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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended December 31, 2001
or
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
Commission file number: 0-29357
Chordiant Software, Inc.
(Exact name of registrant as specified in its charter)
Delaware 93-1051328
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
20400 Stevens Creek Blvd., Suite 400 95014
Cupertino, California (Zip Code)
(Address of principal executive offices)
Registrant's telephone number, including area code: (408) 517-6100
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, $.01 Par Value
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [X] [_] No
Indicate by check mark 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 the 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. [_]
The aggregate market value of the voting stock held by non-affiliates of the
issuer as of December 31, 2001 was approximately $420,205,116.
The number of shares outstanding of the issuer's common stock as of December 31,
2001 was 53,190,521.
DOCUMENTS INCORPORATED BY REFERENCE
Certain portions of the registrant's definitive proxy statement to be filed with
the Securities and Exchange Commission pursuant to Regulation 14A, not later
than April 30, 2002, in connection with the registrant's 2002 Annual Meeting of
stockholders, are incorporated herein by reference into Part III of this Annual
Report.
PART I
FORWARD-LOOKING INFORMATION
Except for the historical information contained herein, this Annual Report
contains certain information that is forward-looking in nature. Examples of
forward-looking statements include statements regarding our future financial
results, trends, operating results, product successes, business strategies,
projected costs, future products, competitive positions and plans and objectives
of management for future operations. In some cases, you can identify
forward-looking statements by terminology, such as "may," "will," "should,"
"expects," "plans," "goals," "anticipates," "believes," "estimates," "predicts,"
"potential," "projects" or "continue" or the negative of such terms and other
comparable terminology. In addition, statements that refer to expectations or
other characterizations of future events or circumstances are forward-looking
statements. These statements involve known and unknown risks and uncertainties
that may cause our or our industry's results, levels of activity, performance or
achievements to be materially different from those expressed or implied by the
forward-looking statements. Factors that may cause or contribute to such
differences include, among others, those discussed herein as set forth under the
captions "Business," "Business Risks" and "Management's Discussion and Analysis
of Financial Condition and Results of Operations." These and many other factors
could affect our future financial and operating results. Actual results may
differ substantially from those projected, expressly or impliedly, in such
forward-looking statements. We do not undertake an obligation to update
forward-looking statements to reflect actual results or changes in factors or
assumptions affecting such forward-looking statements. We caution that our
business and financial performance are subject to substantial risks and
uncertainties.
ITEM 1. BUSINESS
Overview
We provide customer relationship management (CRM) software solutions for global
business-to-consumer enterprise companies. We believe our solutions enable these
companies, who depend upon and value their customer relationships, to improve
customer retention and build long-term, profitable relationships with customers.
Our target customers are companies with a multitude of highly complex and
demanding customer relationships that require high levels of personalized
services. Our customers include global companies in the financial services,
telecommunications, retail and travel services industries. Our solutions seek to
fulfill the requirements of these companies for enterprise-wide CRM software
infrastructure solutions capable of servicing millions of individual customers
across multiple communication channels in real-time. Our solutions enable
organizations to market, sell, and serve their customers across multiple
channels, including call centers, branch representatives and self-serve channels
such as automated telephony, the web and e-mail.
Industry Background
The enterprise market opportunity is large, pervasive and continually growing.
We believe customers today place increasing value on real-time access to
information, products and services. To be successful in building long-term,
profitable relationships with customers, we believe companies must take a
strategic approach to attract and retain valuable customers. Companies need to
develop and execute a new set of strategies that provide users with personalized
experiences when they first contact a company. Companies must be more responsive
to customer needs and must deliver superior customer service and satisfaction to
differentiate themselves from their competitors. Companies must provide relevant
and targeted information and experiences each time an individual customer
interacts with the business to retain their customers. Moreover, companies must
recognize that every customer interaction provides an opportunity to sell
additional, and more valuable, products and services and to increase customer
loyalty through personalized customer interaction. Many business to consumer
companies are seeking to improve their ability to interact with individual
customers in real-time and to deliver the appropriate service offering at every
point of customer contact. This requires implementation of the company's
business processes from multiple lines of
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business to consistently market, sell and deliver service to their customers
throughout the enterprise. Addressing customer retention, maximizing lifetime
profitability of existing customer relationships in an increasingly competitive
environment, and effectively attracting new customers are a primary business
drivers today for global consumer companies.
To improve the business results with existing customers, companies seek to
improve their capability to interact with their customers on an individual basis
by integrating the company's customer information, lines of business, multiple
data sources, business channels, points of customer interaction and by
monitoring real-time customer events. By combining the total view of customer
information in real-time with real-time processes and policies, companies are
enabled to interact with customers across multiple dimensions of their
businesses and to serve proactively individual customers' inquiries and
interactions. Companies enabled to address multiple dimensions of their
customers in real-time can proactively follow-through on marketing offers and
service inquiries to market and serve effectively each customer's individual
needs.
We believe that companies need a flexible, integrated software solution that
supports all channels of customer contact with a comprehensive single view of
the customer combined with consistent business services. Today, customer data
must be accessed from multiple sources, applications and transaction systems to
respond to customer inquiries following company-specific business rules. Unlike
traditional customer profiles, a comprehensive single view of the customer must
be updated in real time for each customer contact and must reflect the
customer's contact history and other relevant information. A completely
customer-focused software solution improves the ability to attract, engage and
retain customers on a personalized basis and to understand their needs and
preferences, which enables companies to provide consistent interactions with
customers through any communication channel.
The business channels and communication touch points between companies and their
employees, partners and customers have grown to include not only traditional
channels such as direct mail, the telephone, retail stores and direct sales
forces, but also newer channels such as e-mail, web commerce sites and web
self-service sites. As a result, valuable customer data is stored in numerous,
disparate back-office systems, numerous enterprise software applications as well
as data stores that are commonly transactional systems, fulfillment systems and
a variety of customer data sources. Because most companies lack an integrated
customer service information infrastructure and maintain customer data in these
various disparate systems, consolidating data in real-time and addressing the
multiple dimensions of the business interactions with various customers to
create a single customer view is a difficult task. We believe companies need to
implement an integrated enterprise information platform to integrate marketing,
selling and service interactions to serve and market effectively to meet their
customer's individual needs.
There are many challenges to implementing an enterprise approach that is focused
on individual customers. These challenges include providing customers access to
information and functionality that traditionally resides within complex back-end
systems and integrating and managing disparate systems and generating relevant
processes in real-time. Successful integration of these systems and the creation
of a comprehensive single view of the customer allow companies to control
routing and prompting of appropriate responses to the customer in an automated
and dynamic process.
Many existing CRM product offerings do not meet the new requirements of an
enterprise view of customer relationships. Traditional applications for
sales-force automation, call centers and field service management were
originally designed for departmental functions and use by employees rather than
customers. The growth of the Internet has given rise to a wide range of new
products focused on a specific channel of customer contact such as web
self-service, e-mail response and marketing automation. These single function
web-based products are not likely to replace existing means of handling customer
service and commerce. For instance, many companies continue to rely heavily on
telephone-based customer service representatives and are struggling to integrate
web and e-mail products with telephone services. Companies have responded to the
lack of integration among existing products by attempting to design and build
their own e-business software applications. The cost and time involved in custom
building these new systems can be prohibitive, and the expertise required to
design and integrate the systems are often beyond the capabilities of many
companies. Additionally, most commercially available and custom-built
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systems lack the flexibility to integrate existing and anticipated technologies
or to allow customization to keep up with a constantly changing Internet
economy.
The Chordiant 5 Solution
Until now, the complexities of multi-dimensional customer interactions have
forced enterprises to settle for prepackaged CRM applications that require
predetermined, inflexible, vendor-defined customer data models, processes and
solutions. Custom-built solutions sometimes yielded better results, but have
been slow to build, costly to deliver and expensive to maintain.
A complex business environment and customer needs are in a constant state of
change. Yet, to date, the complexities of marketing, selling and servicing
multiple product lines to multitudes of customers have confounded the efforts of
prepackaged CRM application vendors, delivering only static vs. dynamic CRM
solutions. We believe that a CRM solution with real-time capabilities and
multi-dimensional customer interactions that are delivered across the enterprise
and are powered by business rules and processes address this complex business
environment and constantly changing customer needs.
Our CRM solution, Chordiant 5, is an enterprise CRM solution designed for global
enterprises seeking to optimize marketing, selling and servicing efforts. We
have designed our solution to integrate customer information from different data
sources, generate business processes based on a customer's specific profile and
requests, and provide uniform service and data to customers across multiple
communications channels. Our solution is designed to enable companies to deliver
appropriate offers and information to a targeted customer at the time of
customer need. We believe that companies that use our products can increase the
value derived from their customers through improved retention rates and linked
selling opportunities that result from a personalized customer interaction.
The Chordiant 5 solution includes the Chordiant 5 Enterprise Platform, Chordiant
5 Marketing and Chordiant 5 Selling & Servicing products. This integrated suite
of applications is built upon our JX architecture and is designed to leverage
existing business data and information technology systems. Our products offer
companies a way to facilitate dynamic customer interactions across their
enterprises thereby allowing companies to differentiate their service to
customers and seek competitive advantages over their competitors.
Key benefits of our solution include the following:
Comprehensive single view of the customer in real-time. Companies that have a
comprehensive profile of each customer and that distribute information
throughout their enterprise to the points of customer contact can provide a more
consistent and personalized consumer experience. Our data management technology
helps companies develop a real-time profile of the customer by integrating,
consolidating and managing data derived from external and internal sources. Our
solution uses multiple data sources, existing applications and transaction
systems to build a comprehensive profile of the customer and generate the
appropriate response at the time of customer contact.
Automated, sophisticated decision-making processes. Workflow and rules-driven
business processes help companies to make automated, yet informed, decisions
about customer inquiries. Our workflow processing system supports customizable
business processes allowing companies to develop business rules that will be
implemented consistently. Our workflow editor is a graphical user interface
application that allows companies to customize and automate their unique
business rules. Business rules, policies, and processes can be changed and
reused quickly in a number of customer-facing applications. Our sophisticated
routing engine is designed to allow companies to instantly determine how to
respond to specific customer inquiries and generate offers appropriate for
particular customers.
