UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2003
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
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COMMISSION FILE NUMBER 000-20900
COMPUWARE CORPORATION
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(Exact name of registrant as specified in its charter)
MICHIGAN 38-2007430
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
ONE CAMPUS MARTIUS, DETROIT, MI 48226-5099
(Address of principal executive offices including zip code)
Registrant's telephone number including area code: (313) 227-7300
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes X No
---- ----
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act): Yes X No
---- ----
Indicate the number of shares outstanding of each of the issuer's class of
common stock, as of the latest practicable date:
As of November 10th, 2003, there were outstanding 384,078,015 shares of Common
Stock, par value $.01, of the registrant.
Page 1 of 31 pages
PART I. FINANCIAL INFORMATION Page
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Item 1. Financial Statements
Condensed Consolidated Balance Sheets as of
September 30, 2003 and March 31, 2003 3
Condensed Consolidated Statements of Operations
for the three months and six months ended
September 30, 2003 and 2002 4
Condensed Consolidated Statements of Cash Flows
for the six months ended September 30, 2003 and 2002 5
Notes to Condensed Consolidated Financial
Statements 6
Independent Accountants' Report 12
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 13
Item 3. Quantitative and Qualitative Disclosures about Market Risk 23
Item 4. Controls and Procedures 23
PART II. OTHER INFORMATION
------------------
Item 4. Submission of Matters to a Vote of Security Holders 24
Item 6. Exhibits and Reports on Form 8-K 25
SIGNATURES 26
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2
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
COMPUWARE CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
SEPTEMBER 30, MARCH 31,
ASSETS 2003 2003
------------- -----------
(UNAUDITED)
CURRENT ASSETS:
Cash and cash equivalents $ 382,335 $ 319,466
Investments 173,018 156,737
Accounts receivable, net 401,378 515,819
Deferred tax asset, net 30,667 30,605
Income taxes refundable, net 17,338 10,853
Prepaid expenses and other current assets 18,655 16,951
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Total current assets 1,023,391 1,050,431
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INVESTMENTS 88,471 95,095
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PROPERTY AND EQUIPMENT, LESS ACCUMULATED
DEPRECIATION AND AMORTIZATION 418,696 386,678
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CAPITALIZED SOFTWARE, LESS ACCUMULATED
AMORTIZATION 47,401 54,514
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OTHER:
Accounts receivable 263,560 260,735
Deferred tax asset, net 23,399 20,174
Goodwill, net 212,714 212,288
Other 28,490 42,770
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Total other assets 528,163 535,967
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TOTAL ASSETS $ 2,106,122 $ 2,122,685
============= ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable $ 27,169 $ 37,588
Accrued expenses 133,647 134,579
Deferred revenue 289,146 296,998
------------- -----------
Total current liabilities 449,962 469,165
DEFERRED REVENUE 293,896 299,079
ACCRUED EXPENSES 20,626 22,750
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Total liabilities 764,484 790,994
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SHAREHOLDERS' EQUITY:
Common stock 3,841 3,824
Additional paid-in capital 712,926 704,190
Retained earnings 625,368 631,906
Foreign currency translation adjustment (497) (8,229)
------------- -----------
Total shareholders' equity 1,341,638 1,331,691
------------- -----------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 2,106,122 $ 2,122,685
============= ===========
See notes to condensed consolidated financial statements.
3
COMPUWARE CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
THREE MONTHS ENDED SIX MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
----------------------- ------------------------
2003 2002 2003 2002
--------- --------- --------- ---------
REVENUES:
Software license fees $ 59,358 $ 87,019 $ 114,683 $ 144,172
Maintenance fees 99,397 103,037 200,973 208,731
Professional services fees 143,998 167,938 293,109 351,690
--------- --------- --------- ---------
Total revenues 302,753 357,994 608,765 704,593
--------- --------- --------- ---------
OPERATING EXPENSES:
Cost of software license fees 7,657 7,676 15,043 15,303
Cost of professional services 136,567 152,365 276,047 319,734
Technology development and support 42,735 38,795 82,758 70,594
Sales and marketing 77,665 64,841 145,050 131,017
Administrative and general 54,597 46,919 107,829 91,687
--------- --------- --------- ---------
Total operating expenses 319,221 310,596 626,727 628,335
--------- --------- --------- ---------
INCOME (LOSS) FROM OPERATIONS (16,468) 47,398 (17,962) 76,258
OTHER INCOME 4,638 3,860 9,747 9,038
--------- --------- --------- ---------
INCOME (LOSS) BEFORE INCOME TAXES (11,830) 51,258 (8,215) 85,296
INCOME TAX PROVISION (BENEFIT) (3,312) 17,428 (2,300) 29,001
--------- --------- --------- ---------
NET INCOME (LOSS) $ (8,518) $ 33,830 $ (5,915) $ 56,295
========= ========= ========= =========
Basic earnings (loss) per share $ (0.02) $ 0.09 $ (0.02) $ 0.15
========= ========= ========= =========
Diluted earnings (loss) per share $ (0.02) $ 0.09 $ (0.02) $ 0.15
========= ========= ========= =========
See notes to condensed consolidated financial statements.
4
COMPUWARE CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
SIX MONTHS ENDED
SEPTEMBER 30,
---------------------------
2003 2002
--------- ---------
CASH FLOWS PROVIDED BY OPERATING ACTIVITIES:
Net income (loss) $ (5,915) $ 56,295
Adjustments to reconcile net income (loss) to cash provided
by operations:
Depreciation and amortization 25,336 27,402
Tax benefit from exercise of stock options 152 171
Acquisition tax benefits 3,516 3,537
Deferred income taxes (3,287) 9,089
Other 8,310 7,934
Net change in assets and liabilities:
Accounts receivable 111,616 95,740
Prepaid expenses and other current assets (1,704) (433)
Other assets (1,221) 128
Accounts payable and accrued expenses (13,452) (36,656)
Deferred revenue (13,035) (22,160)
Income taxes (6,485) 28,221
--------- ---------
Net cash provided by operating activities 103,831 169,268
--------- ---------
CASH FLOWS USED IN INVESTING ACTIVITIES:
Purchase of:
Property and equipment:
Headquarters facility (40,314) (86,817)
Other (4,166) (2,094)
Capitalized software (5,440) (5,578)
Investments:
Proceeds 216,648 77,300
Purchases (212,180) (89,962)
--------- ---------
Net cash used in investing activities (45,452) (107,151)
--------- ---------
CASH FLOWS PROVIDED BY FINANCING ACTIVITIES:
Net proceeds from exercise of stock options 942 565
Contribution to stock purchase plans 4,544 5,720
Repurchase of common stock (996)
--------- ---------
Net cash provided by financing activities 4,490 6,285
--------- ---------
NET INCREASE IN CASH AND CASH EQUIVALENTS 62,869 68,402
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 319,466 233,305
--------- ---------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 382,335 $ 301,707
========= =========
See notes to condensed consolidated financial statements.
