-----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, OGv2RpT+aTOeAEkFyPXMDpoU7IUpThl3utH6TyPRgg6RhSHOU0kMXplVhjUqaHC9 TKBfoG4cIAQtehSvL1SH5Q== 0001050446-00-000018.txt : 20000922 0001050446-00-000018.hdr.sgml : 20000922 ACCESSION NUMBER: 0001050446-00-000018 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 4 CONFORMED PERIOD OF REPORT: 20000630 FILED AS OF DATE: 20000814 DATE AS OF CHANGE: 20000906 FILER: COMPANY DATA: COMPANY CONFORMED NAME: MICROSTRATEGY INC CENTRAL INDEX KEY: 0001050446 STANDARD INDUSTRIAL CLASSIFICATION: 7372 IRS NUMBER: 510323571 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 000-24435 FILM NUMBER: 701587 BUSINESS ADDRESS: STREET 1: 8000 TOWERS CRESCENT DR CITY: VIENNA STATE: VA ZIP: 22182 BUSINESS PHONE: 7038488600 MAIL ADDRESS: STREET 1: 8000 TOWERS CRESCENT DR CITY: VIENNA STATE: VA ZIP: 22182 10-Q 1 0001.txt FORM 10-Q PE 6/30/2000 SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q |X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the Quarterly Period Ended June 30, 2000 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 000-24435 MICROSTRATEGY INCORPORATED (Exact name of registrant as specified in its charter) Delaware (State of incorporation) 8000 Towers Crescent Drive, Vienna, VA (Address of Principal Executive Offices) 22182 (Zip Code) 51-0323571 (I.R.S. Employer Identification Number) Registrant's telephone number, including area code: (703) 848-8600 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 of the registrant's Class A common stock and Class B common stock outstanding on August 1, 2000 was 24,749,285 and 55,164,115, respectively. MICROSTRATEGY INCORPORATED FORM 10-Q TABLE OF CONTENTS Page PART I. FINANCIAL INFORMATION Item 1. Financial Statements Consolidated Balance Sheets as of June 30, 2000 (unaudited) and December 31, 1999......................................... 1 Consolidated Statements of Operations For the Three Months Ended June 30, 2000 and 1999 (unaudited)...................... 2 Consolidated Statements of Operations For the Six Months Ended June 30, 2000 and 1999 (unaudited) ........................... 3 Consolidated Statements of Cash Flows For the Six Months Ended June 30, 2000 and 1999 (unaudited)............................ 4 Notes to Consolidated Financial Statements (unaudited)........ 5 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations..................................... 13 Item 3. Quantitative and Qualitative Disclosures About Market Risk.... 35 PART II.OTHER INFORMATION Item 1. Legal Proceedings............................................. 36 Item 2. Changes in Securities and Use of Proceeds..................... 36 Item 4. Submission of Matters to a Vote of Security Holders........... 37 Item 6. Exhibits and Reports on Form 8-K.............................. 38 PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS MICROSTRATEGY INCORPORATED CONSOLIDATED BALANCE SHEETS (in thousands, except per share data)
June 30, December 31, 2000 1999 ---- ---- (unaudited) Assets Current assets: Cash and cash equivalents.......................... $ 93,823 $ 25,941 Restricted cash.................................... 28,600 --- Short-term investments............................. 6,208 42,418 Accounts receivable, net........................... 40,716 37,586 Prepaid expenses and other current assets.......... 16,041 15,461 -------- -------- Total current assets.............................. 185,388 121,406 Property and equipment, net.......................... 54,154 30,594 Intangible assets, net of accumulated amortization of $8,651 and $503, respectively...................... 43,078 47,154 Deposits and other assets............................ 5,057 4,214 -------- -------- Total assets...................................... $287,677 $203,368 ======== ======== Liabilities and Stockholders' Equity Current liabilities: Accounts payable and accrued expenses.............. $ 46,656 $ 15,357 Accrued compensation and employee benefits......... 16,025 14,912 Deferred revenue and advance payments.............. 69,262 38,028 -------- -------- Total current liabilities......................... 131,943 68,297 Deferred revenue and advance payments................ 10,611 33,255 Other long-term liabilities.......................... 2,710 --- -------- -------- Total liabilities................................. 145,264 101,552 -------- -------- Commitments and contingencies Series A convertible preferred stock, par value $0.001 per share, 18 shares authorized, 13 shares issued and outstanding ............................ 119,794 --- Stockholders' equity: Preferred stock undesignated, par value $0.001 per share, 4,982 shares authorized; no shares issued or outstanding .................................. --- --- Class A common stock, par value $0.001 per share, 330,000 shares authorized; 24,680 and 22,384 shares issued and outstanding, respectively...... 25 22 Class B common stock, par value $0.001 per share, 165,000 shares authorized; 55,164 and 55,867 shares issued and outstanding, respectively...... 55 56 Additional paid-in capital......................... 145,987 138,943 Accumulated other comprehensive income............. 256 1,643 Deferred compensation.............................. (759) (895) Accumulated deficit................................ (122,945) (37,953) -------- -------- Total stockholders' equity........................ 142,413 101,816 -------- -------- Total liabilities and stockholders' equity........ $287,677 $203,368 ======== ========
The accompanying notes are an integral part of these Consolidated Financial Statements. 1 MICROSTRATEGY INCORPORATED CONSOLIDATED STATEMENTS OF OPERATIONS For the Three Months Ended June 30, 2000 and 1999 (in thousands, except per share data)
Three Months Ended June 30, 2000 1999 ---- ---- (unaudited) (unaudited) Revenues: Product licenses..................................... $ 21,829 $ 25,177 Product support and other services................... 28,515 15,288 -------- -------- Total revenues..................................... 50,344 40,465 Cost of revenues: Product licenses..................................... 392 563 Product support and other services................... 21,776 7,906 -------- -------- Total cost of revenues............................. 22,168 8,469 -------- -------- Gross profit........................................... 28,176 31,996 -------- -------- Operating expenses: Sales and marketing.................................. 38,343 21,125 Research and development............................. 15,813 6,088 General and administrative........................... 17,385 5,316 Amortization of intangible assets.................... 4,242 20 -------- -------- Total operating expenses........................... 75,783 32,549 -------- -------- Loss from operations................................... (47,607) (553) Interest income........................................ 441 671 Interest expense....................................... (7) (51) Other expense, net..................................... (4,969) (14) -------- -------- (Loss) income before income taxes...................... (52,142) 53 Provision for income taxes............................. --- 56 -------- -------- Net loss............................................... $(52,142) $ (3) -------- -------- Accrued preferred stock dividends...................... $ (312) $ --- Beneficial conversion feature.......................... $(19,375) $ --- -------- -------- Net loss attributable to common stockholders........... $(71,829) $ (3) ======== ======== Basic and diluted net loss per share................... $ (0.90) $ (0.00) ======== ======== Weighted average shares used in computing basic and diluted net loss per share............................. 79,757 76,052 ======== ========
The accompanying notes are an integral part of these Consolidated Financial Statements. 2 MICROSTRATEGY INCORPORATED CONSOLIDATED STATEMENTS OF OPERATIONS For the Six Months Ended June 30, 2000 and 1999 (in thousands, except per share data)
Six Months Ended June 30, 2000 1999 ---- ---- (unaudited) (unaudited) Revenues: Product licenses..................................... $ 47,840 $ 41,595 Product support and other services................... 53,119 28,192 -------- -------- Total revenues..................................... 100,959 69,787 Cost of revenues: Product licenses..................................... 997 1,083 Product support and other services................... 37,537 14,515 -------- -------- Total cost of revenues............................. 38,534 15,598 -------- -------- Gross profit........................................... 62,425 54,189 -------- -------- Operating expenses: Sales and marketing.................................. 79,855 37,879 Research and development............................. 32,013 11,149 General and administrative........................... 29,503 9,549 Amortization of intangible assets.................... 8,148 40 -------- -------- Total operating expenses........................... 149,519 58,617 -------- -------- Loss from operations................................... (87,094) (4,428) Interest income........................................ 901 1,175 Interest expense....................................... (10) (143) Other income, net...................................... 1,461 32 -------- -------- Loss before income taxes............................... (84,742) (3,364) Provision for income taxes............................. 250 443 -------- -------- Net loss............................................... $(84,992) $ (3,807) -------- -------- Accrued preferred stock dividends...................... $ (312) --- Beneficial conversion feature.......................... $(19,375) $ --- -------- -------- Net loss attributable to common stockholders........... $(104,679) $ (3,807) ========= ======== Basic and diluted net loss per share................... $ (1.32) $ (0.05) ========= ======== Weighted average shares used in computing basic and diluted net loss per share............................. 79,321 74,926 ========= ========
The accompanying notes are an integral part of these Consolidated Financial Statements. 3 MICROSTRATEGY INCORPORATED CONSOLIDATED STATEMENTS OF CASH FLOWS For the Six Months Ended June 30, 2000 and 1999 (in thousands)
Six Months Ended June 30, 2000 1999 ---- ---- (unaudited) (unaudited) Operating activities: Net loss............................................. $(84,992) $ (3,807) Adjustments to reconcile net loss to net cash used in operating activities: Depreciation and amortization...................... 14,252 2,855 Provision for doubtful accounts.................... 2,004 773 Amortization of deferred compensation.............. 136 134 Gain on sale of short-term investments............. (1,356) --- Changes in operating assets and liabilities: Accounts receivable.............................. (5,442) (2,236) Prepaid expenses and other current assets........ 429 (1,454) Deposits and other assets........................ (2,994) (85) Accounts payable and accrued expenses, compensation and benefits................................... 34,167 (285) Deferred revenue and advance payments............ 1,665 3,558 Other long-term liabilities...................... 1,508 --- -------- -------- Net cash used in operating activities............. (40,623) (547) -------- -------- Investing activities: Purchases of property and equipment.................. (28,032) (10,469) Purchases of short-term investments.................. (1,496) (22,491) Maturities of short-term investments................. 5,500 3,000 Proceeds from sale of short-term investments......... 38,388 --- Increase in restricted cash.......................... (28,600) --- Purchases of intangible assets....................... (2,428) --- -------- -------- Net cash used in investing activities............. (16,668) (29,960) -------- -------- Financing activities: Proceeds from sale of Class A common stock and exercise of stock options, net of offering costs... 5,758 43,236 Proceeds from sale of Series A convertible preferred stock, net of offering costs............. 119,794 --- Payments of dividend notes payable................... --- (5,000) ------- -------- Net cash provided by financing activities......... 125,552 38,236 -------- -------- Effect of foreign exchange rate changes on cash and cash equivalents............................ (379) (427) -------- -------- Net increase in cash and cash equivalents.............. 67,882 7,302 Cash and cash equivalents, beginning of period......... 25,941 27,491 -------- -------- Cash and cash equivalents, end of period............... $ 93,823 $ 34,793 ======== ======== Supplemental disclosure of noncash investing and financing activities: Change in unrealized gain on short-term investments, net of tax ....................................... $ (1,266) $ (74) ======== ======== Stock received in exchange for products and services $ 5,974 $ --- ======== ======== Issuance of Class A common stock related to consulting services agreement..................... $ 1,600 $ --- ======== ======== Supplemental disclosure of cash flow information: Cash paid during the period for interest............ $ 8 $ 87 ======== ======== Cash paid during the period for income taxes........ $ 86 $ 500 ======== ========
The accompanying notes are an integral part of these Consolidated Financial Statements. 4 MICROSTRATEGY INCORPORATED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited) (1) Basis of Presentation The consolidated balance sheet of MicroStrategy Incorporated as of June 30, 2000, the related consolidated statements of operations for the three and six months ended June 30, 2000 and 1999, and the consolidated statements of cash flows for the six months ended June 30, 2000 and 1999 are unaudited. In the opinion of management, all adjustments (consisting of normal recurring items) necessary for a fair presentation of such financial statements have been included. Interim results are not necessarily indicative of results for a full year. The consolidated financial statements and notes are presented as required by Form 10-Q and do not contain certain information included in the Company's annual financial statements and notes. These financial statements should be read in conjunction with the Company's audited financial statements and the notes thereto filed with the Securities and Exchange Commission ("SEC") in the Company's Annual Report on Form 10-K for the year ended December 31, 1999. Certain amounts in the prior year consolidated financial statements have been reclassified to conform to the current year presentation. (2) Restatement of Financial Statements Subsequent to the filing of a registration statement on Form S-3 with the SEC in the first quarter of 2000 which included the Company's audited financial statements for the years ended December 31, 1999, 1998 and 1997, the Company became aware that the timing and amount of reported earned revenues from license transactions in 1999, 1998 and 1997 required revision. As discussed in the Company's Annual Report on Form 10-K for the year ended December 31, 1999 in Note 3 of the Notes to Consolidated Financial Statements, these revisions primarily addressed the recognition of revenue for certain software arrangements which should be accounted for under the subscription method or the percentage of completion method, which spread the recognition of revenue over the entire contract period. The effect of these revisions is to defer the time in which revenue is recognized for large, complex contracts that combine both products and services. These revisions also resulted in a substantial increase in the amount of deferred revenue reflected on the Company's balance sheet as of December 31, 1999. The Company subsequently reviewed license agreements executed near the end of the quarter ended June 30, 1999 and determined that revisions to its reported revenues for the quarter ended June 30, 1999 were necessary, primarily to ensure that all agreements for which the Company was recognizing revenue in a reporting period were executed by both parties no later than the end of the reporting period in which the revenue is recognized. The effect of all revisions for the three and six months ended June 30, 1999 was to reduce total revenues by $5.2 million and $11.6 million, respectively. Additionally, the Company also made certain revisions to its balance sheet as of December 31, 1999. These revisions are discussed in the Company's Annual Report on Form 10-K for the year ended December 31, 1999 in Note 3 of the Notes to Consolidated Financial Statements. Accordingly, such financial statements for the periods presented in this Form 10-Q have been restated as follows (in thousands, except per share data): 5
Three Months Ended Six Months Ended June 30, 1999 June 30, 1999 ------------- ------------- As Reported Restated As Reported Restated ----------- -------- ----------- -------- Statements of Operations Data Revenues: Product licenses............ $ 31,057 $ 25,177 $ 54,181 $ 41,595 Product support and other services ................. 14,581 15,288 27,241 28,192 Income (loss) from operations. 4,573 (553) 7,114 (4,428) Provision for income taxes ... 1,968 56 3,108 443 Net income (loss)............. 3,211 (3) 5,070 (3,807) Net income (loss) per share: Basic....................... $ 0.04 $ (0.00) $ 0.07 $ (0.05) Diluted..................... $ 0.04 $ (0.00) $ 0.06 $ (0.05)
