed to provide for data redundancy or application failover to a different server or a different geographic location. Consequently, we had to develop solutions outside of standard application frameworks, utilizing different approaches to ensure that business-critical applications can be moved and restarted in different locations in a way that is as fast and transparent to users as possible. Many years of experience across a large installed base have given us a mature base of data protection and availability technologies that we believe represent a significant competitive advantage.
 
We believe that our patented architecture allows our software to be easily adapted to almost any operating system. The software’s functionality is built into the user-mode components (source and target) of the software, which remain largely consistent across operating systems.
 
The driver component is responsible for intercepting file system modifications, determining if the modifications are selected for replication and passing this information to the source component. The driver has been optimized to produce high-throughput with minimal resource requirements and to minimize file system latency to the end user.
 
The source component packages these transactions and transmits them to one or more target machines. The source component queues transactions when the target server or network is either slow or unavailable and uses patented compression techniques to minimize the system overhead required for this queuing. The source component also controls transmission and initial mirroring, as well as verification, replication set maintenance and connection management.
 
File system transactions are transmitted to the target machine using standard networking mechanisms to provide interoperability between various operating systems and high-throughput. The target component then receives replication transactions from the source component and applies these transactions to the target file system. The target component is multi-threaded to handle efficiently simultaneous transactions from multiple source servers to multiple target files. The target component also monitors the source server’s health and performs server failover (via name, network address and share/mount point aliasing) when the source is unavailable.
 
Management of our software is supported through various client interfaces, including a Win32 graphical interface, a full-screen text client, and a command-line interface. All client platforms are based on the same set of common application interface commands, and these functions are available to all third-party developers.


8


 

Our GeoCluster software combines our core replication technology with the application failover capabilities of Microsoft Cluster Services (MSCS). GeoCluster eliminates the need for clustered nodes to share access to the same physical disk, providing data redundancy and allowing cluster nodes to be placed at different locations, providing geographic redundancy for the cluster nodes as well as the data. With GeoCluster, mission critical data is stored on each cluster node’s local drives and then replicated to the other nodes in the cluster using our patented real-time replication. GeoCluster can also provide quorum capability, acting as an arbitrator for the cluster in the event that the cluster nodes are running but cannot communicate.
 
Our TimeData technology captures file system changes on a production server and transmits those changes to a repository server where they are stored in a database in time sequence. The source file system driver intercepts file system changes and stores them in a local file to be transmitted to the repository server. Like the Double-Take file system filter, this driver has been optimized to have a minimal impact on production server performance.
 
The TimeData repository component reads file system change logs from the production server, and stores those in time sequence order within a database. A target file system interface allows other applications to access the protected file system data at various points in time by presenting a view of the file system at that time. The repository component also tracks file system changes from the production server to determine when application consistency points have been reached.
 
Management of the TimeData technology is done via a Management Console that currently runs on the repository server. This interface allows the user to configure and manage protection of multiple production servers to the repository server from a central location.
 
Marketing and Sales
 
We market and sell our software primarily to or through distributors, value-added resellers and OEMs, supported by an inside and field-based direct sales force located in the United States and Europe. Our selling model is based on building a strong distribution network through which customers can purchase the software. To date, we believe that this selling model has created an advantage for us. We currently have more than 500 selling partners within our distribution and value-added reseller program, and we are adding more to this group to meet regional and technology related needs. To support our partners in our sales channels, our sales group has been organized in an overlay format so that our sales teams are working with our partners within any geography to pursue sales jointly.
 
In addition, our marketing partners complement our sales campaigns through seminars, trade shows and joint advertising. We leverage our customers and partners to provide references and recommendations that we use in our various promotional and sales activities. These partners include Dell Computer Corporation, IBM Corporation, Microsoft Corporation, Hewlett-Packard Company and VMware, Inc.
 
The goal of our marketing effort is to develop sales opportunities by increasing the awareness of our software’s functionality and business need within our target markets and segments. We plan to continue to invest in building greater Double-Take brand recognition in the United States and internationally through expansion of the use of our brand, public relations programs, interactions with industry analysts, trade shows, web search optimization, regional seminars and speaking engagements.
 
In 2007, we received approximately 18% of our total sales from sales of software and services to Dell Computer Corporation, which is the largest reseller of our software and services and approximately 12% of our total sales from sales of software and services through Sunbelt Software Distribution, Inc., which is a reseller of our software and services. No other resellers or distributors and no customer accounted for 10% or more of our total sales in 2007.
 
Our software revenue generally experiences some seasonality. Many organizations make the bulk of their information technology purchases, including software, in the second half of the year. We believe that this generally has resulted in higher revenue generated by software sales during the last half of any year. Software revenue has increased each consecutive quarter during 2007. We expect this seasonality to continue in future years.


9


 

Competition
 
The markets in which we compete are competitive and rapidly changing. Our primary competitors include EMC (Legato), Neverfail, Symantec (Veritas) and CA, Inc. (XOsoft). All of our competitors offer a variety of data protection and recovery solutions, some of which may offer features that we do not offer or have more attractive pricing.
 
The principal competitive factors in our industry include:
 
  •  technology;
 
  •  price;
 
  •  product functionality and effectiveness;
 
  •  product reliability;
 
  •  product integration;
 
  •  capacity for sales support;
 
  •  scope and quality of customer support;
 
  •  relationships with OEMs; and
 
  •  reputation.
 
In addition to these factors, we also compete with alternative approaches for data protection and recovery. Alternative approaches include the following technologies:
 
  •  Tape Backup.  Tape backup solutions run on a scheduled basis, usually nightly or weekly, backing up all files to tape or scanning for files that have changed since the last backup and copying those files to tape. Full recovery from tape usually requires that the operating system and recovery software first be re-installed and re-configured on identical hardware before the data recovery component can begin. Examples of companies and products in this category include Symantec NetBackup and Backup Exec, IBM Tivoli Storage Manager, CA Brightstor Enterprise Backup, Legato Networker and CommVault Galaxy.
 
  •  Snapshots.  Hardware array based and operating system provided snapshots are tools that can reduce the time for recovering data, applications and servers. Snapshots operate on a disk volume basis by copying disk blocks that are about to be overwritten by changes before allowing new blocks to be written to disk. Because many snapshots are just differences from one point in time to another and not full copies of the volume, they are dependent on the survival of the original volume and exist in the same geographic location as the original volume. Therefore snapshots alone do not provide a complete solution, but can be used in conjunction with continuous data replication solutions like Double-Take to address many of the above limitations. Snapshot functionality is usually specific to a particular operating system volume manager or disk storage array. Examples of companies and products in this category include Microsoft Volume Shadow Copy Service, EMC TimeFinder and Snapview.
 
  •  Clustering.  Server clustering can improve the availability of data by providing one or more additional servers to resume processing in the event of a hardware or software failure. These systems are expensive, requiring matched server hardware and certified shared disk subsystems. In addition, server clusters are generally restricted to very short distances, making offsite disaster protection difficult. Shared disk clustering systems continue to have a single point of failure in the shared disk subsystem. Examples of companies and products in this category include Microsoft Cluster Service, Symantec Cluster Server, Steeleye LifeKeeper and Legato AutoStart.
 
  •  Remote Disk Mirroring.  Disk mirroring is typically implemented as software within a proprietary storage array or as a software driver or appliance between the server and the primary data storage. Changes are captured at the disk block level, with entire blocks of data being mirrored for any size change and any physical changes to the disk such as temporary files or defragmentation causing replication traffic. Typically, an operating system must boot and then “mount” the remotely mirrored drive in order to make the data


10


 

  accessible, which requires the operating system and applications to be installed and correctly configured to use the replicated volume, as well as extensive integrity checks. Examples of companies and products in this category include EMC SRDF and Mirrorview, Symantec Volume Replicator, FalconStorIPStor, DataCore SANmelody and Hitachi TrueCopy.
 
  •  Continuous Data Protection (CDP).  Continuous Data Protection typically refers to solutions that capture and store a sequenced log of I/O changes or otherwise allow a data set to be recovered by “rolling back” to a previous point in time. These solutions typically focus exclusively on the data “rollback” aspects and do not consider the need to recover servers and applications as well as data in order to resume providing services to users. We plan to begin to offer this type of solution in 2008 with the integration of the TimeData products into our product line. Examples of companies and products in this category include Symantec (Revivio CPS), Mendocino Software RecoveryONE, EMC (Kashya KBX5000 Data Protection Platform) and Microsoft Data Protection Manager.
 
In addition, our software competes with companies that also use host-based asynchronous replication, which relies on software running on the host operating system to intercept small changes being made to files as those changes are made. In addition to our products, examples of products that use host-based asynchronous replication include Symantec Replication Exec, Legato Replistor, Neverfail and XOsoft WANSync.
 
Some of our competitors have greater financial, technical, sales, marketing and other resources than we do, as well as greater name recognition and a larger overall customer base for their products. Additionally, some of these competitors have research and development capabilities that may allow them to develop new or improved products that may compete with our software. As this market continues to develop, a number of companies with greater resources than ours could attempt to enter the market or increase their presence in this market by acquiring or forming strategic alliances with our competitors or business partners or by introducing their own competing products.
 
Our success will depend on our ability to adapt to these competing forces, to develop more advanced products more rapidly and less expensively than our competitors, to continue to develop a global sales and support network and to educate potential customers about the benefits of using our software rather than our competitors’ products. Our competitors could introduce products with superior features, scalability and functionality at lower prices than our software. In addition, some of our customers and potential customers may buy other software or services from our competitors, and to the extent that they prefer to consolidate their software purchasing from fewer vendors, may choose not to continue to purchase our software and support services.
 
We expect additional competition from other established and emerging companies. Increased competition could result in price reductions, reduced gross margins and loss of market share, any of which could harm our business.
 
Research and Development
 
We have made a significant investment in developing and improving our software. Our research and development expenditures were $9.7 million, or approximately 24% of our total revenue, for 2005, $10.7 million, or approximately 18% of our total revenue, for 2006 and $11.9 million, or approximately 14% of our total revenue, for 2007. Our development team has specific core competencies in Windows development including drivers, file systems, storage, clustering, networking and applications such as Exchange, SQL Server, Oracle Database and SharePoint server. Our engineering organization, located in Indianapolis, Indiana, is responsible for product development, quality assurance, product management and documentation.
 
Intellectual Property
 
Our success as a company depends upon our ability to protect our core technology and intellectual property. To accomplish this, we rely on a combination of intellectual property rights, including patents, trade secrets, copyrights and trademarks, as well as customary contractual protections.
 
We have been granted two United States patents relating to our Real Time Backup System which is a component of all of our Double-Take products. The granted United States patents will expire in October 2015. As


11


 

part of our acquisition of TimeSpring, we acquired seven United States patents which will expire at various dates from 2015 to 2020. These patents and, to the extent any future patents are issued, may be contested, circumvented or invalidated over the course of our business, and we may not be able to prevent third-parties from infringing these patents. Therefore, the exact effect of having patents cannot be predicted with certainty.
 
Furthermore, we have registered the Double-Take® and GeoCluster® product trademarks in the United States and have applied for registration for a variety of other trademarks including Double-Take Shadowcastertm, Double-Take for Virtual Systemstm and Double-Take for Virtual Serverstm. As a result of the acquisition of TimeSpring, we now also have registered product trademarks in the United States for TimeSpring® and TimeData® and have applied for trademarks for TimeStortm and Zero Data Losstm. A third party may contest the registration of our trademark applications or may bring a claim for infringement of any of our registered or non-registered trademarks.
 
Employees
 
As of February 29, 2008, we had 354 employees in offices across the United States, Europe and Canada. None of our employees are represented by labor unions, and we consider our current employee relations to be good.
 
Executive Officers of Double-Take Software
 
The following table sets forth information with respect to our executive officers:
 
             
Name
 
Age
 
Position
 
Dean Goodermote
    54     President, Chief Executive Officer and Chairman of the Board of Directors
Robert L. Beeler
    42     Vice President of Engineering
David J. Demlow
    40     Chief Technology Officer
S. Craig Huke
    46     Chief Financial Officer
Daniel M. Jones
    40     Vice President of Sales and Marketing
Michael Lesh
    63     Vice President of Professional Services and Support
Jo Murciano
    56     Vice President of International
 
Dean Goodermote joined Double-Take Software in March 2005 as President, Chief Executive Officer and Chairman of the board of directors. Since July 2004 he has also served as Chief Executive Officer of Grid-Analytics LLC, a concept-stage company he founded focused on aggregated research. From September 2001 to March 2005, Mr. Goodermote served as a Venture Partner of ABS Capital Partners. From September 2000 to August 2001, Mr. Goodermote was Chairman and Chief Executive Officer of Clinsoft Corporation, a developer of software for clinical research. From 1997 to August 2001, Mr. Goodermote was Chairman and President of Domain Solutions Corporation, a software developer for enterprise applications and the parent of Clinsoft. From May 2000 until December 2001, Mr. Goodermote founded and was Chief Executive Officer and then the Chairman of IPWorks, Inc., a developer of internet address management software. From August 1996 to May 2000, Mr. Goodermote was Chief Executive Officer and President of Process Software Corporation, a developer of Internetworking software. From August 1986 to February 1997, Mr. Goodermote served in various positions, including eventually President and Chairman, of Project Software and Development Corporation, later known as MRO Software, Inc., a provider of software-based asset and service management solutions.
 
Robert L. Beeler joined Double-Take Software in July 1995 as Vice President of Engineering. From 1996 to 2001, Mr. Beeler served as a member of our board of directors. From July 1991 to July 1995, Mr. Beeler served as Project Manager, Project Engineer and System/Software Engineer at the Naval Air Warfare Center, where he supervised and provided technical leadership to a development team in support of the Navy Airborne Electronic Warfare Platform. From 1988 to 1991, Mr. Beeler served as a Software Developer for National Field Service Inc.
 
David J. Demlow joined Double-Take Software in 1997 as Vice President of Product Management and, since January 2005, has served as our Chief Technology Officer. From 1991 to 1997, Mr. Demlow held the following positions at Seagate Software: 1994 to 1997, Senior Product Manager, Enterprise Storage Management; 1993 to


12


 

1994, Systems Engineer, Sales and Channel Support; 1991 to 1993, Account Rep, Direct and Channel Sales. From 1990 to 1991, Mr. Demlow served as a Sales Manager at Business Technology Associates, Inc.
 
S. Craig Huke joined Double-Take Software in June 2003 as Chief Financial Officer. From May 2001 to May 2003, Mr. Huke served as Chief Financial Officer for Apogee Networks Systems and Consulting LLC, Inc., a privately held software company specializing in network cost visibility and containment. From April 1999 to May 2001, Mr. Huke served as Chief Financial Officer at Bluestone Software, Inc., an Internet infrastructure software company. From April 1998 to April 1999, Mr. Huke served as Vice President, Finance at Metronet Communications Corp., a communications company. From November 1994 to April 1998, Mr. Huke held the following positions at Seer Technologies, Inc., a software development company: September 1997 to April 1998, Vice President & Corporate Controller; November 1996 to September 1997, Corporate Controller; November 1995 to November 1996, Director of Financial Reporting and Analysis; and November 1994 to November 1995, Manager of Financial Reporting and Analysis.
 
Daniel M. Jones joined Double-Take Software in October 2001 as Eastern Region Sales Director and, since May 2005, has served as our Vice President of Sales and Marketing. From January 2000 to October 2001, Mr. Jones served as National Director of Sales at StorageNetworks, a provider of data storage software services to major and global businesses. From January 1998 to January 2000, Mr. Jones served as Vice President of North American Sales of Net-tel Inc., a provider of internet protocol data and voice services. From June 1996 to December 1997, Mr. Jones served as Director of Sales at MidCom Communications Inc., a facility-based telecommunications company. From February 1991 to June 1996, Mr. Jones held the following positions at ALLNET/Frontier Communications: May 1993 to June 1996, Area Manager, July 1992 to May 1993, District Manager; and July 1991 to July 1992, Sales Representative.
 
Michael Lesh joined Double-Take Software in June 2001 as Vice President of Professional Services and Support. From October 2000 to June 2001, Mr. Lesh served as Director, Professional Services at Openpages, Inc., a provider of enterprise compliance management software. From February 1973 to October 2000, Mr. Lesh held the following positions at Data General, a division of EMC Corporation: January 1998 to October 2000, Director, Professional Services; February 1996 to January 1998, Director, Eastern Operations Professional Services; March 1995 to February 1996, Director, Technology Deployment Services; March 1990 to March 1995, Manager, Northeast Professional Services; and May 1984 to March 1990, Manager, Regional Systems Engineering.
 
Jo Murciano joined Double-Take Software in May 2006 as Vice President of EMEA and President of Double-Take EMEA, and in January 2008 became our Vice President of International. Mr. Murciano is also Chief Executive Officer and a director of Sunbelt Software Distribution, Inc., one of our resellers, which he joined in 1994. From October 1983 to May 2006, Mr. Murciano served as Chairman of Sunbelt System Software S.A.S., a software distributor that he founded in 1983 and which we acquired in May 2006. From September 1982 to October 2000, Mr. Murciano served as Chief Executive Officer of RMH Group, a provider of development and communication tools for the IBM AS/400 market that Mr. Murciano founded in 1982.
 
Available Information
 
For more information about us, visit our web site at www.doubletake.com. Our electronic filings with the SEC (including our annual report on Form 10-K, quarterly reports on Form 10-Q and current reports on Form 8-K, and any amendments to these reports) are available free of charge through our web site as soon as reasonably practicable after we electronically file with or furnish them to the SEC.
 
Item 1A.   Risk Factors.
 
An investment in our stock involves a high degree of risk. You should carefully consider the following risks and all of the other information set forth in this annual report before deciding to invest in shares of our common stock. If any of the events or developments described below occur, our business, financial condition or results of operations could be negatively affected. In that case, the trading price of our common stock could decline, and you could lose all or part of your investment in our common stock.


13


 

Risks Related to Our Business
 
Intense competition in our industry may hinder our ability to generate revenue and may adversely affect our margins.
 
The market for our software is intensely competitive. Our primary competitors include EMC Corporation (Legato), Neverfail Group, Ltd., Symantec Corporation (Veritas) and CA, Inc. (XOsoft Inc.). Some of these companies and many of our other current and potential competitors have longer operating histories and substantially greater financial, technical, sales, marketing and other resources than we do, as well as larger installed customer bases and greater name recognition. Our competitors may be able to devote greater resources to the development, marketing, distribution, sale and support of their products than we can and some may have the ability to bundle their data replication offerings with their other products. The extensive relationships that these competitors have with existing customers may make it increasingly difficult for us to increase our market share. The resources of these competitors also may enable them to respond more rapidly to new or emerging technologies and changes in customer requirements and to reduce prices to win new customers.
 
As this market continues to develop, a number of other companies with greater resources than ours, including Microsoft and VMware, could attempt to enter the market or increase their presence by acquiring or forming strategic alliances with our competitors or business partners or by introducing their own competing products. And as our market grows new or existing smaller competitors could emerge as significant competitive threats.
 
Our success will depend on our ability to adapt to these competitive forces, to develop more advanced products more rapidly and less expensively than our competitors, to continue to develop a global sales and support network, and to educate potential customers about the benefits of using our software rather than our competitors’ products. Existing or new competitors could introduce products with superior features, scalability and functionality at lower prices. This could dramatically affect our ability to sell our software. In addition, some of our customers and potential customers may buy other software, other competing products and related services from our competitors, and to the extent that they prefer to consolidate their software purchasing from fewer vendors, they may choose not to continue to purchase our software and support services.
 
We expect additional competition from other established and emerging companies. Increased competition could result in reduced revenue, price reductions, reduced gross margins and loss of market share, any of which would harm our results of operations.
 
Because a large majority of our sales are made to or through distributors, value-added resellers and original equipment manufacturers, none of which have any obligation to sell our software applications, the failure of this distribution network to sell our software effectively could materially adversely affect our revenue and results of operations.
 
We rely on distributors, value-added resellers and original equipment manufacturers, or OEMs, together with our inside and field-based direct sales force, to sell our products. These distributors, resellers and OEMs sell our software applications and, in some cases, incorporate our software into systems that they sell. We expect that these arrangements will continue to generate a large majority of our total revenue. Sales to or through our distributors, resellers and OEMs accounted for approximately 94% of our sales for the year ended December 31, 2006 and 91% for the year ended December 31, 2007. Sales to or through our top five distributors, resellers and OEMs accounted for approximately 47% of our sales for 2006 and 45% of our sales for 2007.
 
We have limited control over the amount of software that these businesses purchase from us or sell on our behalf, we do not have long term contracts with any of them, and they have limited obligations to recommend, offer or sell our software applications. Thus there is no guarantee that this source of revenue will continue at the same level as it has in the past. Any material decrease in the volume of sales generated by our larger distributors, resellers and OEMs could materially adversely affect our revenue and results of operations in future periods.


14


 

We depend on growth in the storage replication market, and lack of growth or contraction in this market could materially adversely affect our sales and financial condition.
 
Demand for data replication software is driven by several factors, including an increased focus on protecting business-critical applications, government and industry regulations requiring data protection and recovery, a heightened awareness of the potential for natural and man-made disasters and the growth in stored data from the increased use of automated systems. Segments of the computer and software industry have in the past experienced significant economic downturns and decreases in demand as a result of changing market factors. A change in the market factors that are driving demand for data replication software could adversely affect our sales, profitability and financial condition.
 
Our current products are designed for the Microsoft and VMware server environments, which expose us to risks if Microsoft or VMware products are not compatible with our software or if Microsoft, VMware or other open source vendors choose to compete more substantially with us in the future.
 
We currently depend primarily on customers that deploy Microsoft products within their organizations. Microsoft could make changes to its software that render our software incompatible or less effective. Furthermore, Microsoft may choose to focus increased resources on applications that compete with our applications, including competing applications that Microsoft bundles with its operating platform. These actions could materially adversely affect our ability to generate revenue and maintain acceptable profit margins. We have less dependence on VMware deployments, but similar VMware and open source vendor’s actions could also materially adversely affect our ability to generate revenue and maintain acceptable profit margins.
 
Because we generate substantially all of our revenue from sales of our Double-Take software and related services, a decline in demand for our Double-Take software could materially adversely affect our revenue, profitability and financial condition.
 
We derive nearly all of our software revenue from our Double-Take software, which generated approximately 97% and 98% of our sales for the year ended December 31, 2006 and 2007, respectively. In addition, we derive substantially all of our maintenance and professional services revenue from associated maintenance and customer support of these applications. As a result, we are particularly vulnerable to fluctuations in demand for these software applications, whether as a result of competition, product obsolescence, technological change, budgetary constraints of our customers or other factors. If demand for any of these software applications declines significantly, our revenue, profitability and financial condition would be adversely affected.
 
We may not be able to respond to technological changes with new software applications, which could materially adversely affect our sales and profitability.
 
The markets for our software applications are characterized by rapid technological changes, changing customer needs, frequent introduction of new software applications and evolving industry standards. The introduction of software applications that embody new technologies or the emergence of new industry standards could make our software applications obsolete or otherwise unmarketable. As a result, we may not be able to accurately predict the lifecycle of our software applications, which may become obsolete before we receive any revenue or the amount of revenue that we anticipate from them. If any of the foregoing events were to occur, our ability to retain or increase market share in the storage replication market could be materially adversely affected.
 
To be successful, we need to anticipate, develop and introduce new software applications on a timely and cost-effective basis that keep pace with technological developments and emerging industry standards and that address the increasingly sophisticated needs of our customers and their budgets. We may fail to develop or sell software applications that respond to technological changes or evolving industry standards, experience difficulties that could delay or prevent the successful development, introduction or sale of these applications or fail to develop applications that adequately meet the requirements of the marketplace or achieve market acceptance. Our failure to develop and market such applications and services on a timely basis, or at all, could materially adversely affect our sales and profitability.