Consistent customer experience across multiple channels. We believe that
companies providing customers with a consistent experience across multiple
communication channels enjoy greater customer satisfaction because customers are
able to receive the same reliable service and information regardless of how they
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choose to contact the company. There is a large and increasing number of
customer communications channels, including web, e-mail, fax, self-service
systems, mobile devices, call centers and retail outlets. Our solution
implements a common set of business rules uniformly across systems already
existing in different customer communications channels.
Standard and customizable business services. We believe that companies that
implement their unique business services will realize greater levels of
efficiency, consistency and customer satisfaction. Our solution provides a broad
set of standard business objects, or fundamental business functions, that are
common across industries. These standard business objects can be modified to
accommodate specific customer and business processes, policies and transactions
of individual companies. Our solution adapts to many existing company
transaction systems and legacy data warehouses thereby leveraging these existing
investments companies have previously made. We believe our solution allows
companies an increased return on their existing information systems as measured
by increased retention rates, increased revenue per customer and increased
profitability.
Strategy
Our goal is to continue to provide innovative CRM solution software that enables
companies to provide superior relationship marketing, personalized service and
customer support to their individual customers across multiple communication
channels.
Key elements of our strategy include the following:
Target leading global business-to-consumer companies. We continue to focus on
the global leaders in the primary business-to-consumer markets by providing
solutions to the financial services, telecommunications, travel and retail
industries. These industries are characterized by complex transaction-oriented
product offerings and large numbers of dispersed customers, partners, providers
and suppliers. We intend to leverage our experience and continue to target sales
and marketing activities through our direct sales force and integration partners
to expand worldwide market share in our target markets. We believe that
companies in these industries can realize significant business benefits and
obtain a competitive advantage by implementing our solutions.
Expand worldwide infrastructure. We intend to continue to grow our global
presence by expanding our worldwide field sales, marketing and services
organizations. We plan to continue expanding our international presence by
adding direct sales personnel and increasing our presence with our systems
integrators.
Extend technology leadership and position. We intend to continue to devote
resources to the design and development of new and innovative product
capabilities. We have designed our latest version of our solution, Chordiant 5
Enterprise Platform, on the latest industry standards, including J2EE (Java 2
Enterprise Edition), XML (Extensible Mark-up Language) and SOAP (Simple Object
Access Protocol). We believe that the Chordiant 5 solution, based on these
industry standards, meets the latest corporate standards in enterprise CRM
software computing.
Extend technology and integration alliances. We have developed existing
technology and integration alliance partnerships with which we expect to
continue to partner in our efforts to expand our presence in our target markets
and meet the needs of customers and prospects. We will continue to seek
strategic alliances to further assist in developing, marketing and selling our
solutions. This approach is intended to leverage the technology and resources
available to perform application design and development services for our
customers and provides additional marketing and technical expertise in industry
segments. To help ensure that we deliver comprehensive solutions to our
customers, we have established strategic relationships with organizations in
three general categories:
o technology platform vendors;
o software platform vendors; and
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o systems integrators.
Growth through vertical concentration and customer references. We plan to
achieve additional market success by referencing customers who are successful in
using our solution. Our most successful customers become valuable references for
our future sales opportunities. To ensure that all our customers become our
references, we intend to:
o deliver superior customer service to our customers, to ensure their
long-term satisfaction and success with our solutions;
o work with experienced and knowledgeable systems integrators to enable our
customers to implement successfully large-scale deployments of our
solutions;
o deliver high quality customer education and training on our products to
assist our customers to meet and exceed their business expectations; and
o hire and retain expert consultants to assist our customers in
implementation of our solutions.
Product Solutions
Our solutions are designed to address the enterprise requirements of global
consumer companies serving millions of individual customers across multiple
business channels integrating multiple lines of business. Our solutions are
designed to enable global business-to-consumer enterprises to optimize
marketing, selling and servicing efforts. The Chordiant 5 solution suite, our
newest product release, is typically licensed as an integrated set of
applications and functionalities, and is based on our JX architecture which
provides an open systems based environment capable of deployment throughout a
customer's information technology infrastructure. This integrated suite includes
the following products:
Chordiant 5 Marketing. Chordiant 5 Marketing automates the ongoing, complex
- ---------------------
marketing processes required to plan, define, execute and optimize marketing
campaigns of business-to-consumer enterprises. The Chordiant 5 Marketing
solution is an integrated set of applications designed to support a full range
of marketing relationship management processes. Chordiant 5 Marketing is
comprised of the following applications:
o Chordiant 5 Marketing Director powers complex relationship marketing
campaigns across all traditional media channels: direct mail, telesales,
and print and broadcast advertising.
o Chordiant 5 Online Marketing provides the execution server for web and
e-mail based marketing campaigns.
o Chordiant 5 Mobile Marketing provides the execution server for mobile
devices such as cellular phones.
o Chordiant 5 OneReporting provides real-time access to detailed marketing
and customer information for creating reports, analysis and intelligent
marketing decision-making.
Chordiant 5 Selling and Servicing. Chordiant 5 Selling & Servicing provides
- ---------------------------------
role-based application interfaces that optimize real-time, process-centric
interactions between a company and its customers. The solution provides a
company's employees who interact with customers and business partners a series
of role-based interfaces for matching a company's unique business policies and
processes to individual customers to optimize selling and servicing
interactions. The application automates a company's business policies and
processes accelerate customer sales cycles, improve customer interactions and
gain consistent customer interactions. By using Chordiant 5 Selling & Services
applications, companies are able to increase
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the effectiveness of sales or service offerings by matching customer profiles
and contact histories with appropriate offers to increase cross-sell
effectiveness and opportunities.
The Chordiant 5 Selling & Servicing application suite is comprised of the
following products:
o Chordiant 5 Advisor is a web browser-based application that allows customer
information and application functionality to be broadly shared within and
outside a company. Chordiant 5 Advisor helps a company's employees and
partners optimize customer selling and servicing interactions through a
company's branch, back-office and partner/retail operations.
o Chordiant 5 Call Center Advisor is a desktop-based application designed to
provide a full set of servicing and selling business processes for high
volume transactional call centers. The desktop environment provides for
computer telephony integration for call handling and customer-facing roles
in high-volume transaction environments where guided selling and servicing
processes are critical to meet significant performance and time-dependency
requirements.
The Chordiant 5 Enterprise Platform. The Chordiant 5 Enterprise Platform
- -----------------------------------
solution offers flexible servers for managing a company's business to consumer
policies, processes, profiles and connections. The Chordiant 5 Enterprise
Platform includes the Chordiant 5 Foundation Server, a set of Chordiant 5
application connectors, and four optional Chordiant 5 application server
products.
o Chordiant 5 Foundation Server provides the software infrastructure to allow
companies to access multiple data resources residing with a company's
transaction systems and fulfillment systems while integrating with many
existing enterprise back-office applications. Chordiant 5 Foundation Server
integrates and communicates with telephony equipment, legacy systems and
transactional applications. The Foundation Server enables workflow-driven
interfaces and support for electronic communications, telephony systems and
switches, relational databases, back-office business applications and
legacy data warehouses. The Foundation Server includes a business process
server, an integration server and an integrated set of application
components.
o Chordiant 5 Collaboration Server is a Web-based interaction server that
includes functionality for online chat, Web page pushing, synchronized
co-browsing, and provides support for advanced Web applications.
o Chordiant 5 Rules Server is a configurable business policies server that
allows companies to implement policies specific to their customer profiles,
offers and business processes.
o Chordiant 5 Knowledge Server is a knowledge based server designed to
provide intelligent responses to customer requests that are based on
customer profiles, offerings of interest and an optimized set of similar
inquiries.
o Chordiant 5 Connectors are connectivity applications that allow a business
to access information and communications systems for maintaining
persistent, real-time connections between information technology systems.
o Chordiant 5 Interaction Server is an interaction server for delivering
complicated interactions to a web browser at the user interface such as
smart forms, answer checking, and guided interactions.
Customers
We target global market leaders in business-to-consumer industries, particularly
companies in the financial services, telecommunications, travel and leisure
industries. Our customers, include: USAA, Chase Insurance, Metropolitan Life
Insurance Company, CIBC Bank, Hutchinson 3G, Lloyds TSB Bank, Thompson Travel,
British Sky Broadcasting (BskyB), Barclays Mercantile, Direct Line, Canadian
Tire Acceptance Ltd., Halifax plc, Wachovia and The Royal Bank of Scotland plc.
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As of December 31, 2001 we have licensed our software products and provided
services to more than 150 customers. Our customers represent companies of all
sizes, but our sales efforts are targeted on large global institutions from
industries such as retailing, financial services, communications, and travel and
leisure. For the years ended December 31, 2001 and 2000, no customer accounted
for more than 18% and 30% of our revenues, respectively.
A small number of customers account for a significant portion of our total net
revenues. As a result, the loss or delay of individual orders or delays in the
product implementations for a customer can have a large impact on our revenues.
For the year ended December 31, 2001 revenues from Companies F, G, D and C
accounted for approximately 18%, 13%, 10% and 10%, respectively, of our total
net revenues. In 2000, revenues from Companies G, F, and E accounted for
approximately 30%, 19% and 14%, respectively, of our total net revenues. We
expect that revenues from a small number of customers will continue to account
for a majority of our total net revenues in the future as historical
implementations are completed and replaced with new projects from new and
existing customers.
Technology
We design and build products to provide CRM solutions for large enterprises. Our
JX architecture is an open standards based enterprise platform based on industry
standard J2EE and XML technology. Our JX architecture delivers XML connectivity
and a J2EE standard object environment. Our JX architecture and in particular
the Chordiant Enterprise Platform are J2EE compliant. This industry standard set
of development specifications leverages the strengths of the Java programming
language to enable software applications that are easier to develop, configure
and integrate with legacy and third-party information technology systems.
