================================================================================
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
Annual Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the fiscal year ended January 31, 2003
Commission File Number 0-15502
COMVERSE TECHNOLOGY, INC.
(Exact name of registrant as specified in its charter)
NEW YORK 13-3238402
State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
170 CROSSWAYS PARK DRIVE
WOODBURY, NEW YORK 11797
(Address of principal executive offices)
Registrant's telephone number, including area code: 516-677-7200
Securities registered pursuant to Section 12(b) of the Act:
Name of each exchange
Title of each class on which registered
------------------- --------------------
Not applicable Not applicable
Securities registered pursuant to Section 12(g) of the Act:
COMMON STOCK, $.10 PAR VALUE PER SHARE
(Title of Class)
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.
[X] 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. [ ]
Indicate by check mark whether the registrant is an accelerated filer
(as defined in Rule 12b-2 of the Act).
[X] Yes [ ] No
The aggregate market value of the voting stock held by non-affiliates
of the registrant, computed by reference to the closing price as of the last
business day of the registrant's most recently completed second fiscal quarter,
July 31, 2002, was approximately $1,486,963,000.
There were 188,190,822 shares of the registrant's common stock
outstanding on April 25, 2003.
DOCUMENTS INCORPORATED BY REFERENCE
The registrant hereby incorporates by reference in this report the
information required by Part III appearing in the registrant's proxy statement
or information statement distributed in connection with the 2003 Annual Meeting
of Shareholders of the registrant or in an amendment to this report on Form
10K/A.
-----------------------------------
Comverse, Comverse Technology and Comverse's logos are trademarks of the
Company. LORONIX(R) is a registered trademark, and Intelligent Recording,
OpenStorage Portal, RELIANT, STAR-GATE, ULTRA, Universal Database and Verint
Systems are trademarks of Verint Systems Inc., a subsidiary of the Company.
Signalware(R) and Ulticom(R) are registered trademarks of Ulticom, Inc., a
subsidiary of the Company.
- ii -
PART I
ITEM 1. BUSINESS.
THE COMPANY
Comverse Technology, Inc. ("CTI" and, together with its subsidiaries,
the "Company") designs, develops, manufactures, markets and supports systems and
software for multimedia communications and information processing applications.
The Company's products are used in a broad range of applications by wireless and
wireline telecommunications network operators and service providers, call
centers, and other government, public and commercial organizations worldwide.
Through its subsidiary Comverse, Inc. ("Comverse"), the Company
provides enhanced services products that enable telecommunications service
providers ("TSPs") to offer a variety of revenue and traffic generating services
accessible to large numbers of simultaneous users. These services include a
broad range of messaging, information distribution and personal communications
services, such as call answering with one-touch call return, voicemail, unified
messaging (voice, fax, text, multimedia content and email in a single mailbox,
media conversion such as email to voice and visual mailbox presentation),
prepaid wireless calling services, wireless data and Internet-based services
such as short messaging services ("SMS"), wireless information and entertainment
services, multimedia messaging services ("MMS"), wireless instant messaging,
interactive voice response ("IVR"), and voice portal services, which are part of
a voice-controlled portfolio of services such as voice dialing, voice-controlled
messaging, and other applications. Comverse's principal market for its systems
consists of organizations that use the systems to provide services to the
public, often on a subscription or pay-per-usage basis, and includes both
wireless and wireline telecommunications network operators and other TSP
organizations. Comverse markets its systems throughout the world, with its own
direct sales force and in cooperation with a number of leading international
vendors of telecommunications infrastructure equipment. More than 400 wireless
and wireline TSPs in more than 100 countries, including the majority of the 20
largest telecom companies in the world, have selected Comverse's products to
provide enhanced telecommunications services to their consumers. Major network
operators and service providers using Comverse's systems include, among others,
AT&T (USA), BellSouth (USA), Deutsche Telekom (Germany and other European
countries), KDDI (Japan), MCI Worldcom (USA), mmO2 (several European countries),
NTT (Japan), Orange (several European countries), SBC Communications (USA), SFR
(France), SingTel (Singapore), Sprint PCS (USA), Telecom Italia (Italy), Telmex
(Mexico), Telstra (Australia), Verizon (USA) and Vodafone (multiple countries).
Through its subsidiary Verint Systems Inc. ("Verint"), the Company
provides analytic software-based solutions for communications interception,
digital video security and surveillance, and enterprise business intelligence.
Verint's software generates actionable intelligence through the collection,
retention and analysis of voice, fax, video, email, Internet and data
transmissions from multiple types of communications networks. The digital
security and surveillance market consists primarily of communications
interception by law enforcement and other government agencies and digital video
security utilized by government agencies and public and private organizations.
The enterprise business intelligence market consists primarily of solutions
targeting enterprises that rely on contact centers for voice, email and Internet
1
interactions with their customers. Additionally, an emerging segment of
enterprise business intelligence utilizes digital video information to allow
enterprises and institutions to enhance their operations, processes and
performance. Verint sells its enterprise business intelligence solutions to
contact center service bureaus, financial institutions, retailers, utilities,
communications service providers, manufacturers and other enterprises. Verint
has established marketing relationships with a variety of global value added
resellers and a network of systems integrators including ADT, Avaya, British
Telecom, Nortel and Siemens. Verint also has technological alliances with
leading software and hardware companies including Genesys, Indentix, and Siebel,
which enables Verint to offer complementary solutions to their products.
Verint's products are used by over 1000 organizations in over 50 countries
worldwide. Customers for digital security and surveillance products include the
Mall of America, the U.S. Capitol, the U.S. Department of Defense, the U.S.
Department of Justice, Vancouver International Airport, Washington Dulles
International Airport, the Toronto Police Service, the Dutch National Police
Agency, and other domestic and foreign law enforcement and intelligence
agencies, as well as communications service and equipment providers, such as
Cingular, Ericsson and Nortel. Customers for enterprise business intelligence
products include Con Edison, FedEx, HSBC, JCPenney, Sprint, Target and Tiffany &
Co. Verint had an initial public offering of its common stock in May, 2002, and
its common stock is listed on the NASDAQ National Market System under the symbol
"VRNT." CTI held approximately 78.6% of Verint's outstanding common stock as of
January 31, 2003.
Through its subsidiary Ulticom, Inc. ("Ulticom"), the Company
provides service enabling signaling software for wireline, wireless and Internet
communications. Ulticom's Signalware call control products interconnect the
complex circuit switching, database and messaging systems and manage vital
number, routing and billing information that form the backbone of today's public
telecommunications networks. Ulticom's products are used by equipment
manufacturers, application developers and communications service providers to
deploy revenue generating infrastructure, enhanced and mandated services such as
global roaming, voice and text messaging, prepaid calling and location-based
services. Signalware products also are embedded in a range of packet
softswitching products to interoperate or converge voice and data networks and
facilitate services such as voice-over-IP ("VoIP") and Internet offload. Ulticom
had an initial public offering of its common stock in April, 2000, and its
common stock is listed on the NASDAQ National Market System under the symbol
"ULCM." CTI held approximately 71.6% of Ulticom's outstanding common stock as of
January 31, 2003.
The Company markets other telecommunications products and services,
including products that are integrated with its systems and products that work
in combination with other systems to provide advanced telecommunications
services, such as automatic call distribution and messaging systems for
telephone answering service bureaus, and intelligent Internet Protocol ("IP")
gateways for wireless roaming. The Company also engages in venture capital
investment and capital market activities for its own account.
Throughout this document references are made to technologies,
features, capabilities, capacities and specifications in conjunction with the
Company's products and technological resources. Such references do not
necessarily apply to all product lines, models and system configurations.
The Company was incorporated in the State of New York in October
1984. Its headquarters are located at 170 Crossways Park Drive, Woodbury, New
York 11797, where its telephone number is (516) 677-7200.
2
The Company's Internet address is www.cmvt.com. The information
contained on the Company's website is not included as a part of, or incorporated
by reference into, this Annual Report on Form 10-K. The Company makes available,
free of charge, on its Internet website, its annual report on Form 10-K, its
quarterly reports on Form 10-Q, its current reports on Form 8-K and amendments
to such reports filed or furnished pursuant to Section 13(a) or 15 (d) of the
Securities Exchange Act of 1934, as amended, as soon as reasonably practicable
after the Company has electronically filed such material with, or furnished it
to, the United States Securities and Exchange Commission.
THE COMPANY'S PRODUCTS
ENHANCED SERVICES SOLUTIONS (ESS)
Comverse is a leading provider of Enhanced Services Solutions that
enable TSPs to offer a variety of revenue and traffic generating services
accessible to large numbers of simultaneous users. These services include a
broad range of messaging, information distribution and personal communications
services, such as call answering with one-touch call return, voicemail, unified
messaging (voice, fax, text, multimedia content and email in a single mailbox,
media conversion such as email to voice and visual mailbox presentation),
prepaid wireless calling services, wireless data and Internet-based services
such as SMS, wireless information and entertainment services, MMS, wireless
instant messaging, IVR and voice services, which are part of a voice-controlled
portfolio of services such as voice dialing, voice-controlled messaging, and
other applications. Comverse's principal market for its systems consists of
organizations that use the systems to provide services to the public, often on a
subscription or pay-per-usage basis, and includes both wireless and wireline
telecommunications network operators and other TSP organizations. With call
answering and voice messaging, TSPs benefit primarily from traffic revenue
generated by the increase in billable completed calls. In addition, these
services foster customer loyalty that results in an overall reduction in churn.
Wireless TSPs are almost universally adding voicemail and SMS to their service
offerings, and often as part of their basic service package, not only because of
these benefits, but also because wireless voicemail messaging services directly
increase billable airtime by stimulating outbound calls, and wireless SMS
increases billable transactions by stimulating person-to-person messaging and
information retrieval.
Comverse's carrier grade ESS systems and software have been designed
and packaged to meet the capacity, reliability, availability, scalability,
maintainability, network and OMAP (Operations, Maintenance, Administration, and
Provisioning) interfaces and physical requirements of large telecommunications
network operators. The systems are offered in a variety of sizes and
configurations and can be clustered for larger capacity installations. The
systems are available with redundancy of critical components, so that no single
failure will interrupt the service. Comverse's products are available in both
centralized and distributed configurations.
Comverse's systems also incorporate components that are compatible
with the Intelligent Network ("IN") and Advanced Intelligent Network ("AIN")
3
protocols for Service Control Points and Intelligent Peripherals, permitting
Comverse's network operator customers to develop and deploy services based on
the overall IN architecture.
Comverse's products incorporate both Comverse-developed and
third-party-developed software, and Comverse-designed and third-party hardware,
in an open, IP-standards-based system architecture. The systems support a wide
variety of digital telephony and IP interfaces and signaling systems, enabling
them to adapt to a variety of different network environments and IN/AIN
applications, and provide a "universal port" -- a single port that supports
multiple applications and services at any time during a single call.
