ITEM 1. BUSINESS
InterVoice, Inc. (together with its subsidiaries, collectively referred to as "InterVoice" or the "Company") develops, sells and services call automation systems. The Company's historical emphasis has been on interactive voice response ("IVR") systems, which allow individuals a self help facility using their telephones, personal computers, credit card terminals or voices to access and/or provide information to computer data bases utilized by businesses. More recently, the Company has focused on systems for telecommunications service providers to provision a variety of automated services such as processing collect, debit and credit card calls, and advanced calling features such as prepaid calling cards, voice and text messaging, one number personal numbering plans and voice dialing. In the last year, the Company has increased its emphasis on customer relationship management systems which provide companies automated customer service, telemarketing capabilities and the ability to generate sales without human interaction (i.e., v-commerce and e-commerce).
The Company's systems are sold under the trade names "OneVoice", "AgentConnect" and "InControl". OneVoice systems are used by a variety of enterprises to disseminate and receive information efficiently, allowing multiple callers simultaneous access to computer data bases without the expense of maintaining a customer service representative and workstation for each telephone line. AgentConnect systems improve call center efficiency by automating routine customer service requests and providing telemarketing capabilities by automatically dialing phone numbers and only transferring a call to a live agent if the call is answered and the called party remains on the phone. AgentConnect systems also are being utilized in v-commerce and e-commerce environments to automate order processing and fulfillment. OneVoice and AgentConnect applications currently function in a wide range of industries including banking and financial services, cable TV, government, healthcare, help desk, higher education, insurance, retail, wholesale distribution, telecommunications, transportation, manufacturing and utilities. InControl systems provide enhanced services for telecommunications networks by automating calls which utilize alternate billing methods, and provide new, revenue generating calling features and services. The Company's products include software development tools designed to support a number of diverse product applications and to simplify system customization.
OneVoice systems sell at list prices ranging from approximately twenty five thousand to millions of dollars and support from two to thousands of voice and data channels. Scalability is a distinguishing factor for all OneVoice systems. Such systems can incorporate either multiple voice processing modules of up to 96 voice and data channels per module or multiple units of the Company's NSP 5000 platform, which can provide up to 1400 voice and data channels per platform. The Company's voice processing modules and/or NSP5000 platforms can be connected by local or wide area networks for a single point of management, control and redundancy. AgentConnect systems sell at list prices ranging from approximately two hundred fifty thousand to millions of dollars and support from four to 40 agent positions on a single voice processing module. Multiple AgentConnect modules can be connected via a node adapter to form systems to support up to a total of 128 agents. InControl systems sell at list prices ranging from approximately two hundred fifty thousand to millions of dollars and support from 96 to thousands of ports per system. InControl systems are based on the Company's NSP5000 platform and share the scalability attributes of the Company's OneVoice systems.
In the Customer Premise Equipment (CPE) market, the Company sells its products directly and through more than 130 domestic and international distributors. The Company generally sells its products directly to Telecommunications (Telco) end-users. Since the Company's inception in 1984, the number of worldwide installations of the Company's systems has grown to nearly 12,000 located in 52 countries. The CPE end-users to which the Company has sold systems include Aetna, Bank of America, CitiBank, Fidelity Investments, BankOne, First Union Corporation, J.C. Penney, Martin Marietta, Merrill Lynch, Microsoft, National Data Corporation, National Westminster Bank U.K., Sears Roebuck and Co., Social Security Administration, T U Electric, USAA and Wachovia Bank. The Company's Telco end-users include Avantel (Mexico), Bell Canada, British Telecom, CANTV (Venezuela), Codatel (Dominican Republic), CTC (Chile), CTI (Argentina), Guatel (Guatemala), GTE, Qwest/LCI International, MCI/Worldcom, Movilnet (Venezuela), NPT (People's Republic of China), Telcel (Venezuela), Telecom Asia (Thailand), Sprint and Unicom (People's Republic of China). No customer accounted for 10% of the Company's sales during fiscal 1999 or 1998. Other than Siemens AG, one of the Company's resellers, which accounted for 10.2% of the Company's total sales in fiscal
1997, no customer represented 10% or more of the Company's aggregate sales during fiscal 1997.
CALL AUTOMATION INDUSTRY
The number of telephone calls and, more recently, Internet inquiries (whether voice-based or graphics-based) requesting information or requiring operator assistance that must be handled by businesses, telecommunications service providers and other organizations has increased dramatically in recent years. Traditionally, consumers obtained information or services from organizations such as banks, insurance companies, or telephone companies by phoning a customer service representative, agent, or operator who used a terminal linked to a computer to process the data or service request. The major disadvantage of this procedure is the high cost of providing a large number of individuals to answer calls and provide service, which imposes practical limits on access frequency and the amount of information and level of service that can be given to each caller. Another disadvantage is that, if the volume of calls increases or substantially varies with the time of day or other factors, the potential for service delays and errors may increase. As a result of these high costs and inefficiencies, organizations have increasingly turned to various methods of automation to process such calls. With call automation systems, callers receive accurate responses to routine service requests allowing customer service representatives to work on other important tasks requiring their personal expertise. In certain system applications, such as credit limit requests, callers may prefer dealing with a call automation system rather than an individual in order to preserve privacy and confidentiality. The Company believes that such systems provide better service to more customers without additional staff, improve customer and employee retention, and can result in significant cost savings to the Company's customers. Enterprises also have begun to employ Customer Relationship Management (CRM) systems to enhance customer retention through improved customer interaction to tighten the integration between the enterprise and the customer. Such systems enhance customer service, facilitate focused telemarketing initiatives and support v-commerce and e-commerce capabilities to automate order processing and fulfillment. Telecommunications network operators utilize such systems at a significant cost savings to automate calls which formerly required operator assistance. These systems also make possible high margin, revenue generating, enhanced telecommunication services and calling features.
Call automation systems traditionally have been interfaced to public telephony networks. Recently, the Internet has evolved to become a voice and data communications network similar to public telephony networks. As a natural extension of its product strategy, the Company has adapted its products to permit customers to interface their call automation systems to the Internet in addition to or simultaneously with public telephony networks. The Company's products, in conjunction with the Internet, make it possible for users of multimedia personal computers to access information and data in any combination of voice, graphic and image formats.
Call automation systems address one or more of the six basic markets below:
Interactive information response is the use of a wide variety of devices, such as telephones, facsimile or personal computers in conjunction with public and private telecommunication networks and/or the Internet to input or retrieve information or request services from a computer data base. Applications include checking account balances, credit card authorizations, insurance claims and automating telephone calls formerly requiring operator assistance. The Company's VisualConnect product makes possible multi-media applications utilizing the Internet. The Company participates in this market with its OneVoice systems which accounted for approximately 65% of its system sales in fiscal 1999.
Outbound call processing involves the automatic dialing of telephone numbers and the use of computerized voice messages and live agents to communicate with customers and prospects. Applications include customer notification, delinquent bill collecting and the telemarketing of goods and services. The Company addresses this market with its AgentConnect system which accounted for approximately 5% of its system sales in fiscal 1999.
Automated call directing serves the functions typically performed by a receptionist and involves the use of a computerized announcer which asks callers to select an extension or department. The Company's products are capable of performing as automated call directing systems, but the Company's fiscal 1999 sales into this market were not significant.
Enterprise-based voice mail enables callers to leave, exchange and retrieve electronic voice and text messages 24-hours a day, seven days a week. The Company's products are capable of performing as voice mail systems, but the Company's fiscal 1999 sales into this market were not significant.
Network-based Enhanced Calling Services allows telecommunications network operators to automate calls formerly requiring operator assistance and to provide revenue generating, advanced calling features such as voice and text messaging, prepaid and postpaid calling cards, one number personal numbering plans and voice dialing. The Company participates in this market with its InControl systems which accounted for approximately 20% of system sales in fiscal 1999.
Audiotex is the use of a telephone to access and to listen to a wide variety of current information, such as sports scores, weather, stock quotes, business news, classified ads or other similar information. The Company's products are capable of performing as audiotex systems, but the Company's fiscal 1999 sales into this market were not significant.
The call automation industry has begun to experience a demand for CRM systems that must simultaneously address customer needs in two or more of these basic markets. Larger CPE end-users, for example, are beginning to consolidate their customer service and telemarketing functions into multi-purpose call centers which handle both in-bound and out-bound calls. This consolidation has created a need for the Company's multi-purpose AgentConnect product which supports individuals who may simultaneously serve as customer service and telemarketing representatives. AgentConnect systems deployed in such a manner accounted for approximately 10% of the Company's systems sales in fiscal 1999.
The general public has become increasingly receptive to call automation, having become familiar with such technology from early adopters in the financial services industry. Such systems are becoming more pervasive in a wide variety of industries and applications as indicated below:
MARKETS
The Company has traditionally focused on the financial services market and continues to evaluate a wide variety of potential industry specific or "vertical" markets based on their potential for rapid acceptance of call automation technology. As a result, the Company has diversified its focus to include the telecommunications,
human resource, and healthcare vertical markets.
PRODUCT STRATEGY
The Company's products are designed to assist its customers in achieving the following objectives:
o Increase net profits by reducing costs o Improve customer and/or employee service o Provide product and service differentiation
The Company believes that its OneVoice and InControl systems enable the Company's customers to handle more calls with fewer delays and errors at a lower cost than through use of customer service representatives, agents or operators while preserving callers' privacy and confidentiality. AgentConnect allows the Company's customers to contact a large number of people in applications such as collections and telemarketing while improving the productivity of their agents. Both the OneVoice and AgentConnect systems can be simultaneously hosted by the Company's NSP 5000 platform. Similarly, the OneVoice and AgentConnect systems can simultaneously host multiple applications. This allows the Company's customers to leverage and cost effectively expand their investments in their OneVoice and/or AgentConnect systems. The Company also has adapted its NSP 5000 Platform to host its InControl system to address the growing telecommunications market. The InControl system provides network based automated operator services and advanced, revenue generating applications for telecommunications companies.
The Company focuses its development efforts on call automation technology. Industry standard computer platforms and operating systems are leveraged to allow the Company to take advantage of third party hardware and software technology advances. This strategy offers customers the option to select the computer platform and operating system of their preference should they wish compatability with other enterprise systems.
The Company has developed a variety of call processing functions and features characterized by the following factors:
Host Computer Platform Independence: The Company's hardware and software are designed to be independent of the host computer platform through compliance with industry standards. The same hardware and software can operate on computer platforms produced by a variety of manufacturers, allowing the Company to deliver its systems integrated with the computer platform of its customers' choice instead of dictating a specific computer platform. This is an important factor in vendor selection for many of the Company's current and potential customers and allows the Company to avoid the expense of maintaining multiple versions of the Company's hardware and software.
Operating Software Independence: The Company's InterSoft run time software, which is utilized by the Company's OneVoice, AgentConnect and InControl Systems, is simultaneously compatible with all popular operating systems, such as Windows NT, UNIX and OS/2. This operating software independence allows the Company to give its customers freedom to choose an operating system, an important factor in vendor selection for many of the Company's current and potential customers. This operating software independence also allows the Company to avoid the expense of maintaining multiple versions of the Company's InterSoft run time software.
Flexible Programming: The Company offers its customers a wide variety of software features that can be included in the OneVoice, AgentConnect and InControl systems. The Company's software is designed to support a number of diverse product applications. The Company recently introduced a graphical user interface (GUI) software development tool, InVision, which simplifies the generation and customization of customer applications.
System Expandability/Networking: The Company's basic OneVoice system can be expanded from two up to 96 lines per module. OneVoice and InControl systems which utilize the NSP 5000 platform can be
expanded from 24 to 1400 lines per platform by adding expansion cards without software changes. Platforms can be interconnected via a local or wide area network to provide simultaneous access for thousands of callers while maintaining control from a single, networked workstation. AgentConnect modules are expandable from 4 to 40 lines per system and multiple AgentConnect modules can be connected via a node adapter to support up to a total of 128 agents.
Voice and Data Connectivity: Systems can be connected to most digital and analog PBX's, central office switches and to a wide variety of host computers and enterprise systems.
