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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-Q
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QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended December 31, 2004
Commission File Number 0-25346
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TRANSACTION SYSTEMS ARCHITECTS, INC.
(Exact name of registrant as specified in its charter)
Delaware 47-0772104
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
224 South 108th Avenue (402) 334-5101
Omaha, Nebraska 68154 (Registrant's telephone number,
(Address of principal executive offices, including area code)
including zip code)
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Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes x No
--- ---
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).
Yes x No
--- ---
As of January 28, 2005, there were 39,525,895 shares of the registrant's Class A
Common Stock, par value $.005 per share, outstanding (excluding 1,476,145 shares
held as Treasury Stock, and including 2,212 options to purchase shares of the
registrant's Class A Common Stock at an exercise price of one cent per share).
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TABLE OF CONTENTS
Page
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PART I - FINANCIAL INFORMATION
Item 1. Financial Statements........................................... 1
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations.................................... 13
Item 3. Quantitative and Qualitative Disclosures About Market Risk..... 24
Item 4. Controls and Procedures........................................ 24
PART II - OTHER INFORMATION
Item 1. Legal Proceedings.............................................. 25
Items 2, 3, 4 and 5. Not Applicable.
Item 6. Exhibits....................................................... 25
Signature.............................................................. 26
Exhibit Index.......................................................... 27
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PART I - FINANCIAL INFORMATION
Item 1. FINANCIAL STATEMENTS
Page
----
Condensed Consolidated Balance Sheets as of December 31, 2004
and September 30, 2004................................................. 2
Condensed Consolidated Statements of Operations for the three months
ended December 31, 2004 and 2003....................................... 3
Condensed Consolidated Statements of Cash Flows for the three months
ended December 31, 2004 and 2003....................................... 4
Notes to Condensed Consolidated Financial Statements..................... 5
1
TRANSACTION SYSTEMS ARCHITECTS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands, except share amounts)
December 31, September 30,
2004 2004
------------ -------------
(Unaudited)
ASSETS
Current assets:
Cash and cash equivalents.................................................... $ 178,317 $ 169,632
Marketable securities........................................................ 8,169 -
Billed receivables, net of allowances of $2,712 and $2,834, respectively..... 46,008 44,487
Accrued receivables.......................................................... 13,998 11,206
Recoverable income taxes..................................................... 7,624 11,524
Deferred income taxes, net................................................... - 230
Other........................................................................ 7,634 6,901
--------- ---------
Total current assets....................................................... 261,750 243,980
Property and equipment, net.................................................... 7,921 8,251
Software, net.................................................................. 1,956 1,454
Goodwill....................................................................... 47,044 46,706
Deferred income taxes, net..................................................... 23,176 22,943
Other.......................................................................... 2,586 2,124
--------- ---------
Total assets............................................................... $ 344,433 $ 325,458
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Current portion of debt - financing agreements............................... $ 4,256 $ 7,027
Accounts payable............................................................. 6,657 6,974
Accrued employee compensation................................................ 12,205 13,354
Deferred income taxes........................................................ 1,742 -
Deferred revenue............................................................. 82,517 82,647
Accrued and other liabilities................................................ 12,220 9,890
--------- ---------
Total current liabilities.................................................. 119,597 119,892
Debt - financing agreements.................................................... 1,449 2,327
Deferred revenue............................................................... 17,433 15,427
Other.......................................................................... 954 851
--------- ---------
Total liabilities.......................................................... 139,433 138,497
--------- ---------
Commitments and contingencies (Note 8)
Stockholders' equity:
Class A Common Stock, $.005 par value; 50,000,000 shares
authorized; 39,525,895 and 39,105,484 shares issued at
December 31, 2004 and September 30, 2004, respectively..................... 198 196
Treasury stock, at cost, 1,476,145 shares.................................... (35,258) (35,258)
Additional paid-in capital................................................... 260,000 254,715
Accumulated deficit.......................................................... (9,994) (22,917)
Accumulated other comprehensive loss, net.................................... (9,946) (9,775)
--------- ---------
Total stockholders' equity................................................. 205,000 186,961
--------- ---------
Total liabilities and stockholders' equity................................. $ 344,433 $ 325,458
========= =========
The accompanying notes are an integral part of the
condensed consolidated financial statements.
2
TRANSACTION SYSTEMS ARCHITECTS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(unaudited and in thousands, except per share amounts)
Three Months Ended
December 31,
--------------------
2004 2003
-------- --------
Revenues:
Software license fees........................................................ $ 47,806 $ 41,233
Maintenance fees............................................................. 22,080 21,313
Services..................................................................... 10,720 11,471
-------- --------
Total revenues............................................................. 80,606 74,017
-------- --------
Expenses:
Cost of software license fees................................................ 5,906 6,639
Cost of maintenance and services............................................. 13,836 14,979
Research and development..................................................... 9,915 9,433
Selling and marketing........................................................ 15,301 13,790
General and administrative................................................... 13,563 13,668
-------- --------
Total expenses............................................................. 58,521 58,509
-------- --------
Operating income............................................................... 22,085 15,508
-------- --------
Other income (expense):
Interest income.............................................................. 584 523
Interest expense............................................................. (168) (531)
Other, net................................................................... (1,247) 2,205
-------- --------
Total other income (expense)............................................... (831) 2,197
-------- --------
Income before income taxes..................................................... 21,254 17,705
Income tax provision........................................................... (8,331) (7,664)
-------- --------
Net income..................................................................... $ 12,923 $ 10,041
======== ========
Earnings per share information:
Weighted average shares outstanding:
Basic...................................................................... 37,781 36,382
======== ========
Diluted.................................................................... 38,552 37,641
======== ========
Earnings per share:
Basic...................................................................... $ 0.34 $ 0.28
======== ========
Diluted.................................................................... $ 0.34 $ 0.27
======== ========
The accompanying notes are an integral part of the
condensed consolidated financial statements.
3
TRANSACTION SYSTEMS ARCHITECTS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited and in thousands)
Three Months Ended
December 31,
----------------------
2004 2003
--------- ---------
Cash flows from operating activities:
Net income................................................................... $ 12,923 $ 10,041
Adjustments to reconcile net income to net cash provided by operating
activities:
Depreciation............................................................... 988 1,087
Amortization............................................................... 292 712
Deferred income taxes...................................................... 2,092 1,625
Tax benefit of stock options exercised..................................... 908 1,578
Changes in operating assets and liabilities:
Billed and accrued receivables, net...................................... (2,456) (4,627)
Other current and noncurrent assets...................................... (2,371) (1,512)
Accounts payable......................................................... (578) (2,306)
Recoverable income taxes................................................. 3,900 2,354
Deferred revenue......................................................... (1,285) 1,202
Other current and noncurrent liabilities................................. 601 945
--------- ---------
Net cash provided by operating activities.............................. 15,014 11,099
--------- ---------
Cash flows from investing activities:
Purchases of property and equipment.......................................... (522) (439)
Purchases of software and distribution rights................................ (771) (98)
Net increase (decrease) in marketable securities............................. (8,251) 220
--------- ---------
Net cash used in investing activities.................................. (9,544) (317)
--------- ---------
Cash flows from financing activities:
Proceeds from issuance of Class A Common Stock............................... 240 232
Proceeds from exercises of stock options..................................... 4,108 4,481
Payments on debt - financing agreements...................................... (3,937) (5,232)
Other........................................................................ 25 (197)
--------- ---------
Net cash provided by (used in) financing activities.................... 436 (716)
--------- ---------
Effect of exchange rate fluctuations on cash................................... 2,779 1,632
--------- ---------
Net increase in cash and cash equivalents...................................... 8,685 11,698
Cash and cash equivalents, beginning of period................................. 169,632 113,986
--------- ---------
Cash and cash equivalents, end of period....................................... $ 178,317 $ 125,684
========= =========
The accompanying notes are an integral part of the
condensed consolidated financial statements.
4
TRANSACTION SYSTEMS ARCHITECTS, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
1. Summary of Significant Accounting Policies
Nature of Business
Transaction Systems Architects, Inc., a Delaware corporation, and its
subsidiaries (collectively referred to as "TSA" or the "Company"), develop,
market, install and support a broad line of software products and services
primarily focused on facilitating electronic payments. In addition to its own
products, the Company distributes, or acts as a sales agent for, software
developed by third parties. These products and services are used principally by
financial institutions, retailers and electronic-payment processors, both in
domestic and international markets.
Condensed Consolidated Financial Statements
The condensed consolidated financial statements include the accounts of the
Company and its wholly-owned subsidiaries. All significant intercompany balances
and transactions have been eliminated. The condensed consolidated financial
statements at December 31, 2004, and for the three months ended December 31,
2004 and 2003, are unaudited and reflect all adjustments (consisting only of
normal recurring adjustments except as otherwise discussed herein) which are, in
the opinion of management, necessary for a fair presentation of the financial
position and operating results for the interim periods. Certain amounts
previously reported have been reclassified to conform to current year
presentation.
The condensed consolidated financial statements contained herein should be
read in conjunction with the consolidated financial statements and notes
thereto, together with management's discussion and analysis of financial
condition and results of operations, contained in the Company's annual report on
Form 10-K for the fiscal year ended September 30, 2004. The results of
operations for the three months ended December 31, 2004, are not necessarily
indicative of the results that may be achieved for the entire fiscal year ending
September 30, 2005.
Use of Estimates in Preparation of Condensed Consolidated Financial Statements
The preparation of the condensed consolidated financial statements in
conformity with accounting principles generally accepted in the United States
requires management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the condensed consolidated financial statements and
the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
Revenue Recognition, Accrued Receivables and Deferred Revenue
Software License Fees. The Company recognizes software license fee revenue
in accordance with American Institute of Certified Public Accountants ("AICPA")
Statement of Position ("SOP") 97-2, "Software Revenue Recognition," SOP 98-9,
"Modification of SOP 97-2, Software Revenue Recognition With Respect to Certain
Transactions," and Securities and Exchange Commission ("SEC") Staff Accounting
Bulletin ("SAB") 101, "Revenue Recognition in Financial Statements," as amended
by SAB 104, "Revenue Recognition." For software license arrangements for which
services rendered are not considered essential to the functionality of the
software, the Company recognizes revenue upon delivery, provided (1) there is
persuasive evidence of an arrangement, (2) collection of the fee is considered
probable and (3) the fee is fixed or determinable. In most arrangements,
vendor-specific objective evidence ("VSOE") of fair value does not exist for the
license element; therefore, the Company uses the residual method under SOP 98-9
to determine the amount of revenue to be allocated to the license element. Under
SOP 98-9, the fair value of all undelivered elements, such as maintenance fees
(also referred to as postcontract customer support or "PCS") or other products
or services, is deferred and subsequently recognized as the products are
delivered, or as PCS or other services are performed, with the residual
difference between the total arrangement fee and revenues allocated to
undelivered elements being allocated to the delivered element.
