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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2002
COMMISSION FILE NUMBER 0-24339
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INKTOMI CORPORATION
(Exact name of Registrant as specified in its charter)
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DELAWARE 94-3238130
(State of Incorporation) (I.R.S. Employer Identification No.)
4100 EAST THIRD AVENUE
FOSTER CITY, CALIFORNIA 94404
(Address of principal executive offices)
(650) 653-2800
(Registrant's telephone number, including area code)
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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 [ ]
The number of shares outstanding of the Registrant's Common Stock, $0.001 par
value, as of July 31, 2002 was 146,355,996.
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INKTOMI CORPORATION
FORM 10-Q
FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2002
TABLE OF CONTENTS
PAGE
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PART I. FINANCIAL INFORMATION:
Item 1. Financial Statements (Unaudited)
a) Condensed Consolidated Statements of Operations for the three
months and nine months ended June 30, 2002 and 2001................................. 3
b) Condensed Consolidated Balance Sheets as of June 30, 2002
and September 30, 2001.............................................................. 4
c) Condensed Consolidated Statements of Cash Flows for
the nine months ended June 30, 2002 and 2001........................................ 5
d) Notes to Condensed Consolidated Financial Statements................................... 6
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations..... 16
Item 3. Quantitative and Qualitative Disclosures About Market Risk................................ 35
PART II. OTHER INFORMATION:
Item 1. Legal Proceedings......................................................................... 36
Item 3. Defaults in Senior Securities............................................................. 36
Item 6. Exhibits and Reports on Form 8-K.......................................................... 36
Signature.......................................................................................... 37
This report on Form 10-Q and other oral and written statements made by the
Company to the public contain and incorporate forward-looking statements within
the meaning of Section 27A of the Securities Act of 1933, and Section 21E of the
Securities Exchange Act of 1934. When used in this report, the words
"anticipate", "believe", "expect", "intend", "may", "will" and similar
expressions identify forward-looking statements. Forward-looking statements in
this report include, but are not limited to, those relating to the general
direction of our business; our ability to successfully penetrate the information
retrieval market; our ability to continue to support the service provider
market; our success generating sales through our alliances and partners; our
ability to introduce new products and services and enhance existing products and
services to meet customer needs; the changing composition and purchasing trends
of our customer base; the composition of our revenues; our expected expenses for
future periods; the outcome of our restructuring efforts; our ability to improve
our sales and distribution capabilities; our focus on both domestic and
international markets; our ability to develop and maintain productive
relationships with providers of leading technologies; the possibility of
acquiring complementary businesses, products, services and technologies; and the
conditions of markets that impact our business. Although we believe our plans,
intentions and expectations reflected in these forward-looking statements are
reasonable, we can give no assurance that these plans, intentions or
expectations will be achieved. Actual results, performance or achievements could
differ materially from those contemplated, expressed or implied by the
forward-looking statements contained in this report. Important factors that
could cause actual results to differ materially from our forward-looking
statements are set forth in this report under the headings "Factors Affecting
Operating Results", "Management's Discussion and Analysis of Financial Condition
and Results of Operations" and in other reports filed with the Securities and
Exchange Commission. These factors are not intended to represent a complete list
of the general or specific factors that may affect us. Other factors, including
general economic factors and business strategies, may be significant, presently
or in the future, and the factors set forth in this report may affect us to a
greater extent than indicated. You should not rely on these forward-looking
statements, which reflect our position as of the date of this report. We do not
assume any obligation to revise forward-looking statements.
-2-
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
INKTOMI CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
FOR THE THREE FOR THE NINE
MONTHS ENDED MONTHS ENDED
JUNE 30, JUNE 30,
---------------------------- ---------------------
2002 2001 2002 2001
--------- -------- --------- ---------
(UNAUDITED) (UNAUDITED)
Revenues
Licenses.......................................... $ 4,772 $ 20,068 $ 37,032 $ 88,967
Services.......................................... 5,910 8,118 19,662 31,307
Web search services............................... 13,139 11,374 35,562 39,275
--------- --------- --------- ---------
Total revenues................................. 23,821 39,560 92,256 159,549
Cost of Revenues
Licenses.......................................... 967 2,095 3,442 5,326
Services.......................................... 2,163 3,179 8,055 15,367
Web search services............................... 3,608 6,369 11,304 19,081
--------- --------- --------- ---------
Total cost of revenues......................... 6,738 11,643 22,801 39,774
Gross Profit............................................ 17,083 27,917 69,455 119,775
Operating expenses
Sales and marketing............................... 17,139 29,587 56,924 111,573
Research and development.......................... 13,635 17,776 41,191 61,557
General and administrative........................ 2,973 5,733 12,373 18,469
Impairment of intangibles and other assets........ 200,865 42,315 202,615 42,315
Amortization of intangibles and other assets...... 16,709 18,353 50,127 53,869
Restructuring..................................... 2,220 5,249 80,840 5,249
Acquisition related costs......................... - - - 19,497
Purchase in-process research and development...... - - - 430
--------- --------- --------- ---------
Total operating expenses....................... 253,541 119,013 444,070 312,959
--------- --------- --------- ---------
Operating loss.......................................... (236,458) (91,096) (374,615) (193,184)
Impairment of investments............................... - (65,895) - (65,895)
Other income, net....................................... 901 2,101 5,992 8,416
--------- --------- --------- ---------
Loss before income tax provision........................ (235,557) (154,890) (368,623) (250,663)
Income tax provision.................................... (118) (141) (540) (793)
--------- --------- --------- ---------
Net loss................................................ $(235,675) $(155,031) $(369,163) $(251,456)
========= ========= ========= =========
Net loss per share
Basic and diluted net loss per share.................... $ (1.62) $ (1.22) $ (2.61) $ (2.00)
========= ========= ========= =========
Shares used in calculating basic and
diluted net loss per share........................... 145,666 126,755 141,304 125,590
========= ========= ========= =========
The accompanying notes are an integral part of these condensed
consolidated financial statements.
-3-
INKTOMI CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
JUNE 30, SEPTEMBER 30,
2002 2001
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(UNAUDITED)
ASSETS
Current assets
Cash and cash equivalents.................................................... $ 15,316 $ 18,518
Short-term investments....................................................... 74,708 65,995
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Total cash and cash equivalents and short-term investments................. 90,024 84,513
Accounts receivable, net..................................................... 14,323 22,449
Prepaid expenses and other current assets.................................... 6,616 5,915
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Total current assets....................................................... 110,963 112,877
Restricted cash................................................................ 128,957 128,957
Investments in equity securities............................................... - 1,381
Property and equipment, net.................................................... 52,921 76,101
Intangibles and other assets, net.............................................. 11,182 263,807
-------------- ------------
Total assets............................................................... $ 304,023 $ 583,123
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LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities
Accounts payable............................................................. $ 10,324 $ 7,979
Accrued liabilities.......................................................... 45,293 58,646
Deferred revenue............................................................. 27,667 34,610
Current portion of notes payable............................................. 15,375 2,500
Current portion of capital lease obligations................................. 1,469 1,470
-------------- ------------
Total current liabilities.................................................. 100,128 105,205
Notes payable, less current portion............................................ - 4,231
Capital lease obligations, less current portion................................ 432 1,418
Other liabilities.............................................................. 34,136 288
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Total liabilities.......................................................... 134,696 111,142
Commitments and contingencies (Note 6)
Stockholders' equity
Common Stock, $0.001 par value; 1,500,000 authorized at June 30, 2002 and
September 30, 2001; 146,292 and 129,110 outstanding at
June 30, 2002 and September 30, 2001......................................... 146 129
Additional paid-in capital..................................................... 950,569 897,241
Deferred compensation and other................................................ (7,658) (20,824)
Accumulated other comprehensive loss........................................... (2,547) (2,545)
Accumulated deficit............................................................ (771,183) (402,020)
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Total stockholders' equity................................................. 169,327 471,981
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Total liabilities and stockholders' equity................................. $ 304,023 $ 583,123
============== ============
The accompanying notes are an integral part of these condensed consolidated
financial statements.
-4-
INKTOMI CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
FOR THE NINE MONTHS
ENDED JUNE 30,
-------------------------
2002 2001
----------- ------------
(UNAUDITED)
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss................................................................................ $ (369,163) $(251,456)
Adjustments to reconcile net loss to net cash used in operating activities:
Restructuring........................................................................ 80,840 5,016
Amortization of intangibles and other assets......................................... 50,127 53,869
Depreciation and amortization........................................................ 19,800 23,824
Stock based compensation............................................................. 4,646 8,519
Impairment of intangibles and other assets........................................... 202,615 42,315
Impairment of investments............................................................ - 65,895
Impairment of property and equipment................................................. 791 198
Provision for doubtful accounts...................................................... (222) 6,801
Changes in assets and liabilities:
Accounts receivable.................................................................. 8,348 19,298
Prepaid expenses and other assets.................................................... 2,630 (5,552)
Accounts payable..................................................................... 2,345 (3,348)
Accrued liabilities and other........................................................ (46,936) (644)
Deferred revenue..................................................................... (6,943) (17,878)
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Net cash used in operating activities.............................................. (51,122) (53,143)
CASH FLOWS FROM INVESTING ACTIVITIES
Purchases of property and equipment.................................................. (10,820) (28,052)
Purchases of short-term investments.................................................. (183,460) (540,430)
Proceeds from sales of short-term investments........................................ 174,519 628,224
Purchases of investments in equity securities........................................ (500) (4,247)
Restriction of cash for lease agreements............................................. - (9,341)
Proceeds from sales of investments in equity securities.............................. 2,177 -
Loans to related parties............................................................. (7,700) (2,600)
Payments received on loans to related parties........................................ 4,252 -
Acquisition of a company, net of acquired cash....................................... - (23,500)
---------- ---------
Net cash provided from ( used in) investing activities............................. (21,532) 20,054
CASH FLOWS FROM FINANCING ACTIVITIES
Payments on notes payable............................................................ (2,356) (9,106)
Proceeds from notes payable.......................................................... 11,000 7,500
Payments on obligations under capital leases......................................... (987) (2,282)
Proceeds from issuance of common stock, net of issuance costs........................ 52,839 455
Proceeds from exercises of stock options and warrants................................ 9,026 7,088
Proceeds from notes receivable for stock............................................. - 65
---------- ---------
Net cash provided by financing activities.......................................... 69,522 3,720
Effect of exchange rates on cash and cash equivalents................................ (70) (836)
---------- ---------
Decrease in cash and cash equivalents................................................ (3,202) (30,205)
Cash and cash equivalents at beginning of period..................................... 18,518 41,879
---------- ---------
Cash and cash equivalents at end of period........................................... $ 15,316 $ 11,674
========== =========
SUPPLEMENTAL CASH FLOW INFORMATION
Net assets (liabilities) acquired for Common Stock as a result of purchase
acquisition $ - $ (1,845)
========== =========
Assets acquired under capital leases $ - $ 995
========== =========
The accompanying notes are an integral part of these condensed consolidated
financial statements.
-5-
INKTOMI CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE 1. THE COMPANY AND BASIS OF PRESENTATION
Inktomi Corporation ("Inktomi" or the "Company") was incorporated in California
in February 1996 and reincorporated in Delaware in February 1998. We develop and
market information retrieval software and services for global enterprises,
service providers and corporate portals. In addition, we license and support
network infrastructure software and services.
We have prepared the condensed consolidated financial statements included herein
pursuant to the rules and regulations of the Securities and Exchange Commission
("SEC"). Certain information and footnote disclosures normally included in
financial statements prepared in accordance with generally accepted accounting
principles have been condensed or omitted pursuant to such rules and
regulations. In the opinion of management, the condensed consolidated financial
statements reflect all adjustments that are necessary for the fair presentation
of results for the periods shown. The results of operations for such periods are
not necessarily indicative of the results expected for the full fiscal year or
for any future period. These financial statements should be read in conjunction
with our audited consolidated financial statements and notes thereto included in
our annual report on Form 10-K for the year ended September 30, 2001 filed with
the SEC on December 31, 2001.
The accompanying condensed consolidated financial statements include the
accounts of Inktomi Corporation and its wholly owned subsidiaries. All
intercompany accounts and transactions have been eliminated. Historical
financial information including weighted average shares outstanding and loss per
share amounts have been restated to reflect all stock splits and acquisitions
accounted for as pooling of interests. Certain prior period balances have been
reclassified to conform to the current period presentation.
In June 2001, we acquired eScene Networks, Inc. ("eScene"), a developer of
advanced streaming media applications and services. The following unaudited pro
forma information reflects the results of operations for the quarter and nine
month periods ended June 30, 2001, as if the acquisition of eScene had occurred
on October 1, 2000, and after giving effect to purchase accounting adjustments,
principally amortization of goodwill and other intangibles. We have not
presented the pro forma financial information for the Adero asset purchase
(December 2000) required under APB No. 16 since we have effectively ceased the
assumed operator role of the acquired Adero division, Content Bridge, and have
recognized the related full impairment of goodwill and other assets.
These unaudited pro forma results have been prepared for comparative purposes
only and may not be indicative of future operating results (in thousands, except
per share data).
FOR THE THREE FOR THE NINE
MONTHS ENDED MONTHS ENDED
JUNE 30, 2001 JUNE 30, 2001
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Pro forma revenues.................................. $ 39,882 $ 159,978
Pro forma net loss.................................. (158,275) (258,650)
Pro forma basic and diluted net loss per share...... $ (1.24) $ (2.04)
NOTE 2. PUBLIC OFFERING
In November 2001, we completed a public offering of our Common Stock in which we
sold approximately 13.2 million shares raising net proceeds after issuance costs
and underwriters' discounts of $52.8 million.
-6-
NOTE 3. RESTRUCTURINGS
For the nine months period June 30, 2002, $80.8 million of restructuring charges
were accrued. At June 30, 2002, $52.2 million remained outstanding as an accrued
liability on our balance sheet.
