UNITED STATES
FORM 10-K
(Mark One)
For the Fiscal Year Ended March 31, 2001
OR
Commission File No. 000-22688
MACROMEDIA, INC.
I.R.S. Identification No. 94-3155026
600 Townsend Street
Securities registered pursuant to Section 12(b) of the Act:
Securities registered pursuant to Section 12(g) of the Act:
Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes No
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the Registrant’s knowledge in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.
Aggregate market value of the voting stock held by non-affiliates of the Registrant as of May 23, 2001: $1,312 million. See definition of affiliate in Rule 12b-2 of the Exchange Act.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the documents listed below have been incorporated by reference into the indicated parts of this report, as specified in the responses to the item numbers involved.
TABLE OF CONTENTS
MACROMEDIA, INC. AND SUBSIDIARIES
i
PART I
Except for historical financial information contained herein, the matters discussed in this Form 10-K may be considered 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, and subject to the safe harbor created by the Securities Litigation Reform Act of 1995. Such statements include declarations regarding our intent, belief or current expectations and those of our management. Prospective investors are cautioned that any such forward-looking statements are not guarantees of future performance and involve a number of risks, uncertainties, and other factors, some of which are beyond our control; actual results could differ materially from those indicated by such forward-looking statements. Important factors that could cause actual results to differ materially from those indicated by such forward-looking statements include, but are not limited to: (i) that the information is of a preliminary nature and may be subject to further adjustment, (ii) those risks and uncertainties identified under “Risk Factors that May Affect Future Results of Operations” in Item 7A, and the other risks detailed from time-to-time in our reports and registration statements filed with the Securities and Exchange Commission.
Item 1. Business
Overview
Macromedia, Inc. (“Macromedia”) develops, markets, and supports software products, technologies, and services that enable people to define what the Web can be. Our customers, from developers to enterprises, use Macromedia solutions to help build compelling and effective Web sites and eBusiness applications. We were incorporated in Delaware on February 25, 1992, and have acquired several other businesses since our incorporation. Our principal executive office is located at 600 Townsend Street, San Francisco, California 94103 and our telephone number is (415) 252-2000. Our common stock is listed on the NASDAQ National Market under the symbol MACR. Our World Wide Web site can be accessed at www.macromedia.com. Information on our Web site should not be considered filed with the Securities and Exchange Commission.
Throughout the majority of fiscal year 2001, we operated in two segments: the Software segment and shockwave.com, Inc. (“shockwave.com”). Our Software segment develops software that creates Web site layout, graphics and rich media content for Internet users. shockwave.com designs, develops, and markets aggregated content to provide online entertainment on the Web. We currently operate in one primary business segment, the Software segment, as a result of the deconsolidation of our previously majority owned subsidiary, shockwave.com, during the fourth quarter of our fiscal year 2001.
The portfolio of software products Macromedia offers to its customers today enables our customers to build, rapidly deploy, and manage relatively simple to sophisticated Web sites that provide dynamic content, personalized interaction, and secure business transactions. Our products range from stand-alone products for Web authoring and graphics creation to products that provide robust, secure, scalable foundations for building online applications that support online commerce, strengthen customer and partner relationships, and automate key business processes. Companies as varied as Macy’s, BMW Motorcycles, Cisco Systems, Compaq, Disney, Hewlett Packard, Williams-Sonoma, Kaiser Permanente, and autobytel.com have all used Macromedia products. Companies such as these use our products to design, build, and manage large-scale, content-rich, transaction-oriented Web sites and applications.
Recent Events
In December 2000, we announced that our then majority owned subsidiary, shockwave.com, would acquire Atom Corporation (“AtomFilms”). AtomFilms was a privately held company providing Web-based entertainment focused on marketing and distributing high-quality short form entertainment to more than 100 partners. shockwave.com completed the acquisition in January 2001 and issued common stock and options of shockwave.com equal to approximately 30% of the combined company, AtomShockwave Corp. (“AtomShockwave”), on a fully-diluted basis, in exchange for all of the outstanding shares of AtomFilms. The transaction was accounted for as a purchase business combination. As a result of the acquisition, Macromedia no longer consolidates the financial statements of AtomShockwave as our ownership interest has declined
1
In March 2001, we consummated an acquisition of Allaire Corporation (“Allaire”), a publicly held company that provides Internet software products for companies building their business on the Web, by issuing cash and stock consideration and assuming all of the outstanding vested and unvested options and warrants of Allaire. For accounting purposes, the transaction was valued at approximately $428.0 million and accounted for under the purchase method of accounting. As a result of the Allaire acquisition, the following discussion will consist of the businesses of Macromedia and Allaire.
Market Opportunity
The Internet has experienced dramatic growth over the last several years. Today, with the Internet software industry experiencing standardization and consolidation, many companies around the world with a Web presence are looking to companies such as Macromedia to provide rich, comprehensive solutions to deliver content and applications over the Web in a cost-effective manner.
For many businesses, Web technology provides an alternative to existing mainstream computing platforms and creates new opportunities for commerce and information exchange. The Internet continues to transform business and communication within companies, between companies and their customers, and with other businesses. Web applications on intranets and extranets automate business processes and facilitate collaboration, thereby increasing productivity and efficiency, and creating new value. Internet sites provide a rich vehicle for communication and direct interaction with customers and consumers who use the Web as part of their daily routines. Businesses link to each other along the value chain, automating processes and streamlining operations. For consumers, the Web is quickly becoming a viable medium for communication, community, and entertainment. As a result, the Internet has become an integral part of how companies in every industry do business.
Macromedia Strategy
Macromedia presents a value proposition to the market by enabling the best user experiences on the Web at an affordable price. Creating a good user experience is a simple requirement. In practice, creating the best user experience requires knowledge, clear vision, a team of Web professionals, and technology to enable them.
Although a good user experience may vary depending on the application, there are some core characteristics that apply across applications and platforms: a good user experience must be useful, useable, and valuable, but it also must be reliable, predictable, and responsive.
The challenge for our core customer, the Web professional, is to deliver the best user experience across the entire range of Internet, intranet, and extranet applications. Macromedia provides technologies to enable Web professionals to create a user experience with technologies that are cost-effective, integrated, and approachable.
The long-term business strategy for Macromedia is founded on trends that are driving the expansion of our markets and the demand for new technologies within our existing markets. The first trend is that the amount of content and applications on the Internet will continue to expand as new geographies, businesses, and users come online. The second trend tracks the proliferation of additional Internet-enabled devices. As the Web-enabled personal computing platform matures, users are increasingly accessing content and applications through new devices such as wireless handsets, personal digital assistants, interactive television, and other Internet-ready appliances. While this market is still developing, this evolution of the computing paradigm represents a significant opportunity for Macromedia over the long term. In the near term, the proliferation of dynamic, data-driven applications and content is driven by the cost efficiencies of the Web-based application and content development model.
The trend towards the proliferation of dynamic content is the underlying strategic rationale for the acquisition of Allaire. By adding Allaire server software to the Macromedia family of development software and media player software, the Macromedia product line spans the range of needs for producing dynamic
2
Macromedia makes software to help with each stage of this process: software tools to design the interaction anddevelop the application logic; servers to manage thedelivery of that application or content to a user; and player software to enable the display of rich content. Today we have a comprehensive family of software that is designed to make the process of creating content and applications as efficient and cost-effective as possible. In the near term, Macromedia is committed to supporting both de facto and open standards. In particular, Macromedia has chosen to build its application server strategy on the Sun Java™ 2 Enterprise Edition (J2EE™) standard.
Macromedia defines its target market as the mass enterprise. The mass enterprise represents a subset of the overall Web-development tools and application server software marketplace. Understanding the mass enterprise market requires understanding what customers are building and how companies service them. Mass enterprise projects tend to have requirements for rapid time to market. They are usually content-centric, and tend to be focused on end-user and business-user productivity, rather than enterprise operations or complex backoffice processing. As mass enterprise applications scale in cost, complexity, and time of implementation, they approach the traditional “enterprise” class solutions provided by companies such as IBM and BEA Systems.
3
Mass enterprise solutions are implemented at every size of company, particularly when constraints of cost, available expertise, and time-to-market come into play.
Vendors that service the mass enterprise market tend to have the following attributes:
Macromedia’s position as a mass enterprise company committed to the Java platform places Macromedia in a unique position regarding traditional enterprise software companies. Because we target a different class of customer and application, we believe we are capable of partnering with enterprise-class vendors to enhance their products and services with our development tools and rich media players. In addition, because our tools are cross-platform and cross-technology, we believe we are capable of enhancing the Microsoft .NET platform with development tools and players.
DESIGN:
4
DEVELOP:
5
DELIVER:
DISPLAY:
Product Development
Our business strategy emphasizes developing products and services that help customers take advantage of opportunities on the Internet. We aim to solve the problems customers face as they create and deliver content on a new medium with multiple standards, multiple browsers, and different bandwidth rates.
As the software industry is characterized by rapid technological change, a continuous high level of expenditure is required to enhance existing products and develop new products. We believe that our future success depends on our ability to enhance existing products as well as develop and introduce new products on a timely basis. It is critical that new products and enhancements keep pace with the constantly evolving network infrastructure, Internet technology, and competitive offerings. We continue to adapt our products to new hardware and software platforms and to embrace industry standards. We plan to continue our internal product development efforts and, as appropriate, acquire additional software and system technologies that we consider critical to meeting the needs of Internet developers, consumers, and the enterprise.
6
Our goals are to:
For fiscal year 2001, 2000, and 1999, consolidated research and development expenses were $107.7 million, $65.7 million, and $41.6 million, respectively.
Competition
We operate in a highly competitive market characterized by pressure to incorporate new features and accelerate the release of new product versions and enhanced services. These market factors represent both opportunities and competitive threats to us. A number of our competitors, including Adobe, Microsoft, and Corel currently offer products and services that compete directly or indirectly with one or more of our software products. Primary competitors in the high end market of server based products include large Web and database platform companies that offer a variety of software products, such as IBM, Oracle, and Sun Microsystems. We also compete against a number of companies that offer Web application servers, such as BEA Systems, Hewlett Packard, SilverStream Software and ATG. In addition, several of our current and potential competitors have greater financial, marketing, and technical resources than we do. As larger companies continue to operate in these markets, we may face increasing competition.
We believe that the principal competitive factors in the markets in which we presently compete and may compete in the future are:
Operations and Manufacturing
We are dependent on two sources, Modus Media and Compaq Software Publishing Services, to manufacture and ship our finished products. The manufacturing of our products typically consists of pressing CD-ROMs, printing manuals, and packaging and assembling finished products, all according to our specifications and forecasts. Manufacturing is currently done at three Modus facilities worldwide: in Preston, Washington for the Americas, in Apeldorn, Netherlands for Europe, and in Singapore for the Asia Pacific market. Manufacturing at Compaq is currently performed in Nashua, New Hampshire. We perform quality assurance testing at our contracted manufacturing facilities. Both Modus and Compaq operate multiple facilities around the world that are capable of serving our needs, and we believe alternative sources could be implemented without significant interruption to our business. To date, we have not experienced any significant difficulties or delays in the manufacturing or assembly of our products or any significant returns due to product defects.
7
In addition, we license and distribute our software products directly to end-users over the Internet through our Web site. We continue to invest in technologies and infrastructure to support electronic software distribution and online documentation, which are becoming an increasingly important and cost-effective way to deliver our products. Although we take precautionary measures, our Web site may become unavailable from time-to-time due to factors beyond our control. To date, our business has not experienced significant interruptions from Web site accessibility.
Marketing and Distribution
A substantial portion of our revenue is derived from the sale of our products worldwide through a variety of distribution channels, including traditional software distributors, electronic commerce on the Web, direct sales, mail order, educational distributors, value-added resellers (“VAR”s), original equipment manufacturers (“OEM”s), hardware and software superstores, and retail dealers. We also sell directly to large corporate and educational institutions, with volume licensing programs under which the customer receives a volume discount and has the right to reproduce and use our software.
Internationally, our products are sold both directly to end users and through distributors. International sales accounted for 43% of consolidated revenues during fiscal year 2001. In certain cases, distributors have exclusive distribution rights to certain products in their respective countries. In spite of economic difficulties in some regions, we believe that international markets for our products present a strategic opportunity and expect international sales to continue to generate a significant percentage of our total revenues. (For financial information regarding our business segments, please refer to Note 19 to our Notes to Consolidated Financial Statements on page F-42).
Customer Support and Professional Services
We believe that providing a high level of customer service and technical support is necessary to achieve rapid product implementation that, in turn, is essential to customer satisfaction and continued license sales and revenue growth. Our customers have a broad choice of support options depending on the level of service desired. We provide access to a wide range of technical information on our Web site, as well as online forums for each of our products. For our HTML and Rich Media Products, we offer complimentary 90-day technical support for our registered users via e-mail or phone. In addition, we offer a number of paid support options, including incident-based support and annual support subscriptions.
Internationally, we have developed relationships with third-party support providers to deliver support on behalf of Macromedia.
We offer Web application consulting services through Macromedia Professional Services, which focuses on short-term, high-return projects. We utilize our customers’ employees throughout the life of a consulting project to allow us to meet one of our critical commitments to our partners and customers — the transfer of knowledge.
Our customers depend on our worldwide network of value-added resellers, training centers, and developers. In addition, our user groups, located in dozens of cities throughout the world, provide customers with ways to share information, network with developers, and keep in touch with us. We provide support primarily through marketing collateral, guest speakers, and product giveaways.
8
Proprietary Rights and Licenses
We rely on a combination of patent, copyright, trade secret, and trademark laws, as well as employee and third-party nondisclosure agreements, to protect our intellectual property rights and products. We distribute software under license agreements, including shrink-wrapped license agreements that customers accept when they open physical or electronic copies of our products. Policing unauthorized use of products is difficult, and while we cannot determine the extent to which software piracy of our products exists, it can be expected to be a persistent problem. We have established dedicated resources to focus on piracy and belong to key industry groups to further these efforts. In addition, the laws of certain countries in which our products are or may be distributed do not protect our products and intellectual rights to the same extent as the laws of the United States.
Risk Factors
See Risk Factors that May Affect Future Results of Operations in Management’s Discussion and Analysis of Financial Condition and Results of Operations on Page F-11.
Employees
As of March 31, 2001, we had 1,761 full-time employees and 119 contractors worldwide, with the majority working in California, followed by Massachusetts, Texas, the United Kingdom, Japan, and Australia, among other international offices. None of our employees are subject to a collective bargaining agreement, and we believe that our relations with our employees are good.
Item 2. Properties
A significant portion of our United States operations is located in various buildings in San Francisco, California. We lease approximately 320,000 square feet of space in San Francisco, 74,000 of which is not currently occupied by us and is subleased or in the process of being subleased. Most of the leases expire between April 2005 and June 2010, and we have renewal options at favorable rates for successive terms. We currently lease 350,000 square feet of space in Newton, Massachusetts, of which approximately 225,000 square feet is subleased or in the process of being subleased. The lease expires in June 2010. We also lease 55,000 square feet at a facility in Richardson, Texas as well as space in North America for field sales offices, Bracknell, England for our European operations, Kew, Australia for our Asia Pacific operations and Tokyo, Japan for our Japanese operations.