DIGITAL SECURITY AND SURVEILLANCE AND ENTERPRISE BUSINESS INTELLIGENCE
Verint is a leading provider of analytic software-based solutions for
communications interception, digital video security and surveillance, and
enterprise business intelligence. Verint's software generates actionable
intelligence through the collection, retention and analysis of voice, fax,
video, email, Internet and data transmissions from multiple types of
communications networks.
The digital security and surveillance market consists primarily of
communications interception by law enforcement and other government agencies and
digital video security utilized by government agencies and public and private
organizations for use in airports, public buildings, correctional facilities and
corporate sites.
Verint's STAR-GATE product line enables communications carriers,
Internet service providers, and communications equipment manufacturers to
overcome the complexities posed by global digital communications and comply with
governmental requirements. STAR-GATE enables communications service providers to
intercept simultaneous communications over a variety of wireline, wireless and
IP networks for delivery to law enforcement and other government agencies.
STAR-GATE's flexibility supports multi-network, multi-vendor switch environments
for a common interface across communications networks and supports switches from
communications equipment manufacturers, such as Alcatel, Ericsson, Lucent,
Nokia, Nortel and Siemens. STAR-GATE also supports interfaces to packet data
networks, such as the Internet and general packet radio services.
Verint's RELIANT product line provides intelligent recording and
analysis solutions for communications interception activities to law enforcement
organizations and other government agencies. The RELIANT software equips law
enforcement agencies with an end-to-end solution for live monitoring of
intercepted target communications and evidence collection management, regardless
of the type of communication or network used. Applications can scale from a
small center for a local police force, to a country-wide center for national law
enforcement agencies. RELIANT products are designed to comply with legal
regulations and can be integrated with communications networks in the country
where the system is utilized. RELIANT collects intercepted communications from
multiple channels and stores them for immediate access, further analysis and
later use as evidence.
Verint's LORONIX digital video security product line provides
intelligent recording and analysis of video for security and surveillance
applications to government agencies and public organizations. The LORONIX
software digitizes, compresses, stores and retrieves video imaging. In addition,
4
LORONIX products provide live video streaming and camera control over local and
wide area computer networks and the Internet. The LORONIX product line may be
configured to allow customers to perform complete monitoring for security and
management of local and remote sites from a central investigative unit. The use
of digital storage and compression technology makes the LORONIX product line a
more efficient alternative to traditional analog tape storage. The technology
interfaces with access control, motion detection and analysis, facial
recognition, activity and intrusion detection and other technologies for
enhanced security and surveillance.
The enterprise business intelligence market consists primarily of
solutions targeting enterprises that rely on contact centers for voice, email
and Internet interactions with their customers.
Verint's ULTRA products record and analyze customer interactions to
provide enterprises with business intelligence about their customers and help
monitor and improve the performance of their contact centers. ULTRA products
capture customer interactions from multiple sources, including telephone, email,
Internet or VoIP. Utilizing ULTRA's OpenStorage Portal and Universal Database,
customers can leverage their existing storage infrastructure to store and access
recorded customer interactions using standard file formats. ULTRA products
integrate with leading customer relationship management ("CRM") applications
allowing the delivery of information directly to the user's desktop within
Siebel, PeopleSoft and other CRM solutions. ULTRA also interfaces with popular
desktop software tools, including Microsoft Outlook, Lotus Notes and web
browsers, to enable the user to easily access the data in a familiar computing
environment.
Verint's LORONIX video business intelligence products enable
enterprise customers to monitor and improve their operations through the
analysis of live and recorded digital video. Like the LORONIX digital video
security product, the LORONIX video business intelligence product digitizes,
compresses, stores and retrieves video imaging. While leveraging the technology
of the LORONIX digital security product, the LORONIX enterprise product line
also contains unique software focused on maximizing operational effectiveness
through video analysis. By interfacing with customer databases and software
systems, LORONIX facilitates the user's review of video imaging based on
specific criteria such as employee ID, product barcodes, traffic patterns and
point of sale transaction history.
SERVICE ENABLING SIGNALING SOFTWARE
The Company's Ulticom subsidiary provides service enabling signaling
software for wireline, wireless and Internet communications. Ulticom's
Signalware family of products are used by equipment manufacturers, application
developers and communication service providers to deploy revenue generating
infrastructure, enhanced and mandated services such as mobility, messaging,
payment and location-based services. Signalware products also are embedded in a
range of packet softswitching products to interoperate or converge voice and
data networks and facilitate services such as Internet offload and VoIP.
Signalware provides signaling system #7 ("SS7"), the globally accepted signaling
standard protocol, which interconnects the complex switching, database and
messaging systems, and manages vital number, routing and billing information
that form the backbone of today's telecommunications networks.
5
Signalware supports a range of applications in wireline, wireless and
Internet networks. In circuit networks, Signalware has been deployed as part of
wireline services such as voice messaging, 800 number service and caller ID.
Signalware enables wireless services that include infrastructure applications
such as global roaming, as well as enhanced services such as voice and text
messaging and prepaid calling. Signalware enables deployment of high capacity
wireless data services made possible by the evolution from second generation
("2G") to third generation ("3G") infrastructures, including an intermediate
generation called "2.5G". Signalware is used to deploy mandated, location based
wireless services, such as emergency-911. Signalware also is used to enable
solutions that ease congestion on existing networks by routing Internet dial-up
traffic to more efficient packet infrastructure, and deliver VoIP services for
local and long distance carriers.
Signalware works with multiple SS7 networks, supports a wide variety
of SS7 protocol elements, and enables analog or digital wireline and wireless
transmissions. It provides the functionality needed for call set-up/termination
and call routing/billing. Signalware products also include features that enable
the transition from SS7 signaling to emerging packet signaling standards, such
as SIGTRAN. New features include a SIGTRAN Gateway for circuit-packet network
interoperability, and protocols to transport SS7 traffic over IP networks.
Signalware packages run on a range of hardware platforms and operating systems,
including Sun Solaris, IBM AIX and Red Hat Linux. These packages can be used in
single or multiple computing configurations for fault resiliency and
reliability. Signalware customers include equipment manufacturers, such as
Alcatel, Ericsson and Siemens; application developers, such as Comverse,
LogicaCMG and Sonus; and service providers, such as MCI WorldCom and Telefonica.
OTHER TELECOMMUNICATIONS PRODUCTS AND SERVICES
The Company's other telecommunications products and services are
developed and marketed through subsidiaries in the United States and
internationally. These include automatic call distribution and messaging systems
for telephone answering service bureaus and other organizations, and intelligent
IP gateways for wireless roaming.
MARKETS, SALES AND MARKETING
Comverse's ESS systems and software are marketed by Comverse
throughout the world, with its own direct sales force as well as local
distributors, and in cooperation with a number of leading international vendors
of telecommunications infrastructure equipment. Comverse is a leader in
providing large capacity enhanced services software and systems for wireless and
wireline telecommunications network operators around the world.
More than 400 wireless and wireline telecommunications network
operators in more than 100 countries, including the majority of the 20 largest
telephone companies in the world, have selected Comverse's platforms to provide
enhanced telecommunications services to their consumers. Major network operators
using Comverse's ESS systems include, among others, AT&T (USA), BellSouth (USA),
Deutsche Telekom (Germany and other European countries), KDDI (Japan), MCI
Worldcom (USA), mmO2 (several European countries), NTT (Japan), Orange (several
European countries), SBC Communications (USA), SFR (France), SingTel
(Singapore), Sprint PCS (USA), Telecom Italia (Italy), Telmex (Mexico), Telstra
(Australia), Verizon (USA) and Vodafone (multiple countries).
6
Comverse provides its customers with marketing consultation, seminars
and materials designed to assist them in marketing enhanced telecommunications
services, and also undertakes to play an ongoing supporting role in their
business and market planning processes.
Verint's products are marketed primarily through a combination of its
direct sales force and agents, distributors, value added resellers and systems
integrators. Verint develops strategic marketing alliances with leading
companies in the industry to expand the coverage and support of its direct sales
force. Verint currently has such relationships with ADT, Avaya, British Telecom,
Nortel and Siemens, among others. In addition, Verint established technological
alliances with leading software and hardware companies including Genesys,
Identix and Siebel, which enables Verint to offer complementary solutions to
their products.
Verint's products are used by over 1000 organizations and are
deployed in over 50 countries, across many industries and markets. Many users of
the products are large corporations or government agencies that operate from
multiple locations and facilities across large geographic areas and sometimes
across several countries. These organizations typically implement Verint's
solutions in stages, with implementation in one or more sites and then gradually
expanding to a full enterprise, networked-based solution.
Customers for digital security and surveillance products include the
Mall of America, the U.S. Capitol, the U.S. Department of Defense, the U.S.
Department of Justice, Vancouver International Airport, Washington Dulles
International Airport, the Toronto Police Service, the Dutch National Police
Agency, and other domestic and foreign law enforcement and intelligence
agencies, as well as communications service and equipment providers, such as
Cingular, Ericsson and Nortel. Customers for enterprise business intelligence
products include Con Edison, FedEx, HSBC, JCPenney, Sprint, Target and Tiffany &
Co.
Ulticom's products are used by over 55 customers and are deployed by
more than 260 service providers in more than 100 countries. Ulticom markets its
products and services primarily through a direct sales organization and through
key relationships with customers. Customers include network equipment
manufacturers, such as Alcatel, Ericsson and Siemens, enhanced services
application enablers such as Comverse and LogicaCMG, softswitching vendors such
as Sonus, and service providers such as MCI Worldcom and Telefonica.
TECHNOLOGIES
The Company's research and development efforts focus particularly on
the design of very large, high throughput systems, digital signal processing
technologies for voice, image, video, and data communications, IP and messaging
protocols, multimodal user interfaces, IN, AIN and signaling, development of
various network and OMAP interfaces, and the development of applications and
analytic solutions. The Company's products use advanced technologies in the
areas of digital signal processing, VoIP, facsimile protocols, networking
interfaces, databases, data networking, multi-processor computer architecture
and real-time software design.
The Company's products are based upon flexible system architectures
specifically designed to handle high capacity multiple session multimodal user
7
experiences, and multimedia communication and processing applications. The
Company's products employ open system, modular architectures, which use
distributed processors, rather than one large central processor, as well as
multiple storage devices and data networking. Product design is intended to be
readily adaptable to the usage and capacity requirements of the individual
end-user. The product architectures are intended to allow the Company to add
enhancements and new technologies to its systems without rendering existing
products obsolete.