Fiscal 2002 Third Quarter Restructuring:
In April 2002, we completed a restructuring and a workforce reduction of
approximately 50 employees to reduce our operating expenses. All of our
functional areas were affected by the reduction. As a result of this workforce
reduction, we incurred a charge of $2.2 million. As of June 30, 2002,
approximately $1.2 million of this restructuring accrual remained outstanding as
an accrued liability on our balance sheet. The payouts are expected to be
through the next six to nine months.
The following table sets forth an analysis of the components of the fiscal 2002
third quarter restructuring charge and the payments made against the accrual
through June 30, 2002 (in thousands):
Severance Underutilized
Related Space Total
----------- ------------ -------
Restructuring Provision:
Severance related................................... $ 1,952 $ - $1,952
Committed excess facilities......................... - 268 268
------- ----- ------
Total........................................... 1,952 268 2,220
Cash paid.............................................. (1,007) - (1,007)
------- ----- ------
Accrual balance at June 30, 2002....................... $ 945 $ 268 $1,213
======= ===== ======
Fiscal 2002 Second Quarter Restructuring:
In April 2000, we entered into a lease agreement commencing January 1, 2002 for
381,050 square feet of office space in two mid-rise office buildings in Foster
City, California, known as Parkside Towers. Payments under the lease commenced
on January 1, 2002, when the property was delivered to Inktomi by the developer
and continue over the lease term ending October 31, 2014 for one building and
October 31, 2016 for the second building. As of June 30, 2002, aggregate
payments to be made under the lease are approximately $315.7 million over the
remaining lease term.
In the quarter ending March 31, 2002, we completed our assessment of our current
and future anticipated needs for operating facilities and adopted a plan to
consolidate our operating facilities. In accordance with this plan, we have
recorded a restructuring charge of $74.6 million during the quarter ended March
31, 2002 related to the abandonment of our lease for 381,050 square feet of
office space described above. Lease abandonment costs for this facility were
estimated to include the remaining lease liabilities through the term of the
lease, impairment of leasehold improvements, estimated future leasehold
improvements and brokerage fees offset by estimated sublease income. Estimates
related to sublease costs and income are based on assumptions regarding the
period required to locate sub-lessees and sublease rates which were derived from
market trend information provided by a commercial real estate broker. These
estimates will be reviewed on a periodic basis and to the extent that these
assumptions materially change due to changes in the market, the ultimate
restructuring expense for the abandoned facility could be adjusted. As of June
30, 2002, approximately $50.9 million of the restructuring accrual remained
outstanding.
-7-
The following table sets forth an analysis of the components of the fiscal 2002
second quarter restructuring charge and the payments made against the accrual
through June 30, 2002 (in thousands):
Abandoned Asset
Space Write-offs Total
--------- ---------- -------
Restructuring Provision:
Committed excess facilities......................... $62,293 $ - $ 62,293
Leasehold improvement impairment.................... - 12,315 12,315
------- ------- --------
Total........................................... 62,293 12,315 74,608
Cash paid.............................................. (11,432) - (11,432)
Non-cash charges....................................... - (12,315) (12,315)
------- ------- --------
Accrual balance at June 30, 2002....................... $50,861 $ - 50,861
------- -------
Less: current portion.................................. 16,910
--------
Accrued restructuring included in other long-term
liabilities....................................... $ 33,951
========
Fiscal 2002 First Quarter Restructuring:
In the quarter ended December 31, 2001, we announced and substantially completed
a restructuring and a workforce reduction of approximately 115 employees to
reduce our operating expenses. All of our functional areas were affected by the
reduction. As a result of this workforce reduction, we incurred a charge of $4.0
million, including a $1.3 million write-down of computer equipment. As of June
30, 2002, approximately $0.1 million of this restructuring accrual remained
outstanding as an accrued liability on our balance sheet, which is expected to
be paid out during the fiscal 2002 fourth quarter.
The following table sets forth an analysis of the components of the fiscal 2002
first quarter restructuring charge and the payments made against the accrual
through June 30, 2002 (in thousands):
Severance Asset Underutilized
Related Write-Offs Space Total
--------- ---------- ------------- --------
Restructuring Provision:
Severance related................................... $2,497 $ - $ - $2,497
Property and equipment impairment................... - 1,300 - 1,300
Committed excess facilities......................... - - 215 215
------ ------- ----- ------
Total........................................... 2,497 1,300 215 4,012
Cash paid.............................................. (2,497) - (116) (2,613)
Non-cash charges....................................... - (1,300) - (1,300)
------ ------- ----- ------
Accrual balance at June 30, 2002....................... $ - $ - $ 99 $ 99
====== ======= ===== ======
Fiscal 2001 Fourth Quarter Restructuring:
In the quarter ended September 30, 2001, we instituted a restructuring and a
workforce reduction of approximately 35 employees to reduce our operating
expenses. The reduction in workforce primarily affected our employees working on
wireless related products. As a result of this restructuring, we incurred a
charge of approximately $7.3 million in the quarter ended September 30, 2001. As
of June 30, 2002, approximately $1.8 million of this restructuring accrual
remained outstanding as an accrued liability on our balance sheet, which is
expected to be utilized through September 2003.
-8-
The following table sets forth an analysis of the components of the fiscal 2001
fourth quarter restructuring charge and the payments made against the accrual
through June 30, 2002 (in thousands):
Severance Underutilized Asset
Related Space Write-Offs Total
--------- ------------ ---------- --------
Restructuring Provision:
Severance related................................... $ 2,201 $ - $ - $ 2,201
Committed excess facilities......................... - 4,375 - 4,375
Property and equipment impairment - - 706 706
------- ------ ------ -------
Total........................................... 2,201 4,375 706 7,282
Cash paid.............................................. (2,201) (2,541) - (4,742)
Non-cash charges....................................... - - (706) (706)
------- ------ ------ -------
Accrual balance at June 30, 2002....................... $ - $1,834 $ - $ 1,834
======= ====== ====== =======
Fiscal 2001 Third Quarter Restructuring:
In the quarter ended June 30, 2001, we announced and substantially completed a
restructuring and a workforce reduction of approximately 200 employees to reduce
our operating expenses. All of our functional areas were affected by the
reduction. As a result of this workforce reduction, we incurred a charge of $5.2
million. As of June 30, 2002, no amount remained outstanding as an accrued
liability on our balance sheet.
The following table sets forth an analysis of the components of the fiscal 2001
third quarter restructuring charge and the payments made against the accrual
through June 30, 2002 (in thousands):
Severance Asset Other
Related Write-Offs Charges Total
----------- ---------- --------- --------
Restructuring Provision:
Severance related................................... $ 3,999 $ - $ - $ 3,999
Professional fees................................... - - 601 601
Committed excess facilities......................... - - 416 416
Property and equipment impairment................... - 198 - 198
------- ----- ------- -------
Total........................................... 3,999 198 1,017 5,214
Cash paid.............................................. (3,999) - (1,017) (5,016)
Non-cash charges....................................... - (198) - (198)
------- ----- ------- -------
Accrual balance at June 30, 2002....................... $ - $ - $ - $ -
======= ===== ======= =======
-9-
NOTE 4. IMPAIRMENT OF INTANGIBLES AND OTHER ASSETS
We record impairments or write-downs of intangibles and other assets when events
and circumstances indicate that an impairment assessment should be performed and
that assessment indicates that there is an impairment. Events and circumstances
that would trigger an impairment assessment include, but are not limited to, a
significant decrease in the market value of an asset, sustained decrease in our
market value, a significant change in the manner or extent that an asset is used
including a decision to abandon acquired products, services or technologies, a
significant adverse change in operations or business climate affecting the asset
not considered temporary, and historical operating or cash flow losses expected
to continue for the foreseeable future associated with the asset. An asset is
considered impaired when the undiscounted cash flows projected to be generated
from the asset over its remaining useful life is less than the recorded amount
of that asset. Impairment losses are measured based on the difference between
the asset's fair value and carrying amount and are recorded as impairment
write-downs in the consolidated statements of operations in the period that an
indication of impairment arises. At June 30, 2002, due primarily to the
sustained decrease in our market value as well as other factors, we recorded a
charge of $200.9 million in addition to the quarterly amortization of $16.7
million to reflect the impairment of intangibles and other assets, primarily
related to our goodwill which was created from our purchase of Ultraseek, Inc.
During the three months ended December 31, 2001, we evaluated the remaining
goodwill associated with our asset purchase from Adero in December 2000 and
recorded a $1.8 million charge to write-off the remaining net book value of this
intangible asset as there will be no further revenue streams related to this
asset.
NOTE 5. CALCULATION OF NET LOSS PER SHARE
Shares of Common Stock used in computing basic and diluted net loss per share
("EPS") are based on the weighted average shares of Common Stock outstanding in
each period. Basic net loss per share is calculated by dividing net loss by the
average number of outstanding shares of Common Stock during the period. Diluted
net loss per share is calculated by adjusting the average number of outstanding
shares of Common Stock assuming conversion of all potentially dilutive stock
options and warrants under the treasury stock method. Excluded from the
computation of diluted earnings per share for the quarter and nine months ended
June 30, 2002 and 2001, are options and warrants to acquire 26.6 and 12.7
million shares, respectively, of Common Stock as their effects would be
anti-dilutive.
NOTE 6. COMMITMENTS AND CONTINGENCIES
On August 2, 2001, an amended complaint was filed by Network Caching Technology,
L.L.C. in the United States District Court for the Northern District of
California against Inktomi as well as other providers of caching technologies
including Novell, Inc., Akamai Technologies, Inc., Volera, Inc., and Cacheflow,
Inc. Plaintiff alleges that certain products marketed by Inktomi and the other
defendants violate one or more patents owned by plaintiff. The complaint seeks
compensatory and other damages and injunctive relief. We were served the
complaint on August 7, 2001. We subsequently filed a response denying the
allegations and asserting a number of defenses. At this time it is too early to
estimate any potential losses from this action and whether this action may have
a material impact on the results of operations. We are vigorously defending
against this action.
On June 25, 2002, we entered into a Loan Modification Agreement with a bank. The
Loan Modification Agreement allows for an increase in borrowings up to $6.0
million to finance expenditures for various equipment, software, and furniture
and fixtures. Borrowings under the Loan Modification Agreement are
collateralized by all of the equipment, software, furniture and fixtures
purchased with the proceeds of the loan bearing interest at the prime rate plus
35 basis points. Under the agreement, we are required to maintain at all times a
cash deposit with the bank of no less than $6.0 million. The agreement also
contains a material adverse change clause whereby if certain events happen at
the Company it may be characterized as a default under the loan agreement. The
terms of the Loan Modification Agreement include various covenants that provide,
among other things, for the maintenance of certain levels of cash and
short-term investments and GAAP loss not more than certain amounts. The Company
is currently in compliance with these covenants after receiving a waiver in July
2002 for a breach of a profitability covenant. The Company is currently
negotiating to restructure its loan covenants as it is probable that it will be
in violation of the existing covenants for the quarter ended September 30, 2002.
Accordingly, we have classified all amounts due as current under this facility
at June 30, 2002.
-10-
In August 2000, we entered into a synthetic lease agreement for the land and
facilities of our corporate headquarters, known as Bayside, in Foster City,
California. Under the lease terms, we are required to pay lease payments for
five years to the lessor. The payments are calculated based on a floating
interest rate applied against a $114 million principal value. The agreement was
assigned to a third party lessor under the terms of a lease finance structure.
This structure also required the creation and maintenance of a cash collateral
account that limits the liquidity of $119.6 million of our cash, which is
classified as long-term on our balance sheet. During the term of the lease, we
have a purchase option to buy the building for $114 million plus breakup fees or
to extend the lease. If we elect not to purchase the building or extend the
lease term, we have guaranteed to compensate the lessor for the difference
between the market value of the building and $114 million, limited upwards to a
maximum amount of $101 million (residual value guarantee). The agreement
qualifies for operating lease accounting treatment and, as such, the buildings
are not included on our balance sheet.
Due to the declining commercial real estate market in the Bay Area, we believe
that it is probable at the end of the lease term by August 2005 that the market
value of Bayside will be less than the $114 million guaranteed. We will accrue
for this loss on a straight-line basis from April 1, 2002 to the end of the
lease term. Accordingly we have accrued $1.3 million in the quarter ended June
30, 2002 as the total estimated future probable loss amounted to $18.8 million.
This loss was based on the difference between the residual value guarantee
amount and the value of the building determined through the use of estimated
future sublease income at the end of lease term provided by a commercial real
estate broker.
This agreement is subject to specific financial covenants that are reported to
the lessor quarterly and relate to tangible net worth, fixed charge ratio,
EBITDA, and minimum net cash balances. In the event that we are in default of
these financial covenants, the lessor has the right to demand payment of the
$114 million principle value which is being held as long-term restricted cash
and transfer the ownership of the building to us, which may trigger the
recognition of a loss in our financial statements. At June 30, 2002, we were in
violation of a financial covenant on our synthetic lease arrangement related to
the Bayside facility. The covenant required a minimum level of profitability. We
received a waiver from the financial institution through August 30, 2002 and are
required under the waiver to exercise the purchase option under the arrangement.
Unless we can replace the financial participants in the synthetic lease, we will
exercise the purchase option on or before August 30, 2002. We are investigating
other financial options for the Bayside facility, as well.
NOTE 7. RELATED PARTY TRANSACTIONS
In March 2000, we provided a relocation loan to an officer of the Company
totaling $1.5 million. The officer left the Company in June 2001 and the loan
was repaid in full in March 2002.
In March 2002 we began separation and severance discussions with an officer of
the Company. As of March 31, 2002, we had accrued $3.1 million related to this
severance as a general and administrative expense. The severance agreement
totaling $3.1 million, which was executed by the parties in April 2002, provides
for a general release of the Company in exchange for, among other things, the
release of the officer's loan obligation of $1.7 million. Any proceeds, up to
$1.0 million, from the sale of Company stock by the officer this calendar year
will offset the final amount owed to the officer.