Our JX technology architecture has the following characteristics:
Reliability
Our JX architecture addresses three major problems that typically cause
reliability problems with enterprise software products: software components not
being available, transaction failures and inconsistent software versions
deployed across distributed systems.
o Software Failover: Our JX architecture uses J2EE's failover capabilities
for automatic software component failover. Therefore, if a component is not
available on one system, a second system can respond without discernable
impact from the end user's perspective.
o Enterprise Java Bean (EJB) Containers: Our JX architecture makes use of
J2EE's EJB container function to account for transaction failures. If an
object is written as an EJB, and an associated operation aborts, the object
is restored to its original state. This ensures that a customer's data is
not lost during a transactional operation.
o Java Archive: Our JX architecture also uses J2EE's Java Archive (JAR)
capabilities to control version consistency of components. This ensures
that system administrators do not install inconsistent versions of software
across multiple machines, and end users do not run inconsistent
applications that might cause a system crash or data loss.
Performance & Scalability
Excessive network traffic, serialized program execution, lack of load balancing
or interpretive execution can cause performance and scalability problems in a
corporate computing environment. Our JX architecture undergoes rigorous testing
to ensure that it is suitable for deployment in scalable, high performance
production systems. Our JX architecture features:
o Application Partitioning and Deployment: JX components can be separated and
automatically distributed across available nodes in the network by using
J2EE's Java Bean technology.
o Automated Load Balancing: Our JX architecture leverages J2EE's automated
load balancing capability. As the number of requests or transactions on a
system increases, JX automatically balances the load across multiple CPUs
or systems.
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o Compiling Extensions: Java programming can be used to extend or customize
any component within our JX architecture. This allows for software code
optimization and system performance improvements.
Middleware Interoperability:
The Chordiant 5 Foundation Server is based completely on our JX architecture and
is typically deployed in enterprise environments that require interoperability
with a company's existing or newly developed information technology systems. The
architecture enables:
o Legacy Interoperability: Enterprise systems need connectivity with
back-office legacy systems. Our JX architecture supports connectivity
components compatible with the JCA 1.0 (Java Connector Architecture)
specification.
o Middleware Interoperability: Enterprise applications inherently need to
inter-operate with traditional middleware services and our architecture
supports: MQ Series, Corba, RMI, IIOP, RPCs, Encina and Tuxedo.
Certain of our products use technology modules from third party technology
providers including Sun Microsystems, IBM, BEA and Ilog, Inc. Our products are
based on open system standards and are designed to be scalable and integrate
with a company's various information technology systems, networks and telephony
systems. Our enterprise platform solutions are based on industry standards and
support industry standard J2EE application servers including IBM Websphere. Our
Server software runs on UNIX server platforms from Sun Microsystems and IBM.
Sales and Marketing
We license our solutions and sell services primarily through a direct sales
organization that is complemented by the selling and support efforts of systems
integrators and technology vendors. Our market focus is in the
business-to-consumer segment of the economy with a targeted effort on leading
consumer focused industries and companies using multiple channels as the means
of conducting business and serving customers. We target our sales and marketing
efforts, together with our product design efforts, on industries such as retail
banking, insurance, consumer financial services, telecommunications, travel and
leisure and retailers.
The sales process generally ranges from three to twelve months depending on the
level of knowledge that prospective customers need about the use and benefits of
our solutions and the involvement of systems integrators. During the sales
process, we typically approach the senior management teams of the business and
information technology departments of a prospective customer's organization. We
utilize sales teams consisting of sales and technical professionals who work
with our systems integration partners to create company specific proposals,
presentations and demonstrations that address the needs of the business and
technology requirements.
Our ability to achieve significant revenue growth in the future will depend in
large part on how successfully we recruit, train and retain sufficient direct
sales, technical and global services personnel, and how well we continue to
establish and maintain relationships with our strategic partners. We believe
that the complexity of our products and the large-scale deployments anticipated
by our customers will require a number of highly trained global services
personnel.
In the United States we have sales offices in the greater metropolitan areas of
Boston, Chicago, Dallas, and New York, and corporate offices located in
Cupertino, California. Outside the United States, we have offices in London,
Paris, Amsterdam, Frankfurt, Munich, Madrid, Johannesburg, Sydney and Melbourne.
We focus our marketing efforts on educating potential customers, generating new
sales opportunities and creating awareness of our solutions. We conduct a
variety of marketing programs to educate our target market, including direct
marketing campaigns, seminars, trade shows, press relations and industry analyst
programs.
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Our marketing organization is integral in acquiring, organizing and prioritizing
customer and industry feedback to help provide product direction to our
development organization. We also have a detailed product management process
that surveys customers and identifies market needs to help predict and
prioritize future customer requirements.
Our Services
We offer a comprehensive set of customer services including professional
consulting services and product support and training services. We believe that
providing high quality customer service is critical to achieving rapid product
implementation, customer success and continued revenue growth.
Professional Services
We provide implementation consulting, education and customer support services to
licensed customers through our worldwide professional services organization. Our
professional services consulting teams assist customers and systems integrator
partners in the design and implementation of our software solutions.
Our professional services organization deploys consultants as part of the
project team alongside systems integration partners and members of the
customer's internal team to provide technical knowledge, business engineering,
project guidance and quality assessments during project implementation. In the
design stage, we provide a variety of professional services that help determine
a customer's business processes and the technical requirements of the solutions
implementation. In the implementation stage, we use a delivery methodology to
assist customers and integration partners in planning and managing the
implementation. Typically, systems integrators, supported by our consultants,
manage the overall project and implement the products with a customer's existing
communications, applications, databases and transaction systems. In the final
phases of an implementation, the systems integrators provide deployment services
to enable a customer's internal team to implement the system, train internal
users and provide first-level end-user support to the enterprise users.
Our methodology includes:
o user requirements and needs analysis;
o business process engineering consultation;
o technical architectural analysis and performance planning;
o project management support services;
o technical support for customer specific development and deployment; and
o technical support for software integration and communications integration.
Although our primary strategy is to leverage our strategic systems integration
partners for implementations, our internal professional services organization is
integral in implementing our software solutions for our customers. We believe
that our consulting services enhance the use and administration of our software
solutions, facilitate the implementation of our solutions and result in sharing
best business practices with client and systems integrator project teams. In
addition to implementing our software, our professional services organization
works closely with our internal research and development organization to enhance
existing, and design our new software solutions. Experience and knowledge gained
by our professional services organization through repeated implementation of our
products is routinely shared with our research and development staff.
We provide our customers with support and maintenance services including
telephone support, web-based support and updates to our products and
documentation. We believe that providing a high level of technical
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support is critical to customer satisfaction. We also offer extensive training
programs to our customers and other companies with which we have relationships
to accelerate the implementation and adoption of our solutions by the users
within a company. Fees for our training services are typically charged
separately from our software license, maintenance and consulting fees.
Services revenues provided by us in the year ended December 31, 2001 accounted
for approximately 48% of our total net revenues.
Customer Support
Our customers have a choice of support and maintenance options depending on the
level of service desired. Our technical support is available to clients by
telephone, over the web and by e-mail. We maintain a technical support hotline
staffed by engineers from 8:00 a.m. to 9:00 p.m., Eastern time, Monday through
Friday, from our corporate headquarters in Cupertino, California, and local
support during business hours for European customers from London, England. An
optional premium service is also available providing technical support 24 hours
a day, seven days a week. Additionally, we provide product enhancement releases
to all customers as part of our support and maintenance contracts. We use a
customer service automation system to track each customer inquiry until it is
resolved. We also make use of our website and a secured customer forum to
provide product information and technical support information worldwide 24 hours
a day, seven days a week.
Educational Services
We provide educational services to train and enable our systems integrators and
customers to use our products. We offer a comprehensive series of training
modules to provide the knowledge and skills to successfully deploy, use and
maintain our products. These training courses focus on the technical aspects of
our products as well as business issues and processes. A complete set of modules
covering business engineering, project management and development engineering
are available. Training courses can be provided on-site for a custom session for
a fee and are regularly scheduled through classroom and lab instruction at our
Cupertino, California corporate headquarters, and at our London, England offices
for European systems integrators and customers.
We have entered into a two-year agreement, beginning March 19, 2002, with Merit
International pursuant to which Merit will provide exclusive training and
certain consulting services for negotiated fees. Upon the effective date of this
agreement, we transferred to Merit our training operations including selected
employees.
Product Development
We have made substantial investments in research and development through
internal development, acquisitions and technology licensing. Our product
development efforts are focused on extending our enterprise software solutions,
CRM application components and business application functionality, self service
and web-based collaboration functionality, and continued integration of key
industry-specific transaction systems and services. Our product development
organization is responsible for new software
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products, product architecture, core technologies, product testing, quality
assurance and ensuring the compatibility of our products with third-party
hardware and software platforms.
During 2001 we completed five acquisitions adding to the company's product
development organization and product offerings. The acquisition of companies or
technology assets included: Prime Response, for marketing automation solutions;
AoNet, for J2EE workflow server technology, certain technology assets from
ActionPoint Corporation, for web configuration and customer interaction server
technology; certain assets from Pyxis, Inc., for insurance industry specific
application components; and certain XML interface technology from EDS, Inc.
Our product development resources are organized into a number of development
teams including:
o Enterprise Platform development;
o Marketing applications;
o Selling and Servicing Applications;
o Documentation; and
o Product Release Management.
Our product development teams have extensive experience in distributed
computing, J2EE and object oriented development, data management, workflow
engineering, transaction system interfaces and Internet technologies. Our
research and development expenditures before the effect of non-cash compensation
expense and purchased in-process research and development were $6.5 million,
$14.4 million and $20.5 million for the years ended December 31, 1999, 2000 and
2001, respectively. For the year ended December 31, 2001, we recorded charges of
$3.0 million for acquired in-process research and development costs in
connection with our 2001 acquisitions.
Strategic Partnerships
Establishing partnerships and alliances with third parties that provide
additional services and resources for implementing our solutions to enhance our
sales and service organizations' productivity is an important element of our
strategy. These relationships and alliances fall into the following categories:
Consulting and system integration relationships. To enhance the productivity of
our sales and service organizations, we have established relationships with
systems integrators, complementary technology providers and alternative service
providers. We have established relationships and trained professionals at a
number of systems integrators including: Accenture, Computer Sciences
Corporation, Electronic Data Systems Corporation, IBM Global Services, Logica
plc, and Ecsoft. We plan to expand these relationships to increase our capacity
to sell and implement our products. We have trained a significant number of
consultants in these organizations for the implementation and support of our
solutions. We believe that expanding our relationships with systems integrators
and independent consulting firms will enable the company to gain a greater share
of the CRM market.
