-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, A5yFdlUn/sCfCs+lgIo/awDJ9GJGaiKT6VDkZO6ylOEUeMoBT/7CHuxL/Mhfv+Ol Ns81gMrumZZW+cpNRqWPcQ== 0000936392-99-001330.txt : 19991117 0000936392-99-001330.hdr.sgml : 19991117 ACCESSION NUMBER: 0000936392-99-001330 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 3 CONFORMED PERIOD OF REPORT: 19990930 FILED AS OF DATE: 19991115 FILER: COMPANY DATA: COMPANY CONFORMED NAME: CONTINUUS SOFTWARE CORP /CA CENTRAL INDEX KEY: 0001048044 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-COMPUTER PROGRAMMING SERVICES [7371] IRS NUMBER: 431070080 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 000-26797 FILM NUMBER: 99753643 BUSINESS ADDRESS: STREET 1: 108 PACIFICA SECOND FLOOR STREET 2: 714-453-2000 CITY: IRVINE STATE: CA ZIP: 92718 BUSINESS PHONE: 9494532200 MAIL ADDRESS: STREET 1: 108 PACIFICA SECOND FLOOR CITY: IRVINE STATE: CA ZIP: 92718 10-Q 1 FORM 10-Q 1 ================================================================================ UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark One) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 1999. OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM _______________TO _______________. COMMISSION FILE NUMBER 000-26797 - -------------------------------------------------------------------------------- CONTINUUS SOFTWARE CORPORATION (Exact name of registrant as specified in its charter) - -------------------------------------------------------------------------------- DELAWARE 43-1070080 (State or other (I.R.S. Employer jurisdiction of Identification No.) incorporation or organization) 108 Pacifica Irvine, California 92618 (Address of principal executive offices) (949) 453-2200 (Registrant's phone number, including area code) --------------------------------------------------- INDICATE BY CHECK MARK WHETHER THE REGISTRANT (1) HAS FILED ALL REPORTS REQUIRED TO BE FILED BY SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 DURING THE PRECEDING 12 MONTHS (OR FOR SUCH SHORTER PERIOD THAT THE REGISTRANT WAS REQUIRED TO FILE SUCH REPORTS) AND(2) HAS BEEN SUBJECT TO SUCH FILING REQUIREMENTS FOR THE PAST 90 DAYS: YES [X] NO [ ] The number of shares outstanding of the Registrant's Common Stock, $.001 par value, was 8,944,570 as of November 1, 1999. ================================================================================ 2 CONTINUUS SOFTWARE CORPORATION TABLE OF CONTENTS PART I FINANCIAL INFORMATION Item 1. Financial Statements Consolidated Balance Sheets at December 31, 1998 and September 30, 1999 (unaudited)................................................................. 3 Consolidated Statements of Operations and Comprehensive Income (Loss) for the Three and Nine Months Ended September 30, 1998 and 1999 (unaudited)................................................................. 4 Consolidated Statements of Cash Flows for the Nine Months Ended September 30, 1998 and 1999 (unaudited)..................................... 5 Notes to Consolidated Financial Statements (unaudited)........................ 6 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations................................................................. 10 Risk Factors.................................................................. 15 Item 3. Quantitative and Qualitative Disclosure About Market Risk...................... 23 PART II OTHER INFORMATION Item 1. Legal Proceedings........................................................... 23 Item 2. Changes in Securities and Use of Proceeds................................... 23 Item 6. Exhibits and Reports on Form 8-K............................................ 25 Signatures...................................................................26
2. 3 PART I FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS CONTINUUS SOFTWARE CORPORATION AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (IN THOUSANDS EXCEPT SHARE AND PER SHARE AMOUNTS)
DECEMBER 31, SEPTEMBER 30, 1998 1999 -------- -------- (unaudited) ASSETS Current assets: Cash and cash equivalents .................................................. $ 2,452 $ 17,490 Short-term investments ..................................................... - 4,497 Accounts receivable, net ................................................... 7,067 7,877 Prepaid expenses and other current assets .................................. 777 904 -------- -------- Total current assets ..................................................... 10,296 30,768 Property, net .............................................................. 1,691 1,869 Other assets ............................................................... 761 840 Total assets ............................................................. $ 12,748 $ 33,477 ======== ======== LIABILITIES AND SHAREHOLDERS EQUITY (DEFICIENCY) Current liabilities: Accounts payable ........................................................... $ 796 $ 2,289 Accrued liabilities ........................................................ 3,568 5,445 Deferred revenue ........................................................... 4,400 4,407 Current portion of capital lease obligations ............................... 699 545 -------- -------- Total current liabilities ............................................... 9,463 12,686 Capital lease obligations, net of current portion .......................... 440 315 Convertible note payable ................................................... 6,000 6,000 Commitments and contingencies Shareholders equity (deficiency): Preferred stock, $.001 par value, 5,000,000 shares authorized, 5,000 shares issued and outstanding ................................................... - 4,000 Series A convertible preferred stock, no par value; 2,291,518 shares authorized, 2,275,659 and no shares issued and outstanding at December 31, 1998 and September 30, 1999 .............................................. 7,900 - Series B convertible preferred stock, no par value; 451,243 shares authorized, 451,243 and no shares issued and outstanding at December 31, 1998 and September 30, 1999 .............................................. 1,769 - Series C convertible preferred stock, no par value; 804,667 shares authorized, 747,525 and no shares issued and outstanding at December 31, 1998 and September 30, 1999 .............................................. 4,118 - Series D convertible preferred stock, no par value; 361,178 shares authorized, 361,178 and no shares issued and outstanding at December 31, 1998 and September 30, 1999 .............................................. 1,879 - Series E convertible preferred stock, no par value; 783,019 shares authorized, 470,849 and no share issued and outstanding at December 31, 1998 and September 30, 1999 .............................................. 2,352 - Common stock $.001 par value; 40,000,000 shares authorized, 1,630,250 and 8,930,870 shares issued and outstanding at December 31, 1998 and September 30, 1999 ................................................................. 2 9 Additional paid-in capital ................................................. 1,898 33,956 Warrants to purchase common stock .......................................... 114 70 Warrants to purchase Series E convertible preferred stock .................. 248 - Accumulated other comprehensive income - net unrealized gain on available for sale securities .......................................................... - 17 Accumulated deficit ........................................................ (23,435) (23,576) -------- -------- Net shareholders equity (deficiency) .................................... (3,155) 14,476 -------- -------- Total liabilities and shareholders equity (deficiency) .................. $ 12,748 $ 33,477 ======== ========
See accompanying notes to consolidated financial statements. 3. 4 CONTINUUS SOFTWARE CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME (LOSS) (IN THOUSANDS EXCEPT PER SHARE AMOUNTS)
THREE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30, SEPTEMBER 30, -------------------------- -------------------------- 1998 1999 1998 1999 -------- -------- -------- -------- (unaudited) (unaudited) Revenues: Software licenses ..................... $ 2,852 $ 5,304 $ 10,162 $ 14,304 Services .............................. 3,256 4,348 9,491 12,399 -------- -------- -------- -------- Total revenues ................. 6,108 9,652 19,653 26,703 Cost of revenues: Software licenses ..................... 157 152 493 470 Services .............................. 1,935 2,230 5,546 6,375 -------- -------- -------- -------- Total cost of revenues ......... 2,092 2,382 6,039 6,845 -------- -------- -------- -------- Gross profit ........................... 4,016 7,270 13,614 19,858 Operating expenses: Sales and marketing ................... 3,932 4,565 11,455 12,803 Research and development .............. 1,159 1,438 3,347 4,007 General and administrative ............ 679 895 1,976 2,413 Compensation expense related to stock option grants ...................... -- 57 -- 155 -------- -------- -------- -------- Total operating expenses ....... 5,770 6,955 16,778 19,378 -------- -------- -------- -------- Income (loss) from operations ........... (1,754) 315 (3,164) 480 Other expense, net ...................... 138 34 487 612 -------- -------- -------- -------- Income (loss) before income tax provision (1,892) 281 (3,651) (132) Income tax provision .................... 3 1 19 8 -------- -------- -------- -------- Net income (loss) ....................... $ (1,895) $ 280 $ (3,670) $ (140) ======== ======== ======== ======== Other comprehensive income - Net unrealized gain on available for sale securities ............................ -- 17 -- 17 -------- -------- -------- -------- Comprehensive income (loss) ............. $ (1,895) $ 297 $ (3,670) $ (123) ======== ======== ======== ======== Basic earnings (loss) per share ......... $ (1.17) $ 0.04 $ (2.27) $ (0.04) ======== ======== ======== ======== Diluted earnings (loss) per share ....... $ (1.17) $ 0.03 $ (2.27) $ (0.04) ======== ======== ======== ======== Basic weighted average common shares .... 1,624 6,888 1,615 3,426 ======== ======== ======== ======== Diluted weighted average common shares .. 1,624 10,188 1,615 3,426 ======== ======== ======== ========
See accompanying notes to consolidated financial statements. 4. 5 CONTINUUS SOFTWARE CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (IN THOUSANDS)
