ITEM 1. DESCRIPTION OF BUSINESS
Corporate Profile
TREEV, Inc. ("TREEV" or the "Company") is a leading developer and marketer of content management solutions. TREEV provides client/server and Internet solutions for document management, document imaging, enterprise report management (COLD), and workflow process reengineering. The Company's TREEV Suite of software products allows organizations to electronically capture, manage, store, and distribute large volumes of information to geographically dispersed enterprises. This information includes computer reports, engineering drawings, scanned images, office documents, photos, voice files and video clips. The Company's software products have been installed in over 2,000 banks, Fortune 1000 corporations, and government agencies.
TREEV's corporate headquarters, product development and marketing operations are located in Herndon, Virginia. Regional sales offices are located across the United States. The Company also has a testing and customer service facility in Denver, Colorado.
The Business Case for Integrated Document Management Software Solutions
Organizations are continually looking for ways to more easily process and distribute large volumes of information throughout an enterprise. Traditional paper-based manual filing, retrieval, and distribution methodologies are slow, labor intensive, and require bulky file storage. This problem is compounded by the fact that, while businesses are becoming more decentralized, they are, at the same time, attempting to better share information across their operations. The TREEV Suite of software products solves this problem and satisfies the needs of companies looking for fast information access and the ability to share documents across departments. Ultimately, the ability to
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retrieve information from any corporate data repository, evaluate it and distribute this knowledge to other locations leads to increased productivity. TREEV's integrated document management software addresses this pressing business need. The Company's products are well suited to handle the growing use of digital information that organizations are creating and distributing through the Internet.
Leveraging the Growth of the Internet
It is no secret that the Internet has become a driving economic force in business today. At its foundation, the Internet provides a standardized communications vehicle for connecting a business with its customers. Until recently, businesses have used the Internet as a medium for publishing information to their customers. Initially, many implementations took the form of an "electronic brochure." Even though there was an ever-increasing amount of important data being provided on the Internet, the communication interface was primarily one way. Businesses are in the second phase of commercial deployment over the Internet. Electronic commerce applications requiring full interactive transaction processing are being implemented.
We are now entering the third phase of Internet development. In this phase businesses will fully connect with their clients, diminishing the differences between internal information systems and external web-based applications. TREEV's products are well positioned to provide small and large-scale Internet document management applications to handle this business need.
The TREEV Suite
The TREEV Suite of integrated software products provides a scalable framework of building blocks for developing customizable client/server and Web-based applications for managing documents, files, and other unstructured data types. Based on Microsoft's COM architecture, the TREEV Suite utilizes industrial strength document management, document imaging, enterprise report management, and workflow engines for rapid, cost-effective development of enterprise information solutions. TREEV's standards-based design and unique "adapter" architecture allows for connectivity to leading third-party document management systems and seamless integration with existing production applications.
Key Benefits of the TREEV Product Suite
o TREEV provides a single, consistent application interface for both end users and developers. The document management, document imaging, enterprise report management, and workflow engines have been seamlessly combined using TREEV's COM-based architecture.
o TREEV provides a framework of adapters for connecting document management and other external systems with production applications. TREEV is committed to delivering seamless connectivity to other vendors' repositories. This unique strategy allows companies to combine existing heterogeneous systems
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into a simple, easy-to-integrate framework, thus lowering the cost and time risk of implementing company-wide solutions. Companies can build on their pre-existing hardware and software investments.
o TREEV offers off-the-shelf, custom, and customizable, client/server and Web-based applications. Internal and external users can retrieve and view corporate information through a Microsoft Windows or a browser interface in both intranet and Internet environments.
TREEV Suite Components
The TREEV suite embodies the concept of "from anywhere to any user". TREEV's core engines - document management, document imaging, enterprise report management, and workflow - are the foundation of TREEV's component-based framework. They are described below:
OmniTREEV - this patented software solution manages the content and storage of multimedia data types such as text, images, audio files or video clips. OmniTREEV handles the management, storage, and distribution of any type of multimedia or document object in high-transaction, client/server and Internet environments. Companies, which utilize OmniTREEV, can seamlessly multimedia-enable existing or new database applications while preserving their investments in legacy information systems and hardware equipment.
DocuTREEV - this document management system allows the user to capture, store and retrieve scanned images, word processing documents, spreadsheets and other graphical files. Images can be stored and retrieved from magnetic disk (RAID), CD-R, or optical disk. DocuTREEV effectively replaces the use of paper and microfilm as a storage medium and takes advantage of Windows NT, UNIX, and SQL technologies to deliver a true enterprise-wide scalable solution.
eTREEV - is an intuitive browser client that provides instant online access to statements and reports archived in the DataTREEV Enterprise Report Management system. With eTREEV, you can realize a multitude of benefits, including rapid deployment, improved customer service, and reduced costs. eTREEV also puts you ahead of the competition by giving you a jump start on extending other services to customers as their demands continue to become more sophisticated.
DataTREEV - this enterprise report management software provides a storage and retrieval system which offers high-volume, high-speed handling of mission-critical report data for mainframe and client/server environments. In its IBM MVS or VSE mainframe environment, DataTREEV off-loads report management and storage operations to a dedicated Microsoft NT server thus minimizing the
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use of host CPU and DASD resources. DataTREEV acquires and manages reports from virtually any platform and provides simultaneous access to Internet, Windows, and 3270 terminal-based users.
AutoTREEV - this easy-to-implement software application is designed to automate complex business processes. Its patented rules-based workflow engine stores logic that moves documents through an automated process based on the definition of work types, users and tasks, and the recognition of dynamic processing conditions.
Education and Support Services
Education, customer service and support are key competitive elements in today's business environment. TREEV is dedicated to providing the best product and system expertise, project management and guidance for delivering integrated document management solutions. The Company's 24 hour, 7 days a week, customer service program, based primarily in Denver, Colorado, is one of the most comprehensive in the industry. TREEV's educational services department also offers a complete range of training classes to help clients and business partners acquire the technical training needed to succeed. Classes are held in Herndon, Virginia, Denver, Colorado, and at client sites around the country.
Product Development
Product development is located at the Company's headquarters in Herndon, Virginia. During 1999, the product development group focused on completing product release plans for the eTREEV(TM) product technology to support the company's short- and long-term revenue goals.
Strategically, the eTREEV technology has been developed to help Value Added Resellers ("VARs") easily develop customized document management applications to satisfy complex business problems. Because TREEV 2000(TM) is based on Microsoft's COM architecture, both integrators and VARs are able to rapidly build complete, Microsoft-compatible vertical applications according to individual customer specifications. TREEV's flexible, easy-to-use design also allows for connectivity to leading third-party document management systems and integration with existing line-of-business applications. The Company hopes to leverage this technology through its partners to penetrate new vertical markets. TREEV 2000(TM) has also been specifically adapted to respond to growing E-commerce demands for Internet document presentment.
The Company views the product development organization as one of its key assets and will continue to invest in building its infrastructure, refining the group's software development methodology, and implementing the TREEV 2000TM product strategy.
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Assembly and Sources of Supply
The Company assembles its products at its facilities in Herndon, Virginia and Denver, Colorado. The Company relies exclusively on outside suppliers for the hardware components of its products such as scanners, computers and optical disk drives and jukeboxes. Most parts and components are currently available from multiple sources at competitive prices. To date, the Company has not experienced significant delays in obtaining parts and components, and although there can be no assurance, the Company does not expect to experience such delays in the future.
Patents, Trademarks and Copyrights
The Company has registered certain trademarks and copyrights in the United States and various foreign countries. The TREEV family of product names used herein are registered or unregistered trademarks owned by the Company.
The Company also has two patents. A patent for the enterprise multimedia system and method using scalable object-based architecture, which primarily relates to the Company's OmniTREEV product, was granted on February 17, 1998. A patent for the rule engine interface for a visual workflow builder, which primarily relates to the Company's AutoTREEV product, was granted on June 30, 1998. The Company has also applied for other patents on certain of its key technologies. In general, however, management believes that the competitive position of the Company depends primarily on the skill, knowledge and experience of TREEV's personnel and their ability to develop, market and support software products, and that its business is not materially dependent on copyright protection, trademarks or patents. The Company believes that all of its products are of a proprietary nature and its licensing agreements generally prohibit program disclosure. It is possible, however, for product users or competitors to copy portions of the Company's products without its consent.
Licenses for a number of software products have been granted to the Company for its own use or for remarketing to its customers. In the aggregate, these licenses are material to the business of the Company, but the Company believes that the loss of any one of these licenses would not materially affect the Company's results of operations or financial position.
Warranty and Service
Warranties for hardware sold by the Company are generally provided by the manufacturer. The Company provides initial warranties and ongoing service contracts usually covering one year for its software products. The Company recognizes revenue under service contracts ratably over the contract period.
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Competition
Virtually every software vendor in TREEV's marketspace has built its business by delivering proprietary development tools and interfaces. Because of this fact, these systems are inappropriate for a wide range of applications. One of the primary attributes of TREEV's technology is its ability to address a wide range of information needs, from simple departmental applications to more complex enterprise-wide systems. TREEV delivers open systems that give customers the freedom to determine their own development environment.
With the release of TREEV 2000TM, the company has created a Microsoft-centric framework for developing and delivering imaging, enterprise report management, workflow, and document management applications. TREEV believes it will benefit from this strategic product positioning as more and more organizations look for real-time document access and tighter production systems integration. With image-enabled applications becoming more commonplace, the need to bring document management systems into the IT mainstream has become paramount. Microsoft is accelerating this process by moving the industry toward rapid application development with widely accepted development languages, tools, and techniques.
Historically, TREEV's customers have chosen its products over competitive offerings because of the product's ability to easily scale across an enterprise and for its open, flexible architecture. "Scalability," "immediate access to information," and "the ability to manage geographically dispersed datastores into a single application" are all reasons customers cite for choosing TREEV's software. With TREEV, many customers improve their efficiency up to 40% and reduce paper consumption by as much as 65%.
Regarding specific vertical markets, TREEV is considered to be a dominant vendor in the banking industry. TREEV provides banks with document imaging and report management systems that improve customer service and significantly reduce paper production and storage. The Company's software facilitates daily operations such as tracking signature cards, loan documentation, and checking account statements.
TREEV's competitors vary depending upon vertical market focus and overall client system requirements. FileNET, Eastman Software and IBM are primary competitors for large Integrated Document and Output Management (IDOM) enterprise-level installations. Smaller IDOM competitors include Optika, SER/Macrosoft, Hyland, and OTG Software. Competition from single product vendors includes Documentum, INSCI and Staffware.