15


 

The development and adoption of cloud computing could lead to declines in the demand for our software and services.
 
Many of the world’s leading technology companies are working on developing a new generation of enterprise computing in which substantial components of information technology infrastructure can be provisioned and delivered over the Internet on an outsourced basis. This new computing paradigm is sometimes referred to as “cloud computing,” and may result in companies requiring fewer of their own servers and computer systems or backing up their own servers and systems through cloud computing providers. The adoption of the cloud computing paradigm by our customers or potential customers could result in a decline for demand of our software and services. If we are unable to adapt our software, services and business model to the cloud computing paradigm, the demand for our software and services could decline, which would negatively impact our results of operations.
 
Our failure to offer high quality customer support services could harm our reputation and could materially adversely affect our sales of software applications and results of operations.
 
Our customers depend on us, and, to some extent, our distribution partners, to resolve implementation, technical or other issues relating to our software. A high level of service is critical for the successful marketing and sale of our software. If we or our distribution partners do not succeed in helping our customers quickly resolve post-deployment issues, our reputation could be harmed and our ability to make new sales or increase sales to existing customers could be damaged.
 
Defects or errors in our software could adversely affect our reputation, result in significant costs to us and impair our ability to sell our software.
 
If our software is determined to contain defects or errors our reputation could be materially adversely affected, which could result in significant costs to us and impair our ability to sell our software in the future. The costs we would incur to correct product defects or errors may be substantial and would adversely affect our operating results. After the release of our software, defects or errors have been identified from time to time by our internal team and by our clients. Such defects or errors may occur in the future. Any defects that cause interruptions to the data recovery functions of our applications, or that cause other applications on the operating system to malfunction or fail, could result in:
 
  •  lost or delayed market acceptance and sales of our software;
 
  •  loss of clients;
 
  •  product liability suits against us;
 
  •  diversion of development resources;
 
  •  injury to our reputation; and
 
  •  increased maintenance and warranty costs.
 
We may fail to realize the anticipated benefits of our acquisitions of Double-Take EMEA and TimeSpring Software Corporation.
 
Our future success will depend in significant part on our ability to realize the operating efficiencies, new revenue opportunities and cost savings we expect to result from the integration of Double-Take EMEA, as well as our latest acquisition, TimeSpring Software Corporation, now known as Double-Take Software Canada, Inc. Our operating results and financial condition may be adversely affected if we are unable to integrate successfully the operations of Double-Take EMEA or Double-Take Software Canada, Inc. or incur unforeseen costs and expenses or experience unexpected operating difficulties that offset anticipated cost savings. In particular, the integration may involve, among other items, integration of sales, marketing, billing, accounting, management, personnel, payroll, network infrastructure and other systems and operating hardware and software, some of which may be incompatible with our existing systems and therefore may need to be replaced. The integration may place significant strain on our management, financial and other resources.


16


 

We may not receive significant revenue from our research and development efforts for several years, if at all.
 
We have made a significant investment in developing and improving our software. Our research and development expenditures were $9.7 million, or approximately 24% of our total revenue, for 2005, $10.7 million, or approximately 18% of our total revenue, for 2006 and $11.9 million, or approximately 14% of our total revenue, for 2007. We believe that we must continue to dedicate a significant amount of our resources to our research and development efforts to maintain our competitive position, and we plan to do so. However, we may not receive significant revenue from these investments for several years following each investment, if ever.
 
We may engage in future acquisitions or investments that present many risks, and we may not realize the anticipated financial and strategic goals for any of these transactions.
 
We do not have significant experience acquiring companies. Since our inception, our only acquisitions have been the acquisitions of Double-Take EMEA and Double-Take Canada. We may acquire or make investments in additional companies. Acquisitions and investments involve a number of difficulties that present risks to our business, including the following:
 
  •  we may be unable to achieve the anticipated benefits from the acquisition or investment;
 
  •  we may have difficulty integrating the operations and personnel of the acquired business, and may have difficulty retaining the key personnel of the acquired business;
 
  •  we may have difficulty incorporating the acquired technologies or products with our existing software and technology;
 
  •  our ongoing business and management’s attention may be disrupted or diverted by transition or integration issues and the complexity of managing geographically and culturally diverse locations;
 
  •  we may have difficulty maintaining uniform standards, controls, procedures and policies across locations; and
 
  •  we may experience significant problems or liabilities associated with product quality, technology and legal contingencies.
 
These factors could materially adversely affect our business, results of operations and financial condition or cash flow, particularly in the case of a larger acquisition or multiple acquisitions in a short period of time. From time to time, we may enter into negotiations for acquisitions or investments that are not ultimately consummated. These negotiations could result in significant diversion of management time, as well as expense.
 
The consideration paid for an investment or acquisition may also affect our financial results. If we were to proceed with one or more significant acquisitions in which the consideration included cash, we could be required to use a substantial portion of our available cash, including proceeds of our initial public offering. To the extent we issue shares of our capital stock or other rights to purchase shares of our capital stock as consideration for the acquisitions, including options or other rights, our existing stockholders may be diluted, and our earnings per share may decrease. In addition, acquisitions may result in the incurrence of debt, write-offs and restructuring charges. They may also result in goodwill and other intangible assets that are subject to an impairment test, which could result in future impairment charges.
 
The loss of key personnel or the failure to attract and retain highly qualified personnel could adversely affect our business.
 
Our future performance depends on the continued service of our key technical, sales, services and management personnel. We rely on our executive officers and senior management to execute our existing business plans and to identify and pursue new opportunities. The loss of key employees could result in significant disruptions to our business, and the integration of replacement personnel could be time consuming, cause additional disruptions to our business and be unsuccessful. We do not carry key person life insurance covering any of our employees.


17


 

Our future success also depends on our continued ability to attract and retain highly qualified technical, services and management personnel. Competition for such personnel is intense, and we may fail to retain our key technical, services and management employees or attract or retain other highly qualified technical, services and management personnel in the future. Conversely, if we fail to manage employee performance or reduce staffing levels when required by market conditions, our personnel costs would be excessive and our business and profitability could be adversely affected.
 
We will not be able to maintain our sales growth if we do not retain or attract and train qualified sales personnel.
 
A portion of our revenue is generated by our direct sales force, and our future success will depend in part upon its continued productivity and expansion. To the extent we experience attrition in our direct sales force, we will need to hire replacements. We face intense competition for sales personnel in the software industry, and we may not be successful in retaining, hiring or training our sales personnel in accordance with our plans. If we fail to retain the experienced members of our sales force, or maintain and expand our sales force as needed, our future sales and profitability could be adversely affected.
 
Changes in the regulatory environment and general economic condition and other factors in countries in which we have international sales and operations could adversely affect our operations.
 
We derived approximately 29% of our revenue from sales outside the United States in 2006 and approximately 35% of our revenue from sales outside the United States in 2007. We anticipate that our acquisition of Double-Take EMEA in May 2006 will significantly increase the percentage of our revenue generated from sales outside the United States in future periods. Our international operations are subject to risks related to the differing legal, political, social and regulatory requirements and economic conditions of many countries, including:
 
  •  difficulties in staffing and managing our international operations;
 
  •  costs and delays in downsizing non-United States workforces, if necessary, as a result of applicable non-United States employment and other laws;
 
  •  the adoption or imposition by foreign countries of additional withholding taxes, other taxes on our income, or tariffs or other restrictions on foreign trade or investment, including currency exchange controls;
 
  •  general economic conditions in the countries in which we operate could adversely affect our earnings from operations in those countries;
 
  •  imposition of, or unexpected adverse changes in, foreign laws or regulatory requirements may occur, including those pertaining to export duties and quota, trade and employment restrictions;
 
  •  longer payment cycles for sales in foreign countries and difficulties in collecting accounts receivables;
 
  •  competition from local suppliers; and
 
  •  political unrest, war or acts of terrorism.
 
Each of the foregoing risks could reduce our revenue or increase our expenses.
 
We are exposed to domestic and foreign currency fluctuations that could harm our reported revenue and results of operations.
 
Historically, our international sales were generally denominated in the United States dollar. As a result of our acquisitions of Double-Take EMEA and Double-Take Canada, we now have international sales that are denominated in foreign currencies, and this revenue could be materially affected by currency exchange rate fluctuations. Our primary exposures are to fluctuations in exchange rates for the United States dollar versus the Euro and Canadian dollar and, to a lesser extent, the British Pound. Changes in currency exchange rates could adversely affect our reported revenue and could require us to reduce our prices to remain competitive in foreign markets, which could also materially adversely affect our results of operations. We have not historically hedged exposure to changes in foreign currency exchange rates and, as a result, we could incur unanticipated gains or losses.


18


 

Protection of our intellectual property is limited, and any misuse of our intellectual property by others could materially adversely affect our sales and results of operations.
 
Proprietary technology in our software is important to our success. To protect our proprietary rights, we rely on a combination of patents, copyrights, trademarks, trade secrets, confidentiality procedures and contractual provisions. While we own nine issued patents, we have not emphasized patents as a source of significant competitive advantage and have also sought to protect our proprietary technology under laws affording protection for trade secrets, copyright and trademark protection of our software, products and developments where available and appropriate. In addition, our issued patents may not provide us with any competitive advantages or may be challenged by third parties, and the patents of others may seriously impede our ability to conduct our business. Further, any patents issued to us may not be timely or broad enough to protect our proprietary rights.
 
We also have seven registered trademarks in the U.S., including the Double-Take mark. Although we attempt to monitor use of and take steps to prevent third parties from using our trademarks without permission, policing the unauthorized use of our trademarks is difficult. If we fail to take steps to enforce our trademark rights, our competitive position and brand recognition may be diminished.
 
We protect our software, trade secrets and proprietary information, in part, by requiring all of our employees to enter into agreements providing for the maintenance of confidentiality and the assignment of rights to inventions made by them while employed by us. We also enter into non-disclosure agreements with our consultants to protect our confidential and proprietary information. There can be no assurance that our confidentiality agreements with our employees, consultants and other third parties will not be breached, that we will be able to effectively enforce these agreements, have adequate remedies for any breach, or that our trade secrets and other proprietary information will not be disclosed or otherwise be protected. Furthermore, there also can be no assurance that others will not independently develop technologies that are similar or superior to our technology or reverse engineer our products.
 
Protection of trade secret and other intellectual property rights in the markets in which we operate and compete is highly uncertain and may involve complex legal and scientific questions. The laws of countries in which we operate may afford little or no protection to our trade secrets and other intellectual property rights. Policing unauthorized use of our trade secret technologies and proving misappropriation of our technologies is particularly difficult, and we expect software piracy to continue to be a persistent problem. Piracy of our products represents a loss of revenue to us. Furthermore, any changes in, or unexpected interpretations of, the trade secret and other intellectual property laws in any country in which we operate may adversely affect our ability to enforce our trade secret and intellectual property rights. Costly and time-consuming litigation could be necessary to enforce and determine the scope of our confidential information and trade secret protection. If we are unable to protect our proprietary rights or if third-parties independently develop or gain access to our or similar technologies, our competitive position and revenue could suffer.
 
Claims that we misuse the intellectual property of others could subject us to significant liability and disrupt our business, which could materially adversely affect our results of operations and financial condition.
 
Because of the nature of our business, we may become subject to material claims of infringement by competitors and other third-parties with respect to current or future software applications, trademarks or other proprietary rights. Our competitors, some of which may have substantially greater resources than us and have made significant investments in competing technologies or products, may have, or seek to apply for and obtain, patents that will prevent, limit or interfere with our ability to make, use and sell our current and future products, and we may not be successful in defending allegations of infringement of these patents. Further, we may not be aware of all of the patents and other intellectual property rights owned by third-parties that may be potentially adverse to our interests. We may need to resort to litigation to enforce our proprietary rights or to determine the scope and validity of a third party’s patents or other proprietary rights, including whether any of our products or processes infringe the patents or other proprietary rights of third-parties. The outcome of any such proceedings is uncertain and, if


19


 

unfavorable, could significantly harm our business. If we do not prevail in this type of litigation, we may be required to:
 
  •  pay damages, including actual monetary damages, royalties, lost profits or other damages and third-party’s attorneys’ fees, which may be substantial;
 
  •  expend significant time and resources to modify or redesign the affected products or procedures so that they do not infringe a third-party’s patents or other intellectual property rights; further, there can be no assurance that we will be successful in modifying or redesigning the affected products or procedures;
 
  •  obtain a license in order to continue manufacturing or marketing the affected products or processes, and pay license fees and royalties; if we are able to obtain such a license, it may be non-exclusive, giving our competitors access to the same intellectual property, or the patent owner may require that we grant a cross-license to part of our proprietary technologies; or
 
  •  stop the development, manufacture, use, marketing or sale of the affected products through a court-ordered sanction called an injunction, if a license is not available on acceptable terms, or not available at all, or our attempts to redesign the affected products are unsuccessful.
 
Any of these events could adversely affect our business strategy and the value of our business. In addition, the defense and prosecution of intellectual property suits, interferences, oppositions and related legal and administrative proceedings in the United States and elsewhere, even if resolved in our favor, could be expensive, time consuming, generate negative publicity and could divert financial and managerial resources.
 
In December 2005, we agreed to terms for settlement of a legal proceeding with a provider of information storage systems that involved claims regarding some of the intellectual property components of our software. Pursuant to a settlement agreement, we paid $3.8 million in January 2006 and agreed to pay, or make purchase of their products for our use or for resale in amounts equal to, $500,000 in each of January 2007, 2008, 2009 and 2010. For January 2007, we purchased products to fulfill this agreement in December of 2006. For January 2008, we purchased products to fulfill this agreement during 2007. We expect that software developers will increasingly be subject to infringement claims as the number of software applications and competitors in our industry segment grows and the functionality of software applications in different industry segments overlaps. Thus, we could be subject to additional patent infringement claims in the future. There can be no assurance that the claims that may arise in the future can be amicably disposed of, and it is possible that litigation could ensue.
 
Intellectual property litigation can be complex, costly and protracted. As a result, any intellectual property litigation to which we are subject could disrupt our business operations, require us to incur substantial costs and subject us to significant liabilities, each of which could severely harm our business.
 
Plaintiffs in intellectual property cases often seek injunctive relief. Any intellectual property litigation commenced against us could force us to take actions that could be harmful to our business, including the following:
 
  •  stop selling our products or using the technology that contains the allegedly
 
  •  infringing intellectual property;
 
  •  attempt to obtain a license to use the relevant intellectual property, which may not be available on reasonable terms or at all; and
 
  •  attempt to redesign the products that allegedly infringed upon the intellectual property.
 
If we are forced to take any of the foregoing actions, our business, financial position and operating results could be harmed. We may not be able to develop, license or acquire non-infringing technology under reasonable terms, if at all. These developments would result in an inability to compete for customers and would adversely affect our ability to increase our revenue. The measure of damages in intellectual property litigation can be complex, and is often subjective or uncertain. If we were to be found liable for the infringement of a third party’s proprietary rights, the amount of damages we might have to pay could be substantial and would be difficult to predict.


20


 

We cannot predict our future capital needs and we may be unable to obtain additional financing to fund acquisitions, which could materially adversely affect our business, results of operations and financial condition.
 
We may need to raise additional funds in the future in order to acquire complementary businesses, technologies, products or services. Any required additional financing may not be available on terms acceptable to us, or at all. If we raise additional funds by issuing equity securities, you may experience significant dilution of your ownership interest, and the newly-issued securities may have rights senior to those of the holders of our common stock. If we raise additional funds by obtaining loans from third parties, the terms of those financing arrangements may include negative covenants or other restrictions on our business that could impair our operational flexibility, and would also require us to fund additional interest expense. If additional financing is not available when required or is not available on acceptable terms, we may be unable to successfully develop or enhance our software and services through acquisitions in order to take advantage of business opportunities or respond to competitive pressures, which could materially adversely affect our software and services offerings, revenue, results of operations and financial condition. We have no current plans, nor are we currently considering any proposals or arrangements, written or otherwise, to acquire a material business, technology, product or service.
 
We have only generated net profits one year since our inception and we may be unable to sustain profitability in the future.
 
We generated net losses of $15.3 million for 2004, $11.8 million for 2005 and $0.6 million for 2006. In 2007, we generated net profits of $20.1 million. We may be unable to sustain profitability in future periods. We intend to continue to expend significant funds in developing our software offerings and for general corporate purposes, including marketing, services and sales operations, hiring additional personnel, upgrading our infrastructure, and regulatory compliance obligations in connection with being a public reporting company. If we experience a downturn in our business, we may incur or continue to incur losses and negative cash flows from operations, which could materially adversely affect our results of operations and capitalization.
 
We are incurring significant costs as a result of operating as a public company that we have not previously incurred, and our management and key employees are required to devote substantial time to compliance initiatives.
 
We have operated as a public company only since December 14, 2006. As a public company, we incur significant legal, accounting and other expenses that we did not incur as a private company. In addition, the Sarbanes-Oxley Act of 2002, as well as new rules implemented by the SEC and NASDAQ, impose various new requirements on public companies, including requiring changes in corporate governance practices. Our management and other personnel are devoting substantial amounts of time to these new compliance initiatives. Moreover, these rules and regulations have significantly increased our legal and financial compliance costs and have made some activities more time-consuming and costly. In addition, we have and will continue to incur additional costs associated with our public company reporting requirements. We will incur significant costs to remediate any material weaknesses we identify through these efforts. These rules and regulations have made it more difficult and more expensive for us to obtain director and officer liability insurance. We currently are evaluating and monitoring developments with respect to these rules, and we cannot predict or estimate the amount of additional costs we may incur or the timing of such costs. If our profitability is adversely affected because of these additional costs, it could have a negative effect on the trading price of our common stock.
 
Risks Related to Our Common Stock
 
We may experience a decline in revenue or volatility in our operating results, which may adversely affect the market price of our common stock.
 
We cannot predict our future revenue with certainty because of many factors outside of our control. A significant revenue or profit decline, lowered forecasts or volatility in our operating results could cause the market


21


 

price of our common stock to decline substantially. Factors that could affect our revenue and operating results include the following:
 
  •  the possibility that our customers may cancel, defer or limit purchases as a result of reduced information technology budgets;
 
  •  the possibility that our customers may defer purchases of our software applications in anticipation of new software applications or updates from us or our competitors;
 
  •  the ability of our distributors, value-added resellers and OEMs to meet their sales objectives;
 
  •  market acceptance of our new applications and enhancements;
 
  •  our ability to control expenses;
 
  •  changes in our pricing and distribution terms or those of our competitors;
 
  •  the demands on our management, sales force and services infrastructure as a result of the introduction of new software applications or updates; and
 
  •  the possibility that our business will be adversely affected as a result of the threat of terrorism or military actions taken by the United States or its allies.
 
Our expense levels are relatively fixed and are based, in part, on our expectations of our future revenue. If revenue levels fall below our expectations, our net income would decrease because only a small portion of our expenses varies with our revenue. Therefore, any significant decline in revenue for any period could have an immediate adverse impact on our results of operations for the period. We believe that period-to-period comparisons of our results of operations should not be relied upon as an indication of future performance. In addition, our results of operations could be below expectations of public market analysts and investors in future periods, which would likely cause the market price of our common stock to decline.
 
If securities analysts do not publish research or reports about our business or if they publish negative evaluations of our stock, the price of our stock could decline.
 
The trading market for our common stock relies in part on the research and reports that industry or financial analysts publish about us or our business. If one or more of the analysts covering us downgrade their evaluations of our stock, the price of our stock could decline. If one or more of these analysts cease coverage of our company, we could lose visibility in the market for our stock, which in turn could cause our stock price to decline.
 
Sales of outstanding shares of our common stock into the market pursuant to our currently effective shelf registration statement or in the future could cause the market price of our common stock to drop significantly, even if our business is doing well.
 
As of February 29, 2008, the number of shares of our common stock outstanding was 21,945,514 shares. In February 2008 a shelf registration statement (file No. 333-148840) for the sale of all of the shares of our common stock held by funds affiliated with ABS Capital Partners was declared effective. The sale of the shares registered on the shelf registration statement could result in a substantial amount of previously unregistered shares of our common stock being sold, which could cause the trading price of our common stock to decline. The market price of our common stock could also decline as a result of sales of shares of our common stock in the market that were previously not registered other than in connection with that registration statement or the perception that these sales could occur. These sales, or the possibility that these sales may occur, also might make it more difficult for us to sell equity securities in the future at a time and price that we deem appropriate.
 
Some of our stockholders may exert significant influence over us.
 
Two general partners of ABS Capital Partners currently serve on our board of directors. Funds affiliated with ABS Capital Partners currently own in the aggregate shares representing approximately 14.5% of our outstanding common stock, but may reduce, or liquidate entirely, their holdings as a result of our shelf registration statement that was declared effective in February 2008. If these funds sell only a portion or none of their shares, they will be able to


22


 

continue to exert significant influence over all matters presented to our stockholders for approval, including election and removal of our directors and change of control transactions. The interests of these stockholders may not coincide with the interests of the other holders of our common stock with respect to our operations or strategy.
 
We do not anticipate paying any dividends on our common stock.
 
We do not anticipate paying any cash dividends on our common stock in the foreseeable future. If we do not pay cash dividends, you could only receive a return on your investment in our common stock if the market price of our common stock increases before you sell your shares. In addition, the terms of our loan and security agreement restrict our ability to pay dividends.
 
Provisions in our organizational documents and in the Delaware General Corporation Law may prevent takeover attempts that could be beneficial to our stockholders.
 
Provisions in our charter and bylaws and in the Delaware General Corporation Law may make it difficult and expensive for a third party to pursue a takeover attempt we oppose even if a change in control of our company would be beneficial to the interests of our stockholders. Our board of directors has the authority to issue up to 20,000,000 shares of preferred stock in one or more series and to fix the powers, preferences and rights of each series without stockholder approval. The ability to issue preferred stock could discourage unsolicited acquisition proposals or make it more difficult for a third party to gain control of our company, or otherwise could adversely affect the market price of our common stock. Further, as a Delaware corporation, we are subject to Section 203 of the Delaware General Corporation Law. This section generally prohibits us from engaging in mergers and other business combinations with stockholders that beneficially own 15% or more of our voting stock, or with their affiliates, unless our directors or stockholders approve the business combination in the prescribed manner. However, because funds affiliated with ABS Capital Partners acquired their shares prior to our initial public offering, Section 203 is currently inapplicable to any business combination or transaction with it or its affiliates.
 
A research report published by a firm initially named as an underwriter for our secondary offering, but that did not ultimately participate as an underwriter, might have been issued in violation of the Securities Act.
 
On July 25, 2007, prior to effectiveness of our registration statement on Form S-1 (file No. 333-144746) that was filed in connection with our August 2007 secondary offering, a firm that had initially been named as an underwriter for the offering published a research report about us. We were not involved in the preparation or distribution of the research report, we did not consent to its publication and we had no knowledge of it prior to its publication. After we learned of the publication we informed the firm that it would not participate as an underwriter in the offering.
 
The research report may have been issued in violation of the Securities Act and its restrictions on written offers prior to the effectiveness of a registration statement. We, the selling stockholders and the underwriters that participated in the offering disclaim all responsibility for the contents of the research report. You should not place any reliance on the contents of the research report in evaluating whether or not to invest in our common stock.
 
