10-Q, Documentum, Inc.

10-Q 1 f77012e10-q.htm QUARTERLY REPORT FOR THE PERIOD ENDED 9/30/01 10-Q, Documentum, Inc.

UNITED STATES
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 September 30, 2001

	OR

[ ]	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from to

Commission file number: 0-27358

DOCUMENTUM, INC.

(exact name of registrant as specified in its charter)


Delaware (State or other jurisdiction of incorporation or organization)		95-4261421 (I.R.S. Employer Identification No.)

6801 Koll Center Parkway, Pleasanton, California (Address of principal executive offices)		94566-7047 (Zip Code)

(Registrant’s telephone number, including area code): (925) 600-6800

Securities registered pursuant to Section 12(b) of the Act: None

Securities registered pursuant to Section 12(g) of the Act:
Nasdaq National Market
Common Stock, $0.001 par value
(Title of Class)

Indicate by check mark whether the registrant 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 outstanding shares of the registrant’s Common Stock, par value $0.001 per share, was 38,279,177 on September 30, 2001.

TABLE OF CONTENTS


PART I. FINANCIAL INFORMATION
	ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
		CONDENSED CONSOLIDATED BALANCE SHEETS
		CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
		CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOW
		NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
	ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
	ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
PART II. OTHER INFORMATION
	ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
SIGNATURE

FORM 10-Q

Index


PART I		FINANCIAL INFORMATION
	Item 1.	Condensed Consolidated Financial Statements
		Condensed Consolidated Balance Sheets as of September 30, 2001 and December 31, 2000	Page 3
		Condensed Consolidated Statements of Operations for the three and nine months ended September 30, 2001 and 2000	Page 4
		Condensed Consolidated Statements of Cash Flow for the nine months ended September 30, 2001 and 2000	Page 5
		Notes to Condensed Consolidated Financial Statements	Page 6
	Item 2.	Management's Discussion and Analysis of Financial Condition and Results of Operations	Page 13
	Item 3.	Quantitative and Qualitative Disclosures About Market Risk	Page 26
PART II		OTHER INFORMATION
	Item 6.	Exhibits and Reports on Form 8-K	Page 26
Signature			Page 26

PART I. FINANCIAL INFORMATION

ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

DOCUMENTUM, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands, except per share data; unaudited)


			September 30,			December 31,
			2001			2000

ASSETS
Current assets:
	Cash and cash equivalents		$	44,835		$	43,918
	Short-term investments			43,302			59,217
	Accounts receivable, net			42,970			57,156
	Other current assets			16,538			13,920

		Total current assets		147,645			174,211
Property and equipment, net				35,574			35,667
Long-term cash investments				8,175			1,013
Other assets				7,892			7,569

			$	199,286		$	218,460

LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
	Accounts payable		$	2,467		$	5,751
	Accrued liabilities			43,245			42,281
	Deferred revenue			27,201			21,073
	Current portion of capital lease obligation			45			65

		Total current liabilities		72,958			69,170

Other long-term liabilities				710			—

Stockholders’ equity:
	Preferred stock, $0.001 par value; 10,000 shares authorized; none issued and outstanding			—			—
	Common stock, $0.001 par value; 200,000 shares authorized; 38,279 and 36,847 shares issued and outstanding			38			37
	Additional paid-in capital			181,798			168,733
	Accumulated other comprehensive loss			(772	)		(702	)
	Accumulated deficit			(55,446	)		(18,778	)

		Total stockholders’ equity		125,618			149,290

			$	199,286		$	218,460

See accompanying notes to condensed consolidated financial statements.

DOCUMENTUM, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share data; unaudited)


			Three Months Ended					Nine Months Ended
			September 30,					September 30,

			2001			2000		2001			2000

Revenue:
	License		$	19,767		$	31,368	$	62,029		$	81,824
	Service			25,060			20,342		73,665			56,778

		Total revenue		44,827			51,710		135,694			138,602

Cost of revenue:
	License			1,177			2,301		4,349			5,726
	Service			11,755			9,617		36,705			27,467

		Total cost of revenue		12,932			11,918		41,054			33,193

Gross profit				31,895			39,792		94,640			105,409

Operating expense:
	Sales and marketing			25,965			22,044		80,102			59,591
	Research and development			8,128			9,172		26,537			25,647
	General and administrative			6,121			5,846		19,069			16,878
	Restructuring costs			—			—		3,817			—

		Total operating expense		40,214			37,062		129,525			102,116

Income (loss) from operations				(8,319	)		2,730		(34,885	)		3,293
Interest and other income, net				667			1,104		3,009			3,303
Permanent impairment of investment				—			—		(2,012	)		—

Income (loss) before income tax provision				(7,652	)		3,834		(33,888	)		6,596
Provision for income taxes				156			1,265		2,780			2,177

Net income (loss)			$	(7,808	)	$	2,569	$	(36,668	)	$	4,419

Basic earnings (loss) per share			$	(0.20	)	$	0.07	$	(0.97	)	$	0.12
Diluted earnings (loss) per share			$	(0.20	)	$	0.06	$	(0.97	)	$	0.11
Shares used to compute earnings (loss) per share
Basic				38,106			36,056		37,728			35,236
Diluted				38,106			39,948		37,728			39,246

See accompanying notes to condensed consolidated financial statements.

DOCUMENTUM, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOW
(in thousands; unaudited)


					Nine Months Ended
					September 30,

					2001			2000

Cash flow from operating activities:
	Net income (loss)				$	(36,668	)	$	4,419
	Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities:
		Depreciation and amortization				10,634			7,670
		Provision for doubtful accounts				3,759			818
		Permanent impairment of investment				2,012			—
		Loss on disposal of fixed assets				11			554
		Deferred tax asset				—			3,655
		Changes in assets and liabilities:
			Accounts receivable			10,427			(11,939	)
			Other current assets and other assets			(4,953	)		(1,229	)
			Accounts payable			(3,284	)		(1,996	)
			Accrued and other long-term liabilities			1,614			3,672
			Deferred revenue			6,128			3,022

				Net cash provided by (used in) operating activities		(10,320	)		8,646

Cash flow from investing activities:
	Purchases of investments					(171,812	)		(222,835	)
	Sales of investments					180,565			207,390
	Net purchases of property and equipment					(10,552	)		(12,597	)

				Net cash used in investing activities		(1,799	)		(28,042	)

Cash flow from financing activities:
	Issuance of common stock					13,066			24,403
	Proceeds on capital lease obligations, net					105			—
	Payments on capital lease obligations					(65	)		(180	)

				Net cash provided by financing activities		13,106			24,223

Effect of exchange rate changes on cash						(70	)		(755	)

Net increase in cash and cash equivalents						917			4,072
Cash and cash equivalents at beginning of period						43,918			18,286

Cash and cash equivalents at end of period					$	44,835		$	22,358

See accompanying notes to condensed consolidated financial statements.

DOCUMENTUM, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Note 1. Basis of presentation

The unaudited condensed consolidated financial statements of Documentum included herein reflect all adjustments, consisting only of normal recurring adjustments except as described in Notes 4 and 5, which in the opinion of management are necessary to present fairly the Company’s consolidated financial position, results of operations and cash flow for the periods presented. These financial statements should be read in conjunction with the Company’s audited consolidated financial statements included in the Company’s 2000 Annual Report on Form 10-K. The consolidated results of operations for the period ended September 30, 2001 are not necessarily indicative of the results to be expected for any subsequent quarter or for the fiscal year ending December 31, 2001.