We own a four-story 100,000 square foot facility in Redwood City, California. We occupy 43,000 square feet of this space and lease the remaining 56,000 square feet. We believe our facilities are adequate for current and near-term needs and that additional space is available to provide for anticipated growth during the life of the leases.
Item 3. Legal Proceedings
On July 31, 1997, a complaint entitled Rosen et al. v. Macromedia, Inc. et al., (Case No. 988526) was filed in the Superior Court for San Francisco, California. The complaint alleges that Macromedia and five of its former officers and directors engaged in securities fraud in violation of California Corporations Code Sections 25400 and 25500 by seeking to inflate the value of Macromedia stock by issuing statements that were allegedly false or misleading (or omitted material facts necessary to make any statements made not false or misleading) regarding our financial results and prospects. Four similar complaints by persons seeking to represent the same class of purchasers subsequently have been filed in San Francisco Superior Court, and have been consolidated for pre-trial purposes with Rosen. Defendants filed demurrers to the complaint and other motions, which were argued on December 9, 1997 and January 5, 1998. Before the demurrers could be heard, one defendant, Richard Wood, died in an automobile accident. In March 1998, the Court sustained the demurrers as to claims against Susan Bird and overruled the demurrers as to Macromedia, John Colligan, James Von Ehr, II, and Kevin Crowder. In May 1999, the Court granted plaintiffs’ motion for certification of a class of all persons who purchased Macromedia’s common stock from April 18, 1996 through January 9,
9
On August 10, 2000, Adobe Systems, Inc. (“Adobe”) filed suit against us in the United States District Court for the District of Delaware (Case No. 00-743-JJF). On September 18, 2000, Adobe filed a first amended complaint in the same action. In the first amended complaint, Adobe alleges that certain Macromedia products infringe U.S. Patents Nos. 5,546,528 and 6,084,597. On September 27, 2000, Macromedia answered the first amended complaint by denying the allegations and filing counterclaims against Adobe seeking a declaration that Adobe’s patents are invalid and unenforceable, and alleging infringement of three Macromedia patents. In particular, Macromedia alleges infringement of U.S. Patent No. 5,467,443 by at least the Adobe Illustrator product and U.S. Patents Nos. 5,151,998 and 5,204,969 by the Adobe Premiere product. On October 17, 2000, Adobe filed its answer denying the allegations in Macromedia’s counterclaims. Each party is requesting monetary damages for infringement of its patents and an injunction against future infringement. Further, each party is seeking a court declaration that it is not infringing the other party’s patents, that the other parties’ patents are invalid and an award of attorneys’ fees. Discovery has begun in this matter, and trial is currently set for April 2002. Although we are not able to predict the outcome, we intend to vigorously defend the matter.
On or after September 25, 2000, Allaire Corporation, prior to its acquisition by Macromedia, and individuals who were serving as officers or directors of Allaire Corporation during the periods covered by the complaints, were named as defendants in eleven virtually identical lawsuits filed in the United States District Court for the District of Massachusetts: (i) Krakauer v. Allaire Corporation, Joseph J. Allaire, Jeremy Allaire, David A. Gerth and David J. Orfao, Civil Action No. 00-11972-WGY; (ii) Dargenzio v. Allaire Corporation, Joseph J. Allaire, Jeremy Allaire, David A. Gerth and David J. Orfao, Civil Action No. 00-11973-WGY; (iii) Gordon v. Allaire Corporation, Joseph J. Allaire, Jeremy Allaire, David A. Gerth and David J. Orfao, Civil Action No. 00-11974-WGY; (iv) Large v. Allaire Corporation, Joseph J. Allaire, Jeremy Allaire, David A. Gerth and David J. Orfao, Civil Action No. 00-11986-WGY; (v) DiMaggio v. Allaire Corporation, Joseph J. Allaire, Jeremy Allaire, David A. Gerth and David J. Orfao, Civil Action No. 00-11996-WGY; (vi) Knorr v. Allaire Corporation, Joseph J. Allaire, Jeremy Allaire, David A. Gerth and David J. Orfao, Civil Action No. 00-12014-WGY; (vii) Jarvis v. Allaire Corporation, Joseph J. Allaire, Jeremy Allaire, David A. Gerth and David J. Orfao, Civil Action No. 00-12016-WGY; (viii) Cordeiro v. Allaire Corporation, Joseph J. Allaire, Jeremy Allaire, David A. Gerth and David J. Orfao, Civil Action No. 00-12158-WGY; (ix) Fisher v. Allaire Corporation, Joseph J. Allaire, Jeremy Allaire, David A. Gerth and David J. Orfao, Civil Action No. 00-12182-WGY; (x) Crippin v. Allaire Corporation, Joseph J. Allaire, Jeremy Allaire, David A. Gerth and David J. Orfao, Civil Action No. 00-12333-WGY; and (xi) Reagor v. Allaire Corporation, Joseph J. Allaire, Jeremy Allaire, David A. Gerth and David J. Orfao, Civil Action No. 00-12377-WGY (collectively, the “initial complaints”). Each of the plaintiffs in each of the actions purport to bring their complaint on behalf of all purchasers of Allaire Corporation stock during an alleged class period (July 20, 2000 and September 18, 2000). The plaintiffs claim that the defendants violated Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, and SEC Rule 10b-5, by virtue of statements that the plaintiffs claim were materially false or misleading. Plaintiffs seek damages, interest, costs, and attorneys’ fees. On December 5, 2000, Chief Judge Young of the District of Massachusetts entered an order consolidating these initial cases as In re: Allaire Corporation Securities Litigation, Case No. 00-CV-11972(WGY). The order appointed lead plaintiffs for the class and permitted them to file a consolidated complaint, to be treated as if it were the original complaint in the consolidated actions. The consolidated complaint was filed on February 20, 2001.
On April 11, 2001, after Allaire was merged into Macromedia, a twelfth complaint was filed, Kassin v. Allaire Corporation, Joseph J. Allaire, Jeremy D. Allaire, David A. Gerth, and David J. Orfao, Civil Action No. 01-10600-WGY (the “subsequent complaint”). This complaint, filed on behalf of the plaintiff (and not a class), contains substantially the same allegations as the initial complaints, but in addition asserts claims for common law fraud and negligent misrepresentation.
10
The defendants intend to file a motion to dismiss the consolidated initial complaints and the subsequent complaint. The litigation is in its early stages, and we are not able to predict the outcome of the litigation at this time, but we intend to defend all of these claims vigorously.
Item 4. Submission of Matters to a Vote of Security Holders
No matters were submitted during the fourth quarter of fiscal year 2001 to a vote of security holders through solicitation of proxies or otherwise.
PART II
Item 5. Market for the Registrant’s Common Equity and Related Stockholder Matters
The information required is set forth under “Quarterly Results and Stock Market Data” tabulations, on page F-47 of this report.
Item 6. Selected Financial Data
The information required is set forth under “Selected Consolidated Financial Data”, on page F-2 of this report.
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
The information required is set forth under “Management’s Discussion and Analysis of Financial Condition and Results of Operations”, on page F-3 of this report.
The information required is set forth under “Independent Auditors’ Report,” “Consolidated Balance Sheets,” “Consolidated Statements of Earnings,” “Consolidated Statements of Stockholders’ Equity,” “Consolidated Statements of Cash Flows,” and “Notes to Consolidated Financial Statements,” on pages F-17 to F-47 of this report.
Not applicable.
The information concerning our directors required by this Item is incorporated by reference to the section in our Proxy Statement entitled “Proposal No. 1 — Election of Directors.”
The information concerning our executive officers required by this Item is incorporated by reference to the section in our Proxy Statement entitled “Executive Officers.”
The information concerning compliance with Section 16(a) of the Securities Exchange Act of 1934 is incorporated by reference to the section in our Proxy Statement entitled “Section 16(a) Beneficial Ownership Reporting Compliance.”
11
The information concerning executive compensation required by this Item is incorporated by reference to the sections in our Proxy Statement entitled “Executive Compensation”, “Compensation of Directors”, “Employment Agreements”, and “Compensation Committee Interlocks and Insider Participation.”
The information concerning executive compensation required by this Item is incorporated by reference to the section in our Proxy Statement entitled “Security Ownership of Certain Beneficial Owners and Management.”
The information concerning certain relationships and related transactions required by this Item is incorporated by reference to the section in our Proxy Statement entitled “Certain Transactions.”
12
PART IV
(A) The following documents are filed as part of this Report:
1. Financial Statements. The following Consolidated Financial Statements of Macromedia, Inc. and Subsidiaries are incorporated by reference to Part II, Item 8 of this Form 10-K:
Independent Auditors’ Report
2. Financial Statement Schedule. The following financial statement schedule of Macromedia, Inc. and Subsidiaries for the fiscal years ended March 31, 2001, 2000 and 1999 is filed as part of this Report and should be read in conjunction with the Consolidated Financial Statements of Macromedia, Inc. and Subsidiaries.
Schedule II: Valuation and Qualifying Accounts
Schedules not listed above have been omitted because they are not applicable or are not required or the information required to be set forth therein is included in the Consolidated Financial Statements or Notes thereto.
3. Exhibits
13
14
15
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized.
Dated: June 8, 2001
POWER OF ATTORNEY
KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature appears below constitutes and appoints Robert K. Burgess and Elizabeth A. Nelson, jointly and severally, his attorneys-in-fact, each with the power of substitution, for him in any and all capacities, to sign any amendments to this Report on Form 10-K, and to file same, with exhibits thereto and other documents in connection therewith, with the Securities and Exchange Commission, hereby ratifying and confirming all that each of said attorneys-in-fact, or his substitutes, may do or cause to be done by virtue hereof.
Pursuant to the requirements of the Securities and Exchange Act of 1934, this Report has been signed below by the following persons on behalf of the Registrant and in the capacities and dates indicated.
16
F-1
F-2
Throughout the majority of fiscal year 2001, we operated in two segments: the Software segment and shockwave.com Inc. (“shockwave.com”). Our Software segment develops software that creates Web site layout, graphics and rich media content for Internet users. shockwave.com designs, develops, and markets aggregated content to provide online entertainment on the Web.
In fiscal year 2001 we experienced a significant growth in our business. This is reflected in our Software segment revenues of $376.4 million, a $120.5 million increase from fiscal year 2000 revenues of $255.9 million. Our Software segment provided approximately 97% of our total consolidated revenues of $389.6 million.
Our Software segment revenues grew approximately 47% over fiscal year 2000, even with a reduction in demand for our software products during our fourth quarter of fiscal year 2001. This reduction is attributable to lowered Internet technology spending and to the overall weakening economy. In response to this tighter economic environment and in order to realize certain cost synergies resulting from the Allaire acquisition, we will be restructuring the organization during the first quarter of fiscal year 2002. This restructuring will involve layoffs of employees, the termination of facility leases, and other cost containment strategies. The total expected restructuring expense is estimated to be in excess of $15.0 million and will be incurred in the first quarter of fiscal year 2002.
We continue to sell our software through a network of distributors, value-added resellers and our own sales force and Web site, and to original equipment manufacturers in North America, Europe, Asia Pacific, and Latin America. We derive additional revenues from advertising on our Web site and from software maintenance and technology licensing agreements.
On March 20, 2001 we completed the acquisition of Allaire Corporation (“Allaire”), which we accounted for under the purchase method. Allaire’s results for the period from acquisition to March 31, 2001 are included in our overall results for the year then ended. Beginning in the first quarter of fiscal year 2002, our consolidated financial statements will reflect the full impact of Allaire’s results. We added Allaire’s products including JRun, ColdFusion, and HomeSite to our existing product lines. However, we do not expect to continue the development of the Spectra and Kawa products as these products were no longer being developed by Allaire and do not fall within our product strategy. As a result, we are planning to re-align our products into new product lines: HTML Products, including Dreamweaver, UltraDev, Fireworks and HomeSite; Rich Media Products, including Flash, Director, FreeHand, Authorware, Flash Player and Shockwave Player; and Server Products, including ColdFusion, JRun, and Generator. Additionally, due to the addition of Allaire’s server products to our product lines, we expect training, technical support, and consulting revenues to increase in fiscal year 2002.
Beginning in the fourth quarter of fiscal year 2001, we deconsolidated shockwave.com from our results due to an acquisition of Atom Corporation (“AtomFilms”) by shockwave.com. Under the terms of the transaction, AtomFilms’ stockholders received common stock in the surviving company, AtomShockwave Corp. (“AtomShockwave”), equal to approximately 30% of the fully diluted equity outstanding. Prior to the transaction, we invested $15.0 million in the form of convertible promissory notes which converted into Series D Preferred Stock upon the closing of AtomShockwave’s preferred Series D financing round on March 15, 2001. After the acquisition, we began accounting for our investment in AtomShockwave under the equity method of accounting. Although our investment in AtomShockwave is accounted for under the equity method, we are recording our portion of AtomShockwave’s results on a 90-day lag basis due to AtomShockwave’s inability to prepare timely financial statements. Therefore, our statements of income for fiscal year 2001 do not reflect results from AtomShockwave for the three months ended March 31, 2001.
During fiscal year 2001 and 2000, our shockwave.com segment contributed $13.2 million and $8.2 million in revenue, respectively, and $34.3 million and $28.0 million in net loss, respectively, to the consolidated
F-3
Additional information about Macromedia, our products, sales and marketing, and investor information can be found on our Web site at www.macromedia.com. Financial information included on our Web site shall not be deemed to be a part of this filing.
Results of Operations
Presented below is management’s discussion of our operating results and our consolidated subsidiaries for the periods therein. Operating results of Allaire from the date of consummation of the acquisition through March 31, 2001 did not have a material impact on our consolidated statements of income.
Revenues
International revenues represented 45% of the Software segment revenues in fiscal year 2001 as compared to 42% in fiscal year 2000. In absolute dollars, Europe contributed to the majority of the international revenue growth; however, Asia Pacific, Latin America, and Japan had stronger growth as a percentage of revenue. The stronger growth throughout these regions is the result of increased sales force and distribution.
Revenues from the shockwave.com segment were $13.2 million in fiscal year 2001 during the period that shockwave.com was consolidated and $8.2 million during fiscal year 2000. Due to our deconsolidation of shockwave.com from Macromedia during the fourth quarter fiscal year 2001, going forward our revenues will no longer reflect revenues earned by AtomShockwave.
Cost of Revenues
Consolidated cost of revenues were $42.4 million in fiscal year 2001, an increase of 47% over fiscal year 2000 cost of revenues of $28.8 million. Consolidated cost of revenues increased $13.2 million from fiscal year 1999 to 2000 while gross margins decreased from 90% to 89%, primarily due to increased consulting and training expenses.
