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 JUNE 30, 2005
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 000-20900
COMPUWARE CORPORATION
---------------------
(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 August 1, 2005, there were outstanding 388,065,541 shares of Common Stock,
par value $.01, of the registrant.
Page 1 of 31 pages
Page
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PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Condensed Consolidated Balance Sheets as of
June 30, 2005 and March 31, 2005 3
Condensed Consolidated Statements of Operations
for the three months ended June 30, 2005 and 2004 4
Condensed Consolidated Statements of Cash Flows
for the three months ended June 30, 2005 and 2004 5
Notes to Condensed Consolidated Financial
Statements 6
Report of Independent Registered Public Accounting Firm 17
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 18
Item 3. Quantitative and Qualitative Disclosures about Market Risk 28
Item 4. Controls and Procedures 28
PART II. OTHER INFORMATION
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 29
Item 6. Exhibits 30
SIGNATURES 31
2
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
COMPUWARE CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
JUNE 30, MARCH 31,
ASSETS 2005 2005
---------- ----------
(UNAUDITED)
CURRENT ASSETS:
Cash and cash equivalents $ 517,283 $ 497,687
Investments 297,808 299,715
Accounts receivable, net 410,350 448,611
Deferred tax asset, net 30,905 35,726
Income taxes refundable, net 36,278 32,609
Prepaid expenses and other current assets 27,181 24,369
Building - held for sale 19,702 19,702
---------- ----------
Total current assets 1,339,507 1,358,419
---------- ----------
INVESTMENTS 48,761 69,169
---------- ----------
PROPERTY AND EQUIPMENT, LESS ACCUMULATED
DEPRECIATION AND AMORTIZATION 409,368 418,241
---------- ----------
CAPITALIZED SOFTWARE, LESS ACCUMULATED
AMORTIZATION 58,313 54,043
---------- ----------
OTHER:
Accounts receivable 235,856 248,686
Deferred tax asset, net 1,804
Goodwill 319,445 293,391
Other 35,688 34,465
---------- ----------
Total other assets 590,989 578,346
---------- ----------
TOTAL ASSETS $2,446,938 $2,478,218
========== ==========
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable $ 22,094 $ 36,439
Accrued expenses 140,594 168,600
Deferred revenue 397,940 373,157
---------- ----------
Total current liabilities 560,628 578,196
DEFERRED REVENUE 332,591 364,270
ACCRUED EXPENSES 17,304 19,597
DEFERRED TAX LIABILITY, NET 2,129
---------- ----------
Total liabilities 912,652 962,063
---------- ----------
SHAREHOLDERS' EQUITY:
Common stock 3,877 3,884
Additional paid-in capital 748,264 744,747
Retained earnings 774,434 757,597
Foreign currency translation adjustment 7,711 9,927
---------- ----------
Total shareholders' equity 1,534,286 1,516,155
---------- ----------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $2,446,938 $2,478,218
========== ==========
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
JUNE 30,
------------------------------
2005 2004
-------------- --------------
REVENUES:
Software license fees $ 68,022 $ 54,103
Maintenance fees 107,374 103,501
Professional services fees 121,932 129,449
-------------- --------------
Total revenues 297,328 287,053
-------------- --------------
OPERATING EXPENSES:
Cost of software license fees 5,687 7,809
Cost of professional services 106,245 118,850
Technology development and support 35,653 40,891
Sales and marketing 72,037 70,733
Administrative and general 48,229 51,691
-------------- --------------
Total operating expenses 267,851 289,974
-------------- --------------
INCOME (LOSS) FROM OPERATIONS 29,477 (2,921)
OTHER INCOME 6,733 3,816
-------------- --------------
INCOME BEFORE INCOME TAXES 36,210 895
INCOME TAX PROVISION 11,587 251
-------------- --------------
NET INCOME $ 24,623 $ 644
============== ==============
Basic earnings per share $ 0.06 $ 0.00
============== ==============
Diluted earnings per share $ 0.06 $ 0.00
============== ==============
See notes to condensed consolidated financial statements.
4
COMPUWARE CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
THREE MONTHS ENDED
JUNE 30,
-------------------------
2005 2004
---------- ----------
CASH FLOWS PROVIDED BY OPERATING ACTIVITIES:
Net income $ 24,623 $ 644
Adjustments to reconcile net income to cash provided
by operations:
Depreciation and amortization 12,842 15,199
Tax benefit from exercise of stock options 508 227
Issuance of common stock to ESOP 4,872
Acquisition tax benefits 1,751 1,802
Deferred income taxes 7,280 6,001
Other 4,469 545
Net change in assets and liabilities, net of
effects from acquisitions:
Accounts receivable 38,350 45,971
Prepaid expenses and other current assets (2,705) (3,685)
Other assets (680) 497
Accounts payable and accrued expenses (40,784) (40,569)
Deferred revenue 6,461 14,253
Income taxes (3,482) (15,785)
---------- ----------
Net cash provided by operating activities 48,633 29,972
---------- ----------
CASH FLOWS USED IN INVESTING ACTIVITIES:
Purchase of:
Businesses, net of cash acquired (30,917) (96,993)
Property and equipment (3,120) (3,952)
Capitalized software (5,324) (3,013)
Investments:
Proceeds 100,904 71,306
Purchases (79,077) (81,147)
---------- ----------
Net cash used in investing activities (17,534) (113,799)
---------- ----------
CASH FLOWS PROVIDED BY (USED IN) FINANCING ACTIVITIES:
Net proceeds from exercise of stock options 1,774 892
Contribution to stock purchase plans 2,405 2,206
Repurchase of common stock (10,770)
---------- ----------
Net cash provided by (used in)
financing activities (6,591) 3,098
---------- ----------
EFFECT OF EXCHANGE RATE CHANGES ON CASH (4,912) (509)
---------- ----------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 19,596 (81,238)
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 497,687 454,916
---------- ----------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 517,283 $ 373,678
========== ==========
See notes to condensed consolidated financial statements.