The Company has developed or integrated third-party interfaces for
its products to most circuit-switched and IP networks used around the world,
including digital interfaces, such as IP, SIP, SS7, T1, E1 and ISDN and VoIP,
designed to encompass both basic network connectivity and the IN/AIN
capabilities of Intelligent Peripherals and SNs. The Company has also developed
Internet Protocols, including cHTML, HTML, HTTP, IMAP4, LDAP, POP3, VPIM, VXML
and WAP. The Company has implemented interception of communication protocols for
Group 3 facsimile. Certain of its products incorporate LAN and WAN technologies
used for the transfer of digitized voice, fax, video, and modem information, as
well as for the transfer of data among various network elements.
The Company utilizes state-of-the-art mass storage technologies in
many of its products. A variable number of disks may be configured in a disk
array to serve large numbers of users and to provide full or partial disk
redundancy for critical applications. Special algorithms utilized by the Company
to handle optical disks within a number of jukebox devices include automatic
channel-to-disk allocation, automatic retrieval of multimedia information from
any disk located in the jukeboxes and redundant archiving on two or more
cartridges simultaneously.
RESEARCH AND DEVELOPMENT
Because of the continuing technological changes that characterize the
telecommunications and computer industries, the Company's success will depend,
to a considerable extent, upon its ability to continue to develop competitive
products through its research and development efforts. The Company currently
employs more than 1,900 scientists, engineers and technicians in its research
and development efforts, located predominantly in the United States and Israel
with additional offices in France, Germany and Malaysia, with broad experience
in the areas of digital signal processing, computer architecture, telephony, IP,
data networking, multi-processing, databases, real-time software design and
application software design, among others.
A portion of the Company's research and development operations
benefit from financial incentives provided by government agencies to promote
research and development activities performed in Israel. The cost of such
operations is and will continue to be affected by the continued availability of
financial incentives under such programs. During the past fiscal year, the
Company's research and development activities included projects submitted for
partial funding under a program administered by the Office of the Chief
Scientist of the Ministry of Industry and Trade of the State of Israel ("OCS"),
under which reimbursement of a portion of the Company's research and development
expenditures will be made subject to final approval of project budgets. Verint
pays royalties on its sales of certain products developed in part with funding
supplied under such programs. During the year ended January 31, 2002, Comverse
entered into an arrangement with the OCS whereby Comverse agreed to pay a lump
sum royalty amount for all past amounts received from the OCS. In addition,
8
Comverse began to receive lower amounts from the OCS than it had historically
received, but is not required to pay royalty amounts on such future grants.
Permission from the government of Israel is required for the Company to
manufacture outside of Israel products resulting from research and development
activities funded under such programs, or to transfer outside of Israel related
technology rights, and in order to obtain such permission the Company may be
required to increase the royalties to the applicable funding agencies and/or
repay certain amounts received as reimbursement of research and development
costs. See "Licenses and Royalties" and "Operations in Israel" in Item 1 and
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" in Item 7.
PATENTS AND INTELLECTUAL PROPERTY RIGHTS
The Company holds a number of United States and foreign patents.
While the Company files patent applications periodically, no assurance can be
given that patents will be issued on the basis of such applications or that, if
patents are issued, the claims allowed will be sufficiently broad to protect the
Company's technology. In addition, no assurance can be given that any patents
issued to the Company will not be challenged, invalidated or circumvented or
that the rights granted under the patents will provide significant benefits to
the Company.
In order to safeguard its unpatented proprietary know-how, trade
secrets and technology, the Company relies primarily upon trade secret
protection and non-disclosure provisions in agreements with employees and others
having access to confidential information. There can be no assurance that these
measures will adequately protect the Company from disclosure or misappropriation
of its proprietary information.
The Company and its customers from time to time receive
communications from third parties, including some of the Company's competitors,
alleging infringement by the Company of such parties' patent rights. While such
communications are common in the computer and telecommunications industries and
the Company has in the past been able to obtain any necessary licenses on
commercially reasonable terms, there can be no assurance that the Company would
prevail in any litigation to enjoin the Company from selling certain of its
products on the basis of such alleged infringement, or that the Company would be
able to license any valid patents on reasonable terms.
In January 2000, the Company and Lucent Technologies GRL Corp.
("Lucent") entered into a non-exclusive cross-licensing arrangement covering
current and certain future patents issued to the Company and its affiliates and
a portfolio of current and certain future patents in the area of
telecommunications technology issued to Lucent and its affiliates.
LICENSES AND ROYALTIES
The Company licenses certain technology, know-how and related rights
for use in the manufacture and marketing of its products, and pays royalties to
third-parties under such licenses and under other agreements. The Company
believes that its rights under such licenses and other agreements are sufficient
for the manufacturing and marketing of its products and, in the case of
licenses, extend for periods at least equal to the estimated useful lives of the
related technology and know-how.
9
BACKLOG
At January 31, 2003, the backlog of the Company amounted to
approximately $293.9 million. We believe that substantially all of the backlog
will be delivered within the next 12 months.
SERVICE AND SUPPORT
The Company has a strong commitment to provide product service and
support to its customers and emphasizes such commitment in its marketing.
Because of the intensity of use of systems by telecommunications network
operators and other customers of the Company's products, and their low tolerance
for down-time, the Company is required to make a greater commitment to service
and support of systems used by these customers, and such commitment increases
operating costs.
The Company's general warranty policy is to replace or repair any
component that fails during a specified warranty period. Broader warranty and
service coverage is provided in many cases, and is sometimes made available to
customers on a contractual basis for an additional charge.
The Company provides technical assistance from several locations
around the world. Technical support is available for the Company's customers 24
hours-a-day, seven days-a-week.
COMPETITION
The Company faces strong competition in the markets for all of its
products. The market for ESS systems is highly competitive, and includes
numerous products offering a broad range of features and capacities. The primary
competitors are suppliers of turnkey ESS systems and software, and indirect
competitors that supply certain components to systems integrators. Many of
Comverse's competitors specialize in a subset of Comverse's portfolio of
products. Direct and/or indirect competitors include, among others, Boston
Communications, Cap Gemini, Ericsson, Glenayre, IBM, InterVoice, LogicaCMG,
Lucent, Motorola, Nokia, Openwave, SS8 Networks, Tecnomen, Telcordia, and
Unisys. Competitors of Comverse that manufacture other telecommunications
equipment may derive a competitive advantage in selling ESS systems to customers
that are purchasing or have previously purchased other compatible equipment from
such manufacturers.
Indirect competition is provided by messaging and other enhanced
communications products employed at end-user sites as an alternative to the use
of services available through telecommunications network operators. This
"enterprise based equipment" includes a broad range of products, such as
stand-alone voicemail systems, answering machines, telephone handsets with
voice-activated dialing and other enhanced services capabilities, products
offering "call processing" services that are supplied with voicemail features or
integrated with other voicemail systems, as well as personal computer modems and
add-on cards and software designed to furnish enhanced communications
capabilities.
Comverse believes that competition in the sale of ESS systems is
based on a number of factors, the most important of which are product features
and functionality, system capacity and reliability, marketing and distribution
10
capability and price. Other important competitive factors include service and
support and the capability to integrate systems with a variety of telecom
networks, IP networks and Operation and Support Systems (OSS). Comverse believes
that the range of capabilities provided by, and the ease of use of, its systems
compare favorably with other products currently marketed. Comverse anticipates
that a number of its direct and indirect competitors will introduce new or
improved ESS systems during the next several years.
Verint faces strong competition in the markets for its products, both
in the United States and internationally. Verint expects competition to persist
and intensify in the digital security and surveillance market, primarily due to
increased demand for homeland defense and security solutions following the
September 11, 2001 terrorist attacks. Verint's primary competitors are suppliers
of security and recording systems and software, and indirect competitors that
supply certain components to systems integrators. In the enterprise business
intelligence market, Verint faces competition from organizations emerging from
the traditional call logging or call recording market as well as software
companies that develop and sell products that perform specific functions for
this market. Additionally, many of Verint's competitors specialize in a subset
of Verint's portfolio of products and services. Primary competitors include,
among others, ECtel, e-talk, ETI, JSI Telecom, NICE Systems, Pelco, Raytheon,
Sensormatic, SS8 Networks and Witness Systems. Verint believes it competes
principally on the basis of product performance and functionality, knowledge and
experience in the industry, product quality and reliability, customer service
and support, and price.
Verint believes that its success depends primarily on its ability to
provide technologically advanced and cost effective solutions and to continue to
provide its customers with prompt and responsive customer support. Competitors
that manufacture other security-related systems or other recording systems may
derive a competitive advantage in selling to customers that are purchasing or
have previously purchased other compatible equipment from such manufacturers.
Further, Verint expects that competition will increase as other established and
emerging companies enter its markets and as new products, services and
technologies are introduced.
Competitors of Ulticom include a number of companies ranging from SS7
software solution providers, such as Hughes Software Systems and SS8 Networks,
to vendors of communication and network infrastructure equipment, such as
Continuous Computing (formerly Trillium Digital Systems) and Hewlett Packard.
Ulticom believes it competes principally on the basis of product performance and
functionality, product quality and reliability, customer service and support,
and price.
Many of the Company's present and potential competitors are
considerably larger than the Company, are more established, have a larger
installed base of customers and have greater financial, technical, marketing and
other resources.
MANUFACTURING AND SOURCES OF SUPPLIES
The Company's manufacturing operations consist primarily of final
assembly and testing, involving the application of extensive testing and quality
control procedures to materials, components, subassemblies and systems. The
Company primarily uses third-parties to perform modules and subsystem assembly,
component testing and sheet metal fabrication. Although the Company generally
uses standard parts and components in its products, certain components and
11
subassemblies are presently available only from a limited number of sources. To
date, the Company has been able to obtain adequate supplies of all components
and subassemblies in a timely manner from existing sources or, when necessary,
from alternative sources or redesign the system to incorporate new modules, when
applicable. However, the inability to obtain sufficient quantities of components
or to locate alternative sources of supply if and as required in the future,
would adversely affect the Company's operations.
The Company maintains organization-wide quality assurance procedures,
coordinating the quality control activities of the Company's research and
development, manufacturing and service departments.
CAPITAL MARKET ACTIVITIES
The Company seeks to identify and implement suitable investments, and
engages in portfolio investment and capital market activities, including venture
capital investments directly and indirectly through private equity funds. Both
directly and through a joint venture formed by the Company in partnership with
Quantum Industrial Holdings Ltd., an investment company managed by Soros Fund
Management LLC, the Company invests in venture capital in high technology firms,
and engages in other investment activities. The Company has significantly
reduced its new venture capital investments in recent periods.
OPERATIONS IN ISRAEL
A substantial portion of the Company's research and development,
manufacturing and other operations are located in Israel and, accordingly, may
be affected by economic, political and military conditions in that country.