Gross margins for the Software segment remained relatively consistent at 89% for both fiscal year 2001 and 2000, however, cost of revenues increased in absolute dollars from $27.7 million in fiscal year 2000 to
F-4
Cost of revenues from the shockwave.com segment were $1.7 million in fiscal year 2001 during the period that shockwave.com was consolidated and $1.1 million during fiscal year 2000. Cost of revenues for shockwave.com includes revenue sharing paid to content developers and commissions expense for the sale of Web advertising space.
Sales and Marketing
Consolidated sales and marketing expenses were $155.5 million in fiscal year 2001, an increase of 38% over fiscal year 2000 sales and marketing expenses of $113.0 million. Consolidated sales and marketing expenses increased $39.9 million to $113.0 million from fiscal year 1999 to fiscal year 2000, primarily due to increased compensation and benefits year over year.
Sales and marketing expenses for the Software segment during fiscal year 2001 were $143.7 million, which accounted for an increase of $42.7 million from fiscal year 2000 to fiscal year 2001, but decreased slightly as a percentage of Software revenue from 39% to 38%. Sales and marketing expenses for the Software segment consist primarily of compensation and benefits, allocated costs for depreciation, facilities, and our information technology infrastructure, advertising, co-marketing development costs, mail order advertising, tradeshow and seminar expenses, and other marketing costs. The increase in sales and marketing expenses in absolute dollars is primarily due to the hiring of additional sales and marketing personnel at the beginning of the year to support the growth of the business. Additionally, we incurred greater compensation costs towards the end of the fourth quarter with the addition of new headcount from the Allaire acquisition. Also contributing to the increase in sales and marketing is the increase in facility costs. Sales and marketing expenses are expected to increase in absolute dollars in fiscal year 2002 in order to support the expanded organization resulting from the Allaire acquisition.
Sales and marketing expenses from the shockwave.com segment were $11.7 million in fiscal year 2001 during the period that shockwave.com was consolidated and $12.0 million during fiscal year 2000. Sales and marketing expenses for shockwave.com consist primarily of compensation and benefits and costs to support the business’ infrastructure.
Research and Development
Consolidated research and development expenses were $107.7 million in fiscal year 2001, an increase of 64% over fiscal year 2000 research and development expenses of $65.7 million. Consolidated research and development expenses increased $24.2 million to $65.7 million from fiscal year 1999 to fiscal year 2000, due to additional headcount and supporting infrastructure.
Research and development expenses for the Software segment were $88.6 million for fiscal year 2001, which accounted for an increase of $35.1 million from fiscal year 2000 to fiscal year 2001, and increased as a percentage of Software revenue from 21% to 24%. Research and development expenses for the Software segment consist primarily of compensation and benefits, and infrastructure and overhead costs to support our continued investment in product development. The increase in the absolute dollar amount of research and development expenses was primarily attributable to costs of additional personnel as we continue to invest in product development. Also contributing to the increase in research and development is the allocation of increased facility and information technology infrastructure costs to support the growth of the business. We
F-5
Research and development expenses for the shockwave.com segment were $19.0 million in fiscal year 2001 during the period that shockwave.com was consolidated and $12.2 million during fiscal year 2000. The increase was primarily due to increased headcount resulting in greater compensation and benefits expense.
General and Administrative
Consolidated general and administrative expenses were $39.0 million in fiscal year 2001, an increase of 58% over fiscal year 2000 general and administrative expenses of $24.6 million. Consolidated general and administrative costs increased $7.9 million to $24.6 million from fiscal year 1999 to 2000, due to increased headcount and infrastructure expenses to support the growth of the business.
General and administrative expenses for the Software segment were $33.6 million for fiscal year 2001, which accounted for an increase of $10.7 million from fiscal year 2000 to fiscal year 2001, and remained relatively flat as a percentage of Software revenue at 9%. General and administrative expenses for both the Software segment and shockwave.com consist mainly of compensation and benefits, allocations of overhead and infrastructure costs, and fees for professional services. The increase in the absolute dollar amount of general and administrative expenses was primarily due to increased staffing and associated infrastructure expenses necessary to manage and support our increased scale of operations. We believe that general and administrative expenses will continue to increase in absolute dollar amount as a result of the growth in operations from the acquisition of Allaire.
General and administrative expenses for the shockwave.com segment were $5.4 million in fiscal year 2001 during the period that shockwave.com was consolidated and $1.7 million during fiscal year 2000. The increase primarily relates to increased legal and accounting costs and other general administrative functions that the segment did not perform in fiscal year 2000.
Acquisition Related Expenses and In-Process Research and Development
We incurred consolidated acquisition related expenses of $1.7 million in fiscal year 2001 related to the acquisition of Bitcraft, Inc., $11.5 million during fiscal year 2000 related to the acquisitions of Andromedia, Inc., ESI Software, Inc. and Time4.com, and approximately $454,000 during fiscal 1999. These acquisition related expenses include investment banker fees, legal and other professional fees, severance and personnel relocation costs. Acquisition costs during fiscal year 2000 also include expenses related to a technology purchase from Starbase Corporation. As of March 31, 2000, approximately $1.6 million of acquisition related expenses were accrued and subsequently paid out in fiscal year 2001.
We recorded charges of $21.1 million for in-process research and development resulting primarily from the acquisition of Allaire in the fourth quarter of fiscal year 2001 and Middlesoft, Inc. (“Middlesoft”) in the second quarter of fiscal year 2001.
Approximately $18.0 million of the fiscal year 2001 charges were attributable to certain technology being developed by Allaire and was expensed during the fourth quarter as it had not reached technological feasibility at the time of the acquisition and had no alternative future uses. The in-process technology related to projects for ColdFusion Server 5.0 and JRun 4.0, which were aimed at building various application services on the Java 2 Enterprise Edition platform. At the date of acquisition, it was estimated that approximately 75% of the development effort was complete and that the remaining 25% would be completed sometime in mid to late calendar year 2001 at an approximate cost of $2.1 million. The remaining efforts included finalizing coding and completion testing of the products and were determined by analyzing efforts incurred on development up to the point of acquisition. The value of the acquired in-process research and development resulted from discounting the estimated future net cash flows upon successful completion of the acquired technology.
In developing the cash flow projections, revenues were forecasted based on aggregate revenue growth rates for the business as a whole, the characteristics and growth rate of the potential market for the technology, and the anticipated life of the underlying technology. Projected annual revenues for the technologies in
F-6
The total purchase price for the Middlesoft acquisition was $9.0 million, of which $3.1 million was determined to be in-process research and development for certain intellectual property related to Embedded Flash technologies. We purchased these technologies to increase the functionality of existing Flash technologies in order to allow them to run on multiple hardware devices. At the date of acquisition, it was estimated that approximately 50% of the development effort on the technologies was completed with the remaining 50% expected by October 2000 for an estimated cost of $500,000. The completion percentage was determined by comparing the time and manpower incurred up to the point of acquisition with the estimated resources and efforts needed to complete the development. The valuation of the purchased in-process research and development was based upon the present value of the operating cash flows to be generated by the current technology after considering the cost to realize the revenue and the relative risk of the technology.
The cash flow projections consider the characteristics of the potential market for the technology and the anticipated life of the technology. Projected annual revenue for the in-process technology was expected to be 90% of the forecasted revenues of the business as a whole within six months of introduction of the project to market. The projected revenue as a percentage of the whole business was expected to decrease to 80% in 2003 due to the release of future development projects. Estimated operating expenses, income taxes, and contributing asset charges were deducted from revenue to arrive at an after tax cash flow for the in-process development project. Operating expenses were estimated as a percentage of revenue and included marketing and administrative expenses, depreciation on fixed assets, and development costs to maintain the technology once it has achieved technological feasibility. Operating expenses were forecasted to decrease significantly after the release of the projects due to the expected deployment of engineer efforts on future research and development products. These cash flows were discounted to their net present value using a discount factor of approximately 22%, which reflects the uncertainty surrounding the successful development of the project.
Non-Cash Compensation
Consolidated non-cash compensation expenses were $6.0 million in fiscal year 2001, a decrease of 46% over fiscal year 2000 non-cash compensation expenses of $11.1 million. Non-cash compensation expense is primarily comprised of amortization of deferred compensation associated with the issuance of shockwave.com stock options. During fiscal year 2000, shockwave.com issued stock options to employees that had, for accounting purposes, an exercise price less than the fair value of the underlying common stock at the date of grant. The amortization of these options continued through December 31, 2000, at which time shockwave.com was no longer consolidated with Macromedia. The decrease in expense year over year is directly attributable to this deconsolidation of shockwave.com in the fourth quarter. The decrease was slightly offset by amortization of deferred compensation incurred as a result of the acquisition of Middlesoft, Inc. during the year. We incurred additional deferred compensation as a result of the acquisition of Allaire in the fourth quarter of fiscal year 2001. Although deferred compensation will decrease in fiscal year 2002 due to the deconsolidation of shockwave.com, the decrease will be slightly offset by increases in amortization from Allaire stock options assumed in the acquisition.
F-7
Consolidated non-cash compensation expenses increased $10.8 million from fiscal year 1999 to $11.1 million during fiscal year 2000, primarily due to compensation expenses incurred with the issuance of shockwave.com warrants and options.
Impairment and Amortization of Intangibles
Consolidated impairment and amortization of intangibles expenses were $9.9 million in fiscal year 2001, an increase of 875% over fiscal year 2000 expenses of $1.0 million. A significant portion of the increase was due to the impairment and write-off of goodwill acquired in the Middlesoft acquisition, resulting in a charge of $4.3 million in the fourth quarter of fiscal year 2001. We acquired the technologies associated with Middlesoft in the second quarter of fiscal year 2001. During the third quarter of fiscal year 2001, we had indications that the markets we expected would develop were not receptive to our planned strategy. By the end of the fourth quarter of fiscal year 2001, the actual results of the operations surrounding the technology were considerably below our expectations and as a result, management performed an impairment analysis, which considered several factors including revenue and cash flow projections and the realignment of the business strategy into different product agendas. We also evaluated possible strategies surrounding the operating contributions of the technology, and after doing so, determined that they would be prohibitive. As a result, we abandoned the technology, terminated or reassigned key employees associated with the original product plan, and recorded the impairment charge.
We also incurred amortization expense associated with the purchased intangibles resulting from the Allaire acquisition. A total of approximately $364.9 million of the purchase consideration was allocated to intangible assets, including goodwill of $283.9 million, developed technology of $34.0 million, assembled workforce of $24.0 million, trade name of $5.0 million, and in-process research and development of $18.0 million. Amortization of these intangibles is provided on a straight-line basis over the estimated useful lives of three years. Total amortization expense for Allaire intangibles for the year ended March 31, 2001 was $3.4 million, excluding $18.0 million of in-process research and development, which was expensed in the fourth quarter of fiscal year 2001.
The remaining impairment and amortization expense incurred in fiscal year 2001 consists of regular amortization of the goodwill and intangibles arising from acquisitions in fiscal year 2000. Amortization of intangibles in fiscal year 2000 was primarily attributable to goodwill and other intangible amortization from prior acquisitions.
Consolidated impairment and amortization of intangibles expenses increased approximately $765,000 from fiscal year 1999 to 2000, and primarily consist of amortization of goodwill and other intangibles arising from purchase transactions.
Interest and Investment Income
Consolidated interest and investment income consists primarily of earnings on our cash and short-term investments, and increased $6.8 million in fiscal year 2001 as compared to fiscal year 2000. The increase is primarily due to higher yields throughout the first nine months of fiscal year 2001 as well as higher average cash and investment balances year over year. Interest and investment income may decline as market yields continue to decrease.
Consolidated interest and investment income increased approximately $5.4 million from fiscal year 1999 to 2000, primarily due to increased cash, cash equivalent, and short-term investment balances.
Loss on Investments
During fiscal year 2001, we recognized consolidated losses totaling approximating $13.8 million on various strategic investments held at cost. The losses represented write-offs or write-downs of the carrying amount of these investments and were due to, among other factors, an investee’s significant decline in common stock value, the inability for an investee to obtain additional private financing, the suspension of an investee’s current operations, and uncertain financial conditions of the investees. We have evaluated our
F-8
Foreign Exchange (Loss) Gain
Consolidated foreign exchange gains reflect the net gain and losses on foreign exchange forward contracts (net of fees), translation gains and losses from our foreign operations, and gains and losses from foreign currency transactions. We enter into foreign exchange forward contracts to reduce economic exposure associated with sales and asset balances denominated in various foreign currencies. Due to the relative strength of the dollar against foreign currencies throughout the first nine months of fiscal year 2001, our forward contracts resulted in a gain of $5.3 million for fiscal year 2001, offset by currency transaction losses of $3.2 million.
Foreign exchange losses during fiscal years 2000 and 1999 remained relatively consistent at approximately $321,000 and $110,000, respectively.
Other
Other expense increased $1.3 million in fiscal year 2001, as compared to fiscal year 2000. During fiscal years 2000 and 1999, other expense was approximately $118,000 and other income was approximately $3.9 million, respectively. Other income and expense primarily consists of bank fees, investment management fees, and other miscellaneous non-operating income and expense items.
Provision for income taxes
We recorded a tax provision of $8.7 million in fiscal year 2001, compared to a tax provision of $12.0 million in fiscal year 2000 and $7.6 million in fiscal year 1999. The overall effective tax rate for the provision as of March 31, 2001 was approximately 40%. The effective tax rate on normalized operations was 23% for the year ended March 31, 2001. The effective tax rate on normalized operations excludes shockwave.com losses, in-process research and development from acquisitions, impairment of venture investments, and impairment and amortization of intangibles. The effective tax rates on normalized operations for the years ended March 31, 2000 and 1999 were 26% and 28%, respectively. The decrease in the effective tax rate reflects foreign operating results that were taxed at rates lower than the U.S. statutory rate, the utilization of research and experimentation tax credits, and net operating loss carryforwards.
Liquidity and Capital Resources
The following table summarizes our cash flow activities for the periods indicated (in thousands):
Operating activities for fiscal year 2001 provided $66.7 million, a 74% increase from 2000, primarily due to the increase in net income, adjusted for in-process research and development, depreciation and amortization, impairment of investments, and other non-cash charges. These were partially offset by adjustments to net income for minority interest, and changes in our operating assets and liabilities. For the year ended March 31, 2001, cash used in investing activities was $118.2 million, representing an increase of 204% compared to the same period in fiscal year 2000. Cash from investing activities was primarily used to purchase and develop
F-9
In fiscal year 2001, we made investments in property and equipment totaling $65.3 million. This was primarily related to the build out of facilities and the continued expansion of information technology infrastructure to support the overall growth of the business. In fiscal year 2002, we anticipate spending approximately $35.0 million on capital expenditures, primarily relating to information technology infrastructure, equipment, and the build out of facilities.