Note 2. New Accounting Standards

In July 2001, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 141 “Business Combinations” and SFAS No. 142 “Goodwill and Other Intangible Assets.” SFAS No. 141 requires business combinations initiated after June 30, 2001 to be accounted for using the purchase method of accounting, and broadens the criteria for recording intangible assets separate from goodwill. SFAS No. 142 requires the use of a nonamortization approach to account for purchased goodwill and certain intangibles. Under a nonamortization approach, goodwill and certain intangibles will not be amortized into results of operations, but instead would be reviewed for impairment and written down and charged to results of operations only in the periods in which the recorded value of goodwill and certain intangibles is more than its fair value. As of September 30, 2001, the Company had no recorded goodwill or intangibles.

In August 2001, the FASB issued SFAS No. 143 “Accounting for Asset Retirement Obligations” and SFAS No. 144 “Accounting for the Impairment or Disposal of Long-Lived Assets.” SFAS No. 143 requires that obligations associated with the retirement of tangible long-lived assets be recorded as a liability when those obligations are incurred, with the amount of the liability measured at fair value. SFAS No. 143 which is effective for fiscal years beginning after June 15, 2002, requires an entity to capitalize the cost by recognizing an increase in the carrying amount of the related long-lived asset. Over time, the liability is accreted to its present value each period, and the capitalized cost is depreciated over the useful life of the related asset. SFAS No. 144 supersedes SFAS No. 121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of. SFAS No. 144 requires the long-lived assets to be disposed of to be measured at the lower of the carrying amount or fair value less cost to sell, whether reported in continuing operations or in discontinued operations. The statement establishes a single accounting model based on the framework established by SFAS No. 121. The provisions of this Statement are effective for financial statements issued for fiscal years beginning after December 15, 2001. As of September 30, 2001, the Company had no asset impairments or significant disposals.

Note 3. Derivative Financial Instruments

On January 1, 2001, the Company adopted SFAS No. 133 “Accounting for Derivative Instruments and Hedging Activities” as amended by SFAS No. 138, which requires that all derivatives be recorded on the balance sheet at fair value. The accounting for changes in the fair value of derivatives depends on the intended use and resulting designation. The Company designates its derivatives based upon the criteria established by SFAS 133. For derivatives designated as a fair value hedge, the gain or loss is recognized in earnings in the period of change together with the offsetting gain or loss on the hedged item attributed to the risk being hedged. For a derivative designated as a cash flow hedge, the effective portion of the derivative’s gain or loss is initially reported as a component of other comprehensive income (“OCI”) and subsequently classified into earnings when the hedged exposure affects earnings. The ineffective portion of the gain or loss is recognized immediately into earnings. For a derivative not designated as a hedging instrument, the gain or loss is recognized in earnings in the period of change. The Company classifies the cash flows from hedging transactions in the same category as the cash flows from the

DOCUMENTUM, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

respective hedged items. The adoption of SFAS 133 did not have a material impact on the Company’s consolidated results of operations, financial position or cash flows.

The Company implemented a hedging policy to manage exposure to foreign currency risk within the consolidated financial statements. As part of that policy, the Company may engage in transactions involving various derivative instruments, with maturities not longer than five years to hedge assets, liabilities, revenues and purchases denominated in foreign currencies.

During the third quarter of fiscal 2001, the Company entered into forward exchange contracts that qualify as fair value hedges under SFAS 133 to hedge foreign currency accounts receivable. These contracts expire within 12 months and are intended to minimize certain foreign currency exposures that can be confidently identified and quantified.

In accordance with SFAS 133, fair value hedges related to anticipated transactions are designated and documented at the inception of each hedge by matching the terms of the contract to the underlying transaction. Once established, fair value hedges are generally not removed until maturity.

The impact of the derivative transactions described above was immaterial for the nine months ended September 30, 2001.

Note 4. Restructuring Costs

In the second quarter of fiscal 2001, in connection with management’s plan to reduce costs and improve operating efficiencies, the Company recorded a restructuring charge of $3.8 million. The restructuring charge was comprised primarily of severance and benefits related to the involuntary termination of approximately 124 employees and cancellation of outstanding accepted offers of employment, of which approximately 86% were based in the United States and the remainder were based in Europe.

The Company’s remaining reserve balance of $0.6 million consists of $0.5 million of current liabilities to be substantially paid out during the remainder of 2001 and within the first nine months of 2002, and $0.1 million of long-term liabilities related to excess facilities primarily with non-cancelable leases (payments, unless sublet by the Company, will continue until fiscal 2005).

The following table sets forth an analysis of the components of the restructuring charge recorded in the second quarter of fiscal 2001:


	Severance
	and		Other
	Benefits		Charges		Total

Severance and benefits	$	3,359,837	$	—	$	3,359,837
Accrued facility lease costs		—		355,728		355,728
Other		—		101,863		101,863

Total restructuring charge	$	3,359,837	$	457,591	$	3,817,428

DOCUMENTUM, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

The following table sets forth the Company’s restructuring reserve as of September 30, 2001:


	Severance
	and			Other
	Benefits			Charges			Total

Restructuring charges	$	3,359,837		$	457,591		$	3,817,428
Cash paid		(3,046,436	)		(195,965	)		(3,242,401	)

Balance of restructuring reserve	$	313,401		$	261,626		$	575,027

On October 18, 2001 the Company announced a plan to further reduce the Company’s expense structure and improve operating efficiencies. Accordingly, the Company expects to record a restructuring charge in the range of $1.5 to 2.5 million during the fourth quarter of 2001.

Note 5. Stock Option Exchange

On April 19, 2001, the Company announced a voluntary stock option exchange program for its employees. Under the program, employees were given the opportunity to elect to cancel outstanding stock options held by them in exchange for an equal number of replacement options to be granted at a future date. The elections to cancel options were effective on June 6, 2001. The exchange resulted in the voluntary cancellation by 216 employees of 2,048,850 employee stock options with varying exercise prices in exchange for the same number of replacement options to be granted at a future date. The replacement options will have the same terms and conditions as each optionee’s cancelled options, including the vesting schedule and expiration date of the cancelled options, except that: (1) the replacement options will be granted no earlier than December 7, 2001 and no later than December 11, 2001, (2) the replacement options will have an exercise price equal to the fair market value of the common stock on the date of the grant, (3) the replacement options will be nonstatutory stock options, and (4) the optionee must be an employee of the Company on the date of grant of the replacement options in order to receive replacement options. All employees were eligible to participate in the program. The Company believes it will not incur any compensation charge in connection with the program.

Note 6. Investment Impairment

During the second quarter of fiscal 2001, the Company recorded an impairment loss of $2.0 million relating to an other-than temporary decline in the fair value of its private equity investment. The impairment was recorded to reflect the investment at fair value. As of September 30, 2001, the Company’s recorded basis in the investment was reduced to zero as the investee had fallen behind in all of its key financial metrics and had limited working capital. The Company does not expect to recover any portion of its investment.

