EMBARCADERO TECHNOLOGIES INC - 10-K Annual Report

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

Form 10-K

X		ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

		For the Fiscal Year Ended December 31, 2001 or

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

		For the transition period from to

Commission File Number 000-30293

EMBARCADERO TECHNOLOGIES, INC.

(Exact Name of Registrant as Specified in Its Charter)

Delaware		68-0310015

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

425 MARKET STREET, SUITE 425

SAN FRANCISCO, CA 94105

(Address of principal executive offices, zip code)

(415) 834-3131

(Registrant’s telephone number, including area code)

Securities registered pursuant to Section 12(b) of the Act:


Common Stock, $0.001 Par Value		Nasdaq National Market

(Title of Class)		(Names of Each Exchange on which Registered)

Securities registered pursuant to Section 12(g) of the Act:

NONE

Indicate by check mark whether the registrant (1) 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 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.

þ Yes ¨ No

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. ¨

Aggregate market value of the voting stock held on March 15, 2002 by non-affiliates of the registrant: $169,502,097. Number of shares of Common Stock outstanding at March 15, 2002: 27,222,397.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the definitive proxy statement for the Registrant’s 2002 Annual Meeting of Stockholders are incorporated by into Part III hereof.

EMBARCADERO TECHNOLOGIES, INC.

ANNUAL REPORT ON FORM 10-K

For the Fiscal Year Ended December 31, 2001

TABLE OF CONTENTS

		Page
PART I.

Item 1.	Business	3

Item 2.	Properties	8

Item 3.	Legal Proceedings	8

Item 4.	Submission of Matters to a Vote of Security Holders	9

PART II.

Item 5.	Market for the Registrant’s Common Equity and Related Stockholder Matters	9

Item 6.	Selected Consolidated Financial Data	10

Item 7.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	11

Item 7A.	Quantitative and Qualitative Disclosures about Market Risk	26

Item 8.	Consolidated Financial Statements and Supplementary Data	28

Item 9.	Changes in and Disagreements with Accountants on Accounting and Financial Disclosure	49

PART III.

Item 10.	Directors and Executive Officers of the Registrant	49

Item 11.	Executive Compensation	49

Item 12.	Security Ownership of Certain Beneficial Owners and Management	49

Item 13.	Certain Relationships and Related Transactions	49

PART IV.

Item 14.	Exhibits, Financial Statement Schedules, and Reports on Form 8-K	49

Signatures		51

All statements contained in this Annual Report on Form 10-K that are not historical facts are forward-looking statements within the meaning of the federal securities laws that relate to future events or our future financial performance. In some cases, you can identify forward-looking statements by terminology such as “may,” “will,” “should,” “expect,” “plan,” “anticipate,” “believe,” “estimate,” “predict,” “intend,” “potential” or “continue” or the negative of these terms or other comparable terminology. Such statements are only predictions. Risks and uncertainties and the occurrence of other events could cause actual results to differ materially from these predictions. The risks and uncertainties discussed below under “Factors That May Affect Future Results” and elsewhere in this report should be considered carefully in evaluating Embarcadero and its business. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements. Moreover, we assume no responsibility for the accuracy and completeness of these statements. We are under no duty to update any of the forward-looking statements after the date of this report or to adjust these statements to reflect actual results.

PART I

Item 1. Business

Overview

We provide software products that enable organizations to effectively manage their database infrastructure. Our Database Administration, Performance Management, Data and Application Architecture and Data Integration products offer customers comprehensive solutions for managing the database life cycle, which is the process of creating, optimizing and managing key business applications and their underlying databases in response to evolving business requirements. By simplifying the management of the database life cycle, our products allow organizations to ensure the availability, performance and reliability of their critical business applications.

In 2001, the Company introduced a number of new products, serving to both expand the existing product line and extend its reach into new, related product areas. Company highlights from 2001 include:

•

Performance Measures

•

Grew total revenues 26% over the prior year;

•

Increased average license transaction size 41% over the prior year;

•

Added over 1,700 new customers, bringing the total number of customers to over 8,600;

•

Completed over 10,000 sales transactions.