5
COMPUWARE CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
THREE MONTHS ENDED JUNE 30, 2005
(UNAUDITED)
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 ("GAAP") 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 notes required by GAAP 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
existing at June 30, 2005, final amounts may differ from these 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, 2005 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, 2005 has
been derived from the audited financial statements at that date but does not
include all information and footnotes required by GAAP for complete financial
statements. The results of operations for interim periods are not necessarily
indicative of actual results achieved for full fiscal years.
Certain amounts in the fiscal 2005 financial statements have been reclassified
to conform to the fiscal 2006 presentation. These reclassifications do not
affect net income and are immaterial to the financial statements overall.
Revenue Recognition - The Company earns revenue from licensing software
products, providing maintenance and support for those products and rendering
professional services. The Company's revenue recognition policies are consistent
with U.S. GAAP including Statements of Position 97-2 "Software Revenue
Recognition" and 98-9 "Modification of SOP 97-2, "Software Revenue Recognition,"
With Respect to Certain Transactions", Securities and Exchange Commission Staff
Accounting Bulletin 104 and Emerging Issues Task Force Issue 00-21 "Revenue
Arrangements with Multiple Deliverables". Accordingly, the Company recognizes
revenue when all of the following criteria are met: persuasive evidence of an
arrangement exists, delivery has occurred or services have been rendered, the
fee is fixed or determinable, and collectibility is reasonably assured.
Software license fees - The Company's software license agreements provide its
customers with a right to use its software perpetually (perpetual licenses) or
during a defined term (term licenses). Perpetual license fee revenue is
recognized using the residual method under which the fair value, based on vendor
specific objective evidence (VSOE), of all undelivered elements of the agreement
(e.g., maintenance and professional services) is deferred. VSOE is based on
rates charged for maintenance and professional services when sold separately.
The remaining portion of the fee, net of discretionary discounts (the residual),
is recognized as license fee revenue upon shipment of the products, provided
that no significant obligations remain and collection of the related receivable
is deemed probable. For term licenses and for agreements in which the fair value
of the undelivered elements cannot be determined using VSOE (e.g.,
6
COMPUWARE CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
THREE MONTHS ENDED JUNE 30, 2005
(UNAUDITED)
transactions that include an option to exchange or select products in the
future), the Company recognizes the license fee revenue on a ratable basis over
the term of the license agreement.
The Company offers flexibility to customers purchasing licenses for its products
and related maintenance. Terms of these transactions range from standard
perpetual license sales to large multi-year (generally two to five years),
multi-product contracts. The Company allows deferred payment terms on multi-year
contracts, with installments collectible over the term of the contract. Based on
the Company's successful collection history for deferred payments, the license
fee portion of the receivable is discounted to its net present value and
recognized as discussed above. The discount is recognized as interest income
over the term of the receivables.
Maintenance fees - The Company's maintenance agreements provide for technical
support and advice, including problem resolution services and assistance in
product installation, error corrections and any product enhancements released
during the maintenance period. Maintenance is included with all license
agreements for up to one year. Maintenance is renewable thereafter for an annual
fee. Maintenance fees are deferred and recognized as revenue on a ratable basis
over the maintenance period.
Professional services fees - Professional services fees are generally based on
hourly or daily rates; therefore, revenues from professional services are
recognized in the period the services are performed, provided that collection of
the related receivable is deemed probable. However, for software development
services rendered under fixed-price contracts, revenue is recognized using the
percentage of completion method. Certain professional services contracts include
up-front implementation services and on-going support for the project. Revenue
associated with these contracts is recognized over the support period as the
customer derives value from the services, consistent with the proportional
performance method.
Capitalized Software - Capitalized software includes the costs of purchased and
internally developed software products and is stated at the lower of unamortized
cost or net realizable value. Capitalization of internally developed software
products begins when technological feasibility of the product is established.
Technology development and support includes primarily the costs of programming
personnel associated with product development and support net of amounts
capitalized.
The amortization for both internally developed and purchased software products
is computed on a product-by-product basis. The annual amortization is the
greater of the amount computed using (a) the ratio of current gross revenues
compared with the total of current and anticipated future revenues for that
product or (b) the straight-line method over the remaining estimated economic
life of the product, including the period being reported on. Amortization begins
when the product is available for general release to customers. The amortization
period for capitalized software is generally five years.
7
COMPUWARE CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
THREE MONTHS ENDED JUNE 30, 2005
(UNAUDITED)
Goodwill - Goodwill and those intangible assets with indefinite lives are tested
for impairment annually and/or when events or circumstances indicate that their
fair value has been reduced below carrying value. The Company evaluated its
goodwill as of March 31, 2005 and determined there was no impairment.
Income Taxes - The Company accounts for income taxes 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.
Stock-Based Compensation - Through June 30, 2005, in accordance with SFAS No.
148, "Accounting for Stock-Based Compensation - Transition and Disclosure - an
amendment of FASB Statement No. 123" and SFAS No. 123, "Accounting for
Stock-Based Compensation", the Company applied APB Opinion No. 25 and related
Interpretations in accounting for its plans. Stock options are granted at
current market prices at the date of grant. Therefore, no compensation cost has
been recognized for the Company's fixed stock option plans or its stock purchase
plans.