We do not believe that the publication of the research report constitutes a violation by us of the Securities Act. However, if a court were to conclude that publication of the research report constituted a violation by us of the Securities Act, the recipients of the research report, if any, who purchased shares of our common stock in the offering might have the right, under certain circumstances and for a limited period of time, to obtain recovery of the consideration they paid for the shares. We cannot currently quantify any potential liability related to such right because it would depend upon the number of shares purchased by the recipients of the research report and the public offering price of our common stock. We do not believe that we will be subject to any material liability as a result of the publication of the research report. If any claim of liability on our part is asserted, we intend to contest the matter vigorously.
 
Item 1B.   Unresolved Staff Comments.
 
Not applicable.


23


 

Item 2.   Properties.
 
We maintain leased office space in Southborough, Massachusetts, Paris, France, Bracknell, United Kingdom, Frankfurt, Germany, Brussels, Belgium, Hoboken, New Jersey, Montreal, Canada and Indianapolis, Indiana, where we have our development operations and principal call center. We have 45,429 square feet of office space in Indianapolis pursuant to a lease that expires in 2010. We also maintain sales offices in multiple locations worldwide. We believe that our current facilities are suitable and adequate to meet our current needs, and we intend to add new facilities or expand existing facilities as we add employees.
 
Item 3.   Legal Proceedings.
 
We currently have no material legal proceedings pending.
 
Item 4.   Submission of Matters to a Vote of Security Holders.
 
None
 
PART II
 
Item 5.   Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities.
 
Market Information
 
Since December 15, 2006, our common stock has traded on the NASDAQ Global Market under the symbol “DBTK.” Prior to trading on the NASDAQ Global Market our common stock was not listed or quoted on any national exchange or market system.
 
The following table sets forth, for the periods indicated, the high and low sale price for our common stock as reported on the NASDAQ Global Market.
 
                 
Year Ended December 31, 2007
  High     Low  
 
1st Quarter (January 1 through March 31)
  $ 16.22     $ 10.74  
2nd Quarter (April 1 through June 30)
  $ 17.61     $ 13.53  
3rd Quarter (July 1 through September 30)
  $ 19.11     $ 15.07  
4th Quarter (October 1 through December 31)
  $ 25.26     $ 17.96  
                 
                 
Year ended December 31, 2006
               
4th Quarter (December 15 through December 31)
  $ 13.60     $ 11.80  
 
On February 29, 2008, the last sale price reported on the NASDAQ Global Market for our common stock was $10.39.
 
Stockholders
 
As of February 29, 2008, there were 170 holders of record of our common stock.
 
Dividends
 
We did not pay cash dividends on our common stock in 2006 or 2007 and we do not anticipate that we will pay cash dividends on our common stock in the foreseeable future. Future declaration and payment of dividends, if any, on our common stock will be determined by our board of directors in light of factors the board of directors deems relevant, including our earnings, operations, capital requirements and financial condition and restrictions in our financing agreements. In addition, the terms of our loan and security agreement with Silicon Valley Bank restrict our ability to pay dividends.
 
Securities Authorized for Issuance under Equity Compensation Plans
 
Information regarding securities authorized for issuance under our equity compensation plans is included in Item 12 of this annual report.


24


 

 
Performance Graph
 
The graph set forth below compares the cumulative total stockholder return on our common stock between December 15, 2006 (the date our common stock initially began trading on the NASDAQ Global Market) and December 31, 2007, with the cumulative total return of (i) the NASDAQ Composite Index and (ii) the NASDAQ Technology Index, over the same period. This graph assumes the investment of $100,000 on December 15, 2006 in our common stock, the NASDAQ Composite Index and the NASDAQ Technology Index, and assumes the reinvestment of dividends, if any. The graph assumes the initial value of our common stock on December 15, 2006 was the closing price of $12.66 per share. The comparisons shown in the graph below are based upon historical data. We caution that the stock price performance shown in the graph below is not necessarily indicative of, nor is it intended to forecast, the potential future performance of our common stock.
 
(performance Graph)
 
                                                             
      12/15/2006     12/29/2006     3/31/2007     6/30/2007     9/30/2007     12/31/2007
Double-Take Software
      100         101.7         106.7         129.6         150.9         171.6  
NASDAQ Composite Index
      100         98.3         107.9         109.9         105.9         98.6  
NASDAQ Technology Index
      100         97.0         97.1         106.9         112.6         119.0  
                                                             
 
Use of Proceeds
 
On December 14, 2006, our Registration Statement on Form S-1 (333-136499) covering our initial public offering was declared effective by the SEC, and the offering commenced the following day. We registered 5,000,000 shares of common stock to be sold by us, 2,500,000 shares to be sold by selling stockholders and an additional 1,125,000 to be sold by selling stockholders to cover an over-allotment option granted to the underwriters. Cowen & Company, LLC and Thomas Weisel Partners LLC acted as joint bookrunning managers for the offering. The initial closing of the offering was on December 20, 2006, at which time we sold 5,000,000 shares and the selling stockholders sold 2,500,000 shares. The closing of the underwriters’ over-allotment option and the offering closed on January 5, 2007, at which time the selling stockholders sold an additional 1,125,000 shares.
 
The shares sold by us and the selling stockholders at the initial closing were sold at a price to the public of $11.00 per share. As of January 1, 2007, of the net proceeds of the offering, we had approximately $37.4 million remaining, which we intend to use for working capital and other general corporate purposes. None of this amount was used during 2007.
 
We pursue acquisitions of other businesses as part of our business strategy and may use a portion of the net proceeds to fund these acquisitions. We currently have no agreement with respect to any acquisition, although we assess opportunities on an ongoing basis and from time to time have discussions with other companies about potential transactions.
 
Our management will have significant flexibility in applying the net proceeds of the offering. Further, changing business conditions and unforeseen circumstances could cause the actual amounts used for these purposes


25


 

to vary from our estimates. Pending their use, we have invested the net proceeds of the offering in short-term, interest-bearing securities. We cannot predict whether the proceeds invested will yield a favorable return.
 
Issuer Purchases of Equity Securities
 
None.
 
Item 6.   Selected Financial Data.
 
The following selected consolidated financial data should be read in conjunction with our audited consolidated financial statements and related notes thereto and with Management’s Discussion and Analysis of Financial Condition and Results of Operations, which are included elsewhere in this annual report. The consolidated statement of operations data for the years ended December 31, 2007, 2006 and 2005, and the selected consolidated balance sheet data as of December 31, 2007 and 2006 are derived from, and are qualified by reference to, the audited consolidated financial statements included in the annual report. The consolidated statement of operations data for the years ended December 31, 2004 and 2003, and the consolidated balance sheet data as of December 31, 2005, 2004, and 2003 are derived from audited consolidated financial statements which are not included in the Annual Report.
 
                                         
    Year Ended December 31,  
    2007     2006     2005     2004     2003  
 
Statement of Operations Data:
                                       
Revenue:
                                       
Software licenses
  $ 49,169     $ 38,418     $ 26,222     $ 19,943     $ 16,283  
Maintenance and professional services
    33,599       22,422       14,488       9,895       7,650  
                                         
Total revenue
    82,768       60,840       40,710       29,838       23,933  
                                         
Cost of revenue:
                                       
Software licenses
    411       1,355       38       559       1,426  
Maintenance and professional services
    7,827       6,193       4,357       3,694       3,103  
                                         
Total cost of revenue
    8,238       7,548       4,395       4,253       4,529  
                                         
Gross profit
    74,530       53,292       36,315       25,585       19,404  
                                         
Operating expenses:
                                       
Sales and marketing
    28,872       22,211       17,191       16,188       13,654  
Research and development
    11,896       10,679       9,748       8,717       6,373  
General and administrative
    14,863       11,824       6,730       5,666       5,253  
Depreciation and amortization
    2,346       1,613       805       527       1,617  
Legal fees and settlement costs
                5,671       1,755       200  
                                         
Total operating expenses
    57,977       46,327       40,145       32,853       27,097  
                                         
Operating income (loss)
    16,553       6,965       (3,830 )     (7,268 )     (7,693 )
Interest income
    3,019       319       83       7       19  
Interest expense
    (49 )     (91 )     (36 )     (765 )     (341 )
Foreign exchange (losses) gains
    (234 )     56                    
                                         
Income (loss) before income taxes
    19,289       7,249       (3,783 )     (8,026 )     (8,015 )
Income tax (benefit) expense
    (789 )     494                    
                                         
Net income (loss)
    20,078       6,755       (3,783 )     (8,026 )     (8,015 )
Less:
                                       
Accretion of preferred stock
          (4,496 )     (5,332 )     (5,314 )     (4,928 )
Reduction in Series B preferred stock conversion price
                            (1,194 )
Warrants exchanged for common stock
                             
Exchange of Series A for Series B preferred stock
                             
Dividends on preferred stock
          (2,830 )     (2,686 )     (2,029 )     (1,637 )
                                         
Net income (loss) attributable to common stockholders
  $ 20,078     $ (571 )   $ (11,801 )   $ (15,369 )   $ (15,774 )
                                         
Net income (loss) per share attributable to common stockholders:
                                       
Basic
  $ 0.94     $ (0.13 )   $ (3.11 )   $ (4.06 )   $ (4.16 )
                                         
Diluted
  $ 0.87     $ (0.13 )   $ (3.11 )   $ (4.06 )   $ (4.16 )
                                         
Weighted-average number of shares used in per share amounts:
                                       
Basic
    21,332       4,306       3,789       3,786       3,786  
                                         
Diluted
    23,027       4,306       3,789       3,786       3,786  
                                         


26


 

 
                                         
    December 31,  
    2007     2006     2005     2004     2003  
 
Balance Sheet Data:
                                       
Current assets:
                                       
Cash and cash equivalents
  $ 25,748     $ 55,170     $ 8,341     $ 5,831     $ 676  
Short term investments
    38,977                          
Working Capital
    56,807       42,674       (2,256 )     497       62  
Total Assets
    114,606       77,026       18,590       13,318       8,772  
Deferred revenue
    24,162       16,744       10,562       7,304       4,144  
Long-term deferred revenue
    4,485       3,977       2,887       1,607       586  
Long-term deferred rent
    272       406       518       610       668  
Long-term capital lease obligations
    13       17       7       38        
Redeemable convertible preferred stock
                50,561       42,489       27,646  
Total stockholders’ equity (deficit)
  $ 75,544     $ 45,230     $ (54,307 )   $ (42,601 )   $ (27,386 )
 
Item 7.   Management’s Discussion and Analysis of Financial Condition and Results of Operations.
 
You should read the following discussion and analysis together with our historical financial statements and the related notes included elsewhere in this annual report.
 
Overview
 
Double-Take Software develops, sells and supports affordable software that reduces downtime and protects data for business-critical systems. We believe that we are the leading supplier of replication software for Microsoft server environments. By simply loading our software onto servers running current Windows operating systems, organizations of any size can maintain an off-site standby server with replicated data, providing rapid recovery in the event of a disaster. We estimate that we have sold licenses for approximately 135,000 copies of Double-Take to more than 15,000 customers.
 
In recent years, we have experienced substantial growth, increasing our total revenue from $14.3 million for the year ended December 31, 2002 to $82.8 million for the year ended December 31, 2007, and we have gone from having net losses of $14.3 million to a net income of $20.1 million during that same period. We believe that our focus on providing affordable replication and high availability software to companies of all sizes through an efficient direct sales team and a robust distribution network has been instrumental to our continued revenue growth. Revenue generated by sales of our software represented 59% of our total revenue in 2007. Sales of maintenance and professional services generated the remainder of our revenue.
 
As a result of our investments in developing our software and establishing our broad distribution network, as well as legal fees and settlement costs associated with the defense and settlement of a legal case involving our intellectual property, we experienced significant operating losses through 2005. Our ability to increase the productivity of our sales force and distribution partners while controlling our other expenses has driven an improvement in our results, from an operating loss of $3.8 million and a net loss of $3.8 million in 2005 to an operating income of $16.6 million and net income of $20.1 million in 2007. Our acquisition of Double-Take EMEA on May 23, 2006 has also contributed to our improved results.
 
We commenced operations in 1991, primarily developing software for load balancing between network interface cards of servers running NetWare, a then-popular network operating system developed by Novell, Inc. We released the first Windows-based version of Double-Take in 1996 based, in part, on these experiences.
 
Some Important Aspects of Our Operations
 
We license our software under perpetual licenses to end-user customers directly and to a network of distributors, value-added resellers and original equipment manufacturers, or OEMs. Our distributors primarily sell our software to our resellers. Our resellers bundle or sell our software together with their own products and also


27


 

sell our software independently. Our OEMs market, sell and support our software and services on a stand-alone basis and incorporate our software into their own hardware and software products.
 
Software sales made to or through our distributors, value-added resellers and OEMs generated approximately 93% of total software sales in 2007. During 2007, approximately 7% of our software sales were made solely by our direct sales force, approximately 13% were made to our distributors for sale to value-added resellers, approximately 73% of which were made directly through resellers and approximately 7% were made through OEMs, primarily Hewlett-Packard Co. We believe that we will need to continue to maintain close relationships with our partners to sustain and increase profitability. We have no current plans to focus future growth on one distribution channel versus another. We believe our direct sales force complements our indirect distribution network, and we intend to continue to increase revenue generated by both.
 
In 2007, the median price of sales of Double-Take software licenses to customers was approximately $5,000 and the average sales cycle was less than three months. The pricing of our product has not materially changed from 2003 through 2006. On May 1, 2007 and December 1, 2007, we implemented a nominal price increase across all of our products except in a few international markets where the price was already commensurate with the nominal price increase implemented in the United States. We believe that these factors have contributed to more balanced sales throughout the year and more predictable revenue streams in comparison to other software companies with perpetual license models. We believe that the affordability of our software is a competitive advantage.
 
On May 23, 2006, we completed our acquisition of Double-Take EMEA. Our acquisition of Double-Take EMEA has provided us with a direct presence in the European, Middle Eastern and African markets, the opportunity to further our strategic initiative to increase revenue generated outside of the United States, and opportunities for improved margins. The inclusion of Double-Take EMEA’s assets and operations in our business since May 23, 2006 has contributed to a significant increase in the size of our business. On December 24, 2007, we completed our acquisition of TimeSpring Software Corporation, now known as Double-Take Software Canada, Inc which we refer to as Double-Take Canada. We do not anticipate this acquisition will provide significant revenue in 2008, but we believe the acquisition of TimeSpring’s patented technology and the engineering expertise of the employees, specifically in the area of file systems and application level recovery, fits extremely well into our core capabilities as does the product design into our architecture. We expect that this acquisition will help broaden development efforts of our products resulting in generation of future revenues.
 
Revenue
 
We derive revenue from sales of perpetual licenses for our software and from maintenance and professional services.
 
Software Licenses.  We derive the majority of our revenue from sales of perpetual licenses of our software applications, which allow our customers to use the software indefinitely. We do not customize our software for a specific end user customer. We recognize revenue from sales of perpetual licenses generally upon shipment of the software. In accordance with EITF 01-9, our software revenue is reported net of rebates and discounts because we do not receive an identifiable benefit in exchange for the rebate or discount.
 
Our software revenue generated approximately 59% of our total revenue in 2007 and 63% of our total revenue in 2006. Our software revenue generally experiences some seasonality. Many organizations make the bulk of their information technology purchases, including software, in the second half of the year. We believe that this generally has resulted in higher revenue generated by software sales during the last half of any year. Software revenue has increased each consecutive quarter during 2007. We expect this seasonality to continue in future years.
 
Maintenance and Professional Services.  We also generate revenue by providing our customers with maintenance comprised of software updates and product support. We generally include our maintenance for a designated period in the price of the software at the time of sale. In addition, some of our customers enter into a maintenance agreement for periods longer than a year. These agreements entitle our customers to software updates on a when-and-if-available basis and product support for an annual fee based on the licenses purchased and the level of service subscribed. Almost all of our customers that purchase maintenance pay the entire amount payable under the agreement in advance, although we recognize maintenance revenue ratably over the term of the agreement. This


28


 

policy has contributed to increasing deferred revenue balances on our balance sheet and positive cash flow from operations.
 
In some cases, most often in connection with the licensing of our software, we provide professional services to assist our customers in strategic planning for disaster recovery and application high availability, the installation of our software and the training of their employees to use our software. We provide most of our professional services on a fixed price basis and we generally recognize the revenue for professional services once we complete the engagement. For any paid professional services, including training, which have not been performed within three years of the original invoice date, we recognize the services as revenue in the quarter the age of the unperformed services become three years old.
 
Of total maintenance and professional services revenue, maintenance revenue represented 87% in 2007 and 85% in 2006. Professional services generated the remainder of our total maintenance and professional services revenue in these periods.
 
Of our total revenue, maintenance revenue represented 35% in 2007 and 32% in 2006. Professional services accounted for 6% and 5% of our total revenue in 2007 and 2006, respectively. Our maintenance and professional services revenue historically has generated lower gross margins than our software revenue. The gross margin generated by our maintenance and professional services revenue was 77% in 2007 and 72% in 2006. We expect the proportion of revenue derived from sales of maintenance to increase in the future as we increase the number of software licenses sold and in service. As the percentage of total revenue attributable to maintenance increases, our overall gross margins will be adversely affected.
 
Cost of Revenue
 
Our cost of revenue primarily consists of the following:
 
Cost of Software Revenue.  Cost of software revenue consists primarily of media, manual, translation and distribution costs, and royalties to third-party software developers for technology embedded within our software. Because our development initiatives have resulted in insignificant time and costs incurred between technological feasibility and the point at which the software is ready for general release, we do not capitalize any of our internally-developed software.
 
Cost of Services Revenue.  Cost of services revenue consists primarily of salary and other personnel-related costs incurred in connection with our provision of maintenance and professional services. Cost of services revenue also includes other allocated overhead expenses for our professional services and product support personnel, as well as travel-related expenses for our staff to perform work at a customer’s site.
 
Operating Expenses
 
We classify our operating expenses as follows:
 
Sales and Marketing.  Sales and marketing expenses primarily consist of the following:
 
  •  personnel and related costs for employees engaged in sales, corporate marketing, product marketing and product management, including salaries, commissions and other incentive compensation, including equity-based compensation, related employee benefit costs and allocated overhead expenses;
 
  •  travel related expenses to meet with existing and potential customers, and for other sales and marketing related purposes; and
 
  •  sales promotion expenses, public relations expenses and costs for marketing materials and other marketing events, including trade shows, industry conventions and advertising, and marketing development funds for our distribution partners.
 
We expense our sales commissions at the time of sale. We expect our sales and marketing expense to increase in the future as we increase the number of direct sales professionals and invest in marketing programs.


29


 

Research and Development.  Research and development expenses primarily represent the expense of developing new software and modifying existing software. These expenses primarily consist of the following:
 
  •  personnel and related costs, including salaries, employee benefits, equity and other incentive compensation and allocated overhead expenses, for research and development personnel, including software engineers, software quality assurance engineers and systems engineers; and
 
  •  contract labor expense and consulting fees paid to independent consultants and others who provide software engineering services to us, as well as other expenses associated with the design and testing of our software.
 
To date, our research and development efforts have been primarily devoted to increases in features and functionality of our existing software. We expect research and development expense to increase in the future as we continue to develop new solutions for our customers. However, we expect research and development expense to increase as a percentage of revenue in 2008 as we continue to invest in the development of our products.
 
General and Administrative.  General and administrative expenses represent the costs and expenses of managing and supporting our operations. General and administrative expenses consist primarily of the following:
 
  •  personnel and related costs including salaries, employee benefits, equity and other incentive compensation and allocated overhead expenses, for our executives, finance, human resources, corporate information technology systems, strategic business, corporate quality, corporate training and other administrative personnel;
 
  •  legal and accounting professional fees;
 
  •  recruiting and training costs;
 
  •  travel related expenses for executives and other administrative personnel; and
 
  •  computer maintenance and support for our internal information technology system.
 
General and administrative expenses have increased as we have incurred increased expenses related to being a publicly-traded company and have invested in an infrastructure to support our continued growth. However, we expect general and administrative expenses to decrease as a percentage of revenue for the foreseeable future, as we believe the rate at which our revenue will increase will exceed the rate at which we expect to incur these additional expenses.
 
Depreciation and Amortization.  Depreciation and amortization expense consists of depreciation expense primarily for computer equipment we use for information services and in our development and test labs, and amortization of intangible assets acquired.
 
Legal Fees and Settlement Costs.  In December 2005, we agreed to terms for settlement of a legal proceeding with a provider of information storage systems that involved claims regarding some of the intellectual property used in our software. Pursuant to a settlement agreement entered into in January 2006, we paid $3.8 million in January 2006, which represented our initial settlement payment in connection with the resolution of this matter, and we agreed to pay the other company an additional $0.5 million in each of January 2007, 2008, 2009 and 2010. Our obligation to make these future payments will be reduced on a dollar-for-dollar basis to the extent that we purchase or resell the other company’s products. We have purchased computer equipment in the amount of $1.0 million through December 31, 2007. As a result, our future obligation has been reduced to $1.0 million as of December 31, 2007. Our obligation to make these payments is collateralized by a letter of credit from Silicon Valley Bank.


30


 

Results of Operations
 
The following table sets forth our sources of revenue, costs of revenue and other selected financial data for the specified periods and as a percentage of our total revenue for those periods.
 
                         
    Year Ended December 31,  
    2007     2006     2005  
    (In thousands)  
 
Revenue:
                       
Software licenses
  $ 49,169     $ 38,418     $ 26,222  
Maintenance and professional services
    33,599       22,422       14,488  
                         
Total revenue
    82,768       60,840       40,710  
                         
Cost of revenue:
                       
Software licenses
    411       1,355       38  
Maintenance and professional services
    7,827       6,193       4,357  
                         
Total cost of revenue
    8,238       7,548       4,395  
                         
Gross profit
    74,530       53,292       36,315  
                         
Operating expenses:
                       
Sales and marketing
    28,872       22,211       17,191  
Research and development
    11,896       10,679       9,748  
General and administrative
    14,863       11,824       6,730  
Depreciation and amortization
    2,346       1,613       805  
Legal fees and settlement costs
                5,671  
                         
Total operating expenses
    57,977       46,327       40,145  
                         
Income (loss) from operations
    16,553       6,965       (3,830 )
Interest income
    3,019       319       83  
Interest expense
    (49 )     (91 )     (36 )
Foreign exchange (losses) gains
    (234 )     56        
                         
Income (loss) before income taxes
    19,289       7,249       (3,783 )
Income tax (benefit) expense
    (789 )     494        
                         
Net income (loss)
    20,078       6,755       (3,783 )
Accretion on redeemable shares:
                       
Series B
          (4,477 )     (5,310 )
Series C
          (19 )     (22 )
Dividends on Series B
          (2,140 )     (2,035 )
Dividends on Series C
          (690 )     (651 )
                         
Net income (loss) attributable to common stockholders
  $ 20,078     $ (571 )   $ (11,801 )
                         
 


31


 

                         
    Year Ended December 31,  
    2007     2006     2005  
 
Revenue:
                       
Software licenses
    59 %     63 %     64 %
Maintenance and professional services
    41 %     37 %     36 %
                         
Total revenue
    100 %     100 %     100 %
                         
Cost of revenue:
                       
Software licenses
          2 %      
Maintenance and professional services
    10 %     10 %     11 %
                         
Total cost of revenue
    10 %     12 %     11 %
                         
Gross profit
    90 %     88 %     89 %
                         
Operating expenses:
                       
Sales and marketing
    35 %     37 %     42 %
Research and development
    14 %     18 %     24 %
General and administrative
    18 %     19 %     17 %
Depreciation and amortization
    3 %     3 %     2 %
Legal fees and settlement costs
                14 %
                         
Total operating expenses
    70 %     77 %     99 %
                         
Income (loss) from operations
    20 %     11 %     (9 )%
Interest income
    3 %            
Interest expense
                 
Foreign exchange (losses) gains
                 
                         
Income (loss) before income taxes
    23 %     11 %     (9 )%
Income tax (benefit) expense
    (1 )%     1 %      
Net income (loss)
    24 %     10 %     (9 )%
                         
Accretion on redeemable shares:
                       
Series B
          (7 )%     (13 )%
Series C
                 
Dividends on Series B
          (3 )%     (5 )%
Dividends on Series C
          (1 )%     (2 )%
                         
Net income (loss) attributable to common stockholders
    24 %     (1 )%     (29 )%
                         
 
2007 Compared to 2006
 
Revenue
 
We derive our revenue from sales of our products and support and services. Revenue increased 36% to $82.8 million in 2007 from $60.8 million in 2006. Revenue in 2007 includes revenue from Double-Take EMEA for the entire year whereas 2006 only includes revenue from Double-Take EMEA from the acquisition date of May 23, 2006 through December 31, 2006. There was no revenue included in 2007 related to our acquisition of Double-Take Canada.
 