•

Introduced six new products, bringing our total product portfolio to 12.

•

Established a Canadian subsidiary for research and development activities.

•

Entered into a joint venture with Aztec Software, Inc., a software development company, to pursue new product initiatives that fall outside of the two companies’ existing product offerings.

Industry Background

Organizations are using the Internet to conduct business electronically, whether with their customers or other businesses, and as a means of collecting information about their customers. This has led to the proliferation of new Internet-based software applications and makes managing the performance of key production systems, both new and existing, a top priority for many organizations. Businesses are becoming increasingly reliant on these enterprise applications to run critical parts of their operations and to collect important customer and market information. These applications will continue to gain strategic importance as organizations seek to access and store an increasing volume of information while providing access to that information to a greater number of users.

The Internet has fundamentally changed how organizations gather, manage and distribute information, and it presents a new set of business and technology challenges. Given limited IT resources and intense time-to-market pressures, organizations must ensure that the right software applications are designed and built on time and within budget. Organizations must ensure that these applications are up-and-running with optimal performance. Downtime, whether scheduled or unplanned, must be kept to an absolute minimum. The Internet allows customers to quickly evaluate and switch to competing products or services, thereby increasing the need for successful application performance. A poorly designed or poorly performing application can have significant operational and financial impacts, such as poor customer service, a reduction in brand equity or a significant loss of revenue.

Software applications, whether for Internet-based initiatives or more traditional business processes, must be designed to provide reliable storage and flexible access to critical business information. Databases, a proven technology for storing and accessing information,

provide the essential infrastructure for business applications. Dramatic improvements in the cost and performance of computer hardware and networking technologies are accelerating the proliferation of database applications supporting Internet-based business strategies. The proliferation of software applications from Internet and business initiatives has increased the demands on databases as organizations face numerous business and technology challenges, such as storing massive amounts of customer data, handling increasing numbers of users and utilizing information from disparate systems.

Many organizations struggle to keep pace with the simultaneous pressures to build more applications, enhance and support existing applications and manage more data within increasingly complex computing environments. Experienced database administrators and application developers are being asked to do more in less time and less experienced IT personnel are being asked to become more proficient at a faster rate. This strain on IT professionals is compounded by the growing complexity of IT systems and the need to be proficient with different types of database and application environments.

The Database Management Challenge

Traditional software products for managing software applications and their underlying databases do not adequately address the challenges of today’s dynamic business environment. Many of these products:

•

Are designed for expert database administrators and application developers and are therefore too complex for less experienced IT personnel;

•

Require a lengthy installation process and extensive configuration, which increases the time between conception and implementation, making it difficult for organizations to rapidly develop applications;

•

Are not cost effective and often end up costing more than the applications they are designed to manage; and/or

•

Cannot be used to support all databases in an organization since they operate only on a single type of database, such as Oracle, when in fact many

businesses use databases from several different vendors to support their enterprise applications.

Most traditional products also fail to adequately address the complete database life cycle. Databases and applications must first be designed and created, then managed for availability, performance, security and recoverability once in production. When new or enhanced applications are needed to support changing business needs, the process starts over again.

Most traditional products require users to employ different software products with dissimilar user interfaces and capabilities to address each phase of the database life cycle. As a result, we believe that there is a significant opportunity for a suite of integrated products that can manage the database life cycle and fulfill the demands of dynamic business environments. These products should provide the following benefits:

•

Accelerate time-to-market by allowing users to produce effective work results sooner;

•

Enhance the reliability and availability required of today’s business applications;

•

Alleviate the strain on IT resources, especially database professionals and application developers; and

•

Manage an increasingly diversified and distributed database and application infrastructure.

The Embarcadero Solution

We provide software products that enable organizations to effectively manage their database infrastructure. Our Database Administration, Performance Management, Data and Application Architecture and Data Integration products offer customers comprehensive solutions for managing the database life cycle. Our products are designed to work individually as well as together to provide rapid development and optimal performance of applications that are critical as enterprises deploy and extend their information technology infrastructure. We can bundle our products to offer an integrated database life cycle solution for a particular database, such as Oracle, or to support a multi-vendor database environment, such as Oracle, Microsoft SQL Server and IBM DB2 UDB databases running simultaneously.