Since the establishment of the State of Israel in 1948, a number of armed
conflicts have taken place between Israel and its Arab neighbors, and the
continued state of hostility, varying in degree and intensity, has led to
security and economic problems for Israel. Since October 2000, there has been a
significant increase in violence, primarily in the West Bank and Gaza Strip, and
more recently Israel has experienced terrorist incidents within its borders.
During this period, peace negotiations between Israel and representatives of the
Palestinian Authority have been sporadic and currently are suspended. The
Company could be adversely affected by hostilities involving Israel, the
interruption or curtailment of trade between Israel and its trading partners, or
a significant downturn in the economic or financial condition of Israel. In
addition, the sale of products manufactured in Israel may be adversely affected
in certain countries by restrictive laws, policies or practices directed toward
Israel or companies having operations in Israel. The continuation or
exacerbation of violence in Israel or the outbreak of violent conflicts
involving Israel may impede the Company's ability to sell its products or
otherwise adversely affect the Company. In addition, many of the Company's
Israeli employees are required to perform annual compulsory military reserve
duty in Israel, and are subject to being called to active duty at any time under
emergency circumstances. The absence of these employees may have an adverse
effect upon the Company's operations.
Israel is a member of the United Nations, the International Monetary
Fund, the International Bank for Reconstruction and Development, and the
International Finance Corporation, and is a signatory to the General Agreement
on Tariffs and Trade, which provides for reciprocal lowering of trade barriers
among its members. In addition, Israel has been granted preferences under the
12
Generalized System of Preferences from the United States, Australia, Canada, and
Japan. These preferences allow Israel to export the products covered by such
programs either duty-free or at reduced tariffs.
Israel has entered into free trade agreements with its major trading
partners. Israel and the European Union are parties to a Free Trade Agreement
pursuant to which, subject to rules of origin, Israel's industrial exports to
the European Union are exempt from customs duties and other non-tariff barriers
and import restrictions. Israel also has an agreement with the United States to
establish a Free Trade Area that has eliminated all tariff and certain
non-tariff barriers on most trade between the two countries. Israel has also
entered into an agreement with the European Free Trade Association ("EFTA"),
which currently includes Iceland, Liechtenstein, Norway and Switzerland, that
established a free-trade zone between Israel and EFTA nations exempting
manufactured goods and some agricultural goods and processed foods from customs
duties, while reducing duties on other goods. Israel also has free trade
agreements with a number of other countries, such as Canada, Mexico and various
European countries. The end of the Cold War has also enabled Israel to establish
commercial and trade relations with a number of nations, including Russia,
China, India, Turkey and the nations of Eastern Europe, with whom Israel had not
previously had such relations.
The Company's business is dependent to some extent on trading
relationships between Israel and other countries. Certain of the Company's
products incorporate components imported into Israel from the United States and
other countries and most of the Company's products are sold outside of Israel.
Accordingly, the Company's operations would be adversely affected if trade
between Israel and its current trading partners were interrupted or curtailed.
The sale of products manufactured in Israel has been adversely affected in
certain markets by restrictive laws, policies or practices directed toward
Israel or companies having operations in Israel. The continuation or
exacerbation of conflicts involving Israel and other nations may impede the
Company's ability to sell its products in certain markets.
The Company benefits from various policies of the Government of
Israel, including reduced taxation and special subsidy programs, designed to
stimulate economic activity, particularly high technology industry, in that
country. As a condition of its receipt of funds for various research and
development projects conducted under programs sponsored by the Government of
Israel, the Company has agreed that products resulting from these projects may
not be manufactured, nor may the technology developed in the projects be
transferred, outside of Israel without government consent.
The results of operations of the Company have been favorably affected
by participation in Israeli government programs related to research and
development, as well as utilization of certain tax incentives and other
incentives available under applicable Israeli laws and regulations, some of
which have been reduced, discontinued or otherwise modified in recent years. In
addition, the Company's ability to obtain benefits under various discretionary
funding programs has declined and may continue to decline. The results of
operations of the Company could be adversely affected if these programs were
further reduced or eliminated and not replaced with equivalent programs or if
its ability to participate in these programs were to be reduced significantly.
13
EMPLOYEES
At January 31, 2003, the Company employed approximately 4,789
individuals, of whom approximately 80% are scientists, engineers and technicians
engaged in research and development, marketing and support activities. The
Company considers its relationship with its employees to be good.
The Company is not a party to any collective bargaining or other
agreement with any labor organization; however, certain provisions of the
collective bargaining agreements between the Histadrut (General Federation of
Labor in Israel) and the Coordinating Bureau of Economic Organizations
(including the Industrialists' Association) are applicable to the Company's
Israeli employees by order of the Israeli Ministry of Labor. Israeli law
generally requires the payment by employers of severance pay upon the death of
an employee, his or her retirement or upon termination of his or her employment,
and the Company provides for such payment obligations through monthly
contributions to an insurance fund. Israeli employees and employers are required
to pay pre-determined sums to the National Insurance Institute, which payment
covers medical and other benefits similar to the benefits provided by the United
States Social Security Administration.
The continuing success of the Company will depend, to a considerable
extent, on the contributions of its senior management and key employees, many of
whom would be difficult to replace, and on the Company's ability to attract and
retain qualified employees in all areas of its business. Competition for such
personnel is intense. In order to attract and retain talented personnel, and to
provide incentives for their performance, the Company has emphasized the award
of stock options as an important element of its compensation program, including
options to purchase shares in certain of the Company's subsidiaries, and
provides cash bonuses based on several parameters, including the profitability
of the recipients' respective business units.
ITEM 2. PROPERTIES.
As of January 31, 2003, the Company leased an aggregate of
approximately 2,478,000 square feet of office space and manufacturing and
related facilities for its operations worldwide, including approximately
1,540,000 square feet in Tel Aviv, Israel, approximately 367,000 square feet in
Wakefield, Massachusetts, approximately 60,000 square feet in Woodbury, New
York, approximately 85,000 square feet in Mt. Laurel, New Jersey, an aggregate
of approximately 186,000 square feet at various other locations in the United
States and an aggregate of approximately 240,000 square feet at various
locations in Europe, Asia-Pacific, South America, Africa and Canada. The
aggregate base monthly rent for the facilities under lease as of January 31,
2003 was approximately $3,070,000, and all of such leases are subject to various
pass-throughs and escalation adjustments.
14
In addition, the Company owns office space and manufacturing and
related facilities of approximately 40,000 square feet in Durango, Colorado,
approximately 27,000 square feet in Bexbach, Germany, and approximately 423,000
square feet of unimproved land in Ra'anana, Israel.
The Company believes that its facilities currently under lease are
more than adequate for its current operations, and may endeavor selectively to
reduce its existing facilities commitments as circumstances may warrant.
ITEM 3. LEGAL PROCEEDINGS.
On or about October 19, 2001, a securities class action complaint
entitled Kevin Beier v. Comverse Technology, Inc., et al., CV 016972, was filed
against CTI and certain of its executive officers in the United States District
Court for the Eastern District of New York ("the Court"). An amended
consolidated complaint was filed on March 4, 2002. The amended consolidated
complaint generally alleged violations of federal securities laws on behalf of
individuals who alleged that they purchased CTI's common stock during a
purported class period between April 30, 2001 and July 10, 2001. The amended
consolidated complaint sought an unspecified amount in damages on behalf of
persons who purchased CTI stock during the purported class period. On April 22,
2002, CTI filed a Motion to Dismiss the amended consolidated complaint in its
entirety. On September 30, 2002, the Court granted CTI's Motion to Dismiss the
amended consolidated complaint. On November 8, 2002, the Court entered a final
judgment dismissing the amended consolidated complaint with prejudice. On
November 26, 2002, plaintiffs agreed to waive their right to appeal the judgment
in exchange for CTI's agreement that each side bear its own costs and legal
fees. Plaintiffs' time to appeal has expired and no appeal was filed, and the
case is now closed.
From time to time, the Company is subject to claims in legal
proceedings arising in the normal course of its business. The Company does not
believe that it is currently party to any pending legal action that could
reasonably be expected to have a material adverse effect on its business,
financial condition and results of operations.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
At the Company's annual meeting of shareholders held on December 3,
2002, for which proxies were solicited pursuant to Regulation 14A under the
Securities Exchange Act of 1934, as amended, the following matters were voted
upon by shareholders:
1. The Company's 2002 Employee Stock Purchase Plan was approved,
under which up to 1,500,000 shares of Common Stock may be made available for
purchase by eligible employees. A total of 168,316,299 votes were cast for
approval, a total of 2,783,133 votes were cast against approval and a total of
963,754 votes were abstentions.
2. Ratification of Deloitte & Touche LLP as independent auditors of
the Company for the year ending January 31, 2003. A total of 168,052,290 votes
were cast for approval, a total of 3,188,405 votes were cast against approval
and a total of 822,491 votes were abstentions.
15
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY
AND RELATED STOCKHOLDER MATTERS.
The Common Stock of CTI trades on the NASDAQ National Market System
under the symbol CMVT. The following table sets forth the range of closing
prices of the Common Stock as reported on NASDAQ for the past two fiscal years:
YEAR FISCAL QUARTER LOW HIGH
2001 2/1/01 - 4/30/01 $ 45.82 $113.13
5/1/01 - 7/31/01 24.78 74.11
8/1/01 - 10/31/01 15.90 29.87
11/1/01 - 1/31/02 19.14 26.93
2002 2/1/02 - 4/30/02 11.68 20.74
5/1/02 - 7/31/02 7.60 12.93
8/1/02 - 10/31/02 6.82 9.26
11/1/02 - 1/31/03 7.87 12.33
There were 1,803 holders of record of Common Stock at April 25, 2003.
Such record holders include a number of holders who are nominees for an
undetermined number of beneficial owners. The Company believes that the number
of beneficial owners of the shares of Common Stock outstanding at such date was
approximately 30,000.
The Company has not declared or paid any cash dividends on its equity
securities and does not expect to pay any cash dividends in the near future, but
rather intends to retain its earnings to finance the development of the
Company's business. Any future determination as to the declaration and payment
of dividends will be made by the Board of Directors in its discretion, and will
depend upon the Company's earnings, financial condition, capital requirements
and other relevant factors. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations--Liquidity and Capital Resources."
16
ITEM 6. SELECTED FINANCIAL DATA.
The following tables present selected consolidated financial data for
the Company for the years ended January 31, 1999, 2000, 2001, 2002 and 2003.
Such information has been derived from the Company's audited consolidated
financial statements and should be read in conjunction with the Company's
consolidated financial statements and the notes to the consolidated financial
statements included elsewhere in this report. All financial information
presented herein has been retroactively adjusted for the July 2000 acquisition
of Loronix Information Systems, Inc. ("Loronix") to account for the transaction
as a pooling of interests. All per share data has been restated to reflect a
three-for-two stock split effected as a 50% stock dividend to shareholders of
record on March 31, 1999, distributed on April 15, 1999, and a two-for-one stock
split effected as a 100% stock dividend to shareholders of record on March 27,
2000, distributed on April 3, 2000.
