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COMPUWARE CORP - 10-Q - Management's Discussion and Analysis of Financial Condition and Results of Operations
(Edgar Glimpses Via Acquire Media NewsEdge)
This "Management's Discussion and Analysis of Financial Condition and Results of
Operations" ("MD&A") is intended to provide an understanding of our financial
condition, changes in financial condition, cash flow, liquidity and results of
operations. The MD&A should be read in conjunction with the unaudited condensed
consolidated financial statements and notes included elsewhere in this report
and our annual report on Form 10-K for the fiscal year ended March 31, 2012,
particularly "Item 7 - Management's Discussion and Analysis of Financial
Condition and Results of Operations". References to years are to fiscal years
ended March 31.
In this section, we first discuss our results of operations on a business unit
or segment basis. We evaluate segment performance based primarily on operating
profit before certain charges such as internal information system support,
finance, human resources, legal, administration and other corporate charges.
Following the segment discussion, we then provide a separate discussion of the
material period-to-period changes in our operating expenses, other income and
income taxes as reflected on our statements of comprehensive income.
We collectively refer to the solutions offered within our APM, Mainframe,
Changepoint and Uniface segments as "software solutions". In order to provide a
supplementary view of this business, aggregated financial data for our software
solutions is presented herein.
Forward-Looking Statements
The following discussion contains certain forward-looking statements within the
meaning of the federal securities laws. When we use words such as "may",
"might", "will", "should", "believe", "expect", "anticipate", "estimate",
"continue", "predict", "forecast", "projected", "intend" or similar expressions,
or make statements regarding our future plans, objectives or expectations, we
are making forward-looking statements. Numerous important factors, risks and
uncertainties affect our operating results and could cause actual results to
differ materially from the results implied by these or any other forward-looking
statements made by us, or on our behalf.
The material risks and uncertainties that we believe affect us are summarized
below. These risks and uncertainties are not the only ones we face. Additional
risks and uncertainties discussed elsewhere in this report and the other reports
we file with the Securities and Exchange Commission (see for example Item 1A
Risk Factors in our 2012 Form 10-K), as well as other risks and uncertainties
that we are not aware of or focused on or that we currently deem immaterial, may
also impair business operations. This report is qualified in its entirety by
these risk factors and those listed below. If any of the following risks
actually occur, our financial condition and results of operations could be
materially and adversely affected. If this were to happen, the value of our
common stock could decline significantly, and shareholders could lose all or
part of their investment.
There can be no assurance that future results will meet expectations. While we
believe that our forward-looking statements are reasonable, you should not place
undue reliance on any such forward-looking statements, which speak only as of
the date made. Except as required by applicable law, we do not undertake any
obligation to publicly release any revisions which may be made to any
forward-looking statements to reflect events or circumstances occurring after
the date of this report.
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COMPUWARE CORPORATION AND SUBSIDIARIESSummary of Risk Factors
· A substantial portion of our mainframe segment revenue is dependent on our
customers' continued use of International Business Machines Corporation and
IBM-compatible products.
· Changes in the financial services industry could have a negative impact on our
revenue and margins.
· Our product revenue is dependent on the acceptance of our pricing structure
for software licenses, maintenance services and web performance services.
· Maintenance revenue could decline.
· Our primary source of profitability is from our mainframe segment. If revenues
in this segment decline before we significantly increase margins in other
operating segments, our profitability may decline.
· Our business could be negatively affected as a result of actions of
shareholders or others.
· The markets for web performance services are at an early stage of development
with emerging competitors. If these markets do not develop or develop more
slowly than we expect, or if there is an increase in competition, our revenue
may decline or fail to grow.
· The success of our combined dynaTrace Enterprise and Gomez SaaS solutions is
dependent on customer acceptance of these offerings.
· The market for application services is in its early stages of development with
emerging competitors. As the market matures, competition may increase and
could have a material negative impact on our results of operations.
· If we are not successful in maintaining our professional services strategy,
our margins may decline materially.
· We may fail to achieve our forecasted financial results due to inaccurate
sales forecasts or other unpredictable factors. If we fail to meet the
expectations of analysts or investors, our stock price could decline
substantially.
· Economic uncertainties or slowdowns may reduce demand for our products and
services, which may have a material adverse effect on our revenues and
operating results.
· Defects or disruptions in our web performance services or application services
networks or interruptions or delays in service would impair the delivery of
our on-demand service and could diminish demand for our services and subject
us to substantial liability.
· Future changes in the U.S. domestic automotive manufacturing business could
reduce demand for our professional services and Covisint application services,
which may have a material negative effect on our revenues and operating
results.
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COMPUWARE CORPORATION AND SUBSIDIARIES
· If the fair value of our long-lived assets deteriorated below the carrying
value of these assets, recognition of an impairment loss would be required,
which could materially and adversely affect our financial results.
· Our software technology may infringe the proprietary rights of others.
· Our results could be adversely affected by increased competition, pricing
pressures and technological changes within the software products market.
· The market for professional services is highly competitive, fragmented and
characterized by low barriers to entry.
· We must develop or acquire product enhancements and new products to maintain
our success.
· Acquisitions may be difficult to integrate, disrupt our business or divert the
attention of our management and may result in financial results that are
different than expected.
· We are exposed to exchange rate risks on foreign currencies and to other
international risks that may adversely affect our business and results of
operations.
· Current laws may not adequately protect our proprietary rights.
· The loss of certain key employees and technical personnel or our inability to
hire additional qualified personnel could have a material adverse effect on
our business.
· Unanticipated changes in our effective tax rates, or exposure to additional
income tax liabilities, could affect our profitability.
· Our stock repurchase plan and future dividend payments may be suspended or
terminated at any time, which may result in a decrease in our stock price.
· Acts of terrorism, acts of war and other unforeseen events may cause damage or
disruption to us or our customers, which could materially and adversely affect
our business, financial condition and operating results.
· Our articles of incorporation, bylaws and rights agreement as well as certain
provisions of Michigan law may have an anti-takeover effect.
OVERVIEW
We deliver value to businesses by providing software solutions (both on-premises
and SaaS models), professional services and application services that improve
the performance of information technology organizations.
Our primary source of profitability and cash flow is the sale of our mainframe
productivity tools ("mainframe") that are used within our customers' mainframe
computing environments for fault diagnosis, file and data management,
application performance monitoring and application debugging. We have
experienced lower volumes of software license transactions for our mainframe
solutions in recent years and during the first nine months of 2013 causing an
overall downward trend in our mainframe product revenues which we expect to
continue. Changes in our current customer IT computing environments and spending
habits have impacted their need for additional mainframe computing capacity. In
addition, increased competition and pricing pressures have had a negative impact
on our revenues. Customers utilize our products to reduce operating costs,
increase programmer productivity and create a smooth transition to the next
generation of mainframe environment programmers. We will continue to make
strategic enhancements to our mainframe solutions through research and
development investments with the goal of meeting customer needs and maintaining
a maintenance renewal rate of approximately 90%. The cash flow generated from
our mainframe business supports our growth segments.