When a software license arrangement includes services to provide
significant modification or customization of software, those services are not
separable from the software and are accounted for in accordance with Accounting
5
Research Bulletin ("ARB") No. 45, "Long-Term Construction-Type Contracts," and
the relevant guidance provided by SOP 81-1, "Accounting for Performance of
Construction-Type and Certain Production-Type Contracts." Accounting for
services delivered over time (generally in excess of 12 months) under ARB No. 45
and SOP 81-1 is referred to as contract accounting. Under contract accounting,
the Company generally uses the percentage-of-completion method. Under the
percentage-of-completion method, the Company records revenue for the software
license fee and services over the development and implementation period, with
the percentage of completion generally measured by the percentage of labor hours
incurred to-date to estimated total labor hours for each contract. For those
contracts subject to percentage-of-completion contract accounting, estimates of
total revenue under the contract exclude amounts due under extended payment
terms. In certain cases, the Company provides its customers with extended terms
where payment is deferred beyond when the services are rendered. Because the
Company is unable to demonstrate a history of enforcing payment terms under such
arrangements without granting concessions, the Company excludes revenues due on
extended payment terms from its current percentage-of-completion computation
because it cannot be presumed that those fees are fixed or determinable.
For software license arrangements in which a significant portion of the fee
is due beyond the Company's normal pricing practices, including those in which a
significant portion of the fee is due more than 12 months after delivery, the
software license fee is deemed not to be fixed or determinable. For software
license arrangements in which the fee is not considered fixed or determinable,
the software license fee is recognized as revenue as payments become due and
payable, provided all other conditions for revenue recognition have been met.
For software license arrangements in which the Company has concluded that
collection of the fees is not probable, revenue is recognized as cash is
collected, provided all other conditions for revenue recognition have been met.
In making the determination of collectibility, the Company considers the
creditworthiness of the customer, economic conditions in the customer's industry
and geographic location, and general economic conditions.
SOP 97-2 requires the seller of software that includes PCS to establish
VSOE of fair value of the undelivered element of the contract in order to
account separately for the PCS revenue. For certain of the Company's products,
VSOE of the fair value of PCS is determined by a consistent pricing of PCS and
PCS renewals as a percentage of the software license fees. In other products,
the Company determines VSOE by reference to contractual renewals, when the
renewal terms are substantive. In those cases where VSOE of the fair value of
PCS is determined by reference to contractual renewals, the Company considers
factors such as whether the period of the initial PCS term is relatively long
when compared to the term of the software license or whether the PCS renewal
rate is significantly below the Company's normal pricing practices.
In the absence of customer-specific acceptance provisions, software license
arrangements generally grant customers a right of refund or replacement only if
the licensed software does not perform in accordance with its published
specifications. If the Company's product history supports an assessment by
management that the likelihood of non-acceptance is remote, the Company
recognizes revenue when all other criteria of revenue recognition are met.
For those software license arrangements that include customer-specific
acceptance provisions, such provisions are generally presumed to be substantive
and the Company does not recognize revenue until the earlier of the receipt of a
written customer acceptance, objective demonstration that the delivered product
meets the customer-specific acceptance criteria or the expiration of the
acceptance period. The Company also defers the recognition of revenue on
transactions involving less-established or newly released software products that
do not have a product history. The Company recognizes revenues on such
arrangements upon the earlier of receipt of written acceptance or the first
production use of the software by the customer.
For software license arrangements in which the Company acts as a sales
agent for another company's products, revenues are recorded on a net basis.
These include arrangements in which the Company does not take title to the
products, is not responsible for providing the product or service, earns a fixed
commission, and assumes credit risk only to the extent of its commission. For
software license arrangements in which the Company acts as a distributor of
another company's product, and in certain circumstances, modifies or enhances
the product, revenues are recorded on a gross basis. These include arrangements
in which the Company takes title to the products and is responsible for
providing the product or service.
For software license arrangements in which the Company permits the customer
to vary their software mix, including the right to receive unspecified future
software products during the software license term, the Company
6
recognizes revenue ratably over the license term, provided all other revenue
recognition criteria have been met. For software license arrangements in which
the customer is charged variable software license fees based on usage of the
product, the Company recognizes revenue as usage occurs over the term of the
licenses, provided all other revenue recognition criteria have been met.
Maintenance Fees. Revenues for PCS are recognized ratably over the
maintenance term specified in the contract. In arrangements where VSOE of fair
value of PCS cannot be determined (for example, a time-based software license
with a duration of one year or less), the Company recognizes revenue for the
entire arrangement ratably over the PCS term.
Services. The Company provides various professional services to customers,
primarily project management, software implementation and software modification
services. Revenues from arrangements to provide professional services are
generally recognized as the related services are performed. For those
arrangements in which services revenue is deferred and the Company determines
that the costs of services are recoverable, such costs are deferred and
subsequently expensed in proportion to the services revenue as it is recognized.
Accrued Receivables. Accrued receivables represent amounts to be billed in
the near future (less than 12 months).
Deferred Revenue. Deferred revenue includes (1) amounts currently due and
payable from customers, and payments received from customers, for software
licenses, maintenance and/or services in advance of providing the product or
performing services, (2) amounts deferred whereby VSOE of the fair value of
undelivered elements in a bundled arrangement does not exist, and (3) amounts
deferred if other conditions for revenue recognition have not been met.
Marketable Securities
The Company accounts for its investments in marketable securities in
accordance with Statement of Financial Accounting Standards ("SFAS") No. 115,
"Accounting for Certain Investments in Debt and Equity Securities." The
Company's portfolio consists of securities classified as available-for-sale,
which are recorded at fair market values based on quoted market prices. Net
unrealized gains and losses on marketable securities (excluding other than
temporary losses) are reflected in the consolidated financial statements as a
component of accumulated other comprehensive income. Net realized gains and
losses are computed on the basis of average cost and are recognized when
realized.
Stock-Based Compensation Plans
The Company accounts for its stock-based compensation plans under the
intrinsic value method in accordance with Accounting Principles Board ("APB")
Opinion No. 25, "Accounting for Stock Issued to Employees," and follows the
disclosure provisions of Statement of Financial Accounting Standard ("SFAS") No.
123, "Accounting for Stock-Based Compensation," as amended by SFAS No. 148,
"Accounting for Stock-Based Compensation - Transition and Disclosure." The
Company calculates stock-based compensation pursuant to the disclosure
provisions of SFAS No. 123 using the straight-line method over the vesting
period of the option. Had compensation cost for the Company's stock-based
compensation plans been determined using the fair value method at the grant date
of the stock options awarded under those plans, consistent with the fair value
method of SFAS No. 123, the Company's net income and earnings per share for the
three months ended December 31, 2004 and 2003 would have approximated the
following pro forma amounts (in thousands, except per share amounts):
7
Three Months Ended
December 31,
--------------------
2004 2003
-------- --------
Net income:
As reported.............................................. $ 12,923 $ 10,041
Deduct: stock-based employee compensation expense
determined under the fair value method for all awards,
net of related tax effects............................. (630) (618)
Add: stock-based employee compensation expense
recorded under the intrinsic value method,
net of related tax effects............................. 20 19
-------- --------
Pro forma................................................ $ 12,313 $ 9,442
======== ========
Earnings per share:
Basic, as reported....................................... $ 0.34 $ 0.28
======== ========
Basic, pro forma......................................... $ 0.33 $ 0.26
======== ========
Diluted, as reported..................................... $ 0.34 $ 0.27
======== ========
Diluted, pro forma....................................... $ 0.32 $ 0.25
======== ========
The fair value of each option grant was estimated on the date of grant
using the Black-Scholes option-pricing model, a pricing model acceptable under
SFAS No. 123, with the following weighted-average assumptions:
Three Months Ended
December 31,
------------------
2004 2003
------ ------
Expected life............................................. 3.7 4.2
Interest rate............................................. 3.3% 2.8%
Volatility................................................ 92% 85%
Dividend yield............................................ -- --
The effects of applying SFAS No. 123 in this pro forma disclosure are not
indicative of future amounts. Additional future awards are anticipated.
Recent Accounting Pronouncements
In December 2004, the Financial Accounting Standards Board ("FASB") issued
SFAS No. 123 (Revised 2004), "Share-Based Payment" ("SFAS No. 123R"). This
revised accounting standard eliminates the ability to account for share-based
compensation transactions using the intrinsic value method in accordance with
APB Opinion No. 25 and requires instead that such transactions be accounted for
using a fair-value-based method. SFAS No. 123R requires public entities to
record noncash compensation expense related to payment for employee services by
an equity award, such as stock options, in their financial statements over the
requisite service period. SFAS No. 123R is effective as of the beginning of the
first interim or annual period that begins after June 15, 2005. The Company does
not plan to adopt SFAS No. 123R prior to its fourth quarter of fiscal 2005. The
Company expects that the adoption of SFAS No. 123R will have a negative impact
on the Company's consolidated results of operations. The Company has
historically provided pro forma disclosures pursuant to SFAS No. 123 and SFAS
No. 148 as if the fair value method of accounting for stock options had been
applied, assuming use of the Black-Scholes option-pricing model. Although not
currently anticipated, other assumptions may be utilized when SFAS No. 123R is
adopted.
In December 2004, the FASB issued SFAS No. 153, "Exchange of Nonmonetary
Assets," which is an amendment of APB Opinion No. 29, "Accounting for
Nonmonetary Transactions." The guidance in APB Opinion No. 29 is based on the
principle that exchanges of nonmonetary assets should be measured based on the
fair value of the assets exchanged, with certain exceptions to that principle.
SFAS No. 153 eliminates the exception for nonmonetary exchanges of similar
productive assets and replaces it with a general exception for exchanges of
8
nonmonetary assets that do not have commercial substance. A nonmonetary exchange
has commercial substance if the future cash flows of the entity are expected to
change significantly as a result of the exchange. The adoption of SFAS No. 153,
which will be effective for nonmonetary asset exchanges occurring in fiscal
periods beginning after June 15, 2005, is not expected to have a material effect
on the Company's financial position or results of operations.
