Annual Reports

 
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  • 10-Q (May 11, 2009)
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  • 10-Q (Aug 8, 2008)
  • 10-Q (May 9, 2008)
  • 10-Q (Nov 9, 2007)
  • 10-Q (Aug 9, 2007)

 
8-K

 
Other

I-many 10-Q 2007

Documents found in this filing:

  1. 10-Q
  2. Ex-31.1
  3. Ex-31.2
  4. Ex-32.1
  5. Ex-32.1
Form 10-Q
Table of Contents

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 


Form 10-Q

 


 

x Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the quarterly period ended June 30, 2007

or

 

¨ Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the transition period from              to             

Commission file number: 000-30883

 


I-MANY, INC.

(Exact name of registrant as specified in its charter)

 


 

Delaware   01-0524931

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification Number)

399 Thornall Street

12th Floor

Edison, New Jersey 08837

(Address of principal executive offices)

(800) 832-0228

(Registrant’s telephone number, including area code)

 


Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No  ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer or a non-accelerated filer. See definition of “accelerated filer” and “large accelerated filer” in Rule 12b-2 of the Exchange Act.

Large Accelerated Filer  ¨    Accelerated Filer  x    Non-Accelerated Filer  ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  x

On August 3, 2007, 52,116,998 shares of the registrant’s common stock, $.0001 par value, were issued and outstanding.

 



Table of Contents

CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS

This Quarterly Report on Form 10-Q contains forward-looking statements that involve risks and uncertainties. Discussions containing forward-looking statements may be found in the information set forth in Part II, Item 1A, “Risk Factors,” of this Quarterly Report on Form 10-Q, as well as generally in this Form 10-Q. The Company uses words such as “believes,” “intends,” “expects,” “anticipates,” “plans,” “estimates,” “should,” “may,” “will,” “scheduled” and similar expressions to identify forward-looking statements. The Company uses these words to describe its present belief about future events relating to, among other things, its expected marketing plans, future hiring, expenditures and sources of revenue. This Form 10-Q may also contain third party estimates regarding the size and growth of our market, which also are forward-looking statements. Our forward-looking statements apply only as of the date of this Form 10-Q. The Company’s actual results could differ materially from those anticipated in the forward-looking statements for many reasons, including the risks described above and elsewhere in this Form 10-Q.

Although the Company believes that the expectations reflected in the forward-looking statements are reasonable, the Company cannot guarantee future results, levels of activity, performance or achievements. The Company is under no duty to update any of the forward-looking statements after the date of this Form 10-Q to conform these statements to actual results or to changes in our expectations, other than as required by law.

 

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I-MANY, INC.

FORM 10-Q

TABLE OF CONTENTS

 

          PAGE
PART I.    UNAUDITED FINANCIAL INFORMATION   

Item 1.

   Condensed Consolidated Financial Statements   
   Condensed Consolidated Balance Sheets as of June 30, 2007 and December 31, 2006    4
   Condensed Consolidated Statements of Operations for the three months and six months ended June 30, 2007 and 2006    5
   Condensed Consolidated Statements of Cash Flows for the six months ended June 30, 2007 and 2006    6
   Notes to Condensed Consolidated Financial Statements    7

Item 2.

   Management’s Discussion and Analysis of Financial Condition and Results of Operations    16

Item 3.

   Quantitative and Qualitative Disclosures About Market Risk    30

Item 4.

   Controls and Procedures    30
PART II.    OTHER INFORMATION   

Item 1A

   Risk Factors    31

Item 2.

   Unregistered Sales of Equity Securities and Use of Proceeds    34

Item 4.

   Submission of Matters to a Vote of Security Holders    34

Item 6.

   Exhibits    34
   Signatures    34
   Index to Exhibits    35

 

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PART I. UNAUDITED FINANCIAL INFORMATION

 

ITEM 1. UNAUDITED FINANCIAL STATEMENTS

I-MANY, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(In thousands, except share-related amounts)

 

     June 30,
2007
    December 31,
2006
 

ASSETS

    

Current assets:

    

Cash and cash equivalents

   $ 13,694     $ 17,232  

Restricted cash

     80       80  

Accounts receivable, net of allowance

     4,993       8,120  

Prepaid expenses and other current assets

     961       766  
                

Total current assets

     19,728       26,198  

Property and equipment, net

     1,472       1,341  

Restricted cash

     433       427  

Other assets

     123       121  

Acquired intangible assets, net

     139       231  

Goodwill

     8,667       8,667  
                

Total assets

   $ 30,562     $ 36,985  
                

LIABILITIES, REDEEMABLE PREFERRED STOCK AND STOCKHOLDERS’ EQUITY

    

Current liabilities:

    

Accounts payable

   $ 1,897     $ 2,549  

Accrued expenses

     6,351       4,675  

Current portion of deferred revenue

     14,380       15,773  

Current portion of capital lease obligations

     240       154  
                

Total current liabilities

     22,868       23,151  

Deferred revenue, net of current portion

     1,455       1,256  

Capital lease obligations, net of current portion

     311       240  

Other long-term liabilities

     831       884  
                

Total liabilities

     25,465       25,531  
                

Series A redeemable convertible preferred stock, $.01 value

    

Authorized—1,700 shares

    

Issued and outstanding—none

     —         —    

Stockholders’ equity:

    

Undesignated preferred stock, $.01 par value

    

Authorized—5,000,000 shares; designated 1,700 shares

    

Issued and outstanding—none

     —         —    

Common stock, $.0001 par value—

    

Authorized—100,000,000 shares

    

Issued and outstanding—52,061,423 and 51,718,992 shares at June 30, 2007 and December 31, 2006, respectively

     5       5  

Additional paid-in capital

     163,079       161,690  

Accumulated other comprehensive loss

     (16 )     (6 )

Accumulated deficit

     (157,971 )     (150,235 )
                

Total stockholders’ equity

     5,097       11,454  
                

Total liabilities and stockholders’ equity

   $ 30,562     $ 36,985  
                

See notes to condensed consolidated financial statements.

 

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I-MANY, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(in thousands, except per share amounts)

 

     Three months ended
June 30,
    Six months ended
June 30,
 
     2007     2006     2007     2006  

Net revenues:

        

Recurring

   $ 4,756     $ 3,876     $ 9,181     $ 7,656  

Services

     3,164       3,003       6,152       5,752  

License

     2,095       16       3,035       1,105  
                                

Total net revenues

     10,015       6,895       18,368       14,513  

Operating expenses:

        

Cost of recurring revenue

     1,723       1,621       3,374       3,068  

Cost of services revenue

     2,964       2,473       5,920       4,843  

Cost of third-party technology

     78       40       154       117  

Amortization of acquired intangible assets

     47       47       93       390  

Sales and marketing

     2,562       2,580       4,877       4,653  

Research and development

     4,088       3,163       8,392       6,141  

General and administrative

     1,677       1,364       3,129       2,677  

Depreciation

     217       190       405       361  

Restructuring and other charges

     19       36       81       44  
                                

Total operating expenses

     13,375       11,514       26,425       22,294  
                                

Loss from operations

     (3,360 )     (4,619 )     (8,057 )     (7,781 )

Other income, net

     146       142       321       274  
                                

Net loss

   $ (3,214 )   $ (4,477 )   $ (7,736 )   $ (7,507 )
                                

Basic and diluted net loss per common share

   $ (0.06 )   $ (0.09 )   $ (0.15 )   $ (0.16 )
                                

Weighted average shares outstanding

     51,644       47,152       51,555       46,915  
                                

See notes to condensed consolidated financial statements

 

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I-MANY, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

 

     Six Months Ended
June 30,
 
     2007     2006  

Cash Flows from Operating Activities:

    

Net loss

   $ (7,736 )   $ (7,507 )

Adjustments to reconcile net loss to net cash used in operating activities:

    

Depreciation and amortization

     498       751  

Restructuring and other charges

     81       44  

Amortization of deferred stock-based compensation

     1,161       516  

Changes in operating assets and liabilities, net of acquisitions:

    

Restricted cash

     (6 )     67  

Accounts receivable

     3,113       3,315  

Prepaid expense and other current assets

     (195 )     (116 )

Accounts payable

     (652 )     783  

Accrued expenses and other liabilities

     1,547       (145 )

Deferred revenue

     (1,194 )     570  

Deferred rent

     (5 )     (14 )

Other assets

     (2 )     (2 )
                

Net cash used in operating activities

     (3,390 )     (1,738 )
                

Cash Flows from Investing Activities:

    

Purchases of property and equipment

     (278 )     (376 )
                

Net cash used in investing activities

     (278 )     (376 )
                

Cash Flows from Financing Activities:

    

Payments on capital lease obligations

     (98 )     (4 )

Proceeds from exercise of stock options

     162       248  

Proceeds from exercise of common stock warrant

     —         300  

Proceeds from Employee Stock Purchase Plan

     66       76  
                

Net cash provided by financing activities

     130       620  
                

Net decrease in cash and cash equivalents

     (3,538 )     (1,494 )

Cash and cash equivalents, beginning of period

     17,232       16,805  
                

Cash and cash equivalents, end of period

   $ 13,694     $ 15,311  
                

Supplemental disclosure of Cash Flow Information:

    

Cash paid during the period for interest

   $ 24     $ 1  
                

Supplemental disclosure of Noncash Activities:

    

Property and equipment acquired under capital leases

   $ 255     $ 169  
                

See notes to condensed consolidated financial statements.

 

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I-MANY, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

NOTE 1. BASIS OF PRESENTATION

The accompanying unaudited interim condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America applicable to interim financial reporting pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) for reporting on Form 10-Q. It is recommended that these condensed consolidated financial statements be read in conjunction with the financial statements and the related notes of I-many, Inc. (the “Company”) for the year ended December 31, 2006 as reported in the Company’s Annual Report on Form 10-K filed with the SEC. In the opinion of management, all adjustments (consisting of normal, recurring adjustments) considered necessary for the fair presentation of these interim financial statements have been included. The results of operations for the three months and six months ended June 30, 2007 may not be indicative of the results that may be expected for the year ending December 31, 2007, or for any other period.

NOTE 2. SIGNIFICANT ACCOUNTING POLICIES

Revenue Recognition:

The Company recognizes revenue in accordance with Statement of Position (SOP) 97-2, “Software Revenue Recognition,” and SOP 98-9, “Software Revenue Recognition, with Respect to Certain Arrangements.” Software license fees are recognized upon execution of a signed license agreement and delivery of the software to customers, provided there are no significant post-delivery obligations, the payment is fixed or determinable and collection is probable. In multiple-element arrangements, a portion of the total fee is allocated to the undelivered professional services, training and maintenance and support services based on the fair value of those elements, which is defined as the price charged when those elements are sold separately. The residual amount is then allocated to the software license fee. In cases where the Company agrees to deliver unspecified additional products in the future, the license fee is recognized as recurring subscription revenue ratably over the term of the arrangement beginning with the delivery of the first product. In cases where the Company agrees to deliver specified additional products or upgrades in the future, recognition of the entire license fee, including any related maintenance and support fees, is deferred until after the specified additional products or upgrades are delivered and made generally available to all customers. If an acceptance period is required, revenues are deferred until customer acceptance. In cases where collection is not deemed probable, we recognize the license fee as payments are received. In cases where significant production or customization is required prior to attaining technological feasibility of the software, license fees are recognized on a percentage-of-completion basis and are credited to research and development expenses as a funded development arrangement. After the software attains technological feasibility, recognizable license fees are reported as product revenue.