5
COMPUWARE CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SIX MONTHS ENDED SEPTEMBER 30, 2003
NOTE 1 - BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements include
the accounts of Compuware Corporation and its wholly owned subsidiaries
(collectively, the "Company"). All intercompany balances and transactions have
been eliminated in consolidation.
The accompanying unaudited condensed consolidated financial statements have been
prepared in accordance with accounting principles generally accepted in the
United States of America ("generally accepted accounting principles") for
interim financial information and with the instructions to Form 10-Q and Article
10 of Regulation S-X. Accordingly, they do not include all of the information
and footnotes required by generally accepted accounting principles for complete
financial statements. Generally accepted accounting principles require
management to make estimates and assumptions that affect the reported amounts of
assets, liabilities, contingencies and results of operations. While management
has based their assumptions and estimates on the facts and circumstances known
at September 30, 2003, final amounts may differ from estimates.
In the opinion of management of the Company, the accompanying unaudited
condensed consolidated financial statements reflect all adjustments, consisting
only of normal recurring adjustments, that are necessary for a fair presentation
of the results for the interim periods presented. These financial statements
should be read in conjunction with the Company's audited consolidated financial
statements and notes thereto for the year ended March 31, 2003 included in the
Company's Annual Report to Shareholders on Form 10-K filed with the Securities
and Exchange Commission. The consolidated balance sheet at March 31, 2003 has
been derived from the audited financial statements at that date but does not
include all information and footnotes required by generally accepted accounting
principles for complete financial statements. The results of operations for
interim periods are not necessarily indicative of actual results achieved for
full fiscal years.
6
COMPUWARE CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SIX MONTHS ENDED SEPTEMBER 30, 2003
NOTE 2 - COMPUTATION OF EARNINGS (LOSS) PER COMMON SHARE
Earnings (Loss) per common share data were computed as follows (in thousands,
except for per share data):
Three Months Ended Six Months Ended
September 30, September 30,
----------------------- -----------------------
2003 2002 2003 2002
--------- --------- --------- ---------
BASIC EARNINGS (LOSS) PER SHARE:
--------------------------------
Numerator: Net income (loss) $ (8,518) $ 33,830 $ (5,915) $ 56,295
--------- --------- --------- ---------
Denominator:
Weighted-average common shares outstanding 382,591 375,931 382,556 375,907
--------- --------- --------- ---------
Basic earnings (loss) per share $ (0.02) $ 0.09 $ (0.02) $ 0.15
========= ========= ========= =========
DILUTED EARNINGS (LOSS) PER SHARE:
----------------------------------
Numerator: Net income (loss) $ (8,518) $ 33,830 $ (5,915) $ 56,295
--------- --------- --------- ---------
Denominator:
Weighted-average common shares outstanding 382,591 375,931 382,556 375,907
Dilutive effect of stock options -- 757 -- 1,785
--------- --------- --------- ---------
Total shares 382,591 376,688 382,556 377,692
--------- --------- --------- ---------
Diluted earnings (loss) per share $ (0.02) $ 0.09 $ (0.02) $ 0.15
========= ========= ========= =========
During the three months ended September 30, 2003 and 2002, stock options and a
warrant to purchase a total of approximately 63,425,000 and 65,673,000 shares,
respectively, were excluded from the diluted earnings (loss) per share
calculation because they were anti-dilutive. During the six months ended
September 30, 2003 and 2002, stock options and a warrant to purchase a total of
approximately 63,425,000 and 64,757,000 shares, respectively, were excluded from
the diluted earnings (loss) per share calculation because they were
anti-dilutive.
Through September 30, 2003, in accordance with SFAS No. 123, "Accounting for
Stock-Based Compensation", the Company applied APB Opinion No. 25 and related
Interpretations in accounting for its stock-based compensation plans. Stock
options are granted at current market prices at the date of grant, therefore, no
compensation cost has been recognized for its plans. If compensation cost for
the Company's plans had been determined based on the fair value at the grant
dates for the three months ended September 30, 2003 and 2002, consistent with
the method prescribed by SFAS No. 123, "Accounting for Stock-Based
Compensation", net income (loss) and earnings (loss) per share would have been
adjusted to the pro forma amounts indicated below (in thousands, except for per
share data):
Three Months Ended Six Months Ended
September 30, September 30,
------------------------- --------------------------
2003 2002 2003 2002
---------- ---------- ---------- ----------
Net income (loss):
As reported $ (8,518) $ 33,830 $ (5,915) $ 56,295
Compensation cost, net of tax (7,015) (13,198) (17,007) (25,123)
---------- ---------- ---------- ----------
Pro forma $ (15,533) $ 20,632 $ (22,922) $ 31,172
========== ========== ========== ==========
Earnings (loss) per share:
As reported:
Basic earnings (loss) per share $ (0.02) $ 0.09 $ (0.02) $ 0.15
Diluted earnings (loss) per share (0.02) 0.09 (0.02) 0.15
Pro forma:
Basic earnings (loss) per share (0.04) 0.05 (0.06) 0.08
Diluted earnings (loss) per share (0.04) 0.05 (0.06) 0.08
7
COMPUWARE CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SIX MONTHS ENDED SEPTEMBER 30, 2003
The pro forma amounts for compensation cost may not be indicative of the effects
on net income (loss) and earnings (loss) per share for future years.
NOTE 3 - COMPREHENSIVE INCOME (LOSS)
Other comprehensive income (loss) includes foreign currency translation gains
and losses that have been excluded from net income (loss) and reflected in
equity. Total comprehensive income (loss) is summarized as follows (in
thousands):
Three Months Ended Six Months Ended
September 30, September 30,
----------------------- -----------------------
2003 2002 2003 2002
-------- -------- -------- --------
Net income (loss) $ (8,518) $ 33,830 $ (5,915) $ 56,295
Foreign currency translation
adjustment, net of tax 1,502 (2,126) 7,732 4,197
-------- -------- -------- --------
Total comprehensive income (loss) $ (7,016) $ 31,704 $ 1,817 $ 60,492
======== ======== ======== ========
8
COMPUWARE CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SIX MONTHS ENDED SEPTEMBER 30, 2003
NOTE 4 - SEGMENTS
Compuware operates in two business segments in the technology industry: products
and professional services. The Company provides software products and
professional services to IT organizations that help IT professionals efficiently
develop, implement and support the applications that run their businesses.