The Company's products are designed and manufactured to be highly reliable and to require minimum maintenance, most of which can be handled from the Company's headquarters using on-line remote diagnostic and test capabilities. The Company utilizes an independent service company with local offices throughout the United States to perform domestic on-site service. The Company electronically dispatches service technicians when customer maintenance or repair is required. International distributors are generally responsible for providing service for the systems they sell.
PRODUCTS AND SERVICES
OneVoice Systems
OneVoice systems are primarily focused on the customer premise equipment market and comprised more than 65% of the Company's sales in fiscal 1999. These systems combine a variety of standard computer platforms and standard operating systems with the Company's proprietary run time software, InterSoft, and Company developed and third party developed voice processing boards to perform call automation functions. Each OneVoice system utilizes the same proprietary run time software, allowing the Company's customers to expand their OneVoice systems via the addition of expansion cards or via the linkage of multiple modules or systems through a local or wide area network, as capacity and other requirements grow. OneVoice systems can be configured using a variety of computer platforms and operating systems depending on the customer's preferences and processing requirements.
The Company integrates compatible programmable add-in cards with InterSoft runtime software to interface OneVoice and AgentConnect (see below) systems with enterprise systems predicated on host computers produced by IBM, Unisys, NCR, DEC, and others, using standard communications protocols and native terminal emulation via the Internet; local area networks, including the IBM Token Ring, Ethernet and Arcnet; advanced wide area networks, including ISDN-PRI and X.25; and customer private networks.
AgentConnect Systems
AgentConnect systems are ideal for regional or branch offices of large businesses for provisioning integrated inbound and outbound CRM systems. These systems combine PBX functionalities with ISDN-PRI capabilities to enable the transmission of both voice and data on a single line to support agent query in both customer service and telemarketing environments. Internet connectivity also supports the automation of Internet-based order processing and fulfillment. AgentConnect systems deployed as CRM solutions accounted for 10% of the Company's sales in fiscal 1999.
AgentConnect systems also can be utilized to provide outbound call processing. AgentConnect systems deployed in such a manner accounted for 5% of the Company's sales in fiscal 1999. A typical application of such a system permits the Company's customers to improve the productivity of their telemarketing operations by automatically dialing phone numbers and only transferring a call to an agent if the call is answered and the called party remains on the phone. Patented advanced call processing monitoring and automatic call pacing algorithms also improve productivity by transferring a caller to a telemarketing agent immediately upon completion of the agent's previous call.
InControl Systems
The InControl system is similar in design to the OneVoice system and utilizes much of the same proprietary hardware and software. InControl systems provide telecommunications network operators with automated operator services (such as processing prepaid and credit card calls) and revenue generating enhanced telecommunication features (such as voice mail, short voice and text message delivery, "one number" services and voice activated dialing). These systems accounted for 20% of the Company's total sales in fiscal 1999.
InControl systems are comprised of the Company's Enhanced Service Platform (ESP) suite of telecommunications applications running on the Company's NSP 5000 Platform (see below). The ESP suite of applications is unique to the industry as each application is driven from a customer database common to the entire suite. This allows the Company's customers to provide multiple services to their end-users without the extensive data base maintenance required by stand alone, single application, single data base competitive offerings. Initial deployment of services and features as well as system expansions are accomplished cost-effectively as a result of the NSP 5000 platform's scalability attributes. InControl systems incorporate standards based signaling protocols, such as signaling system seven (SS7), and can be linked together via local or wide area networks to provide application control from a single workstation.
RealCare
The Company offers its customers a system maintenance program, known as RealCare, which combines on-line remote diagnostic and test capabilities with nationwide on-site repair performed, in part, by independent service providers. RealCare enables customers to access the Company's Help Desk, to receive on-line tests, and, if necessary, to receive software modifications. When on-site repair is required, the Company may electronically dispatch its independent service providers' service technicians while monitoring and directing repair activities.
InterSoft
The Company's InterSoft run time software offers customers a variety of features that can be included in the Company's systems, including:
VisualConnect ~: A feature which allows the Company's systems to communicate with multi-media personal computers via the Internet. Data can be transmitted in any combination of voice, graphic and image formats.
VoiceDial ~: A voice recognition feature, available in several languages, allowing a telephone caller to issue oral commands to OneVoice Systems, in both numeric and alpha format, including continuous speech.
YourVoice ~: A feature allowing customers to customize and change recorded messages from any telephone.
VirtualVoice ~: A voice storage and playback feature allowing the Company's systems to store and retrieve large quantities of verbal information received from many telephone lines.
DataConnect ~: A feature allowing the Company's systems to communicate with personal computers, data terminals and hearing impaired devices using the same telephone lines as voice callers.
MultiFrequency Decoding ~: A feature allowing the Company's systems to emulate central office signaling.
PulseDial Decoding ~: A feature which allows rotary phones to communicate with the Company's systems.
Digital Interface ~: A feature which makes possible 24 channel capacity with fully integrated T1 Direct Connectivity or 30 channel capacity with fully integrated E1 Direct Connectivity in the European marketplace.
InVision
InVision is the Company's proprietary, next-generation software tool which aids in the development and
testing of custom call automation applications. InVision is based on a graphical user interface and allows developers to visualize and hear the interaction between users and the Company's systems while developing custom applications. This user-friendly development tool allows the Company's customers to expand the scope and use of its systems. InterForm is the Company's proprietary, forms based software program which also can be used by developers to generate and maintain custom applications.
Network Services Platform (NSP) 5000
The NSP 5000 platform is a Company proprietary design which utilizes a stardards-based, compact, modular, passive backplane allowing high port density per system, a critical factor for call center and telecommunications applications. The passive backplane design allows for easy system expansion and for the upgrade of standards-based system components, such as CPU's, as third party technologies advance. The NSP 5000 can utilize any one of the following operating systems: Unix, Windows NT or O/S2.
VocalCard
VocalCard, a standards based call automation board, allows OneVoice systems to perform many functions in software which many other suppliers must perform using discrete hardware. Extensive use of software enables the Company to add features or enhance the Company's systems without redesigning hardware.
FoneTower
The Company has developed the FoneTower, an expansion chassis which enables users to insert up to 18 additional cards into a OneVoice module due to limitations in the number of expansion slots in some computer platforms. Capacity expansion and the provisioning of additional features and functions often require additional voice automation cards, such as VocalCard.
COMPETITION
The call automation industry is fragmented and highly competitive. Based on industry surveys, no company, other than InterVoice, participating in this industry has more than a 10% market share. Technological advances are critical to industry leadership and the Company competes primarily on the basis of a broad range of product capabilities and features, professional services (such as system customization), and customer support services. The principal competitors for the Company's OneVoice systems include Lucent Technologies, Periphonics, Brite Voice Systems and Edify. The principal competitors for the Company's AgentConnect Systems include Davox, EIS and Lucent Technologies (formerly Mosaix). The principal competitors for the Company's telecommunications products include Lucent Technologies, Comverse Technology, Brite Voice Systems, Glenayre Technologies and Periphonics. The Company anticipates that competition from existing competitors will continue to intensify. The Company may also face market entry from non-traditional competitors, including telephone switching equipment manufacturers and independent call automation service bureaus. Some of these competitors have greater financial, technological and marketing resources than the Company.
DISTRIBUTION
The Company markets its products through both direct and indirect sales channels. During fiscal 1999, approximately 53% and 47% of the Company's total sales were attributable to direct sales to end-users and to sales to distributors, respectively. The Company provides discounts to volume end-user purchasers and its distributors reflecting decreased costs associated with such sales. During fiscal 1999, sales to existing customers, as a percentage of the Company's total sales, were 65%, the same as in fiscal year 1998, as the Company's customers continued to expand their systems and to add new and/or enhanced applications. The Company anticipates that sales to existing customers, as a percentage of the Company's total sales, will continue to be a significant percent of its total sales as it focuses additional marketing efforts on its installed base. No company accounted for 10% of total sales in fiscal 1999 or 1998. One of the Company's resellers, Siemens AG, accounted for 10.2% of the Company's total sales in fiscal 1997.
United States Distribution
The Company sells its products directly to end-users and more than 85 distributors in the United States. This distributor network allows the Company to leverage an indirect sales force numbering in excess of 1,700 in addition to its domestic direct sales force of approximately 75. During fiscal 1999, approximately 60% and 40% of the Company's domestic sales were attributable to end-users and distributors, respectively. The Company's end-users include, among others, Aetna, Bank of America, Bell Canada, Fidelity Investments, BankOne, First Union Corporation, GTE, J. C. Penney, Qwest/LCI International, Martin Marietta, MCI/Worldcom, Merrill Lynch, Microsoft, National Data Corporation, National Westminster Bank U.K., Sears Roebuck & Co., Social Security Administration, Sprint, TU Electric, USAA, and Wachovia Bank. Marketing efforts by the Company include advertising, trade shows, direct mail campaigns and telemarketing, implemented by a field sales force.
The Company enters into arrangements with distributors to broaden distribution channels, to increase its sales penetration to specific markets and industries and to provide certain customer services relating to the Company's products on the Company's behalf. Distributors are selected based on their access to markets, industries and customers that are candidates for the Company's products. The Company's major domestic distributors include EDS, Fiserv, GTE, Norstan, Siemens Business Communications, Sprint, Symitar Systems and Wiltel.
International Distribution
The Company's products are currently sold in 52 countries. The Company offers its products outside the United States through a network of more than 45 distributors, which allows it to leverage an indirect sales force numbering in excess of 300 in addition to its international direct sales force of approximately 15. International distributors include Information Technology & Data (Turkey), IVRS Ltd. (Hong Kong), Loxbit (Australia), OLTP Voice (Venezuela), Norstan (Canada), Phonetix (Canada), Promotora Kranon (Mexico), Siemens AG (Worldwide) and Switch (Chile). The Company maintains offices in London, Frankfurt and Munich to support sales by distributors throughout the European Community, the Middle East and Africa. Company offices in Singapore and Sydney support sales by distributors throughout the Pacific Rim. The Company also maintains an office in Toronto and Sao Paulo to support its Canadian and Brazilian distributors.
Most countries lag the United States in the development of their customer premise equipment call automation markets. Government regulation of telecommunications equipment and services, and the low penetration of digital switches and touch-tone telephones, have limited sales of call automation systems in many countries. Subject to differences in culture and business practices, the Company anticipates that the international market for customer premise equipment for call automation systems will grow as foreign countries overcome regulatory, technological and other barriers which limit the use of such systems. Recently, the Company has seen an accelerated demand for its telecommunications products as a result of increased competition among international network operators. The Company believes that international buyers are attracted to its products for a number of reasons including: its digital technology; the ease with which buyers can customize applications in foreign languages; the Company's systems' ability to support multiple languages concurrently, to interact with rotary telephones, and to support voice recognition when touchtone telephones are unavailable; and the Company's efforts in obtaining the required approvals for connectivity to the telephone networks in numerous international markets.
International sales increased 13% in fiscal 1999, decreased 14% in fiscal 1998 and increased 36% in fiscal 1997, respectively, and, as a percentage of total sales, were 18% in fiscal 1999, 21% in fiscal 1998 and 24% in fiscal 1997. Sales to the Americas (excluding the United States) constituted 55%, 54% and 47% of international sales in fiscal 1999, 1998 and 1997, respectively. Sales to Europe constituted 26%, 25% and 34% of international sales in fiscal 1999, 1998 and 1997, respectively. Sales to the Pacific Rim constituted 19%, 21% and 19% of international sales in fiscal 1999, 1998, and 1997, respectively. The decrease in sales to Europe, as a percentage of international sales, in fiscal 1998 and the increase in such sales in fiscal 1997 were primarily attributable to a large sale to a European based, global telecommunications company during fiscal 1997. This large sale also is primarily responsible for the decrease in international sales during fiscal 1998. A discussion of the Company's sales
by geographical area for fiscal 1999, 1998 and 1997 is found in Note K to the Consolidated Financial Statements located in Item 8 of this report.
BACKLOG
The Company's backlog at February 28, 1999, 1998, and 1997 was approximately $27 million, $17 million and $11.4 million, respectively. The Company expects all existing backlog to be delivered within the next fiscal year. Due to customer demand, many of the Company's sales are completed in the same fiscal quarter as ordered. Thus, the Company's backlog at any particular date may not be indicative of actual sales for any future period.