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In December 2001, we provided loans to our Chief Executive Officer totaling $4.7
million of which $2.7 million was repaid prior to December 31, 2001. During the
quarter ended March 31, 2002, we provided loans to our Chief Executive Officer
totaling $0.9 million of which $0.1 was repaid prior to March 31, 2002. During
the quarter ended June 30, 2002, we provided loans to our Chief Executive
Officer totaling $2.1 million. As of June 30, 2002, total loans outstanding and
total accrued interest to our Chief Executive Officer were approximately $4.9
and $0.1 million, respectively. These loans are represented by full recourse
promissory notes accruing interest at the rate of 6% per annum. Each loan, plus
any accrued unpaid interest, will become due the earlier of either two years
from the grant date of the individual loan or the date that our Chief Executive
Officer leaves the Company. All after tax proceeds of compensatory bonuses and
50% of after tax proceeds from sales of Company stock must be used to pay down
the loans outstanding. The first loans will become due in December 2003. These
loans are included in intangibles and other assets, net. These loans were made
pursuant to a $5 million revolving line of credit approved by our Board of
Directors in December 2001.
During the quarter and nine month periods ended June 30, 2002, we recognized
revenues of approximately $0.1 million and $4.5 million, respectively, on
contracts, development, and licensing arrangements with customers in which we
are equity shareholders. During the quarter and nine month periods ended June
30, 2001, we recognized net revenues of approximately $1.3 million and $23.8
million, respectively, on contracts and licensing arrangements with customers in
which we are equity shareholders. During the three months ended December 31,
2000, we also recognized installment basis revenue from Adero on an agreement
consummated in December 1999. Prices and terms on these contracts and
arrangements were comparable to those given to other similarly situated
customers.
In January 2001, we provided a relocation loan to an employee totaling $0.9
million. This note bears interest at 5.61% per annum. As a result of separation
and severance discussions with this employee, we had accrued the $0.9 million
related to this loan as an expense in the quarter ended September 30, 2001.
Final separation and severance discussions with this employee resulted in a
reversal of $0.6 million of this accrual during the quarter ended June 30, 2002.
NOTE 8. COMPREHENSIVE NET LOSS
Comprehensive loss includes foreign currency translation gains and losses and
unrealized gains and losses on debt and equity securities that have been
excluded from net loss and reflected instead in stockholders' equity. The
components of comprehensive loss are as follows (in thousands):
FOR THE THREE MONTHS ENDED FOR THE NINE MONTHS ENDED
JUNE 30, JUNE 30,
-------------------------------- -----------------------------
2002 2001 2002 2001
--------------- --------------- --------------- ------------
Net loss..................................... $(235,675) $ (155,031) $ (369,163) $ (251,456)
Unrealized gain (loss) on available-for-sale
securities, net of reclassification adjustment
included in net loss......................... 561 25,413 68 (60,101)
Foreign currency translation loss............ (91) (470) (70) (836)
--------- ---------- ---------- ----------
Comprehensive net loss....................... $(235,205) $ (130,088) $ (369,165) $ (312,393)
========= ========== ========== ==========
NOTE 9. STOCK OPTION EXCHANGE PROGRAM
In February 2001, the Inktomi Board of Directors approved a stock option
exchange program. Under this program, all employees (including executive
officers and outside directors) were given the opportunity to cancel one or more
stock options previously granted to them in exchange for one or more new stock
options to be granted at least six months and one day from the date the old
options are cancelled, provided the individual is still employed or providing
service on such date. The participation deadline for the program was February
28, 2001. The number of shares subject to the new options were equal to the
number of shares subject to the old options, and the exercise price of the new
options was the fair market value of Inktomi Common Stock on the date they were
granted. The new options have the same vesting schedule as
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the old options and are immediately exercisable as to vested shares when granted
(however, new options granted to executive officers and outside directors lost
three months of vesting and were subject to a trading blackout of three months
following the grant). The exchange resulted in the voluntary cancellation of
options to purchase approximately 12.8 million shares of Common Stock with
exercise prices ranging from $12.25 to $211.00 per share. Approximately 10.6
million replacement options were granted on August 29, 2001, of which 7.5
million shares are outstanding as of June 30, 2002, at an exercise price of
$4.21 per share of Common Stock.
Stock options granted during the six month period prior to implementation of the
option exchange program that were not cancelled as part of the program are
subject to variable plan accounting beginning in the fiscal quarter ended March
31, 2001. During the six months prior to implementation of the program, Inktomi
granted approximately 2.8 million options, of which 1.5 million are outstanding
as of June 30, 2002, at an average price of $23.65 per option, that are subject
to variable plan accounting. Also subject to variable plan accounting are 1.4
million options, of which 1.1 million shares are outstanding as of June 30,
2002, at an average price of $7.18 per option, that were granted to participants
of the program during the six months following implementation of the program.
These options are subject to variable plan accounting. Under variable plan
accounting, we are required to record a non-cash compensation charge for the
options until the options are exercised, forfeited or cancelled without
replacement. The compensation charge will be based on any excess of the closing
stock price at the end of the reporting period or date of exercise, forfeiture
or cancellation without replacement, if earlier, over the fair market value of
our Common Stock on the option's issuance date. The resulting compensation
charge to earnings will be recorded as the underlying options vest. Depending
upon movements in the market value of our Common Stock, this accounting
treatment may result in significant compensation charges in future periods. As
of June 30, 2002, we have recorded no compensation charges related to this
program.
NOTE 10. RECENT ACCOUNTING PRONOUNCEMENTS
In November 2001, the Financial Accounting Standards Board ("FASB") Emerging
Issues Task Force (EITF) reached a consensus on EITF Issue 01-09, Accounting for
Consideration Given by a Vendor to a Customer or a Reseller of the Vendor's
Products, which is a codification of EITF 00-14, 00-22 and 00-25. This issue
presumes that consideration from a vendor to a customer or reseller of the
vendor's products to be a reduction of the selling prices of the vendor's
products and, therefore, should be characterized as a reduction of revenue when
recognized in the vendor's income statement and could lead to negative revenue
under certain circumstances. Revenue reduction is required unless consideration
relates to a separate identifiable benefit and the benefit's fair value can be
established. We implemented EITF 01-09 during the nine month period ended June
30, 2002. As a result of this implementation, Web search revenues and cost of
revenues were reclassified for the quarters ended December 31, 2001 and March
31, 2002 in the amounts of $1.0 million and $1.3 million, respectively, which
are included in the results of operations for the nine month period ended June
30, 2002.
In July 2001, the FASB issued Statement of Financial Accounting Standards No.
142 ("SFAS 142"), Goodwill and Other Intangible Assets, which is effective for
fiscal years beginning after December 15, 2001. SFAS 142 requires, among other
things, the discontinuance of goodwill amortization. In addition, the standard
includes provisions upon adoption for the reclassification of certain existing
recognized intangibles as goodwill, reassessment of the useful lives of existing
recognized intangibles, reclassification of certain intangibles out of
previously reported goodwill and the testing for impairment of existing goodwill
and other intangibles. We intend to adopt SFAS 142 on October 1, 2002, the
beginning of our fiscal 2003. We are currently assessing, but have not yet
determined, the impact of SFAS 142 on our financial position and results of
operations.
In October 2001, the FASB issued SFAS 144, Accounting for the Impairment or
Disposal of Long-lived Assets. The objectives of SFAS 144 are to address
significant issues relating to the implementation of SFAS 121, Accounting for
the Impairment of Long-lived Assets to be Disposed of, and to develop a single
accounting model, based on the framework established by SFAS 121, for long-lived
assets to be disposed
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of by sale, whether previously held and used or newly acquired. Although SFAS
144 supercedes SFAS 121, it retains some fundamental provisions of SFAS 121.
SFAS 144 is effective for financial statements issued for fiscal years beginning
after December 15, 2001, and interim periods within those fiscal years. We are
currently assessing, but have not yet determined, the impact of SFAS 144 on our
financial position and results of operations.
In June 2002, the FASB issued SFAS 146, Accounting for Exit or Disposal
Activities. SFAS 146 addresses significant issues regarding the recognition,
measurement, and reporting of costs that are associated with exit and disposal
activities, including restructuring activities that are currently accounted for
under EITF No. 94-3, Liability Recognition for Certain Employee Termination
Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred
in a Restructuring). The scope of SFAS 146 also includes costs related to
terminating a contract that is not a capital lease and termination benefits that
employees who are involuntarily terminated receive under the terms of a one-time
benefit arrangement that is not an ongoing benefit arrangement or an individual
deferred-compensation contract. SFAS 146 will be effective for exit or disposal
activities that are initiated after December 31, 2002 and early application is
encouraged. We plan to adopt SFAS 146 during the second quarter ending March 31,
2003. The provisions of EITF No. 94-3 shall continue to apply for an exit
activity initiated under an exit plan that met the criteria of EITF No. 94-3
prior to the adoption of SFAS 146. The effect on adoption of SFAS 146 will
change on a prospective basis the timing of when restructuring charges are
recorded from a commitment date approach to when the liability is incurred.
The lessors associated with lease agreements relating to our Bayside facilities
(see Note 6) are structured using special purpose entities or equivalent
structures. Presently, we account for these leases as operating leases, while
the special purpose entities or equivalent structures own and account for the
leased assets and related liabilities in their records. The FASB has indicated
that it will issue proposed new rules on accounting for "Entities That Lack
Sufficient Independent Economic Substance", including special purpose entities,
in the form of an interpretation to SFAS No. 94, Consolidation of All
Majority-Owned Subsidiaries, and Accounting Research Bulletin No. 51,
Consolidated Financial Statements.
Based on public comments from the FASB to date, the proposed interpretation will
provide guidance for determining when an entity (such as us), the Primary
Beneficiary, should consolidate another entity, a special purpose entity or
equivalent structure (such as the lessor), that functions to support the
activities of the Primary Beneficiary. The expected proposed interpretation may
result in us having to consolidate the operating results of the special purpose
entities and equivalent structures, which are the lessors under the
aforementioned operating lease agreements (i.e. record the building and related
obligation on our consolidated balance sheet). The effective date of these
proposed new rules on our current operating leases could be as early as the
beginning of our quarter ending June 30, 2003, and sooner on any new leases
entered into after the new rules' effective date which utilize special purpose
entities or equivalent structures.
NOTE 11. SEGMENT INFORMATION
Effective September 30, 1999, we adopted SFAS No. 131, Disclosures about
Segments of an Enterprise and Related Information. SFAS No. 131 established
standards for reporting information about operating segments in annual financial
statements and requires selected information about operating segments in interim
financial reports issued to stockholders. It also established standards for
related disclosures about products and services, and geographic areas. Operating
segments are defined as components of an enterprise about which separate
financial information is available that is evaluated regularly by the chief
operating decision maker, or decision making group, in deciding how to allocate
resources and in assessing performance. Our chief operating decision-maker is
our Chief Executive Officer. Our reportable segments are organized primarily by
technology. Each of these segments is managed separately because they offer and
distribute distinct technologies and services with different methods of delivery
and customer bases.
We have two reportable operating segments: Software Products and Portal
Services. Software Products revenues are composed of license, consulting,
support and upgrade fees in connection with the Traffic
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Server network cache platform, Content Delivery Suite software solutions, Media
Products, enterprise search products, Personal Edge, Traffic Core, Traffic Edge,
Traffic Controller and Inktomi Media Publisher. Portal Services revenues are
composed of revenues generated through our Web search services and Commerce
Engine. We completed the sale of our Commerce Division in March 2001 and
therefore, Portal Services revenues for the nine months ended June 30, 2002
consisted of only Web search services revenues.
We evaluate performance and allocate resources to our operating segments based
on a variety of factors, including revenues, operating profit, market potential,
customer commitments and strategic direction.
Acquisition-related costs, purchased in-process research and development,
amortization of intangibles and other assets, impairment of intangibles and
other assets, impairment of fixed assets, restructuring, losses on residual
value guarantee on operating leases and amortization of deferred compensation
expense are not included in management's evaluation of performance by the
operating divisions, as they are primarily organizational in nature. The
accounting policies of the reportable segments are the same as those described
in the summary of significant accounting policies in our annual report on Form
10-K for the year ended September 30, 2001, as filed on December 31, 2001. We do
not track assets by operating segments.