As of March 31, 2001, cash, cash equivalents, and short-term investments were $178.0 million and working capital was $139.5 million. As of March 31, 2001, cash, cash equivalents, and short-term investments decreased by $9.1 million and working capital decreased by $42.7 million as compared to March 31, 2000.
The treasury stock program approved by the Board of Directors in July 1997 and October 1998 provided for repurchases of up to 4.0 million shares of our common stock. During fiscal year 2000, we repurchased 198,000 common shares for $8.2 million. In connection with the acquisition of ESI Software, Inc., the Board of Directors rescinded the repurchase program.
We continue to evaluate current and forecasted cash flow as a basis for financing operating requirements and capital expenditures. We believe that we will have sufficient liquidity from cash flow from operations, access to capital markets, and working capital to finance anticipated capital expenditures and to fund working capital requirements for the next twelve months.
Subsequent Events
Restructuring. In April 2001, we began executing a restructuring and cost containment plan delivering cost synergies associated with the Allaire acquisition and aligning our cost structure with the weaker business environment. In connection with the restructuring, we terminated approximately 200 employees, primarily in the sales and marketing and general and administrative functions, and as a result, incurred employee termination costs such as severance benefits. In addition, we will incur additional charges associated with vacating certain facilities and potential asset write-offs. We expect to record these charges beginning in the first quarter of fiscal year 2002. The total expected restructuring charge is estimated to be in excess of $15.0 million.
Option Exchange. On May 4, 2001, we announced an offer for existing stock option holders to exchange outstanding stock options for new options to be granted in excess of six months and one day from the date the offer expires, which is June 4, 2001 (the “Option Exchange”). Under the terms of the Option Exchange, option holders will receive an equal number of options for those they elected to exchange sometime between December 5, 2001 and January 21, 2002 with exercise prices at the then fair market value. Options that were granted and are outstanding under the Macromedia, Inc. 1992 Equity Incentive Plan, the Macromedia, Inc. 1999 Stock Option Plan and the Andromedia, Inc. 1999 Stock Plan, along with some non-plan option grants that were originally granted by Macromedia, are eligible under the Option Exchange. In addition, the vesting period of options exchanged in connection with the Option Exchange will remain the same as the original grant, with time between the cancel date and the replacement grant date under the Option Exchange included in the vesting term. We will not incur any financial statement impact as a result of the initial cancellation upon acceptance of the Option Exchange, but may incur potential dilution of income per share upon the subsequent issuance of options in the December 2001 and January 2002 time frame.
Amendments to Macromedia’s Bylaws. In May 2001, our board of directors adopted amendments to our bylaws to limit the manner in which a special meeting of the stockholders may be called, to require an advance notice to the board of directors of any such special meeting of the stockholders, and to limit the scope of business that may be brought forth in such meeting. In addition, the bylaws were further amended to clarify that any reduction in the number of authorized directorships would not decrease the remaining terms of then incumbent directors, to clarify the manner in which the date of each board meeting may be set, and to grant
F-10
AtomShockwave Restructuring — During the fourth quarter of fiscal year 2001 we evaluated all of our strategic investments for impairment, primarily due to the current economic conditions that existed, as well as known events which transpired during the fourth quarter of fiscal year 2001. Included in this evaluation was the assessment of our investment in AtomShockwave. As of March 31, 2001, we determined that the carrying value of $31.3 million recorded on our balance sheet was not impaired. Subsequent to this assessment, AtomShockwave announced on June 1, 2001 that it would be terminating a significant portion of its workforce and closing several offices in conjunction with a planned restructuring. As a result, we are currently preparing an impairment analysis on our investment in AtomShockwave.
RISK FACTORS THAT MAY AFFECT FUTURE RESULTS OF OPERATIONS
Intense Competition — The markets for our products are highly competitive and characterized by pressure to reduce prices, incorporate new features, and accelerate the release of new product versions and enhanced services. A number of companies currently offer products and services that compete directly or indirectly with one or more of our products. Our primary competitors include, among others, Adobe, Microsoft, and Corel. In addition, we may be deemed to compete with large Web and database platform companies that offer a variety of software products, such as IBM, Oracle, and Sun Microsystems, as well as a number of companies that offer Web application servers, such as BEA Systems, Hewlett Packard, SilverStream Software and ATG. Several of our current and potential competitors have greater financial, marketing, and technical resources than we do. As we compete with larger competitors across a broader range of product lines and different platforms, we may face increasing competition from such companies or from other companies.
Dependence on the Growth of the Internet and the Viability of Web-based Customers — Our success and the demand for our products depends largely on the continued viability of our Web-based customers and the continued growth in the use of the Internet. Many of these Web-based companies who purchase licenses to our software products incur net losses from their operations and rely primarily on outside financing to fund their continued operations. The availability of such financing for non-profitable Web-based companies is subject to factors beyond our control, including, but not limited to, the perceived viability of the business plan of such companies, the potential for such companies to realize profits in the foreseeable future, and the cost of capital. In the event that Web-based companies who purchase licenses to our software products are unable to secure the financing necessary to meet their operational and capital requirements, such customers may cease operations or materially reduce the purchases of our products. In addition, issues concerning the commercial use of the Internet including security, reliability, cost, ease of access, quality of service and necessary increases in bandwidth availability remain outstanding and are likely to affect the development of the market for our products. Further, the rate of development and adoption of the Internet has been slower outside of the United States and the cost of bandwidth has been higher. Accordingly, our continued growth depends in part on the adoption of the Internet internationally as well as domestically.
Risk Associated with Acquisitions — We have grown in part because of business combinations with other companies and we may make further acquisitions in the future. On March 20, 2001, we consummated an acquisition of Allaire Corporation. Because of the maturity and the size of Allaire Corporation’s operations, the location of its headquarters, the material differences in the customer base and functionality of Allaire Corporation’s and our products, the acquisition may present a materially higher product, marketing, research and development, facilities, information systems, accounting, personnel, and other integration challenges than those we have faced in connection with our prior acquisitions and may delay or jeopardize the complete
F-11
Rapidly Changing Technology — The developing digital media, Internet and online services markets and the personal computer industry are characterized by rapidly changing technology, resulting in short product life cycles and rapid price declines. We must continuously update our existing products, services and content to keep them current with changing technology and consumer tastes and must develop new products, services and content to take advantage of new technologies and consumer preferences that could render our existing products obsolete. Our future prospects are highly dependent on our ability to increase functionality of existing products and services in a timely manner and to develop new products and services that address new technologies and achieve market acceptance. New products and enhancements must keep pace with competitive offerings, adapt to new platforms and emerging industry standards, and provide additional functionality. There can be no assurance that we will be successful in these efforts.
The success of our business is especially dependent upon the existence and future growth of the Internet as a business, entertainment and communications platform. Many critical issues concerning the commercial use of the Internet, such as security, remain unresolved and may affect the growth of Internet use, together with the software standards employed in such markets. In addition, the demand for certain of our products, including Macromedia JRun application, could be harmed if the Java programming language loses market acceptance. While a number of companies have introduced Web applications based on Java, the demand for Java-based applications could decrease, and support of the Java programming language could decline as alternative programming languages are introduced. A continued decline in the growth of the Internet or the Java programming language or any inability by us to adapt to changes in the Internet or the technology used for operation of the Internet, including Java, could have a material adverse effect on our results of operations.
Fluctuations of Operating Results; Product Introduction Delays; Product Defects — Our operating results, especially quarterly results, may vary significantly depending on the timing of new product introductions and enhancements. A substantial portion of our revenue is derived from the introduction of new products or enhancements to existing products. In the past we have experienced delays in the development of new products and enhancement of existing products, and such delays may occur in the future. If we are unable, due to resource constraints or technological or other reasons, to develop and introduce products in a timely manner, this inability could have a material adverse effect on our results of operations. If we do not ship new versions of our products as planned, or if new products do not receive market acceptance, our results of operations could be materially adversely affected.
Our results of operations also may vary significantly depending on the impact of any of the following: the timing of product and service introductions by competitors, changes in pricing, execution and volume of technology licensing agreements, the volume and timing of orders received during the quarter for software products, and finally, any acquisitions of other companies or technologies. Our future operating results may fluctuate as a result of these and other factors, including our ability to continue to develop or acquire innovative products and services, our product, service, and customer mix, and the level of our competition. Our results of operations may also be affected by seasonal trends. A significant portion of our operating expenses is relatively fixed, and planned expenditures are based primarily on sales forecasts. As a result, if revenues do not meet our forecasts, operating results may be materially adversely affected. There can be no assurance that sales of our existing products will either continue at historical rates or increase, or that new products introduced by us, whether developed internally or acquired, will achieve market acceptance. Our historical rates of growth should not be taken as being indicative of growth rates that can be expected in the future.
F-12
In addition, our business could be adversely affected if any new products or new version of existing products fail to perform properly. Software products may contain undetected errors or “bugs”, which may result in product failures or security breaches or otherwise fail to perform in accordance with customer expectations. The occurrence of errors could result in loss of or delay in revenue, loss of market share, failure to achieve market acceptance, diversion of development resources, injury to our reputation, or damage to our efforts to build brand awareness, any of which could have a material adverse effect on our business, operating results, and financial condition.
Dependence on Distributors — A substantial majority of our revenue is derived from the sale of our software products through a variety of distribution channels, including traditional software distributors, mail order, educational distributors, VARs, OEMs, hardware and software superstores, retail dealers, and our direct sales force and Web site. Domestically, our products are sold primarily through distributors, VARs, and OEMs. In particular, Ingram Micro accounted for 28% of revenues for the years ending March 31, 2001 and 2000. In addition, we believe that certain distributors are reducing their inventory in the channel and returning unsold products to better manage their inventories. Distributors are increasingly seeking to return unsold product, particularly when a new version or upgrade of a product has superseded such products. If our distributors seek to return increasing amounts of products, such returns could have a material adverse effect on our revenues and results of operations. The loss of, or a significant reduction in sales volume to, a significant reseller, could have a material adverse effect on our results of operations.
Risks of International Operations — For the year ended March 31, 2001 we derived approximately 43% of our consolidated revenues from international sales. We expect that international sales will continue to represent a significant percentage of our revenues. We rely primarily on distributors for sales of our software products in foreign countries and, accordingly, are dependent on their ability to promote and support our software products, and in some cases, to translate them into foreign languages. International business is subject to a number of special risks, including: foreign government regulation; general geopolitical risks such as political and economic instability, hostilities with neighboring countries, and changes in diplomatic and trade relationships; more prevalent software piracy; unexpected changes in, or imposition of, regulatory requirements, tariffs, import and export restrictions, and other barriers and restrictions; longer payment cycles, greater difficulty in accounts receivable collection, potentially adverse tax consequences, the burdens of complying with a variety of foreign laws; foreign currency risk; and other factors beyond our control. Additionally, we are uncertain whether the recent weaknesses experienced in foreign economies will continue in the foreseeable future due to, among other things, possible currency devaluation and liquidity problems in these regions.
We enter into foreign exchange forward contracts to reduce economic exposure associated with sales and asset balances denominated in various European currencies and Japanese Yen. As of March 31, 2001, the notional amount of forward contracts outstanding amounted to $10.8 million. There can be no assurance that such contracts will adequately hedge our exposure to currency fluctuations.
Euro Currency — On January 1, 1999, eleven of the fifteen member countries of the European Union adopted the Euro as the common legal currency and established fixed rates of conversion between their existing sovereign currencies and the Euro. The Euro trades on currency exchanges and is available for non-cash transactions. A three-year transition period is underway during which transactions can be made in the existing sovereign currencies. The conversion to the Euro has alleviated currency exchange risk between the member countries.
There can be no assurance that all issues related to the Euro conversion have been identified, and we may be at risk if we, or any of our principal suppliers, are unable to deal with the impact of the Euro conversion. To date, none of our international suppliers have expressed an intention to invoice in Euros.
Management of Growth — We have experienced and may continue to experience rapid growth, which has placed, and could continue to place, a significant strain on our managerial, financial, and operational resources. Our workforce has grown more than 53% over the past year. We anticipate that we will need to implement a variety of new and upgraded operational and financial systems, procedures and controls, including the ongoing improvement of our accounting and other internal management systems. We also will need to
F-13
Volatility of Stock — Our future earnings and stock price may be subject to significant volatility. Any shortfall in revenue or earnings from levels expected by securities analysts, general decline in economic conditions, or material reductions in spending by our customers, could have an immediate and significant adverse effect on the trading price of our common stock in any given period. Additionally, we may not learn of such shortfalls until late in the reporting period, which could result in an even more immediate and adverse effect on the trading price of our common stock. Finally, we participate in a highly dynamic industry. In addition to factors specific to us, changes in analysts’ earnings estimates for us or our industry and factors affecting the corporate environment, our industry, or the securities markets in general will often result in significant volatility of our common stock price.
Intellectual Property Rights — We rely on a combination of patent, copyright, trade secret, and trademark laws, as well as employee and third-party nondisclosure agreements, to protect our intellectual property rights and products. Policing unauthorized use of products and fully protecting our proprietary rights are difficult, and we cannot guarantee that the steps we have taken to protect our proprietary rights will be adequate. In addition, effective patent, copyright, trade secret, and trademark protection may not be available in every country in which our products are distributed.
Further, we are currently, and may in the future, be involved in legal disputes relating to the validity or alleged infringement of our, or of a third party’s, intellectual property rights. Intellectual property litigation is typically extremely costly and can be disruptive to our business operations by diverting the attention and energies of our management and key technical personnel. In addition, any adverse decisions could subject us to significant liabilities, require us to seek licenses from others, prevent us from manufacturing or licensing certain of our products, or cause severe disruptions to our operations or the markets in which we compete, any one of which could dramatically impact our business and results of operations.
Venture and Equity Investments — We have invested a substantial amount of capital and time on finding, funding, and helping to develop certain privately held companies, many of which can be considered in the start-up or development stages. These investments are inherently risky as the market for the technologies or products they have under development are typically in the early stages and may never materialize. Therefore, we could lose our entire investment, or a substantial portion thereof, in one or more of these companies.
California’s Energy Crisis —California is currently experiencing an energy crisis and has recently experienced significant power shortages. As a result, energy costs in California have risen and may continue to rise significantly over the next year. Because our principal operating facilities are located in California, our operating expenses may increase significantly if this trend continues. In addition, California has been initiating and may continue to initiate rolling blackouts through the state. If blackouts interrupt our power supply, we may be temporarily unable to operate at full capacity. Moreover, the energy crisis could cause or contribute to a slowdown in the national economy, which could cause a reduction in demand for our products, and could in turn, materially and adversely affect our business.
Generally Accepted Accounting Principles —We prepare our financial statements in conformity with generally accepted accounting principles (“GAAP”). GAAP are subject to interpretation by the American Institute of Certified Public Accountants, the Securities and Exchange Commission, and various bodies formed to interpret and create appropriate accounting policies. A change in these policies can have a significant effect on our reported results, and may affect the reporting of transactions completed prior to the announcement of a change.