If compensation cost for the Company's stock-based compensation plans had been
determined based on the fair value at the grant dates for the three months ended
June 30, 2005 and 2004, consistent with the method prescribed by SFAS No. 123,
the Company's net income and earnings per share would have been adjusted to the
pro forma amounts indicated below (in thousands, except earnings (loss) per
share data):
Three Months Ended
June 30,
--------------------------
2005 2004
---------- ----------
Net income:
As reported $ 24,623 $ 644
Compensation cost, net of tax (2,494) (7,268)
---------- ----------
Pro forma $ 22,129 $ (6,624)
========== ==========
Earnings (loss) per share:
As reported:
Basic earnings per share $ 0.06 $ 0.00
Diluted earnings per share 0.06 0.00
Pro forma:
Basic earnings (loss) per share 0.06 (0.02)
Diluted earnings (loss) per share 0.06 (0.02)
The pro forma amounts for compensation cost may not be indicative of the effects
on net income and earnings per share for future years.
Under SFAS No. 123, the fair value of each option grant is estimated on the date
of grant using the Black-Scholes option-pricing model with the following
weighted-average assumptions for grants in the first quarter of fiscal 2006 and
2005, respectively: expected volatility of 74.27% and 47.79%; risk-free interest
rates of 3.61% and 3.91%; and expected lives at date of grant of 5.0 years.
Dividend yields were not a factor as the Company has never issued cash
dividends. The weighted-average fair value of the option rights granted during
the first quarter of fiscal 2006 and 2005 was $4.32 and $3.48, respectively.
8
COMPUWARE CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
THREE MONTHS ENDED JUNE 30, 2005
(UNAUDITED)
Under SFAS No. 123, the fair value of the employees' stock purchase rights
acquired by participation in the Employee Stock Purchase Plan were estimated
using the Black-Scholes model with assumptions comparable to the stock option
plans above. The weighted-average fair value of the purchase rights granted in
the first quarter of fiscal 2006 was $1.44.
NOTE 2 - ACQUISITIONS
In May 2005, the Company acquired Adlex, Inc., a privately owned software
company that helps companies manage the quality of service that business
critical applications deliver to end users, for approximately $36.0 million in
cash. The acquisition has been accounted for using the purchase method in
accordance with SFAS No. 141, "Business Combinations" and, accordingly, the
assets and liabilities acquired have been recorded at preliminary fair value as
of the acquisition date. The purchase price exceeded the fair value of the
acquired assets and liabilities by $26.2 million and was recorded to goodwill.
Intangible assets subject to amortization totaled $5.4 million of which $3.5
million and $1.5 million, respectively, related to purchased software and
customer relationships each with a useful life of five years. The remaining
intangible assets subject to amortization have a useful life of two years.
In October 2004, the Company acquired certain assets and liabilities of
DevStream Corporation ("DevStream"), a privately owned software company, for $8
million in cash and estimated future payments of $1.9 million. The additional
payments will be calculated based on a percentage of the revenue associated with
the DevStream products during the first 27 months after the acquisition date.
The acquisition has been accounted for as a purchase and, accordingly, the
assets and liabilities acquired have been recorded at fair value as of the
acquisition date.
In May 2004, the Company acquired privately held Changepoint Corporation, a
market-leading provider of IT Governance application software for approximately
$100 million in cash. The acquisition has been accounted for as a purchase and,
accordingly, assets and liabilities acquired have been recorded at fair value as
of the acquisition date.
9
COMPUWARE CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
THREE MONTHS ENDED JUNE 30, 2005
(UNAUDITED)
NOTE 3 - COMPUTATION OF EARNINGS PER COMMON SHARE
Earnings per common share data were computed as follows (in thousands, except
for per share data):
Three Months Ended
June 30,
---------------------
2005 2004
-------- --------
BASIC EARNINGS PER SHARE:
Numerator: Net income $ 24,623 $ 644
-------- --------
Denominator:
Weighted-average common shares outstanding 388,243 385,584
-------- --------
Basic earnings per share $ 0.06 $ 0.00
======== ========
DILUTED EARNINGS PER SHARE:
Numerator: Net income $ 24,623 $ 644
-------- --------
Denominator:
Weighted-average common shares outstanding 388,243 385,584
Dilutive effect of stock options 1,680 2,842
-------- --------
Total shares 389,923 388,426
-------- --------
Diluted earnings per share $ 0.06 $ 0.00
======== ========
During the three months ended June 30, 2005, stock options to purchase a total
of approximately 58,121,000 shares were excluded from the diluted earnings per
share calculation because they were anti-dilutive. During the three months ended
June 30, 2004, stock options and a warrant to purchase a total of approximately
54,810,000 shares were excluded from the diluted earnings per share calculation
because they were anti-dilutive.
10
COMPUWARE CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
THREE MONTHS ENDED JUNE 30, 2005
(UNAUDITED)
NOTE 4 - COMPREHENSIVE INCOME (LOSS)
Other comprehensive income (loss) includes foreign currency translation gains
and losses that have been excluded from net income and reflected in equity.