In 2007, the Company began to classify its reported net revenues into three revenue categories – Recurring, Services and License revenues – after having previously reported its revenues as being either Product or Service. Recurring revenue consists of (i) fees generated from the provision of maintenance, support, and hosting services and (ii) subscription revenues. Services revenue is now comprised of professional service and training fees and reimbursable out-of-pocket expenses. License revenue consists of non-recurring license fees generated from perpetual license agreements.

 

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Current and prospective customers have the option of entering into a subscription agreement as an alternative to the Company’s standard perpetual license contract model. The standard subscription arrangement is presently a fixed fee agreement over three or more years, covering license fees, unspecified new product releases and maintenance and support, generally payable in equal quarterly or annual installments commencing upon execution of the agreement. Prior to 2007, approximately half of the executed subscription arrangements included a provision allowing the agreement to convert free-of-charge to a perpetual license after the completion of the initial term plus any extensions, generally after five years, after which time the customer would have the option of paying for the continuation of maintenance and support. Beginning in 2006, the Company has generally discontinued including free-of-charge perpetual conversion provisions in new subscription arrangements. Also included in subscription revenues are license fees generated from perpetual license arrangements with rights to unspecified additional products, which are treated as subscriptions for accounting purposes. The Company recognizes all revenue from subscription-based arrangements ratably over the term of the subscription agreement commencing upon delivery of the initial product. Subscription installment amounts that are not yet contractually billable to customers are not reflected in deferred revenues on the Company’s consolidated balance sheet.

Maintenance and support fees are recognized ratably over the term of the service period, which is generally twelve months. When maintenance and support is included in the total license fee, a portion of the total fee is allocated to maintenance and support based upon the price paid by the customer when sold separately, generally as renewals in the second year.

Professional service revenues are recognized as the services are performed. If conditions for acceptance exist, professional service revenues are recognized upon customer acceptance. For fixed fee professional service contracts, anticipated losses are provided for in the period in which the loss is probable and can be reasonably estimated. Training revenues are recognized as the services are provided. Included in training revenues are registration fees received from participants in the Company’s off-site user training conferences.

Payments received from customers at the inception of a maintenance period are treated as deferred service revenues and recognized ratably over the maintenance period. Payments received from customers in advance of product shipment or revenue recognition are treated as deferred revenues and recognized when the product is shipped to the customer or when otherwise earned.

During the third quarter of 2005, the Company became aware of certain defects in the current version of one of its software products, which was first shipped to customers in the fourth quarter of 2004. These defects, which were not identified in pre-release product testing, affected the performance of the software for a portion of the Company’s customers depending on each customer’s particular implementation environment and its intended use of the software. Because certain concessions have been made to customers in connection with these defects, the Company had generally not recognized revenue from sales of this software product and related implementation services beginning in the third quarter of 2005, except in those cases in which it was determined that the customer was not likely to be affected by the known, unresolved software defects. During 2006, new versions of the software were released, but problems continued to occur with implementations at several customer sites. In the first six months of 2007, the Company released new versions of the software which were designed to resolve known performance defects with minimal additional functionality. During the quarter ended June 30, 2007, the Company successfully completed implementations of the newest version of this software at two customer sites and made progress with other customer implementations, and accordingly has begun recognizing revenue from this software on a limited basis. However, the Company is continuing to defer all recurring, services and license revenue in connection with (i) implementations of this software

 

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program that are not yet complete, and (ii) any customers for which a concession is probable and an agreement formalizing a concession amount has not been executed. As of June 30, 2007 and December 31, 2006, the Company has reversed and deferred cumulative amounts of $3.4 million and $3.5 million, respectively, of otherwise-recognizable product and service revenue, based in part on its estimate of the fair value of concessions to be made until the remaining defect is resolved, and partly on its determination that license fees were not fixed and determinable because of the possibility of future concessions.

Stock-based Compensation:

On January 1, 2006, the Company adopted Statement of Financial Accounting Standards (“FAS”) No. 123 (revised 2004) (“FAS 123(R)”), “Share-based Payment.” Under FAS 123(R), the Company measures and records the compensation cost of employee and director services received in exchange for stock option grants and other equity awards based on the grant-date fair value of the awards. The values of the portions of the awards that are ultimately expected to vest are recognized as expense over the requisite service periods. The Company accounts for stock options and awards granted to non-employees other than directors using the fair-value method.

Under the fair-value method, compensation associated with equity awards is determined based on the estimated fair value of the award itself, measured using either current market data or an established option pricing model. The measurement date for employee and director awards is generally the date of grant. The measurement date for awards granted to non-employees other than directors is generally the date that performance of certain services is complete.

The Company’s estimates of the fair value of stock option grants were made using the Black-Scholes option pricing model with the following assumptions and resulted in the following weighted average grant-date fair values of options granted during the six months ended June 30:

 

     2007   2006

Risk-free interest rates

     4.50-5.10%     4.86-5.05%

Dividend yield

     —       —  

Expected volatility

     55-60%     60-70%

Expected term (in years)

     5.29-7.50     5.75-7.50

Weighted average grant-date fair value of options granted during the period

   $ 1.14   $ 1.10

The Company uses historical volatility of the Company’s common stock to estimate expected volatility. The expected term of options granted is estimated to be equal to the average of the contractual life of the options and the grant’s average vesting period. The risk-free interest rate is derived quarterly from the published US Treasury yield curve, based on expected term, in effect as of the last several days of the period.

The following table summarizes the components of stock-based compensation expense for the three month and six month periods ended June 30:

 

     Three months ended
June 30,
   Six months ended
June 30,

(Amounts in thousands)

   2007    2006    2007    2006

Stock option grants issued prior to 2006

   $ 36    $ 148    $ 114    $ 318

Stock option grants issued subsequent to 2005

     485      45      818      55

Restricted stock grants to directors and employees

     80      55      208      117

Employee stock purchase plan

     7      10      21      26
                           

Total stock-based compensation expense

   $ 608    $ 258    $ 1,161    $ 516
                           

 

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As of June 30, 2007, unamortized compensation cost, net of estimated forfeitures, related to nonvested stock options and nonvested restricted shares granted under the various stock incentive plans, amounted to $3.9 million and $273,000, respectively. These costs are expected to be amortized over weighted average periods of 2.1 years and 0.7 years, respectively.

The Company has four current stock incentive plans: (i) the 2000 Non-Employee Director Stock Option Plan, which provides for the granting of annual (25,000-share) and new hire (62,500-share) non-qualified stock options to non-employee directors, (ii) the 2001 Employee Stock Option Plan, which provides for grants in the form of non-qualified stock options, with not more than 25,000 shares to be issued in the aggregate to officers or directors of the Company, and (iii) the 2001 and 2003 Stock Incentive Plans, both of which are shareholder-approved plans and provide for the grant of incentive stock options and other equity awards to the Company’s employees, directors and consultants. The company also has an employee stock purchase plan that allows employees to purchase stock at a 15% discount to market prices subject to certain limitations. Participation is optional and enrollment periods are every six months.

The following table summarizes total common shares available for future grants of stock options and other equity awards at June 30, 2007:

 

2000 Non-Employee Director Stock Option Plan

   37,500

2001 Employee Stock Option Plan

   880,946

2001 Stock Incentive Plan

   195,462

2003 Stock Incentive Plan

   839,882
    

Total available for future grant

   1,953,790
    

Option awards are generally granted with an exercise price equal to the market price of the Company’s common stock at the date of grant. Stock options expire 10 years after grant and vest over periods set by the Board of Directors at the time of grant. Generally, option awards vest ratably over four years for employee grants and over three years for grants to directors. Certain stock option awards provide for accelerated vesting if there is a change in control.

The following table summarizes stock option activity under all of the Company’s stock option plans for the six month period ended June 30, 2007:

 

    

Number of

Shares

   

Weighted

Average

Exercise

Price

   Weighted
Average
Remaining
Contractual
Term
   Aggregate
Intrinsic
Value
($000)

Outstanding at December 31, 2006

   7,176,757     $ 2.002      

Granted

   1,492,100       1.882      

Exercised

   (240,740 )     0.674      

Canceled

   (481,923 )     1.823      
                  

Outstanding at June 30, 2007

   7,946,194     $ 2.031    7.9 years    $ 8,683
                        

Exercisable at June 30, 2007

   2,996,370     $ 2.296    6.1 years    $ 4,331
                        

 

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The total intrinsic value of stock options exercised during the six-month periods ended June 30, 2007 and 2006 was $323,000 and $839,000, respectively.

A summary of the status of the Company’s nonvested restricted shares as of June 30, 2007 and changes during the six months then ended is presented below:

 

    

Number of

Shares

   

Weighted

Average

Grant-Date

Fair Value

Nonvested at December 31, 2006

   332,770     $ 1.582

Granted

   81,132       1.749

Vested

   (76,238 )     1.524

Forfeited

   (20,650 )     1.792
            

Nonvested at June 30, 2007

   317,014     $ 1.625
            

The total fair value of restricted shares which vested during the six months ended June 30, 2007 and 2006 was $116,000 and $24,000, respectively.

Acquired Intangible Assets and Goodwill:

Acquired intangible assets (excluding goodwill) are amortized on a straight-line basis over their estimated useful lives and reviewed for impairment on an annual basis, or on an interim basis if an event or circumstance occurs between annual tests indicating that the assets might be impaired. The impairment test consists of comparing the cash flows expected to be generated by the acquired intangible asset to its carrying amount. If the asset is considered to be impaired, an impairment loss is recognized in an amount by which the carrying amount of the asset exceeds its fair value. Acquired intangible assets with indefinite useful lives will not be amortized until their lives are determined to be definite.

Goodwill is tested for impairment using a two-step approach. The first step is to compare the fair value of a reporting unit to its carrying amount, including goodwill. If the fair value of the reporting unit is greater than its carrying amount, goodwill is not considered impaired and the second step is not required. If the fair value of the reporting unit is less than its carrying amount, the second step of the impairment test measures the amount of the impairment loss, if any, by comparing the implied fair value of goodwill to its carrying amount. If the carrying amount of goodwill exceeds its implied fair value, an impairment loss is recognized equal to that excess. The implied fair value of goodwill is calculated in the same manner that goodwill is calculated in a business combination, whereby the fair value of the reporting unit is allocated to all of the assets and liabilities of that unit (including any unrecognized intangible assets), with the excess “purchase price” over the amounts assigned to assets and liabilities representing the implied fair value of goodwill. Goodwill is tested for impairment at least annually, or on an interim basis if an event occurs or circumstances change that would likely reduce the fair value of a reporting unit below its carrying value.