Note 7. Comprehensive income (loss)

Comprehensive income (loss) is comprised of net income (loss) and other non-owner changes in stockholders’ equity, including foreign currency translation gains/losses and unrealized gains or losses on available-for-sale marketable securities. The Company’s unrealized gains and losses on available-for-sale marketable securities have

DOCUMENTUM, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

been insignificant for all periods presented. The Company’s total comprehensive income (loss) was as follows (in thousands):


			Three Months Ended September 30,						Nine Months Ended September 30,

			2001			2000			2001			2000

Net income (loss)			$	(7,808	)	$	2,569		$	(36,668	)	$	4,419
Other comprehensive loss:
	Foreign currency translation adjustment			644			(328	)		(70	)		(755	)

		Comprehensive income (loss)	$	(7,164	)	$	2,241		$	(36,738	)	$	3,664

Note 8. Basic and Diluted Net Income (Loss) Per Share


			Three Months Ended September 30,					Nine Months Ended September 30,

			2001			2000		2001			2000

Net income (loss)			$	(7,808	)	$	2,569	$	(36,668	)	$	4,419

Shares calculation:
	Weighted average shares outstanding			38,106			36,056		37,728			35,236
	Stock options			—			3,892		—			4,010

		Total shares used to compute diluted earnings per share		38,106			39,948		37,728			39,246

Income (loss) per basic share			$	(0.20	)	$	0.07	$	(0.97	)	$	0.12

Income (loss) per diluted share			$	(0.20	)	$	0.06	$	(0.97	)	$	0.11

Basic net income (loss) per share is computed using the weighted average number of shares of common stock. Diluted net income (loss) per share is computed using the weighted average number of shares of common stock and common equivalent shares outstanding during the period. Common equivalent shares consist of stock options (using the treasury stock method). Common equivalent shares are excluded from the computation if their effect is anti-dilutive.

Options to purchase 1,604,786 and 506,736 shares of common stock were outstanding during the three months ended September 30, 2001 and 2000, respectively, and options to purchase 2,827,985 and 336,056 shares of common stock were outstanding during the nine months ended September 30, 2001 and 2000, respectively, but were not included in the computation of diluted earnings (loss) per share because either the option’s exercise price was greater than the average market price of the common shares during the period or inclusion of such options would have been anti-dilutive.

Note 9. Segment Reporting

The Company’s management considers its business activities to be focused on the license of its products and related services to customers. Since management’s primary form of internal reporting is aligned with the offering of products and services, the Company believes it operates in these two segments.

DOCUMENTUM, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Internationally, the Company markets and supports its products and services primarily through its subsidiaries and various distributors. Service revenue consists of customer maintenance and consulting and training services. Revenue is generally attributed to geographic areas based upon the billing location of the customer. Maintenance revenue, however, is currently recorded in its entirety in North America. For the three and nine month periods ended September 30, 2001 and 2000, no one customer accounted for more than 10% of total revenue. Long-lived assets are attributed to geographic areas based on the country where the assets are located.

DOCUMENTUM, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

The following table presents a breakdown of revenue and long-lived assets by geographic region for the three and nine months ended September 30, 2001 and 2000 (in thousands):

License Service Total Long-Lived

For the three months ended September 30, 2001 Revenue Revenue Revenue Assets

$ $ $ $

North America
12,265 21,116 33,381 31,768

Europe
6,100 3,740 9,840 2,978

Asia/Pacific
176 204 380 828

Other
1,226 — 1,226 —

Total
19,767 25,060 44,827 35,574

License Service Total Long-Lived

For the three months ended September 30, 2000 Revenue Revenue Revenue Assets

$ $ $ $

North America
20,851 17,137 37,988 28,756

Europe
8,350 3,146 11,496 2,886

Asia/Pacific
1,107 59 1,166 761

Other
1,060 — 1,060 —

Total
31,368 20,342 51,710 32,403

License Service Total Long-Lived

For the nine months ended September 30, 2001 Revenue Revenue Revenue Assets

$ $ $ $

North America
34,385 61,183 95,568 31,768

Europe
21,926 11,913 33,839 2,978

Asia/Pacific
3,939 569 4,508 828

Other
1,779 — 1,779 —

Total
62,029 73,665 135,694 35,574

License Service Total Long-Lived

For the nine months ended September 30, 2000 Revenue Revenue Revenue Assets

$ $ $ $

North America
50,795 48,306 99,101 28,756

Europe
27,608 8,414 36,022 2,886

Asia/Pacific
1,958 58 2,016 761

Other
1,463 — 1,463 —

Total
81,824 56,778 138,602 32,403

DOCUMENTUM, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Note 10. Related Party Transactions

During the three months ended September 30, 2001, the Company recognized net revenues of approximately $0.5 million on license arrangements with The Capital Group. As of June 30, 2001, The Capital Group owned approximately 14% of the Company’s Common Stock. The Company’s management believes that prices charged by the Company on the arrangements were comparable to those given to other customers of the Company.

Note 11. Subsequent Events

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Forward-Looking Statements

The following discussion contains forward-looking statements regarding the Company, its business, prospects and results of operations that are subject to certain risks and uncertainties posed by many factors and events that could cause the Company’s actual business, prospects and results of operations to differ materially from those that may be anticipated by such forward-looking statements. Factors that could cause or contribute to such differences include, but are not limited to, those discussed herein as well as those discussed under the caption “Risk Factors”. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date of this report. The Company undertakes no obligation to revise any forward-looking statements in order to reflect events or circumstances that may subsequently arise. Readers are urged to carefully review and consider the various disclosures made by the Company in this report and in the Company’s other reports filed with the Securities and Exchange Commission that attempt to advise interested parties of the risks and factors that may affect the Company’s business.

Results of Operations

The following table sets forth certain items from the Company’s condensed consolidated statements of operations as a percentage of total revenue for the periods indicated:


			Three Months Ended						Nine Months Ended
			September 30,						September 30,

			2001			2000			2001			2000

Revenue:
	License			44	%		61	%		46	%		59	%
	Service			56	%		39	%		54	%		41	%

		Total revenue		100	%		100	%		100	%		100	%

Cost of revenue:
	License			3	%		4	%		3	%		4	%
	Service			26	%		19	%		27	%		20	%

		Total cost of revenue		29	%		23	%		30	%		24	%

Gross profit				71	%		77	%		70	%		76	%

Operating expense:
	Sales and marketing			58	%		43	%		59	%		43	%
	Research and development			18	%		18	%		20	%		19	%
	General and administrative			14	%		11	%		14	%		12	%
	Restructuring costs			—			—			3	%		—

		Total operating expense		90	%		72	%		96	%		74	%

Income (Loss) from operations				(19	%)		5	%		(26	%)		2	%
Interest and other income, net				2	%		2	%		2	%		2	%
Permanent impairment of investment				—			—			(1	%)		—

Income (loss) before income tax provision				(17	%)		7	%		(25	%)		5	%
Provision for income taxes				—			2	%		2	%		2	%

Net income (loss)				(17	%)		5	%		(27	%)		3	%

As a Percentage of Related Revenue:
Cost of license revenue				6	%		7	%		7	%		7	%
Cost of service revenue				47	%		47	%		50	%		48	%

Revenue

The Company’s revenue is derived from the sale of licenses for its internet-scale content management solutions and related services, which include maintenance and support, consulting and training services. Revenue from license arrangements is recognized upon contract execution, provided all shipment obligations have been met, fees are fixed or determinable, and collection is probable. The Company uses the residual method to recognize revenue when a license agreement includes one or more elements to be delivered at a future date if evidence of the fair value of all undelivered elements exists. If an undelivered element of the arrangement exists under the license arrangement, revenue is deferred based on vendor-specific objective evidence of the fair value of the undelivered element. If vendor-specific objective evidence of fair value does not exist for all undelivered elements, all revenue is deferred until sufficient evidence exists or all elements have been delivered. Allowances for estimated future returns are provided upon shipment. Amounts billed or payments received in advance of revenue recognition are recorded as deferred revenue. Revenue from annual maintenance and support agreements is deferred and recognized ratably

over the term of the contract. Revenue from consulting and training is deferred and recognized when the services are performed and collectibility is deemed probable.