Total comprehensive income (loss) is summarized as follows (in thousands):
Three Months Ended
June 30,
----------------------
2005 2004
-------- --------
Net income $ 24,623 $ 644
Foreign currency translation
adjustment, net of tax (2,216) (3,153)
-------- --------
Total comprehensive income (loss) $ 22,407 $ (2,509)
======== ========
11
COMPUWARE CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
THREE MONTHS ENDED JUNE 30, 2005
(UNAUDITED)
NOTE 5 - GOODWILL AND INTANGIBLE ASSETS
The components of the Company's intangible assets were as follows (in
thousands):
June 30, 2005
-----------------------------------------------------
Gross Carrying Accumulated Net Carrying
Amount Amortization Amount
-------------- -------------- --------------
Unamortized intangible assets:
Trademarks (1) $ 5,809 $ 5,809
============== ============== ==============
Amortized intangible assets:
Capitalized software (2) $ 278,730 $ (220,417) $ 58,313
Customer relationship
agreements (3) 6,607 (1,217) 5,390
Non-compete agreements (3) 1,910 (639) 1,271
Other (4) 7,285 (5,240) 2,045
-------------- -------------- --------------
Total amortized intangible assets $ 294,532 $ (227,513) $ 67,019
============== ============== ==============
March 31, 2005
-----------------------------------------------------
Gross Carrying Accumulated Net Carrying
Amount Amortization Amount
-------------- -------------- --------------
Unamortized intangible assets:
Trademarks (1) $ 5,821 $ 5,821
============== ============== ==============
Amortized intangible assets:
Capitalized software (2) $ 269,912 $ (215,869) $ 54,043
Customer relationship
agreements (3) 5,123 (939) 4,184
Non-compete agreements (3) 1,626 (497) 1,129
Other (4) 7,185 (5,071) 2,114
-------------- -------------- --------------
Total amortized intangible assets $ 283,846 $ (222,376) $ 61,470
============== ============== ==============
(1) Certain trademarks were acquired as part of the Covisint and Changepoint
acquisitions in fiscal 2004 and 2005. These trademarks are deemed to have
an indefinite life and therefore are not being amortized.
(2) Amortization of capitalized software is included in "cost of software
license fees" in the consolidated statements of operations. Capitalized
software is generally amortized over five years.
(3) Customer relationship agreements and non-compete agreements were acquired
as part of the Adlex acquisition in fiscal 2006 and Changepoint acquisition
in fiscal 2005. The customer relationship agreements are being amortized
over five years. The non-compete agreements are being amortized over three
years.
(4) Other amortized intangible assets include trademarks associated with past
product acquisitions with a useful life of ten years, trademarks associated
with the Adlex acquisition with a useful life of two years and Covisint
customer contracts that have a useful life of three years.
12
COMPUWARE CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
THREE MONTHS ENDED JUNE 30, 2005
(UNAUDITED)
Changes in the carrying amounts of goodwill for the three months ended June 30,
2005 were as follows (in thousands):
Goodwill: Products Services Total
--------- --------- ---------
Balance at March 31, 2005, net $ 152,044 $ 141,347 $ 293,391
Acquisition 26,244 26,244
Adjustments to previously recorded
purchase price 49 49
Effect of foreign currency
translation (2) (237) (239)
--------- --------- ---------
Balance at June 30, 2005, net $ 178,335 $ 141,110 $ 319,445
========= ========= =========
13
COMPUWARE CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
THREE MONTHS ENDED JUNE 30, 2005
(UNAUDITED)
NOTE 6 - SEGMENTS
The Company 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
June 30,
------------------------
2005 2004
--------- ---------
Revenues:
Products:
Mainframe $ 123,376 $ 113,736
Distributed systems 52,020 43,868
--------- ---------
Total product revenue 175,396 157,604
Professional services 121,932 129,449
--------- ---------
Total revenues $ 297,328 $ 287,053
========= =========
Operating expenses:
Products $ 113,377 $ 119,433
Professional services 106,245 118,850
Administrative and general 48,229 51,691
--------- ---------
Total operating expenses $ 267,851 $ 289,974
========= =========
Income (loss) from operations before other income:
Products $ 62,019 $ 38,171
Professional services 15,687 10,599
Administrative and general (48,229) (51,691)
--------- ---------
Income (loss) from operations
before other income 29,477 (2,921)
Other income 6,733 3,816
--------- ---------
Income before income taxes $ 36,210 $ 895
========= =========
Financial information regarding geographic operations is presented in the table
below (in thousands):
Three Months Ended
June 30,
-----------------------
2005 2004
--------- ---------
Revenues:
United States $ 199,481 $ 203,550
Europe and Africa 75,483 64,144
Other international operations 22,364 19,359
--------- ---------
Total revenues $ 297,328 $ 287,053
========= =========
14
COMPUWARE CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
THREE MONTHS ENDED JUNE 30, 2005
(UNAUDITED)
NOTE 7 - RESTRUCTURING ACCRUAL
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.
The following table summarizes the restructuring accrual as of March 31, 2005,
and charges against the accrual during the first three months of fiscal 2006 (in
thousands):
Charges and
adjustments against
Balance at the accrual during Balance at
March 31, the quarter ended June 30,
2005 June 30, 2005 (a) 2005
----------- ------------------- ----------
Employee termination benefits $ 25 $ 15 $ 10
Facilities costs (primarily lease
abandonments) 10,793 1,463 9,330
Legal, consulting and
outplacement costs 10 10 -
----------- ------------------- ----------
Total restructuring accrual $ 10,828 $ 1,488 $ 9,340
=========== =================== ==========
(a) During the first quarter of 2006, the Company recorded a reduction of
$846,000 in the restructuring accrual related to subleases of abandoned
lease space in excess of what was originally anticipated. The adjustment
was included in administrative and general expense.
15
COMPUWARE CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
THREE MONTHS ENDED JUNE 30, 2005
(UNAUDITED)
NOTE 8 - CONTINGENCIES
The Company and one of its employees are parties to a libel lawsuit filed in
April 2002 by two former employees titled Mary McCarthy O'Lee and Aidan O'Lee v.
