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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
/x/(Mark One)
/x/
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 3, 1999
OR
For the quarterly period ended March 3, 2000
OR
/ /
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934For the transition period from to
For the transition period fromtoCommission file Number: 0-15175
ADOBE SYSTEMS INCORPORATED
(Exact name of registrant as specified in its charter)
Delaware
(State or other jurisdiction of
incorporation or organization)77-0019522
(I.R.S. Employer
Identification No.)
345 Park Avenue, San Jose, California
(Address of principal executive offices)
95110-2704
(Zip Code)Registrant's telephone number, including area code: (408) 536-6000
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. YES
/x//x/ NO / /
Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date:
Class Shares Outstanding
October 1, 1999March 31, 2000Common stock, $0.0001 par value 60,098,712119,730,220
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| PART I—FINANCIAL INFORMATION | ||||||||
Item 1. |
| Condensed Consolidated Financial Statements: | |
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Condensed Consolidated Statements of Income |
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3 |
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Condensed Consolidated Balance Sheets |
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4 |
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Condensed Consolidated Statements of Cash Flows |
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5 |
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Notes to Condensed Consolidated Financial Statements |
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Item 2. |
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Management's Discussion and Analysis of Financial Condition and Results of Operations |
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Item 3. |
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Quantitative and Qualitative Disclosures About Market Risk |
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| PART II—OTHER INFORMATION |
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Item 1. |
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Legal Proceedings |
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Item 6. |
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Exhibits and Reports on Form 8-K |
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Signature |
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Summary of Trademarks |
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| EXHIBITS |
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Exhibit | 27 Financial Data Schedule |
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2
ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
ADOBE SYSTEMS INCORPORATED
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(In thousands, except per share data)
(Unaudited)
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|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
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2000 | March 5 1999 |
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| $ | 282,232 | $ | 226,902 | ||||||||||||
| Direct Costs | |||||||||||||||
| Operating expenses: | |||||||||||||||
| Research and development | |||||||||||||||
| Sales and marketing | |||||||||||||||
| General and administrative | |||||||||||||||
| Restructuring and other charges | ) | — | |||||||||||||
| Amortization of goodwill and purchased intangibles | |||||||||||||||
| Total operating expenses | |||||||||||||||
| Operating income |
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| Nonoperating | |||||||||||||||
| Investment gain (loss) | |||||||||||||||
| Interest and other income | |||||||||||||||
| Total nonoperating income |
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| Income before income taxes | |||||||||||||||
| Provision for income taxes | |||||||||||||||
| Net income | $ | $ | |||||||||||||
| Basic net income per |
$ | $ | |||||||||||||
| Shares used in computing basic net income per |
|||||||||||||||
| Diluted net income per |
$ | $ | |||||||||||||
| Shares used in computing diluted net income per |
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See accompanying Notes to Condensed Consolidated Financial Statements.
3
ADOBE SYSTEMS INCORPORATED
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands, except per share data)
(Unaudited)
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|---|---|---|---|---|---|---|---|
| ASSETS | |||||||
| Current assets: | |||||||
| Cash and cash equivalents | $ | $ | |||||
| Short-term investments | |||||||
| Receivables, net of allowances of |
|||||||
| Deferred income taxes | |||||||
| Other current assets | |||||||
| Total current assets | |||||||
| Property and equipment | |||||||
| Other assets | 110,296 | 111,706 | |||||
| Deferred income taxes | |||||||
| — | |||||||
| $ | $ | ||||||
| LIABILITIES AND STOCKHOLDERS' EQUITY |
|
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| Current liabilities: | |||||||
| Trade and other payables | $ | $ | |||||
| Accrued expenses | |||||||
| Accrued restructuring charges | |||||||
| Income taxes payable | |||||||
| Deferred revenue | |||||||
| Deferred income taxes | 38,086 | — | |||||
| Total current liabilities | |||||||
| Deferred income taxes | |||||||
| Stockholders' equity: | |||||||
| Common stock, $0.0001 par |
|||||||
| Retained earnings | |||||||
| Accumulated other comprehensive income | 40,332 | ||||||
| Treasury stock, net of reissuances (28,961 and 29,343 shares in 2000 and 1999, respectively) | ( | ||||||
| ) | ( |
) | |||||
| Total stockholders' equity | |||||||
| $ | $ | ||||||
See accompanying Notes to Condensed Consolidated Financial StatementsStatements.
4
ADOBE SYSTEMS INCORPORATED
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)
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|---|---|---|---|---|---|---|---|---|
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| Cash flows from operating activities: | ||||||||
| Net income | $ | $ | ||||||
| Adjustments to reconcile net income to net cash provided by operating activities: |
||||||||
| Stock compensation expense | ||||||||
| Depreciation and amortization | ||||||||
| Deferred income taxes | ) | 1,751 | ||||||
| Provision for losses on accounts receivable | 1,450 | ( |
) | |||||
| Tax benefit from employee stock plans | ||||||||
| ( |
) | ( |
) | |||||
| (1,052 | ) | |||||||
| Noncash restructuring |
) | |||||||
| Changes in operating assets and liabilities: | ||||||||
| Receivables | ) | |||||||
| Other current assets | ( |
) | ||||||
| Trade and other payables | ( |
) | ||||||
| Accrued expenses | ||||||||
| Accrued restructuring charges | ( |
) | ||||||
| Income taxes payable | ( |
) | ||||||
| Deferred revenue | ||||||||
| Net cash provided by operating activities | ||||||||
| Cash flows from investing activities: | ||||||||
| Purchases of short-term investments | ( |
) | ( |
) | ||||
| Maturities and sales of short-term investments | ||||||||
| ) | (7,520 | ) | ||||||
| Acquisitions, net of cash acquired | — | |||||||
| ( | ) | |||||||
| Additions to other assets | ( |
) | ( |
) | ||||
| Proceeds from |
— | |||||||
| Net cash used for investing activities | ( |
) | ( |
) | ||||
| Cash flows from financing activities: | ||||||||
| Proceeds from sale of put warrants | $ | — | $ | 978 | ||||
| Purchase of treasury stock | ( |
) | ( |
) | ||||
| Proceeds from reissuance of treasury stock | ||||||||
| Payment of dividends | ( |
) | ( |
) | ||||
| Net cash used for financing activities | ( |
) | ( |
) | ||||
| Effect of foreign currency exchange rates on cash and cash equivalents | ( |
) | ( |
) | ||||
| Net |
) | (31,385 | ) | |||||
| Cash and cash equivalents at beginning of period | ||||||||
| Cash and cash equivalents at end of period | $ | $ | ||||||
| Supplemental disclosures: | ||||||||
| Cash paid during the period for income taxes | $ | $ | ||||||
| Noncash investing and financing activities: | ||||||||
| $ | $ | |||||||
| $ | $ | |||||||
See accompanying Notes to Condensed Consolidated Financial Statements.
5
ADOBE SYSTEMS INCORPORATED
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(In thousands, except per share data)
NoteNOTE 1. Significant Accounting PoliciesSIGNIFICANT ACCOUNTING POLICIES
Basis of Presentationpresentation
The accompanying interimunaudited condensed consolidated financial statements of Adobe Systems Incorporated ("Adobe" or the "Company") have been prepared in conformity
with generally accepted accounting principles, consistent inreflect all material respects with those applied in the Company's Annual Report on Form 10-K for the year ended
November 27, 1998. The interim financial information is unaudited but reflects all normal recurring adjustments which are, in the opinion of management,
necessary to providepresent a fair statement of the condensed consolidated balance sheetsfinancial position at March 3, 2000, and the condensed consolidated statements of income and cash flows for the interimthree-month
periods presented.ended March 3, 2000 and March 5, 1999.
The
interimaccompanying unaudited condensed consolidated financial statements should be readhave been prepared in conjunctionaccordance with the instructions for Form 10-Q and, therefore, do not include all
information and footnotes necessary for a complete presentation of the results of operations, the financial position, and cash flows, in conformity with generally accepted accounting principles. Adobe
Systems Incorporated ("Adobe" or the "Company") filed audited consolidated financial statements which included all information and footnotes necessary for such a presentation of the results of
operations, financial position and cash flows for the years ended December 3, 1999, November 27, 1998, and November 28, 1997, in the Company's 1999 Annual Report on
Form 10-K for the year ended November 27, 1998.10-K.
The
results of operations for the interim period ended SeptemberMarch 3, 1999,2000, are not necessarily indicative of the results to be expected for the full year.
Revenue Recognition
During the first quarter ofIn fiscal 1999,2000, the Company adopted Statement of Position (SOP) 97-2, "Software Revenue Recognition." The Company modified
certain aspects of its business model such that the impact of No. 98-9 ("SOP 97-2 was not significant.
Recent Accounting Pronouncements
In June 1997, the FASB issued SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information," and in June 1998,
issued SFAS No. 133 "Accounting for Derivative Instruments and Hedging Activities." In May 1999, the FASB amended SFAS No. 133 to defer its effective date. The Company will
implement SFAS 133 in its fiscal year 2001. Also, in December 1998, the AICPA issued SOP 98-9,98-9"), "Modifications of SOP 97-2, Software Revenue Recognition,
With Respect to Certain Transactions." Readers can referThe adoption of SOP 98-9 does not have a significant impact on the Company.
Application products revenue is recognized upon shipment, provided collection is determined to be probable and no significant obligations remain. The Company provides to application products customers free telephone support, for which the expense is accrued, up to a maximum of 90 days beginning upon the customer's first call. The cost of telephone support is amortized as the obligation is fulfilled. Revenue from distributors is subject to agreements allowing limited rights of return, rebates, and price protection. The Company provides for estimated future returns, price protection when given, and rebates at the time the related revenue is recorded.
Licensing revenue, primarily royalties, is recorded when OEM customers ship products incorporating Adobe software, provided collection of such revenue is probable. The Company has no remaining obligation in relation to such licensing revenue.
Deferred revenue includes customer advances under OEM licensing agreements. Maintenance revenue for application products is deferred and recognized ratably over the term of the contract, generally twelve months. In cases where the Company provides a free upgrade to an existing product, the Company defers revenue until the future obligation is fulfilled.
Recent accounting pronouncements
In June 1998, the Financial Accounting Standards Board (the "FASB") issued Statement of Financial Accounting Standards No. 133 ("SFAS 133"), "Accounting for Derivative Instruments and Hedging Activities." SFAS 133 establishes accounting and reporting standards for derivative financial instruments and hedging activities and requires the Company to recognize all derivatives as either assets or liabilities on
6
the
balance sheet and measure them at fair value. Gains and losses resulting from changes in fair value would be accounted for depending on the use of the derivative and whether it is designated and
qualifies for hedge accounting. In June 1999, the FASB issued SFAS 137, which defers the implementation of SFAS 133. The Company will be required to implement SFAS 133 in its
fiscal year 2001. The Company has not determined the impact that SFAS 133 will have on its financial statements and believes that such determination will not be meaningful until closer to the
"Recent Accounting Pronouncements" sectiondate of the Company's 1998 Annual Report on Form 10-K for further discussion.initial adoption.
Reclassifications
Certain reclassifications werehave been made to the fiscal 19981999 consolidated financialincome statements and consolidated statements of cash flows to conform to the fiscal
1999 presentation, including certain
reclassifications within operating expenses and between operating expenses and direct costs that were made to enable management to better analyze financial
results.2000 presentation. These reclassifications did not impact total operating profit for the third quarter and first nine months ofor total cash flows in fiscal 1998.
Stock Dividend
On September 16, 1999, the Company's Board of Directors approved a two-for-one stock split, in the form of a stock dividend, of
the Company's common stock that was applicable to stockholders of record on October 4, 1999 and will be effective on October 26, 1999. Share and per-share data have not been
adjusted to give effect to this stock split.