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We have identified the APM market as a key source of future revenue growth. Web,
mobile and cloud applications and the complex distributed applications delivery
chain supporting them have become increasingly critical to a company's brand
awareness, revenue growth and overall market share. Because of this, the market
for APM solutions is significant and growing rapidly. Our APM solutions are
marketed under the brand names "Gomez" and "dynaTrace". These solutions provide
our customers with on-premises software ("dynaTrace Enterprise" which includes
our former Vantage products) and SaaS platform based web application performance
services ("Gomez SaaS"). These solutions ensure the optimal performance of each
customer's enterprise, web, streaming, mobile and cloud applications. We are
investing in our APM solutions with the goal of providing solutions that are
best-in-class within the APM market. Specifically, our investments include: (1)
enhancements to our global web performance services network with specific focus
on ease of use, time-to-value and data analytics in mobile and cloud application
performance capabilities and in video streaming performance; (2) enhancements to
our dynaTrace Enterprise solutions that are focused on optimizing application
performance and accelerating time to market; and (3) enhancements which combine
our on-premises software and SaaS solution into a single platform that provides
performance metrics for web, non-web, mobile, streaming and cloud applications
in a single solution.
We have also identified the secure collaboration services market, served by our
Covisint application services, as a key source of revenue growth. Technology has
allowed business communities, organizations and systems to globally connect and
share vital information, applications and processes across their internal and
extended enterprises. Our Covisint services, which are provided on a
platform-as-a-service basis to customers primarily in the automotive and U.S.
healthcare industries, create an environment that simplifies and secures this
collaboration atmosphere. The need for these services is growing across all
business segments. Our focus in the manufacturing industry is on enabling
automakers to connect, engage and collaborate on mission critical business
processes with their suppliers, customers and business partners. Our focus in
the healthcare industry is on enabling hospitals, physicians and government
entities to share electronic patient health and medical records.
We also continue to enhance our Changepoint and Uniface solutions primarily
through research and development expenditures.
Our Changepoint solution provides a single automated solution for professional
services organizations to forecast and plan, as well as manage resources,
projects and client engagements. In addition, for project-centric organizations,
Changepoint provides a cohesive and consolidated view of projects, investments,
resources and applications to help manage the entire business portfolio.
Our Uniface solution is mature with over 25 years on the market. Uniface is a
rapid application development environment for building, renewing and integrating
the latest complex enterprise applications. Our strategy with the Uniface
solution is to enhance the product with additional features making it more
effective for enterprise applications and to expand the capabilities of the
product to other technology applications.
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The professional services reporting segment is focused on achieving modest
revenue growth and improved margins by delivering high quality solutions and
resources to our customers that meet their needs from application development
through project management. Our goal is to provide the expertise, best practices
and agility needed to meet our customers' critical technology challenges. Areas
of growth that we have identified are cloud and mobile application development
services. Enhancing our competencies in these areas will provide an opportunity
to continue growing the segment's revenue and contribution margin.
Quarterly Update
The following occurred during the third quarter of 2013:
· Achieved an increase in total revenue of $4.8 million during the third quarter
of 2013 as compared to the third quarter of 2012 due to a $7.7 million
increase in software license fees, a $5.3 million increase in application
services fees and an $862,000 increase in subscription fees partially offset
by a $4.5 million decline in maintenance fees and a $4.5 million decline in
professional services fees.
· Acheived an increase in operating margin to 15.4% during the third quarter of
2013 as compared to 12.9% during the third quarter of 2012 due primarily to
the increase in APM contribution margin (see "Business Segment Analysis" for
additional information).
· Software solutions revenue increased $2.0 million or 1.0% for the third
quarter of 2013 as compared to the third quarter of 2012 due primarily to an
increase in APM revenue partially offset by a decline in mainframe revenue.
Software solutions contribution margin improved to 41.4% during the third
quarter of 2013 from 37.9% during the third quarter of 2012 due primarily to
the increase in APM contribution margin.
· Professional services segment revenue declined $2.4 million or 6.8% during the
third quarter of 2013 as compared to the third quarter of 2012 due to a
decline in application development services for customers within the financial
services industry. Contribution margin increased to 14.9% in the third quarter
of 2013 from 10.8% during the third quarter of 2012 due primarily to a $2.5
million revenue reserve related to a government project during the third
quarter of 2012 (see "Professional Services" for additional information).
· Covisint revenue increased $5.3 million or 28.3% from the third quarter of
2012. Contribution margin improved to 9.2% in the third quarter of 2013 from
7.1% during the third quarter of 2012 due to the increase in revenue.
· Released PurePath for zOS, which combines Strobe and dynaTrace technology on
the mainframe, during November 2012. It is showing strong potential with some
deals already completed. We expect PurePath for zOS to meaningfully contribute
to our mainframe earnings in 2014.
· Instituted a stock repurchase plan under Rule 10b5-1 of the Securities
Exchange Act of 1934 pursuant to which we repurchase shares pursuant to a
predetermined formula during our quarterly trading black-out periods.
· Repurchased 3.3 million shares of our common stock at an average price of
$9.24 per share.
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COMPUWARE CORPORATION AND SUBSIDIARIES
In December 2012, Covisint Corporation, currently a wholly owned subsidiary of
Compuware, submitted a registration statement on a confidential basis to the
U.S. Securities and Exchange Commission for a possible initial public offering
of approximately 20% of its common stock ("Proposed IPO"). The Proposed IPO is
intended, among other things, to give Covisint greater flexibility to pursue
strategic opportunities and to increase its visibility in the marketplace. The
Proposed IPO is expected to commence within three to six months as market
conditions permit and is also subject to completion of the SEC's review process.
Our current plan is to distribute any remaining Covisint shares owned by
Compuware directly to Compuware shareholders within 12 months of completing the
IPO, subject to approval by our Board of Directors, receipt of consent from the
lenders under our revolving credit agreement and applicable regulatory
approvals.
Subsequent to the close of the quarter, our Board of Directors approved an
action plan to increase shareholder value. In addition to the planned spin-off
of the Covisint business, we are considering alternatives to eliminate
approximately $60 million of administrative and general and non-core operational
costs over the next three years with approximately $20 million in cost savings
anticipated in fiscal 2014, and we announced plans for a $0.50 per share annual
dividend to be paid quarterly starting in fiscal 2014. In approving the action
plan, the Board rejected an unsolicited conditional offer from Elliott
Management Corporation to acquire all of the outstanding shares of the Company
for $11.00 per share (the "Elliott proposal"). The Board concluded that the
Elliott proposal undervalues the Company and is not in the best interest of
shareholders. While we are focused on executing and delivering on our plan, the
Board will carefully review and evaluate any credible offer it receives that
delivers full value to our shareholders.
The payment of future dividends is subject to the availability of funds after
taking into account our operational funding requirements, the terms of any
indebtedness and applicable state law. The revolving credit agreement to which
we are a party contains financial covenants that could limit our ability to pay
dividends, as well as a covenant that would prohibit us from paying dividends if
we are in default or if payment of the dividend would result in a default. We
anticipate being able to pay the planned dividend in fiscal 2014.
Our ability to execute our strategies and achieve our objectives is subject to a
number of risks and uncertainties. See "Forward-Looking Statements".
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COMPUWARE CORPORATION AND SUBSIDIARIESBUSINESS SEGMENT ANALYSIS
The following table sets forth, for the periods indicated, certain business
segment operational data. We evaluate the performance of our segments based
primarily on contribution margin which is operating profit before certain
charges such as internal information system support, finance, human resources,
legal, administration and other corporate charges ("unallocated expenses").