YEAR ENDED JANUARY 31,
---------------------------------------------------------------------------------
1999(1) 2000(1) 2001 2002 2003
(IN THOUSANDS, EXCEPT PER SHARE DATA)
Statement of Operations Data:
Sales $708,805 $909,667 $1,225,058 $1,270,218 $735,889
Cost of Sales 304,665 371,589 482,658 525,480 338,121
Research and development, net 134,201 169,816 232,198 293,296 232,593
Selling, general and administrative 157,106 193,996 259,607 323,036 281,202
Acquisition expenses - 2,016 15,971 - -
Workforce reduction, restructuring and
impairment charges - - - 63,562 66,714
-------- --------- --------- -------- ---------
Income (loss) from operations 112,833 172,250 234,624 64,844 (182,741)
Interest and other income (expense), net 8,315 16,595 33,339 (5,789) 56,557
-------- --------- --------- -------- ---------
Income (loss) before income tax provision 121,148 188,845 267,963 59,055 (126,184)
Income tax provision 11,783 15,698 18,827 4,436 3,294
-------- --------- --------- -------- ---------
Net income (loss) $109,365 $173,147 $249,136 $54,619 $(129,478)
======== ========= ========= ======== =========
Earnings (loss) per share - diluted $0.75 $1.08 $1.39 $0.29 $(0.69)
======== ========= ========= ======== =========
Weighted avg number of common and common
equivalent shares outstanding - diluted 145,439 178,986 189,964 186,434 187,212
JANUARY 31,
--------------------------------------------------------------------------------
1999(2) 2000(2) 2001 2002 2003
(IN THOUSANDS)
Balance Sheet Data:
Working capital $712,165 $858,304 $1,860,379 $2,030,250 $1,766,507
Total assets 1,042,959 1,372,847 2,625,264 2,704,163 2,403,659
Long-term debt, including current portion 416,327 308,082 906,723 648,611 397,628
Stockholders' equity 390,855 724,839 1,236,165 1,616,408 1,549,692
(1) Includes the results of Loronix for its fiscal year ended December 31.
(2) Includes amounts for Loronix as of its fiscal year ended December 31.
17
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
CRITICAL ACCOUNTING POLICIES
Critical accounting policies are those that are both most important
to the portrayal of a company's financial position and results of operations,
and require management's most difficult, subjective or complex judgments.
Although not all of the Company's critical accounting policies require
management to make difficult, subjective or complex judgments or estimates, the
following policies and estimates are those that the Company deems most critical.
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities and disclosure of contingent assets and liabilities at
the date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from those
estimates.
The Company recognizes revenues in accordance with the provisions of
Statement of Position 97-2, "Software Revenue Recognition", and related
Interpretations. The Company's systems are generally a bundled hardware and
software solution that are shipped together. Revenue is generally recognized at
the time of shipment for sales of systems which do not require significant
customization to be performed by the Company when the following criteria are
met: (1) persuasive evidence of an arrangement exists, (2) delivery has
occurred, (3) the fee is fixed or determinable and (4) collectibility is
probable.
Post-contract customer support ("PCS") services are sold separately
or as part of a multiple element arrangement, in which case the related PCS
element is determined based upon vendor-specific objective evidence of fair
value, such that the portion of the total fee allocated to PCS services is
generally recognized as revenue ratably over the term of the PCS arrangement.
Revenues from certain development contracts are recognized under the
percentage-of-completion method on the basis of physical completion to date or
using actual costs incurred to total expected costs under the contract.
Revisions in estimates of costs and profits are reflected in the accounting
period in which the facts that require the revision become known. At the time a
loss on a contract is known, the entire amount of the estimated loss is accrued.
Amounts received from customers in excess of revenues earned under the
percentage-of-completion method are recorded as advance payments from customers.
Cost of sales include material costs, subcontractor costs, salary and
related benefits for the operations and service departments, depreciation and
amortization of equipment used in the operations and service departments,
amortization of capitalized software development costs, royalties and license
fee costs, travel costs and an overhead allocation. Research and development
costs include salary and related benefits as well as travel, depreciation and
amortization of research and development equipment, an overhead allocation, as
well as other costs associated with research and development activities.
Selling, general and administrative costs include salary and related benefits,
travel, depreciation and amortization, marketing and promotional materials,
recruiting expenses, professional fees, facility costs, as well as other costs
associated with sales, marketing, finance and administrative departments.
18
Accounts receivable are generally diversified due to the large number
of commercial and government entities comprising the Company's customer base and
their dispersion across many geographical regions. At the end of each accounting
period, the Company records a reserve for bad debts included in accounts
receivable based upon its current and historical collection history.
Software development costs are capitalized upon the establishment of
technological feasibility and are amortized over the estimated useful life of
the software, which to date has been four years or less. Amortization begins in
the period in which the related product is available for general release to
customers.
RESULTS OF OPERATIONS
INTRODUCTION
As explained in greater detail in "Certain Trends and Uncertainties",
the Company's two business units serving telecommunications markets are
operating within an industry experiencing a deep capital spending contraction
and, consequently, have experienced year over year revenue declines. In
contrast, Verint, which services the security and enterprise business
intelligence markets, achieved revenue growth based, in part, on heightened
awareness surrounding homeland defense and security related initiatives in the
U.S. and worldwide. Overall, however, with a substantial majority of sales for
the year ended January 31, 2003 generated from activities serving the
telecommunications industry, the Company experienced a year over year sales
decline of approximately 42%, resulting in an operating loss for the period.
YEAR ENDED JANUARY 31, 2003 COMPARED TO YEAR ENDED JANUARY 31, 2002
Sales. Sales for the fiscal year ended January 31, 2003 ("fiscal
2002") decreased by approximately $534.3 million, or 42%, compared to the fiscal
year ended January 31, 2002 ("fiscal 2001"). The decrease in sales is primarily
attributable to a decrease in sales of ESS products of approximately $537.3
million. Such decrease in ESS sales is attributable to all geographic regions,
with sales by region as a percentage of total sales remaining fairly consistent
between periods. In addition, sales of security and business intelligence
recording products and service enabling signaling software products increased
(decreased) by approximately $26.5 million and $(23.3) million, respectively. On
a consolidated basis, sales to international customers represented approximately
65% of sales for fiscal 2002 compared to approximately 70% of sales for fiscal
2001.
Cost of Sales. Cost of sales for fiscal 2002 decreased by
approximately $187.4 million, or 36%, compared to fiscal 2001. The decrease in
cost of sales is primarily attributable to decreased materials and overhead
costs of approximately $146.6 million, due primarily to the decrease in sales,
decreased royalty expense of approximately $20.5 million, decreased
personnel-related costs of approximately $8.0 million and decreased travel costs
of approximately $7.0 million, partially offset by a charge of approximately
$5.9 million pertaining to the write-down of the value of certain inventory and
the write-off of certain prepaid licenses for which there is no estimable future
use. Gross margins decreased from approximately 58.6% in fiscal 2001 to
approximately 54.1% in fiscal 2002.
Research and Development, Net. Net research and development expenses
19
for fiscal 2002 decreased by approximately $60.7 million, or 21%, compared to
fiscal 2001, primarily due to the reductions in workforce and a reduction of
research and development projects.
Selling, General and Administrative. Selling, general and
administrative expenses for fiscal 2002 decreased by approximately $41.8
million, or 13%, compared to fiscal 2001, and as a percentage of sales increased
from approximately 25.4% in fiscal 2001 to approximately 38.2% in fiscal 2002.
The decrease in the dollar amount of the expense was primarily due to the
reductions in workforce.
Workforce Reduction, Restructuring and Impairment Charges. In order
to better align its cost structure with the business environment and improve the
efficiency of its operations, the Company took steps to reduce its workforce,
restructure its operations and write-off impaired assets during fiscal 2001 and
fiscal 2002. In connection with these steps, the Company incurred charges of
approximately $63.6 million and $66.7 million in fiscal 2001 and fiscal 2002,
respectively, primarily pertaining to severance and other related costs, the
elimination of excess facilities and related leasehold improvements and the
write-off of certain property and equipment. The Company expects to pay out
approximately $9.4 million for severance and related obligations during the year
ended January 31, 2004 and approximately $40.5 million for facilities and
related obligations at various dates through January 2011.
Interest and Other Income (Expense), Net. Interest and other income
(expense), net for fiscal 2002 increased by approximately $62.3 million compared
to fiscal 2001. The principal reasons for the increase are (i) decreased
interest expense of approximately $6.8 million due to the redemption of the
Company's $300.0 million 4.5% convertible debentures in June 2001, as well as
the Company's repurchase of approximately $209.2 million face value of its 1.5%
convertible debentures during fiscal 2002; (ii) a gain of approximately $39.4
million recorded as a result of the Company's repurchase of approximately $209.2
million face value of its 1.5% convertible debentures during fiscal 2002; (iii)
change in foreign currency gains/losses of approximately $48.5 million due
primarily to the strengthening of the euro during fiscal 2002; and (iv) other
changes of approximately $1.3 million, net. Such items were offset by (i)
decreased interest and dividend income of approximately $26.0 million due
primarily to the decline in interest rates during fiscal 2002; (ii) an increase
in net losses from the sale and write-down of investments of approximately $4.6
million; (iii) change in the equity of affiliates of approximately $2.2 million;
and (iv) an increase of approximately $0.9 million in the minority interest.
Income Tax Provision. Provision for income taxes decreased from
fiscal 2001 to fiscal 2002 by approximately $1.1 million, or 26%, due primarily
to the overall decrease in pre-tax income coupled with shifts in the underlying
mix by tax jurisdiction. The Company's overall rate of tax is reduced
significantly by the existence of net operating loss carryforwards for Federal
income tax purposes in the United States, as well as the tax benefits associated
with qualified activities of certain of its Israeli subsidiaries, which are
entitled to favorable income tax rates under a program of the Israeli Government
for "Approved Enterprise" investments in that country.
Net Income (Loss). Net income (loss) decreased by approximately
$184.1 million in fiscal 2002 compared to fiscal 2001, while as a percentage of
sales decreased from approximately 4.3% in fiscal 2001 to approximately (17.6)%
20
in fiscal 2002. The decrease resulted primarily from the factors described
above.