PROPRIETARY RIGHTS
The Company believes that its existing patent, copyright, license and other proprietary rights in its products and technologies are material to the conduct of its business. To protect these proprietary rights, the Company relies on a combination of patent, trademark, trade secret, copyright and other proprietary rights laws, nondisclosure safeguards and license agreements. As of February 28, 1999, the Company owned 34 patents. In addition, the Company has registered "InterVoice" as a trademark in the United States and in certain foreign countries. The Company has also registered 24 trademarks and servicemarks in the United States for other product and service names and has registrations pending in the United States for various product and service names. The Company's software and other products are generally licensed to customers pursuant to a nontransferable license agreement that restricts the use of the software and other products to the customer's internal purposes. Although the Company's license agreements prohibit a customer from disclosing proprietary information contained in the Company's products to any other person, it is technologically possible for competitors of the Company to copy aspects of the Company's products in violation of the Company's rights. Furthermore, even in cases where patents are granted, the detection and policing of the unauthorized use of the patented technology is difficult. Moreover, judicial enforcement of copyrights may be uncertain, particularly in foreign countries. The occurrence of the unauthorized use of the Company's proprietary information by the Company's competitors could have a material adverse effect on the Company's business, operating results and financial condition. See "Item 3. Legal Proceedings."
From time to time various owners of patents and copyrighted works send the Company letters alleging that its products do or might infringe upon the owners' intellectual property rights, and/or suggesting that the Company should negotiate a license or cross-license agreement with the owner. The Company's policy is to never knowingly infringe upon any third party's intellectual property rights. Accordingly, the Company forwards any such allegation or licensing request to its outside legal counsel for their review and opinion. The Company generally attempts to resolve any such matter by informing the owner of its position concerning non-infringement or invalidity, and/or, if appropriate, negotiating a license or cross-license agreement. Even though the Company attempts to resolve these matters without litigation, it is always possible that the owner of the patent or copyrighted works will institute litigation. Owners of patent(s) and/or copyrighted work(s) have previously instituted litigation against the Company alleging infringement of their intellectual property rights, although no such litigation is currently pending against the Company. The Company has accelerated its program for applying for and receiving patents to reflect its technological innovations. The Company currently has a portfolio of 34 patents, and has applied and will continue to apply for a number of additional patents. The Company believes that its patent portfolio could allow it to assert counterclaims for infringement against certain owners of intellectual property rights if those owners were to sue the Company for infringement. In certain situations, it might be beneficial for the Company to cross license certain of its patents for other patents which are relevant to the call automation industry.
The Company believes that software companies and technology companies, including the Company and other companies in the Company's industry, may become increasingly subject to infringement claims. Such claims may require the Company to enter into costly license agreements, or result in even more costly litigation. To the extent the Company requires a licensing arrangement, the arrangement may not be available at all, or, if available, may be very expensive or even prohibitively expensive. As with any legal proceeding, there is no guarantee that the Company will prevail in any litigation instituted against the Company asserting infringement of intellectual property rights. To the extent the Company suffers an adverse judgment, it might have to pay substantial damages, discontinue the use and sale of infringing products, repurchase infringing products from the Company's customers pursuant to indemnity obligations, expend significant resources to acquire non-infringing alternatives, and/or obtain licenses to the intellectual property that has been infringed upon. As with licensing arrangements, non-infringing substitute technologies may not be available, and if available, may be very expensive, or even prohibitively expensive, to implement. Accordingly, for all of the foregoing reasons, a claim of infringement could ultimately have a material adverse effect on the Company's business, financial condition and results of operations.
MANUFACTURING AND FACILITIES
The Company's manufacturing operations consist primarily of the final assembly, integration and extensive testing and quality control of subassemblies, host computers platforms, operating software and the Company's run time software. The Company currently uses third parties to perform printed circuit board
assembly, sheet metal fabrication and customer-site service and repair. Although the Company generally uses standard computer platform parts and components for its products, some components, including certain semiconductors, and more specifically, digital signal processors and static random access memories, are presently available only from limited suppliers. To date, the Company has been able to obtain adequate supplies of such components in a timely manner. However, the Company's operating results could be adversely affected if the Company were unable to obtain such components from such sources in the future.
EMPLOYEES
As of May 26, 1999, the Company had 722 employees.
MERGER WITH BRITE VOICE SYSTEMS, INC. AND RELATED FINANCING
The Offer
On May 3, 1999, the Company, through a wholly-owned subsidiary, InterVoice Acquisition Subsidiary III, Inc. (the "Purchaser"), commenced an all cash tender offer (the "Offer") for the purchase of 9,158,155 shares, or appropriately 75%, of the outstanding common stock of Brite Voice Systems, Inc. ("Brite"), at a price of $13.40 per share. The Offer is conditioned upon, among other things, there being validly tendered and not withdrawn prior to the expiration of the Offer, at least 9,158,155 Brite shares and the Company securing the necessary debt financing for the Offer, as described below. The Offer will expire on June 1, 1999, unless extended.
The Merger
The Offer is being made pursuant to an Acquisition Agreement and Plan of Merger, dated as of April 27, 1999 (the "Merger Agreement"), by and among the Company, the Purchaser and Brite pursuant to which, as soon as practicable after the completion of the Offer and satisfaction or waiver, if permissible, of all conditions to the merger, the Purchaser will be merged with and into Brite, with Brite surviving the merger and thereby becoming a wholly-owned subsidiary of the Company (the "Merger"). At the effective time of the Merger (the "Effective Time"), each outstanding Brite share other than Excluded Shares (as herein defined) will be canceled and converted into the right to receive the merger consideration. The relative proportions of the cash and stock components of the merger consideration are affected by (i) the unexpended proceeds from the debt financing described below after completion of the Offer, if any, and (ii) the Company's desire not to issue more than approximately 19.9% of its common stock as part of the merger consideration, since the issuance of a greater number of shares would require the Company to obtain shareholder approval under applicable listing requirements of the Nasdaq National Market. Accordingly, the merger consideration will be calculated differently depending upon whether the Purchaser purchases at least 9,158,155 Brite shares in the Offer. Method (1) will be used if Purchaser purchases 9,158,155 Brite shares or more in the Offer, thereby utilizing all available cash in the Offer; Method (2) will be used if Purchaser purchases less than 9,158,155 Brite shares in the Offer and, consequently, has cash available to apply toward the purchase of the remaining Brite shares in the Merger.
Method (1) If the Purchaser purchases 9,158,155 Brite shares or more in the Offer, each Brite share then outstanding (other than Excluded Shares) will be converted into the right to receive that number of shares of Company Common Stock equal to $13.40 divided by the average closing price (the "Average Trading Price") of the Company's common stock on the Nasdaq for the 25 trading days immediately preceding the Effective Time of the Merger. The Average Trading Price must be at least equal to the Lower Collar (as defined below) and may not exceed $14.00.
Method (2) If the Purchaser purchases less than 9,158,155 Brite shares in the Offer, each Brite share then outstanding (other than Excluded Shares) will be converted into the right to receive (a) an amount in cash equal to the quotient of (w) the difference between (i) the product of $13.40 multiplied by 9,158,155 Brite shares and (ii) the aggregate purchase price for the number of Brite shares actually purchased in the Offer, divided by (x) a number of Brite shares equal to (A) the total number of Brite shares issued and outstanding immediately prior to the Effective Time (B) less the Excluded Shares (C) plus the Dissenting Shares (as herein defined) (such quotient referred to as the "Cash Amount"), plus (b) that number of shares of the Company's common stock equal to the quotient of (y) the difference between $13.40 and the Cash Amount, divided by (z) the Average Trading Price.
The term "Dissenting Shares" means Brite shares held by stockholders who properly perfect their dissenters' rights, if any, under Kansas law.
The term "Excluded Shares" means (i) Brite shares owned by the Company, Brite and their subsidiaries, and (ii) Dissenting Shares.
The term "Lower Collar" means $8.00, except that if a Lower Collar of $8.00 would otherwise result in the Company issuing more than 5,719,877 shares of common stock, representing approximately 19.9% of its outstanding common stock, in the Merger, the Lower Collar will be an amount per share equal to the product of (i) $8.00 multiplied by (ii) a fraction of which (A) the numerator is the total number of shares of the Company's common stock that would be issued in the Merger if the Lower Collar were $8.00 and (B) the denominator is 5,719,877.
Brite is a NASDAQ-listed public company headquartered in Heathrow, Florida that designs, integrates, assembles, markets and supports voice processing and call processing systems and services which incorporate prepaid/postpaid applications, voice response, voice recognition, voice/facsimile messaging, audiotex and interactive computer applications into both standard products and customized market solutions.
Debt Financing
In order to finance the Offer, the Company has entered into a commitment letter (the "Commitment Letter") with Bank of America National Trust and Savings Association ("Bank of America") and Banc of America Securities LLC ("Montgomery Securities") pursuant to which, subject to the terms and conditions thereof, Bank of America will provide the Purchaser financing in an aggregate amount of up to $150 million (the "Facilities").
The Facilities will be guaranteed by the Company and each material existing and future direct and indirect domestic subsidiary of the Company, excluding the Purchaser; provided that Brite and its subsidiaries will not be required to guarantee the Facilities until the consummation of the Merger. Bank of America has committed to lend the full amount of the Facilities upon the terms and subject to the conditions set forth in the Commitment Letter, and Banc of America Securities has agreed to use its best efforts to form a syndicate of financial institutions (the "Lenders") reasonably acceptable to the Company, Purchaser and Bank of America, upon the terms and subject to the conditions set forth in the Commitment Letter.
Pursuant to the Commitment Letter, the Facilities are expected to consist of: (i) a $125 million tender facility (the "Term Loan Facility") which will be available to the Purchaser in order to fund the Offer and the Merger and (ii) a $25 million revolving credit facility (the "Revolving Credit Facility").
The following is a summary of the principal terms of the Facilities based upon the Commitment Letter. This summary is qualified in its entirety by reference to the Commitment Letter, a copy of which has been filed as an exhibit to the Schedule 14D-1 filed with the Commission in connection with the Offer.
The Commitment Letter provides that the commitments under the Commitment Letter will terminate unless the Facilities are closed on or prior to June 30, 1999. The Facilities will mature on August 31, 2003, and the Term Loan Facility will be subject to quarterly amortization with the first payment due on May 31, 2000. In addition, the Facilities will be subject to certain mandatory prepayments and commitment reductions tied to the sale of assets, the issuance of debt, the issuance of equity and the generation of excess cash flow for a fiscal year. Certain of these prepayment and commitment reduction requirements are limited by the satisfaction of certain financial ratios.
The amounts borrowed pursuant to the Revolving Credit Facility and the Term Loan Facility will bear interest at a rate equal to either the London Interbank Offer Rate ("LIBOR") plus the applicable margin or the Alternate Base Rate (to be defined as the higher of (i) the Bank of America prime rate or (ii) the federal funds rate plus 0.50%) plus the applicable margin. The applicable margin during the period from the closing of the Facilities until receipt of the Company's Form 10-Q for the quarter ended November 30, 1999 will be 2.50% and 1.25% for LIBOR and Alternate Base Rate loans, respectively. Thereafter, the applicable margin in each case will be determined in accordance with a schedule to the Facilities and will be determined by reference to a ratio of the Company's funded debt to EBITDA (as defined in the Facilities).
The Facilities will contain certain representations and warranties, certain negative and affirmative covenants, certain conditions and events of default which are customarily required for similar financings. Such covenants will include, among others, restrictions and limitations on liens and negative pledges; limitations on mergers, consolidations and sales of assets; limitations on incurrence of debt; limitations on dividends, stock redemptions and the redemption and/or prepayment of other debt; limitations on investments and acquisitions (other than the acquisition of the Company); and limitations on capital expenditures. Key financial covenants based on the Company's consolidated financial statements include minimum net worth, maximum leverage ratio and minimum fixed charge coverage ratio. The funding of the Facilities will be subject to customary closing conditions.