Interest Rate Risk
Our exposure to market risk for changes in interest rates relates primarily to our investment portfolio. As stated in our policy, we are adverse to principal loss and ensure the safety and preservation of our invested funds by limiting default and market risks. We place our investments with high credit-quality issuers, and the
F-14
The table below represents cost and carrying amounts and the related weighted average effective interest rates by year of maturity for our investment portfolio as of March 31, 2001. The table does not include cash and marketable equity securities as of March 31, 2001 (in thousands).
We also have loans outstanding to related parties totaling $14.5 million as of March 31, 2001. The stated loan amounts approximate fair value.
Foreign Currency Risk
We enter into forward contracts to reduce our exposure to foreign currency fluctuations involving probable anticipated, but not firmly committed, transactions with firm foreign currency commitments occurring within one year. We do not enter into derivative financial instruments for trading purposes.
As a result of this activity, we had outstanding forward contracts in Euro and Japanese Yen as of March 31, 2001. The forward contracts are accounted for on a marked-to-market basis, with realized gains or losses recognized in the consolidated statements of income. As of March 31, 2001 and 2000, the contract amount of the forward contracts amounted to $10.8 million and $21.6 million, respectively. The future value of these contracts is subject to market risk resulting from foreign exchange rate volatility. Current market rates at the consolidated balance sheet date were used to estimate the fair value of foreign currency forward contracts.
The table below provides information about our outstanding forward contracts as of March 31, 2001. The information is provided in U.S. dollar equivalents, in thousands. The table presents the notional amount of the respective contracts and their fair value (at rates in effect as of March 31, 2001):
We are exposed to credit loss in the event of nonperformance by counter-parties, although we do not anticipate nonperformance by these counter-parties.
Disclosure of limitations of the tabular presentation
As the tables above incorporate only those exposures that exist as of March 31, 2001, we do not consider those exposures or positions that could arise after that date. Also, because the foreign currency denominated financial assets, and anticipated transactions are not presented in the table above, the information presented has limited predictive value. As a result, our ultimate realized gain or loss with respect to foreign currency fluctuations will depend on the exposures that arise during the period, our hedging strategies at the time, and foreign currency rates.
F-15
Market Price Risk
We are exposed to market risk from changes in the price of our equity securities held available-for-sale, which were recorded at a fair market value of approximately $560,000 at March 31, 2001. The equity investments held by us have exposure to price risk, which is estimated as the potential loss in fair market value due to a hypothetical change of 10% in quoted market prices. This hypothetical change would reduce our investments as well as any unrealized gains, which are included as a component of stockholders’ equity. This hypothetical change would not have a material effect on the recorded value of our investments. We have a policy of evaluating the viability of our investments on a regular basis, primarily by reviewing the companies’ stock price activity, as the securities are traded on a public exchange.
In addition, we have investments in several privately held companies. These investments are risky due to the investee’s start-up technologies, which may never materialize. Accordingly, we evaluate the viability of these investments by reviewing, among other things, an investee’s cash position, subsequent financing rounds, historical financial activity, and future operating forecasts. If we believe that there is an other-than-temporary impairment in value, it is our policy to write down the investment to its fair value.
F-16
INDEPENDENT AUDITORS’ REPORT
The Board of Directors
We have audited the accompanying consolidated balance sheets of Macromedia, Inc. and subsidiaries as of March 31, 2001 and 2000, and the related consolidated statements of income, stockholders’ equity, and cash flows for each of the years in the three-year period ended March 31, 2001. In connection with our audits of the consolidated financial statements, we also have audited the financial statement schedule as listed in the accompanying index in Item 14(a)2 herein. These consolidated financial statements and financial statement schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements and financial statement schedule based on our audits.
We conducted our audits in accordance with auditing standards generally accepted in the United States of America. 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 financial position of Macromedia, Inc. and subsidiaries as of March 31, 2001 and 2000, and the results of their operations and their cash flows for each of the years in the three-year period ended March 31, 2001, in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, the related financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein.
Mountain View, California
F-17
ASSETS
See accompanying notes to consolidated financial statements.
F-18
F-19
F-20
[Additional columns below]
[Continued from above table, first column(s) repeated]
F-21
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Nature of Operations
Macromedia develops software that creates Web site layout, graphics and rich media content for Internet users. Macromedia sells its products through a network of distributors, value-added resellers (VAR’s), its own sales force and Web site, and to original equipment manufacturers (OEM’s) in North America, Europe, Asia Pacific and Latin America. In addition, Macromedia derives revenues from advertising on its Web sites, and from software maintenance and technology licensing agreements. Macromedia, Inc. and its subsidiaries are hereinafter collectively referred to as the “Company” or Macromedia.
2. Summary of Significant Accounting Policies
Principles of Consolidation — The consolidated financial statements include all domestic and foreign subsidiaries that are more than 50% owned and controlled. All significant intercompany transactions and balances have been eliminated.
When the Company owns greater than 20% but less than 50% voting interest in an investee and has the ability to exert significant influence over the investee’s management, the Company accounts for its investment using the equity method of accounting. At March 31, 2000, the Company owned a controlling interest in the outstanding voting stock of shockwave.com, and accounted for shockwave.com as a consolidated subsidiary. As of March 31, 2001, the Company accounted for its investment in AtomShockwave under the equity method, as its ownership interest declined to approximately 38% of the outstanding voting stock. Prior to the Company’s deconsolidation of shockwave.com, gains or losses from the sale of subsidiary capital stock were recorded in additional paid-in-capital, net of tax. Historically, the Company considered shockwave.com a start up and the ultimate realization of the adjustments relating to these transactions were not assured. As such, no gains or losses were recognized by the Company.
Use of Estimates — The preparation of consolidated financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements, and the reported amounts of revenues and expenses during the reporting period. Actual results could differ materially from those estimates.
Software Revenue Recognition — The Company recognizes revenue in accordance with the American Institute of Certified Public Accountants Statement of Position 97-2,Software Revenue Recognition (“SOP 97-2”), as modified by SOP 98-9. Revenues from multiple element software arrangements are allocated to each element of the arrangement based on the relative fair values of the elements, such as software products, upgrades, enhancements, post contract customer support (“PCS”), installation, or training. The determination of fair value is based on objective evidence that is specific to the Company. If such evidence of fair value for each element of the arrangement does not exist, all revenue from the arrangement is deferred until such time that evidence of fair value does exist or until all elements of the arrangement are delivered. If in a multiple element arrangement, fair value does not exist for one or more of the delivered elements in the arrangement, but fair value does exist for all undelivered elements, then the residual method of accounting is applied. Under the residual method, the fair value of the undelivered elements is deferred, and the remaining portion of the arrangement fee is recognized as revenue.
Revenues from shrink-wrap software are recognized upon shipment based on the fair value of the element provided that persuasive evidence of an arrangement exists, collection of the resulting receivable is deemed probable and the payment terms are fixed and determinable. The Company also maintains a reserve for anticipated returns on products sold to distributors and direct customers. Revenue from consulting, training, and other services is generally recognized as the services are performed.
F-22
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
The Company licenses products to Original Equipment Manufacturers (“OEMs”) or provides customers the right to multiple copies. These arrangements generally provide for nonrefundable fixed fees that are recognized at delivery of the product master or the first copy. Per copy royalties in excess of the fixed minimum amounts and refundable license fees are recognized as earned. If PCS is included in the contract, it is unbundled from the license fee using the Company’s objective evidence of the fair value of the PCS. If objective evidence of the fair value of the PCS is not available, the revenues from the entire arrangement are recognized ratably over the PCS term.
Fees from volume licenses are recognized as revenue upon shipment, provided all significant obligations have been met, persuasive evidence of an arrangement exists, fees are fixed and determinable, collection is probable and the arrangement does not involve services that are essential to the functionality of the software. Fees from licenses sold together with consulting services are generally recognized upon shipment provided that the above criteria have been met and payment of the licenses is not dependent upon the performance of consulting services. Revenues from PCS are recognized on a straight-line basis over the term of the contract.
The Company licenses software to end users that provide for an initial fee to use the products in perpetuity up to a maximum number of users. In instances where the arrangement involves services that are essential to the functionality of the software, both the license and consulting fees are recognized under the percentage of completion method of contract accounting. Progress towards completion is generally measured based on the estimated number of hours to complete the specific projects. In the event the costs to complete a contract are expected to exceed anticipated revenues, a loss is accrued. In certain circumstances where the Company is unable to estimate the amount of effort required to customize or implement the software license, revenue is recognized using the completed contract method.
Advertising Revenues — Advertising revenues are derived from the sale of banner advertisements and sponsorships on the Company’s Web sites under short and long-term contracts, net of commissions. Through March 31, 2001, advertising contracts have been typically less than one year. Advertising revenues on banner contracts and sponsorships are recognized based on delivery in the period in which the advertisement is displayed, provided that no significant obligations remain and collection of the resulting receivable is probable. Company obligations typically include the guarantee of a minimum number of “impressions” or times that an advertisement appears in pages viewed by the users of the Web site. To the extent minimum guaranteed impressions are not met, the Company defers recognition of the corresponding revenue until the remaining guaranteed impression levels are achieved.
Cash Equivalents and Short-Term Investments —Cash equivalents consist of highly liquid investments with maturities of three months or less at the time of purchase. Short-term investments consist of readily marketable securities with a maturity of more than three months from time of purchase. Cash equivalents and all of the Company’s short-term investments are classified as “available-for-sale.” Where the maturity is more than one year, the securities are classified as short-term as the Company’s intention is to convert them into cash for operations as needed.
The amortized cost of available-for-sale securities is adjusted for amortization of premiums and accretion of discounts to maturity. Such amortization is included in other income. Available-for-sale securities are recorded at fair value. Unrealized gains and losses are reported as a separate component of accumulated other comprehensive income in stockholders’ equity. Realized gains and losses, and declines in value determined to be other than temporary on available-for-sale securities, are included in other income (expense). The cost of securities sold is based on the specific identification method. Interest on securities classified as available-for-sale is included in interest and investment income.
Investments — The Company holds investments in the common and preferred stock of several non-marketable companies. These strategic investments do not represent a greater than 20% voting interest in the
F-23
investee and the Company does not have the ability to significantly influence the investee’s management. Accordingly the investments are accounted for on the cost basis. Impairment losses are recognized on these strategic investments when the Company determines that there has been in a decline in the fair value of the investment that is other than temporary. During fiscal year 2001, the Company recorded impairment losses on strategic investments of $13.8 million. The losses represented write-offs or write-downs of the Company’s carrying amount of these investments and were determined by using, among other factors, an investee’s significant decline in stock value, the inability for an investee to obtain additional private financing, the suspension of an investee’s current operations and uncertain financial conditions of the investees. The Company has evaluated its remaining investments and currently believes the carrying values of $8.0 million are recoverable.
Inventory — Inventory consists primarily of software media, hardware product components, manuals, and related packaging materials. Inventory is recorded at the lower of cost or market value, determined on a first-in, first-out basis, net of allowance for excess and obsolete inventory.
Concentrations of Credit Risk — Distributors comprise a significant portion of the Company’s revenues and trade receivables. The Company controls credit risk through credit approvals, credit limits and monitoring procedures. The Company performs in-depth credit evaluations of all new customers and requires letters of credit or bank guarantees, if deemed necessary, but generally requires no collateral. For the years ended March 31, 2001, 2000, and 1999, sales to one distributor accounted for 28% of each respective years’ consolidated revenues. Accounts receivable relating to this customer were $15.7 million and $16.0 million as of March 31, 2001 and 2000, respectively. These sales to the distributor are included in the Company’s Software segment.
Financial instruments that potentially subject the Company to concentrations of credit risk consist primarily of cash equivalents, short-term investments, accounts receivables, accounts payable, accrued liabilities, employee loans, investments and forward contracts used in foreign exchange activities. The Company places its cash equivalents, short-term investments, and forward contracts with major financial institutions of high credit standing. The Company does not believe there is significant risk of non-performance by these institutions because the Company monitors their credit ratings and limits the financial exposure to any one commercial issuer and any one type of investment. The fair value of the Company’s cash, accounts receivable, accounts payable, accrued liabilities and employee loans approximated their carrying values due to their short maturity or rate structure.
Land and Building and Other Fixed Assets — Land and building and other fixed assets are recorded at cost. Buildings are depreciated over thirty years, using the straight-line method. Depreciation of equipment and furniture is provided over estimated useful lives ranging from three to five years using the straight-line method. Leasehold improvements are amortized on a straight-line basis over the lesser of the lease term or the estimated useful life of the related assets, ranging from three to ten years.
Intangible Assets — Intangible assets consist primarily of a trademark license, trade name, assembled workforce, developed technology and goodwill related to acquisitions accounted for under the purchase method of accounting. Amortization of the trademark license is provided on a straight-line basis over an estimated useful life of seven years. The trade name, assembled workforce, developed technology and goodwill are amortized on a straight-line basis over an estimated useful life of approximately three years. The Company identifies and records impairment losses on intangible and other long-lived assets when events and circumstances indicate that such assets might be impaired. The Company considers factors such as significant changes in the business climate and projected discounted cash flows from the respective asset. Impairment losses are measured as the amount by which the carrying amount of the asset exceeds its fair value (see Note 4).
F-24
Software Development Costs — SFAS No. 86,Accounting for the Costs of Computer Software to Be Sold, Leased, or Otherwise Marketed, provides for capitalization of certain software development costs once technological feasibility is established. The Company believes that software development costs incurred subsequent to technological feasibility have not been material, other than the costs paid to third parties to develop localized versions of its software, which are capitalized and charged to cost of revenues. The Company’s capitalized localization costs totaled $2.6 million and $2.1 million at March 31, 2001 and 2000, respectively. In addition, approximately $3.1 million, $2.6 million and $1.5 million was charged to cost of revenues during the years ended March 31, 2001, 2000 and 1999, respectively.
Software for Internal Use — The Company capitalizes costs of software, consulting services, hardware and payroll related costs incurred to purchase or develop internal-use software in accordance with SOP 98-1, Accounting for the Costs of Computer Software Developed or Obtained for Internal Use. The Company expenses costs incurred during preliminary project assessment, research and development, re-engineering, training and application maintenance. Capitalized software for internal use is generally amortized over three years.
Foreign Currency Translation — The functional currency of the Company’s foreign subsidiaries is the U.S. dollar. Assets and liabilities denominated in foreign currencies are translated using the exchange rates at the balance sheet date. Revenues and expenses are translated using average exchange rates during the year. Translation adjustments are recorded in the consolidated statements of income.
