June
28 , 2000
QUALITY
SYSTEMS INC (QSII) Annual Report (SEC form 10-K)
Item
7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS.
Except for the historical information contained herein, the
matters discussed in this Annual Report on Form 10-K, including
discussions of the Company's product development plans, business
strategies and market factors influencing the Company's results,
are forward-looking statements that involve certain risks and
uncertainties. Actual results may differ from those anticipated
by the Company as a result of various factors, both foreseen and
unforeseen, including, but not limited to, the Company's ability
to continue to develop new products and increase systems sales
in markets characterized by rapid technological evolution, consolidation,
and competition from larger, better capitalized competitors. Many
other economic, competitive, governmental and technological factors
could impact the Company's ability to achieve its goals, and interested
persons are urged to review the risks described in "Item 1. Business.
Risk Factors." and in "Management's Discussion and Analysis of
Financial Condition and Results of Operations." set forth below,
as well as in the Company's other public disclosures and filings
with the Securities and Exchange Commission.
The following discussion should be read in conjunction with, and
is qualified in its entirety by, the Consolidated Financial Statements
and related notes thereto included elsewhere herein. Historical
results of operations, percentage margin fluctuations and any
trends that may be inferred from the discussion below are not
necessarily indicative of the operating results for any future
period.
RESULTS OF OPERATIONS.
The following table sets forth for the periods
indicated the percentage of net revenues represented by each item
in the Company's Consolidated Statements of Operations.
Year Ended March 31,
---------------------------
2000 1999 1998
------- ------- -------
Net Revenues: Sales of computer systems,
upgrades and supplies 52.9% 55.8% 64.9%
Maintenance and other services 47.1 44.2 35.1
------- ------- -------
100.0 100.0 100.0
Cost of Products and Services 45.1 46.8 43.3
------- ------- -------
Gross Profit 54.9 53.2 56.7
Selling, General and Administrative Expenses 34.8 39.9 40.0
Research and Development Costs 10.2 10.7 9.8
Purchased In-Process Research and Development - - 32.7
------- ------- -------
Income (Loss) from Operations 9.9 2.6 (25.8)
Investment Income 2.1 1.2 3.1
------- ------- -------
Income (Loss) before Provision
for (Benefit from) Income Taxes 12.0 3.8 (22.7)
Provision for (Benefit from) Income Taxes 5.1 2.1 (7.9)
------- ------- -------
Net Income (Loss) 6.9% 1.7% (14.8)%
======= ======= =======
FOR THE YEARS ENDED MARCH 31, 2000 AND 1999.
For
the year ended March 31, 2000, the Company's net income was $2,504,000
or $0.40 per share on a basic and diluted basis. In comparison,
the company earned $584,000 or $0.09 per share on a basic and
diluted basis in the year ended March 31, 1999. The increase in
net income was achieved through a combination of an increase in
revenue from software systems sales, maintenance, and other services
along with a reduction in selling, general and administrative
expenses. Selling, general and administrative expenses declined
due to the integration of the Company's two subsidiaries, Clinitec
and Micromed. For the year ended March 31, 2000, revenue increased
7.6% to $36.4 million compared to $33.8 million in the year ended
March 31, 1999. Selling, general and administrative expenses declined
6.3% to $12.6 million in the year ended March 31, 2000 compared
to $13.5 million in the year ended March 31, 1999.
Net Revenues. Net revenues for the year ended March 31, 2000 increased
7.6% to $36.4 million from $33.8 million for the year ended March
31, 1999. Sales of computer systems, upgrades and supplies increased
2.0% to $19.2 million from $18.9 million while net revenues from
maintenance and other service grew 14.6% to $17.1 from $14.9 million
during comparable periods. The increase in net revenues from sales
of computer systems, upgrades and supplies was principally due
to increased sales of the Company's Clinical Product Suite, NextGen-epm
and NextGen-emr products offset by a decrease in sales of Legacy
systems. The increase in maintenance and other services net revenue
resulted primarily from the Company's increased client base together
with an increase in revenues generated from the Company's electronic
data interchange services. Revenue from the Company's electronic
data interchange services increased 37.6% to $3.8 million for
the year ending March 31, 2000 compared to $2.8 million in the
year ending March 31, 1999.