Our products and their core functionality are summarized below:

Product Group	Product Name	Description

Database Administration	DBArtisan	Ensures the availability, performance, security and recoverability of applications through the management of a mix of database types from a single graphical console

	Embarcadero Change Manager	Provides software configuration management for databases by storing accurate records of database changes over time

	Embarcadero Job Scheduler	Enterprise automation solution for the scheduling and management of database jobs and routine tasks

Performance Management	Rapid SQL	Streamlines the process of developing complex database code in a graphical environment

	Embarcadero SQL Debugger	Add-on product to both DBArtisan and Rapid SQL that extends their functionality to help troubleshoot database-programming errors

	Embarcadero SQL Tuner	An extension to Rapid SQL for troubleshooting and rewriting database logic causing poor performance in applications

	Embarcadero SQL Profiler	Provides the means to identify and isolate performance problems in database applications prior to deployment

	Embarcadero Performance Center	Monitor production databases to avert problems that could affect the availability and performance of mission-critical applications

Data and Application Architecture	ER/Studio	Captures business requirements and translates them into database applications from a graphical user interface
	ER/Studio Repository	Facilitates real-time, concurrent access to diagrams between ER/Studio users

	Describe	A flexible design and development tool for creating Java and C++ applications that are well integrated with the underlying database technology

Data Integration	Data Voyager	Publish, manage and browse data in relational sets

	DT/Studio	Extract, transform and load data sets from almost any relational or non-relational data set

Our products support each of the most widely used database platforms, including Oracle, Microsoft SQL Server, IBM DB2 Universal Database and Sybase, running on Unix, Windows NT and Linux environments.

Our software products are designed to:

Develop and Support Critical Business Applications. By managing the essential infrastructure of databases, our solution allows customers to efficiently create, maintain and enhance applications that meet the rigorous requirements of today’s e-business environment. Our design products allow customers to reduce the time between conception and implementation of their enterprise applications. Our development products allow companies to create and test complex application code from an easy-to-use graphical user interface. Our administration products ensure the performance, security, availability and recoverability of key business applications across many database platforms.

Increase Utilization of Existing Technology. Our solution enables organizations to more effectively utilize their existing database and application infrastructure. Most large organizations employ a mix of databases to support their different business applications. We believe our suite of products, with its multi-vendor support, provides the only integrated solution for designing, developing and administering a variety of databases.

Leverage Constrained IT Resources. Our solution enables organizations to enhance the productivity of IT professionals in managing the database life cycle and developing applications. Our products increase the productivity of both experienced database professionals and less experienced IT professionals through the intuitive user interface used across our entire product line. This reduces the amount of training needed to begin using our software and simplifies the complexity of creating and deploying key business applications. Our products also allow organizations to replace numerous, costly point products or platform-specific products with an integrated solution that addresses each phase of the database life cycle.

Facilitate Rapid Adoption. Since our inception, we have strived to make it easy for our customers to discover, try, purchase and use our products. We design our products to leverage the Internet by promoting downloadable trial versions, enabling the purchase of our products, providing upgrades and offering maintenance directly from our Web site. We also design our products to install within minutes with minimal configuration and to require limited on-going maintenance. Customers can rapidly implement and utilize our products to design, develop and manage the databases that support their critical applications. We believe these factors give our products a competitive advantage relative to most traditional solutions.

Exploit the Proliferation of Corporate Data and Enterprise Applications. We believe that the growth and strategic importance of the Internet as well as the increasing the amount of data that corporations need to analyze, access and store requires the development of new, Internet-based applications and simultaneously places increasing demands on existing applications. Our products are designed for, and marketed to, organizations developing, optimizing and administering enterprise applications. Many of our existing customers, including AOL Time Warner and Fidelity, have increased their purchases of our products to support the development of new applications and optimize the performance of those applications once deployed.