YEAR ENDED JANUARY 31, 2002 COMPARED TO YEAR ENDED JANUARY 31, 2001
Sales. Sales for fiscal 2001 increased by approximately $45.2
million, or 4%, compared to the fiscal year ended January 31, 2001 ("fiscal
2000"). This increase is primarily attributable to an increase in sales of ESS
products of approximately $48.7 million. Such increase was principally due to
increased sales to American customers. In addition, sales of security and
business intelligence recording products and service enabling signaling software
products increased (decreased) by approximately $(8.0) million and $9.3 million,
respectively.
Cost of Sales. Cost of sales for fiscal 2001 increased by
approximately $42.8 million, or 9%, compared to fiscal 2000. The increase in
cost of sales is primarily attributable to increased materials and overhead
costs of approximately $21.8 million, due primarily to the increase in sales,
and increased personnel-related costs of approximately $23.2 million, due to the
hiring of additional personnel and increased compensation and benefits for
existing personnel. Gross margins decreased from approximately 60.6% in fiscal
2000 to approximately 58.6% in fiscal 2001.
Research and Development, Net. Net research and development expenses
for fiscal 2001 increased by approximately $61.1 million, or 26%, compared to
fiscal 2000, due to overall growth of research and development operations and
the initiation of significant new research and development projects. The
increase was primarily due to the hiring of additional personnel and increased
compensation and benefits for existing personnel of approximately $32.9 million,
lower reimbursements for research and development projects submitted for funding
to the OCS of approximately $11.5 million, an increase in depreciation and
amortization costs of approximately $6.3 million and an increase in the overhead
allocation of approximately $3.6 million.
Selling, General and Administrative. Selling, general and
administrative expenses for fiscal 2001 increased by approximately $63.4
million, or 24%, compared to fiscal 2000, and as a percentage of sales increased
from approximately 21.2% in fiscal 2000 to approximately 25.4% in fiscal 2001.
The increase was primarily due to the hiring of additional personnel and
increased compensation and benefits for existing personnel to support the
increased level of sales during the first half of fiscal 2001.
Acquisition Expenses. In July 2000, the Company acquired all of the
outstanding stock of Loronix Information Systems, Inc., a company that develops
software-based digital video recording and management systems, and all of the
outstanding stock of Syborg Informationsysteme GmbH, a company that develops
software-based digital voice and Internet recording and workforce management
systems. In August 2000, the Company acquired all of the outstanding stock of
Gaya Software Industries Ltd., a company specializing in software-based
intelligent IP gateways and VoIP technology, and all of the outstanding stock of
Exalink Ltd., a company specializing in protocol gateways and applications
software for the delivery of Internet-based services to all types of wireless
devices. These business combinations were accounted for as pooling of interests.
In connection with the above acquisitions, the Company charged to
21
operations approximately $16.0 million in fiscal 2000 for merger related
charges. Such charges relate to the following:
Asset write-downs and impairments
---------------------------------
In connection with the acquisitions in fiscal 2000, certain assets
became impaired due to the existence of duplicative technology, property and
equipment and inventory of the merged companies. Accordingly, these assets were
written down to their net realizable value at the time of the mergers and a
charge of approximately $7.4 million was charged to operations.
Professional fees and other direct merger expenses
--------------------------------------------------
In connection with the acquisitions in fiscal 2000, the Company
recorded a charge of approximately $8.6 million for professional fees to
lawyers, investment bankers and accountants, as well as other direct merger
costs in connection with the mergers, such as printing costs and filing fees.
Workforce Reduction, Restructuring and Impairment Charges. During
fiscal 2001, the Company took steps to better align its cost structure with the
business environment and to improve the efficiency of its operations. These
steps included a reduction in workforce announced in April 2001 and a
restructuring plan announced in December 2001. In connection with the
implementation of these actions the Company incurred charges of approximately
$63.6 million to cover the costs of severance, elimination of excess facilities
and related leasehold improvements, write-off of certain inventory, property and
equipment and capitalized software and other restructuring related charges, such
as professional fees.
Interest and Other Income (Expense), Net. Interest and other income
(expense), net for fiscal 2001 decreased by approximately $39.1 million compared
to fiscal 2000. The principal reasons for the decrease are increased net
realized losses and write-downs of the Company's investments and decreased
equity in the earnings of affiliates of approximately $22.1 million, increased
interest expense of approximately $0.3 million and a change in foreign currency
gains/losses of approximately $20.1 million. These decreases were partially
offset by increased interest and dividend income of approximately $7.6 million.
The increase in interest and dividend income is primarily a result of the
inclusion of the proceeds for a full year in fiscal 2001 of the Company's $600.0
million 1.5% convertible debentures issued in November and December 2000,
partially offset by the decrease in interest rates during fiscal 2001.
Income Tax Provision. Provision for income taxes decreased from
fiscal 2000 to fiscal 2001 by approximately $14.4 million, or 76%, due primarily
to decreased pre-tax income. The Company's overall effective tax rate increased
from approximately 7.0% during fiscal 2000 to approximately 7.5% in fiscal 2001.
The Company's overall rate of tax is reduced significantly by the tax benefits
associated with qualified activities of certain of its Israeli subsidiaries,
which are entitled to favorable income tax rates under a program of the Israeli
Government for "Approved Enterprise" investments in that country.
Net Income (Loss). Net income decreased by approximately $194.5
million, or 78%, in fiscal 2001 compared to fiscal 2000, while as a percentage
of sales decreased from approximately 20.3% in fiscal 2000 to approximately 4.3%
22
in fiscal 2001. The decrease resulted primarily from the factors described
above.
LIQUIDITY AND CAPITAL RESOURCES
The Company's working capital at January 31, 2003 and 2002 was
approximately $1,766.5 million and $2,030.3 million, respectively. At January
31, 2003 and 2002, the Company had total cash and cash equivalents, bank time
deposits and short-term investments of approximately $1,808.9 million and
$1,892.5 million, respectively.
Operations for fiscal 2002, fiscal 2001 and fiscal 2000, after
adjustment for non-cash items, provided (used) cash of approximately $(35.7)
million, $130.0 million and $309.7 million, respectively. During such years,
other changes in operating assets and liabilities provided (used) cash of
approximately $132.5 million, $12.2 million and $(65.2) million, respectively.
This resulted in net cash provided by operating activities of approximately
$96.8 million, $142.2 million and $244.5 million during fiscal 2002, fiscal 2001
and fiscal 2000, respectively.
Investing activities for fiscal 2002, fiscal 2001 and fiscal 2000
provided (used) cash of approximately $35.9 million, $(122.4) million and
$(207.3) million, respectively. These amounts include (i) net maturities and
sales (purchases) of bank time deposits and investments of approximately $114.5
million, $(44.8) million and $(94.5) million, respectively; (ii) additions to
property and equipment of approximately $(34.1) million, $(54.6) million and
$(97.3) million, respectively; (iii) capitalization of software development
costs of approximately $(13.4) million, $(23.0) million and $(15.5) million,
respectively; and (iv) net assets acquired as a result of acquisitions of
approximately $(31.1) million in fiscal 2002.
Financing activities for fiscal 2002, fiscal 2001 and fiscal 2000
provided (used) cash of approximately $(91.8) million, $67.0 million and $894.1
million, respectively. These amounts include (i) net proceeds from the issuance
of the Company's 1.5% convertible senior debentures due December 2005 (the
"Debentures") in fiscal 2000 of approximately $588.4 million and net repayments
from the repurchase of Debentures in fiscal 2002 of approximately $(169.8)
million; (ii) proceeds from the issuance of common stock in connection with the
exercise of stock options and employee stock purchase plan of approximately
$12.4 million, $28.8 million and $111.4 million, respectively; (iii) net
proceeds from the issuance of common stock of subsidiaries in connection with
public offerings in fiscal 2002 and fiscal 2000 of approximately $68.7 million
and $195.2 million, respectively; and (iv) net proceeds (repayments) of bank
loans and other debt of approximately $(3.1) million, $38.2 million and $(0.9)
million, respectively.
In November and December 2000, the Company issued $600.0 million
aggregate principal amount of the Debentures for net proceeds of approximately
$588.4 million. During fiscal 2002, the Company acquired, in open market
purchases, approximately $209.2 million of face amount of the Debentures for
approximately $169.8 million in cash, resulting in a pre-tax gain of
approximately $39.4 million included in `Interest and other income (expense),
net' in the Consolidated Statements of Operations.
As of January 31, 2003, the Company had outstanding Debentures of
approximately $390.8 million. During March and April 2003, the Company acquired,
in open market purchases, approximately $44.6 million of face amount of the
Debentures for approximately $41.3 million in cash, resulting in a pre-tax gain
of approximately $2.8 million.
23
In January 2002, Verint took a bank loan in the amount of $42.0
million. This loan, which matured in February 2003, bore interest at LIBOR plus
0.55% and was guaranteed by CTI. During February 2003, Verint repaid the bank
loan.
In April and October 2000, Ulticom completed initial and secondary
public offerings of its common stock. Proceeds to Ulticom from the offerings
totaled approximately $195.2 million, net of offering expenses. As of January
31, 2003, the Company's ownership interest in Ulticom was approximately 71.6%.
In May 2002, Verint completed an initial public offering of its
common stock. Proceeds from the offering totaled approximately $65.4 million,
net of offering expenses. As of January 31, 2003, the Company's ownership
interest in Verint was approximately 78.6%.
In February 2002, Verint acquired the digital video recording
business of Lanex, LLC ("Lanex"). The Lanex business provides digital video
recording solutions for security and surveillance applications primarily to
North American banks. The purchase price consisted of $9.5 million in cash and a
$2.2 million convertible note. The note is non-interest bearing and matures on
February 1, 2004. The holder of the note may elect to convert the note, in whole
or in part, into shares of Verint's common stock at a conversion price of $16.06
per share. The note is guaranteed by CTI.
In June 2002, the Company acquired Odigo, Inc. ("Odigo"), a
privately-held provider of instant messaging and presence management solutions
to service providers. The purchase price was approximately $20.1 million in
cash. Prior to the acquisition, the Company was a strategic partner with Odigo,
holding an equity position which it previously acquired for approximately $3
million.
The Company has obtained bank guaranties primarily for performance of
certain obligations under contracts with customers. These guaranties, which
aggregated approximately $29.5 million at January 31, 2003, are to be released
by the Company's performance of specified contract milestones, which are
scheduled to be completed primarily during 2003.
In 1997, a subsidiary of CTI and Quantum Industrial Holdings Ltd.
organized two new companies to make investments, including investments in high
technology ventures. Each participant committed a total of $37.5 million to the
capital of the new companies, for use as suitable investment opportunities are
identified. Quantum Industrial Holdings Ltd. is a member of the Quantum Group of
Funds managed by Soros Fund Management LLC and affiliated management companies.
As of January 31, 2003, the Company has invested approximately $25.3 million
related to these ventures. In addition, the Company has committed approximately
$21.6 million to various companies, ventures and funds which may be called at
the option of the investee.