Compuware Corp., et al., Case No. 406409, Superior Court of the State of
California, City and County of San Francisco. Plaintiff alleged damages totaling
$1 million. The case was tried to a jury in late June and early July 2005. The
jury rendered a verdict against the Company and awarded plaintiffs a total of
$1.15 million in compensatory and $10 million in punitive damages. The Company
has filed post-trial motions with the trial court to set aside the verdict or to
order a new trial. Those motions are scheduled to be heard in mid-August 2005.
The Company believes its ultimate financial exposure in this matter will be
significantly less than the amount awarded by the jury. As of June 30, 2005, the
Company has accrued a portion of the compensatory damages as the estimated
probable amount for this verdict.
The Company is subject to various other legal proceedings and claims, either
asserted or unasserted, which arise in the ordinary course of business. The
Company does not believe that the outcome of any of these legal matters,
including those discussed above, will have a material adverse effect on the
Company's consolidated financial position or results of operations.
16
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Compuware Corporation:
We have reviewed the accompanying condensed consolidated balance sheet of
Compuware Corporation and subsidiaries (the "Company") as of June 30, 2005, and
the related condensed consolidated statements of operations and of cash flows
for the three-month periods ended June 30, 2005 and 2004. These consolidated
interim financial statements are the responsibility of the Company's management.
We conducted our reviews in accordance with standards of the Public Company
Accounting Oversight Board (United States). 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 standards
of the Public Company Accounting Oversight Board (United States), 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 interim 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 standards of the Public Company
Accounting Oversight Board (United States), the consolidated balance sheet of
the Company and subsidiaries as of March 31, 2005, and the related consolidated
statements of operations, shareholders' equity, and cash flows for the year then
ended (not presented herein); and in our report dated June 7, 2005, 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, 2005 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
August 5, 2005
17
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 2005 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.
- 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 International Business Machines Corp. ("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.
- There can be no assurance that 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 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.
- 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 Software Corp., 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 Ltd.,
Computer Sciences Corporation, Electronic Data Systems Corporation, IBM
Global Services, Analysts International Corporation, Keane, Inc., Infosys
Technologies 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 or acquire product
enhancements and new products that keep pace with continuing changes in
technology and customer preferences.
- Approximately 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.
18
COMPUWARE CORPORATION AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
(CONTINUED)
- 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 information technology ("IT") industry and to the varying
structure of customer arrangements and the associated revenue recognition
requirements.
- Changes in world economies could cause customers to 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.
19
COMPUWARE CORPORATION AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
(CONTINUED)
OVERVIEW
In this section, we discuss our results of operations on a segment basis for
each of our financial reporting segments. 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. This discussion and
analysis should be read in conjunction with the unaudited consolidated financial
statements and notes included elsewhere in this report and our annual report on
Form 10-K for the fiscal year ended March 31, 2005, particularly "Item 7 -
Management's Discussion and Analysis of Financial Condition and Results of
Operations".
We provide software products and professional services designed to increase the
productivity of the IT departments of businesses worldwide. In the early years
of our Company, we focused on offering professional services and mainframe
products in the testing and implementation environment where we gained extensive
experience and established long-term customer relationships. Over the past
several years, we have expanded our presence into products and professional
services in the IT governance, development, quality assurance, management and
support areas of the application life cycle for all significant technology
platforms.
We focus on growing revenue and profit margins by enhancing and promoting our
current product lines, expanding our product and service offerings through key
acquisitions, developing strategic partnerships in order to provide clients with
our product solutions and managing our costs.
The following occurred during the first quarter of 2006:
- Released 4 mainframe and 4 distributed product updates designed to increase
the productivity of the IT departments of our customers.
- Acquired Adlex, Inc., a privately owned software company that helps
companies manage the quality of service that business critical applications
deliver to end users.
- Achieved a products contribution margin of 35.4% in the first quarter of
2006 compared to 24.2% in the first quarter of 2005. The primary reason for
the improved contribution margin was a $12.2 million increase in mainframe
license revenue driven by our File-Aid, Abend-Aid and Strobe product lines.
- Achieved an 18.6% increase compared to the first quarter of 2005 in
distributed product revenue. The increase was a reflection of our continued
focus on promoting our distributed products and an expanding maintenance
base for those products.
- Improved the professional services margin from 8.2% in the first quarter of
2005 to 12.9% in the first quarter of 2006 through improved utilization of
professional services personnel and, to a lesser extent, a concerted effort
to reduce low margin subcontractor arrangements.
- Repurchased approximately 1.5 million shares of our common stock at an
average price of $6.97 per share.
These results were achieved without revenue or other income related to the IBM
agreement entered into in the fourth quarter of 2005. See Item 3 of our annual
report on Form 10-K for the fiscal year ended March 31, 2005 for a summary of
the agreement.
Our ability to achieve our strategies and objectives is subject to a number of
factors some of which we may not be able to control. See "Forward-Looking
Statements".