Financial information for the Company's business segments is as follows (in
thousands):
Three Months Ended Six Months Ended
September 30, September 30,
---------------------- -----------------------
2003 2002 2003 2002
--------- --------- --------- ---------
Revenues:
Products:
Mainframe $ 121,023 $ 154,079 $ 240,254 $ 282,136
Distributed systems 37,732 35,977 75,402 70,767
--------- --------- --------- ---------
Total product revenue 158,755 190,056 315,656 352,903
Professional services 143,998 167,938 293,109 351,690
--------- --------- --------- ---------
Total revenues $ 302,753 $ 357,994 $ 608,765 $ 704,593
========= ========= ========= =========
Operating expenses:
Products $ 128,057 $ 111,312 $ 242,851 $ 216,914
Professional services 136,567 152,365 276,047 319,734
Corporate staff 54,597 46,919 107,829 91,687
--------- --------- --------- ---------
Total operating expenses $ 319,221 $ 310,596 $ 626,727 $ 628,335
========= ========= ========= =========
Income (loss) from operations
before other income:
Products $ 30,698 $ 78,744 $ 72,805 $ 135,989
Professional services 7,431 15,573 17,062 31,956
Corporate staff (54,597) (46,919) (107,829) (91,687)
--------- --------- --------- ---------
Income (loss) from operations
before other income (16,468) 47,398 (17,962) 76,258
Other income 4,638 3,860 9,747 9,038
--------- --------- --------- ---------
Income (loss) before income taxes $ (11,830) $ 51,258 $ (8,215) $ 85,296
========= ========= ========= =========
Financial information regarding geographic operations is presented in the table
below (in thousands):
Three Months Ended Six Months Ended
September 30, September 30,
---------------------- -----------------------
2003 2002 2003 2002
--------- --------- --------- ---------
Revenues:
United States $ 217,566 $ 263,517 $ 438,451 $ 528,505
Europe and Africa 65,050 73,021 133,744 137,916
Other international operations 20,137 21,456 36,570 38,172
--------- --------- --------- ---------
Total revenues $ 302,753 $ 357,994 $ 608,765 $ 704,593
========= ========= ========= =========
9
COMPUWARE CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SIX MONTHS ENDED SEPTEMBER 30, 2003
NOTE 5 - RESTRUCTURING CHARGE
In the fourth quarter of fiscal 2002, the Company adopted a restructuring plan
to reorganize its operating divisions, primarily the professional services
segment. These changes were designed to increase profitability by better
aligning cost structures with current market conditions.
The restructuring plan included a reduction of professional services staff at
certain locations, the closing of entire professional services offices and a
reduction of sales support personnel, lab technicians and related administrative
and financial staff. Approximately 1,600 employees worldwide were terminated as
a result of the reorganization. Payments continue to be made to certain
terminated employees in accordance with their agreements.
The following table summarizes the restructuring accrual as of March 31, 2003,
and charges against the accrual during the first six months of fiscal 2004 (in
thousands):
Charges against Charges against
Balance at the accrual during the accrual during Balance at
March 31, the quarter ended the quarter ended September 30,
2003 June 30, 2003 September 30, 2003 2003
--------------- ------------------ ------------------ ---------------
Employee termination benefits $ 698 $ 346 $ 73 $ 279
Facilities costs (primarily lease
abandonments) 19,088 1,636 1,474 15,978
Legal, consulting and
outplacement costs 15 4 1 10
--------------- ------------------ ------------------ ---------------
Total restructuring accrual $ 19,801 $ 1,986 $ 1,548 $ 16,267
=============== ================== ================== ===============
NOTE 6 - INVESTMENTS IN PARTIALLY OWNED COMPANIES
The Company holds a 33.3% interest in CareTech Solutions, Inc. (CareTech).
CareTech provides outsourcing for healthcare information technology
organizations including data, voice, applications and data center operations.
This investment is accounted for under the equity method. The Company records
its share of income or loss against its net investment in CareTech.
At September 30, 2003 and March 31, 2003, the Company's carrying value of its
investments in and advances to CareTech was $19,261,000 and $16,191,000,
respectively. Included in the net investment at September 30, 2003 is a note
receivable in the amount of $16,494,000 ($17,283,000 at March 31, 2003), an
equity investment recorded value of negative $1,299,000 and accounts receivable
due from CareTech of $4,066,000. The note is payable in quarterly installments
through January 2012 and bears interest at 5.25%.
The Company has guaranteed lease obligations of CareTech up to $12,500,000. The
Company has not recorded any liability related to these guarantees since it
believes that CareTech will continue to meet its obligations. At September 30,
2003, outstanding lease obligations were approximately $4,500,000.
CareTech's most significant customer is the Detroit Medical Center and
Subsidiaries (DMC). The DMC has publicly announced that it is having financial
difficulties. The Company considered the financial situation of the DMC at
September 30, 2003 (and at March 31, 2003)
10
COMPUWARE CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SIX MONTHS ENDED SEPTEMBER 30, 2003
and concluded that no impairment charge or valuation allowance related to our
investment in and receivables due from CareTech was warranted at that time.
Nonetheless, it is reasonably possible that the estimate of cash flows may
change in the near term resulting in the need to writedown the investment to
fair value and/or record a valuation allowance related to the receivables.
Additionally, if CareTech's situation changes and the Company agrees to extend
additional credit or loans to CareTech to support their cash flow needs,
CareTech may be considered a variable interest entity and the Company may need
to consolidate CareTech's operations with its other subsidiaries.
The Company holds a 49% interest in ForeSee Results, Inc. (ForeSee). ForeSee was
incorporated in October 2001 to provide online customer satisfaction management.
At September 30, 2003 and March 31, 2003, the Company's carrying value of its
investments in and advances to ForeSee was $4,758,000 and $4,252,000,
respectively. Included in the net investment at September 30, 2003 are notes
receivable from ForeSee in the amount of $5,000,000 ($3,500,000 at March 31,
2003), an equity investment recorded value of negative $391,000 and accounts
receivable due from ForeSee of $149,000. The ForeSee notes bear interest at the
prime rate (4.00% at September 30, 2003) and are due between June 2007 and
September 2008. The Company has pledged $1,000,000 in additional loans to
ForeSee, if needed, subject to approval by the ForeSee shareholders. During the
second quarter of fiscal 2004, the Company's equity investment in ForeSee was
reduced to zero. At that point, the Company began recording 100% of the losses
sustained by ForeSee as a reduction to the Company's outstanding advances to
ForeSee since the Company is uncertain whether the other investors are willing
or able to sustain their share of the losses. The Company continues to monitor
the financial situation of ForeSee on a regular basis and has concluded that no
impairment reserve was warranted at September 30, 2003 (or at March 31, 2003).