The United States and Europe have been experiencing a general decline in economic conditions. The downturn in the world economy was exacerbated in the second half of September, resulting in reduced spending for a variety of goods and services, including many technology products. During the three and nine months ended September 30, 2001, the Company experienced the direct impact of a weakening world-wide economy as evidenced by a reduction in the average customer purchase, yet saw an increase in product demand as seen by an increase in the number of orders and new customers. The reduction in average customer orders resulted in lower than anticipated license revenue and a net loss. The Company plans to monitor the status of the United States and European economies and, specifically, demand for its products in the United States and Europe. As a result of the continued downturn in the world economy, the Company has developed measures to further reduce the existing expense structure through a second restructuring.

License revenue decreased by 37% or $11.6 million to $19.8 million for the three months ended September 30, 2001 from $31.4 million for the three months ended September 30, 2000 and decreased by 24% or $19.8 million to $62.0 million for the nine months ended September 30, 2001 from $81.8 million for the nine months ended September 30, 2000. The decrease in license revenue in absolute dollar amount and as a percentage of total revenue for both periods discussed is a result of continued softness in overall demand for enterprise wide software licenses. The Company continues to see a shift from larger, enterprise-wide transactions to an increased volume of lower-dollar point solutions as evidenced by an increase in number of transactions and reduction in average revenue per deal. In addition to the weakness in the United States economy that has been prevalent over the last nine months, the Company continues to experience the effects of an economic downturn in its European market and began to see a downturn in its Asia/Pacific market as well for the three months ended September 30, 2001. The events of September 11th resulted in a number of delays to orders in the pipeline and will continue to impact demand for the Company’s products in certain industries such as airlines and travel and entertainment. The Company had sales to one customer which accounted for $2.2 million or 11% of license revenue for the three months ended September 30, 2001. The Company did not have any sales to a single customer that accounted for greater than 10% of license revenue for the nine months ended September 30, 2001. For the three months ended September 30, 2000, the Company had sales to two customers which accounted for $5.6 million and $3.2 million of license revenue, respectively, or 18% and 10% of license revenue, respectively. The Company did not have any sales to a single customer that accounted for greater than 10% of license revenue for the nine months ended September 30, 2000.

Service revenue increased by 24% to $25.1 million for the three months ended September 30, 2001 from $20.3 million for the three months ended September 30, 2000, representing 56% and 39% of total revenues in the respective periods and increased by 30% to $73.7 million for the nine moths ended September 30, 2001 from $56.8 million for the nine months ended September 30, 2000 representing 54% and 41% of total revenues in the respective periods. The increase in absolute dollar amount was attributable to a larger installed base of customers receiving ongoing maintenance, training and support services and increases in the Company’s professional services staff in conjunction with the Company’s focus to expand solution offerings to customers. The increase as a percentage of revenue was due to the decrease in license revenue, as described above.

The Company markets its products through its direct sales force and its indirect channel partners. While historically the Company has generated the majority of its revenue from its direct sales force, the Company has also focused on complementing its direct sales channel with indirect channels, consisting of systems integrators, technology partners, original equipment manufacturers, distributors, and application service providers. Revenues from indirect channel partners comprised 66% and 34% of license revenues for the three months ended September 30, 2001 and 2000, respectively, and 46% and 40% of license revenue for the nine months ended September 30, 2001 and 2000, respectively. The Company has continued to invest in channel programs and will continue to emphasize partner relationships to expand its channels of distribution. Revenue from indirect partners for any period is subject to significant variations. As a result, the Company believes that period to period comparisons of indirect revenue are not necessarily meaningful and should not be relied upon as an indication of future performance.

International revenue represented 38% and 34% of license revenue for the three months ended September 30, 2001 and 2000, respectively, and 45% and 38% of license revenues for the nine months ended September 30, 2001 and 2000, respectively. The increase in international revenue as a percentage of license revenue in 2001 was primarily

due to a decrease in total license revenue. In addition, the Company had enterprise-wide sales to two customers in Europe totaling $4.1 million during the nine months ended September 30, 2001, which increased international revenue as a percentage of overall worldwide sales. The general industry slowdown during the first nine months of 2001 negatively impacted domestic revenue to a greater extent than international revenue. However, the Company has experienced softness in its European market and began to see softness in its Asia/Pacific markets for the three months ended September 30, 2001 as customers are scrutinizing their budgets more closely in light of the global economic weakness. The Company classifies license revenues as domestic or international based upon the billing location of the customer. In many instances, especially with large purchases from multinational companies, the customer has the right to deploy the licenses anywhere in the world. Thus, the percentages discussed herein represents where licenses were sold, and may or may not represent where the products are used. As a result, the Company believes that period to period comparisons of international revenue are not necessarily meaningful and should not be relied upon as an indication of future performance.

Cost of revenue

Cost of license revenue consists primarily of royalties paid to third-party vendors, packaging, documentation, production, and freight costs. Royalties, which are paid to third-parties for selected products, include both fixed and variable fees. Cost of license revenue decreased by 48% to $1.2 million for the three months ended September 30, 2001 from $2.3 million for the three months ended September 30, 2000 and decreased by 25% to $4.3 million for the nine months ended September 30, 2001 from $5.7 million for the nine months September 30, 2000, representing 6% and 7% for the related license revenue for the three months ended September 30, 2001 and 2000, and 7% for the nine months ended September 30, 2001 and 2000. The decrease in cost of license revenue for the nine months ended September 30, 2001, in absolute dollar amount, was related to lower license sales for the nine months ended September 30, 2001 over the comparable period, as well as continued shift in the mix of products being sold. Cost of revenue decreased as a percentage of license revenues for the three months ended September 30, 2001 over the comparable period in 2000 and remained the same for the nine months ended September 30, 2001 over the comparable period in 2000. The decrease for the three months ended September 30, 2001 over the comparable period reflects that sales of royalty bearing revenue did not grow proportionately to sales of non-royalty bearing license revenue. The Company currently carries and integrates into its products more third-party products and is selling a greater number of those products than it had in the same period in the prior year. The Company expects the cost of license revenue to fluctuate in absolute dollar amount and as a percentage of total license revenue as the related license revenue fluctuates.

Cost of service revenue consists primarily of personnel-related costs incurred in providing consulting services, training to customers and maintenance services, which includes telephone support. Cost of service revenue increased by 23% to $11.8 million for the three months ended September 30, 2001 from $9.6 million for the three months ended September 30, 2000 and increased by 33% to $36.7 million for the nine months ended September 30, 2001 from $27.5 million for the nine months ended September 30, 2000, representing 47% of the related service revenue for the three months ended September 30, 2001 and 2000, respectively, and 50% and 48% of the related service revenue for the nine months ended September 30, 2001 and 2000, respectively. The increase in cost of service revenue in absolute dollar amount and as a percentage of service revenue for the nine months ended September 30, 2001 was a result of increased personnel-related costs as the Company expanded its consulting, training and maintenance operations to support its larger installed customer base, as well as an increase in solutions offered to customers. The Company expects the cost of service revenue to increase in absolute dollar amount as the related service revenue increases.

Operating expenses

Sales and marketing. Sales and marketing expenses consist primarily of salaries, benefits, sales commissions and other expenses related to the direct sales force, various marketing expenses and costs of other market development programs. Sales and marketing expenses increased by 18% to $26.0 million for the three months ended September 30, 2001 from $22.0 million for the three months ended September 30, 2000 and increased 34% to $80.1 million for the nine months ended September 30, 2001 from $59.6 million for the nine months ended September 30, 2000 representing 58% and 43% of total revenues for the three months ended September 30, 2001 and 2000, respectively, and 59% and 43% of total revenue for the nine months ended September 30, 2001 and 2000, respectively. The increase in absolute dollar amount in 2001 over the comparable period in 2000 was the result of the Company’s

strategy to continue to invest in its sales and marketing infrastructure, including an increase in the number of sales teams and marketing programs in order to create awareness and solidify its position as the leader in the content management market. In addition, in September 2001 the Company incurred a loss of $1.2 million associated with its annual Momentum trade event as opposed to near break-even results recorded for such an event during the fourth quarter of 2000. This loss in 2001 was attributed to last-minute cancellation of attendee registrations in light of travel restrictions imposed by many of the Company’s customers following the events of September 11th.