NINE MONTHS ENDED SEPTEMBER 30, -------------------------- 1998 1999 -------- -------- (unaudited) Cash flows from operating activities: Net loss .......................................................... $ (3,670) $ (140) Adjustments to reconcile net loss to net cash (used in) provided by operating activities: Provision for doubtful accounts ................................. 81 80 Depreciation and amortization ................................... 965 827 Loss (gain) on disposition of property .......................... (1) 2 Compensation expense related to stock option grants ............. -- 155 Changes in operating assets and liabilities: Accounts receivable ........................................... 2,137 (890) Prepaid expenses and other assets ............................. (33) (141) Accounts payable .............................................. 160 1,493 Accrued liabilities ........................................... (112) 1,877 Deferred revenue .............................................. (1,600) 7 -------- -------- Net cash (used in) provided by operating activities ......... (2,073) 3,270 Cash flows from investing activities: Purchases of property ............................................. (436) (627) Purchase of short-term investments ................................ -- (4,480) Proceeds from disposition of property ............................. 13 1 -------- -------- Net cash used in investing activities ....................... (423) (5,106) Cash flows from financing activities: Payments on obligations under capital leases ...................... (816) (660) Proceeds from issuance of common stock, net ....................... 43 17,534 -------- -------- Net cash (used in) provided by financing activities ......... (773) 16,874 -------- -------- Net (decrease) increase in cash and cash equivalents .............. (3,269) 15,038 Cash and cash equivalents, beginning of period .................... $ 6,175 $ 2,452 ======== ======== Cash and cash equivalents, end of period .......................... $ 2,906 $ 17,490 ======== ======== Supplementary disclosures of cash flow information Cash paid during the year for: Interest ...................................................... $ 659 $ 636 ======== ======== Income taxes .................................................. $ 17 $ 8 ======== ======== Noncash items: Acquisition of property through capital lease ..................... $ 508 $ 381 ======== ======== Issuance of warrants to purchase common stock ..................... $ -- $ 65 ======== ======== Conversion of common stock to preferred stock ..................... $ -- $ 4,000 Net exercise of warrants to purchase common stock ................. $ -- $ 109 Net exercise of warrants to purchase Series E convertible preferred stock ............................................... $ -- $ 248
See accompanying notes to consolidated financial statements. 5. 6 CONTINUUS SOFTWARE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS SEPTEMBER 30, 1999 (UNAUDITED) 1. Basis of Presentation The accompanying consolidated financial statements have been prepared by Continuus Software Corporation (the "Company") without audit (except for balance sheet information as of December 31, 1998) in accordance with generally accepted accounting principles for interim financial information and with instructions to Form 10-Q and Article 10 of Regulation S-X. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. The accompanying consolidated financial statements do not include certain footnotes and financial presentations normally required under generally accepted accounting principles and, therefore, should be read in conjunction with the audited consolidated financial statements included in the Company's Registration Statement on Form S-1 (333-76893) (the "Registration Statement") declared effective by the Securities and Exchange Commission on July 28, 1999. The accounting policies followed by the Company are set forth in Note 1 of the Notes to those Consolidated Financial Statements. The results of operations for the interim periods ended September 30, 1999, are not necessarily indicative of the results to be expected for the entire fiscal year ending December 31, 1999. For further information on additional factors that may affect future results, please refer to "Management's Discussion and Analysis of Financial Condition and Results of Operations" under Item 2 and the Consolidated Financial Statements and Notes thereto included in the Registration Statement. 2. Net Income (Loss) Per Share The Company has adopted SFAS No. 128, Earnings per Share, which replaces the presentation of "primary" earnings per share with "basic" earnings per share and the presentation of "fully diluted" earnings per share with "diluted" earning per share. Basic earnings per share is computed by dividing net income (loss) available to common stockholders by the weighted average number of common shares outstanding for the period. Diluted earnings per share reflects the potential dilution of securities by including other common stock equivalents, including stock options, warrants and convertible preferred stock, in the weighted average number of common shares outstanding for a period, if dilutive. 3. Recent Accounting Pronouncements Pursuant to SFAS No. 130, Reporting Comprehensive Income, the Company has included statements of comprehensive income (loss) for the three and nine months ended September 30, 1998 and 1999. In June 1998, the Financial Accounting Standards Board (the "FASB") issued SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities, which the Company is required to adopt effective in its fiscal year 2000. SFAS No. 133 will require the Company to record all derivatives on the balance sheet at fair value. The Company does not currently engage in hedging activities and will continue to evaluate the effects of adopting SFAS No. 133. The Company will adopt SFAS No. 133 in its fiscal year 2000. 6. 7 4. Significant Agreements On April 22, 1999, the Company entered into a revolving line of credit agreement with a bank, which provides for borrowings up to $2,000,000. Borrowings accrue interest at a per annum rate equal to the bank's prime rate. The revolving line of credit does not provide for any financial covenants and expires on April 22, 2001. On the same date, the Company entered into a Contribution Agreement, which requires that certain preferred shareholders guarantee outstanding amounts under the revolving line of credit agreement. Under terms of the Contribution Agreement, the Company granted warrants to purchase 53,910 shares of common stock at $9.01 per share to the guarantors on a pro rata basis. The warrants are immediately exercisable and expire on April 22, 2002. The fair value allocated to the warrants using the Black-Scholes pricing model was $23,452. This amount is recorded as deferred financing costs and is being amortized over the term of the revolving line of credit. The Company is also obligated to grant additional warrants to purchase 35,940 shares of common stock at $9.01 per share to the guarantors on a pro rata basis in the event the guarantors are required to make a payment on the revolving line of credit. On April 30, 1999, the Company entered into an agreement with a third party to lease certain qualified capital equipment. The agreement expires on December 1, 1999. In connection with this lease agreement, the Company granted warrants to purchase 20,755 shares of common stock at $9.01 per share. The warrants are immediately exercisable and expire on April 30, 2006. The fair value allocated to the warrants using the Black-Scholes pricing model was $41,673. This amount is recorded as deferred financing costs and is being amortized over the term of the lease agreement. 5. Segment Information (in thousands) Operating segments are defined as components of an enterprise about which separate financial information is available that is evaluated regularly by the Company's chief operating decision-maker, or decision-making group, in deciding how to allocate resources and in assessing performance. The Company's reportable operating segments include Software Licenses and Services. The Software Licenses operating segment develops and markets the Company's process-oriented software development management products. The Services segment provides after-sale support for software products and fee-based training and consulting services related to the Company's products. The Company does not allocate operating expenses to these segments, nor does it allocate specific assets to these segments. Therefore, segment information reported includes only revenues, cost of sales and gross profit. 7. 8 Operating segment data for the three months and nine months ended September 30, 1998 and 1999 was as follows:
Software Licenses Services Total ------- ------- ------- Three months ended September 30, 1998 Revenues ........................ $ 2,900 $ 3,200 $ 6,100 Cost of revenues ................ 200 1,900 2,100 ------- ------- ------- Gross profit ................. $ 2,700 $ 1,300 $ 4,000 ======= ======= ======= Three months ended September 30, 1999 Revenues ........................ $ 5,300 $ 4,400 $ 9,700 Cost of revenues ................ 200 2,200 2,400 ------- ------- ------- Gross profit ................. $ 5,100 $ 2,200 $ 7,300 ======= ======= ======= Nine months ended September 30, 1998 Revenues ........................ $10,200 $ 9,500 $19,700 Cost of revenues ................ 500 5,600 6,100 ------- ------- ------- Gross profit ................. $ 9,700 $ 3,900 $13,600 ======= ======= ======= Nine months ended September 30, 1999 Revenues ........................ $14,300 $12,400 $26,700 Cost of revenues ................ 500 6,300 6,800 ------- ------- ------- Gross profit ................. $13,800 $ 6,100 $19,900 ======= ======= =======
Revenues are attributed to geographic areas based on the location of the entity to which the products or services were sold. United States information is derived from U.S. operations and includes revenues from sales to Canadian entities for the three and nine months ended September 30, 1998 of $200 and $800, respectively, and for the three and nine months ended September 30, 1999 of $400 and $1,900, respectively. No single country had a material amount of long-lived assets except for such assets in the United Kingdom of $541 at September 30, 1999.