The Facilities will require a first priority perfected security interest in (i) all of the capital stock of each of the domestic subsidiaries of the Company (including, without limitation, the Purchaser), and 65% of the capital stock of each first tier foreign subsidiary of the Company, which capital stock shall not be subject to any other lien or encumbrance and (ii) subject to permitted liens, all other present and future material assets and properties of Brite and its material domestic subsidiaries (including, without limitation, accounts receivable and proceeds, inventory, real property, machinery and equipment, contracts, trademarks, copyrights, patents, license rights and general intangibles), including, without limitation, Brite and its subsidiaries; provided that Brite and its subsidiaries shall not be required to pledge such assets and properties until completion of the Merger. All capital stock of Brite owned by the Purchaser or the Company shall be pledged as collateral for the Facilities.
In connection with the Facilities, the Borrower has agreed to pay the Lenders certain commitment, underwriting, administrative and termination fees, to reimburse the Lenders for reasonable out-of-pocket fees and expenses, whether or not the Facilities close, and to provide certain indemnities, as is customary for commitments such as the Facilities.
The Company anticipates that indebtedness incurred through borrowings under the Facilities in connection with the Offer and the Merger will be repaid from a variety of sources, which may include funds generated internally by the Company and its subsidiaries and following the Merger, funds generated by the Company, bank financings, and the public or private sale of debt or equity securities. No decision has been made concerning the method the Company will employ to repay such indebtedness.
Upon consummation of the Merger, the Purchaser will be merged into Brite, which will then be obligated as the borrower under the Facilities.
ITEM 2.
ITEM 2. PROPERTIES
The Company owns and occupies a 225,000 square foot manufacturing and office facility in Dallas, Texas. The Company also leases approximately 5,000, 3,000, 3,000, 2,000 and 4,000 square feet of office space in London, Singapore, Sao Paulo, Jacksonville (Florida), and Chicago, respectively.
The Company has suitable properties and productive capacity for its near-term requirements. The Company owns land adjacent to its Dallas facility should additional office and/or manufacturing capacity be required.
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS
Commencing in fiscal 1997, Lucent Technologies ("Lucent") suggested in correspondence to the Company that it should consider licensing certain Lucent patents for a substantial payment. The Company has an opinion from its outside legal counsel that the Company does not infringe the Lucent patents by reason of non-infringement and/or invalidity. The Company has suggested to Lucent that Lucent should consider licensing certain patents of the Company, and that a mutual cross-license might be in the best interests of both parties. The parties have discussed the possibility of negotiations for a mutually satisfactory cross-license agreement which would resolve the matter. There is no assurance that the Company will negotiate a cross-license agreement based on mutually satisfactory terms. Lucent has not threatened litigation against the Company, and the Company and Lucent did not have any discussions or exchange any correspondence concerning their respective patent portfolios during fiscal 1999. In the event that litigation is instituted against the Company concerning the Lucent patents, the Company intends to vigorously contest the claims and to assert defenses of non-infringement and/or invalidity of the patents, together with any other defenses and counterclaims, including any counterclaim for infringement of its patents, the Company might have. As with any legal proceeding, there is no guarantee that the Company will prevail in any litigation asserted against the Company in connection with the Lucent patents.
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable.
PART II
ITEM 5.
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
COMMON STOCK
The Company's outstanding shares of common stock are quoted in the Nasdaq National Market under the symbol INTV. The Company has not paid any cash dividends since its incorporation and does not anticipate paying cash dividends in the foreseeable future. The Company is not bound by any contractual terms that either prohibit or restrict the payment of dividends.
In the event that the tender offer and subsequent merger with Brite Voice Systems, Inc. are consummated (see "Item 1, Business-Merger with Brite Voice Systems, Inc and Related Financing."), the definitive loan documentation evidencing the debt facilities to finance the transaction will contain a contractual limitation on the Company restricting its ability to pay a dividend in cash or property, although the Company will be permitted to declare a stock dividend.
High and low share prices as reported in the Nasdaq National Market are shown below for the Company's fiscal quarters during fiscal 1999 and 1998. Share prices have been restated to reflect a two for one stock split in the form of a 100% stock dividend paid January 11, 1999.
There were approximately 1,000 shareholders of record and approximately 12,500 beneficial shareholders of the Company at May 26, 1999. On May 26, 1999 the closing price of the Common Stock was $11.13.
ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA
The following selected consolidated financial data should be read in conjunction with the Company's consolidated financial statements and related notes included elsewhere herein and in conjunction with "Management's Discussion and Analysis of Financial Condition and Results of Operations" set forth below. The selected consolidated financial data presented below for each of the years in the five-year period ended February 28, 1999 are derived from the consolidated financial statements of InterVoice, Inc., which financial statements have been audited by Ernst & Young LLP, independent auditors. The consolidated financial statements as of February 28, 1999 and 1998, and for each of the three years in the period ended February 28, 1999 and the report of Ernst & Young LLP thereon, are included elsewhere herein.
*The number of diluted common shares have been restated to reflect a 2 for 1 stock split in the form of a 100% stock dividend paid January 11, 1999.
**Fiscal 1998 net sales, loss from operations and net loss were impacted by adoption of the American Institute of Certified Public Accountants' Statement of Position 97-2 (SOP 97-2), tightening of certain of the Company's credit practices, non-recurring expense items and a non-recurring charge resulting from a portion of the price paid by the Company to Integrated Telephony Products, Inc. for its ESP product line having been attributed to in-process research and development. Without these items, net sales in fiscal 1998 would have been $107.8 million. Income from Operations would have been $2.6 million, and net income would have been $2.4 million, or $0.08 per share.
***Fiscal 1997 income from operations and net income were impacted by charges totaling approximately $1.8 million and $1.3 million, respectively, or $0.04 per share, resulting from a non-recurring litigation settlement. Without this charge, net income for fiscal 1997 would have been $0.43 per share.
****Fiscal 1995 income from operations and net income were impacted by a non-recurring charge totaling approximately $10.5 million, or $0.32 per share, associated with a significant portion of the purchase price of VoicePlex Corporation having been attributed to in-process research and development. Without this charge, earnings for fiscal 1995 would have been $0.40 per share.
ITEM 7.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
DISCLOSURES REGARDING FORWARD-LOOKING STATEMENTS
This report on Form 10-K includes "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. All statements other than statements of historical facts included in this Form 10-K, including, without limitation, statements contained in this "Management's Discussion and Analysis of Financial Condition and Results of Operations" and under "Business - Product Strategy," "Business - Distribution," and "Notes to Consolidated Financial Statements" located elsewhere herein regarding the Company's financial position, business strategy, plans and objectives of management of the Company for future operations, and industry conditions, are forward-looking statements. Although the Company believes that the expectations reflected in such forward-looking statements are reasonable, it can give no assurance that such expectations will prove to be correct. In addition to important factors described elsewhere in this report, the following significant factors, among others, sometimes have affected, and in the future could affect, the Company's actual results and could cause such results during fiscal 2000, and beyond, to differ materially from those expressed in any forward-looking statements made by or on behalf of the Company:
o The Company faces intense competition based on product capabilities and experiences ever increasing demands from its actual and prospective customers for its products to be compatible with a variety of rapidly proliferating computing, telephony and computer networking technologies and standards. The ultimate success of the Company's products is dependent, to a large degree, on the Company allocating its resources to developing and improving products compatible with those technologies, standards and functionalities that ultimately become widely accepted by the Company's actual and prospective customers. The Company's success is also dependent, to a large degree, on the Company's ability to implement arrangements with other vendors with complementary product offerings to provide actual and prospective customers greater functionality and to ensure that the Company's products are compatible with the increased variety of technologies and standards.
o Continued availability of suitable non-proprietary computing platforms and system operating software that are compatible with the Company's products.
o Certain of the components for the Company's products are available from limited suppliers. The Company's operating results could be adversely affected if the Company were unable to obtain such components in the future.
o Increasing litigation with respect to the enforcement of patents, copyrights and other intellectual property.
o The ability of the Company to retain its customer base and, in particular, its more significant customers (such
as Siemens AG, an InterVoice distributor, which accounted for over ten percent of the Company's total sales during fiscal 1997) since such customers generally are not contractually obligated to place further orders with the Company.
o Legislative and administrative changes and, in particular, changes affecting the telecommunications industry, such as the Telecommunications Act of 1996. While many industry analysts expect the Telecommunications Act of 1996 ultimately to result in at least a temporary surge in the procurement of telecommunications equipment and related software and other products, there is no assurance that the Company can estimate with sufficient accuracy those products which will ultimately be purchased, the timing of any such purchases or the quantities to be purchased.
o Risks involved in the Company's international distribution and sales of its products, including unexpected changes in regulatory requirements, unexpected changes in exchange rates, the difficulty and expense of maintaining foreign offices and distribution channels, tariffs and other barriers to trade, difficulty in protecting intellectual property rights, and foreign governmental regulations that may limit or restrict the sales of call automation systems. Additionally, changes in foreign credit markets and currency exchange rates may result in requests by many international customers for extended payment terms and may have an adverse impact on the Company's cash flow and its level of accounts receivable.
o The quantity and size of large sales (sales valued at approximately $1 million or more) during any fiscal quarter, which can cause wide variations in the Company's sales and earnings on a quarter to quarter basis.
o Ability of the Company to properly estimate costs under fixed price contracts in developing application software and otherwise tailoring its systems to customer-specific requests.
o The Company's ability to hire and retain, within the Company's compensation parameters, qualified technical talent and outside contractors in highly competitive markets for the services of such personnel.
o Mergers and acquisitions between companies in the telecommunications and financial industries which could result in fewer companies purchasing the Company's products for telecommunications and banking applications, and/or delay such purchases by companies that are in the process of reviewing their strategic alternatives in light of a merger or acquisition.
o Extreme price and volume trading volatility in the U.S. stock market, which has had a substantial effect on the market prices of securities of many high technology companies, frequently for reasons other than the operating performance of such companies. These broad market fluctuations could adversely affect the market price of the Company's common stock.
RESULTS OF OPERATIONS
The following table presents certain items as a percentage of sales for the Company's last three fiscal years.
*See discussion of fiscal 1998 in Item 6, Selected Financial Data. Had it not been impacted by adoption of SOP 97-2, tightened credit practices, non-recurring expense items and a charge for in-process research and development, cost of goods sold, gross margin, research and development expenses, selling, general and administrative expenses, operating income and net income as a percentage of sales would have been 45.3%, 54.7%, 11.8% 39.3%, 2.3% and 2.2%, respectively.
**Impacted by a non-recurring charge totaling approximately $1.8 million ($1.3 million net of tax) resulting from litigation settlement. Without this charge, operating income and net income for fiscal 1997 would have been 18.4% and 13.4% of sales, respectively.
SALES
Sales are derived primarily from the shipment of call automation systems to both new and existing customers in two major market categories: Customer Premises Equipment (CPE) and Telecommunications (Telco). Due to customer demand, many of the Company's transactions are completed in the same fiscal quarter as ordered. The size and timing of some transactions have historically resulted in sales fluctuations from quarter to quarter. In the past, the impact of these fluctuations has been mitigated to some extent by vertical markets and by the geographic location of the Company's existing and prospective customers. However, the Company has become more prone to quarterly sales fluctuations due to its sales to the worldwide Telco market which are generally large in dollar amount and unevenly distributed throughout the fiscal year.
Effective December 1, 1997 the Company adopted the American Institute of Certified Public Accountants' Statement of Position 97-2 (SOP 97-2). Prior to the adoption of SOP 97-2, the Company's policy provided for the recognition of revenue upon shipment, provided that the Company's remaining obligations relating to system installation and testing were not significant. With SOP 97-2, contract accounting was adopted for systems that require Company customization and installation. Revenue for contracts for large systems, generally greater than $500,000 in sales value, is recognized on the percentage of completion method. Revenue for smaller systems is recognized on the completed contract method, i.e., when all the Company's obligations have been met. The requirements of SOP 97-2 only apply to sales which require customization and/or installation by the Company, and such sales have historically accounted for approximately 30% of the Company's aggregate annual sales. The adoption of SOP 97-2 resulted in the Company not recognizing revenue in the same fiscal quarter that certain systems are shipped. The adoption of SOP 97-2 also resulted in the Company recognizing revenue during a fiscal
quarter from systems shipped in previous fiscal periods. Accordingly, the adoption of SOP 97-2 delayed by 60 to 90 days the Company's recognition of approximately $3 million in sales during the fourth quarter of fiscal 1998, the first fiscal quarter of adoption. The adoption of SOP 97-2 did not result in a material increase or decrease in the Company's aggregate sales during its fiscal 1999.