2. Goodwill and Software
Changes to the carrying amount of goodwill during the three months ended
December 31, 2004 resulted from foreign currency translation adjustments. The
carrying amount and accumulated amortization of the Company's intangible assets
that were subject to amortization at each balance sheet date, consisting only of
software, were as follows (in thousands):
Dec. 31, Sept. 30,
2004 2004
-------- --------
Internally-developed software.............................. $ 16,170 $ 15,929
Purchased software......................................... 46,905 45,596
-------- --------
63,075 61,525
Less: accumulated amortization............................. (61,119) (60,071)
-------- --------
Software, net.............................................. $ 1,956 $ 1,454
======== ========
Amortization of software is computed using the greater of the ratio of
current revenues to total estimated revenues expected to be derived from the
software or the straight-line method over an estimated useful life of three
years. Software amortization expense recorded in the three months ended December
31, 2004 totaled $0.3 million. Based on capitalized software at December 31,
2004, and assuming no impairment of these software assets, estimated
amortization expense for the remainder of fiscal 2005 and in succeeding fiscal
years is as follows (in thousands):
2005............................................................ $ 659
2006............................................................ 701
2007............................................................ 537
2008............................................................ 58
Thereafter...................................................... 1
3. Corporate Restructuring Charges and Asset Impairment Losses
During fiscal 2001, the Company closed, or significantly reduced the size
of, certain product development organizations and geographic sales offices,
resulting in restructuring charges and asset impairment losses. The following
table shows activity related to these exit activities since September 30, 2004
(in thousands):
Lease
Obligations
-----------
Balance, September 30, 2004................................... $ 548
Amounts paid year-to-date during fiscal 2005.................. (16)
-----
Balance, December 31, 2004.................................... $ 532
=====
The liability for lease obligations relates to the abandonment or reduction
of office facilities with lease terms ending on various dates through March
2005, net of expected third-party purchases or sub-leases, and an estimated
lease termination loss of $0.5 million for the corporate aircraft. The Company
continues to seek an exit to the corporate aircraft lease. Final settlement of
these obligations may result in adjustments to these liabilities.
4. Common Stock and Earnings Per Share
Options to purchase shares of Class A Common Stock ("Common Stock") at an
exercise price of one cent per share, received by shareholders of
MessagingDirect Ltd. ("MDL") as part of its acquisition by the Company during
9
fiscal 2001, that have not yet been converted into Common Stock are included in
Common Stock for presentation purposes on the December 31, 2004 and September
30, 2004 consolidated balance sheets, and are included in common shares
outstanding for earnings per share ("EPS") computations for the three months
ended December 31, 2004 and 2003. Included in Common Stock are 2,212 and 3,645
MDL options, respectively, as of December 31, 2004 and September 30, 2004.
EPS has been computed in accordance with SFAS No. 128, "Earnings Per
Share." Basic EPS is calculated by dividing net income available to common
stockholders (the numerator) by the weighted average number of common shares
outstanding during the period (the denominator). Diluted EPS is computed by
dividing net income available to common stockholders by the weighted average
number of common shares outstanding during the period, adjusted for the dilutive
effect of any outstanding dilutive securities (the denominator). The differences
between the basic and diluted EPS denominators for the three months ended
December 31, 2004 and 2003, which amounted to 771,000 and 1,259,000 shares,
respectively, were due to the dilutive effect of the Company's outstanding stock
options. Excluded from the computations of diluted EPS for the three months
ended December 31, 2004 and 2003, were antidilutive shares totaling 633,000 and
806,000, respectively, because the exercise prices of the corresponding stock
options were greater than the average market price of the Company's common
shares during the respective periods.
5. Comprehensive Income/Loss
The Company's components of other comprehensive income were as follows (in
thousands):
Three Months Ended
December 31,
-------------------
2004 2003
-------- --------
Net income............................................. $ 12,923 $ 10,041
Other comprehensive income (loss):
Foreign currency translation adjustments............. (89) (2,037)
Change in unrealized investment holding loss:
Unrealized holding gain (loss) arising
during the period................................ (82) 79
Reclassification adjustment for loss included
in net income ................................... - 10
-------- --------
Comprehensive income................................. $ 12,752 $ 8,093
======== ========
The Company's components of accumulated other comprehensive income/loss at
each balance sheet date were as follows (in thousands):
Foreign Unrealized Accumulated
Currency Investment Other
Translation Holding Comprehensive
Adjustments Loss Income (Loss)
----------- ---------- -------------
Balance, September 30, 2004...................... $ (9,775) $ - $ (9,775)
Fiscal 2005 year-to-date activity................ (89) (82) (171)
-------- ------ --------
Balance, December 31, 2004....................... $ (9,864) $ (82) $ (9,946)
======== ====== ========
6. Segment Information
The Company has three operating segments, referred to as business units.
These three business units are ACI Worldwide, Insession Technologies and
IntraNet. ACI Worldwide is the Company's largest business unit. Its product line
includes the Company's most mature and well-established applications, which are
used primarily by financial institutions, retailers and e-payment processors.
Its products are used to route and process transactions for automated teller
machine networks; process transactions from point-of-sale devices, wireless
devices and the Internet; control fraud and money laundering; authorize checks;
establish frequent shopper programs; automate transaction settlement, card
management and claims processing; and issue and manage multi-functional
applications on smart cards. Insession Technologies products facilitate
communication, data movement, monitoring of systems,
10
and business process automation across computing systems involving mainframes,
distributed computing networks and the Internet. IntraNet products offer high
value payments processing, bulk payments processing, global messaging and
continuous link settlement processing.
The Company's chief operating decision makers, together with other senior
management personnel, review financial information presented on a consolidated
basis, accompanied by disaggregated information about revenues and operating
income by business unit. The Company does not track assets by business unit.
Most of the Company's products are sold and supported through distribution
networks covering the geographic regions of the Americas, Europe/Middle
East/Africa and Asia/Pacific. Each distribution network has its own sales force.
The Company supplements its distribution networks with independent reseller
and/or distributor arrangements. No single customer accounted for more than 10%
of the Company's consolidated revenues during the three months ended December
31, 2004 or 2003.
The following are revenues and operating income for these business units
for the periods indicated (in thousands):
Three Months Ended
December 31,
-------------------
2004 2003
-------- --------
Revenues:
ACI Worldwide................................ $ 63,945 $ 57,716
Insession Technologies....................... 9,509 8,450
IntraNet..................................... 7,152 7,851
-------- --------
$ 80,606 $ 74,017
======== ========
Operating income:
ACI Worldwide................................ $ 18,165 $ 12,100
Insession Technologies....................... 2,809 1,813
IntraNet..................................... 1,111 1,595
-------- --------
$ 22,085 $ 15,508
======== ========
7. Income Taxes
It is the Company's policy to report income tax expense for interim
reporting periods using an estimated annual effective income tax rate. However,
the tax effects of significant or unusual items are not considered in the
estimated annual effective tax rate. The tax effect of such events is recognized
in the interim period in which the event occurs.
The effective tax rate for the first quarter of fiscal 2005 was
approximately 39.2% as compared to 43.3% for the same period of fiscal 2004. The
effective tax rate for the first quarter of fiscal 2005 improved over the same
period of fiscal 2004 due to more recognizable foreign net operating losses in
foreign companies. The effective tax rate for the first quarter of fiscal 2004
was primarily impacted by recognition of research and development credits,
extraterritorial income exclusion benefits and expected utilization of foreign
tax credits and the non-recognition of tax benefits for operating losses in
certain foreign locations. While certain of these benefits are limited by the
introduction of the American Jobs Creation Act of 2004 (see discussion below),
the majority of these benefits continued to be available in the first quarter of
fiscal 2005.
The American Jobs Creation Act of 2004 (the "Jobs Act").
On October 22, 2004, the Jobs Act was enacted, which directly impacts the
Company in several areas. The Jobs Act reduces the carryback period of foreign
tax credits from two years to one year and extends the carryforward period from
five years to ten years.
11
The Company currently takes advantage of the extraterritorial income
exclusion ("EIE") in calculating its federal income tax liability. The Jobs Act
repealed the EIE, the benefit of which will be phased out over the next three
years, with 80% of the prior benefit allowed in 2005, 60% in 2006 and 0% allowed
in years after 2006.
The Jobs Act replaced the EIE with the new "manufacturing deduction" that
allows a deduction from taxable income of up to 9% of "qualified production
activities income," not to exceed taxable income. The deduction is phased in
over a six-year period, with the eligible percentage increasing from 3% in 2005
to 9% in 2010.
The Jobs Act includes a foreign earnings repatriation provision that
provides an 85% dividends received deduction for certain dividends received from
controlled foreign corporations. The Company currently intends to reinvest
foreign earnings indefinitely and accordingly, under APB Opinion No. 23,
"Accounting for Income Taxes - Special Areas," has not recorded deferred tax
liabilities for unpatriated foreign earnings. However, the Company will continue
to analyze the potential tax impact should it elect to repatriate foreign
earnings pursuant to the Jobs Act.
8. Contingencies
Legal Proceedings
From time to time, the Company is involved in litigation relating to claims
arising out of its operations. Other than as described below, the Company is not
currently a party to any legal proceedings, the adverse outcome of which,
individually or in the aggregate, would be likely to have a material adverse
effect on the Company's financial condition or results of operations.
Class Action Litigation. In November 2002, two class action complaints were
filed in the U.S. District Court for the District of Nebraska (the "Court")
against the Company and certain individuals alleging violations of Sections
10(b) and 20(a) of the Securities Exchange Act of 1934 (as amended, the
"Exchange Act") and Rule 10b-5 thereunder. Pursuant to a Court order, the two
complaints were consolidated as Desert Orchid Partners v. Transaction Systems
Architects, Inc., et al., with Genesee County Employees' Retirement System
designated as the Lead Plaintiff. The First Amended Consolidated Class Action
Complaint, filed on June 30, 2003 (the "Consolidated Complaint"), alleges that
during the purported class period, the Company and the named defendants
misrepresented the Company's historical financial condition, results of
operations and its future prospects, and failed to disclose facts that could
have indicated an impending decline in the Company's revenues. The Consolidated
Complaint seeks unspecified damages, interest, fees, costs and rescission. The
class period alleged in the Consolidated Complaint is January 21, 1999 through
November 18, 2002. The Company and the individual defendants filed a motion to
dismiss the Consolidated Complaint. In response, on December 15, 2003, the Court
dismissed, without prejudice, Gregory Derkacht, the Company's President and
Chief Executive Officer, as a defendant, but denied the motion to dismiss with
respect to the remaining defendants, including the Company. On February 6, 2004,
the Court entered a mediation reference order requiring the parties to mediate
before a private mediator. The parties held a mediation session on March 18,
2004, which did not result in a settlement of the matter. The parties have
commenced discovery.