Technology Partnerships. We make extensive use of industry platforms and embrace
a number of core technologies in our solution offerings. We have formed
partnerships with vendors of software and hardware technology platforms. We
currently maintain technology relationships with vendors such as
Alcatel/Genesys, BEA Systems, Cisco Systems, IBM, Ilog, Inc., Oracle and Sun
Microsystems. Many of these companies voluntarily provide us with early releases
of new technology platforms, education related to those platforms and limited
access to their technical resources to facilitate adoption of their technology.
We believe that these relationships allow us to focus on our core competencies,
accelerate our application development efforts around J2EE and XML standards by
making use of industry J2EE application servers.
Competition
The market for our products is highly competitive, rapidly evolving, and can be
affected by new product introductions and other market activities of industry
participants. The competitive landscape is quickly
12
evolving to address the convergence of customer interaction applications,
back-office systems and e-business services. To realize the potential of this
convergence, companies must be able to offer personalized marketing and sales
and extend e-business services to all points of customer contact. This must be
done through an integrated system and customer data model tailored by each
company to meet its specific customer requirements.
We believe that most large-scale CRM deployments have been the result of large
internal development projects, custom solutions from systems integrators or the
application of personal and departmental productivity tools. We also face
competition from customers' internal development efforts, custom system
integration, as well as other software providers that offer integration and
development platforms. We believe that the market for enterprise customer
relationship management has historically not been well-served by the application
software industry.
Internal Development
Many of our customers and potential customers have in the past attempted to
develop customer service, call center and customer relationship management
systems in-house, either alone or with the help of systems integrators. Internal
information technology departments have staffed projects to build their own
systems utilizing a variety of tools. In some cases, such internal development
projects have been successful in satisfying the needs of an organization. Custom
development has the inherent limitation of being a high-cost alternative because
it relies on building the entire solution from scratch and the resulting
configuration is difficult to upgrade to take advantage of new requirements and
new channels of communication. We expect that internal development will continue
to be a significant source of competition. The competitive factors in this area
require that we produce solutions that integrate effectively with the customer's
existing information systems, scale to meet the needs of the customer's
enterprise, and cost less than the result of an internal development effort. We
cannot assure that we will be able to compete effectively against such internal
development efforts.
Custom System Integration Projects
A second source of competition results from systems integrators engaged to build
a custom development application. The introduction of a systems integrator
typically increases the likelihood of success for the customer. The competitive
factors in this area require that we demonstrate to the customer the cost
savings and advantages of a configurable, upgradeable and commercially supported
product developed by a dedicated professional software organization.
We frequently rely on system consulting and systems integration firms for
implementation and other global services, as well as recommendations of our
products during the evaluation stage of the purchase process. Many of these
third parties have similar and often more established relationships with our
competitors. We cannot assure that these third parties, many of whom have
significantly greater resources than us, will not market software products in
competition with us.
Application Software Competitors
Our primary software competitors include providers of traditional customer
relationship management, enterprise resources planning, call center and
marketing automation software. Although these vendors have started to pursue the
enterprise-wide opportunity of providing enterprise-wide solutions and services
to all points of customer contact, we believe they are limited by their lack of
multi-channel integration, real-time data models for integration of multiple
data sources and lack of business process application generation and their
database application architecture. Our competitors include; among others,
companies such as: Oracle Corporation, PeopleSoft, Inc., SAP and Siebel Systems,
Inc.
These competitors have longer operating histories, significantly greater
financial, technical, marketing and other resources, significantly greater name
recognition and a larger installed base of customers than we do. In addition,
some competitors have well-established relationships with our current and
potential customers. As a result, these competitors may be able to respond more
quickly to new or emerging technologies and changes in customer requirements, or
to devote greater resources to the development, promotion and sale of their
products than we can.
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There is no one competitor, nor are there a small number of competitors that are
dominant in our market. There are many factors that may increase competition in
the enterprise customer relationship management market, including (i) entry of
new competitors, (ii) alliances among existing competitors, (iii) consolidation
in the software industry and (iv) technological changes or changes in the use of
the Internet. Increased competition may result in price reductions, reduced
gross margins and loss of market share, any of which could materially and
adversely affect our business, operating results and financial condition. We
cannot assure that we will be able to compete successfully against current and
future competitors or that competitive pressures faced by us will not materially
and adversely affect our business, operating results and financial condition.
We believe that the principal competitive factors affecting our market include
product features such as adaptability, scalability, ability to integrate with
other products and technologies, functionality and ease-of-use, the timely
development and introduction of new products and product enhancements, as well
as product reputation, quality, performance, price, customer service and
support, and the vendor's reputation. Although we believe that our solutions
currently compete well with regard to such factors, there can be no assurance
that we can maintain our competitive position against current and potential
competitors.
We believe that the principal competitive factors in our target markets include:
o the breadth and depth of solutions;
o product quality and performance;
o relationships with systems integrators;
o the ability to implement solutions;
o establishment of a significant base of reference customers;
o the ability of products to operate with multiple software applications;
o customer service; and
o product price.
Although we believe that our product competes favorably with these factors, our
market is relatively new and is evolving rapidly. We may not be able to maintain
our competitive position against current and potential competitors, especially
those with significantly greater financial and personnel resources.
Intellectual Property and Propriety Rights
Our success is dependent upon our ability to develop and protect proprietary
technology and intellectual proprietary rights. We rely primarily on a
combination of contractual provisions, confidentiality procedures, trade
secrets, and copyright and trademark laws to protect our intellectual property
and proprietary rights.
We license our products through non-exclusive license agreements that impose
restrictions on customers' ability to utilize the software. In addition, we seek
to avoid disclosure of our trade secrets, including requiring employees,
customers and others with access to our proprietary information to execute
confidentiality agreements with us and restricting access to our source code. We
also seek to protect our rights in our products, documentation and other written
materials under trade secret and copyright laws. Due to rapid technological
change, we believe factors such as the technological and creative skills of our
personnel, new product developments and enhancements to our existing products
are more important than the various legal protections of our technology to
establishing and maintaining a technology leadership position.
We integrate third party software into our products. This third party software
may not continue to be available on commercially reasonable terms or at all. For
example, we license Forte Tool and related Forte products from Sun Microsystems,
iPlanet division, for prior versions of our Foundation Server product. Chordiant
5 Enterprise Platform does not require the use of the Forte Tool, however, some
of our existing customers on prior versions of our products require Forte Tool
development licenses and support. If we cannot maintain licenses to key third
party software, shipments of our products could be delayed until equivalent
software is developed or licensed and integrated into our products. Moreover,
although we are generally indemnified against claims if technology licensed from
third parties infringes the intellectual property and proprietary rights of
others, this indemnification is not always available for all types of
14
intellectual property and proprietary rights and in some cases the scope of this
indemnification is limited. There can be no assurance that infringement or
invalidity claims arising from the incorporation of third-party technology or
claims for indemnification from our customers resulting from these claims will
not be asserted or prosecuted against us. These claims, even if not meritorious,
could result in the expenditure of significant financial and managerial
resources, in addition to potential product redevelopment costs and delays.
Despite our efforts to protect our proprietary rights, existing laws afford only
limited protection. Attempts may be made to copy or reverse engineer aspects of
our products or to obtain and use information that we regard as proprietary.
There can be no assurance that we will be able to protect our proprietary rights
against unauthorized third party copying or use. Use by others of our
proprietary rights could materially harm our business. Furthermore, policing the
unauthorized use of our products is difficult and expensive litigation may be
necessary in the future to enforce our intellectual property rights.
It is also possible that third parties will claim that we have infringed their
current or future products. We expect that software developers will increasingly
be subject to infringement claims as the number of products in different
industry segments overlap. Any claims, with or without merit, could be
time-consuming, result in costly litigation, prevent product shipment, cause
delays, or require us to enter into royalty or licensing agreements, any of
which could harm our business. Patent litigation in particular has complex
technical issues and inherent uncertainties. If an infringement claim against us
was successful and we could not obtain a license on acceptable terms, license a
substitute technology or redesign to avoid infringement, our business would be
harmed.
Employees
As of December 31, 2001, we employed 436 full time employees. Of that total, 121
were primarily engaged in product development, engineering or systems
engineering, 114 were engaged in sales and marketing, 137 were engaged in
professional services and 64 were engaged in operational, financial and
administrative functions.
As of February 28, 2002, we employed 397 full time employees. Of that total, 110
were primarily engaged in product development, engineering or systems
engineering, 111 were engaged in sales and marketing, 129 were engaged in
professional services and 47 were engaged in operational, financial and
administrative functions.
None of our employees are represented by a labor union and we have never
experienced a work stoppage. We believe that our relations with our employees
are good. We believe our future success will depend in part on our continued
ability to recruit and retain highly skilled technical, management and marketing
personnel.
BUSINESS RISKS
We expect to continue to incur losses and may not achieve or maintain
profitability, which may cause our stock price to decline.
We incurred net losses of $42.3 million for the year ended December 31, 2001. As
of December 31, 2001, we had an accumulated deficit of $140.2 million. We expect
to continue to incur losses into the first two quarters of the current fiscal
year. Moreover, we expect to continue to incur significant sales and marketing
and research and development expenses and expenses to establish additional sales
offices domestically and internationally. As a result, we will need to generate
significant revenues to achieve and maintain profitability. We cannot be certain
that we can sustain this growth, or maintain our past growth rates or that we
will generate sufficient revenues to achieve profitability.
15
Competition in our markets is intense and could reduce our sales and prevent us
from achieving profitability.
Increased competition could result in price reductions, reduced gross margins
and loss of market share, any one of which could reduce our future revenues. The
market for our products is intensely competitive, evolving and subject to rapid
technological change. The intensity of competition is expected to increase in
the future. Our current competitors include:
o Internal information technology departments: In-house information
technology departments of potential customers have developed or may develop
systems that provide some or all of the functionality of our products. We
expect that internally developed application integration and process
automation efforts will continue to be a significant source of competition.
o Point application vendors: we compete with providers of stand-alone point
solutions for web-based customer relationship management and traditional
client/server-based, call-center service customer and sales-force
automation solution providers.