Financial information about segments (in thousands):
FOR THE THREE MONTHS ENDED JUNE 30, 2002
--------------------------------------------------------------------------------------------
ACCRUAL FOR
AMORT. & RESIDUAL
IMPAIRMENT VALUE
OF INTANGIBLES AMORTIZATION GUARANTEE ON
SOFTWARE PORTAL AND OTHER OF DEFERRED OPERATING
PRODUCTS SERVICES ASSETS RESTRUCTURING COMPENSATION LEASE TOTAL
--------- --------- --------------- ------------- -------------- --------------- -------
(UNAUDITED)
Revenues.................... $ 10,682 $13,139 $ - $ - $ - $ - $ 23,821
Operating income (loss)..... $(19,496) $ 5,297 $(217,574) $(2,220) $(1,125) $(1,340) $(236,458)
FOR THE THREE MONTHS ENDED JUNE 30, 2001
--------------------------------------------------------------------------------------------
IMPAIRMENT
AMORTIZATION OF
OF INTANGIBLES INTANGIBLES AMORTIZATION
SOFTWARE PORTAL AND OTHER AND OTHER OF DEFERRED
PRODUCTS SERVICES ASSETS ASSETS RESTRUCTURING COMPENSATION TOTAL
--------- --------- --------------- ------------- -------------- --------------- -------
(UNAUDITED)
Revenues.................... $ 28,186 $ 11,374 $ - $ - $ - $ - $ 39,560
Operating loss.............. $(21,613) $ (1,711) $(18,353) $(42,315) $(5,249) $(1,855) $(91,096)
FOR THE NINE MONTHS ENDED JUNE 30, 2002
--------------------------------------------------------------------------------------------
ACCRUAL FOR
AMORT. & RESIDUAL
IMPAIRMENT VALUE
OF INTANGIBLES AMORTIZATION GUARANTEE ON
SOFTWARE PORTAL AND OTHER OF DEFERRED OPERATING
PRODUCTS SERVICES ASSETS RESTRUCTURING COMPENSATION LEASE TOTAL
--------- --------- --------------- ------------- -------------- --------------- -------
(UNAUDITED)
Revenues ................... $ 56,694 $35,562 $ - $ - $ - $ - $ 92,256
Operating income (loss)..... $(46,909) $11,862 $(252,742) $(80,840) $(4,646) $(1,340) $(374,615)
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FOR THE NINE MONTHS ENDED JUNE 30, 2001
-----------------------------------------------------------------------------------------------------------
AMORT. &
IMPAIRMENT PURCHASED
OF IN-PROCESS
INTANGIBLES RESEARCH ACQUISITION AMORTIZATION
SOFTWARE PORTAL AND OTHER AND -RELATED OF DEFERRED
PRODUCTS SERVICES ASSETS DEVELOPMENT CHARGES COMPENSATION RESTRUCTURING TOTAL
---------- ---------- ----------- ------------- ------------- -------------- -------------- --------
(UNAUDITED)
Revenues............ $113,213 $ 46,336 $ - $ - $ - $ - $ - $ 159,549
Operating loss...... $(46,541) $(16,763) $(96,184) $ (430) $(19,497) $(8,520) $(5,249) $(193,184)
At June 30, 2002, less than 10% of our long-term assets were located outside the
United States.
The following table sets forth revenue information for geographic areas: (in
thousands):
FOR THE THREE MONTHS FOR THE NINE MONTHS
ENDED JUNE 30, ENDED JUNE 30,
----------------------- -----------------------
2002 2001 2002 2001
---------- ---------- ---------- -----------
(UNAUDITED) (UNAUDITED)
United States....................................... $20,231 $32,295 $76,814 $109,982
International....................................... 3,590 7,265 15,442 49,567
------- ------- ------- --------
Total Revenues...................................... $23,821 $39,560 $92,256 $159,549
======= ======= ======= ========
NOTE 12. SUBSEQUENT EVENTS
In July 2002, we commenced a restructuring. Our intention is to reduce our
workforce by approximately 270 employees in order to reduce operating expenses.
We expect to incur a one-time charge of approximately $25 to $35 million for
severance, under utilized space, and asset write-offs in the quarter ending
September 30, 2002.
On August 13, 2002, we consummated the acquisition of Quiver, Inc., a developer
of information categorization and taxonomy solutions. The total purchase price
is approximately $10.5 to $12.0 million, comprised of a combination of
approximately $5.0 million in stock and up to approximately $7.0 million in cash
which is subject to adjustment for certain events. We will account for the
transaction under the purchase method of accounting.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
This Report contains forward-looking statements within the meaning of Section
27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act
of 1934, including, without limitation, statements regarding our expectations,
beliefs, intentions or future strategies that are signified by the words
"expects", "anticipates", "intends", "believes", "may", "will" or similar
language. All forward-looking statements included in this document are based on
information available to us on the date hereof, and we assume no obligation to
update any such forward-looking statements. Actual results could differ
materially from those projected in any such forward-looking statements. In
evaluating our business, prospective investors should carefully consider the
information set forth below under the caption "Factors Affecting Operating
Results" set forth herein. We caution investors that our business and financial
performance are subject to substantial risks and uncertainties.
-16-
OVERVIEW
Inktomi Corporation develops, markets, licenses and supports a range of leading
information retrieval solutions. Our software products and services are utilized
by leading global customers to find the right information across multiple
applications, portals, systems and networks. We are a leading OEM provider of
search listings and marketing solutions for consumer portals, Internet
destinations and e-commerce sites. Inktomi also licenses and supports a range of
network infrastructure software applications and services that enhance the
performance and intelligence of large-scale networks.
Licenses revenues are composed of license and upgrade fees in connection with
our software products, which includes our content networking products and our
enterprise search products. Our content networking products include our Traffic
Server network cache platform, our Content Delivery Suite software solutions,
our Media Products, Traffic Core, Traffic Edge, Traffic Controller, Inktomi
Media Publisher, and our Personal Edge product. License fees are generally based
on the number of CPUs or nodes running the software, or on network traffic
throughput across our products, depending on customer deployment, and are
generally recognized upon shipment of the software assuming all other revenue
recognition criteria have been met. License fees for our enterprise search
products are typically based on the capacity of documents purchased that can be
indexed and searched by a customer.
Services revenues are composed of revenues generated through consulting and
support fees related to our software products and for some historical periods
through fees generated from our Commerce Engine. Consulting and support fees are
recognized ratably over the service period as the services are performed. We
completed the sale of our Commerce Division in March 2001 and therefore,
services revenues for the nine months ended June 30, 2002, consisted of only
consulting and support fees.
Web search services revenues consisting of revenues from our Web search and
search marketing solutions businesses are generated through a variety of
contractual arrangements, which include general service fees, per-query search
fees, various forms of click through fees and search service hosting fees.
Subscription fees and other fixed periodical fees are recognized ratably over
the contract period. Per-query fees and click through fees are recognized based
on the activity in the period.
Over the last year, the business climate in general and the service provider
market in particular, have experienced dramatic declines. This has adversely
impacted our ability to generate revenues and achieve positive earnings. In July
2002, we commenced a number of initiatives to adjust to this business
environment including instituting a strategy of focusing our business on the
established Web services and enterprise search software markets, reducing
expenses through strong cost cutting measures, consolidating operations and
undertaking work force reductions. Our work force reductions were particularly
significant in our content networking group, which has historically generated
revenues from the now struggling service provider market. With the remaining
personnel in our content networking group, we expect to continue to support our
installed base of content networking customers and partners. We believe that it
will take several quarters before we will see positive results from these
initiatives. Whether we see such results will be subject to a number of risks
and uncertainties. See the materials under the caption "Factors Affecting
Operating Results" set forth herein.
CRITICAL ACCOUNTING POLICIES
The consolidated financial statements are prepared in accordance with accounting
principles generally accepted in the United States, which require management to
make estimates and assumptions. On an on-going basis, we evaluate our estimates
and assumptions, including those related to revenue recognition, impairment of
long-lived assets, allowance for doubtful accounts and contingent liabilities
related to lease obligation. We base our estimates on historical experience and
on various other assumptions that are believed to be reasonable under the
circumstances. Actual results may differ from these estimates under different
assumptions or conditions. We believe that the following critical accounting
policies may involve a higher degree of judgment and complexity.
-17-
REVENUE RECOGNITION
Licenses revenues are composed of license and upgrade fees in connection with
our software products including Traffic Server network cache platform, Content
Delivery Suite software solutions, Media Products, Traffic Core, Traffic Edge,
Traffic Controller, Inktomi Media Publisher, enterprise search products and
Personal Edge. License fees are generally based on the number of CPUs or nodes
running the software, or on network traffic throughput across our products,
depending on customer deployment, and are generally recognized upon shipment of
the software assuming all other revenue recognition criteria have been met.
License fees for our enterprise search products are typically based on the
capacity of documents purchased that can be indexed and searched by a customer.
We recognize revenues from software licenses when the licensed product is
delivered, collection is reasonably assured, the fee for each element of the
transaction is fixed or determinable, persuasive evidence of an arrangement
exists, and vendor-specific objective evidence exists to allocate the total fee
to any undelivered elements of the arrangement.
Fees from licenses sold together with support and upgrade rights, consulting and
implementation services are generally recognized upon delivery provided that the
above criteria have been met, payment of the license fees is not dependent upon
the performance of the services and the services are not essential to the
functionality of the licensed software. Services are unbundled from these
arrangements based on the price sold separately, or in some instances for
support and upgrades, substantive renewal rates using the residual method.
Services revenues are composed of revenues generated through consulting and
support fees related to our software products. Consulting and support fees are
recognized as the services are performed or upon customer acceptance.
In instances where the criteria for recognizing license revenues separate from
the consulting or implementation revenues have not been met, both the licenses
and consulting fees, excluding the maintenance and support elements, are
recognized using contract accounting. When management can make reliable
estimates on the extent of consulting services required for full functionality,
the revenue for the licenses and consulting fees is recognized on a
percentage-of-completion based on labor hours incurred compared to total
estimated hours. When management cannot make reliable estimates on the extent of
consulting services required for full functionality, the revenue for the
licenses and consulting is deferred until the consulting services are completed.
We classify revenue from these arrangements as licenses and services revenues,
respectively, based upon the vendor-specific objective evidence of each element.
Web search services revenues consisting of revenues from our web search and
search marketing solutions business are generated through a variety of
contractual arrangements, which include general service fees, per-query search
fees, various forms of click through fees and search service hosting fees.
Subscription fees and other fixed periodical fees are recognized ratably over
the contract period. Per-query fees and click through fees are recognized based
on the activity in the period
IMPAIRMENT OF LONG-LIVED ASSETS
We review our long-lived assets, including property and equipment, goodwill and
other intangibles, for impairment whenever events or changes in circumstances
indicate that the carrying amount of such an asset may not be recoverable.
Events or changes in circumstances that we consider as impairment indicators
include, but are not limited to the following:
o significant underperformance relative to expected historical or
projected future operating results;
o significant changes in the manner of use of the acquired assets or
the strategy for our overall business;
-18-
o a significant decrease in the market price of a long-lived asset;
o significant adverse economic and industry trends;
o a current expectation that, more likely than not, a long-lived
asset will be sold or otherwise disposed of significantly before
the end of its previously estimated useful life;
o significant decline in our stock price for a sustained period; and
o our net book value relative to our market capitalization.
When we determine that the carrying amount of the long-lived asset may not be
recoverable based upon the existence of one or more of the above indicators of
impairment, we measure any impairment based on a projected discounted cash flow
method using a discount rate commensurate with the risk inherent in our current
business model. Significant judgment is required in the development of projected
cash flows for these purposes including assumptions regarding the appropriate
level of aggregation of cash flows, their term and discount rate as well as the
underlying forecasts of expected future revenue and expense.
At June 30, 2002, due primarily to the sustained decrease in our market value as
well as other factors, we recorded a charge of $200.9 million in addition to the
quarterly amortization of $16.7 million to reflect the impairment of intangibles
and other assets, primarily related to our goodwill which was created from our
purchase of Ultraseek, Inc.
Effective October 1, 2002, we will adopt SFAS No. 142, "Goodwill and Other
Intangible Assets", which requires, among other things, that goodwill and other
intangibles determined to have an indefinite life are no longer to be amortized
but are to be tested for impairment at least annually. In addition, the standard
includes provisions upon adoption for assessing the impairment of goodwill at
the reporting unit level as compared to the enterprise level under the current
rules. We are currently assessing, but have not yet determined, the impact of
SFAS 142 on our financial position and results of operations.
In October 2001, the FASB issued SFAS 144, Accounting for the Impairment or
Disposal of Long-lived Assets. The objectives of SFAS 144 are to address
significant issues relating to the implementation of SFAS 121, Accounting for
the Impairment of Long-lived Assets to be Disposed of, and to develop a single
accounting model, based on the framework established by SFAS 121, for long-lived
assets to be disposed of by sale, whether previously held and used or newly
acquired. Although SFAS 144 supercedes SFAS 121, it retains some fundamental
provisions of SFAS 121. SFAS 144 is effective for financial statements issued
for fiscal years beginning after December 15, 2001, and interim periods within
those fiscal years. We are currently assessing, but have not yet determined, the
impact of SFAS 144 on our financial position and results of operations.
ALLOWANCE FOR DOUBTFUL ACCOUNTS
We maintain allowances for doubtful accounts for estimated losses resulting from
the inability of our customers to make required payments. Management regularly
reviews the adequacy of the allowance after considering the size of the accounts
receivable balance, historical bad debts, customer's expected ability to pay and
our collection history with each customer. Management reviews significant
individual invoices that are past due to determine whether an allowance should
be made based on the factors described above. The allowance for doubtful
accounts represents our best estimate, but changes in circumstances discussed
above may result in a change to the amount of the allowance.
ACCOUNTING FOR LEASES
In August 2000, we entered into a synthetic lease agreement for the land and
facilities of our corporate headquarters, known as Bayside, in Foster City,
California. Under the lease terms, we are required to pay
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lease payments for five years to the lessor. The payments are calculated based
on a floating interest rate applied against a $114 million principle value. The
agreement was assigned to a third party lessor under the terms of a lease
finance structure. This structure also required the creation and maintenance of
a cash collateral account that limits the liquidity of $119.6 million of our
cash, which is classified as long-term on our balance sheet. During the term of
the lease, we have a purchase option to buy the building for $114 million plus
breakup fees or to extend the lease. If we elect not to purchase the building or
extend the lease term, we have guaranteed to compensate the lessor for the
difference between the market value of the building and $114 million, limited
upwards to a maximum amount of $101 million (residual value guarantee). The
agreement qualifies for operating lease accounting treatment, and as such the
buildings are not included on our balance sheet.
Due to the declining commercial real estate market in the Bay Area, we believe
that it is probable at the end of the lease term on August 2005 that the market
value of Bayside will be less than the residual value guarantee. We will accrue
for this loss on a straight-line basis from April 1, 2002 to the end of the
lease term. Accordingly we have accrued $1.3 million in the quarter ended June
30, 2002 as the total estimated future probable loss amounted to $18.7 million.
This loss was based on the difference between the residual value guarantee
amount and the value of the building determined through the use of estimated
future sublease income at the end of lease term provided by a commercial real
estate broker. We will continue to assess the value and accrue additional
amounts each quarter until the end of the lease term.