Derivative Litigation. On January 10, 2003, Samuel Naito filed the suit of
"Samuel Naito, derivatively on behalf of nominal defendant Transaction Systems
Architects, Inc. v. Roger K. Alexander, Gregory D. Derkacht, Gregory J. Duman,
Larry G. Fendley, Jim D. Kever, and Charles E. Noell, III and Transaction
Systems Architects, Inc." in the State District Court in Douglas County,
Nebraska (the "Naito matter"). The suit is a shareholder derivative action that
generally alleges that the named individuals breached their fiduciary duties of
loyalty and good faith owed to the Company and its stockholders by causing the
Company to conduct its business in an unsafe, imprudent and unlawful manner,
resulting in damage to the Company. More specifically, the plaintiff alleges
that the individual defendants, and particularly the members of the Company's
audit committee, failed to implement and maintain an adequate internal
accounting control system that would have enabled the Company to discover
irregularities in its accounting procedures with regard to certain transactions
prior to August 2002, thus violating their fiduciary duties of loyalty and good
faith, generally accepted accounting principles and the Company's audit
committee charter. The plaintiff seeks to recover an unspecified amount of money
damages allegedly sustained by the Company as a result of the individual
defendants' alleged breaches of fiduciary duties, as well as the plaintiff's
costs and disbursements related to the suit.
On January 24, 2003, Michael Russiello filed the suit of "Michael
Russiello, derivatively on behalf of nominal defendant Transaction Systems
Architects, Inc. v. Roger K. Alexander, Gregory D. Derkacht, Gregory J. Duman,
12
Larry G. Fendley, Jim D. Kever, and Charles E. Noell, III and Transaction
Systems Architects, Inc." in the State District Court in Douglas County,
Nebraska (the "Russiello matter"). The suit is a stockholder derivative action
involving allegations similar to those in the Naito matter. The plaintiff seeks
to recover an unspecified amount of money damages allegedly sustained by the
Company as a result of the individual defendants' alleged breaches of fiduciary
duties, as well as the plaintiff's costs and disbursements related to the suit.
The Company filed a motion to dismiss in the Naito matter on February 14,
2003 and a motion to dismiss in the Russiello matter on February 21, 2003. A
hearing was scheduled on those motions for March 14, 2003. Just prior to that
date, plaintiffs' counsel requested that the derivative lawsuits be stayed
pending a determination of an anticipated motion to dismiss to be filed in the
class action lawsuits. The Company, by and through its counsel, agreed to that
stay. As a result, no other defendants have been served and no discovery has
been commenced. The Company has not determined what effect the Court's ruling in
the class action litigation will have on the Naito or Russiello matters.
Federal Derivative Litigation. On January 27, 2005, Norbert C. Abel, as
Trustee on behalf of the Norbert C. Abel Trust, instituted a derivative action
in federal District Court for the District of Nebraska against Gregory Derkacht,
Seymour F. Harlan (sic), Roger K. Alexander, Jim D. Kever, Frank R. Sanchez, Jim
Kerr, Charles E. Noell, III, Gregory J. Duman, Larry G. Fendley, William E.
Fisher, Dwight Hanson, and David C. Russell, as individual defendants, and the
Company, as nominal defendant (the "Abel matter"). The suit is a stockholder
derivative action that contains virtually the same factual allegations as
contained in the class action litigation described above. In addition, the suit
alleges that the individual defendants breached fiduciary duties by failing to
establish and maintain adequate accounting controls and, as to defendants
Fisher, Russell, Duman, Fendley, Hanson and Derkacht, for breach of fiduciary
duty and unjust enrichment based upon their receipt of salaries, bonuses and
stock options based upon the Company's alleged false performance. The Complaint
alleges Jim Kerr was a director of TSA. However, TSA has no record of an
individual by the name of Jim Kerr ever having served as a director. As of this
date, none of the defendants have been served with the Complaint. If the
plaintiff effects service, the defendants intend to seek a stay of the Abel
matter pending an outcome of the class action litigation, further intend to file
a motion to dismiss the Complaint, and otherwise intend to vigorously defend the
suit. Plaintiff does not specify what damages the Company has purportedly
suffered, but does allege that the amount in controversy exceeds $75,000, as it
must in order to maintain the action in federal court based upon diversity of
citizenship.
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
Forward-Looking Statements
This report contains forward-looking statements based on current
expectations that involve a number of risks and uncertainties. Generally,
forward-looking statements do not relate strictly to historical or current
facts, and include words or phrases such as "management anticipates," "the
Company believes," "the Company anticipates," "the Company expects," "the
Company plans," "the Company will," "the Company is well positioned," and words
and phrases of similar impact, and include, but are not limited to, statements
regarding future operations, business strategy and business environment. The
forward-looking statements are made pursuant to safe harbor provisions of the
Private Securities Litigation Reform Act of 1995. Any or all of the
forward-looking statements in this document may turn out to be wrong. They may
be based on inaccurate assumptions or may not adequately account for known or
unknown risks and uncertainties. Consequently, no forward-looking statement is
guaranteed, and the Company's actual future results may vary materially from the
results expressed or implied in the Company's forward-looking statements. The
cautionary statements in this report expressly qualify all of the Company's
forward-looking statements. In addition, the Company is not obligated, and does
not intend, to update any of its forward-looking statements at any time unless
an update is required by applicable securities laws. Factors that could cause
actual results to differ from those expressed or implied in the forward-looking
statements include, but are not limited to, those discussed below in the section
entitled "Management's Discussion and Analysis of Financial Condition and
Results of Operations - Factors That May Affect the Company's Future Results or
the Market Price of the Company's Common Stock."
Overview
The Company develops, markets, installs and supports a broad line of
software products and services primarily
13
focused on facilitating e-payments. In addition to its own products, the Company
distributes, or acts as a sales agent for, software developed by third parties.
These products and services are used principally by financial institutions,
retailers and e-payment processors, both in domestic and international markets.
Accordingly, the Company's business and operating results are influenced by
trends such as information technology spending levels, the growth rate of the
e-payments industry and changes in the number and type of customers in the
financial services industry. Most of the Company's products are sold and
supported through distribution networks covering three geographic regions - the
Americas, EMEA and Asia/Pacific. Each distribution network has its own sales
force and supplements this with independent reseller and/or distributor
networks.
Several factors related to the Company's business may have a significant
impact on its operating results from quarter to quarter. For example, the
accounting rules governing the timing of revenue recognition in the software
industry are complex, and it can be difficult to estimate when the Company will
recognize revenue generated by a given transaction. Factors such as maturity of
the product sold, payment terms, creditworthiness of the customer, and timing of
delivery or acceptance of the Company's products often cause revenues related to
sales generated in one period to be deferred and recognized in later periods. In
addition, while the Company's contracts are generally denominated in U.S.
dollars, a substantial portion of its sales are made, and some of its expenses
are incurred, in the local currency of countries other than the United States.
Fluctuations in currency exchange rates in a given period may result in the
Company's recognition of gains or losses for that period.
Certain industry-specific trends may also impact the Company's operating
results from quarter to quarter. For example, ATM deployment and transaction
volumes are declining in the U.S. while ATM markets outside the U.S. are
growing. The Company cannot determine with certainty how this changing mix of
ATM usage may impact the Company's future financial results. Point-of-sale debit
transaction volumes are increasing and this may result in increased sales of the
Company's e-payment solutions. Additionally, increased levels of fraud and
identity theft may result in increased demand for the Company's fraud detection
and payment authorization products. Increasing regulatory requirements imposed
upon financial services companies, and other companies utilizing e-payment
solutions, may also drive increased demand for certain of the Company's
products.
Consolidation activity among financial institutions has increased in recent
years. While it is difficult to assess the impact of this consolidation
activity, management believes that recent consolidation activity may have
negatively impacted the Company's financial results. Continuing consolidation
activity may negatively impact the Company throughout fiscal 2005. While all
three of the Company's business units are affected by this consolidation
activity, the Company's IntraNet business unit is particularly impacted because
its customer base is concentrated within the largest financial institutions,
which have been party to several of the recently announced consolidations.
However, it is difficult to predict to what extent increased consolidation
activity will continue, and if it does, whether it will have an overall
long-term positive or negative impact on the Company's future operating results.
There are several potential negative effects of increased consolidation
activity. Continuing consolidation of financial institutions may result in a
fewer number of existing and potential customers for the Company's products and
services. Consolidation of two of the Company's customers could result in
reduced revenues if the combined entity were to negotiate greater volume
discounts or discontinue use of certain of the Company's products. Additionally,
if a non-customer and a customer combine and the combined entity in turn decides
to forego future use of the Company's products, the Company's revenue would
decline. Conversely, the Company could benefit from the combination of a
non-customer and a customer when the combined entity continues usage of the
Company's products and, as a larger combined entity, increases its demand for
the Company's products and services.
The Company continues to evaluate strategies intended to improve its
overall effective tax rate. The Company's degree of success in this regard and
related acceptance by taxing authorities of tax positions taken, as well as
changes to tax laws in the United States and in various foreign jurisdictions,
could cause the Company's effective tax rate to fluctuate from period to period.
Critical Accounting Policies and Estimates
This disclosure is based upon the Company's consolidated financial
statements, which have been prepared in accordance with accounting principles
generally accepted in the United States. The preparation of these financial
statements requires that the Company make estimates and assumptions that affect
the reported amounts of assets, liabilities, revenues and expenses, and related
disclosure of contingent assets and liabilities. The Company bases its
14
estimates on historical experience and other assumptions that it believes to be
proper and reasonable under the circumstances. The Company continually evaluates
the appropriateness of estimates and assumptions used in the preparation of its
consolidated financial statements. Actual results could differ from those
estimates.
The following key accounting policies are impacted significantly by
judgments, assumptions and estimates used in the preparation of the consolidated
financial statements. See Note 1 to the consolidated financial statements for a
further discussion of revenue recognition and other significant accounting
policies.
Revenue Recognition
For software license arrangements for which services rendered are not
considered essential to the functionality of the software, the Company
recognizes revenue upon delivery, provided (1) there is persuasive evidence of
an arrangement, (2) collection of the fee is considered probable, and (3) the
fee is fixed or determinable. In most arrangements, because vendor-specific
objective evidence of fair value does not exist for the license element, the
Company uses the residual method to determine the amount of revenue to be
allocated to the license element. Under the residual method, the fair value of
all undelivered elements, such as postcontract customer support or other
products or services, is deferred and subsequently recognized as the products
are delivered or the services are performed, with the residual difference
between the total arrangement fee and revenues allocated to undelivered elements
being allocated to the delivered element. For software license arrangements in
which the Company has concluded that collectibility issues may exist, revenue is
recognized as cash is collected, provided all other conditions for revenue
recognition have been met. In making the determination of collectibility, the
Company considers the creditworthiness of the customer, economic conditions in
the customer's industry and geographic location, and general economic
conditions.
In recent years, the Company's sales focus has shifted from its
more-established ("mature") products to its newer BASE24-es product, its
Payments Management products and other less-established (collectively referred
to as "newer") products. As a result of this shift to newer products, absent
other factors, the Company initially experiences an increase in deferred
revenues and a corresponding decrease in current period revenues due to
differences in the timing of revenue recognition for the respective products.