Many of our competitors have greater resources and broader customer
relationships than we do. In addition, many of these competitors have extensive
knowledge of our industry. Current and potential competitors have established,
or may establish, cooperative relationships among themselves or with third
parties to offer a single solution and increase the ability of their products to
address customer needs.
Because a small number of customers account for a substantial portion of our
software license revenues, our revenues could decline if we lose a major
customer.
We derive a significant portion of our software license revenues in each quarter
from a limited number of customers. Loss of a major customer in a particular
quarter could cause a decrease in revenue, deferred revenues and net income. For
the year ended December 31, 2001 revenues from companies F, G, C and D accounted
for 18%, 13%, 10% and 10% of total net revenues, respectively. For the year
ended December 31, 2000 revenues from companies G, F and E accounted for 30%,
19% and 14% of total net revenues, respectively. While our size has increased
and customer concentration has reduced, we still expect that a limited number of
customers will continue to account for a substantial portion of our revenues. As
a result, if we lose a major customer, or if a contract is delayed or cancelled,
our revenues would be adversely affected. In addition, customers that have
accounted for significant revenues in the past may not generate revenues in any
future period causing our failure to obtain new significant customers or
additional orders from existing customers to materially affect our operating
results.
We may experience a shortfall in revenue or earnings or otherwise fail to meet
public market expectations, which could materially and adversely affect our
business and the market price of our common stock.
Our revenues and operating results may fluctuate significantly because of a
number of factors, many of which are outside of our control. Some of these
factors include:
o Product and price competition;
o Size and timing of individual license transactions;
o Delay or deferral of customer implementations of our products;
o Length of our sales cycle;
o Success in expanding our global services organization, direct sales force
and indirect distribution channels;
o Timing of new product introductions and product enhancements;
o Appropriate mix of products licensed and services sold;
o Levels of international transactions;
o Activities of and acquisitions by competitors;
o Further deterioration and changes in domestic and foreign markets and
economies; and
o Our ability to develop and market new products and control costs.
16
One or more of the foregoing factors may cause our operating expenses to be
disproportionately high during any given period or may cause our revenues and
operating results to fluctuate significantly. Based upon the preceding factors,
we may experience a shortfall in revenues or earnings or otherwise fail to meet
public market expectations, which could materially and adversely affect our
business, financial condition, results of operations and the market price of our
common stock.
Our operating results fluctuate significantly and an unanticipated decline in
revenues may disappoint investors and result in a decline in our stock price.
Our quarterly revenues will depend primarily upon product implementation by our
customers. We have historically recognized most of our license and services
revenue using the percentage-of-completion method using labor hours incurred as
the measure of progress towards completion of implementation of our products and
we expect this practice to continue. Thus, delays in implementation by our
customers and systems integration partners would reduce our quarterly revenue.
Historically, a significant portion of new customer orders have been booked in
the third month of the calendar quarter, with many of these bookings occurring
in the last two weeks of the third month. We expect this trend to continue and,
therefore, any failure or delay in bookings would decrease our quarterly
deferred revenue. If our revenues or operating margins are below the
expectations of the investment community, our stock price is likely to decline.
Our failure to maintain and grow our relationships with systems integrators
would harm our ability to market and implement our products and reduce future
revenues.
Failure to establish or maintain relationships with systems integrators would
significantly harm our ability to license our software products. Systems
integrators install and deploy our products, in addition to those of our
competitors, and perform custom integration of systems and applications. Some
systems integrators also engage in joint marketing and sales efforts with us. If
these relationships fail, we will have to devote substantially more resources to
the sales and marketing, implementation and support of our products than we
would have to otherwise. Our efforts may also not be as effective as those of
the systems integrators, which could reduce revenues. In many cases, these
parties have extensive relationships with our existing and potential customers
and influence the decisions of these customers. A number of our competitors have
stronger relationships with these systems integrators and, as a result, these
systems integrators may be more likely to recommend competitors' products and
services.
Failure to successfully customize or implement our products for a customer could
prevent recognition of revenues, collection of amounts due or cause legal claims
by the customer.
If a customer is not able to customize or deploy our products successfully, the
customer may not complete expected product deployment, which would prevent
recognition of revenues and collection of amounts due, and could result in
claims against us. We have, in the past, had disputes with customers concerning
product performance. One dispute, from a 1997 product license, resulted in a
settlement following litigation. One, from a product license and related service
agreements, was resolved in February, 2000. For details regarding Chase
Manhattan Mortgage Corporation, please see "Management's Discussion and Analysis
of Financial Condition and Results of Operations" contained in this Annual
Report.
Our primary products have a long sales and implementation cycle, which makes it
difficult to predict our quarterly results and may cause operating results to
vary significantly.
The period between initial contact with a prospective customer and the
implementation of our products is unpredictable and often lengthy, ranging to
date from three to twenty-four months. Thus, deferred revenue could vary
significantly from quarter to quarter. Any delays in the implementation of our
products could cause reductions in our revenues. The licensing of our products
is often an enterprise-wide decision that generally requires us to provide a
significant level of education to prospective customers about the use and
benefits of our products. The implementation of our products involves
significant commitment of technical and financial resources and is commonly
associated with substantial implementation efforts that may be performed by us,
by the customer or by third-party systems integrators. Customers generally
consider a wide range of issues before committing to purchase our products,
including product benefits, ability to
17
operate with existing and future computer systems, vendor financial stability
and longevity, ability to accommodate increased transaction volume and product
reliability.
Our stock price is subject to significant fluctuations.
Since our initial public offering in February 2000, the price of our common
stock has fluctuated widely. We believe that factors such as the risks described
herein or other factors could cause the price of our common stock to fluctuate,
perhaps substantially. In addition, recently, the stock market in general, and
the market for high technology stocks in particular, has experienced extreme
price fluctuations, which have often been unrelated to the operating performance
of the affected companies. Such fluctuations could adversely affect the market
price of our common stock.
We are the target of a securities class action complaint and are at risk of
securities class action litigation, which may result in substantial costs and
divert management attention and resources.
Beginning in July 2001, we and certain of our officers and directors, as well as
certain of the underwriters from the our initial public offering, were named as
defendants in several class action shareholder complaints filed in the United
States District Court for the Southern District of New York and consolidated
under the caption, Weiss v. Chordiant Software, Inc., et al., Case No.
01-CV-6222. In the complaint, the plaintiffs allege that we, certain of our
officers and directors and our initial public offering underwriters violated the
federal securities laws because our registration statement and prospectus for
our initial public offering contained untrue statements of material fact or
omitted material facts regarding the compensation to be received by, and the
stock allocation practices of, the underwriters. The plaintiffs seek unspecified
monetary damages and other relief. Similar complaints were filed in the same
court against numerous public companies that conducted initial public offerings
of their common stock since the mid-1990s. This action may divert the efforts
and attention of our management and, if determined adversely to us, could have a
material impact on our business.
Our products need to successfully operate in a company-wide environment; if they
do not we may lose sales and suffer decreased revenues.
If existing customers have difficulty deploying our products or choose not to
fully deploy the products, it could damage our reputation and reduce revenues.
Our success requires that our products be highly scalable, and able to
accommodate substantial increases in the number of users. Our products are
expected to be deployed on a variety of computer hardware platforms and to be
used in connection with a number of third-party software applications by
personnel who may not have previously used application software systems or our
products. These deployments present very significant technical challenges, which
are difficult or impossible to predict. If these deployments do not succeed we
may lose future sales opportunities and suffer decreased revenues.
Defects in our products could diminish demand for our products and result in
decreased revenues, decreased market acceptance and injury to our reputation.
Errors may be found from time to time in our new, acquired or enhanced products,
including the recently announced products within the J2EE architecture. Any
significant software errors in our products may result in decreased revenues,
decreased sales, and injury to our reputation and/or increased warranty and
repair costs. Although we conduct extensive product testing during product
development, we have in the past discovered software errors in our products as
well as in third party products, and as a result have experienced delays in the
shipment of our new products. The latest version of our primary product suite
was introduced in January 2002.
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To date, our sales have been concentrated in the financial services, travel and
leisure and telecommunications markets, and if we are unable to continue sales
in these markets or successfully penetrate new markets, our revenues may
decline.
Sales of our products and services in three large markets -- financial services,
travel and leisure and telecommunications -- accounted for 96% of our total net
revenues for the year ended December 31, 2001 and 94% of total net revenues for
the year ended December 31, 2000. We expect that revenues from these three
markets will continue to account for a substantial portion of our total net
revenues in 2002. If we are unable to successfully increase penetration of our
existing markets or achieve sales in additional markets, or if the overall
economic climate of our target markets deteriorates, our revenues may decline.
In addition, we cannot predict what effect the political terrorist attacks of
September 11, 2001 and the related military conflict will have on our existing
and prospective customers' decision-making process with respect to licensing or
implementing enterprise-level products such as ours. If these or other outside
factors cause existing or prospective customers to cancel or delay deployment of
products such as ours, our operating results would be adversely affected.
Low gross margin in services revenues could adversely impact our overall gross
margin and income.
Our services revenues have had lower gross margins than our license revenues. As
a result, an increase in the percentage of total net revenues represented by
services revenues, or an unexpected decrease in license revenues, could have a
detrimental impact on our overall gross margins. We anticipate that services
revenues will continue to represent over 40% of total net revenues. To increase
services revenues, we must expand our services organization, successfully
recruit and train a sufficient number of qualified services personnel, and
obtain renewals of current maintenance contracts by our customers. This
expansion could further reduce gross margins in our services revenues.
Because competition for qualified personnel could again become intense, we may
not be able to retain or recruit personnel, which could impact the development
and sales of our products.
If we are unable to hire or retain qualified personnel, or if newly hired
personnel fails to develop the necessary skills or fails to reach expected
levels of productivity, our ability to develop and market our products will be
weakened. Our success depends largely on the continued contributions of our key
management, engineering, sales and marketing and professional services
personnel, including Samuel T. Spadafora, our chairman of the board of directors
and Stephen Kelly, our president and chief executive officer. As part of a long
planned management succession strategy, we announced the promotion of Stephen
Kelly to chief executive officer effective January 1, 2002. Samuel T. Spadafora
will continue in his role as chairman of the board of directors.