20
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
Total Revenues
------------------
Three Months Ended
June 30, Period-
------------------ to-Period
2005 2004 Change
------ ------ ---------
REVENUE:
Software license fees 22.9% 18.8% 25.7%
Maintenance fees 36.1 36.1 3.7
Professional services fees 41.0 45.1 (5.8)
------ ------
Total revenues 100.0 100.0 3.6
------ ------
OPERATING EXPENSES:
Cost of software license fees 1.9 2.7 (27.2)
Cost of professional services 35.8 41.5 (10.6)
Technology development and support 12.0 14.2 (12.8)
Sales and marketing 24.2 24.6 1.8
Administrative and general 16.2 18.1 (6.7)
------ ------
Total operating expenses 90.1 101.1 (7.6)
------ ------
Income (loss) from operations 9.9 (1.1) *
Other income 2.3 1.4 76.4
------ ------
Income before income taxes 12.2 0.3 *
Income tax provision 3.9 0.1 *
------ ------
Net income 8.3% 0.2% *
====== ======
* Not meaningful
SOFTWARE PRODUCTS
REVENUE
Our products are designed to support the complete application lifecycle:
development and integration, quality assurance, production readiness,
performance management and IT governance of the application to optimize
performance in production. Product revenue, which consists of software license
fees and maintenance fees, comprised 59.0% and 54.9% of total revenue during the
first quarter of 2006 and 2005, respectively.
Distributed software product revenue increased $8.1 million or 18.6% during the
first quarter of 2006 to $52.0 million from $43.9 million during the first
quarter of 2005. The increased revenue was primarily due to an increase of $6.5
million in maintenance revenue as the installed base of our distributed products
continues to expand.
Mainframe software product revenue increased $9.7 million or 8.5% during the
first quarter of 2006 to $123.4 million from $113.7 million during the first
quarter of 2005. The increased revenue was primarily due to an increase of $12.2
million in license revenue primarily related to
21
COMPUWARE CORPORATION AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
(CONTINUED)
our File-Aid, Strobe and Abend-Aid product lines. Part of this increase was
related to a large agreement including approximately $5.6 million of license
revenue during the first quarter of 2006. The increased license revenue was
partially offset by a $2.6 million decrease in mainframe maintenance revenue.
License revenue increased $13.9 million or 25.7% during the first quarter of
2006 to $68.0 million from $54.1 million during the first quarter of 2005.
License revenue increased $1.2 million compared to the first quarter of 2005 due
to fluctuations in foreign currencies. Excluding the favorable effect of foreign
currency fluctuations, license revenue increased 23.5% during the first quarter
of 2006. The increase was primarily related to File-Aid, Strobe and Abend-Aid
license revenue.
Maintenance fees increased $3.9 million or 3.7% to $107.4 million during the
first quarter of 2006 from $103.5 million during the first quarter of 2005.
Maintenance fees increased $1.6 million compared to the first quarter due to
fluctuations in foreign currencies. Excluding the favorable effect of foreign
currency fluctuations, maintenance fees increased 2.2% during the first quarter
of 2006. The increase was primarily due to increases in distributed maintenance
revenue, offset by a $2.6 million decrease in mainframe maintenance revenue.
Product revenue by geographic location is presented in the table below (in
thousands):
Three Months Ended
June 30,
-----------------------
2005 2004
--------- ---------
United States $ 94,866 $ 88,915
Europe and Africa 59,278 50,353
Other international operations 21,252 18,336
--------- ---------
Total product revenue $ 175,396 $ 157,604
========= =========
PRODUCT CONTRIBUTION AND EXPENSES
Financial information for the product segment is as follows (in thousands):
Three Months Ended
June 30,
-----------------------
2005 2004
--------- ---------
Revenue $ 175,396 $ 157,604
Expenses 113,377 119,433
--------- ---------
Product contribution $ 62,019 $ 38,171
========= =========
The product segment generated contribution margins of 35.4% and 24.2% during the
first quarter of 2006 and 2005, respectively. Product expenses include cost of
software license fees, technology development and support costs and sales and
marketing expenses. These expenses 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 8.4% and 14.4% in the
22
COMPUWARE CORPORATION AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
(CONTINUED)
first quarter of 2006 and 2005, respectively. The decrease in cost of software
license fees for the first quarter of 2006 was primarily attributable to a
reduction in amortization expense related to capitalized software acquired as a
result of the Programart acquisition that became fully amortized in September
2004.
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
20.3% and 25.9% in the first quarter of 2006 and 2005, respectively.
The decrease in technology development and support expense for the first quarter
of 2006 was primarily attributable to lower compensation and benefit costs of
approximately $3.8 million due to a reduction in average employee headcount and
$1.8 million due to increased capitalization of development costs associated
with new product releases that had reached technological feasibility
("capitalization phase"). Due to timing, a higher volume of projects were in the
capitalization phase during the first quarter of 2006 compared to the first
quarter of 2005.
Capitalization of internally developed software products begins when the
technological feasibility of the product is established. Before the
capitalization of internally developed software products, total research and
development expenditures for the first quarter of 2006 decreased $3.4 million,
or 7.7%, to $40.5 million from $43.9 million in the first quarter of 2005.
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
first quarter of 2006, sales and marketing costs increased $1.3 million, or
1.8%, to $72.0 million from $70.7 million in the first quarter of 2005. The
increase in sales and marketing costs for the first quarter was primarily
attributable to severance expense incurred in our European operations due to a
sales realignment that reduced headcount, partially offset by lower compensation
and benefit costs incurred in the United States due to lower average headcount
also associated with the sales realignment. As a percentage of product revenue,
sales and marketing costs were 41.1% and 44.9% in the first quarter of 2006 and
2005, respectively.