Software License Revenue.  Software revenue increased $10.8 million, or 28%, from $38.4 million in 2006 to $49.2 million in 2007. The increase in software revenue was primarily due to increased volume of $5.2 million attributable to increased volume resulting from broader demand for, and acceptance of, our software, $1.0 million

32


 

from new products available during 2007 and $4.6 million from sales through Double-Take EMEA as a result of an entire year of sales being included in 2007 because Double-Take EMEA was acquired on May 23, 2006.
 
Maintenance and Professional Services Revenue.  Maintenance and professional services revenue increased $11.2 million, or 50%, from $22.4 million in 2006 to $33.6 million in 2007. Maintenance and professional services revenue represented 41% of our total revenue in 2007 and 37% of our total revenue in 2006. Maintenance revenue increased $9.7 million, or 51%, from $19.2 million in 2006 to $28.9 million in 2007. The increase in maintenance revenue was attributable to higher sales to our expanding base of customers, continued maintenance revenue from our existing customers, as well as maintenance revenue of $5.4 million generated by an entire year of revenue from Double-Take EMEA, which was acquired on May 23, 2006. Professional services revenue increased $1.3 million, or 39%, from $3.3 million in 2006 to $4.7 million in 2007. The increase in professional services revenue was due to more professional service deliveries due to an increase in professional services personnel as well as $0.7 million of revenue generated by Double-Take EMEA as a result of an entire year of sales being included in 2007 because Double-Take EMEA was acquired on May 23, 2006.
 
Cost of Revenue and Gross Profit
 
Total cost of revenue increased $0.7 million, or 9%, from $7.5 million in 2006 to $8.2 million in 2007. Total cost of revenue represented 10% of our total revenue in 2007 and 12% of our total revenue in 2006.
 
Cost of software revenue decreased $1.0 million, or 70%, from $1.4 million in 2006 to $0.4 million in 2007. The decrease was due to cost of software for Double-Take EMEA sales in the period from May 24, 2006 through December 31, 2006 relating to the inventory of Double-Take products on hand at May 23, 2006 of $1.4 million. This inventory was substantially sold during 2006 resulting in no similar costs in 2007. The $0.4 million of expense in 2007 was royalties paid to third parties related to software we began to include in our product in 2007. Cost of software revenue was nominal as a percent of total revenue in 2007 and 2% of total revenue in 2006.
 
Cost of services revenue increased $1.6 million, or 26%, from $6.2 million in 2006 to $7.8 million in 2007. The increase was the result of higher employee compensation of $0.8 million due to an increase in the number of our maintenance and professional services personnel and $0.8 million of costs of maintenance and professional services personnel of Double-Take EMEA which was acquired on May 23, 2006. Cost of services revenue represented 23% of our services revenue in 2007 and 28% of our services revenue in 2006.
 
Gross profit increased $21.2 million, or 40%, from $53.3 million in 2006 to $74.5 million in 2007. Gross margin increased from 88% in 2006 to 90% in 2007. This increase is primarily related to the increased maintenance revenue in 2007 from Double-Take EMEA and the expanding customer base. Additionally, cost of software revenue decreased in 2007 as a result of the use of Double-Take EMEA’s inventory during 2006. These increases to gross profit are all partially offset by increased personnel costs in maintenance and professional services.
 
Operating Expenses
 
Sales and Marketing.  Sales and marketing expenses increased $6.7 million, or 30%, from $22.2 million in 2006 to $28.9 million in 2007. The increase was due to an increase of compensation and commission expense of $2.1 million resulting from increased sales and headcount, an increase of $1.0 million in marketing and advertising related to creating Double-Take brand awareness, an increase of $0.2 of travel expense and an increase of $3.3 million of costs of sales and marketing efforts through Double-Take EMEA which was acquired on May 23, 2006.
 
Research and Development.  Research and development expenses increased $1.2 million, or 11%, from $10.7 million in 2006 to $11.9 million in 2007. The increase resulted primarily from higher compensation expense of $0.7 million due to an increase in personnel and $0.4 million from outsourced development projects.
 
General and Administrative.  General and administrative expenses increased $3.0 million, or 26%, from $11.8 million in 2006 to $14.9 million in 2007. The increase in 2007 was primarily related to $0.3 million of compensation expense related to increased headcount, an increase of $2.5 million related to legal, accounting, insurance and consulting fees as a result of being a public company, $1.3 million attributable to expensing of stock options because of the adoption of SFAS 123R in January 2006, and $1.5 million of costs from Double-Take EMEA


33


 

which was acquired on May 23, 2006. Additionally, in 2006, there was a settlement with the former COO for $1.2 million recorded as a reduction to general and administrative expense. There was no similar reduction to expense in 2007. These increases are partially offset by a decrease in compensation expense in 2007 of $3.2 million due to the issuance of stock to our CEO in 2006 and $1.2 million as a result of the vesting of stock options to our former CEO in 2006.
 
Depreciation and Amortization.  Depreciation and amortization expense increased $0.7 million, or 45%, from $1.6 million in 2006 to $2.3 million in 2007. The increase was attributable to increased depreciation expense of $0.4 million associated with increased capital expenditures, which were primarily for product development and other computer-related equipment, as well as increased amortization expense of $0.3 million related to the intangible assets acquired in the Double-Take EMEA acquisition and minimal amortization of the intangibles acquired as part of the Double-Take Canada acquisition.
 
Interest Income
 
Interest income increased $2.7 million from $0.3 million in 2006 to $3.0 million in 2007. The increase is attributable to higher balances in our cash and short term investment accounts, mainly as a result of our initial public offering in December 2006 and our positive cash flow from operations.
 
Foreign Exchange gains (losses)
 
Foreign currency losses totaled $0.2 million due to foreign currency fluctuations related to Double-Take EMEA during 2007.
 
Income Tax Expense (benefit)
 
Income tax expense was $0.5 million in 2006 and was a benefit of $0.8 million in 2007. During 2007, we recorded a current tax expense of $8.2 million related to income generated during the period using an effective tax rate for the full year. Because we have delivered consistent profitability over the past two years, we concluded that it was more likely than not that we would generate sufficient taxable income to utilize the benefit from our net operating loss carryforwards eligible to be used in 2007, 2008 and 2009. As a result, the Company reversed the valuation allowance on $9.0 million of deferred tax assets resulting in a net benefit of $0.8 million in 2007.
 
In determining future taxable income, assumptions are made to forecast federal, state and international operating income, the reversal of temporary timing differences, and the implementation of any feasible and prudent tax planning strategies. The assumptions require significant judgment regarding the forecasts of future taxable income, and are consistent with forecasts used to manage the business. As of December 31, 2007, the valuation allowance against net deferred tax assets, which are primarily comprised of net operating loss carryforwards as a result of operating losses incurred since inception, and our acquisition of Double-Take Canada is approximately $26.0 million. Realization of deferred tax assets is dependent upon future earnings, if any, the timing of which is uncertain. Accordingly, the net deferred tax assets were offset by the valuation allowance. If not utilized, the federal and state net operating loss and tax credit carryforwards will expire between 2011 and 2026. Utilization of these net operating losses and credit carryforwards are subject to annual limitations due to provisions of the Internal Revenue Code of 1986, as amended, that are applicable due to “ownership changes” that have occurred. The valuation allowance as of December 31, 2007 will be maintained until sufficient further positive evidence exists to support a reversal of, or decrease in, the valuation.
 
Net Income
 
Net income increased $13.3 million from a net income of $6.8 million in 2006 to net income of $20.1 million in 2007. This increase is primarily related to our revenue growth of $21.9 million in 2007 while operating expenses have increased by only $11.7 million in the same period. This increase was the result of our continued focus on expense control and continuing to leverage our existing sales force and partners to generate incremental revenue, as well as our acquisition of Double-Take EMEA, which occurred on May 23, 2006. The other contributing factors are the reversal of the valuation allowance on our deferred tax assets as well as increased interest income during 2007.


34


 

Preferred Stock
 
Accretion on our Series B and Series C Preferred stock decreased from $4.5 million in 2006 to $0.0 million in 2007. The accretion increased the carrying value of the preferred shares from their carrying value to their redemption value on a straight-line basis over the period from the investment date to the mandatory redemption date. Accretion ceased as of November 12, 2006, the redemption date for both issuances.
 
Dividends on our Series B and Series C Preferred stock decreased from $2.8 million in 2006 to $0.0 million in 2007. In connection with our initial public offering in December 2006, our Series B and Series C Preferred stock converted into an aggregate of 11,553,130 shares of common stock. Thus, there are no dividends in 2007.
 
2006 Compared to 2005
 
Revenue
 
Total revenue increased $20.1 million, or 49%, from $40.7 million in 2005 to $60.8 million in 2006. Revenue for 2006 includes revenue from Double-Take EMEA from its date of acquisition on May 24, 2006. Of our total revenue in 2006, 94% was attributable to sales to or through our distribution partners, which was an increase from 93% of our total revenue attributable to sales to or through our distribution partners in 2005. Of our total revenue in the 2006, 6% was attributable to direct sales to end users, a decrease from 7% of our total revenue attributable to end users in 2005.
 
Software License Revenue.  Software revenue increased $12.2 million, or 47%, from $26.2 million in 2005 to $38.4 million in 2006. The increase in software revenue was due to increased volume of $3.4 million resulting from broader demand for, and acceptance of, our software, $1.9 million due to the release of our new product Double-Take for Virtual Systems, $1.9 million due to a price increase that was effective on August 1, 2005 and $5.0 million from Double-Take EMEA sales from May 24 through December 31, 2006.
 
Maintenance and Professional Services Revenue.  Maintenance and professional services revenue increased $7.9 million, or 55%, from $14.5 million in 2005 to $22.4 million in 2006. Maintenance and professional services revenue represented 36% of our total revenue in 2005 and 37% of our total revenue in 2006. Maintenance revenue increased $7.1 million, or 59%, from $12.1 million in 2005 to $19.2 million in 2006. The increase in maintenance revenue was attributable to higher sales to our expanding base of customers, as well as maintenance revenue of $5.2 million generated by Double-Take EMEA. Professional services revenue increased $0.9 million, or 38%, from $2.4 million in 2005 to $3.3 million in 2006. The increase in professional services revenue was due to more professional service deliveries due to an increase in professional services personnel as well as $0.5 million of revenue generated by Double-Take EMEA.
 
Cost of Revenue and Gross Profit
 
Total cost of revenue increased $3.1 million, or 72%, from $4.4 million in 2005 to $7.5 million in 2006. Total cost of revenue represented 11% of our total revenue in 2005 and 12% of our total revenue in 2006.
 
Cost of software revenue increased $1.3 million, or 3,466%, from a nominal amount in 2005 to $1.4 million in 2006. The increase was due to cost of inventory related to Double-Take EMEA sales in 2006. We expect this amount to decrease because Double-Take EMEA sold through their remaining inventory on hand at the time of the acquisition during 2006. Cost of software revenue represented 0% of our software revenue in 2005 and 2% of our software revenue in 2006.
 
Cost of services revenue increased $1.8 million, or 42%, from $4.4 million in 2005 to $6.2 million in 2006. The increase was the result of higher employee compensation of $0.7 million due to an increase in the number of our maintenance and professional services personnel, higher facility costs associated with the increase of personnel of $0.2 million and $0.8 million of costs of Double-Take EMEA maintenance and professional services personnel. Cost of services revenue represented 30% of our services revenue in 2005 and 28% of our services revenue in 2006.
 
Gross profit increased $17.0 million, or 47%, from $36.3 million in 2005 to $53.3 million in 2006. Gross profit decreased from 89% in 2005 to 88% in 2006. This decrease is related to the cost of software increase related to Double-Take EMEA.


35


 

Operating Expenses
 
Sales and Marketing.  Sales and marketing expenses increased $5.0 million, or 29%, from $17.2 million in 2005 to $22.2 million in 2006. The increase was due to an increase of compensation and commission expense of $1.2 million resulting from increased sales, an increase of $0.3 million in marketing and advertising related to our Double-Take brand re-launch and $3.5 million of costs of Double-Take EMEA sales and marketing efforts.
 
Research and Development.  Research and development expenses increased by $1.0 million, or 10%, from $9.7 million in 2005 to $10.7 million in 2006. The increase resulted from higher compensation expense of $0.4 million due to the implementation of a company wide incentive plan in the second half of 2005, and $0.5 million from outsourced development projects.
 
General and Administrative.  General and administrative expenses increased $5.1 million, or 76%, from $6.7 million in 2005 to $11.8 million in 2006. The increase was related to $1.6 million in compensation expense in 2006 attributable to expensing of stock options because of the adoption of SFAS 123R in January 2006, an increase in compensation expense of $3.7 million due to the issuance of stock to our CEO of $3.2 million and the implementation of a company wide incentive plan in the second half of 2005 and $1.4 million of costs from Double-Take EMEA. These increases were offset by a decrease in legal fees of $0.6 million incurred in 2005 related to an investigation of expenses attributable to former employees as well as a reduction in expenses in 2006 arising from the settlement with the former COO for $1.2 million.
 
Depreciation and Amortization.  Depreciation and amortization expense increased $0.8 million, or 100%, from $0.8 million in 2005 to $1.6 million in 2006. The increase was attributable to increased depreciation expense associated with increased capital expenditures, which were applied primarily for product development and other computer-related equipment, as well as amortization related to the intangible assets acquired in the Double-Take EMEA acquisition.
 
Legal Fees and Settlement Costs.  Legal fees and settlement costs decreased $5.7 million, or 100%, from $5.7 million in 2005 to $0.0 million in 2006. This decrease is attributable to the settlement in December 2005 of the legal proceeding between us and a provider of information storage systems regarding certain intellectual property rights.
 
Interest Income
 
Interest income increased $0.2 million from $0.1 million in 2005 to $0.3 million in 2006. The increase is attributable to higher cash balances in our deposit accounts and an increase in related interest rates.
 
Foreign Exchange gains (losses)
 
Foreign currency gains totaled $0.1 million due to foreign currency fluctuations related to Double-Take EMEA from May 24 to December 31, 2006.
 
Income Tax Expense
 
Income tax expense increased from $0.0 million in 2005 to $0.5 million in 2006. The increase is related to income tax expense incurred by Double-Take EMEA as well as a nominal amount related to our domestic operations. We expect that our income tax expense will continue to increase in future periods related to Double-Take EMEA’s operations. This increase will be partially offset by our domestic operating loss carryforwards available as well as associated foreign tax credits related to Double-Take EMEA tax payments. As of December 31, 2006, we have approximately $60.0 million in net operating loss carryforwards, a portion of which is subject to usage limitations due to ownership changes.
 
Net Income (Loss)
 
Net income increased from a loss of $3.8 million in 2005 to income of $6.8 million in 2006. This increase is related to our revenue growth of 49% from 2005 while operating expenses have increased by only 15% in the same


36


 

period. This increase was the result of our continued focus on expense control and continuing to leverage our existing sales force and partners to generate incremental revenue, as well as our acquisition of Double-Take EMEA.
 
Preferred Stock
 
Accretion on our Series B and Series C Preferred stock decreased from $5.3 million in 2005 to $4.5 million in 2006. The accretion increases the carrying value of the preferred shares from their carrying value to their redemption value on a straight-line basis over the period from the investment date to the mandatory redemption date. The decrease is a result of accretion ceasing as of November 12, 2006, the redemption date for both issuances.
 
Dividends on our Series B and Series C Preferred stock increased from $2.7 million in 2005 to $2.8 million in 2006. The increase is a result of to the monthly compounding of the dividends pursuant to the terms of each issuance.
 
Upon completion of the offering in December 2006, all shares of our Series B and Series C Preferred stock converted into 11,553,130 shares of common stock. A mandatory payment to the Series B holders of approximately $10.2 million was also made upon completion of the offering.
 
Critical Accounting Policies
 
In presenting our financial statements in conformity with accounting principles generally accepted in the United States, we are required to make estimates and judgments that affect the amounts reported in our financial statements. Some of the estimates and assumptions we are required to make relate to matters that are inherently uncertain as they pertain to future events. We formulate these estimates and assumptions based on historical experience and on various other matters that we believe to be reasonable and appropriate. Actual results may differ significantly from these estimates. Of our significant accounting policies described in Note A to the historical financial statements included elsewhere in this annual report, we believe that the following policies may involve a higher degree of judgment and complexity.
 
Revenue Recognition
 
In accordance with EITF 01-9, our revenue is reported net of rebates and discounts because we do not receive an identifiable benefit in exchange for the rebate or discount. We derive revenues from two primary sources or elements: software licenses and services. Services include customer support, consulting, installation services and training. A typical sales arrangement includes both of these elements. We apply the provisions of Statement of Position (“SOP”) 97-2, Software Revenue Recognition, as amended by SOP 98-4 and SOP 98-9, and related interpretations to all transactions to determine the recognition of revenue.
 
For software arrangements involving multiple elements, we recognize revenue using the residual method as described in SOP 98-9. Under the residual method, we allocate and defer revenue for the undelivered elements based on relative fair value and recognize the difference between the total arrangement fee and the amount deferred for the undelivered elements as revenue. The determination of fair value of the undelivered elements in multiple element arrangements is based on the price charged when such elements are sold separately, which is commonly referred to as vendor-specific objective-evidence (“VSOE”).
 
Our software licenses typically provide for a perpetual right to use our software and are sold on a per-copy basis. We recognize software revenue through direct sales channels and resellers upon receipt of a purchase order or other persuasive evidence and when all other basic revenue recognition criteria are met as described below. Revenue from software licenses sold through an OEM partner is recognized upon the receipt of a royalty report evidencing sales.
 
Services revenue includes revenue from customer support and other professional services. Customer support includes software updates (including unspecified product upgrades and enhancements) on a when-and-if-available basis, telephone support and bug fixes or patches. Customer support revenue is recognized ratably over the term of the customer support agreement, which is typically one year. To determine the price for the customer support element when sold separately, we use actual rates at which we have previously sold support as established VSOE.


37


 

Other professional services such as consulting and installation services provided by us are not essential to the functionality of the software and can also be performed by the customer or a third party. Revenues from consulting and installation services are recognized when the services are completed. Training fees are recognized after the training course has been provided. Any paid professional services, including training, that have not been performed within three years of the original invoice date will be recognized as revenue in the quarter the age of the unperformed services become three years old. Based on our analysis of such other professional services transactions sold on a stand-alone basis, we have concluded we have established VSOE for such other professional services when sold in connection with a multiple-element software arrangement. The price for other professional services has not materially changed for the periods presented.
 
We have analyzed all of the undelivered elements included in our multiple-element arrangements and determined that VSOE of fair value exists to allocate revenues to services. Accordingly, assuming all basic revenue recognition criteria are met, software revenue is recognized upon delivery of the software license using the residual method in accordance with SOP 98-9.
 
We consider the four basic revenue recognition criteria for each of the elements as follows:
 
Persuasive evidence of an arrangement with the customer exists.  Our customary practice is to require a purchase order and, in some cases, a written contract signed by both the customer and us prior to recognizing revenue on an arrangement.
 
Delivery or performance has occurred.  Our software applications are usually physically delivered to customers with standard transfer terms such as FOB shipping point. Software and/or software license keys for add-on orders or software updates are typically delivered via email. We recognize software revenue upon shipment to resellers and distributors because there is no right of return or refund and no price protection agreements. In situations where multiple copies of licenses are purchased, all copies are delivered to the customer in one shipment and revenue is recognized upon shipment. Occasionally, we enter into a site license with a customer that allows the customer to use a specified number of licenses within the organization. When a site license is sold, we deliver a master disk to the customer that allows the product to be installed on multiple servers. We have no further obligation to provide additional copies of the software or user manuals. Revenue on site licenses is recognized upon shipment of the master disk to the customer. Sales made by our OEM partners are recognized as revenue in the month the product is shipped. We estimate the revenue from a preliminary report received from the OEM shortly after the end of the month. Once the final report is received, the revenue is adjusted to that based on the final report, usually in the following month. Services revenue is recognized when the services are completed, except for customer support, which is recognized ratably over the term of the customer support agreement, which is typically one year.
 
Fee is fixed or determinable.  The fee customers pay for software applications, customer support and other professional services is negotiated at the outset of an arrangement. The fees are therefore considered to be fixed or determinable at the inception of the arrangement.
 
Collection is probable.  Probability of collection is assessed on a customer-by-customer basis. Each new customer undergoes a credit review process to evaluate its financial position and ability to pay. If we determine from the outset of an arrangement that collection is not probable based upon the review process, revenue is recognized on a cash-collected basis.
 
Our arrangements do not generally include acceptance clauses. However, if an arrangement does include an acceptance clause, revenue for such an arrangement is deferred and recognized upon acceptance. Acceptance occurs upon the earliest of receipt of a written customer acceptance, waiver of customer acceptance or expiration of the acceptance period.
 
Stock-Based Compensation
 
Prior to January 1, 2006, we accounted for stock-based compensation using the intrinsic value method prescribed in Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees (“APB 25”), and related interpretations. Accordingly, compensation cost for stock options generally was measured as the excess, if any, of the estimated fair market value of our common stock over the amount an employee must pay to acquire the common stock on the date that both the exercise price and the number of shares to be acquired pursuant to the option


38


 

are fixed. We had adopted the disclosure-only provisions of Statement of Accounting Standards No. 123, “Accounting for Stock-Based Compensation (“FAS 123”), and Statement of Accounting Standards No. 148, Accounting for Stock-Based Compensation — Transition and Disclosure (“FAS 148”), which was released in December 2002 as an amendment to FAS 123 and used the minimum value method of valuing stock options as allowed for non-public companies.
 
In December 2004, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 123(R), Share-Based Payment (“FAS 123(R)”). FAS 123(R) is a revision of FAS 123 and supersedes APB 25, and its related implementation guide. FAS 123(R) requires the measurement of the cost of employee services received in exchange for an award of equity instruments based on the fair value of the award on the measurement date of grant. The cost will be recognized over the period during which an employee is required to provide service in exchange for the award. We adopted FAS 123(R) on January 1, 2006, which requires compensation cost to be recognized as expense in 2006 and future periods for the portion of outstanding awards that were unvested at that date and awards that are subsequently granted, based on the fair value of those awards on the measurement date, calculated using an option pricing model. For more information regarding our accounting for stock option grants, see Note 15 to our financial statements, “Stock-Based Compensation.”
 