If we fail to introduce new versions and releases of functional and scalable
products in a timely manner, customers may license competing products and our
revenues may decline.
If we are unable to ship or implement enhancements to our products when planned,
or fail to achieve timely market acceptance of these enhancements, we may suffer
lost sales and could fail to achieve anticipated revenues. A majority of our
total net revenues have been, and are expected to be, derived from the license
of our primary product suite. Our future operating results will depend on the
demand for the product suite by future customers, including new and enhanced
releases that are subsequently introduced. If our competitors release new
products that are superior to our products in performance or price, or if we
fail to enhance our products or introduce new features and functionality in a
timely manner, demand for our products may decline. We have in the past
experienced delays in the planned release dates of new versions of our software
products and upgrades. New versions of our products may not be released on
schedule or may contain defects when released.
We depend on technology licensed to us by third parties, and the loss or
inability to maintain these licenses could prevent or delay sales of our
products.
We license from several software providers technologies that are incorporated
into our products. For example, we license Forte 4GL Runtime and related iPlanet
products from iPlanet, a Sun Microsystems company. In addition, we license
JRules software products from Ilog, Inc. and other products from other
19
vendors. Our license agreement with Sun Microsystems was renewed in October
2001. We anticipate that we will continue to license technology from iPlanet,
Ilog, Inc. and other third parties in the future. This software may not continue
to be available on commercially reasonable terms, if at all. The loss of the
iPlanet or Ilog, Inc. technology or other technology licenses could result in
delays in the license of our products until equivalent technology, if available,
is developed or identified, licensed and integrated into our products. Even if
substitute technologies are available, there can be no guarantee that we will be
able to license these technologies on commercially reasonable terms, if at all.
Defects in third party products associated with our products could impair our
products' functionality and injure our reputation.
The effective implementation of our products depends upon the successful
operation of third-party products in conjunction with our products. Any
undetected errors in these third-party products could prevent the implementation
or impair the functionality of our products, delay new product introductions or
injure our reputation. In the past, while our business has not been materially
harmed, product releases have been delayed as a result of errors in third-party
software and we have incurred significant expenses fixing and investigating the
cause of these errors.
Our customers and system integration partners have the ability to alter our
source code and resulting inappropriate alterations could adversely affect the
performance of our products, cause injury to our reputation and increase
operating expenses.
Customers and system integration partners have access to the computer source
code for certain of our products and may alter the source code. Alteration of
our source code may lead to implementation, operation, technical support and
upgrade problems for our customers. This could adversely affect the market
acceptance of our products, and any necessary investigative work and repairs
could cause us to incur significant expenses and delays in implementation.
If our products do not operate with the hardware and software platforms used by
our customers, customers may license competing products and our revenues will
decline.
If our products fail to satisfy advancing technological requirements of our
customers and potential customers, the market acceptance of these products could
be reduced. We currently serve a customer base with a wide variety of constantly
changing hardware, software applications and networking platforms. Customer
acceptance of our products depends on many factors such as:
o our ability to integrate our products with multiple platforms and existing
or legacy systems;
o our ability to anticipate and support new standards, especially Internet
and enterprise Java standards; and
o the integration of additional software modules and third party software
applications with our existing products.
Our reliance on international operations may cause reduced revenues and
increased operating expenses.
During the year ended December 31, 2001, international revenues were $64.4
million or approximately 85% of our total net revenues. During the year ended
December 31, 2000, international revenues were $25.8 million or approximately
77% of our total net revenues. We expect international revenues will continue to
represent a significant portion of our total net revenues in future periods. We
have faced, and will continue to face, risks associated with:
o difficulties in managing our widespread operations;
o difficulties in hiring qualified local personnel;
o seasonal fluctuations in customer orders;
o longer accounts receivable collection cycles;
20
o expenses associated with products used in foreign markets;
o currency fluctuation and hedging activities; and
o economic downturns in international economies.
Any of these factors could have a significant impact on our ability to license
products on a competitive and timely basis and adversely affect our operating
expenses and net income. Our international sales are denominated in both the
U.S. dollar and local currencies. As a result, increases in the value of the
U.S. dollar relative to foreign currencies could make our products less
competitive in international markets and could negatively affect our operating
results and cash flows.
Our failure to successfully integrate acquired companies and technologies into
our operations and technologies could prevent us from operating efficiently.
Our business strategy includes pursuing opportunities to grow our business, both
internally and through selective acquisitions and technology and other asset
purchases. To implement this strategy, we expect to be involved in additional
technology and asset purchase transactions. Acquisition transactions are
motivated by many factors, including, among others, our desire to acquire
skilled personnel, obtain new technologies and expand and enhance our product
offerings. Growth through acquisitions has several identifiable risks, including
difficulties associated with successfully integrating the previously distinct
businesses into our organization, the substantial management time devoted to
integrating personnel, technology and entire companies, the possibility that we
might not be successful in retaining the employees of the acquired companies,
undisclosed liabilities, the failure to realize anticipated benefits (such as
cost savings and synergies) and issues related to integrating acquired
technology or content into our products (such as unanticipated expenses).
Realization of any of these risks in connection with any technology acquisition
and/or asset purchase we have entered into, or may enter into, could have a
material adverse effect on our business, operating results and financial
condition.
If we become subject to intellectual property infringement claims, these claims
could be costly and time-consuming to defend, divert management's attention,
cause product delays and have an adverse effect on our revenues and net income.
We expect that software product developers and providers of software in markets
similar to our target markets will increasingly be subject to infringement
claims as the number of products and competitors in our industry grows and the
functionality of products overlaps. Any claims, with or without merit, could be
costly and time-consuming to defend, divert our management's attention, or cause
product delays. We have no patents or patent applications that we could use
defensively against any company bringing such a claim. If any of our products
were found to infringe a third party's proprietary rights, we could be required
to enter into royalty or licensing agreements to be able to sell our products.
Royalty and licensing agreements, if required, may not be available on terms
acceptable to us or at all.
Power system shortages and outages in California may result in harm to our
operations due to a disruption of our development and administrative activities.
Over the past several years, California has experienced an energy crisis
resulting in significant power shortages and outages. A sustained failure or
frequent power failures could disrupt our operations and the operations of our
third party service providers, which would limit our ability to provide our
products and services to our customers, harming our customer relationships, and
having an adverse effect on our operating results.
ITEM 2. FACILITIES
Our headquarters are located in offices that are approximately 31,000 square
feet in Cupertino, California pursuant to an office lease expiring in July 2004.
We also lease office space in Boston, Chicago, New York City, London, Paris,
Amsterdam, Frankfurt, Munich, Madrid, Johannesburg, Sydney and Melbourne. We
believe our existing facilities meet our current needs and that we will be able
to obtain additional commercial space as needed.
21
ITEM 3. LEGAL PROCEEDINGS
Beginning in July 2001, we and certain of our officers and directors were named
as defendants in several class action shareholder complaints filed in the United
States District Court for the Southern District of New York and consolidated
under the caption, Weiss v. Chordiant Software, Inc., et al., Case No.
01-CV-6222. Similar complaints were filed in the same Court against hundreds of
other public companies that conducted initial public offerings ("IPOs") of their
common stock in the late 1990s (the "IPO Lawsuits"). In each of these
complaints, the plaintiffs allege that we, certain of our officers and directors
and our IPO underwriters violated the federal securities laws because our IPO
registration statement and prospectus contained untrue statements of material
fact or omitted material facts regarding the compensation to be received by, and
the stock allocation practices of, the IPO underwriters. The plaintiffs seek
unspecified monetary damages and other relief.
On August 8, 2001, the IPO Lawsuits were consolidated for pretrial purposes
before United States Judge Shira Scheindlin of the Southern District of New
York. Judge Scheindlin held an initial case management conference on September
7, 2001, at which time she ordered, among other things, that the time for all
defendants in the IPO Lawsuits to respond to any complaint be postponed until
further order of the Court. Thus, we have not been required to answer any of the
complaints, and no discovery has been served on us.
At a further status conference on March 11, 2002, Judge Scheindlin stated that
she would appoint lead plaintiffs counsel in the IPO Lawsuits in mid-March 2002,
and would require the appointed lead plaintiffs counsel to file amended,
consolidated complaints in the IPO Lawsuits by April 17, 2002. Judge Scheindlin
further stated that she did not expect the defendants to file motions to dismiss
the amended, consolidated complaints until summer 2002. We, with the assistance
of our legal counsel, intend to defend our position in this matter vigorously.
In addition to these lawsuits, we are subject to various claims and legal
actions arising in the ordinary course of business.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of our security holders during the fourth
quarter of the year ended December 31, 2001.
22
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Our common stock is traded on the Nasdaq National Market under the symbol
"CHRD." The following table shows, for the periods indicated, the high and low
per share sales prices of our common stock, as reported by the Nasdaq National
Market. The prices appearing in the tables below reflect over-the-counter market
quotations, which reflect inter-dealer prices, without retail mark-up, markdown
or commission and may not necessarily represent actual transactions.
- ---------------------------------------------------------------------------
Year Ended December 31, 2001 High Low
- ---------------------------------------------------------------------------
First Quarter $4.94 $2.63
- ---------------------------------------------------------------------------
Second Quarter $3.51 $2.75
- ---------------------------------------------------------------------------
Third Quarter $3.10 $1.87
- ---------------------------------------------------------------------------
Fourth Quarter $8.00 $1.80
- ---------------------------------------------------------------------------
Year Ended December 31, 2000
- ---------------------------------------------------------------------------
First Quarter $39.44 $16.25
- ---------------------------------------------------------------------------
Second Quarter $16.63 $5.44
- ---------------------------------------------------------------------------
Third Quarter $17.98 $7.38
- ---------------------------------------------------------------------------
Fourth Quarter $8.00 $1.88
- ---------------------------------------------------------------------------
As of December 31, 2001, there were approximately 305 holders of record of our
common stock. Because many of such shares are held by brokers and other
institutions on behalf of stockholders, we are unable to estimate the total
number of stockholders represented by these record holders. We have never paid
or declared any cash dividends. We currently expect to retain earnings for use
in the operation and expansion of our business and therefore do not anticipate
paying any cash dividends.