(3) Recent Accounting Pronouncements In December 1999, the SEC released Staff Accounting Bulletin ("SAB") No. 101, "Revenue Recognition in Financial Statements," which provides guidance on the recognition, presentation and disclosure of revenue in financial statements filed with the SEC. Subsequently, the SEC released SAB 101A, which delayed the implementation date of SAB 101 for registrants with fiscal years that begin between December 16, 1999 and March 15, 2000. In June 2000, the SEC issued SAB 101B, further delaying the required implementation of SAB 101 by the Company until the fourth quarter of fiscal year 2000. The Company does not expect the application of SAB 101 to have a material impact on its financial position or results of operations. In March 2000, the Financial Accounting Standards Board ("FASB") issued FASB Interpretation ("FIN") No. 44, "Accounting for Certain Transactions Involving Stock Compensation - An Interpretation of APB Opinion No. 25." FIN 44 clarifies the application of APB Opinion No. 25 and, among other issues, clarifies the following: the definition of an employee for purposes of applying APB Opinion No. 25; the criteria for determining whether a plan qualifies as a non-compensatory plan; the accounting consequence of various modifications to the terms of previously fixed stock options or awards; and the accounting for an exchange of stock compensation awards in a business combination. FIN 44 is effective July 1, 2000, but certain conclusions in FIN 44 cover specific events that occurred after either December 15, 1998 or January 12, 2000. The Company does not expect the application of FIN 44 to have a material impact on its financial position or results of operations. In June 1999, FASB issued Statement of Financial Accounting Standards ("SFAS") No. 137, which delays the effective date of SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities," which will be effective for our fiscal year 2001. This statement establishes accounting and reporting standards requiring that every derivative instrument, including certain derivative instruments embedded in other contracts, be recorded in the balance sheet as either an asset or liability measured at its fair value. The statement also requires that changes in the derivative's fair value be recognized in earnings unless specific hedge accounting criteria are met. The Company does not expect the adoption of SFAS Nos. 133 and 137 to have a material impact on its financial position or results of operations. (4) Short-term Investments In December 1999, the Company received 824,742 shares (adjusted for a two-for-one stock split) of Exchange Applications stock valued at $21.5 million, in consideration for the sale of MicroStrategy software, technical support and consulting services. In March 2000, the Company sold 412,372 of these shares at an average price of $41.72 per share, which resulted in a realized gain of $6.4 million. 6 During May 2000, the Company sold its economic interest in the remaining 412,370 shares of Exchange Applications stock to a financial institution for $5.8 million, from which the Company recognized a realized loss of $4.9 million. Overall, the Company has sold all of its economic interest in the shares it received in December 1999 for a total net realized gain of $1.5 million. Also during the quarter, the Company sold certain other securities, which resulted in a realized loss of $137,000. On June 30, 2000, the Company received an additional 224,359 shares of Exchange Applications stock, valued at $6.0 million, in consideration for the sale of MicroStrategy software, technical support and consulting services. (5) Accounts Receivable Accounts receivable, net of allowances, consist of the following, as of (in thousands):
June 30, December 31, 2000 1999 ---- ---- Billed and billable.................... $ 82,142 $ 66,181 Less deferred revenue.................. (36,093) (25,266) -------- -------- 46,049 40,915 Less allowance for doubtful accounts .. (5,333) (3,329) -------- -------- $ 40,716 $ 37,586 ======== ========
(6) Consulting Services Agreement In June 2000, the Company entered into a consulting services agreement with the controlling stockholder of a software integrator. The agreement requires the controlling stockholder to refer the employees of the software integrator to the Company and also to perform certain management services for the Company. In exchange for these services, the Company issued 57,143 shares of Class A common stock to the controlling stockholder, which had a value of $1.6 million as of the consummation date and which are restricted until registered with the SEC. The Company will issue up to $3.4 million in additional shares of Class A common stock over the next two years at the then current market price of the Class A common stock on the date of issuance based on an agreed upon formula including revenue and attrition objectives. The Company has recorded $1.5 million, net of $51,000 in amortization expense, related to the first installment as deferred consulting costs. The first installment will be amortized over two years, the duration of the management services. (7) Bank Borrowings In March 1999, the Company entered into a line of credit agreement with a commercial bank, which provided for a $25.0 million unsecured revolving line of credit for general working capital purposes. On May 15, 2000, the Company entered into a modification of the line of credit agreement, which, among other things, increased the line to include an additional letter of credit, removed any financial covenants and cured any financial covenant defaults. The line of credit is secured by $28.6 million of cash and cash equivalents, which is classified as restricted cash on the balance sheet. The cash is restricted through May 31, 2001, the expiration of the agreement. The modified line of credit bears interest at LIBOR plus 1.75%, includes a 0.2% unused line of credit fee, and requires monthly payments of interest. As of June 30, 2000, after consideration of outstanding letters of credit, the Company had $21.2 million of borrowing capacity under this credit line. 7 (8) Deferred Revenue and Advance Payments Deferred revenue and advance payments from customers consist of the following, as of (in thousands):
June 30, December 31, 2000 1999 ---- ---- Current: Deferred product revenue............... $ 48,634 $ 38,164 Deferred product support and other services revenue..................... 46,352 24,267 -------- -------- 94,986 62,431 Less amount in accounts receivable..... (25,724) (24,403) -------- -------- $ 69,262 $ 38,028 ======== ======== Non-current: Deferred product revenue............... $ 10,015 $ 9,461 Deferred product support and other services revenue..................... 10,965 24,657 -------- -------- 20,980 34,118 Less amount in accounts receivable..... (10,369) (863) -------- -------- $ 10,611 $ 33,255 ======== ========
(9) Commitments and Contingencies The Company has $2.6 million in commitments relating to a software, data and consulting agreement, which terminates in 2003, and $1.0 million in commitments with content providers which extend through 2002. In April 2000, the Company entered into an agreement to lease additional office space. Total commitments under the lease, which expires in 2005, are approximately $540,000. (10) Litigation The Company and certain of our officers and directors are defendants in a private securities class action lawsuit alleging that we have violated Section 10(b) of the Securities Exchange Act of 1934, as amended (the "Exchange Act"), Rule 10(b) (5) promulgated thereunder, and section 20(a) and section 20A of the Exchange Act. The complaint does not specify the amount of the damages sought. Accordingly, the Company is unable to determine or estimate the outcome at this time. In June 2000, purported holders of our common stock filed a shareholder derivative lawsuit in the Delaware Court of Chancery seeking recovery for various alleged breaches of fiduciary duties by certain of our directors and officers relating to our restatement of financial results. We have not answered or otherwise responded to the derivative complaint. It is possible that the Company may be required to pay substantial damages or settlement costs which could have a material adverse effect on the Company's financial condition or results of operations. The Company intends to defend the matters vigorously. In March 2000, the Company was notified that the SEC had issued a formal order of private investigation in connection with matters relating to the Company's restatement of its financial results. The SEC has requested that the Company provide the SEC with certain documents concerning the Company's revision of its financial results and financial reporting documents. The SEC indicated that its inquiry should not be construed as an indication by the SEC or its staff that any violation of law has occurred, nor as an adverse reflection upon any person, entity or security. The Company is cooperating with the SEC in connection with this investigation and its outcome cannot yet be determined. The Company is also involved in other legal proceedings through the normal course of business. Management believes that any unfavorable outcome related to these other proceedings will not have a material effect on the Company's financial position, results of operations or cash flows. 8 (11) Convertible Preferred Stock On June 19, 2000, the Company issued 12,500 shares of its Series A convertible preferred stock in a private placement to institutional investors for $119.8 million, net of estimated closing costs of $5.2 million. Dividends are payable quarterly at a rate of 7% per annum, in cash or in shares of Class A common stock. The convertible preferred stock is currently convertible into 3,744,152 shares of Class A common stock based on the current conversion price of $33.39 per share. The conversion price may be adjusted at certain future dates dependent upon the trading price of the Class A common stock and an agreed upon formula. The convertible preferred stock is also redeemable upon certain triggering events such as failure of the registration statement to be declared effective on or before the first anniversary of the initial issuance date and other events as defined in the Certificate of Designations, Preferences and Rights of the Series A Convertible Preferred Stock. The Company recorded a $19.4 million charge attributable to the beneficial conversion feature of the Series A convertible preferred stock based on the difference between the fair market value of the Class A common stock on the closing date of the private placement and the conversion rate. The conversion rate was computed based on the volume weighted average price of the stock for the 17 trading days subsequent to the closing date in accordance with the Certificate of Designations, Preferences and Rights of the Series A Convertible Preferred Stock. The Company has accrued dividends of $312,000 during the three months ended June 30, 2000. (12) Comprehensive Loss Comprehensive loss includes foreign currency translation adjustments and unrealized gains and losses on short-term investments, net of related tax effects, that have been excluded from net loss and reflected in stockholders' equity as accumulated other comprehensive income. Comprehensive loss for the three and six months ended June 30, 2000 and 1999 is calculated as follows (in thousands):
Three Months Ended Six Months Ended June 30, June 30, 2000 1999 2000 1999 ---- ---- ---- ---- Net loss...................... $(52,142) $ (3) $(84,992) $(3,807) Foreign currency translation gain (loss)................. 258 (273) (121) (608) Unrealized loss on short-term investments, net of applicable taxes ...................... (10,837) (74) (1,266) (74) -------- ------- -------- ------- Total comprehensive loss...... $(62,721) $ (350) $(86,379) $(4,489) ======== ======= ======== =======
(13) Basic and Diluted Net Loss Per Share Basic net loss per share is determined by dividing the net loss applicable to common stockholders by the weighted average number of common shares outstanding during the period. Diluted net loss per share is determined by dividing the net loss applicable to common stockholders by the weighted average number of common shares and potential common shares outstanding during the period. Potential common shares are included in the diluted net loss per share calculation when dilutive. Potential common shares consisting of common stock issuable upon exercise of outstanding common stock options, convertible preferred stock and warrants are computed using the treasury stock method. The Company's net loss per share calculation for basic and diluted is based on the weighted average common shares outstanding. There are no reconciling items in the numerator and denominator of the Company's net loss per share calculation. Employee stock options of 15,241,056 and 11,572,918 and warrants of 78,334 and 114,000 for the three and six month periods ended June 30, 2000 and 1999, respectively, have been excluded from the net loss per share calculation because their effect would be anti-dilutive. Additionally, Series A preferred stock, which is convertible 9 into 3,744,152 shares of Class A common stock, was excluded from the net loss per share calculation for the three and six months ended June 30, 2000 because their effect would be anti-dilutive. (14) Segment Information The Company applies provisions of SFAS No. 131, "Disclosure about Segments of an Enterprise and Related Information." SFAS No. 131 requires certain disclosures about operating segments, products and services, geographic areas, and major customers. The method for determining what information to report is based on the way that management organizes the operating segments within the Company for making operational decisions and assessments of financial performance. The Company's chief operating decision maker is considered to be the Company's CEO. The CEO reviews financial information presented on a consolidated basis accompanied by disaggregated information about revenues by operating segments for purposes of making operating decisions and assessing financial performance. The Company has two operating segments, MicroStrategy Platform and Strategy.com. MicroStrategy Platform provides scalable, sophisticated and maintainable solutions that enable businesses to develop and deploy intelligent e-business systems. Revenues are derived from sales of product licenses and product support and other services, including technical support, education and consulting and hosting services. Strategy.com delivers personalized information to consumers through its personal intelligence network via the web, wireless applications, protocol-enabled devices, e-mail, mobile phone, fax, pager and regular telephone. Strategy.com syndicates its channels through network affiliates and offers them to consumers directly through its website. Revenues are derived from network affiliate fees, OEM and subscription fees, royalty fees, advertising fees, hosting fees, and transaction fees. The Company began operating its business as two segments in the latter part of 1999. Revenues were recognized for Strategy.com beginning in 2000. Prior years' segment information has been restated to reflect the operations of Strategy.com. The accounting policies of both segments are the same as those described in the summary of significant accounting policies in the Company's Annual Report on Form 10-K for the year ended December 31, 1999. Certain corporate support costs are allocated to Strategy.com based on factors such as headcount, gross asset value and the specific level of activity directly related to such costs. 10 The following summary discloses certain financial information regarding the Company's operating segments (in thousands):
MicroStrategy Platform Strategy.com Consolidated -------- ------------ ------------ Three Months Ended June 30, 2000 Total license and service revenues $ 49,200 $ 1,144 $ 50,344 Gross profit...................... 28,214 (38) 28,176 Depreciation and amortization..... 7,111 1,010 8,121 Operating expenses................ 63,895 11,888 75,783 Loss from operations.............. (35,681) (11,926) (47,607) Total assets...................... 273,464 14,213 287,677 Three Months Ended June 30, 1999 Total license and service revenues $ 40,465 $ --- $ 40,465 Gross profit...................... 31,996 --- 31,996 Depreciation and amortization..... 1,369 96 1,465 Operating expenses................ 31,439 1,110 32,549 Loss from operations.............. 557 (1,110) (553) Total assets...................... 110,893 1,961 112,854
MicroStrategy Platform Strategy.com Consolidated -------- ------------ ------------ Six Months Ended June 30, 2000 Total license and service revenues $ 99,702 $ 1,257 $100,959 Gross profit...................... 62,557 (132) 62,425 Depreciation and amortization..... 12,471 1,781 14,252 Operating expenses................ 126,247 23,272 149,519 Loss from operations.............. (63,690) (23,404) (87,094) Total assets...................... 273,464 14,213 287,677 Six Months Ended June 30, 1999 Total license and service revenues $ 69,787 $ --- $ 69,787 Gross profit...................... 54,189 --- 54,189 Depreciation and amortization..... 2,739 116 2,855 Operating expenses................ 57,064 1,553 58,617 Loss from operations.............. (2,875) (1,553) (4,428) Total assets...................... 110,893 1,961 112,854
The following summary discloses total revenues and long-lived assets, excluding long-term deferred tax assets, relating to the Company's geographic regions (in thousands):
Domestic International Consolidated -------- ------------- ------------ Three Months Ended June 30, 2000 Total license and service revenues $ 39,246 $ 11,098 $ 50,344 Long-lived assets................. 99,294 2,995 102,289 Three Months Ended June 30, 1999 Total license and service revenues $ 33,254 $ 7,211 $ 40,465 Long-lived assets................. $ 22,010 $ 1,935 $ 23,945
11
Domestic International Consolidated -------- ------------- ------------ Six Months Ended June 30, 2000 Total license and service revenues $ 78,431 $ 22,528 $100,959 Long-lived assets................. 99,294 2,995 102,289 Six Months Ended June 30, 1999 Total license and service revenues $ 54,964 $ 14,823 $ 69,787 Long-lived assets................. $ 22,010 $ 1,935 $ 23,945