NoteNOTE 2. Other AssetsOTHER ASSETS
Other assets consisted of the following:
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|---|---|---|---|---|---|---|
| Equity investments | $ | $ | ||||
| Purchased technology and licensing agreements | ||||||
| Less accumulated amortization | ||||||
| $ | $ | |||||
NoteNOTE 3. Accrued ExpensesACCRUED EXPENSES
Accrued expenses consisted of the following:
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|---|---|---|---|---|---|---|
| Accrued compensation and benefits | $ | $ | ||||
| Sales and marketing allowances | ||||||
| Minority interest | 19,959 | 17,737 | ||||
| Other | ||||||
| $ | $ | |||||
NoteNOTE 4. Restructuring and Other ChargesRESTRUCTURING AND OTHER CHARGES
Fiscal 1999 Restructuring Program
In the second quarter of fiscal 1999, the Company began the implementation of a Board approved restructuring program to further enhance the Company's operating
model by improving productivity and efficiencies throughout the Company. The restructuring program was completed in the third quarter of fiscal 1999. As part of the restructuring program, the Company
implemented a reduction in force of 216 positions, of which two were executive positions. The reduction in force primarily affected its European headquarters in Edinburgh, Scotland and its North
American headquarters in San Jose, California. In addition to severance and related charges associated with the reduction in force, the restructuring program included charges for vacating leased
facilities. These restructuring actions in the second and third quarter of fiscal 1999 resulted in total charges of $17.6 million, of which approximately $0.1 million were
non-cash charges. Of the $17.6 million in total charges, $10.7 million remains accrued at September 3, 1999.
In the third quarter ofDuring fiscal 1999 and 1998, the Company revised its estimateimplemented three different Board-approved restructuring programs. These unique restructuring programs were directly
focused on improving the Company's competitive position as well as enhancing the Company's allocation of resources. For a detailed discussion of the total costs associated withrestructuring programs, the program described above resulting in an adjustmentreader can refer to the
second-quarterCompany's 1999 Annual Report on Form 10-K.
7
As
of March 3, 2000, $1.5 million remains accrued related to the fiscal 1999 restructuring accrual of approximately $2.5 million. Approximately $2.3 million of the adjustment reflects lower than estimated severanceprograms, and no liability remains related charges primarily attributable to
employees impacted by the restructuring who were able to find alternative employment within the Company. The remaining adjustment was due to lower than expected charges related to vacating leased
facilities.
program implemented in fiscal
1998.
The
following table depicts the restructuring and other activity through SeptemberMarch 3, 1999:2000:
| |
Accrued Balance | Cash Payments | Adjustments |
Accrued Balance |
||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Severance and related charges | $ | $ | ( |
) | $ | ( |
) | $ | ||||||||||
| Lease termination costs | ( | ) | (9 | ) | 226 | |||||||||||||
| Other charges | 205 | (162 | ) | — | ||||||||||||||
| ( |
) | ( | ) | 1,464 | ||||||||||||||
| Accrual related to fiscal 1998 restructuring | 772 | (529 | ) | ( | ||||||||||||||
| ) | — | |||||||||||||||||
| $ | $ | ( |
) | $ | ( |
) | $ | |||||||||||
SeveranceDuring
the first quarter of fiscal 2000, the Company revised its estimates of the total costs associated with the restructuring programs resulting in an adjustment of approximately
$0.7 million. The adjustment primarily reflects lower than estimated severance and related charges include involuntary termination and COBRA benefits, outplacement costs, and payroll taxes for 216attributable to employees or 8%whose positions were eliminated as a result of the worldwide workforce.restructurings
but who were able to find alternative employment within the Company. The terminations were in the following areas: 42 in research and development, 117 in sales and marketing, and 57 in general and administrative.remaining adjustment was due to lower than expected charges related to vacating leased facilities.
The
reduction in force within researchremaining severance and development consistedrelated charges consists primarily of employees in the Company's Printing Solutions business in San Jose, CaliforniaCOBRA benefits and was implemented in orderoutplacement costs. The accrual balance of $1.2 million as of March 3, 2000 is
expected to
realign product development expense with the Company's operating targets. The majority of these terminations were completed by August 31, 1999, and the remaining termination benefits will be paid throughduring the firstsecond quarter of fiscal 2000.
The phasing out of the European headquarters in Edinburgh, Scotland was implemented to reduce redundancies within the organization and resulted in a reduction in force of 48 general
and administrative staff and 43 sales and marketing staff. The closure of the European headquarters will be completed by December 31, 1999, and all termination benefits will be paid through the
first quarter of fiscal 2000.
The remaining terminations in the sales and marketing organization were primarily due to the centralization of the North America sales and marketing organization. The remaining
general and administrative reductions were due to the elimination of redundancies throughout the organization. The majority of these terminations were completed by June 30, 1999, and the
termination benefits will be paid through the fourth quarter of fiscal 1999.
Lease
termination costs of $2.5 million includeprimarily represent remaining lease liabilities brokerage fees, restoration charges and legal fees offset by estimated sublease income related to facilitiesthe Santa Clara distribution center and excess office space in the United States, Australia Scotland, and Japan that will bewere vacated as part
of the restructuring program. The facilities will be vacated as a result of the elimination of staff and
organizational decisions associated with the centralization of certain activities in San Jose, California. As of SeptemberMarch 3, 1999, $1.62000, $0.2 million of lease termination costs, net of anticipated sublease income, remains accrued and is expected to be utilized throughby the
second quarter of fiscal 2000.
Charges related to the impairment of leasehold improvements at vacated facilities of $0.1 million included the write-down of the net book value of leasehold
improvements, furniture, and equipment used in the vacated facilities. These assets were written down in accordance with the provisions of SFAS No. 121, "Accounting for the Impairment of
Long-Lived Assets and for Long-Lived Assets to be Disposed Of." The leasehold improvements, furniture, and equipment specifically identified under the restructuring program as
assets to be disposed of would have no future benefit to the Company as
these assets would not enhance the Company's ability to sublease the facilities. Therefore, in accordance with SFAS No. 121, the leasehold improvements, furniture, and equipment were reported
at the lower of the carrying amount or fair value less costs to sell, which was zero. The related facility was vacated at the end of the third quarter of fiscal 1999.
Other
charges of $0.3 million includerelate to legal and accounting fees incurred in EdinburghNorth America, Australia, and North AmericaScotland associated with employee terminations as part of the reduction in force. The
remaining $0.3 million accrual balance as of SeptemberMarch 3, 19992000 is expected to be paid byduring the fourthsecond quarter of fiscal 1999.2000.
Previously Announced Restructuring Programs
As of September 3, 1999, approximately $1.4 million in accrued restructuring costs remains related to the Company's previously announced
restructuring programs. This balance is comprised of $0.8 million related to the Company's restructuring program that was implemented in the third quarter of fiscal 1998, and
$0.6 million related to lease termination costs resulting from the merger with Frame Technology Corporation ("Frame") in fiscal 1995. The $0.8 million accrual related to the fiscal 1998
restructuring program consists of $0.3 million in severance and related charges and $0.1 million in lease termination costs, both of which are expected to be paid by the fourth quarter
of fiscal 1999. The remaining accrual of $0.4 million relates to cancelled contracts, and is expected to be paid by the first quarter of fiscal 2000. Cash payments for the nine months ended
September 3, 1999 were $0.7 million, $3.6 million, and $0.4 million for severance and related charges, lease termination costs, and cancelled contracts costs, respectively.
In the third quarter of fiscal 1999, the Company recorded an adjustment to the accrual balance of approximately $1.3 million related to the Company's previously announced
restructuring programs. The adjustment consisted of $0.4 million related to estimated lease termination costs and $0.3 million related to other estimated charges as a result of the
Company's fiscal 1998 restructuring program. Additionally, the restructuring accrual established for lease payments related to idle facilities in Europe as a result of the fiscal 1994 merger with
Aldus Corporation ("Aldus") was reduced by $0.6 million in the third quarter of fiscal 1999 due to the Company's success in terminating the associated lease with the lessor earlier than the
contract term. As of September 3, 1999, no accrual balance remains related to the fiscal 1994 merger with Aldus.
Other Charges
During the third quarter of fiscal 1999, the Company recorded other charges of $6.0 million that were unusual in nature. These charges included
$2.0 million associated with the cancellation of a contract and $1.2 million for accelerated depreciation related to the adjustment of the useful life of certain assets as a result of
decisions made by management as part of the restructuring program. Additionally, the Company
incurred a non-recurring compensation charge totaling $2.6 million for a terminated employee, and incurred consulting fees of $0.2 million to assist in the restructuring of
the Company's operations.
NoteNOTE 5. Stockholders' EquitySTOCKHOLDERS' EQUITY
Stock Repurchase ProgramsProgram
In September 1997, the Company's Board of Directors authorized, subject to certain business and market conditions, the purchase of up to
15.0 million shares of the Company's common stock over a two-year period. Under this program, the Company repurchased approximately 0.8 million shares in the first quarter of
fiscal 1999, 10.1 million shares in fiscal 1998, and 4.1 million shares in fiscal 1997, at a cost of $30.5 million, $362.4 million, and $188.6 million, respectively.
This program was completed during the first quarter of fiscal 1999.
In April 1999, the Company's Board of Directors authorized, subject to certain business and market conditions, the purchase of up to an additional
5.0 million shares of the Company's common stock over a two-year period. This new stock repurchase program was in addition to an existing program whereby the Company has been authorized to
repurchase shares to offset issuances under employee stock option and stock purchase plans. No purchases have been made under the 5.0 million share repurchase program.
Under
the Company's existing plan to repurchase shares to offset issuances under employee stock plans, the Company repurchased approximately 4.01.2 million shares in fiscal 1999
and 0.4 million shares in fiscal 1998, at a cost of
$273.1$67.4 million and $16.8in the first quarter of fiscal 2000.
8
In
fiscal 1999, the Company repurchased 11.2 million respectively.shares at a cost of $448.7 million under its existing plan to repurchase shares to offset issuances under employee
stock plans. In addition, 1.7 million shares were repurchased at a cost of $30.5 million under another share repurchase program, in which the Company's Board of Directors authorized the
repurchase of up to 30.0 million shares. This share repurchase program was completed during the first quarter of fiscal 1999.
Put Warrantswarrants and Call Optionscall options
To facilitate the Company's stock repurchase programs, the Company sold put warrants to independent third parties. Each warrant entitles the holder to sell one
share of Adobe's common stock to the Company at a specified price. On SeptemberMarch 3, 1999,2000, put warrants to sell approximately 888,8002.5 million shares of the Company's common stock were outstanding
that expire on various dates through JanuaryJuly 2000 with an average exercise price of $80.33$60.30 per share. Under these put warrant arrangements, the Company, at its option, can settle with physical delivery
or net shares equal to the difference between the exercise price
and market value at the date of exercise; therefore the put warrants do not result in a liability on the balance sheet.
In
addition, the Company purchased call options from independent third parties that entitle the Company to buy its common stock on certain dates at specified prices. On
SeptemberMarch 3, 1999,2000, call options to purchase approximately 440,0001.6 million shares of the Company's common stock were outstanding that expire on various dates through JanuaryJuly 2000 with an average
exercise price of $86.84$65.58 per share.
NoteNOTE 6. Comprehensive IncomeCOMPREHENSIVE INCOME
The following table sets forth the components of comprehensive income, net of income tax expense:
| |
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|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| |
1999 | ||||||||||||
| Net income | $ | $ | |||||||||||
| Change in unrealized gains | |||||||||||||
| Unrealized gains arising during the period | |||||||||||||
| ( | ) | ||||||||||||
| Net change in unrealized gains, |
|||||||||||||
| Change in cumulative translation adjustment | ( | ) | ( |
) | |||||||||
| Total comprehensive income, net of taxes | $ | $ | |||||||||||
NoteNOTE 7. Net IncomeNET INCOME PER SHARE
Basic net income per Shareshare is computed using the weighted average number of common shares outstanding for the period, excluding unvested restricted stock.