The Company leases office, manufacturing, and warehouse space under
non-cancelable operating leases. As of January 31, 2003, the minimum annual rent
obligations of the Company were approximately $31.6 million, $30.5 million,
$29.3 million, $9.6 million and $29.3 million, respectively, for the twelve
months ended January 31, 2004, 2005, 2006, 2007, and 2008 and thereafter, for a
total obligation of approximately $130.3 million.
24
The ability of CTI's Israeli subsidiaries to pay dividends is
governed by Israeli law, which provides that cash dividends may be paid by an
Israeli corporation only out of retained earnings as determined for statutory
purposes in Israeli currency. In the event of a devaluation of the Israeli
currency against the dollar, the amount in dollars available for payment of cash
dividends out of prior years' earnings will decrease accordingly. Cash dividends
paid by an Israeli corporation to United States residents are subject to
withholding of Israeli income tax at source at a rate of up to 25%, depending on
the particular facilities which have generated the earnings that are the source
of the dividends.
The Company's liquidity and capital resources have not been, and are
not anticipated to be, materially affected by restrictions pertaining to the
ability of its foreign subsidiaries to pay dividends or by withholding taxes
associated with any such dividend payments.
The Company regularly examines opportunities for strategic
acquisitions of other companies or lines of business and anticipates that it may
from time to time issue additional debt and/or equity securities either as
direct consideration for such acquisitions or to raise additional funds to be
used (in whole or in part) in payment for acquired securities or assets. The
issuance of such securities could be expected to have a dilutive impact on the
Company's shareholders, and there can be no assurance as to whether or when any
acquired business would contribute positive operating results commensurate with
the associated investment.
The Company believes that its existing working capital, together with
funds generated from operations, will be sufficient to provide for its planned
operations for the foreseeable future.
CERTAIN TRENDS AND UNCERTAINTIES
The Company derives the majority of its revenue from the
telecommunications industry, which continues to face an unprecedented recession.
This has resulted in a significant reduction of capital expenditures made by
telecommunications service providers ("TSP"). The Company's operating results
and financial condition have been, and will continue to be, adversely affected
by the severe decline in technology purchases and capital expenditures by TSPs
worldwide. Consequently, the Company's operating results have deteriorated
significantly in recent periods and may continue to deteriorate in future
periods if such conditions remain in effect. For these reasons and the risk
factors outlined below, it has been and continues to be very difficult for the
Company to accurately forecast future revenues and operating results.
The Company's business is particularly dependent on the strength of
the telecommunications industry. The telecommunications industry, including the
Company, have been negatively affected by, among other factors, the high costs
and large debt positions incurred by some TSPs to expand capacity and enable the
provision of future services (and the corresponding risks associated with the
development, marketing and adoption of these services as discussed below),
including the cost of acquisitions of licenses to provide broadband services and
reductions in TSPs' actual and projected revenues and deterioration in their
actual and projected operating results. Accordingly, TSPs, including the
Company's customers, have significantly reduced their actual and planned
expenditures to expand or replace equipment and delayed and reduced the
deployment of services. A number of TSPs, including certain customers of the
25
Company, also have indicated the existence of conditions of excess capacity in
certain markets.
In addition, certain TSPs have delayed the planned introduction of
new services, such as broadband mobile telephone services, that would be
supported by certain of the Company's products. Certain of the Company's
customers also have implemented changes in procurement practices and procedures,
including limitations on purchases in anticipation of estimated future capacity
requirements, and in the management and use of their networks, that have reduced
the Company's sales, which also has made it very difficult for the Company to
project future sales. The continuation and/or exacerbation of these negative
trends will have an adverse effect on the Company's future results. In addition
to loss of revenue, weakness in the telecommunications industry has affected and
will continue to affect the Company's business by increasing the risks of credit
or business failures of suppliers, customers or distributors, by customer
requirements for vendor financing and longer payment terms, by delays and
defaults in customer or distributor payments, and by price reductions instituted
by competitors to retain or acquire market share.
The Company's current plan of operations is predicated in part on a
recovery in capital expenditures by its customers. In the absence of such
improvement, the Company would experience further deterioration in its operating
results, and may determine to modify its plan for future operations accordingly,
which may include, among other things, additional reductions in its workforce.
The Company intends to continue to make significant investments in
its business, and to examine opportunities for growth through acquisitions and
strategic investments. These activities may involve significant expenditures and
obligations that cannot readily be curtailed or reduced if anticipated demand
for the associated products does not materialize or is delayed. The impact of
these decisions on future financial results cannot be predicated with assurance,
and the Company's commitment to growth may increase its vulnerability to
downturns in its markets, technology changes and shifts in competitive
conditions. The Company also may not be able to identify future suitable merger
or acquisition candidates, and even if the Company does identify suitable
candidates, it may not be able to make these transactions on commercially
acceptable terms, or at all. If the Company does make acquisitions, it may not
be able to successfully incorporate the personnel, operations and customers of
these companies into the Company's business. In addition, the Company may fail
to achieve the anticipated synergies from the combined businesses, including
marketing, product integration, distribution, product development and other
synergies. The integration process may further strain the Company's existing
financial and managerial controls and reporting systems and procedures. This may
result in the diversion of management and financial resources from the Company's
core business objectives. In addition, an acquisition or merger may require the
Company to utilize cash reserves, incur debt or issue equity securities, which
may result in a dilution of existing stockholders, and the Company may be
negatively impacted by the assumption of liabilities of the merged or acquired
company. Due to rapidly changing market conditions, the Company may find the
value of its acquired technologies and related intangible assets, such as
goodwill as recorded in the Company's financial statements, to be impaired,
resulting in charges to operations. The Company may also fail to retain the
acquired or merged companies' key employees and customers.
The Company has made, and in the future, may continue to make
strategic investments in other companies. These investments have been made in,
26
and future investments will likely be made in, immature businesses with unproven
track records and technologies. Such investments have a high degree of risk,
with the possibility that the Company may lose the total amount of its
investments. The Company may not be able to identify suitable investment
candidates, and, even if it does, the Company may not be able to make those
investments on acceptable terms, or at all. In addition, even if the Company
makes investments, it may not gain strategic benefits from those investments.
The Company's products involve sophisticated hardware and software
technology that performs critical functions to highly demanding standards. There
can be no assurance that the Company's current or future products will not
develop operational problems, which could have a material adverse effect on the
Company.
The telecommunications industry is subject to rapid technological
change. The introduction of new technologies in the telecommunications market,
including the delay in the adoption of such new technologies, and new
alternatives for the delivery of services are having, and can be expected to
continue to have, a profound effect on competitive conditions in the market and
the success of market participants, including the Company. The Company's
continued success will depend on its ability to correctly anticipate
technological trends in its industries, to react quickly and effectively to such
trends and to enhance its existing products and to introduce new products on a
timely and cost-effective basis. As a result, the life cycle of the Company's
products is difficult to estimate. The Company's new product offerings may not
properly integrate into existing platforms and the failure of new product
offerings to be accepted by the market could have a material adverse effect on
our business, results of operations, and financial condition. In addition,
changing industry and market conditions may dictate strategic decisions to
restructure some business units and discontinue others. Discontinuing a business
unit or product line may result in the Company recording accrued liabilities for
special charges, such as costs associated with a reduction in workforce. These
strategic decisions could result in changes to determinations regarding a
product's useful life and the recoverability of the carrying basis of certain
assets.
The Company relies on a limited number of suppliers and manufacturers
for specific components and may not be able to find alternate manufacturers that
meet its requirements and existing or alternative sources may not be available
on favorable terms and conditions. Thus, if there is a shortage of supply for
these components, the Company may experience an interruption in its product
supply. In addition, loss of third party software licensing could materially and
adversely affect the Company's business, financial condition and results of
operations.
The telecommunications industry continues to undergo significant
change as a result of deregulation and privatization worldwide, reducing
restrictions on competition in the industry. Unforeseen changes in the
regulatory environment also may have an impact on the Company's revenues and/or
costs in any given part of the world. The worldwide ESS system industry is
already highly competitive and the Company expects competition to intensify. The
Company believes that existing competitors will continue to present substantial
competition, and that other companies, many with considerably greater financial,
marketing and sales resources than the Company, may enter the ESS system
markets. Moreover, as the Company enters into new markets as a result of its own
research and development efforts or acquisitions, it is likely to encounter new
competitors.
27
The market for the Company's digital security and surveillance and
enterprise business intelligence products in the past has been affected by
weakness in general economic conditions, delays or reductions in customers'
purchases of capital equipment and uncertainties relating to government
expenditure programs. The Company's business generated from government contracts
may be adversely affected if: (i) the Company's reputation or relationship with
government agencies is impaired, (ii) the Company is suspended or otherwise
prohibited from contracting with a domestic or foreign government or any
significant law enforcement agency, (iii) levels of government expenditures and
authorizations for law enforcement and security related programs decrease,
remain constant or shift to programs in areas where the Company does not provide
products and services, (iv) the Company is prevented from entering into new
government contracts or extending existing government contracts based on
violations or suspected violations of procurement laws or regulations, (v) the
Company is not granted security clearances required to sell products to domestic
or foreign governments or such security clearances are revoked, or (vi) there is
a change in government procurement procedures. Competitive conditions in this
sector also have been affected by the increasing use by certain potential
customers of their own internal development resources rather than outside
vendors to provide certain technical solutions. In addition, a number of
established government contractors, particularly developers and integrators of
technology products, have taken steps to redirect their marketing strategies and
product plans in reaction to cut-backs in their traditional areas of focus,
resulting in an increase in the number of competitors and the range of products
offered in response to particular requests for proposals.
The Company has historically derived a significant portion of its
sales and operating profit from contracts for large system installations with
major customers. The Company continues to emphasize large capacity systems in
its product development and marketing strategies. Contracts for large
installations typically involve a lengthy and complex bidding and selection
process, and the ability of the Company to obtain particular contracts is
inherently difficult to predict. The timing and scope of these opportunities and
the pricing and margins associated with any eventual contract award are
difficult to forecast, and may vary substantially from transaction to
transaction. The Company's future operating results may accordingly exhibit a
higher degree of volatility than the operating results of other companies in its
industries that have adopted different strategies, and also may be more volatile
than the Company has experienced in prior periods. The degree of dependence by
the Company on large system orders, and the investment required to enable the
Company to perform such orders, without assurance of continuing order flow from
the same customers and predictability of gross margins on any future orders,
increase the risk associated with its business. The Company's gross margins also
may be adversely affected by increases in material or labor costs, obsolescence
charges, price competition and changes in channels of distribution or in the mix
of products sold.