Research and development. Research and development expenses consist primarily of salaries and benefits for software developers, contracted development efforts and related facilities costs. Research and development expenses decreased 12% to $8.1 million for the three months ended September 30, 2001 from $9.2 million for the three months ended September 30, 2000, and increased by 3% to $26.5 million for the nine months ended September 30, 2001 from $25.6 million for the nine months ended September 30, 2000, representing 18% of total revenues for the three months ended September 30, 2001 and 2000, respectively and 20% and 19% of total revenues for the nine months ended September 30, 2001 and 2000, respectively. The increase in absolute dollar amount for the nine months ended September 30, 2001 reflects the expansion of the Company’s engineering staff and related costs required to support the development of new products, as well as localization and enhancements to existing products. The proportionate decrease in absolute dollar amount for the three months ended September 30, 2001, reflects the Company’s focus on cost-reduction efforts undertaken during the period. Based on the Company’s research and development process, costs incurred between the establishment of technological feasibility and general release have been insignificant and therefore have been expensed as incurred. The Company expects research and development costs will continue to remain constant in absolute dollar amount in order to maintain a consistent level of development of both existing and new products.

General and Administrative. General and administrative expenses consist primarily of personnel costs for finance, information technology, legal, human resources and general management, as well as outside professional services. General and administrative expenses increased by 5% to $6.1 million for the three months ended September 30, 2001 from $5.8 million for the three months ended September 30, 2000, and increased 13% to $19.1 million for the nine months ended September 30, 2001 from $16.9 million for the nine months ended September 30, 2000, representing 14% and 11% of total revenues for the three months ended September 30, 2001 and 2000, respectively, and 14% and 12% of total revenues for the nine months ended September 30, 2001 and 2000, respectively. The increase in absolute dollar amount for the three and nine months ended September 30, 2001 over the comparable periods in 2000 was primarily due to increased staffing and professional fees necessary to manage and support the Company’s planned growth, as well as consulting costs associated with changes to the Company’s information systems. The increase as a percentage of total revenue was due to the decrease in license revenues for both the three and nine months ended September 30, 2001 over the comparable periods in 2000, as described above.

Restructuring Costs. In the second quarter of fiscal 2001, in connection with management’s plan to reduce costs and improve operating efficiencies, the Company recorded a restructuring charge of $3.8 million. The restructuring charge was comprised primarily of severance and benefits related to the involuntary termination of approximately 124 employees and cancellation of outstanding accepted offers of employment, of which approximately 86% were based in the United States and the remainder were based in Europe.

The following table sets forth an analysis of the components of the restructuring charge recorded in the second quarter of fiscal 2001:


	Severance
	and		Other
	Benefits		Charges		Total

Severance and benefits	$	3,359,837	$	—	$	3,359,837
Accrued facility lease costs		—		355,728		355,728


	Severance
	and		Other
	Benefits		Charges		Total

Other		—		101,863		101,863

Total restructuring charge	$	3,359,837	$	457,591	$	3,817,428

The following table sets forth the Company’s restructuring reserve as of September 30, 2001:


	Severance
	and			Other
	Benefits			Charges			Total

Restructuring charges	$	3,359,837		$	457,591		$	3,817,428
Cash paid		(3,046,436	)		(195,965	)		(3,242,401	)

Balance of restructuring reserve	$	313,401		$	261,626		$	575,027

On October 18, 2001 the Company announced that primarily due to a continued downturn in the United States and world-wide economies and the effects of the September 11th events a significant number of orders which were expected to close in September 2001 had been delayed. Consequently, the Company reported a net loss for the three-month period ended September 30, 2001. As a result of the aforementioned, management developed a plan to further reduce the Company’s expense structure and improve operating efficiencies. The Company expects to record a restructuring charge in the range of $1.5 to 2.5 million during the fourth quarter of 2001.

Interest and other income, net

Interest and other income, net, consists primarily of interest income earned on the Company’s cash, cash equivalents, short-term investments, long-term investments, and other items including foreign exchange gains and losses, the loss on sale of fixed assets and interest expense. Interest and other income, net decreased by $0.4 million for the three months ended September 30, 2001 to $0.7 million from $1.1 million for the three months ended September 30, 2000 and decreased by $0.3 million for the nine months ended September 30, 2001 to $3.0 million from $3.3 million for the nine months ended September 30, 2000. The decrease for the three and nine months ended September 30, 2001 over the same period in 2000 was due to a significant reduction in interest rates. To date, the Company’s international sales have been generally denominated in U.S. dollars however, when denominated in a foreign currency the Company has engaged in hedging activities as the exposure to currency fluctuations has been significant. In the future, as the Company expands its international operations, the Company may have an increased amount of non-U.S. dollar denominated contracts. Unexpected changes in exchange rates for these foreign currencies could result in significant fluctuation in the foreign currency translation gains and losses in future periods.

Income taxes

Income tax provision (benefit) for the interim periods is based on estimated annual income tax rates. The Company’s effective rate for the three and nine months ended September 30, 2001 was 2% and 8%, respectively, and was 33% for the three and nine months ended September 30, 2000. The decrease in the Company’s effective tax rate is a result of its loss position during the nine months ended September 30, 2001. The Company’s 2001 tax rate represents tax on projected international income. The tax rate may vary by quarter based on the Company’s results and the mix of domestic and international income.

Derivative Financial Instruments

derivatives designated as a fair value hedge, the gain or loss is recognized in earnings in the period of change together with the offsetting gain or loss on the hedged item attributed to the risk being hedged. For a derivative designated as a cash flow hedge, the effective portion of the derivative’s gain or loss is initially reported as a component of other comprehensive income (“OCI”) and subsequently classified into earnings when the hedged exposure affects earnings. The ineffective portion of the gain or loss is recognized immediately into earnings. For a derivative not designated as a hedging instrument, the gain or loss is recognized in earnings in the period of change. The Company classifies the cash flows from hedging transactions in the same category as the cash flows from the respective hedged items. The adoption of SFAS 133 did not have a material impact on the Company’s consolidated results of operations, financial position or cash flows.

The impact of the derivative transactions described above was immaterial for the nine months ended September 30, 2001.

The Company is in the process of implementing a new billing process. As a result, the Company anticipates a greater number of foreign currency receivables and an increase in the number of transactions involving derivative instruments.

Stock Option Exchange

Liquidity and Capital Resources

The Company’s cash, cash equivalents and short-term investments totaled $88.1 million at September 30, 2001 representing 44% of total assets. The Company has invested its cash in excess of current operating requirements in investment grade securities. The investments have variable and fixed interest rates and primarily short-term maturities. In accordance with SFAS 115, “Accounting for Certain Investments in Debt and Equity Securities,” such investments are classified as “available-for sale.”