Cost of Products and Services. Cost of products and services for
the year ended March 31, 2000 increased 3.5% to $16.4 million
from $15.8 million for the year ended March 31, 1999 while the
cost of products and services as a percentage of net revenues
decreased to 45.1% compared to 46.8% during the comparable periods.
The decrease in cost of products and services as a percentage
of net revenues resulted from a combination of: the effects of
the increase of maintenance and other services revenues, a change
in the mix of new systems sales toward systems with lower hardware
content, a leveling out of product development, customer service,
support and training costs, and an increase in the cost of electronic
data interchange services. In the year ended March 31, 2000, the
Company was able to leverage its existing infrastructure on to
a higher level of computer systems, upgrades and supplies sales.
This contributed to the reduction in cost of products and services
as a percentage of revenue during the year ended March 31, 2000.
Also, new computer systems sales in the year ended March 31, 2000
had a lower level of hardware content compared to the year ended
March 31, 1999. System sales without significant hardware components
generally yield higher margins than those systems sales with a
higher level of hardware content. The mixture of sales with and
without significant hardware components fluctuates from period
to period. The effect of the mentioned items was slightly offset
by an increase in revenue from electronic data interchange services
which yield a lower margin than other products and services.
Selling, General and Administrative. Selling, general and administrative
expenses for the year ending March 31, 2000 decreased 6.3% to
$12.6 million from $13.5 million.
The decrease in selling, general and administrative expenses was
primarily the result of the integration of Clinitec and Micromed
along with a reduction in bad debt expense for the year ended
March 31, 2000 compared to the year ended March 31, 1999.
Selling, general and administrative expenses as a percentage of
net revenue declined to 34.8% for the year ended March 31, 2000
compared to 39.9% in the year ended March 31, 1999. The decline
in selling, general and administrative expenses as a percentage
of net revenue was due to the decrease in selling, general and
administrative expense along with the increase in revenue described
above.
Research and Development Costs. Research and development costs
for the year ended March 31, 2000 increased 3.4% to $3.7 million
from $3.6 million for the year ended March 31, 1999. The increase
is the result of increased research and development efforts by
Clinitec and Micromed. Research and development costs as a percentage
of net revenues decreased to 10.2% as compared to 10.7% for the
respective fiscal years as a result of the effect of costs associated
with the increased research and development efforts growing at
a proportionately lower rate than net revenues during the comparable
years.
Investment Income. Investment income for the year ended March
31, 2000 increased 83.8% to $759,000 from $413,000 for the year
ended March 31, 1999. During the year ended March 31, 1999, the
Company liquidated certain investments and incurred a loss of
$241,000. Also contributing to the comparative increase in investment
income was an increase in average funds available for investment
during the year ended March 31, 2000.
Provision for (Benefit from) Income Taxes. The provision for income
taxes for the year ended March 31, 2000 was $1,862,000 as compared
to $713,000 for the year March 31, 1999. The provision for income
taxes for the years ended March 31, 2000 and 1999 respectively,
differ from the combined statutory rates primarily due to the
effect of varying state tax rates together with the impact of
non-deductible amortization of certain intangible assets acquired
in the May 1996 acquisition of Clinitec.
FOR THE YEARS ENDED MARCH 31, 1999 AND 1998.
For
the year ended March 31, 1999, the Company's net income was $584,000,
or $0.09 per share on a basic and diluted basis. In comparison,
after recognizing a $10.2 million charge for purchased in-process
research and development in connection with the MicroMed acquisition,
the Company incurred a net loss of $(4.6) million, or $(0.77)
per share on a basic and diluted basis, for the year ended March
31, 1998. Excluding the charge, net of the related income tax
benefit, net income for the year ended March 31, 1998 would have
been $1.7 million, or $0.29 per share and $0.28 per share on a
basic and diluted basis, respectively.