Diluted net income per share is based upon the weighted average common shares outstanding for the period plus dilutive common equivalent shares,
9
including unvested restricted common stock, stock options using the treasury stock method, and put warrants using the reverse treasury stock method.
| |
||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| |
||||||||||||
| | (in thousands except per share data) | |||||||||||
| Net income | $ | 64,565 | $ | 38,276 | ||||||||
| Shares used to compute basic net income per share (weighted average shares outstanding during the period, excluding unvested restricted stock) | 118,628 | 121,946 | ||||||||||
| Dilutive common equivalent shares: | ||||||||||||
| Unvested restricted stock | 404 | 12 | ||||||||||
| Stock options | 7,457 | 4,810 | ||||||||||
| Shares used to compute diluted net income per share | 126,489 | 126,768 | ||||||||||
| Basic net income per share | $ | .54 | $ | 0.31 | ||||||||
| Diluted net income per share | $ | .51 | $ | 0.30 | ||||||||
NOTE 8. INDUSTRY SEGMENT AND GEOGRAPHIC INFORMATION
The Company has four reportable segments that offer different product lines. These segments are Web Publishing, Print Publishing, ePaper Solutions, and OEM PostScript and Other. The Web Publishing segment provides software to create Web sites with graphics, images, videos, and animation. The Print Publishing segment provides software for professional page layout, illustration, business publishing, and printing. The ePaper Solutions segment allows users to convert information to Adobe Portable Document Format ("PDF") with the original appearance preserved and allows for the distribution of documents via the Web, intranets, e-mail, or CD-ROM for viewing and printing on any system. The OEM PostScript and Other segment includes printing technology to create and print simple or visually rich documents with precision. This segment also includes revenue from businesses that were divested in fiscal years prior to 1999.
The accounting policies of the operating segments are the same as those described in the summary of significant accounting policies. The Company evaluates performance based on the contribution margin for
10
each segment. The Company does not identify or allocate its assets by operating segments. As such, segment asset information is not disclosed.
| | Web Publishing |
OEM PostScript and Other | Total | |||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Quarter ended March 3, 2000 | ||||||||||||||||
| $ | $ | $ | $ | $ | 282,232 | |||||||||||
| Direct costs | 8,193 | 6,853 | 3,339 | 2,337 | 20,722 | |||||||||||
| Direct operating expenses | ||||||||||||||||
| $ | 209,536 | |||||||||||||||
| 77 | % | 75 | % | 72 | % | 67 | % | 74 | % | |||||||
| Quarter ended March 5, 1999 | | | | | | | | | | | | | | | | |
| Revenue | $ | $ | $ | $ | $ | 226,902 | ||||||||||
| Direct costs | 6,523 | 9,356 | 1,580 | 5,040 | 22,499 | |||||||||||
| 204,403 | ||||||||||||||||
| Direct operating expenses | 11,231 | 13,855 | 6,620 | 11,601 | 43,307 | |||||||||||
| Contribution margin | $ | 65,906 | $ | 65,815 | $ | 8,274 | $ | 21,101 | $ | 161,096 | ||||||
| 79 | % | 74 | % | 50 | % | 56 | % | 71 | % | |||||||
Share and per share data presented do not reflectA
reconciliation of the two-for-one stock split,totals reported for the operating segments to the applicable line items in the form of a stock dividend, effective October 26, 1999.
Note 8. Commitmentsconsolidated financial statements for the quarters ended March 3, 2000
and Contingencies
In August 1999, the Company entered into a $200,000,000 unsecured revolving line of credit with a group of 15 banks for general corporate
purposes, subject to certain financial covenants. One-half of the facility expires in August 2000, the other $100,000,000 expires in August 2002. Outstanding balances accrue
interest at LIBOR plus a margin that is based on the financial ratios of the Company. There were no outstanding balances on the credit facility as of September 3, 1999. In addition, as of
September 3, 1999, the Company was in compliance with all financial covenants.
In August 1999, the Company restructured its current lease agreements for its corporate headquarters in San Jose, California. The amended and restated agreement replaces
the two prior lease agreements entered into in 1996 and 1998. The lease is for a period of five years and is subject to standard covenants including financial ratios. The Company has an option to
purchase the buildings at any time during the term for an amount equal to the total investment of the lessor. At the end of the lease term, the Company may exercise the purchase option or, with the
mutual agreement of the lessor, renew the term of the lease. In addition to these possibilities, at the end of the term, the Company may elect to have the buildings sold to an unrelated third party.
In such case, the Company is obligated to use its best efforts to arrange for such a sale and is obligated to pay the lessor the difference between the total investment in the buildings and the net
sales proceeds; provided, however, that in no event would the Company be required to pay more than a maximum guaranteed residual amount as set forth in the lease. In the event of a default by the
Company, during the term of the lease, the lessor could require the Company to purchase the buildings for an amount equal to the Company's option purchase price. As of September 3, 1999, the
Company was in compliance with all financial covenants.
Under the terms of the line of credit and the lease agreements, the Company may pay cash dividends unless an event of default has occurred or it does not meet certain financial
ratios.
Note 9. Acquisitions
On January 4, 1999, the Company acquired substantially all of the assets, consisting of intellectual property and a minimal amount of fixed assets, of
both GoLive Systems, Inc., a Delaware corporation, and GoLive Systems GmbH and Co. KG, a German limited partnership (together "GoLive Systems"). GoLive Systems creates Web
site development software, which enables users to effectively use the Internet for professional publishing and communication. The acquisition was accounted for under the purchase method of accounting
in accordance with Accounting Principles Board Opinions No. 16. The initial purchase price of the acquisition was approximately $31.0 million, plus additional contingency payments of up
to $8.0 million based on achieving certain technical and employment milestones. The Company determined that certain milestones had been reached as of March 5, 1999 and,is as such,
$4.0 million in contingent payments were recorded as additional purchase price.
follows:
| | Quarter Ended | |||||
|---|---|---|---|---|---|---|
| | March 3, 2000 | March 5, 1999 | ||||
| Total contribution margin from operating segment above | $ | 209,536 | $ | 161,096 | ||
| Indirect operating expenses | 120,001 | 105,453 | ||||
| Restructuring and other | (672 | ) | — | |||
| Amortization of goodwill and other intangibles | 1,203 | 1,190 | ||||
| Total operating income | 89,004 | 54,453 | ||||
| Other income | 10,327 | 5,866 | ||||
| Income before taxes | $ | 99,331 | $ | 60,319 | ||
11
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion (presented in millions, except share and per share amounts) should be read in conjunction with the consolidated
financial statements and notes thereto.
In addition to historical information, this Quarterly Report on Form 10-Q contains forward-looking statements that involve risks and uncertainties that
could cause actual results to differ materially. Factors that might cause or contribute to such differences include, but are not limited to, those discussed in the section entitled "Management's
Discussion and Analysis of Financial Condition and Results of Operations—Factors that may affect future resultsThat May Affect Future Results of operations.Operations." ReadersYou should carefully review the risks described in
other documents the Company fileswe file from time to time with the Securities and Exchange Commission, including the additionalfuture Quarterly Reports on Form 10-Q to be filed byin 2000. When used in this report, the Company in 1999. Readerswords
"expects," "anticipates," "intends," "plans," "believes," "seeks," "estimates," and similar expressions are cautionedgenerally intended to identify forward-looking statements. You should not to place undue
reliance on thethese forward-looking statements, which speak only as of the date of this Quarterly Report on Form 10-Q. The
Company undertakesWe undertake no obligation to publicly release any revisions to the
forward-looking statements or reflect events or circumstances after the date of this document.
RESULTS OF OPERATIONS
Overview
Founded in 1982, Adobe Systems Incorporated ("Adobe" or the "Company") is a provider of graphic design, publishing, and imaging software for Web and print production. The Company builds award-winningWe offer
a market-leading line of application software products, type products, and content for creating, distributing, and managing information of all types. We license our technology to major hardware
manufacturers, software developers, and service providers, and we offer integrated software solutions for Web and graphic designers, professional publishers, document-intensive organizations, business users, and consumers. Adobe's
products enable customers to create, publish, and deliver visually rich images and documents across virtuallybusinesses of all print and electronic media. The Company distributes itssizes. We distribute our products through a network of distributors and
dealers, value-added resellers ("VARs"), systems integrators, and original equipment manufacturer ("OEM") customers, distributorscustomers; direct to end users through Adobe call centers; and dealers, and value-added resellers ("VARs") and system integrators, and hasthrough our own Web site atwww.adobe.com. We have operations in North America, Europe, Japan, Asia
Pacific,the Americas, EMEA (Europe, Middle East, and Latin America.Africa), and Asia.
12
The
following table sets forth for the threequarters ended March 3, 2000 and nine month periods ended September 3,March 5, 1999, and August 28, 1998, the Company'sour condensed consolidated statements of income expressed as a percentage of total
revenue:
| |
|||||||||
|---|---|---|---|---|---|---|---|---|---|
| |
1999 | ||||||||
| 100.0 | 100.0 | ||||||||
| Direct costs | |||||||||
| Gross margin | |||||||||
| Operating expenses: | |||||||||
| Research and development | |||||||||
| Sales and marketing | |||||||||
| General and administrative | 11.2 | ||||||||
| (0.2 | ) | — | |||||||
| Total operating expenses | |||||||||
| Operating income |
|||||||||
| Nonoperating income, net: | |||||||||
| Investment gain | |||||||||
| Interest and other income | |||||||||
| Total nonoperating income |
|||||||||
| Income before income taxes | |||||||||
| Provision for income taxes | |||||||||
| Net income | % | % | |||||||
Revenue
| |
Change |
||||||||
|---|---|---|---|---|---|---|---|---|---|
| |
(Dollars in millions) |
|
|||||||
| $ | $ | ||||||||
| % | |||||||||
ForOur
revenue is categorized into four operating segments: Web Publishing, Print Publishing, ePaper Solutions, and OEM PostScript and Other. The Web Publishing, Print Publishing, and
ePaper Solutions segments include application products revenue that is derived predominantly from shipments of application software programs marketed through retail, VAR, and OEM distribution
channels, as well as direct through our Web site and call centers. The OEM PostScript and Other segment includes licensing revenue, which is made up of royalties received from OEM customers who ship
products containing Adobe PostScript technology, and includes other miscellaneous revenue.
Total
revenue increased $55.3 million, or 24.4%, compared to the thirdfirst quarter and first nine months of fiscal 1999 due to increased licensing of our products in the ePaper Solutions, Web
Publishing, and Print Publishing segments. The ePaper Solutions segment contributed significantly to the revenue growth as revenue more than doubled compared to the same period last year, increasing
from $16.5 million in the first quarter of fiscal 1999 to $43.4 million in the first quarter of fiscal 2000. The growth was primarily due to increased as a resultlicensing of Adobe Acrobat 4.0,
which was fueled by the growth of the Web and the penetration of Acrobat and its related technologies into major industry sectors and various government agencies.
Revenue from our Web Publishing segment grew approximately 36% from $83.7 million in the first quarter of fiscal 1999 to $113.9 million in the first quarter of fiscal 2000. Revenue from this segment
13
increased
primarily due to the continued strength of Adobe Photoshop 5.5. This segment also benefited from the release of new application products later in fiscal 1999, such as our Dynamic Media Collection, Web
Collection, and upgrades and an improvementGoLive products, as well as continued growth from After Effects 4.1. The increase in the Company's Japanese
operation. These increases wererevenue from this segment was partially offset by a decline in licensing revenue.revenue from Adobe PhotoDeluxe and
PageMill.