Foreign Exchange Forward Contracts — The Company uses foreign exchange forward contracts to hedge its economic exposure associated with sales and asset balances denominated in various foreign currencies. The Company’s forward contracts do not qualify as accounting hedges. The Company marks-to-market the forward contracts and includes unrealized gains and losses in the current period as a component of other income (expense). The Company may from time-to-time adjust its foreign exchange position by entering into additional contracts or by terminating or offsetting existing foreign currency forward contracts. Gains and losses on terminated or offset contracts are recognized in income in the period of contract termination or offset.
Stock Based Compensation — As permitted under SFAS No. 123, Accounting for Stock-Based Compensation, the Company has elected to follow Accounting Principles Board Opinion (“APB”) No. 25,Accounting for Stock Issued to Employees, and related interpretations in accounting for stock-based awards to employees (see Note 14). Accordingly, compensation cost for stock options is measured as the excess, if any, of the market price of the Company’s common stock at the date of grant over the stock option exercise price. Warrants issued to non-employees are accounted for using the fair value method of accounting as prescribed by SFAS 123 and EITF 96-18. Compensation costs are amortized on a straight-line basis over the vesting period of the securities.
Comprehensive Income — The sole component of other comprehensive income for the years ended March 31, 2001, 2000 and 1999 was unrealized gains or losses from the Company’s available-for-sale securities.
Advertising Costs — Advertising expenditures are charged to operations as incurred. Advertising expense for the year ended March 31, 2001, 2000, and 1999 was $10.4 million, $8.3 million, and $8.2 million, respectively.
Income Taxes — The Company uses the asset and liability method of accounting for income taxes. Under this method, deferred income taxes are provided for the temporary differences between the financial reporting basis and the tax basis of the Company’s assets and liabilities. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled.
F-25
Recent Accounting Standards — In June 1998, the Financial Accounting Standards Board issued SFAS No. 133,Accounting for Derivative Instruments and Hedging Activities. SFAS 133, as amended by SFAS 137,Deferral of Effective Date of Statement 133, will be effective for the Company during fiscal year 2002. SFAS 133 requires the recognition of all derivatives on the balance sheet at fair value. The Company’s adoption of SFAS 133 will not have a material impact on the Company’s financial position or results of operations. The Company has no designated hedges for accounting purposes.
In December 1999, the Securities and Exchange Commission (the “SEC”) issued Staff Accounting Bulletin No. 101 (“SAB 101”), Revenue Recognition in Financial Statements. SAB 101 summarizes certain of the SEC’s views in applying accounting principles generally accepted in the United States of America relating to revenue recognition in financial statements. In March 2000, the SEC issued SAB 101A, which delayed the implementation date of SAB 101. In June 2000, the SEC issued SAB 101B, which further delayed the implementation date of SAB 101. The Company adopted SAB 101 during its fourth quarter of fiscal year 2001. The adoption of SAB 101 did not have a material impact on the Company’s financial position or income.
Reclassification — Certain amounts in the accompanying fiscal year 2000 and fiscal year 1999 consolidated financial statements have been reclassified in order to conform with the presentation of the 2001 consolidated financial statements.
3. Supplemental Statements of Cash Flows Information
Supplemental cash flow information and non-cash investing and financing activities for the years ended March 31, 2001, 2000 and 1999 are as follows (in thousands):
In connection with the acquisition of AtomFilms by shockwave.com, the Company began accounting for its investment under the equity method of accounting. The following information illustrates the effect of the deconsolidation of AtomShockwave on the Company’s consolidated cash flow position (in thousands).
4. Business Combinations
Fiscal 2001 Acquisitions
Allaire Corporation — On March 20, 2001, the Company acquired Allaire Corporation (“Allaire”), a publicly held company that provides software products for companies building their business on the Web. The acquisition was accounted for as a purchase business combination and accordingly the purchase price was allocated to the tangible and intangible assets acquired and the liabilities assumed on the basis of their respective fair values as of the acquisition date. Included in the consolidated statements of income for fiscal year 2001 are the results of Allaire’s operations from the date of the acquisition through March 31, 2001. In
F-26
connection with the acquisition, the Company issued 0.2 shares of Macromedia common stock and paid $3.00 in cash for each outstanding Allaire share, issuing an aggregate of approximately 5.6 million shares of Macromedia common stock and paying a total of approximately $83.3 million. In addition, the Company assumed Allaire’s outstanding vested and unvested stock options and warrants. The Company also incurred transaction costs related to the acquisition. The following table illustrates the components of the purchase price.
The excess of the purchase price over the net assets acquired totaled $364.9 million, of which $18.0 million was expensed in the fourth quarter of fiscal year 2001 as acquired in-process research and development. The remaining $346.9 million of the purchase price was recorded as goodwill and other intangible assets, and are being amortized on a straight-line basis over a period of three years. The following table illustrates the allocation of the purchase price.
The $18.0 million allocated to in-process research and development was expensed upon acquisition, because technological feasibility had not been established and no future alternative uses existed. The charge is the result of Allaire’s ongoing projects at the time of the purchase, including the development of the ColdFusion Server 5.0 and JRun 4.0 technologies which were primarily aimed at building various application services on the Java 2 Enterprise Edition platform. The values assigned to the in-process research and development were based upon established valuation techniques. At the date of acquisition, it was estimated that approximately 75% of the development effort was complete and that the remaining 25% would be completed sometime in mid to late calendar year 2001 at an approximate cost of $2.1 million. The remaining efforts included finalizing coding and completion testing of the products and were determined by analyzing efforts incurred on development up to the point of acquisition. The value of the acquired in-process research and development was calculated as the estimated future net cash flows factoring in estimated future net revenues that may be generated from the products. The cash flows were calculated for an estimated five-year life cycle with costs estimated to improve over time, assuming that the products were successfully developed and that the Company was able to effectively manage the product’s contributions to operating results. These cash flows were discounted to their net present value using a discount factor of approximately 28%, considering the uncertainty surrounding the successful development of the projects.
F-27
The following pro forma results of operations reflect the combined results of Macromedia for the years ended as of March 31, 2001 and 2000 and the results of Allaire for the years ended December 31, 2000 and 1999 as if the acquisition occurred at the beginning of the periods presented. The pro forma results do not reflect any nonrecurring charges that resulted directly from the acquisition (in thousands except per share data).
Atom Corporation — In January 2001, the Company’s consolidated subsidiary, shockwave.com, consummated its acquisition of Atom Corporation (“AtomFilms”) in a stock-for-stock transaction accounted for under the purchase method of accounting. Under the terms of the transaction, AtomFilms’ stockholders received common stock, preferred stock, options and warrants in the surviving company, AtomShockwave, Corp., equal to approximately 30% of the fully diluted equity outstanding. Further, in connection with the acquisition, the Company invested approximately $15.0 million in convertible promissory notes. The notes converted to Series D Preferred Stock upon the closing of AtomShockwave’s preferred Series D financing round on March 15, 2001. Immediately subsequent to the acquisition, the Company began accounting for its investment in AtomShockwave under the equity method of accounting (see Note 11).
Middlesoft, Inc — On July 10, 2000, the Company acquired Middlesoft, Inc. (“Middlesoft”), a privately held software development company, for approximately $9.0 million in cash consideration. The acquisition was accounted for under the purchase method. Included in the consolidated statements of income for fiscal year 2001 are the results of Middlesoft’s operations from the date of consummation through March 31, 2001. The purchase price of the transaction was allocated to the acquired assets and liabilities based on their fair values as of the date of the acquisition. $3.1 million of the purchase price was expensed in the second quarter of fiscal year 2001 as acquired in-process research and development and $5.3 million was recorded as goodwill and other intangible assets.
The projects associated with the acquired in-process research and development of Middlesoft are related to Embedded Flash technologies. The Company purchased these technologies to increase the functionality of existing Flash technologies in order to allow them to run on multiple hardware devices. At the date of acquisition, it was estimated that approximately 50% of the development effort on the technologies was completed with the remaining 50% due in October 2000 for an estimated cost of $500,000. The completion percentage was determined by comparing the time and manpower incurred up to the point of acquisition with the estimated resources and efforts needed to complete the development. The valuation of the purchased in-process research and development was based upon the present value of the operating cash flows to be generated by the current technology after considering the cost to realize the revenue and the relative risk of the technology. These cash flows were discounted to their net present value using a discount factor of approximately 22%.
In fiscal year 2001, the Company wrote off the remaining unamortized balance of goodwill and other intangible assets associated with the Middlesoft acquisition. This resulted in a charge of $4.3 million in the fourth quarter. The Company acquired the technologies associated with Middlesoft in the second quarter of fiscal year 2001. During the third quarter of fiscal year 2001, the Company had indications that the markets
F-28
the Company expected would develop were not receptive to its planned strategy. By the end of the fourth quarter of fiscal year 2001, the actual results of the operations surrounding the technology were considerably below the Company’s expectations and as a result, management performed an impairment analysis, which considered several factors including revenue and cash flow projections and the realignment of the business strategy into different product agendas. The Company also evaluated possible strategies surrounding the operating contributions of the technology, and after doing so, determined that they would be prohibitive. As a result, the Company abandoned the technology, terminated key employees associated with the original product plan and recorded the impairment charge.
The pro forma results of operations from the Middlesoft acquisition as if it had occurred at the beginning of fiscal years 2001 and 2000 was not materially different from the Company’s consolidated results of operations for the respective periods.
Fiscal 2000 Acquisitions
Time4.com — On December 22, 1999, the Company acquired certain technology rights of Time4.com, Inc. (“Time4”), a software development company located in Minnesota, for $1.9 million in cash. The acquisition was accounted for under the purchase method; accordingly, the results of operations of Time4 have been included in the Company’s consolidated financial statements from the date of acquisition. As a result of the acquisition, the Company wrote off approximately $1.8 million of rights relating to Time4’s preliminary technology as the Company determined that the technology does not have any alternative future uses. The Company has capitalized approximately $100,000 associated with the workforce in place and non-compete agreements for Time4’s principal employees and is amortizing these intangible assets on a straight-line method over a period of 3.5 years.
Andromedia, Inc. — On October 6, 1999, Macromedia, Inc., Andromedia, Inc. (“Andromedia”), and Peak Acquisition Corp., a wholly-owned subsidiary of Macromedia (“Peak Acquisition”), entered into an Agreement and Plan of Reorganization under which Macromedia acquired Andromedia by exchanging all of the outstanding capital stock, options, and warrants of Andromedia for approximately 5.2 million shares of common stock, options, and warrants of Macromedia. The merger closed on December 1, 1999. As a result of the acquisition of Andromedia, Peak Acquisition was merged with and into Andromedia and Andromedia remains as the surviving corporation and wholly-owned subsidiary of Macromedia. The transaction was accounted for as a pooling-of-interests, and accordingly, the consolidated financial statements for periods prior to the combination have been restated to include the accounts and results of operations for Andromedia. Andromedia develops e-marketing software that enables companies to implement an integrated solution to analyze the success of their Web marketing efforts and to personalize their e-commerce offering based on customers’ needs in real-time.
In conjunction with the merger, the Company incurred direct merger-related expenses of approximately $1.5 million, including investment banker fees, legal and other professional fees, and severance. The Company also incurred costs of $2.3 million relating to Andromedia’s public offering process, which was terminated upon the merger with Macromedia. These costs included investment banker fees, legal and other professional fees, and printing costs. At March 31, 2000, approximately $1.5 million of these costs remained in accrued liabilities for acquisition related expenses.
Prior to the combination, Andromedia’s fiscal year ended on December 31. In restating the financial statements for the pooling-of-interests combination, Andromedia’s financial statements for the twelve months ended March 31, 2000 were combined with Macromedia’s financial statements for the year ended March 31, 2000. An adjustment has been made to the consolidated statements of stockholders’ equity and cash flows to include Andromedia’s results of operations for the three months ended March 31, 1999 which were not included in the period ended March 31, 2000. Andromedia’s revenue and net loss for the three months ended
F-29
March 31, 1999 was $1.1 million and $3.8 million, respectively. There were no conforming accounting adjustments for Andromedia and there were no intercompany transactions between the entities prior to the combination.
ESI Software, Inc. — On July 8, 1999, Macromedia, Inc., ESI Software, Inc., a California corporation (“ESI”), and Dynamo Acquisition Corp., a Delaware corporation and a wholly-owned subsidiary of Macromedia (“Dynamo”), entered into an Agreement and Plan of Reorganization, under which Macromedia acquired ESI by exchanging all of the outstanding capital stock, options and warrants of ESI for approximately 635,000 shares of common stock, options and warrants of Macromedia (as valued on July 8, 1999). The merger closed on September 30, 1999. As a result of the acquisition of ESI, Dynamo was merged with and into ESI and ESI remains as the surviving corporation and a wholly-owned subsidiary of Macromedia. The transaction was accounted for as a pooling-of-interests and was a tax-free reorganization. ESI develops and markets software that enables users to build advanced, interactive, business-oriented Web applications.
In conjunction with the merger, the Company incurred direct merger-related expenses of approximately $3.1 million, including expenses for bonuses contingent upon closing of the merger agreement, legal and other professional fees, personnel severance and relocation of employees, during the year ended March 31, 2000.
Prior to the combination, ESI’s fiscal year ended on June 30. The financial statements of Macromedia have been restated to include the financial position and results of operations of ESI for all periods presented. The combined balance sheet as of March 31, 2000 combines the assets, liabilities and stockholders’ equity of Macromedia with ESI. An adjustment has been made to the consolidated statements of stockholder’s equity and cash flows to exclude ESI’s results of operations for the three months ended June 30, 1998 which were included in the period ended March 31, 1999. During the year ended March 31, 2000, the Company purchased product from ESI pursuant to a distribution agreement. This transaction was eliminated upon consolidation. There were no conforming accounting adjustments for ESI upon acquisition.
Starbase Corporation — In July 1999, the Company acquired certain technology rights and other related software products from Starbase Corporation for $2.8 million. The Company intends to utilize these assets in the research and development of a single future research and development project. As a result of the acquisition, the Company wrote off the entire $2.8 million to acquisition related expenses in the year ended March 31, 2000 as the Company determined that the technology did not have any alternative future uses.
5. Agreement with Lotus Development Corporation
In fiscal year 2000, the Company closed a series of agreements with Lotus Development Corporation (“Lotus”), the combined effect of which was to: (i) sell certain tangible and intangible assets relating to the Company’s Pathware product line to Lotus, (ii) result in Lotus acting as a distributor of the Company’s products, and (iii) cause the Company and Lotus to cooperate with respect to certain future development activities related to the Company’s and Lotus’ products. The Company is to receive a minimum of $30.0 million in revenue over a period of three years as a result of the terms of the agreements.
F-30
6. Cash, Cash Equivalents and Short-Term Investments
The following is a summary of cash, cash-equivalents and short-term investments at March 31, 2001 and 2000 (in thousands):
Short-term investments consisted of the following, by original contractual maturity as of March 31, 2001 and 2000 (in thousands):
The Company’s available-for-sale securities are carried at fair value. The Company recorded, net of tax, an unrealized loss of $85,000 and an unrealized gain of $355,000 during fiscal years 2001 and 2000, respectively.
