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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
_____________________________________
FORM 10-Q
x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2004
¨ TRANSITION REPORT UNDER SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from _____ to _____
_____________________________________
Commission File Number 0-27138
CATALYST INTERNATIONAL, INC.
Delaware | 39-1415889 |
8989 North Deerwood Drive, Milwaukee, Wisconsin 53223
(414) 362-6800
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No ¨
Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No x
As of August 12, 2004, 7,877,447 shares of the registrant’s common stock were outstanding.
CATALYST INTERNATIONAL, INC.
FORM 10-Q
For The Quarterly Period Ended June 30, 2004
INDEX
Page No.
PART I – FINANCIAL INFORMATION
Item 1.
Consolidated Financial Statements
3
Consolidated Balance Sheets – June 30, 2004 and December 31, 2003
3
Consolidated Statements of Operations – Three months ended
June 30, 2004 and 2003
5
Consolidated Statements of Operations – Six months ended
June 30, 2004 and 2003
6
Consolidated Statements of Cash Flows – Six months ended
June 30, 2004 and 2003
7
Notes to Consolidated Financial Statements
8
Item 2.
Management's Discussion and Analysis of Financial Condition and
Results of Operations
11
Item 3.
Quantitative and Qualitative Disclosures about Market Risk
17
Item 4.
Controls and Procedures
17
PART II – OTHER INFORMATION
Item 1.
Legal Proceedings
18
Item 2.
Changes in Securities, Use of Proceeds and Issuer Purchases of
Equity Securities
18
Item 4.
Submission of Matters to a Vote of Security Holders
18
Item 6.
Exhibits and Reports on Form 8-K
19
Signatures
20
PART I – FINANCIAL INFORMATION
Item 1.
Consolidated Financial Statements
CATALYST INTERNATIONAL, INC.
Consolidated Balance Sheets
(in thousands, except share and per share data)
(unaudited)
June 30, | December 31, | |
Assets | ||
Current Assets: | ||
Cash and cash equivalents | $ 1,840 | $ 4,379 |
Accounts receivable | 6,779 | 9,409 |
Prepaid expenses and other | 806 | 611 |
Total Current Assets | 9,425 | 14,399 |
Equipment and Leasehold Improvements: | ||
Computer hardware and software | 7,981 | 7,698 |
Office equipment | 2,422 | 2,416 |
Leasehold improvements | 973 | 972 |
11,376 | 11,086 | |
Less accumulated depreciation | (10,045) | (9,569) |
Total Equipment and Leasehold Improvements | 1,331 | 1,517 |
Capitalized software development costs, net of accumulated | 583 | 801 |
Goodwill | 1,225 | 1,225 |
Other assets | 435 | — |
Intangible assets, net of accumulated | ||
amortization of $664 in 2004 and $629 in 2003 | 35 | 70 |
Total Assets | $13,034 | $18,012 |
See accompanying notes.
Note: The balance sheet at December 31, 2003 has been derived from the audited balance sheet at that date but does not include all of the information and footnotes required by accounting principles generally accepted in the United States for complete financial statements.
CATALYST INTERNATIONAL, INC.
Consolidated Balance Sheets
(in thousands, except share and per share data)
(unaudited)
June 30, | December 31, | |
Liabilities and Shareholders’ Equity (Deficit) | ||
Current Liabilities: | ||
Accounts payable | $ 4,180 | $ 4,033 |
Accrued liabilities | 1,814 | 1,948 |
Accrued legal and professional fees | 1,050 | 1,054 |
Line of credit | 1,000 | 600 |
Notes payable | 1,419 | 819 |
Deferred revenues | 6,990 | 10,345 |
Current portion of capital lease obligations | 6 | 13 |
Total Current Liabilities | 16,459 | 18,812 |
Noncurrent Liabilities: | ||
Capital lease obligations | 43 | 43 |
Long-term debt | 1,554 | 2,066 |
Deferred revenues | 64 | 522 |
Deferred rent | 29 | 53 |
Total Noncurrent Liabilities | 1,690 | 2,684 |
Contingencies (Note 4) | ||
Shareholders’ Equity (Deficit): | ||
Preferred stock, $0.01 par value; 2,000,000 shares authorized; | -- | -- |
Common stock, $0.10 par value; 25,000,000 shares authorized; | 931 | 927 |
Additional paid-in capital | 44,408 | 44,402 |
Accumulated deficit | (44,660) | (43,019) |
Treasury stock, at cost — 1,420,275 shares of common stock | (5,794) | (5,794) |
Total Shareholders’ Equity (Deficit) | (5,115) | (3,484) |
Total Liabilities and Shareholders’ Equity (Deficit) | $13,034 | $18,012 |
See accompanying notes.