Sales and Marketing
The Company sells its integrated document software products indirectly through business partners or VARs and directly within the banking marketplace through its own sales force. Sales/sales support offices are located in or near Atlanta, Charlotte, Dallas, Denver, Los Angeles, Minneapolis, New York, Orlando, San Francisco, and Washington DC.
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The Company is positioning itself to sell its software products through indirect sales partners such as VARs, system integrators and original equipment manufacturers ("OEMs"). Its recently developed Business Alliance Program (BAP) is a catalyst and support vehicle for these marketing partnerships. TREEV is also forming alliances with vendors of complementary product technologies such as companies who market and manufacture database, application development, systems management, and communication and connectivity software.
TREEV's Financial Services Group continues to increase its banking industry penetration as it sells the new TREEV Suite--specifically imaging, Enterprise Report Management and workflow--to its existing and growing client base of over 2,000 banks.
The company also maintains major accounts in the telecommunications and public sector markets. Lucent Technologies, for example, uses TREEV's OmniTREEV Web-based document management software to capture, store, and manage CAD/CAM files, engineering drawings, and text-based operations manuals for its internal and field engineers. In the public sector, HCFA uses TREEV's technology to monitor and process Medicare payments. In this case, TREEV's software improved form throughput and processing times by 25%. TREEV's software is also used at the U.S Treasury and the Department of Defense.
The Company maintains active marketing programs for both its indirect and direct sales channels. This includes representation at national trade events, seminars, user group meetings, press and analyst tours, advertising in major industry and news publications and participation in lead generation activities such as direct mail campaigns. The Company's BAP has also been expanded to include co-op marketing activities on a regional and national level.
Business Dispositions
During 1994, the Company committed itself to a plan of restructuring which was designed to improve operating results by concentrating the Company's resources on the marketing and continued development of its main suite of software products. In connection with its restructuring plan, the Company, during 1995, 1996 and 1997, disposed of a number of operating units (the "Divestitures" or the "Divested Businesse(s)") which were not considered complimentary to the Company's business.
As a result of the Divestitures, the Company recorded a gain of $266,000 in 1997 and losses of $921,000 and $9.3 million in 1996 and 1995, respectively. The aggregate consideration received by the Company from the Divestitures was $1.6 million in cash and $11.2 million in notes receivable, of which $1.1 million was reserved as uncollectible at December 31, 1997, and written off during 1998.
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The Company sold the stock of its French subsidiary, Dorotech, in the fourth quarter of 1997 and its Symmetrical Technologies, Inc., subsidiary in 1996. During 1995, the Company disposed of the following operations: Hunt Valley Division (formerly NSI, Inc.), Network Imaging (UK Holdings) Limited, Microsouth, Inc., Tekgraf, Inc., P E Systems, Inc., WildSoft Division, and IBZ Digital Production AG.
Business Combination
The Company has entered into an Agreement and Plan of Merger dated as of November 19, 1999 (the "Merger Agreement") with CE Computer Equipment AG, a German corporation. Provided that certain conditions are met, as set forth in the Merger Agreement, at the conclusion of the merger, the Company will become a wholly-owned subsidiary of CE Computer Equipment. Under the terms of the Merger Agreement, CE Computer Equipment will issue a total of 1,330,000 Ordinary Shares in the form of American Depositary Shares ("ADSs") in exchange for the outstanding shares of the Company's Common Stock and Preferred Stock and for the outstanding warrants and options for the Company's Common Stock. The merger is conditional on its being accounted for as a pooling of interests and is subject to certain conditions to closing, including governmental and shareholder approvals. Shareholders owning more than 38% of the Company's Common Stock have agreed to vote their shares in favor of the merger. This description of the Merger Agreement is not complete, and shareholders are urged to read the Merger Agreement that is attached to the Company's Form 8-K filed by the Company on December 3, 1999.
Employees
The Company's success is highly dependent on its ability to attract and retain qualified employees. Competition for employees is intense in the software industry and particularly in the Washington, DC metropolitan area. To date, the Company believes it has been successful in its efforts to recruit qualified employees, but there is no assurance that it will continue to be as successful in the future.
None of the Company's employees are represented by a labor union. The Company has experienced no work stoppage and believes that its employee relations are good.
At January 31, 2000, the Company employed 231 people.
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Directors and Executive Officers of the Company
Name Age Position
James J. Leto (2) 56 Chairman of the Board
Thomas A. Wilson 60 President, Chief Executive Officer and Director
Brian H. Hajost 43 Executive Vice President, Finance and Corporate Development
Michael F. Guido 48 Executive Vice President, Sales
Thomas F. Giampa 41 Senior Vice President, Technology, Research & Development
Richard G. McMahon 55 Senior Vice President of Professional Services
Robert P. Bernardi (2) 47 Director and Secretary
John F. Burton (1)(2) 48 Director
C. Alan Peyser 66 Director
Michael J. Smith (1) 41 Director
Edwin A. Adams 51 Director
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(1) Member of the Audit Committee.
(2) Member of the Compensation Committee.
James J. Leto became Chairman of the Board in June 1997. Mr. Leto served as the Company's Chief Operating Officer from May 1996 until August 1999. Prior to that, Mr. Leto was the Chairman and Chief Executive Officer of PRC Inc., an information technology company ("PRC"), from January 1993 to February 1996, and prior thereto in various capacities as an executive officer of that company. From January 1989 until February 1992, Mr. Leto served as the Vice President and General Manager of AT&T Federal Systems Computer Division, a division of AT&T charged with developing a major system integration and computer presence in the federal marketplace. Mr. Leto first joined AT&T in November 1977. Mr. Leto is a director of Government Technology Systems, Inc and Federal Sources.
Thomas A. Wilson became President and Chief Executive Officer of the Company in August 1999. From September 1998 until August 1999, Mr. Wilson served in the capacity of President and Chief Operating Officer. Mr. Wilson joined TREEV from Seer Technologies, Inc. ("Seer"), a $100 million software and
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services company based in Cary, North Carolina, where he had served as President and CEO since August 1996. At Seer, Mr. Wilson managed 700 employees at locations in 24 countries. Mr. Wilson continues to serve as a Director of Seer. Prior to Seer, Mr. Wilson was President and CEO of Viewstar Corporation, a $30 million document management software company, which was acquired by Mosaix. Mr. Wilson has also served in managerial capacities at Oracle Corporation, initially as head of its OEM group, and later as Vice President and General Manager of Oracle's federal division.
Brian H. Hajost joined the Company in March 1996, was appointed Senior Vice President of Integrated Products in April 1996, was appointed Senior Vice President of Marketing in May 1997, was appointed Senior Vice President of Sales in May 1998 was appointed Executive Vice President, Corporate Development in January 1999 and became Executive Vice President, Finance and Corporate Development in August 1999. From 1985 to 1996, Mr. Hajost was with Checkfree Holdings, Corp. (formerly Servantis Systems, Inc.) where he served in various capacities including Securities Products Group Regional Manager, Securities Products Group Regional Director Banking Sales, Securities Product Group Vice President Sales Manager, Imaging Technologies Group Vice President Sales and Marketing, and Imaging Technologies Group Senior Vice President Business Unit Manager.
Michael F. Guido joined the Company in April 1999 as Executive Vice President of Sales. From 1998 to 1999, Mr. Guido was Senior Vice President at AMS Holdings. From 1997 to 1998, he was a Senior Vice President at CACI. From 1976 to 1996, Mr. Guido served at various executive positions including President of the North American Division and President of International Operations.
Thomas F. Giampa joined the company in October 1995 as Vice President of Engineering. He was promoted to Senior Vice President of Technology, Research and Development in January 2000. From 1991 to 1995, Mr. Giampa served as a Senior Manager at PRC, Inc. From 1989 to 1991 he served at a management level at UNITECH Software.
Richard G. McMahon joined the Company in April 1997 as Vice President of Government Systems. He was promoted to Senior Vice President of Professional Services effective February 1, 1998. From 1992 to 1997, Mr. McMahon was Vice President and Managing Partner of NCR Corporation's government sector professional services business. From 1982 to 1991, he was with AT&T where he served in various senior management and marketing positions.
Robert P. Bernardi has been a Director of the Company (and its predecessor) since its inception. He was a co-founder of the Company. Mr. Bernardi is the founder and Chief Executive Officer of Musicmaker.com. Mr. Bernardi served as President of the Company from inception to February 1995, as Chief Executive Officer from inception to May 1996, and Chairman of the Board of Directors from September 1995 to June 1997. From 1988 to 1990, Mr. Bernardi was an independent consultant in the document imaging and telecommunications fields. From March 1984 to December 1987, Mr. Bernardi was Chairman and Chief Executive
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Officer of Spectrum Digital Corporation, a publicly held telecommunications equipment manufacturing company, with overall management responsibilities including marketing, sales, engineering and finance.
John F. Burton was appointed to the Board of Directors in September 1995. Mr. Burton is Managing Director of Updata Capital, Inc., a mergers and acquisitions investment bank, a position he has held since 1997. From October 1996 to February 1997, he was President of Burton Technology Partners. From August 1995 to September 1996, he was President and Chief Executive Officer of Nat Systems, Inc. From 1984 to 1995, Mr. Burton served in various executive capacities at Legent Corporation including President, Chief Executive Officer and Director. Mr. Burton is a member of the Board of Directors of Banyan Systems Corporation, Axent Technologies, Netrix Corporation and MapInfo Corporation.
C. Alan Peyser became a Director of the Company in May 1996. Mr. Peyser was appointed President and Chief Executive Officer of Cable & Wireless, Inc., in October 1996. From September 1995 to October 1996, Mr. Peyser served as a consultant to Cable & Wireless, Inc. He is also currently President of Country Long Distance Corporation and a member of the Board of Directors of Transworld Communications, TCI International, Inc., Spaceworks and 1010web. Mr. Peyser previously served as the Chief Executive Officer and President of Cable & Wireless, Inc. from 1980 through September 1995.
Michael J. Smith became a Director of the Company in March 1999. Mr. Smith has over fourteen years experience in the securities industry specializing in finance for middle market and emerging growth companies. He currently serves as an investment banker for Brill Securities (member: NYSE), a small New York investment firm. Previously, Mr. Smith served as President of Stanhope Capital, Inc., a New York based venture capital firm, as well as a Managing Director of Condor Ventures, Inc., a Stamford Connecticut based venture capital firm. In addition to investment banking, Mr. Smith has served as an outside business consultant to numerous private emerging growth companies.