Prior to December 31, 2005, we granted our employees options to purchase our common stock at exercise prices equal to the fair market value of the underlying common stock at the date of each grant, as determined by our board of directors at the time. Our board of directors determined these values primarily based upon internal valuation estimates as well as arm’s-length transactions involving our preferred stock. Determining the fair market value of our common stock requires making complex and subjective judgments since there is no public trading market for our common stock. We did not obtain contemporaneous valuations by an unrelated valuation specialist in connection with these option grants because our board of directors, which includes representatives of the investors in our preferred stock financings, determined that it had the relevant expertise to reasonably estimate the fair market value of our common stock. These estimates were based on several factors, including the fair market value of preferred stock we issued from time to time with superior rights and preferences to our common stock, current market conditions and our financial and operating performance.
 
Based on this analysis, our board of directors estimated that the per share fair market value of the common stock underlying stock options granted in 2005 was $1.52 per share. In 2005, our board of directors considered numerous objective and subjective factors to determine the fair market value at each option grant date during this period, including the following:
 
  •  the sale of our Series C preferred stock at $0.98 per share in a private placement in 2004 to venture capital investors, which, taking into account the effect on the conversion rate of the Series C preferred stock of the reverse stock split of our common stock on November 3, 2006, is equivalent to $4.80 per share, including the superior rights and preferences of the Series C preferred stock to our common stock;
 
  •  the superior rights and preferences of all classes of our preferred stock to our common stock, including the aggregate liquidation preference, accrued and unpaid dividends, conversion provisions and superior voting rights;
 
  •  our financial and operating performance in 2005;
 
  •  our stage of development and business strategy in 2005; and
 
  •  the likelihood of achieving a liquidity event for the shares of common stock underlying the stock options granted in 2005.
 
In particular, during 2005, we experienced significant changes in our senior management team and experienced delays in rolling out our products and services and uncertainties surrounding new development projects, all of which resulted in a high degree of uncertainty as to whether we could achieve our business goals. In addition, we were also involved in patent litigation, the outcome of which was uncertain but which if determined adversely would have had a material adverse effect on our business and future prospects. The pendency of this litigation effectively made a liquidity event with a third party, or an initial public offering, remote, and so long as the litigation


39


 

remained pending our board of directors did not believe any revision in the fair market value of the common stock was appropriate. While mediation efforts surrounding this litigation failed in May 2005, our new senior management was able to settle this matter in December 2005. We did not grant any options in November or December 2005. As a result of these uncertainties and the timing of our option grants in 2005 and other factors described above, we have subsequently determined that no reassessment of this estimate is appropriate.
 
In January 2006, we determined that because of the settlement of the patent litigation in December 2005 and the achievement of several important business milestones in late 2005 and January 2006, such as a new product launch and two consecutive quarters of profitable operating results, the valuation of our common stock was more complex and required the assistance of an independent valuation specialist. As a result, we engaged a valuation specialist, in February 2006 to prepare a valuation of our common stock as of December 31, 2005. The valuation specialist considered several methodologies in its analysis, including an analysis of guideline public companies, an analysis of comparable company transactions, and a discounted cash flow analysis. The results of the public company and comparable company transaction components of the analysis vary not only with factors such as our revenue, EBITDA, and income levels, but also with the performance of the public market valuation of the companies at the time and the selected transactions used in the analysis. Although the market-based analyses did not include companies directly comparable to us, the analysis provided useful benchmarks. The final valuation conclusion was based on the discounted cash flow analysis in light of the results of the market-based analysis. The discounted cash flow analysis, an income-based approach, involves applying appropriate discount rates to estimated future free cash flows, which were based on management’s forecasts of revenue and costs at the time. As with any valuation based on the discounted cash flow method, the underlying assumptions involve a significant degree of complexity and judgment. Once the enterprise value of the Company was determined, the result was reconciled to equity value after the consideration of any interest-bearing debt and excess working capital. The equity value was allocated between preferred and common classes of stock in accordance with the current value method. In determining the per share value of the common shares, management, without taking into account discounts for lack of marketability or lack of control, divided the equity value by the number of common stock equivalents. The discounted cash flow method resulted in an estimated fair market value of our common stock as of December 31, 2005 of $1.96 per share. We believe that this valuation also supports our determination for 2005. The valuation report was used as an aid to the board of directors in determining the fair market value of the common stock underlying the options granted with accounting measurement dates in April through May 2006. Based on the results of this valuation, which was completed in April 2006, the board of directors determined at that time that the fair market value per share of our common stock was $1.96 per share during this period. All stock options granted during this period have an exercise price equal to that fair market value determination of $1.96 per share. As described below, this determination was subsequently reassessed.
 
In August 2006, the same independent valuation specialist was engaged to perform a valuation of our common stock as of June 30, 2006. The valuation report was used as an aid by our board of directors in determining the fair market value of the common stock underlying the stock options granted through September 2006. The valuation specialist used substantially the same analysis and methodologies as it did for the previous valuation, except that the valuation specialist also took into account the prospect of the public offering and considered some of the assumptions from the preliminary valuation methodologies contemplated by the underwriters. The valuation specialist determined that the fair market value of our common stock was $7.06 per share as of June 30, 2006.
 
As a result of reviews of our stock option grants, we determined that reassessments of the fair market value estimate for grants made during 2006 were appropriate.
 
As an initial matter, we concluded that because our business had demonstrated continued growth and improvement during the six months ended June 30, 2006 and the fair market value of our common stock was in a period of sequential increases, a valuation report that estimated the fair market value of our common stock nearest to the end of the period, rather than the beginning of the period, would provide a more reliable and conservative estimate of the fair market value of our common stock underlying stock option grants whose measurement dates for accounting purposes occurred in the second quarter of 2006, which includes all options granted from April 1 through June 30, 2006. As a result of this reassessment, we have retrospectively estimated that the fair market value of our common stock for purposes of determining the appropriate compensation expense for our options granted with an accounting measurement date in the second quarter of 2006 was $7.06 per share. We did


40


 

not grant any options having an accounting measurement date in the first quarter of 2006 so no reassessment of that period was necessary.
 
During the third quarter of 2006 and through the fourth quarter of 2006, our business continued to demonstrate growth and improvement and we progressed toward our initial public offering. To reflect this progress and to achieve consistency with the valuation methodologies used by the underwriters of our initial public offering to establish the price range for the offering, we refined some of the assumptions relied upon in the valuation report to closer align the fair market value with the midpoint of the price range listed on the cover page to the prospectus related to our initial public offering. As a result of these adjustments, we estimated that the fair market value of our common stock for purposes of determining the appropriate compensation expense for our options granted in the third quarter of 2006 and through the date of the initial public offering was $9.02 per share.
 
As a result of the reassessment of the fair market value of our common stock underlying stock option grants to employees, we have recorded additional stock-based compensation for each stock option granted during 2006 based upon the difference between the retrospectively determined fair market value of our common stock at the relevant measurement date of the stock option grant and the exercise price of the stock option. We amortize the unearned stock-based compensation and record stock-based compensation expense ratably over the vesting periods of these stock options. We recorded $1.0 million of stock-based compensation expense in 2006 and $2.6 million in 2007.
 
The intrinsic value of our outstanding options at December 31, 2007 was $35.4 million with $27.2 million attributable to vested options and $8.2 million attributable to unvested options. The intrinsic value of our outstanding options at December 31, 2006 was $29.8 million with $21.4 million attributable to vested options and $8.4 million attributable to unvested options.
 
We account for stock options grants to non-employees in accordance with FAS No. 123(R) and EITF Issue No. 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 that the fair value of these instruments be recognized as an expense over the period in which the related services are rendered.
 
Income Taxes
 
In 2007, we recorded a current tax expense of $8.2 million related to income generated during the periods using an effective tax rate for the full year.
 
As of December 31, 2006, we recorded a full valuation allowance against net deferred tax assets, which are primarily comprised of net operating loss carryforwards as a result of operating losses incurred since inception. Realization of deferred tax assets is dependent upon future earnings, if any, the timing of which is uncertain. Accordingly, the net deferred tax assets were fully offset by a valuation allowance. If not utilized, the federal and state net operating loss and tax credit carryforwards will expire between 2011 and 2026. Utilization of these net operating losses and credit carryforwards are subject to annual limitations due to provisions of the Internal Revenue Code of 1986, as amended, that are applicable due to “ownership changes” that have occurred.
 
We analyze the carrying value of our deferred tax assets on a regular basis. Because we have delivered consistent profitability over the past two years, we concluded that it was more likely than not that we would generate sufficient taxable income to utilize the benefit from our net operating loss carryforwards eligible to be used in 2007, 2008, and 2009. In 2007, we reversed the valuation allowance on $9.0 million of deferred tax assets. In determining future taxable income, assumptions are made to forecast federal, state and international operating income, the reversal of temporary timing differences, and the implementation of any feasible and prudent tax planning strategies. The assumptions require significant judgment regarding the forecasts of future taxable income, and are consistent with forecasts used to manage the business. As of December 31, 2007, the remaining valuation allowance is approximately $26.0 million. This valuation allowance will be maintained until sufficient further positive evidence exists to support a reversal of, or decrease in, the valuation allowance.
 
We adopted the provisions of FIN 48 on January 1, 2007. The application of this Interpretation requires a two-step process that separates recognition from measurement. Upon implementing FIN 48 and performing the analysis we did not recognize any uncertain tax positions and during 2007, we did not recognize any increase or decrease to reserves for uncertain tax positions.


41


 

The Company is subject to income taxes in the U.S. federal jurisdiction, and various states and foreign jurisdictions. Tax regulations within each jurisdiction are subject to the interpretation of the related tax laws and regulations and require significant judgment to apply. With few exceptions, the Company is no longer subject to U.S. federal, state and local, or non-U.S. income tax assessments by tax authorities for the years before 2002.
 
We have elected to record interest and penalties recognized in accordance with FIN 48 in the financial statements as income taxes. Any subsequent change in classification of FIN 48 interest and penalties will be treated as a change in accounting principle subject to the requirements of Statement of Financial Accounting Standards No. 154, Accounting Changes and Error Corrections.
 
Software Development Costs
 
Statement of Financial Accounting Standards No. 86, Accounting for the Costs of Computer Software to be Sold, Leased or Otherwise Marketed (“FAS 86”), requires capitalization of certain software development costs subsequent to the establishment of technological feasibility. Our current process for developing software is essentially completed concurrently with the establishment of technological feasibility and therefore no software development costs have been capitalized for the years ended December 31, 2007, 2006 and 2005. Costs incurred to develop software programs prior to the achievement of technological feasibility are expensed as incurred.
 
Liquidity and Capital Resources
 
Overview
 
During the development stages of our business, we incurred significant losses from operating activities. Since the three months ended June 30, 2005, however, our operations have generated sufficient cash flow to meet substantially all of the cash requirements of our business, including our operating, capital and other cash requirements. Our ability to sustain a level of positive cash flow from operations that is sufficient to continue to meet all of our future operating, capital and other cash requirements is subject to the risks associated with our business, including those described under “Risk Factors” in this annual report, and to changes in our business plan, capital structure and other events.
 
From the start of our operations in 1991 until the three months ended June 30, 2005, we financed our operations primarily through the issuance of preferred stock and common stock. Since the three months ended June 30, 2005, we have primarily financed our operations through internally generated cash flows. In December 2006, we received $47.5 million in net proceeds from our initial public offering and $1.0 million in net proceeds from our secondary offering in August 2007. As of December 31, 2007, we had cash and cash equivalents and short term investments of $64.7 million and accounts receivable of $18.2 million.
 
In January 2006, in connection with the settlement of an intellectual property dispute reached in December 2005, we paid $3.8 million to another company. We also agreed to make future payments of $0.5 million in each of January 2007, 2008, 2009 and 2010, which we collateralized by a $2.0 million letter of credit to that company. The letter of credit will be drawn down automatically in increments of $0.5 million at the time of each payment requirement. Our future obligations under the settlement will be reduced on a dollar-for-dollar basis to the extent that we purchase or resell the other company’s products. As of December 31, 2007, we have purchased $1.0 million of computer equipment that has reduced this obligation.
 
In May 2006, we paid $1.1 million to the former stockholders of Double-Take EMEA, which was our primary distributor in Europe, the Middle East and Africa as the initial payment for the acquisition of that company. Subsequent payments totaling $8.7 million have been made through December 31, 2007. The remaining portion of the purchase price, which we estimate to be $0.3 million, will be paid in 2008. A portion of our earn-out payments were held in escrow as of December 31, 2007, to satisfy claims against the selling shareholders that we may have from time to time as a result of breaches of representations, warranties or covenants.
 
In May 2007, we entered into another amendment to the credit facility with Silicon Valley Bank that extended the term of the facility to April 29, 2008. Under the terms of the facility, our maximum borrowings are $2 million less the aggregate amounts of all outstanding letters of credit, foreign exchange contracts, or any other accommodations issued or incurred, or caused to be issued or incurred by the bank. Up to $0.5 million of the facility is


42


 

available for foreign exchange contracts. The rate of interest for this amendment is 0.75% above the prime rate. This facility is collateralized by all of our assets, excluding intellectual property. As of December 31, 2007 there was a letter of credit relating to our settled legal proceeding (noted above) outstanding for $1.5 million.
 
In December 2007 the Double-Take Software, Inc. and Double-Take Canada, a Canadian corporation and wholly-owned subsidiary of Double-Take Software, Inc., entered into a share purchase agreement with TimeSpring Software Corporation, a Canadian corporation, and the shareholders of TimeSpring for the acquisition of TimeSpring. Pursuant to the terms of the Purchase Agreement, Double-Take Canada acquired all of the issued and outstanding shares of TimeSpring for a cash purchase price of approximately $8.3 million plus transaction costs and subject to certain customary post-closing working capital adjustments. Approximately $1.4 million of the purchase price was placed into escrow to secure certain indemnification obligations of the Sellers.
 
During 2007, both the earn out payments to the former stockholders of Double-Take EMA of approximately $6.3 million and the cash expenditure of approximately $9.8 million for TimeSpring were funded from cash generated from operations.
 
Sources and Uses of Cash
 
For 2007, cash generated from operating activities was $20.5 million. We used cash in investing activities in the amount of $57.3 million. We generated cash from financing activities in the amount of $7.6 million. Our net decrease in cash and cash equivalents from December 31, 2006 to December 31, 2007 was $29.4 million. The decrease in cash and cash equivalents during 2007 is substantially due to our investment in short term securities during 2007. As of December 31, 2007 we had $39.0 million of short term securities. We currently expect to experience positive cash flow from operations in future periods.
 
The following table sets forth cash flow data for the periods indicated:
 
                         
    Year Ended December 31,  
    2007     2006     2005  
    (In thousands)  
 
Cash flow data:
                       
Net cash provided by operating activities
  $ 20,513     $ 13,651     $ 3,605  
Cash used by investing activities
    (57,306 )     (4,123 )     (1,096 )
Net cash provided by financing activities
    7,593       37,193       1  
Effect of exchange rate changes on cash and cash equivalents
    (222 )     108        
                         
Net increase (decrease) in cash and equivalents
    (29,422 )     46,829       2,510  
Cash and cash equivalents, beginning of period
    55,170       8,341       5,831  
                         
Cash and equivalents, end of period
  $ 25,748     $ 55,170     $ 8,341  
                         
 
Cash Flows from Operating Activities
 
Cash provided by operating activities increased in 2007 compared to 2006 primarily due to having $20.1 million of net income in 2007 compared to net income of $6.8 million in 2006 and our continued growth of deferred revenue of $7.1 million, which was a result of our increase in software license sales and maintenance renewals. Compensation expense of $2.6 million related to SFAS 123(R), and $2.3 million related to depreciation and amortization are additional increase to cash flow from operations. These increases in cash flows from operations have been partially offset by the change in accounts receivable, prepaid expenses and other assets, and deferred tax assets. The deferred tax asset increased by $5.9 million as a result of the reduction of the deferred tax asset valuation allowance and the increase in accounts receivable of $4.8 is a result of increased sales. We anticipate the growth in deferred revenue in the near term will be offset by growth in accounts receivable balances due to the growth in sales and historically slower collections from customers experienced by Double-Take EMEA. Additionally, as the deferred tax asset is utilized in future years, our operating cash flows will increase. The acquisition of Double-Take Canada had a nominal impact of cash flows from operating activities in 2007. In the near term while we integrate the TimeData products into our operations, we anticipate Double-Take Canada will decrease our operating cash flow.


43


 

Cash provided by operating activities increased in 2006 compared to 2005 primarily due to having $6.8 million of net income in 2006 as opposed to a net loss of $3.8 million in 2005 and our continued growth of deferred revenue of $5.9 million, which was a result of our increase in software license sales and maintenance renewals. Compensation expense of $1.0 million related to SFAS 123(R), $1.2 million related to our former CEO’s options and $3.2 million related to the issuance of common stock to our CEO are additional add-backs to cash flow from operations. These increases in cash flow from operations have been partially offset by the change in accounts payable and accrued expenses. This change is primarily due to our payment of $3.8 million in the settlement of a proceeding with a provider of information storage systems in January 2006, as well as our payment of $0.9 million related to income taxes for Double-Take EMEA.
 
Cash Flows from Investing Activities
 
Cash used in investing activities increased in 2007 by $57.3 million as compared to 2006 primarily due to purchases of short term investments with the proceeds of our initial public offering, increased research and development lab equipment expenditures, earn-out payments related to our acquisition of Double-Take EMEA on May 23, 2006 and our acquisition of Double-Take Canada in December 2007. We currently expect to make one additional earn-out payment related to our acquisition of Double-Take EMEA in the amount of $0.3 million and expect to continue to invest in our research and development equipment in the future. As a result, unless we make another acquisition, we expect net cash used in investing activities to decrease in the near term.
 
Cash used in investing activities increased in 2006 compared to 2005 primarily due to increased research and development lab equipment expenditures, and our acquisition of Double-Take EMEA on May 23, 2006.
 
Cash Flows from Financing Activities
 
Cash provided by financing activities decreased $29.6 million in 2007 compared to 2006 substantially due to our initial public offering in 2006. In 2006 the proceeds from our initial public offering, which were offset by payments made for the repurchase of common stock from the CEO and payments made to the holders of our Series B preferred stock upon the conversion of the outstanding shares of our Series B convertible preferred stock in connection with our initial public offering, resulted in approximately $36.8 million of cash provided by financing activities. There was an additional $0.5 million of stock options exercises in 2006. These transactions resulted in cash provided by financing activities of approximately $37.2 million. In 2007, we received $2.7 million of proceeds from our secondary offering and stock option exercises and $4.9 million as excess tax benefits from stock based compensation.
 
Cash provided by financing activities increased $37.2 million in 2006 compared to 2005 due to our initial public offering which includes our payment of $10.2 million to the holders of our Series B preferred stock upon the conversion of the outstanding shares of our Series B convertible preferred stock in connection with our initial public offering.
 
Cash Requirements
 
We have various contractual obligations and commercial commitments. The following table sets forth our future contractual obligations and commercial commitments as of December 31, 2007:
 
                                         
    Payments Due by Period  
          Less Than
    1 to 3
    3 to 5
       
    Total     1 Year     Years     Years     5+ Years  
    (In thousands)  
 
Contractual obligations
                                       
As of December 31, 2007
                                       
Capital (finance) lease obligations
  $ 85     $ 51     $ 34     $     $  
Operating lease obligations
    6,085       1,995       3,361       729        
Purchase obligations
    1,000       500       500              
                                         
Total
  $ 7,170     $ 2,546     $ 3,895     $ 729     $  
 
We have entered into various non-cancelable operating lease agreements, with expiration dates through 2011, for office space and computer equipment. Some of these leases have free or escalating rent payment provisions. We


44


 

recognize rent expense under these leases on a straight-line basis. Our purchase obligations as of December 31, 2007 represent non-cancelable contractual obligations for equipment and services. The foregoing table does not reflect any contractual obligations and commercial commitments that we entered into after December 31, 2007 and it does not include our obligations to make additional acquisition-related payments to Double-Take EMEA’s former stockholders. The payments to the former Double-Take EMEA stockholders are based on purchases under our inter-company distribution agreement with that company, and we estimate the final payment will be $0.3 million in 2008.
 
Given our current cash and cash equivalents, our short term investments, our accounts receivable, the net proceeds from our initial public offering, available borrowings under our revolving loan agreement and our expectation of continued positive cash flow from operations, we believe that we will have sufficient liquidity to fund our business and meet our contractual obligations over a period beyond the next 12 months. We may need to raise additional funds in the future, including for acquisitions or investments in complementary businesses or technologies or if we experience operating losses that exceed our expectations. In the event that additional financing is required, we may not be able to obtain it on acceptable terms or at all. Additional sources may include equity and debt financing and other financing arrangements. If we raise additional funds through the issuance of equity or convertible securities, our stockholders may experience dilution. We may not be able to generate sufficient cash flow from operations according to our planned schedule, or to obtain any additional financing arrangements we may require or seek on terms acceptable to us. Any inability by us to generate or obtain the sufficient funds that we may require could limit our ability to increase our revenue or to enhance our profitability.
 
Off-Balance Sheet Arrangements
 
As of December 31, 2007, other than our operating leases described under “— Liquidity and Capital Resources — Cash Requirements” above, we do not have off-balance sheet financing arrangements, including any relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities.


45


 

Quarterly Results of Operations
 
The following table sets forth our unaudited quarterly consolidated statement of operations data for each of the eight quarters ended December 31, 2007. The data has been prepared on the same basis as the audited consolidated financial statements included in this annual report and reflects all necessary adjustments, consisting only of normal recurring adjustments, necessary for a fair presentation of this data. The results of historical periods are not necessarily indicative of the results of operations for a full year or any future period.
 
                                                                 
    For the Three Months Ended  
    2007     2006  
    Dec. 31     Sep. 30     Jun. 30     Mar. 31     Dec. 31     Sep. 30     Jun. 30     Mar. 31  
    (In thousands, except per share data)  
 
Revenue:
                                                               
Product
  $ 14,176     $ 12,612     $ 11,991     $ 10,390     $ 12,178     $ 10,231     $ 9,637     $ 6,372  
Maintenance and Professional Services
    9,348       8,695       8,021       7,535       6,875       6,185       5,055       4,307  
                                                                 
Total revenue
    23,524       21,307       20,012       17,925       19,053       16,416       14,692       10,679  
                                                                 
Cost of revenue:
                                                               
Cost of product
    195       71       118       27       26       514       811       4  
Maintenance and Professional Services
    2,035       1,927       2,008       1,857       1,767       1,703       1,462       1,261  
                                                                 
Total cost of revenue
    2,230       1,998       2,126       1,884       1,793       2,217       2,273       1,265  
                                                                 
Gross profit
    21,294       19,309       17,886       16,041       17,260       14,199       12,419       9,414  
Operating expenses
                                                               
Sales and Marketing
    8,189       6,935       6,845       6,903       6,620       5,641       5,620       4,330  
Research and Development
    3,140       3,042       2,839       2,875       2,930       2,753       2,532       2,464  
General and Administrative
    3,856       4,100       3,690       3,217       5,453       2,577       1,767       2,027  
Depreciation and Amortization
    639       603       555       549       519       492       351       251  
                                                                 
Total Operating Expenses
    15,824       14,680       13,929       13,544       15,522       11,463       10,270       9,072  
                                                                 
Operating Income
    5,470       4,629       3,957       2,497       1,738       2,736       2,149       342  
Interest Income
    806       798       772       643       106       92       70       51  
Interest Expense
    (10 )     (9 )     (11 )     (19 )     (22 )     (26 )     (26 )     (17 )
Foreign exchange (losses) gains
    (184 )     (55 )     6       (1 )     (23 )     24       55          
                                                                 
Income (loss) before income taxes
    6,082       5,363       4,724       3,120       1,799       2,826       2,248       376  
Income Tax (benefit) expense
    (258 )     2,055       (2,768 )     182       91       317       83       3  
                                                                 
Net income
    6,340       3,308       7,492       2,938       1,708       2,509       2,165       373  
Accretion on redeemable shares
                            (496 )     (1,334 )     (1,332 )     (1,334 )
                                                                 
Dividends
                              (667 )     (743 )     (722 )     (698 )
                                                                 
Net gain (loss) attributable to common stockholders
  $ 6,340     $ 3,308     $ 7,492     $ 2,938     $ 545     $ 432     $ 111     $ (1,659 )
                                                                 
Net income (loss) per share, basic
  $ 0.29     $ 0.15     $ 0.36     $ 0.14     $ 0.09     $ 0.11     $ 0.03     $ (0.44 )
Net income (loss) per share, diluted
  $ 0.27     $ 0.14     $ 0.33     $ 0.13     $ 0.07     $ 0.07     $ 0.02     $ (0.44 )
                                                                 
Stock-based compensation expense included in above
  $ 726     $ 1,140     $ 483     $ 272     $ 1,030     $ 487     $ 253     $ 446  
                                                                 
 
Our operating results may fluctuate due to a variety of factors, many of which are outside of our control. As a result, comparing our operating results on a period-to-period basis may not be meaningful. You should not rely on our past results as an indication of our future performance.