Transfers of $1.8 million and $1.4 million for the three months ended June 30, 2000 and 1999, respectively, and transfers of $4.3 million and $3.1 million for the six months ended June 30, 2000 and 1999, respectively, from international to domestic operations have been excluded from the above table and eliminated in the consolidated financial statements. 12 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Overview We are a leading worldwide provider of intelligent e-business software and related services that enable the transaction of one-to-one electronic business through web, wireless and communication channels. Our product line enables both proactive and interactive delivery of information from large-scale databases. Our objective is to provide the largest 2000 enterprises in the world, leading Internet businesses and high-volume data providers with a software platform to develop solutions that deliver insight and intelligence to their enterprises, customers and supply-chain partners. Our software platform enables users to query and analyze the most detailed, transaction-level databases, turning data into business intelligence. In addition to supporting internal enterprise users, the platform delivers critical business information beyond corporate boundaries to customers, partners and supply chain constituencies through a broad range of communication channels such as the Internet, e-mail, telephones and wireless communications devices. Our platform is ideal for developing e-business solutions that are personalized and proactive and that reach millions of users. We also offer a comprehensive set of consulting, education and technical support services for our customers and partners. In July 1999, we launched a new business unit called Strategy.com. Strategy.com is our personal intelligence network, a new form of media that brings speed to transactions by actively delivering highly personalized, relevant and timely information to individuals through a wide variety of delivery methods, including e-mail, telephone and wireless devices. The Strategy.com network leverages the MicroStrategy software platform and is organized around a suite of information channels. The network currently operates Finance, News and Weather Channels and plans to launch additional information channels in the future. Strategy.com syndicates its channels through other companies that serve as network affiliates and network associates, which we refer to collectively as affiliates. Affiliates offer the Strategy.com channels and services on a co-branded basis directly to their customers and in turn share with Strategy.com a percentage of revenues they generate. Strategy.com also provides application maintenance, development, customer billing, hosting and support services for these channels, enabling affiliates to focus on their core businesses. As of August 10, 2000, Strategy.com has established approximately 210 network affiliate agreements with leading Internet companies, communications carriers, media companies and financial institutions and now has over 400,000 subscribers to its Strategy.com network. Since 1995, we have significantly increased our sales and marketing, service and support, research and development and general and administrative staff. Although our revenues have significantly increased over the last three years, we experienced fluctuating operating margins during 1997, 1998 and 1999 primarily as a result of increases in staff levels. Our net loss increased substantially in the first half of 2000, as our growth in revenues, and particularly higher margin product license revenues, decreased substantially, while our expenses have significantly increased due primarily to aggressive hiring of additional personnel and increased legal and professional fees relating to class action lawsuits and an SEC investigation in connection with matters relating to our restatement of our 1999, 1998 and 1997 financial statements, described in Note 2 of the Notes to Consolidated Financial Statements. Continued losses of the magnitude experienced in the second quarter of 2000 would have a materially adverse impact on our liquidity and would require us to raise additional external financing or take additional actions to align our cost structure with expected revenues. We also expect that our ongoing investment in Strategy.com at current levels would result in significantly increased operating losses. Our revenues historically have been derived from two principal sources, fees for product licenses and fees for maintenance, technical support, education and consulting services, which we refer to collectively as product support and other services. We recognize revenue in accordance with Statement of Position ("SOP") 97-2, "Software Revenue Recognition," as amended by SOP 98-4, "Deferral of the Effective Date of a Provision of SOP 97-2" and SOP 98-9, "Modification of SOP 97-2, Software Revenue Recognition," and SOP 81-1, "Accounting for Performance of Construction-Type and Certain Production-Type Contracts," as applicable. 13 Product license revenues are generally recognized upon the execution of a contract and shipment of the related software product if no significant obligations remain outstanding on our part and the resulting receivable is deemed collectible by management. Technical support revenues are derived from customer support agreements generally entered into in connection with initial product license sales and subsequent renewals. Fees for our technical support services are displayed as deferred revenue when paid by the customer and recognized ratably over the term of the maintenance and support agreement, which is typically one year. We also record as deferred revenue the fair value of implicit maintenance arrangements when resellers or other customers that sell our software to end users offer these end users the right to receive the then current version of our software at the time of resale. Certain of these agreements extend over several years. Fees for our education and consulting services are typically recognized at the time the services are performed. Revenues recognized from multiple-element software arrangements are allocated to each element of the arrangement based on the relative fair values of the elements, such as software products, upgrades, enhancements, technical support, installation or education. The determination of fair value of each element is based on objective evidence based on historical sales of the individual element by us to other customers. If such evidence of fair value for each element of the arrangement does not exist, all revenue from the arrangement is deferred until such time that evidence of fair value does exist or until all elements of the arrangement are delivered. Customers at times require consulting and implementation services which include evaluating their business needs, identifying resources necessary to meet their needs and installing the solution to fulfill their needs. When the software license arrangement requires the Company to provide significant consulting services to produce, customize or modify software or when the customer considers these services essential to the functionality of the software product, both the product license revenue and product support and other services revenue are recognized in accordance with the provisions of SOP 81-1. The Company recognizes revenue from these arrangements using the percentage of completion method and, therefore, both product license and product support and other services revenue are recognized as work progresses. If the software license arrangement obligates the Company to the delivery of unspecified future products, then revenue is recognized on the subscription basis, ratably over the term of the contract. Beginning initially in the fourth quarter of 1998 we began to sell our products and services to customers for large scale e-commerce applications and have continued to enter into similar transactions through the current quarter. In contrast to earlier periods in which our typical customer transaction involved a stand-alone software license and maintenance, these transactions typically involve multiple software products and services for use by very large numbers of end users across web, wireless and voice communications channels, and often incorporate elements from our Strategy.com network. These multiple element transactions also often include significant implementation and other consulting work and may also include our providing the customer with hosting services, in which we manage the operation of hosting the customer's specific e-commerce application. Customers often use our products and services in a variety of ways, including internal use, integration with their own products for resale to end users and creation of e-commerce applications. These arrangements typically lead to our recording revenue from multiple sources, including product license fees, product support fees and royalties based on advertising, e-commerce transactions or the resale of solutions that incorporate our software platform. These large, multiple element transactions typically involve more complex licensing and product support arrangements than the software licensing and product support arrangements that comprised the bulk of our revenues in earlier periods. Based on the revenue recognition criteria established in SOP 97-2 and SOP 81-1, revenue from many of these large, multiple element contracts is not recognizable upon full execution and delivery of the software product as in the past, but instead is initially recorded as deferred revenue upon receipt of cash, with product revenue recognized using the percentage of completion method based on cost inputs or ratably over the entire term of the contract. As a result of the size and complexity of these transactions, our results for any quarter may depend significantly on the types of customer transactions that we enter into during the quarter and on the mix of product licenses, support agreements, implementation work and other specific terms of each transaction, each of which may have a significant effect on the manner in which we recognize revenue from the transaction. 14 The sales cycle for our products may span nine months or more. Historically, we have recognized a substantial portion of our revenues in the last month of a quarter, with these revenues frequently concentrated in the last two weeks of a quarter. Even minor delays in booking orders may have a significant adverse impact on revenues for a particular quarter. To the extent that delays are incurred in connection with orders of significant size, the impact will be correspondingly greater. Product license revenues in any quarter can be dependent on orders booked and shipped in that quarter. Due to a business slowdown during the summer, particularly in Europe, our third quarter sequential growth rate in revenues historically has been, and may continue to be, less than the sequential growth rate in other quarters. As a result of these and other factors, our quarterly results have varied significantly in the past and are likely to fluctuate significantly in the future. Accordingly, we believe that quarter-to-quarter comparisons of our results of operations are not necessarily indicative of the results to be expected for any future period. We license our software through our direct sales force and increasingly through, or in conjunction with, value-added resellers, system integrators and original equipment manufacturers. Channel partners accounted for, directly or indirectly, approximately 40.3%, 39.2%, 33.6% and 27.0% of our revenues for the six months ended June 30, 2000 and the years ended December 31, 1999, 1998 and 1997, respectively. Although we believe that direct sales will continue to account for a majority of product license revenues, we intend to increase the level of indirect sales activities. However, there can be no assurance that our efforts to continue to expand indirect sales will be successful. We also intend to continue to expand our international operations and have committed, and continue to commit, management time and financial resources to developing direct and indirect international sales and support channels. Our operations and prospects have been and will be significantly affected by the developments relating to our revision to our 1999, 1998 and 1997 financial statements described in Note 2 of the Notes to Consolidated Financial Statements. We are a defendant in a class action suit alleging that we and certain of our officers and directors violated various securities laws and in March 2000, we were notified that the SEC had issued a formal order of private investigation in connection with the matters relating to our restatement of our financial results. These legal proceedings are more fully described in Note 10 of the Notes to Consolidated Financial Statements and in "Other Information-Legal Proceedings" of Part II of this Quarterly Report on Form 10-Q. The revision to our financial statements and these legal proceedings could have a material adverse effect on our business, financial condition and results of operations. See "Risk Factors" discussed below. 15 Results of Operations The following table sets forth for the periods indicated the percentage of total revenues represented by certain items reflected in our consolidated statements of operations:
Three Months Ended Six Months Ended June 30, June 30, 2000 1999 2000 1999 ---- ---- ---- ---- Statements of Operations Data Revenues: Product licenses.................... 43.4% 62.2% 47.4% 59.6% Product support and other services.. 56.6 37.8 52.6 40.4 ----- ----- ----- ----- Total revenues................... 100.0 100.0 100.0 100.0 Cost of revenues: Product licenses..................... 0.8 1.4 1.0 1.6 Product support and other services... 43.3 19.5 37.2 20.8 ----- ----- ----- ----- Total cost of revenues............ 44.1 20.9 38.2 22.4 ----- ----- ----- ----- Gross profit.......................... 55.9 79.1 61.8 77.6 Operating expenses: Sales and marketing.................. 76.2 52.3 79.1 54.3 Research and development............. 31.4 15.1 31.7 16.0 General and administrative........... 34.5 13.1 29.2 13.7 Amortization of goodwill and other intangible assets.................. 8.4 --- 8.1 --- ----- ----- ----- ----- Total operating expenses.......... 150.5 80.5 148.1 84.0 Loss from operations.................. (94.6) (1.4) (86.3) (6.4) Interest income....................... 0.9 1.6 0.9 1.7 Interest expense...................... (---) (0.1) (---) (0.2) Other income (expense), net........... (9.9) (---) 1.4 --- Provision for income taxes............ --- 0.1 0.2 0.6 ----- ----- ----- ----- Net loss..............................(103.6)% (0.0)% (84.2)% (5.5)% ====== ==== ===== ====
Comparison of the Three and Six Months Ended June 30, 2000 and 1999 Revenues Total revenues consist of revenues derived from sales of product licenses and product support and other services, including technical support, education and consulting services. Total revenues increased from $40.5 million to $50.3 million for the three months ended June 30, 1999 and 2000, respectively, an increase of 24.4%, and increased from $69.8 million to $101.0 million for the six months ended June 30, 1999 and 2000, respectively, an increase of 44.7%. There can be no assurance that total revenues will continue to increase at the rates experienced in prior periods. Additionally, based on the revenue recognition criteria established in SOP 97-2 and SOP 81-1, revenue from many large, multiple element arrangements is recorded as deferred revenue upon receipt of cash, with both product license revenues and product support and other services revenues recognized using the percentage of completion method based on cost inputs or ratably over the entire term of the contract or over the hosting period, as applicable. In 1999, we launched the Strategy.com Finance Channel, in 2000 we launched the Strategy.com News and Weather Channels, and we plan to launch additional information channels in the future. We did not recognize revenues related to Strategy.com until 2000 in which, during the three and six months ended June 30, 2000, we recognized $1.1 million and $1.3 million, respectively, in network affiliate and subscription fees which are included in product license and product support and other services revenues. We expect increased revenues from network affiliate, OEM and subscription, royalty, advertising, hosting, transaction and other fees from our Strategy.com service by the end of 2000, but, we do not expect these amounts to be material. 