Edwin A. Adams was appointed to the Board of Directors in March 1999. Mr. Adams is a consultant specializing in public speaking engagements at technology industry events and sales motivational seminars, a position he has held since April 1998. From May 1993 to April 1998, he was Senior Vice President and General Manager of the Americas for SCO Inc., a provider of UNIX operating system software. From May 1992 to may 1993, Mr. Adams was Senior Vice President of Sales and Marketing of Telebit, a provider of high end modems and dial up routers. From 1987 to 1992, he served in various capacities at Oracle Corporation including Vice President of Sales and Vice President of Marketing. Mr. Adams is a member of the Board of Directors of Crystal Graphics, Net ERP and Jones Business Systems, all privately held software of systems integration companies. He also serves on the Board of ITAA Software Division, a national trade association of software companies.
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ITEM 2.
ITEM 2. PROPERTIES
As of January 31, 2000, the Company leased 25,600 square feet for administrative, marketing and product development and support facilities at its headquarters in Herndon, Virginia, pursuant to a lease that expires in April 2000. The company has entered into a new lease for 44,200 square feet for its headquarters in Herndon, Virginia, which commences in May 2000 and expires in April 2010. The Company also leases an aggregate of approximately 55,000 square feet of similar facilities at other offices near Atlanta, Georgia; Charlotte, North Carolina; Dallas, Texas; Denver, Colorado; Los Angeles, California; Minneapolis, Minnesota; New York, New York; Orlando, Florida; San Francisco, California; and San Jose, California. The Company's current rent expense under real property leases on an annual basis is approximately $1.0 million. The Company owns no real property and has no plans to purchase any real property for either commercial or investment purposes in the foreseeable future. The Company believes that its facilities are adequate for its purposes.
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS
The Company is not involved in any legal proceedings, other than routine litigation incidental to the business.
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY
None.
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PART II
ITEM 5.
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
The Company's Common Stock is traded on the Nasdaq National Market under the symbol TREV. The Company also has Series A Cumulative Convertible Preferred Stock (the "Series A Preferred Stock") that is traded on the Nasdaq National Market under the symbol TREVP. The following table indicates the high and low sales prices for the Common Stock as reported by the Nasdaq National Market for the periods indicated (which reflect inter-dealer prices, without retail mark-up, mark-down or commission, and may not represent actual transactions).
PERIOD HIGH LOW ------ ---- --- 1998 -First Quarter 6 1/8 3 1/2 -Second Quarter 4 3/4 3 1/4 -Third Quarter 3 7/8 2 1/2 -Fourth Quarter 3 1 7/16
1999 -First Quarter 4 5/8 1 19/32 -Second Quarter 4 1 1/2 -Third Quarter 3 15/32 2 3/32 -Fourth Quarter 4 1/2 2 1/8
2000 -First Quarter 6 5/8 3 19/32 (through February 29)
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The Company has not paid any cash dividends on its Common Stock since its inception and does not anticipate paying any cash dividends on its Common Stock in the foreseeable future. As a result of the approval and adoption of the Certificate of Amendment to Certificate of Designation of the Series A Stock, effective May 1, 1997, the Company was no longer obligated to make any cash dividend payments to the Series A stockholders. In addition, commencing January 1, 1998, Series A stockholders receive an annual dividend of $.84 per share, accumulating quarterly, payable in Common Stock or cash, at the Company's option.
As of February 29, 2000, the Company had approximately 264 record holders of its Common Stock, and based on information supplied by certain of such record holders, the Company estimates that as of such date there were approximately 7,700 beneficial owners of its Common Stock.
ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA
The following tables set forth selected financial data for the five years ended December 31, 1999. The statement of operations data for each of the five years ended December 31, 1999 and the balance sheet data as of those dates have been derived from the consolidated financial statements of the Company. The consolidated financial statements for each of the four years ended December 31, 1999 have been audited by Ernst & Young LLP. The consolidated financial statements for of the year ended December 31, 1995 have been audited by other independent auditors. The financial data should be read in conjunction with the consolidated financial statements, related notes, and other financial information included herein.
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Balance Sheet Data (in thousands, except share amounts) Year Ended December 31, ----------------------------------------------- 1999 1998 1997 1996 1995 ------- ------- ------- ------- -------
Total assets $23,291 $19,522 $26,860 $36,778 $49,964
Working capital 2,202 2,516 9,980 9,893 13,454
Long-term debt 120 43 1,108 88 1,264
Redeemable preferred stock -- -- 6,548 9,857 15,478
Stockholders' equity 7,425 7,530 7,969 11,717 10,185
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ITEM 7.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Introduction
The following discussion of the financial condition and results of operations of the Company should be read in conjunction with the Company's Consolidated Financial Statements and related notes included herein.
Forward Looking Statements and Certain Risk Factors
This "Management's Discussion and Analysis of Financial Condition and Results of Operations" section of this Annual Report on Form 10-K contains certain forward looking statements that are subject to a number of risks and uncertainties. In addition, the Company may publish or make forward looking statements from time to time relating to such matters as anticipated financial performance, business prospects and strategies, sales and marketing efforts, technological developments, new products, research and development activities, and similar matters. The Private Securities Litigation Reform Act of 1995 provides a safe harbor for forward looking statements. In order to comply with the terms of the safe harbor, the Company notes that a variety of factors could cause the Company's actual results to differ materially from the anticipated results or other expectations made in the Company's forward looking statements in this Annual Report or elsewhere. Readers should carefully review the risk factors described in other documents the Company files from time to time with the Securities and Exchange Commission, specifically any Current Reports on Form 8-K filed by the Company. Some risks and uncertainties of the Company that should be considered by the reader include:
The adverse results of operations that the Company has experienced have been declining, and the Company's operating results were profitable during the last two quarters of 1999. Although the Company expects the trend of improved operating results to continue, there can be no assurances that the Company will not experience adverse results of operations in the future.
The Company has had net losses in each period of its operations since its inception, except for four quarters, and it had an accumulated deficit at December 31, 1999, of $134 million.
The computer industry, including the information access, document management, imaging and optical disk storage segments, is highly competitive, and is characterized by rapid and continuous technological change. The Company's future profitability will depend on, among other things, market acceptance of the Company's products and on the Company's ability to develop in a timely
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fashion enhancements to existing products or new products. There can be no assurance that the Company will be able to market successfully its current products, develop and market enhancements to existing products or introduce new products.
Impact of Year 2000
In prior years, the Company discussed the nature and progress of its plans to become Year 2000 ready. In late 1999, the Company completed its remediation and testing of systems. As a result of those planning and implementation efforts, the Company experienced no significant disruptions in mission critical information technology and non-information technology systems and believes those systems successfully responded to the Year 2000 date change. The Company incurred approximately $715,000 during 1999 in connection with remediating its systems. The Company is not aware of any material problems resulting from Year 2000 issues, either with its products, its internal systems, or the products and services of third parties. The Company will continue to monitor its mission critical computer applications and those of its suppliers and vendors throughout the year 2000 to ensure that any latent Year 2000 matters that may arise are addressed promptly.
Year 2000 Information and Readiness Disclosure Act
The section captioned "Impact of Year 2000," as well as other statements herein or otherwise relating to the Year 2000 issues, are "Year 2000 Readiness Disclosures" pursuant to the "Year 2000 Information and Readiness Disclosure Act."
Results of Operations
Revenue. Product revenue includes sales of software licenses and computer equipment. Product revenue is recognized upon delivery or, if applicable, acceptance in accordance with Statement of Position 97-2, "Software Revenue Recognition." Service revenue includes software maintenance contracts, installation and customization. Service revenue is recognized over the terms of the related contracts as the services are completed or under the percentage of completion method where appropriate.
Total revenue was $31 million in 1999, $28 million in 1998 and $36 million in 1997. The increase in total revenue in 1999 over 1998 of $3 million, or 11%, resulted primarily from an increase in service revenue of $1.9 million, or 17%, and an increase in product revenue of $1.2 million, or 7%. The decrease in total revenue in 1998 over 1997 of $7.6 million, or 21%, resulted primarily from a decrease in service revenue of $6.1 million, or 35%, and a decrease in product revenue of $1.5 million, or 8%.
The increase in product revenue in 1999 over 1998 was attributable to continued growth of the Company's direct and indirect channels along with the introduction of the eTREEV product technology. The decrease in product revenue in 1998 over 1997 was attributable to an increase of $2.1 million, or 14%, in
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comparative company revenues, offset by a decrease of $3.6 million due to the disposition in 1997 of the Company's subsidiary in France ("Dorotech").
The increase in service revenue in 1999 over 1998 of $1.9 million was a result of increased software maintenance contract revenue and continued growth of professional services business. The decrease in service revenue in 1998 over 1997 of $6.1 million was a result of a $7.7 million decrease due to the disposition of Dorotech, offset by a $1.6 million, or 16%, increase in comparative company revenues.
The Company restated its unaudited financial statements for the first, second and third quarters of 1999 to reflect net adjustments totaling approximately $300,000. The Company reported results based on its assessment, at the time, that its revenue recognition policies were appropriate under current software revenue recognition guidelines under SOP 97-2. The adjustments were made to principally align the Company's accounting policies with recently issued interpretative guidelines, recent trends in the industries best practices and current positions taken by the SEC. Certain other non-revenue related adjustments were made as well. Accordingly, in March 2000, the Company filed amendments to its quarterly reports on Form 10-Q for the first, second and third quarters of 1999.
Profit Margins. Profit margins for product sales continued to improve in 1999 over 1998 from 59% to 62% as the cost of products sold decreased from 41% to 38% of sales. Profit margins for product sales increased in 1998 over 1997 from 54% to 59% as the cost of products sold decreased from 46% to 41% of sales. The increase in product sales margins was primarily due to the increased sales mix of the Company's internally developed software.
Profit margins for service sales increased in 1999 over 1998 from 32% to 37% as the cost of services decreased from 68% to 63% of sales. The increase in service sales margins was due to the continued growth of maintenance revenue and professional services business which provided more contribution towards its fixed costs. Profit margins for service sales increased in 1998 over 1997 from 22% to 32% as the cost of services decreased from 78% to 68% of sales.
Product Development. The Company's expenditures on software research and development activities ("R&D") in 1999 were $5.9 million, of which $1.8 million was capitalized and $4.1 million was expensed. The Company's expenditures on software R&D activities in 1998 were $5.4 million, of which $1.6 million was capitalized and $3.8 million was expensed. The $500,000 increase in R&D expenditures was primarily attributable to the development of the Company's new eTREEV product technology. The Company's expenditures on software R&D activities in 1997 were $5.9 million, of which $1.5 million was capitalized and $4.4 million was expensed. The $500,000 decrease from 1998 in R&D expenditures was attributable to the Company's 1997 disposition of Dorotech, which reduced R&D expenditures by $800,000, offset by a $300,000 increase in comparative Company R&D expenses.