This agreement is subject to specific financial covenants that are reported to
the lessor quarterly and relate to tangible net worth, fixed charge ratio,
EBITDA, and minimum net cash balances. In the event that we are in default of
these financial covenants, the lessor has the right to demand payment of the
$114 million principle value which is being held as long-term restricted cash
and transfer the ownership of the building to us at fair market value, which may
trigger the recognition of a loss in our financial statements. At June 30, 2002,
we were in violation of a financial covenant on our synthetic lease arrangement
related to the Bayside facility. The covenant required a minimum level of
profitability. We received a waiver from the financial institution through
August 30, 2002 and are required under the waiver to exercise the purchase
option under the arrangement. Unless we can replace the financial participants
in the synthetic lease, we will exercise the purchase option on or before
August 30, 2002. We are investigating other financial options for the Bayside
facility, as well.
In April 2000, we entered into a lease agreement commencing January 1, 2002 for
381,050 square feet of office space in two mid-rise office buildings in Foster
City, California, known as Parkside Towers. Payments under the lease commenced
on January 1, 2002, when the property was delivered to Inktomi by the developer
and continue over the lease term ending October 31, 2014 for one building and
October 31, 2016 for the second building. As of June 30, 2002, aggregate
payments to be made under the lease are approximately $315.7 million over the
remaining lease term.
In the quarter ending March 31, 2002, we completed our assessment of our current
and future anticipated needs for operating facilities and adopted a plan to
consolidate our operating facilities. In accordance with this plan, we have
recorded a restructuring charge of $74.6 million during the quarter ended March
31, 2002 related to the abandonment of our lease for 381,050 square feet of
office space in Parkside Towers described above. Lease abandonment costs for
this facility were estimated to include the remaining lease liabilities through
the term of the lease, impairment of leasehold improvements, estimated future
leasehold improvements and brokerage fees offset by estimated sublease income.
Estimates related to sublease costs and income are based on assumptions
regarding the period required to locate sub-lessees and sublease rates which
were derived from market trend information provided by a commercial real estate
broker. These estimates will be reviewed on a periodic basis and to the extent
that these assumptions materially change due as to changes in the market, the
ultimate restructuring expense for the abandoned facility could be adjusted. As
of June 30, 2002, approximately $50.9 million of the restructuring accrual
remained outstanding.
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RESULTS OF OPERATIONS
REVENUES
Total revenues were $23.8 million and $92.3 million in the quarter and nine
month periods ended June 30, 2002. This represents a decrease of $15.7 million
or 40% in the quarter ended June 30, 2002, and a decrease of $67.3 million or
42% in the nine month period ended June 30, 2002, over the comparable periods in
fiscal 2001. The weakness in revenue for the quarter was due largely to low
levels of license sales in both our content networking and enterprise search
businesses. For the quarter ended June 30, 2002, two separate customers each
exceeded 10% of total revenues. One customer exceeded 10% of total revenues for
the nine month period ended June 30, 2002. For the quarter ended June 30, 2001,
one customer exceeded 10% of total revenues, and for the nine month period ended
June 30, 2001, no customer exceeded 10% of total revenues.
We market and sell our products to customers located in the United States and
abroad, both through our direct sales force and through our channel partners.
Historically, the percentage of sales to customers located outside of the United
States has varied substantially. We expect this variation to continue for the
foreseeable future. We have generated most of our revenues through direct sales
efforts, except in Asia where our revenues have been principally generated
through our channel partners.
Licenses revenues were $4.8 million and $37.0 million in the quarter and nine
month periods ended June 30, 2002. This represents a decrease of $15.3 million
or 76% in the quarter ended June 30, 2002, and a decrease of $51.9 million or
58% in the nine month period ended June 30, 2002, over the comparable periods in
fiscal 2001. The period to period decreases were primarily due to lower demand
for our content networking products across all market segments as well as
declines in our search enterprise license revenues, the result of contracting
corporate information technology budgets. In July 2002, we announced a
restructuring where we intend to focus our efforts on the Web search services
and enterprise search software markets while maintaining support for our content
networking software customers and partners. We expect our license revenues in
future periods to be increasingly comprised of enterprise search software
licenses as we emphasize that market.
Services revenues were $5.9 million and $19.7 million in the quarter and nine
month periods ended June 30, 2002. This represents a decrease of $2.2 million or
27% in the quarter ended June 30, 2002, and a decrease of $11.6 million or 37%
in the nine month period ended June 30, 2002, over the comparable periods in
fiscal 2001. The period to period decreases resulted from reduced support
services revenues arising out of less software license activity to support. Our
future emphasis on the established Web and enterprise search markets may reduce
future service revenues when current maintenance agreements expire from our
content network software business.
Web search services revenues were $13.1 million and $35.6 million in the quarter
and nine month periods ended June 30, 2002. This represents an increase of $1.8
million or 16% in the quarter ended June 30, 2002, and a decrease of $3.7
million or 9% in the nine month period ended March 31, 2002, over the comparable
periods in fiscal 2001. The period to period fluctuations were primarily due to
weakness in the Internet portal market, particularly smaller or poorly funded
companies who either ceased to operate or reduced their expenditures, offset by
growth in our Index Connect and search marketing solutions services. In the
future, we expect revenues from our search marketing solutions services to
continue to become a greater percentage of our total Web search services
revenues. We have received notice from one of our major portal customers that
they do not intend to renew their Web search services agreement with us when it
expires in August 2002. We expect that this will decrease revenues in our Web
search services business beginning in the quarter ending September 30, 2002.
During the quarter and nine month periods ended June 30, 2002, we recognized
revenues of approximately $0.1 million and $4.5 million, respectively, on
contracts, development, and licensing arrangements with
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customers in which we are equity shareholders. During the quarter and nine month
periods ended June 30, 2001, we recognized net revenues of approximately $1.3
million and $23.8 million, respectively, on contracts and licensing arrangements
with customers in which we are equity shareholders. During the three months
ended December 31, 2000, we also recognized installment basis revenue from Adero
on an agreement consummated in December 1999. Prices and terms on these
contracts and arrangements were comparable to those given to other similarly
situated customers.
COST OF REVENUES
Cost of revenues were $6.7 million and $22.8 million in the quarter and nine
month periods ended June 30, 2002, a decrease of $4.9 million or 42% and $17.0
million or 43% over the comparable periods in fiscal 2001.
Licenses cost of revenues generally consist of royalties or license fees
associated with licensed technologies used in our software applications. License
cost of revenues were $1.0 million and $3.4 million in the quarter and nine
month periods ended June 30, 2002, a decrease of $1.1 million or 54% and a
decrease of $1.9 million or 35% over the comparable periods in fiscal 2001. The
period to period decrease in license cost of revenues as compared to the same
period in fiscal 2001 was due to decreased license sales in fiscal 2002.
Licenses cost of revenues do not necessarily fluctuate proportionately with
licenses revenue due to guaranteed minimum royalty obligations we have with
certain licensed technologies.
Services cost of revenues generally consist of expenses associated with our
consulting services and our technical support department as well as depreciation
and network and hosting charges associated with the operation of our former
Commerce business. Services cost of revenues were $2.2 million and $8.1 million
in the quarter and nine month periods ended June 30, 2002, a decrease of $1.0
million or 32% and $7.3 million or 48% over the comparable periods in fiscal
2001. The decrease for the nine month period was primarily attributable to the
divestiture of our Commerce business in March 2001 and lower expenses associated
with our consulting services and our technical support departments. The decrease
for the quarter was attributable lower expenses associated with our consulting
services and our technical support departments.
Web search cost of revenues generally consist of expenses related to the
operation of our Web search business, primarily depreciation, and network and
hosting charges. Web search services cost of revenues were $3.6 million and
$11.3 million in the quarter and nine month periods ended June 30, 2002, a
decrease of $2.8 million or 43% and $7.8 million or 41% over the comparable
periods in fiscal 2001. The period to period decreases were primarily the result
of lower depreciation and hosting charges. We expect this to increase in the
near term as we convert much of our capacity from Sun to Linux.
EXPENSES
Operating expenses include sales and marketing expenses, research and
development expenses, general and administrative expenses, impairment of
intangibles and other assets, amortization of intangibles and other assets,
restructuring costs, acquisition-related costs and purchased in-process research
and development. Research and development, sales and marketing and general and
administrative expenses primarily consist of personnel and related costs.
In connection with stock option grants and our business acquisitions, certain
options granted have been considered to be compensatory. Compensation associated
with such options was $1.1 million and $4.6 million for the quarter and nine
month periods ended June 30, 2002, a decrease of $0.8 million or 42% and $3.9
million or 46% over the comparable periods in fiscal 2001. As of June 30, 2002,
we had unamortized deferred compensation of $7.7 million, which will be charged
to operations as the underlying options vest.
Over the next several quarters, expenses are expected to decrease due to our
workforce reduction and our narrower business focus.
-22-
SALES AND MARKETING EXPENSES
Sales and marketing expenses consist of personnel and related costs for our
direct sales force and marketing staff as well as expenses related to our
marketing programs, including trade shows, demand creation activities, and
advertising. Sales and marketing expenses were $17.1 million and $56.9 million
in the quarter and nine month periods ended June 30, 2002, a decrease of $12.4
million or 42% and $54.6 million or 49% over the comparable periods of fiscal
2001. The nine-month period to period decrease was primarily due to a decrease
in the number of sales and marketing personnel, decreased sales commissions, and
decreased marketing expenses. The three-month period to period decrease was
primarily due to a decrease in the number of sales and marketing personnel
and decreased sales commissions.
RESEARCH AND DEVELOPMENT EXPENSES
Research and development expenses consist primarily of personnel and related
costs for our development efforts. Our current research and development efforts
are focused on adding features and functionality across each of our current
applications, developing new applications, and adapting our products to work
with additional products and platforms. In connection with our July 2002
restructuring, we have significantly reduced our research and development
efforts related to our content network products. Research and development
expenses were $13.6 million and $41.2 million in the quarter and nine month
periods ended June 30, 2002, a decrease of $4.1 million or 23% and $20.4 million
or 33% over the comparable periods of fiscal 2001. The period to period
decreases were primarily due to a decrease in the number of research and
development personnel as a result of our restructurings and decreased outside
consulting costs. We believe significant investments in research and development
are essential to our future success and we will continue to invest in this area
in future periods.
GENERAL AND ADMINISTRATIVE EXPENSES
General and administrative expenses consist primarily of personnel and related
costs for general corporate functions, including accounting, facilities,
finance, human resources and legal. General and administrative expenses were
$3.0 million and $12.4 million in the quarter and nine month periods ended June
30, 2002, a decrease of $2.8 million or 48% and $6.1 million or 33% over the
comparable periods of fiscal 2001. The nine-month period to period decrease was
due primarily to a decrease in the number of general and administrative
personnel, reduction in our allowance for doubtful accounts, decreased outside
consulting costs and a decrease in facilities costs. The three-month period to
period decrease was due primarily to a decrease in the number of general and
administrative personnel and a decrease in facilities costs.
AMORTIZATION OF INTANGIBLES AND OTHER ASSETS
Amortization of intangibles and other assets primarily relates to amortization
of goodwill acquired through our purchase acquisitions of Ultraseek Corporation
and eScene Networks and through our asset purchase from Adero. Amortization of
intangibles and other assets totaled $16.7 million and $50.1 million in the
quarter and nine month periods ended June 30, 2002, a decrease of $1.6 million
or 9% and $3.7 million or 7% over the comparable periods of fiscal 2001. The
period to period decreases were primarily due to our impairment of our Adero
goodwill in the quarter ended December 31, 2001, offset partially by our
acquisition of eScene in June 2001.
IMPAIRMENT OF INTANGIBLES AND OTHER ASSETS
During the three months ended December 31, 2001, we evaluated the remaining
goodwill associated with our asset purchase from Adero in December 2000 and
recorded a $1.8 million charge to write-off the remaining net book value of this
intangible asset as there will be no further revenue streams related to this
asset.
At June 30, 2002, due primarily to the sustained decrease in our market value as
well as other factors, we recorded a charge of $200.9 million in addition to the
quarterly amortization of $16.7 million to reflect the
-23-
impairment of intangibles and other assets, primarily related to our goodwill
which was created from our purchase of Ultraseek, Inc.
RESTRUCTURING COSTS
Restructuring costs totaled $2.2 million and $80.8 million in the quarter and
nine month periods ended June 30, 2002, a decrease of $3.0 million or 58% and an
increase of $75.6 million or 1440% over the comparable periods of fiscal 2001.
In the quarter ended December 31, 2001, in light of a continuing economic
slowdown, we announced and substantially completed a restructuring and a
workforce reduction of approximately 115 employees to reduce our operating
expenses. All functional areas were affected by the reduction. As a result of
this workforce reduction, we incurred a charge of $4.0 million, mainly related
to severance and impairment of property and equipment.
In April 2000, we entered into a lease agreement commencing January 1, 2002 for
381,050 square feet of office space in two mid-rise office buildings in Foster
City, California, known as Parkside Towers. Payments under the lease commenced
on January 1, 2002, when the property was delivered to Inktomi by the developer
and continue over the lease term ending October 31, 2014 for one building and
October 31, 2016 for the second building. Aggregate payments to be made under
the lease are approximately $315.7 million over the remaining lease term.
In the quarter ending March 31, 2002, we completed our assessment of our current
and future anticipated needs for operating facilities and adopted a plan to
consolidate our operating facilities. In accordance with this plan, we have
recorded a restructuring charge of $74.6 million during the quarter ended March
31, 2002 related to the abandonment of our lease for 381,050 square feet of
office space in Parkside Towers described above. Lease abandonment costs for
this facility were estimated to include the remaining lease liabilities through
the term of the lease, impairment of leasehold improvements, estimated future
leasehold improvements and brokerage fees offset by estimated sublease income.
Estimates related to sublease costs and income are based on assumptions
regarding the period required to locate sub-lessees and sublease rates which
were derived from market trend information provided by a commercial real estate
broker. These estimates will be reviewed on a periodic basis and to the extent
that these assumptions materially change due to changes in the market, the
ultimate restructuring expense for the abandoned facility could be adjusted. As
of June 30, 2002, approximately $50.9 million of the restructuring accrual
remained outstanding.