Net Revenues. Net revenues for the year ended March 31, 1999 increased
8.3% to $33.8 million from $31.2 million for the year ended March
31, 1998. Sales of computer systems, upgrades and supplies decreased
6.9% to $18.9 million from $20.3 million while net revenues from
maintenance and other services grew 36.5% to $14.9 million from
$10.9 million during the comparable periods. The decrease in net
revenues from sales of computer systems, upgrades and supplies
was principally due to the impact of adopting SOP 97-2 as of April
1, 1998 resulting in the deferral of certain revenues from system
contracts executed and shipped during the year ended March 31,
1999 combined with the effect of a slight decrease in new system
sales during fiscal 1999. The increase in maintenance and other
services net revenue resulted principally from an increase in
revenues from the Company's increased client base together with
an increase in revenues generated from the Company's electronic
data interchange services.
Cost of Products and Services. Cost of products and services for
the year ended March 31, 1999 increased 17.2% to $15.8 million
from $13.5 million for the year ended March 31, 1998 while cost
of products and services as a percentage of net revenues increased
to 46.8% from 43.3% during the comparable periods. The increase
in cost of products and services in amount during the 1999 fiscal
year as compared to the 1998 fiscal year resulted from a combination
of the effects of: the increase in maintenance and other service
revenues; increased product development, customer service, support,
and training personnel at both Clinitec and MicroMed during the
1999 fiscal year; a change in the mix of new systems sales toward
systems with higher hardware content in the fiscal 1999 year;
and, the impact of the acquisition of MicroMed. The increase in
the cost of products and services as a percentage of net revenues
for the year ended March 31, 1999 as compared to the year ended
March 31, 1998 resulted primarily from a combination of the overall
increase in the costs associated with the above-described infrastructure
expansion growing at a proportionately greater rate on a year
to year basis than the growth in net revenues together with an
increase in the percentage of revenues from new systems sales
with higher hardware content. Systems sales with significant hardware
components generally yield lower margins than those systems sales
without significant hardware components. The mixture of sales
with and without significant hardware components fluctuates from
period to period.
Selling, General and Administrative Expenses. Selling, general
and administrative expenses for the year ended March 31, 1999
increased 8.1% to $13.5 million from $12.5 million for the year
ended March 31, 1998 primarily as a result of: the inclusion of
such MicroMed expenses for the entire year ended March 31, 1999
as compared to the inclusion of such MicroMed expenses for only
that portion of the corresponding year ended
March 31, 1998 following the May 1997 MicroMed acquisition; an
additional $236,000 provision for doubtful accounts relating to
one of MicroMed's customers; an increase in Clinitec's and MicroMed's
selling efforts, sales personnel and administrative infrastructure
offset in part by a decrease in such infrastructure at QSI. In
addition, primarily as a result of the less mature Clinitec and
MicroMed infrastructures, selling, general and administrative
expenses as a percentage of net revenues remained relatively unchanged
at 39.9% and 40.0% for the respective years despite an increase
in net revenues.
Research and Development Costs. Research and development costs
for the year ended March 31, 1999 increased 17.3% to $3.6 million
from $3.1 million for the year ended March 31, 1998. The increase
is the result of increased research and development efforts by
Clinitec and MicroMed as well as consolidation of MicroMed's research
and development costs for the entire 1999 fiscal year as compared
to consolidating such expenses only for that portion of the corresponding
1998 fiscal year following the May 1997 purchase of the MicroMed
business. Research and development costs as a percentage of net
revenues increased to 10.7% as compared to 9.8% for the respective
fiscal years as a result of the effect of costs associated with
the increased research and development efforts growing at a proportionately
greater rate than net revenues during the comparable years.