Extend Product Leadership. We plan to build upon our database and application management technologies to enhance and expand our product offerings and incorporate new technologies as they are introduced to the market. Additionally, we may enhance our product leadership through the licensing or acquisition of complementary technologies or businesses. Many of our products share a core technology architecture, which we believe provides significant advantages over competing products. This architecture reduces the cost of product development, accelerates the time-to-market for new products and enables us to maintain a common interface across the entire product suite. Our current products already feature a number of important technologies for facilitating the sharing and publishing of applications and information over the Internet, including Java, HTML and XML.

Sales and Marketing

North American Sales. We sell our software in the United States and Canada through both a direct telesales force and a field sales organization, which has allowed us to efficiently build a broad customer base. By leveraging the effective use of the telephone and the Internet for product evaluations and sales, our telesales approach allows us to respond more rapidly to customer needs while maintaining an efficient, low-cost sales model. We intend to continue to build our telesales organization. Since 2000, we have built a focused field sales organization to complement the telesales force by targeting major accounts. The field sales organization has facilitated further penetration into and better management of large customer accounts and is driving larger sales transactions and enterprise-wide implementations of our products. We currently have 25 field sales people. Sales cycles range between two to three months for departmental sales and up to six to twelve months for larger-scale enterprise-wide implementations.

International Sales. International sales represented 17.2% and 14.1% of our total revenues in 2001 and 2000, respectively, and were generated primarily by Embarcadero Europe Ltd., which manages the sales, marketing, distribution and support of our products in Europe, the Middle East and Africa. In other overseas markets we sell our products through independent distributors. We have agreements with distributors in Australia, Latin America and Japan. Our international distributors perform sales, marketing and technical support functions for their local customers. We intend to increase our international distribution by expanding direct selling efforts through Embarcadero Europe Ltd. and our existing distributors and by developing relationships with additional international distributors.

Marketing. Our marketing efforts focus on generating sales leads and building brand awareness about our products. Our marketing efforts include advertising in trade journals, promoting a strong web presence, maintaining an active public relations program, attending user group conferences, participating in major software development and database trade shows and forging strategic alliances with other technology companies. We intend to continue our marketing efforts directed at IT management to facilitate wider deployments of our products. In addition, we may enter into strategic marketing relationships with other companies whose business goals complement our own.

Customer Service and Technical Support

Customer Service. Our customer service department handles customer inquiries about product licensing. Customer service representatives activate customer

licenses and are responsible for managing maintenance renewals. We team customer service representatives with salespeople in order to provide a coordinated approach to customer sales and service requirements.

Technical Support. We offer optional annual maintenance contracts to customers that entitle them to receive all product upgrades and technical support. Our standard maintenance contract covers a 12-month period, is payable in advance and is renewable at the customer’s option.

Technical support is provided for North American customers through our offices in San Francisco, California. We currently offer technical support from 6 a.m. to 6 p.m., Pacific Time, Monday through Friday. We deliver technical support by email, fax or telephone. All calls and emails are routed on a first come, first serve basis through an integrated queue, with telephone calls given priority. As sales of our products grow and as new products are delivered, we plan to hire more support personnel and expand our support offerings.

Internationally, our distributors are generally responsible for providing customer service and technical support. Our European subsidiary, Embarcadero Europe Ltd., based in Maidenhead, United Kingdom, provides multilingual support for its customers from 8:30 a.m. to 5:30 p.m., Greenwich Mean Time, Monday through Friday.

Research and Development

Our research and development efforts are focused on both enhancing our existing products and developing additional applications that enable organizations to manage their corporate data and the systems that support and house that data. Members of our research and development group have extensive experience in databases, database management software, design, enterprise applications and Internet technologies. We organize our research and development staff into discrete engineering teams responsible for specific products, both new development and enhancements to existing products, in each of our product segments. These engineering teams are located in four development labs located in San Francisco and Monterey, California, Littleton, Colorado, and Toronto, Ontario, Canada. We supplement our internal software development efforts by using outside contractors when we believe they can perform discrete programming tasks more effectively than we can accomplish internally.