Income Taxes:

In June 2006, the Financial Accounting Standards Board (“FASB”) issued Interpretation No. 48 (“FIN 48”) regarding “Accounting for Uncertainties in Income Taxes,” which defines the threshold for recognizing the benefits of tax-return positions in the financial statements as “more-likely-than-not” to be sustained by the taxing authorities. FIN 48 also requires explicit disclosure requirements about a Company’s uncertainties related to their income tax position, including a

 

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detailed roll-forward of tax benefits taken that do not qualify for financial statement recognition. The Company adopted FIN 48 effective January 1, 2007 and its adoption did not have a material effect on the Company’s financial position, results of operations or cash flows.

The Company and its wholly-owned domestic subsidiaries are subject to U.S. federal income tax as well as income tax of multiple state jurisdictions. To date, the Internal Revenue Service and most of the relevant state taxing authorities have not conducted examinations of any of the Company’s U.S. and state income tax returns since the Company’s inception. The Company’s wholly-owned subsidiary based in the United Kingdom is subject to income taxes imposed by the United Kingdom.

The Company’s practice is to recognize interest and/or penalties related to income tax matters in income tax expense. To date, such interest and penalty charges have not been material.

A deferred tax asset or liability is recorded for temporary differences in the bases of assets and liabilities for book and tax purposes and loss carry forwards based on enacted rates expected to be in effect when these temporary items are expected to reverse. Valuation allowances are provided to the extent it is more likely than not that all or a portion of the deferred tax assets will not be realized.

Product Indemnification:

The Company’s agreements with customers generally include certain provisions for indemnifying the customer against losses, expenses, and liabilities from damages that may be awarded against the customer in the event that our products are found to infringe upon a patent, copyright, trademark, or other proprietary right of a third party. The agreements generally seek to limit the scope of remedies for such indemnification obligations in a variety of industry-standard respects, including our right to replace an infringing product. To date, we have not had to reimburse any of our customers for any losses related to these indemnification provisions and no claims were outstanding as of June 30, 2007 and December 31, 2006. We do not expect that any significant impact on financial position or the results of operations will result from these indemnification provisions.

Reclassifications:

Beginning in 2007, the Company has revised its presentation of net revenues into three reportable categories: (i) Recurring revenue, which consists of fees generated from the provision of maintenance, support, and hosting services and subscription revenues, (ii) Services revenue, which is comprised of professional service fees and reimbursable expenses, and (iii) License revenue, which consists of non-recurring license fees generated from perpetual license agreements. Previously, net revenues were presented as either Product revenues, comprised of license and subscription fees, or Service revenues, comprised of revenues generated from professional services, maintenance and support, and hosting arrangements. Also, in order for its various cost of revenues to be combined and presented in the same manner as its reported revenues, the Company has reclassified certain amounts previously included in Cost of services into the newly-created Cost of recurring revenue. The related amounts in the 2006 Condensed Consolidated Statements of Operations have been reclassified to be consistent with the current year presentation.

New Accounting Pronouncements:

In September 2006, the FASB issued Statement of Financial Accounting Standards (“SFAS”) No. 157, “Fair Value Measurements” (“SFAS No. 157”), which defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles, and

 

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expands disclosures about fair value measurements. SFAS No. 157 applies under a number of other accounting pronouncements that require or permit fair value measurements. The provisions of SFAS No. 157 are effective for the Company beginning January 1, 2008. The Company is currently evaluating the impact of adopting SFAS No. 157 on its financial position and results of operations.

NOTE 3. NET LOSS PER SHARE

Basic net loss per share was determined by dividing the net loss applicable to common stockholders by the weighted-average number of shares of common stock outstanding during the period. Diluted net loss per share was the same as basic net loss per share for all periods presented since the effect of any potentially dilutive securities was excluded, as they are anti-dilutive as a result of the Company’s net losses. The total numbers of common equivalent shares excluded from the diluted loss per share calculation were 1,562,193 and 1,783,301 for the three months ended June 30, 2007 and 2006, respectively, and 1,468,190 and 1,722,109 for the six months ended June 30, 2007 and 2006, respectively.

NOTE 4. SIGNIFICANT CUSTOMERS

The Company had certain customers which individually generated revenues comprising a significant percentage of total revenue, as follows:

 

     Three months ended
June 30,
   Six months ended
June 30,
     2007     2006    2007    2006

Customer A

   12 %   *    *    *

Customer B

   11 %   *    *    *

The Company had certain customers whose accounts receivable balances individually represented a significant percentage of total receivables, as follows:

 

     June 30,  
     2007     2006  

Customer C

   13 %   14 %

* was less than 10% of the Company’s total

NOTE 5. STRATEGIC RELATIONSHIP AGREEMENT

In May 2000, the Company entered into a ten-year Strategic Relationship Agreement (the “Initial P&G Agreement”) with The Procter & Gamble Company (“P&G”), pursuant to which P&G designated the Company as its exclusive provider of purchase contract management software for its commercial products group for a period of three years. In addition, P&G has agreed to provide the Company with certain strategic marketing and business development services over the term of the P&G Agreement. P&G also entered into an agreement to license certain software and technology from the Company.

 

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As consideration for entering into the Initial P&G Agreement, the Company granted to P&G a fully exercisable warrant to purchase 875,000 shares of common stock. The warrant did not require any future product purchases or service performance. The warrant, which was exercisable for a period of two years at an exercise price of $9.00 per share, was converted into 561,960 shares of common stock via a non-cash exercise during 2000. In addition, the Company had agreed to pay P&G a royalty of up to 10% of the revenue generated from the commercial products market, as defined. As of February 2003, no such royalties had been earned or paid.

In February 2003, the Initial P&G Agreement was amended to delete the royalty provision, in exchange for which the Company granted to P&G a fully exercisable warrant to purchase 1,000,000 shares of the Company’s common stock. The warrant was exercisable for a period of three years at an exercise price of $1.20 per share. In November 2004, April 2005 and June 2005, P&G partially exercised the warrant, acquiring an aggregate of 750,000 shares of the Company’s common stock. In February 2006, P&G exercised the remaining 250,000 shares of the warrant.

NOTE 6. SEGMENT DISCLOSURE

The Company measures operating results as two reportable segments, each of which provide multiple products and services that allow manufacturers, purchasers and intermediaries to manage their complex contracts for the purchase and sale of goods. These segments are consistent with how management establishes strategic goals, allocates resources and evaluates performance. The accounting policies of the segments are the same as those described in the summary of significant accounting policies. The Company’s reportable segments are strategic business units that market to separate and distinct industry groups: (i) health and life sciences, which includes pharmaceutical manufacturers, and (ii) industry solutions, which comprises all other industries. The following tables reflect the results of the segments consistent with the Company’s management system.

 

(Amounts in thousands)

   Health and Life
Sciences
   

Industry

Solutions

    Undesignated     Totals  

At and for the three months ended June 30, 2007:

        

Revenues

   $ 7,960     $ 2,055     $ —       $ 10,015  

Segment loss

     (326 )     (2,888 )     —         (3,214 )

Segment assets

     22,142       2,469       5,951       30,562  

Goodwill

     2,716       —         5,951       8,667  

For the six months ended June 30, 2007:

        

Revenues

   $ 14,343     $ 4,025     $ —       $ 18,368  

Segment loss

     (1,508 )     (6,228 )     —         (7,736 )

At and for the three months ended June 30, 2006:

        

Revenues

   $ 5,093     $ 1,802     $ —       $ 6,895  

Segment loss

     (1,172 )     (3,305 )     —         (4,477 )

Segment assets

     23,798       3,630       5,951       33,379  

Goodwill

     2,716       —         5,951       8,667  

For the six months ended June 30, 2006:

        

Revenues

   $ 10,894     $ 3,619     $ —       $ 14,513  

Segment loss

     (1,163 )     (6,188 )     (156 )     (7,507 )

 

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For segment reporting purposes, unallocated amounts consist of goodwill and acquired intangible asset values and related amortization amounts with respect to the 2002 acquisition of Menerva Technologies, Inc. Interest revenue, interest expense, other significant non-cash items, income tax expense or benefit, and unusual items that are attributable to the segments do not have a significant effect on the financial results of the segments. In performing the annual goodwill impairment test, all goodwill is assigned to the reportable segments.

NOTE 7. RESTRUCTURING AND OTHER CHARGES

In 2003 and 2004, the Company took several actions to reduce its operating expenses in order to better align its cost structure with projected revenues and to streamline its operations in advance of a planned (and subsequently terminated) sale of its health and life sciences operation. These actions included the closing of its office in Chicago, Illinois and the partial closing of its facility in London, England. With respect to the Chicago and London office closings, the Company had determined the fair value of the remaining liabilities of the unused space (net of estimated sublease rentals) for each lease as of the respective cease-use dates.

In the six months ended June 30, 2007 and 2006, the Company realized charges of $81,000 and $44,000, respectively, in connection with the amortization of its long-term lease restructuring accruals for its Chicago and London facilities.

A rollforward of the Company’s accrued liability for restructuring and other charges, consisting entirely of lease costs, is as follows:

 

(Amounts in thousands)

      

Balance at December 31, 2006

   $ 985  

Activity in six months ended June 30, 2007:

  

Restructuring charge

     81  

Payments net of sublease receipts

     (138 )
        

Balance at June 30, 2007

   $ 928  
        

Current portion – included in accrued expenses

   $ 218  
        

Noncurrent portion – included in other long-term liabilities

   $ 710  
        

NOTE 8. VALUATION AND QUALIFYING ACCOUNTS

A rollforward of the Company’s allowance for doubtful accounts at June 30 is as follows:

 

(Amounts in thousands)

   2007    2006  

Balance at January 1,

   $ 137    $ 525  

Write offs

     —        (151 )

Currency translation adjustments

     1      2  
               

Balance at June 30,

   $ 138    $ 376  
               

 

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NOTE 9. PRIVATE PLACEMENT

On November 6, 2006, the Company completed a private placement of its securities, issuing 3,535,566 shares of its common stock and common stock purchase warrants to purchase up to an additional 1,060,663 shares of common stock. The per unit price of the private placement offering was $1.98, with each unit comprised of one share of common stock and a warrant to purchase three-tenths of a share of common stock. The warrants are exercisable at $2.11 per share until November 2011. Net proceeds to the Company were approximately $6.5 million, after deducting commissions and other fees. These shares of common stock and those issuable upon exercise of the warrants have been registered with the Securities and Exchange Commission and the registration became effective as of February 5, 2007.

 

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

You should read the following discussion of our financial condition and results of operations in conjunction with our financial statements and related notes. In addition to historical information, the following discussion and other parts of this report contain forward-looking statements that involve risks and uncertainties. Our actual results may differ materially from those anticipated by such forward-looking statements due to various factors, including, but not limited to, those set forth under “Risk Factors” in Part II, Item 1A, and elsewhere, in this report.