United States International Eliminations Total ------------- ------------- ------------ ----- Three months ended September 30, 1998 Revenues ............................ $ 3,700 $ 3,500 $(1,100) $ 6,100 Gross profit ........................ 2,700 1,300 4,000 Long-lived assets ................... 1,700 1,100 2,800 Three months ended September 30, 1999 Revenues ............................ 6,400 4,600 (1,300) 9,700 Gross profit ........................ 5,200 2,100 7,300 Long-lived assets ................... 1,700 1,000 2,700 Nine months ended September 30, 1998 Revenues ............................ 12,600 10,400 (3,300) 19,700 Gross profit ........................ 9,300 4,300 13,600 Long-lived assets ................... 1,700 1,100 2,800 Nine months ended September 30, 1999 Revenues ............................ 17,700 13,000 (4,000) 26,700 Gross profit ........................ 14,300 5,600 19,900 Long-lived assets ................... 1,700 1,000 2,700
During the three months and nine months ended September 30, 1998 and 1999, no single customer accounted for 10% or more of total revenue. 8. 9 6. Stock Option Plans The following is a summary of stock option transactions under the Company's stock option plans, including the Employee Stock Option Plan and 1997 Equity Incentive Plan, for the three months ended September 30, 1999:
Weighted average exercise Shares price ------ ---------------- Outstanding, June 30, 1999 .............. 2,527,706 $ 2.78 Granted ................................. 44,169 6.67 Exercised ............................... (15,042) 1.50 Canceled ................................ (45,965) 2.63 --------- Balance, September 30, 1999 ............. 2,510,868 2.86 ========= Options exercisable at September 30, 1999 1,199,016 =========
7. Initial Public Offering On August 3, 1999, the Company completed its initial public offering of 2,523,642 shares of common stock at $8.00 per share. The 2,523,642 shares were sold by the Company resulting in net proceeds of approximately $17.4 million. Additional information is contained in the Company's Prospectus dated July 29, 1999 which was filed with the Securities and Exchange Commission. 8. Subsequent Event On October 21, 1999, the Board of Directors of the Company approved the grant of stock options pursuant to the Company's 1997 Equity Incentive Plan to purchase up to an aggregate of 650,000 shares of common stock to employees of the Company. 9. 10 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following Management's Discussion and Analysis of Financial Condition and Results of Operations contains forward-looking statements that involve risks and uncertainties. These forward-looking statements include, but are not limited to, statements about our plans, objectives, expectations and intentions and other statements contained that are not historical facts. When used in this Report, the words "expects," "anticipates," "intends," "plans," "believes," "seeks," "estimates" and similar expressions are generally intended to identify forward-looking statements. Because these forward-looking statements involve risks and uncertainties, there are important factors that could cause actual results to differ materially from those expressed or implied by these forward-looking statements, including to differ materially from those expressed or implied by these forward-looking statements, including our plans, objectives, expectations and intentions and other factors discussed under "Risk Factors." OVERVIEW We provide software products and services for eAsset management, an emerging market segment that enables organizations to more effectively develop, enhance, deploy and manage their Internet and enterprise software systems. We originally incorporated in 1984 as a supplier of application software for the automotive industry. In 1987, we sold our application software business to focus on the development of a software change management product. In subsequent years, we expanded our focus to encompass a fully integrated change management suite. In 1994, we released the 4.0 version of the Continuus Change Management Suite. In May 1998, we released Continuus WebSynergy, a web content and application management solution, and began expanding our focus to include eAsset management. Substantially all revenues to date have been derived from software licenses or from related services. Software license revenues are primarily based on the number of end-user seats and the number of copies of our server products that are licensed by customers. Customers often obtain an initial license for small groups and may later purchase additional licenses to cover more users. Currently, over half of our software license revenues result from sales to existing customers. Software license transactions generally average less than $100,000, although larger transactions do occur. We recognize revenues in accordance with the American Institute of Certified Public Accountants Statement of Position No. 97-2. License revenues from sales to end users are recognized upon shipment of the product if a signed contract exists, the fee is fixed and determinable and collection is deemed probable. If an acceptance period is provided, revenue is recognized upon the earlier of customer acceptance or the expiration of that period. Service revenue includes consulting, training and maintenance services. We recognize consulting and training service revenue when earned and maintenance revenues ratably over the term of the agreement, generally 12 months. Consulting and training revenues are dependent upon the number of new software licenses and the number of employees and consultants available to staff engagements. Maintenance revenues are also dependent upon new software licenses and the rate at which existing customers renew their support agreements. The gross margins on the software licenses are significantly higher than the gross margins achieved for services. Total gross margins may be lower to the extent that service revenues increase as a percentage of total revenues. We market our software and services in North America through a direct sales organization. Since 1995, we have invested significant financial and management resources to establish and grow our direct sales and support operations in France, Germany and the United Kingdom. Our foreign subsidiaries bill customers and incur expenses in their local currencies which are translated into U.S. dollars for financial accounting purposes. Accordingly, fluctuations in foreign currency exchange rates may cause fluctuations in our reported operating results. In addition, fluctuations in foreign currency exchange rates 10. 11 impact the dollar value of foreign currency-denominated accounts receivable and other assets. We do not currently utilize foreign currency hedging instruments; however, we believe that hedging may be utilized in the future to manage risks associated with foreign currency fluctuations. We market our software through distributors covering Australia, Denmark, Finland, India, Italy, Israel, the Netherlands, Norway, Spain and Sweden. The transactions with our distributors are conducted in U.S. dollars. Total revenues from customers located outside North America accounted for approximately 53.9% and 44.2% for the three months ended September 30, 1998 and 1999. RESULTS OF OPERATIONS Software Licenses. Software license revenues were $2.9 million and $10.2 million for the three and nine months ended September 30, 1998, respectively, and $5.3 million and $14.3 million for the comparable periods in 1999. This represents increases of 86.0% and 40.8% for the three and nine month periods, respectively. Software license revenues in North America were $1.2 million and $4.7 million for the three and nine months ended September 30, 1998, respectively, and $3.0 million and $8.1 million for the comparable periods in 1999. This represents increases of 160.3% and 73.2% for the three and nine month periods, respectively. These increases were primarily due to increased sales to internet-related customers. These customers consist of relatively new internet-centric businesses as well as internet and e-commerce operations within global 1000 class businesses. Software license revenues from international operations were $1.7 million and $5.5 million for the three and nine months ended September 30, 1998, respectively, and $2.3 million and $6.2 million for the comparable periods in 1999. This represents increases of 34.5% and 13.4% for the three and nine month periods, respectively. Services. Service revenues were $3.2 million and $9.5 million for the three and nine months ended September 30, 1998, respectively, and $4.4 million and $12.4 million for the comparable periods in 1999. This represents increases of 33.5% and 30.6% for the three and nine month periods, respectively. These increases were primarily due to increased orders for consulting and training services from new customers, which reflects the growth in software license revenues, as well as increased orders for consulting, training and maintenance services from existing customers. Cost of Software Licenses. The cost of software license revenues includes both the amortization of prepaid royalty costs associated with third-party software which is embedded in our products and the costs associated with product