F-31
7. Land and Building and Other Fixed Assets
Land and building and other fixed assets as of March 31, 2001 and 2000, consisted of the following (in thousands):
Depreciation and amortization expense for the years ended March 31, 2001, 2000 and 1999 was $23.9 million, $14.8 million and $8.4 million, respectively.
8. Intangible Assets
Intangible assets as of March 31, 2001 and 2000, consisted of the following (in thousands):
9. Accrued Liabilities
Accrued liabilities as of March 31, 2001 and 2000, consisted of the following (in thousands):
F-32
10. Income Taxes
The components of the provision for income taxes for the years ended March 31, 2001, 2000 and 1999, are as follows (in thousands):
The provision for income taxes differs from the expected tax expense amount computed by applying the statutory federal income tax rate of 35% to income before income taxes for the years ended March 31, 2001, 2000 and 1999, as a result of the following (in thousands):
F-33
The tax effect of temporary differences that give rise to deferred tax assets (liabilities) as of March 31, 2001 and 2000, is as follows (in thousands):
As of March 31, 2001, the Company had available federal and state net operating loss carryforwards of approximately $484.0 million and $257.0 million, respectively. The Company also had unused research credit carryforwards of approximately $19.5 million and $10.3 million for federal and California tax purposes, respectively. If not utilized, net operating loss and federal research credit carryforwards will expire in fiscal years 2002 through 2021. The California research credits may be carried forward indefinitely.
Approximately $190.0 million of the valuation allowance for deferred tax assets is attributable to employee stock option deductions, the benefit from which will be allocated to paid-in capital rather than current income when subsequently recognized. Approximately $29.8 million of the valuation allowance for deferred tax assets relates to research and experimentation credits, of which approximately $18.2 million will be allocated to paid-in capital rather than current income when subsequently recognized.
Cumulative undistributed income of international subsidiaries amounted to $72.0 million as of March 31, 2001, which are intended to be permanently reinvested. The amount of income tax liability that would result had such income been repatriated is estimated to be approximately $26.0 million.
The utilization of research and experimentation credits is limited by current tax regulations. These research and experimentation credits will be utilized in future periods if sufficient income is generated. The Company’s ability to utilize certain loss carryforwards and certain research credit carryforwards are subject to limitations pursuant to the ownership change rules of Internal Revenue Code Section 382.
The Company believes it is more likely than not that future operations will generate sufficient taxable income to realize the net deferred tax assets recognized by the Company.
11. Investment in Equity Affiliate
The Company’s investment in equity affiliate relates to its minority ownership of AtomShockwave, formerly named shockwave.com. The Company’s investment in AtomShockwave resulted from the acquisition by the Company’s subsidiary, shockwave.com, of AtomFilms, Inc. in January 2001. Prior to January 2001, the Company maintained a controlling interest in shockwave.com, and accounted for its investment in shockwave.com as a consolidated subsidiary. shockwave.com consummated its merger with AtomFilms in a stock-for-stock transaction accounted for as a purchase business combination (see Note 4).
F-34
At March 31, 2001 the Company owned 38% of the voting common and preferred stock outstanding of AtomShockwave and no longer had a controlling interest in AtomShockwave. On a fully-diluted basis, the Company owned 32%. Therefore, AtomShockwave has been accounted for as an equity method investment from the date of its acquisition of AtomFilms. Management of AtomShockwave has taken several measures to restructure its organization and to refine its business model. These measures have taken a priority and have prevented AtomShockwave from producing timely, accurate operating results. Additionally, AtomShockwave management has informed the Company that it will not be able to produce timely financial statements for the foreseeable future. Therefore, as allowed under generally accepted accounting principles, the Company made a decision to report the results of operations from AtomShockwave on a 90-day lag. Accordingly, the accompanying consolidated statement of income for the year ended March 31, 2001, does not include the Company’s proportionate share of net loss attributable to AtomShockwave from the date of the acquisition to March 31, 2001. Such results of operations will be reported in the Company’s financial statements for the first quarter of fiscal year 2002.
During fiscal year 2001, prior to its acquisition of AtomFilms, shockwave.com sold additional shares of Series B preferred stock to parties other than Macromedia for consideration of $2.50 per share. The proportionate value offered to the third parties in the sales of Preferred Series B shares was in excess of the Company’s average carrying amount. As a result of these sales, the Company recorded adjustments in its consolidated statement of stockholders’ equity in order to adjust its investment in shockwave.com stock to reflect its share of the net assets of shockwave.com. These adjustments amounted to $1.6 million in fiscal year 2001.
During fiscal year 2000, shockwave.com, issued 18.2 million shares of Preferred Series B stock to parties other than Macromedia for cash consideration of $2.50 per share. This represented 34.6% of shockwave.com’s preferred stock at March 31, 2000. Prior to the transaction, the Company held 100% of the equity of shockwave.com in the form of Preferred Series A stock. Preferred Series A and B stock both have identical rights and privileges. The proportionate value offered to the third parties in the Series B offering was in excess of the Company’s average carrying amount. As a result of the transaction, the Company recorded a $21.1 million adjustment in its consolidated statement of stockholders’ equity in order to adjust its investment in shockwave.com stock to reflect its share of the net assets of shockwave.com.
12. Mandatorily Redeemable Convertible Preferred Stock
At the consummation of the merger between the Company and Andromedia, which occurred in fiscal year 2000 and was accounted for as a pooling of interests, Andromedia had 2.3 million shares of mandatorily redeemable convertible preferred stock outstanding. These shares were redeemable at the higher of original issuance price plus declared but unpaid dividends or fair market value at or any time after February 1, 2004. Accordingly, the Company increased the carrying amount of the instruments through periodic accretions, so that the carrying amount would equal the mandatory redemption amount at February 1, 2004. Mandatorily redeemable preferred stock consisted of the following (in thousands):
F-35
On December 1, 1999, Macromedia completed its merger with Andromedia upon which all outstanding mandatorily redeemable preferred shares of Andromedia automatically converted into Macromedia common stock.
13. Stockholders’ Equity
As a result of the Company’s poolings-of-interest acquisitions during fiscal year 2000, various issuances of stock of the acquired entities were issued and outstanding during fiscal year 2000 and 1999. For presentation purposes, the Company has shown the activity and outstanding preferred share balances of the acquired entities as a component of additional paid-in-capital in the Company’s statements of stockholders’ equity.
Treasury Stock. During the years ended March 31, 2000 and 1999, the Company purchased 198,000 and 1.1 million shares, respectively, of its common stock on the open market at an average price of $41.43 and $18.29 per share, respectively. The shares are recorded at cost and are shown as a reduction of stockholders’ equity. In fiscal year 2000, the Company rescinded the repurchase program.
Stock Based Compensation Plans
Macromedia, Inc. Stock Option Plans. As of March 31, 2001, there are stock options outstanding in connection with the following stock option and purchase plans (the “Macromedia Plans”):
The options outstanding under the plans indicated at (iv), (v), (vi), (vii) and (ix) (the “Prior Plans”) above were assumed by the Company as a result of merger activities. The Company assumed certain options granted to former employees of the acquired companies (the “Acquired Options”) under these plans. All of the Acquired Options have been adjusted to give effect to the respective conversion terms between the Company and companies acquired.
The EIP and Andromedia 1999 Stock Plans provide for the grant of several types of stock based awards including, incentive and nonqualified stock options, restricted stock and stock bonuses and purchase rights. The total number of shares reserved pursuant to these plans as of March 31, 2001, was 18.1 million. Any option or purchase rights under these plans that become unexercisable, without having been exercised in full, shall become available for future grant or sale.
Under the 1993 Directors Stock Option Plan and Macromedia 1999 Stock Option Plan, 700,000 and 3.9 million shares of common stock, respectively, are reserved for grant as non-qualified stock options.
Under the ESPP, 1.2 million shares of common stock are reserved for issuance. Under the ESPP, and subject to certain limitations, employees may purchase, through payroll deductions of 2% to 15% of compensation, shares of common stock at a price per share that is the lesser of 85% of the fair market value as of the beginning of the offering period or the end of the purchase period. During the years ended March 31, 2001, 2000 and 1999, the Company issued 157,157, 84,358 and 145,826 shares under the plan at average prices of $39.17, $28.98 and $11.10 per share, respectively.
F-36
Under the Allaire 1997, 1998 and 2000 Stock Incentive Plans, the Company had reserved a total of 4.7 million shares of common stock for issuance as of March 31, 2001. The Plans provide for the granting of incentive and non-qualified stock options and stock bonus awards to officers, directors, employees and consultants of the Company, which typically vest over a period of four years. Incentive stock options may not be granted at less than the fair market value of the Company’s common stock at the date of grant and for a term not to exceed ten years.
Under the Allaire ESPP, 178,000 shares of common stock are reserved for issuance. Under the plan, and subject to certain limitations, employees may purchase, through payroll deductions of 1% to 10% of compensation, shares of common stock at a price per share that is the lesser of 85% of the fair market value as of the beginning of the offering period or the end of the purchase period.
In fiscal year 2001, the Company granted non-plan options to Company executives to purchase shares of the Company’s common stock. The options were granted with an exercise price equal to fair market value on the grant date and have terms similar to the Company’s stock option plans.
Stock options under the Macromedia Plans are generally granted at a price equal to fair market value at the time of the grant and normally vest over four years from the date of grant. The options expire 10 years from the date of grant and are normally canceled three months after an employee’s termination.
The following summarizes the stock option activity for the years ended March 31, 2001, 2000 and 1999 (in thousands, except per share amounts):
14. Stock Compensation
The Company has recorded deferred compensation or compensation expense for options issued under the Prior Plans and shockwave.com stock option plan that were issued with an exercise price less than fair value of the underlying stock at the date of grant. The fair value of the underlying common stock of shockwave.com has been determined by the Company based on factors including, but not limited to, preferred stock sales, comparisons to competitive public companies, and general market conditions. Fair value for Macromedia stock is based on the price of the Company’s common stock as traded on NASDAQ National Market. The deferred compensation portions brought over from the poolings of Andromedia and ESI were determined
F-37
based on an underlying common stock value of the respective companies, based upon their then fair market value. The Company recorded compensation expense related to stock options of approximately $6.0 million, $5.1 million and $300,000 in fiscal year 2001, 2000 and 1999, respectively.
In connection with certain content development agreements entered into in fiscal year 2000, warrants for approximately 2.8 million shares of shockwave.com common stock were issued to non-employees. Each warrant entitles the holder to purchase one share of shockwave.com common stock at $0.50 per share. The warrants are immediately exercisable and expire 10 years from the date of issuance. Under the terms of the agreements, vesting of the warrants is not contingent upon any future obligations. Furthermore, the warrant agreements do not contain any vesting clauses. The Company recorded compensation expense of approximately $6.0 million in connection with the issuance of the shockwave.com warrants. The fair value of the warrants was estimated using the Black-Scholes option-pricing model with an expected volatility of 85%, risk-free interest rate of 5.7% and contractual life of 10 years.
Pursuant to SFAS No. 123, the Company is required to disclose the pro forma effects on net income (loss) and net income (loss) per share as if the Company had elected to use the fair value approach to account for all of its employee stock-based compensation plans. Had compensation cost for the Company’s plans been determined consistently with the fair value approach enumerated in SFAS No. 123, the Company’s pro forma net income (loss) and pro forma net income (loss) per share for the years ended March 31, 2001, 2000 and 1999, would have been changed as indicated below (in thousands, except per share amounts):
The effects of applying SFAS 123 in this pro-forma disclosure are not indicative of future amounts.
The weighted-average fair value of Macromedia options granted during the years ended March 31, 2001, 2000, and 1999 were $35.90, $26.79, and $10.11, respectively. The weighted average fair value of purchase rights granted under the ESPP during the years ended March 31, 2001, 2000, and 1999, were $17.82, $17.92, and $7.53 per right, respectively.
The fair value of Macromedia options and purchase rights granted was estimated on the date of grant using the Black-Scholes option-pricing model using the following weighted average assumptions used for grants in 2001, 2000, and 1999:
F-38
The following table summarizes information about the Macromedia’s stock options outstanding as of March 31, 2001 (in thousands, except per share amounts):
15. Earnings Per Share
Basic net income per share is computed by dividing the net income applicable to common stockholders for the period by the weighted average number of common shares outstanding during the period. Diluted net income per share is computed by dividing the net income applicable to common stockholders for the period by the weighted average number of common and potentially dilutive securities outstanding during the period, to the extent such potentially dilutive securities are dilutive. Potentially dilutive securities are composed of incremental common shares issuable upon the exercise of stock options and warrants and upon conversion of Series A, B, C, D and E convertible preferred stock.
The following table sets forth the reconciliations of the numerator and denominator used in the computation of basic and diluted net income per share (in thousands, except per share data):
F-39
The following table presents potentially dilutive securities that are excluded from the diluted net income per share calculation because their effects would be antidilutive (in thousands):
16. Employee Benefits
The Company maintains a 401(k) defined contribution benefit plan that covers all employees who have attained 18 years of age and provide at least 20 hours of service per week. This plan allows employees to defer up to 15% of their pretax salary in certain investments at the discretion of the employee. Employer contributions are made at the discretion of the Company’s Board of Directors. Employer contributions made to the plan during the years ended March 31, 2001, 2000, and 1999, were $1.9 million, $812,000 and $465,000, respectively.
In addition, the Company maintains a 401(k) defined contribution plan assumed under the Allaire acquisition. All former Allaire employees over 21 are eligible under the plan and allows employees to defer up to 15% of their pretax salary. For the period from the date of consummation of the acquisition of Allaire through March 31, 2001, no contributions were made to the plan.
17. Foreign Currency Forward Contracts
The Company enters into forward contracts to reduce its exposure to foreign currency fluctuations involving probable anticipated, but not firmly committed, transactions and transactions with firm foreign currency commitments occurring in less than one year. The Company does not enter into derivative financial instruments for trading purposes.
F-40
As of March 31, 2001, the Company had forward contracts in Euro and Japanese Yen outstanding. The forward contracts are accounted for on a marked-to-market basis, with gains or losses recognized in the consolidated statements of income. As of March 31, 2001 and 2000, the contract amount of the forward contracts amounted to $10.8 million and $21.6 million, respectively. The future value of these contracts is subject to exchange rate risk resulting from foreign exchange rate volatility. Current market rates at the consolidated balance sheet dates were used to estimate the fair value of foreign currency forward contracts.
The table below provides information about the Company’s outstanding forward contracts as of March 31, 2001. The information is provided in US dollar equivalents, in thousands. The table presents the notional amount of the respective contracts and their fair value (at rates in effect as of March 31, 2001):
In the event of nonperformance by counterparties, the Company is exposed to credit loss. The Company does not anticipate nonperformance by these counterparties.