16 Product License Revenues. Product license revenues decreased from $25.2 million to $21.8 million for the three months ended June 30, 1999 and 2000, respectively, a decrease of 13.3%, and increased from $41.6 million to $47.8 million for the six months ended June 30, 1999 and 2000, respectively, an increase of 15.0%. The decrease in product license revenues for the three months ended June 30, 2000 compared to the same period in 1999 was due to customer uncertainty related to the publicity associated with our restatement of financial results and our financial position and the timing of the closing of certain large deals and the recognition of revenue from these agreements. The increase in product license revenues for the six months ended June 30, 2000 compared to the same period in 1999 was primarily due to the effect of our restatement of reported revenues to ensure that all agreements for which we recognized revenue in each quarter were fully executed by the end of the period. As a result of restatement revisions, $5.1 million of revenues recognized in the first quarter of the six months ended June 30, 2000 were attributable to contracts that we had not fully executed by December 31, 1999. We are attracting new customers and our existing customer base is purchasing additional licenses and new products to support their e-business solutions. As we continue to pursue our new business model of larger-scale, multiple element transactions, we expect product license revenues as a percentage of total revenues to fluctuate on a period-to-period basis and vary significantly from the percentage of total revenues achieved in prior years. There can be no assurance that we will be able to maintain or continue to increase market acceptance for our family of products, including our newly released MicroStrategy 7.0 software. Product Support and Other Services Revenues. Product support and other services revenues increased from $15.3 million to $28.5 million for the three months ended June 30, 1999 and 2000, respectively, an increase of 86.5%, and increased from $28.2 million to $53.1 million for the six months ended June 30, 1999 and 2000, respectively, an increase of 88.4%. The increase in product support and other services revenues was primarily due to new product licenses sold associated with a continuing increase in large-scale e-commerce applications which require significant implementation and other consulting work. As a result of expected fluctuations in product license revenue discussed above, we expect product support and other services revenues as a percentage of total revenues to fluctuate on a period-to-period basis and vary significantly from the percentage of total revenues achieved in prior years. International Revenues. International revenues increased from $7.2 million to $11.1 million for the three months ended June 30, 1999 and 2000, respectively, an increase of 53.9%, and increased from $14.8 million to $22.5 million for the six months ended June 30, 1999 and 2000, respectively, an increase of 52.0%. The increase in these revenues is due to the expansion of our international operations, new product offerings and growing international market acceptance of our software products. We opened new sales offices in Argentina and Switzerland in 2000 and in Brazil in 1999. We anticipate that international revenues will continue to account for a significant amount of total revenues and management expects to continue to commit significant time and financial resources to the maintenance and ongoing development of direct and indirect international sales and support channels. We may not be able to maintain or continue to increase international market acceptance for our family of products. Costs and Expenses Cost of Product License Revenues. Cost of product license revenues consists primarily of the costs of product manuals, media, amortization of capitalized software expenses and royalties paid to third party software vendors. Cost of product license revenues decreased from $563,000 to $392,000 million for the three months ended June 30, 1999 and 2000, respectively, and from $1.1 million to $1.0 million for the six months ended June 30, 1999 and 2000, respectively. As a percentage of product license revenues, cost of product license revenues decreased from 2.2% to 1.8% for the three months ended June 30, 1999 and 2000, respectively, and from 2.6% to 2.1% for the six months ended June 30, 1999 and 2000, respectively. The decrease in cost of product license revenues as a percentage of product license revenues was due to economies of scale realized by producing larger volumes of product materials and decreased materials costs due to an increase in the percentage of customers reproducing product documentation at their sites. We anticipate that the cost of product license revenues may increase as product license revenues increase, but expect that costs of product license revenues will decrease as a percentage of product 17 license revenues. However, in the event that we enter into any royalty arrangements with strategic partners in the future, cost of product license revenues as a percentage of total product license revenues may increase. Cost of Product Support and Other Services Revenues. Cost of product support and other services revenues consists of the costs of providing technical support, education and consulting services to customers and partners. Cost of product support and other services revenues increased from $7.9 million to $21.8 million for the three months ended June 30, 1999 and 2000, respectively, and from $14.5 million to $37.5 million for the six months ended June 30, 1999 and 2000, respectively. As a percentage of product support and other services revenues, cost of product support and other services revenues increased from 51.7% to 76.4% for the three months ended June 30, 1999 and 2000, respectively, and from 51.5% to 70.7% for the six months ended June 30, 1999 and 2000, respectively. The increase in cost of product support and other services revenues was primarily due to the increase in the number of personnel providing consulting, education and technical support to customers as a result of new product licenses sold associated with a continuing increase in large-scale e-commerce applications and complex Strategy.com deployments. The total cost of product support and other services revenues increased as a percentage of product support and other services revenues due to the significant increase in the use of third parties to perform consulting services, an increase in consulting services revenues as a percentage of total product support and other services revenues, which are at lower margins than other product support revenues, and excess capacity in consulting personnel. We have hired additional consulting, education and technical support personnel based on anticipated increases in revenues. To the extent our product support and other services revenues increase at anticipated rates, we expect cost of product support and other services revenues as a percentage of product support and other services revenues to decrease. In addition, the cost of providing hosting services and operating the Strategy.com network may become more significant as we build up our customer base, further increasing the cost of product support and other services revenues as a percentage of product support and other services revenues. Sales and Marketing Expenses. Sales and marketing expenses include costs related to personnel costs, commissions, office facilities, travel, advertising, public relations programs and promotional events, such as trade shows, seminars and technical conferences. Sales and marketing expenses increased from $21.1 million to $38.3 million for the three months ended June 30, 1999 and 2000, respectively, and from $37.9 million to $79.9 million for the six months ended June 30, 1999 and 2000, respectively. As a percentage of total revenues, sales and marketing expenses increased from 52.3% to 76.2% for the three months ended June 30, 1999 and 2000, respectively, and from 54.3% to 79.1% for the six months ended June 30, 1999 and 2000, respectively. The increase in sales and marketing expenses was primarily the result of increased staffing levels in the sales force, increased commissions earned, increased promotional activities and advertising, increased marketing efforts for Strategy.com and other general marketing efforts. Additionally, during the first quarter of 2000, we invested heavily in advertising, including a national television and print advertising campaign and other marketing efforts in order to create better market awareness of the value-added potential of our product suite and Strategy.com and to seek to acquire market share. As a result of these significant expenses during the first quarter of 2000, sales and marketing expenses decreased in the second quarter compared to the first quarter. We intend to continue to market our MicroStrategy 7.0 software; however, we expect to minimize our overall advertising and marketing efforts going forward in order to align our costs with anticipated revenues. Research and Development Expenses. Research and development expenses consist primarily of salaries and benefits of software engineering personnel, depreciation of equipment and other costs. Research and development expenses increased from $6.1 million to $15.8 million for the three months ended June 30, 1999 and 2000, respectively, and from $11.1 million to $32.0 million for the six months ended June 30, 1999 and 2000, respectively. As a percentage of total revenues, research and development expenses increased from 15.1% to 31.4% for the three months ended June 30, 1999 and 2000, respectively, and from 16.0% to 31.7% for the six months ended June 30, 1999 and 2000, respectively. The increase in research and development expenses was primarily due to hiring additional research and development personnel to continue development of Strategy.com channels, new products, product releases and e-commerce technology. We intend to increase our investment over the next twelve months to develop other channels as part of our suite of information channels of our Strategy.com network. In addition, we expect that research and development expenses will increase as we continue to invest in developing new products, 18 applications and product enhancements for our existing platform business and the Strategy.com network. During the three months ended June 30, 2000, in accordance with Statement of Financial Accounting Standards ("SFAS") No. 86, "Accounting for the Costs of Computer Equipment to be Sold, Leased, or Otherwise Marketed," we capitalized approximately $1.0 million in research and development costs associated with the release of the MicroStrategy 7.0 software. The $1.0 million represents the research and development expenses incurred from the time that technological feasibility was reached until the general release of the software. These costs will be amortized over approximately 3 years. General and Administrative Expenses. General and administrative expenses include personnel and other costs of our finance, human resources, information systems, administrative and executive departments as well as outside professional fees. General and administrative expenses increased from $5.3 million to $17.4 million for the three months ended June 30, 1999 and 2000, respectively, and from $9.5 million to $29.5 million for the six months ended June 30, 1999 and 2000, respectively. As a percentage of total revenues, general and administrative expenses increased from 13.1% to 34.5% for the three months ended June 30, 1999 and 2000, respectively, and from 13.7% to 29.2% for the six months ended June 30, 1999 and 2000, respectively. The increase in general and administrative expenses was the result of increased staff levels, costs associated with the growth of our business and an increase in outside professional fees, specifically legal and other consultancy fees related to the recent litigation associated with our restatement of our financial statements and the related SEC investigation. We expect that general and administrative expenses will continue to increase while these legal matters remain pending. Amortization of Intangible Assets. In June 2000, we entered into a consulting services agreement with the controlling stockholder of a software integrator. The agreement requires the controlling stockholder to refer the employees of the software integrator to us and also to perform certain management services for us. In exchange for these services, we issued 57,143 shares of Class A common stock to the controlling stockholder. We will issue up to $3.4 million in additional shares of Class A common stock over the next two years based on an agreed upon formula including revenue and attrition objectives. We have recorded $1.6 million related to the first installment as deferred consulting costs. The first installment will be amortized over two years, the duration of the management services. Beginning in December 1999 and during the first half of 2000 we acquired the right to use certain Internet domain names for $2.4 million. We are amortizing these assets over their expected useful life of 3 years. In December 1999, in connection with the purchase of intellectual property and other tangible and intangible assets relating to NCR's Teracube project, we allocated $46.8 million to tangible and intangible assets. As a result, we have incurred and will continue to incur substantially increased amortization expense in periods subsequent to December 1999. The intangible assets are being amortized over their useful lives, ranging from one to three years. In January 1998, we recorded $1.1 million for acquired intangible assets representing the excess of the fair market value of the shares issued in exchange for the non-controlling interests' shares in the foreign subsidiaries. The intangible assets consist primarily of distribution channels, trade name and customer lists and are being amortized on a straight-line basis over weighted average useful lives of approximately 14 years. As a result, we have recorded $4.2 million and $20,000 in amortization expense for the three months ended June 30, 2000 and 1999, respectively, and $8.1 million and $40,000 in amortization expense for the six months ended June 30, 2000 and 1999, respectively, relating to intangible assets. We expect our amortization expense to be substantially the same over the next 3 years as the rate of amortization expense incurred in the first half of 2000. Provision for Income Taxes. We recorded no income tax expense and $56,000 of income tax expense for the three months ended June 30, 2000 and 1999, respectively, and $250,000 and $443,000 of income tax expense for the six months ended June 30, 2000 and 1999, respectively. The provision for both quarters and the six months ended in each year relates to income taxes payable in certain foreign jurisdictions where we were profitable in 1999 and expect to be profitable in 2000. Beneficial Conversion Feature. The Company recorded a $19.4 million charge attributable to the beneficial 19 conversion feature of the Series A convertible preferred stock based on the difference between the fair market value of the Class A common stock on the closing date of the private placement and the conversion rate. The conversion rate was computed based on the volume weighted average price of the stock for the 17 trading days subsequent to the closing date in accordance with the Certificate of Designations, Preferences and Rights of the Series A Convertible Preferred Stock. In addition, in the event the conversion price decreases, in accordance with the Certificate of Designations, Preferences and Rights of the Series A Convertible Preferred Stock, an additional charge per share of outstanding convertible preferred stock will be recorded in the future for the difference between the current conversion price and the new conversion price. Deferred Revenue Deferred revenue represents product support and other services fees that are collected in advance; product license and product support and other services fees relating to multiple element software arrangements for which the fair value of each element cannot be established; or product license and product support and other services fees relating to arrangements which require implementation related services that are significant to the functionality of features of the software product, including arrangements with subsequent hosting services. Deferred revenue was $79.9 million as of June 30, 2000 compared to $71.3 million as of December 31, 1999. We expect to recognize approximately $69.3 million of this deferred revenue over the next 12 months; however, the timing and ultimate recognition of our deferred revenue depends on our performance of various service obligations. Because of the possibility of customer changes in development schedules, delays in implementation and development efforts and the need to satisfactorily perform product support and other services, deferred revenue as of any particular date may not be representative of actual revenue for any succeeding period. Liquidity and Capital Resources From inception until our initial public offering, we primarily financed our operations and met our capital expenditure requirements through cash flows from operations and short- and long-term borrowings. On June 16, 1998, we raised $48.2 million, net of offering costs, from our initial public offering, and we raised an additional $40.1 million, net of offering costs, on February 10, 1999 from a public offering of 3,170,000 shares of Class A common stock. On June 17, 2000, we issued 12,500 shares of our Series A convertible preferred stock in a private placement to institutional investors for cash proceeds of $119.8 million, net of offering costs. On June 30, 2000 and December 31, 1999, we had $128.6 million and $68.4 million of cash, cash equivalents, and short-term investments, respectively, of which $28.6 million is restricted cash as of June 30, 2000. Cash used in operations was $40.6 million and $547,000 for the six months ended June 30, 2000 and 1999, respectively. The increase in cash used in operations from 1999 to 2000 was primarily attributable to a substantial increase in sales and marketing and other operating expenses which increased at a significantly greater rate than revenues. We intend to aggressively pursue financing to allow us to maintain our current cost structure to market, develop and operate our core business and Strategy.com. Because of this anticipated ongoing investment, we will need to obtain significant external financing. Cash used in investing activities was $16.7 million and $30.0 million for the six months ended June 30, 2000 and 1999, respectively. In December 1999, we received 824,742 shares (adjusted for a two-for-one stock split) of Exchange Applications, valued at $21.5 million, in consideration for the sale of MicroStrategy software, technical support and application development. In March 2000, we sold 412,372 of these shares at an average price of approximately $41.72 per share, which resulted in a realized gain of $6.4 million. In May 2000, we sold our economic interest in the remaining 412,370 shares for $5.8 million, which resulted in a realized loss of $4.9 million. Overall, we have sold all of our economic interest in the shares we received in December 1999 for a total net realized gain of $1.5 million. The decrease in cash used in investing activities from 1999 to 2000 reflected the sale of these shares and other short-term investments offset by the increase in restricted cash and purchases of additional short-term investments and capital expenditures related to the acquisition of computer and office equipment required to support expansion of our operations and building of infrastructure to support Strategy.com. As of June 30, 2000, 20 the Company has $2.6 million in commitments relating to a software, data and consulting agreement, which terminates in 2003, and $1.0 million in commitments with content providers which extend through 2002. In April 2000, the Company entered into an agreement to lease additional office space. Total commitments under the lease, which expires in 2005, are approximately $540,000. Our financing activities provided cash of $125.6 million and $38.2 million for the six months ended June 30, 2000 and 1999, respectively. In June 2000, we issued 12,500 shares of our Series A convertible preferred stock in a private placement to institutional investors for cash proceeds of $119.8 million, net of closing costs. Dividends are payable quarterly at a rate of 7% per annum, in cash or in shares of Class A common stock. The convertible preferred stock is currently convertible into 3,744,152 shares of Class A common stock based on the current conversion price of $33.39 per share. The conversion price may be adjusted at certain future dates