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Selling, General and Administrative Expenses. Selling, general and administrative expenses ("SG&A") were $14.2 million, or 46% of revenue, in 1999, $15.6 million, or 55% of revenue, in 1998 and $20.3 million, or 57% of revenue, in 1997. The decrease in 1999 compared to 1998 of $1.4 million, or 9%, was due to the Company's continued cost reduction efforts. The decrease in 1998 compared to 1997 of $4.7 million, or 23%, was the result of the Company's 1997 disposition of Dorotech, which accounted for a $3.6 million decrease in addition to a $1.1 million decrease in general and administrative expenses from continuing operations due to the Company's increased cost reduction efforts.
Restructuring Costs. During the second quarter of 1998, the Company committed to a Restructuring Plan ("the 1998 Plan") and incurred a charge of $1.5 million (See Note 10 to the Consolidated Financial Statements).
Interest Income (Expense), Net. Net interest expense was $346,000 in 1999, $56,000 in 1998 and $286,000 in 1997. The $290,000 increase in interest expense was attributable primarily to draws on the line of credit with a commercial bank and the issuance of subordinated promissory notes during 1999 (See Note 7 to the Consolidated Financial Statements). The $230,000 decrease in interest expense from 1997 to 1998 was attributable primarily to the line of credit with a stockholder drawn on during 1997 which was converted into equity at the end of 1997 and the beginning of 1998.
Net Loss. The Company's net loss was $2.6 million in 1999, $7.3 million in 1998 and $11.3 million in 1997. The $4.7 million decrease in net loss between 1999 and 1998 was primarily due to the $2.4 million increase in profit margins, the $1.4 million decrease in SG&A expenses and the $1.5 million decrease in restructuring costs, offset by the increases in product development costs and interest expense. The $4.0 million decrease in net loss between 1998 and 1997 was due to the $4.7 million decrease in SG&A expenses and the $600,000 decrease in product development expenses, offset by the $1.5 million restructuring costs.
Net Loss Applicable to Common Shares. Net loss applicable to common shares includes adjustments for accrued and imputed dividends related to the Company's preferred stock. The net loss applicable to common shares was $4.0 million, or $0.30 per share, in 1999; $8.7 million, or $1.12 per share, in 1998 and $14.3 million, or $2.27 per share, in 1997. The decrease in 1999 over 1998 was primarily attributable to the decrease in net loss described above and an increase in the weighted average shares outstanding. The decrease in 1998 over 1997 was primarily attributable to the decrease in net loss described above. The imputed dividends of $1.5 million recognized during 1997 were non-cash and related to the below market conversion feature of the Company's Series K and L Preferred Stock (See Note 8 to the Consolidated Financial Statements).
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The following pro forma statements of operations represent the Company's continuing operations and exclude the results of the Divested Businesses, the gain and loss recorded on the sales of subsidiaries and other one time charges that are not representative of the Company's continuing operations:
Year Ended December 31, (in thousands, except per share amounts)
1999 1998 1997 -------- -------- --------
Revenue $ 31,209 $ 28,202 $ 24,486
Cost of Sales 15,187 14,618 13,609 -------- -------- -------- Gross Profit 16,022 13,584 10,877
Gross Profit as % of sales 51% 48% 44%
Selling, general and administrative 14,202 15,579 16,700
Product Development 4,110 3,788 3,856
Other income (expense) (346) (56) (312) -------- -------- --------
Operating loss (2,636) (5,839) (9,991)
Accrued dividends (1,348) (1,348) (1,435)
Imputed dividends -- -- (1,536) -------- -------- -------- Net loss applicable to common shares $ (3,984) $ (7,187) $(12,962) ======== ======== ========
Net loss per common share $ (0.30) $ (0.93) $ (2.06) ======== ======== ========
Weighted average shares 13,115 7,768 6,301
Liquidity and Capital Resources
As of December 31, 1999, the Company had $1.9 million in cash and cash equivalents compared to $1.6 million in cash and cash equivalents at December 31, 1998. Net working capital was $2.2 million at December 31, 1999 compared to $2.5 million for the same period in 1998.
At December 31, 1999, the Company had outstanding debt of $7.7 million, $7.6 million of which is due within one year. This compares with debt of $385,000 at December 31, 1998, $342,000 million of which was due within one year. The increase in debt of $7.3 million primarily arose from draws on the line of credit with a commercial bank and the issuance of subordinated promissory notes during 1999 (See Note 7 of the Consolidated Financial Statements).
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For 1999, the $241,000 increase in cash and cash equivalents resulted from a $6.9 million use of cash from operating activities, $2.0 million used in investing activities and $9.2 million provided by financing activities. The $6.9 million use of cash in operating activities arose primarily from the $2.6 million loss from operations offset by $2.3 million in depreciation and amortization charges, $2.7 million increase in accounts and notes receivable, $2.7 million decrease in deferred revenues, 780,000 decrease in accrued expenses and $579,000 increase in prepaid and other expenses. The $2.0 million used by investing activities arose from the $1.8 million increase in capitalized software development costs and $580,000 purchase of fixed assets, offset by $340,000 proceeds from business divestitures. The $9.2 million in cash provided by financing activities arose primarily from the issuance of the convertible notes and the subordinated notes along with the draws under the Company's revolving line of credit.
For 1998, the $2.2 million decrease in cash and cash equivalents resulted from a $4.5 million use of cash from operating activities, $5.0 million provided by investing activities and $2.7 million used in financing activities. The $4.5 million use of cash in operating activities arose primarily from the $7.3 million loss from operations offset by $2.3 million in depreciation and amortization charges. The $5.0 million provided by investing activities arose from the proceeds of business divestitures, offset by capitalized software development costs and the purchase of fixed assets. The $2.7 million in cash used in financing activities arose primarily from the $4.3 million proceeds from the issuance of Common Stock and the $9.7 million proceeds from the issuance of Convertible Preferred Stock, offset by payments of $13.6 million to redeem portions of the Company's Preferred Stock, $1.7 million to redeem a portion of the Company's convertible debentures, Preferred Stock dividends of $700,000 and net payments in capital leases of $700,000.
For 1997, the $3.8 million decrease in cash and cash equivalents resulted from a $6.7 million use of cash from operating activities, $2.3 million used in investing activities and the generation of $5.3 million from financing activities. The $6.7 million use of cash in operating activities arose primarily from the $11.3 million loss from operations offset by $4.5 million in depreciation and amortization charges. The $2.3 million to fund investing activities arose with respect to capitalized software development costs and the purchase of fixed assets. The $5.3 million in cash provided by financing activities arose primarily from the $5.1 million proceeds from the issuance of Convertible Preferred Stock and proceeds of $6.9 million from borrowings, offset by payments of $3.5 million to repurchase a portion of the Company's Series F Preferred Stock, Preferred Stock dividends of $1.8 million and net payments in debt and capital leases of $1.5 million.
As a result of stock offerings in 1998, the Company received net proceeds of approximately $14.0 million before offering costs of approximately $1.0 million. Under the offerings, the Company issued 1,334,625 shares of Common Stock and 1,560,576 shares of Preferred Stock. The net proceeds of the offerings were used to redeem the Company's Preferred Stock and for working capital purposes.
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As a result of stock offerings in 1997, the Company received net proceeds of approximately $9.3 million before offering costs of approximately $1.4 million. Under the offerings, the Company issued 43,723 shares of Common Stock and 10,550 shares of Preferred Stock. The net proceeds of the offerings were used for working capital purposes.
At December 31, 1999, the annual dividend requirements on the Company's Series A Preferred Stock is $0.84 per share annually, payable quarterly, in cash or common stock at the Company's discretion. Dividends on the Company's Series M and M1 Preferred Stocks are payable in cash or common stock, at the Company's election.
During February 1999, the Company secured a $5 million revolving line of credit from a commercial bank. The Company can draw up to $5 million on the line of credit for working capital needs based on 80% of its eligible receivables. The line of credit bears interest at a rate of prime plus 2%. The agreement shall remain in effect until June 30, 2000, and automatically renews for successive additional terms of one year each. The line of credit is collateralized by all of the Company's accounts receivable, inventory, equipment, general intangibles, and other personal property assets.
The adverse results of operations that the Company has experienced have been declining and the Company's operating results were profitable during the last two quarters of 1999. Although the Company expects the trend of improved operating results to continue, there can be no assurances that the Company will not experience adverse results of operations in the future. The Company believes that its existing cash, cash flows from operations and availability under its line of credit should provide sufficient resources to fund its activities through the next twelve months and to maintain net tangible assets of at least $4.0 million, which is required for continued inclusion of the Company's securities on the Nasdaq National Market. Anticipated cash flows from operations are largely dependent upon the Company's ability to achieve its sales and gross profit objectives for its TREEV Suite of products. If the Company is unable to meet these objectives, it will consider alternative sources of liquidity, such as additional offerings of debt or equity securities and/or further reductions of operating expenses (such as travel, marketing, consulting and salaries).
Nasdaq announced new listing requirements on February 23, 1998 for continued inclusion on the Nasdaq National Market. Specifically, Nasdaq requires, effective February 23, 1998, that common and preferred stock trading on its National Market continuously have a minimum bid price of $1.00. At times in 1997 and 1998, the Company's Common Stock had a minimum bid price below $1.00 before the one-for-four reverse stock split in December 1998. The Company's Preferred Stock has consistently traded with a minimum bid price of over $1.00. Although the Company's Common Stock is currently trading with a minimum bid price above $1.00, there can be no assurance that the Company's Common Stock will continue to trade with such a minimum bid price. In the event that the Company's Common Stock has a minimum bid price below $1.00, the Company believes
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it can propose and effect a plan to achieve compliance; however, there can be no assurance that the Company will be able to stay in compliance with the Nasdaq requirement. While the Company believes that it can continue to meet the requirements of the Nasdaq Stock Market, any ability to trade on a national exchange could adversely impact the value of the Company's stock.
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS
The Financial Statements appear at pages to
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None
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PART III
ITEM 10.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Directors and Executive Officers of the Company
For information regarding directors and executive officers of the Company, see the information appearing under the caption "Executive Officers" in Part I, Item 1 of this Form 10-K.
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION
Information required by Item 11 is incorporated by reference from the Company's definitive proxy statement for its annual stockholders' meeting to be held on June 2, 2000.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Information required by Item 12 is incorporated by reference from the Company's definitive proxy statement for its annual stockholders' meeting to be held on June 2, 2000.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Information required by Item 13 is incorporated by reference from the Company's definitive proxy statement for its annual stockholders' meeting to be held on June 2, 2000.
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ITEM 14.