In the quarter ended June 30, 2002, in light of a continuing economic slowdown,
we announced and substantially completed a restructuring and a workforce
reduction of approximately 50 employees to reduce our operating expenses. All
functional areas were affected by the reduction. As a result of this workforce
reduction, we incurred a charge of $2.2 million, mainly related to severance and
impairment of property and equipment.
See Note 3 of this Form 10-Q for further information.
ACQUISITION-RELATED COSTS
As a result of our Fast Forward Networks acquisition in October 2000, we
recorded acquisition-related costs of $19.5 million in the three months ended
December 31, 2000, primarily for investment banking fees, accounting, legal and
other expenses. As of June 30, 2002, no accrued liabilities relating to
FastForward acquisition-related costs remained outstanding.
PURCHASED IN-PROCESS RESEARCH AND DEVELOPMENT
A portion of the purchase price we paid for various assets of Adero have been
allocated to developed technology and in-process research and development
("IPRD"). We identified and valued the developed technology and IPRD by
conducting extensive interviews, analyzing data provided by the acquired
-24-
companies concerning developmental products, considering the stage of
development of such products and the time and resources needed to complete them,
and assessing the expected income generating ability of the products, target
markets and associated risks. The income approach, which includes an analysis of
the markets, cash flows, and risks associated with achieving such cash flows,
was the primary technique utilized in valuing the developed technology and IPRD.
Based on our analysis of these variables, we recorded a one-time purchased IPRD
charge of $0.4 million in the three months ended December 31, 2000 for the
assets of Adero because technological feasibility had not been established and
no future alternative uses existed.
OTHER INCOME, NET
Other income, net generally includes interest on our cash and cash equivalents,
short-term investments and long-term restricted cash, interest expenses related
to our debt, capital lease obligations and realized gains or losses on disposal
of assets. Other income, net totaled $0.9 million and $6.0 million in the
quarter and nine month periods ended June 30, 2002, a decrease of $1.2 million
or 57% and $2.4 million or 29% over the comparable periods of fiscal 2001. The
period to period decreases were primarily the result of decreased interest
income.
INCOME TAX PROVISION
Our income taxes totaled $0.1 million and $0.5 million in the quarter and nine
month periods ended June 30, 2002, the same as and a decrease of $0.3 million
and 32% over the comparable periods in fiscal 2001. Our income taxes primarily
are a result of our international operations. Our effective income tax rate may
change during the remainder of fiscal 2002 if operating results differ
significantly from current projections. We expect income taxes to remain minimal
until we begin to generate taxable income.
LIQUIDITY AND CAPITAL RESOURCES
Cash and cash equivalents and short-term investments totaled $90.0 million at
June 30, 2002, an increase of $5.5 million or 7% from $84.5 million at September
30, 2001. At June 30, 2002 and September 30, 2001, our long-term restricted cash
was $129.0 million.
In November 2001, we completed a public offering of our Common Stock in which we
sold approximately 13.2 million shares raising net proceeds after issuance costs
and underwriters' discounts of $52.8 million.
For the nine months ended June 30, 2002, net cash used in operations of $51.1
million was primarily attributable to our net loss for the period and a net
change in assets and liabilities offset partially by restructuring costs,
depreciation and amortization, impairment of intangibles and other assets, stock
based compensation, and impairment of property and equipment. For the nine
months ended June 30, 2001, net cash used in operations of $53.1 million was
primarily attributable to our net loss for that period offset partially by a net
change in assets and liabilities, amortization of intangibles and other assets,
impairment of intangibles and other assets, depreciation and amortization, and
stock based compensation.
-25-
For the nine months ended June 30, 2002, net cash used in investing activities
of $21.5 million was primarily attributable to net purchases of short-term
investments, purchases of property and equipment and loans to related parties.
For the nine months ended June 30, 2001, net cash provided by investing
activities of $20.1 million was attributable to net proceeds from the sales of
short term investments offset partially by purchases of property and equipment,
and a business acquisition.
For the nine months ended June 30, 2002, net cash provided by financing
activities of $69.5 million was primarily attributable to proceeds raised
relating to our public offering, exercises of stock options and warrants and net
proceeds from our notes payable. For the nine months ended June 30, 2001, net
cash provided by financing activities of $3.7 million was primarily attributable
to exercises of stock options and warrants offset by net payments on our notes
payable and capital leases.
From time to time, we have used debt and leases to partially finance capital
purchases. At June 30, 2002, we had $17.3 million in total loans and capitalized
lease obligations outstanding. Our underlying assets collateralize the loans,
and the underlying equipment obtained through the lease agreements
collateralizes each capitalized lease. Approximately $15.4 million of our debt
at June 30, 2002 was in the form of bank loans. The bank loans include certain
covenants requiring minimum liquidity, tangible net worth and profitability over
time, and do not allow us to distribute cash dividends. The Company is currently
in compliance with these covenants after receiving a waiver on July 2002 for a
breach of a profitability covenant. The Company is currently negotiating to
restructure its loan covenants as it is probable that it will be in violation of
the existing covenants for the quarter ended September 30, 2002. Accordingly,
we have classified all amounts due as current under this facility at
June 30, 2002.
In April 2000, we entered into a lease agreement commencing January 1, 2002 for
381,050 square feet of office space in two mid-rise office buildings in Foster
City, California, known as Parkside Towers. Payments under the lease commenced
on January 1, 2002, when the property was delivered to Inktomi by the developer
and continue over the lease term ending October 31, 2014 for one building and
October 31, 2016 for the second building. Aggregate payments to be made under
the lease are approximately $315.7 million over the remaining lease term.
In the quarter ending March 31, 2002, we completed our assessment of our current
and future anticipated needs for operating facilities and adopted a plan to
consolidate our operating facilities. In accordance with this plan, we have
recorded a restructuring charge of $74.6 million during the quarter ended March
31, 2002 related to the abandonment of our lease for 381,050 square feet of
office space in Parkside Towers described above. Lease abandonment costs for
this facility were estimated to include the remaining lease liabilities through
the term of the lease, impairment of leasehold improvements, estimated future
leasehold improvements and brokerage fees offset by estimated sublease income.
Estimates related to sublease costs and income are based on assumptions
regarding the period required to locate sub-lessees and sublease rates which
were derived from market trend information provided by a commercial real estate
broker. These estimates will be reviewed on a periodic basis and to the extent
that these assumptions materially change due as to changes in the market, the
ultimate restructuring expense for the abandoned facility could be adjusted. As
of June 30, 2002, approximately $50.9 million of the restructuring accrual
remained outstanding.
In August 2000, we entered into a synthetic lease agreement for the land and
facilities of our corporate headquarters, known as Bayside, in Foster City,
California. Under the lease terms, we are required to pay lease payments for
five years to the lessor. The payments are calculated based on a floating
interest rate applied against a $114 million principal value. The agreement was
assigned to a third party lessor under the terms of a lease finance structure.
This structure also required the creation and maintenance of a cash collateral
account that limits the liquidity of $119.6 million of our cash, which is
classified as long-term on our balance sheet. During the term of the lease, we
have a purchase option to buy the building for $114 million or to extend the
lease. If we elect not to purchase the building or extend the lease term, we
have guaranteed to compensate the lessor for the difference between the market
value of the building and $114 million, limited upwards to a maximum amount of
$101 million (residual value guarantee). The agreement qualifies for operating
lease accounting treatment, and as such the buildings are not included on our
balance sheet.
This agreement is subject to specific financial covenants that are reported to
the lessor quarterly and relate to tangible net worth, fixed charge ratio,
EBITDA, and minimum net cash balances. In the event that we are in default of
these financial covenants, the lessor has the right to demand payment of the
$114 million
-26-
principle value that is being held as long-term restricted cash and transfer the
ownership of the building to us at fair market value, which may trigger the
recognition of a loss in our financial statements. At June 30, 2002, we were in
violation of a financial covenant on our synthetic lease arrangement related to
the Bayside facility. The covenant required a minimum level of profitability. We
received a waiver from the financial institution through August 30, 2002 and are
required under the waiver to exercise the purchase option under the arrangement.
Unless we can replace the financial participants in the synthetic lease, we will
exercise the purchase option on or before August 30, 2002. We are investigating
other financial options for the Bayside facility, as well.
In December 2001, we provided loans to our Chief Executive Officer totaling $4.7
million of which $2.7 million was repaid prior to December 31, 2001. During the
quarter ended March 31, 2002, we provided loans to our Chief Executive Officer
totaling $0.9 million of which $0.1 was repaid prior to March 31, 2002. During
the quarter ended June 30, 2002, we provided loans to our Chief Executive
Officer totaling $2.1 million. As of June 30, 2002, total loans outstanding and
total accrued interest to our Chief Executive Officer were approximately $4.9
and $0.1 million, respectively. These loans are represented by full recourse
promissory notes accruing interest at the rate of 6% per annum. Each loan, plus
any accrued unpaid interest, will become due the earlier of either two years
from the grant date of the individual loan or the date that our Chief Executive
Officer leaves the Company. All after tax proceeds of compensatory bonuses and
50% of after tax proceeds from sales of Company stock must be used to pay down
the loans outstanding. The first loans will become due in December 2003. These
loans are included in intangibles and other assets, net. These loans were made
pursuant to a $5 million revolving line of credit approved by our Board of
Directors in December 2001.
A goal of the fiscal 2002 fourth quarter restructuring was to significantly
lower the cash expense rate of the business. In the fiscal 2002 fourth quarter,
we expect to use a significant amount of cash for severance and related costs.
After the fiscal 2002 fourth quarter, we expect to substantially reduce the cash
required to operate our business.
Our capital and liquidity requirements depend on numerous factors, including
market acceptance of our products and services, economic conditions impacting
our revenue generation, the resources we devote to developing, marketing,
selling and supporting our products and services, the resources we commit to
facilities, the timing and extent of our investments, the value of our
investments in equity securities and real estate, acquisition and restructuring
costs, restructuring opportunities related to our real estate, and the ability
to raise capital and other factors. We believe that we have adequate cash
resources to fund operations for at least the next twelve months.
OTHER MATTERS
In connection with the engagement of our independent auditors, our audit
committee has reviewed both the audit and non-audit services provided pursuant
to this engagement to ensure that our auditors satisfy the independence
requirements mandated by generally accepted accounting principles and the SEC.
However, our audit committee has not had the opportunity to formally approve the
non-audit services provided by our auditors, as required under new federal law
that was enacted July 30, 2002. We intend to seek the approval of these services
by our audit committee at its next meeting which is scheduled to occur in
September 2002.
FACTORS AFFECTING OPERATING RESULTS
Interested persons should carefully consider the risks described below in
evaluating us. Additional risks and uncertainties not presently known to us or
that we currently consider immaterial may also impair our business operations.
If any of the following risks actually occur, our business, financial condition
or results of operations could be materially adversely affected. In that case,
the trading price of our Common Stock could decline.
IF WE DO NOT INCREASE OUR REVENUES, WE WILL FAIL TO ACHIEVE AND SUSTAIN
OPERATING PROFITABILITY.
We plan to continue to invest in technology and marketing to develop and improve
our products and increase market share. To achieve and sustain operating
profitability on a quarterly and annual basis, we will need to increase our
revenues, particularly our enterprise search software license revenue and our
search marketing solutions revenue associated with our Web search services. In
the future, our revenues may continue to decline, remain flat, or grow at a slow
rate, particularly in light of the current market environment. In the absence of
substantial and sustained revenue growth, we cannot predict when or if we will
become profitable. If we fail to achieve profitability or display significant
progress towards profitability, our stock price may fall due to a lower
perceived value, customers may defer or delay purchases based on our financial
condition, our relationships with our partners and distributors may decline and
financial covenants in our financial arrangements may be breached.
OUR QUARTERLY OPERATING RESULTS MAY FLUCTUATE SIGNIFICANTLY, AND THESE
FLUCTUATIONS MAY CAUSE OUR STOCK PRICE TO FALL.
We expect that a portion of our revenues will come from licenses to a
relatively small number of customers, which is consistent with our historical
performance to date. The volume and timing of orders are difficult to predict
because the markets for our products are in their early stages and the sales
cycle varies
-27-
substantially from customer to customer. In addition, many customers in our
target markets are scrutinizing their capital spending budgets in light of the
current economic conditions, and other customers have limited access to capital
to fund operational needs. These companies are shifting their buying patterns as
a result, taking a more cautious and measured approach to their upgrade and
expansion plans. The cancellation, deferral or reduction of even a small number
of licenses of any of our products would reduce our expected revenues, which
would adversely affect our quarterly financial performance. To the extent
significant sales occur earlier than expected, operating results for later
quarters may not compare favorably with operating results from earlier quarters.
Our operating expenses are largely based on anticipated revenue trends and a
high percentage of our expenses are fixed in the short term. Despite our recent
workforce reductions, we expect to continue to make appropriate investments to
develop and market products for the information retrieval markets, improve our
customer support capabilities, develop new distribution channels, and fund of
research and development. A delay in generating or recognizing revenue for the
reasons discussed herein or for any other reason could cause significant
variations in our operating results from quarter-to-quarter and could result in
substantial operating losses.
Due to these factors, we believe that quarter-to-quarter comparisons of our
operating results are not a good indication of our future performance. It is
likely that in some future quarter, our operating results may be below the
expectations of public market analysts or investors, and the price of our Common
Stock may fall.
WE HAVE TAKEN AND EXPECT TO TAKE A NUMBER OF EXPENSE REDUCING ACTIONS TO ADDRESS
OUR LOSSES AND THERE EXISTS UNCERTAINTY AS TO WHETHER THESE ACTIONS WILL BE
SUCCESSFUL.