18. Related Party Transactions
During fiscal year 2001, 2000 and 1999 the Company made loans totaling $15.2 million to certain officers and other key employees in conjunction with their hiring and relocation. The notes bear interest ranging from 4.86% to 6.65% per annum and mature between 2001 and 2006.
The total loan amount outstanding as of March 31, 2001 approximated $14.5 million, which reflects payments from certain officers and key employees. As of March 31, 2001, the stated loan amounts approximated fair value.
The long-term outstanding loans are shown as related party loans on the face of the balance sheet. The remaining balance of $290,000 is included in prepaids and other current assets as the loans are short-term in nature. Of the total amount of loans outstanding as of March 31, 2001, $13.6 million are full recourse and secured by the personal properties of the related parties. These loans are due after termination of the officer or key employee if termination comes prior to the maturity date of the loan. The principal and accrued interest are due in full on the maturity dates of these loans. As of March 31, 2001, the Company had accrued interest of $474,000 relating to the loans.
The remaining balance is comprised of approximately $420,000 in unsecured loans to certain key employees. These agreements are entered into as part of the Company’s recruiting efforts.
In addition, the Company has accounts receivable due from AtomShockwave in the amount of $2.6 million. These receivables represent trade payables that the Company has paid on behalf of AtomShockwave, fees for professional services provided to AtomShockwave by the Company’s employees, and royalty receivables due based on existing agreements between AtomShockwave and the Company. As of March 31, 2001, the Company has deferred $1.5 million of revenue related to royalties due based on existing agreements between AtomShockwave and the Company and will recognize this revenue on a 90-day lag, consistent with the equity method of accounting for AtomShockwave.
F-41
19. Segment Reporting and Geographic Information
At March 31, 2001, the Company operated in one business segment, the Software segment. The Company’s Software segment develops software that creates Web site layout, graphics and rich media content for Internet users. Prior to fourth quarter of fiscal year 2001, the Company’s operations consisted of a second business segment, shockwave.com, which designs, develops and markets aggregated content to provide online entertainment on the Web (see Note 11). The Company’s chief executive officer is the chief operating decision maker (the “CODM”). The CODM evaluates operating segment performance based on net revenues and total operating expenses of the segment. The operating segments’ accounting policies are substantially the same as those described in the summary of accounting policies (see Note 2). The Company had intersegment transactions of $2.2 million for the year ended March 31, 2001 and none in the years ended March 31, 2000 and 1999. These intersegment transactions represent royalty revenues paid by shockwave.com. Segment data for the years ended March 31, 2001, 2000 and 1999 are shown in the following (in thousands):
F-42
Operating income for the periods shown is reconciled to the consolidated net income before taxes as follows (in thousands):
As of March 31, 2001, the Company was in the initial stages of integration activities with the Allaire acquisition and was evaluating the effect on its organizational and financial reporting structures.
The Company’s operations outside the United States consist of sales offices in Japan, the United Kingdom, the Netherlands, France, Germany, Sweden, Belgium, Republic of Korea, and Canada that are wholly owned subsidiaries and a branch in Australia, and representative offices in Hong Kong and Singapore. Domestic operations are responsible for the design and development of all products, as well as shipping to meet worldwide customer commitments. The foreign sales offices receive a commission on sales within their territory. Accordingly, for financial statement purposes, it is not meaningful to segregate operating profit (loss) for the foreign sales offices. Revenues are attributed to region based on the location of the customer. Outside of the United States, no other individual country contributed more than 10% of total revenues for the years ended March 31, 2001, 2000, and 1999. Additionally, other than the United States, no individual country’s assets comprised more than 10% of total assets as of March 31, 2001, 2000, and 1999.
The distribution of net revenues and identifiable assets by geographic areas for the years ended March 31, 2001, 2000 and 1999 are as follows (in thousands):
20. Commitments and Contingencies
Restricted Cash. The Company has non-current cash of approximately $9.2 million, the use of which is restricted. The restrictions on these funds involve security deposits on a lease of real property located in San
F-43
Francisco that is currently under construction. These funds cannot be withdrawn without the written consent of the landlord or until the security deposit is reduced pursuant to the terms of the contract. The Company has entered into a 20-year lease agreement for this property. Under the provisions of the lease, the Company is not obligated to the landlord until the landlord has obtained all necessary permits and substantially completed construction of the building. The Company is committed to a portion of the construction costs surrounding this project should the necessary permits and financing occur.
Royalties. The Company has entered into agreements with third parties that provide for royalty payments based on a per unit wholesale price of certain products or other agreed-upon terms. Future minimum royalty payments for the years ending March 31, 2002, 2003, 2004 and 2005 are $2.6 million, $1.9 million, $1.1 million and $143,000, respectively. The Company has rights to future upgrades on certain licenses.
Leases. The Company leases office space and certain equipment under operating leases, certain of which contain renewal and purchase options. In addition, the Company subleases certain office space that is not currently occupied by the Company.
Future minimum payments under operating leases with an initial term of more than one year and future minimum sublease income are summarized as follows (in thousands):
Rent expense was $15.3 million, $7.4 million, and $4.5 million for the years ended March 31, 2001, 2000, and 1999, respectively. For the years ended March 31, 2001, 2000 and 1999, sublease income was $3.2 million, $3.0 million and $2.9 million, respectively.
Legal. On July 31, 1997, a complaint entitled Rosen et al. v. Macromedia, Inc. et al., (Case No. 988526) was filed in the Superior Court for San Francisco, California. The complaint alleges that Macromedia and five of its former officers and directors engaged in securities fraud in violation of California Corporations Code Sections 25400 and 25500 by seeking to inflate the value of Macromedia stock by issuing statements that were allegedly false or misleading (or omitted material facts necessary to make any statements made not false or misleading) regarding the Company’s financial results and prospects. Four similar complaints by persons seeking to represent the same class of purchasers subsequently have been filed in San Francisco Superior Court, and have been consolidated for pre-trial purposes with Rosen. Defendants filed demurrers to the complaint and other motions, which were argued on December 9, 1997 and January 5, 1998. Before the demurrers could be heard, one defendant, Richard Wood, died in an automobile accident. In March 1998, the Court sustained the demurrers as to claims against Susan Bird and overruled the demurrers as to Macromedia, John Colligan, James Von Ehr, II, and Kevin Crowder. In May 1999, the Court granted plaintiffs’ motion for certification of a class of all persons who purchased Macromedia’s common stock from April 18, 1996 through January 9, 1997. Discovery proceedings are in process but a substantial portion has been completed and a jury trial has been set for November 2001. The consolidated complaint seeks damages in unspecified amounts, as well as other forms of relief. Although the Company is not able to predict the outcome of the litigation, Macromedia intends to vigorously defend the action.
F-44
On August 10, 2000, Adobe Systems, Inc. (“Adobe”) filed suit against us in the United States District Court for the District of Delaware (Case No. 00-743-JJF). On September 18, 2000, Adobe filed a first amended complaint in the same action. In the first amended complaint, Adobe alleges that certain Macromedia products infringe U.S. Patents Nos. 5,546,528 and 6,084,597. On September 27, 2000, Macromedia answered the first amended complaint by denying the allegations and filing counterclaims against Adobe seeking a declaration that Adobe’s patents are invalid and unenforceable, and alleging infringement of three Macromedia patents. In particular, Macromedia alleges infringement of U.S. Patent No. 5,467,443 by at least the Adobe Illustrator product and U.S. Patents Nos. 5,151,998 and 5,204,969 by the Adobe Premiere product. On October 17, 2000, Adobe filed its answer denying the allegations in Macromedia’s counterclaims. Each party is requesting monetary damages for infringement of its patents and an injunction against future infringement. Further, each party is seeking a court declaration that it is not infringing the other party’s patents, that the other parties’ patents are invalid and an award of attorneys’ fees. Discovery has begun in this matter, and trial is currently set for April 2002. Although the Company is not able to predict the outcome, Macromedia intends to vigorously defend the matter.
On or after September 25, 2000, Allaire Corporation (“Allaire”), prior to its acquisition by Macromedia, and individuals who were serving as officers or directors of Allaire during the periods covered by the complaints, were named as defendants in eleven virtually identical lawsuits filed in the United States District Court for the District of Massachusetts: (i) Krakauer v. Allaire Corporation, Joseph J. Allaire, Jeremy Allaire, David A. Gerth and David J. Orfao, Civil Action No. 00-11972-WGY; (ii) Dargenzio v. Allaire Corporation, Joseph J. Allaire, Jeremy Allaire, David A. Gerth and David J. Orfao, Civil Action No. 00-11973-WGY; (iii) Gordon v. Allaire Corporation, Joseph J. Allaire, Jeremy Allaire, David A. Gerth and David J. Orfao, Civil Action No. 00-11974-WGY; (iv) Large v. Allaire Corporation, Joseph J. Allaire, Jeremy Allaire, David A. Gerth and David J. Orfao, Civil Action No. 00-11986 -WGY; (v) DiMaggio v. Allaire Corporation, Joseph J. Allaire, Jeremy Allaire, David A. Gerth and David J. Orfao, Civil Action No. 00-11996-WGY; (vi) Knorr v. Allaire Corporation, Joseph J. Allaire, Jeremy Allaire, David A. Gerth and David J. Orfao, Civil Action No. 00-12014-WGY; (vii) Jarvis v. Allaire Corporation, Joseph J. Allaire, Jeremy Allaire, David A. Gerth and David J. Orfao, Civil Action No. 00-12016-WGY; (viii) Cordeiro v. Allaire Corporation, Joseph J. Allaire, Jeremy Allaire, David A. Gerth and David J. Orfao, Civil Action No. 00-12158-WGY; (ix) Fisher v. Allaire Corporation, Joseph J. Allaire, Jeremy Allaire, David A. Gerth and David J. Orfao, Civil Action No. 00-12182-WGY; (x) Crippin v. Allaire Corporation, Joseph J. Allaire, Jeremy Allaire, David A. Gerth and David J. Orfao, Civil Action No. 00-12333-WGY; and (xi) Reagor v. Allaire Corporation, Joseph J. Allaire, Jeremy Allaire, David A. Gerth and David J. Orfao, Civil Action No. 00-12377-WGY (collectively, the “initial complaints”). Each of the plaintiffs in each of the actions purport to bring their complaint on behalf of all purchasers of Allaire Corporation stock during an alleged class period (July 20, 2000 and September 18, 2000). The plaintiffs claim that the defendants violated Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, and SEC Rule 10b-5, by virtue of statements that the plaintiffs claim were materially false or misleading. Plaintiffs seek damages, interest, costs, and attorneys’ fees. On December 5, 2000, Chief Judge Young of the District of Massachusetts entered an order consolidating these initial cases as In re: Allaire Corporation Securities Litigation, Case No. 00-CV-11972(WGY). The order appointed lead plaintiffs for the class and permitted them to file a consolidated complaint, to be treated as if it were the original complaint in the consolidated actions. The consolidated complaint was filed on February 20, 2001.
On April 11, 2001, after Allaire was merged into Macromedia, a twelfth complaint was filed, Kassin v. Allaire Corporation, Joseph J. Allaire, Jeremy D. Allaire, David A. Gerth, and David J. Orfao, Civil Action No. 01-10600 -WGY (the “subsequent complaint”). This complaint, filed on behalf of the plaintiff (and not a class), contains substantially the same allegations as the initial complaints, but in addition asserts claims for common law fraud and negligent misrepresentation.
F-45
The defendants intend to file a motion to dismiss the consolidated initial complaints and the subsequent complaint. The litigation is in its early stages, and the Company is not able to predict the outcome of the litigation at this time, but the Company intends to defend all of these claims vigorously.
The Company intends to defend all of the above noted claims vigorously. It is reasonably possible the Company may incur a loss upon conclusion of these claims, an estimate of any loss or range of loss cannot be made, and the Company believes, based on information it presently possesses, that the conclusion of these claims will not have a material adverse effect on the Company’s consolidated financial position. However, there can be no assurance that an adverse judgment, if granted on any claim would not have a material adverse effect on the Company’s business, consolidated financial position or consolidated results of operations.
21. Subsequent Events
Restructuring. In April 2001, the Company began executing a restructuring and cost containment plan delivering cost synergies associated with the Allaire acquisition and aligning its cost structure with the weaker business environment. In connection with the restructuring, the Company terminated approximately 200 employees, primarily in the sales and marketing and general and administrative functions, and as a result, incurred employee termination costs such as severance benefits. In addition, the Company will incur additional charges associated with vacating certain facilities and potential asset write-offs. The Company expects to record these charges beginning in the first quarter of fiscal year 2002.
Option Exchange. On May 4, 2001, the Company announced an offer for existing stock option holders to exchange outstanding stock options for new options to be granted in excess of six months and one day from the date the offer expires, which is June 4, 2001 (the “Option Exchange”). Under the terms of the Option Exchange, option holders will receive an equal number of options for those they elected to exchange sometime between December 5, 2001 and January 21, 2002 with exercise prices at the then fair market value. Options that were granted and are outstanding under the Macromedia, Inc. 1992 Equity Incentive Plan, the Macromedia, Inc. 1999 Stock Option Plan and the Andromedia, Inc. 1999 Stock Plan, along with some non-plan option grants that were originally granted by Macromedia, will be eligible under the Option Exchange. In addition, the vesting period of options exchanged in connection with the Option Exchange will remain the same as the original grant, with time between the cancel date and the replacement grant date under the Option Exchange included in the vesting term. The Company will not incur any financial statement impact as a result of the initial cancellation upon acceptance of the Option Exchange, but may incur potential dilution of income per share upon the subsequent issuance of options in the December 2001 and January 2002 time frame.
AtomShockwave Restructuring. On June 1, 2001, the Company’s equity investee, AtomShockwave, announced that it would be laying off the majority of its workforce and closing several offices in conjunction with a planned restructuring.
F-46
22. Quarterly Results and Stock Market Data (unaudited)
Summarized quarterly financial information for fiscal years 2001 and 2000 is as follows (in thousands, except per share data):
The Company has not paid cash dividends and has no present plans to do so. There were 453 stockholders of record as of May 8, 2001, excluding stockholders whose stock is held in nominee or street name by brokers.
F-47
F-48
EXHIBIT 21.01
LIST OF REGISTRANT’S SUBSIDIARIES
F-49
EXHIBIT 23.01
CONSENT OF INDEPENDENT AUDITORS
We consent to incorporation by reference in the registration statements (Nos. 333-92233, 333-89247, 333-64141, 333-57708, 333-44016, 333-39285, 333-24713 and 333-08435) on Form S-8 of Macromedia, Inc. of our reports dated April 27, 2001, except for note 21, which is as of June 1, 2001, relating to the consolidated balance sheets of Macromedia and subsidiaries as of March 31, 2001, and 2000, and the related consolidated statements of income, stockholders’ equity, and cash flows for each of the years in the three-year period ended March 31, 2001, and the related financial statement schedule, which reports appear in the March 31, 2001, annual report on Form 10-K of Macromedia, Inc.
F-50
EXHIBIT INDEX