Comparisons are to the comparable period of the prior year. Financial
information for our business segments was as follows (in thousands):
Software Solutions Unallocated
Three Months
Ended: APM MF CP UF Total PS AS Expenses Total
December 31, 2012
Total revenues $ 85,061 $ 92,464 $ 10,623 $ 12,664 $ 200,812 $ 33,202 $ 23,852 $ - $ 257,866
Operating
expenses 76,773 24,727 10,951 5,254 117,705 28,264 21,664 50,584 218,217
Contribution /
operating margin $ 8,288 $ 67,737 $ (328 ) $ 7,410 $ 83,107 $ 4,938 $ 2,188 $ (50,584 ) $ 39,649
Margin % 9.7 % 73.3 % (3.1 %) 58.5 % 41.4 % 14.9 % 9.2 % N/A 15.4 %
December 31, 2011
Total revenues $ 72,073 $ 103,060 $ 12,477 $ 11,234 $ 198,844 $ 35,626 $ 18,587 $ - $ 253,057
Operating
expenses 82,118 24,721 11,683 5,044 123,566 31,794 17,265 47,839 220,464
Contribution /
operating margin $ (10,045 ) $ 78,339 $ 794 $ 6,190 $ 75,278 $ 3,832 $ 1,322 $ (47,839 ) $ 32,593
Margin % (13.9 %) 76.0 % 6.4 % 55.1 % 37.9 % 10.8 % 7.1 % N/A 12.9 %
Software Solutions Unallocated
Nine Months
Ended: APM MF CP UF Total PS AS Expenses Total
December 31, 2012
Total revenues $ 223,310 $ 251,178 $ 29,741 $ 33,485 $ 537,714 $ 101,930 $ 64,981 $ - $ 704,625
Operating
expenses 226,928 67,856 31,392 15,279 341,455 85,322 59,731 144,731 631,239
Contribution /
operating margin $ (3,618 ) $ 183,322 $ (1,651 ) $ 18,206 $ 196,259 $ 16,608 $ 5,250 $ (144,731 ) $ 73,386
Margin % (1.6 %) 73.0 % (5.6 %) 54.4 % 36.5 % 16.3 % 8.1 % N/A 10.4 %
December 31, 2011
Total revenues $ 190,430 $ 318,610 $ 33,294 $ 34,040 $ 576,374 $ 115,051 $ 52,302 $ - $ 743,727
Operating
expenses 231,489 72,926 33,989 15,595 353,999 95,045 53,934 150,379 653,357
Contribution /
operating margin $ (41,059 ) $ 245,684 $ (695 ) $ 18,445 $ 222,375 $ 20,006 $ (1,632 ) $ (150,379 ) $ 90,370
Margin % (21.6 %) 77.1 % (2.1 %) 54.2 % 38.6 % 17.4 % (3.1 %) N/A 12.2 %
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COMPUWARE CORPORATION AND SUBSIDIARIESSoftware Solutions as a Group
Our software solutions are comprised of the following business segments: (1)
Application Performance Management; (2) Mainframe; (3) Changepoint; and (4)
Uniface.
Revenue associated with our software solutions consists of software license
fees, maintenance fees, subscription fees and professional services fees
(software related services). Software solutions revenues are presented in the
table below (in thousands):
Three Months Ended Nine Months Ended
December 31, December 31,
2012 2011 % Change 2012 2011 % Change
Software license fees $ 64,831 $ 57,121 13.5 % $ 130,499 $ 152,958 (14.7 )%
Maintenance fees 102,341 106,843 (4.2 ) 307,487 322,908 (4.8 )
Subscription fees 20,793 19,931 4.3 61,503 58,156 5.8
Professional services
fees 12,847 14,949 (14.1 ) 38,225 42,352 (9.7 )
Total software
solutions revenue $ 200,812 $ 198,844 1.0 % $ 537,714 $ 576,374 (6.7 )%
Software license fees ("license fees") increased $7.7 million during the third
quarter of 2013 and declined $22.5 million during the first nine months of 2013,
which included a negative impact from foreign currency fluctuations of $491,000
and $3.3 million for the third quarter and the first nine months of 2013,
respectively. Excluding the impact from foreign currency fluctuations, license
fees increased $8.2 million and declined $19.2 million for the third quarter and
first nine months of 2013, respectively. The increase for the third quarter of
2013 can primarily be attributed to the increase in APM license revenue from the
third quarter of 2012. For the first nine months of 2013, the increase in APM
license revenue was more than offset by the decline in mainframe license
revenue, resulting in the decline in license fees from the prior year (see the
discussion within "Software Solutions by Business Segment" for more details).
During the third quarters of 2013 and 2012, for software license transactions
that were required to be recognized ratably, we deferred $11.2 million and $6.4
million, respectively, of license fees relating to such transactions that closed
during the period. We recognized as license fees $7.9 million and $12.0 million
of previously deferred license revenue during the third quarters of 2013 and
2012, respectively, relating to such transactions that closed and had been
deferred prior to the beginning of the period.
During the first nine months of 2013 and 2012, for software license transactions
that were required to be recognized ratably, we deferred $20.1 million and $11.8
million, respectively, of license fees relating to such transactions that closed
during the period. We recognized as license fees $23.1 million and $37.9 million
of previously deferred license revenue during the first nine months of 2013 and
2012, respectively, relating to such transactions that closed and had been
deferred prior to the beginning of the period.
Maintenance fees decreased $4.5 million during the third quarter of 2013 and
$15.4 million during the first nine months of 2013, which included a negative
impact from foreign currency fluctuations of $882,000 and $9.9 million for the
third quarter and first nine months of 2013, respectively. Excluding the impact
from foreign currency fluctuations, maintenance fees declined $3.6 million and
$5.5 million for the third quarter and first nine months of 2013, respectively.
Although we continue to experience a high maintenance renewal rate with our
current mainframe customers, the decline in mainframe license transactions
throughout the past several years is impacting mainframe maintenance revenue as
new or growth customers are not entirely replacing the maintenance revenue loss
from the non-renewed or reduced capacity mainframe maintenance arrangements. The
declines in mainframe maintenance fees in both periods were partially offset by
an increase in APM and Changepoint maintenance fees.
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Subscription fees increased $862,000 during the third quarter of 2013 and $3.3
million during the first nine months of 2013. Foreign currency fluctuations did
not have a substantial impact on subscription fees for the third quarter of
2013. For the first nine months of 2013, subscription fees included a negative
impact from foreign currency fluctuations of $755,000. Excluding the impact from
foreign currency, subscription fees increased $4.1 million for the first nine
months of 2013. The improvements in subscription fees over the prior year
periods were primarily a result of new SaaS solution sales exceeding customer
cancellations during the previous year.
Professional services fees within our software solutions business segments
decreased $2.1 million and $4.1 million during the third quarter and first nine
months of 2013, respectively. The decline in professional services fees from the
third quarter of 2012 occurred due to a reduced need for implementation services
for our APM products and the decline in revenue for our Changepoint software
products. The decline from the first nine months of 2012 occurred within our
mainframe and Changepoint segments due to declines in new software license
sales.
Software solutions revenue by geographic location is presented in the table
below (in thousands):
Three Months Ended Nine Months Ended
December 31, December 31,
2012 2011 (1) 2012 2011 (1)
United States $ 106,193 $ 99,679 $ 284,941 $ 298,674
Europe and Africa 58,238 64,853 152,150 173,897Other international operations 36,381 34,312 100,623
103,803
Total software solutions revenue $ 200,812 $ 198,844 $ 537,714
$ 576,374
(1) December 31, 2011 amounts between the United States, Europe and Africa and
other international operations have been reclassified to conform to the
current year presentation.