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a)(1) and (2) List of Financial Statements and Financial Statement Schedules
The following consolidated financial statements of TREEV, Inc. are included in Item 8:
Report of Independent Auditors Consolidated Balance Sheet as of December 31, 1999 and 1998 Consolidated Statements of Operations for the years ended December 31, 1999, 1998 and 1997 Consolidated Statements of Changes in Stockholders' Equity for the years ended December 31, 1999, 1998 and 1997 Consolidated Statements of Cash Flows for the years ended December 31, 1999, 1998 and 1997 Notes to Consolidated Financial Statements
The following consolidated financial statement schedule of TREEV, Inc. is included in Item 14(d). Except for the schedule listed below, all other schedules are omitted because they are not applicable or the required information is shown in the financial statements or notes thereto.
Schedule II - Valuation and Qualifying Accounts
(3) Exhibits. The following exhibits are filed herewith or incorporated herein by reference:
Exhibit No. Description
2.28 Agreement and Plan of Merger, dated as of November 19, 1999, between CE Computer Equipment AG and TREEV, Inc. (incorporated by reference to Exhibit 2.1 to Company's Current Report on Form 8-K relating to such Agreement and Plan of Merger filed December 3, 1999).
3.1 Certificate of Incorporation of the Company (incorporated by reference to Exhibit 3.1 to the Company's registration statement on Form S-1 (Registration No. 333-36417) filed December 5,1997).
3.1.1 Certificate of Amendment to Certificate of Incorporation of TREEV, Inc. as of January 15, 1999.
3.2 Certificate of Ownership and Merger merging TREEV, Inc. into Network Imaging Corporation filed in Delaware on May 5, 1998 (incorporated by reference to Exhibit 3.14 to the Company's Quarterly Report on Form 10-Q for the quarterly period ended June 30, 1998).
3.3 Restated Bylaws as of May 17, 1996 (Incorporated by reference to Exhibit 3.11 to Amendment No. 1 to the Company's Form 10-Q for the quarterly period ended June 30, 1997).
3.4 Certificate of Designations for Series A Cumulative Convertible Preferred Stock filed with the Secretary of State of the State of Delaware on December 7, 1993 (incor- porated by reference to Exhibit 3.1c to the Company's regis- tration statement on Form SB-2 (Registration No. 33-73164) filed December 20, 1993).
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3.5 Certificate of Amendment to Certificate of Designations of Series A Cumulative Convertible Preferred Stock filed with the Secretary of State of the State of Delaware on December 31, 1997 (incorporated by reference to Exhibit 3.6 to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 1997).
3.7 Certificate of Correction filed to Correct a Certain Error in the Certificate of Amendment to Certificate of Designations of Series A Cumulative Convertible Preferred Stock (filed on December 31, 1997) filed with the Secretary of State of the State of Delaware on January 13, 1998 (incorporated by reference to Exhibit 3.9 to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 1997).
4.1 Specimen Common Stock Certificate.
10.3 Securities Purchase Agreements between TREEV, Inc. and Horace T. Ardinger, Jr., Ardinger Family Partnership, Baker Family Trust, and the Adkins Family Trust as of September 30, 1998 (incorporated by reference to Exhibit 10.36 to the Company's Quarterly Report on Form 10-Q for the quarter ended September 30, 1998).
21 Subsidiaries.
27.1 Financial Data Schedules for the year ended December 31, 1999.
b) Reports on Form 8-K. The Company filed the following reports on Form 8-K during or relating to the fourth quarter of 1998:
Form 8-K on December 3, 1999, to report that the Company had entered into an Agreement and Plan of Merger dated November 19, 1999 with CE Computer Equipment AG.
c) The exhibits are listed in Items 14(a)(3)
d) Financial Statement Schedules:
Schedule II Valuation and Qualifying Account
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SIGNATURES
In accordance with Section 13 of the Securities Exchange Act of 1934, the Registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized, in the County of Fairfax, Commonwealth of Virginia on March 30, 2000.
TREEV, INC.
By: /s/ Thomas A. Wilson ------------------------- Thomas A. Wilson President and Chief Executive Officer
In accordance with the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.
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Page
Report of Ernst & Young LLP, Independent Auditors
Consolidated Balance Sheets as of December 31, 1999 and 1998
Consolidated Statements of Operations for the years ended December 31, 1999, 1998 and 1997
Consolidated Statement of Changes in Stockholders' Equity for the years ended December 31, 1999, 1998 and 1997
Consolidated Statements of Cash Flows for the years ended December 31, 1999, 1998 and 1997
Notes to Consolidated Financial Statements
Report of Ernst & Young LLP, Independent Auditors
Board of Directors TREEV, Inc.
We have audited the accompanying consolidated balance sheets of TREEV, Inc. as of December 31, 1999 and 1998 and the related consolidated statements of operations, stockholders' equity, and cash flows for each of the three years in the period ended December 31, 1999. Our audits also include the financial statement schedules listed in the Index at Item 14(a). These financial statements and schedules are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and schedules based on our audits.
We conducted our audits in accordance with auditing standards generally accepted in the United States. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of TREEV, Inc. at December 31, 1999 and 1998 and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 1999, in conformity with accounting principles generally accepted in the United States. Also, in our opinion, the related financial schedules, when considered in relation to the basic financial statements taken as a whole, present fairly in all material respects the information set forth therein.
Fairfax, Virginia March 20, 2000
TREEV, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (In thousands, except share and per share amounts)
The accompanying notes are an integral part of these financial statements.
TREEV, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS Years ended December 31, (In thousands, except share and per share amounts)
The accompanying notes are an integral part of these financial statements.
TREEV, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY Years ended December 31, 1999, 1998 and 1997 (In thousands, except share amounts)
The accompanying notes are an integral part of these financial statements.
TREEV, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS Years ended December 31, (In thousands)
The accompanying notes are an integral part of these financial statements.
TREEV, Inc. Notes To Consolidated Financial Statements December 31, 1999, 1998 and 1997
TREEV, Inc. ("TREEV" or the "Company") is a developer and marketer of document management software. Its flagship product line, the TREEV suite of software products, allows organizations to electronically capture, manage, store, and distribute large volumes of information. This information includes computer reports, engineering drawings, scanned images, office documents, photos, voice files and video clips.
The adverse results of operations that the Company has experienced have been declining, and the Company's operating results were profitable during the last two quarters of 1999. Although the Company expects the trend of improved operating results to continue, there can be no assurances that the Company will not experience adverse results of operations in the future. The Company believes that its existing cash, anticipated cash flows from 2000 operations, and cash availability under its line of credit should provide sufficient resources to fund its activities in 2000. Anticipated cash flows from 2000 operations are largely dependent upon the Company's ability to achieve its sales and gross profit objectives for its TREEV suite of products. Achievement of these objectives is subject to various risk factors related to, among other things: the need to use a two-step distribution channel involving system integrators; the long lead times in the sales cycle; the large dollar size of the average unit sale requiring high level customer authorizations; the large number of established and potential competitors in the marketplace; the fast pace of technology evolution related to the product suite; the newness of the Company's sales and marketing staff; and the evolving nature of the Company's sales and marketing strategies. The Company nevertheless believes that its sales and gross profit objectives are achievable in light of the successful installation of TREEV and enterprise report management products in several major contracts during 1999, the repositioning of its product lines, additions to the executive sales management, and the refocusing of sales and marketing resources. If the Company is unable to meet these objectives, it will consider alternative sources of liquidity, such as public or private offerings of debt or equity securities; the curtailment of certain capital expenditures and discretionary expenditures (such as travel, marketing, consulting and salaries); and other various courses of action.
TREEV, Inc. Notes to Consolidated Financial Statements (continued)
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Principles of consolidation --
The consolidated financial statements for fiscal year 1997 include the accounts of TREEV, Inc. and its subsidiaries. All significant intercompany transactions and balances have been eliminated.
Cash equivalents and short-term investments --
The Company considers all highly liquid instruments purchased with an original maturity of three months or less to be cash equivalents.
Revenue recognition --
Statement of Position 97-2, "Software Revenue Recognition" (SOP 97-2), was issued in October 1997 and was amended by Statement of Position 98-4 (SOP 98-4). The Company adopted SOP 97-2 in 1998. The Company's revenue recognition policies and practices for software license fees are consistent with SOP 97-2 and SOP 98-4. Additionally, the American Institute of Certified Public Accountants (AICPA) issued SOP 98-9, which amends SOP 97-2 and is effective for transactions entered into beginning January 1, 2000. This pronouncement is not expected to materially impact the Company's revenue recognition practices.
The Company generates revenue through software license fees, hardware sales, and professional services. Revenues from software license fees are recognized upon shipment when collection is probable in accordance with the related contract. Revenue from hardware and software contracts with significant completion services involving technically difficult issues for the attainment of customer acceptance is recognized upon customer acceptance. Revenue from maintenance contracts is recognized ratably over the terms of the contract.
For labor intensive contracts which require significant production or customization, the Company accounts for such revenue in accordance with AICPA Statement of Position 81-1, "Accounting for Performance of Construction-type and Certain Production-type Contracts," using the percentage of completion method. Losses, if any, are recognized in the period that such losses are determined.
Inventories --
Inventories are stated at the lower of cost, determined on the first-in, first- out method, or market.
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued) - ---------------------------------------------------------------
Fixed assets --
Fixed assets are stated at cost, net of accumulated depreciation. Depreciation is computed using straight-line and accelerated methods over the life of the related asset, generally three years. Leasehold improvements are amortized over the shorter of the estimated useful life of the improvements or the terms of the related lease.
Software development costs and purchased technology --
The Company capitalizes certain software development and enhancement costs in accordance with Statement of Financial Accounting Standards No. 86, "Accounting for the Costs of Computer Software to Be Sold, Leased or Otherwise Marketed," ("SFAS 86"). Amortization of software development costs is provided on an individual product basis over the estimated useful life of the products, which is principally three years, beginning when the related products are available for general release. Costs for research and development incurred prior to establishing technological feasibility of software products, or after their commercial release, are expensed in the period incurred. The Company periodically assesses capitalized software amounts and, when less than anticipated net realizable value, charges any such excess to expense.
Goodwill --
The excess of the purchase price over the fair value of the net identifiable tangible and intangible assets of businesses acquired is being amortized on a straight-line basis over seven years. Amortization expense in 1999, 1998 and 1997 was $166,000, $166,000 and $743,000, respectively. Accumulated amortization as of December 31, 1999 and 1998 was $1,004,000 and $837,000, respectively. The Company routinely evaluates recoverability of goodwill by comparing future undiscounted cash flows to the recorded carrying value to determine if a write-down is required. If a write-down were required, the Company would prepare a discounted cash flow analysis to determine the amount of the write-down.
Concentration of Credit Risk --
Financial instruments that potentially subject the Company to significant concentrations of credit risk consists primarily of its cash equivalents, trade accounts and notes receivable. The Company periodically performs credit evaluations of customer's financial condition and generally requires no collateral.