Purchased In-Process Research and Development. In connection with
the acquisition of MicroMed in May 1997, the purchase price allocated
to in- process research and development for which technological
feasibility had not been established was $10.2 million. In accordance
with Statement of Financial Accounting Standards No. 86, "Accounting
for the Costs of Computer Software to be Sold, Leased or Otherwise
Marketed," software development costs must be expensed until technological
feasibility has been established. Accordingly, the purchase price
allocated to MicroMed's purchased in-process research and development
was expensed during the year ended March 31, 1998. There was no
similar acquisition transaction during the year ended March 31,
1999.
Investment Income. Investment income for the year ended March
31, 1999 decreased 57.5% to $413,000 from $971,000 for the year
ended March 31, 1998. The Company had an investment in a fund
which traded in special situation securities. During the year
ended March 31, 1999, the investment was liquidated and the Company
incurred a loss of $241,000 after recognizing an unrealized gain
of $120,000 during fiscal 1998 relating to this investment. Over
the life of this investment, the Company incurred a net gain of
$22,000 in connection therewith. Also contributing to the change
in investment income for the fiscal 1999 year as compared to the
fiscal 1998 year was a decrease in average funds available for
investment during the year ended March 31, 1999. The decrease
in available funds is primarily the result of the timing and amounts
of the cash payments in May 1997 and June 1998 made to acquire
MicroMed, together with amounts used to fund the growth of Clinitec
and MicroMed.
Provision for (Benefit from) Income Taxes. The provision for income
taxes for the year ended March 31, 1999 was $713,000 as compared
to a benefit of $2.5 million for the year ended March 31, 1998.
The provision for and benefit from income taxes for the years
ended March 31, 1999 and 1998, respectively, differ from the combined
statutory rates primarily due to the effect of varying state tax
rates together with the impact of non- deductible amortization
of certain intangible assets acquired in the May 1996 acquisition
of Clinitec.
LIQUIDITY AND CAPITAL RESOURCES.
Cash
and cash equivalents increased $1.7 million in the year ended
March 31, 2000 after declining by $1.9 million and $5.7 million
in the years ended March 31, 1999 and March 31, 1998, respectively.
The large decreases in cash and cash equivalents in fiscal 1998
and 1997 were as a result of payments made in connection with
the Clinitec and MicroMed acquisitions.
Net cash provided by operating activities was $3.6 million, $3.3
million and $2.2 million for the years ended March 31, 2000, 1999
and 1998, respectively. Net cash provided by operations for the
year ended March 31, 2000 consisted principally of net income
before depreciation and amortization and increases in deferred
service revenue, offset by an increase in accounts receivable
and a decrease in accounts payable. Net cash provided by operations
for the year ended March 31, 1999 consisted primarily of the Company's
net loss adjusted for the principal non-cash operating expenses
of depreciation, amortization and the $10.2 million charge for
purchased in-process research and development incurred in connection
with the acquisition of MicroMed together with increases in deferred
service revenue and other current liabilities offset in part by
an increase in accounts receivable and deferred income tax benefits.
The increase in accounts receivable during each of the fiscal
years resulted primarily from increased sales and the timing of
sales in each period.
Net cash used in investing activities was $1.8 million, $5.1 million
and $7.8 million for the years ended March 31, 2000, 1999 and
1998, respectively. Net cash used in investing activities for
the year ended March 31, 2000 was principally composed of investments
in capitalized software and fixed assets. Net cash used in investing
activities for the years ended March 31, 1999 and 1998 was principally
impacted by the $3.8 million and $5.3 million, respectively, paid
in connection with the MicroMed acquisition. Net cash used for
additions to equipment, improvements and capitalized software
for the years ended March 31, 2000, 1999 and 1998 were $1.7 million,
$1.7 million and $2.7 million respectively. There were no material
short-term investment sales or purchases during the years ended
March 31, 2000 and 1998. Net cash used in investing activities
for the year ended March 31, 1999 were offset in part by cash
provided from net sales of short-term investments of $467,000.