From time to time, the Company has agreed to amend customer purchase orders to extend normal payment terms in exchange for accelerating delivery and installation of systems, particularly systems not requiring customization. The Company tightened this practice in its fourth quarter of fiscal 1998 to improve cash flow. This decision resulted in an approximate $2.5 million decrease to revenues during the quarter and fiscal year. The Company continued its tightened practices during its fiscal 1999.
Worldwide sales in fiscal 1999 increased 34%, declined 2% in fiscal 1998 and increased 8% in fiscal 1997. Worldwide CPE sales increased 35% in fiscal 1999, decreased 1% in fiscal 1998 and increased 15% in fiscal year 1997. Worldwide Telco sales increased 53% in fiscal 1999 and declined 15% and 19% in fiscal 1998 and 1997. CPE sales constituted 71%, 70% and 69% of the Company's total sales in fiscal years 1999, 1998 and 1997, respectively, while Telco sales made up 19%, 17% and 19% of the Company's total sales during the same time periods. System maintenance contracts now cover 4,000 end users and sales of such contracts comprised 10%, 13% and 12% of the Company's total sales in fiscal 1999, 1998, and 1997, respectively.
Domestic CPE sales in fiscal 1999, 1998 and 1997 increased 37%, 11% and 36%, respectively, due to the Company's continued investment in the expansion of its distribution channels and marketing and advertisement programs and in the hiring and training of new and existing sales, service and support personnel. International CPE sales in fiscal 1999 increased 29%, decreased 37% in fiscal 1998 and increased 30% in fiscal 1997. Decreased international sales in fiscal 1998 resulted from a poor Pacific Rim economic environment and a concentration of the Company's sales efforts in Latin America on telecommunications opportunities. International sales increased in fiscal 1998 and 1997 for the same reasons as the increase in domestic CPE sales. International CPE sales constituted 10% of the Company's total CPE sales in fiscal years 1999 and 1998 and 24% of such sales in fiscal 1997.
Telco sales increased in fiscal 1999 as a result of the hiring and training of new and existing sales, service and support personnel and of the expansion of marketing programs. The Company believes the decline in worldwide Telco sales during fiscal 1998 and 1997 was attributable to a soft domestic telecommunications market. The Company believes the market softness was attributable, in part, particularly during fiscal 1997, to temporary delays by some telecommunications companies in implementing call automation solutions while they evaluated marketing and investment strategies in light of new opportunities resulting from deregulation under the Telecommunications Act of 1996 and judicial proceedings relating to certain provisions of the Act. International Telco sales constituted 40%, 62% and 39% of the Company's total Telco sales in fiscal years 1999, 1998 and 1997, respectively.
Prices for the Company's products have remained stable, as measured by price per line shipped, during fiscal 1999, 1998 and 1997 although the features and functions per line shipped have become more robust. The Company's exposure to foreign currency fluctuations is minimal as less than 1% of total sales are denominated in foreign currencies.
COST OF GOODS SOLD
Fiscal 1999 cost of goods sold was 40% of total sales, compared to 47.8% in fiscal 1998 and 38.3% in fiscal 1997. The decrease in fiscal 1999 was the result of increased sales and the Company's efforts to control costs and expenses. The increase in cost of goods sold during fiscal 1998 was the result of the Company's continued investment in applications engineering and customer service resources to pursue opportunities in all of its markets despite lower than anticipated sales.
RESEARCH AND DEVELOPMENT
Fiscal 1999, 1998 and 1997 research and development expenses were approximately $13.3 million, $12.7 million and $11.7 million, respectively. Fiscal 1999 expenses included porting the Company's InterSoft run time software to the UNIX and Windows NT operating systems; developing computer platform independent voice automation hardware and software; the development of the NSP 5000 platform; augmenting the Company's speech recognition and voice verification capabilities; and the integration into the Company's product offerings of the ESP product line purchased from Integrated Telephony Products, Inc. and the computer telephony software suite purchased from Dronen Consulting, Incorporated. Additionally, expenditures were made in fiscal 1999, 1998 and 1997 for the ongoing development of the Company's OneVoice systems (the Company's call automation system), AgentConnect (the Company's customer relationship management system), OneLink (a digital interface for analog switches), and digital VocalCard software and hardware functionality. Research and development expenses in fiscal 1998 and 1997 also reflect the development of computer platform independent hardware and software, a voice mail system, speech recognition in both alpha and numeric format (including continuous speech), voice verification, a facsimile server, vertical industry application packages (including applications targeted for the telecommunications industry), enhancements to the telecommunications products obtained from the Company's acquisition of the VoicePlex Corporation in the Company's fiscal 1994, and international homologations (the approvals required for connectivity to the telephone network in numerous international markets). The Company has not capitalized internal hardware or software development expenses. The Company expects that in fiscal 2000 it will maintain its strong commitment to research and development to remain at the forefront of technology development in its business segment, which is essential to improving the Company's position in the industry.
SELLING, GENERAL AND ADMINISTRATIVE
Selling, general and administrative expenses decreased to $40.3 million in fiscal 1999 from $42.4 million in fiscal 1998. Such expenses were $33.7 million in fiscal 1997. During fiscal 1999 the Company undertook measures to control expenses, particularly selling, general and administrative expenses (see discussion below in "Income (loss) from Operations"). During fiscal 1998 and 1997, the Company continued to hire and train new and existing sales, service and support personnel and expand its marketing and advertising programs worldwide, despite lower than anticipated sales.
OTHER INCOME AND EXPENSE
Other expense during fiscal 1999 was primarily interest paid on the Company's borrowings under its revolving credit facility. Other income during fiscal 1998 and 1997 was primarily interest income on cash and short term investments. The increase in other income in fiscal 1998 versus fiscal 1997 reflected the Company's increased average cash balances.
INCOME (LOSS) FROM OPERATIONS
The Company generated operating income of $29.1 million and net income of $20.2 million, respectively, in fiscal 1999. The Company incurred an operating loss and a net loss during fiscal 1998 of $8.4 million and $5.1 million, respectively. The Company generated operating income of $17.5 million and net income of $12.8 million in fiscal year 1997.
In order to understand the Company's operating and net income over the last three fiscal years, it must be noted that the Company, during fiscal 1998, incurred non-recurring charges of approximately $6.8 million including the following: $1.0 million associated with certain personnel matters, including the resignation of the Company's former President and Chief Operating Officer; and $3.0 million to write off certain intangible assets as a result of the Company's re-examination of its product development and infrastructure requirements. The Company also provided $1.0 million for potential inventory obsolescence in light of efforts to migrate customers to its internally developed NSP-5000 computing platform from the Company's traditional computing platforms such as IBM PS-2 computers. As a result of such migration, the Company reviewed its on-hand supply of traditional computer platforms and
determined that a provision for obsolescence was necessary to allow for a potential excess supply of traditional computer platforms of which the Company had approximately $3.0 million on-hand at February 28, 1998. Additionally, the Company wrote off as in-process research and development approximately $1.8 million of the purchase price paid to Integrated Telephony Products, Inc. for its ESP product line. In addition to acquiring the ESP product line and certain other assets of Integrated Telephony Products, Inc. the Company acquired two in-process research and development projects: 1)Call Flow and 2) Internet Telephony Interfaces. Call Flow is a project to develop a Windows NT, GUI-based telecommunications application development tool. Internet Telephony Interfaces is a project to develop interfaces to allow text and voice messaging over the Internet which will enable an end user to access voice messages, text messages (such as email) and faxes either through traditional telecommunications networks (with text messages and faxes being read to the end user using text-to-speech technology) or through the Internet. The amount allocated to the purchased research and development projects ($1.8 million) was expensed at the time of acquisition as the Company determined that the purchased research and development projects had not reached technological feasibility based on the status of design and development activities that required further refinement and testing. To determine the fair market value of the in-process research and development projects, the Company used a risk adjusted income approach, whereupon fair market value is a function of the future revenues expected to be generated by an asset, net of all allocable expenses. In determining the amount of the purchase price to allocate to the purchased research and development, factors such as stage of completion and technological uncertainties were considered by the Company in determining the present value of the future benefits to be received. The development activities required to complete the acquired in-process research and development projects include additional coding, cross-platform porting and validation, quality assurance procedures and beta testing. At the time of purchase, the estimated future cost of completing these activities was expected to be approximately $1 million to be incurred over the next 12 months. Actual costs incurred during fiscal 1999 were approximately $1.1 million. Revenue streams from the resulting products are expected to begin in fiscal 2000 and were projected forward for five years in the risk adjusted income analysis. A discount rate of 30% was used to determine the present value of the cash flows related to the in-process research and development projects which resulted in $1.8 million of assigned value. If these projects do not meet with the Company's anticipated level of market acceptance, the Company may not realize the value assigned to the purchased research and development. Also impacting operating income in fiscal 1998 was the Company's adoption of the American Institute of Certified Public Accountants' Statement of Position 97-2 (SOP 97-2) and a tightening of the Company's credit practices to improve cash flow. See Item 7 - "Sales".
The Company incurred a one-time charge of approximately $1.8 million in connection with the settlement of certain litigation during fiscal 1997.
Adjusting for the one time charges and other items discussed above, the Company would have generated operating income of approximately $2.0 million and approximately $19.3 million in fiscal 1998 and 1997, respectively, and net income of approximately $1.9 million and $14.0 million in fiscal 1998 and 1997, respectively.
Fiscal 1999 operating income increased over fourteen times versus adjusted operating income in fiscal 1998 as the result of increased sales and the Company's measures to control costs and expenses, particularly selling, general and administrative expenses. Operating income, adjusted for the one time charges and other items discussed above, in fiscal 1998 and fiscal 1997 decreased 87% and 23%, respectively, versus the previous fiscal year as the Company increased its investment in sales, marketing, application engineering, and research and development resources without a corresponding increase in the Company's sales. These investments were made to continue to pursue opportunities in the CPE and Telco markets. Fiscal 1999 net income increased nearly ten times versus adjusted net income in the previous fiscal year, and net income, adjusted for the one time charges and other items discussed above, in fiscal 1998 and fiscal 1997 decreased 84% and 19%, respectively, versus the previous fiscal year for the same reasons as operating income.
LIQUIDITY AND CAPITAL RESOURCES
The Company had approximately $12.2 million in cash and cash equivalents at February 28, 1999, while borrowings under the Company's credit facilities was $5.0 million. Investment activities (consisting of the acquisition and purchase of fixed assets and third party software) and financing activities (consisting primarily of the repurchase of shares of the Company's common stock) together used approximately $10.0 million. Net income plus non-cash expense items totaled $31.2 million while an increase in operating assets totaled $13.1 million to
yield an operating cash flow of $18.1 million during fiscal 1999. The increase in operating assets was primarily attributable to a $16.1 million increase in accounts receivable. The increase in accounts receivable is due to increased sales and a few large contracts with payment terms which extend beyond the dates on which revenue is recognized for financial reporting purposes. Investment activities totaling approximately $7.6 million during 1999 and included the purchase of a computer telephony software suite from Dronen Consulting, Incorporated for $3.6 million in cash and 75,000 shares of the Company's common stock, valued at $1.5 million. Other purchases included computing hardware and software to update the Company's enterprise systems and to provide the information systems infrastructure needed to support the Company's worldwide growth. Expenditures were also made to acquire third party developed software to be integrated into the Company's InterSoft software to allow the Company to offer its customers greater functionality and to ensure the Company's products comply with an increasing variety of hardware and software technologies and standards. Financing activities during fiscal 1999 included the repurchase of 294,000 shares of the Company's common stock, at a cost of approximately $5.9 million pursuant to an authorization by its Board of Directors during fiscal 1998. The Company believes that market conditions made such share repurchases of value to its shareholders. Other financing activities included the receipt of $7.4 million as proceeds from the exercise of employee stock options and the pay down of $4.0 million on the Company's borrowings. As a result of cash generated from operations and investment and financing activities, the Company experienced an increase of its cash reserves of approximately $8.0 million during fiscal 1999.
The Company believes that its cash reserves and internally generated cash flow will be sufficient to meet its operating cash requirements for the foreseeable future. The Company reviews share repurchase and acquisition opportunities from time to time and believes it has access to the financial resources necessary to pursue attractive opportunities as they arise. The Company also believes it has access to other financial resources to pursue any investment opportunities or financing requirements that might arise in the foreseeable future. The Company has negotiated a $20 million credit facility with Bank of America which is scheduled to expire on November 18, 2001.