documentation, packaging and shipping. The cost of software license revenues was $157,000 and $493,000 for the three and nine months ended September 30, 1998, respectively, and $152,000 and $470,000 for the comparable periods in 1999. This represents decreases of 3.2% and 4.7% for the three and nine month periods, respectively. The decreases were primarily due to lower product documentation costs. Gross margins on software licenses were 94.5% and 95.1% for the three and nine months ended September 30, 1998, respectively, and 97.1% and 96.7% for the comparable periods in 1999. Cost of Services. The cost of service revenues consists primarily of salaries and related expenses for consultants and technical support personnel. The cost of service revenues was $1.9 million and $5.6 million for the three and nine months ended September 30, 1998, respectively, and $2.2 million and $6.3 million for the comparable periods in 1999. This represents increases of 15.2% and 14.9% for the three and nine months periods, respectively. The increases were primarily due to increases in the size of our professional services organization worldwide. Gross margins on service revenues were 40.6% and 41.6% for the three and nine months ended September 30, 1998, respectively, and 48.7% and 48.6% for the comparable periods in 1999. The increases in gross margins on service revenues were primarily due to increased utilization as new employees became more productive. 11. 12 Sales and Marketing. Sales and marketing expenses consist primarily of salaries, commissions and bonuses earned by sales and marketing personnel, field office expenses and travel and entertainment and promotional expenses. Sales and marketing expenses were $3.9 million and $11.5 million for the three and nine months ended September 30, 1998, respectively, and $4.6 million and $12.8 million for the comparable periods in 1999. This represents increases of 16.1% and 11.8% for the three and nine month periods, respectively. The higher sales and marketing expenses for the periods ended September 30, 1999 were due to increases in sales personnel expenses, including commissions and compensation, resulting from new hires, a larger sales force and increased sales. As a percentage of total revenues, sales and marketing expenses were 64.4% and 58.3% for the three and nine months ended September 30, 1998, respectively, and 47.3% and 47.9% for the comparable periods in 1999. Research and Development. Research and development expenses consist primarily of expenses related to software development personnel and other costs associated with product development. All costs incurred in the research and development of software products and enhancements to existing software products have been expensed as incurred. Research and development costs were $1.2 million and $3.3 million for the three and nine months ended September 30, 1998, respectively, and $1.4 million and $4.0 million for the comparable periods in 1999. This represents increases of 24.1% and 19.7% for the three and nine month periods, respectively. The increases were primarily due to staffing increases to support the development of new products and the enhancement of existing products. As a percentage of total revenues, research and development expenses were 19.0% and 17.0% for the three and nine months ended September 30, 1998, respectively, and 14.9% and 15.0% for the comparable periods in 1999. General and Administrative. General and administrative expenses consist primarily of salaries, bonuses, payroll taxes and administrative costs, including legal and accounting fees and bad debts. General and administrative expenses were $679,000 and $2.0 million for the three and nine months ended September 30, 1998 and $895,000 and $2.4 million for the comparable periods in 1999. This represents increases of 31.8% and 22.1% for the three and nine month periods, respectively. The increases were due to increased personnel expenses, including salaries, bonuses and payroll taxes resulting from new hires and increased legal and accounting fees and other costs as a result of being a public company. As a percentage of revenue, general and administrative expenses were 11.1% and 10.1% for the three and nine months ended September 30, 1998, respectively, and 9.3% and 9.0% for the comparable periods in 1999. Compensation Expenses Related to Stock Option Grants. Compensation expense related to the grant of options to purchase shares of common stock at exercises prices below the deemed value of the company's common stock were $57,000 and $155,000 for the three and nine months ended September 30, 1999; there was no such expense in 1998. Other Expenses. Other expenses consist primarily of interest expense and foreign currency translation losses. Other expenses were $138,000 and $487,000 for the three and nine months ended September 30, 1998, respectively, and $34,000 and $612,000 for the comparable periods in 1999. The increases for the nine month period ended September 30, 1999 were primarily due to higher losses from foreign currency translation caused by the strengthening of the dollar as compared to certain foreign currencies. As a percentage of total revenues, other expenses were 2.3% and 2.5% for the three and nine months ended September 30, 1998, respectively, and 0.4% and 2.2% for the comparable periods in 1999. Income Tax Provision. The income tax provision for the three and nine months ended September 30, 1998 and September 30, 1999 consisted solely of minimum state income taxes due to our net loss on a year to date basis for the nine months ended September 30, 1998 and September 30, 1999. 12. 13 LIQUIDITY AND CAPITAL RESOURCES As of September 30, 1999, we had cash and cash equivalents and short-term investments of approximately $22.0 million, an increase of $19.5 million from December 31, 1998. From inception through July 1999, we financed our operations through private placements of our equity and debt securities. The private placement of equity securities provided us with aggregate gross proceeds of approximately $18.4 million as of September 30, 1999. We also borrowed $6.0 million through the issuance of a senior secured convertible debenture in 1997. In August 1999, we completed an initial public offering of 2,523,642 shares of our common stock, generating net proceeds of $17.4 million. As of September 30, 1999, the Company had outstanding the $6.0 million senior secured convertible debenture and additional capital commitments in the form of capital leases of $860,000. As of September 30, 1999, we also had available a $2.0 million revolving line of credit with a commercial bank which expires on April 22, 2001. The revolving line of credit does not provide for any financial covenants. To date, we have not made any draws on this line of credit. We have also entered into an equipment lease line for an aggregate of $1.0 million of which $214,000 was outstanding at September 30, 1999. Our operating activities generated cash of $3.3 million for the nine months ended September 30, 1999 as compared to $2.1 million in cash used for the nine months ended September 30, 1998. The increase in cash generated was primarily due to our ability to generate income from operations. Our investing activities used approximately $5.1 million and $423,000 for the nine months ended September 30, 1999 and 1998, respectively, primarily from property purchases and the purchase of short-term investments. Expenditures for property and equipment were $1.0 million for the nine months ended September 30, 1999 as compared to $944,000 for the nine months ended September 30, 1998. Most property acquired was computer hardware and software. We anticipate that we will purchase similar levels of new equipment through the remainder of 1999. We anticipate moving to larger facilities in the first quarter of 2000 when our current lease expires, which will increase our expenditures for new property and equipment. We believe that our existing cash balances and cash from operations will be sufficient to finance our operations through at least the next 18 months. If additional financing is needed, there can be no assurances that such financing will be available to us on commercially reasonable terms. IMPACT OF YEAR 2000 PROBLEMS Many computers, software applications and other equipment are not capable of distinguishing 21st century dates from 20th century dates. As a result, beginning on January 1, 2000, some computers, software and other equipment could fail to operate or fail to produce correct results if "00" is interpreted to mean 1900, rather than 2000. These problems are commonly referred to as the "year 2000 problem." GENERAL READINESS ASSESSMENT. The year 2000 problem affects the computers, software applications and other equipment that we use, operate or maintain for our operations. As a result, we have established a year 2000 readiness committee fully supported by representatives of all departments. ASSESSMENT OF CONTINUUS' SOFTWARE PRODUCTS. Beginning in 1997, we began assessing the ability of our software to operate properly in the year 2000. We believe the latest revisions, version 4.5 and higher, of our currently available software products on Windows and supported variants of UNIX are year 2000 compliant and that this software accurately processes date data from, into and between the 20th and 21st centuries. In particular, in June 1998, we issued a new version of our Continuus Change Management Suite that is year 2000 compliant. Approximately 90% of our customers have installed the year 2000 13. 