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COMPUWARE CORPORATION AND SUBSIDIARIESSoftware Solutions by Business Segment
Application Performance Management
The financial results of operations for our APM segment were as follows (in
thousands):
Three Months Ended Nine Months Ended
December 31, December 31,
2012 2011 % Change 2012 2011 % Change
Revenue
Software license fees $ 33,938 $ 24,360 39.3 % $ 74,237 $ 54,142 37.1 %
Maintenance fees 23,369 19,441 20.2 66,544 57,003 16.7
Subscription fees 20,130 19,379 3.9 59,526 56,639 5.1
Professional services fees 7,624 8,893 (14.3 ) 23,003 22,646 1.6
Total revenue 85,061 72,073 18.0 223,310 190,430 17.3
Operating expenses 76,773 82,118 (6.5 ) 226,928 231,489 (2.0 )
Contribution margin $ 8,288 $ (10,045 ) 182.5 % $ (3,618 ) $ (41,059 ) 91.2 %
Contribution margin % 9.7 % (13.9 %) (1.6 %) (21.6 %)
APM segment revenue increased $13.0 million during the third quarter of 2013 due
primarily to increased software license and maintenance fees. License fees
increased $6.9 million in the U.S. and Canada due to a higher volume of software
license transactions including one significant software license transaction that
resulted in the recognition of $2.5 million in revenue during the third quarter
of 2013. License fees in Europe increased $2.0 million with the changes in our
European APM team. The increase in maintenance fees is primarily the result of
new sales exceeding customer cancellations during the previous year.
Operating expenses declined during the third quarter of 2013 due to reductions
in headcount and marketing expenses related to a continuing focus on cost
containment during 2013 as well as the capitalization of additional software
development costs due to projects which were in the capitalization phase of
development during the third quarter of 2013.
APM segment revenue increased $32.9 million during the first nine months of 2013
due primarily to increased license and maintenance fees related to the
acquisition of dynaTrace during the second quarter of 2012. Additionally,
subscription fees increased $2.9 million due to new SaaS solution sales
exceeding customer cancellations during the previous year.
Operating expenses for the first nine months of 2013 declined $4.6 million from
the prior year due to reductions in headcount and marketing expenses for the
second and third quarters of 2013 as compared to the second and third quarters
of 2012. Revenue growth and cost reductions for the first nine months of 2013
had a positive impact on our contribution margin for the first nine months of
2013 as compared to the same period of the prior year.
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COMPUWARE CORPORATION AND SUBSIDIARIESApplication performance management revenue by geographic location is presented
in the table below (in thousands):
Three Months Ended Nine Months Ended
December 31, December 31,
2012 2011 2012 2011
United States $ 45,249 $ 37,865 $ 121,649 $ 99,125
Europe and Africa 26,545 23,033 62,954 59,522Other international operations 13,267 11,175 38,707
31,783
Total APM segment revenue $ 85,061 $ 72,073 $ 223,310 $ 190,430
Mainframe
The financial results of operations for our Mainframe segment were as follows
(in thousands):
Three Months Ended Nine Months Ended
December 31, December 31,
2012 2011 % Change 2012 2011 % Change
Revenue
Software license fees $ 24,743 $ 26,720 (7.4 )% $ 43,566 $ 83,874 (48.1 )%
Maintenance fees 67,048 75,782 (11.5 ) 205,972 230,776 (10.7 )
Professional services fees 673 558 20.6 1,640 3,960 (58.6 )
Total revenue 92,464 103,060 (10.3 ) 251,178 318,610 (21.2 )
Operating expenses 24,727 24,721 0.0 67,856 72,926 (7.0 )
Contribution margin $ 67,737 $ 78,339 (13.5 )% $ 183,322 $ 245,684 (25.4 )%
Contribution margin % 73.3 % 76.0 % 73.0 % 77.1 %
Mainframe segment revenue declined $10.6 million for the third quarter of 2013
and $67.4 million for the first nine months of 2013. A significant software
license transaction resulting in $9.8 million in revenue was recognized during
the third quarter of 2013. However, this was more than offset by the reduction
in sales volume of mainframe transactions overall recognized during the third
quarter. The decline in revenue for the first nine months of 2013 is primarily
related to five large software license transactions that resulted in the
recognition of $26.4 million in revenue during the first nine months of 2012.
Furthermore, the reduction in revenue is consistent with the overall downward
trend in our mainframe product revenues we have experienced throughout the past
several years. Changes in our current customers' IT computing environments and
spending habits have reduced their demand for additional mainframe computing
capacity. In addition, increased pricing pressures, competition and the effects
of foreign exchange rate changes have had a negative impact on our revenues. We
intend to continue to make strategic enhancements to our mainframe solutions
through research and development investments, including the PurePath for zOS
product we released during the third quarter of 2013 which combines dynaTrace
and Strobe technology to provide application performance management for the
mainframe. We expect PurePath for zOS to meaningfully contribute to our
mainframe earnings in 2014.
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Because many of our costs are relatively fixed, the decline in mainframe revenue
resulted in a decline in contribution margin for both the third quarter and the
first nine months of 2013 as compared to the same periods of the prior year.
Mainframe revenue by geographic location is presented in the table below (in
thousands):
Three Months Ended Nine Months Ended
December 31, December 31,
2012 2011 2012 2011
United States $ 54,064 $ 55,539 $ 144,462 $ 181,167
Europe and Africa 21,737 29,836 61,083 80,641Other international operations 16,663 17,685 45,633
56,802
Total Mainframe segment revenue $ 92,464 $ 103,060 $ 251,178 $ 318,610
Changepoint
The financial results of operations for our Changepoint segment were as follows
(in thousands):
Three Months Ended Nine Months Ended
December 31, December 31,
2012 2011 % Change 2012 2011 % Change
RevenueSoftware license fees $ 2,684 $ 3,513 (23.6 )% $ 5,545 $ 7,643
(27.4 )%
Maintenance fees 4,139 3,895 6.3 12,321 11,647 5.8
Subscription fees 663 552 20.1 1,977 1,517 30.3
Professional services fees 3,137 4,517 (30.6 )
9,898 12,487 (20.7 )
Total revenue 10,623 12,477 (14.9 ) 29,741 33,294 (10.7 )
Operating expenses 10,951 11,683 (6.3 ) 31,392 33,989 (7.6 )
Contribution margin $ (328 ) $ 794 (141.3 )% $ (1,651 ) $ (695 ) (137.6 )%
Contribution margin % (3.1 %) 6.4 % (5.6 %) (2.1 %)
Changepoint segment revenue declined $1.9 million for the third quarter of 2013
and $3.6 million for the first nine months of 2013 due to a decline in software
license fees and professional services fees, partially offset by an increase in
maintenance fees and subscription fees.
Operating expenses decreased from the prior year due to the decline in revenue.
However, the proportionately higher decrease in revenue caused the contribution
margin to decline for the third quarter and first nine months of 2013.