11
INDEPENDENT ACCOUNTANTS' REPORT
Compuware Corporation:
We have reviewed the accompanying condensed consolidated balance sheet of
Compuware Corporation and subsidiaries (the "Company") as of September 30, 2003
and the related condensed consolidated statements of operations for the
three-month and six-month periods and cash flows for the six-month period ended
September 30, 2003 and 2002. These interim financial statements are the
responsibility of the Company's management.
We conducted our reviews in accordance with standards established by the
American Institute of Certified Public Accountants. A review of interim
financial information consists principally of applying analytical procedures and
making inquiries of persons responsible for financial and accounting matters. It
is substantially less in scope than an audit conducted in accordance with
auditing standards generally accepted in the United States of America, the
objective of which is the expression of an opinion regarding the financial
statements taken as a whole. Accordingly, we do not express such an opinion.
Based on our reviews, we are not aware of any material modifications that should
be made to such condensed consolidated financial statements for them to be in
conformity with accounting principles generally accepted in the United States of
America.
We have previously audited, in accordance with auditing standards generally
accepted in the United States of America, the consolidated balance sheet of the
Company and subsidiaries as of March 31, 2003, and the related consolidated
statements of operations, stockholders' equity, and cash flows for the year then
ended (not presented herein); and in our report dated May 6, 2003 we expressed
an unqualified opinion on those consolidated financial statements. In our
opinion, the information set forth in the accompanying condensed consolidated
balance sheet as of March 31, 2003 is fairly stated, in all material respects,
in relation to the consolidated balance sheet from which it has been derived.
DELOITTE & TOUCHE LLP
Detroit, Michigan
November 11, 2003
12
COMPUWARE CORPORATION AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
FORWARD-LOOKING STATEMENTS
This discussion contains certain forward-looking statements within the meaning
of the federal securities laws which are identified by the use of the words
"believes," "expects," "anticipates," "will," "contemplates," "would" and
similar expressions that contemplate future events. Numerous important factors,
risks and uncertainties affect our operating results, including, without
limitation, those discussed below, contained elsewhere in this report and in our
2003 Form 10-K filed with the Securities and Exchange Commission, and could
cause actual results to differ materially from the results implied by these or
any other forward-looking statements made by us, or on our behalf. There can be
no assurance that future results will meet expectations. While we believe that
our forward-looking statements are reasonable, you should not place undue
reliance on any such forward-looking statements, which speak only as of the date
made. Except as required by applicable law, we do not undertake any obligation
to publicly release any revisions which may be made to any forward-looking
statements to reflect events or circumstances occurring after the date of this
report.
- In 2002, we filed a lawsuit against International Business Machines
Corporation (IBM) alleging, among other things, copyright infringement,
misappropriation of trade secrets, intentional interference with
contractual relations and economic expectancy, false advertising and
various violations of the Lanham Act, as well as various anti-trust law
violations. We claim that IBM has misappropriated portions of our software
tools, used our technology to develop competing products, used its monopoly
power to engage in unlawful tying arrangements and subverted competition on
the merits. IBM has filed a counterclaim against us alleging violation of
six of their patents. Pursuit of this litigation will be costly,
time-consuming and may divert management's time and attention. Our legal
expenses have increased substantially and our administrative and general
expenses could further increase as a result of these factors. In addition,
IBM may seek to influence our customers and potential customers to reduce
or eliminate the amount of our products and services that they purchase, or
our lawsuit against IBM may otherwise be viewed negatively by our customers
and potential customers and cause them to refrain from buying our products
and services. Any of the foregoing developments could adversely affect our
position in the marketplace and our results of operations.
- While we are expanding our focus on distributed software products, a
majority of our revenue from software products is dependent on our
customers' continued use of IBM and IBM-compatible mainframe products and
on the acceptance of our pricing structure for software licenses and
maintenance. The pricing of our software licenses and maintenance is under
constant pressure from customers and competitive vendors.
- In addition to the IBM claims discussed above, there can be no assurance
that other third parties will not assert infringement claims against us in
the future with respect to current and future products or that any such
assertion may not require us to enter into royalty arrangements or result
in costly litigation.
- Our operating margins may decline. We do not regularly compile margin
analysis other than on a segment basis. However, we are aware that
operating expenses associated with our distributed systems products are
higher than those associated with our traditional mainframe products. Since
we believe the best opportunities for revenue growth are in the distributed
systems market, product operating margins could experience more pressure.
In addition, operating margins in the professional services business are
significantly impacted by small fluctuations in revenue since most costs
are fixed during any short term period.
13
COMPUWARE CORPORATION AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
(CONTINUED)
- Our results could be adversely affected by increased competition and
pricing pressures. We consider over 40 firms to be directly competitive
with one or more of our products. These competitors include but are not
limited to BMC Software, Inc., Borland, Computer Associates International,
Inc., IBM and Mercury Interactive Corporation. Some of these competitors
have substantially greater financial, marketing, recruiting and training
resources than we do.
- The market for professional services is highly competitive, fragmented and
characterized by low barriers to entry. Our principal competitors in
professional services include but are not limited to Accenture, Computer
Sciences Corporation, Electronic Data Systems Corporation, IBM Global
Services, Analysts International Corporation, Keane, Inc. and numerous
other regional and local firms in the markets in which we have professional
services offices. Several of these competitors have substantially greater
financial, marketing, recruiting and training resources than we do.
- Our success depends in part on our ability to develop product enhancements
and new products which keep pace with continuing changes in technology and
customer preferences.
- Approximately 25% to 30% of our total revenue is derived from foreign
sources. This exposes us to exchange rate risks on foreign currencies and
to other international risks such as the need to comply with foreign and
U.S. export laws, and the uncertainty of certain foreign economies.
- We regard our software as proprietary and attempt to protect it with
copyrights, trademarks, trade secret laws and/or restrictions on
disclosure, copying and transferring title. Despite these precautions, it
may be possible for unauthorized third parties to copy certain portions of
our products or to obtain and use information that we regard as
proprietary. In addition, the laws of some foreign countries do not protect
our proprietary rights to the same extent as the laws of the United States.
- We depend on key employees and technical personnel. The loss of certain key
employees or our inability to attract and retain other qualified employees
could have a material adverse effect on our business.
- Our quarterly financial results vary and may be adversely affected by
certain relatively fixed costs. Our product revenues vary from quarter to
quarter. Net income may be disproportionately affected by a fluctuation in
revenues because only a small portion of our expenses varies with revenues.
- Historical seasonality in license revenue cannot be relied on as an
indicator of future performance due to the current economic conditions
affecting the IT industry.
- The slowdown in the world economy could continue for an extended period and
could cause customers to further delay or forego decisions to license new
products or upgrades to their existing environments or to reduce their
requirements for professional services, and this could adversely affect our
operating results.