The Company completed a two for one stock split in the form of a 100% stock dividend on January 11, 1999. Basic and diluted earnings per share have been retroactively adjusted to reflect the stock split.
On April 27, 1999, the Company signed a definitive merger agreement to acquire all of the outstanding shares of Brite Voice Systems, Inc. (Brite). Pursuant to the agreement, InterVoice will pay Brite shareholders $13.40 per Brite share, or based on approximately 12.3 million shares of Brite common stock outstanding, total consideration of approximately $164.4 million. Of this total, approximately $122.7 million, or $10.00 per Brite share, will be in cash and approximately $41.7 million, or $3.40 per Brite share, will be in shares of InterVoice common stock. The merger will be accounted for as a purchase business combination.
The transaction will be executed in two steps, the first being an all cash tender offer at $13.40 per share for approximately 9.2 million shares of Brite's common stock. The second step will consist of a merger in which shares of Brite common stock not purchased in the cash tender offer will be exchanged into shares of InterVoice common stock. The ratio of exchange will be determined at the time of the merger based on the average closing price of an InterVoice share for the preceding twenty-five trading days. This transaction has been approved by the Boards of Directors of Brite and InterVoice. The cash tender offer will close on June 1, 1999. The closing of the transaction is subject to certain customary conditions as described in the merger agreement.
In connection with this transaction, InterVoice has received a commitment from Bank of America to provide senior secured credit facilities amounting to $150 million, which will include a $125 million term loan facility and a $25 million revolving credit agreement. The term loan agreement will be subject to scheduled repayments, as defined, during 2000-2003. The revolving credit agreement will expire upon the earlier of the termination of the term loan, or August 31, 2003. If the tender offer and merger are consummated and the debt facilities are funded, the cash required to service the facilities could have a material impact upon the operating cash requirements of the Company for the foreseeable future.
Impact of Inflation
The Company does not expect any significant short term impact of inflation on its financial condition. Technological advances should continue to reduce costs in the computer and communications industries. Further, the Company presently is not bound by long term fixed price sales contracts and has no material long term debt obligations, which should reduce the Company's exposure to inflationary effects.
If the tender offer and subsequent merger with Brite is consummated (see "Item 1. Business-Tender Offer for Brite Voice Systems, Inc."), the debt facilities financing the transaction would be considered to be a material long term debt obligation, which may expose the Company to inflationary effects associated with such variable rate loans.
QUARTERLY RESULTS OF OPERATIONS (UNAUDITED)
*Includes the impact of the adoption of SOP 97-2, tightened credit practices, non-recurring expense items, and a charge for in-process research and development (see discussion of fiscal 1998 in Item G, Selected Financial Data). Without these items, sales for the quarter ended February 28, 1998 would have been approximately $28.2 million and earnings would have been $0.08 per diluted share.
YEAR 2000 COMPLIANCE
Many installed computer systems used by numerous companies to run a variety of applications are not capable of processing date sensitive information that falls beyond the twentieth century. Unless these computer systems are replaced or upgraded prior to the year 2000 to process such date sensitive information, the systems may experience severe operating difficulties or system failures.
Beginning in fiscal 1996, the Company initiated a program to replace and upgrade its information systems to accommodate the Company's growth, improve productivity and remediate any century compliance problems. This program should be substantially completed by July 1999.
Additionally, the Company has created a year 2000 project team to review and test its information technology systems and non-information technology systems and to resolve any century compliance issues that are found. The team also is attempting to ensure that any replacements and upgrades to the Company's systems are century compliant before they are implemented. In this regard, the team is continuing to work with third party vendors to assess the year 2000 readiness of its technology systems. The year 2000 readiness of the Company's technology systems is, therefore, partially dependent upon the accuracy of disclosures and representations made by third party vendors, such as Oracle, PeopleSoft, MicroSoft, IBM and Dell Computer. The Company anticipates that its testing and remediation program for year 2000 issues with respect to mission-critical systems should be substantially completed by August 1999. Because most of the expenditures to replace and upgrade the Company's internal systems have been made and will be incurred in the ordinary course of business, (i.e., on a non-accelerated basis), the Company does not anticipate that it will incur material incremental expenses in connection with its year 2000 remedial efforts. As a result of the program to replace and upgrade its internal systems, and the efforts of the year 2000 project team, the Company believes that its internal systems will be century compliant prior to the year 2000. However, there is no assurance that the Company will identify and resolve any and all century compliance problems with its internal systems in a timely manner, that the expenses associated with such remedial efforts will not be significant, or that such problems will not have a material adverse effect on the Company's business, operating results and financial condition.
The Company has created a detailed year 2000 testing program for its mission-critical systems. Systems which perform certain mission-critical customer service applications are currently undergoing extensive century compliance testing. The remaining mission-critical systems and applications are scheduled for century compliance testing during the Company's second fiscal quarter ending August 31, 1999. The commencement of the Company's fiscal year 2000 on March 1, 1999 helped to accelerate its year 2000 testing program, particularly for mission-critical financial, manufacturing and order entry applications which process dates that reflect the fiscal year end date (i.e., February 29, 2000).
In addition to assessing and testing internal business systems for year 2000 readiness issues, the Company is also in the process of reviewing its other contingency plans for system failures that might arise in connection with the millennium transition. The Company currently has certain disaster recovery processes and procedures designed to allow it to continue critical business operations in the event of a software or hardware failure, or the failure of infrastructure services (i.e., electricity, telephone services, water transport, internet services, etc.).
These disaster recovery processes and procedures generally involve manual "work arounds" and alternate computerized solutions. The Company is in the process of reviewing the adequacy of these processes and procedures in light of potential century compliance issues. While the Company does not currently have a full contingency plan for system failures that may occur in connection with the year 2000, the Company believes that a satisfactory contingency plan can be developed based, in part, on existing disaster recovery programs. To assist with the development of a full contingency plan, the Company is in the process of engaging a disaster recovery service company. As part of the contingency plan, the Company will acquire an auxiliary power generator to help operate mission-critical systems in the event of temporary power failures.
Based on a thorough review and testing of its software products and other products, the Company believes that its current products are century compliant. The Company began designating certain products as such in June 1997. The Company's assessment of its current products is partially dependent upon the accuracy of disclosures and
representations concerning century compliance made by its suppliers, such as MicroSoft, IBM and Dell Computer. However, many of the Company's customers are using earlier versions of the Company's software products and other products that may not be century compliant. The Company has instituted programs to actively warn these customers of the risks associated with using software and other products which may not be century compliant, and to actively encourage such customers to migrate to the Company's current products.
The Company's products are generally integrated with a customer's enterprise system, which involves software products developed by other vendors. A customer may mistakenly believe that century compliance problems with its enterprise system are attributable to products provided by the Company. The Company may in the future be subject to claims based on century compliance issues related to a customer's enterprise system or other products provided by third parties, custom modifications to the Company's products made by third parties, the Company's earlier products which may not be completely century compliant, the Company's performance and warranty obligations under customer contracts, or issues arising from the customer's unique application or the integration of the Company's products with other products. The Company has not been a party to any proceeding involving its products or services in connection with century compliance issues, however, there is no assurance that the Company will not in the future be required to defend its products or services in such proceedings against claims of century compliance issues, and any resulting liability of the Company for damages could have a material adverse effect on the Company's business, operating results and financial condition.
Based on recent discussions with current and potential customers, the Company believes that the timing of purchases and implementations of call processing systems may be influenced by year 2000 readiness issues. Year 2000 readiness issues might encourage some customers to purchase new call processing systems, or upgrades to existing systems, in order to ensure that they have century compliant current systems. On the other hand, some customers may have to spend significant amounts to remedy year 2000 readiness issues with their internal computer systems not related to their call processing systems. These expenditures could cause customers to delay or forego purchases of other computerized systems, such as call processing systems. Some customers may also choose to delay the implementation or purchase of new or upgraded computer systems, including call processing systems, in order to stabilize their internal operations and reduce the risk of introducing new year 2000 issues. Accordingly, the Company believes that year 2000 issues may simultaneously encourage certain customers to purchase call processing systems prior to the year 2000, and may cause other customers to delay their purchases of call processing systems. If year 2000 concerns lead to a net reduction in the Company's revenues, such a reduction could have a material adverse effect on the Company's business, financial condition and results of operations.
ITEM 7A.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company invests cash balances in excess of operating requirements in short-term securities, generally with maturities of 90 days or less. In addition, the Company's current Credit Agreement provides for borrowings which bear interest at variable rates based on either a prime rate or the London Interbank Offering Rate. The Company had $5 million outstanding pursuant to the Credit Agreement at the end of fiscal 1999. The Company currently believes that the effect, if any, of reasonably possible near-term changes in interest rates on the Company's financial position, results of operations, and cash flows should not be material.
In the event that the tender offer and subsequent merger with Brite is consummated (see "Item 1. Business-Merger with Brite Voice Systems, Inc. and Related Financing"), both the Term Facility of $125.0 million and the Revolving Credit Facility of $25.0 million will bear interest at variable interest rates based on either a prime rate, the federal funds rate or the London Interbank Offering Rate, plus an applicable margin. Due to the magnitude of this proposed facility, the Company believes that the effect of any reasonably possible near-term changes in interest rates on the Company's financial position, results of operations, and cash flows may be material.
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The Independent Auditors Report of Ernst & Young LLP and the Consolidated Financial Statements of the Company as of February 28, 1999 and for each of the three years in the period ended February 28, 1999 follow:
REPORT OF INDEPENDENT AUDITORS
Stockholders and Board of Directors InterVoice, Inc.
We have audited the accompanying consolidated balance sheets of InterVoice, Inc. and subsidiaries as of February 28, 1999 and 1998 and the related consolidated statements of operations, changes in stockholders' equity and cash flows for each of the three years in the period ended February 28, 1999. Our audits also included the financial statement schedule listed in the index at item 14(a). These financial statements and schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and schedule based on our audits.
We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of InterVoice, Inc. and subsidiaries at February 28, 1999 and 1998, and the consolidated results of their operations and their cash flows for each of the three years in the period ended February 28, 1999, in conformity with generally accepted accounting principles. Also, in our opinion, the related financial statement schedule, when considered in relation to the basic financial statements taken as a whole, presents fairly in all material respects the information set forth therein.
Ernst & Young LLP
Dallas, Texas April 7, 1999, except for Note O, as to which the date is April 27, 1999
InterVoice, Inc.
Consolidated Balance Sheets
See notes to consolidated financial statements.
InterVoice, Inc.
Consolidated Statements Of Operations
See notes to consolidated financial statements.
InterVoice, Inc.
Consolidated Statements of Changes in Stockholders' Equity
See notes to consolidated financial statements.
InterVoice, Inc.
Consolidated Statements of Cash Flows
See notes to consolidated financial statements.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE A - DESCRIPTION OF BUSINESS
InterVoice, Inc. (together with its subsidiaries, collectively referred to as "InterVoice" or the "Company") develops, sells and services call automation systems. The Company's historical emphasis has been on interactive voice response ("IVR") systems, which allow individuals a self help facility using their telephones, personal computers, credit card terminals or voices to access and/or provide information to computer data bases utilized by businesses. More recently, the Company has focused on systems for telecommunications network operators which provide a variety of automated services such as processing collect and credit card calls, and advanced calling features such as prepaid calling cards, voice and text messaging, one number personal numbering plans and voice dialing. In the last year, the Company has increased its emphasis on customer relationship management systems which provide companies automated customer service, telemarketing capabilities and the ability to generate sales without human interaction, (i.e., v-commerce and e-commerce). The Company's products include software development tools designed to support a number of diverse product applications and to simplify system customization. The Company sells its products directly to end-users and through more than 130 domestic and international distributors.
NOTE B - SIGNIFICANT ACCOUNTING POLICIES
PRINCIPLES OF CONSOLIDATION: The consolidated financial statements include the accounts of InterVoice and its subsidiaries. All significant intercompany transactions and accounts have been eliminated in consolidation.
USE OF ESTIMATES: The preparation of financial statements in conformity with generally accepted accounting principles requires management to make certain estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates.