14 compliant version of the Continuus Change Management Suite to date. The needs of the remainder of our customers to install the year 2000 compliant version by the end of 1999 may require significant assistance from our consulting personnel later this year, which could interfere with our ability to fulfill all demands for our services. We expect to continue to test our new software and products for year 2000 compliance and compliance when used with other standard operating systems or computer platforms, including those developed by other companies. ASSESSMENT OF INTERNAL INFRASTRUCTURE. We substantially completed year 2000 testing of our major information technology systems in October 1998 and identified those components which were not year 2000 compliant. As of September 30, 1999 all remediation efforts have been completed. SYSTEMS OTHER THAN INFORMATION TECHNOLOGY SYSTEMS. In addition to computers and related systems, the operation of office and facilities equipment, such as fax machines, telephone switches, security systems and other common devices may be affected by the year 2000 problem. As of September 30, 1999 all remediation efforts have been completed. VENDORS AND SUPPLIERS. We completed our communications with external vendors and suppliers that provide us with material software and information systems in February 1999 to determine the extent to which their failure to remedy their own year 2000 problems would materially affect us. Based on our vendors' and suppliers' representations, we believe that the third-party hardware and software we employ is year 2000 compliant. As we establish relationships with additional third parties, we intend to identify and resolve issues involving the year 2000 problem. However, we have limited or no control over the actions of these third parties. Thus, while we expect that we will be able to resolve any issues involving third parties, there can be no assurance that the third parties will resolve any or all year 2000 problems before the occurrence of a material disruption to the operation of our business. Any failure of these third parties to timely resolve year 2000 problems with their systems could harm our business. COSTS OF REMEDIATION. To date, we have not incurred any material costs directly associated with year 2000 compliance efforts, except for compensation expense associated with existing salaried employees who have devoted some of their time away from their primary responsibilities and instead to year 2000 assessment and remediation efforts. We estimate the total cost to us associated with year 2000 compliance, including costs of completing any required modification, upgrades or replacements of our internal systems, has not exceeded $50,000, most of which was incurred before the end of the third quarter of 1999. MOST LIKELY CONSEQUENCES OF YEAR 2000 PROBLEMS. We expect to identify and resolve all year 2000 problems that could harm our business operations before the end of 1999. However, we believe that it is not possible to determine with complete certainty that all year 2000 problems affecting us have been identified or corrected. The number of devices and systems that could be affected and the interactions among these devices and systems are too numerous to address. In addition, no one can accurately predict which year 2000 problem-related failures will occur or the severity, timing, duration or financial consequences of these potential failures. As a result, we believe that the following consequences are possible: - a significant number of operational inconveniences and inefficiencies for us and our customers that will divert management's time and attention as well as financial and human resources from ordinary business activities; - possible minor business disputes and claims, including claims under product warranty, due to year 2000 problems experienced by our customers and incorrectly attributed to our 14. 15 products or performance, which we believe will be resolved in the ordinary course of business; and - possible serious business disputes alleging that we failed to comply with the terms of contracts or industry standards, some of which could result in litigation or contract termination. CONTINGENCY PLANS. We are currently developing contingency plans to be implemented if our efforts to identify and correct year 2000 problems affecting our internal systems are not effective. Our contingency plan could include: - accelerated replacement of affected equipment or software; - short to medium-term use of back-up equipment and software or other redundant systems; - increased work hours for our personnel or the hiring of additional information technology staff; and - the use of contract personnel to correct, on an accelerated basis, any year 2000 problems that arise or to provide interim alternate solutions for information system deficiencies. The discussion of our efforts and expectations relating to year 2000 compliance are forward-looking statements. Our ability to achieve year 2000 compliance, and the level of incremental costs associated with compliance, could be adversely affected by, among other things, the availability and cost of contract personnel and external resources, third party suppliers' ability to modify proprietary software, and unanticipated problems not identified in our ongoing review. EUROPEAN MONETARY UNION Within Europe, the European Economic and Monetary Union introduced a new currency, the euro, on January 1, 1999. The new currency is in response to the European Union's policy of economic convergence to harmonize trade policy, eliminate business costs associated with currency exchange and to promote the free flow of capital, goods and services. We have not experienced any significant operational disruptions to date and we do not currently expect the continued implementation of the euro to cause any significant operational disruptions. RISK FACTORS Our business, financial condition or results of operations could be harmed by any of the following risks. OUR OPERATING RESULTS FLUCTUATE SIGNIFICANTLY Our quarterly revenues and operating results fluctuate significantly and may cause the price of our stock to fall. Our revenues and operating results depend primarily on the volume and timing of customer contracts we receive during a given quarter and the percentage of each contract we can recognize as revenue during each quarter. We have often recognized a substantial portion of our revenues in the last month of a quarter, with a concentration of these revenues in the last weeks or days of the third month. A delay in an anticipated sale near the end of a quarter can seriously harm our operating results for that 15. 16 quarter. Accordingly, our operating results may be below the expectations of analysts and investors. In this event, the price of our common stock will likely fall. Our expense levels are relatively fixed in the short term and are based, in part, on our expectations of our future revenues. As a result, any delay in generating or recognizing revenues could cause significant variations in our operating results from quarter to quarter and could result in increased operating losses. SEASONAL TRENDS IN SALES OF OUR SOFTWARE PRODUCTS MAY AFFECT OUR QUARTERLY OPERATING RESULTS We have experienced and expect to continue to experience seasonality in sales of our software products. These seasonal trends materially affect our quarter-to-quarter operating results. We may experience weaker demand for our products and services in our third quarter each year, particularly in international markets, as a result of reduced sales activities during the summer months. As a result of customer buying patterns, we may also realize lower revenues in the first quarter of each year than in the preceding fourth quarter. WE MAY INCUR FUTURE LOSSES We may not be able to sustain profitability. Although we achieved a small net income in the three months ended September 30, 1999, we incurred net losses of $3.9 million in 1998 and $140,000 for the nine months ended September 30, 1999. As of September 30, 1999, we had an accumulated deficit of $23.6 million. We expect to continue to increase our sales and marketing, product development and administrative expenses. As a result, we will need to generate significant additional revenues to achieve and maintain profitability. Although our revenues have grown in recent quarters, we cannot be certain that revenue growth will continue or that we will achieve sufficient revenues for profitability. If we do achieve profitability in any period, we cannot be certain that we will sustain or increase profitability on a quarterly or annual basis. CUSTOMER FOCUS AND SPENDING ON YEAR 2000 REMEDIATION MAY REDUCE OUR FUTURE REVENUES Our revenues may be reduced by customer focus on year 2000 problems. Many computers, software applications and other equipment are not capable of distinguishing 21st century dates from 20th century dates. As a result, beginning on January 1, 2000, some computers, software and other equipment could fail to operate or fail to produce correct results if "00" is interpreted to mean 1900 rather than 2000. These problems are commonly referred to as the "year 2000 problem." Many customers may spend their limited financial and personnel resources remediating year 2000 problems, thereby delaying or foregoing entirely investment in more general IT products such as our products. This trend could reduce our revenues in 1999 and 2000. A REDUCTION IN REVENUES FROM THE CONTINUUS CHANGE MANAGEMENT SUITE WOULD HARM OUR BUSINESS A decline in the demand for Continuus Change Management Suite and the revenues associated with licenses of the Continuus Change Management Suite would reduce our total revenues and harm our business. In 1998, sales of the Continuus Change Management Suite or its components accounted for approximately 94% of our total software license revenues. In comparison, Continuus WebSynergy-related sales accounted for 6% of our total software license revenues in 1998. We expect that the Continuus Change Management Suite will continue to account for a substantial portion of our total revenues for the 16. 