- Acts of terrorism, acts of war and other unforeseen events may cause damage
or disruption to our properties, employees, suppliers, distributors,
resellers and customers which could adversely affect our business and
operating results.
14
COMPUWARE CORPORATION AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
(CONTINUED)
RESULTS OF OPERATIONS
The following table sets forth, for the periods indicated, certain operational
data from the consolidated statements of operations as a percentage of total
revenues and the percentage change in such items compared to the prior period:
Percentage of Percentage of
Total Revenues Total Revenues
------------------------ ------------------------
Three Months Ended Six Months Ended
September 30, Period- September 30, Period-
------------------------ to-Period ------------------------ to-Period
2003 2002 Change 2003 2002 Change
---------- ---------- ---------- ---------- ---------- ----------
REVENUE:
Software license fees 19.6% 24.3% (31.8)% 18.8% 20.5% (20.5)%
Maintenance fees 32.8 28.8 (3.5) 33.0 29.6 (3.7)
Professional services fees 47.6 46.9 (14.3) 48.2 49.9 (16.7)
---------- ---------- ---------- ----------
Total revenues 100.0 100.0 (15.4) 100.0 100.0 (13.6)
---------- ---------- ---------- ----------
OPERATING EXPENSES:
Cost of software license fees 2.5 2.2 (0.2) 2.5 2.2 (1.7)
Cost of professional services 45.1 42.6 (10.4) 45.4 45.4 (13.7)
Technology development and support 14.1 10.8 10.2 13.6 10.0 17.2
Sales and marketing 25.7 18.1 19.8 23.8 18.6 10.7
Administrative and general 18.0 13.1 16.4 17.7 13.0 17.6
---------- ---------- ---------- ----------
Total operating expenses 105.4 86.8 2.8 103.0 89.2 (0.3)
---------- ---------- ---------- ----------
Income (loss) from operations (5.4) 13.2 (134.7) (3.0) 10.8 (123.6)
Other income 1.5 1.1 20.2 1.6 1.3 7.8
---------- ---------- ---------- ----------
Income (loss) before income taxes (3.9) 14.3 (123.1) (1.4) 12.1 (109.6)
Income tax provision (benefit) (1.1) 4.9 (119.0) (0.4) 4.1 (107.9)
---------- ---------- ---------- ----------
Net income (loss) (2.8)% 9.4% (125.2)% (1.0)% 8.0% (110.5)%
========== ========== ========== ==========
We operate in two business segments in the technology industry: products and
professional services. We evaluate segment performance based primarily on
segment contribution before corporate expenses. References to years are to
fiscal years ended March 31.
We experienced operating losses during the first and second quarters of 2004.
While we still believe it is important to maintain our professional services
staff and to increase our sales and technology staff levels to take advantage of
an improving marketplace, we also believe it is imperative that we modify our
cost structure in response to the reductions in revenues we have experienced
during the past several quarters. Therefore, in late October 2003, we
implemented a cost reduction strategy that includes salary reductions for
executive management and most employees, additional employee contributions
toward healthcare, elimination of company sponsored holiday events and a review
of other expenses. These measures are intended to save a total of $10 million to
$15 million each quarter, starting in the third quarter of 2004. Savings in the
third quarter of 2004 will be less than the full projected amount due to the
timing of these reductions. These cost reductions will have varying effects on
the various components of our business. We will reevaluate these changes at the
end of the fourth quarter. The expected effects are discussed throughout this
report.
15
COMPUWARE CORPORATION AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
(CONTINUED)
SOFTWARE PRODUCTS
REVENUE
Our products are designed to support four key activities within the application
development process: development and integration, quality assurance, production
readiness and performance management of the application to optimize performance
in production. Product revenue which consists of software license fees and
maintenance fees, comprised 52.4% and 53.1% of total revenue during the second
quarter of 2004 and 2003, respectively, and 51.8% and 50.1% of total Company
revenue during the first six months of 2004 and 2003. OS/390 product revenue
(mainframe revenue) decreased $33.1 million or 21.5% during the second quarter
of 2004 to $121.0 million from $154.1 million during the second quarter of 2003
and decreased $41.8 million or 14.8% during the first six months of 2004 to
$240.3 million from $282.1 million during the first six months of 2003. The
decrease was partially offset by a $1.7 million, or 4.9%, increase in revenue
from distributed software products during the second quarter of 2004 to $37.7
million from $36.0 million during the second quarter of 2003, and a $4.6
million, or 6.5%, increase during the first six months of 2004 to $75.4 million
from $70.8 million during the first six months of 2003.
License revenue decreased $27.6 million or 31.8% during the second quarter of
2004 to $59.4 million from $87.0 million during the second quarter of 2003 and
decreased $29.5 million or 20.5% during the first six months of 2004 to $114.7
million from $144.2 million during the first six months of 2003. This decrease
is attributable to the overall economic weakness in the technology market. We
have significantly less revenue from licenses for additional capacity compared
to prior years. Maintenance fees decreased $3.6 million or 3.5% to $99.4 million
during the second quarter of 2004 from $103.0 million during the second quarter
of 2003 and decreased $7.7 million or 3.7% during the first six months of 2004
to $201.0 million from $208.7 million during the first six months of 2003. The
decrease in maintenance fees was primarily attributable to lower license fees
during both 2004 and 2003 resulting in minimal increases to the maintenance base
and to market pressure on pricing.
We license software to customers using two types of software licenses, perpetual
and term. Generally, perpetual software licenses allow customers a perpetual
right to run our software on hardware up to a licensed aggregate MIPS (Millions
of Instructions Per Second) capacity. Term licenses allow customers a right to
run our software for a limited period of time on hardware up to a licensed
aggregate MIPS capacity. Also, our customers purchase maintenance services that
provide technical support and advice, including problem resolution services and
assistance in product installation, error corrections and any product
enhancements released during the maintenance period. Furthermore, based on
business needs, customers are allowed to license additional software and
purchase multiple years of maintenance in a single transaction (multi-year
transactions). In support of these multi-year transactions, we allow extended
payment terms to qualifying customers.
To recognize revenue for these multi-year transactions the contract price is
allocated between maintenance revenue and license revenue. All license revenue
associated with perpetual license agreements is recognized when the customer
commits unconditionally to the transaction, the software products and quantities
are fixed and the software has been shipped to the customer and collection is
reasonably probable. License revenue associated with term transactions or with
transactions that include an option to exchange or select products in the future
is deferred and recognized over the term of the agreement. When the license
portion is paid over a number of years, the license portion of the payment
stream is discounted to its net
16
COMPUWARE CORPORATION AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
(CONTINUED)
present value. Interest income is recognized over the payment term. The
maintenance revenue associated with all sales is deferred and is recognized over
the applicable maintenance period.