Fair Value of Financial Instruments --
The carrying value of the Company's financial instruments, including cash equivalents, accounts and notes receivable, accounts payable and debt, approximate fair value.
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued) - ---------------------------------------------------------------
Product warranty --
Warranties for hardware sold by the Company are generally provided by the manufacturer. The Company provides warranties and service contracts for certain products and accrues related expenses based on actual claims history.
Income taxes --
The Company's income taxes are presented in accordance with Statement of Financial Accounting Standards No. 109, "Accounting for Income Taxes" ("SFAS 109") which requires recognition of deferred tax liabilities and assets for the expected future tax consequences of events that have been included in the financial statements or tax returns. Under SFAS 109, deferred tax liabilities and assets are determined based on the difference between the financial statement and tax basis of assets and liabilities, using enacted tax rates in effect for the year in which the differences are expected to reverse.
Foreign currency translation --
The functional currency of the Company's foreign operation was the applicable local currency. Consequently, for the operation outside the United States, assets and liabilities were translated into United States dollars using exchange rates in effect at the balance sheet date and revenues and expenses using the average exchange rate during the period. The gains and losses resulting from such translations are included as a component of stockholders' equity. Since the Company's French subsidiary operated only within France, exposure to foreign exchange risk was limited (See Note 5).
Net loss per common share --
In 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 128, "Earnings per Share" ("SFAS 128") which replaced the calculation of primary and fully diluted earnings per share with basic and diluted earnings per share. Unlike primary earnings per share, basic earnings per share excludes any dilutive effects of options, warrants and convertible securities. Diluted earnings per share is very similar to the previously reported fully diluted earnings per share. All earnings per share amounts for all periods have been presented to conform to the SFAS 128 requirements (See Note 12).
Stock Based Compensation --
Effective January 1, 1996, the Company adopted Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based Compensation" ("SFAS 123"), which allows companies which have stock-based compensation arrangements with employees to adopt a new fair-value basis of accounting for stock options and other equity instruments, or to continue to apply the
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued) - ---------------------------------------------------------------
Stock Based Compensation (continued) --
existing accounting rules under Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" ("APB 25") but with additional disclosure. The Company has adopted the disclosure provisions of SFAS 123 and accordingly the disclosure had no effect on the Company's financial position or results of operations (See Note 8).
Comprehensive Income --
The Company has adopted Statement of Financial Accounting Standard No. 130, "Reporting Comprehensive Income" ("SFAS 130"), which establishes standards for reporting the components of comprehensive income and requires that all items that are required to be recognized under accounting standards as components of comprehensive income be included in a financial statement that is displayed with the same prominence as other financial statements. Comprehensive income includes net income as well as certain items that are reported directly within a separate component of stockholders' equity and bypass net income.
Segment Reporting --
The Company has adopted Statement of Financial Accounting Standard No. 131, "Disclosures about Segments of an Enterprise and Related Information" ("SFAS 131"), in fiscal year 1998 (See Note 13). SFAS 131 changes the way companies report segment information and requires segments to be determined based on how management measures performance and makes decisions about allocating resources.
Use of estimates--
The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
NOTE 2- RECEIVABLES
Receivables consist of the following (in thousands):
December 31, -------------------------- 1999 1998 -------- --------
Trade accounts receivable $ 13,892 $ 11,638 Notes receivable 563 902 Other receivables 594 102 -------- -------- 15,049 12,642 Allowance for uncollectible accounts receivable (1,212) (1,176) -------- -------- 13,837 11,466 Less current receivables, net (13,816) (11,419) -------- -------- Long term receivables, net $ 21 $ 47 ======== ========
The Company's notes receivable balance of $563,000 at December 31, 1999, included a $50,000 balance on a note resulting from the divestiture of previously owned operating unit made during 1996 and $513,000 of notes receivable from former stockholders of a subsidiary acquired in 1994 (See Note 16).
NOTE 3 - FIXED ASSETS
Fixed assets consist of the following (in thousands):
December 31, ---------------------- 1999 1998 ------- ------- Computer and office equipment $ 3,273 $ 3,685 Furniture and leasehold improvements 757 631 Furniture, fixtures and equipment under capital leases 3,098 3,429 ------- ------- 7,128 7,745 Less: Accumulated depreciation (5,891) (6,167) ------- ------- $ 1,237 $ 1,578 ======= =======
Depreciation and amortization expense related to fixed assets in 1999, 1998 and 1997 totaled $1.0 million, $1.4 million and $1.8 million, respectively. Included in these amounts are $243,000, $530,000 and $489,000 of amortization expense related to capital leases during 1999, 1998 and 1997, respectively.
NOTE 4- SOFTWARE DEVELOPMENT COSTS
Capitalized software development costs consist of the following (in thousands):
December 31, ---------------------- 1999 1998 ------- ------- Capitalized software development costs 6,781 5,020 Less: Accumulated amortization (3,154) (2,042) ------- ------- $ 3,627 $ 2,978 ======= =======
During 1999, 1998 and 1997, amortization of capitalized software development costs totaled $1.1 million, $0.7 million and $1.6 million, respectively, and was included in cost of products sold (See Note 10).
NOTE 5 - DIVESTITURES OF BUSINESSES
During the fourth quarter of 1997, the Company sold the stock of Dorotech, SA. ("Dorotech") a wholly owned subsidiary of the Company, in a transaction that resulted in a $266,000 gain. The Company received as consideration a promissory note totaling $7.0 million, which was paid to the Company during January 1998.
NOTE 6 - OTHER ACCRUED EXPENSES
Other accrued expenses consist of the following (in thousands):
December 31, -------------------- 1999 1998 ------ ------ Accrued preferred dividends $ 337 $ 337 Accrued income, sales and other taxes 350 253 Other 810 1,355 ------ ------ $1,497 $1,945 ====== ======
NOTE 7- BORROWING ARRANGEMENTS
Borrowings consist of the following (in thousands):
During the first quarter of 1999, the Company secured a $5 million revolving line of credit from a commercial bank. The Company can draw up to $5 million on the line of credit for working capital needs based on 80% of its eligible receivables. The line of credit bears interest at a rate equal to prime plus 2%. The current interest rate at December 31, 1999, was 10.25%. The agreement shall remain in effect until June 30, 2000, and automatically renews for successive additional terms of one year each. The line of credit is collateralized by all of the Company's accounts receivable, inventory, equipment, general intangibles, and other personal property assets. At December 31, 1999, the Company had $4,450,000 outstanding under the line of credit.
During the second, third and fourth quarters of 1999, the Company issued Subordinated Promissory Notes (the "Promissory Notes") due June 1, 2000, totaling $3 million and bearing interest from 13.5% to 14%. The Promissory Notes are subordinated to the Company's revolving line of credit and are collateralized by all of the Company's accounts receivable, inventory, equipment, general intangibles, and other personal property assets. Interest payments are due monthly and the Promissory Notes may be prepaid at any time without premium or penalty. CE Computer Equipment AG is the lender of $2 million of the Promissory Notes, which bear interest at 13.5%.
During July and August 1997, the Company issued, pursuant to a private placement exemption under the Securities Act of 1933, as amended, 8% Convertible Notes ("the Notes") due July 8, 2002 and August 20, 2002 totaling $2.0 million. During December 1997, $100,000 of Notes was converted into 121,241 shares of Common Stock. During 1998, $1.7 million of the Notes were redeemed in cash. During the first quarter of 1999, the Company redeemed in cash the remaining $200,000 balance of the Notes.
The Company leases certain of its furniture and equipment under capital lease arrangements. Future minimum lease payments under these capital leases are 2000, $67,000; 2001, $52,000; 2002, $42,000; and 2003, $54,000. Of the $215,000 total lease payments, $46,000 represents interest.
NOTE 8 - STOCKHOLDERS' EQUITY
Common Stock --
During December 1998, the Company's stockholders approved a one-for-four reverse stock split of the Company's outstanding Common Stock. All Common Stock and per share data have been restated to reflect the reverse stock split.
During the first quarter of 1998, the Company completed a private placement of 277,237 shares of Common Stock, together with warrants to purchase 12,500 shares of Common Stock, pursuant to Regulation D under the Securities Act of 1933. Proceeds from the offering were $1,075,000 and offering costs were $26,000. Pursuant to the terms of the private placement, the Company is obligated to file a registration statement with the Securities and Exchange Commission to register the shares when the Company files a registration statement to register shares for any other stockholder.
During the second quarter of 1998, the Company completed a private placement of 726,782 shares of Common Stock, pursuant to Regulation D under the Securities Act of 1933. Proceeds from the offering were $2,453,000 and offering costs were $150,000. Pursuant to the terms of the private placement, the Company is obligated to file a registration statement with the Securities and Exchange Commission to register the shares when the Company files a registration statement to register shares for any other stockholder.
During the second quarter of 1998, the Company issued 85,596 shares of Common Stock as a quarterly dividend to the shareholders of the Company's Series A Cumulative Convertible Preferred Stock.
During the third quarter of 1998, the Company completed a private placement of 250,000 shares of Common Stock pursuant to Regulation D under the Securities Act of 1933. Proceeds from the offering were $750,000 and offering costs were $60,000. Pursuant to the terms of the private placement, the Company is obligated to file a registration statement with the Securities and Exchange Commission to register the shares when the Company files a registration statement to register shares for any other stockholder. During the third quarter, the Company also completed a private placement of 50,000 shares of Common Stock, pursuant to Regulation D under the Securities Act of 1933. Proceeds from the offering were $200,000 and offering costs were $10,000. Pursuant to the terms of the private placement, the Company agreed to file a registration statement with the Securities and Exchange Commission to register the shares when the Company files a registration statement to register shares for any other stockholder.
During the first quarter of 1999, the Company completed a private placement of 388,500 shares of Common Stock pursuant to Regulation D under the Securities Act of 1933, as amended. Proceeds from the offering were $777,000 and offering costs were approximately $70,000.
NOTE 8 - STOCKHOLDERS' EQUITY (continued)
During the second quarter of 1999, the Company issued, pursuant to Regulation D under the Securities Act of 1933, as amended, 8% Convertible Notes (the "Convertible Notes") due October 1, 1999, totaling $2,000,000, together with warrants to purchase 46,000 shares of Common Stock at an exercise price of $2.00 per share. The Company estimated the fair value of the warrants to be approximately $61,000 in the aggregate and recognized this additional borrowing cost over the term of the Convertible Notes. After giving consideration to the stated interest rate and the estimated fair value of the warrants at the issuance date, the Company's effective interest rate related to the Convertible Notes was approximately 14.9%. The Convertible Notes were convertible, at the Company's election, into Common Stock at a conversion price of $2.00 per share. On September 30, 1999, the Convertible Notes and related interest were converted into 1,042,877 shares of Common Stock.