Revenues from newer products are typically recognized upon acceptance or first
production use by the customer whereas revenues from mature products, such as
BASE24, are generally recognized upon delivery of the product, provided all
other conditions for revenue recognition have been met. For those arrangements
where revenues are being deferred and the Company determines that related direct
and incremental costs are recoverable, such costs are deferred and subsequently
expensed as the revenues are recognized. Newer products are continually
evaluated by Company management and product development personnel to determine
when any such product meets specific internally defined product maturity
criteria that would support its classification as a mature product. Evaluation
criteria used in making this determination include successful demonstration of
product features and functionality; standardization of sale, installation, and
support functions; and customer acceptance at multiple production site
installations, among others. A change in product classification (from newer to
mature) would allow the Company to recognize revenues from sales of the product
upon delivery of the product rather than upon acceptance or first production use
by the customer, resulting in earlier recognition of revenues from sales of that
product, provided all other revenue recognition criteria have been met.
When a software license arrangement includes services to provide
significant modification or customization of software, those services are not
considered to be separable from the software. Accounting for such services
delivered over time (generally in excess of 12 months) is referred to as
contract accounting. Under contract accounting, the Company generally uses the
percentage-of-completion method. Under the percentage-of-completion method, the
Company records revenue for the software license fee and services over the
development and implementation period, with the percentage of completion
generally measured by the percentage of labor hours incurred to-date to
estimated total labor hours for each contract. Estimated total labor hours for
each contract are based on the project scope, complexity, skill level
requirements, and similarities with other projects of similar size and scope.
For those contracts subject to contract accounting, estimates of total revenue
under the contract exclude amounts due under extended payment terms.
Provision for Doubtful Accounts
The Company maintains a general allowance for doubtful accounts based on
its historical experience, along with additional customer-specific allowances.
The Company regularly monitors credit risk exposures in its accounts receivable.
In estimating the necessary level of its allowance for doubtful accounts,
management considers the aging
15
of its accounts receivable, the creditworthiness of the Company's customers,
economic conditions within the customer's industry, and general economic
conditions, among other factors. Should any of these factors change, the
estimates made by management would also change, which in turn would impact the
level of the Company's future provision for doubtful accounts. Specifically, if
the financial condition of the Company's customers were to deteriorate,
affecting their ability to make payments, additional customer-specific
provisions for doubtful accounts may be required. Also, should deterioration
occur in general economic conditions, or within a particular industry or region
in which the Company has a number of customers, additional provisions for
doubtful accounts may be recorded to reserve for potential future losses. Any
such additional provisions would reduce operating income in the periods in
which they were recorded.
Accounting for Income Taxes
Accounting for income taxes requires significant judgments in the
development of estimates used in income tax calculations. Such judgments
include, but are not limited to, the likelihood the Company would realize the
benefits of net operating loss carryforwards and/or foreign tax credits, the
adequacy of valuation allowances, and the rates used to measure transactions
with foreign subsidiaries. As part of the process of preparing the Company's
consolidated financial statements, the Company is required to estimate its
income taxes in each of the jurisdictions in which the Company operates. The
judgments and estimates used are subject to challenge by domestic and foreign
taxing authorities. It is possible that either domestic or foreign taxing
authorities could challenge those judgments and estimates and draw conclusions
that would cause the Company to incur tax liabilities in excess of, or realize
benefits less than, those currently recorded. In addition, changes in the
geographical mix or estimated amount of annual pretax income could impact the
Company's overall effective tax rate.
To the extent recovery of deferred tax assets is not likely, the Company
records a valuation allowance to reduce its deferred tax assets to the amount
that is more likely than not to be realized. Although the Company has considered
future taxable income along with prudent and feasible tax planning strategies in
assessing the need for the valuation allowance, if the Company should determine
that it would not be able to realize all or part of its deferred tax assets in
the future, an adjustment to deferred tax assets would be charged to income in
the period any such determination was made. Likewise, in the event the Company
was able to realize its deferred tax assets in the future in excess of the net
recorded amount, an adjustment to deferred tax assets would increase income in
the period any such determination was made.
Recent Accounting Pronouncements
In December 2004, the FASB issued SFAS No. 123 (Revised 2004), "Share-Based
Payment" ("SFAS No. 123R"), which eliminates the ability to account for
share-based compensation transactions using the intrinsic value method and
requires instead that such transactions be accounted for using a
fair-value-based method. SFAS No. 123R requires public entities to record
noncash compensation expense related to payment for employee services by an
equity award, such as stock options, in their financial statements over the
requisite service period. SFAS No. 123R is effective as of the beginning of the
first interim or annual period that begins after June 15, 2005. The Company does
not plan to adopt SFAS No. 123R prior to its fourth quarter of fiscal 2005. The
Company expects that the adoption of SFAS No. 123R will have a negative impact
on the Company's consolidated results of operations. The Company has
historically provided pro forma disclosures pursuant to SFAS No. 123 and SFAS
No. 148 as if the fair value method of accounting for stock options had been
applied, assuming use of the Black-Scholes option-pricing model. Although not
currently anticipated, other assumptions may be utilized when SFAS No. 123R is
adopted.
In December 2004, the FASB issued SFAS No. 153, "Exchange of Nonmonetary
Assets," which is an amendment of APB Opinion No. 29, "Accounting for
Nonmonetary Transactions." The guidance in APB Opinion No. 29 is based on the
principle that exchanges of nonmonetary assets should be measured based on the
fair value of the assets exchanged, with certain exceptions to that principle.
SFAS No. 153 eliminates the exception for nonmonetary exchanges of similar
productive assets and replaces it with a general exception for exchanges of
nonmonetary assets that do not have commercial substance. A nonmonetary exchange
has commercial substance if the future cash flows of the entity are expected to
change significantly as a result of the exchange. The adoption of SFAS No. 153,
which will be effective for nonmonetary asset exchanges occurring in fiscal
periods beginning after June 15, 2005, is not expected to have a material effect
on the Company's financial position or results of operations.
16
Business Units
The Company's products and services are currently organized within three
operating segments, referred to as business units - ACI Worldwide, Insession
Technologies and IntraNet. The Company's chief operating decision makers review
financial information presented on a consolidated basis, accompanied by
disaggregated information about revenues and operating income by business unit.
The following are revenues and operating income for these business units for the
periods indicated (in thousands):
Three Months Ended
December 31,
-------------------
2004 2003
-------- --------
Revenues:
ACI Worldwide................................ $ 63,945 $ 57,716
Insession Technologies....................... 9,509 8,450
IntraNet..................................... 7,152 7,851
-------- --------
$ 80,606 $ 74,017
======== ========
Operating income:
ACI Worldwide................................ $ 18,165 $ 12,100
Insession Technologies....................... 2,809 1,813
IntraNet..................................... 1,111 1,595
-------- --------
$ 22,085 $ 15,508
======== ========
Backlog
Included in backlog are all software license fees, maintenance fees and
services specified in executed contracts to the extent that the Company believes
that recognition of the related revenue will occur within the next 12 months.
Recurring backlog includes all monthly license fees, maintenance fees and
facilities management fees. Non-recurring backlog includes other software
license fees and services.
The following table sets forth the Company's recurring and non-recurring
backlog, by business unit, as of December 31, 2004 (in thousands):
Recurring Non-Recurring Total
--------- ------------- ---------
ACI Worldwide.................... $ 136,661 $ 47,376 $ 184,037
Insession Technologies........... 21,906 7,737 29,643
IntraNet, Inc.................... 12,338 4,376 16,714
--------- --------- ---------
$ 170,905 $ 59,489 $ 230,394
========= ========= =========
Customers may request that their contracts be renegotiated or terminated
due to a number of factors, including mergers, changes in their financial
condition, or general changes in economic conditions in the customer's industry
or geographic location, or the Company may experience delays in the development
or delivery of products or services specified in customer contracts.
Accordingly, there can be no assurance that contracts included in recurring or
non-recurring backlog will actually generate the specified revenues or that the
actual revenues will be generated within a 12-month period.
17
Results of Operations
The following table sets forth certain financial data and the percentage of
total revenues of the Company for the periods indicated (in thousands):
Three Months Ended December 31,
-------------------------------------
2004 2003
----------------- -----------------
% of % of
Amount Revenue Amount Revenue
-------- ------- -------- -------
Revenues:
Initial license fees (ILFs)........ $ 29,533 36.6% $ 20,198 27.3%
Monthly license fees (MLFs)........ 18,273 22.7 21,035 28.4
-------- ------- -------- -------
Software license fees.............. 47,806 59.3 41,233 55.7
Maintenance fees................... 22,080 27.4 21,313 28.8
Services........................... 10,720 13.3 11,471 15.5
-------- ------- -------- -------
Total revenues................... 80,606 100.0 74,017 100.0
-------- ------- -------- -------
Expenses:
Cost of software license fees...... 5,906 7.3 6,639 9.0
Cost of maintenance and services... 13,836 17.2 14,979 20.2
Research and development........... 9,915 12.3 9,433 12.8
Selling and marketing.............. 15,301 19.0 13,790 18.6
General and administrative......... 13,563 16.8 13,668 18.5
-------- ------- -------- -------
Total expenses................... 58,521 72.6 58,509 79.1
-------- ------- -------- -------
Operating income..................... 22,085 27.4 15,508 20.9
-------- ------- -------- -------
Other income (expense):
Interest income.................... 584 0.7 523 0.7
Interest expense................... (168) (0.2) (531) (0.7)
Other, net......................... (1,247) (1.5) 2,205 3.0
-------- ------- -------- -------
Total other income (expense)..... (831) (1.0) 2,197 3.0
-------- ------- -------- -------
Income before income taxes........... 21,254 26.4 17,705 23.9
Income tax provision................. (8,331) (10.4) (7,664) (10.3)
-------- ------- -------- -------
Net income........................... $ 12,923 16.0% $ 10,041 13.6%
======== ======= ======== =======
Revenues. Total revenues for the first quarter of fiscal 2005 increased
$6.6 million, or 8.9%, as compared to the same period of fiscal 2004. The
three-month increase is the result of a $6.6 million, or 15.9%, increase in
software license fee revenues and a $0.8 million, or 3.6%, increase in
maintenance fee revenues, offset by a $0.8 million, or 6.5%, decrease in
services revenues.