Net cash used in financing activities for the years ended March
31, 2000 and 1999 was $85,000 and $197,000, respectively, which
includes $111,000 and $247,000 used in each fiscal year to repurchase
17,400 shares and 40,100 shares, respectively, of the Company's
Common Stock. Net cash provided by (used in) financing activities
for the years ended March 31, 2000, 1999 and 1998 also includes
the proceeds from the exercise of employee stock options.
The Company has no significant capital commitments and currently
anticipates that additions to equipment and improvements for fiscal
2001 will be comparable to fiscal 2000.
At March 31, 2000, the Company had cash and cash equivalents of
$15.9 million and short-term investments of $243,000. The Company
believes that its cash and cash equivalents and short-term investments
on hand at March 31, 2000, together with the cash flows from operations,
if any, will be sufficient to meet its working capital and capital
expenditure requirements for the next year.
INTRODUCTION.
The
Company is aware of issues associated with the programming code
in existing computer systems as the millennium approaches. In
particular, software applications that use only two digits to
identify a year in the date field may fail or create errors in
the year 2000 ("Year 2000 Issues"). Year 2000 Issues create risk
for the Company from unforeseen problems in computer systems that
the Company sells to customers on a nationwide basis which are
used, among other things, to process their financial transactions
and schedule patients ("Company Products"), as well as systems
that the Company uses internally to provide certain services to
its customers and to process its own financial transactions ("Internal
Use Systems"). The potential costs and uncertainties associated
with Year 2000 Issues will depend upon a number of factors, including
the Company's proprietary and third party developed software,
hardware (hardware and third party developed software will hereinafter
be referred to collectively as "Third Party Products") and the
nature of the industry in which the Company operates.
Company Products and Third Party Products sold by the Company
may fail to operate properly or as expected due to Year 2000 Issues.
Such failures could result in system failures or miscalculations
causing disruptions of customers' operations, including among
other things, an inability to process transactions, send invoices,
conduct communications, schedule and treat patients or engage
in similar normal business activities. Further, products and services
used by the Company's customers, but not supplied by the Company,
could fail to operate properly or as expected due to Year 2000
Issues. Customers' efforts to plan for such events could result
in the deferral, delay or cancellation by customers of current
installations of and plans to purchase systems from the Company.
Similarly, Internal Use Systems, including both information systems
and non-information systems, may not operate properly or as expected
due to Year 2000 Issues. Year 2000 Issues could result in system
failures or miscalculations causing disruption of the Company's
operations, including among other things, an inability to process
its own and certain of its customers financial transactions, send
invoices, conduct communications, or engage in similar normal
business activities.
The Company cannot be sure that Year 2000 Issues will not affect
its business. Thus far, the Company has incurred no materially
adverse problems related to Year 2000 Issues associated with the
computer systems, software, other property and equipment we use.
However, the Company cannot guarantee that Year 2000 Issues will
not adversely affect its business, operating results or financial
condition at some point in the future.
STATE OF READINESS.
The
Company has undertaken various initiatives intended to address
Year 2000 Issues. The Company has identified individuals and/or
working groups to (1) develop and implement the Company's definition
of Year 2000 readiness; (2) assess Company Products, Third Party
Products and Internal Use Systems for possible Year 2000 Issues;
(3) monitor development, testing and remediation efforts with
respect to Company Products, Third Party Products and Internal
Use Systems; (4) monitor and coordinate the Company's deployment
plans and results with respect to Year 2000 releases of Company
Products, Third Party Products and Internal Use Systems; and,
(5) develop contingency plans with respect to Company Products,
Third Party Products and Internal Use Systems. Although the Company's
efforts to address Year 2000 Issues do not fall precisely into
sequential phases, generally these efforts are comprised of an
assessment phase, a development phase (only with respect to Company
Products and certain proprietary Internal Use Systems), a deployment
or remediation phase, and a contingency planning phase.