In order to reduce our recurring losses, we have taken a number of actions to
reduce our expenses over the coming quarters. In July 2002, we undertook a
significant restructuring where we consolidated operations, closed certain
branch offices, reduced headcount across all business units and reduced our
content networking products group. In the event this restructuring was
implemented too late or at insufficient levels, our expenses will be too great
over coming periods to achieve profitability. In addition, there is a risk that
these cost-cutting actions will impair our ability to effectively develop and
market products and remain competitive in the industries in which we compete. In
the future, we may undertake additional expense reducing actions that may
involve one-time expenditures related to severance, facilities or real estate.
The impact of these one-time expenses or our financial statements may adversely
impact our perceived value.
OUR FUTURE GROWTH DEPENDS ON THE COMMERCIAL SUCCESS OF OUR SEARCH SOFTWARE
PRODUCTS.
Our revenue growth is dependent, among other things, upon the growth of sales of
our enterprise search software products. With our recent restructuring, an
increasingly greater percentage of our licenses revenue will arise out of our
enterprise search software products. Such revenues are derived from software
license fees and fees derived from support and upgrades of such software. A
number of factors could cause sales of our enterprise search products to slow or
decline. We face intense competition from companies with more experience in the
marketplace and who offer a broad set of integrated products and services to our
target customers. In addition, these companies have deeper strategic
relationships and have established well developed channels to sell and
distribute their products and services. We historically have sold our enterprise
search products primarily at the departmental level within large enterprises,
through a direct sales force. To expand our market opportunities, we will need
to enhance our product and service offerings, effectively market our products as
enterprise wide search and navigation solutions, develop channel and licensing
programs to extend our reach, and partner with companies offering complementary
products to collectively offer a broader set of integrated products.
OUR BUSINESS WOULD BE HARMED IF CUSTOMERS CHOOSE NOT TO USE OR PROMOTE OUR WEB
SEARCH SERVICES.
-28-
Revenues from our Web search services result primarily from the number of
end-user searches processed by our Search Engine. Our agreements with customers
do not require them to direct end-users to our search services or to use our
search services exclusively or at all. Accordingly, revenues from search
services are highly dependent upon the willingness of customers to promote and
use the search services we provide, the ability of our customers to attract
end-users to their online services, the volume of end-user searches that are
processed by our Web search services, and the ability of customers to monetize
traffic from their Web site search pages. Some of our customers have selected
competing search and directory services to operate in combination with our
services, which has reduced the number of queries available for us to serve and
may erode future revenue growth opportunities. The technological barriers for
customers to implement additional services or to replace our services are not
substantial.
OUR WEB SEARCH REVENUES ARE DEPENDENT UPON A RELATIVELY FEW PORTAL CUSTOMERS AND
OUR ABILITY MAINTAIN AND INCREASE REVENUE FROM THESE CUSTOMERS.
The market for Internet search is maturing and many smaller and medium size
portals are not profitable, suffer from declining revenue growth and have
limited access to capital to fund operational needs. Many of our smaller search
services customers have elected not to renew their contracts and our market
opportunity from portals has become more limited. As a result, our Web search
revenues are dependent on a relatively few number of major customers. Economic
conditions may lead such customers of our Web search services to stop paying for
such services, to only pay for such services at highly reduced rates or to leave
our services in favor of competitors offering Web search services bundled with
other offerings. In order for us to increase revenues from our Web search
services business, we will need to attract new customers, develop and deliver
new search services, products and features to existing and future customers,
establish deeper strategic relationships with our customers, and increase the
adoption of our Index Connect and Search Submit search marketing solutions for
content publishers.
OUR REVENUE GROWTH IS DEPENDENT UPON THE GROWTH OF REVENUE DERIVED FROM OUR
SEARCH MARKETING SOLUTIONS.
We expect that over time our search marketing solutions for content publishers
will comprise a greater percentage of our total Web search services revenues.
Our search marketing solutions revenue is dependent upon the distribution
channel afforded us through the portal customers serving our search queries.
Should any significant portal customers reduce or stop utilizing our search
services or if such portals decline to participate in our search marketing
solutions offerings, our search marketing solutions revenues would decline.
THE SHIFT IN OUR FOCUS AWAY FROM THE CONTENT NETWORKING MARKET TO THE WEB SEARCH
SERVICES AND ENTERPRISE SEARCH SOFTWARE MARKETS COULD HAVE A MATERIAL ADVERSE
EFFECT ON OUR OPERATING RESULTS.
Since the quarter ended December 2000, we have experienced a decline in licenses
revenue from sales of our content networking software products. In July 2002, we
announced a shift in our strategy to reduce our investment in our content
networking products group and focus our business on the Web search services and
enterprise search software markets. Our content networking software products
typically had a larger per transaction size and a larger services component than
our enterprise search software products. Our shift in strategy will likely
reduce the average size of our software deals and the corresponding services
revenue and will require us to enter into significantly more enterprise search
software license deals and increase the size of such transactions to achieve
revenue stability or growth. Our sales force has historically focused on selling
our content networking software products. If our sales force is unable to
quickly adapt to our new focus on enterprise search software products, our
business would be harmed. In addition, although we intend to continue to support
customers who purchased our content networking software products and partners
marketing our products, such customers and partners may view our strategic shift
as a breach of certain obligations we have to them. These customers and partners
may bring or threaten legal action against us that could materially impact our
business by being costly to defend or settle, distracting to management and
potentially expensive in the event such actions are meritorious.
-29-
THE MARKETS IN WHICH WE OPERATE ARE HIGHLY COMPETITIVE AND RAPIDLY CHANGING AND
WE MAY BE UNABLE TO COMPETE SUCCESSFULLY AGAINST NEW ENTRANTS AND ESTABLISHED
COMPANIES WITH GREATER RESOURCES.
We compete in markets that are new, intensely competitive, highly fragmented and
rapidly changing. We have experienced and expect to continue to experience
increased competition from current and potential competitors in each of our
market segments, many of which are bringing new solutions to market,
establishing technology alliances and OEM relationships with larger companies,
and focusing on specific segments of our target markets. In some cases, our
competitors are implementing aggressive pricing and other strategies that are
focused in the short term on building customer bases, name recognition in the
market and capturing market share. This may cause some price pressure on our
products and services in the future.
In the search software market, our primary competitors include AltaVista,
Autonomy, Convera, FAST Search, Google, Hummingbird, Lotus, Microsoft and
Verity. Other well-funded and brand recognizable companies have announced their
intention to enter the search software market. We also indirectly compete in
this market with Oracle, SAP, and other database vendors that offer information
search and retrieval capabilities with their core database products.
We compete with a number of companies to provide Internet search and directory
services and technology. In the Web services marketplace, our primary
competitors include a variety of established and newer companies, including
AltaVista, Ask Jeeves, FAST Search and Transfer, Google, Overture, LookSmart,
and Northern Light. These companies and other competitors have focused on search
result relevance, database size metrics and ease of use to differentiate their
services. In addition, several large media and other Internet-based companies
have made investments in, or acquired, Internet search engine companies and may
seek to develop or customize their products and services to deliver to our
target customers.
We directly or indirectly compete against multiple companies with our software
infrastructure products, including Akamai, CacheFlow, Cisco Systems, InfoLibria,
Microsoft, Netscape, Network Appliance, Novell, RealNetworks and Volera. We are
aware of numerous other major software developers as well as smaller
entrepreneurial companies that are focusing significant resources on developing
and marketing products and services that will compete with our products. We also
believe that we may face competition from other providers of competing solutions
to network infrastructure problems, including networking hardware and software
manufacturers, traditional hardware manufacturers, telecommunications providers,
cable TV/communications providers, software database companies, and large
diversified software and technology companies. Many of these companies provide
or have announced their intentions to provide a range of software and hardware
products based on Internet protocols and to compete in the broad
Internet/intranet software market as well as in specific market segments in
which we compete.
Our competitors may be able to respond more quickly to new or emerging
technologies and changes in customer requirements than we can. In addition, our
current and potential competitors may bundle their products with other software
or hardware, including operating systems, browsers and network hardware in a
manner that may discourage users from purchasing products offered by us. Also,
current and potential competitors have or may have greater name recognition,
more extensive customer bases and access to proprietary content. Increased
competition could result in price reductions, fewer customer orders, fewer
search queries served, reduced gross margins and loss of market share.
OUR SOFTWARE PRODUCTS COMPETE IN A MARKET THAT IS RAPIDLY CHANGING AND WE MUST
DEVELOP, ACQUIRE, AND INTRODUCE NEW PRODUCTS AND TECHNOLOGIES TO GROW OUR
REVENUES AND REMAIN COMPETITIVE.
The markets that we target for our software products are characterized by rapid
technological change, frequent new product introductions, changes in customer
requirements and evolving industry standards. The introduction of products
embodying new technologies and the emergence of new industry standards could
render our existing products obsolete. Our future success and revenue growth
will depend upon our
-30-
ability to develop, acquire and introduce a variety of new products and product
enhancements to address the increasingly sophisticated needs of our customers.
We have experienced delays in releasing new products and product enhancements
and may experience similar delays in the future. Material delays in introducing
new products and enhancements may cause customers to forego purchases of our
products or to purchase those of our competitors.
IF THE USE OF THE INTERNET, INTRANETS, EXTRANETS, CORPORATE PORTALS AND WEB
PORTALS DOES NOT GROW AS ANTICIPATED, OUR BUSINESS OPPORTUNITIES WOULD BE
SERIOUSLY LIMITED.
Sales of our search software products are dependent upon the development of
corporate intranets, extranets, portals and Websites. Global acceptance and use
of these mediums may not continue to develop at recent historical rates and our
targeted business customers may not adopt or continue to use these mediums in
the operation of their business. The lack of continued use or initial adoption
of these mediums by our targeted customers would impair demand for our products
and would adversely affect our ability to sell our products. Demand and market
acceptance for software products and services aimed at servicing intranets,
extranets, portals and Websites are subject to a high level of uncertainty and
there exist few proven services and products.
OUR FUTURE REVENUE GROWTH DEPENDS ON OUR ABILITY TO IMPROVE THE EFFECTIVENESS
AND BREADTH OF OUR SALES, DISTRIBUTION AND SUPPORT ORGANIZATIONS.
We will need to improve the effectiveness and breadth of our direct and indirect
sales operations, both domestically and internationally, in order to increase
market awareness and sales of our products. Our products and services often
require sophisticated sales efforts targeted at several people within our
prospective customers' organizations. Competition for qualified sales personnel
is intense, and we might not be able to hire the kind and number of sales
personnel we are targeting. In addition, we will need to effectively train and
educate our sales force if we are to be successful in our sales related
initiatives including focusing our sales efforts on our search software
products, building out our lead management system, completing the deployment of
our inside sales force, and streamlining our overseas sales efforts.
Our future revenue growth is dependent upon establishing and maintaining
productive relationships with a variety of distribution partners, including
OEMs, resellers, systems integrators and joint marketing partners. We seek to
sign up distribution partners that have a substantial amount of technical and
marketing expertise. Even with this expertise, our distribution partners
generally require a significant amount of training and support from us and this
training often takes several quarters before our distribution partners develop
the expertise and skills necessary to effectively sell our products. We may be
adversely affected if our distribution partners fail to ship products in a
timely manner or according to agreed upon schedules. We have entered into OEM
relationships with prominent network hardware providers to bundle our software
products into their hardware offerings. Several risks arise in connection with
these relationships including long-term support obligations, conflicts with our
other sales channels, unpredictable product support obligations and reliance on
such third parties for sales results.
We require highly trained customer service and support personnel. We currently
have a relatively small customer service and support organization and will need
to continue to train our staff to support new customers, new product lines, the
expanding needs of existing customers and the internationalization of our
business. Competition for customer service and support personnel is intense in
our industry due to the limited number of people available with the necessary
technical skills and understanding of the relevant industries.
THE LOSS OF A KEY CUSTOMER COULD ADVERSELY AFFECT OUR REVENUES AND BE PERCEIVED
AS A LOSS OF MOMENTUM IN OUR BUSINESS.
We have generated a substantial portion of our historical revenues from a
limited number of customers. We expect that a small number of customers will
continue to account for a substantial portion of revenues for
-31-
the foreseeable future. As a result, if we lose a major customer for any reason,
including non-renewal of a customer contract or a failure to meet performance
requirements, or in the case of our Web search business if there is a decline in
usage of any customer's search service, our revenues would be adversely
affected. Our potential customers and public market analysts or investors may
perceive any such loss as a loss of momentum in our business, which may
adversely affect future opportunities to sell our products and services and
cause our stock price to decline. We cannot be sure that customers that have
accounted for significant revenues in past periods, individually or as a group,
will continue to generate revenues in any future period.
IF WE ARE UNABLE TO MAINTAIN OUR RELATIONSHIPS WITH PARTNERS, COMPANIES THAT
SUPPLY AND DISTRIBUTE OUR PRODUCTS, AND CUSTOMERS WE MAY HAVE DIFFICULTY SELLING
OUR PRODUCTS AND SERVICES.
We believe that our success in penetrating our target markets depends in part on
our ability to develop and maintain strategic relationships with key hardware
and software vendors, system integrators, Internet technology and service
providers, distribution partners and customers. We believe these relationships
are important in order to validate our technology, facilitate broad market
acceptance of our products, enhance our product and service offerings, and
expand our sales, marketing and distribution capabilities. If we are unable to
develop these key relationships or maintain and enhance existing relationships
across all of our product and service offerings, we may have difficulty
generating revenues.
We have from time to time licensed components from others such as reporting
functions, security features, and internalization capabilities, and incorporated
them into our products and services. If these licensed components are not
maintained, it could impair the functionality of our products and services and
require us to obtain alternative products from other sources or to develop this
software internally. In either case, this could involve costs and delays as well
as diversion of engineering resources.
THE LEGAL ENVIRONMENT IN WHICH WE OPERATE IS UNCERTAIN AND CLAIMS AGAINST US
COULD CAUSE OUR BUSINESS TO SUFFER.