Additional revenue growth was achieved through our Print Publishing segment, which increased 5% compared to the first quarter of fiscal 1999, from $89.0 million to $93.5 million. The increase in revenue from this segment was primarily due to the introduction of InDesign and the Design Collection products in the second half of fiscal 1999. This increase was partially offset by a decline in revenue from our Adobe Publishing Collection product, which, in the first quarter of fiscal 1999, generated significant revenue after its initial release in North America, Japan, and the Asia Pacific countries. In addition, the increase in revenue was partially offset by a decline in revenue from FrameMaker, Illustrator, and PageMaker as each of these products are later in their current product cycle.
The growth in revenue in the above operating segments was partially offset by a decline in revenue from the OEM PostScript and Other segment of $6.3 million, or 17%. We expect our OEM PostScript license business to continue to be relatively flat or decline for the remainder of the year relative to the first quarter of fiscal 2000.
We categorize our geographic information into three major market regions: the Americas; Europe, Middle East and Africa (EMEA); and Asia. In the first quarter of fiscal 2000, revenue generated in the Americas, EMEA, and Asia represented 54%, 29%, and 17% of total revenue, respectively, compared to 53%, 28%, and 19%, respectively, in the first quarter of fiscal 1999.
Total application platform mix (excluding platform independent and UNIX revenues) for the first quarter of fiscal 2000 was split 60% on Windows and 40% on Macintosh as compared to 57% and 43%, respectively, for the first quarter of fiscal 1999.
Licensing revenue:Direct costs
| |
Change |
||||||||
|---|---|---|---|---|---|---|---|---|---|
| |
(Dollars in millions) |
|
|||||||
Licensing revenue is made up of royalties received from OEM customers who ship products containing Adobe's PostScript technology, including PostScript 3, PrintGear, and Extreme.
Licensing revenue decreased in the third quarter and first nine months of fiscal 1999 compared to the same periods last year primarily due to the ongoing weakness in the monochrome
laser printer and Japanese personal computer and printer markets. In addition, licensing revenue declined due to the loss of royalty revenue from Hewlett-Packard Company's ("HP") desktop monochrome
laser printer division, which has been incorporating a clone version of Adobe PostScript software into its products since the fall of 1997.
The Company continues to be cautious about licensing revenue because of weakness in the monochrome laser printer segment, Japanese market conditions, and the uncertain timing of OEM
customer introductions of products incorporating Adobe's latest technologies. Excluding shrinkwrap printing technology products, the Company anticipates that its traditional OEM PostScript licensing
revenue will continue to decline in fiscal 2000.
Application products revenue:
Application products revenue is derived predominantly from shipments of application software programs marketed through retail, OEM, and VAR distribution channels.
During the third quarter and first nine months of fiscal 1999, application products revenue was higher than that of the same periods last year due to the release of a number of new
products and upgrades of existing products. The release of Acrobat 4.0 in the first half of fiscal 1999, and the introduction of the Company's product collections, including Adobe Publishing
Collection, Adobe DynamicMedia Collection, Adobe Web Collection, and Adobe Design Collection, were the primary factors contributing to the overall revenue growth. The Company also benefited from
revenue related to the release in the third quarter of fiscal 1999 of Photoshop 5.5, as well as revenue related to the recent releases of After Effects 4.1 and Adobe Type Manager Deluxe 4.5 in the
first half of fiscal 1999, and Illustrator 8.0, released in the fourth quarter of fiscal 1998.
In addition, the increase in application products revenue was due in part to the shipment of two new products: GoLive 4.0, the Company's new professional web design and publishing
software, which was released in the first half of fiscal 1999, and InDesign, the Company's new page-layout application software, which was released in the third quarter of fiscal 1999.
The increased revenue generated by these newly released products and upgrades was partially offset by the following factors: a decline in revenue from Framemaker and PageMaker which
are late in the life cycle of the current versions of the products, and the absence of revenue from businesses divested in the third quarter of fiscal 1998, totaling $6.6 million and
$20.1 million in the third quarter and first nine months of fiscal 1998, respectively.
Direct costs
| Direct costs | $ | $ | |||||||
| ( |
)% | ||||||||
| Percentage of total revenue | % | % | |||||||
| Gross margin | 92.7 | % | 90.1 | % | |||||
Certain reclassifications that affected both direct costs and operating expenses were made to the fiscal 1998 consolidated statements of income to conform to the fiscal 1999
presentation. These reclassifications did not impact total operating profit for fiscal 1998.
Direct costs increased slightly in the third quarter of fiscal 1999 due to a higher unit volume shipped during the quarter compared to the same period last year. The increase was
partially offset by lower excess and obsolete inventory due to effective inventory management control and lower material costs as a result of the Company's ongoing cost improvement program.
Direct
costs decreased in absolute dollars in the first nine monthsquarter of fiscal 19992000 compared to the same period last year due primarily to improvementsproduct mix, lower royalty costs, and reductions in
inventory management and lower unit cost of
materialsmaterial costs as a result of the Company'sour ongoing cost improvement program.
The Company anticipates We anticipate that gross margin for the remainder ofthroughout fiscal 19992000 will be consistent with the third quarterbetween 91% and 92% of fiscal 1999.
As a result of the ongoing cost improvement programs, the Company anticipates that gross margin will be approximately 91% during fiscal 2000. However, these cost reductions may be
partially offset by increases in direct costs related to product launches, the amortization of capitalized software in accordance with Statement of Financial Accounting Standards No. 86,
"Accounting for the Costs of Computer
Software to be Sold, Leased, or Otherwise Marketed," as well as amortization of purchased technologies associated with acquired products or technologies.revenue.
Operating expenses
Certain reclassifications that affected both direct costs and operating expenses were made to the fiscal 1998 consolidated statements of income to conform to
the fiscal 1999 presentation. These reclassifications did not impact total operating profit for fiscal 1998.
Research and development:
| |
Change |
||||||||
|---|---|---|---|---|---|---|---|---|---|
| |
(Dollars in millions) |
|
|||||||
| Research and development | $ | $ | |||||||
| Percentage of total revenue | % | ||||||||
| % | |||||||||
Research
and development expenses decreasedincreased $12.6 million, or 28.0%, in the thirdfirst quarter and first nine months of fiscal 19992000 compared to the same periodsperiod last year, primarily due to a decrease in salaries expense as a
result of lower headcount, and decreases in general office expenses, depreciation, purchased software, and professional fees as a result of the Company's fiscal 1998 restructuring program and other
cost reduction efforts implemented at that time. These decreases were partially offset by higher
incentive compensation expenses associated with the improvement in the Company's financial performance
in fiscal 1999 over the third quarterexpenses. The increase was also attributable to increased salaries related to headcount growth and first nine months of fiscal 1998.increased outside labor costs to support our increased product development
efforts.
14
The Company believes that continued investments in research and development, including the recruiting and hiring of software developers, are critical to remain competitive in the
marketplace, and are directly related to continued, timely development of new and enhanced products. The CompanyWe
will continue to make significant investments in the development of itsour application software products, including those targeted for the growing Internet market. The Company expectsWe expect that
research and development expensesexpenditures for the remainder of fiscal 1999 and fiscal 2000 will increase in absolute dollars. SuchWe have targeted such expenditures are targeted to be approximately 20% of revenue infor the remainder of
fiscal 2000.
Sales and marketing:
| |
Change |
||||||||
|---|---|---|---|---|---|---|---|---|---|
| |
(Dollars in millions) |
|
|||||||
| Sales and marketing | $ | $ | % | ||||||
| Percentage of total revenue | % | ||||||||
| % | |||||||||
The slightSales
and marketing expenses increased $9.3 million, or 11.8%, in the first quarter of fiscal 2000 compared to the same period last year, primarily due to higher incentive
compensation expenses. In addition, sales and marketing expenses were higher as a result of direct marketing and advertising campaigns focused on increasing our presence in the Web professional
publishing market. Partially offsetting the increase in sales and marketing expenseswas a decline in the third quarter and first nine months of fiscal 1999 reflect the increase in incentive compensation expense associated with
the improvement in the Company's financial performance in fiscal 1999 over the same periods last year. This increase was partially offset by decreases in brand advertising expenses, promotional
expenses, and professional feessalaries from lower headcount as a result of the restructuring programs implemented in fiscal 1998 restructuring program, as well as1999. As a
decrease in newsletter and catalog expenses as a resultpercentage of the divestiture of a business unit in the
third quarter of fiscal 1998.
Salesrevenue, sales and marketing expenses are expecteddecreased primarily due to increase in absolute dollars overa higher revenue base. We have targeted sales and marketing expenses to be between 32% and 33% of revenue for the
remainder of fiscal 1999 and fiscal 2000 to support investments in e-commerce and
enhanced marketing activities. For fiscal 2000, the Company's sales and marketing expense target is approximately 32% of revenue.2000.
General and administrative:
| |
Change |
||||||||
|---|---|---|---|---|---|---|---|---|---|
| |
(Dollars in millions) |
|
|||||||
| General and administrative | $ | $ | |||||||
| Percentage of total revenue | % | % | |||||||
General and administrative expenses increased $1.4 million, or 5.3%, in fiscal 2000 compared to the same period last year, primarily due to increased bad debt expense associated with certain customers whose accounts were deemed potentially uncollectible. As a percentage of revenue, general and administrative expenses decreased in the first quarter of fiscal 2000 compared to the first quarter of fiscal 1999. This decrease was primarily attributable to cost saving measures as a result of the fiscal 1999 and 1998 restructuring programs and a higher revenue base.
We expect that general and administrative spending will increase in absolute dollars for the remainder of fiscal 2000 to support ongoing administrative infrastructure needs. However, as a percentage of revenue such expenditures are targeted to be approximately 9% of revenue.
| | 2000 | 1999 | Change | ||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|
| | (Dollars in millions) | | |||||||||
| |
|
|
|
|
|
||||||
| $ | ) | — | |||||||||
| Percentage of total revenue | )% | ||||||||||
General and administrative expenses decreased inDuring
the thirdfirst quarter of fiscal 1999 compared to2000, we revised our estimates of the same period last year primarily due to lower professional fees and lower bad debt
expense. During the third quarter of fiscal 1998, professional fees were higher as the Company incurred increased investment-banking feestotal costs associated with an unsolicited acquisition proposal. Bad debt
expense was also higher in the third quarter of fiscal 1998 to reserve for certain accounts receivable in Asia that were deemed to be potentially uncollectible. In addition, general and administrative
expenses decreased in the third quarter of fiscal 1999 dueand 1998 restructuring programs, resulting in an adjustment of
approximately $0.7 million. The adjustment primarily reflects lower than estimated severance and related charges attributable to lower building expensesemployees whose positions were eliminated as a result of the
restructurings but who were able to find alternative employment within Adobe. The remaining adjustment was due to lower than expected charges related to vacating certain leased facilities during the fourth quarter of fiscal 1998.facilities.
15
General and administrative expenses decreased forFor
a detailed discussion of the first nine months of fiscal 1999 compared to the same period last year due to a decreasethree restructuring programs we implemented in legal and professional fees, bad debt
expense, building expenses, and the amortization of goodwill. In the third quarter of fiscal 1998, amortization of goodwill included the write-off of $2.4 million of goodwill
associated with an acquisition that took place in 1997. These decreases were offset by an increase in incentive compensation expense associated with the improvement in the Company's financial
performance in the first nine months of fiscal 1999 over the same period last year.
The Company expects that general and administrative spending will remain flat or slightly increase in absolute dollars over the remainder of fiscal 1999 and fiscal 20001998, please refer to support
ongoing administrative
infrastructure needs. However, such expenditures are targeted to decrease to approximately 9% of revenue in fiscal 2000.our 1999 Annual Report on Form 10-K.