Net cash used in operating activities was $10.3 million for the nine months ended September 30, 2001 as compared with net cash provided by operating activities of $8.6 million for the nine months ended September 30, 2000. For the nine months ended September 30, 2001, cash used in operations was primarily attributable to a net loss of $36.7 million, adjusted for depreciation and amortization of $10.6 million, provision for doubtful accounts of $3.8 million, permanent impairment of investment of $2.0 million, as discussed below, a decrease in accounts receivable of $10.4 million, an increase in accrued liabilities and deferred revenue of $1.6 million and $6.1 million, respectively, offset by an increase in other current assets and other assets of $4.9 million and a decrease in accounts payable of $3.2 million. For the nine months ended September 30, 2000, cash generated by operations was primarily attributable to net income of $4.4 million, adjusted for depreciation and amortization of $7.7 million, provision for doubtful accounts of $0.8 million and loss on the disposal of fixed assets of $0.5 million, a decrease in deferred tax assets of $3.6 million, an increase in accrued liabilities and deferred revenue of $3.7 million and $3.0 million, respectively, offset by an increase in accounts receivable of $11.9 million and decreases in accounts payable and other assets of $2.0 million and $1.2 million, respectively.

The Company regularly evaluates the recoverability of long-term securities and other long-lived assets by measuring the carrying amount of the assets against the estimated future cash flows associated with them. At the time such evaluations indicate that the future undiscounted cash flows are not sufficient to recover the carrying value of such assets, the assets are deemed to be impaired and adjusted to their fair values. During the second quarter of fiscal 2001, the Company recorded an impairment loss of $2.0 million related to an other-than temporary decline in the fair value of its private equity investment. The impairment was recorded to reflect the investment at fair value. As of September 30, 2001, the Company’s recorded basis in the investment was reduced to zero as the investee had fallen behind in all of its key financial metrics and had limited working capital. The Company does not expect to recover any portion of its investment.

For the nine months ended September 30, 2001 and 2000, capital expenditures were $10.6 million and $12.6 million, respectively. Capital expenditures for the nine months ended September 30, 2001 and 2000, were primarily for computer equipment and computer software applications related to the changes and improvements made in the Company’s information systems. Additionally, for the nine months ended September 30, 2000, expenditures were made for office furniture and leasehold improvements related to the new office facility described below.

For the nine months ended September 30, 2001, the Company received $7.4 million and $5.6 million in proceeds from employee stock option exercises and employee stock purchase plan purchases, respectively.

In 1999, the Company entered into two capital lease agreements under a sale-leaseback arrangement for the rental of computer equipment in the amount of $292,000 and $171,000. The lease agreements required quarterly principal and interest payments in the amount of $37,000 and $22,000, respectively. The leases had interest rates of 1.66% and 2.605% and maturity dates of July 2001 and September 2001, respectively. The remaining amounts related to these leases at December 31, 2000 were paid in the first quarter of fiscal year 2001.

In August 2001, the Company entered into a capital lease arrangement for the rental of computer equipment in the amount of $108,000. The lease agreement requires quarterly principal and interest payments in the amount of $12,000. The lease has an interest rate of 5.77% and has a maturity date of December 2003.

In June 1998, the Company signed and made a deposit of $2.5 million to lease approximately 122,000 square feet and 63,000 square feet in Pleasanton, California beginning in June 1999 and November 1999, respectively, and expiring in May 2005 and March 2006, respectively. In January 2000, the Company signed an amendment to the existing leases, which provides for the rental of an additional 37,138 square feet of space, beginning July 2000 and expiring in March 2006. The Pleasanton, California space serves as the Company’s headquarters and contains the principal administrative, engineering, marketing and sales facilities. The Company has made and will continue to make significant capital purchases related to leasehold improvements and office furniture for new facilities. The Company currently has no other significant capital spending or purchase commitments other than normal purchase commitments and commitments under facilities leases.

The Company believes that its existing cash, cash equivalents, short-term investment balances and the cash flows generated from operations, if any, will be sufficient to meet its anticipated cash needs for working capital and capital expenditures for at least the next twelve months. A portion of the Company’s cash could be used to acquire

or invest in complementary businesses or products or obtain the right to use complementary technologies. The Company periodically evaluates, in the ordinary course of business, potential investments such as businesses, products or technologies. See “Risk Factors. “

Risk Factors

The Company’s operating results are unpredictable and may vary. Our future operating results may vary significantly and are difficult to predict due to a number of factors, of which many are beyond our control. These factors include:

•      demand for our products;

•      the level of product and price competition;

•      the length of our sales cycle;

•      the size and timing of individual license transactions;

•      the delay or deferral of customer implementations;

•      our success in expanding our customer support organization, direct sales force and indirect distribution channels;

•      the timing of new product introductions and product enhancements;

•      changes in our pricing policy;

•      the publication of opinions concerning us, our products or technology by industry analysts;

•      the mix of products and services sold;

•      levels of international sales;

•      activities of and acquisitions by competitors;

•      the timing of new hires;

•      changes in foreign currency exchange rates;

•      our ability to develop and market new products and control costs; and

•      domestic and international economic and political conditions.

One or more of the foregoing factors may cause our operating expenses to be disproportionately high during any given period or may cause our net revenue and operating results to fluctuate significantly.

Readers should not rely on our quarterly operating results as an indication of our future results because they are subject to significant fluctuations. Our net revenue and operating results may vary drastically from quarter to quarter because of numerous factors largely beyond our control, including the following:

•      the potential delay in recognizing revenue from license transactions;

•      the discretionary nature of our customers’ budget and purchase cycles;

•      variations in our customers’ fiscal or quarterly cycles;

•      the size and complexity of our license transactions;

•      the timing of new product releases;

•      seasonal variations in operating results; and

•      the tendency to realize a substantial amount of revenue in the last weeks, or even days, of each quarter.

The United States and Europe have continued to experience a general decline in economic conditions, which worsened as a result of the events of September 11th. The downturn in general economic conditions has led to reduced demand for a variety of goods and services, including many technology products. During the three and nine months ended September 30, 2001, the Company saw a significant decrease in the overall demand for its products and services that resulted in lower than anticipated license revenue and a net loss.

Each customer makes a discretionary decision to implement our products that is subject to its resources and budget cycles. Additionally, our license sales generally reflect a relatively high amount of revenue per order, and as a result, the loss or delay of individual orders could have a significant impact on quarterly operating results and revenue. Furthermore, the timing of license revenue is difficult to predict because of the length of our sales cycle,

which typically ranges from three to nine months from initial contact. Also, our strategy of providing customers with complete content management solutions typically results in software licenses being bundled with services. In these cases, the delivery of services may delay recognition of license revenue. Because our operating expenses are based on anticipated revenue trends and because a high percentage of these expenses is relatively fixed, any shortfall from anticipated revenue or a delay in the recognition of revenue from license transactions could cause significant variations in operating results from quarter to quarter and could result in operating losses. If these expenses precede, or are not followed by, increased revenue, our operating results could be lower than expected and our common stock price may fall.

As a result of the foregoing and other factors, operating results for any quarter are subject to significant variation, and we believe that period-to-period comparisons of our results of operations are not necessarily meaningful in terms of their relation to future performance. You should not rely upon these comparisons as indications of future performance. Furthermore, it is likely that our future quarterly operating results from time to time will not meet the expectations of public market analysts or investors, in which case there would likely be a drop in the price of our common stock.

The Company’s sales and implementation cycles are lengthy and difficult to predict. In general, the timing of the sales and implementation of our products is lengthy and not predictable with any degree of certainty. You should not rely on prior sales and implementation cycles as an indication of future cycles.

The licensing of our software products is often an enterprise-wide decision by prospective customers and generally requires us to engage in a lengthy sales cycle (generally between three and nine months) to provide a significant level of education to prospective customers regarding the use and benefits of our products. Additionally, the size and complexity of any particular transaction can also cause delays in the sales cycle. The implementation of our products can involve a significant commitment of resources by customers over an extended period of time and is commonly associated with substantial reengineering efforts by the customer. For these and other reasons, the sales and customer implementation cycles are subject to a number of significant delays over which we have little or no control. A delay in the sale or customer implementation of even a limited number of license transactions could result in lower than expected revenue and cause our operating results to vary significantly from quarter to quarter.