During the fourth quarter of 1999, the Company issued 222,116 shares of Common Stock as quarterly dividends to the shareholders of the Company's Series A Cumulative Convertible Preferred Stock.
Series A Preferred Stock -
The issuance of up to 1,750,000 shares of the Series A Cumulative Convertible Preferred Stock (the "Series A Stock") has been authorized and 1,605,025 shares are outstanding. A majority of the outstanding shares of the Series A Stock and the Common Stock voted to approve amendments to the terms of the Series A Stock ("the Amendments"), which became effective December 31, 1997.
As of the date of the effectiveness of the Amendments, the stockholders of the Series A Stock are entitled to receive an annual dividend of $0.84 per share, payable quarterly in cash or Common Stock, at the Company's option, and convert to Common Stock at a rate of 1.92 shares of Common Stock for each share of Series A Stock. The date the Company releases its earnings for the applicable quarter shall also be the record date for the dividend payment. If the dividend is paid in Common Stock, the number of shares of Common Stock distributed as a dividend will be based on the average closing price per share of Common Stock during the 10 day period following the Company's release of earnings for the applicable quarter. Dividend payments will be made 20 days after the release of earnings.
Beginning January 1, 1999, the Company can convert each share of the Series A Stock into shares of Common Stock if the closing price per share of Common Stock is at least equal to $16.00 per share for 20 consecutive trading days. Beginning January 1, 2000, the Company can convert each share of Series A Stock into shares of Common Stock if the closing price per share of Common Stock is at least equal to $12.00 per share for 20 consecutive trading days. Beginning January 1, 2001, the Company will be able to convert each share of the Series A Stock into shares of Common Stock at any time at the Company's option.
NOTE 8 - STOCKHOLDERS' EQUITY (continued)
The Series A stockholders vote as a class to approve or disapprove any issuance of any securities senior to or on parity with the Series A Stock with respect to dividends or distributions. The Series A Stock has a liquidation price of $12.00 per share. At December 31, 1999, the Series A Stock was convertible into 3,081,648 shares of Common Stock.
Series H and J Preferred Stock --
The 260 shares of Series H and 390 shares of Series J Convertible Preferred Stock outstanding at December 31, 1996 were converted during 1997 into 358,912 and 396,115 shares of Common stock, respectively.
Series K and L Preferred Stock --
During 1998, 1,300 shares of the Series K Convertible Preferred Stock (the "Series K Stock") outstanding at December 31, 1997 were converted into 489,681 shares of common stock. In addition, the Company redeemed in cash the remaining 2,000 shares outstanding of the Series K Stock and the 3,250 shares of Series L Convertible Preferred Stock (the "Series L Stock") outstanding at December 31, 1997 for $7,085,000 including outstanding interest. Proceeds from the $10,000,000 issuance of the Company's Series N Convertible Preferred Stock (the "Series N Stock") were used, in part, to fund the redemption of the Series K Stock and the Series L Stock.
Series M Preferred Stock --
In December 1997, the Company converted $4 million of the outstanding $5 million Line of Credit into 4,000 shares of Series M Convertible Preferred Stock the (the "Series M Stock"). The Company received no proceeds from the conversion of the Line of Credit to equity. The Series M Stock issued and outstanding in December 2001 automatically converts into Common Stock. During January 2000, the 4,000 shares of Series M Stock were converted into 1,177,219 shares of Common Stock (See Note 18).
The Series M Stock has a per share liquidation preference, subject to the liquidation preference of the Series A Stock, of an amount equal to the sum of $1,000 plus 8 1/2% per annum simple interest thereon for the period since the date of issuance. Each share is convertible at the option of the holder into the number of shares of Common Stock determined by dividing an amount equal to the initial purchase price of $1,000 by $1.00. The Series M Stock has a cumulative dividend rate of 8 1/2% per annum which is payable at the time of conversion or redemption in cash or shares of Common Stock, at the election of the Company.
The Series M holder has a right of redemption under various circumstances, all of which are under the sole control of the Company. The Company has the right, at any time, to redeem all of the then outstanding Series M Stock for a price per share equal to $1,000 plus the accrued unpaid dividend.
NOTE 8 - STOCKHOLDERS' EQUITY (continued)
Series M1 Preferred Stock --
In June 1998, the Company converted the remaining $1.0 million of the Line of Credit outstanding at December 31, 1997 into 1,000 shares of Series M1 Convertible Preferred Stock (the "Series M1 Stock"). The Company agreed, by amendment to the securities purchase agreement for the Series M1 Stock, to file a registration statement to register the Common Stock issuable upon conversion of the preferred stock when the Company files a registration statement to register shares for any other stockholder. The Company received no proceeds from the conversion of the Stockholder line of credit to equity. The Series M1 Stock issued and outstanding in December 2001 automatically converts into Common Stock. During January 2000, the 1,000 shares of Series M1 Stock were converted into 337,719 shares of Common Stock (See Note 18).
The Series M1 Stock has a per share liquidation preference, subject to the liquidation preference of the Series A Stock, of an amount equal to the sum of $1,000 plus 8 1/2% per annum simple interest thereon for the period since the date of issuance. Each share is convertible at the option of the holder into the number of shares of Common Stock determined by dividing an amount equal to the initial purchase price of $1,000 by $0.8125. The Series M1 Stock has a cumulative dividend rate of 8 1/2% per annum which is payable at the time of conversion or redemption in cash or shares of Common Stock, at the election of the Company. If the cumulative dividend is paid in stock, the amount paid is based on 95% of the closing bid price on the date of notice of conversion or redemption.
The Series M1 holder has a right of redemption under certain circumstances, all of which are under the sole control of the Company. The Company has the right, at any time, to redeem all of the then outstanding Series M1 Stock for a price per share equal to $1,000 plus the accrued unpaid dividend.
Series N Preferred Stock --
In September 1998, the Company completed a private placement of 1,559,576 shares of Series N Stock, together with warrants to purchase 200,000 shares of Common Stock at an exercise price of $2.50 per share. Proceeds from the offering were $10,000,000 and offering costs were $619,000. In accordance with the terms of the Series N Stock offering, approximately $7,085,000 of the proceeds was used to redeem the Company's Series K Stock and Series L Stock, and the remainder will be used for working capital purposes. The Company also issued warrants to purchase 124,290 shares of Common Stock at an exercise price of $2.80 per share to the placement agent in the transaction. In connection with the sale of the Series N Stock, the Company agreed to register the Common Stock issuable upon conversion of the preferred stock and execution of the warrants upon such time as the Company files a registration statement to register shares for any other stockholder of the Company. In December 1998, the 1,559,576 shares of Series N Stock were converted into 3,898,940 shares of Common Stock.
NOTE 8 - STOCKHOLDERS' EQUITY (continued)
Stock purchase warrants --
The Company has the following warrants outstanding at December 31, 1999, all of which are currently exercisable:
During 1999, 660,642 warrants issued by the Company expired in accordance with the terms and conditions of the related warrant agreements.
Stock option and stock purchase plans --
The Company applies APB 25 in accounting for its stock option plans ("the Plans"), and accordingly, recognizes compensation expense for any difference between the fair value of the underlying common stock and the grant price of the option at the date of grant. Certain options qualify as incentive stock options under the Internal Revenue Code. The Board of Directors determines the vesting and terms of any options granted under the plans with the requirement that the term of an incentive stock option shall not exceed ten years. To date, options granted range from five- to ten-year terms. The exercise price per share of Common Stock subject to an incentive stock option is not less than the fair market value at the time of grant. The Company has also issued non-qualified plan options. An aggregate of 10.5 million shares has been authorized for issuance under the Company's stock option plans.
During 1998, the Company established an Employee Stock Purchase Plan ("the Plan"). Employees can choose to have up to 10% of their annual earnings withheld to purchase the Company's Common Stock. Under the terms of the Plan, there are two six-month offering periods beginning on January 1st and July 1st of each year during which employees can participate. The purchase price is determined by taking 85% of the lower of (a) the average of the high and low market prices on the offering commencement date and (b) the average of the high and low market prices on the offering termination date.
The terms of the Plan require that the purchaser hold the shares purchased under the Plan for a minimum of six months from the date that the offering period ends. Under the Plan, the Company sold 76,065 and 30,607 shares of Common Stock to employees during 1999 and 1998, respectively.
NOTE 8 - STOCKHOLDERS' EQUITY (continued)
Pro forma information regarding net income and earnings per share is required by SFAS 123, and has been determined as if the Company had accounted for its employee stock option and stock purchase plans under the fair value method. The fair value of options granted during 1999, 1998 and 1997 are estimated at $1.40, $1.05 and $3.16, per share respectively, on the date of grant using a Black-Scholes option pricing model with the following weighted-average assumptions for 1999, 1998 and 1997 respectively: average risk-free interest rates of 5.0%, 4.7% and 5.4%; dividend yields of 0.0%; volatility factors of the expected market price of the Company's common stock is 0.85 for 1999, 0.74 for 1998 and 0.58 for 1997; and a weighted-average expected life of the option of 5 years.
The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options, which have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions including the expected stock price volatility. As the Company's employee stock options have characteristics significantly different from those of traded options and because changes in the subjective input assumptions can materially affect the fair value estimate, in management's opinion, the existing models do not necessarily provide a reliable single measure of the fair value of its employee stock options.
For purposes of pro forma disclosures, the estimated fair value of the options is amortized to expense over the options' vesting period. The Company's pro forma loss is $6.0 million, $11.2 million and $16.2 million for 1999, 1998 and 1997, respectively and pro forma net loss applicable to common shares is $0.46, $1.44 and $2.56 for 1999, 1998 and 1997, respectively. The effect of applying SFAS 123 on the 1999, 1998 and 1997 pro forma net losses is not necessarily representative of the effects on reported net loss and net loss per share for future years due to, among other things, 1) the vesting period of the stock options and the 2) fair value of additional stock options in future years.
The following table summarizes the activity in stock options issued by the Company:
Weighted Average Options Exercise Price ---------- ---------------- Balance, January 1, 1997 1,753,459 $ 16.88 Granted 670,088 7.60 Exercised -- Forfeited (759,009) 16.60 ---------- Balance, December 31, 1997 1,664,538 7.68 Granted 2,130,455 2.08 Exercised -- Forfeited (2,147,005) 6.37 ---------- Balance, December 31, 1998 1,647,988 2.16 Granted 1,525,234 2.00 Exercised (142,940) 1.63 Forfeited (163,215) 4.43 ---------- Balance, December 31, 1999 2,867,067 $ 1.97 ==========
NOTE 8 - STOCKHOLDERS' EQUITY (continued)
In December 1998, the Board of Directors approved a plan to reprice the Company's outstanding stock options. The plan allowed holders of out-of-the-money options, excluding executives, officers and directors, to receive a new exercise price of $1.63 per option share, the market price on the date of the approved plan. The plan allowed executives, officers and directors holding out-of-the-money options to also receive a new exercise price of $1.63 but for fewer shares of Common Stock determined pursuant to the Black-Scholes formula intended to result in approximate economic equivalence between the old and the new options. As a result of this repricing, options for an aggregate of 797,072 out of a total of 1,876,159 shares of Common Stock at exercise prices ranging from $2.52 to $27.28 per share were surrendered.