Restructuring and other charges:
| |
Change |
||||||||
|---|---|---|---|---|---|---|---|---|---|
| |
(Dollars in millions) |
|
|||||||
| $ | $ | ||||||||
| Percentage of total revenue | % | ||||||||
| % | |||||||||
InAmortization
of goodwill in the secondfirst quarter of fiscal 2000 and fiscal 1999 primarily relates to the Company began the implementationacquisition of a Board approved restructuring program to further enhance the Company's operating model by improving
productivity and efficiencies throughout the Company. The restructuring program was completed in the third quarter of
fiscal 1999. As partsubstantially all of the restructuring program, the Company implementedassets of GoLive Systems, Inc. and
a reductionrelated partnership (together "GoLive Systems") in force of 216 positions, of which two were executive positions. The reduction in force primarily affected its
European headquarters in Edinburgh, Scotland and its North American headquarters in San Jose, California. In addition to severance and related charges associated with the reduction in force,
the restructuring program included charges for vacating leased facilities. These restructuring actions resulted in total charges of $15.4 million and $2.2 million, in the second and
third quarters of fiscal 1999, respectively. Of the total $17.6 million restructuring charge, approximately $0.1 million were non-cash charges.
The restructuring charge recorded in the third quarter of fiscal 1999 of $2.2 million represents the completion of the restructuring plan announced during the second quarter of
fiscalJanuary 1999. The $2.2 million charge was offset by adjustments made in the third quarter, totaling $3.8 million, which reflect revised estimates related to the Company's restructuring
charges incurred during the second quarter of fiscal 1999 and previous restructurings in both fiscal 1998 and 1994. For detailed information regarding the adjustments and the Company's restructuring
program, see Note 4 of the Notes to Consolidated Financial Statements.
Additionally, during the third quarter of fiscal 1999, the Company recorded other charges of $6.0 million that were unusual in nature. These charges included
$2.0 million associated with the cancellation of a contract, and $1.2 million for accelerated depreciation related to the adjustment of the useful life of certain assets as a result of
decisions made by management as part of the restructuring program. Additionally, the Company incurred a non-recurring compensation charge totaling $2.6 million for a terminated
employee, and incurred consulting fees of $0.2 million to assist in the restructuring of the Company's operations.
The Company believes that the savings realized under the restructuring program will be invested in programs and people to enhance revenue growth by significantly increasing its
investment in e-business and enhanced marketing activities. The Company also believes that these savings will assist the Company in achieving its operating model targets of 20%, 32% and 9%
of revenue for research and development, sales and marketing, and general and administrative expenses, respectively, in fiscal 2000.
In the third quarter of fiscal 1998, the Company implemented a restructuring program aimed at streamlining its underlying cost structure to better position the Company for growth and
profitability. As part of the restructuring program, the Company implemented a reduction in force of 364 positions, primarily in its North American operations. The reductions came predominantly
from overhead areas, divested business units, and redundant marketing activities, and as of August 31, 1998, the majority of these terminations were completed. In addition to severance and
related charges associated with the reduction in force, the restructuring program included charges for divesting two business units, vacating leased facilities, and canceling certain contracts. These
actions and other non-restructuring related items resulted in charges of $37.9 million, of which approximately $9.3 million were non-cash charges.
In addition to the aforementioned items, included in restructuring and other charges for the first nine months of fiscal 1998 are expenses associated with the reduction in force in
the Company's Printing and Systems business as part of the Company's initiative to refocus resources on high-growth opportunities in the printing and digital copier markets.
Nonoperating income net
Investment gain:
| |
Change | ||||||||
|---|---|---|---|---|---|---|---|---|---|
| |
(Dollars in millions) |
|
|||||||
| Investment gain | $ | $ | |||||||
| Percentage of total revenue | % | ||||||||
During
the thirdfirst quarter of fiscal 1999, the Company2000, we recorded a net realized gain of $9.4 million related to the sale of a portion of its investment in Vignette Corporation
("Vignette"). The Company also recorded an investment gain totaling $7.0 million due to the mark-to-market adjustment of Tumbleweed Communications Corporation. These
investment gains were partially offset by investment losses totaling $3.2 million related to mark-to-market adjustments of various other Adobe Venture investments.
During the first nine months of fiscal 1999, the Company recorded investment gains from mark-to-market adjustments totaling $17.8$4.7 million and
$2.7 millionprimarily related to investments in
Electronic Submission Publishing Systems, Inc. and Salon.com, respectively. These gains were partially offset by an investment loss of
$5.2 million related to the acquisition of PointCast,Virage, Inc., a former investeeImpresse Corporation, Digimarc Corporation, and HAHT Software, Inc. We are uncertain of future investment gains and losses, as they are primarily dependent upon the
operations of the Company, by idealab!. In connection with the acquisition, the Company exchanged its shares of
PointCast, Inc. for approximately 542,000 shares of idealab!'s Lauchpad Technologies, Inc.underlying investee companies.
Additionally, for the first nine months of fiscal 1999, the Company recorded a total of $10.4 million in net realized gains related to the sale of shares in Vignette in
addition to a total of $5.6 million in investment losses related to mark-to-market adjustments of various other Adobe Venture investments.
For the first nine months of fiscal 1998, the investment gain consisted principally of two transactions. McQueen International Limited ("McQueen"), a former investee of the Company,
was acquired by Sykes Enterprises, Incorporated ("Sykes"), a publicly traded company. In connection with the acquisition, the Company exchanged its shares of McQueen for approximately 487,000 shares
of Sykes' restricted common stock and recorded a gain on the exchange of $6.7 million. In the third quarter of fiscal 1998, these shares were sold and an additional gain was recorded. In
addition, the Company liquidated its investment in Siebel Systems, Incorporated ("Siebel") through the distribution to its stockholders of approximately 165,000 shares of Siebel as a
dividend-in-kind and the sale of its remaining Siebel shares. A gain was recognized on the transaction of approximately $5.7 million.
Interest and other income:
| |
Change |
||||||||
|---|---|---|---|---|---|---|---|---|---|
| |
(Dollars in millions) |
|
|||||||
| Interest and other income | $ | $ | ( |
)% | |||||
| Percentage of total revenue | % | ||||||||
| % | |||||||||
Interest
and other income decreased in the thirdfirst quarter and first nine months of fiscal 19992000 compared withto the corresponding periods last yearsame quarter in fiscal 1999 due to lower average cash balances asthroughout the quarter. In
addition, a resultmajority of stock repurchasesour fixed income investments are made in tax-exempt securities, resulting in lower pre-tax interest income. The decrease in fiscal 1999.2000 in interest and other income was mainly
offset by gains resulting from the sale of some corporate assets.
Provision for income taxes
| |
Change |
||||||||
|---|---|---|---|---|---|---|---|---|---|
| |
(Dollars in millions) |
|
|||||||
| Provision for income taxes | $ | $ | % | ||||||
| Percentage of total revenue | % | % | |||||||
| Effective tax rate | % | ||||||||
| 36.5 | % | ||||||||
The Company'sOur
effective tax rate decreased in the thirdfirst quarter and first nine months of fiscal 2000 compared to fiscal 1999 primarily due to tax benefits associated with a decrease in nondeductible goodwill amortization.
The Company expects that therestructuring of our international operations. We
expect our effective tax rate for the remainder of fiscal 1999 will be between 36%-37% and will decrease in fiscal 2000 to be approximately 35%-36%.
Factors that may affect future resultsThat May Affect Future Results of operationsOperations
The Company believesWe believe that in the future itsour results of operations could be affected by various factors, such as including:
16
The Company hasWe
have stated that infor the first two quarters of fiscal 1999 its2000 our annual revenue growth target is 15% after consideration of businesses divested in the third quarter of fiscal 1998; that it expects its
gross margin for the remainder of fiscal 1999 will be consistent with the third quarter of fiscal 1999; and that its operating margin target, after consideration of businesses divested in the third
quarter of fiscal 1998, is 27.8% of
total revenue based on actual results for the first three quarters of fiscal 1999 and the Company's fourth quarter operating margin target. The Company has also stated that in fiscal 2000 its annual
revenue growth target will be 20% over fiscal 1999 revenue and that itsour gross margin and operating profit margin
targets are between 91% and 92% and 30%, respectively. For the second half of fiscal 2000 beginning June 3, 2000, we have stated that our annual revenue growth target is 25% over fiscal 1999
revenue and that our operating profit margin target is 30%. Additionally, in fiscal 2000, our operating model targets for its research and development, sales and marketing, and general and administrative
expenses are 20%, between 32% and 33%, and 9% of revenue, respectively. Theserespectively, and our effective tax rate target is approximately 35%. We use these targets are used to assist the Company's
managementus in making decisions about theour
allocation of resources and investments, not as predictions of future results. The targets reflect a number of assumptions, including assumptions about the
Company'sabout:
These
and many other factors described hereinin this report affect the Company'sour financial performance and may cause the Company'sour future results, including results for the current quarter, to vary materially
from these targets.
The Company'sOur
ability to develop and market products, including upgrades of current products that successfully adapt to changing customer needs, may also have an impact on theour results of
operations. The Company'sOur ability to extend itsour core technologies into new applications and to anticipate or respond to technological changes could affect itsour ability to develop these products. A portion of the Company'sour
future revenue will come from these new applications. Delays in product or upgrade introductions, whether by the Companyus or itsby our OEM customers, could have an adverse effect on
the Company'scause a decline in our revenue, earnings, or stock price.
The CompanyWe cannot determine the ultimate effect that these new products or upgrades will have on itsour revenue or results of operations.
The
market for the Company'sour graphics applications, particularly theour consumer and Web publishing products, is intensely and increasingly competitive and is significantly affected by product
introductions and market activities of industry competitors. Additionally, Microsoft Corporation ("Microsoft") has increased its presence in the digital imaging/graphics market; the Company believeswe believe that, due
to Microsoft's market dominance, any new Microsoft digital imaging products will be highly competitive with the Company'sour products. If competing new products achieve widespread acceptance, itour operating results
would have
a significant adverse impact on the Company's operating results.suffer.
The CompanyWe
generally offers its applicationoffer our application-based products on Macintosh, Windows, and UNIX platforms, and we generally offer our server-based products on the Linux platform as well as these
three platforms. To the
17
extent
that there is a slowdown of customer purchases of personal computers on a particular platformeither the Windows or Macintosh platforms or in general, the Company's operating resultsour business could be materially adversely affected.harmed.
Adobe distributes itsWe
distribute our application products primarily through distributors, resellers, and retailers (collectively referred to as "distributors"). A significant amount of the Company'sour revenue for
application products is from a single distributor. The Company is in the process of revising itsWe have revised our channel program to reduce the overall number of itsour distributors worldwide and focus itsour channel efforts on larger distributors.
This revision of the channel program has resulted in an increase in the Company'sour dependence on sucha smaller number of distributors selling through a larger amount of the
Company'sour products. Additionally, the Company'sour goal is to
increase itsour direct distribution of itsour products to end users through its on-lineour online store located on our Web site at Adobe.com, the Company's
Internet site.www.adobe.com. Any such increase in
the Company'sour direct revenue efforts will place the Companyus in increased competition with itsour channel distributors and with newer types of distribution of the
Company'sour products by online, Internet-based resellers of Adobeour
products. While it is anticipatedwe anticipate that the restructuring and streamlining of the Company'sour product distribution channels and increasingthe increase in the scope of itsour direct sales efforts will eventually lead to an increase in profitability as a result of decreases inimprove our
business by decreasing discounts or rebate programs provided to distributors, decreases indecreasing product returns, and shortershortening inventory cycles, such restructuringthese changes could instead have an adverse material impact on future results of operations and revenues.seriously harm our business.