46


 

Item 7A.   Quantitative and Qualitative Disclosures About Market Risk.
 
We do not engage in trading activities involving non-exchange traded contracts. As such, we are not materially exposed to any financing, liquidity, market or credit risk that could arise if we had engaged in these relationships.
 
Historically, our exposure to foreign currency exchange rates was limited as our international sales were denominated in the United States dollar. As a result of our acquisition of Double-Take EMEA in May 2006 and Double-Take Canada in December 2007, we now have international sales that are denominated in foreign currencies, and we face exposure to adverse movements in foreign currency exchange rates. Depending on the amount of our revenue generated from Double-Take EMEA and Double-Take Canada, adverse movement in foreign currency exchange rates could have a material adverse impact on our financial results. Our primary exposures are to fluctuations in exchange rates for the United States dollar versus the Euro and Canadian dollar and to a lesser extent, the United States dollar versus the British Pound. Changes in currency exchange rates could adversely affect our reported revenue and could require us to reduce our prices to remain competitive in foreign markets, which could also materially adversely affect our results of operations. We have not historically hedged exposure to changes in foreign currency exchange rates and, as a result, we could incur unanticipated gains or losses.


47


 

Item 8.   Financial Statements and Supplementary Data.
 
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
 
         
    Page
 
Double-Take Software, Inc.:
       
Consolidated Historical Financial Statements:
       
Report of Independent Registered Public Accounting Firm
    49  
Consolidated Balance Sheets as of December 31, 2007 and 2006
    50  
Consolidated Statements of Operations for the years ended December 31, 2007, 2006 and 2005
    51  
Consolidated Statement of Changes in Stockholders’ Equity (Deficit) for the years ended December 31, 2007, 2006 and 2005
    52  
Consolidated Statements of Cash Flows for the years ended December 31, 2007, 2006 and 2005
    53  
Notes to Consolidated Financial Statements
    54  
Schedule II — Valuation and Qualifying Accounts
    84  


48


 

 
 
To the Board of Directors and Stockholders
Double-Take Software, Inc.
 
We have audited the accompanying consolidated balance sheets of Double-Take Software, Inc. and subsidiaries (the “Company”) as of December 31, 2007 and 2006, and the related consolidated statements of operations, changes in stockholders’ equity (deficit), cash flows and schedule II for each of the years in the three-year period ended December 31, 2007. These financial statements and schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements and schedule based on our audits.
 
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements and schedule II 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 enumerated referred to above present fairly, in all material respects, the consolidated financial position of Double-Take Software, Inc. and subsidiaries as of December 31, 2007 and 2006, and the consolidated results of their operations and their consolidated cash flows for each of the years in the three-year period ended December 31, 2007 in conformity with U.S. generally accepted accounting principles. Also, in our opinion, schedule II referred to above, when considered in relation to the financial statements taken as a whole, presents fairly, in all material respects, the information stated therein.
 
As discussed in Notes F and J[4] to the consolidated financial statements, the Company adopted the provisions of Financial Accounting Standard Board Interpretation No. 48, “Accounting for Uncertainty in Income Taxes, an Interpretation of FASB Statement No. 109”, effective January 1, 2007 and changed its method of accounting for stock based compensation in accordance with Statement of Financial Accounting Standards No. 123 (R) “Share-Based Payment”, effective January 1, 2006.
 
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), Double-Take Software, Inc.’s internal control over financial reporting as of December 31, 2007, based on criteria’s established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO), and our report dated March 14, 2008 expressed an unqualified opinion thereon.
 
/s/  Eisner LLP
 
New York, New York
March 14, 2008


49


 

 
DOUBLE-TAKE SOFTWARE, INC.
 
Consolidated Balance Sheets
 
                 
    December 31,  
    2007     2006  
    (In thousands, except share and per share amounts)  
 
ASSETS
Current assets:
               
Cash and cash equivalents
  $ 25,748     $ 55,170  
Short term investments
    38,977        
Accounts receivable, net of allowance for doubtful accounts of $599 and $570 at December 31, 2007 and 2006, respectively
    18,171       12,676  
Inventory
          14  
Prepaid expenses and other current assets
    5,019       2,210  
Deferred tax assets
    3,184        
                 
Total current assets
    91,099       70,070  
Property and equipment — at cost, net of accumulated depreciation of $4,505 and $2,838 at December 31, 2007 and 2006, respectively
    4,184       3,000  
Customer relationships, net of accumulated amortization of $727 and $274 at December 31, 2007 and 2006, respectively
    1,540       1,993  
Marketing relationships, net of accumulated amortization of $399 and $150 at December 31, 2007 and 2006, respectively
    1,593       1,842  
Technology related intangibles, net of accumulated amortization of $8 and $0 at December 31, 2007 and 2006, respectively
    1,928        
Goodwill
    11,408        
Other assets
    149       121  
Long-term deferred tax assets
    2,705        
                 
Total assets
  $ 114,606     $ 77,026  
                 
 
LIABILITIES
Current liabilities:
               
Accounts payable
  $ 1,983     $ 2,217  
Accrued expenses
    7,396       6,845  
Accrued purchase price
          1,425  
Other liabilities
    751       135  
Deferred revenue
    24,162       16,774  
                 
Total current liabilities
    34,292       27,396  
                 
Long-term deferred revenue
    4,485       3,977  
Long-term deferred rent
    272       406  
Long-term capital lease obligations
    13       17  
                 
Total long-term liabilities
    4,770       4,400  
                 
Total liabilities
    39,062       31,796  
                 
Stockholders’ equity
               
Common stock, $.001 par value per share; 130,000,000 shares authorized; 21,928,664 and 20,726,589 shares issued and outstanding at December 31, 2007 and 2006, respectively
    22       21  
Additional paid-in capital
    148,628       138,398  
Accumulated deficit
    (73,239 )     (93,317 )
Accumulated other comprehensive income
               
Unrealized gain on short term investments
    14        
Cumulative foreign currency translation adjustment
    119       128  
                 
Total stockholders’ equity (deficit)
    75,544       45,230  
                 
Total liabilities and stockholders’ equity (deficit)
  $ 114,606     $ 77,026  
                 
 
See notes to financial statements


50


 

 
DOUBLE-TAKE SOFTWARE, INC.
 
Consolidated Statements of Operations
 
                         
    Year Ended December 31,  
    2007     2006     2005  
    (In thousands, except share and
 
    per share amounts)  
 
Revenue:
                       
Software licenses
  $ 49,169     $ 38,418     $ 26,222  
Maintenance and professional services
    33,599       22,422       14,488  
                         
Total revenue
    82,768       60,840       40,710  
                         
Cost of revenue:
                       
Software licenses
    411       1,355       38  
Maintenance and professional services
    7,827       6,193       4,357  
                         
Total cost of revenue
    8,238       7,548       4,395  
                         
Gross profit
    74,530       53,292       36,315  
                         
Operating expenses:
                       
Sales and marketing
    28,872       22,211       17,191  
Research and development
    11,896       10,679       9,748  
General and administrative
    14,863       11,824       6,730  
Depreciation and amortization
    2,346       1,613       805  
Legal fees and settlement costs
                5,671  
                         
Total operating expenses
    57,977       46,327       40,145  
                         
Operating income (loss)
    16,553       6,965       (3,830 )
Interest income
    3,019       319       83  
Interest expense
    (49 )     (91 )     (36 )
Foreign exchange (loss) gains
    (234 )     56        
                         
Income (loss) before income taxes
    19,289       7,249       (3,783 )
Income tax (benefit) expense
    (789 )     494        
                         
Net income (loss)
    20,078       6,755       (3,783 )
Accretion on redeemable shares:
                       
Series B
          (4,477 )     (5,310 )
Series C
          (19 )     (22 )
Dividends on Series B
          (2,140 )     (2,035 )
Dividends on Series C
          (690 )     (651 )
                         
Net income (loss) attributable to common stockholders
  $ 20,078     $ (571 )   $ (11,801 )
                         
Net income (loss) per share attributable to common stockholders:
                       
Basic
  $ 0.94     $ (0.13 )   $ (3.11 )
                         
Diluted
  $ 0.87     $ (0.13 )   $ (3.11 )
                         
Weighted-average number of shares used in per share amounts:
                       
Basic
    21,332,128       4,305,789       3,788,733  
                         
Diluted
    23,026,937       4,305,789       3,788,733  
                         
 
See notes to financial statements


51


 

 
DOUBLE-TAKE SOFTWARE, INC.
 
Consolidated Statements of Changes in Stockholders’ Equity (Deficit)
 
                                                         
                                  Accumulated
       
                Additional
                Other
       
    Common Stock     Paid-in
    Accumulated
    Comprehensive
    Comprehensive
       
    Shares     Amount     Capital     Deficit     Income     Income     Total  
    (In thousands, except share and per share amounts)  
 
Balance — January 1, 2005
    3,787,786       4       48,168       (90,773 )                   (42,601 )
Net loss for the year
                      (3,783 )     (3,783 )             (3,783 )
Total comprehensive income
                                  $ (3,783 )                
                                                         
Accretion of difference between carrying amount and redemption price — Series B
                (5,310 )                           (5,310 )
Redeemable convertible preferred stock dividends — Series B
                      (2,035 )                     (2,035 )
Accretion of difference between carrying amount and redemption price — Series C
                (22 )                           (22 )
Redeemable convertible preferred stock dividends — Series C
                      (651 )                     (651 )
Options issued for services
                94                             94  
Exercise of stock options
    1,484             1                             1  
                                                         
Balance — December 31, 2005
    3,789,270       4       42,931       (97,242 )                   (54,307 )
Net income for the year
                      6,755       6,755               6,755  
Foreign currency translation adjustment
                              128       128       128  
                                                         
Total comprehensive income
                                  $ 6,883                  
                                                         
Accretion of difference between carrying amount and redemption price — Series B
                (4,477 )                           (4,477 )
Redeemable convertible preferred stock dividends — Series B
                      (2,140 )                     (2,140 )
Return of Capital — Series B
                (10,225 )                           (10,225 )
Accretion of difference between carrying amount and redemption price — Series C
                (19 )                           (19 )
Redeemable convertible preferred stock dividends — Series C
                      (690 )                     (690 )
Conversion of preferred stock
    11,553,130       12       57,979                             57,991  
Public offering, net of expenses
    5,000,000       5       47,544                             47,549  
Options issued for services
                2,240                             2,240  
Exercise of stock options
    158,198             528                             528  
Exercise of warrants
    67,996                                          
Shares issued to CEO
    157,995             1,897                            
                                                         
Balance — December 31, 2006
    20,726,589     $ 21     $ 138,398     $ (93,317 )           $ 128     $ 45,230  
Net income for the year
                      20,078       20,078             20,078  
Foreign currency translation adjustment
                            (9 )     (9 )     (9 )
Unrealized gain on short term investments
                            14       14       14  
                                                         
Total comprehensive income
                                  $ 20,083                  
                                                         
Options issued for services
                2,621                           2,621  
Exercise of stock options
    1,018,407       1       1,588                           1,589  
Exercise of warrants
    67,918                                        
Excess tax benefits on stock based compensation
                4,895                           4,895  
Proceeds from public offering, net of expenses
    115,750             1,126                           1,126  
                                                         
Balance — December 31, 2007
    21,928,664     $ 22     $ 148,628     $ (73,239 )           $ 133     $ 75,544  
                                                         
 
See notes to financial statements


52


 

 
DOUBLE-TAKE SOFTWARE, INC.
 
Consolidated Statements of Cash Flows
 
                         
    Year Ended December 31,  
    2007     2006     2005  
    (In thousands, except share and per share amounts)  
 
Cash flows from operating activities:
                       
Net income (loss)
  $ 20,078     $ 6,755     $ (3,783 )
Adjustments to reconcile net income (loss) to net cash provided by operating activities:
                       
Depreciation
    1,636       1,189       805  
Amortization of intangible assets
    710       424        
Provision for doubtful accounts
    19       200       100  
Issuance of options for services
    2,621       2,215       119  
Issuance of common stock to CEO
          3,241        
Issuance of redeemable convertible Series C preferred to management as compensation
          103       54  
Deferred income tax benefit
    (5,889 )            
Changes in:
                       
Accounts receivable
    (4,840 )     (1,939 )     (2,590 )
Prepaid expenses and other assets
    (1,128 )     (1,684 )     4  
Inventory
    14       328        
Other assets
    (20 )     (2 )     15  
Accounts payable and accrued expenses
    (349 )     (2,159 )     4,343  
Other liabilities
    582       (887 )      
Deferred revenue
    7,079       5,867       4,538  
                         
Net cash provided by operating activities
    20,513       13,651       3,605  
                         
Cash flows from investing activities:
                       
Purchase of property and equipment
    (2,340 )     (2,050 )     (1,096 )
Purchase of short term investments
    (65,179 )            
Sales of short term investments
    26,445              
Acquisitions, net of cash acquired
    (16,232 )     (2,073 )      
                         
Net cash used in investing activities
    (57,306 )     (4,123 )     (1,096 )
Cash flows from financing activities:
                       
Return of Capital — Series B
          (10,225 )      
Proceeds from public offering, net of expenses
    1,126       48,319        
Repurchase of common stock from CEO
          (1,343 )      
Proceeds from exercise of stock options
    1,589       453       1  
Excess tax benefits from stock based compensation
    4,895              
Payment on capital lease obligation
    (17 )     (11 )      
                         
Net cash provided by financing activities
    7,593       37,193       1  
                         
Effect of exchange rate changes on cash
    (222 )     108        
Net increase (decrease) in cash and cash equivalents
    (29,200 )     46,721       2,510  
Cash and cash equivalents — beginning of year
    55,170       8,341       5,831  
                         
Cash and cash equivalents — end of year
  $ 25,748     $ 55,170     $ 8,341  
                         
Supplemental disclosures of cash flow information:
                       
Cash paid during the period for:
                       
Interest
  $     $ 78     $ 51  
Income taxes
  $ 1,852     $ 1,066     $ 3  
Supplemental disclosures of noncash investing and financing activities:
                       
Issuance of common stock upon cashless exercise of warrants
  $ 201     $     $  
Accrued costs for public offering
  $     $ 770        
Receivable from employees in connection with exercise of stock options
  $     $ 74        
 
See notes to financial statements


53


 

 
DOUBLE-TAKE SOFTWARE, INC.

Notes to Consolidated Financial Statements
December 31, 2006, 2005 and 2004
(in thousands, except for share and per share amounts)
 
Note A — Organization and Significant Accounting Policies
 
[1]  The Company:
 
Double-Take Software, Inc. (formerly NSI Software, Inc.) (the “Company”), a Delaware corporation, is engaged in developing, marketing and supporting data protection software solutions for high availability, disaster recovery and centralized backup. The Company operates in one reportable segment and its revenues are mainly derived from sales of software and related services. Software is licensed by the Company primarily to distributors, value added resellers (“VARS”) and original equipment manufacturers (“OEMS”), located primarily in the United States and in Europe.
 
The Company completed an initial public offering of its common stock in December 2006.
 
In connection with the Company’s initial public offering:
 
  •  The Company effected a 1 for 4.9 reverse stock split of its common stock on November 3, 2006. All share and per share amounts related to common stock, options and warrants included in the consolidated financial statements have been restated to reflect the reverse stock split. The conversion ratios of the Company’s Series B Preferred Stock and Series C Preferred Stock have also been adjusted to reflect the reverse split.
 
  •  There were 7.5 million shares of common stock sold at $11.00 per share to the public, comprising 5 million shares of common stock sold by the Company and 2.5 million shares of common stock sold by existing stockholders. The Company received gross proceeds of $55,000, or $47,549 after deducting underwriting discounts and commissions of $3,850 and offering costs of $3,601. Upon closing of the IPO, all shares of redeemable preferred stock automatically converted into 11,553,130 shares of common stock.
 
  •  On January 3, 2007, the underwriters of the Company’s initial public offering exercised their over-allotment option to purchase an additional 1,125,000 shares of common stock of the Company from certain existing stockholders. The Company did not receive any proceeds from the sale of the shares of the selling stockholders.
 
The Company completed a secondary offering of its common stock in August 2007.
 
In connection with this secondary offering:
 
  •  There were 2.8 million shares of common stock sold at $16.00 per share to the public, comprising 100,000 shares of common stock sold by the Company and 2.7 million shares of common stock sold by existing stockholders. The Company did not receive any proceeds from shares of common stock sold by the selling stockholders. The Company received gross proceeds of $1,600, or $1,002 after deducting underwriting discounts and commissions of $88 and offering costs of $510. The Company paid the offering costs of the selling stockholders.
 
  •  On August 13, 2007, the underwriters of the Company’s secondary offering exercised their over-allotment option to purchase an additional 15,750 shares from the Company and 402,750 shares from one of the selling stockholders. The Company did not receive any proceeds from the sale of shares by the selling stockholder. The Company received gross proceeds of $252, or $238 after underwriting commissions of $14.
 
Principles of Consolidation
 
The consolidated financial statements include all subsidiaries. All inter-company transactions and balances have been eliminated. Double-Take EMEA became a subsidiary on May 23, 2006, therefore the consolidated financial statements include Double-Take EMEA’s financial results and activities from the date of acquisition. Double-Take Software Canada, Inc. (“Double-Take Canada”) entered into a share purchase agreement with


54


 

 
DOUBLE-TAKE SOFTWARE, INC.
 
Notes to Consolidated Financial Statements — (Continued)
 
TimeSpring Software Corporation (“TimeSpring”) on December 24, 2007. The consolidated financial statements include the financial results and activities related to Double-Take Canada’s acquisition of TimeSpring from the date of the acquisition until December 31, 2007.
 
[2]  Acquisition of TimeSpring Software Corporation:
 
On December 24, 2007, the Company and Double-Take Canada, a Canadian corporation and wholly-owned subsidiary of the Company, entered into a share purchase agreement (the “Purchase Agreement”) with TimeSpring Software Corporation, a Canadian corporation, and the shareholders of TimeSpring (the “Sellers”) for the acquisition of TimeSpring. Pursuant to the terms of the Purchase Agreement, Double-Take Canada acquired from the Sellers all of the issued and outstanding shares of TimeSpring for a cash purchase price of approximately $8.3 million plus transaction costs and subject to certain customary post-closing working capital adjustments. Approximately $1.4 million of the purchase price was placed into escrow to secure certain indemnification obligations of the Sellers.
 
The acquisition of TimeSpring was accounted for using the purchase method of accounting and the assets acquired and liabilities assumed were accounted for at their fair values at the acquisition date based on a management review, including a valuation report issued by an independent third party. The amounts are based on currently available information and certain assumptions and estimates that management believes are reasonable. Operating results of the Double-Take Canada acquisition of TimeSpring are included in the consolidated financial statements from its date of acquisition. The operating results from December 24, 2007 through December 31, 2007 for Double-Take Canada were de minimus.
 
The details of the initial purchase price allocation are as follows:
 
         
Cash purchase price
  $ 8,339  
Working capital adjustments
    818  
Transaction costs
    620  
         
Total initial purchase price
  $ 9,777  
         
 
The following table summarizes the estimated fair values of the assets acquired and the liabilities assumed at the date of acquisition. The allocation is subject to refinement substantially related to the finalization of the post-closing working capital adjustments:
 
                 
          Life  
 
Bank overdraft 
  $ (149 )        
Accounts receivable
    60          
Prepaid expenses and other current assets
    1,215          
Account payable
    (25 )        
Accrued expenses
    (113 )        
Other liabilities
    (92 )        
Deferred revenue
    (36 )        
Properties and equipment
    453       3-5 years  
Technology related intangible
    1,936       5 years  
Goodwill
    6,528          
                 
Net assets acquired
  $ 9,777          
                 


55


 

 
DOUBLE-TAKE SOFTWARE, INC.
 
Notes to Consolidated Financial Statements — (Continued)
 
The following unaudited pro forma information represents the Company’s condensed consolidated results of operations as if the acquisition of Double-Take Canada had occurred as of the beginning of the years ended December 31, 2007 and 2006. The pro forma amounts of net income (loss) attributable to common stockholders include amortization of the amounts ascribed to intangible assets acquired in the acquisition.
 
                 
    Year Ended December 31,  
    2007     2006  
 
Total Revenue
  $ 83,142     $ 61,373  
Net income (loss) attributable to common stockholders
  $ 15,461     $ (5,841 )
Basic income (loss) per share
  $ 0.72     $ (1.36 )
Diluted income (loss) per share
  $ 0.67     $ (1.36 )
Weighted average shares outstanding — basic
    21,332       4,306  
Weighted average shares outstanding — diluted
    23,027       4,306  
 
[3]  Acquisition of Double-Take EMEA:
 
On May 23, 2006, the Company acquired all of the issued and outstanding shares of Sunbelt System Software S.A.S. which is now known as Double-Take Software S.A.S., or Double-Take EMEA. From 1998 through the acquisition date, Double-Take EMEA was the principal or exclusive distributor of the Company’s software in the European, Middle Eastern and African market and a certified Double-Take training organization. An initial payment of $1.1 million was made to the former stockholders of Double-Take EMEA for the acquisition, which represented earn-out payments for the period January 1, 2006 through April 30, 2006. Subsequent payments totaling $8.7 million were made through December 31, 2007. A portion of the earn-out payments are held in escrow. The escrow account was established to hold 20% of the initial $1.1 million payment and 20% of each earn-out payment to satisfy claims against the selling shareholders that we may have from time to time as a result of breaches of representations, warranties or covenants through December 31, 2007. A portion of the earn-out payments remain in escrow as of December 31, 2007. The Company anticipates these will be released in 2008.
 
The acquisition of Double-Take EMEA was accounted for using the purchase method of accounting, and the assets acquired and liabilities assumed were accounted for at their fair values at the acquisition date based on a management review, including a valuation report issued by an independent third party. The amounts are based on currently available information and certain assumptions and estimates that management believes are reasonable. Operating results of Double-Take EMEA are included in the consolidated financial statements from its date of acquisition.
 