A substantial portion of the Company’s revenue is attributable to one family of products and related services. To date, substantially all of our revenue has been attributable to sales of licenses of the Documentum EDMS and Documentum 4i family of products and related services. We expect that Documentum 4i and related products and services will account for a substantial majority of our future revenue. As a result, factors adversely affecting the pricing of or demand for such products, such as competition or technological change, could harm our business, financial condition and results of operations.

The Company’s failure to identify new product opportunities or to develop new products or versions could harm the business. The content management software and services market in which we compete is characterized by (1) rapid technological change, (2) frequent introduction of new products and enhancements, (3) changing customer needs, and (4) evolving industry standards. The introduction of products embodying new technologies and the emergence of new industry standards can render existing products obsolete and unmarketable. Accordingly, the life cycles of our products are difficult to estimate. To keep pace with technological developments, evolving industry standards and changing customer needs, we must support existing products and develop new products. Our future success also depends in part on our abilities to execute on our strategy of developing web content management and business-to-business solutions and to maintain and enhance relations with technology partners, including RDBMS vendors, in order to provide our customers with integrated product solutions.

The Company may not be successful in maintaining and enhancing the aforementioned relationships or in developing, marketing and releasing new products or new versions of our products that respond to technological developments, evolving industry standards or changing customer requirements. We may also experience difficulties that could delay or prevent the successful development, introduction and sale of these enhancements. In addition, these enhancements may not adequately meet the requirements of the marketplace and may not achieve any significant degree of market acceptance. If we fail to successfully maintain or enhance relationships with our technology partners or to execute on our integrated product solution strategy, or if release dates of any future products or enhancements are delayed, or if these products or enhancements fail to achieve market acceptance when

released, our business, operating results and financial condition could be harmed. We have in the past experienced delays in the release dates of enhancements to our products. While the delays we have experienced to date have been minor (not exceeding six months), there can be no assurance that we will not experience significant future delays in product introduction.

The Company is dependent on the market for content management solutions, which may not continue to grow. The market for content management software and services is intensely competitive, highly fragmented and rapidly changing. Our future financial performance will depend primarily on the continued growth of the market for content management software and services and the adoption of our products by organizations in this market. If the content management software and services market fails to grow or grows more slowly than we currently anticipate, our business, financial condition and operating results would be harmed.

The Company faces intense competition from several competitors and may be unable to compete. Our products target the emerging market for Web-based and client/server software solutions. This market is intensely competitive, rapidly changing and significantly affected by new product introductions and other market activities of industry participants. We encounter direct competition from a number of public and private companies that offer a variety of products and services addressing this market. These companies include FileNet, OpenText, Interwoven, Stellent and Vignette. Additionally, several other enterprise software vendors, such as Microsoft, Oracle and Lotus (a division of IBM) are potential competitors in the future. Many of these current and potential competitors have longer operating histories, significantly greater financial, technical, marketing and other resources, significantly greater name recognition and a larger installed base of customers than we do. In addition, several of these companies, including Microsoft, Oracle, Lotus and others, have well-established relationships with our current and potential customers and strategic partners, as well as extensive resources and knowledge of the enterprise software industry that may enable them to more easily offer a single-vendor solution. As a result, these competitors may be able to respond more quickly to new or emerging technologies and changes in customer requirements, or to devote greater resources to the development, promotion and sale of their products, than we can.

We also face indirect competition from systems integrators. We rely on a number of systems consulting and systems integration firms for implementation and other customer support services, as well as for recommendations of our products during the evaluation stage of the purchase process. Although we seek to maintain close relationships with these service providers, many of them have similar, and often more established, relationships with our competitors. If we were unable to develop and maintain effective, long-term relationships with these third parties, our competitive position would be materially and adversely affected. Further, many of these third parties possess industry-specific expertise and have significantly greater resources than we do, and may market software products that compete with us in the future.

There are many factors that may increase competition in the market for Web-based and client/server software solutions, including (1) entry of new competitors, (2) alliances among existing competitors and (3) consolidation in the software industry. Increased competition may result in price reductions, reduced gross margins and loss of market share, any of which could harm our business, financial condition and operating results. If we cannot compete successfully against current and future competitors or overcome competitive pressures, our business, operating results and financial condition may be harmed.

The Company is dependent on a relatively small number of customers and those customers tend to be concentrated in several industries. Our success depends on maintaining relationships with our existing customers. A relatively small number of customers have accounted for a significant percentage of our revenue. Additionally, our customers are somewhat concentrated in the process and discrete manufacturing, pharmaceutical, financial services and high technology industries. We expect that sales of our products to a limited number of customers and industry segments will continue to account for a significant percentage of revenue for the foreseeable future. The loss of a small number of customers or any reduction or delay in orders by any such customer, or our failure to market successfully our products to new customers and new industry segments could harm our business and our prospects.

The Company relies on a number of relationships with third parties for sales, distribution and integration. We have established strategic relationships with a number of organizations that we believe are important to our sales, marketing and support activities and the implementation of our products. We believe that our relationships with

these organizations, including indirect channel partners and other consultants, provide marketing and sales opportunities for our direct sales force, expand the distribution of our products and broaden our product offerings through product bundling. These relationships allow us to keep pace with the technological and marketing developments of major software vendors and provide us with technical assistance for our product development efforts. Our failure to maintain these relationships, or to establish new relationships in the future, could harm our business.

The Company depends on the service of key personnel. Our future performance depends in significant part on the continued service of our key technical, sales and senior management personnel, none of whom is bound by an employment agreement with us. The loss of services of one or more of our executive officers or key technical personnel could harm our business, operating results and financial condition.

Our future success also depends on our continuing ability to attract and retain highly qualified technical, sales and managerial personnel. Competition for such personnel is intense, and there can be no assurance that we can retain key employees or that we can attract, assimilate or retain other highly qualified personnel in the future.

The Company is subject to risks associated with international operations. Our revenue is primarily derived from large multi-national companies. To service the needs of these companies, we must provide worldwide product support services. The Company has offices in London, Paris, Munich, Tokyo, Melbourne, Hong Kong, Singapore, Taipei, and Seoul. The Company operates its international technical support operations in the London, Munich and Melbourne offices. We have expanded, and intend to continue expanding, our international operations and enter additional international markets. This will require significant management attention and financial resources that could adversely affect our operating margins and earnings. We may not be able to maintain or increase international market demand for our products. If we do not, our international sales will be limited, and operating results could suffer.

Our international operations are subject to a variety of risks, including (1) foreign currency fluctuations, (2) economic or political instability, (3) shipping delays, (4) various trade restrictions, (5) our limited experience in, and the costs of, localizing products for foreign countries, (6) longer accounts receivable payment cycles, and (7) difficulties in managing international operations, including, among other things, the burden of complying with a wide variety of foreign laws.

The Company’s industry is characterized by vigorous protection and pursuit of intellectual property rights that could result in substantial cost to the Company. We rely primarily on a combination of copyright, trademark and trade secret laws, confidentiality procedures and contractual provisions to protect our proprietary rights. We also believe that factors such as the technological and creative skills of our personnel, new product developments, frequent product enhancements, name recognition and reliable product maintenance are essential to establishing and maintaining a technology leadership position. We seek to protect our software, documentation and other written materials under trade secret and copyright laws, which afford only limited protection.

Despite our efforts to protect our proprietary rights, unauthorized parties may attempt to copy aspects of our products or to obtain and use information that we regard as proprietary. Policing unauthorized use of our products is difficult, and while we are unable to determine the extent to which piracy of our products exists, software piracy can be expected to be a persistent problem. In addition, the laws of some foreign countries do not protect our proprietary rights as fully as do the laws of the United States. Our means of protecting our proprietary rights in the United States or abroad may not be adequate. Additionally, our competition may independently develop similar technology.