PROFESSIONAL SERVICES
REVENUE
We offer a broad range of IT services to help businesses make the most of their
IT assets. Some of these services include outsourcing and co-sourcing,
application management, product solutions, project management, enterprise
resource planning and customer relationship management services, and our unique
Compuware Application Reliability Solution, a comprehensive approach to
application quality assurance. Revenue from professional services decreased $7.5
million or 5.8% during the first quarter of 2006 to $121.9 million compared to
$129.4 million in the first quarter of 2005. The decrease in revenue for 2006
was primarily due to a reduction in subcontractor arrangements, along with a
strategic move away from non-core professional services such as helpdesk,
computer operations and non-technical project management. As we move forward, we
are focusing on higher margin project development services and combined product
and services solution arrangements.
23
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
June 30,
-----------------------
2005 2004
--------- ---------
United States $ 104,615 $ 114,635
Europe and Africa 16,205 13,791
Other international operations 1,112 1,023
--------- ---------
Total professional services revenue $ 121,932 $ 129,449
========= =========
PROFESSIONAL SERVICES CONTRIBUTION AND EXPENSES
Financial information for the professional services segment is as follows (in
thousands):
Three Months Ended
June 30,
-----------------------
2005 2004
--------- ---------
Revenue $ 121,932 $ 129,449
Expenses 106,245 118,850
--------- ---------
Professional services contribution $ 15,687 $ 10,599
========= =========
During the first quarter of 2006, the professional services segment generated a
contribution margin of 12.9%, compared to 8.2% during the first quarter of 2005.
The increase was primarily due to improved utilization of professional services
personnel and, to a lesser extent, ongoing efforts to reduce low margin
subcontractor projects.
Cost of professional services consists primarily of personnel-related costs of
providing services, including billable staff, subcontractors and sales
personnel. Cost of professional services decreased $12.7 million or 10.6% during
the first quarter of 2006 to $106.2 million compared to $118.9 million in the
first quarter of 2005. The decrease in cost for the first quarter of 2006 was
primarily attributable to lower compensation and benefit costs of approximately
$8.0 million and a decrease in subcontractor costs of approximately $4.2
million. Compensation and benefit costs were lower due to a reduction in average
employee headcount from the first three months of 2005 compared to the first
three months of 2006.
CORPORATE AND OTHER EXPENSES
Administrative and general expenses primarily consist of costs associated with
the corporate executive, finance, human resources, administrative, legal and
corporate communications departments. In addition, administrative and general
costs include all facility-related costs, such as rent, maintenance,
depreciation expense, utilities, etc., associated with worldwide sales and
professional services offices. Administrative and general expenses decreased
$3.5 million, or 6.7% during the first quarter of 2006 to $48.2 million from
$51.7 million during the first quarter of 2005. The decrease in cost for the
first three months of 2006 was primarily attributable to a decline in external
legal fees of approximately $7.3 million due to reduced legal costs
24
COMPUWARE CORPORATION AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
(CONTINUED)
associated with the IBM litigation partially offset by a write down of $3.9
million related to a purchased software application that management, at this
time, does not have plans to utilize.
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 provision was $11.6 million in the first quarter of 2006 and $251,000 for
the first quarter of 2005, which represents an effective tax rate of 32% and
28%, respectively. The increase in the effective tax rate from 2005 to 2006 is
primarily related to expected increases in income before income taxes. We have
reviewed the provisions of the American Jobs Creation Act of 2004 and do not
anticipate any changes to our effective tax rate as a result of this Act.
The effective income tax rates for the quarters ended June 30, 2005 and 2004 are
below the statutory rate due to the impact of certain tax benefits discussed in
Note 12 of the Consolidated Financial Statements included in Item 8 of our
Annual Report on Form 10-K for the year ended March 31, 2005. Changes in net
income or in the domestic/foreign composition of revenue may change the relative
effect of these tax benefits and could result in additional changes to the
effective income tax rate.
RESTRUCTURING ACCRUAL
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 by better aligning cost structures with
current market conditions. See Note 7 to the Condensed Consolidated Financial
Statements for changes in the restructuring accrual for the first three months
of 2006.
25
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 June 30, 2005. 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 for the year ended March 31, 2005 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 first three months
of 2006.
LIQUIDITY AND CAPITAL RESOURCES
As of June 30, 2005, cash and cash equivalents and investments totaled
approximately $863.9 million. During the first three months of 2006 and 2005,
cash flow from operations was $48.6 million and $30.0 million, respectively. The
increase was primarily due to a decrease in cash paid for salaries and benefits
due to lower headcount, primarily within the professional services and
technology development and support segments. During the first three months of
2006 and 2005, capital expenditures including property and equipment and
capitalized research and software development totaled $8.4 million and $7.0
million, respectively.
We hold a $100 million revolving credit facility that would have matured on July
28, 2005 (see Note 9 to the Consolidated Financial Statements included in our
Annual Report on Form 10-K for the year ended March 31, 2005 for a description
of the facility). During the second quarter of 2006, the credit facility was
extended through July 27, 2006 on the same terms. No borrowings have occurred
under this facility since inception.
During fiscal 2005, we implemented a plan to market and sell the former
headquarters building in Farmington Hills, Michigan. The building is classified
in current assets as held for sale. We evaluated whether the current carrying
value of the building was impaired and, based on an independent appraisal of the
building, concluded that no impairment charge should be recorded at June 30,
2005.
On May 6, 2003, the Board of Directors authorized the repurchase of up to $125
million of our common stock. Our purchases of stock may occur on the open
market, through negotiated or block transactions based upon market and business
conditions. During the first quarter of 2006, we repurchased approximately 1.5
million shares of our common stock under this program at an average price of
$6.97 per share. Approximately $113.2 million remains for future purchases under
this program.