17 foreseeable future. The following events may reduce the demand for the Continuus Change Management Suite: - competition from other products; - significant flaws in our software products or incompatibility with third-party hardware or software products; - negative publicity or evaluation; or - obsolescence of the hardware platforms or software environments in which our systems run. SINCE OUR FUTURE REVENUES PARTIALLY DEPEND ON OUR NEW INTERNET PRODUCTS, OUR REVENUES MAY SUFFER IF WE CANNOT SUCCESSFULLY MARKET THESE NEW PRODUCTS A substantial portion of our revenues in the future may be derived from new internet products and related services. A decline in the price of, or demand for, new internet products, or our failure to achieve broad market acceptance of new internet products, may reduce our revenues. WE MAY NOT BE ABLE TO RECRUIT AND RETAIN THE PERSONNEL WE NEED TO ACHIEVE SIGNIFICANT REVENUE GROWTH We may not be able to recruit and retain the personnel we need to achieve significant revenue growth. Our future success depends upon our ability to recruit, train and retain additional sales and technical support personnel. We sell our products primarily through our direct sales force and we support our customers with our internal technical support staff. In the past, we have had difficulty recruiting and retaining qualified personnel, and we cannot guarantee that we will not experience similar difficulties in the future. Factors that may affect our ability to recruit and retain personnel include: - our ability to effectively manage an expansion of our sales and technical support personnel and retain this personnel; and - competition for qualified personnel from larger, more established companies who have greater financial resources than we do. In 1996 and 1998, we suffered a material decline in sales growth due to turnover in our sales force. If we experience turnover in our sales force in the future, our operating results will suffer. Newly hired sales personnel generally do not become fully productive until they have worked for at least two quarters. Because of the time required to recruit new sales personnel and for them to become fully productive, we cannot quickly and easily expand our sales force in response to unanticipated events. THE SALES CYCLE FOR OUR PRODUCTS IS LONG AND MAY HARM OUR OPERATING RESULTS The period of time between initial customer contact and an actual sales order may span six months or more. This long sales cycle increases the risk that we will not forecast our revenue accurately and adjust our expenditures accordingly. The longer the sales cycle lasts, the more likely a customer is to decide not to purchase our products or to scale down its order of our products for various reasons, including: - changes in our customers' budgets and purchasing priorities; 17. 18 - actions by competitors, including introduction of new products and price reductions; and - diversion of resources and management's attention to other information technology issues, such as year 2000 issues. In addition, we often must provide a significant level of education to our prospective customers regarding the use and benefit of our products, which may cause additional delays during the evaluation process. IF WE DO NOT CONTINUE TO RECEIVE REPEAT BUSINESS FROM EXISTING CUSTOMERS, OUR REVENUE WILL SUFFER In 1998, we generated approximately 58% of our software license revenues from repeat business from existing customers. If we fail to generate repeat and expanded business from our customers, our revenues will suffer. Our ability to generate repeat business from current customers depends on many factors. Most of our current customers initially purchase a limited number of licenses as they implement and adopt our products. Even if the customer successfully uses our products, customers may not purchase additional licenses to expand the use of our products. Purchases of expanded licenses by these customers will depend on their success in deploying our products, their satisfaction with our products and support services and their perception of competitive alternatives. A customer's decision whether to widely deploy our products and purchase additional licenses may also be affected by factors that are outside of our control or which are not related to our products or services. In addition, as we deploy new versions of our products or introduce new product suites, our current customers may not require the functionality of our new products and may not ultimately license these products. INTENSE COMPETITION MAY CAUSE US TO REDUCE PRICES OR LOSE CUSTOMERS The markets for integrated Internet and enterprise software asset management solutions are intensely competitive, subject to rapid change and sensitive to new product introductions or enhancements and marketing efforts by industry participants. We expect to experience significant and increasing levels of competition in the future. Competition may result in price reductions, reduced margins or loss of customers which in turn could harm our profitability. Many of our existing competitors, as well as a number of potential competitors, have larger technical staffs, more established and larger marketing and sales organizations, and significantly greater financial resources than we do. Moreover, we have limited proprietary barriers to entry that could keep our competitors from developing similar products or selling competing products in our markets. We may not be able to maintain our competitive position against current or future competitors, especially those with greater resources. IF THE EMERGING MARKET FOR EASSET MANAGEMENT SOLUTIONS DOES NOT DEVELOP AS WE ANTICIPATE, OUR REVENUES MAY SUFFER We are expanding beyond our traditional software change management solution to provide our customers with e-asset management, which provides a more comprehensive, integrated solution to support broader needs. Potential customers may not fully appreciate the value of our comprehensive and integrated eAsset management solution as compared to traditional change management software. As a result, the eAsset management market generally may not develop and continue or grow as we anticipate. Any failure of this market to develop or grow would harm our revenues. 18. 19 CHANGES IN INTERNET TECHNOLOGY AND STANDARDS MAY IMPEDE MARKET ACCEPTANCE OF OUR INTERNET PRODUCTS Rapidly changing Internet technology and standards may impede market acceptance of new internet products. The success of internet products will require us to develop and introduce new technologies and product suites and to offer functionality that we do not currently provide. New internet product has been designed and the full e-asset management solution will be designed based upon prevailing Internet technology. If Internet technologies emerge that are incompatible with new Internet products we develop, our products may become obsolete and existing and potential new customers may seek alternatives to them. We may not be able to quickly adapt our products to new Internet technology. THE COSTS ASSOCIATED WITH OUR INTERNATIONAL OPERATIONS MAY NEGATIVELY IMPACT OUR OPERATING MARGINS During the nine months ended September 30, 1999, we derived approximately 46% from sales outside North America, principally in Europe. Our international operations require and will continue to require significant management attention and financial resources. If we fail to expand international sales in a timely and cost-effective manner, our operating margins will decrease. We believe that our growth and profitability will depend in part on additional expansion of sales in foreign markets. IF WE CANNOT MANAGE THE ADDITIONAL CHALLENGES PRESENTED BY OUR INTERNATIONAL OPERATIONS, OUR REVENUES AND PROFITABILITY MAY SUFFER We face additional challenges from our continued operations in foreign countries. Our revenues and profitability could suffer if we cannot manage these challenges, which include: - longer payment cycles; - difficulties in staffing and managing foreign operations; - increased sales and marketing and research and development expenses; - costs and risks of relying upon distributors; - various and changing regulatory requirements; - export restrictions and availability of export licenses; - tariffs and other trade barriers; - political and economic instability; and - potentially adverse tax laws. Foreign laws also govern a certain number of our customer purchase agreements, which may differ significantly from U.S. laws. Therefore, we may be limited in our ability to enforce our rights under foreign agreements and to collect payments should any customer refuse to pay us. 19. 