OVERVIEW

We provide software and related services that allow our clients to more effectively manage their contract-based, business-to-business relationships through the entirety of the contract management lifecycle. We operate our business in two segments: health and life sciences and industry solutions. The health and life sciences line of business markets and sells our products and services to companies in the life sciences industries, including pharmaceutical and medical product companies, wholesale distributors and managed care organizations. The industry solutions line of business targets all other industries, with an emphasis on consumer products, food service, disposables, oil/gas/energy, consumer durables, industrial products, chemicals, apparel, and telecommunications.

Our primary products and services were originally developed to manage complex contract purchasing relationships in the healthcare industry. Our software is currently licensed by 17 of the 20 largest world-wide pharmaceutical manufacturers, ranked according to 2005 annual pharma revenues. As the depth and breadth of our product suites have expanded, we have added companies in the industry solutions markets to our customer base.

We have generated revenues from both products and services. Recurring revenue, which consists of maintenance, support and hosting fees directly related to our licensed software products and product subscription revenues, accounted for 50.0% of net revenues in the six months ended June 30, 2007 versus 52.8% of net revenues in the six months ended June 30, 2006. Services revenue, which is comprised of professional service fees derived from consulting, installation, business analysis and training services related to our software, accounted for 33.5% of net revenues in the six months ended June 30, 2007 versus 39.6% of net revenues in the six months ended June 30, 2006. License revenue, which consists of non-recurring license fees generated from perpetual license agreements, accounted for 16.5% of net revenues in the six months ended June 30, 2007 versus 7.6% of net revenues in the six months ended June 30, 2006.

 

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We implemented a number of employee headcount reductions and office downsizings during the period June 2001 through March 2004, after which our aggregate quarterly spending on cost of products and services, sales and marketing, research and development and general and administrative expenses (excluding amortization and noncash stock compensation) remained fairly steady – ranging from $9.2 million to $10.4 million—through the first quarter of 2006. In early 2006, we began increasing our spending, primarily on research and development and professional services, in order to (i) accelerate development of future releases of our product offerings in the health and life sciences segment, (ii) work on resolving defects in one of our software products, as explained in further detail in “Critical Accounting Policies – Revenue Recognition” in this Item 2, and (iii) augment staff levels at a number of professional services engagements, primarily in connection with implementations of the software product with performance defects at customer sites. During the three-month period ended March 31, 2007, our spending on research and development as a percentage of revenues reached its highest level in seven years. However, research and development expenses decreased $216,000 in the three-month period ended June 30, 2007 and we anticipate that such expenses will continue to trend lower in the second half of 2007. Our total employee headcount has increased from 170 at March 31, 2004 to 178 at June 30, 2007.

In August 2005, the Company announced the departure of its Chief Executive Officer, A. Leigh Powell, and its Chief Operating Officer, Terrence M. Nicholson. In connection with the resignation of these executives, we incurred $350,000 in future severance and benefit costs in 2005. Also, Yorgen Edholm was appointed Acting President and Chief Executive Officer, and John A. Rade was appointed Chairman of the Board of Directors with certain executive powers. In February 2006, Mr. Edholm resigned as Acting President and Chief Executive Officer while remaining on the Board of Directors, and Mr. Rade assumed the position of Acting President and Chief Executive Officer on an interim basis. In August 2006, Mr. Rade was appointed President and Chief Executive Officer on a permanent basis.

On November 6, 2006, we completed a private placement of our securities, issuing 3,535,566 shares of our common stock and common stock purchase warrants to purchase up to an additional 1,060,663 shares of common stock. The per unit price of the private placement offering was $1.98, with each unit comprised of one share of common stock and a warrant to purchase three-tenths of a share of common stock. The warrants are exercisable at $2.11 per share until November 2011. Net proceeds to the Company were approximately $6.5 million, after deducting commissions and other fees.

CRITICAL ACCOUNTING POLICIES

Revenue Recognition

We generate revenues from licensing our software and providing professional services, training and maintenance and support services. Software license revenues are attributable to the addition of new customers and the expansion or renewal of existing customer relationships through licenses covering additional users, licenses of additional software products and license renewals.

We recognize software license fees upon execution of a signed license agreement and delivery of the software to customers, provided there are no significant post-delivery obligations, the payment is fixed or determinable and collection is probable. In multiple-element arrangements, we allocate a portion of the total fee to professional services, training and maintenance and support services based on the fair value of those elements, which is defined as the price charged when those elements are sold separately. The residual amount is then allocated to the software license fee. In cases where we agree to deliver unspecified additional products in the future, the license fee is recognized ratably over the term of the arrangement beginning with the delivery of the first product. In cases where we agree to deliver specified additional products or upgrades in the future,

 

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recognition of the entire license fee, including any related maintenance and support fees, is deferred until after the specified additional products or upgrades are delivered and made generally available to all customers. If an acceptance period is required, revenues are deferred until customer acceptance. In cases where collection is not deemed probable, we recognize the license fee as payments are received. In cases where significant production or customization is required prior to attaining technological feasibility of the software, license fees are recognized on a percentage-of-completion basis and are credited to research and development expenses as a funded development arrangement. After the software attains technological feasibility, recognizable license fees are reported as product revenue.

In 2007, we began to classify our reported net revenues into three revenue categories – Recurring, Services and License revenues – after having previously reported our revenues as being either Product or Service. Recurring revenue consists of (i) fees generated from the provision of maintenance, support, and hosting services and (ii) subscription revenues. Services revenue is now comprised of professional service and training fees and reimbursable out-of-pocket expenses. License revenue consists of non-recurring license fees generated from perpetual license agreements.

We offer current and prospective customers the option to enter into a subscription agreement as an alternative to our standard perpetual license contract model. Management believes its subscription offering has expanded the market to customers that find regular subscription payments an easier and more flexible implementation of our software, and subscription arrangements have the potential to provide us with smoother and more predictable revenue growth. The standard subscription arrangement is presently a fixed fee agreement over three to five years, covering license fees, unspecified new product releases and maintenance and support, generally payable in equal quarterly or annual installments commencing upon execution of the agreement. Prior to 2007, approximately half of the executed subscription arrangements included a provision allowing the agreement to convert free-of-charge to a perpetual license after the completion of the initial term plus any extensions, generally after five years, after which time the customer would have the option of paying for the continuation of maintenance and support. Beginning in 2006, we have generally discontinued including free-of-charge perpetual conversion provisions in new subscription arrangements. We recognize all revenue from subscription based arrangements ratably over the term of the subscription agreement commencing upon delivery of the initial product. Subscription installment amounts that are not yet contractually billable to customers are not reflected in deferred revenues on our consolidated balance sheet.

Maintenance and customer support fees are recognized ratably over the term of the maintenance contract, which is generally twelve months. When maintenance and support is included in the total license fee, we allocate a portion of the total fee to maintenance and support based upon the price paid by the customer when sold separately, generally as renewals in the second year.

Professional service revenues are recognized as the services are performed. If conditions for acceptance exist, professional service revenues are recognized upon customer acceptance. For fixed fee professional service contracts, we provide for anticipated losses in the period in which the loss is probable and can be reasonably estimated. Training revenues are recognized as the services are provided. Included in training revenues are registration fees received from participants in our off-site user training conferences.

Payments received from customers at the inception of a maintenance period are treated as deferred service revenues and recognized ratably over the maintenance period. Payments received from customers in advance of product shipment or revenue recognition are treated as deferred product revenues and recognized when the product is shipped to the customer or when otherwise earned.

 

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Subscription arrangements, including perpetual license arrangements with rights to unspecified additional products that are treated as subscriptions for accounting purposes, now represent a significant proportion of our new licenses. In 2006, 17 of the 29 license deals (minimum value of $50,000) that were sold were treated as subscription arrangements for accounting purposes. And in the six months ended June 30, 2007, 10 of the 15 license deals (minimum value of $50,000) that were sold are likewise being accounted for as subscriptions. During the six months ended June 30, 2007 and 2006, we recognized $2.0 million and $1.1 million, respectively, in recurring revenue related to such agreements. For the remainder of 2007, we anticipate that subscription arrangements will continue to represent a significant proportion of new license sales.

During the third quarter of 2005, we became aware of certain defects in the then-current version of one of our software products, which was first shipped to customers in the fourth quarter of 2004. These defects, which were not identified in pre-release product testing, affected the performance of the software for a portion of our customers depending on each customer’s particular implementation environment and its intended use of the software. Because certain concessions have been made to customers in connection with these defects, we have generally not recognized revenue from sales of this software product and related implementation services beginning in the third quarter of 2005, except in those cases in which it was determined that the customer was not likely to be affected by the known, unresolved software defects. During 2006, new versions of the software were released, but we continued to experience problems with implementations at several customer sites. In the first six months of 2007, we released new versions of the software which were designed to resolve known performance defects with minimal additional functionality. During the quarter ended June 30, 2007, we successfully completed implementations of the newest version of this software at two customer sites and made progress with other customer implementations, and accordingly have begun recognizing revenue from this software on a limited basis. However, we are continuing to defer all recurring, services and license revenue in connection with (i) implementations of this software program that are not yet complete, and (ii) any customers for which a concession is probable and an agreement formalizing a concession amount has not been executed. As of June 30, 2007 and December 31, 2006, we have reversed and deferred cumulative amounts of $3.4 million and $3.5 million, respectively, of otherwise-recognizable product and service revenue, based in part on our estimate of the fair value of concessions to be made until the remaining defect is resolved, and partly on our determination that license fees were not fixed and determinable because of the possibility of future concessions. Also, see Risk Factor entitled “We Cannot Guarantee That Our Deferred Revenue Will Be Recognized as Planned” in Part II, Item 1A of this filing.

Stock-based Compensation:

On January 1, 2006, we adopted Statement of Financial Accounting Standards (“FAS”) No. 123 (revised 2004) (“FAS 123(R)”), “Share-based Payment.” Under FAS 123(R), we measure and record the compensation cost of employee and director services received in exchange for stock option grants and other equity awards based on the grant-date fair value of the awards. The values of the portions of the awards that are ultimately expected to vest are recognized as expense over the requisite service periods. We account for stock options and awards granted to non-employees other than directors using the fair-value method.

Under the fair-value method, compensation associated with equity awards is determined based on the estimated fair value of the award itself, measured using either current market data or an established option pricing model. The measurement date for employee and director awards is generally the date of grant. The measurement date for awards granted to non-employees other than directors is generally the date that performance of certain services is complete.

 

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Our estimates of the fair value of stock option grants were made using the Black-Scholes option pricing model with the following assumptions and resulted in the following weighted average grant-date fair values of options granted during the six months ended June 30:

 

     2007   2006

Risk-free interest rates

     4.50-5.10%     4.86-5.05%

Dividend yield

     —       —  

Expected volatility

     55-60%     60-70%

Expected term (in years)

     5.29-7.50     5.75-7.50

Weighted average grant-date fair value of options granted during the period

   $ 1.14   $ 1.10

We use historical volatility of the Company’s common stock to estimate expected volatility. Beginning in 2005, the expected term of options granted is estimated to be equal to the average of the contractual life of the options and the grant’s average vesting period. The risk-free interest rate is derived quarterly from the published US Treasury yield curve, based on expected term, in effect as of the last several days of the quarter.