In August 1997, the Board of Directors approved a plan to reprice the Company's outstanding stock options. The plan allowed holders of out-of-the-money options, excluding executives, officers, and directors, to receive a new exercise price of $6.00 per option share, the market price on the date of the approved plan. The plan allowed executives and officers holding out-of-the-money options to also receive a new exercise price of $6.00 but for fewer shares of Common Stock determined pursuant to the Black-Scholes formula intended to result in approximate economic equivalence between the old and the new options. As a result of this repricing, options for an aggregate of 140,438 out of a total of 408,750 shares of Common Stock at exercise prices ranging from $7.64 to $27.28 per share were surrendered. Stock options held by the Company's Board of Directors were not repriced.
In July 1997, the Company adopted the 1997 Director Stock Option Plan ("the Director Plan") for the Company's Directors and discontinued cash payments to the Board Members for their service. The Director Plan provides stock option grants in the amount of 7,500 shares at each annual board meeting for those directors who are not executive officers of the Company and are not serving on the Board as a representative of an institutional investor. Persons appointed to the Board at any time after the annual grant receive pro-rata shares of the option grant. Options vest 25% each quarter and become fully vested on the first anniversary of their grant. The Company has reserved 360,000 shares of Common Stock for issuance in connection with the Director Plan. During 1998, the Company amended the Director Plan to provide stock option grants in the amount of 1,875 shares per each calendar quarter. Options become fully vested ninety days following the date of grant.
NOTE 8 - STOCKHOLDERS' EQUITY (continued)
The following table summarizes information about stock options outstanding at December 31, 1999:
NOTE 9 - REDEEMABLE PREFERRED STOCK
In December 1996, the Company entered into an agreement with the holder of the Series F Preferred Stock to redeem the shares for an aggregate of $9.9 million or $5.50 per share. During the first quarter of 1997, the Company redeemed $3.5 million of the Series F Preferred Stock. The Company used proceeds from its Line of Credit to finance the Series F Preferred share buy back. During the second quarter of 1997, the Company amended the December 1996 redemption agreement and as a result, the remaining $6.4 million, excluding interest, was due upon the sale of the Company's Dorotech subsidiary. During the fourth quarter 1997, the Company sold its Dorotech subsidiary and in January 1998, the Company redeemed the remaining shares of Series F Preferred Stock, including outstanding interest, for $6.5 million.
NOTE 10 - RESTRUCTURING CHARGES
During the second quarter of 1998, the Company incurred a charge of $1.5 million as a result of effecting a restructuring plan ("the Plan"). The Plan provided for the elimination of duplicate job functions and outdated or discontinued products. Under the Plan, the Company combined its three separate customer support organizations into one support organization, and the Company's strategic focus shifted its newest suite of integrated document management software to using Microsoft based architecture. The restructuring charge included a $827,000 write down to net realizable value of prepaid licenses and capitalized software which related to products abandoned in favor of the new integrated document management software suite. In addition, $677,000 of the restructuring charge related to severance costs for 29 employees located throughout the United States, including customer support, sales, marketing, engineering and administrative personnel. The Plan was completed by the end of the first quarter of 1999.
NOTE 11 - INCOME TAXES
The source of the loss before the income tax benefit was from the following jurisdictions (in thousands): Year ended December 31, -------------------------------------------- 1999 1998 1997 -------- -------- -------- U.S. $ (2,636) $ (7,344) $(10,417) Foreign -- -- (922) -------- -------- -------- $ (2,636) $ (7,344) $(11,339) ======== ======== ========
Deferred income taxes reflect the net tax effects of temporary differences between the carrying amount of assets and liabilities for financial purposes and the amounts used for income tax purposes. Deferred tax assets and liabilities are comprised of the following (in thousands):
December 31, ---------------------- 1999 1998 --------- -------- Deferred tax assets: Net operating loss and capital loss carryforwards $ 47,174 $ 44,731 Other 2,573 2,657 -------- -------- Gross deferred tax assets $ 49,747 $ 47,388 ======== ========
Deferred liabilities: Software development costs (900) (1,174) -------- -------- Gross deferred tax liabilities (900) (1,174) Net deferred tax asset valuation allowance (48,847) (46,214) -------- -------- $ --- $ --- ======== ========
SFAS 109 requires a valuation allowance to reduce the deferred tax assets reported if, based on the weight of the evidence, it is more likely than not that some portion or all of the deferred tax assets will not be realized. After consideration of all the evidence, both positive and negative, management has determined that a $48,847,000 and $46,214,000 valuation allowance at December 31, 1999 and 1998, respectively, is necessary to reduce the deferred tax assets to the amount that will more likely than not be realized.
Income tax expense (benefit) differs from the amount of income tax determined by applying the applicable U.S. statutory federal income tax rate to the loss before income taxes as a result of the following differences:
NOTE 11 - INCOME TAXES (continued)
Year ended December 31, ----------------------------------------- 1999 1998 1997 -------- -------- -------- Statutory U.S. tax rate benefit 34.0% 34.0% 34.0% State income taxes, net 4.6 3.6 3.6 Operating losses and tax credits with no current tax benefit (39.7) (37.2) (37.6) Other -- -- -- -------- -------- -------- --% --% --% ======== ======== ========
As of December 31, 1999, the Company had available net operating and capital loss carry forwards of approximately $122 million which expire in years through 2019 and are limited under Section 382 of the Internal Revenue Code. Accordingly, the utilization of the net operating loss and capital loss carry forwards will be limited in future years due to the changes in ownership. In addition, the Company has research tax credit carry forwards of $1.2 million.
The Company sold its foreign subsidiary, Dorotech, during 1997. Due to a difference between book and tax basis, the Company realized a capital loss of approximately $25 million. In addition, due to the sale of Dorotech, the Company has recognized a deferred tax benefit of approximately $46,000, which is reflected in the gain on the sale of Dorotech.
Since the Company has incurred losses in 1999, 1998 and 1997, securities that could potentially dilute the basic earnings per share in the future were not included in the dilution computation because they would have been anti-dilutive for the periods presented. The potentially dilutive convertible securities include the Company's Series A, Series M and Series M1 Convertible Preferred Stock, which were convertible into 3,081,648 shares, 1,170,699 shares and 350,409 shares of common stock, respectively, at December 31, 1999. Also outstanding at December 31, 1999 were options and warrants, which were convertible into 2,867,067 and 1,212,452 shares of common stock, respectively. For additional disclosures regarding outstanding preferred stock, employee stock options and warrants, see Note 8.
NOTE 13 - BUSINESS SEGMENTS
In June 1997, SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information," was issued effective for fiscal years ending after December 15, 1998.
The Company's reportable segments are strategic business units that sell its products and services to a wide variety of customers throughout the United States. They are managed separately because each business requires different technology, marketing and management strategies.
The Company's two reportable segments are its products and services groups. The products segment includes sales of software licenses of the Company's TREEV Suite of document management software and computer equipment. The services segment includes sales of software maintenance contracts, installation, training and customization. The accounting policies of the segments are the same as those described in the summary of significant accounting policies. The Company evaluates performance based on operating earnings of the respective business units before income taxes and interest income and expenses. In addition, corporate related items and expenses not allocated to reportable segments, such as sale of subsidiaries, exchange fee and gain, and restructuring costs, are shown separately as "Corporate".
The following table sets forth summarized financial information concerning the Company's reportable segments for the years ended December 31, 1999, 1998 and 1997 (in thousands).
NOTE 13 - BUSINESS SEGMENTS (continued)
The following table sets forth summarized financial information concerning to the Company's operations by geographic area for the years ended December 31, 1999, 1998 and 1997 (in thousands):
United Western Europe States ------- ------------- Revenue $31,209 $ -- Net loss (2,636) -- Total assets 23,291 -- Revenue $28,202 $ -- Net loss (7,344) -- Total assets 19,522 -- Revenue $24,486 $11,320 Net loss (10,417) (922) Total assets 26,680 --
Revenue in 1999 and 1998 included sales to the U.S. Government totaling $704,000 and $900,000 respectively. Revenue in 1997 included sales to the U.S. Government and French Government totaling $1.6 million and $6.0 million, respectively.
NOTE 14 - COMMITMENTS
The Company leases its corporate office, sales offices, assembly facilities and certain equipment under non-cancelable operating leases, certain of which provide for both operating expense reimbursements and annual escalations that are amortized over the lease term. Rent expense related to these leases was $1.2 million, $1.1 million and $1.1 million for the years ended December 31, 1999, 1998 and 1997, respectively.
Future minimum lease payments under non-cancelable operating leases are as follows (in thousands):
Year ending December 31,
2000 $ 1,626 2001 1,321 2002 1,348 2003 1,376 2004 1,405 Thereafter 6,457 ------------- $ 13,533 =============
NOTE 15- CONTINGENCIES
The Company is subject to legal proceedings and claims, which are in the ordinary course of business. Management believes that the outcome of such matters will not have a material impact on the Company's financial position or its result of operations.
NOTE 16 - RELATED PARTY TRANSACTIONS
During 1997, the Company renegotiated the termination of three consulting agreements, with individuals who were current or former members of the Board of Directors and officers of the Company, whereby all three would expire during 1998. The Company recognized total compensation expense of approximately $211,000 and $553,000 in 1998 and 1997, respectively, related to these agreements.
The Company holds two notes receivable totaling $513,000 from two former stockholders of a subsidiary acquired in 1994. Interest accrues at 6.55% per annum (See Note 2).
NOTE 17 - EMPLOYEE PROFIT SHARING PLANS AND 401K PLAN
The Company sponsors a 401(K) plan that covers all full-time employees. Participants in the plan may make contributions of up to 15% of pre-tax annual compensation or $10,500 whichever is lower. The Company may make discretionary matching contributions at the option of the Board of Directors. The Company has made no contributions in 1999, 1998 or 1997.
NOTE 18 - SUBSEQUENT EVENTS
During January 2000, the 4,000 outstanding shares of Series M Stock were converted into 1,177,219 shares of Common Stock.
During January 2000, the 1,000 outstanding shares of Series M1 Stock were converted into 337,719 shares of Common Stock.
Shedule II - Valuation and Qualifying Accounts TREEV, Inc. December 31, 1999