Product revenue by geographic location is presented in the table below (in
thousands):
Three Months Ended Six Months Ended
September 30, September 30,
----------------------- -----------------------
2003 2002 2003 2002
-------- -------- -------- --------
United States $ 88,198 $112,725 $174,401 $210,913
Europe and Africa 51,154 56,471 106,116 105,066
Other international operations 19,403 20,860 35,139 36,924
-------- -------- -------- --------
Total product revenue $158,755 $190,056 $315,656 $352,903
======== ======== ======== ========
PRODUCT CONTRIBUTION AND EXPENSES
Financial information for the product segment is as follows (in thousands):
Three Months Ended Six Months Ended
September 30, September 30,
----------------------- -----------------------
2003 2002 2003 2002
-------- -------- -------- --------
Revenue $158,755 $190,056 $315,656 $352,903
Expenses 128,057 111,312 242,851 216,914
-------- -------- -------- --------
Product contribution $ 30,698 $ 78,744 $ 72,805 $135,989
======== ======== ======== ========
The product segment generated contribution margins of 19.3% and 41.4% during the
second quarter of 2004 and 2003, respectively, and 23.1% and 38.5% during the
first six months of 2004 and 2003, respectively. Product expenses include cost
of software license fees, technology development and support costs, and sales
and marketing expenses. These factors are discussed below.
Cost of software license fees includes amortization of capitalized software, the
cost of duplicating and disseminating products to customers and the cost of
author royalties. As a percentage of software license fees, cost of software
license fees were 12.9% and 8.8% in the second quarter of 2004 and 2003,
respectively, and 13.1% and 10.6% in the first six months of 2004 and 2003,
respectively. These increases are a result of the decline in license revenue
compared to the prior year.
Technology development and support includes, primarily, the costs of programming
personnel associated with product development and support less the amount of
software development costs capitalized during the period. Also included here are
personnel costs associated with developing and maintaining internal systems and
hardware/software costs required to support technology initiatives. As a
percentage of product revenue, costs of technology development and support were
26.9% and 20.4% in the second quarter of 2004 and 2003, respectively, and 26.2%
and 20.0% during the first six months of 2004 and 2003, respectively.
Capitalization of internally developed software products begins when
technological feasibility of the product is established. Before the
capitalization of internally developed software products, total research and
development expenditures for the second quarter of 2004 increased $3.6 million,
or 8.8%, to $45.0 million from $41.4 million in the second quarter of 2003, and
for the
17
COMPUWARE CORPORATION AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
(CONTINUED)
first six months of 2004 increased $12.0 million, or 15.8%, to $88.2 million
from $76.2 million in the first six months of 2003. The increases in these costs
for 2004 were primarily attributable to an increase in compensation associated
with higher employee headcount in this area which increased by 107 people to
1,534 people as of September 30, 2003 from 1,427 people as of September 30,
2002. In late October 2003, we implemented cost reduction strategies. We expect
these strategies to result in a reduction of technology development and support
costs totaling approximately $400,000 during the third quarter and $900,000
during the fourth quarter.
Sales and marketing costs consist primarily of personnel related costs
associated with product direct sales and sales support, marketing for all our
offerings, and personnel costs associated with new sales initiatives. For the
second quarter of 2004, sales and marketing costs increased $12.9 million, or
19.8%, to $77.7 million from $64.8 million in the second quarter of 2003 and for
the first six months of 2004 increased $14.1 million, or 10.7% to $145.1 million
from $131.0 million in the first six months of 2003. The increases in these
costs for 2004 were primarily attributable to higher marketing costs related to
the promotion of products in the distributed software marketplace and increased
salaries, benefits and travel costs associated with the increase in our direct
sales force. Employee headcount in this area increased by 132 people to 1,918
people as of September 30, 2003 from 1,786 people as of September 30, 2002. As a
percentage of product revenue, sales and marketing costs were 48.9% and 34.1% in
the second quarter of 2004 and 2003, respectively, and 46.0% and 37.1% in the
first six months of 2004 and 2003, respectively. In late October 2003, we
implemented cost reduction strategies. We expect these measures to result in a
reduction of sales and marketing costs totaling approximately $900,000 during
the third quarter and $1.6 million during the fourth quarter.
PROFESSIONAL SERVICES
REVENUE
We offer a broad range of information technology professional services,
including business systems analysis, design and programming, software conversion
and system planning and consulting. Revenue from professional services decreased
$23.9 million or 14.3% during the second quarter of 2004 to $144.0 million
compared to $167.9 million in the second quarter of 2003, and decreased $58.6
million or 16.7% during the first six months of 2004 to $293.1 million from
$351.7 million during the first six months of 2003. The decrease in revenue for
2004 was due, primarily, to a reduction in demand for professional services as
customers postpone large projects, and to the highly competitive nature of the
professional services market and the resulting downward pressure on our billing
rates. Included in professional services revenue was approximately $5.3 million
and $11.1 million for the second quarter and first six months of 2004,
respectively, related to services provided as subcontractors to CareTech.
18
COMPUWARE CORPORATION AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
(CONTINUED)
Professional services revenue by geographic location is presented in the table
below (in thousands):
Three Months Ended Six Months Ended
September 30, September 30,
---------------------- -----------------------
2003 2002 2003 2002
-------- -------- -------- --------
United States $129,368 $150,792 $264,050 $317,592
Europe and Africa 13,896 16,550 27,628 32,850
Other international operations 734 596 1,431 1,248
-------- -------- -------- --------
Total professional services revenue $143,998 $167,938 $293,109 $351,690
======== ======== ======== ========
PROFESSIONAL SERVICES CONTRIBUTION AND EXPENSES
Financial information for the professional services segment is as follows (in
thousands):
Three Months Ended Six Months Ended
September 30, September 30,
---------------------- -----------------------
2003 2002 2003 2002
-------- -------- -------- --------
Revenue $143,998 $167,938 $293,109 $351,690
Expenses 136,567 152,365 276,047 319,734
-------- -------- -------- --------
Professional services contribution $ 7,431 $ 15,573 $ 17,062 $ 31,956
======== ======== ======== ========
During the second quarter of 2004, the professional services segment generated a
contribution margin of 5.2%, compared to 9.3% during the second quarter of 2003.
The professional services contribution margin was 5.8% and 9.1% for the first
six months of 2004 and 2003, respectively. The decrease in professional services
margin is primarily due to reduced customer demand for our services associated
with the decline of the economy as a whole and the IT sector specifically, while
the costs of professional services, many of which are fixed, did not decrease
proportionately.