Note: The balance sheet at December 31, 2003 has been derived from the audited balance sheet at that date but does not include all of the information and footnotes required by accounting principles generally accepted in the United States for complete financial statements.
CATALYST INTERNATIONAL, INC.
Consolidated Statements of Operations
(in thousands, except per share data)
(unaudited)
Three Months Ended June 30, | 2004 | 2003 |
Revenues: | ||
Software | $ 698 | $ 1,174 |
Services and post-contract customer support | 6,140 | 4,760 |
Hardware | 1,854 | 796 |
Total Revenues | 8,692 | 6,730 |
Cost of Revenues: | ||
Cost of software | 356 | 256 |
Cost of services and post-contract customer support | 3,593 | 2,660 |
Cost of hardware | 1,368 | 711 |
Total Cost of Revenues | 5,317 | 3,627 |
Gross Margin | 3,375 | 3,103 |
Operating Expenses: | ||
Product development | 963 | 828 |
Sales and marketing | 2,241 | 2,085 |
General and administrative | 1,195 | 1,139 |
Separation costs | 38 | 469 |
Total Operating Expenses | 4,437 | 4,521 |
Loss From Operations | (1,062) | (1,418) |
Other Income (Expense): | ||
Interest expense | (166) | (29) |
Investment income | 3 | 7 |
Miscellaneous, net | 5 | (15) |
Total Other Expense, Net | (158) | (37) |
Net Loss | $ (1,220) | $ (1,455) |
Basic and diluted loss per share | ($0.15) | ($0.19) |
See accompanying notes.
CATALYST INTERNATIONAL, INC.
Consolidated Statements of Operations
(in thousands, except per share data)
(unaudited)
Six Months Ended June 30, | 2004 | 2003 |
Revenues: | ||
Software | $ 1,450 | $ 1,626 |
Services and post-contract customer support | 12,335 | 9,496 |
Hardware | 3,851 | 1,888 |
Total Revenues | 17,636 | 13,010 |
Cost of Revenues: | ||
Cost of software | 567 | 674 |
Cost of services and post-contract customer support | 6,737 | 5,463 |
Cost of hardware | 2,875 | 1,484 |
Total Cost of Revenues | 10,179 | 7,621 |
Gross Margin | 7,457 | 5,389 |
Operating Expenses: | ||
Product development | 1,981 | 1,866 |
Sales and marketing | 4,226 | 4,204 |
General and administrative | 2,420 | 2,165 |
Separation costs | 128 | 469 |
Total Operating Expenses | 8,755 | 8,704 |
Loss From Operations | (1,298) | (3,315) |
Other Income (Expense): | ||
Interest expense | (296) | (37) |
Investment income | 6 | 15 |
Miscellaneous, net | (53) | 12 |
Total Other Expense, Net | (343) | (10) |
Net Loss | ($ 1,641) | ($ 3,325) |
Basic and diluted loss per share | ($0.21) | ($ 0.43) |
See accompanying notes
CATALYST INTERNATIONAL, INC.
Consolidated Statements of Cash Flows
(in thousands)
(unaudited)
Six Months Ended June 30, | 2004 | 2003 |
Operating Activities: | ||
Net loss | $ (1,641) | $ (3,325) |
Adjustments to reconcile net loss to net cash provided | ||
Depreciation | 459 | 575 |
Amortization | 253 | 729 |
Amortization of debt discount | 88 | — |
Compensation expense on stock options | 2 | 2 |
Loss on disposal of equipment and leasehold improvements | — | 1 |
Changes in operating assets and liabilities: | ||
Accounts receivable | 2,630 | 5,767 |
Prepaid expenses and other | (630) | (201) |
Accounts payable | 147 | (865) |
Accrued liabilities | (138) | 215 |
Deferred revenues | (3,813) | (2,784) |
Deferred rent | (24) | (20) |
Total adjustments | (1,026) | 3,419 |
Net cash provided by/(used in) operating activities | (2,667) | 94 |
Investing Activities: | ||
Capital expenditures | (273) | (203) |
Net cash used in investing activities | (273) | (203) |
Financing Activities: | ||
Payments on capital lease obligations | (7) | (30) |
Proceeds from exercise of options | 8 | 4 |
Borrowings on line of credit, net | 400 | 998 |
Net cash provided by financing activities | 401 | 972 |
Net increase (decrease) in cash and cash equivalents | (2,539) | 863 |
Cash and cash equivalents at beginning of period | 4,379 | 3,005 |
Cash and cash equivalents at end of period | $ 1,840 | $ 3,868 |
Supplemental Disclosure: | ||
Cash paid for interest | 209 | 37 |
See accompanying notes.