Our products and services operate in part by making copies of material available
on the Internet and other networks and making this material available to
end-users from a central location or local systems. In addition, our Web search
services collect end-user information, which we use to deliver services to our
customers and our customers use to deliver services to their users. This creates
the potential for claims to be made against us (either directly or through
contractual indemnification provisions with customers) for defamation,
negligence, copyright or trademark infringement, personal injury, invasion of
privacy or under other legal theories based on the nature, content, copying,
dissemination, collection or use of these materials. These claims have been
threatened against us from time to time and have been brought, and sometimes
successfully pressed, against online service providers. It is also possible that
if any information provided through any of our products or services contains
errors, third parties could make claims against us for losses incurred in
reliance on this information. Although we carry general liability insurance, our
insurance may not cover potential claims of this type or be adequate to protect
us from all liability that may be imposed.
INTERNET-RELATED LAWS COULD ADVERSELY AFFECT OUR BUSINESS.
Laws and regulations that apply to communications and commerce over the Internet
are becoming more prevalent. The United States Congress has enacted Internet
laws regarding children's privacy, copyrights, taxation and the transmission of
sexually explicit material. The European Union has enacted its own privacy
regulations as well as legislation governing e-commerce, copyrights and caching.
The law of the Internet, however, remains largely unsettled, even in areas where
there has been some legislative action. It may take years to determine whether
and how existing laws such as those governing intellectual property, privacy,
libel and taxation apply to the Internet. In addition, the growth and
development of the market for online commerce may prompt calls for more
stringent consumer protection laws, both in the United States and abroad, that
may impose additional burdens on companies conducting business online. The
adoption,
-32-
implementation or modification of laws and regulations relating to the Internet,
or interpretations of existing law, could adversely affect our business.
ANY ACQUISITIONS WE MAKE COULD ADVERSELY AFFECT OUR OPERATIONS OR FINANCIAL
RESULTS.
We have purchased seven companies since September 1998 and may invest in or
acquire complementary companies, products and technologies in the future. If we
buy a company, we could have difficulty in assimilating that company's personnel
and operations and maintaining acceptable standards, controls, procedures and
policies. In addition, the key personnel of the acquired company may decide not
to work for us. Also, we could have difficulty in integrating the acquired
technology or products into our operations. There could be potential unknown
liabilities associated with the purchased company. These difficulties could
disrupt our ongoing business, distract our management and employees and increase
our expenses. Furthermore, we may have to incur debt or issue equity securities
to pay for any future acquisitions, the issuance of which could be dilutive to
our stockholders.
WE MAY NOT BE ABLE TO RECRUIT AND RETAIN THE PERSONNEL WE NEED TO SUCCEED.
Our primary asset is the intellectual capabilities of our employees. We are
therefore dependent on recruiting and retaining a strong team of personnel
across all functional areas. Competition for these individuals is intense, and
we may not be able to attract or retain the highly qualified personnel necessary
for our success. Our employment relationships are generally at-will. We have had
key employees leave us in the past and we can make no assurance that one or more
will not leave us in the future. If any of our key employees were to leave us,
we could face substantial difficulty in hiring qualified successors and could
experience a loss in productivity while any such successor obtains the necessary
training and experience. Many of our key employees have reached or will soon
reach the four-year anniversary of their hiring date and will be fully vested in
their initial stock option grants. While our key employees are typically granted
additional stock options to provide additional incentive to remain with us, the
initial option grant is typically the largest and an employee may be more likely
to leave us upon completion of the vesting period for the initial option grant.
In light of current market conditions, we may undertake programs to retain our
employees that may be viewed as dilutive to our shareholders. We do not have key
person life insurance policies covering any of our employees other than our
Chief Executive Officer.
OUR EFFORTS TO INCREASE OUR PRESENCE IN MARKETS OUTSIDE OF THE UNITED STATES MAY
BE UNSUCCESSFUL AND COULD RESULT IN LOSSES.
We market and sell our products in the United States and internationally,
principally Europe and Asia. Historically, the percentage of sales to customers
located outside of the United States has varied from quarter to quarter,
reflecting the limited build-out of our international operations. We have
limited experience in developing localized versions of our products and
marketing and distributing our products internationally. We are more dependent
on third party resellers for international sales. Should our third party
reseller partners not promote our products for any reason our international
sales could suffer. In addition, other inherent risks may apply to international
markets and operations, including:
o the impact of recessions in economies outside the United States;
o greater difficulty in accounts receivable collection and longer
collection periods;
o the impact of changes in foreign currencies, in particular the
EU's conversion to the Euro;
o unexpected changes in regulatory requirements;
o difficulties and costs of staffing and managing foreign
operations;
o potentially adverse tax consequences; and
-33-
o political and economic instability.
We also have limited experience operating in foreign countries and managing
multiple offices with facilities and personnel in disparate locations. We may
have difficulties coordinating our efforts, supervising and training our
personnel or otherwise successfully managing our resources in these foreign
countries. The laws and cultural requirements in foreign countries can vary
significantly from those in the United States. The inability to integrate our
business in these jurisdictions and to address cultural differences may
adversely affect the success of our international operations.
INTELLECTUAL PROPERTY CLAIMS AGAINST US COULD CAUSE OUR BUSINESS TO SUFFER.
Substantial litigation regarding intellectual property rights exists in the
software industry. We expect that software products may be increasingly
vulnerable to third party infringement claims as the number of competitors in
our industry segments grow and the functionality of products in different
industry segments overlaps. We believe that many companies have filed or intend
to file patent applications covering aspects of their technology that they may
claim our technology infringes. Some of these companies have sent copies of
their patents to us for informational purposes. We cannot be sure that these
parties will not make a claim of infringement against us with respect to our
products and technology. In August 2001, Network Caching Technology L.L.C. (NCT)
initiated an action against us that our caching products violate one or more
patents owned by NCT. The complaint seeks compensatory and other damages and
injunctive relief. This case, and any future actions initiated against us, will
be time consuming and expensive to defend, will distract management's attention
and resources, and could cause product shipment delays or require us to
reengineer our products or enter into royalty or licensing agreements. Such
royalty or licensing agreements, if required, may not be available on acceptable
terms, if at all.
ANTI-TAKEOVER PROVISIONS CONTAINED IN OUR CHARTER AND UNDER DELAWARE LAW COULD
IMPAIR A TAKEOVER ATTEMPT.
We are subject to the provisions of Section 203 of the Delaware General
Corporation Law prohibiting, under some circumstances, publicly held Delaware
corporations from engaging in business combinations with some stockholders for a
specified period of time without the approval of the holders of substantially
all of our outstanding voting stock. Such provisions could delay or impede the
removal of incumbent directors and could make more difficult a merger, tender
offer or proxy contest involving us, even if such events could be beneficial, in
the short term, to the interests of the stockholders. In addition, such
provisions could limit the price that some investors might be willing to pay in
the future for shares of our Common Stock. These provisions, in addition to
provisions contained in our charter, may have the effect of deterring hostile
takeovers or delaying changes in our control or management.
OUR STOCK PRICE IS VOLATILE.
The market price of our Common Stock has been and may continue to be subject to
wide fluctuations. Our stock price may fluctuate in response to a number of
events and factors, such as quarterly variations in operating results,
announcements of technological innovations, new products or changing customer
relationships by us or our competitors, announcements of technological alliances
and partnerships, changes in financial estimates and recommendations by
securities analysts, the operating and stock price performance of other
companies that investors may deem comparable, and news reports relating to
trends in our markets. In addition, the stock market in general, and the market
prices for technology-related companies in particular, have experienced extreme
volatility that often has been unrelated to the operating performance of such
companies. These broad market and industry fluctuations may adversely affect the
price of our stock, regardless of our operating performance. In the past,
companies that have experienced volatility in the market price of their stock
have been the subjects of securities class action litigation. If we were the
subject of securities class action litigation, it could result in substantial
costs and a diversion of management's attention and resources.
-34-
WE MAY NOT BE ABLE TO CONTINUE TO MEET THE CONTINUED LISTING CRITERIA FOR THE
NASDAQ NATIONAL MARKET WHICH WOULD MATERALLY ADVERSELY AFFECT OUR BUSINESS AND
FINANCIAL CONDITION.
Continued listing on The Nasdaq National Market requires that the minimum bid
price of our common stock not fall below $1.00 for 30 consecutive trading days.
As of August 13, 2002, our stock price had been below $1.00 for 19 consecutive
trading days. If our stock price remains below $1.00 for 30 consecutive trading
days we may receive a letter from Nasdaq regarding our failure to meet this
minimum bid price requirement. Pursuant to the rules governing listing
compliance for The Nasdaq National Market, this letter will also inform us that
in order for our common stock to continue to be eligible to trade on The Nasdaq
National Market, the closing bid price of our common stock must be at least
$1.00 per share for a minimum of 10 consecutive trading days anytime before the
expiration of a 90 day period, which period will begin upon our receipt of this
compliance letter from Nasdaq. We may not be able to effect measures to come
into compliance with this minimum bid price requirement within this period of
time, in which case our stock may no longer be eligible to trade on The Nasdaq
National Market. If we are unable to continue to list our common stock for
trading on The Nasdaq National Market, this would materially adversely affect
business.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
INTEREST RATE RISK
We are exposed to interest rate risk primarily in our investment portfolio and
synthetic lease. We do not use derivative financial instruments to hedge
interest rate risk. The primary objective of our investment activities is to
preserve the principal while maximizing yields without significantly increasing
risk. This is accomplished by placing our marketable securities investments with
high quality issuers principally in United States government and corporate debt
securities with terms of less than two years.
Under the synthetic lease finance structure, we are required to pay lease
payments for five years from August 24, 2000. The payments are calculated based
on a floating interest rate applied against a $114 million principle value. We
have the option of choosing interest rates, which are fixed for various terms
not to exceed 12 months. Upon the expiration of those various rate terms, a new
interest rate will be selected for the corresponding underlying principle value.
Under our notes payable agreements, we have borrowed $15.4 million as of
June 30, 2002. The notes payable have a variable interest rate at approximately
zero to 35 basis points above prime.
The following table presents the amounts of our cash and cash equivalents,
short-term investments and synthetic lease, that are subject to interest rate
risk by year of expected maturity/expiration of the selected interest rate terms
on the synthetic lease and average interest rates as of June 30, 2002:
FY 2002 FY 2003 FY 2004 TOTAL
------- ------- ------- -----
(In Thousands)
Cash & Cash Equivalents $15,316 - - $15,316
Average Interest Rate 0.38% - -
Short-term Investments $39,803 $17,125 $17,780 $74,708
Average Interest Rate 1.75% 3.13% 3.15%
Restricted Cash $95,699 $33,258 - $128,957
Average Interest Rate 1.63% 1.73% -
Synthetic Lease $67,374 $46,626 - $114,000
Average Interest Rate 2.08% 2.64% -
-35-
FOREIGN CURRENCY RISK
We have foreign operations both in Europe and Asia. We currently transact
substantially all of our revenues abroad in United States currency. We are
exposed to fluctuations in foreign exchange rates for our expenditures and thus
our consolidated financial results could be affected by a change in foreign
exchange rates.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS.
On August 2, 2001, an amended complaint was filed by Network Caching Technology,
L.L.C. in the United States District Court for the Northern District of
California against Inktomi as well as other providers of caching technologies
including Novell, Inc., Akamai Technologies, Inc., Volera, Inc., and Cacheflow,
Inc. Plaintiff alleges that certain products marketed by Inktomi and the other
defendants violate one or more patents owned by plaintiff. The complaint seeks
compensatory and other damages and injunctive relief. We were served the
complaint on August 7, 2001. We subsequently filed a response denying the
allegations and asserting a number of defenses. At this time it is too early to
estimate any potential losses from this action and whether this action may have
a material impact on the results of operations. We are vigorously defending
against this action.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
See Management's Discussion and Analysis of Financial Condition and Results of
Operations; Liquidity and Capital Resources.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
EXHIBIT
NUMBER DESCRIPTION
------- -----------
10.39 Promissory Note dated May 14, 2002, executed by David
Peterschmidt for the benefit of Inktomi Corporation.
10.40 Conditional Waiver and Amendment by and among Inktomi
Corporation, Wilmington Trust FSB, Deutsche Bank AG, New York
Branch, Deutsche Bank AG, New York and/or Cayman Islands Branch
and Deutsche Bank Securities Inc. dated August 13, 2002
10.41 Third Loan Modification Agreement and Fourth Loan Modification
Agreement between Inktomi and Silicon Valley Bank dated June 25,
2002 and July 31, 2002, respectively.
99.1 Certification of Chief Executive Officer and Chief Financial
Officer Pursuant to 18 U.S.C. Section 1350
----------
(b) REPORTS ON FORM 8-K
NONE IN THE QUARTER ENDING JUNE 30, 2002
-36-
SIGNATURE
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
undersigned, thereunto duly authorized.
Inktomi Corporation
Date: August 14, 2002 By: /s/ RANDY GOTTFRIED
----------------------------
Randy Gottfried
Senior Vice President and
Chief Financial Officer
(duly authorized officer and
principal financial officer)
-37-
EXHIBIT
NUMBER DESCRIPTION
------- -----------
10.39 Promissory Note dated May 14, 2002, executed by David
Peterschmidt for the benefit of Inktomi Corporation.
10.40 Conditional Waiver and Amendment by and among Inktomi Corporation,
Wilmington Trust FSB, Deutsche Bank AG, New York Branch, Deutsche
Bank AG, New York and/or Cayman Islands Branch and Deutsche Bank
Securities Inc. dated August 13, 2002
10.41 Third Loan Modification Agreement and Fourth Loan Modification
Agreement between Inktomi and Silicon Valley Bank dated June 25,
2002 and July 31, 2002, respectively.
99.1 Certification of Chief Executive Officer and Chief Financial
Officer Pursuant to 18 U.S.C. Section 1350
----------
38