dependent upon the trading price of the Class A common stock and an agreed upon formula. The convertible preferred stock is also redeemable upon certain triggering events such as failure of the registration statement to be declared effective by the SEC on or prior to the first anniversary of the initial issuance date and other events as defined in the Certificate of Designations, Preferences and Rights of the Series A Convertible Preferred Stock. We also recorded a $19.4 million charge attributable to the beneficial conversion feature of the Series A convertible preferred stock equal to the difference between the fair market value of the Class A common stock on the closing date of the private placement and the conversion rate. The conversion rate was computed based on the volume weighted average price of the stock for the 17 trading days subsequent to the closing date in accordance with the Certificate of Designations, Preferences and Rights of the Series A Convertible Preferred Stock. We have accrued dividends of $312,000 during the three months ended June 30, 2000. Prior to this private placement, the principal source of cash from financing activities during 1999 was from the sale of 3,170,000 shares of Class A common stock in which we raised $40.1 million, net of offering costs. Prior to our initial public offering, we declared a $10.0 million dividend to our stockholders. The dividend was paid in the form of notes, prior to the termination of our S corporation election, which occurred immediately prior to the consummation of our initial public offering. As of June 30, 2000, the entire $10.0 million of the dividend notes had been repaid. In March 1999, we entered into a line of credit agreement with a commercial bank, which provided for a $25.0 million unsecured revolving line of credit for general working capital purposes. On May 15, 2000, we entered into a modification of the line of credit agreement, which, among other things, increased to include an additional letter of credit, removed any financial covenants and cured any financial covenant defaults. The line of credit is secured by $28.6 million of cash and cash equivalents, which is classified as restricted cash on the balance sheet. The cash is restricted through May 31, 2001, the expiration of the agreement. The modified line of credit bears interest at LIBOR plus 1.75%, includes a 0.2% unused line of credit fee, and requires monthly payments of interest. As of June 30, 2000, after consideration of outstanding letters of credit, we had $21.2 million of borrowing capacity under this credit line. We have significantly grown the Company over the last year and prior years in anticipation of our high revenue growth. We have presently discontinued headcount growth and are minimizing capital expenditures and marketing investments. If revenues do not grow at anticipated rates we will require additional external financing through credit facilities, sale of additional equity in MicroStrategy or in our Strategy.com subsidiary or other financing facilities to support our current cost structure. There are no assurances that such financing facilities would be available on acceptable terms. We believe that our existing cash, cash generated internally by operations and the amended line of credit entered into in May 2000 will meet our working capital requirements for at least the next 12 months; provided that we would be required to modify our current cost structure by implementing cost reduction measures which may include, for example, consolidation of certain functions, reducing levels of capital expenditures, and other cost control measures. 21 Recent Accounting Pronouncements In December 1999, the SEC released Staff Accounting Bulletin ("SAB") No. 101, "Revenue Recognition in Financial Statements," which provides guidance on the recognition, presentation and disclosure of revenue in financial statements filed with the SEC. Subsequently, the SEC released SAB 101A, which delayed the implementation date of SAB 101 for registrants with fiscal years that begin between December 16, 1999 and March 15, 2000. In June 2000, the SEC issued SAB 101B, further delaying our required implementation of SAB 101 until the fourth quarter of fiscal year 2000. We do not expect the application of SAB 101 to have a material impact on our financial position or results of operations. In March 2000, the Financial Accounting Standards Board ("FASB") issued FASB Interpretation ("FIN") No. 44, "Accounting for Certain Transactions Involving Stock Compensation - An Interpretation of APB Opinion No. 25." FIN 44 clarifies the application of APB Opinion No. 25 and, among other issues, clarifies the following: the definition of an employee for purposes of applying APB Opinion No. 25; the criteria for determining whether a plan qualifies as a non-compensatory plan; the accounting consequence of various modifications to the terms of previously fixed stock options or awards; and the accounting for an exchange of stock compensation awards in a business combination. FIN 44 is effective July 1, 2000, but certain conclusions in FIN 44 cover specific events that occurred after either December 15, 1998 or January 12, 2000. We do not expect the application of FIN 44 to have a material impact on our financial position or results of operations. In June 1999, FASB issued Statement of Financial Accounting Standards ("SFAS") No. 137, which delays the effective date of SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities," which will be effective for our fiscal year 2001. This statement establishes accounting and reporting standards requiring that every derivative instrument, including certain derivative instruments embedded in other contracts, be recorded in the balance sheet as either an asset or liability measured at its fair value. The statement also requires that changes in the derivative's fair value be recognized in earnings unless specific hedge accounting criteria are met. We do not expect the adoption of SFAS Nos. 133 and 137 to have a material impact on our financial position or results of operations. Risk Factors The following important factors, among others, could cause actual results to differ materially from those contained in forward-looking statements made in this quarterly report on Form 10-Q or presented elsewhere by management from time to time. The risks and uncertainties described below are not the only ones facing our company. Additional risks and uncertainties not presently known to us or that we currently deem immaterial may also impair our business operations. If any of the events described in the following risks actually occur, our business, financial condition or results of operations could be materially adversely affected. In such case, the trading price of our Class A common stock could decline and you may lose all or part of your investment. We will need additional financing which could be difficult to obtain We will require additional external financing through credit facilities, sale of additional equity in MicroStrategy or in our Strategy.com subsidiary or other financing facilities to support our current cost structure. We expect to incur operating losses for the foreseeable future. Therefore, we will require significant external financing in the future. Obtaining additional financing will be subject to a number of factors, including: . market conditions; . our operating performance; and 22 . investor sentiment. These factors may make the timing, amount, terms and conditions of additional financing unattractive to us. If we are unable to raise capital to fund our growth, our business, operating results and financial condition would be materially and adversely affected. Our quarterly operating results, revenues and expenses may fluctuate significantly, which could have an adverse effect on the market price of our stock For a number of reasons, including those described below, our operating results, revenues and expenses may vary significantly from quarter to quarter. These fluctuations could have an adverse effect on the market price of our Class A common stock. Fluctuations in Quarterly Operating Results. Our quarterly operating results may fluctuate as a result of: . the size, timing and execution of significant orders and shipments; . the mix of products and services of customer orders, which can affect whether we recognize revenue upon the signing and delivery of our software products or whether revenue must be recognized as work progresses or over the entire contract period; . the timing of new product announcements; . changes in our pricing policies or those of our competitors; . market acceptance of business intelligence software generally and of new and enhanced versions of our products in particular; . the length of our sales cycles; . changes in our operating expenses; . personnel changes; . our success in expanding our direct sales force and adding to our indirect distribution channels; . the pace and success of our international expansion; . utilization of our consulting personnel, which can be affected by delays or deferrals of customer implementation of our software products and consulting, education and support services; . changes in foreign currency exchange rates; and . seasonal factors, such as our traditionally lower pace of new sales in the summer. Limited Ability to Adjust Expenses. Because we have sought to expand our business, our operating expenses have increased substantially in the past twelve months. In particular, we have increased significantly the costs associated with marketing, developing and operating our Strategy.com network and with expanding our technical support, research and development and sales and marketing organizations. We also have devoted substantial resources to expanding our indirect sales channels and international operations. We base our operating expense budgets on expected revenue trends. In the short term we may not be able to reduce the actual operating expenses associated with our planned expansion. 23 Based on the above factors, we believe that quarter-to-quarter comparisons of our operating results are not a good indication of our future performance. It is possible that in one or more future quarters, our operating results may be below the expectations of public market analysts and investors. In that event, the trading price of our Class A common stock may fall. We have recently introduced Strategy.com and it is uncertain whether it will achieve widespread acceptance We have implemented the Finance, News and Weather Channels of our Strategy.com networks. We plan to introduce additional channels as part of our suite of information channels, but they are still in development. While we expect to implement these additional channels on a commercial basis by the end of 2000, we may encounter delays or difficulties in this commercial introduction. We expect that a portion of our future revenue will depend on fees from subscribers for the use of the Strategy.com network service, from products and services offered through this network, and from royalties from affiliates who bundle our Strategy.com network with their own product and service offerings. We have not, to date, generated any material revenue from our Strategy.com network and may not be able to do so in the future. If this service, or the products and services offered through it, fails to achieve widespread customer acceptance, our business, operating results and financial condition would be materially adversely affected. In addition, revenue from Strategy.com would be adversely affected if our affiliates do not perceive that the integration of our Strategy.com network with their product and service offerings will increase demand for their products and services or will otherwise be able to generate a sufficient return on their investment in the use of our network. We intend to make significant expenditures in developing our Strategy.com network, which would result in us incurring operating losses and require additional external financing We plan to substantially increase the amounts we will expend on our Strategy.com network compared to the expenses we have incurred to date, in order to expand the network's product offerings and capabilities. We will only be able to make these expenditures if we are able to secure significant additional external financing. We would then substantially increase our investment in Strategy.com over the next twelve months to market, develop and operate Strategy.com and would expect operating losses to increase in 2000 and 2001. We may lose sales, or sales may be delayed, due to the long sales and implementation cycles for our products, which would reduce our revenues To date, our customers have typically invested substantial time, money and other resources and involved many people in the decision to license our software products. As a result, we may wait nine months or more after the first contact with a customer for that customer to place an order while they seek internal approval for the purchase of our products. During this long sales cycle, events may occur that affect the size or timing of the order or even cause it to be canceled. For example, our competitors may introduce new products, or the customer's own budget and purchasing priorities may change. Even after an order is placed, the time it takes to deploy our products varies widely from one customer to the next. Implementing our product can sometimes last several months, depending on the customer's needs and may begin only with a pilot program. It may be difficult to deploy our products if the customer has complicated deployment requirements, which typically involve integrating databases, hardware and software from different vendors. If a customer hires a third party to deploy our products, we cannot be sure that our products will be deployed successfully. Our employees, investors, customers, vendors and lenders may react adversely to the revision of our 1999, 1998 and 1997 revenues and operating results 24 Our future success depends in large part on the support of our key employees, investors, customers, vendors and lenders, who may react adversely to the revision of our 1999, 1998 and 1997 revenues and operating results. The revision of our 1999, 1998 and 1997 revenues and operating results has resulted in substantial amounts of negative publicity about us and we believe that this publicity has caused some of our potential customers to defer purchases of our software or to do business with other vendors. We may not be able to retain key employees and customers if they lose confidence in us, and our vendors and lenders may reexamine their willingness to do business with us. In addition, investors may lose confidence, which may cause the trading price of our Class A common stock to decrease. If we lose the services of our key employees or are unable to retain and attract our existing and new customers, vendors and lenders, our business, operating results and financial condition could be materially and adversely affected. Our recognition of deferred revenue is subject to future performance obligations and may not be representative of actual revenues for succeeding periods Our deferred revenue was $79.9 million as of June 30, 2000. The timing and ultimate recognition of our deferred revenue depends on our performance of various service obligations. Because of the possibility of customer changes in development schedules, delays in implementation and development efforts and the need to satisfactorily perform product support services, deferred revenue at any particular date may not be representative of actual revenue for any succeeding period. We face litigation that could have a material adverse effect on our business, financial condition and results of operations We and some of our directors and executive officers are named as defendants in a private securities class action lawsuit. Although we intend to defend these actions vigorously, no assurance can be given as to the outcomes. It is possible that we may be required to pay substantial damages or settlement costs which could have a material adverse effect on our financial condition or results of operation. In addition, the SEC has issued a formal order of private investigation in connection with matters relating to the restatement of our financial results. The SEC has requested that we provide them with certain documents concerning the revision of our financial results and financial reporting documents. We are cooperating with the SEC in connection with this investigation. Regardless of the outcome of any of these actions, it is likely that we will incur substantial defense costs and that such actions will cause a diversion of management time and attention. We are currently unable to borrow additional amounts under our master equipment lease agreement We signed a three-year master lease agreement to lease up to $40.0 million of computer equipment, of which we have leased approximately $17.8 million as of August 1, 2000. Future drawdowns and interest rates under the lease agreement are subject to our credit worthiness. Currently, we are not able to draw down additional amounts under the lease agreement. We face intense competition, which may lead to lower prices for our products, reduced gross margins, loss of market share and reduced revenue The markets for e-business, e-commerce, customer relationship management, portals, business intelligence and Internet-based and wireless-based information networks are intensely competitive and subject to rapidly changing technology. In addition, many of our competitors in these markets are offering, or may soon offer, products and services that may compete with our products and our Strategy.com network. Our most direct competitors provide: 25 . e-business infrastructure software; . customer relationship management products; . e-commerce transaction systems; . business intelligence products; . web portals and information networks; . vertical Internet portals and information networks; and . wireless communications and wireless access protocol enabled products. Each of these market segments are discussed more fully below. E-business Infrastructure Software. In the e-business infrastructure market, BroadVision, E.piphany, Vignette, Net Perceptions, Broadbase, Art Technology Group, Engage Technologies, Doubleclick