Our future success depends largely on our ability to continue enhancing existing products and developing new solutions that reinforce our competitive position and increase our value proposition to customers. We have made and will continue to make substantial financial and organizational investments in research and development. Extensive product development input is obtained through customer feedback, by monitoring evolving user requirements and by evaluating competing products. Our product-marketing group is responsible for translating customer requirements and market opportunities into product development initiatives that our engineering teams can execute.

Proprietary Rights

We rely on copyright and trademark laws, trade secrets, confidentiality procedures and contractual provisions to establish and protect our proprietary rights. We also enter into confidentiality agreements with employees and consultants and attempt to restrict access to proprietary information on a need-to-know basis. Despite such precautions, unauthorized third parties may be able to copy aspects of our products or obtain and use information that we consider proprietary.

We license our software products primarily under shrink-wrap licenses delivered electronically with the software products. Shrink-wrap licenses are not negotiated with or signed by individual licensees and purport to take effect upon installation of the product or downloading of the product from the Internet. These measures afford only limited protection. Policing unauthorized use of our products is difficult, and we are unable to determine the extent to which piracy of our software exists. In addition, the laws of some foreign countries do not protect our proprietary rights as well as United States laws.

We may have to enter into litigation to enforce our intellectual property rights or to determine the validity and scope of the proprietary rights of others with respect to our rights. Litigation is generally very expensive and can divert the attention of management from daily operations. Accordingly, intellectual property litigation could materially adversely affect our business and operating results.

We are not aware of any case in which we are infringing on the proprietary rights of others. However, third parties may bring infringement claims against us. Any such claim is likely to be time consuming and costly to defend, could cause product delays and could force us to enter into unfavorable royalty or license agreements

with third parties. A successful infringement claim against us could require us to enter into a license or royalty agreement with the claimant or develop alternative technology. However, we may not be able to negotiate favorable license or royalty agreements, if any, in connection with such claims and we may fail to develop alternative technology on a timely basis. Accordingly, a successful product infringement claim against us could materially adversely affect our business and operating results.

Competition

The market for our products is highly competitive, dynamic and subject to rapidly changing technology. We compete primarily against other providers of application design and database management utilities, which include Computer Associates, Quest Software, BMC Software, Rational Software and other independent software vendors.

Our database products also compete with products offered by the manufacturers of the database services with which they are compatible, including Oracle, Microsoft, Sybase and IBM. Some of these competing products are provided at no charge to the database customers. We expect that companies such as Oracle, Microsoft, Sybase and IBM will continue to develop and incorporate into their products applications which compete with our products and may take advantage of their substantial financial, technical, marketing and distribution resources in those efforts.

We presently compete on numerous factors, including product functionality and heterogeneity, reliability, ease-of-use, performance, scalability, time-to-market, customer support and total cost of ownership. We believe that we currently compete favorably overall. However, the market for our products is dynamic and we may not compete successfully in the future with respect to one or more of these factors.

Many of our competitors have longer operating histories, substantially greater financial, technical, marketing and other resources and greater name recognition than we do. They also may be able to respond more quickly than we can to changes in technology or customer requirements. Competition could seriously impede our ability to sell additional products on acceptable terms. Our competitors may:

•

develop and market new technologies that render our products obsolete, unmarketable or otherwise less competitive;

•

make strategic acquisitions or establish cooperative relationships among themselves or with other companies, thereby enhancing the functionality of their products or increasing their operating margins; or

•

establish or strengthen cooperative relationships with channel or strategic partners which limit our ability to sell or to co-market products through these channels.

Competitive pressures could reduce our market share, reduce customer orders, reduce gross margins or require us to reduce our prices, any of which would harm our operating results.

Employees

As of December 31, 2001, we had 286 employees, 126 of whom were engaged in research and development, 105 in sales and marketing, 27 in customer service and support and 28 in finance and administration. Our future performance depends largely on our continuing ability to attract, train and retain highly qualified technical, sales, service, marketing and managerial personnel. None of our employees is represented by a collective bargaining agreement. We have not experienced any work stoppages and consider our relations with our employees to be good.

Item 2.