In response to the SEC's adoption of Rule 10b5-1 under the Securities Exchange
Act of 1934, we approved amendments to our insider trading policy on July 20,
2001 to permit our directors, executive officers and certain key employees to
enter into trading plans or arrangements for systematic trading in our
securities. We have been advised that certain of our directors and officers have
entered into trading plans for selling shares in our securities. As of December
31, 2001, the directors and officers who have entered into trading plans include
Stephen Kelly and Sam Spadafora. Since December 31, 2001, Joseph Tumminaro
entered into a trading plan, and we anticipate that, as permitted by the Rule
10b5-1 and our insider trading policy, some or all of our directors, executive
officers and key employees may establish trading plans at some date in the
future.
Recent Sales of Unregistered Securities
We have sold and issued the following unregistered securities during the
period covered by this Annual Report:
(1) In May 29, 2001, we issued an aggregate of 165,000 shares of common stock
for the acquisition of certain intellectual property assets and technology of
the AoNet J2EE Workflow Server from ASP Outfitter, Inc.
(2) On May 17, 2001, we issued an aggregate of 1,733,547 shares of common stock
for the acquisition of certain assets associated with the Dialog Server product
suite from Actionpoint, Inc., as a result of which certain members of the Dialog
Server development, support, sales and marketing team from Actionpoint, Inc.
became our employees.
The sales and issuances of securities described in paragraphs (1) and (2) above
were deemed to be exempt from registration under the Securities Act by virtue of
Rule 506 of Regulation D of the Securities Act of 1933. Appropriate legends are
affixed to the stock certificates issued in the aforementioned transactions.
Use of Proceeds from Sales of Registered Securities
We commenced our initial public offering on February 14, 2000 pursuant to a
Registration Statement on Form S-1 (File No. 333-92187) (the "Registration
Statement"), which was declared effective on February 14, 2000. The offering
terminated following the sale of all securities registered. The managing
underwriters of the public offering were Robertson Stephens, Dain Rauscher
Wessels and Thomas Weisel Partners LLC (the "Underwriters"). Pursuant to the
Registration Statement, we sold 4,500,000 shares of common stock at $18.00 per
share resulting in gross proceeds of $81.0 million, $5.7 million of which was
applied toward the underwriting discount and commissions. Other expenses related
to the offering are estimated to have been $2.0 million and have been paid or
are payable to unaffiliated parties. On February 25, 2000, the Underwriters
exercised their over-allotment options and purchased 675,000 additional shares
of common stock at the issuance price of $18.00 per share, of which 425,000
shares were sold by us and 250,000 were sold by two of our stockholders. In
conjunction with our sale of the 425,000 shares, we received $7,114,500, net of
commissions and costs. The total net proceeds to us from the initial public
offering were approximately $80.4 million. We used a portion of the net proceeds
to make a payment of $1,490,155 representing principal and accrued interest to
the holder of our accounts receivable line of credit. We currently expect to use
the remaining net proceeds primarily for working capital and general corporate
purposes, including increased research and development expenditures, increased
sales and marketing
23
expenditures, and capital expenditures made in the ordinary course of business.
In addition, we may use a portion of the net proceeds to fund acquisitions or
investments in complementary businesses, technologies or products. Pending such
uses, we will invest the net proceeds in short-term, investment grade, and
interest bearing securities.
ITEM 6. SELECTED FINANCIAL DATA
You should read the following selected financial data in conjunction with our
consolidated financial statements and related notes and "Management's Discussion
and Analysis of Financial Condition and Results of Operations" included
elsewhere in this Annual Report. The consolidated statement of operations data
for the years ended December 31, 1999, 2000 and 2001 and the consolidated
balance sheet data as of December 31, 2000 and 2001 are derived from the audited
consolidated financial statements included in this Annual Report. The
consolidated statement of operations data for the year ended December 31, 1997
and 1998 and the balance sheet data as of December 31, 1997 and 1998 are derived
from audited consolidated financial statements not included in this Annual
Report. The diluted net loss per share computation excludes potential shares of
common stock (preferred stock, options and warrants to purchase common stock and
common stock subject to repurchase rights that we hold), since their effect
would be antidilutive. See the notes to our consolidated financial statements
for a detailed explanation of the determination of the shares used to compute
basic and diluted net loss per share. Our historical results are not necessarily
indicative of results to be expected for future periods.
Year Ended December 31,
--------------------------------------------------------------------
1997 1998 1999 2000 2001
--------------------------------------------------------------------
(in thousands, except per share data)
Consolidated Statement of Operations Data:
Net revenue $ 2,908 $12,465 $17,588 $33,689 $75,971
-------- ------- ------- ------- -------
Net loss (11,593) (17,440) (23,137) (35,356) (42,262)
======== ======= ======= ======= =======
Net loss per share basic and diluted $ (2.31) $ (3.44) $ (4.34) $ (1.05) $ (0.86)
======== ======= ======= ======= =======
Weighted average shares used in
computing basic and diluted net loss
per share 5,009 5,075 5,327 33,690 49,252
======== ======= ======= ======= =======
As of December 31,
-----------------------------------------------------------------
1997 1998 1999 2000 2001
-----------------------------------------------------------------
(in thousands except per share data)
Consolidated Balance Sheet Data:
Cash and cash equivalents $18,916 $ 1,713 $ 6,719 $ 41,465 $ 27,068
Working capital (deficit) 7,767 (10,162) 1,833 60,529 39,731
Total assets 21,360 11,521 22,086 107,448 114,865
Short-term and long-term borrowings 1,268 1,687 13,225 595 75
Short-term and long-term deferred revenue 10,487 5,719 10,196 30,045 26,863
Mandatorily redeemable convertible preferred
stock 28,949 28,949 51,609 - -
Stockholders' equity (deficit) (20,682) (37,604) (57,782) 63,320 71,300
24
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
SAFE HARBOR
In addition to historical information, the following discussion and analysis of
management contains forward-looking statements. These forward-looking statements
involve risks, uncertainties and assumptions. The actual results may differ
materially from those anticipated in these forward-looking statements as a
result of many factors, including but not limited to, those discussed below and
in the sections in this Annual Report on Form 10-K entitled "Competition,"
"Proprietary Rights" and "Risk Factors." Readers are cautioned not to place
undue reliance on these forward-looking statements, which reflect management's
opinions only as of the date hereof. We undertake no obligation to revise or
publicly release the results of any revision to these forward-looking
statements. Readers should carefully review the risk factors described in this
document as well as in other documents we file from time to time with the
Securities and Exchange Commission, including the Quarterly Reports on Form 10-Q
to be filed by the Company in 2002.
Overview
We provide customer relationship management (CRM) software solutions for global
business-to-consumer enterprise companies. Our primary target markets include
companies with demanding customer relationships involving a large number of
individual customers with complex customer relationships that require high
levels of personalized services. We began marketing our enterprise applications
software in 1997. Through our acquisitions including Prime Response and certain
technology from ActionPoint, we recently added to our product offerings. Our
customers include global companies in the financial services,
telecommunications, retail and travel services industries. Our solutions seek to
fulfill the requirements these companies have for enterprise-wide CRM software
infrastructure solutions capable of servicing millions of individual customers
across multiple communication channels in real-time. Our solutions enable
organizations to market, sell, and serve their customers across multiple
channels, including call centers, branch representatives and self-serve channels
such as automated telephony the web and e-mail.
The quarter ended December 31, 2001 was the third full quarter with consolidated
revenues and expenses from the Prime Response acquisition. Additionally,
approximately half of the quarter ended June 30, 2001 and all of the subsequent
quarters through December 31, 2001 included consolidated revenues and expenses
associated with the asset acquisitions from ActionPoint and ASP Outfitter. As a
result of these acquisitions, comparison of prior period net revenues and
expenses may not be meaningful.
Service revenues as a percentage of total net revenues were 54%, 50% and 48% for
the years ended December 31, 1999, 2000, and 2001, respectively. We expect that
service revenue will continue to represent over 40% of total net revenues.
We sell our products through our direct sales force, and we augment our sales
efforts through relationships with systems integrators, application service
providers and technology vendors.
For the years ended December 31, 1999, 2000 and 2001, revenues were derived from
customer accounts in the Americas, Europe (principally The United Kingdom) and
the rest of the world (ROW). For the years
25
ended December 31, 1999, 2000 and 2001, international revenues were $6.6
million, $25.8 million, and $64.4 million or approximately 38%, 77% and 85% of
our total net revenues, respectively. We believe international revenues will
continue to represent a significant portion of our total net revenues in future
periods.
A small number of customers account for a significant portion of our total net
revenues. As a result, the loss or delay of individual orders or delays in the
product implementations for a customer can have a material impact on our
revenues. We expect that revenues from a small number of customers will continue
to account for a majority of our total net revenues in the future as historical
implementations are completed and replaced with new projects from new and
existing customers. Customer concentration has reduced and we expect that trend
to continue.
Pricing pressure during the past year has intensified particularly with
application products. Several of our competitors continue to aggressively price
their products with large discounts in comparison to our prices. During a recent
competitive sales cycle one competitor offered its product at a fraction of
the cost of our software. While we won this transaction we cannot be sure that
competitors won't offer their products at prices substantially under our prices.
We believe this competitive pricing pressure will continue. Our strategy is to
continue to offer products with functionality different and superior to our
competitors.
Over the past two years our international revenue growth rate has rapidly
outpaced our United States revenue growth rate. We feel this has occurred for
several reasons. First, the U.S. economy has been weak compared to areas where
we have an international presence. Second, our leadership has been very strong
internationally as Stephen Kelly was personally responsible for promoting our
strong growth in International Operations. Third, up until recently, the
competition for sales personnel was very strong in the United States. And
fourth, our acquisition of Prime Response had a very strong international
presence. Assuming the United States economy begins to recover and given our
focus which includes Stephen Kelly as our Chief Executive Officer and with
Jeremy Coote, our new Americas' President, hired in December of 2001, we believe
we will be able to increase our growth rate for our U.S. revenues more rapidly
than our international revenues.