The details of the initial purchase price allocation are as follows:
 
         
Earn-out payments for the period January 1, 2006 through April 30, 2006
  $ 1,133  
Amount due to former Double-Take EMEA shareholders
    932  
Transaction costs
    318  
         
Total initial purchase price
  $ 2,383  
         
 
In accordance with Statement of Financial Accounting Standards No 141, Business Combinations (“FAS 141”), earn-out payments, which had been estimated to be between $10 and $12 million, were not all been included in the calculation of the purchase price because they were contingent in nature and based on a specified percentage of the payments made to the Company by Double-Take EMEA under the Company’s intercompany distribution agreement through December 2007. A portion of the contingent purchase price equal to the excess of the fair value of the assets acquired and liabilities assumed over the non-contingent portion of the purchase price was accrued in accordance with FAS 141. Earn-out payments in excess of the initial amount recorded


56


 

 
DOUBLE-TAKE SOFTWARE, INC.
 
Notes to Consolidated Financial Statements — (Continued)
 
as the liability have been recorded as additional purchase price and goodwill. Total earnout payments through December 31, 2007 were $8.7 million resulting in goodwill of $4.9 million.
 
The identifiable assets and liabilities on the date of acquisition are as follows:
 
                 
          Life  
 
Cash and cash equivalents
  $ 1,778          
Accounts receivable, net of allowance
    2,927          
Inventory
    1,381          
Prepaid expenses
    2,694          
Account payable
    (1,229 )        
Accrued expenses
    (1,790 )        
Other liabilities
    (144 )        
Deferred revenue
    (3,944 )        
Properties and equipment
    275       5 years  
Other assets
    54          
Customer relationships
    2,267       5 years  
Marketing relationships(1)
    1,992       8 years  
                 
Total assets acquired
  $ 6,261          
                 
Purchase Price paid through December 31, 2006
  $ 4,836          
Accrued purchase price
    1,425          
                 
Total
  $ 6,261          
                 
 
 
(1) The acquired intangible marketing relationship included in the acquisition of Double-Take EMEA relates to the reacquisition of a preexisting distribution arrangement between Double-Take Software and Double-Take EMEA for software marketing rights that had previously been granted to Double-Take EMEA. Under the agreement, Double-Take EMEA purchases software licenses from Double-Take Software at rates that were negotiated at arms length and that represented current market rates. At the date of acquisition, the agreement between Double-Take Software and Double-Take EMEA was continued without any amendments upon the acquisition and was neither favorable nor unfavorable to either party. Accordingly, there was no gain or loss recorded upon the reacquisition of the preexisting arrangement.
 
The consolidated financial statements include the results of operations of Double-Take EMEA from the date of acquisition which was May 23, 2006. The following unaudited pro forma information represents the Company’s condensed consolidated results of operations as if the acquisition of Double-Take EMEA had occurred as of the beginning of the years ended December 31, 2006 and 2005. The pro forma amounts of net income (loss) attributable to common stockholders include amortization of the amounts ascribed to intangible assets acquired in the acquisition.
 
                 
    Year Ended December 31,  
    2006     2005  
 
Total Revenue
  $ 65,621     $ 51,009  
Net income (loss) attributable to common stockholders
  $ (417 )   $ (13,065 )
Basic and diluted income (loss) per share
  $ (0.10 )   $ (3.45 )
Weighted average shares outstanding — basic and diluted
    4,306       3,789  


57


 

 
DOUBLE-TAKE SOFTWARE, INC.
 
Notes to Consolidated Financial Statements — (Continued)
 
[4]  Cash and cash equivalents:
 
The Company considers all highly liquid investments (including commercial paper) purchased with an original maturity of 90 days or less to be cash equivalents.
 
[5]  Short term investments
 
Short term investments, which are carried at fair value, consist primarily of commercial paper and corporate bonds with original maturities of one year or less. The Company classifies these securities as available-for-sale. Management determines the appropriate classification of its investments at the time of purchase and at each balance sheet date. Available-for-sale securities are carried at fair value with unrealized gains and losses, if any, reported in accumulated other comprehensive income. Interest received on these securities is included in interest income. Realized gains or losses upon disposition of available-for-sale securities are included in other income.
 
[6]  Accounts receivable and allowance for doubtful accounts:
 
Financial instruments that potentially subject the Company to significant concentration of credit risk consist primarily of accounts receivable. The Company performs ongoing credit evaluations of its customers and maintains allowances for potential credit issues based on historical trends.
 
[7]  Fair value of financial instruments:
 
At December 31, 2007 and 2006, the Company’s financial instruments consist primarily of accounts receivable, and accounts payable. The carrying values of these instruments approximate their fair value, because of their short-term nature.
 
[8]  Revenue recognition:
 
In accordance with EITF 01-9, the Company’s revenue is reported net of rebates and discounts because there is no identifiable benefit in exchange for the rebate or discount. The Company derives revenues from two primary sources or elements: software licenses and services. Services include customer support, consulting, installation services and training. A typical sales arrangement includes both of these elements. The Company applies the provisions of Statement of Position (“SOP”) 97-2, Software Revenue Recognition, as amended by SOP 98-4 and SOP 98-9, and related interpretations to all transactions to determine the recognition of revenue.
 
For software arrangements involving multiple elements, the Company recognizes revenue using the residual method as described in SOP 98-9. Under the residual method, the Company allocates and defers revenue for the undelivered elements based on relative fair value and recognizes the difference between the total arrangement fee and the amount deferred for the undelivered elements as revenue. The determination of fair value of the undelivered elements in multiple element arrangements is based on the price charged when such elements are sold separately, which is commonly referred to as vendor-specific objective-evidence (“VSOE”).
 
The Company’s software licenses typically provide for a perpetual right to use the Company’s software and are sold on a per-copy basis. The Company recognizes software revenue through direct sales channels and resellers upon receipt of a purchase order or other persuasive evidence and when all other basic revenue recognition criteria are met as described below. Revenue from software licenses sold through an original equipment manufacturer partner is recognized upon the receipt of a royalty report evidencing sales.


58


 

 
DOUBLE-TAKE SOFTWARE, INC.
 
Notes to Consolidated Financial Statements — (Continued)
 
Services revenue includes revenue from customer support and other professional services. Customer support includes software updates (including unspecified product upgrades and enhancements) on a when-and-if-available basis, telephone support and bug fixes or patches. Customer support revenue is recognized ratably over the term of the customer support agreement, which is typically one year. To determine the price for the customer support element when sold separately, the Company uses actual rates at which it has previously sold support as established VSOE.
 
Other professional services such as consulting and installation services provided by the Company are not essential to the functionality of the software and can also be performed by the customer or a third party. Revenues from consulting and installation services are recognized when the services are completed. Training fees are recognized after the training course has been provided. Any professional services, including training, which have not been performed within three years of the original invoice date will be recognized as revenue in the quarter the age of the unperformed services become three years old. Based on the Company’s analysis of such other professional services transactions sold on a stand-alone basis, the Company has concluded it has established VSOE for such other professional services when sold in connection with a multiple-element software arrangement. The price for other professional services has not materially changed for the periods presented.
 
The Company has analyzed all of the undelivered elements included in its multiple-element arrangements and determined that VSOE of fair value exists to allocate revenues to services. Accordingly, assuming all basic revenue recognition criteria are met, software revenue is recognized upon delivery of the software license using the residual method in accordance with SOP 98-9.
 
The Company considers the four basic revenue recognition criteria for each of the elements as follows:
 
Persuasive evidence of an arrangement with the customer exists.  The Company’s customary practice is to require a purchase order and, in some cases, a written contract signed by both the customer and the Company prior to recognizing revenue on an arrangement.
 
Delivery or performance has occurred.  The Company’s software applications are usually physically delivered to customers with standard transfer terms such as FOB shipping point. Software and/or software license keys for add-on orders or software updates are typically delivered via email. We recognize software revenue upon shipment to resellers and distributors because there is no right of return or refund and no price protection agreements. In situations where multiple copies of licenses are purchased, all copies are delivered to the customer in one shipment and revenue is recognized upon shipment. Occasionally, the Company enters into a site license with a customer that allows the customer to use a specified number of licenses within the organization. When a site license is sold, the Company delivers a master disk to the customer that allows the product to be installed on multiple servers. The Company has no further obligation to provide additional copies of the software or user manuals. Revenue on site licenses is recognized upon shipment of the master disk to the customer. Sales made by the Company’s Original Equipment Manufacturer (OEM) partners are recognized as revenue in the month the product is shipped. The Company estimates the revenue from a preliminary report received from the OEM shortly after the end of the month. Once the final report is received, the revenue is adjusted to that based on the final report, usually in the following month. Services revenue is recognized when the services are completed, except for customer support, which is recognized ratably over the term of the customer support agreement, which is typically one year.
 
Fee is fixed or determinable.  The fee customers pay for software applications, customer support and other professional services is negotiated at the outset of an arrangement. The fees are therefore considered to be fixed or determinable at the inception of the arrangement.
 
Collection is probable.  Probability of collection is assessed on a customer-by-customer basis. Each new customer undergoes a credit review process to evaluate its financial position and ability to pay. If the Company determines from the outset of an arrangement that collection is not probable based upon the review process, revenue is recognized on a cash-collected basis.


59


 

 
DOUBLE-TAKE SOFTWARE, INC.
 
Notes to Consolidated Financial Statements — (Continued)
 
The Company’s arrangements do not generally include acceptance clauses. However, if an arrangement does include an acceptance clause, revenue for such an arrangement is deferred and recognized upon acceptance. Acceptance occurs upon the earliest of receipt of a written customer acceptance, waiver of customer acceptance or expiration of the acceptance period.
 
[9]  Cost of revenue:
 
Cost of software revenue.  Cost of software revenue consists primarily of media, manual, translation and distribution costs. Cost of software included costs of Double-Take products on hand on May 23, 2006 (the acquisition date) for the period from May 24, 2006 through the date that all such products were sold.
 
Cost of services revenue.  Cost of services revenue consists primarily of salary and other personnel-related costs incurred in connection with the Company’s provision of maintenance and professional services. Cost of services revenue also includes other allocated overhead expenses for professional services and product support personnel, as well as travel-related expenses for staff to perform work at a customer’s site.
 
[10]  Property, plant and equipment:
 
Furniture, equipment and computer hardware are depreciated using the straight-line method over their estimated useful lives of up to three years. Leasehold improvements are amortized by the straight-line method over the shorter of the remaining initial terms of the respective leases or economic useful life.
 
[11]  Software development costs:
 
Statement of Financial Accounting Standards No. 86, Accounting for the Costs of Computer Software to be Sold, Leased or Otherwise Marketed (“FAS 86”), requires capitalization of certain software development costs subsequent to the establishment of technological feasibility. The Company’s current process for developing software is essentially completed concurrently with the establishment of technological feasibility and therefore no software development costs have been capitalized for the years ended December 31, 2007 and 2006. Costs incurred to develop software programs prior to the achievement of technological feasibility are expensed as incurred.
 
[12]  Goodwill:
 
The Company accounts for goodwill in accordance with Statement of Financial Accounting Standards No. 142, Goodwill and Other Intangible Assets (“FAS 142”). FAS 142 requires that goodwill with indefinite lives is not amortized but reviewed for impairment if impairment indicators arise and, at a minimum, annually.
 
[13]  Intangible assets:
 
Intangible assets are amortized using the straight-line method over their estimated useful lives. Customer relationships and technology related intangibles have an estimated useful life of 5 years and marketing relationships have an estimated useful life of 8 years.
 
[14]  Impairment of long-lived assets:
 
In accordance with Statement of Financial Accounting Standards No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets (“FAS 144”), the Company records impairment losses on long-lived assets used in operations or expected to be disposed of when indicators of impairment exist and the cash flows expected to be derived from those assets are less than carrying amounts of those assets. The Company has not recorded any impairment charge for the years ended December 31, 2007, 2006 and 2005.


60


 

 
DOUBLE-TAKE SOFTWARE, INC.
 
Notes to Consolidated Financial Statements — (Continued)
 
[15]  Advertising expense:
 
Advertising costs, which include reimbursements to resellers and distributors of $2,772, $2,997 and $2,648 for the years ended December 31, 2007, 2006 and 2005, respectively, are expensed as incurred. Advertising costs are included in sales and marketing costs.
 
[16]  Income taxes:
 
The Company accounts for income taxes in accordance with Statement of Financial Accounting Standards No. 109, Accounting for Income Taxes (“FAS 109”). Deferred tax assets and liabilities are determined based on differences between financial reporting and tax bases of assets and liabilities, and are measured using the enacted laws and tax rates that are expected to be in effect when the differences are expected to reverse. The measurement of deferred tax assets is reduced, if necessary, by a valuation allowance for any tax benefits not expected to be realized. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in the period that such tax rate changes are enacted.
 
[17]  Sales tax:
 
The Company records revenue net of sales tax.
 
[18]  Accounting estimates:
 
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue, costs and expenses during the period. Based on historical experience and current account information, estimates are made regarding provisions for allowances for doubtful accounts receivable, sales discounts and other allowances, depreciation, amortization, asset valuations and stock based compensation. Actual results could differ from those estimates.
 
[19]  Concentration of credit risk:
 
The Company grants credit to customers in a wide variety of industries and geographic locations.
 
[20]  Foreign Currency Translation
 
The functional currency of the Company’s foreign operations are the local country’s currency, the Euro and Canadian Dollar. In accordance with Statement of Financial Accounting Standards No. 52, Foreign Currency Translation (“FAS 52”), the assets and liabilities of the Company’s international subsidiaries are translated at their respective period-end exchange rates, and revenues and expenses are translated at average currency exchange rates for the period. The resulting balance sheet translation adjustments are included in “Other comprehensive income (loss)” and are reflected as a separate component of stockholders’ equity (deficit). Foreign currency transaction gains and losses are included in results of operations. Through December 31, 2006, the Company has not entered into any transactions to hedge its exposure to changes in foreign currency exchange rates.
 
[21]  Comprehensive Income (Loss)
 
Comprehensive income (loss), presented in the statement of changes in stockholders’ equity (deficit), includes other comprehensive income and net income or loss. Other comprehensive income includes certain changes in equity that are excluded from net income (loss). Specifically, cumulative foreign currency translation adjustments and unrealized gains (losses) on short term investments are included in accumulated other comprehensive income.


61


 

 
DOUBLE-TAKE SOFTWARE, INC.
 
Notes to Consolidated Financial Statements — (Continued)
 
[22]  Stock-based compensation:
 
Prior to January 1, 2006, the Company accounted for stock-based compensation using the intrinsic value method prescribed in Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees, and related interpretations. Accordingly, compensation cost for stock options generally was measured as the excess, if any, of the estimated fair value of the Company’s common stock over the amount an employee must pay to acquire the common stock on the date that both the exercise price and the number of shares to be acquired pursuant to the option are fixed. The Company had adopted the disclosure-only provisions of Statement of Financial Accounting Standards No. 123, Accounting for Stock-Based Compensation (“FAS 123”) and Statement of Financial Accounting Standards No. 148, Accounting for Stock-Based Compensation — Transition and Disclosure (“FAS 148”), which was released in December 2002 as an amendment to FAS 123 and used the minimum value method of valuing stock options as allowed for non-public companies.
 
In December 2004, the Financial Accounting Standards Board, referred to as FASB, issued Statement of Financial Accounting Standards No. 123(R), Share-Based Payment (“FAS 123(R)”), which revised FAS No. 123 and supersedes the Accounting Principles Board, referred to as APB, Opinion No. 25, Accounting for Stock Issued to Employees. FAS 123(R) focuses primarily on transactions in which an entity obtains employee services in exchange for share-based payments. Under FAS 123(R), a public entity generally is required to measure the cost of employee services received in exchange for an award of equity instruments based on the grant-date fair value of the award, with such cost recognized over the applicable requisite service period. In addition, FAS 123(R) requires an entity to provide certain disclosures in order to assist in understanding the nature of share-based payment transactions and the effects of those transactions on the financial statements.
 
Effective January 1, 2006, the Company adopted the fair value recognition provisions of FAS No. 123(R) using the prospective transition method, which requires the Company to apply its provisions only to awards granted, modified, repurchased or cancelled after the effective date. Under this transition method, stock-based compensation expense recognized beginning January 1, 2006 is based on the grant-date fair value of stock option awards granted or modified after January 1, 2006. As the Company had used the minimum value method for valuing its stock options under SFAS 123, all options granted prior to January 1, 2006 continue to be accounted for under APB Opinion No. 25.
 
As a result of adopting FAS 123(R) on January 1, 2006, based on the grant-date fair value estimate of employee stock options granted, in the year ended December 31, 2006 the Company recognized compensation expense of $1,017, of which $242 is included in sales and marketing, $266 in research and development, $391 in general and administrative, and $118 in cost of revenue, maintenance and professional services. The grant date fair value of options not yet recognized as expense at December 31, 2006 aggregated approximately $3,272. The Company’s income before provision for income taxes and net income for the year ended December 31, 2006 are each $473 less than if the Company had continued to account for stock-based compensation under APB Opinion No. 25. The impact of the adoption of FAS 123(R) was to reduce basic and diluted net income per share attributable to common stockholders by $0.11.
 
The Company accounts for stock option grants to non-employees in accordance with FAS 123(R) and EITF Issue No. 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 that the fair value of these instruments be recognized as an expense over the period in which the related services are rendered.
 
[23]  Net income (loss) per share:
 
Basic and diluted net income (loss) per share information for all periods is presented under the requirements of Statement of Financial Accounting Standards No. 128, Earnings Per Share (“FAS 128”). Basic income (loss) per share is calculated by dividing the net loss attributable to common stockholders by the weighted-average number of common shares outstanding during the period. Diluted income (loss) per share is calculated by dividing net income


62


 

 
DOUBLE-TAKE SOFTWARE, INC.
 
Notes to Consolidated Financial Statements — (Continued)
 
(loss) attributable to common stockholders by the weighted-average number of common shares outstanding, adjusted for the dilutive effect, if any, of potential common shares.
 
The following potential common shares (in thousands) were excluded from the computation of diluted net income (loss) attributable to common stockholders per share because they had an anti-dilutive impact:
 
                         
    Year Ended December 31,  
    2007     2006     2005  
 
Stock options
    727       2,929       2,562  
Warrants
          82       163  
Redeemable convertible preferred stock
                10,668  
 
[24]  Recent accounting pronouncements:
 
In September 2006, the FASB issued Statement of Financial Accounting Standards No. 157, Fair Value Measurements, (“FAS 157”). FAS 157 (a) establishes a common definition for fair value to be applied to assets and liabilities, where required or permitted by Accounting Standards; (b) establishes a framework for measuring fair value; and (c) expands disclosures concerning fair value measurements. FAS 157 does not extend the required use of fair value to any new circumstances. The Statement is effective for financial statements issued during fiscal years beginning after November 15, 2007. The Company does not expect the adoption of FAS 157 will have a material impact on its consolidated financial position, results of operations or cash flows.
 
In September 2006, the FASB issued Statement of Financial Accounting Standards No. 158, Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans (“FAS 158”). This statement requires employers to recognize the over funded or under funded status of a single-employer defined benefit postretirement plan as an asset or liability in its statement of financial position and recognize any changes in that status in comprehensive income in the year in which it occurs. It also requires that employers measure the funded status of a plan as of the date of its year-end statement of financial position. The Statement does not change how plans are accounted for and reported in the income statement. For publicly traded companies, FAS 158 is effective for fiscal years ending after December 15, 2006. The Company adopted this standard for periods beginning on January 1, 2007 and it did not have a material impact on its financial statements or disclosures.
 
In February 2007, the FASB issued Statement of Financial Accounting Standards No. 159, The Fair Value Option for Financial Assets and Financial Liabilities (“FAS 159”). The fair value option established by FAS 159 permits, but does not require, all entities to choose to measure eligible items at fair value at specified election dates. An entity would report unrealized gains and losses on items for which the fair value option has been elected in earnings at each subsequent reporting date. FAS 159 is effective as of the beginning of an entity’s first fiscal year that begins after November 15, 2007. The Company does not expect the adoption of FAS 159 will have a material impact on its consolidated financial position, results of operations or cash flows.
 
In June 2006, the FASB issued FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes, (“FIN 48”). This Interpretation clarifies the accounting for uncertainty in income taxes recognized in an enterprise’s financial statements and prescribes a recognition threshold of more-likely-than-not to be sustained upon examination. Measurement of the tax uncertainty occurs if the recognition threshold has been met. This Interpretation also provides guidance on de-recognition, classification, interest and penalties, accounting in interim periods, disclosure and transition. FIN 48 is effective for fiscal years beginning after December 15, 2006. The Company adopted this standard effective January 1, 2007. See Note E for further discussion.
 
In November 2005, the FASB issued FASB Staff Position FSP 115-1 which addresses the determination as to when an investment is considered impaired, whether that impairment is other-than-temporary, and the measurement of an impairment loss. This FSP also includes accounting considerations subsequent to the recognition of an other-than-temporary impairment and requires certain disclosures about unrealized losses that have not been recognized as other-than-temporary impairments. The guidance in this FSP amends Statement of Financial Accounting


63


 

 
DOUBLE-TAKE SOFTWARE, INC.
 
Notes to Consolidated Financial Statements — (Continued)
 
Standards No. 115, Accounting for Certain Investments in Debt and Equity Securities and APB Opinion No. 18, The Equity Method of Accounting for Investments in Common Stock. The guidance in FSP 115-1 is applied to reporting periods beginning after December 15, 2005. The Company adopted this standard effective January 1, 2006 and it did not have a material impact on its financial statements or disclosures.
 
In June 2006, the EITF reached consensus on EITF Issue No. 06-3, Disclosure Requirements for Taxes Assessed by a Government Authority on Revenue-Producing Transactions (“EITF No. 06-3”). EITF 06-3 requires disclosure of a company’s accounting policy with respect to presentation of taxes collected on a revenue producing transaction between a seller and a customer. For taxes that are reported on a gross basis (included in revenues and costs), EITF 06-E also requires disclosure of the amounts of taxes included in the financial statements. The Company records sales tax collected from its customers on a net basis. EITF 06-3 is effective for interim and annual reporting periods beginning after December 15, 2006. The Company adopted EITF 06-3 effective January 1, 2007 and it did not have a material impact on its financial statements or disclosures.
 
In February 2006, the FASB issued Statement of Financial Accounting Standards No. 155, Accounting for Certain Hybrid Financial Instruments. (“FAS 155”) This statement amends Statement of Financial Accounting Standards No. 133, Accounting for Derivative Instruments and Hedging Activities (“FAS 133”), and Statement of Financial Accounting Standards No. 140, Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities (“FAS 140”). This statement resolves issues addressed in FAS 133, Implementation Issue No. D1, Application of Statement 133 to Beneficial Interests in Securitized Financial Assets. FAS No. 155 permits fair value remeasurement for any hybrid financial instrument that contains an embedded derivative that otherwise would require bifurcation, clarifies which interest-only strips and principal-only strips are not subject to the requirements of FAS 133, and establishes a requirement to evaluate interest in securitized financial assets to identify interests that are freestanding derivatives or that are hybrid financial instruments that contain an embedded derivative requiring bifurcation. It also clarifies that concentrations of credit risk in the form of subordination are not embedded derivatives and amends FAS 140 to eliminate the prohibition on a qualifying special-purpose entity from holding a derivative financial instrument that pertains to a beneficial interest other than another derivative financial instrument. This statement is effective for all financial instruments acquired or issued after the beginning of an entity’s first fiscal year that begins after September 15, 2006. The Company adopted this standard effective January 1, 2007 and it did not have a material impact on its financial statements or disclosures.
 