Although we do not believe that we are infringing on any proprietary rights of others, third parties may claim that we have infringed their intellectual property rights. Furthermore, former employers of our former, current or future employees may assert claims that such employees have improperly disclosed to us the confidential or proprietary information of such former employers. Any such claims, with or without merit, could (1) be time-consuming to defend, (2) result in costly litigation, (3) divert management’s attention and resources, (4) cause product shipment delays, and (5) require us to pay money damages or enter into royalty or licensing agreements. A successful claim of intellectual property infringement against us and our failure or inability to license or create a workaround for

such infringed or similar technology may result in substantial damages, payments or termination of sales of infringing products.

We license certain software from third parties, including software that is integrated with internally developed software and used in our products to perform key functions. These third-party software licenses may not continue to be available to us on acceptable terms. The loss of, or inability to maintain, any of these software licenses could result in shipment delays or reductions, resulting in lower than expected operating results.

The Company may face product liability claims from our customers. Our license agreements with our customers typically contain provisions designed to limit our exposure to potential product liability claims. It is possible, however, that the limitation of liability provisions contained in our license agreements may not be effective under the laws of certain jurisdictions. A successful product liability claim brought against us could result in payment of substantial damages.

The Company is subject to the risks associated with product defects and incompatibilities. Software products frequently contain errors or failures, especially when first introduced or when new versions are released. Also, new products or enhancements may contain undetected errors, or “bugs,” or performance problems that, despite testing, are discovered only after a product has been installed and used by customers. Errors or performance problems could cause delays in product introduction and shipments or require design modifications, either of which could lead to a loss in or delay in recognition of revenue.

Our products are typically intended for use in applications that may be critical to a customer’s business. As a result, we expect that our customers and potential customers will have a greater sensitivity to product defects than the market for software products generally. Despite extensive testing by us and by current and potential customers, errors may be found in new products or releases after commencement of commercial shipments, resulting in loss of revenue or delay in market acceptance, damage to our reputation, diversion of development resources, the payment of monetary damages or increased service or warranty costs, any of which could harm our business, operating results and financial condition.

The Company is subject to risks associated with acquisitions. As part of our business strategy, we frequently evaluate strategic opportunities available to us and expect to make acquisitions of, or significant investments in, businesses that offer complementary products and technologies. Any future acquisitions or investments would expose us to the risks commonly encountered in acquisitions of businesses. Future acquisitions of complementary technologies, products or businesses will result in the diversion of management’s attention from the day-to-day operations of our business and the potential disruption of our ongoing business. Additionally, such acquisitions may include numerous other risks, including difficulties in the integration of the operations, products and personnel of the acquired companies. Future acquisitions may also result in dilutive issuances of equity securities, the incurrence of debt and write-down or impairment expenses related to goodwill and other intangible assets. Our failure to successfully manage future acquisitions may harm our business and financial results.

The Company’s stock price is extremely volatile. The trading price of our common stock is subject to significant fluctuations in response to variations in quarterly operating results, the gain or loss of significant orders, changes in earning estimates by analysts, announcements of technological innovations or new products by us or our competitors, general conditions in the software and computer industries and other events or factors. In addition, the stock market in general has experienced extreme price and volume fluctuations which have affected the market price for many companies in industries similar or related to ours and which have been unrelated to the operating performance of these companies. These market fluctuations may decrease the market price of our common stock.

Some provisions in our certificate of incorporation and our bylaws could delay or prevent a change in control. Our Board of Directors is authorized to issue up to 10,000,000 shares of preferred stock and to determine the price, rights, preferences, privileges and restrictions, including voting rights, of those shares without any further approval by our stockholders. The preferred stock could be issued with voting, liquidation, dividend and other rights superior to those of the common stock. The rights of the holders of common stock will be subject to, and may be adversely affected by, the rights of the holders of any preferred stock that may be issued in the future. The issuance of preferred stock, while providing desirable flexibility in connection with possible acquisitions and other corporate purposes, could make it more difficult for a third party to acquire a majority of our outstanding voting stock. We have instituted a classified Board of Directors in our Amended and Restated Certificate of Incorporation. We have

also implemented a Share Purchase Plan (or “Rights Plan”) under which all stockholders of record as of February 24, 1999 received rights to purchase shares of a new series of preferred stock. The rights are exercisable only if a person or group acquires 20% or more of our common stock or announces a tender offer for 20% or more of the common stock. These provisions and certain other provisions of our Amended and Restated Certificate of Incorporation and certain provisions of our Amended and Restated Bylaws and of Delaware law, could delay or make more difficult a merger, tender offer or proxy contest.

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Interest Rate Risk

As of September 30, 2001, the Company’s investment portfolio includes $23.8 million of short-term corporate and municipal bonds which are subject to no interest rate risk when held to maturity but may increase or decrease in value if interest rates change prior to maturity. The remaining $19.5 million of short-term investments are held in short-term securities bearing stated interest rates and are therefore subject to no interest rate risk. An immediate 10% change in interest rates would be immaterial to the Company’s financial condition or results of operations.

Foreign Currency Exchange Risk

The majority of the Company’s revenue, expense and capital purchasing activities are transacted in United States dollars. However, because a portion of the Company’s operations consists of activities outside of the United States, the Company has transactions in other currencies. As part of its risk management strategy, the Company frequently evaluates its foreign currency exchange risk by monitoring market data and external factors that may influence exchange rate fluctuations. As a result, the Company may engage in transactions involving various derivative instruments, with maturities not to exceed five years, to hedge assets, liabilities, revenues and purchases denominated in foreign currencies. During the three month period ended September 30, 2001, the Company entered into forward exchange contracts that qualify as fair value hedges under SFAS 133 to hedge a portion of international accounts receivable. These contracts expire within 12 months.

PART II. OTHER INFORMATION

ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K

(a) No reports on Form 8-K were filed during the quarter ended September 30, 2001.

SIGNATURE

Pursuant to the requirements of Securities Exchange Act of 1934, the registrant has duly caused this report on Form 10-Q to be signed on its behalf by the undersigned, thereunto duly authorized, on this 13th day of November, 2001.

DOCUMENTUM, INC.
(Registrant)

By: /s/ Bob L. Corey

Bob L. Corey
Executive Vice President & Chief Financial Officer

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•		demand for our products;

•		the level of product and price competition;

•		the length of our sales cycle;

•		the size and timing of individual license transactions;

•		the delay or deferral of customer implementations;

•		our success in expanding our customer support organization, direct sales force and indirect distribution channels;

•		the timing of new product introductions and product enhancements;

•		changes in our pricing policy;

•		the publication of opinions concerning us, our products or technology by industry analysts;

•		the mix of products and services sold;

•		levels of international sales;

•		activities of and acquisitions by competitors;

•		the timing of new hires;

•		changes in foreign currency exchange rates;

•		our ability to develop and market new products and control costs; and

•		domestic and international economic and political conditions.

•		the potential delay in recognizing revenue from license transactions;

•		the discretionary nature of our customers’ budget and purchase cycles;

•		variations in our customers’ fiscal or quarterly cycles;

•		the size and complexity of our license transactions;

•		the timing of new product releases;

•		seasonal variations in operating results; and

•		the tendency to realize a substantial amount of revenue in the last weeks, or even days, of each quarter.


	DOCUMENTUM, INC. (Registrant)

	By:	/s/ Bob L. Corey

		Bob L. Corey Executive Vice President & Chief Financial Officer