Allowance for Doubtful Accounts

We record provisions for doubtful accounts based on a detailed assessment of our accounts receivable and related credit risks. In estimating the allowance for doubtful accounts, management considers the age of the accounts receivables, our historical write-off experience, the credit worthiness of customers and the economic conditions of the customers’ industries and general economic conditions, among other factors. Should any of these factors change, the estimates made by management will also change, which could affect the level of our future provision for doubtful accounts. If the assumptions we used to calculate these estimates do not properly reflect future collections, there could be an impact on future reported results of operations. The provisions for doubtful accounts are included in general and administrative expenses in the consolidated statements of operations.

Acquired Intangible Assets

Acquired intangible assets (excluding goodwill) are amortized on a straight-line basis over their estimated useful lives and reviewed for impairment on an annual basis, or on an interim basis if an event or circumstance occurs between annual tests indicating that the assets might be impaired. The impairment test will consist of comparing the cash flows expected to be generated by the acquired intangible asset to its carrying amount. If the asset is considered to be impaired, an impairment loss will be recognized in an amount by which the carrying amount of the asset exceeds its fair value.

Goodwill

Goodwill is tested for impairment at the reportable segment level using a two-step approach. The first step is to compare the fair value of a reporting unit to its carrying amount, including goodwill. If the fair value of the reporting unit is greater than its carrying amount, goodwill is not considered impaired and the second step is not required. If the fair value of the reporting unit is less than its carrying amount, the second step of the impairment test measures the amount of the impairment loss, if any, by comparing the implied fair value of goodwill to its carrying amount. If the carrying amount of goodwill exceeds its implied fair value, an impairment loss is recognized equal to that excess. The implied fair value of goodwill is calculated in the same manner that goodwill is calculated in a business combination, whereby the fair value of the reporting unit is allocated to all of the assets and liabilities of that unit (including any unrecognized

 

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intangible assets), with the excess “purchase price” over the amounts assigned to assets and liabilities representing the implied fair value of goodwill. Goodwill is tested for impairment at least annually, or on an interim basis if an event occurs or circumstances change that would likely reduce the fair value of a reporting unit below its carrying value. If the assumptions we used to estimate fair value of goodwill change, there could be an impact on future reported results of operations.

Deferred Tax Assets

A deferred tax asset or liability is recorded for temporary differences in the bases of assets and liabilities for book and tax purposes and loss carry forwards based on enacted tax rates expected to be in effect when these temporary items are expected to reverse. Valuation allowances are provided to the extent it is more likely than not that all or a portion of the deferred tax assets will not be realized.

Product Indemnification

Our agreements with customers generally include certain provisions obligating us to indemnify the customer against losses, expenses, and liabilities from damages that may be awarded against the customer in the event that our products are found to infringe upon a patent, copyright, trademark, or other proprietary right of a third party. The agreements generally seek to limit the scope of remedies for such indemnification obligations in a variety of industry-standard respects, including our right to replace an infringing product. To date, we have not had to reimburse any of our customers for any losses related to these indemnification provisions and no claims were outstanding as of June 30, 2007. We do not expect that any significant impact on financial position or the results of operations will result from these indemnification provisions.

Research and Development Costs

Research and development costs are charged to operations as incurred. Based on our product development process, technological feasibility is established upon completion of a working model. Costs incurred by the Company between completion of the working model and the point at which the product is ready for general release have not been material. As such, all software development costs incurred to date have been expensed as incurred.

RESULTS OF OPERATIONS

COMPARISON OF THE THREE MONTH PERIODS ENDED JUNE 30, 2007 AND 2006

NET REVENUES

Net revenues increased by $3.1 million, or 45.3%, to $10.0 million for the quarter ended June 30, 2007 from $6.9 million for the quarter ended June 30, 2006. Recurring revenue increased by $880,000, or 22.7%, to $4.8 million for the quarter ended June 30, 2007 from $3.9 million in the same period a year earlier, primarily attributable to a $513,000, or 90.3%, increase in subscription revenue. As indicated above in this Item 2, subscription arrangements have represented a significant proportion of recent license deals, as evidenced by an increase of $5.3 million, or 40.7%, as of June 30, 2007 in the total value of unamortized software subscriptions (i.e., the remaining value of non-cancellable subscription contracts that have not yet been recognized into revenue) relative to the same period in the prior year. Service revenue increased by $161,000, or 5.4%, to $3.2 million relative to the year earlier period, but the current period amount included $421,000 in previously-deferred service revenues for work performed in prior reporting periods. Excluding the catch-up deferral recognition, service revenues decreased with the both reportable segments having experienced a decrease in utilization relative to the same period in the prior year. License revenue for the quarter ended June 30, 2007 amounted to $2.1 million, as compared to $16,000 for the quarter ended June 30, 2006.

 

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As indicated in the table below, the gross value of license contracts sold during the three months ended June 30, 2007 increased by $584,000, or 12.6%, versus the second quarter of 2006, due to an increase in the number of license transactions (minimum value of $50,000) from 5 to 8, partially offset by an decrease in the average selling price. License revenue during the three-month period ended June 30, 2007 included $960,000 of previously-deferred revenues in connection with license agreements sold in prior periods. Also, consistent with recent reporting periods, most of the revenue from the license transactions executed in the three-month periods ended June 30, 2007 and 2006 was deferred to future reporting periods. We believe that a significant proportion of future license contracts will likewise be subscription arrangements or will be perpetual licenses that have conditions, such as software acceptance testing, resulting in deferral of license revenue recognition to later reporting periods. As a result, in future reporting periods we expect reportable license revenues to exclude much of the gross value generated from contracts entered into in those periods.

Reconciliation of Gross Value of License Transactions to Reportable License Revenue

 

     Three months ended
June 30,
   Six months ended
June 30,
     2007    2006    2007    2006
     (AMOUNTS IN THOUSANDS)

Gross value of license contracts sold:

           

Health and Life Sciences

   $ 5,200    $ 3,772    $ 8,496    $ 7,229

Industry Solutions

     4      848      310      1,394
                           
     5,204      4,620      8,806      8,623

Add license revenue recorded in current quarter form contracts sold in prior period:

           

Health and Life Sciences

     850      —        850      —  

Industry Solutions

     110      —        110      —  
                           
     960      —        960      —  

Less value of license contracts sold in current period and deferred to future periods:

           

Health and Life Sciences

     4,069      3,772      6,505      6,154

Industry Solutions

     —        832      226      1,364
                           
     4,069      4,604      6,731      7,518
                           

License revenue recorded:

           

Health and Life Sciences

     1,981      —        2,841      1,075

Industry Solutions

     114      16      194      30
                           
   $ 2,095    $ 16    $ 3,035    $ 1,105
                           

The above financial information is provided as additional information and is not in accordance with or an alternative to generally accepted accounting principles, or GAAP. We believe its inclusion can enhance an overall understanding of our past operational performance and also our prospects for the future. This reconciliation of license revenues is made with the intent of providing a more complete understanding of our sales performance, as opposed to GAAP revenue results, which do not include the impact of newly-executed subscription agreements and other deferred license arrangements that are material to the ongoing performance of our business. This information quantifies the various components comprising current license revenue, which in each period consists of the total value of licenses sold in current periods, plus license revenue recorded in the current period from contracts sold in prior periods, less the value of license contracts sold in the current period that is not yet recognizable. Included in the gross value of license contracts sold amounts are license and non-cancelable subscription fee obligations that are not currently recognizable as product revenue upon execution of the license agreement because all the

 

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requirements for revenue recognition (see “Critical Accounting Policies – Revenue Recognition” in this Item 2) are not present, such as the presence of extended payment terms, future software deliverables, or customer acceptance provisions. The gross value of license contracts sold also includes amounts that are not yet contractually billable to customers, and any such unbilled amounts are not reflected in deferred revenues on our consolidated balance sheet. Management uses this information as a basis for planning and forecasting core business activity in future periods and believes it is useful in understanding our results of operations. Also, payouts under our sales compensation and executive bonus plans are based in large part on the gross values of license contracts sold each period. The presentation of this additional revenue information is not meant to be considered in isolation or as a substitute for revenues reported in accordance with GAAP in the United States. There can be no assurance that the full value of licenses sold and deferred to future reporting periods will ultimately be recognized as revenues.

Revenues derived from our health and life sciences segment increased by $2.9 million, or 56.3%, to $8.0 million for the quarter ended June 30, 2007 from $5.1 million in the year earlier period. This increase was primarily attributable to increases of (i) $2.0 million in license revenue, (ii) $439,000, or 21.8%, in non-subscription maintenance and support revenue, and (iii) $434,000, or 79.5%, in subscription revenue. As indicated in the above table, the gross values of license contracts sold in this segment during the quarter ended June 30, 2007 increased by $1.4 million, or 37.9%, versus the same quarter in 2006 due to an increase in the number of license transactions partially offset by a decrease in the average selling price. In addition, segment license revenue during the three-month period ended June 30, 2007 included $850,000 of previously-deferred revenues in connection with license agreements sold in prior periods. Approximately $232,000 of the increase in maintenance and support revenue represented non-recurring recognition of amounts that had been deferred in prior periods, with the balance of the increase representing growth in our installed maintenance-paying customer base.

Revenues derived from our industry solutions segment increased by $253,000, or 14.0%, to $2.1 million for the quarter ended June 30, 2007 versus $1.8 million in the same quarter in 2006. This increase was comprised principally of the recognition of $318,000 in previously-deferred revenues in connection with a license agreement and related services sold in prior periods. As indicated in the above table, the gross value of license contracts sold in the segment during the quarter ended June 30, 2007 decreased by $844,000, or 99.5%, versus the same quarter in 2006. Licensing activity in the industry solutions segment was negatively affected by product defect issues in one of our key software products (see “Critical Accounting Policies – Revenue Recognition” in this Item 2 above) and Management anticipates licensing activity in this segment to remain depressed for the remainder of 2007.

OPERATING EXPENSES

COST OF RECURRING REVENUE. Cost of recurring revenue consists primarily of payroll and related costs for providing maintenance and support services, and, to a lesser extent, hosting services. Cost of recurring revenue increased by $102,000, or 6.2%, to $1.7 million for the quarter ended June 30, 2007 from $1.6 million in the year earlier period. This increase is primarily attributable to an increase of $158,000 in salary and related costs in connection with increased staff levels and merit salary increases. As a percentage of recurring revenue, cost of recurring revenue decreased to 36.2% for the quarter ended June 30, 2007 from 41.8% for the quarter ended June 30, 2006.