In
addition, the Company continueswe continue to expand into third-party distribution channels, including value-added resellers and systems integrators, in itsour effort to further broaden itsour customer base.
As a result, the financial health of these third parties and the Company'sour continuing relationships with them are becoming more important to the Company'sour success. Some of these companies are thinly capitalized and may
be unable to withstand changes in business conditions. The Company's financial resultsOur business could be adversely affectedseriously harmed if the financial condition of certainsome of these third parties substantially weakens or if the Company'sour relationships
with them deteriorate. Also, as the Company seekswe seek to further broaden itsour customer base to achieve greater penetration in the corporate business and consumer markets, the Companywe may not successfully adapt itsour application software distribution
channels, which could materially adversely affect the Company'scause our operating results.
The Companyresults to suffer. We could experience decreases in average selling prices and some transitions in itsour distribution channels that could materially adversely affect its operating results.seriously harm our
business.
The CompanyWe
currently reliesrely on twothree manufacturers of itsour products, each located in a different region. In addition, the Company intends to add a third manufacturerregion; one of these has just been added in the first quarter of fiscal 2000. If a manufacturer
terminates its relationship with the Companyus or the Company'sif our supply from a manufacturer
is interrupted or terminated for any other reason, the Companywe may not have sufficientenough time to replace the supply of products manufactured
by that manufacturer.manufacturer to avoid harm to our business.
The Company's licensing revenueRevenue
from our OEM PostScript and Other segment experienced a 16.6%17% decline in the first nine months of fiscal 19992000 compared to the first nine monthssame period in fiscal 1999, primarily as a result of fiscal 1998. The Company expectsa decline in revenue
from the licensing of PostScript technology. We expect this trend to continue and believesbelieve that itsour financial results could be adversely affected.harmed by it. The ongoing weakness in the monochrome laser printer market
as a result of the decline in average selling prices of monochrome laser printers and Japanese marketthe increasing use of inkjet printers was a factor causing the revenue decline. In addition, in the fallloss of fiscal 1997, HP began to shiproyalty
revenue from Hewlett-Packard Company's desktop monochrome laser printer division, which has been incorporating a clone version of Adobe PostScript technology in some printers, resultinghas resulted in lower
licensing revenue to us over the Company in fiscal 1998, evenpast three years. Even though the Company continueswe continue to work with HP printer operations to incorporate Adobe PostScript and other technologies ininto other HP products. The Company expectsproducts, we expect
continued lower licensing revenue in this segment from HP infor the remainder of fiscal 1999.2000. If other significant customers also decide to incorporate a clone version instead of Adobe PostScript technology, it
could adversely affect the Company's financial results.seriously harm our business. Further, OEM customers on occasion seek to renegotiate their royalty arrangements. The Company evaluatesWe evaluate these requests on a case-by-case basis. If an agreement is not
reached, a customer may decide to pursue other options, which could result in lower licensing revenue for the Company.us.
SinceFrom
the end of fiscal 1997 through the first quarter of fiscal 1999, the Companywe experienced a decline in both application and licensing revenue from the Japanese market due to a weak Japanese computer market and general
economic conditions in Japan. During the second and third quarters of fiscal 1999, the Company experienced an increase in applicationAlthough revenue from itsour Japanese operation but still continued to experience a decline in licensing revenue. In addition, at the end of fiscal 1997, inventory levels for application products at the Company's Japanese
distributors remained higher than what the Company considers normal. During fiscal 1998, the Company worked with its major distributors in Japan to reduce channel inventory to what the Company
considers a reasonable level. Despite the slight improvement in the Japanese economy in the second and third quarters of fiscal 1999, has increased slightly since that time,
18
these
adverse economic conditions may continue in the short term, and they may continue to adversely affect the Company'sour revenue and earnings. Although there are also adverse conditions in other Asian and
Latin American economies, the countries affected represent a much smaller portion of the Company'sour revenue and thus have less impact on the Company'sour operational results.
The CompanyWe
recently implemented restructurings of itsour business in the second, third, and thirdfourth quarters of fiscal 1999, resulting in a workforce reduction of 8%9%. However, the Company planswe plan to continue
to invest in certain areas, which will require itus to hire additional employees. Competition for high-quality personnel, especially highly skilled engineers, is extremely intense. The
Company'sOur ability to
effectively manage itsthis growth will require itus to continue to improve itsour operational and financial controls and information management systems and to attract, retain, motivate, and manage employees
effectively. The failure of the Company to effectively manage growth and transition in multiple areas of itseffectively; otherwise our business could have a material adverse effect on its results of
operations.be seriously harmed.
The
Internet market is rapidly evolving and is characterized by an increasing number of market entrants that have introduced or developed products addressing authoring and
communicationscommunication over the Internet. As is typical in the case of a new and evolving industry, demand and market acceptance for recently introduced products and services are subject to a high level of
uncertainty. The software industry addressing authoring and communications over the Internet is young and has few proven products. Standards defining Web graphics have not yet been finally adopted. In
addition, new models for licensing software will be needed to accommodate new information delivery practices. Moreover, critical issues concerning the commercial use of the Internet (including
security, reliability, ease of use and access, cost, and quality of service) remain unresolved and may affect the growth of Internet use, together with the software standards and electronic media
employed in such markets. The Company has
We
have stated that it intendswe intend to increase itsour investment in e-businesseBusiness and enhanced marketing activities in an effort to achieve revenue growth, but therewe can beprovide no assurance that
such increased investment in this new market will result in increased revenue.
The Company derivesWe
derive a significant portion of itsour revenue and operating income from itsour subsidiaries located in Europe, Japan, Asia Pacific, and Latin America. The CompanyWe generally experiencesexperience lower
revenue from itsour European operations in the third quarter because many customers reduce their purchasing activities in the summer months. Additionally, the Company iswe are uncertain whether the recent weakness
experienced in the Japan, Asia Pacific, and Latin America markets will continue in the foreseeable future due to possible currency devaluation and liquidity problems in these regions. While most of
the revenue of theour European subsidiaries is denominated in U.S. dollars, the majority of our revenue derived from Japan is denominated in yen, and the majority of all our subsidiaries' operating
expenses are denominated in their local currencies. As a result, the Company'sour operating results are subject to fluctuations in foreign currency exchange rates. To date, the financial impact of such
fluctuations has not been insignificant. The Company'ssignificant. Our hedging policy attempts to mitigate some of these risks, based on management'sour best judgment of the appropriate trade-offs among risk, opportunity, and expense. The Company hasWe
have established a hedging program to hedge itsour exposure to foreign currency exchange rate fluctuations, primarily of the Japanese yen. The Company'sOur hedging program is not comprehensive, and there can be no assurance that theour program willmay
not offset more than a portion of the adverse financial impact resulting from unfavorable movement in foreign currency exchange rates.
On January 1, 1999, eleven of the fifteen member countries of the European Union adopted the euro as their common legal currency and established fixed conversion rates between
their existing sovereign currencies and the euro. The euro trades on currency exchanges and is available for non-cash transactions. Based on its preliminary assessment, the Company does
not believe the conversion will have a material impact on the competitiveness of its products in Europe, where there already exists substantial price transparency, or increase the likelihood of
contract cancellations. Further, the Company expects that modifications to comply with euro requirements have been and will continue to be made to its business operations and systems on a timely basis
and does not believe that the cost of such modifications will have a material adverse impact on the Company's results of operations or financial condition. There can be no assurance, however, that the
Company will be able to continue to complete such modifications on a timely basis; any failure to do so could have a material adverse effect on the Company's results of operations or financial
condition. In addition, the Company faces risks to the
extent that suppliers, manufacturers, distributors and other vendors upon whom the Company relies and their suppliers are unable to make appropriate modifications to support euro transactions. The
inability of such third parties to support euro transactions could have a material adverse effect on the Company's results of operations or financial condition.
In
connection with the enforcement of itsour own intellectual property rights or in connection with disputes relating to the validity or alleged infringement of third partythird-party rights, the
Company haswe
have been and may in the future be subject to complex, protracted litigation as part of itsour policy to vigorously defend itsour intellectual property rights. Intellectual property litigation is typically
very costly and can be disruptive to our business operations by diverting the attention and energies of management and key technical personnel. Although the Company haswe have successfully defended past litigation,
there can be no assurance that it willwe may not prevail in any ongoing
or future litigation. Adverse decisions in such litigation could subject the Companyhave negative results, including subjecting us to significant liabilities, require
the Companyrequiring us to seek licenses from others, prevent the Companypreventing us
from manufacturing or sellinglicensing certain
19
of
itsour products, or causecausing severe disruptions to the Company'sour operations or the markets in which it
competes,we compete, any one of which could have a material adverse effect on the results of operations or financial condition of the Company.seriously harm our business.
The Company prepares itsWe
prepare our financial statements in conformity with generally accepted accounting principles ("GAAP"). GAAP are subject to interpretation by the American Institute of Certified
Public Accountants (the "AICPA"), the Securities and Exchange Commission (the "SEC"), and various bodies formed to interpret and create appropriate accounting policies. A change in these policies can
have a significant effect on the Company'sour reported results and may even affect the reporting of transactions completed before a change is announced. Accounting policies affecting many other aspects of the
Company'sour
business, including including:
have
recently been revised or are under review by one or more of these groups. Changes to these rules or the questioning of current practices may have a significant adverse
effect on the Company'sour reported financial results or in the way in which the Company conducts itswe conduct our business.
Due
to the factors noted above,earlier, as well as the Year 2000 issues noted below, the Company'slater, our future earnings and stock price may be subject to significant volatility, particularly on a
quarterly basis. Any shortfall in revenue or earnings from levels expected by securities analystscompared to analysts' or investors' expectations could have,cause, and has hadcaused in the past, an immediate and significant adverse effect ondecline in the trading
price of the Company'sour common stock in any given period.stock. Additionally, the Companywe may not learn of such shortfalls until late in the fiscal quarter, which could result in an even more immediate and adverse
effect ongreater decline in the trading price of
the Company'sour common stock. Finally, the Company participateswe participate in a highly dynamic industry. In addition to factors specific to the Company,us, changes in analysts' earnings estimates for the Companyus or itsour industry, and factors affecting the
corporate environment, the Company'sour industry, or the securities markets in general will often result in significant volatility of the Company'sour common stock price.
"Year 2000"2000 Issues
The Company is addressing a broad rangeAs of issues associated with the programming code in existing computer systems as the yearMarch 31, 2000, approaches. The "Year
2000" problem is complex, as many computer systems will be affected in some way by the rollover of the two-digit year value to 00. Systems that dowe have not properly recognize such information
could generate erroneous data or cause a system to fail. Theexperienced any material Year 2000 issue creates risk for the Company from unforeseen problemsrelated disruptions in its products or its own computer and embedded systems and from
third parties with whom the Company deals on financial and other transactions worldwide. Failure of the Company's and/or third parties' computer systems orour operations. While we believe most Year 2000 defects in the Company's products couldproblems
should have a material impactbecome evident on the Company's ability to conduct its business.
The Company has commenced aJanuary 1, 2000, additional Year 2000 related problems may only become evident after that date. Our worldwide phased program to inventory, assess, remediate, test,
implement, and develop contingency plans for all mission-critical applications and products potentially affected by the Year 2000 issue (the "Y2K Program"). All phases, except developing contingency plans, have beenY2K Program) was described in our 1999 Form 10-K.
This program was substantially completed; contingency plans for high-impact
processes have been substantially drafted and will continuecompleted prior to be revised and updated through the end of the calendar year and other contingency plans will be prepared and updated as deemed
practicable and appropriate byend. Our total incremental spending over the Company. Additionally, the Company has opened a dedicated Year 2000 test laboratory for both internal business process and product testing. All Company business
groups are involved inlife of the Y2K Program efforts.