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Changepoint revenue by geographic location is presented in the table below (in
thousands):
Three Months Ended Nine Months Ended
December 31, December 31,
2012 2011 2012 2011
United States $ 4,857 $ 5,275 $ 14,064 $ 14,761
Europe and Africa 2,107 3,647 5,717 9,013
Other international operations 3,659 3,555 9,960 9,520
Total Changepoint segment revenue $ 10,623 $ 12,477 $ 29,741
$ 33,294
Uniface
The financial results of operations for our Uniface segment were as follows (in
thousands):
Three Months Ended Nine Months Ended
December 31, December 31,
2012 2011 % Change 2012 2011 % Change
Revenue
Software license fees $ 3,466 $ 2,528 37.1 % $ 7,151 $ 7,299 (2.0 )%
Maintenance fees 7,785 7,725 0.8 22,650 23,482 (3.5 )
Professional services fees 1,413 981 44.0 3,684 3,259 13.0
Total revenue 12,664 11,234 12.7 33,485 34,040 (1.6 )
Operating expenses 5,254 5,044 4.2 15,279 15,595 (2.0 )
Contribution margin $ 7,410 $ 6,190 19.7 % $ 18,206 $ 18,445 (1.3 )%
Contribution margin % 58.5 % 55.1 % 54.4 % 54.2 %
Uniface segment revenue increased $1.4 million for the third quarter of 2013 due
to an increase in software license and professional services fees. For the first
nine months of 2013, Uniface revenue declined $555,000 primarily due to the
negative impact of foreign currency on software license and maintenance fees.
For the third quarter of 2013, operating expenses increased due to the increase
in revenue. The proportionately higher increase in revenue compared to expenses
resulted in the improvement in contribution margin. For the first nine months of
2013, operating expenses declined due primarily to the impact of foreign
currency and the contribution margin remained consistent with the prior year.
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Uniface revenue by geographic location is presented in the table below (in
thousands):
Three Months Ended Nine Months Ended
December 31, December 31,
2012 2011 2012 2011
United States $ 2,023 $ 1,000 $ 4,766 $ 3,621
Europe and Africa 7,849 8,337 22,396 24,721Other international operations 2,792 1,897 6,323
5,698
Total Uniface segment revenue $ 12,664 $ 11,234 $ 33,485 $ 34,040
Professional Services
The financial results of operations for our professional services segment were
as follows (in thousands):
Three Months Ended Nine Months Ended
December 31, December 31,
2012 2011 % Change 2012 2011 % Change
Professional services fees $ 33,202 $ 35,626 (6.8 )% $ 101,930 $ 115,051 (11.4 )%
Operating expenses 28,264 31,794 (11.1 ) 85,322 95,045 (10.2 )
Contribution margin $ 4,938 $ 3,832 28.9 % $ 16,608 $ 20,006 (17.0 )%
Contribution margin % 14.9 % 10.8 % 16.3 % 17.4 %
Professional services segment fees decreased $2.4 million for the third quarter
of 2013 and $13.1 million for the first nine months of 2013 primarily due to a
decline in application development services for customers within the financial
services industry. Several large projects for these customers were completed
during 2012 and have not yet been replaced, resulting in the decline in revenue
for the third quarter and the first nine months of 2013.
Operating expenses decreased $3.5 million for the third quarter of 2013 and $9.7
million for the first nine months of 2013 primarily due to a decline in
subcontractor costs associated with the large financial services projects noted
above as well as headcount reductions and a decline in bonus expense due to
lower company-wide bonus attainment.
The improvement in contribution margin for the third quarter of 2013 is
primarily due to a $2.5 million revenue reserve related to a government contract
during the third quarter of 2012 resulting from collectability concerns, which
had a negative impact on contribution margin in 2012. The reduction in
contribution margin for the first nine months of 2013 was due to a decline in
our utilization rate associated with the decline in revenue.
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Professional services segment revenue by geographic location is presented in the
table below (in thousands):
Three Months Ended Nine Months Ended
December 31, December 31,
2012 2011 (1) 2012 2011 (1)
United States $ 32,984 $ 35,055 $ 101,538 $ 113,626
Europe and Africa - 301 22 1,061
Other international operations 218 270 370 364
Total professional services segment revenue $ 33,202 $ 35,626 $ 101,930 $ 115,051
(1) December 31, 2011 amounts between the United States, Europe and Africa
and other international operations have been reclassified to conform to the
current year presentation.
Application Services
The financial results of operations for our Covisint application services
segment were as follows (in thousands):
Three Months Ended Nine Months Ended
December 31, December 31,
2012 2011 % Change 2012 2011 % Change
Application services fees $ 23,852 $ 18,587 28.3 % $ 64,981 $ 52,302 24.2 %
Operating expenses 21,664 17,265 25.5 59,731 53,934 10.7
Contribution margin $ 2,188 $ 1,322 65.5 % $ 5,250 $ (1,632 ) 421.7 %
Contribution margin % 9.2 % 7.1 % 8.1 % (3.1 %)
Covisint services are provided to customers primarily in the automotive and
healthcare industries. Application services segment fees increased $5.3 million
for the third quarter and $12.7 million for the first nine months of 2013 due to
growth from both recurring and services fees across automotive and healthcare
customers as well as customers in other industries. Services fees increased, in
part, due to the establishment of stand alone value for certain professional
services during 2012, which allowed us to recognize the related revenue as the
services were delivered rather than over the expected period during which the
customer would receive benefit.
As of December 31, 2012 and December 31, 2011, backlog for the application
services segment was approximately $108.7 million and $101.8 million,
respectively. Backlog represents contractually committed arrangements that have
yet to be recognized.
In anticipation of capitalizing on the growth of the secure collaboration
services market, we hired additional developers, customer support and sales
personnel, and we increased the capacity of our global application services
network during 2012. Operating expenses increased $4.4 million during the third
quarter of 2013 and $5.8 million during the first nine months of 2013 due to
these investments partially offset by an increase in capitalized research and
development costs. During the third quarter and first nine months of 2013, our
revenue growth exceeded the ongoing additional costs from these investments,
resulting in the increase in contribution margin over the prior year.
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COMPUWARE CORPORATION AND SUBSIDIARIESApplication services segment revenue by geographic location is presented in the
table below (in thousands):
Three Months Ended Nine Months Ended
December 31, December 31,
2012 2011 (1) 2012 2011 (1)
United States $ 20,445 $ 16,366 $ 56,019 $ 45,523
Europe and Africa 1,077 784 3,044 2,798
Other international operations 2,330 1,437 5,918 3,981
Total application services segment revenue $ 23,852 $ 18,587 $ 64,981 $ 52,302
(1) December 31, 2011 amounts between the United States, Europe and Africa and
other international operations have been reclassified to conform to the
current year presentation.
Unallocated Expenses
Unallocated expenses include costs associated with internal technology and the
corporate executive, finance, human resources, administrative, legal,
communications and investor relations departments. In addition, unallocated
expenses include all facility-related costs, such as rent, building
depreciation, maintenance and utilities associated with our worldwide offices.
Significant changes in these areas are discussed in "Operating Expenses" under
"Technology Development and Support" and "Administrative and General".
OPERATING EXPENSES
Our operating expenses include cost of software license fees; cost of
maintenance fees; cost of subscription fees; cost of professional services; cost
of application services; technology development and support costs; sales and
marketing expenses; and administrative and general expenses. These expenses are
described below without regard to the relevant segment(s) to which they are
allocated.
Cost of Software License Fees
Cost of software license fees includes amortization of capitalized software
related to our licensed software products, the cost of duplicating and
disseminating products to customers, including associated hardware costs, and
the cost of author royalties.