Cost of professional services consists primarily of personnel-related costs of
providing services, including billable staff, subcontractors and sales
personnel. The decrease in these costs from the second quarter of 2003 to the
second quarter of 2004 is due, primarily, to reductions in staff, resulting in
lower salaries and benefits, decreased travel, and decreased use of
subcontractors for special services. The professional billable staff decreased
526 people to 4,897 people as of September 30, 2003 from 5,423 people at
September 30, 2002. In late October 2003, we implemented cost reduction
strategies. We expect these measures to result in a reduction of professional
services costs totaling approximately $6.5 million during the third quarter and
$11.2 million during the fourth quarter.
CORPORATE AND OTHER EXPENSES
Administrative and general expenses consist of costs associated with the
operations and administration of the Company. These costs include the corporate
executive, finance, human resources, legal and corporate communications
departments. In addition, administrative and general costs include all
facility-related costs, such as rent, building depreciation, maintenance,
utilities, etc., associated with our local sales and professional services
offices. Administrative and general expenses increased $7.7 million, or 16.4%
during the second quarter of 2004 to $54.6 million from $46.9 million during the
second quarter of 2003, and increased $16.1 million or 17.6% during the first
six months of 2004 to $107.8 million from $91.7 million in the first six
19
COMPUWARE CORPORATION AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
(CONTINUED)
months of 2003. External legal fees for all litigation, including IBM and other
matters were $11.7 million and $3.9 million in the second quarter of 2004 and
2003, respectively, and $24.1 million and $7.0 million in the first six months
of 2004 and 2003, respectively. In late October 2003, we implemented cost
reduction strategies. We expect these measures to result in a reduction to
administrative and general costs totaling approximately $3.2 million during the
third quarter and $2.2 million during the fourth quarter.
Income taxes are accounted for using the asset and liability approach. Deferred
income taxes are provided for the differences between the tax bases of assets or
liabilities and their reported amounts in the financial statements. The income
tax benefit was $3.3 million in the second quarter of 2004 and $2.3 million for
the first six months of 2004, which represents an effective tax rate of 28%.
This compares to an income tax provision of $17.4 million in the second quarter
of 2003 and $29.0 million for the first six months of 2003, which represents an
effective tax rate of 34%. The decrease in the effective tax rate is primarily
due to the greater effect from certain tax benefit items with the decline in
income and the favorable settlements of certain tax issues.
RESTRUCTURING CHARGE
In the fourth quarter of 2002, we adopted a restructuring plan to reorganize our
operating divisions, primarily the professional services segment. These changes
were designed to increase profitability in the future by better aligning cost
structures with current market conditions.
The restructuring plan included a reduction of professional services staff at
certain locations, the closing of entire professional services offices and a
reduction of sales support personnel, lab technicians and related administrative
and financial staff. Approximately 1,600 employees worldwide were terminated as
a result of the reorganization. Payments continue to be made to certain
terminated employees in accordance with their agreements.
The following table summarizes the restructuring accrual as of March 31, 2003,
and charges against the accrual during the first and second quarters of fiscal
2004 (in thousands):
Charges against Charges against
Balance at the accrual during the accrual during Balance at
March 31, the quarter ended the quarter ended September 30,
2003 June 30, 2003 September 30, 2003 2003
--------------- ------------------ ------------------ ---------------
Employee termination benefits $ 698 $ 346 $ 73 $ 279
Facilities costs (primarily lease
abandonments) 19,088 1,636 1,474 15,978
Legal, consulting and
outplacement costs 15 4 1 10
--------------- ------------------ ------------------ ---------------
Total restructuring accrual $ 19,801 $ 1,986 $ 1,548 $ 16,267
=============== ================== ================== ===============
20
COMPUWARE CORPORATION AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
(CONTINUED)
MANAGEMENT'S DISCUSSION OF CRITICAL ACCOUNTING POLICIES
Our consolidated financial statements are prepared in accordance with accounting
principles generally accepted in the United States. The preparation of these
financial statements requires us to make estimates and judgments that affect the
reported amounts of assets and liabilities and disclosure of contingent assets
and liabilities at the date of the financial statements and the reported amounts
of revenues and expenses during the reporting period. Assumptions and estimates
were based on the facts and circumstances known at September 30, 2003. However,
future events rarely develop exactly as forecast, and the best estimates
routinely require adjustment. The accounting policies discussed in Item 7 of our
Annual Report on Form 10-K are considered by management to be the most important
to an understanding of the financial statements, because their application
places the most significant demands on management's judgment and estimates about
the effect of matters that are inherently uncertain. These policies are also
discussed in Note 1 of the Notes to Consolidated Financial Statements included
in Item 8 of that report. There have been no material changes to that
information during the second quarter of 2004.
LIQUIDITY AND CAPITAL RESOURCES
As of September 30, 2003, cash and investments totaled approximately $643.8
million. During the first six months of 2004 and 2003, cash flow from operations
was $103.8 million and $169.3 million, respectively. The decrease was primarily
due to lower collections on customer receivables due to the general decline in
revenue over the last two years. During these periods, capital expenditures
including property and equipment, capitalized research and software development,
and purchased software totaled $49.9 million and $94.5 million, respectively.
On May 2, 2003, we entered into a $100 million revolving credit facility
maturing in 364 days. If at any time the combined unencumbered liquid assets of
the Company (as defined in the credit facility) are less than $200 million, the
credit facility will be reduced to $50 million. Interest is payable at 1% over
the Eurodollar rate or at the prime rate, at the Company's option. No borrowings
have occurred or are planned under this facility. The terms of the credit
facility contain, among other provisions, a covenant to maintain a minimum $1
billion consolidated net worth, and specific limitations on additional
indebtedness, liens and merger activity.
On May 6, 2003, the Board of Directors authorized the repurchase of up to $125
million of our common stock. Purchases of stock occur on the open market,
through negotiated or block transactions, periodically, based upon market and
business conditions. We regularly evaluate market conditions for an opportunity
to repurchase our stock. During the second quarter of 2004, we repurchased
200,500 shares of our common stock under this program.
Although there were no acquisitions during the second quarter of 2004,
management continues to evaluate business acquisition opportunities that fit our
strategic plans.
We have relocated to our new corporate headquarters building. Final construction
is continuing with total estimated costs of $350 million for the building and
$50 million for furniture and fixtures. Annual depreciation expense is
approximately $16 million. This is partially offset by the savings realized by
the consolidation of our metro Detroit offices. The remaining cash outlays of
approximately $33 million are expected to occur in the third quarter of fiscal
2004 and are intended to be funded using cash on hand and cash flow from
operations.