For the first quarter of fiscal 2005, as compared to the same period of
fiscal 2004, ACI Worldwide's software license fee revenues increased by $5.0
million. This increase resulted from a sales mix during the current quarter that
was more heavily weighted toward the BASE24 product line, including a
significant license renewal in the Americas region, allowing an increased
comparative percentage of sales to be recognized as revenues during the quarter
rather than being deferred, as well as recognition of software license fees from
a significant BASE24-es application. As previously disclosed, there was also a
significant license renewal that occurred within the EMEA region during the
first quarter of fiscal 2004 which resulted in an increase in ACI Worldwide's
software license fee revenues during that quarter. Insession Technologies'
software license fee revenues were $0.9 million higher for the first quarter of
fiscal 2005 as compared to the same period of fiscal 2004, primarily due to
increased activity related to its transactional data management products. For
the first quarter of fiscal 2005, as compared to the same period of fiscal 2004,
IntraNet's software license fee revenues increased by $0.7 million, primarily
due to a large Money Transfer System ("MTS") product contract extension that was
recognized during the current period.
The increase in maintenance fee revenues during the first quarter of fiscal
2005 as compared to the same
18
period of fiscal 2004 is primarily due to growth in the installed base of
software products within the ACI Worldwide and Insession Technologies' business
units.
The decrease in services revenues for the first quarter of fiscal 2005 as
compared to the same period of fiscal 2004 resulted primarily from a decrease in
IntraNet services revenues. Since the majority of IntraNet's MTS customers have
successfully completed their migration from the HP AlphaServer-based MTS product
(previously referred to as the Digital VAX-based MTS product) to the IBM
sSeries-based MTS product (previously referred to as the RS6000-based MTS
product), corresponding services revenues associated with the migration process
have declined.
Expenses. Total operating expenses for the first quarter of fiscal 2005
were comparable to the same period of fiscal 2004.
Cost of software license fees for the first quarter of fiscal 2005
decreased $0.7 million, or 11.0%, as compared to the same period of fiscal 2004.
The decrease in cost of software license fees was primarily due to higher than
usual commissions paid to distributors of the Company's products during the
first quarter of fiscal 2004.
Cost of maintenance and services for the first quarter of fiscal 2005
decreased $1.1 million, or 7.6%, as compared to the same period of fiscal 2004.
The decrease in cost of maintenance and services was primarily due to higher
than usual third-party royalty fees during the first quarter of fiscal 2004 and
a reduction in compensation-related expenses during the first quarter of fiscal
2005 as compared to the same period of fiscal 2004 resulting from the shift of
certain personnel to installation services associated with increasing sales of
newer products such as the Company's BASE24-es product. These decreases were
offset by higher expenses in the first quarter of fiscal 2005 resulting from
changes in foreign currency exchange rates.
R&D costs for the first quarter of fiscal 2005 increased $0.5 million, or
5.1%, as compared to the same period of fiscal 2004. The increase in R&D costs
resulted primarily from higher expenses resulting from changes in foreign
currency exchange rates and increased personnel assigned to R&D activities.
Selling and marketing costs for the first quarter of fiscal 2005 increased
$1.5 million, or 11.0%, as compared to the same period of fiscal 2004. The
increase in selling and marketing costs was primarily due to higher expenses
resulting from changes in foreign currency exchange rates, primarily in the EMEA
region, as well as increases in travel-related expenses.
General and administrative costs for the first quarter of fiscal 2005 were
comparable to the same period of fiscal 2004.
Other Income and Expense. Interest expense for the first quarter of fiscal
2005 decreased $0.4 million, or 68.4%, as compared to the same period of fiscal
2004. This decrease in interest expense is attributable to reductions in debt
from financing agreements (balances of $5.7 million and $19.7 million at
December 31, 2004 and 2003, respectively).
Other income and expense consists of foreign currency gains and losses, and
other non-operating items. Other expense for the first quarter of fiscal 2005
was $1.2 million as compared to other income for the same period of fiscal 2004
of $2.2 million. This variance is primarily due to foreign currency gains and
losses, with the Company realizing $1.2 million in net losses during the first
quarter of fiscal 2005 as compared to $2.4 million in net gains during the first
quarter of fiscal 2004.
Income Taxes. It is the Company's policy to report income tax expense for
interim reporting periods using an estimated annual effective income tax rate.
However, the tax effects of significant or unusual items are not considered in
the estimated annual effective tax rate. The tax effect of such events is
recognized in the interim period in which the event occurs.
The effective tax rate for the first quarter of fiscal 2005 was
approximately 39.2% as compared to 43.3% for the same period of fiscal 2004. The
effective tax rate for the first quarter of fiscal 2005 improved over the same
period of fiscal 2004 due to more recognizable foreign net operating losses in
foreign companies. The effective tax rate for the first quarter of fiscal 2004
was primarily impacted by recognition of research and development credits,
extraterritorial
19
income exclusion benefits and expected utilization of foreign tax credits and
the non-recognition of tax benefits for operating losses in certain foreign
locations. While certain of these benefits are limited by the introduction of
the American Jobs Creation Act of 2004 (see discussion below), the majority of
these benefits continued to be available in the first quarter of fiscal 2005.
Each quarter, the Company evaluates its historical operating results as
well as its projections for the future to determine the realizability of the
deferred tax assets. As of December 31, 2004, the Company had net deferred tax
assets of $21.4 million (net of a $47.9 million valuation allowance). The
Company's valuation allowance primarily relates to foreign net operating loss
carryforwards and, to a lesser extent, foreign tax credit carryforwards and
capital loss carryforwards. The valuation allowance is based on the extent to
which management believes these carryforwards could expire unused due to the
Company's historical or projected losses in certain of its foreign subsidiaries.
The Company analyzes the recoverability of its net deferred tax assets at each
reporting period. Because unforeseen factors may affect future taxable income,
increases or decreases to the valuation reserve may be required in future
periods.
The American Jobs Creation Act of 2004 (the "Jobs Act"). On October 22,
2004, the Jobs Act was enacted, which directly impacts the Company in several
areas. The Jobs Act reduces the carryback period of foreign tax credits from two
years to one year and extends the carryforward period from five years to ten
years.
The Company currently takes advantage of the extraterritorial income
exclusion ("EIE") in calculating its federal income tax liability. The Jobs Act
repealed the EIE, the benefit of which will be phased out over the next three
years, with 80% of the prior benefit allowed in 2005, 60% in 2006 and 0% allowed
in years after 2006.
The Jobs Act replaced the EIE with the new "manufacturing deduction" that
allows a deduction from taxable income of up to 9% of "qualified production
activities income," not to exceed taxable income. The deduction is phased in
over a six-year period, with the eligible percentage increasing from 3% in 2005
to 9% in 2010.
The Jobs Act includes a foreign earnings repatriation provision that
provides an 85% dividends received deduction for certain dividends received from
controlled foreign corporations. The Company currently intends to reinvest
foreign earnings indefinitely and accordingly, under APB Opinion No. 23,
"Accounting for Income Taxes - Special Areas," has not recorded deferred tax
liabilities for unpatriated foreign earnings. However, the Company will continue
to analyze the potential tax impact should it elect to repatriate foreign
earnings pursuant to the Jobs Act.
Liquidity and Capital Resources
As of December 31, 2004, the Company's principal sources of liquidity
consisted of $186.5 million in cash, cash equivalents and marketable securities.
In December 2004, the Company announced that its Board of Directors approved a
stock repurchase program authorizing the Company, from time to time as market
and business conditions warrant, to acquire up to $80 million of its Common
Stock. The Company intends to use existing cash and cash equivalents to fund
these repurchases. The Company made no repurchases of its Common Stock under
this stock repurchase program during the first quarter of fiscal 2005. The
Company may also decide to use cash in the future to acquire new products and
services or enhance existing products and services through acquisitions of other
companies, product lines, technologies and personnel, or through investments in
other companies.
The Company's net cash flows provided by operating activities for the first
quarter of fiscal 2005 amounted to $15.0 million as compared to $11.1 million
provided by operating activities during the same period of fiscal 2004. The
increase in operating cash flows in first quarter of fiscal 2005 as compared to
the same period of fiscal 2004 resulted primarily from increased net income, as
well as changes in billed and accrued receivables.
The Company's net cash flows used in investing activities totaled $9.5
million for the first quarter of fiscal 2005 as compared to $0.3 million used in
investing activities during the same period of fiscal 2004. During the first
quarter of fiscal 2005, marketable securities increased by $8.2 million and the
Company purchased $1.3 million of software, property and equipment. During the
first quarter of fiscal 2004, the Company purchased $0.5 million of software,
property and equipment.
The Company's net cash flows provided by financing activities totaled $0.4
million for the first quarter of fiscal 2005 as compared to $0.7 million used in
financing activities during the same period of fiscal 2004. In the past, an
20
important element of the Company's cash management program was the factoring of
future revenue streams, whereby interest in its future monthly license payments
under installment or long-term payment arrangements is transferred on a
non-recourse basis to third-party financial institutions in exchange for cash.
In the first quarter of fiscal 2005, the Company made scheduled payments to the
third-party financial institutions totaling $3.9 million, which were offset by
proceeds of $4.1 million from exercises of stock options. In the first quarter
of fiscal 2004, the Company made scheduled payments to the third-party financial
institutions totaling $5.2 million, which were partially offset by cash receipts
of $4.5 million from exercises of stock options.
The Company also realized an increase in cash of $2.8 million for the first
quarter of fiscal 2005 as compared to $1.6 million during the same period of
fiscal 2004 due to foreign exchange rate variances.
The Company believes that its existing sources of liquidity, including cash
on hand, marketable securities and cash provided by operating activities, will
satisfy the Company's projected liquidity requirements for the foreseeable
future.
Factors That May Affect the Company's Future Results or the Market Price of the
Company's Common Stock
The Company operates in a rapidly changing technological and economic
environment that presents numerous risks. Many of these risks are beyond the
Company's control and are driven by factors that often cannot be predicted. The
following discussion highlights some of these risks.
o The Company's backlog estimate is based on management's assessment of
the customer contracts that exist as of the date the estimate is made.
A number of factors could result in actual revenues being less than the
amounts reflected in backlog. The Company's customers may attempt to
renegotiate or terminate their contracts for a number of reasons,
including mergers, changes in their financial condition, or general
changes in economic conditions in their industries or geographic
locations, or the Company may experience delays in the development or
delivery of products or services specified in customer contracts.
Accordingly, there can be no assurance that contracts included in
recurring or non-recurring backlog will actually generate the specified
revenues or that the actual revenues will be generated within a
12-month period.
o The Company issued a press release dated September 28, 2004 announcing
Gregory D. Derkacht's plans to retire as the Company's president and
chief executive officer ("CEO") not later than June 30, 2006. The
Company has commenced a search for Mr. Derkacht's successor and expects
to identify such person prior to Mr. Derkacht's retirement. The search,
and the related transition period, could divert management attention
and resources away from other operational matters. Additionally, there
can be no assurance that the Company will be successful in identifying
a successor president and CEO that meets the Company's criteria. If a
suitable successor is not identified, the resulting uncertainty could
adversely affect the Company's business and/or its stock price.
o In December 2004, the FASB issued SFAS No. 123R, "Share-Based Payment."