CASH AND CASH EQUIVALENTS: Cash equivalents include investments in highly liquid securities with a maturity of three months or less at the time of acquisition. The carrying amount of these securities approximates fair market value.
INVENTORIES: Inventories, primarily system components, are valued at the lower of cost or market with cost determined on a first-in, first-out basis. Amounts presented are net of inventory obsolescence reserves totaling $1,204,526 and $1,360,000 at February 28, 1999 and 1998, respectively.
PROPERTY AND EQUIPMENT: Property and Equipment is stated on the basis of cost. Depreciation is provided by the straight-line method over each asset's estimated useful life. The range of useful lives by major category are: buildings: 5 to 40 years; computer equipment: 3 to 5 years; furniture, fixtures and other: 5 years; and service equipment: 3 years. Depreciation expense totaled $9,260,774, $8,573,956 and $4,124,289 in fiscal 1999, 1998 and 1997, respectively. The large increase in depreciation expense in fiscal 1998 versus the prior fiscal year is associated with the purchase and implementation of a new Oracle based, enterprise-wide management information system. This year 2000 compliant system is expected to support the Company's future growth.
INTANGIBLE ASSETS: Intangible assets, which include patent licenses, purchased software and license fees for technologies, such as text to speech and speech recognition, are being amortized by the straight-line method based on the Company's assessment of each asset's useful life. Useful lives range from five to twelve years. Amortization expense for these items totaled $1,751,863, $1,136,641 and $822,087 in fiscal 1999, 1998 and 1997, respectively. The increase in amortization expense in fiscal 1999 versus prior fiscal years is associated with the start of amortization of the assets purchased from Integrated Telephony products, Inc. and Dronen Consulting, Incorporated (see Note C).
Costs of internally developed software products and substantial enhancements to existing software products are expensed until technological feasibility is established, at which time any additional costs would be capitalized in accordance with Statement of Financial Accounting Standards (SFAS) No. 86. Technological feasibility of a computer software product is established when the Company has completed all planning designing, coding, and testing activities that are necessary to establish that the product can be produced to meet its design specifications
including functions, features, and technical performance requirements. No costs have been capitalized to date for internally developed software products and enhancements as the Company's current process for developing software is essentially completed concurrently with the establishment of technological feasibility. The Company capitalizes purchased software upon acquisition when such software is technologically feasible or if it has an alternative future use, such as use of the software in different products, resale of the purchased software, or use of the software internally.
IMPAIRMENT OF ASSETS: The Company records impairment losses on long-lived assets used in operations when events and circumstances indicate that the assets might be impaired and the undiscounted cash flows estimated to be generated by those assets are less than the carrying amounts of those assets.
REVENUE RECOGNITION: The Company recognizes revenue at the time of shipment for sales of systems which do not require customization to be performed by the Company. Subsequent to December 1, 1997, revenue for systems which require customization to be performed by the Company are recognized by the contract method of accounting, using percentage of completion for larger, more complex systems (generally over a $500,000 sales price). Progress toward completion is measured using work hours or days incurred as a percentage of total estimated hours or days for each contract. Unbilled receivables accrued under percentage of completion contracts amounted to $5.8 million and $0 at February 28, 1999 and 1998, respectively. The completed contract method is used for smaller systems. Prior to December 1, 1997, the Company recognized revenue on systems requiring customization to be performed by the Company at the date of shipment or at the point after shipment when the remaining obligations of the Company became insignificant. The change in accounting was required by the American Institute of Certified Public Accountant's Statement of Position 97-2 which was required to be applied prospectively for transactions entered into after the Company's December 1, 1997 date of adoption. No restatement of prior periods or cumulative effect adjustment was permitted.
The Company recognizes revenue from services at the time the service is performed or over the period of the contract for maintenance/support.
INCOME TAXES: Deferred income taxes are recognized using the liability method and reflect the tax impact of temporary differences between the amounts of assets and liabilities for financial reporting purposes and such amounts as measured by tax laws and regulations.
RECLASSIFICATIONS: Certain prior year balances have been reclassified to conform to current year presentation.
NOTE C - INTANGIBLE ASSETS
On September 15, 1998, the Company purchased a computer telephony software suite from Dronen Consulting, Incorporated for $3,533,723 in cash and 75,000 shares of the Company's stock valued at $1,518,750. The transaction was accounted for as an asset purchase. The full purchase price of $5,052,473 is being amortized over the software suite's estimated useful life of five years.
The Company purchased the Enhanced Services Platform (ESP) product line and certain other assets from Integrated Telephony Products, Inc. on February 26, 1998 in a transaction accounted for as a purchase. This purchase price of $5,188,071 was comprised of $4,612,500 in cash, Company common stock valued at $500,000 and other direct acquisition costs totaling $75,571. The allocation of the purchase price among the identifiable tangible and intangible assets was based on the fair market value of those assets using a risk adjusted income approach. Based on appraised value, a portion of the purchase price was allocated to two purchased research and development projects. The amount allocated to the purchased research and development projects was expensed at the time of acquisition as the Company determined that the purchased research and development projects had not reached technological feasibility based on the status of design and development activities that required further refinement and testing. To determine the fair market value of the in-process research and development projects, the Company used a risk adjusted income approach, in which fair market value is a function of the future revenues expected to be generated by an asset, net of all allocable expenses. In determining the amount of the purchase price to allocate to the purchased research and development projects, factors such as stage of completion and technological uncertainties were considered by the Company in determining the present value of the future benefits to be received. The development activities required to complete the acquired in-process research and development
projects included additional coding, cross-platform porting and validation, quality assurance procedures and beta testing. The estimated future cost of completing these activities was expected to be approximately $1 million to be incurred over the next 12 months. Revenue streams from the resulting products are expected to begin in fiscal 2000 and were projected forward for five years in the risk adjusted income analysis. This allocation resulted in a $1,155,000 charge, net of taxes, to the Company's operations in fiscal year 1998. The remaining purchase price was allocated, based on appraisals, to software ($3,113,643), net tangible assets ($324,428), and deferred tax assets ($595,000).
In connection with the review of its portfolio of intangible assets during fiscal 1998, the Company wrote off certain items as a result of re-examining its human resource allocation, product development plans and infrastructure requirements. Previously capitalized third party product development costs totaling approximately $1.3 million were written off in line with the Company's strategy to narrow its product development focus. Previously capitalized third party development costs of approximately $1.5 million associated with inefficient, stand alone system configuration software were written off as the Company's new management information systems (see Note B) have enabled it to develop and integrate system configuration capabilities which, previously, were addressed by the stand alone system.
NOTE D - ACCOUNTS PAYABLE AND ACCRUED EXPENSES
Accounts payable and accrued expenses consist of the following at February 28:
NOTE E - REVOLVING CREDIT AGREEMENT
The Company has an unsecured revolving credit agreement with Bank of America in the amount of $20,000,000 which expires November 18, 2001. At February 28, 1999 and 1998, the Company had borrowed $5,000,000 and $9,000,000, respectively, under the agreement at an average annual interest rate of 5.8% and 8.5%, respectively. Interest under the credit arrangement accrues at a variable rate indexed to the prime rate or an adjusted LIBOR rate. The fair value of this debt approximates its carrying value at February 28, 1999 and 1998.
NOTE F - INCOME TAXES
Significant components of the Company's deferred tax assets and liabilities are as follows at February 28:
Details of the income tax provision are as follows:
A reconciliation of the United States Federal statutory rate to the Company's effective tax rate is as follows:
Income taxes, net of refunds, of $515,519, 2,175,000 and $6,587,097 were paid in fiscal 1999, 1998 and 1997, respectively.
NOTE G - STOCKHOLDERS' EQUITY
STOCK SPLIT
The Company executed a two-for-one stock split in the form of a stock dividend during fiscal 1999 in which one share of common stock was issued on January 11, 1999 to each holder of stock as of the record date of December 28, 1998. In connection with the stock split, 14,313,931 shares were issued; 5,994,800 shares from treasury and 8,319,131 newly issued shares. All per share and weighted average share amounts have been restated to reflect this stock split.
EMPLOYEE INCENTIVE OPTION PLANS
Stock option plans are in effect under which shares of common stock may be authorized for issuance by the Compensation Committee of the Board of Directors as incentive stock options to key employees. Option prices per
share are the fair market value per share of stock, based on the closing per share price on the date of grant. The Company has granted options at various dates with terms under which the options become exercisable at the rate of 20%, 25% or 33% per year. Options becoming exercisable at 33% per year are exercisable for six or ten years after the date of grant. Options becoming exercisable at 20% or 25% per year are exercisable for ten years after the date of grant.
A total of 627,923 and 1,178,028 employee options were exercisable at average prices of $8.54 and $5.98 at February 28, 1999, and 1998, respectively.
1998 EMPLOYEE NON-QUALIFIED PLAN
During fiscal 1999, the Company adopted a stock option plan under which shares of common stock may be authorized for issuance by the Compensation Committee of the Board of Directors as non-qualified stock options to key employees. Option prices per share are the fair market value per share of stock, based on the closing price per share on the date of grant. The Company has granted options at various dates with terms under which the options become exercisable at a rate of 25% or 33% per year and are exercisable for a period of ten years after the date of grant.
As of February 28, 1999, no options were exercisable under this plan.
1990 NON-EMPLOYEE OPTION PLAN
A stock option plan is in effect under which nonqualified stock options may be issued by the Board of Directors as nonqualified stock options to non-employees. Options are issued to non-employee directors in accordance with a formula prescribed by the plan. Option prices per share are the fair market value per share, based on the closing per share price on the date of grant. Each option becomes exercisable within the period specified in the optionee's agreement and is exercisable for 10 years from the date of grant.
A total of 95,000 and 100,000 non-employee options were exercisable at average prices of $7.00 and $7.19 at February 28, 1999 and 1998, respectively.
For all option plans at February 28, 1999, options for 508,802 shares of common stock were available for future grant.
EMPLOYEE STOCK PURCHASE PLAN
The Company has adopted an Employee Stock Purchase Plan under which an aggregate of 1,000,000 shares of common stock may be issued. Options are granted to eligible employees in accordance with a formula prescribed by the plan and are exercised automatically at the end of a one-year payroll deduction period beginning either December 1 or June 1 and ending on the following November 30 and May 31, respectively. Option prices are determined as 85% of the lower of the closing price per share of the Company's common stock on the option grant date or the option exercise date.
As of February 28, 1999, no options were exercisable under this plan.
RESTRICTED STOCK PLAN
During fiscal 1996, the Company adopted a Restricted Stock Plan under which an aggregate of 1,000,000 shares may be issued. 184,570 shares have been allocated to three senior executives to be earned based on the achievement of certain targeted share prices and the continued service of each executive for a two-year period after each target is met. The remaining shares are available for annual grants to other key executives as a component of their annual bonuses on the achievement of targeted annual earnings per share objectives and the completion of an additional two years of service after the grant. Activity related to restricted stock during fiscal 1999, 1998 and 1997 is as follows:
The weighted average share price for grants during fiscal year 1997 was $10.64 for the Senior Executive Plan and $14.72 for the Key Executive Plan. Shares forfeited in fiscal 1998 and 1997 had been granted at a weighted average share price of $11.17 and $10.90, respectively. There was no activity for this plan during fiscal 1999. At February 28, 1999, approximately 857,086 shares are reserved for future restricted stock grants.
OTHER STOCK AWARD PLAN DISCLOSURES
Because the Company has elected to continue to apply the provisions of APB 25 for expense recognition purposes, Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based Compensation", ("FAS 123") requires disclosure of pro forma information which provides the effects on Net income and Net Income per share as if the Company had accounted for its employee stock awards under fair value methods prescribed by FAS 123. The fair value of the Company's employee stock awards was estimated using a Black-Scholes option pricing model with the following weighted-average assumptions for fiscal 1999, 1998 and 1997, respectively: risk-free interest rates of 5.38%, 6.48% and 6.39%; stock price volatility factors of .75, .49 and .66; and expected option lives of 3.52 years, 4.3 years and 4.1 years. The Company does not have a history of paying dividends, and none have been assumed in estimating the fair value of the options. The weighted-average fair value per share of options granted in fiscal 1999, 1998 and 1997 was 3.26, 1.98 and 5.91, respectively.