The Company has identified three potential areas of impact for review: (1) the software and systems, including embedded systems, used in the Company's internal business
processes; (2) third-party vendors, manufacturers and suppliers, and (3) the Company's software products offered to customers. The Company's current estimate of the aggregate costs to be
incurred for the Y2K Program iswas approximately $3.0$3 million, which is expected to bewe funded from
operating cash flows. If the Company encounters significant unforeseen Year 2000 problems, either
in its products or internal business systems or in relation to third party vendors, manufacturers or suppliers, actual costs could materially exceed this estimate.
Internal business processes. The Company has substantially completed its inventory of Year 2000 impacted software,
assessing its centralized computer and embedded systems to identify any potential Year 2000 issues, remediating, testing and implementing solutions for any identified issues. The Company's financial
information systems include an SAP system recently upgraded in the United States, Japan, Asia Pacific, and Latin America, and an Oracle system in Europe that has recently been upgraded to a recent
version; in a transition unrelated to the Y2K Program, the Company intends to replace the Oracle system in Europe by integrating functions into its existing SAP system at the start of fiscal year
2000. SAP and
Oracle have informed the Company, and the Company believes, that these systems are Year 2000 compliant. The Company has substantially completed a number of projects to replace or upgrade hardware and
software that are known to be Year 2000 non-compliant. In addition, in order to protect against the acquisition of additional products that may not be Year 2000 ready, the Company has
implemented a policy requiring Year 2000 review of products or upgrades sold or licensed to the Company prior to their acquisition. However, if implementation of replacement or upgraded systems or
software is delayed, or if significant new non-compliance issues are identified, the Company's results of operations or financial condition could be materially adversely affected.
Third-party vendors, manufacturers and suppliers. The Company has contacted its critical suppliers, manufacturers,
distributors and other vendors to determine whether their operations and the products and services that they provide to the Company are Year 2000 compliant. Where practicable, the Company will attempt
to mitigate its risks with respect to the failure of third parties to be Year 2000 ready, including developing contingency plans. However, such failures, including failures of any contingency plan,
remain a possibility and could have a materially adverse impact on the Company's results of operations or financial condition.
Products. In addition, the Year 2000 issue could affect the products that the Company licenses. The Company is
continuing to test its products and gather information about Company technologies and products affected by the Year 2000 transition. Current information about the Company's products is available on
the Company's Year 2000 Web site (www.adobe.com/newsfeatures/year2000). Information
on the Company's Web site is provided to customers for the sole purpose of assisting in planning for the transition to the Year 2000. Such information is the most currently available concerning the
Company's products and is provided "as is" without warranty of any kind. There can be no assurance that the Company's current products do not contain undetected errors or defects associated with Year
2000 that may result in material costs to the Company.
Contingency plans. The Company's Y2K Program is designed to minimize the possibility of serious Year 2000
interruptions. However, since their possibility cannot be eliminated, the Company is developing contingency plans addressing Year 2000 concerns in high impact areas of the Company, and for other areas
as deemed practicable and advisable by the Company. Such plans for high-impact processes have now substantially been drafted but will continue to be revised and updated, particularly in
light of ongoing process and structural changes within the Company, through the end of the calendar year; such plans are still subject to internal approvals and will also be tested on an audit basis
as the end of the calendar year approaches. Other contingency plans will be prepared, tested, and updated as deemed practicable and appropriate by the Company.
The Company currently believes that the most reasonably likely worst-case scenario is that there will be some Year 2000 disruptions at individual locations that could
affect individual business processes, facilities or third parties for a short time. The Company does not expect such disruptions to be long-term, or for the disruptions to affect the
operations of the Company as a whole. Because of the uncertainty as to the exact nature or location of potential Year 2000-related problems that might arise, the business
continuity/contingency planning has focused on development of flexible plans to minimize the scope, impact and duration of any Year 2000 problems that occur. The Company expects to have personnel and
resources available to deal with any Year 2000 problems that occur. Some of the currently planned contingency actions include designating emergency response teams, increasing staffing at critical
times, arranging for alternative suppliers of critical products and services, heightened proactive monitoring at likely dates of impact, and developing manual workarounds.
Some commentators have stated that a significant amount of litigation will arise out of Year 2000 compliance issues, and the Company is aware of a growing number of lawsuits against
other software vendors. Because of the unprecedented nature of such litigation, it is uncertain whether or to what extent the Company may be affected by it, and the impact and cost of such litigation
is therefore not estimable.
The impact of the Year 2000 on future Company revenue is difficult to discern but is a risk to be considered in evaluating future growth of the Company. Any costs associated with potential Year 2000
litigation exposure are not included in the total cost estimate above.
Recent Accounting Pronouncements
In June 1997,1998, the FASBFinancial Accounting Standards Board ("the FASB") issued SFAS No. 131, "Disclosures about SegmentsStatement of an Enterprise and Related Information," and in June 1998,
issued SFAS No.Financial Accounting Standards ("SFAS") 133, "Accounting for Derivative
Instruments and Hedging Activities." SFAS 133 establishes accounting and reporting standards for derivative financial instruments and hedging activities, and requires us to recognize all
derivatives as either assets or liabilities on the balance sheet and measure them at fair value. Gains and losses resulting from changes in fair value would be accounted for depending on the use of
the derivative and whether it is designated and qualifies for hedge accounting. In MayJune 1999, the FASB amendedissued SFAS No. 133137, which defers the implementation of SFAS 133. We will be required
to defer its effective date. The Company will implement SFAS 133 in its fiscal year 2001. Also, in December 1998,We have not determined the AICPA issued SOP 98-9, "Modifications of SOP 97-2, Software Revenue
Recognition, With Respect to Certain Transactions." Readers can referimpact that SFAS 133 will have on
20
our
financial statements and we believe that such determination will not be meaningful until closer to the "Recent Accounting Pronouncements" sectiondate of the Company's 1998 Annual Report on Form 10-K for further
discussion.initial adoption.
LIQUIDITY AND CAPITAL RESOURCES
| |
Change |
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|---|---|---|---|---|---|---|---|---|---|
| |
(Dollars in millions) |
|
|||||||
| Cash, cash equivalents and short-term investments | $ | $ | % | ||||||
| Working capital | $ | $ | % | ||||||
| Stockholders' equity | $ | $ | % | ||||||
The Company'sOur
cash, cash equivalents, and short-term investments consist principally of money market mutual funds, municipal bonds, and United States government agency securities, and government agency securities.various
equity investments. All of the Company'sour cash equivalents and short-term investments are classified as available-for-sale under the provisions of Statement of Financial Accounting
Standards No.SFAS 115, "Accounting for Certain Investments in Debt and
Equity Securities." The securities are carried at fair value with the unrealized gains and losses, net of tax, reportedincluded in accumulated other comprehensive income, which is reflected as a separate
component of stockholders' equity.
The Company'sOur
cash, cash equivalents, and short-term investments increased $208.4$143.0 million, or 76.5%29%, in fiscal 2000, primarily due to a reclassification of $15.3 million of
investments classified as long-term to short-term and mark-to-market adjustments on these short-term investments totaling $134.2 million. The increase during the first nine months of fiscal 1999 primarilyquarter was also due to cash
generated from operations of $236.5$48.7 million, proceeds from the issuance of treasury stock of $129.9 million related to the exercise of employee stock options under our stock option plans and the sale of stock under the
Employee Stock Purchase Program, the releasePlan of restricted funds totaling $130.3$28.5 million, associated with the refinancing of the Company's corporate headquarters lease agreement, and
the proceeds from the sale of equity investments totaling $10.9a corporate facility in Scotland for $5.4 million. In addition, short-term investments increased due to a reclassification of $46.8 million of
investments classified as long-term to short-term, as well as mark-to-market adjustments totaling $80.6 million.
These
factors were partially offset by the purchase of treasury stock totaling $303.6in the amount of $67.4 million, the purchase of short-term investmentsother assets for $13.5 million, capital
expenditures of $78.8 million, the purchase of the assets of GoLive
Systems, Inc. and related entities for $31.0$4.0 million, and the payment of dividends totaling $9.2$3.0 million.
In September 1997,We
expect to continue our investing activities, including expenditures for computer systems for research and development, sales and marketing, product support, and administrative
staff. Furthermore, cash reserves may be used to purchase treasury stock and acquire software companies, products, or technologies that are complementary to our business.
We
have paid cash dividends on our common stock each quarter since the Company'ssecond quarter of 1988. Adobe's Board of Directors authorized, subject to certain business and market conditions, the purchase of up to 15.0 million shares of the
Company'sdeclared a cash dividend on our common stock over a two-year period. The Company repurchased approximately 0.8 million shares inof $0.025 per
common share for the first quarter of fiscal 1999, 10.1 million shares2000. The declaration of future dividends, whether in fiscal
1998,cash or in-kind, is within the discretion of Adobe's Board of Directors and 4.1 million shares in fiscal 1997, at a costwill depend on business
conditions, our results of $30.5 million, $362.4 million,operations and $188.6 million, respectively. This program was completed during the first
quarter of fiscal 1999.financial condition, and other factors.
In
April 1999, the Company'sAdobe's Board of Directors authorized, subject to certain business and market conditions, the purchase of up to an additional 5.0 million shares of the Company'sour common
stock over a two-year period. This new stock repurchase program was in addition to an existing program whereby the Company haswe have been authorized to repurchase shares to offset issuances under employee stock
option and stock purchase plans. No purchases have been made under the 5.0 million share repurchase program.
Under
the Company's existing plan to repurchase shares to offset issuances under employee stock plans, the Company repurchased approximately 4.01.2 million shares in fiscal 1999
and 0.4 million shares in fiscal 1998, at a cost of
$273.1$67.4 million and $16.8 million, respectively.in the first quarter of fiscal 2000.
In fiscal 1999, the Company repurchased 11.2 million shares at a cost of $448.7 million under its existing plan to repurchase shares to offset issuances under employee stock plans. In addition, 1.7 million shares were repurchased at a cost of $30.5 million under another share repurchase program, in which the
21
Company's Board of Directors authorized the repurchase of up to 30.0 million shares. This share repurchase program was completed during the first quarter of fiscal 1999.
To
facilitate the Company'sour stock repurchase programs, the Companyprogram, we sold put warrants to independent third parties.parties in the first quarter of fiscal 2000. Each put warrant entitles the holder to sell one
share of Adobe'sour common stock to the Companyus at a specified price. On SeptemberMarch 3, 1999,2000, put warrants to sell approximately 888,8002.5 million shares of the Company'sour common stock were outstanding that expire on various
dates through JanuaryJuly 2000 with an average exercise price of $80.33$60.30 per share.
In
addition, we purchased call options from independent third parties that entitle us to buy shares of our common stock on certain dates at specified prices. On March 3, 2000,
call options to purchase approximately 1.6 million shares were outstanding that expire on various dates through July 2000 with an average exercise price of $65.58 per share. Under these
put warrant arrangements, the Company, at itsour option, we can settle with physical delivery or net shares equal to the difference between the exercise price and marketthe value atof the date of exercise; therefore,option as determined by the put warrants do not result in a liability on the balance sheet.contract.
In addition,We
believe that existing cash, cash equivalents, and short-term investments, together with cash generated from operations, will provide sufficient funds for us to meet our operating
cash requirements in the Company purchased call options from independent third parties that entitle the Company to buy its common stock on certain dates at specified prices. On
September 3, 1999, call options to purchase approximately 440,000 shares of the Company's common stock were outstanding that expire on various dates through January 2000 with an average
exercise price of $86.84 per share.foreseeable future.