COST OF SERVICES REVENUE. Cost of services revenue consists primarily of payroll and related costs and subcontractor fees for providing implementation, consulting and training services. Cost of services revenue increased by $491,000, or 19.9%, to $3.0 million for the quarter ended June 30, 2007 from $2.5 million in the year earlier period. This increase is primarily attributable to increases of (i) $283,000 in the cost of consultants, resulting from the need to

 

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augment our professional services staff on certain implementation engagements, and (ii) $126,000 in salary and related costs that resulted from increased staff levels and merit salary increases. As noted in “Critical Accounting Policies – Revenue Recognition” in this Item 2, one of our software products has been experiencing performance defects, and consequently we have increased outsourced staffing on certain implementation engagements without a corresponding increase in revenue. As a percentage of services revenue, cost of services revenue increased to 93.7% for the quarter ended June 30, 2007 from 82.3% for the quarter ended June 30, 2006.

COST OF THIRD PARTY TECHNOLOGY. Cost of third party technology, which consists of amounts due to third parties for royalties related to integrated technology, has not been significant historically. Cost of third party technology increased by $38,000 to $78,000 for the three months ended June 30, 2007 as compared to the year earlier period, reflecting the accelerated amortization of certain prepaid royalty amounts.

AMORTIZATION OF ACQUIRED INTANGIBLE ASSETS. Amortization of acquired intangible assets related to our acquisitions amounted to $47,000 in both the quarters ended June 30, 2007 and 2006.

SALES AND MARKETING. Sales and marketing expenses consist primarily of payroll and related benefits for sales and marketing personnel, commissions for sales personnel, travel costs, recruiting fees, expenses for trade shows and advertising and public relations expenses. Sales and marketing expenses decreased by $18,000, or 0.7%, to $2.6 million in the three months ended June 30, 2007 as compared to the year ago quarter. A $218,000 decrease in marketing consulting costs was largely offset by small increases in (i) salary and related costs, due to merit increases, (ii) commission costs, resulting from an increase in the value of license bookings, and (iii) recruiting costs. As a percentage of total net revenues, sales and marketing expense decreased to 25.6% for the quarter ended June 30, 2007 from 37.4% for the quarter ended June 30, 2006.

RESEARCH AND DEVELOPMENT. Research and development expenses consist primarily of payroll and related costs for development personnel and external consulting costs associated with the development of our products and services. Research and development costs, including the costs of developing computer software, are charged to operations as they are incurred. Research and development expenses increased significantly by $925,000, or 29.2%, to $4.1 million for the quarter ended June 30, 2007 versus $3.2 million for the quarter ended June 30, 2006. This increase was principally comprised of increases of (i) $616,000 in consulting costs, and (ii) $215,000 in salary and related costs, resulting from an increase in average headcount of six employees. The increase in salary-related and consulting costs is mostly attributable to our ramping up resources for the development of next generation products for our health and life sciences segment. Research and development expense decreased as a percentage of total net revenues to 40.8% for the quarter ended June 30, 2007 from 45.9% for the quarter ended June 30, 2006 because of the relatively larger increase in net revenues relative to the year ago quarter. We expect research and development expenses to decrease in both absolute terms and as a percentage of revenue during the second half of 2007, with spending as a percentage of revenues anticipated to reach its lowest level since the first quarter of 2002.

GENERAL AND ADMINISTRATIVE. General and administrative expenses consist primarily of salaries and related costs for personnel in our administrative, finance and human resources departments, and legal, accounting and other professional service fees. General and administrative expenses increased by $313,000, or 22.9%, to $1.7 million for the quarter ended June 30, 2007 from $1.4 million for the quarter ended June 30, 2006. This increase in general and administrative expenses was primarily attributable to a $158,000 increase in noncash stock compensation costs, resulting mostly from recent stock option grants to our chief executive officer, and a $114,000 increase in salary and related costs, which was caused by small growth in

 

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quarterly average headcount and merit pay increases. As a percentage of total net revenues, general and administrative expenses decreased to 16.7% for the quarter ended June 30, 2007 from 19.8% for the quarter ended June 30, 2006.

DEPRECIATION. Depreciation expense increased by $27,000, or 14%, from $190,000 in the second quarter of 2006 to $217,000 in the second quarter of 2007. This increase is principally attributable to higher levels of spending for furniture, equipment and software additions in the year 2006 ($974,000) relative to the year 2003 ($650,000), the majority of these asset additions being depreciated over a three-year life.

RESTRUCTURING AND OTHER CHARGES. In the quarter ended June 30, 2007, we recorded $19,000 in charges related to efforts in prior quarters to streamline operations, consisting entirely of the amortization of the discount incorporated into the restructuring provisions for future lease costs in connection with the Chicago and London office downsizings.

OTHER INCOME, NET

Other income, net, increased by $4,000, or 3%, in the quarter ended June 30, 2007 as compared to the quarter ended June 30, 2006. A $24,000 increase in foreign currency transaction gains was largely offset by a $20,000 decrease in interest income, which resulted from a decrease in average invested balances relative to the year ago period.

PROVISION FOR INCOME TAXES

We incurred operating losses for all quarters in 2006 and the first two quarters of 2007 and have consequently recorded a valuation allowance for the full amount of our net deferred tax asset, which consists principally of our net operating loss carryforwards, as the future realization of the tax benefit is uncertain. No provision or benefit for income taxes has been recorded in the three-month periods ended June 30, 2007 and 2006.

COMPARISON OF THE SIX MONTH PERIODS ENDED JUNE 30, 2007 AND 2006

NET REVENUES

Net revenues increased by $3.9 million, or 26.6%, to $18.4 million for the six months ended June 30, 2007 from $14.5 million for the six months ended June 30, 2006. Recurring revenue increased by $1.5 million, or 19.9%, to $9.2 million for the six months ended June 30, 2007 from $7.7 million in the same period a year earlier, primarily attributable to a $906,000, or 81.0%, increase in subscription revenue. As indicated above in this Item 2, subscription arrangements have represented a significant proportion of recent license deals, as evidenced by an increase of $5.3 million, or 40.7%, as of June 30, 2007 in the total value of unamortized software subscriptions (i.e., the remaining value of non-cancellable subscription contracts that have not yet been recognized into revenue) relative to the year earlier period. Year-to-date service revenue increased by $400,000, or 6.9%, to $6.2 million relative to the year earlier period, but the current period amount included $421,000 in previously-deferred service revenues for work performed in prior reporting periods. Excluding the catch-up deferral recognition, service revenues were essentially unchanged relative to the year ago period. License revenue for the six months ended June 30, 2007 increased by $1.9 million, or 174.4%, to $3.0 million as compared to $1.1 million for the six months ended June 30, 2006.

As indicated in the table above, the gross value of license contracts sold during the six months ended June 30, 2007 increased by $183,000, or 2.1%, versus the same period in 2006, due to an increase in the number of license transactions (minimum value of $50,000) from 13 to 15, largely offset by an decrease in the average selling price. License revenue during the six-month

 

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period ended June 30, 2007 included $960,000 of previously-deferred revenues in connection with license agreements sold in prior periods. Also, consistent with recent reporting periods, most of the revenue from the license transactions executed in the both six-month periods was deferred to future reporting periods, although a larger percentage of deals in the current year-to-date period was recognized into revenue.

Revenues derived from our health and life sciences segment increased by $3.4 million, or 31.7%, to $14.3 million for the six months ended June 30, 2007 from $10.9 million in the year earlier period. This increase was primarily attributable to increases of (i) $1.8 million, or 164.3%, in license revenue, (ii) $742,000, or 69.1%, in subscription revenue, and (iii) $694,000, or 17.2%, in non-subscription maintenance and support revenue. As indicated in the above table, the gross values of license contracts sold in this segment during the six months ended June 30, 2007 increased by $1.3 million, or 17.5%, versus the same period in 2006 due to an increase in the number of license transactions partially offset by a decrease in the average selling price. In addition, segment license revenue during the six-month period ended June 30, 2007 included $850,000 of previously-deferred revenues in connection with license agreements sold in prior periods. The increase in maintenance and support revenue relative to the prior year consisted largely of non-recurring items – (i) $328,000 of back maintenance charged to a single customer, and (ii) $163,000 that had been deferred in prior periods – with the balance of the increase representing growth in our installed maintenance-paying customer base.

Revenues derived from our industry solutions segment increased by $406,000, or 11.2%, to $4.0 million for the six months ended June 30, 2007 versus $3.6 million in the same period in 2006. This increase was comprised principally of the recognition of $318,000 in previously-deferred revenues in connection with a license agreement and related services sold in prior periods. As indicated in the above table, the gross value of license contracts sold in the segment during the six months ended June 30, 2007 decreased by $1.1 million, or 77.8%, versus the same period in 2006, with most of the revenue from the license transactions executed in both periods being deferred to future reporting periods.

OPERATING EXPENSES

COST OF RECURRING REVENUE. Cost of recurring revenue increased by $306,000, or 10.0%, to $3.4 million for the six months ended June 30, 2007 from $3.1 million in the year earlier period. This increase is primarily attributable to an increase of $328,000 in salary and related costs, which resulted from an increase in average headcount of 5.5 employees and annual merit salary increases. As a percentage of recurring revenue, cost of recurring revenue decreased to 36.7% for the six months ended June 30, 2007 from 40.1% for the period ended June 30, 2006.

COST OF SERVICES REVENUE. Cost of services revenue increased by $1.1 million, or 22.2%, to $5.9 million for the six months ended June 30, 2007 from $4.8 million in the year earlier period. This increase is primarily attributable to increases of (i) $712,000 in the cost of consultants, resulting from the need to augment our professional services staff on certain implementation engagements, and (ii) $228,000 in salary and related costs that resulted from increased staff levels and merit salary increases. As noted in “Critical Accounting Policies – Revenue Recognition” in this Item 2, one of our software products has been experiencing performance defects, and consequently we have increased outsourced staffing on certain implementation engagements without a corresponding increase in services revenue. As a percentage of services revenue, cost of services revenue increased to 96.2% for the six months ended June 30, 2007 from 84.2% for the period ended June 30, 2006.

COST OF THIRD PARTY TECHNOLOGY. Cost of third party technology increased by $37,000 to $154,000 for the six months ended June 30, 2007 as compared to the year earlier period, reflecting the accelerated amortization of certain prepaid royalty amounts.

 

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AMORTIZATION OF ACQUIRED INTANGIBLE ASSETS. Amortization of acquired intangible assets related to our acquisitions for the six months ended June 30, 2007 amounted to $93,000, which represents a decrease of $297,000, or 76%, from $390,000 recorded in the year-to-date period ended June 30, 2006. This decrease is attributable to the intangible assets in connection with the acquisitions of NetReturn, LLC and Menerva Technologies, Inc. becoming fully-amortized during the first quarter of 2006.

SALES AND MARKETING. Sales and marketing expenses increased by $224,000, 4.8%, to $4.9 million in the six months ended June 30, 2007 as compared to $4.7 million in the year earlier period. This increase was primarily attributable to a $285,000 increase in commission costs, resulting from increases in draw payments and in the value of year-to-date commissionable license bookings. As a percentage of total net revenues, sales and marketing expense decreased to 26.5% for the six months ended June 30, 2007 from 32.1% for the period ended June 30, 2006.