Properties

Our headquarters currently occupy approximately 37,000 square feet in San Francisco, California, pursuant to leases that expire in June 2004 and July 2008. Our Colorado office occupies approximately 13,200 square feet in Littleton, Colorado pursuant to a lease that expires in August 2003. In addition, we maintain a research and development facility of approximately 6,500 square feet in Monterey, California pursuant to a lease that expires in November 2005. We have additional field sales and software development offices in the United States, Canada and the United Kingdom.

We believe that our facilities are adequate and that, if required, we would be able to lease suitable additional space to accommodate expansion.

Item 3.

Legal Proceedings

Embarcadero is not currently a party to any material pending legal proceedings.

Item 4.

Submission of Matters to a Vote of Security Holders

No matters were submitted to a vote of security holders during the fourth quarter of the year ended December 31, 2001.

PART II

Item 5.

Market for the Registrant’s Common Equity and Related Stockholder Matters

Our common stock is traded on the Nasdaq National Market under the symbol “EMBT.” Our common stock began trading on the Nasdaq on April 20, 2000, the date of our initial public offering. The following table sets forth the range of high and low sales prices for each period indicated.


Fiscal 2001	High		Low


First Quarter	$	56.00	$	13.88
Second Quarter		38.00		10.25
Third Quarter		23.35		7.25
Fourth Quarter		26.39		6.50

Fiscal 2000


Second Quarter (from April 20, 2000)	$	36.94	$	10.38
Third Quarter		55.50		22.00
Fourth Quarter		66.50		19.88

We had approximately 39 stockholders of record as of December 31, 2001. However, we believe there are significantly more beneficial holders of our common stock.

We have never declared or paid any cash dividends on our capital stock. We currently intend to retain future earnings, if any, for development of our business and do not anticipate that we will declare or pay cash dividends on our capital stock in the foreseeable future.

We made no unregistered sales of our securities during the year ended December 31, 2001.

Item 6. Selected Consolidated Financial Data

The following selected consolidated financial data should be read in conjunction with our consolidated financial statements and related notes and with “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included elsewhere in this report. The consolidated statement of operations data for the years ended December 31, 2001, 2000 and 1999 and the consolidated balance sheet data as of December 31, 2001 and 2000 are derived from our consolidated financial statements included elsewhere in this report. Data for the years ended December 31, 1998 and 1997 and as of December 31, 1999, 1998 and 1997 are derived from financial statements not included in this report.


	(in thousands, except per share data)


Year Ended December 31,	2001			2000			1999			1998			1997


Consolidated Statement of Operations Data:

Revenues:

License (includes sales to affiliate of $1,962 and $1,473 in 2000 and 1999, respectively)	$	32,018		$	28,558		$	13,406		$	6,510		$	3,434

Maintenance		19,476			12,372			5,446			2,609			1,152


Total revenues		51,494			40,930			18,852			9,119			4,586

Cost of revenues:

License, other		774			654			460			321			200

Amortization of acquired technology		808			115			—			—			—

Maintenance		2,228			1,378			647			251			132


Total cost of revenues		3,810			2,147			1,107			572			332


Gross profit		47,684			38,783			17,745			8,547			4,254

Operating expenses:

Research and development		14,670			10,257			4,815			2,795			1,892

Sales and marketing		21,142			16,205			5,665			2,734			1,531

General and administrative		6,572			9,255			4,985			1,005			580

Purchased in-process research and development		—			7,180			—			—			—

Amortization of goodwill and other intangible assets		5,621			815			—			—			—

Lease related impairment loss		1,490			—			—			—			—


Total operating expenses		49,495			43,712			15,465			6,534			4,003


Income (loss) from operations		(1,811	)		(4,929	)		2,280			2,013			251

Other income, net		1,027			1,187			88			52			52

Expenses related to proposed public offering		(350	)		—			—			—			—


Income (loss) before income taxes and share in profit (loss) of joint venture and affiliated company		(1,134	)		(3,742	)		2,368			2,065			303

Provision for income taxes		(1,199	)		(3,857	)		(82	)		(45	)