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Cost of software license fees is presented in the table below (in thousands):
Three Months Ended Nine Months Ended
December 31, % December 31, %
2012 2011 Change 2012 2011 Change
Cost of software
license fees $ 5,388 $ 4,844 11.2 % $ 15,117 $ 13,150 15.0 %
Percentage of
software license fees 8.3 % 8.5 % 11.6 % 8.6 %
During the third quarter of 2013, cost of software license fees as a percentage
of software license fees remained consistent with the prior year. Although cost
of software license fees increased, software license revenue increased
proportionately. During the first nine months of 2013, cost of software license
fees increased $2.0 million due primarily to amortization expense on intangible
assets acquired as part of the dynaTrace acquisition during the second quarter
of 2012, resulting in the increase in cost as a percentage of software license
fees.
Cost of Maintenance Fees
Cost of maintenance fees consists of the direct costs allocated to maintenance
and product support such as helpdesk and technical support.
Cost of maintenance fees is presented in the table below (in thousands):
Three Months Ended Nine Months Ended
December 31, % December 31, %
2012 2011 Change 2012 2011 Change
Cost of maintenance
fees $ 8,639 $ 9,603 (10.0 )% $ 26,653 $ 28,907 (7.8 ) %
Percentage of
maintenance fees 8.4 % 9.0 % 8.7 % 9.0 %
Cost of maintenance fees decreased $1.0 million and $2.3 million during the
third quarter and first nine months of 2013, respectively, primarily resulting
from a reduction in maintenance costs related to our APM products.
Cost of Subscription Fees
Cost of subscription fees consists of the amortization of capitalized software
related to our web performance services offerings, depreciation and maintenance
expense associated with our web performance services network related computer
equipment; data center costs; and payments to individuals for tests conducted
from their Internet-connected personal computers ("peer").
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COMPUWARE CORPORATION AND SUBSIDIARIESCost of subscription fees is presented in the table below (in thousands):
Three Months Ended Nine Months Ended
December 31, % December 31, %
2012 2011 Change 2012 2011 Change
Cost of subscription
fees $ 7,603 $ 7,291 4.3 % $ 22,823 $ 22,192 2.8 %
Percentage of
subscription fees 36.6 % 36.6 % 37.1 % 38.2 %
Cost of subscription fees increased $312,000 during the third quarter of 2013
and $631,000 during the first nine months of 2013 primarily due to increased
amortization of capitalized research and development costs. We continued to
invest in research and development throughout 2012 and the first nine months of
2013 which increased the amortizable base.
Cost of subscription fees as a percentage of subscription revenue for the third
quarter of 2013 remained consistent with the prior year. The decrease in the
cost as a percentage of subscription fees for the first nine months of 2013 was
due to the increase in subscription fees proportionately exceeding the increase
in cost of subscription fees.
Cost of Professional Services
Cost of professional services consists primarily of personnel-related costs of
providing professional services, including billable and technical staff,
subcontractors and sales personnel both for our professional services segment
and our software related services.
Cost of professional services is presented in the table below (in thousands):
Three Months Ended Nine Months Ended
December 31, % December 31, %
2012 2011 Change 2012 2011 Change
Cost of professional
services $ 39,694 $ 45,277 (12.3 )% $ 122,080 $ 136,496 (10.6 ) %
Percentage of
professional services
fees 86.2 % 89.5 % 87.1 % 86.7 %
Cost of professional services decreased $5.6 million during the third quarter of
2013 and $14.4 million during the first nine months of 2013. The decrease was
primarily due to a decline in subcontractor costs to support the activity in our
professional services segment and a decline in salaries and benefits expense due
to headcount reduction (see "Professional Services" discussion above for
additional information).
The decline in cost as a percentage of professional services fees for the third
quarter of 2013 is primarily due to the $2.5 million revenue reserve that had a
negative impact on revenue for the third quarter of 2012 discussed in the
"Professional Services" section of this report. The increase in cost of
professional services as a percentage of professional services fees for the
first nine months of 2013 was primarily due to the decline in professional
services fees associated with the decline in our utilization rate. Many of the
costs associated with our professional services fees, specifically salary and
benefits expenses, do not fluctuate with changes in revenue. The increase was
partially offset by the effect of the $2.5 million reduction in revenue for the
third quarter of 2012 discussed above.
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COMPUWARE CORPORATION AND SUBSIDIARIESCost of Application Services
Cost of application services consists primarily of personnel-related costs of
providing application services, including billable and technical staff,
subcontractors and sales personnel.
Cost of application services is presented in the table below (in thousands):
Three Months Ended Nine Months Ended
December 31, % December 31, %
2012 2011 Change 2012 2011 Change
Cost of application
services $ 20,758 $ 17,265 20.2 % $ 57,468 $ 53,934 6.6 %
Percentage of
application services
fees 87.0 % 92.9 % 88.4 % 103.1 %
Cost of application services increased $3.5 million during the third quarter and
the first nine months of 2013 primarily due to increased salary and benefits
expense from hiring additional developers, customer support and sales personnel
to support the growth of the application services business segment.
The decrease in cost of application services as a percentage of application
services fees for both the third quarter of 2013 and the first nine months of
2013 was due to the proportionately larger increase in application services
fees.
Technology Development and Support
Technology development and support includes, primarily, the costs of programming
personnel associated with software technology development and support of our
products and the web performance services network less the amount of capitalized
internal software costs during the reporting period. Also included are personnel
costs associated with developing and maintaining internal systems and
hardware/software costs required to support all technology initiatives.
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COMPUWARE CORPORATION AND SUBSIDIARIESTechnology development and support costs incurred internally and capitalized are
presented in the table below (in thousands):
Three Months Ended Nine Months Ended
December 31, % December 31, %
2012 2011 Change 2012 2011 Change
Technology
development and
support costs
incurred $ 31,105 $ 30,471 2.1 % $ 93,768 $ 87,996 6.6 %
Capitalized internal
software costs (5,476 ) (3,206 ) 70.8 (14,093 ) (9,290 ) 51.7
Technology
development and
support costs
expensed $ 25,629 $ 27,265 (6.0 )% $ 79,675 $ 78,706 1.2 %
Technology
development and
support costs
expensed as a
percentage of
software solutions
revenue 12.8 % 13.7 % 14.8 % 13.7 %
Technology development and support before capitalized internal software costs
increased $634,000 for the third quarter of 2013 and $5.8 million during the
first nine months of 2013. The increase for the third quarter of 2013 primarily
relates to increased software development activity as there were additional
projects that were in the capitalization phase of development. The increase for
the first nine months of 2013 primarily relates to higher compensation and
benefits costs due to the hiring of developers and customer support personnel to
support the growth of the APM segment, including those hired through the
dynaTrace acquisition in the second quarter of 2012. The increase in costs for
the first nine months of 2013 was partially offset by a reduction in bonus
expense resulting from lower company-wide bonus attainment.
Technology development and support as a percentage of software solutions
revenues declined from the prior year for the third quarter of 2013 primarily
due to the increase in revenue and an increase in the capitalization of software
costs. Technology development and support as a percentage of software solutions
revenues increased for the first nine months of 2013 due to the decline in
revenue and increased costs.
The change in capitalized internal software costs from the prior year relates
primarily to the timing of projects that are in the capitalization phase of
development. During the third quarter of 2013, several additional product
releases within our APM segment were in the capitalization phase of development
as compared to the third quarter of 2012, resulting in $2.3 million in
additional capitalization. During the first nine months of 2013, a new product
release for Changepoint was also in the capitalization phase of development as
well as the APM product releases, resulting in the increase in capitalized
research and development costs from the prior year.
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COMPUWARE CORPORATION AND SUBSIDIARIESSales and Marketing
Sales and marketing costs consist primarily of personnel related costs
associated with product sales, sales support and marketing for our product
offerings.