RESEARCH AND DEVELOPMENT. Research and development expenses increased by $2.3 million, or 36.6%, to $8.4 million for the six months ended June 30, 2007 versus $6.1 million for the period ended June 30, 2006. This increase was principally comprised of increases of (i) $1.0 million in consulting costs, and (ii) $732,000 in salary and related costs, resulting from an increase in average headcount of 7.5 employees. The increase in salary-related and consulting costs is mostly attributable to our ramping up resources for the development of next generation products for our health and life sciences segment. Research and development expense increased as a percentage of total net revenues to 45.7% for the six months ended June 30, 2007 from 42.3% for the period ended June 30, 2006.

GENERAL AND ADMINISTRATIVE. General and administrative expenses increased by $452,000, or 16.9%, to $3.1 million for the six months ended June 30, 2007 from $2.7 million for the period ended June 30, 2006. This increase in general and administrative expenses was primarily attributable to a $262,000 increase in noncash stock compensation costs, resulting mostly from recent stock option grants to our chief executive officer, and a $207,000 increase in salary and related costs, which was caused by small growth in average headcount and merit pay increases. As a percentage of total net revenues, general and administrative expenses decreased to 17.0% for the six months ended June 30, 2007 from 18.4% in the year earlier period.

DEPRECIATION. Year-to-date depreciation expense increased by $44,000, or 12%, from $361,000 in the first six months of 2006 to $405,000 in 2007. This increase is principally attributable to higher levels of spending for furniture, equipment and software additions in the year 2006 ($974,000) relative to the year 2003 ($650,000), the majority of these asset additions being depreciated over a three-year life.

RESTRUCTURING AND OTHER CHARGES. In the six months ended June 30, 2007, we recorded $81,000 in charges related to efforts in prior quarters to streamline operations, consisting entirely of the amortization of the discount incorporated into the restructuring provisions for future lease costs in connection with the Chicago and London office downsizings. This charge, which represents a $37,000, or 84%, increase in the year-to-date 2006 expense, incorporates a recent increase in future lease rate projections for the Chicago office space, most of which is not recoverable from sub lessees.

OTHER INCOME, NET

Other income, net, increased by $47,000, or 17%, in the six months ended June 30, 2007 as compared to the period ended June 30, 2006. This increase is primarily attributable to a $37,000 increase in foreign currency transaction gains.

 

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PROVISION FOR INCOME TAXES

We incurred operating losses for all quarters in 2006 and the first two quarters of 2007 and have consequently recorded a valuation allowance for the full amount of our net deferred tax asset, which consists principally of our net operating loss carryforwards, as the future realization of the tax benefit is uncertain. No provision or benefit for income taxes has been recorded in the six-month periods ended June 30, 2007 and 2006.

LIQUIDITY AND CAPITAL RESOURCES

On November 6, 2006, we completed a private placement of our common stock and warrants, which resulted in our receipt of approximately $6.5 million in net proceeds. (See Note 9 to the condensed consolidated financial statements.)

In the first six months of 2007 and the year ended December 31, 2006, we entered into several capital lease financing arrangements with different financial institutions in order to finance the purchase of computer equipment and related services amounting to $255,000 and $425,000, respectively.

At June 30, 2007, we had cash and cash equivalents of $13.7 million, as compared to cash and cash equivalents of $15.3 million at June 30, 2006 and of $17.2 million at December 31, 2006. Also at June 30, 2007, we had no long-term or short-term debt, other than obligations under capital lease financings. The current and non-current restricted cash balances of $80,000 and $433,000, respectively, at June 30, 2007 represent cash amounts held on deposit as security on two long-term real property lease obligations.

Net cash used in operating activities for the six months ended June 30, 2007 was $3.4 million, as compared to $1.7 million in the six months ended June 30, 2006. For the six months ended June 30, 2007, net cash used in operating activities consisted principally of the net loss of $7.7 million, less non-cash items depreciation and amortization of $498,000 and stock-based compensation of $1.2 million, and year-to-date decreases in deferred revenue and accounts payable of $1.2 million and $652,000, respectively, partially offset by a $3.1 million decrease in accounts receivable and a $1.5 increase in accrued expenses. The $1.2 million decrease in deferred revenue was primarily attributable to (i) a $1.3 million decrease in deferred maintenance fees, which is largely due to the seasonality effect described below in connection with the change in accounts receivable and (ii) the recognition into revenue during the quarter ended June 30, 2007 of $960,000 in previously-deferred license fees– see table under “Results of Operations—Comparison of the Three Month Periods Ended June 30, 2007 and 2006 – Net Revenues” in this Item 2, partially offset by a $560,000 increase in deferred subscription fees, resulting from the significant increase in our inforce subscription business. The $652,000 decrease in accounts payable was more than offset by a $1.1 million increase in unpaid consulting fees that were included in accrued expenses, due to the late submission of invoices by vendors. The $3.1 million decrease in accounts receivable was primarily attributable to (i) $1.7 million in collections of license billings during the quarter ended June 30, 2007 for agreements executed in the same quarter versus essentially no such collections occurring during the fourth quarter of 2006, and (ii) a $1.8 million decrease in maintenance and support renewal billings in the second quarter of 2007 versus the fourth quarter of 2006, such seasonality the end result of a significant portion of our customers having requested calendar year billing cycles for maintenance and support renewals regardless of the anniversary date of their license agreements. The $1.5 million increase in accrued expenses is mostly attributable to the $1.1 million increase in accrued consulting fees discussed above, and to increases of $252,000 in both commissions payable and accrued sales taxes.

 

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For the six months ended June 30, 2006, net cash used in operating activities consisted principally of our net loss of $7.5 million – as reduced by non-cash items depreciation and amortization of $751,000 and stock-based compensation of $516,000, partially offset by a $3.3 million decrease in accounts receivable and increases in accounts payable and deferred revenue of $783,000 and $570,000, respectively. The $3.3 million decrease in accounts receivable was principally attributable to (i) a $2.3 million decrease in the value of non-subscription license agreements executed during the quarter ended versus June 30, 2006 versus the quarter ended December 31, 2005 and (ii) a $1.3 million decrease in maintenance and support renewal billings. Because a significant portion of our customers request a calendar year billing cycle for maintenance and support renewals regardless of the anniversary date of their license agreement, maintenance and support renewal invoicing volume is generally higher in the fourth quarter each year. The $570,000 increase in deferred revenue was mostly attributable to a $1.2 million increase in license fee and professional services deferrals, resulting from increased incidence of contractual acceptance clause in license agreements and to the software performance-related deferrals noted in “Critical Accounting Policies – Revenue Recognition” in this Item 2, partially offset by a $443,000 decrease in deferred maintenance and support revenue, which is a consequence of our customers’ preference for calendar year maintenance renewal periods.

Net cash used in investing activities, consisting entirely of property and equipment additions, was $278,000 for the six months ended June 30, 2007 and $376,000 for the six months ended June 30, 2006. In the first six months of 2007, $255,000 of property and equipment additions was acquired under capital leases, as compared to $169,000 of such additions in the year earlier period.

Net cash provided by financing activities was $130,000 in the six months ended June 30, 2007, consisting of $228,000 in proceeds from stock option exercises and employee stock purchases, largely offset by $98,000 in payments on capital lease obligations. Net cash provided by financing activities was $620,000 in the six months ended June 30, 2006, consisting principally of $300,000 and $248,000, respectively, in proceeds from warrant and stock option exercises.

We currently anticipate that our cash and cash equivalents of $13.7 million will be sufficient to meet our anticipated needs for working capital, capital expenditures, and acquisitions for at least the next 12 months. Our future long-term capital needs will depend significantly on the rate of growth of our business, our rate of loss, the mix of subscription licensing arrangements versus perpetual licenses sold, possible acquisitions, the timing of expanded product offerings and the success of these offerings if and when they are launched. Accordingly, any projections of future long-term cash needs and cash flows are subject to substantial uncertainty. If our current balance of cash and cash equivalents is insufficient to satisfy our long-term liquidity needs, we may seek to sell additional equity or debt securities to raise funds, and those securities may have rights, preferences or privileges senior to those of the rights of our common stock. In connection with a sale of stock, our stockholders would experience dilution. In addition, we cannot be certain that additional financing will be available to us on favorable terms when required, or at all. Also, our stock price may make it difficult for us to raise additional equity financing.

CONTRACTUAL OBLIGATIONS

 

     Payments due by Period – Amounts in $000s
     Total   

Less than

1 year

   1-3 years    3-5 years   

More than

5 years

Capital Lease Obligations

   $ 621    $ 283    $ 338    $ —      $ —  

Operating Leases

     5,694      1,875      2,639      1,180      —  
                                  

Total Contractual Obligations

   $ 6,315    $ 2,158    $ 2,977    $ 1,180    $ —  
                                  

Note: Capital Lease Obligations amounts in the above table include interest.

 

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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

INTEREST RATE RISK

Our exposure to market risk for changes in interest rates relates primarily to our investment portfolio. We do not use derivative financial instruments in our investment portfolio. The primary objective of our investment activities is to preserve principal while maximizing yields without assuming significant risk. This is accomplished by investing in diversified investments, consisting primarily of short-term investment-grade securities. Due to the nature of our investments, we believe there is no material risk exposure. A 10% change in interest rates, either positive or negative, would not have had a significant effect on either (i) our cash flows and reported net losses in the six month periods ended June 30, 2007 and 2006, or (ii) the fair value of our investment portfolios at June 30, 2007 and December 31, 2006.

At June 30, 2007, our cash and cash equivalents consisted entirely of money market investments with remaining maturities of 90 days or less when purchased and non-interest bearing checking accounts. Investments in marketable debt securities with maturities greater than 90 days and less than one year are classified as held-to-maturity short-term investments and are recorded at amortized cost. Under current investment guidelines, maturities on short-term investments are restricted to one year or less. Investments in auction rate securities, with maturities which can be greater than one year but for which interest rates reset in less than 90 days, are classified as available for sale securities and stated at fair market value.

FOREIGN CURRENCY EXCHANGE RISK

We operate in certain foreign locations, where the currency used is not the U.S. dollar. However, these locations have not been, and are not currently expected to be, significant to our consolidated financial statements. Changes in exchange rates have not had a material effect on our business.

 

ITEM 4. CONTROLS AND PROCEDURES

(a) Evaluation of Disclosure Controls and Procedures. As required by Exchange Act Rule 13a-15(b), our management, with the participation of our Chief Executive Officer, or CEO, and Chief Financial Officer, or CFO, evaluated the effectiveness of our disclosure controls and procedures as of June 30, 2007. The term “disclosure controls and procedures,” as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act, means controls and other procedures of a company that are designed to ensure that information required to be disclosed by the company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is accumulated and communicated to the company’s management, including its principal executive and principal financial officers, as appropriate to allow timely decisions regarding required disclosure (the “Disclosure Controls and Procedures Purposes”). Management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving their objectives, and management necessarily applies its judgment in evaluating the cost-benefit relationship of possible controls and procedures. Based on this evaluation, our CEO and CFO concluded that, as of June 30, 2007, our disclosure controls and procedures were effective, to the reasonable assurance level, for the Disclosure Controls and Procedures Purposes.