21
COMPUWARE CORPORATION AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
(CONTINUED)
In July 2003 we entered into an option and purchase agreement for our recently
vacated building in Farmington Hills, Michigan. For one year after the execution
of this agreement, the holder has the option to purchase the building. The
option selling price of the building approximates the current net book value of
$20 million for the building. If exercised, the holder would pay $5 million upon
exercise and the remaining balance in five years with interest being paid
monthly at 7% of the unpaid balance.
As discussed in Note 6 to the condensed consolidated financial statements, we
regularly review the financial condition of our partially owned companies,
inclusive of considering the companies' relationships with their major
customers, to determine that the recorded amounts are appropriate and the
investments (inclusive of the debt obligations) are not impaired. CareTech's
most significant customer is the Detroit Medical Center and Subsidiaries (DMC).
The DMC has publicly announced it is having financial difficulties. After
consideration of all relevant factors, we concluded that no impairment charge or
valuation allowance related to our investment in and receivables due from
CareTech should be recorded at September 30, 2003. Nonetheless, it is reasonably
possible that the estimate of cash flows may change in the near term resulting
in the need to writedown the investment to fair value and/or record a valuation
allowance related to the receivables. At September 30, 2003, our total
investment at risk associated with CareTech is $19.3 million, consisting of an
equity investment recorded value of negative $1.3 million, a note receivable
balance due from CareTech of $16.5 million and accounts receivable due from
CareTech of $4.1 million. Additionally, if CareTech's situation changes and we
agree to extend additional credit or loans to CareTech to support their cash
flow needs, CareTech may be considered a variable interest entity and we may
need to consolidate CareTech's operations with our other subsidiaries.
We believe available cash resources together with cash flow from operations,
will be sufficient to meet cash needs for the foreseeable future.
22
COMPUWARE CORPORATION AND SUBSIDIARIES
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We are exposed primarily to market risks associated with movements in interest
rates and foreign currency exchange rates. There have been no material changes
to our foreign exchange risk management strategy or our investment standards
subsequent to March 31, 2003, therefore the market risks remain substantially
unchanged since we filed the Annual Report on Form 10-K for the fiscal year
ending March 31, 2003.
ITEM 4. CONTROLS AND PROCEDURES
As of the end of the period covered by this report, we carried out an
evaluation, under the supervision and with the participation of our management,
including our Chief Executive Officer and Chief Financial Officer, of the
effectiveness of the design and operation of our disclosure controls and
procedures pursuant to Rule 13a-15 of the Securities Exchange Act of 1934. Based
upon that evaluation, our Chief Executive Officer and Chief Financial Officer
concluded that our disclosure controls and procedures are effective to cause the
material information we are required to disclose in the reports that we file or
submit under the Securities Exchange Act of 1934 to be recorded, processed,
summarized and reported within the time periods specified in the Commission's
rules and forms. There have been no changes in the Company's internal controls
over financial reporting during the quarter ended September 30, 2003 that have
materially affected, or are reasonably likely to materially affect, the
Company's internal controls over financial reporting.
23
COMPUWARE CORPORATION AND SUBSIDIARIES
PART II - OTHER INFORMATION
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The Annual Meeting of Shareholders was held on August 26, 2003 at the Company's
headquarters. The only matter voted upon at the meeting was the election of
directors. Each of the nominees was elected to hold office for one year until
the 2004 Annual Meeting of Shareholders or until their successors are elected
and qualified. The results of the voting at the meeting are as follows:
Nominee for Director Total Votes For Total Votes Withheld
-------------------- --------------- --------------------
Dennis W. Archer 321,466,243 19,806,929
Gurminder S. Bedi 324,571,643 16,701,529
Elizabeth A. Chappell 314,233,577 27,039,595
Elaine K. Didier 315,483,024 25,790,148
William O. Grabe 322,161,644 19,111,528
William R. Halling 315,567,518 25,705,654
Peter Karmanos, Jr. 319,152,184 22,120,988
Faye Alexander Nelson 317,820,777 23,452,395
Glenda D. Price 314,698,949 26,574,223
W. James Prowse 263,325,750 77,947,422
G. Scott Romney 324,057,640 17,215,532
Lowell P. Weicker, Jr. 321,117,246 20,155,926
The total number of the Company's common shares issued and outstanding and
entitled to be voted at the Annual Meeting was 382,682,011 shares. The total
number of shares voted at the Annual Meeting was 341,273,172 or 89.2% of the
shares outstanding and eligible to vote.
24
COMPUWARE CORPORATION AND SUBSIDIARIES
PART II - OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits.
Exhibit
Number Description of Document
------ -----------------------
15 Independent Accountants' Awareness Letter
31.1 Certification of Chief Executive Officer pursuant to
Rule 13a-14(a) of the Securities Exchange Act.
31.2 Certification of Chief Financial Officer pursuant to
Rule 13a-14(a) of the Securities Exchange Act.
32 Certification pursuant to 18 U.S.C. Section 1350 and
Rule 13a-14(b) of the Securities Exchange Act.
(b) Reports on Form 8-K.
A Current Report on Form 8-K pursuant to Items 5 and 12 was
filed on September 3, 2003 reporting that on September 2, 2003
the Company issued a press release announcing that President
Joseph A. Nathan will retire from the Company on September 30,
2003. No financial statements were filed with this report.
A Current Report on Form 8-K pursuant to Items 9 and 12 was
filed on July 24, 2003 reporting that on July 22, 2003, the
Company issued a press release announcing financial results
for the fiscal quarter ended June 30, 2003 and certain other
information. The information was considered furnished, rather
than filed. No financial statements were filed with this
report.
A Current Report on Form 8-K pursuant to Items 9 and 12 was
filed on July 16, 2003 reporting that on July 11, 2003, the
Company issued a press release announcing preliminary
financial results for the fiscal quarter ended June 30, 2003
and certain other information. The information was considered
furnished, rather than filed. No financial statements were
filed with this report.
25
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.
COMPUWARE CORPORATION
Date: November 12, 2003 By: /s/ Peter Karmanos, Jr.
----------------- -----------------------
Peter Karmanos, Jr.
Chief Executive Officer
(duly authorized officer)
Date: November 12, 2003 By: /s/ Laura L. Fournier
----------------- -----------------------
Laura L. Fournier
Senior Vice President
Chief Financial Officer
26
EXHIBIT INDEX
Exhibit
Number Description of Document
------ -----------------------
15 Independent Accountants' Awareness Letter
31.1 Certification of Chief Executive Officer pursuant to
Rule 13a-14(a) of the Securities Exchange Act.
31.2 Certification of Chief Financial Officer pursuant to
Rule 13a-14(a) of the Securities Exchange Act.
32 Certification pursuant to 18 U.S.C. Section 1350 and
Rule 13a-14(b) of the Securities Exchange Act.