CATALYST INTERNATIONAL, INC.
Notes to Consolidated Financial Statements
June 30, 2004
(Unaudited)
1. Basis of Presentation
The accompanying unaudited financial statements have been prepared in accordance with accounting principles generally accepted in the United States for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States for fiscal year end financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the three-month period ended June 30, 2004 are not necessarily indicative of the results that may be expected for the year ending December 31, 2004. For further information, refer to the financial statements and footnotes thereto included in the Catalyst International, Inc. Annual Report on Form 1 0-K for the fiscal year ended December 31, 2003.
2.
Net Loss Per Share of Common Stock
Catalyst International, Inc. (“Catalyst” or “we” or “our”) has presented net loss per share in accordance with Statement of Financial Accounting Standards (SFAS) No. 128, “Earnings Per Share.” The following table sets forth the computation of basic and diluted weighted average shares used in the per share calculations. The numerator for the calculation of basic and diluted loss per share is net loss in each period.
(in thousands) | For the Three Months | For the | ||
2004 | 2003 | 2004 | 2003 | |
DENOMINATOR | ||||
Denominator for basic loss per share - | ||||
weighted average common shares | 7,871 | 7,816 | 7,862 | 7,806 |
Effect of dilutive securities – stock | ||||
options and warrants | -- | -- | -- | -- |
Denominator for diluted loss per share | 7,871 | 7,816 | 7,862 | 7,806 |
3. Stock-Based Compensation
Catalyst has stock-based employee compensation plans. SFAS No. 123, “Accounting for Stock-Based Compensation,” encourages, but does not require companies to record compensation cost for stock-based employee compensation plans at fair value. Catalyst has chosen to continue using the intrinsic value method prescribed in Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees,” and related interpretations, in accounting for its stock option plans.
Had compensation cost been determined based upon the fair value at the grant date for awards under the plans based on the provisions of SFAS No. 123, the Company’s pro forma net loss and net loss per share would have been as follows (in thousands, except per share data):
For the Three Months | For the | |||
2004 | 2003 | 2004 | 2003 | |
Net income (loss): | ||||
As reported | ($1,220) | ($1,455) | ($1,641) | ($3,325) |
Stock-based employee compensation expense | ||||
determined under fair value based method | (167) | (119) | (351) | (331) |
Compensation expense on stock options | ||||
as reported | 1 | 1 | 2 | 2 |
Pro forma | ($1,386) | ($1,573) | ($1,990) | ($3,654) |
Net loss per share: | ||||
As reported, basic | ($0.15) | ($ 0.19) | ($0.21) | ($0.43) |
Pro forma, basic | ($0.18) | ($ 0.20) | (0.25) | (0.47) |
As reported, diluted | ($0.15) | ($ 0.19) | ($0.21) | ($0.43) |
Pro forma, diluted | ($0.18) | ($ 0.20) | (0.25) | (0.47) |
4. Contingencies
The Company has been involved in a dispute with a former customer. In January 2002, an arbitration panel issued an award in favor of the former customer for $800,000 plus 5% interest. The Company challenged the validity of the award on the basis that it was not issued by the arbitration panel in a timely manner consistent with the rules of arbitration.
On November 22, 2002, the District Court ruled in favor of Catalyst’s motion to vacate the arbitration award and denied the Claimant’s petition to confirm the award. The claimant appealed this decision to the 7th Circuit Court of Appeals. On May 10, 2004, the 7th Circuit Court of Appeals decided to vacate the judgment of the District Court and remanded for enforcement of the initial arbitration award. It is anticipated that this judgment will be settled and paid subsequent to the impending Comvest Investment Partners acquisition as more fully described in footnote 7.
Catalyst is involved in various other claims and legal matters of a routine nature which are being handled in the ordinary course of business. Although it is not possible to predict with certainty the outcome of these unresolved claims and legal matters or the range of possible loss or recovery, we believe that these unresolved claims and legal matters will not have a material effect on our financial position or results of operations.