The following table summarizes the revenues from customers in excess of 10% of
total net revenues:
Year Ended December 31,
-----------------------------------
1999 2000 2001
-----------------------------------
Company A 30%
Company B 19%
Company C 10%
Company D 10%
Company E 14%
Company F 19% 18%
Company G 15% 30% 13%
Since our inception, we have incurred substantial research and development costs
and have invested heavily in the expansion of our product development, sales,
marketing and professional services organizations in order to build an
infrastructure to support our long-term growth strategy. The number of our
fulltime employees increased from 250 at December 31, 2000 to 436 at December
31, 2001, representing an increase of approximately 74%. The major increase was
due to the retention of certain employees from the Prime Response and
ActionPoint Dialog Server asset acquisitions. We anticipate that our operating
expenses will continue to increase over the very long term as we expand our
product development, sales and marketing and professional services organization.
As of February 28, 2002, we employed 397 full time employees. Of that total, 110
were primarily engaged in product development, engineering or systems
engineering, 111 were engaged in sales and marketing, 129 were engaged in
professional services and 47 were engaged in operational, financial and
administrative functions.
We believe that period-to-period comparisons of our operating results should not
be relied upon as indicative of future performance. Our prospects must be
considered given the risks, expenses and difficulties frequently encountered by
companies in early stages of development, particularly companies in new and
rapidly evolving businesses. There can be no assurance we will be successful in
addressing these risks and difficulties. In addition, although we have
experienced revenue growth recently, this trend may not continue. In addition,
we may not achieve or maintain profitability in the future.
CRITICAL ACCOUNTING POLICIES
Our discussion and analysis of our financial condition and results of operations
is based upon our consolidated financial statements, which have been prepared in
accordance with accounting principles generally accepted in the United States.
The preparation of these financial statements requires us to make estimates and
judgments that affect the reported amounts of assets, liabilities, revenues and
expenses, and related disclosure of contingent assets and liabilities. On an
on-going basis, we evaluate our estimates, including those related to estimates
of percentage of completion on our service contracts, uncollectible
receivables, investment values, intangible assets, income taxes, restructuring
costs and contingencies. We base our estimates on historical experience and on
various other
26
assumptions that are believed to be reasonable under the circumstances, the
results of which form the basis for making judgments about the carrying values
of assets and liabilities that are not readily apparent from other sources.
Actual results may differ from these estimates under different assumptions or
conditions.
We believe the following critical accounting policies affect our more
significant judgments and estimates used in the preparation of our consolidated
financial statements:
o revenue recognition, including estimating the total estimated days to
complete sales arrangements involving significant implementation or
customization essential to the functionality of our product;
o estimating valuation allowances and accrued liabilities, specifically the
allowance for doubtful accounts, and assessment of the probability of the
outcome of our current litigation;
o accounting for income taxes;
o valuation of long-lived and intangible assets and goodwill; and
o determining functional currencies for the purposes of consolidating our
international operations.
Revenue recognition. We derive revenues from licenses of our software and
related services, which include assistance in implementation, customization and
integration, post-contract customer support, training and consulting. In
addition to determining our results of operations for a given period, our
revenue recognition determines the timing of certain expenses, such as sales
commissions and royalties. Revenue recognition rules for software companies are
very complex and certain judgements affect the application of our revenue
policy. The amount and timing of our revenue is difficult to predict and any
shortfall in revenue or delay in recognizing revenue could cause our operating
results to vary significantly from quarter to quarter and could result in future
operating losses.
At the time of entering into a transaction, we assess whether any services
included within the arrangement require us to perform significant implementation
or customization essential to the functionality of our product so that the
software performs as the customer requests. For contracts involving significant
implementation or customization of the software, we recognize the license and
service fees using the percentage-of-completion method using labor hours
incurred as the measure of progress towards completion. Approximately 58%, 65%
and 73% of total net revenue was recognized under the percentage-of-completion
method of accounting during 1999, 2000 and 2001, respectively. We consider that
a project is completed at the go-live date. We follow this method since
reasonably dependable estimates of time to complete the project can be made.
Estimates are subject to revisions as the contract progresses to completion.
Provisions for estimated contract losses are recognized in the period in which
the loss becomes probable and can be reasonably estimated. When we sell
additional seat licenses, revenue from additional seats is recognized after the
go-live date if the seats have been delivered and no remaining obligations
exist.
On contracts not involving significant implementation or customization essential
to the functionality of our products, we recognize license revenues when there
is persuasive evidence of an arrangement, the fee is fixed or determinable,
there is probability of collection and delivery has occurred.
27
We assess collection based on a number of factors, including past transaction
history with the customer and the credit-worthiness of the customer. We do not
request collateral from our customers. If we determine that collection of a fee
is not probable, we defer the fee and recognize revenue at the time collection
becomes probable, which is generally upon receipt of cash.
For arrangements with multiple elements, we recognize revenues for the delivered
elements based upon the residual contract value as prescribed by Statement of
Position No. 98-9, "Modification of SOP No. 97-2 with Respect to Certain
Transactions." We allocate revenue to each component of the arrangement using
the residual value method based on the fair value of the undelivered elements,
which is specific to us. This means that we defer revenue from the arrangement
fee equivalent to the fair value of the undelivered elements. Fair values for
the ongoing maintenance and support obligations for our perpetual licenses are
based upon separate sales of renewals to other customers or upon optional
substantive renewal rates quoted in the contracts. Fair value of services, such
as training or consulting, is based upon separate sales by us of these services
to other customers.
In situations in which we are not responsible for implementation services but
are obligated to provide unspecified additional software products in the future,
we recognize revenue as a subscription ratably over the term of the commitment
period.
For all sales we use either a binding purchase order or signed license agreement
as evidence of an arrangement. Sales through our third party systems integrators
are evidenced by a master agreement governing the relationship together with
binding purchase orders on a transaction-by-transaction basis. Revenues from
reseller arrangements are recognized on the "sell-through" method, when the
reseller reports to us the sale of our software products to end-users. Our
agreements with customers and resellers do not contain product return rights.
We recognize revenue for post-contract customer support ratably over the support
period, generally one year. Our training and consulting services are billed
based on hourly rates, and we generally recognize revenue as these services are
performed.
We bill customers according to contract terms. We record as deferred revenues
amounts billed to customers in excess of revenues recognized.
28
Allowance for doubtful accounts and accruals for litigation. We must make
estimates of the uncollectability of our accounts receivables. We specifically
analyze accounts receivable and analyze historical bad debts, customer
concentrations, customer credit-worthiness and current economic trends when
evaluating the adequacy of the allowance for doubtful accounts. Generally, we
require no collateral from our customers. Our accounts receivable balance was
$21.6 million, net of allowance for doubtful accounts of $0.2 million as of
December 31, 2001. If the financial condition of our customers were to
deteriorate, resulting in an impairment of their ability to make payments,
additional allowances may be required.
Our current estimated range of liability related to some of the pending
litigation is based on claims for which we can estimate the amount
and range of loss. We have recorded the minimum estimated liability related to
those claims, when there is a range of loss.
Accounting for income taxes. As part of the process of preparing our
consolidated financial statements we are required to estimate our income taxes
in each of the jurisdictions in which we operate. This process involves
estimating our actual current tax exposure together with assessing temporary
differences resulting from differing treatment of items, such as deferred
revenue, for tax and accounting purposes. These differences result in deferred
tax assets and liabilities, which are included within our consolidated balance
sheet. We must then assess the likelihood that our deferred tax assets will be
recovered from future taxable income and to the extent we believe that recovery
is not likely, we must establish a valuation allowance. To the extent we
establish a valuation allowance or increase this allowance in a period, we must
include an expense within the tax provision in the statement of operations.
We have recorded a valuation allowance of $57.9 million as of December 31, 2001,
due to uncertainties related to our ability to utilize our deferred tax assets,
primarily consisting of certain net operating losses carried forward and foreign
tax credits. In the event that actual results differ from these estimates or we
adjust these estimates in future periods we may need to establish an additional
valuation allowance which could materially impact our financial position and
results of operations.
Valuation of long-lived and intangible assets and goodwill. We assess the
impairment of identifiable intangibles, long-lived assets and goodwill whenever
events or changes in circumstances indicate that the carrying value may not be
recoverable. Factors we consider important which could trigger an impairment
review include the following:
o significant underperformance relative to expected historical or projected
future operating results;
o significant changes in the manner of our use of the acquired assets or the
strategy for our overall business;
o significant negative industry or economic trends;
o significant decline in our stock price for a sustained period; and
o our market capitalization relative to net book value.
When we determine that the carrying value of intangibles, long-lived assets and
goodwill may not be recoverable based upon the existence of one or more of the
above
29
indicators of impairment, we measure any impairment based on a projected
discounted cash flow method using a discount rate determined by our management
to be commensurate with the risk inherent in our current business model. Net
intangible assets, long-lived assets, and net goodwill amounted to $45.5 million
as of December 31, 2001.
Determining functional currencies for the purpose of consolidation. We have
several foreign subsidiaries which together account for approximately 85% of our
net revenues, 30% of our assets and 57% of our total liabilities as of December
31, 2001.
In preparing our consolidated financial statements, we are required to translate
the financial statements of the foreign subsidiaries from the currency in which
they keep their accounting records, generally the local currency, into United
States dollars. This process results in exchange gains and losses which, under
the relevant accounting guidance are either included within the statement of
operations or as a separate part of our net equity under the caption "cumulative
translation adjustment."
Under the relevant accounting guidance the treatment of these translation gains
or losses is dependent upon our management's determination of the functional
currency of each subsidiary. The functional currency is determined based on
management judgment and involves consideration of all relevant economic facts
and circumstances affecting the subsidiary. Generally, the currency in which the
subsidiary transacts a majority of its transactions, including billings,
financing, payroll and other expenditures would be considered the functional
currency but any dependency upon the parent and the nature of the subsidiary's
operations must also be considered.
If any subsidiary's functional currency is deemed to be the local currency, then
any gain or loss associated with the translation of that subsidiary's financial
statements is included in cumulative translation adjustments. However, if the
functional currency were deemed to be the United States dollar then any gain or
loss associated with the translation of these financial statements would be
included within our statement of operations. If we dispose of any of our
subsidiaries, any cumulative translation ga