This revised accounting standard requires most public entities to
record noncash compensation expense related to payment for employee
services by equity awards, such as stock options, in their financial
statements commencing in the first annual or interim period that begins
after June 15, 2005. The Company does not plan to adopt this revised
accounting standard prior to its fourth quarter of fiscal 2005. The
adoption of SFAS No. 123R and the noncash expense that will be recorded
thereby will have a negative impact on the Company's results of
operations and will reduce the Company's earnings per share. Future
grants of stock options, including any grants that may be issued in
connection with the hiring of a president and CEO to succeed Mr.
Derkacht, will increase the noncash expenses the Company must record,
which will further increase the negative impact on the Company's
results of operations and earnings per share.
o The Company is subject to income taxes, as well as non-income based
taxes, in the United States and in various foreign jurisdictions.
Significant judgment is required in determining the Company's worldwide
provision for income taxes and other tax liabilities. In addition, the
Company has benefitted from, and expects to continue to benefit from,
implemented tax-saving strategies. The Company believes that
implemented tax-saving strategies comply with applicable tax law.
However, taxing authorities could disagree with the Company's
positions. If the taxing authorities decided to challenge any of the
Company's tax positions and
21
were successful in such challenges, the Company's financial condition
and/or results of operations could be adversely affected.
The Company's tax positions in its amended income tax returns filed for
its 1999 through 2002 tax years are the subject of an ongoing
examination by the Internal Revenue Service ("IRS"). The Company
believes that its tax positions comply with applicable tax law. This
examination has resulted in the IRS issuing proposed adjustments, the
majority of which relate to the timing of revenue recognition. The IRS
could issue additional proposed adjustments that could adversely affect
the Company's financial condition and/or results of operations.
Three of the Company's foreign subsidiaries are the subject of tax
examinations by the local taxing authorities. Other foreign
subsidiaries could face challenges from various foreign tax
authorities. It is not certain that the local authorities will accept
the Company's tax positions. The Company believes its tax positions
comply with applicable tax law and intends to vigorously defend its
positions. However, differing positions on certain issues could be
upheld by foreign tax authorities, which could adversely affect the
Company's financial condition and/or results of operations.
o The Company's business is concentrated in the financial services
industry, making it susceptible to a downturn in that industry.
Consolidation activity among financial institutions has increased in
recent years. There are several potential negative effects of increased
consolidation activity. Continuing consolidation of financial
institutions may result in a fewer number of existing and potential
customers for the Company's products and services. Consolidation of two
of the Company's customers could result in reduced revenues if the
combined entity were to negotiate greater volume discounts or
discontinue use of certain of the Company's products. Additionally, if
a non-customer and a customer combine and the combined entity in turn
decided to forego future use of the Company's products, the Company's
revenue would decline.
o No assurance can be given that operating results will not vary from
quarter to quarter, and any fluctuations in quarterly operating results
may result in volatility in the Company's stock price. The Company's
stock price may also be volatile, in part, due to external factors such
as announcements by third parties or competitors, inherent volatility
in the technology sector and changing market conditions in the software
industry. The Company's stock price may also become volatile, in part,
due to developments in the various lawsuits filed against the Company
relating to its restatement of prior consolidated financial results.
o The Company has historically derived a majority of its revenues from
international operations and anticipates continuing to do so, and is
thereby subject to risks of conducting international operations. One of
the principal risks associated with international operations is
potentially adverse movements of foreign currency exchange rates. The
Company's exposures resulting from fluctuations in foreign currency
exchange rates may change over time as the Company's business evolves
and could have an adverse impact on the Company's financial condition
and/or results of operations. The Company has not entered into any
derivative instruments or hedging contracts to reduce exposure to
adverse foreign currency changes. Other potential risks associated with
the Company's international operations include difficulties in staffing
and management, reliance on independent distributors, longer payment
cycles, potentially unfavorable changes to foreign tax rules,
compliance with foreign regulatory requirements, reduced protection of
intellectual property rights, variability of foreign economic
conditions, changing restrictions imposed by U.S. export laws, and
general economic and political conditions in the countries where the
Company sells its products and services.
o The Company's BASE24-es product is a significant new product for the
Company. If the Company is unable to generate adequate sales of
BASE24-es, if market acceptance of BASE24-es is delayed, or if the
Company is unable to successfully deploy BASE24-es in production
environments, the Company's business, financial condition and/or
results of operations could be materially adversely affected.
o Historically, a majority of the Company's total revenues resulted from
licensing its BASE24 product line and providing related services and
maintenance. Any reduction in demand for, or increase in competition
with respect to, the BASE24 product line could have a material adverse
effect on the Company's financial condition and/or results of
operations.
o The Company has historically derived a substantial portion of its
revenues from licensing of software products that operate on
Hewlett-Packard ("HP") NonStop servers. Any reduction in demand for HP
NonStop servers, or any change in strategy by HP related to support of
its NonStop servers, could have a material adverse effect on the
Company's financial condition and/or results of operations.
22
o The Company's software products are complex. They may contain
undetected errors or failures when first introduced or as new versions
are released. This may result in loss of, or delay in, market
acceptance of the Company's products and a corresponding loss of sales
or revenues. Customers depend upon the Company's products for
mission-critical applications. Software product errors or failures
could subject the Company to product liability, as well as performance
and warranty claims, which could materially adversely affect the
Company's business, financial condition and/or results of operations.
o The Company may acquire new products and services or enhance existing
products and services through acquisitions of other companies, product
lines, technologies and personnel, or through investments in other
companies. Any acquisition or investment may be subject to a number of
risks, including diversion of management time and resources, disruption
of the Company's ongoing business, difficulties in integrating
acquisitions, dilution to existing stockholders if the Company's
common stock is issued in consideration for an acquisition or
investment, the incurring or assuming of indebtedness or other
liabilities in connection with an acquisition, and lack of familiarity
with new markets, product lines and competition. The failure to manage
acquisitions or investments, or successfully integrate acquisitions,
could have a material adverse effect on the Company's business,
financial condition and/or results of operations.
o To protect its proprietary rights, the Company relies on a combination
of contractual provisions, including customer licenses that restrict
use of the Company's products, confidentiality agreements and
procedures, and trade secret and copyright laws. Despite such efforts,
the Company may not be able to adequately protect its proprietary
rights, or the Company's competitors may independently develop similar
technology, duplicate products or design around any rights the Company
believes to be proprietary. This may be particularly true in countries
other than the United States because some foreign laws do not protect
proprietary rights to the same extent as certain laws of the United
States. Any failure or inability of the Company to protect its
proprietary rights could materially adversely affect the Company.
o There has been a substantial amount of litigation in the software
industry regarding intellectual property rights. The Company
anticipates that software product developers and providers of
electronic commerce solutions could increasingly be subject to
infringement claims, and third parties may claim that the Company's
present and future products infringe their intellectual property
rights. Any claims, with or without merit, could be time-consuming,
result in costly litigation, cause product delivery delays or require
the Company to enter into royalty or licensing agreements. A
successful claim by a third party of intellectual property infringement
by the Company could compel the Company to enter into costly royalty
or license agreements, pay significant damages or even stop selling
certain products. Royalty or licensing agreements, if required, may
not be available on terms acceptable to the Company or at all, which
could adversely affect the Company's business.
o The Company continues to evaluate the claims made in various lawsuits
filed against the Company and certain directors and officers relating
to its restatement of prior consolidated financial results. The Company
intends to defend these lawsuits vigorously, but cannot predict their
outcomes and is not currently able to evaluate the likelihood of its
success or the range of potential loss, if any. However, if the Company
were to lose any of these lawsuits or if they were not settled on
favorable terms, the judgment or settlement could have a material
adverse effect on its financial condition, results of operations and/or
cash flows.
The Company has insurance that provides an aggregate coverage of $20.0
million for the period during which the claims were filed, but cannot
evaluate at this time whether such coverage will be available or
adequate to cover losses, if any, arising out of these lawsuits. If
these policies do not adequately cover expenses and liabilities
relating to these lawsuits, the Company's financial condition, results
of operations and cash flows could be materially harmed. The Company's
certificate of incorporation provides that it will indemnify, and
advance expenses to, its directors and officers to the maximum extent
permitted by Delaware law. The indemnification covers any expenses and
liabilities reasonably incurred by a person, by reason of the fact that
such person is or was or has agreed to be a director or officer, in
connection with the investigation, defense and settlement of any
threatened, pending or completed action, suit, proceeding or claim. The
Company's certificate of incorporation authorizes the use of
indemnification agreements and the Company enters into such agreements
with its directors and certain officers from time to time. These
indemnification agreements typically provide for a broader scope of the
Company's obligation to indemnify the directors and officers than set
forth in the certificate of incorporation. The Company's contractual
23
indemnification obligations under these agreements are in addition to
the respective directors' and officers' rights under the certificate of
incorporation or under Delaware law.
Additional related suits against the Company may be commenced in the
future. The Company will fully analyze such suits and intends to
vigorously defend against them. There is a risk that the
above-described litigation, as well as any additional suits, could
result in substantial costs and divert management attention and
resources, which could adversely affect the Company's business,
financial condition and/or results of operations.
o From time to time, the Company is involved in litigation relating to
claims arising out of its operations. Any claims, with or without
merit, could be time-consuming and result in costly litigation. Failure
to successfully defend against these claims could result in a material
adverse effect on the Company's business, financial condition and/or
results of operations.
o Beginning in fiscal 2005, Section 404 of the Sarbanes-Oxley Act of 2002
will require the Company's annual report on Form 10-K to include (1) a
report on management's assessment of the effectiveness of the Company's
internal controls over financial reporting, (2) a statement that the
Company's independent auditor has issued an attestation report on
management's assessment of the Company's internal controls over
financial reporting, and (3) a report by the Company's independent
auditor on their assessment of the effectiveness of the Company's
internal controls over financial reporting. There are no assurances
that the Company will discover and remediate all deficiencies in its
internal controls, including any significant deficiencies or material
weaknesses, as it implements new documentation and testing procedures
to comply with the Section 404 reporting requirements. If the Company
is unable to remediate such deficiencies or is unable to complete the
work necessary to properly evaluate its internal controls over
financial reporting, there is a risk that management and/or the
Company's independent auditor may not be able to conclude that the
Company's internal controls over financial reporting are effective. If
the Company reports any such deficiencies, negative publicity and/or a
decline in the Company's stock price could result.
o New accounting standards, revised interpretations or guidance regarding
existing standards, or changes in the Company's business practices
could result in future changes to the Company's revenue recognition or
other accounting policies. These changes could have a material adverse
effect on the Company's business, financial condition and/or results of
operations.
Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
There have been no material changes to the Company's market risk for the
three months ended December 31, 2004. The Company conducts business in all parts
of the world and is thereby exposed to market risks related to fluctuations in
foreign currency exchange rates. As a general rule, the Company's revenue
contracts are denominated in U.S. dollars. Thus, any decline in the value of
local foreign currencies against the U.S. dollar results in the Company's
products and services being more expensive to a potential foreign customer, and
in those instances where the Company's goods and services have already been
sold, may result in the receivables being more difficult to collect. The Company
at times enters into revenue contracts that are denominated in the country's
local currency, principally in Australia, Canada, the United Kingdom and other
European countries. This practice serves as a natural hedge to finance the local
currency expenses incurred in those locations. The Company has not entered into
any foreign currency hedging transactions. The Company does not purchase or hold
any derivative financial instruments for the purpose of speculation or
arbitrage.
The primary objective of the Company's cash investment policy is to
preserve principal without significantly increasing risk. Based on the Company's
cash investments and interest rates on these investments at December 31, 2004, a
hypothetical ten percent increase or decrease in interest rates would not have a
material impact on the Company's financial position, results of operations
and/or cash flows.
Item 4. CONTROLS AND PROCEDURES
The Company's management, under the supervision of and with the
participation of the Chief Executive Officer and Chief Financial Officer,
performed an evaluation of the effectiveness of the Company's disclosure
controls and procedures (as defined in Rules 13a-15 and 15d-15 under the
Exchange Act) as of the end of the period covered by
24
this report. Based on that evaluation, the Company's Chief Executive Officer
and Chief Financial Officer have concluded that the Company's disclosure
controls and procedures were effective, as of the end of the period covered by
this report, to provide reasonable assurance that information required to be
disclosed by the Company in reports that it files or submits under the Exchange
Act is recorded, processed, summarized and reported, completely and accurately,
within the time periods specified in SEC rules and forms.
No changes occurred in the Company's internal controls over financial
reporting during the first quarter of fiscal 2005 that have materially affected,
or are reasonably likely to materially affect, the Company's internal controls
over financial reporting.
PART II - OTHER INFORMATION
Item 1. LEGAL PROCEEDINGS
On January 27, 2005, Norbert C. Abel, as Trustee on behalf of the Norbert
C. Abel Trust, instituted a derivative action in federal District Court for the
District of Nebraska against Gregory Derkacht, Seymour F. Harlan (sic), Roger K.
Alexander, Jim D. Kever, Frank R. Sanchez, Jim Kerr, Charles E. Noell, III,
Gregory J. Duman, Larry G. Fendley, William E. Fisher, Dwight Hanson, and David
C. Russell, as individual defendants, and the Company, as nominal defendant (the
"Abel matter"). The suit is a stockholder derivative action that contains
virtually the same factual allegations as contained in the class action
litigation described in Note 8 to the consolidated financial statements. In
addition, the suit alleges that the individual defendants breached fiduciary
duties by failing to establish and maintain adequate accounting controls and, as
to defendants Fisher, Russell, Duman, Fendley, Hanson and Derkacht, for breach
of fiduciary duty and unjust enrichment based upon their receipt of salaries,
bonuses and stock options based upon the Company's alleged false performance.
The Complaint alleges Jim Kerr was a director of TSA. However, TSA has no record
of an individual by the name of Jim Kerr ever having served as a director. As of
this date, none of the defendants have been served with the Complaint. If the
plaintiff effects service, the defendants intend to seek a stay of the Abel
matter pending an outcome of the class action litigation, further intend to file
a motion to dismiss the Complaint, and otherwise intend to vigorously defend the
suit. Plaintiff does not specify what damages the Company has purportedly
suffered, but does allege that the amount in controversy exceeds $75,000, as it
must in order to maintain the action in federal court based upon diversity of
citizenship.
Item 6. EXHIBITS
Exhibits
31.1 * Certification of Chief Executive Officer pursuant to SEC Rule 13a-14,
as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2 * Certification of Chief Financial Officer pursuant to SEC Rule 13a-14,
as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1 Certification of Chief Executive Officer pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002
32.2 Certification of Chief Financial Officer pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002
* This certification is not deemed "filed" for purposes of Section 18 of
the Securities Exchange Act of 1934, or otherwise subject to the liability of
that section. Such certification will not be deemed to be incorporated by
reference into any filing under the Securities Act of 1933 or the Securities
Exchange Act of 1934, except to the extent that the Company specifically
incorporates it by reference.
25
SIGNATURE
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.
TRANSACTION SYSTEMS ARCHITECTS, INC.
(Registrant)
Date: February 8, 2005 By: /s/ DAVID R. BANKHEAD
-------------------------------------
David R. Bankhead
Senior Vice President,
Chief Financial Officer and Treasurer
(principal financial officer)
26
EXHIBIT INDEX
Exhibit
Number Exhibit Description
- ------- -------------------
31.1 * Certification of Chief Executive Officer pursuant to SEC Rule 13a-14,
as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2 * Certification of Chief Financial Officer pursuant to SEC Rule 13a-14,
as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1 Certification of Chief Executive Officer pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002
32.2 Certification of Chief Financial Officer pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002
* This certification is not deemed "filed" for purposes of Section 18 of
the Securities Exchange Act of 1934, or otherwise subject to the liability of
that section. Such certification will not be deemed to be incorporated by
reference into any filing under the Securities Act of 1933 or the Securities
Exchange Act of 1934, except to the extent that the Company specifically
incorporates it by reference.
27
Exhibit 31.1
CERTIFICATION OF CHIEF EXECUTIVE OFFICER
I, Gregory D. Derkacht, certify that:
1. I have reviewed this Quarterly Report on Form 10-Q of Transaction Systems
Architects, Inc.;
2. Based on my knowledge, this report does not contain any untrue statement of a
material fact or omit to state a material fact necessary to make the statements
made, in light of the circumstances under which such statements were made, not
misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material respects the
financial condition, results of operations and cash flows of the registrant as
of, and for, the periods presented in this report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:
a) Designed such disclosure controls and procedures, or caused such
disclosure controls and procedures to be designed under our supervision, to
ensure that material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this report is being
prepared;
b) Evaluated the effectiveness of the registrant's disclosure controls and
procedures and presented in this report our conclusions about the
effectiveness of the disclosure controls and procedures, as of the end of
the period covered by this report based on such evaluation; and
c) Disclosed in this report any change in the registrant's internal control
over financial reporting that occurred during the registrant's most recent
fiscal quarter that has materially affected, or is reasonably likely to
materially affect, the registrant's internal control over financial
reporting; and
5. The registrant's other certifying officer and I have disclosed, based on our
most recent evaluation of internal control over financial reporting, to the
registrant's auditors and the audit committee of registrant's board of directors
(or persons performing the equivalent functions):
a) All significant deficiencies and material weaknesses in the design or
operation of internal control over financial reporting which are reasonably
likely to adversely affect the registrant's ability to record, process,
summarize and report financial information; and
b) Any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal control
over financial reporting.
Date: February 8, 2005 By: /s/ GREGORY D. DERKACHT
--------------------------------------
Gregory D. Derkacht
President, Chief Executive Officer
and Director
Exhibit 31.2
CERTIFICATION OF CHIEF FINANCIAL OFFICER
I, David R. Bankhead, certify that:
1. I have reviewed this Quarterly Report on Form 10-Q of Transaction Systems
Architects, Inc.;
2. Based on my knowledge, this report does not contain any untrue statement of a
material fact or omit to state a material fact necessary to make the statements
made, in light of the circumstances under which such statements were made, not
misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material respects the
financial condition, results of operations and cash flows of the registrant as
of, and for, the periods presented in this report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:
a) Designed such disclosure controls and procedures, or caused such
disclosure controls and procedures to be designed under our supervision, to
ensure that material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this report is being
prepared;
b) Evaluated the effectiveness of the registrant's disclosure controls and
procedures and presented in this report our conclusions about the
effectiveness of the disclosure controls and procedures, as of the end of
the period covered by this report based on such evaluation; and
c) Disclosed in this report any change in the registrant's internal control
over financial reporting that occurred during the registrant's most recent
fiscal quarter that has materially affected, or is reasonably likely to
materially affect, the registrant's internal control over financial
reporting; and
5. The registrant's other certifying officer and I have disclosed, based on our
most recent evaluation of internal control over financial reporting, to the
registrant's auditors and the audit committee of registrant's board of directors
(or persons performing the equivalent functions):
a) All significant deficiencies and material weaknesses in the design or
operation of internal control over financial reporting which are reasonably
likely to adversely affect the registrant's ability to record, process,
summarize and report financial information; and
b) Any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal control
over financial reporting.
Date: February 8, 2005 By: /s/ DAVID R. BANKHEAD
--------------------------------------
David R. Bankhead
Senior Vice President,
Chief Financial Officer and Treasurer
Exhibit 32.1
CERTIFICATION OF CHIEF EXECUTIVE OFFICER PURSUANT TO 18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
In connection with the Quarterly Report of Transaction Systems Architects,
Inc. (the "Company") on Form 10-Q for the fiscal quarter ended December 31, 2004
as filed with the Securities and Exchange Commission on the date hereof (the
"Report"), I, Gregory D. Derkacht, Chief Executive Officer of the Company,
certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906
of the Sarbanes-Oxley Act of 2002, that to my knowledge:
1) The Report fully complies with the requirements of Sections 13(a) or
15(d) of the Securities Exchange Act of 1934; and
2) The information contained in the Report fairly presents, in all material
respects, the financial condition and results of operations of the
Company.
Date: February 8, 2005 By: /s/ GREGORY D. DERKACHT
-------------------------------------
Gregory D. Derkacht
President, Chief Executive Officer
and Director
Exhibit 32.2
CERTIFICATION OF CHIEF FINANCIAL OFFICER PURSUANT TO 18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
In connection with the Quarterly Report of Transaction Systems Architects,
Inc. (the "Company") on Form 10-Q for the fiscal quarter ended December 31, 2004
as filed with the Securities and Exchange Commission on the date hereof (the
"Report"), I, David R. Bankhead, Chief Financial Officer of the Company,
certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906
of the Sarbanes-Oxley Act of 2002, that to my knowledge:
1) The Report fully complies with the requirements of Sections 13(a) or
15(d) of the Securities Exchange Act of 1934; and
2) The information contained in the Report fairly presents, in all material
respects, the financial condition and results of operations of the
Company.
Date: February 8, 2005 By: /s/ DAVID R. BANKHEAD
-------------------------------------
David R. Bankhead
Senior Vice President,
Chief Financial Officer and Treasurer