Commitments
The Board of Directors of the Company declared three cash dividends on the Company's common stock of $.05 per common share, one for each of the first, second, and third quarters of
1999. The declaration of future dividends is within the discretion of the Board of Directors of the Company and will depend upon business conditions, results of operations, the financial condition of
the Company, compliance with the terms of the line of credit and lease agreement, and other factors.
The Company'sOur principal commitments as of SeptemberMarch 3, 1999 consisted2000 consists of obligations under operating leases, a line of credit agreement, venture investing activities,
real estate development agreements, and various service agreements. The line of credit agreement and obligations under operating leases are described in more detail below. The Company's other principal
commitments are discussed in more detail in the Company's Annual Report on Form 10-K for the year ended November 27, 1998.
In August 1999, the Company entered into a $200,000,000 unsecured revolving line of credit with a group of 15 banks for general corporate purposes, subject to certain
financial covenants. One-half of the facility expires in August 2000, the other $100,000,000 expires in August 2002. Outstanding balances accrue interest at LIBOR plus a
margin that is based on the financial ratios of the Company. There were no outstanding balances on the credit facility as of September 3, 1999. In addition, as of September 3, 1999, the
Company was in compliance with all financial covenants.
Management believesWe
believe that if the line of credit is cancelledcanceled or amounts are not available under the line, there would not be a material adverse effect on the Company'sour financial results, liquidity, or
capital resources.
In August 1999, the Company restructured its current lease agreements for its corporate headquarters in San Jose, California. The amended and restated agreement replaces
the two prior lease agreements entered into in 1996 and 1998. The lease is for a period of five years and is subject to standard covenants including financial ratios. The Company has an option to
purchase the buildings at any time during the term for an amount equal to the total investment of the lessor. At the end of the lease term, the Company may exercise the purchase option or, with the
mutual agreement of the lessor, renew the term of the lease. In addition to these possibilities, at the end of the term, the Company may elect to have the buildings sold to an unrelated third party.
In such case, the Company is obligated to
use its best efforts to arrange for such a sale and is obligated to pay the lessor the difference between the total investment in the buildings and the net sales proceeds; provided however, that in no
event would the Company be required to pay more than a maximum guaranteed residual amount as set forth in the lease. In the event of a default by the Company during the term of the lease, the lessor
could require the Company to purchase the buildings for
an amount equal to the Company's option price. As of September 3, 1999, the Company was in compliance with all financial covenants.
Under
the terms of the line of credit and the lease agreement, the Companywe may pay cash dividends unless an event of default has occurred or it doeswe do not meet certain financial ratios.
The Company believes that existing cash, cash equivalents, and short-term investments, together with cash generated from operations and cash available under the line of
credit, will provide sufficient funds for the Company to meet its operating cash requirements in the foreseeable future, including planned capital expenditure programs, working capital requirements,
the potential put warrant obligation, and the dividend program.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company'sWe hold equity investments in several publicly traded companies, which are subject to considerable market risk due to market price volatility. These securities
are generally classified as available-for-sale and are recorded on the balance sheet at fair value, with unrealized gains or losses reported as a separate component of accumulated other comprehensive
income, net of tax. We have also invested in privately held companies, many of which can still be considered in the startup or development stages. These investments are inherently risky as the market
for the technologies or products they have under development are typically in the early stages and may never materialize. We could lose a substantial part of or our entire initial investment in these
companies.
Please
refer to our market risk disclosures set forth in Item 7aour 1999 Annual Report filed on Form 10-K for a more detailed discussion of itsquantitative and qualitative disclosures
about market risk. Except as discussed above, our market risk disclosures have not changed significantly from the 1999 Annual Report on Form 10-K for the year ended November 27, 1998 have not changed
significantly.10-K.
22
ITEM 1. LEGAL PROCEEDINGS
On February 6, 1996, a securities class action complaint was filed against Adobe, certain of its officers and directors, certain former officers of
Adobe and Frame Technology Corporation ("Frame"), Hambrecht & Quist, LLP ("H&Q"), investment banker for Frame, and certain H&Q employees, in connection with the drop in the price of Adobe stock
following its announcement of financial results for the quarter ended December 1, 1995. The complaint was filed in the Superior Court of the State of California, County of Santa Clara. The
complaint alleges that the defendants misrepresented material adverse information regarding Adobe and Frame and engaged in a scheme to defraud investors. The complaint seeks unspecified damages for
alleged violations of California law. The court granted plaintiffs' motion for class certification on September 22, 1999. Adobe believesWe believe that the allegations against itus and itsour officers and
directors are without merit and intendsintend to vigorously defend the lawsuit. The case is currently in the discovery phase.
On
October 29, 1998, Heidelberger Druckmaschinen AG, a German company, filed a complaint alleging that Adobe is using Heidelberger's US patent number 4,393,399 for the partial
electronic retouching of colors. The complaint was filed in the United States District Court for the District of Delaware, and seeks a permanent injunction and unspecified damages. Adobe believesWe believe that the
allegations against itus are without merit and intendsintend to vigorously defend the lawsuit.
Management
believes that the ultimate resolution of these matters will not have a material impact on the Company'sour financial position or results of operations.
Please see the Company's Report on Form 10-Q for the quarter ended June 4, 1999 for previously reported information.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
In August 1999, the Company entered into a $200,000,000 unsecured revolving line of credit and into an amendment and restatement of the leases for its corporate headquarters.
Under their terms, the Company may pay cash dividends unless an event of default has occurred or it does not meet certain financial ratios. In addition, half of the line of credit facility may be used
to repurchase shares of its common stock (to the extent permitted by the facility).
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
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Incorporated by Reference |
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| Exhibit Number |
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Filed Herewith |
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| Exhibit Description |
Form |
Date |
Number | |||||||
| 3.1 | The Registrant's (as successor in-interest to Adobe Systems (Delaware) Incorporated by virtue of a reincorporation effective 5/30/97) Certificate of Incorporation, as filed with the Secretary of State of the State of Delaware on 5/9/97. | 10-Q | 05/30/97 | 3.1 | ||||||
| 3.2.10 | Amended and Restated Bylaws as currently in effect. | 8-K | 9/3/98 | 3.2 | ||||||
| 3.3 | Certificate of Designation of the Series A Preferred Stock | 10-K | 05/30/97 | 2.1 | ||||||
| 3.4 | Agreement and Plan of Merger effective 5/30/97 (by virtue of a reincorporation), by and between Adobe Systems Incorporated, a California corporation and Adobe Systems (Delaware) Incorporated, a Delaware corporation. | 10-Q | 05/30/97 | 2.1 | ||||||
| 4.1 | Third Amended and Restated Rights Agreement between the Company and Harris Trust Company of California | 8-K | 12/15/98 | 1 | ||||||
| 10.1.6 | 1984 Stock Option Plan, as amended* | 10-Q | 07/02/93 | 10.1.6 | ||||||
| 10.21.3 | Revised Bonus Plan* | 10-Q | 02/28/97 | 10.21.3 | ||||||
| 10.24.1 | 1994 Performance and Restricted Stock Plan* | S-8 | 07/27/94 | 10.24.1 | ||||||
| 10.24.2 | Amended 1994 Performance and Restricted Stock Plan* | 10-Q | 05/29/98 | |||||||
| 10.25.0 | Form of Indemnity Agreement* | 10-K | 11/30/90 | 10.17.2 | ||||||
| 10.25.1 | Form of Indemnity Agreement* | 10-Q | 05/30/97 | 10.25.1 | ||||||
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| 10.32 | Sublease of the Land and Lease of the Improvements By and Between Sumitomo Bank Leasing and Finance Inc. and Adobe Systems Incorporated (Phase 1) | 10-K | 11/25/94 | 10.32 | ||||||||||
| 10.36 | 1996 Outside Directors Stock Option Plan* | 10-Q | 05/31/96 | 10.36 | ||||||||||
| 10.37 | Confidential Resignation Agreement* | 10-Q | 05/31/96 | 10.37 | ||||||||||
| 10.38 | Sublease of the Land and Lease of the Improvements By and Between Sumitomo Bank Leasing and Finance Inc. and Adobe Systems Incorporated (Phase 2) | 10-Q | 08/30/96 | 10.38 | ||||||||||
| 10.39 | 1997 Employee Stock Purchase Plan, |
S-8 | 05/30/97 | 10.39 | ||||||||||
| 10.40 | 1994 Stock Option Plan, as amended* | S-8 | 05/30/97 | 10.40 | ||||||||||
| 10.42 | Amended and Restated Limited Partnership Agreement of Adobe Incentive Partners, L.P.* | 10-Q | 8/28/98 | 10.42 | ||||||||||
| 10.43 | Resignation Agreement* | 10-K | 11/28/97 | 10.43 |
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| 10.44 | Forms of Retention Agreement* | 10-K | 11/28/97 | 10.44 | ||||||||||
| 10.45 | Confidential Executive Resignation Agreement And General Release of Claims* | 10-Q | 8/28/98 | 10.45 | ||||||||||
| 10.46 | Confidential Executive Resignation Agreement And General Release of Claims* | 10-Q | 8/28/98 | 10.46 | ||||||||||
| 10.47 | Confidential Executive Resignation Agreement And General Release of Claims* | 10-Q | 8/28/98 | |||||||||||
| 10.48 | Letter of Release and Waiver* | 10-K | 11/27/98 | 10.48 | ||||||||||
| 10.49 | Confidential Executive Resignation Agreement And General Release of Claims* | 10-Q | 3/5/99 | 10.49 | ||||||||||
| 10.50 | Confidential Executive Separation Agreement And General Release of Claims* | 10-Q | 6/4/99 | 10.50 | ||||||||||
| 10.51 | Amended 1997 Employee Stock Purchase Plan* | S-8 | 6/21/99 | 10.51 | ||||||||||
| 10.52 | Amendment to Limited Partnership Agreement of Adobe Incentive Partners, L.P.* | 10-Q | 6/4/99 | 10.52 | ||||||||||
| 10.53 | Amended, Restated and Consolidated Master Lease of Land and Improvements By and between Sumitomo Bank Leasing and Finance, Inc. and Adobe Systems Incorporated | 9/3/99 | 10.53 | |||||||||||
| 10.54 | Credit Agreement among Adobe Systems Incorporated, Lenders named therein and ABN AMRO Bank N.V., as Administrative Agent, with certain related Credit Documents | 9/3/99 | 10.54 | |||||||||||
| 10.55 | 1999 Nonstatutory Stock Option |
S-8 | 9/15/99 | 4.6 | ||||||||||
| 10-K | ||||||||||||||
| 10-K | 12/3/99 | 10.57 | ||||||||||||
| 10.58 | Technical Support Agreement | X |
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| 10.59 | Turnkey Agreement, Europe | X | ||||||||
| European Logistical Services Agreement | X | |||||||||
| 10.61 | North American Logistical Services Agreement | X | ||||||||
| 10.62 | Turnkey Agreement, Adobe Program Packages | X | ||||||||
| 21 | Subsidiaries of the Registrant | 10-K | 12/3/99 | 21 | ||||||
| 27 | Financial Data Schedule | X |
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Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
| ADOBE SYSTEMS INCORPORATED | |||
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| By | /s/ MURRAY J. DEMO Vice President (Principal Financial | ||
| Date: April 15, 2000 | | | |
Date: October 15, 199926
The following trademarks of Adobe Systems Incorporated, which may be registered in certain jurisdictions, are referenced in this Form 10-Q:
Adobe
Acrobat
Adobe PhotoDeluxe
Adobe Publishing Collection
Adobe Type Manager
Acrobat
After Effects
ExtremeePaper
FrameMaker
GoLive
Illustrator
InDesign
PageMaker
PageMill
Photoshop
PostScript
PrintGear
All
other brand or product names are trademarks or registered trademarks of their respective holders.
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