In May 2005, we acquired privately held Adlex, Incorporated, a privately owned
software company that helps companies manage the quality of service that
business critical applications deliver to end users, for approximately $36
million in cash. The acquisition has been accounted
26
COMPUWARE CORPORATION AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
(CONTINUED)
for as a purchase and, accordingly, assets and liabilities acquired have been
recorded at preliminary fair value as of the acquisition date.
We continue to evaluate business acquisition opportunities that fit our
strategic plans.
We believe available cash resources, together with cash flow from operations,
will be sufficient to meet cash needs for the foreseeable future.
CONTRACTUAL OBLIGATIONS
Our contractual obligations are described in "Item 7 - Management's Discussion
and Analysis of Financial Condition and Results of Operations" contained in our
Annual Report on Form 10-K for the year ended March 31, 2005. Except as
described elsewhere in this report on Form 10-Q, there have been no material
changes to those obligations or arrangements outside of the ordinary course of
business during the first three months of 2006.
27
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, 2005, therefore the market risks remain substantially
unchanged since we filed the Annual Report on Form 10-K for the fiscal year
ending March 31, 2005.
ITEM 4. CONTROLS AND PROCEDURES
DISCLOSURE CONTROLS AND PROCEDURES
We maintain disclosure controls and procedures that are designed to ensure
material information required to be disclosed in our reports that we file or
submit under the Securities Exchange Act of 1934 is recorded, processed,
summarized, and reported within the time periods specified in the SEC's rules
and forms, and that such information is accumulated and communicated to our
management, including our Chief Executive Officer and Chief Financial Officer,
as appropriate, to allow timely decisions regarding required financial
disclosure. In designing and evaluating the disclosure controls and procedures,
management recognized that a control system, no matter how well designed and
operated, can provide only reasonable, not absolute, assurance that the
objectives of the control system are met. Because of the inherent limitations in
all control systems, no evaluation of controls can provide absolute assurance
that all control issues and instances of fraud, if any, with a company have been
detected.
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 (the
"Exchange Act"). Based upon that evaluation, our Chief Executive Officer and
Chief Financial Officer concluded that our disclosure controls and procedures
are effective, at the reasonable assurance level, to cause the material
information required to be disclosed in the reports that we file or submit under
the Exchange Act to be recorded, processed, summarized and reported within the
time periods specified in the Commission's rules and forms.
CHANGES IN INTERNAL CONTROL OVER FINANCIAL REPORTING
No changes in our internal control over financial reporting occurred during the
quarter ended June 30, 2005 that have materially affected, or are reasonably
likely to materially affect, our internal control over financial reporting.
28
COMPUWARE CORPORATION AND SUBSIDIARIES
PART II - OTHER INFORMATION
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
The following table sets forth, the repurchases of common stock for the quarter
ended June 30, 2005:
Total number of Approximate dollar
shares repurchased value of shares
as part of publicly that may yet be
Total number of announced purchased under
shares Average price repurchase plan or the plan or
Period repurchased paid per share program program (a)
------ --------------- -------------- ------------------- ------------------
As of March 31, 2005 200,500 $ 124,004,000
April 1, 2005 - April 30, 2005 200,500 124,004,000
May 1, 2005 - May 31, 2005 100,000 $ 6.32 300,500 123,372,000
June 1, 2005 - June 30, 2005 1,444,930 7.02 1,745,430 113,236,000
--------------- -------------
Total 1,544,930 $ 6.97
=============== =============
(a) On May 7, 2003, we announced that the Board of Directors authorized the
repurchase of up to $125 million of our common stock. Our purchases of stock may
occur on the open market, through negotiated or block transactions based upon
market and business conditions. Unless terminated earlier by resolution of our
Board of Directors, the share repurchase program will expire when we have
repurchased all shares authorized for repurchase thereunder.
29
COMPUWARE CORPORATION AND SUBSIDIARIES
PART II - OTHER INFORMATION
ITEM 6. EXHIBITS
Exhibit
Number Description of Document
2.6 Agreement and Plan of Merger dated May 6, 2005 by and among
Compuware Corporation, Compuware Acquisition Corp., Adlex,
Inc., and with respect to Article VIII, Tad Witkowicz, as
Shareholder Representative. (1)
4.5 Amendment No. 3 to Credit Agreement, dated July 28, 2005. (2)
10.96 First Amendment to the Compuware Corporation 2002 Directors
Phantom Stock Plan. (3)
15 Independent Registered Public Accounting Firm's Awareness
Letter (4)
31.1 Certification of Chief Executive Officer pursuant to Rule
13a-14(a) of the Securities Exchange Act. (4)
31.2 Certification of Chief Financial Officer pursuant to Rule
13a-14(a) of the Securities Exchange Act. (4)
32 Certification pursuant to 18 U.S.C. Section 1350 and Rule
13a-14(b) of the Securities Exchange Act. (4)
(1) Incorporated by reference to the corresponding exhibit to the Form 8-K
filed on May 9, 2005.
(2) Incorporated by reference to the exhibit to the Form 8-K filed on
August 2, 2005.
(3) Incorporated by reference to the corresponding exhibit to the Form
8-K/A filed on May 17, 2005.
(4) Filed herewith.
30
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: August 5, 2005 By: /s/ Peter Karmanos, Jr.
--------------- -----------------------
Peter Karmanos, Jr.
Chief Executive Officer
(duly authorized officer)
Date: August 5, 2005 By: /s/ Laura L. Fournier
--------------- ----------------------
Laura L. Fournier
Senior Vice President
Chief Financial Officer
Treasurer
31
Exhibit Index
Exhibit No. Description
15 Independent Registered Public Accounting Firm's 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.