5. Acquisition
Effective July 1, 2003, Catalyst acquired Catalyst Consulting Services, Inc., a leading independent provider of consulting, implementation and support services for the SAP Logistics Execution System (SAP LES). The purchase price was $2,018,640 of which $600,000 was paid upon the closing of the transaction. The balance is to be paid in installments as follows; $218,640 on or before March 31, 2004, $600,000 on March 31, 2004 and $600,000 on March 31, 2005. The two payments totaling $818,640 that were due March 31, 2004 have been amended to be paid on or before July 31, 2004 and further amended to be paid upon the closing of the ComVest Investment Partners acquisition. As part of the acquisition, Catalyst incurred approximately $253,000 of direct transaction costs. The acquisition was accounted for as a purchase and, accordingly, the results of operations are included in the consolidated financial statements from July 1, 2003, the effective date of the acquisition. The purchase price was allocated to the acquired assets and assumed liabilities on the basis of their estimated fair values as of the date of the acquisition, as summarized below:
Current assets | $ 2,018,034 | |
Equipment and leasehold improvements | 121,965 | |
Goodwill | 1,224,975 | |
Total assets acquired | 3,364,974 | |
Current liabilities | 1,021,149 | |
Capital lease obligations | 72,370 | |
Total liabilities assumed | 1,093,519 | |
Purchase price, including transaction costs | $ 2,271,455 |
The goodwill of $1,224,975 recorded as a result of this acquisition is not amortized but is reviewed annually for potential impairment in accordance with SFAS No. 142, “Goodwill and Other Intangible Assets.”
6. Notes Payable
In September 2003, Catalyst issued $2,125,000 of notes payable with detachable warrants. The notes are secured by substantially all assets, pay 12% interest and mature in 2007. The notes may be subordinated to other senior financing up to an aggregate principal amount not to exceed $5,000,000. The notes have 50% warrant coverage and the warrants are exercisable into the Company’s common stock based on a 30% premium to the volume weighted average closing price of the common stock for 30 days prior to the note issuance and expire in September 2008.
Warrants for the purchase of 739,437 shares of common stock were issued in September 2003 at an exercise price of $1.42 per share. The value allocated to these warrants was measured at the date of grant because the number of shares was fixed and determinable. The value was determined based upon 130% of the volume weighted average closing price of Catalyst’s common stock for the 30 trading days prior to note issuance. The valuation of the warrants reduced the carrying value of the debt by $702,000 and was recorded as a debt discount. The debt discount is being amortized using the straight-line method over the four-year term of the debt.
In February 2004, Catalyst entered into a new $3 million asset based credit facility with Silicon Valley Bank. The revolving credit facility bears interest at prime plus 2% subject to a minimum interest charge of 6.5%. This facility expires on February 17, 2005. Advances under this line are based upon a 75% advance rate of eligible accounts receivables as defined in the credit agreement.
7. ComVest Investment Partners Acquisition
On June 29, 2004, Catalyst announced that it had entered into an agreement and plan of merger dated as of June 28, 2004 pursuant to which ComVest Investment Partners agreed to acquire the Company by means of a merger in which the Company’s shareholders would receive $2.50 per share in cash. The consummation of the merger is subject to the approval of the Company’s shareholders and other customary closing conditions as described in the Company’s definitive proxy statement dated August 10, 2004. The special meeting of the stockholders to consider and vote on this transaction is currently scheduled to be held on September 2, 2004.
Item 2.
Management's Discussion and Analysis of Financial Condition and Results of Operations
This document contains “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. Words such as “anticipate,” “estimate,” “intend,” “expect,” “believe” and words and terms of similar substance used in connection with any discussion of future operating or financial performance identify such forward-looking statements. These forward-looking statements are based on management’s present expectations about future events. As with any projection or forecast, they are inherently susceptible to uncertainty and changes in circumstances. Our actual results may differ materially from the results discussed in such forward-looking statements. Factors that may cause such a difference include, but are not limited to, the factors identified in Exhibit 99.1 of Catalyst’s Annual Report on Form 10-K for the fiscal year ended December 31, 2003, which is incorporated herein by reference. The Company is under no obligation to (and expressly disclaims any such obligation to) update or alter its forward-looking statements whether as a result of such changes, new information, future events or otherwise.