In December 2007, the FASB issued SFAS 141 (revised 2007), Business Combinations, (“FAS 141R”). FAS 141R establishes principles and requirements for how an acquirer recognizes and measures in its financial statements the identifiable assets acquired, including goodwill, the liabilities assumed and any non-controlling interest in the acquiree. The Statement also establishes disclosure requirements to enable users of the financial statements to evaluate the nature and financial effects of the business combination. FAS 141R is effective for business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning on or after December 15, 2008. The impact of adopting FAS 141R will be dependent on the future business combinations that the Company may pursue after its effective date. The Company is currently assessing what the impact of the adoption of this Statement will be on the Company’s financial position and results of operations.
 
In December 2007, the FASB issued Statement of Financial Accounting Standards No. 160, Noncontrolling Interests in Consolidated Financial Statements-an amendment of ARB No. 51 (“FAS 160”). This standard establishes accounting and reporting standards for the noncontrolling interest in a subsidiary and for the deconsolidation of a subsidiary. The guidance will become effective as of the beginning of the Company’s fiscal year beginning after December 15, 2008. The Company is currently assessing what the impact of the adoption of FAS 160 will be on the Company’s financial position and results of operations.


64


 

 
DOUBLE-TAKE SOFTWARE, INC.
 
Notes to Consolidated Financial Statements — (Continued)
 
Note B — Revolving Line of Credit
 
In October 2003, the Company entered into a 12-month revolving line of credit agreement (“Facility”) with a bank which provides for aggregate advances not to exceed the lesser of $4,750 or up to 75% of eligible receivables, as defined. Borrowings under the Facility bear interest at the bank’s prime rate plus 2.5% per annum, subject to an unused line fee of 0.5% annually. The obligations under the Facility are collateralized by substantially all the Company’s assets except its intellectual property. In addition, all present and future indebtedness of the Company to its officers, directors and shareholders are subordinated to borrowings under the line. In connection with entering into the Facility, the Company issued a warrant to the bank to purchase 90,000 shares of its Series B Preferred Stock exercisable at $1.50 per share, subject to adjustment, as defined, expiring in October 2013. The warrant was valued at approximately $105 and was amortized over the 12-month life of the Facility.
 
In May 2006, the Company entered into an amendment to the Facility (the “Amended Facility”) with Silicon Valley Bank that extended the term of the Facility to April 30, 2007. Under the terms of the Amended Facility, maximum borrowings were the lesser of 75% of eligible receivables or $4.75 million, including up to $2.5 million available for letters of credit, foreign exchange contracts and cash management services. At December 31, 2006, maximum borrowings available under the Amended Facility were $4.75 million, including a $2.0 million letter of credit relating to a settled legal proceeding (see Note F [2]). The rate of interest for the Amended Facility was 0.75% above the prime rate. The Amended Facility was collateralized by all of the Company’s assets, excluding intellectual property.
 
In May 2007, the Company entered into another amendment to the credit facility (the “Second Amended Facility”) that extended the term of the facility to April 29, 2008. Under the terms of the Second Amended Facility, the Company’s maximum borrowings are $2 million less the then aggregate amounts undrawn on all outstanding letters of credit, foreign exchange contracts, or any other accommodations issued or incurred, or caused to be issued or incurred by the bank. Up to $0.5 million of the facility is available for foreign exchange contracts. The rate of interest for the Second Amended Facility is 0.75% above the prime rate. The facility is collateralized by all of the Company’s assets, excluding intellectual property.
 
The Second Amended Facility contains a number of restrictions that will limit the Company’s ability, among other things, to do the following: borrow money; enter into transactions outside the ordinary course of business; pledge accounts receivable, inventory, intellectual property and most other assets as security in other borrowings or transactions; pay dividends on stock, redeem or acquire any of our securities; sell certain assets; make certain investments; guaranty obligations of third-parties; undergo a merger or consolidation; or engage in any business other than the business in which we are currently engaged or business that is reasonably related to that business. As required under the Second Amended Facility, Silicon Valley Bank issued a consent for the acquisition of TimeSpring.
 
At December 31, 2007, 2006 and 2005, there were no borrowings under this line of credit.
 
Note C — Investments
 
The Company’s short term investments, which are carried at fair value, consist of commercial paper and corporate bonds with original maturities of one year or less. As of December 31, 2007 short term investments are $38,977. The Company had no short term investments as of December 31, 2006. The Company has recorded $14 of unrealized gain in other comprehensive income as of December 31, 2007. During 2007, there were no realized gains or losses due to disposition of available-for-sale securities.
 
Interest income as of December 31, 2007, 2006 and 2005 was $3,019, $319, and $83, respectively.


65


 

 
DOUBLE-TAKE SOFTWARE, INC.
 
Notes to Consolidated Financial Statements — (Continued)
 
Note D — Property and Equipment
 
Property and equipment consists of the following:
 
                 
    December 31,  
    2007     2006  
 
Equipment
  $ 183     $ 95  
Furniture and fixtures
    637       460  
Motor Vehicles
    114       104  
Computer hardware
    7,060       4,561  
Leasehold improvements
    695       618  
                 
      8,689       5,838  
Less accumulated depreciation and amortization
    4,505       2,838  
                 
    $ 4,184     $ 3,000  
                 
 
Property and equipment under capital leases as of December 31, 2007 and 2006 are $185 and $94, respectively.
 
During the years ended December 31, 2007, 2006 and 2005, the Company recorded depreciation expense of $1,636, $1,189 and $805, respectively.
 
Note E — INTANGIBLE ASSETS
 
During the years ended December 31 2007 and 2006, the Company recorded amortization of intangible assets of $710 and $424, respectively. These amounts are included in depreciation and amortization.
 
Intangible assets consist of the following:
 
                 
    December 31,  
    2007     2006  
 
Customer relationships
  $ 2,267     $ 2,267  
Less accumulated amortization
    (727 )     (274 )
                 
    $ 1,540     $ 1,993  
                 
 
                 
    December 31,  
    2007     2006  
 
Marketing relationships
  $ 1,992     $ 1,992  
Less accumulated amortization
    (399 )     (150 )
                 
    $ 1,593     $ 1,842  
                 
 
                 
    December 31,  
    2007     2006  
 
Technology related intangibles
  $ 1,936     $  
Less accumulated amortization
    (8 )      
                 
    $ 1,928     $  
                 


66


 

 
DOUBLE-TAKE SOFTWARE, INC.
 
Notes to Consolidated Financial Statements — (Continued)
 
Future amortization of intangible assets is estimated as follows:
 
         
Year Ending December 31,
     
 
2008
  $ 1,090  
2009
  $ 1,090  
2010
  $ 1,090  
2011
  $ 815  
2012
  $ 628  
Thereafter
  $ 348  
         
Total
  $ 5,061  
         
 
Note F — Provision for Income Taxes
 
The Company’s net income (loss) before income taxes is as follows:
 
                         
    Year Ended December 31,  
    2007     2006     2005  
 
Domestic
    15,979       5,755       (3,783 )
Foreign
    3,310       1,494        
                         
Total
    19,289       7,249       (3,783 )
 
The Company’s income tax provision (benefit) is as follows:
 
                         
    2007     2006     2005  
 
Current
                       
Federal
    2,986              
State and Local
    1,093              
Foreign
    1,021       494        
Deferred
                       
Federal
    (4,959 )            
State and Local
    (930 )            
Foreign
                 
                         
Total
    (789 )     494        
 
The variances between the Company’s effective income tax rate and the Federal statutory rate are as follows:
 
                         
    Year Ended December 31,  
    2007     2006     2005  
 
Statutory federal income tax expense (benefit) rate
    34 %     34 %     (34 )%
Increase (decrease) in valuation allowance
    (46 )%     (47 )%     33 %
State taxes (benefit)
    5 %     6 %     (4 )%
Impact of permanent difference
    3 %     9 %     3 %
Foreign taxes
    0 %     7 %     0 %
Other
    0 %     (2 )%     2 %
                         
Effective income tax expense (benefit) rate
    (4 )%     7 %     0 %


67


 

 
DOUBLE-TAKE SOFTWARE, INC.
 
Notes to Consolidated Financial Statements — (Continued)
 
The Company has deferred tax assets related to temporary differences and operating loss carryforwards as follows:
 
                 
    Year Ended December 31,  
    2007     2006  
 
Deferred tax assets:
               
Current:
               
Allowance for doubtful accounts
  $ 185     $ 184  
Deferred revenue
    816       1,127  
Prepaid expenses
    (495 )     (374 )
Net operating loss carryforword
    2,678        
                 
Total current deferred tax assets
    3,184       937  
Non-current:
               
Fixed assets
    163       513  
Straight-line rent
    159       200  
Net operating loss carryforward
    28,630       23,284  
Sales tax reserve
    39       97  
Other
    313       4  
                 
Total non-current deferred tax assets
    29,304       24,098  
                 
Total deferred tax assets
    32,488       25,035  
Deferred liabilities:
               
Intangible
    (569 )      
                 
Total deferred liability
    (569 )      
Valuation allowance
    (26,030 )     (25,035 )
                 
Net deferred tax assets
  $ 5,889     $  
                 
 
At December 31, 2007 and 2006, the Company has available state net operating loss carryforwards in certain states ranging from approximately $47,000 to $59,000 and $58,000 to $66,000, respectively, depending upon the state, expiring in various amounts through 2026. The Company also has available federal net operating loss carryforwards of approximately $59,000 and $66,000 at December 31, 2007 and 2006, respectively, expiring 2011 through 2026. The utilization of these operating loss carryforwards are limited to $7.1 million per year based upon changes in ownership as defined in Section 382 of the Internal Revenue Code. Through December 31, 2006 the Company’s net deferred tax assets were fully reserved due to uncertainty of realization through future operating results. In 2007, the Company determined that based upon a number of factors, including the Company’s cumulative taxable income over the past two years and expected profitability in future years that certain of its deferred tax assets were more-likely-than-not realizable through future earnings. Accordingly, the Company reversed $5,698 in the second quarter of 2007 and $3,262 in the fourth quarter of 2007 of its deferred income tax valuation allowance and recorded a corresponding tax benefit of $8,960. As a result of the acquisition of TimeSpring, the Company acquired approximately $18,186 of Canadian federal net operating loss carryforwards, $16,558 of Canadian provincial (Quebec) net operating loss carryforwards, and $279 of investment tax credits all of which expire in various amounts through 2026. Additionally, approximately $11,620 million of research and development loss carryforwards were acquired, all of which are available for use indefinitely. Due to the uncertainty of the realization of these Canadian carryforwards through future operating results, these carryforwards are included in the valuation allowance. As of December 31, 2007, the Company maintains a valuation allowance for deferred tax assets and liabilities of $26,030 due to uncertainty of realization through future operating results. This allowance will be


68


 

 
DOUBLE-TAKE SOFTWARE, INC.
 
Notes to Consolidated Financial Statements — (Continued)
 
maintained until sufficient further positive evidence exists to support a reversal of, or decrease in, the valuation allowance.
 
In accordance with FAS 123R, excess tax benefits related to share based payments should be credited to equity. When determining this excess tax benefit, the Company elected to follow the tax law approach. As a result, the Company’s excess tax benefit which was recorded to equity was approximately $4.9 million as of December 31, 2007.
 
The Company adopted the provisions of FIN 48 on January 1, 2007. The application of this Interpretation requires a two-step process that separates recognition from measurement. Upon implementing FIN 48 and performing the analysis, there has not been any increase or decrease to reserves for uncertain tax positions.
 
The Company is subject to income taxes in the U.S. federal jurisdiction, and various states and foreign jurisdictions. Tax regulations within each jurisdiction are subject to the interpretation of the related tax laws and regulations and require significant judgment to apply. With few exceptions, the Company is no longer subject to U.S. federal, state and local, or non-U.S. income tax assessments by tax authorities for the years before 2002.
 
The Company has elected to record interest and penalties recognized in accordance with FIN 48 in the financial statements as income taxes. Any subsequent change in classification of FIN 48 interest and penalties will be treated as a change in accounting principle subject to the requirements of SFAS No. 154, Accounting Changes and Error Corrections.
 
The valuation allowance increased in 2007 by $995 due to the acquisition of the tax carryforwards from TimeSpring offset by the release of the valuation allowance and operating income. The valuation allowance decreased by approximately $3,443 in 2006 due to operating income while it increased by $1,234 in 2005 due to net operating losses, respectively.
 
Note G — Commitments and Contingencies
 
[1]  Leases:
 
In September 2001, the Company entered into a lease agreement for its offices in New Jersey which expires in 2011. The Company entered into a lease during 2001 for its office in Indiana which expires in 2010. In March 2003, the Company entered into a sublease agreement for an office in Massachusetts which expired in 2006 and the lease was extended through February 2008. In 2007, this lease was extended through February 2009. The Company has a lease agreement for its offices in Paris, France which expires in 2016 with the Company having the option to terminate in 2009 and Worcester, United Kingdom which expires in 2009 with the Company having the option to terminate in 2008. Future minimum annual payments are as follows:
 
                 
Year Ending December 31,
           
 
2008
          $ 1,995  
2009
          $ 1,692  
2010
          $ 1,211  
2011
          $ 458  
2012
          $ 458  
Thereafter
          $ 271  
                 
            $ 6,085  
                 
 
Rent expense under operating leases amounted to approximately $1,878, $1,732 and $1,538 for the years ended 2007, 2006 and 2005, respectively.


69


 

 
DOUBLE-TAKE SOFTWARE, INC.
 
Notes to Consolidated Financial Statements — (Continued)
 
Rent expense is calculated by amortizing total rental payments (net of any rental abatements, allowances and other rental concessions), on a straight-line basis, over the lease term. Accordingly, rent expense charged to operations differs from rent paid resulting in the Company recording deferred rent.
 
[2]  Litigation:
 
In May 2003, a provider of information storage systems (“Plaintiff”), filed a complaint in the State of California alleging that the Company infringed certain of its patents. In December 2005 the Company and Plaintiff entered into a settlement agreement (the “Settlement Agreement”) wherein all claims and counterclaims were dismissed with prejudice. Under the terms of the Settlement Agreement, the Company made an initial payment to Plaintiff of $3,760 and further agreed to make additional minimum payments aggregating $2,000 which the Company can use towards the purchase or resale of Plaintiff’s products over 4 years. This annual payment obligation is collateralized by a letter of credit. As the Company has the ability and intent to acquire inventory or fixed assets for the $2,000, no accrual of this amount was made at settlement. In 2006 Company acquired $500 worth of computer equipment from the plaintiff which was subsequently paid in January 2007. An additional $500 worth of computer equipment was acquired in 2007 from the plaintiff leaving $1,000 available to be required over the next two years.
 
Included in legal fees and settlement costs for the years ended December 31, 2007, 2006 and 2005 are costs of $0, $0 and $5,671, respectively. As of December 31, 2005, the Company had accrued the initial settlement payment and legal costs of $3,860, which were included in accounts payable and accrued expenses. The initial settlement payment of $3,760 was paid in January 2006.
 
In the normal course of its business, the Company may be involved in various claims, negotiations and legal actions; however, at December 31, 2007, the Company is not party to any litigation that is expected to have a material effect on the Company’s financial position, results of operations or cash flows.
 
Note H — Concentration
 
The Company sells its products primarily to or through Distributors, value-added reseller or VARS and OEMS who in turn sell to end-users of the Company’s products. The Company believes that the loss of any of these reseller/distributors would require the Company to develop other channels to sell its products to end-users.
 
During the years ended December 31, 2007, 2006, and 2005 one domestic reseller accounted for approximately 18%, 20%, and 19% respectively, of total sales. During 2006 and 2005 one foreign reseller, which was acquired by the Company on May 23, 2006, accounted for approximately 4% and 17% sales, respectively of total revenue. During 2007, there were no foreign resellers which accounted for a significant percent of total revenue. The domestic reseller accounted for approximately 18% and 16% of accounts receivable at December 31, 2007 and 2006, respectively. There was no accounts receivable related to the foreign reseller as of December 31, 2006 or 2007.
 
Note I —  Employment Agreements
 
In January 2001, the Company entered into a 4-year employment agreement with its former Chief Executive Officer (the “Former CEO”) which provided for a base salary of $250 per annum subject to 10% annual increases, plus bonuses. In connection with the agreement, the officer was granted options to purchase 102,041 shares of common stock at an exercise price of $19.60 per share, which was not less than fair market value on the date of the grant. These options were fully vested as of December 31, 2004.
 
Subsequently, in March 2005, the Company entered into a separation agreement (the “Separation Agreement”) with the Former CEO. Pursuant to the Separation Agreement, the Former CEO resigned from the Company and its Board of Directors and entered into a two-year arrangement providing for consulting fees of $275 in the first year and $175 in the second year. The Separation Agreement also contained various provisions related to restrictive


70


 

 
DOUBLE-TAKE SOFTWARE, INC.
 
Notes to Consolidated Financial Statements — (Continued)
 
covenants concerning non-competition, non-disclosure and non-solicitation. In addition, the Separation Agreement provides that the Former CEO may be required to make certain reimbursements to the Company. The reimbursements, if any are required, are collateralized by shares of the Company’s common stock owned by the Former CEO. Further, the consulting arrangement was cancelable by the Company if the provisions of the Separation Agreement were not met.
 
Under the Separation Agreement, subject to any required repayments being made, the unvested stock options owned by the Former CEO will continue to vest over the term of the consulting arrangement, and thereafter will be exercisable for the remainder of their term. The table below summarizes the stock options that had been granted to the Former CEO as well as the related outstanding stock options as of December 31, 2007 and 2006:
 
                                                 
Number of
  Exercise
    December 31, 2007     December 31, 2006        
Options Granted
  Price     Vested     Outstanding     Vested     Outstanding     Expiring  
 
102,040
  $ 19.60       102,040       102,040       102,040       102,040       2008  
10,209
  $ 4.90       10,209             10,209             2008  
366,181
  $ 0.94       366,181             366,181       366,181       2008  
6,125
  $ 0.94       6,125       6,125       6,125       6,125       2008  
6,637
  $ 1.52       6,637       6,637       6,637       6,637       2008  
                                                 
491,192
            491,192       114,802       491,192       480,983          
                                                 
 
On November 2, 2006, the Company entered into a settlement agreement with the Former CEO. Under the terms of the settlement agreement, all actual or potential claims by both the Company and the Former CEO are released and both deny any liability or wrongdoing. Additionally, the consulting agreement with the Former CEO terminated effective October 1, 2006, all unvested stock options immediately vested and the expiration dates of the options were set at the earlier of their original expiration dates or June 22, 2008.
 
In connection with the modification of the terms of the options granted to the Former CEO and the change in the grantee’s status and the settlement, the Company recorded a compensation charge of $1,198 and $119 for the years ended December 31, 2006 and 2005, respectively, based on the estimated fair value of the options during those periods.
 
On October 30, 2006, the Company entered into a settlement agreement with its former Chief Operating Officer (the “Former COO”). Under the terms of the settlement agreement, the Former COO agreed to pay $1.2 million to the Company within 5 years of the date of the settlement agreement. The settlement amount bears interest at 4.96% per year compounded semi-annually. In the event of an IPO by the Company, all payments due under the settlement agreement were accelerated and became due within 10 days of the IPO date. Under the terms of the settlement agreement, all actual or potential claims by both the Company and the Former COO were released and both denied any liability or wrongdoing. The $1.2 million payment was received in December 2006 and was recorded in 2006, as a reduction in general & administrative expense.
 
The employment terms for the Company’s current Chief Executive Officer (“CEO”), as revised in August 2006, provide for annual compensation of $340,000 and provide for certain transaction and IPO related bonuses. Under the terms of his employment, the Company initially granted the CEO options to purchase 380,182 shares of common stock at $1.52 per share, the fair market value on the date of grant. The options vest over 4 years. The CEO subsequently received an additional option grant to purchase 152,073 shares of common stock at $1.96 per share, the then fair market value, and an additional option grant to purchase 38,018 shares of common stock at $1.96 per share, the then fair market value, both of which vest over 4 years. In the event of a change in control, all unvested options would immediately vest. Vesting of the initial option grant was accelerated in full, and vesting of 25% of all other options held by the CEO was accelerated in connection with the IPO. In addition, upon the IPO the Company agreed to grant to the CEO shares of common stock equivalent to 1.45% of the fully-diluted shares of common stock


71


 

 
DOUBLE-TAKE SOFTWARE, INC.
 
Notes to Consolidated Financial Statements — (Continued)
 
outstanding immediately prior to the IPO which vested immediately. Accordingly, the Company granted 269,845 shares to the CEO and recorded a charge of $3,241 equal to the fair value of the shares granted. Under SFAS 123(R), the Company recorded a compensation charge of $544 based upon the fair value of the options that were accelerated. On November 9, 2007 the Company entered into a letter agreement with the CEO. The letter agreement provides for severance payments, in the event the CEO’s employment with the Company is terminated without cause, in the amount of one times the CEO’s annual salary, which amounts will be paid in accordance with the Company’s regular payroll periods, and provide for the continuation of certain health care benefits for a 12-month period following the CEO’s termination. The payments and benefits under the letter agreements are subject to the CEO executing and not revoking a release of claims shortly after termination and compliance with the terms of a non-disclosure agreement between the Company and the CEO.
 
In addition, the Company entered into severance agreements with certain key employees which generally provide for severance if the employees are terminated without cause. On November 9, 2007, the Company entered into letter agreements or an amended/restated employment agreement with certain key employees. In general upon termination without cause, these agreements provide for severance payments equivalent to one times annual salary and continued health benefits for a 12-month period following termination. The payments and benefits under these agreements are subject to the person executing and not revoking a release of claims shortly after termination and compliance with the terms of a non-disclosure agreement between the Company and the person.
 
Note J — Stockholders’ Equity
 
[1] Redeemable preferred stock:
 
(a)   Series A preferred stock:
 
In November 2002, holders of 2,536,133 shares of Series A Preferred agreed to convert their preferred shares into 646,760 shares of common stock. At December 31, 2007 and 2006, respectively, holders of approximately 40,000 and 107,000 converted shares of Series A Preferred Stock had not submitted their Series A Preferred Stock certificates to the stock transfer agent for the issuance of common stock. However, for legal and accounting treatment purposes, these shares have been deemed as having been submitted and the related common shares shown as issued and outstanding.
 
(b)   Series B preferred stock:
 
In November 2002, the Company sold 10,000,000 shares of Series B convertible, redeemable, participating, preferred stock (“Series B Preferred”) at $1.50 (“Original Issue Price”) per share for gross proceeds of $15,000 in a private placement. In connection with the Series B private placement, the Company issued 1,333,333 shares of Series B Preferred at the Original Issue Price upon conversion of 2,233,902 issued and outstanding shares of Series A Preferred. In addition, the Company issued 433,334 shares of Series B Preferred, valued at $650, in repayment of the principal portion of certain notes payable. The Company also issued 800 shares of Series B Preferred as additional interest on a $1,200 bridge loan made to the Company in October 2002 and recorded an interest charge of $1,200 for the value of the Series B Preferred issued. Upon completion of the Series B private placement in November 2002, the Company had 12,566,667 shares of Series B Preferred issued and outstanding with an aggregate Original Issue Price of $18,850. The Company incurred costs of $355 in connection with the Series B Preferred private placement.
 
Costs incurred in the Series B private placement were amortized on a straight-line basis through the mandatory redemption date in 2006.
 
In October 2003, the Company sold an additional 1,066,667 shares of Series B Preferred for gross proceeds of $1,600.


72


 

 
DOUBLE-TAKE SOFTWARE, INC.
 
Notes to Consolidated Financial Statements — (Continued)
 
The Series B Preferred had the following designations:
 
  •  Convertible, including accrued dividends at 8% per year (compou