Required Pro Forma Disclosures:
As required by FAS 123, only awards granted after fiscal 1995 have been included in determining the amount of additional compensation expense for those years. As such, the effects of applying FAS 123 on fiscal 1999, 1998 and 1997 results are not necessarily representative of the additional compensation expense which will be included in future years' pro forma disclosures as more than two years of awards will be considered.
Options Outstanding at February 28, 1999
Options Exercisable at February 28, 1999
PREFERRED SHARE PURCHASE RIGHTS
One Preferred Share Purchase Right is attached to each outstanding share of the Company's common stock. The rights will become exercisable upon the earlier to occur of ten days after the first public announcement that a person or group has acquired beneficial ownership of 20 percent or more, or ten days after a person or group announces a tender offer that would result in beneficial ownership of 20 percent or more of the Company's outstanding common stock, the rights become exercisable and each right will entitle its holder to purchase one eight-hundredth of a share of Series A Preferred Stock for $37.50, subject to adjustment. If the Company is acquired in a business combination transaction while the
rights are outstanding, each right will entitle its holder to purchase, for $37.50, common shares of the acquiring company having a market value of $75. In addition, if a person or group acquires beneficial ownership of 20 percent or more of the Company's outstanding common stock, each right will entitle its holder (other than such person or members of such group) to purchase, for $37.50, a number of shares of the Company's common stock having a market value of $75. Furthermore, at any time after a person or group acquires beneficial ownership of 20 percent or more (but less than 50 percent) of the Company's outstanding common stock, the Board of Directors may, at its option, exchange part or all of the rights (other than rights held by the acquiring person or group) for shares of the Company's common stock on a one-for-one basis. At any time prior to the acquisition of such a 20 percent position, the Company can redeem each right for $0.00125. The Board of Directors is also authorized to reduce the 20 percent thresholds referred to above to not less than 10 percent. The rights expire in the year 2001.
NOTE H - TREASURY STOCK
Pursuant to authorizations by the Company's Board of Directors, the Company repurchased 294,000 and 2,700,800 shares of its common stock during fiscal 1999 and 1998, respectively, at an average price per share of $19.97 and $9.70, respectively. All shares held in treasury were reissued as a part of the two-for-one stock split paid in the form of a stock dividend which took place on January 11, 1999.
NOTE I - NON-RECURRING EXPENSES
During fiscal 1998, the Company incurred non-recurring expenses of approximately $6.8 million including the following: $1.0 million associated with certain personnel matters, including the resignation of the Company's former President and Chief Operating Officer, $1.0 million to provide for potential inventory obsolescence, and $3.0 million to write off certain intangible assets (see Note B). Additionally, the Company wrote off as in-process research and development approximately $1.8 million of the purchase price paid to Integrated Telephony Products, Inc. for its ESP product line (see Note C).
The Company incurred a one-time charge of approximately $1.8 million in connection with the settlement of certain litigation during fiscal 1997.
NOTE J - EARNINGS PER SHARE The following table sets forth the computation of basic and diluted earnings per share:
Options to purchase 633,098, 3,725,712, and 2,290,138 shares of common stock at average exercise prices of $10.77, $7.10, and $10.90, respectively, were outstanding at February 28, 1999, 1998, and 1997, respectively, but were not included in the computations of diluted earnings (loss) per share because the effect would have been anti-dilutive to the calculations. For 1999 and 1997, the anti-dilution is due to options' exercise prices which were greater than the average market prices of the common shares. For 1998, the anti-dilution is due to the net loss for the year ended February 28, 1998.
NOTE K - OPERATING SEGMENT INFORMATION AND MAJOR CUSTOMERS
The Company has adopted Statement of Financial Accounting Standards (SFAS) No. 131, "Disclosures about Segments of an Enterprise and Related Information," which requires the reporting of certain financial information by operating segment and geographic area. InterVoice is comprised of a single operating segment which develops, sells and services call automation systems. The Company's Chief Operating Decision Maker (CODM) assesses performance and allocates resources on an enterprise-wide basis. Therefore, no separately reportable operating segments exist.
The CODM monitors revenues based on customer markets, including Customer Premise Equipment (CPE), Telecommunications (Telco) and geographic area. The CPE market includes interactive voice response and customer relationship management systems such as the Company's OneVoice and AgentConnect products. The Telco customer market focuses on systems for telecommunications network operators and includes the Company's InControl product. CPE and Telco revenues are shown exclusive of system maintenance and software license fee revenues. The Company's net revenues by customer market and geographic area were as follows (in thousands):
*Represent export sales from the United States
No customer accounted for 10% or more of the Company's sales during fiscal 1999 or 1998. One customer, Siemens AG, one of the Company's resellers, accounted for 10.2% of the Company's sales during fiscal 1997.
NOTE L - CONCENTRATIONS OF CREDIT RISK
The Company sells systems directly to end-users and distributors primarily in the banking and financial, telecommunications, human resource, healthcare and call center vertical markets. Credit is extended based on an evaluation of a customer's financial condition and a deposit is generally required. The Company has made a provision for credit losses in these financial statements, which have been less than 1% of sales in the periods reported.
NOTE M - EMPLOYEE BENEFIT PLAN
The Company sponsors an employee savings plan which qualifies under section 401(k) of the Internal Revenue Code. All full time employees who have completed three months of service are eligible to participate in the plan. The Company matches 50% of employee contributions up to 6% of the employee's eligible compensation. Company contributions totaled $798,000, $854,000, and $759,000 in fiscal 1999, 1998 and 1997, respectively.
NOTE N - CONTINGENCIES
Commencing in fiscal 1997, Lucent Technologies ("Lucent") suggested in correspondence to the Company that it should consider licensing certain Lucent patents for a substantial payment. The Company has an opinion from its outside legal counsel that the Company does not infringe the Lucent patents by reason of non-infringement and/or invalidity. The Company has suggested to Lucent that Lucent should consider licensing certain patents of the Company, and that a mutual cross-license might be in the best interests of both parties. The parties have discussed the possibility of negotiations for a mutually satisfactory cross-license agreement which would resolve the matter. There is no assurance that the Company will be able to negotiate a cross-license agreement based on mutually satisfactory terms. Lucent has not threatened litigation against the Company, and the Company and Lucent did not have any discussions or exchange any correspondence concerning their respective patent portfolios during fiscal 1999. In the event that litigation is instituted against the Company concerning the Lucent patents, the Company intends to vigorously contest the claims and to assert defenses of non-infringement and/or invalidity of the patents, together with any other defenses and counterclaims, including any counterclaim for infringement of its patents, the Company might have. As with any legal proceeding, there is no guarantee that the Company will prevail in any litigation asserted against the Company in connection with the Lucent patents.
NOTE O - SUBSEQUENT EVENT
On April 27, 1999, the Company signed a definitive merger agreement to acquire all of the outstanding shares of Brite Voice Systems, Inc. (Brite). Pursuant to the agreement, InterVoice will pay Brite shareholders $13.40 per Brite share, or based on approximately 12.3 million shares of Brite common stock outstanding, total consideration of approximately $164.4 million. Of this total, approximately $122.7 million, or $10.00 per Brite share, will be in cash and approximately $41.7 million, or $3.40 per Brite share, will be in shares of InterVoice common stock. The merger will be accounted for as a purchase business combination.
The transaction will be executed in two steps, the first being an all cash tender offer at $13.40 per share for approximately 9.2 million shares of Brite's common stock. The second step will consist of a merger in which shares of Brite common stock not purchased in the cash tender offer will be exchanged into shares of InterVoice common stock. The ratio of exchange will be determined at the time of the merger based on the average closing price of an InterVoice share for the preceding twenty-five trading days. This transaction has been approved by the Boards of Directors of Brite and InterVoice. The cash tender offer will close on June 1, 1999. The closing of the transaction is subject to certain customary conditions as described in the merger agreement.
In connection with this transaction, InterVoice has received a commitment from Bank of America to provide senior secured credit facilities amounting to $150 million, which will include a $125 million term loan facility and a $25 million revolving credit agreement. The term loan agreement will be subject to scheduled repayments, as defined, during 2000-2003. The revolving credit agreement will expire upon the earlier of the termination of the term loan, or August 31, 2003.
SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS
INTERVOICE, INC.
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(A) Accounts written off. (B) Scrapped material. (C) Includes approximately $1,700,000 reclassified to accumulated depreciation associated with reclassification of inventory into fixed assets. Also includes approximately $700,000 of scrapped material.
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
Not applicable.
PART III
ITEM 10.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information required by this item will be contained in the sections entitled "Election of Directors" and "Executive Officers" in the Company's Definitive Proxy Statement, involving the election of directors, to be filed pursuant to Regulation 14A with the Securities and Exchange Commission not later than 120 days after the end of the fiscal year covered by this Form 10-K (the "Definitive Proxy Statement") and is incorporated herein by reference.
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION
The information required by this item will be contained in the section entitled "Executive Compensation" in the Definitive Proxy Statement. Such information, except for the information captioned "Report of the Compensation Committee" and "Performance Graph", is incorporated herein by reference.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by this item will be contained in the section entitled "Election of Directors" in the Definitive Proxy Statement. Such information is incorporated herein by reference.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this item will be contained in the section entitled "Certain Transactions" in the Definitive Proxy Statement. Such information is incorporated herein by reference.
PART IV
ITEM 14.
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a) The following consolidated financial statements and financial statement schedule of InterVoice, Inc. and subsidiaries are included in Items 8 and 14(a), respectively.
All other schedules are omitted because they are not applicable or the required information is shown in the financial statements or notes thereto.
(3) Exhibits:
The exhibits required to be filed by this Item 14 are set forth in the Index to Exhibits accompanying this report.
(b) No reports on Form 8-K were filed by the Company during the quarter ended February 28, 1999.
SIGNATURES
Pursuant to the requirements of Sections 13 or 15(d) of the Securities Exchange Act of 1934, the Company has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
INTERVOICE, INC.
By: /s/ DANIEL D. HAMMOND ---------------------------------- Daniel D. Hammond Chairman of the Board of Directors and Chief Executive Officer
Dated: May 28, 1999
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.
INDEX TO EXHIBITS
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(1) Incorporated by reference to exhibits to the Company's 1991 Annual Report on Form 10-K for the fiscal year ended February 28, 1991, filed with the Securities and Exchange Commission (SEC) on May 29, 1991, as amended by Amendment No. 1 on Form 8 to Annual Report on Form 10-K, filed with the SEC on August 1, 1991.
(2) Incorporated by reference to exhibits to the Company's 1995 Annual Report on form 10-K for the fiscal year ended February 28, 1995, filed with the SEC on May 30, 1995.
(3) Incorporated by reference to exhibits to the Company's Registration Statement on form S-8 filed on April 6, 1994, with respect to the Company's 1990 Nonqualified Stock Option Plan for Non-Employees, Registration Number 33-77590.
(4) Incorporated by reference to exhibits to Form 8-A/A (Amendment No. 1) filed with the SEC on December 15, 1994.
(5) Incorporated by reference to exhibits to the Company's 1994 Annual Report on Form 10-K for the fiscal year ended February 28, 1994, filed with the SEC on May 31, 1994.
(6) Incorporated by reference to exhibits to Registration Statement on Form S-8 filed with the SEC on November 30, 1998, Registration Number 333-68103.
(7) Incorporated by reference to exhibits to the Company's 1996 Annual Report on Form 10-K for the fiscal year ended February 29, 1996, filed with the SEC on May 29, 1996.
(8) Incorporated by reference to exhibits to the Company's Annual Report on Form 10-K for the fiscal year ended February 28, 1998, filed with the SEC on May 29, 1998.
(9) Incorporated by reference to exhibits to the Company's quarterly report on Form 10-Q for the quarter ended August 31, 1998, filed with the SEC on October 14, 1998.
(10) Incorporated by reference to exhibits to the Company's quarterly report on Form 10-Q for the quarter ended November 31, 1998, filed with the SEC on January 14, 1999.
(11) Incorporated by reference to exhibits to the Schedule 14D-1 filed by the Company and Acquisition Subsidiary with the SEC on May 3, 1999, as amended on May 5, 1999 and May 10, 1999, File No. S-40824.
(12) Filed herewith.
Exhibits furnished upon request