and Personify all provide products that compete directly or indirectly with our software platform. Many of these companies provide alternatives to our technology for adding intelligence and personalization to e-commerce applications. For example, customer information, such as past purchases, clickstream data and stated preferences, can be used to create a personalized e-commerce experience that targets customers with offers and interactions to which they are more likely to respond. Customer Relationship Management Products. Companies that deliver customer relationship management products alone or in conjunction with e-commerce applications, such as BroadVision, E.piphany, Vignette and Siebel, compete with our intelligent e-business products. E-Commerce Transaction Systems. Products that support e-commerce transactions, such as those provided by Microsoft, IBM, America Online's Netscape division, BroadVision, Open Market, InterWorld and Oracle, could provide competition for us. These products have the potential to extend their capabilities to use customer information as the basis for generating targeted, personalized product offers, which would compete with our e-business products. Business Intelligence Products. In the business intelligence market, we compete with providers of software used to enable businesses to analyze and optimize their operations. In the enterprise category, which is generally focused on large deployments, Information Advantage, which was recently acquired by Sterling Software, competes with us. In the desktop analysis and reporting category, we face competition from companies such as Business Objects, Cognos and Brio Technology. A third category includes products from companies such as Oracle, Microsoft and IBM that are generally bundled with or designed to work with their own relational databases. Web Portals and Information Networks. Web portals and information networks, such as Microsoft Network, Yahoo, Lycos, Excite, America Online and InfoSpace.com, offer an array of information that is similar to information provided by Strategy.com. Strategy.com seeks to differentiate itself by: . providing a greater level of personalization; . allowing users to receive the precise information they want across the broadest range of information delivery devices including through email, wireless phone, pager, wireless access protocol enabled products, fax, personal digital assistants and the telephone; and . partnering with financial institutions, device manufacturers, Internet companies, communication carriers, media companies and wireless companies, to embed Strategy.com information services as an ingredient in 26 their own offerings. One or more of these companies, however, could expand their offerings and reduce our differentiation in these three areas. Vertical Internet Portals and Information Networks. Expedia, Weather.com, CNBC.com, ABC.com, ESPN.com, Microsoft Investor, StockBoss, Microsoft CarPoint, InfoBeat, Internet Travel Network and others have developed custom applications and products to commercialize, analyze and deliver specific information over the Internet. These systems are usually tailored to one application, such as providing news, sports or weather, but in the aggregate, they offer applications similar to those provided by Strategy.com. Any one of these companies could expand their offerings to more closely compete with Strategy.com. Wireless Communications and Wireless Access Protocol Enabled Products. Wireless communications providers, such as AT&T, Sprint, MCI WorldCom, Nextel Communications, British Telecom, Deutsche Telekom, PageNet, Nokia, Ericsson, Aether Systems, 3COM and Palm offer a variety of mobile phones and wireless devices over which Strategy.com delivers information. These companies may develop in-house information services or partner with other companies to deliver information that is competitive to that offered by Strategy.com. Many of our competitors have longer operating histories, significantly greater financial, technical, marketing or other resources, and greater name recognition than we do. In addition, many of our competitors have strong relationships with current and potential customers and extensive knowledge of the e-business industry. As a result, they may be able to respond more quickly to new or emerging technologies and changes in customer requirements or devote greater resources to the development, promotion and sale of their products than we can. Increased competition may lead to price cuts, reduced gross margins and loss of market share. We cannot be sure that we will be able to compete successfully against current and future competitors or that the competitive pressures we face will not have a material adverse effect on our business, operating results and financial condition. Current and future competitors may also make strategic acquisitions or establish cooperative relationships among themselves or with others. By doing so, they may increase their ability to meet the needs of our potential customers. Our current or prospective indirect channel partners may establish cooperative relationships with our current or future competitors. These relationships may limit our ability to sell our products through specific distribution channels. Accordingly, it is possible that new competitors or alliances among current and future competitors may emerge and rapidly gain significant market share. These developments could harm our ability to obtain maintenance revenues for new and existing product licenses on favorable terms. We have increased our operating costs in anticipation of an expansion of our business and our failure to manage this expansion effectively, as well as the strain on our resources, could have a material adverse effect on our business, operating results and financial condition We have been expanding rapidly and we expect to continue expanding our operations subject to the availability of additional financing. Our total number of employees has grown from 907 on December 31, 1998 to 2,279 on June 30, 2000. We have placed significant demands on our administrative, operational, financial and personnel resources and expect to continue doing so. In particular, we expect the current and planned growth of our international operations to lead to increased financial and administrative demands. For example, expanded facilities will complicate operations, managing relationships with new foreign partners will mean additional administrative burdens, and managing foreign currency risks will require expanded treasury functions. We may also need to expand our support organization to develop our indirect distribution channels in new and expanded markets and to accommodate growth in our installed customer base. Failure to manage our expansion effectively could have a material adverse effect on our business, operating results and financial condition. In addition, the development of our Strategy.com network could divert the time and attention of our senior management from our other business. Michael J. Saylor, our chairman, president and chief executive officer, currently is responsible for the strategic planning and direction of both our MicroStrategy Platform and 27 Strategy.com businesses. If Mr. Saylor does not effectively manage his time and attention between our businesses, it could materially adversely affect our business, operating results and financial condition. If we are unable to recruit or retain skilled personnel, or if we lose the services of any of our key management personnel, our business, operating results and financial condition would be materially adversely affected Our future success depends on our continuing ability to attract, train, assimilate and retain highly skilled personnel. Competition for these employees is intense. We may not be able to retain our current key employees or attract, train, assimilate or retain other highly skilled personnel in the future. Our future success also depends in large part on the continued service of key management personnel, particularly Michael J. Saylor, our chairman, president and chief executive officer, and Sanju K. Bansal, our executive vice president and chief operating officer. If we lose the services of one or both of these individuals or other key personnel, or if we are unable to attract, train, assimilate and retain the highly skilled personnel we need, our business, operating results and financial condition could be materially adversely affected. Our inability to develop and release product enhancements and new products to respond to rapid technological change in a timely and cost-effective manner would have a material adverse effect on our business, operating results and financial condition The market for our products is characterized by rapid technological change, frequent new product introductions and enhancements, changing customer demands and evolving industry standards. The introduction of products embodying new technologies can quickly make existing products obsolete and unmarketable. We believe that our future success depends largely on three factors: . our ability to continue to support a number of popular operating systems and databases; . our ability to maintain and improve our current product line; and . our ability to rapidly develop new products that achieve market acceptance, maintain technological competitiveness and meet an expanding range of customer requirements. Business intelligence applications are inherently complex, and it can take a long time to develop and test major new products and product enhancements. In addition, customers may delay their purchasing decisions because they anticipate that new or enhanced versions of our products will soon become available. We cannot be sure that we will succeed in developing and marketing, on a timely and cost-effective basis, product enhancements or new products that respond to technological change, introductions of new competitive products or customer requirements, nor can we be sure that our new products and product enhancements will achieve market acceptance. The emergence of new industry standards may adversely affect our ability to market our existing products The emergence of new industry standards in related fields may adversely affect the demand for our existing products. This could happen, for example, if new web standards and technologies emerged that were incompatible with customer deployments of our MicroStrategy applications. Although the core database component of our business intelligence solutions is compatible with nearly all enterprise server hardware and operating system combinations, such as OS/390, AS/400, Unix and Windows, our application server component runs only on the Windows operating system. Therefore, our ability to increase sales currently depends on the continued acceptance of the Windows operating system. We cannot market our current business intelligence applications to potential customers who use Unix operating systems as their application server. We would have to invest substantial resources to develop a Unix product and we cannot be sure that we could introduce such a product on a timely or cost-effective basis, if at all. 28 The legal environment regarding collection and use of personal information is uncertain and new laws or government regulations could have a material adverse effect on our business, operating results and financial condition Although some existing laws govern the collection and use of personal information obtained through the Internet or other public data networks, it is unclear whether they apply to our products and us. Most of these laws were adopted before the widespread use and commercialization of the Internet and other public data networks. As a result, the laws do not address the unique issues presented by these media. Due to increasing use of the Internet and the dramatically increased access to personal information made possible by technologies like ours, the U.S. federal and various state and foreign governments have recently proposed limitations on the collection and use of personal information of users of the Internet and other public data networks. Although we attempt to obtain permission from users prior to collecting or processing their personal data, new laws or regulations governing personal privacy may change the ways in which we and our customers and affiliates may gather this personal information. There may be significant costs and delays involved with adapting our products to any change in regulations. Our business, and in particular our Strategy.com network, depends upon our receiving detailed personal information about subscribers in order to provide them with the services they select. Privacy concerns may cause some potential subscribers to forego subscribing to our service. If new laws or regulations prohibit us from using information in the ways that we currently do, or if users opt out of making their personal preferences and information available to us and our affiliates, the utility of our products will decrease, which could have a material adverse effect on our business, operating results and financial condition. If personal information is misused by us, our customers or our network affiliates, our legal liability may be increased and our growth may be limited. The Federal Trade Commission has recently launched investigations of the data collection practices of various Internet companies. In addition, numerous individuals and privacy groups have filed lawsuits or administrative complaints against other companies asserting that they were harmed by the misuse of their personal information. If comparable legal proceedings were commenced against us, regardless of the merits of the claim, we could be required to spend significant amounts on legal defense and our senior management's time and attention could be diverted from our business. In addition, demand for our products could be reduced if companies are not permitted to use clickstream data derived from their web sites. This could materially and adversely affect our business, operating results and financial condition. In addition, in Europe, the European Union Directive on Data Protection, a comprehensive administrative and regulatory program, currently limits the ability of companies to collect, store and exchange personal data with other entities. Because the U.S. may not currently provide a level of data protection sufficient to meet the guidelines under the European Union Directive, U.S. companies could be prohibited from obtaining personal data from or exchanging such data with companies in Europe. Our business may suffer if either the Internet infrastructure or the wireless communication infrastructure is unable to effectively support the growth in demand placed upon it Our Strategy.com network and our other products depend increasingly upon the Internet infrastructure and wireless communications infrastructures to collect information and deliver information to customers. We cannot assure you that either of these infrastructures will continue to effectively support the capacity, speed and security demands placed upon them as they continue to experience increased numbers of users, frequency of use and increased requirements for data transmission by users. Even if the necessary infrastructure or technologies are developed, we may incur considerable costs to adapt our solutions accordingly. Furthermore, the Internet has experienced a variety of outages and other delays due to damage to portions of its infrastructure or attacks by 29 hackers. These outages and delays could impact the web sites using our products or hosting our Strategy.com network and could materially affect our business, operating results and financial condition. If the market for business intelligence software fails to grow as we expect, or if businesses fail to adopt our products, our business, operating results and financial condition would be materially adversely affected Nearly all of our revenues to date have come from sales of business intelligence software and related technical support, consulting and education services. We expect these sales to account for a large portion of our revenues for the foreseeable future. Although demand for business intelligence software has grown in recent years, the market for business intelligence software applications is still emerging. Resistance from consumer and privacy groups to increased commercial collection and use of data on spending patterns and other personal behavior may impair the further growth of this market, as may other developments. We cannot be sure that this market will continue to grow or, even if it does grow, that businesses will adopt our solutions. We have spent, and intend to keep spending, considerable resources to educate potential customers about business intelligence software in general and our solutions in particular. However, we cannot be sure that these expenditures will help our products achieve any additional market acceptance. If the market fails to grow or grows more slowly than we currently expect, our business, operating results and financial condition would be materially adversely affected. Because of the rights of our two classes of common stock, and because we are controlled by our existing stockholders, these stockholders could transfer control of MicroStrategy to a third party without anyone else's approval or prevent a third party from acquiring MicroStrategy We have two classes of common stock: Class A common stock and Class B common stock. Holders of our Class A common stock generally have the same rights as holders of our Class B common stock, except that holders of Class A common stock have one vote per share while holders of Class B common stock have ten votes per share. As of August 1, 2000, holders of our Class B common stock owned or controlled 55,164,115 shares of Class B common stock, or 95.7% of the total voting power. Michael J. Saylor, our chairman, president and chief executive officer, controlled 43,549,324 shares of Class B common stock, or 75.6% of the total voting power, as of August 1, 2000. Accordingly, Mr. Saylor is able to control MicroStrategy through his ability to determine the outcome of elections of our directors, amend our certificate of incorporation and bylaws and take other actions requiring the vote or consent of stockholders, including mergers, going private transactions and other extraordinary transactions and their terms. Our certificate of incorporation allows holders of Class B common stock, almost all of whom are employees of our company or related parties, to transfer shares of Class B common stock, subject to the approval of a majority of the holders of outstanding Class B common stock. Mr. Saylor or a group of stockholders possessing a majority of the outstanding Class B common stock could, without seeking anyone else's approval, transfer voting control of MicroStrategy to a third party. Such a transfer of control could have a material adverse effect on our business, operating results and financial condition. Mr. Saylor will also be able to prevent a change of control of MicroStrategy, regardless of whether holders of Class A common stock might otherwise receive a premium for their shares over the then-current market price. The conversion of the Series A preferred shares could result in substantial numbers of additional shares being issued if our market price declines during periods in which the conversion price of the Series A preferred shares may adjust As of August 1, 2000, the Series A preferred shares are convertible at a conversion price equal to $33.3854 per share. This conversion price may be adjusted if the preferred stock remains outstanding on June 19, 2001 and on each subsequent anniversary of such date, or upon the occurrence of various events, including the failure to maintain the effectiveness of the registration statement to which this prospectus relates, based on the market price of our Class A common stock if such adjustment would result in a lower conversion price. As a result, the lower the price of our 30 Class A common stock at these intervals, the greater the number of shares the holder will receive upon conversion after any such adjustment. For example, the number of shares of Class A common stock that we would be required to issue upon conversion of all 12,500 Series A preferred shares, excluding shares issued as accrued dividends, would increase from approximately 3,744,152 shares, based on the applicable conversion price of $33.3854 per share as of August 1, 2000, to approximately: . 