20 FLUCTUATIONS IN THE VALUE OF FOREIGN CURRENCIES COULD RESULT IN CURRENCY TRANSACTION LOSSES Our international customers pay us in their local currencies. For the nine months ended September 30, 1999, we derived approximately 40% of our revenues in foreign local currencies. Consequently, any gains and losses on the conversion to U.S. dollars of accounts receivable and accounts payable arising from international operations may contribute to fluctuations in our operating results. Although we may utilize some hedging in the future, we currently do not utilize foreign currency hedging instruments. Historically foreign currency gains and losses have not been material to our financial performance. We cannot guarantee that fluctuations in currency rates will not harm our business, operating results and financial condition in the future. FAILURE TO MANAGE OUR GROWING OPERATIONS COULD INCREASE COSTS AND CAUSE DELAYS IN MEETING OUR BUSINESS OBJECTIVES We plan to increase business opportunities through an expansion of our distribution network in the United States and internationally. However, we cannot guarantee that the efforts and funds directed towards expanding our distribution network will succeed. Our failure to implement new operational and financial control systems to accommodate growth could increase costs and cause delays in meeting our objectives. Any future growth will also depend on, among other things, our ability to gain market acceptance for our products in new geographic areas and to monitor and control the additional costs and expenses associated with expansion. We cannot guarantee that we can successfully manage these aspects of our business. Any business opportunities will increase demands on our systems and controls. To deal with these concerns, we will need to implement a variety of new and upgraded operational and financial systems, procedures and controls and to hire additional administrative personnel. We cannot be sure that we can complete the implementation of these systems, procedures and controls or hire needed personnel in a timely manner. OUR PRODUCTS MAY BECOME OBSOLETE AND UNMARKETABLE The introduction of products utilizing new technologies and the emergence of new industry standards could render our existing products and products currently under development obsolete and unmarketable. The following factors characterize the markets for our products: - rapid technological advances; - evolving industry standards; - changes in end-user requirements; and - frequent new product introductions and enhancements. As a result, our future success depends upon our ability to enhance our current products and successfully develop, introduce and sell new products that incorporate new technology and respond to evolving end-user requirements. Any failure to anticipate or adequately respond to technological developments or end-user requirements, any significant delays developing or introducing new products, or any failure of new products or features to provide the benefits expected or to achieve market acceptance could damage our competitive position in the marketplace and reduce revenues. We cannot guarantee that we will succeed 20. 21 in developing and marketing new products or enhancements on a timely basis or that we will not experience significant delays in the future. SIGNIFICANT LIABILITY CLAIMS FROM OUR CUSTOMERS COULD REDUCE OUR REVENUES, INCREASE OUR COSTS AND DELAY MARKET ACCEPTANCE OF OUR PRODUCTS Because our software products are complex, they often contain errors or "bugs" that can be detected at any point in a product's life cycle. These defects are most frequently found during the period immediately following the introduction of new products or enhancements to existing products and may be discovered in the future. Software defects discovered after we ship our products could result in loss of revenues or delays in market acceptance. Although we do from time to time incur costs in correcting software defects, to date, no errors in our software products have materially affected our results of operations. Because we rely on our own products in connection with developing our software, any software errors or defects could make it more difficult for us to develop software in the future. We typically design our customer license agreements to contain provisions which limit our exposure to potential product liability claims. Specifically, in agreements with our customers we attempt to limit our liability for special and indirect damages, as well as damages related to the loss of data, revenue or profits. We also attempt to limit our liability to the contract price or the replacement cost of the software. However, we cannot guarantee that contractual limitations of liability would be enforceable or would otherwise protect us from liability for damages to a customer resulting from a defect in one of our products, or associated with the professional services we render. Although we maintain insurance which covers damages arising from the implementation and use of our products, we are not certain that our insurance would cover or be sufficient to cover any product liability claims against us. Moreover, we incur risks of professional and other liability stemming from our training and consulting services. Any product liability or other claims against us, if successful and of sufficient magnitude, could harm our profitability and future sales. IF WE CANNOT OBTAIN A COST-EFFECTIVE LICENSE TO AN APPROPRIATE DATABASE MANAGEMENT SYSTEM, OUR PROFITABILITY MAY SUFFER We rely upon a database management system developed by Informix Software, Inc., embedded in the Continuus Change Management Suite pursuant to a license that expires on December 31, 1999. The Informix system, which is an industry standard relational database engine, manages the repository database that contains all of the information about the eAssets managed by the Continuus Change Management Suite. We cannot be sure that Informix's product lines will continue to be available to us on commercially reasonable terms. If Informix is acquired or abandons or fails to enhance the database, we may need to seek other suppliers. A replacement system may not be available upon similar economic terms. An increase in the expense of a database management system could reduce our profitability. FUTURE ACQUISITIONS MAY DECREASE OUR PROFIT MARGINS BY CONSUMING RESOURCES Acquisitions can be expensive and time-consuming transactions. If we acquire businesses or technologies in future acquisitions, our resources may be diverted to completing the acquisitions and assimilating the acquired businesses or technologies. Our profit margins could be negatively affected by this consumption of resources. 21. 22 THE VALUE OF AN ACQUIRED BUSINESS OR TECHNOLOGY MAY DIMINISH FOLLOWING AN ACQUISITION We do not have significant experience at evaluating or completing acquisitions. If the value of a business or technology we acquire diminishes following an acquisition, our profitability could be harmed. The following occurrences may cause the value to diminish: - we might lose the key employees and customers of an acquired business; - the technology acquired may prove to be unproductive or may infringe on the rights of another; - a newly-acquired business may not perform as well as we expected; and - we may assume unknown liabilities. POTENTIAL YEAR 2000 PROBLEMS WITH OUR SOFTWARE OR OUR INTERNAL OPERATING SYSTEMS COULD INCREASE COSTS AND REDUCE REVENUES If any of our licensees experience year 2000 problems as a result of their use of our software products, those licensees could assert claims for damages which, if successful, could harm our profitability. We believe that current versions of our software products are generally year 2000 compliant. However, we may learn that certain of our software products do not contain all of the software routines and codes necessary for the accurate calculation, display, storage and manipulation of data involving dates. IF CUSTOMERS NEED TO INSTALL THE YEAR 2000 COMPLIANT VERSION OF CONTINUUS CHANGE MANAGEMENT SUITE BEFORE THE END OF 1999, OUR CONSULTING SERVICES MAY BE SIGNIFICANTLY AFFECTED Our ability to provide adequate levels of service to our customers may be affected by demands on our personnel which are related to year 2000 compliance. In June 1998, we issued a new version of the Continuus Change Management Suite that is year 2000 compliant. Approximately 90% of our customers have implemented the year 2000 compliant version to date. The needs of the remainder of our customers to implement the year 2000 compliant version by the end of 1999 may divert the attention of our consulting personnel. Our consulting personnel may be unable to adequately provide our standard services because of the need to address year 2000 compliance issues. Consequently, customer relations may be strained. OUR STOCK PRICE IS VOLATILE The stock market in general, and the Nasdaq National Market and the stock of software companies in particular, have experienced extreme price and volume fluctuations that have often been unrelated or disproportionate to a company's operating performance. The trading prices of many software companies' stocks are at or near historical highs and these trading prices and multiples are substantially above historical levels. The trading price of our common stock has fluctuated and may continue to fluctuate in response to factors described elsewhere in this Report and: - general market conditions; - announcements of technological innovations or new products; 22. 