Sales and marketing costs are presented in the table below (in thousands):
Three Months Ended Nine Months Ended
December 31, % December 31, %
2012 2011 Change 2012 2011 Change
Sales and marketing
costs $ 65,773 $ 69,683 (5.6 )% $ 184,604 $ 197,255 (6.4 )%
Percentage of
software solutions
revenue 32.8 % 35.0 % 34.3 % 34.2 %
Sales and marketing costs declined $3.9 million for the third quarter of 2013
and $12.7 million for the first nine months of 2013 due primarily to decreased
compensation and travel expense associated with headcount reduction, primarily
in Europe. Additionally, advertising expense declined from the prior year due to
a credit related to a significant marketing agreement.
Administrative and General
Administrative and general expenses consist primarily of costs associated with
the corporate executive, finance, human resources, administrative, legal,
communications and investor relations departments. In addition, administrative
and general expenses include all facility-related costs, such as rent, building
depreciation, maintenance and utilities, associated with our worldwide offices.
Administrative and general expenses are presented in the table below (in
thousands):
Three Months Ended Nine Months Ended
December 31, % December 31, %
2012 2011 Change 2012 2011 ChangeAdministrative and
general expenses $ 44,733 $ 39,236 14.0 % $ 122,819 $ 122,717 0.1 %
Administrative and general costs increased $5.5 million during the third quarter
of 2013 and $102,000 during the first nine months of 2013. The increase for the
third quarter of 2013 is due primarily to expenses related to a post-retirement
consulting agreement executed during the quarter and to an asset impairment. For
the first nine months of 2013, the increase in expense was offset by a decline
in bonus expense resulting from lower company-wide bonus attainment.
We may incur significant professional fees during the coming quarters related to
the Elliott proposal. The amount and timing of the related expenses will depend
upon additional actions taken by the shareholder. Aside from the costs
associated with the Elliott proposal, we anticipate our cost reduction
initiatives to begin impacting our overall administrative and general costs in
fiscal 2014.
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COMPUWARE CORPORATION AND SUBSIDIARIESOTHER INCOME (EXPENSE)
Other income (expense), net consists primarily of interest income realized from
our cash and cash equivalents, interest earned on our financing receivables and
income generated from our investment in a partially owned company offset by
interest expense primarily associated with our long-term debt.
Other income (expense) is presented in the table below (in thousands):
Three Months Ended Nine Months Ended
December 31, % December 31, %
2012 2011 Change 2012 2011 Change
Interest income $ 520 $ 808 (35.6 )% $ 1,487 $ 2,767 (46.3 )%
Interest expense (495 ) (890 ) 44.4 (1,481 ) (2,443 ) 39.4
Other (80 ) 313 (125.6 ) (96 ) 897 (110.7 )
Other income, net $ (55 ) $ 231 (123.8 )% $ (90 ) $ 1,221 (107.4 )%
The decline in interest income is primarily due to the reduction in cash and
cash equivalents resulting from cash used to purchase dynaTrace in 2012,
repayments on our outstanding debt, our share repurchases and, to a lesser
extent, a decline in interest income related to our installment receivables.
The decrease in interest expense is related to interest on borrowings under the
line of credit. Borrowings were incurred primarily to fund a portion of the
dynaTrace acquisition during the second quarter of 2012 and to continue the
share repurchase program. The average outstanding debt balances during the
second and third quarters of 2012 were approximately $128 million and $122
million, respectively, as compared to approximately $32 million, $49 million and
$69 million during the first, second and third quarters of 2013, respectively.
INCOME TAXES
Income taxes are accounted for using the asset and liability approach. Deferred
income taxes are provided for the differences between the tax bases of assets or
liabilities and their reported amounts in the financial statements and net
operating loss and credit carryforwards.
The income tax provision and effective tax rate are presented in the table below
(in thousands):
Three Months Ended Nine Months Ended
December 31, % December 31, %
2012 2011 Change 2012 2011 Change
Income tax provision $ 14,254 $ 11,236 26.9 % $ 26,894 $ 30,339 (11.4 )%
Effective tax rate 36.0 % 34.2 % 36.7 % 33.1 %
The Company's effective tax rate for the nine months ended December 31, 2012 was
36.7% compared to 33.1% for the nine months ended December 31, 2011. The
effective tax rate was higher primarily due to a reversal of the valuation
allowance associated with the Brownfield Redevelopment ("Brownfield") tax credit
resulting in a $5.0 million reduction to the Company's income tax provision for
the nine months ended December 31, 2011. The reversal was recorded as a result
of legislation enacted in May 2011 that amended Michigan's Income Tax Act to
implement a comprehensive set of tax changes effective January 2012. One part of
the legislation contains provisions that replaced the Michigan Business Tax
("MBT") with a new corporate income tax. Certain credits allowed under the MBT,
including the Brownfield tax credit, will continue to be effective under the
revised Income Tax Act. This will allow the Company to reduce its future tax
liability for the duration of the credit carryforward period.
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The American Taxpayer Relief Act ("ATRA") was signed into law on January 2,
2013. The ATRA extended the research and experimentation credit retroactively to
January 1, 2012; under the prior law the credit expired on December 31, 2011.
The new legislation extends the credit only through December 2013. The
cumulative benefit of this reinstatement from January 2012 through March 2013
will be recognized entirely during the fourth quarter of fiscal 2013, and is not
expected to be material.
MANAGEMENT'S DISCUSSION OF CRITICAL ACCOUNTING POLICIES AND ESTIMATES
Our consolidated financial statements are prepared in accordance with U.S. GAAP.
The preparation of these financial statements requires us to make estimates and
judgments that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Assumptions and estimates were based on the facts and
circumstances known at December 31, 2012. However, future events rarely develop
exactly as forecast, and the best estimates routinely require adjustment. The
accounting policies discussed in Item 7 of our annual report on Form 10-K for
the year ended March 31, 2012 are considered by management to be the most
important to an understanding of the financial statements, because their
application places the most significant demands on management's judgment and
estimates about the effect of matters that are inherently uncertain. These
policies are also discussed in note 1 of the consolidated financial statements
included in Item 8 of that report. There have been no material changes to that
information since the end of 2012.
Goodwill Impairment Evaluation
The goodwill balance by reporting unit as of December 31, 2012 is presented as
follows (in thousands):
APM MF CP UF PS AS Total
Goodwill as
of March 31,
2012 $ 477,632 $ 140,591 $ 22,084 $ 21,285 $ 114,912 $ 25,385 $ 801,889
Effect of
foreign
currency
translation (2,132 ) (1 ) - - 67 - (2,066 )
Goodwill as
of December
31, 2012 $ 475,500 $ 140,590 $ 22,084 $ 21,285 $ 114,979 $ 25,385 $ 799,823
We evaluated our goodwill for impairment on a reporting unit basis at March 31,
2012. This evaluation indicated that none of our reporting units failed step one
of our goodwill impairment analysis. Our professional services reporting unit
was the only reporting unit where the estimated fair value was not substantially
in excess of the carrying value, as the estimated fair value exceeded the
reporting unit's carrying value by approximately 14% at March 31, 2012.