4,992,212 shares if the applicable conversion price decreased 25%; . 7,488,303 shares if the applicable conversion price decreased 50%; or . 14,976,516 shares if the applicable conversion price decreased 75%. To the extent the Series A preferred shares are converted or dividends on the Series A preferred shares are paid in shares of Class A common stock rather than cash, a significant number of shares of Class A common stock may be sold into the market, which could decrease the price of our Class A common stock and encourage short sales. Short sales could place further downward pressure on the price of our Class A common stock. In that case, we could be required to issue an increasingly greater number of shares of our Class A common stock upon future conversions of the Series A preferred shares as a result of the annual and other adjustments described above, sales of which could further depress the price of our Class A common stock. The conversion of and the payment of dividends in shares of Class A common stock in lieu of cash on the Series A preferred shares may result in substantial dilution to the interests of other holders of our Class A common stock. No selling stockholder may convert its Series A preferred shares if upon such conversion the selling stockholder together with its affiliates would have acquired a number of shares of Class A common stock during the 60-day period ending on the date of conversion which, when added to the number of shares of Class A common stock held at the beginning of such 60-day period, would exceed 9.99% of our then outstanding Class A common stock, excluding for purposes of such determination shares of Class A common stock issuable upon conversion of Series A preferred shares which have not been converted. Nevertheless, a selling stockholder may still sell a substantial number of shares in the market. By periodically selling shares into the market, an individual selling stockholder could eventually sell more than 9.99% of our outstanding Class A common stock while never holding more than 9.99% at any specific time. We may be required to pay substantial penalties to the holders of the Series A preferred shares if specific events occur In accordance with the terms of the agreements relating to the issuance of the Series A preferred shares, we are required to pay substantial penalties to a holder of the Series A preferred shares under specified circumstances, including, among others: . nonpayment of dividends on the Series A preferred shares in a timely manner; . failure to deliver shares of our Class A common stock upon conversion of the Series A preferred shares after a proper request . nonpayment of the redemption price at maturity of the Series A preferred shares . failure to hold a meeting of our stockholders on or before July 31, 2001 to approve the issuance of the shares of Class A common stock issuable upon conversion of and in lieu of cash dividends on the Series A preferred shares; or . failure of a registration statement relating to the shares of Class A common stock issuable upon conversion of and in lieu of cash dividends on the Series A preferred shares to be declared effective by the SEC on or before December 15, 2000, or after such registration statement is declared effective, the unavailability of 31 such registration statement to cover the resale of such shares for more than brief intervals. Such penalties are generally paid in the form of interest payments, subject to any restrictions imposed by applicable law, on the amount that a holder of Series A preferred shares was entitled to receive on the date of determination. In the third quarter of 2000, we incurred $577,500 in penalties as a result of a 14 day delay in the filing of a registration statement registering the shares of Class A common stock issuable upon conversion of and in lieu of dividends on the Series A preferred shares. We rely on our strategic channel partners and if we are unable to develop or maintain successful relationships with them, our business, operating results and financial condition will suffer In addition to our direct sales force, we rely on strategic channel partners, such as original equipment manufacturers, system integrators and value-added resellers, to license and support our products in the United States and internationally. In particular, for the three months ended June 30, 2000 and the years ended December 31, 1999, 1998 and 1997, channel partners accounted for, directly or indirectly, approximately 40.3%, 39.2%, 33.6% and 27.0% of our total revenues, respectively. Our channel partners generally offer customers the products of several different companies, including some products that compete with ours. Although we believe that direct sales will continue to account for a majority of product license revenues, we intend to increase the level of indirect sales activities through our strategic channel partners. However, there can be no assurance that our efforts to continue to expand indirect sales in this manner will be successful. We cannot be sure that we will attract strategic partners who will market our products effectively and who will be qualified to provide timely and cost-effective customer support and service. Our ability to achieve revenue growth in the future will depend in part on our success in developing and maintaining successful relationships with those strategic partners. If we are unable to develop or maintain our relationships with these strategic partners, our business, operating results and financial condition will suffer. We rely on our network affiliates to market our Strategy.com network to their customers and if we are unable to enter into arrangements with a sufficient number of affiliates, or if our affiliates are unable to interest their customers in our services, our business will suffer We rely on our network affiliates to market our Strategy.com network to their customers. We cannot be sure that we will attract affiliates who will market our services effectively. Our ability to achieve revenue growth in the future will depend in part on our success in recruiting and maintaining successful relationships with affiliates. If we are unable to recruit affiliates or maintain our relationships with them, our business, operating results and financial condition will suffer. Third party providers of information and services for our Strategy.com network may fail to provide us such information and services or may also provide such information and services to our competitors We rely on third parties to provide information and services for our Strategy.com network. For example, we rely on Ameritrade to provide users of our Strategy.com network with stock quote information and expect to rely upon a third party to execute trades in securities when this capability is added to our network. If one or more of these providers were to stop working with us, we would have to rely on other parties to provide the information and services we need. We cannot predict whether other parties would be willing to do so on reasonable terms. Furthermore, we do not have long-term agreements with our providers of information and services and we cannot restrict them from providing similar information and services to our competitors. As a result, our competitors may be able to duplicate some of the information and services that we provide and may, therefore, find it easier to enter the market for personal intelligence and compete with us. We rely upon our network affiliates to deliver services we offer through our Strategy.com network and if they have difficulty in doing so, we could be exposed to liability and our reputation could suffer 32 We depend upon our affiliates to deliver services to subscribers of our Strategy.com network. If our affiliates fail to deliver reliable services, we could face liability claims from our subscribers and our reputation could be damaged. In addition, we will be dependent on the performance of the systems deployed and maintained by these parties, whom we will not control. We expect to include contractual provisions limiting our liability to the subscriber for failures and delays, but we cannot be sure that these limits will be enforceable or will be sufficient to shield us from liability. We will seek to obtain liability insurance to cover problems of this sort, but we cannot guarantee that insurance will be available or that the amounts of our coverage will be sufficient to cover all potential claims. Our network affiliates will rely on us to maintain the infrastructure of the Strategy.com network and any problems with that infrastructure could expose us to liability from our affiliates and their customers Our network affiliates depend on us to maintain the software and hardware infrastructure of our Strategy.com network. If this infrastructure fails or our affiliates or their customers otherwise experience difficulties or delays in accessing the network, we could face liability claims from them. We expect to include contractual provisions limiting our liability to our affiliates for system failures and delays, but we cannot be sure that these limits will be enforceable or will be sufficient to shield us from liability. We will seek to obtain liability insurance to cover problems of this sort, but we cannot guarantee that insurance will be available or that the amounts of our coverage will be sufficient to cover all potential claims. We are vulnerable to system failures, which could cause interruptions or disruptions in our service The hardware infrastructure on which the Strategy.com system operates is located at the Exodus Communications data center in Northern Virginia. We cannot assure you that we will be able to manage this relationship successfully to mitigate any risks associated with having our hardware infrastructure maintained by Exodus. Unexpected events such as natural disasters, power losses and vandalism could damage our systems. Telecommunications failures, computer viruses, electronic break-ins or other similar disruptive problems could adversely affect the operation of our systems. Our insurance policies may not adequately compensate us for any losses that may occur due to any damages or interruptions in our systems. Accordingly, we could be required to make capital expenditures in the event of damage. We do not currently have a formal disaster recovery plan. Periodically, we experience unscheduled system downtime that results in our web site being inaccessible to subscribers. Although we have not suffered material losses during these downtimes to date, if these problems persist in the future, users, network affiliates and advertisers could lose confidence in our services. System capacity constraints may diminish our ability to generate revenues from Strategy.com A substantial increase in the use of the products and services offered by Strategy.com could strain the capacity of our systems, which could lead to slower response time or system failures. System failures or slowdowns could adversely affect the speed and responsiveness of our Strategy.com network. These would diminish the experience for our subscribers and affect our reputation. The ability of our systems to manage a significantly increased volume of transactions in a production environment is unknown. As a result, we face risks related to our ability to scale up to our expected transaction levels while maintaining satisfactory performance. If our transaction volume increases significantly, we may need to purchase additional servers and networking equipment to maintain adequate data transmission speeds. The availability of these products and related services may be limited or their cost may be significant. We have only limited protection for our proprietary rights in our software, which makes it difficult to prevent third parties from infringing upon our rights We regard our software products as proprietary and we rely on a combination of federal and international copyright, state and federal trademark and service mark and state and common law trade secret laws, customer 33 licensing agreements, employee and third-party nondisclosure agreements and other methods to protect our proprietary rights. However, these laws and contractual provisions provide only limited protection. We have no patents, and no registered trademarks other than MicroStrategy(R), DSS Agent(R) and QuickStrike(R). Despite our efforts to protect our proprietary rights, unauthorized parties may attempt to copy or otherwise obtain and use our products or technology. Policing such unauthorized use is difficult, and we cannot be certain that we can prevent it, particularly in countries where the laws may not protect our proprietary rights as fully as in the United States. Our products may be susceptible to claims by other companies that our products infringe upon their proprietary rights, which could adversely affect our business, operating results and financial condition As the number of software products in our target markets increases and the functionality of these products further overlaps, we may become increasingly subject to claims by a third party that our technology infringes such party's proprietary rights. Regardless of their merit, any such claims could be time consuming and expensive to defend, may divert management's attention and resources, could cause product shipment delays and could require us to enter into costly royalty or licensing agreements. If successful, a claim of infringement against us and our inability to license the infringed or similar technology could have a material adverse effect on our business, operating results and financial condition. Expanding our international operations will be difficult and our failure to do so successfully or in a cost-effective manner would have a material adverse effect on our business, operating results and financial condition International sales accounted for 22.3%, 24.0%, 26.1% and 27.1% of our total revenues for the six months ended June 30, 2000 and the years ended December 31, 1999, 1998 and 1997, respectively. We plan to continue expanding our international operations and to enter new international markets. This will require significant management attention and financial resources and could adversely affect our business, operating results and financial condition. In order to expand international sales successfully, we must set up additional foreign operations, hire additional personnel and recruit additional international resellers and distributors. We cannot be sure that we will be able to do so in a timely manner, and our failure to do so may limit our international sales growth. There are certain risks inherent in our international business activities including: . changes in foreign currency exchange rates; . unexpected changes in regulatory requirements; . tariffs and other trade barriers; . costs of localizing products for foreign countries; . lack of acceptance of localized products in foreign countries; . longer accounts receivable payment cycles; . difficulties in managing international operations; . tax issues, including restrictions on repatriating earnings; . weaker intellectual property protection in other countries; and . the burden of complying with a wide variety of foreign laws. 34 These factors may have a material adverse effect on our future international sales and, consequently, our business, operating results and financial condition. The nature of our products makes them particularly vulnerable to undetected errors, or bugs, which could cause problems with how the products perform and which could in turn reduce demand for our products, reduce our revenue and lead to product liability claims against us Software products as complex as ours may contain errors or defects, especially when first or subsequent versions are released. Although we test our products extensively, we have in the past discovered software errors in new products after their introduction. We cannot be certain that, despite testing by us and by our current and potential customers, errors will not be found in new products or releases after commercial shipments begin. This could result in lost revenue or delays in market acceptance, which could have a material adverse effect upon our business, operating results and financial condition. Our license agreements with customers typically contain provisions designed to limit our exposure to product liability claims. It is possible, however, that these provisions may not be effective under the laws of certain domestic or international jurisdictions. Although there have been no product liability claims against us to date, our license and support of products may involve the risk of these claims. A successful product liability claim against us could have a material adverse effect on our business, operating results and financial condition. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The following discussion about our market risk disclosures involves forward-looking statements. Actual results could differ materially from those projected in the forward-looking statements. We are exposed to the impact of interest rate changes and foreign currency fluctuations. Interest Rate Risk Our exposure to market risk for changes in interest rates relates primarily to our cash equivalents and short-term investments. We do not use derivative financial instruments. We invest our excess cash in short-term, fixed income financial instruments. These fixed rate investments are subject to interest rate risk and may fall in value if market interest rates increase. If market interest rates were to increase immediately and uniformly by 10% from the levels at June 30, 2000, the fair market value of the portfolio would decline by an immaterial amount. We have the ability to hold our fixed income investments until maturity and, therefore, we do not expect our operating results or cash flows to be materially affected by a sudden change in market interest rates on our investment portfolio. Foreign Currency Risk We face exposure to adverse movements in foreign currency exchange rates. Our international revenues and expenses are denominated in foreign currencies, principally the British pound sterling and the German deutsche mark. The functional currency of each of our foreign subsidiaries is the local currency. Our international business is subject to risks typical of an international business, including but not limited to, differing tax structures, other regulations and restrictions, and foreign exchange rate volatility. Based on our overall currency rate exposure at June 30, 2000, a 10% change in foreign exchange rates would have had an immaterial effect on our financial position, results of operations and cash flows. To date, we have not hedged the risks associated with foreign exchange exposure. Although we may do so in the future, we cannot be sure that any hedging techniques we may implement will be successful or that our business, operating results, financial condition and cash flows will not be materially adversely affected by exchange rate fluctuations. To date, our foreign currency gains and losses have been immaterial. 35 PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS Legal Proceedings Actions Arising under Federal Securities Laws. From March through May 2000, 25 class action complaints were filed in federal courts in various jurisdictions alleging that we and certain of our officers and directors violated section 10(b) of the Exchange Act, Rule 10b-5 promulgated thereunder, and section 20(a) and section 20A of the Exchange Act. The Company's outside auditor, PricewaterhouseCoopers LLP, was also named in two of the suits. The complaints contained varying allegations, including that we made materially false and misleading statements with respect to our 1999, 1998 and 1997 financial results in our filings with the SEC, analysts' reports, press releases and media reports. In June 2000, these putative class action lawsuits were consolidated in the United States District Court for the Eastern District of Virginia. On July 7, 2000, the lead plaintiffs filed an amended class action complaint naming us, certain of our officers and directors, and PricewaterhouseCoopers LLP as defendants. The amended class action complaint alleges claims under section 10(b), section 20(a) and section 20A of the Exchange Act. The amended class action complaint does not specify the amount of damages sought. On July 17, 2000, we filed a motion to dismiss all counts of the amended complaint. No ruling has yet been made with respect to that motion. We intend to defend this matter vigorously. Delaware Derivative Litigation. In June 2000, purported holders of our common stock filed a shareholder derivative lawsuit in the Delaware Court of Chancery seeking recovery for various alleged breaches of fiduciary duties by certain of our directors and officers relating to our restatement of financial results. We have not answered or otherwise responded to the derivative complaint. SEC Investigation. In March 2000, we were notified that the SEC had issued a formal order of private investigation in connection with matters relating to our restatement of our financial results. The SEC has requested that we provide them with certain documents concerning the revision of our financial results and financial reporting documents. The SEC indicated that its inquiry should not be construed as an indication by the SEC or its staff that any violation of law has occurred, nor as an adverse reflection upon any person, entity or security. We are cooperating with the SEC in connection with this investigation and its outcome cannot yet be determined. ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS Charter Amendment On June 19, 2000, the Company filed a Certificate of Amendment to the Amended and Restated Certificate of Incorporation with the Secretary of State of the State of Delaware providing for (a) an increase in the number of authorized shares of Class A common stock, par value $0.001 per share, from 100,000,000 shares to 330,000,000 shares and (b) an increase in the number of authorized shares of Class B common stock, par value $0.001 per share, from 100,000,000 shares to 165,000,000 shares. Consulting Services Transaction On June 7, 2000, the Company entered into a Consulting Services Agreement with Claudio Remon, the controlling stockholder of DSS Consulting, S.A., a company organized under the laws of Argentina (the "Consulting Agreement"). In consideration of consulting services rendered to the Company, the Company issued to Mr. Remon 57,143 shares of the Company's Class A common stock, par value $0.001 per share. The issuance of such shares to Mr. Remon was exempt from the registration requirements of the Securities Act of 1933, as amended, pursuant to Regulation S promulgated thereunder. The Company anticipates that it will issue additional shares of its Class A common stock to Mr. Remon under the terms of the Consulting Services Agreement as additional consulting services are performed by Mr. Remon. 36 Sale of Series A Convertible Preferred Stock On June 19, 2000, the Company issued and sold 12,500 shares of our unregistered Series A convertible preferred stock to four institutional investors in a private offering for an aggregate purchase price of $125,000,000. The holders of shares of Series A convertible preferred stock have the right to convert these shares at any time into Class A common stock. Based on the applicable conversion price of $33.3854 per share as of August 1, 2000, the number of shares of Class A common stock that we would be required to issue upon conversion of all 12,500 shares of Series A convertible preferred stock, excluding shares issued as accrued dividends, would be approximately 3,744,152 shares. The conversion price may be adjusted if the Series A convertible preferred stock remains outstanding on June 19, 2001 and on each subsequent anniversary of such date, or upon the occurrence of various events, based on the market price of the Company's Class A common stock if such adjustment would result in a lower conversion price. In addition, these shares of Series A convertible preferred stock are redeemable or convertible into shares of the Company's Class A common stock at the election of the Company beginning on June 19, 2002, subject to extension in some circumstances. The issuance and sale of the securities in the above transaction was made in reliance on the exemption from registration under the Securities Act of 1933, as amended (the "Securities Act") provided by Section 4(2) thereunder. No underwriters were involved in the foregoing sale of securities. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS The Company's Annual Meeting of Stockholders was held on June 19, 2000. The following proposals were adopted by the vote specified below.
Against/ Broker Proposal For Withheld Abstain Non-Votes -------- --- -------- ------- --------- 1. Election of Directors: Michael J. Saylor 542,983,690 100,166 --- --- Sanju K. Bansal 542,983,740 100,116 --- --- Frank A. Ingari 542,972,540 111,316 --- --- Jonathan J. Ledecky 542,983,740 100,116 --- --- John W. Sidgmore 542,983,740 100,116 --- --- Ralph S. Terkowitz 542,983,740 100,116 --- --- 2. Approval of an amendment to the Company's 1997 Director Option Plan increasing the maximum number of shares of Class A common stock available under the plan from 400,000 shares to 600,000 shares 539,663,614 3,397,495 22,746 1 3. Approval of an amendment to the Company's 1999 Stock Option Plan to increase the maximum number of shares of Class A common stock available under the plan from 5,000,000 shares to 11,000,000 shares 538,550,802 4,514,365 18,689 --- 4. Approval of an amendment to the Company's Amended and Restated Certificate of Incorporation providing for (a) an increase in the number of authorized shares of Class A common stock, par value $0.001 per share, from 100,000,000 shares to 330,000,000 shares and (b) an increase in the number of authorized shares of Class B common stock, par value $0.001 per share, from 100,000,000 shares to 165,000,000 shares 538,003,703 5,064,563 15,590 --- 37 5. Ratification of Pricewaterhouse Coopers LLP as independent auditors 542,946,603 121,562 15,690 1
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K A. Exhibits 3.1 Amended and Restated Certificate of Incorporation of the Company (Filed as Exhibit 3.1 to the Company's Registration Statement on Form S-1 (Registration No. 333-49899) and incorporated by reference herein) 3.2 Certificate of Amendment to the Amended and Restated Certificate of Incorporation of the Company 3.3 Certificate of Designations, Preferences and Rights of the Series A Convertible Preferred Stock (Filed as Exhibit 3.1 to the Company's Current Report on Form 8-K (File No. 000-24435) filed on June 19, 2000 and incorporated by reference herein) 3.4 Restated Bylaws of the Company (Filed as Exhibit 3.2 to the Company's Registration Statement on Form S-1 (Registration No. 333- 49899) and incorporated by reference herein) 4.1 Form of Certificate of Class A Common Stock of the Company (Filed as Exhibit 4.1 to the Company's Registration Statement on Form S-1 Registration No. 333-49899) and incorporated by reference herein) 10.1 First Modification Agreement, dated May 15, 2000, among Bank of America, N.A., MicroStrategy Incorporated, Michael J. Saylor and Alcantara LLC (Filed as Exhibit 10.3 to the Company's Quarterly Report on Form 10-Q for the quarterly period ended March 31, 2000 (File No. 000-24435) and incorporated by reference herein) 10.2 Registration Rights Agreement, dated as of June 17, 2000, by and among MicroStrategy Incorporated and each of the signatories thereto (Filed as Exhibit 10.1 to the Company's Current Report on Form 8-K (File No. 000-24435) filed on June 19, 2000 and incorporated by reference herein) 10.3 Amendment No. 1 to the 1999 Stock Option Plan of the Company 10.4 Pledge and Security Agreement, dated June 29, 2000, by MicroStrategy Incorporated in favor of Bank of America N.A. (Filed as Exhibit 10.1 to the Company's Registration Statement on Form S-3 (Registration No. 333-42994) and incorporated by reference herein) 10.5 Letter Agreement, dated June 29, 2000, from Bank of America N.A. (Filed as Exhibit 10.2 to the 38 Company's Registration Statement on Form S-3 Registration No. 333-42994) and incorporated by reference herein) 27.1 Financial Data Schedule 39 B. Reports on Form 8-K On June 19, 2000, the Company filed a Current Report on Form 8-K, dated June 19, 2000, announcing the issuance of 12,500 shares of its Series A convertible preferred stock in a private placement to institutional investors. All other items are omitted because they are not applicable or the answers are none. 40 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. Microstrategy Incorporated By: /s/ Michael J. Saylor -------------------------- Michael J. Saylor President and Chief Executive Officer By: /s/ ERIC BROWN ---------------------- Eric Brown Chief Financial Officer Date: August 14, 2000 EXHIBIT INDEX 3.1 Amended and Restated Certificate of Incorporation of the Company (Filed as Exhibit 3.1 to the Company's Registration Statement on Form S-1 (Registration No. 333-49899) and incorporated by reference herein) 3.2 Certificate of Amendment to the Amended and Restated Certificate of Incorporation of the Company 3.3 Certificate of Designations, Preferences and Rights of the Series A Convertible Preferred Stock (Filed as Exhibit 3.1 to the Company's Current Report on Form 8-K (File No. 000-24435) filed on June 19, 2000 and incorporated by reference herein) 3.4 Restated Bylaws of the Company (Filed as Exhibit 3.2 to the Company's Registration Statement on Form S-1 (Registration No. 333- 49899) and incorporated by reference herein) 4.1 Form of Certificate of Class A Common Stock of the Company (Filed as Exhibit 4.1 to the Company's Registration Statement on Form S-1 (Registration No. 333-49899) and incorporated by reference herein) 10.1 First Modification Agreement, dated May 15, 2000, among Bank of America, N.A., MicroStrategy Incorporated, Michael J. Saylor and Alcantara LLC (Filed as Exhibit 10.3 to the Company's Quarterly Report on Form 10-Q for the quarterly period ended March 31, 2000 (File No. 000-24435) and incorporated by reference herein) 10.2 Registration Rights Agreement, dated as of June 17, 2000, by and among MicroStrategy Incorporated and each of the signatories thereto (Filed as Exhibit 10.1 to the Company's Current Report on Form 8-K (File No. 000-24435) filed on June 19, 2000 and incorporated by reference herein) 10.3 Amendment No. 1 to the 1999 Stock Option Plan of the Company 10.4 Pledge and Security Agreement, dated June 29, 2000, by MicroStrategy Incorporated in favor of Bank of America N.A. (Filed as Exhibit 10.1 to the Company's Registration Statement on Form S-3 (Registration No. 333-42994) and incorporated by reference herein) 10.5 Letter Agreement, dated June 29, 2000, from Bank of America N.A. (Filed as Exhibit 10.2 to the Company's Registration Statement on Form S-3 (Registration No. 333-42994) and incorporated by reference herein) 27.1 Financial Data Schedule EX-3.(I) 2 0002.txt EXHIBIT 3.2 CERTIFICATE OF AMENDMENT Exhibit 3.2 ----------- CERTIFICATE OF AMENDMENT TO THE AMENDED AND RESTATED CERTIFICATE OF INCORPORATION OF MICROSTRATEGY INCORPORATED. MicroStrategy Incorporated (the "Corporation"), a corporation duly organized and existing under and by virtue of the General Corporation Law of the State of Delaware, does hereby certify as follows: By written action of the Board of Directors of the Corporation a resolution was duly adopted, pursuant to Section 141 and 242 of the General Corporation Law of the State of Delaware, setting forth an amendment to the Amended and Restated Certificate of Incorporation of the Corporation, as amended, and declaring said amendment to be advisable and directing that it be submitted to and be considered by the stockholders of the Corporation for approval. The stockholder of the Corporation duly approved said proposed amendment by written consent in accordance with Section 228 and 242 of the General Corporation Law of the State of Delaware, and written notice of such consent had been or will be given to all stockholders who have not consented in writing to said amendment. The resolution setting forth the amendment is as follows: RESOLVED: That the first paragraph of Article IV of the Amended and Restated Certificate of Incorporation, as amended, be and hereby is deleted in its entirely and the following Article IV is inserted in lieu thereof: The total number of shares of capital stock which the corporation shall have the authority to issue is 500,000,000 shares, consisting of three classes of capital stock: (a) 330,000,000 shares of Class A Common Stock, par value $0.001 per share (the "Class A Common Stock"); (b) 165,000,000 shares of Class B Common Stock, par value $0.001 per share (the "Class B Common Stock") (the Class A Common Stock and the Class B Common Stock are collectively referred to as the "Common Stock"); and (c) 5,000,000 shares of Preferred Stock, par value $0.001 per share (the "Preferred Stock"). EXECUTED by the undersigned on the 19th day of June, 2000. MICROSTRATEGY INCORPORATED By: /s/ Michael J. Saylor - - ------------------------- Michael J. Saylor President EX-10 3 0003.txt EXHIBIT 10.3 AMENDMENT NO. 1 1999 STOCK OPTION Exhibit 10.3 ------------ Amendment No. 1 to the 1999 Stock Option Plan of MicroStrategy Incorporated The first sentence of Section 4(a) of the 1999 Stock Option Plan (the "Plan") of MicroStrategy Incorporated is hereby amended and restated in its entirety, subject to stockholder approval, to provide as follows: "Subject to adjustment under Section 6 (except as such provisions relate to stock splits effected prior to May 11, 2000), Awards may be made under the Plan for up to 11,000,000 shares of Class A Common Stock, $0.001 par value per share, of the Company (the "Common Stock")." Adopted by the Board of Directors on May 11, 2000 EX-27 4 0004.txt EXHIBIT 27.1 FINANCIAL DATA SCHEDULE
5 6-MOS DEC-31-2000 JUN-30-2000 122,423,000 6,208,000 46,049,000 5,333,000 0 185,388,000 70,534,000 16,380,000 287,677,000 131,943,000 0 0 119,794,000 80,000 22,539,000 287,677,000 47,840,000 100,959,000 997,000 38,534,000 149,519,000 0 10,000 (84,742,000) 250,000 (84,992,000) 0 0 0 (84,992,000) (1.32) (1.32)
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