23 - publicity regarding actual or potential results with respect to technologies or products under development; - changes in recommendations of securities analysts; and - other events or factors, many of which are beyond our control. These broad market and industry factors may reduce our stock price, regardless of our actual operating performance. WE MAY BE SUBJECT TO LITIGATION DUE TO THE VOLATILITY OF OUR STOCK PRICE In the past, following periods of volatility in the market price of a company's securities, securities class-action litigation has often been instituted against volatile companies. Securities class-action litigation, if instituted, could result in substantial costs and a diversion of management's attention and resources, which would harm our profitability. SUBSTANTIAL FUTURE SALES OF OUR COMMON STOCK IN THE PUBLIC MARKET COULD CAUSE OUR STOCK PRICE TO FALL If our stockholders sell substantial amounts of our common stock in the public, the market price of our common stock could fall. Such sales also might make it more difficult for us to sell equity or equity-related securities in the future at a time and price that we deem appropriate. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK Our financial instruments include cash and long-term debt. At September 30, 1999, the carrying values of our financial instruments approximated their fair values based on current market prices and our incremental borrowing rate. We have not invested in derivative financial instruments. We have foreign currency exposure since we transact business in foreign currencies. However, foreign currency translation and transaction gains and losses have not been significant. A significant change in foreign currency values could harm our financial position and results of operations. PART II OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS We are not a party to any material legal proceedings. ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS Recent Sales of Unregistered Securities During the quarter ended September 30, 1999, we sold and issued the following securities which were not registered under the Securities Act of 1933: (1) During the period, 6,696 shares of common stock were issued pursuant to the exercise of stock options granted under our Employee Stock Option Plan. 23. 24 (2) During the period, 2,923 shares of common stock were issued pursuant to the exercise of stock options granted under the 1997 Equity Incentive Plan. (3) On August 31, 1999, we filed a Current Report on Form 8-K to report the issuance of 5,000 shares of our Series A Non-Voting Convertible Preferred Stock (the "Preferred Stock") to U.S. Bancorp Piper Jaffray Inc. ("Piper Jaffray") in exchange for 500,000 shares of our common stock (the "Piper Jaffray Exchange"). Piper Jaffray had owned in excess of 5% of our voting stock. The exchange of Preferred Stock for common stock reduced Piper Jaffray's common stock holdings to enable Piper Jaffray to satisfy the Bank Holding Company Act requirements that a bank holding company and its affiliates own less than 5% of the voting stock of a publicly trade corporation. Each share of Preferred Stock is convertible into 100 shares of our common stock. The Preferred Stock does not have voting rights or a liquidation or redemption preference. The Preferred Stock has the same right to dividends as the common stock. The sale of stock options described in paragraphs (1) and (2) above were deemed to be exempt from registration under the Securities Act of 1933 by virtue of Rule 701 promulgated thereunder in that they were offered and sold either pursuant to written compensatory benefit plans or pursuant to a written contract relating to compensation, as provided by Rule 701. The exchange of securities in the transactions described in paragraph (3) above was deemed to be exempt from registration under the Securities Act of 1933 by virtue of Section 3(a)(9). On July 28, 1999, our Form S-1 registration statement (File No. 333-76893) was declared effective by the Securities and Exchange Commission. The registration statement, as amended, covered the offering of 2,523,642 shares of our common stock, $.001 par value. The offering commenced on July 29, 1999 and the sale to the public of 2,523,642 shares of common stock at $8.00 per share was completed on August 3, 1999 for an aggregate price of approximately $20.2 million. The registration statement covered an additional 378,546 shares of common stock that the underwriters had the option to purchase solely to cover over-allotments. These share were not purchased and were cancelled. The managing underwriters for the offering were U.S. Bancorp Piper Jaffray Inc. and CIBC World Markets Corp. Expenses we incurred through July 29, 1999 in connection with the issuance and distribution of common stock in the offering included underwriting discounts, commissions and allowances of approximately $1.41 million and other expenses of approximately $1.36 million. Total offering expenses of approximately $2.77 million resulted in net offering proceeds to Continuus of approximately $17.4 million. No expenses were paid to directors, officers or affiliates of Continuus or 10% owners of any class of equity securities of Continuus. Of the net offering proceeds to the Company of approximately $17.4 million, through September 30, 1999, the entire amount remains as working capital. No payments were made to directors, officers or affiliates of Continuus or 10% owners of any class of equity securities of Continuus. 24. 25 ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K A) EXHIBITS: 11.1 Computation of net income (loss) per share 27.1 Financial Data Schedule B) REPORTS ON FORM 8-K: On August 31, 1999, we filed a Current Report on Form 8-K to report the Piper Jaffray Exchange. No financial statements were filed with this report 25. 26 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. CONTINUUS SOFTWARE CORPORATION Date: November 15 1999 By: /s/ John R. Wark ------------------------------------ John R. Wark President, Chief Executive Officer and Chairman of the Board of Directors (Principal Executive Officer) Date: November 15, 1999 By: /s/ Steven L. Johnson ------------------------------------ Steven L. Johnson Vice President, Finance, Chief Financial Officer and Secretary (Principal Financial and Accounting Officer) 26. EX-11.1 2 EXHIBIT 11.1 1 EXHIBIT 11.1 COMPUTATION OF NET INCOME (LOSS) PER SHARE
Three months ended Nine months ended ------------------------------------------ EPS CALCULATION AS OF SEPTEMBER 30, 1998 Shares issued and outstanding at June 30, 1998 and December 31, 1997 1,618,060 1,604,202 Weighted average shares from options exercised during the period 5,846 10,348 ------------------------------------------ Weighted average common shares - basic and diluted 1,623,906 1,614,550 Net loss at September 30, 1998 $(1,894,586) $(3,669,621) Net loss per share - basic and diluted (1.17) (2.27) ==========================================
Three months ended Nine months ended ------------------------------------------------------- EPS CALCULATION AS OF SEPTEMBER 30, 1999 Shares issued and outstanding at June 30, 1999 and December 31, 1998 1,690,400 1,630,250 Options issued during period 8,364 46,699 Issuance of common stock from IPO (7/29/99) 1,755,577 1,811,156 Conversion of p/s from IPO (7/29/99) 2,995,794 Issuance of common stock from IPO warrants (7/29/99) 623,037 Conversion of c/s to p/s (8/31/99) (184,783) (62,271) ------------------------------------ Weighted average common shares - basic 6,888,389 3,425,834 Incremental shares from assumed conversion: Conversion of p/s to c/s (7/29/99) 1,310,660 IPO Warrants (7/29/99) 272,578 Preferred Stock (7/29/99) 184,783 Options 2,158,568 Proceeds 4,365,732 Assumed buyback $ 6.49 ------------ Shares boughtback 672,686 1,485,882 Warrants 124,096 Proceeds 507,203 Assumed buyback $ 6.49 ------------ Shares boughtback 78,151 45,945 ------------------------------------ Weighted average common shares - diluted 10,188,237 3,425,834 Net income (loss) at September 30, 1999 $ 280,314 $ (139,629) Net income/(loss) per share - basic 0.04 (0.04) ==================================== Net income/(loss) per share - diluted 0.03 (0.04) ====================================
EX-27.1 3 EXHIBIT 27.1
5 THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM FINANCIAL STATEMENTS FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1999 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS. 1,000 9-MOS DEC-31-1999 JAN-01-1999 SEP-30-1999 17,490 4,497 8,242 365 0 30,768 6,446 4,577 33,477 12,686 0 0 4,000 33,965 (23,489) 33,477 14,304 26,703 470 6,845 19,378 80 636 (132) 8 0 0 0 0 (140) (0.04) (0.04)
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