CRITICAL ACCOUNTING POLICIES
Revenue Recognition
Catalyst derives revenue from the sale of software, services and post-contract customer support (PCS), and hardware. PCS includes telephone support, bug fixes, and rights to upgrades on a when-and-if-available basis. Services range from installation, training, and basic consulting to software modification and customization to meet specific customer needs. In software arrangements that include rights to multiple software products, specified upgrades, PCS and/or other services, Catalyst allocates the total arrangement fee to each deliverable based on the relative fair value of each of the deliverables determined based on vendor-specific objective evidence.
Software
For software with insignificant modifications, Catalyst recognizes that portion of the revenue allocable to software and specified upgrades upon delivery of the software product or upgrade to the end user, provided that it is considered collectible. For software with significant modifications, Catalyst recognizes the revenue allocable to the software on a percentage of completion method, with progress to completion measured based upon labor time expended.
Post-Contract Customer Support
Revenue allocable to PCS is recognized on a straight-line basis over the period the PCS is provided.
Services
Arrangements that include professional services are evaluated to determine whether those services are for modification of the software product or for the normal implementation of Catalyst software products. When professional services are considered part of the normal implementation process, revenue is recognized monthly as these services are invoiced. When professional services are for a modification of the software itself, an evaluation is made to determine if the modification requires more than 50 person-days of work. If the modification is estimated to exceed 50 days, revenue is recognized using contract accounting on a percentage completion method with progress to completion measured based upon labor time expended. When the modification is estimated to be fewer than 50 days, revenue is recognized as invoiced.
Hardware
Revenue on hardware is recognized when the hardware is shipped by the hardware vendor and title has transferred to the customer.
Contract Accounting
For arrangements that include significant customization or modification of the software, revenue is recognized using contract accounting. Revenue from these software arrangements is recognized on a percentage of completion basis, with progress to completion measured based upon labor time expended. Catalyst reserves for project cost overruns when such overruns are identified. We recognize project cost overruns where we will exceed our budgeted number of days on a project. The reserve is based on a standard cost per day.
Allowance for Doubtful Accounts
We evaluate the collectibility of our accounts receivable based on a combination of factors. We recognize reserves for bad debts based on the length of time the receivables are past due ranging from 5% to 100% for amounts more than 120 days past due for which a corresponding deferred revenue does not exist. Specific customer reserves are based upon our assessment of deviations in historical payment trends, the age of the account, and ongoing communications with our customers by both the finance and sales departments. For amounts less than 120 days past due, a small percentage is typically reserved based upon our historical experience. If circumstances change (i.e., higher than expected defaults or an unexpected material adverse change in a major customer’s ability to meet its financial obligations), our estimates of the recoverability of amounts due us could be reduced by a material amount.
Legal Accruals
As discussed in Note 4 of our consolidated financial statements, as of June 30, 2004, we have accrued our best estimate of the probable cost for the resolution of a claim with a former customer. This estimate has been developed in consultation with outside counsel. To the extent additional information arises or our strategies change, it is possible that our best estimate of the probable liability in this matter may change.
Catalyst is involved in various other claims and legal matters of a routine nature which are being handled in the ordinary course of business. Although it is not possible to predict with certainty the outcome of these unresolved claims and legal matters or the range of possible loss or recovery, we believe that these unresolved claims and legal matters will not have a material effect on our financial position or results of operations.
Impairment Charges
We review our long-lived assets for impairment whenever events or circumstances occur which indicate that we may be unable to recover the recorded value of the affected long-lived assets.
REVENUE
Catalyst's revenues are derived from software licenses, services and post-contract customer support, and hardware sales. Total revenues for the second quarter of 2004 were $8.7 million, which represented a 29.2% increase from second quarter of 2003 total revenues of $6.7 million. For the first six months of 2004, total revenues were $17.6 million, up 35.6% compared to 2003 total revenues of $13.0 million for the same period. In management’s view, the net increase in total revenues for the three- and six-month periods was due primarily to the acquisition of Catalyst Consulting Services, Inc. and new customer contracts.
International revenues were $1.7 million in the second quarter of 2004 compared to $1.1 million in the second quarter of 2003. International revenues represented 19.9% of total revenues for the second quarter of 2004 compared to 15.9% in the same period of 2003. International revenues were $3.2 million and $2.4 million for the six-month periods ended June 30, 2004 and 2003, respectively. The increase in international revenues was due primarily to an increase in professional services.
Software
Software consists of revenues from