Company Products. The NextGen Suite of Applications and CPS are
designed to be Year 2000 compliant and contain no known Year 2000
Issues when configured and used in accordance with the related
documentation, and provided that the underlying operating system
of the host machine and any other software used with or in the
host machine are also Year 2000 compliant. However, there can
be no assurance that such products do not contain undetected errors
or defects associated with Year 2000 Issues.
The Company's Legacy Product has required significant development
and remediation efforts in connection with Year 2000 Issues with
many of these efforts commencing in 1997. The Company completed
its development efforts in connection with Year 2000 Issues associated
with the Legacy Product and certain associated ancillary products
during calendar 1999. Also during calendar 1999, the Company completed
deployment of Version 9 of its Legacy Product which has been designed
to be Year 2000 compliant.
Third Party Products Sold by the Company. The Company works closely
with vendors of significant Third Party Products sold by the Company
and has communicated with them to determine the extent to which
their products and services are, or will be, Year 2000 compliant.
In addition, Company Products have been tested, and the Company
plans to continue testing Company Products, with certain Third
Party Products. Based upon its current assessments, the Company
believes that it has received adequate assurances that significant
Third Party Product vendors expect to successfully address their
significant identified Year 2000 Issues on a timely basis. Due
to uncertainties associated with Third Party Product vendors,
the Company is unable to predict whether a material adverse effect
on the Company's business, results of operations and financial
condition may result form Year 2000 Issues related to Third Party
Products despite the Company's current assessment to the contrary.
Internal Use Systems. Based upon the Company's assessment efforts
to date, the Company believes that its critical Internal Use Systems
are Year 2000 compliant.
Certain of the Internal Use Systems are proprietary and were developed
by the Company. Company personnel have used similar techniques
to identify Year 2000 issues with its Company Products and proprietary
Internal Use Systems.
The proprietary Internal Use Systems have either been modified
by Company personnel or replaced with third party developed systems
which the Company believes will not fail as a result of Year 2000
Issues. The Company has communicated with developers and/or vendors
of certain of its third party developed Internal Use Systems to
determine the extent to which those products and services are
Year 2000 compliant. Based upon its current assessments, the Company
believes that it has received adequate assurances that critical
third party developed Internal Use Systems are Year 2000 compliant.
Contingency Plans. The Company is currently engaged in contingency
planning to address company-wide personnel, resource, technical
and communication matters in connection with foreseeable scenarios
that may develop from Year 2000 Issues despite the Company's remediation
efforts. The Company expects that its development, remediation,
testing, deployment and contingency planning efforts with respect
to Company Products, Third Party Products and Internal Use Systems
will continue up to and beyond March 31, 2000. The Company's contingency
planning includes possible (1) failure by the Company and its
vendors to complete efforts to avoid or minimize the impact of
Year 2000 Issues on a timely basis; (2) failure of customers to
be ready for, or cooperate with, the deployment of Year 2000 compliant
Company Products on a timely basis; and, (3) delay, deferral or
cancellation by customers of current installations and prospective
purchase decisions with respect to Company Products. A reasonably
likely "worst case" scenario has not yet been identified, but
it is anticipated that such scenario would include the failure
of significant communications and computing infrastructures by
the Company, its customers and its suppliers together with failures
of infrastructures encompassing utilities, transportation, banking
and government.
COSTS.
The
total cost to address the Company's Year 2000 Issues were not
material to the Company's financial condition. The Company does
not separately track all of its internal personnel costs incurred
in connection with identifying and resolving Year 2000 Issues.
Excluding internal costs, total expenditures to address Year 2000
Issues were less than $100,000. All of these expenditures have
been funded from operations.
Item 7A. QUALITATIVE AND QUANTITATIVE DISCLOSURES ABOUT MARKET
RISK.
Not Applicable.
Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
The Financial Statements of the Company identified in the Index
to Financial Statements appearing under "Item 14. Exhibits, Financial
Statement Schedules, and Reports on Form 8-K." of this report
are incorporated herein by reference to Item 14.
Item 9. CHANGES IN AND DISAGREEMENTS WITH
ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE.
None.