 

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(b) Changes in Internal Control. No change in our internal control over financial reporting occurred during the quarter ended June 30, 2007 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

PART II. OTHER INFORMATION

 

ITEM 1A. RISK FACTORS

In addition to other information in this Form 10-Q, the following factors could cause actual results to differ materially from those indicated by forward-looking statements made in this Form 10-Q and presented elsewhere by management from time to time.

WE HAVE INCURRED SUBSTANTIAL LOSSES IN RECENT YEARS AND OUR RETURN TO PROFITABILITY IS UNCERTAIN

We incurred net losses of $9.3 million in the year ended December 31, 2005, $15.8 million in the year ended December 31, 2006, and $7.7 million in the six months ended June 30, 2007, and we had an accumulated deficit at June 30, 2007 of $158.0 million. Our recent results have been impacted by a number of factors, including decisions to defer revenue associated with one of our software products and relatively high research and development expense related to our efforts to resolve deficiencies in that product and to accelerate development of new versions of other products, and we cannot assure you that we will not be affected by these or other factors in future periods. We cannot assure you that we will achieve sufficient revenues to become profitable in the future.

IT IS DIFFICULT FOR US TO PREDICT WHEN OR IF SALES WILL OCCUR AND WHEN WE WILL RECOGNIZE THE REVENUE FROM OUR FUTURE SALES

Our clients view the purchase of our software applications and related professional services as a significant and strategic decision. As a result, clients carefully evaluate our software products and services, often over long periods. The license of our software products may be subject to delays if the client has lengthy internal budgeting, approval and evaluation processes, which are quite common in the context of introducing large enterprise-wide technology solutions. The length of this evaluation process varies from client to client. Our clients have also shown a growing interest in licensing our software on a subscription basis, which results in deferral of payments and revenues that would otherwise be reportable if a traditional perpetual license were executed. Our revenue forecasts and internal budgets are based, in part, on our best assumptions about the mix of future subscription licenses versus perpetual licenses. If we enter into a larger proportion of subscription agreements than planned, we may experience an unplanned shortfall in revenues or cash during that quarter. A significant percentage of our expenses, particularly personnel costs and rent, are fixed costs and are based in part on expectations of future revenues. We may be unable to reduce spending in a timely manner to compensate for any significant fluctuations in revenues and cash. Accordingly, shortfalls in current revenues, as we experienced in recent quarters, may cause our operating results to be below the expectations of public market analysts or investors, which could cause the value of our common stock to decline.

 

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WE CANNOT GUARANTEE THAT OUR DEFERRED REVENUE WILL BE RECOGNIZED AS PLANNED

In 2005 we became aware of certain deficiencies in the then-current version of one of our software products, which had first been shipped to customers in the fourth quarter of 2004. These deficiencies have resulted in delays and other problems with implementations of the software for several customers. Although we successfully completed implementations of the newest version of this software at two customer sites and made progress with other customer implementations during the most recent quarter, we are continuing to defer all recurring, services and license revenue in connection with (i) implementations of this software program that are not yet complete, and (ii) any customers for which a concession is probable and an agreement formalizing a concession amount has not been executed. Also, we recently entered into a concession agreement which resulted in the Company agreeing to a partial refund to a customer, and we may enter into concessions with other customers in connection with this software product that will result in either credits for future services or refunds. As of June 30, 2007, we have deferred $3.4 million of otherwise-recognizable license and professional service revenue. If we are not successful in completing the implementation of the software at customer sites on a timely basis, we may not be able to recognize as much of this deferred revenue as we have projected.

OUR CASH POSITION HAS DECLINED AND WILL LIKELY CONTINUE TO DECLINE UNTIL WE RETURN TO SUSTAINED PROFITABILITY

Our future long-term capital needs will depend significantly on the rate of growth of our business, our profitability, the mix of subscription licensing arrangements versus perpetual licenses sold, possible acquisitions, the timing of expanded product offerings and the success of these offerings if and when they are launched. Accordingly, our future long-term cash needs and cash flows are subject to substantial uncertainty. If our current balance of cash and cash equivalents is insufficient to satisfy our long-term liquidity needs, we may seek to sell additional equity or debt securities to raise funds, and those future securities may have rights, preferences or privileges senior to those of the rights of our common stock. In connection with a sale of stock, our stockholders would experience dilution. In addition, we cannot be certain that additional financing will be available to us on favorable terms when required, or at all.

WE NEED TO GROW IN MARKETS OTHER THAN THE HEALTH AND LIFE SCIENCES MARKET FOR OUR FUTURE GROWTH

Our business plan has been to reduce our reliance on the health and life sciences market, which has traditionally been the primary source of our revenues, by increasing sales in our Industry Solutions line of business, our non-health and life sciences business. Revenues from the Industry Solutions segment have comprised 24.4%, 26.0% and 21.9%, respectively, of our consolidated revenues for the years ended December 31, 2005 and 2006 and six months ended June 30, 2007. We have not been successful in generating the revenue growth we expected from these markets and we cannot assure you that we will be successful in the future. One of our key software products in the Industry Solutions segment has experienced certain deficiencies which we are working to resolve, and with respect to sales of which we have deferred revenue. See “We cannot guarantee that our deferred revenue will be recognized as planned.”

WE MAY NOT BE SUCCESSFUL IN DEVELOPING OR ACQUIRING NEW TECHNOLOGIES OR BUSINESSES AND THIS COULD HINDER OUR EXPANSION EFFORTS

Despite our intentions to reduce our product research and development efforts to levels more customary for our industry, in the near term we may continue our product research and development efforts at levels similar to current expenditures. We have had quality issues with

 

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one of our software products, which have affected our sales and have caused us to defer revenue recognition, and these issues may continue. We may consider additional acquisitions of or new investments in complementary businesses, products, services or technologies. We cannot assure you that we will be successful in our product development efforts or that we will be able to identify appropriate acquisition or investment candidates. Even if we do identify suitable candidates, we cannot assure you that we will be able to make such acquisitions or investments on commercially acceptable terms. Furthermore, we may incur debt or issue equity securities to pay for any future acquisitions. The issuance of equity securities could be dilutive to our existing stockholders and the issuance of debt could limit our available cash and accordingly restrict our activities.

WE HAVE MANY COMPETITORS AND POTENTIAL COMPETITORS AND WE MAY NOT BE ABLE TO COMPETE EFFECTIVELY

The market for our products and services is competitive and subject to rapid change. We encounter significant competition for the sale of our contract management software from the internal information systems departments of existing and potential clients, software companies that target the contract management markets and professional services organizations. Our competitors vary in size and in the scope and breadth of products and services offered. We anticipate increased competition for market share and pressure to reduce prices and make sales concessions, particularly in our Industry Solutions segment, which could materially and adversely affect our revenues and margins.

WE HAVE MULTIPLE FACILITIES AND WE MAY EXPERIENCE DIFFICULTIES IN OPERATING FROM THESE DIFFERENT LOCATIONS

We operate out of our corporate headquarters in Edison, New Jersey, engineering offices in Redwood City, California and Portland, Maine, and an office facility in London, England. The geographic distance between our offices makes it more challenging for our management and other employees to collaborate and communicate with each other than if they were all located in a single facility, and, as a result, increases the strain on our managerial, operational and financial resources. Also, a significant number of our sales and professional services employees work remotely out of home offices, which adds to this strain.

WE MAY NOT BE SUCCESSFUL IN RETAINING AND ATTRACTING TALENTED AND KEY EMPLOYEES

We depend on the services of our senior management and key technical personnel. The loss of the services of key employees, and the inability to attract new employees to fill crucial roles, could have a material adverse effect on our business, financial condition and results of operations.

OUR EFFORTS TO PROTECT OUR INTELLECTUAL PROPERTY MAY NOT BE FULLY EFFECTIVE, AND WE MAY INADVERTENTLY INFRINGE ON THE INTELLECTUAL PROPERTY OF OTHERS

Despite our efforts to protect our proprietary rights, unauthorized parties may attempt to copy aspects of our products or to obtain the use of information that we regard as proprietary. In addition, the laws of some foreign countries do not protect our proprietary rights to as great an extent as do the laws of the United States. We cannot assure investors that our means of protecting our proprietary rights will be adequate or that our competitors will not independently develop similar technology.

 

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We are not aware that any of our products infringe the proprietary rights of third parties. We cannot assure investors, however, that third parties will not claim infringement by us with respect to current or future products. We expect that software product developers will increasingly be subject to infringement claims as the number of products and competitors in our industry segment grows and the functionality of products in different industry segments overlaps. Any such claims, with or without merit, could be time-consuming, result in costly litigation, cause product shipment delays or require us to enter into royalty or licensing agreements. Such royalty or licensing agreements, if required, may not be available on terms acceptable to us or at all, which could have a material adverse effect upon our business, operating results and financial condition.

 

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

 

(b) Use of Proceeds

The Company has continued to use the proceeds of its initial public offering in the manner and for the purposes described elsewhere in this Report on Form 10-Q.

 

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

The Annual Meeting of Stockholders of the Company was held on May 31, 2007. The stockholders of the Company elected members of the Board of Directors and ratified the selection of BDO Seidman, LLP as the Company’s independent auditors for 2007. The following tables show the results of voting for each matter:

 

      NUMBER OF SHARES OF COMMON STOCK
   FOR    AGAINST    WITHHELD

Election of members of Board of Directors:

        

Reynolds C. Bish

   46,012,047    N/A    618,958

Steven L. Fingerhood

   45,522,488    N/A    1,108,517

Murray B. Low

   45,848,018    N/A    782,987

Mark A. Mitchell

   45,522,488    N/A    1,108,517

Karl E. Newkirk

   45,518,115    N/A    1,112,890

John A. Rade

   45,998,665    N/A    632,340

Ratified Selection of BDO Seidman, LLP

   46,564,101    50,739    16,165

 

ITEM 6. EXHIBITS

(a) The exhibits listed on the Exhibit Index are filed herewith.

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

    I-MANY, INC
Date: August 9, 2007   By:  

/s/ Kevin M. Harris

    Kevin M. Harris
    Chief Financial Officer and Treasurer

 

   

/s/ Kevin M. Harris

    Kevin M. Harris
    Chief Financial Officer

 

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INDEX TO EXHIBITS

 

EXHIBIT NO.

 

DESCRIPTION

31.1

  Certification of Chief Executive Officer pursuant to Rules 13a-14(a) and 15d-14(a) of the Exchange Act, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

31.2

  Certification of Chief Financial Officer pursuant to Rules 13a-14(a) and 15d-14(a) of the Exchange Act, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

32.1

  Certifications pursuant to 18 U.S.C. sec. 1350.

 

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