Geopolitical, economic and military conditions could directly affect
the Company's operations. The recent outbreak of severe acute respiratory
syndrome ("SARS") has curtailed travel to and from certain countries (primarily
in the Asia-Pacific region). Continued or additional restrictions on travel to
and from these and other regions on account of SARS could have a material
adverse effect on the Company's business, results of operations, and financial
condition. The continued threat of terrorism and heightened security and
military action in response to this threat, or any future acts of terrorism, may
cause disruptions to the Company's business. To the extent that such disruptions
result in delays or cancellations of customer orders, or the manufacture or
shipment of the Company's products, our business, operating results and
28
financial condition could be materially and adversely affected. More recently,
the U.S. military involvement in overseas operations including, for example, the
war with Iraq, could have a material adverse effect on the Company's business,
results of operations, and financial condition.
Since the establishment of the State of Israel in 1948, a number of
armed conflicts have taken place between Israel and its Arab neighbors, and the
continued state of hostility, varying in degree and intensity, has led to
security and economic problems for Israel. Since October 2000, there has been a
significant increase in violence, primarily in the West Bank and Gaza Strip, and
more recently Israel has experienced terrorist incidents within its borders.
During this period, peace negotiations between Israel and representatives of the
Palestinian Authority have been sporadic and currently are suspended. The
Company could be adversely affected by hostilities involving Israel, the
interruption or curtailment of trade between Israel and its trading partners, or
a significant downturn in the economic or financial condition of Israel. In
addition, the sale of products manufactured in Israel may be adversely affected
in certain countries by restrictive laws, policies or practices directed toward
Israel or companies having operations in Israel. The continuation or
exacerbation of violence in Israel or the outbreak of violent conflicts
involving Israel may impede the Company's ability to sell its products or
otherwise adversely affect the Company. In addition, many of the Company's
Israeli employees in Israel are required to perform annual compulsory military
service in Israel and are subject to being called to active duty at any time
under emergency circumstances. The absence of these employees may have an
adverse effect upon the Company's operations.
The Company's costs of operations have at times been affected by
changes in the cost of its operations in Israel, resulting from changes in the
value of the Israeli shekel relative to the United States dollar, which for
certain periods had a negative impact, and from difficulties in attracting and
retaining qualified scientific, engineering and technical personnel in Israel,
where the availability of such personnel has at times been severely limited.
Changes in these cost factors have from time to time been significant and
difficult to predict, and could in the future have a material adverse effect on
the Company's results of operations.
The Company's historical operating results reflect substantial
benefits received from programs sponsored by the Israeli government for the
support of research and development, as well as tax moratoriums and favorable
tax rates associated with investments in approved projects ("Approved
Enterprises") in Israel. Some of these programs and tax benefits have ceased and
others may not be continued in the future and the availability of such benefits
to the Company may be affected by a number of factors, including budgetary
constraints resulting from adverse economic conditions, government policies and
the Company's ability to satisfy eligibility criteria.
The Israeli government has reduced the benefits available under some
of these programs in recent years, and Israeli government authorities have
indicated that the government may further reduce or eliminate some of these
benefits in the future. The Company has regularly participated in a conditional
grant program administered by the Office of the Chief Scientist of the Ministry
of Industry and Trade of the State of Israel ("OCS") under which it has received
significant benefits through reimbursement of up to 50% of qualified research
and development expenditures. Verint currently pays royalties, of between 3% and
5% (or 6% under certain circumstances) of associated product revenues (including
service and other related revenues) to the Government of Israel for repayment of
29
benefits received under this program. Such royalty payments by Verint are
currently required to be made until the government has been reimbursed the
amounts received by the Company plus, for amounts received under projects
approved by the OCS after January 1, 1999, interest on such amount at a rate
equal to the 12-month LIBOR rate in effect on January 1 of the year in which
approval is obtained. During fiscal 2001, Comverse entered into an arrangement
with the OCS whereby Comverse agreed to pay a lump sum royalty amount for all
past amounts received from the OCS. In addition, Comverse began to receive lower
amounts from the OCS than it had historically received, but will not have to pay
royalty amounts on such grants. The amount of reimbursement received by the
Company under this program has been reduced significantly, and the Company does
not expect to receive significant reimbursement under this program in the
future. In addition, permission from the Government of Israel is required for
the Company to manufacture outside of Israel products resulting from research
and development activities funded under these programs, or to transfer outside
of Israel related technology rights. In order to obtain such permission, the
Company may be required to increase the royalties to the applicable funding
agencies and/or repay certain amounts received as reimbursement of research and
development costs. The continued reduction in the benefits received by the
Company under the program, or the termination of its eligibility to receive
these benefits at all in the future, could adversely affect the Company's
operating results.
The Company's overall effective tax rate benefits from the tax
moratorium provided by the Government of Israel for Approved Enterprises
undertaken in that country. The Company's effective tax rate may increase in the
future due to, among other factors, the increased proportion of its taxable
income associated with activities in higher tax jurisdictions, and by the
relative ages of the Company's eligible investments in Israel. The tax
moratorium on income from the Company's Approved Enterprise investments made
prior to 1997 is four years, whereas subsequent Approved Enterprise projects are
eligible for a moratorium of only two years. Reduced tax rates apply in each
case for certain periods thereafter. To be eligible for these tax benefits, the
Company must continue to meet conditions, including making specified investments
in fixed assets and financing a percentage of investments with share capital. If
the Company fails to meet such conditions in the future, the tax benefits would
be canceled and the Company could be required to refund the tax benefits already
received. Israeli authorities have indicated that additional limitations on the
tax benefits associated with Approved Enterprise projects may be imposed for
certain categories of taxpayers, which would include the Company. If further
changes in the law or government policies regarding those programs were to
result in their termination or adverse modification, or if the Company were to
become unable to participate in, or take advantage of, those programs, the cost
of the Company's operations in Israel would increase and there could be a
material adverse effect on the Company's results of operations and financial
condition.
The Company's success is dependent on recruiting and retaining key
management and highly skilled technical, managerial, sales, and marketing
personnel. The market for highly skilled personnel remains very competitive
despite the current economic conditions. The Company's ability to attract and
retain employees also may be affected by recent cost control actions, including
reductions in the Company's workforce and the associated reorganization of
operations.
The occurrence or perception of security breaches within the Company
could harm the Company's business, financial condition and operating results.
30
While the Company implements sophisticated security measures, third parties may
attempt to breach the Company's security through computer viruses, electronic
break-ins and other disruptions. If successful, confidential information,
including passwords, financial information, or other personal information may be
improperly obtained and the Company may be subject to lawsuits and other
liability. Even if the Company is not held liable, a security breach could harm
the Company's reputation, and even the perception of security risks, whether or
not valid, could inhibit market acceptance of the Company's products.
The Company currently derives a significant portion of its total
sales from customers outside of the United States. International transactions
involve particular risks, including political decisions affecting tariffs and
trade conditions, rapid and unforeseen changes in economic conditions in
individual countries, turbulence in foreign currency and credit markets, and
increased costs resulting from lack of proximity to the customer. The Company is
required to obtain export licenses and other authorizations from applicable
governmental authorities for certain countries within which it conducts
business. The failure to receive any required license or authorization would
hinder the Company's ability to sell its products and could adversely affect the
Company's business, results of operations and financial condition. In addition,
legal uncertainties regarding liability, compliance with local laws and
regulations, labor laws, employee benefits, currency restrictions, difficulty in
accounts receivable collection, longer collection periods and other requirements
may have a negative impact on the Company's operating results.
Volatility in international currency exchange rates may have a
significant impact on the Company's operating results. The Company has, and
anticipates that it will continue to receive, contracts denominated in foreign
currencies, particularly the euro. As a result of the unpredictable timing of
purchase orders and payments under such contracts and other factors, it is often
not practicable for the Company to effectively hedge the risk of significant
changes in currency rates during the contract period. The Company may experience
risk associated with the failure to hedge the exchange rate risks associated
with contracts denominated in foreign currencies and its operating results have
been negatively impacted for certain periods and recently have been positively
impacted and may continue to be affected to a material extent by the impact of
currency fluctuations. Operating results may also be affected by the cost of
such hedging activities that the Company does undertake.
While the Company generally requires employees, independent
contractors and consultants to execute non-competition and confidentiality
agreements, the Company's intellectual property or proprietary rights could be
infringed or misappropriated, which could result in expensive and protracted
litigation. The Company relies on a combination of patent, copyright, trade
secret and trademark law to protect its technology. Despite the Company's
efforts to protect its intellectual property and proprietary rights,
unauthorized parties may attempt to copy or otherwise obtain and use its
products or technology. Effectively policing the unauthorized use of the
Company's products is time-consuming and costly, and there can be no assurance
that the steps taken by the Company will prevent misappropriation of its
technology, particularly in foreign countries where in many instances the local
laws or legal systems do not offer the same level of protection as in the United
States.
If others claim that the Company's products infringe their
intellectual property rights, the Company may be forced to seek expensive
licenses, reengineer its products, engage in expensive and time-consuming
31
litigation or stop marketing its products. The Company attempts to avoid
infringing known proprietary rights of third parties in its product development
efforts. The Company does not regularly conduct comprehensive patent searches to
determine whether the technology used in its products infringes patents held by
third parties, however. There are many issued patents as well as patent
applications in the fields in which the Company is engaged. Because patent
applications in the United States are not publicly disclosed until the patent is
issued, applications may have been filed which relate to the Company's software
and products. If the Company were to discover that its products violated or
potentially violated third-party proprietary rights, it might not be able to
obtain licenses to continue offering those products without substantial
reengineering. Any reengineering effort may not be successful, nor can the
Company be certain that any licenses would be available on commercially
reasonable terms.
Substantial litigation regarding intellectual property rights exists
in technology related industries, and the Company expects that its products may
be increasingly subject to third-party infringement claims as the number of
competitors in its industry segments grows and the functionality of software
products in different industry segments overlaps. In addition, the Company has
agreed to indemnify certain customers in certain situations should it be
determined that its products infringe on the proprietary rights of third
parties. Any third-party infringement claims could be time consuming to defend,
result in costly litigation, divert management's attention and resources, cause
product and service delays or require the Company to enter into royalty or
licensing agreements. Any royalty or licensing arrangements, if required, may
not be available on terms acceptable to the Company, if at all. A successful
claim of infringement against the Company and its failure or inability to
license the infringed or similar technology could have a material adverse effect
on its business, financial condition and results of operations.
The Company holds a large proportion of its net assets in cash
equivalents and short-term investments, including a variety of public and
private debt and equity instruments, and has made significant venture capital
investments, both directly and through private investment funds. Such
investments subject the Company to the risks inherent in the capital markets
generally, and to the performance of other businesses over which it has no
direct control. Given the relatively high proportion of the Company's liquid
assets relative to its overall size, the results of its operations are
materially affected by the results of the Company's capital management and
investment activities and the risks associated with th