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We continue to monitor the risk of future goodwill impairment for the
professional services reporting unit, which has a goodwill balance of $115.0
million at December 31, 2012. We believe the decline in revenue and margin for
the first nine months of 2013 compared to the first nine months of 2012 is
temporary due to the expiration of certain projects as discussed in
"Professional Services" above. However, if we are unable to increase both
revenues and margins, we may have a triggering event and we could be required to
reduce the value of goodwill associated with the professional services reporting
unit. The contribution margin percentage for the first nine months of 2013 was
16.3% as compared to 17.4%, 16.1%, 16.7% and 10.0% for the first nine months of
2012, fiscal years 2012, 2011 and 2010, respectively. There has been no
triggering event since March 31, 2012.
Application of the goodwill and other intangibles impairment test requires
judgment, including the assignment of assets and liabilities to reporting units
and determination of the fair value of each reporting unit. The fair value of
each reporting unit is estimated using a discounted cash flow model in
combination with a market approach. This analysis requires significant
judgments, including estimation of future cash flows, which is dependent on
internal forecasts, estimation of the long-term rate of growth for our business,
estimation of the useful life over which cash flows will occur, estimation of
market interest rates, determination of our weighted average cost of capital and
selection and application of peer groups.
The estimates used to calculate the fair value of a reporting unit change from
year to year based on operating results, market conditions and estimated future
cash flows. While we believe that the assumptions and estimates used to
determine the estimated fair values of each of our reporting units are
reasonable, a change in assumptions underlying these estimates could materially
affect the determination of fair value and goodwill impairment for each
reporting unit.
The fair value of the professional services reporting unit was estimated at
March 31, 2012, primarily using a discounted cash flow model. Assumptions used
in the model that have the most significant effect are our estimated growth
rates and estimated weighted average cost of capital.
The events and circumstances that could affect our key assumptions for the
professional services reporting unit and the analysis of fair value include the
following:
· Our ability to achieve sales productivity at a level to achieve the
profitability in the forecast period.
· Failure of our billable staff to meet their utilization or rate targets.
· Our ability to hire and retain sales, technology and management personnel.
· Future negative changes in the U.S. economy.
· Increased competition and pricing pressures within the professional services
market.
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COMPUWARE CORPORATION AND SUBSIDIARIESLIQUIDITY AND CAPITAL RESOURCES
As of December 31, 2012, cash and cash equivalents totaled $64.9 million,
compared to $99.2 million at March 31, 2012.
Net cash provided by operating activities
Net cash provided by operating activities during the first nine months of 2013
was $49.0 million, which represents a $24.7 million decline from the first nine
months of 2012. The decrease was primarily due to a $46.9 million reduction in
cash received from customers resulting from the decrease in revenue as compared
to the prior year. The decrease in operating cash was partially offset by a $9.6
million reduction in cash paid to suppliers primarily related to fewer
subcontractors, a $7.7 million reduction in cash paid for income taxes and a
$6.8 million reduction in cash paid to employees resulting from headcount
reduction.
The condensed consolidated statements of cash flows compute net cash from
operating activities using the indirect cash flow method. Therefore non-cash
adjustments and net changes in assets and liabilities (net of effects from
currency fluctuations) are adjusted from net income to derive net cash from
operating activities.
Changes in accounts receivable and deferred revenue have typically represented
the most significant adjustments to net income to arrive at operating cash flow
as we allow for deferred payment terms on multi-year products contracts. The
impact of the net decrease in accounts receivable as compared to the prior year
was $31.3 million and primarily related to the reduction in revenue from large
software license deals and the timing of billings from multi-year product
arrangements for the first nine months of 2013 as compared to the first nine
months of 2012. The impact of the net decrease in deferred revenue was $38.0
million and primarily related to the decline in deferred multi-year mainframe
maintenance as well as a decline in mainframe maintenance renewals during the
first nine months of 2013 compared to the first nine months of 2012.
Additionally, the impact of the net decrease in accounts payable and accrued
expenses as compared to the prior year was $25.7 million and primarily related
to the reduction in the bonus accrual due to lower revenue and earnings
attainment for the first nine months of 2013 as compared to the first nine
months of 2012.
We believe our existing cash resources, including our line of credit and its
expansion provision, and cash flow from operations will be sufficient to meet
our short-term and long-term liquidity requirements, including the additional
liquidity needed to fund the anticipated quarterly dividends.
Net cash used in investing activities
Net cash used in investing activities during the first nine months of 2013 was
$44.5 million, which represents a $239.7 million decrease in cash used as
compared to the first nine months of 2012 due primarily to the $249.3 million in
cash used to acquire dynaTrace during the second quarter of 2012 partially
offset by increases in purchases of property and equipment and capitalized
software of $8.8 million.
We will continue to evaluate business acquisition opportunities that fit our
strategic plans. If the cash consideration for a future acquisition or
combination of acquisitions were to exceed our operating cash balance resources,
we would probably further utilize our credit facility and may need to seek
additional financing.
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COMPUWARE CORPORATION AND SUBSIDIARIESNet cash provided by (used in) financing activities
Net cash used in financing activities during the first nine months of 2013 was
$37.4 million. Net cash provided by financing activities during the first nine
months of 2012 was $116.3 million, resulting in a net decrease to cash of $153.7
million for the first nine months of 2013 as compared to the same period of the
prior year.
The decrease was primarily due to a $37.4 million reduction in proceeds from
borrowings, a $72.1 million increase in purchases of common stock and a $47.6
million increase in payments on borrowings. The proceeds from borrowings during
the first nine months of 2012 were used to fund the dynaTrace acquisition. The
proceeds from borrowings during the first nine months of 2013 were used to fund
our repurchases of common stock.
Since May 2003, the Board of Directors has authorized the Company to repurchase
a total of $1.7 billion of our common stock under a discretionary stock
repurchase plan ("Discretionary Plan"). Purchases of common stock under the
Discretionary Plan may occur on the open market, or through negotiated or block
transactions based upon market and business conditions, subject to applicable
legal limitations.
As of December 31, 2012, approximately $147.7 million remains authorized for
future purchases under the Discretionary Plan. The authorization will remain in
effect until exhausted absent further action of the Board.
Our long-term goal for the Discretionary Plan is to reduce our outstanding
common share count to approximately 200 million shares, though we may adjust our
goals based on our cash position and market conditions. Share repurchases under
the Discretionary Plan are funded primarily through our operating cash flow and
funds from our credit facility.
In May 2012, the Board of Directors authorized a Rule 10b5-1 repurchase program
that was implemented during the first quarter of 2013 through which we
repurchased shares pursuant to a predetermined formula during our quarterly
trading black-out periods. This plan utilized funds under the previous
Discretionary Plan authorization described above and expired in October 2012. In
December 2012, the Board of Directors authorized a similar Rule 10b5-1
repurchase program which expires in May 2013.
The Company has an unsecured revolving credit agreement (the "credit facility")
with Comerica Bank and other lenders to provide leverage for the Company if
needed. Refer to note 9 of the condensed consolidated financial statements for
additional information related to the credit facility. The timing for ultimate
repayment of the amount currently outstanding will depend on operating cash
flows, share repurchases and dividend payments.
Recently Issued Accounting Pronouncements
See note 1 of the condensed consolidated financial statements included in this
report for recently issued accounting pronouncements that may affect the
Company.
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COMPUWARE CORPORATION AND SUBSIDIARIESCONTRACTUAL OBLIGATIONS
Our contractual obligations are described in "Item 7 - Management's Discussion
and Analysis of Financial Condition and Results of Operations" contained in our
annual report on Form 10-K for the year ended March 31, 2012. Except as
described elsewhere in this report on Form 10-Q, there have been no material
changes to those obligations or arrangements outside of the ordinary course of
business since the end of 2012.
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