| SELECTICA INC Item 1A Risk Factors Set forth below and elsewhere in this annual report on Form 10-K and in the other documents we file with the SEC are risks and uncertainties that could cause actual results to differ materially from the results contemplated by the forward-looking statements contained in this annual report on form 10-K |
| Prospective and existing investors are strongly urged to carefully consider the various cautionary statements and risks set forth in this annual report and our other public filings |
| We have a history of losses and expect to continue to incur net losses in the near-term |
| We have experienced operating losses in each quarterly and annual period since inception |
| We incurred net losses of approximately dlra17dtta5 million, dlra14dtta7 million, and dlra8dtta8 million for the fiscal years ended March 31, 2006, 2005, and 2004, respectively |
| We had an accumulated deficit of approximately dlra190dtta1 million as of March 31, 2006 |
| We will continue to align research and development, sales and marketing, and general and administrative expenses in absolute dollars over the next year as necessary to balance expense levels with projected revenues |
| We will need to generate significant increases in our revenues to achieve and maintain profitability |
| If our revenue fails to grow or grows more slowly than we anticipate or our operating expenses exceed our expectations, our losses will significantly increase which would significantly harm our business and operating results |
| Our quarterly revenues and operating results are inherently unpredictable and subject to fluctuations, and as a result, we may fail to meet the expectations of security analysts and investors, which could cause volatility or adversely affect the trading price of our common stock |
| We enter into arrangements for the sale of: (1) licenses of software products and related maintenance contracts; (2) bundled license, maintenance, and services; (3) services; and (4) subscription for on-demand 16 _________________________________________________________________ [68]Table of Contents services |
| In instances where maintenance is bundled with a license of software products, such maintenance term is typically one year |
| For each arrangement, we determine whether evidence of an arrangement exists, delivery has occurred, the fees are fixed or determinable, and collection is probable |
| If any of these criteria are not met, revenue recognition is deferred until such time as all of the criteria are met |
| Our quarterly revenues may also fluctuate due to our ability to perform services, achieve specific milestones and obtain formal customer acceptance of specific elements of the overall completion of a project |
| As we provide such services and products, the timing of delivery and acceptance, changed conditions with the customers and projects could result in changes to the timing of our revenue recognition, and thus, our operating results |
| Likewise, if our customers do not renew maintenance services or purchase additional products, our operating results could suffer |
| Historically, we have derived and expect to continue to derive a significant portion of our total revenue from existing customers who purchase additional products or renew maintenance agreements |
| Our customers may not renew such maintenance agreements or expand the use of our products |
| In addition, as we introduce new products, our current customers may not require or desire the features of our new products |
| If our customers do not renew their subscriptions or maintenance agreements with us or choose not to purchase additional products, our operating results could suffer |
| Because we rely on a limited number of customers, the timing of customer acceptance or milestone achievement, or the amount of services we provide to a single customer can significantly affect our operating results or the failure to replace a significant customer |
| Because expenses are relatively fixed in the near term, any shortfall from anticipated revenues could cause our quarterly operating results to fall below anticipated levels |
| We may also experience seasonality in revenues |
| For example, our quarterly results may fluctuate based upon our customers’ calendar year budgeting cycles |
| These seasonal variations may lead to fluctuations in our quarterly revenues and operating results |
| Based upon the foregoing, we believe that period-to-period comparisons of our results of operations are not necessarily meaningful and that such comparisons should not be relied upon as indications of future performance |
| In some future quarter, our operating results may be below the expectations of public market analysts and investors, which could cause volatility or a decline in the price of our common stock |
| If our bookings do not improve, our results of operations could be significantly harmed |
| In any given period our revenues are dependent on customer contracts entered into, “booked” during earlier periods |
| Because we typically recognize revenue in periods after contracts are booked, a decline in the number of contracts booked during any particular period or the value of such contracts would cause a decrease in revenue in future periods |
| The number and value of our bookings has been lower than management expectations |
| Our failure to increase bookings in the previous quarters was a significant factor in the decline of our revenues in more recent quarters |
| If our bookings remain at current levels or if the value of such bookings decreases further, it will cause our revenues to decline in future periods and could significantly harm our business and operating results |
| The loss of any of our key personnel would harm our competitiveness because of the time and effort that we would have to expend to replace such personnel |
| We believe that our success will depend on the continued employment of our management team and key technical personnel, including Vincent Ostrosky, our President and Chief Executive Officer, and Stephen Bennion, our Chief Financial Officer, who have employment agreements with us |
| If one or more members of our senior management team or key technical personnel were unable or unwilling to continue in their present positions, these individuals would be difficult to replace and our ability to manage day-to-day operations, including our operations in Pune, India, develop and deliver new technologies, 17 _________________________________________________________________ [69]Table of Contents attract and retain customers, attract and retain other employees and generate revenues would be significantly harmed |
| Any mergers, acquisitions or joint ventures that we may make could disrupt our business and harm our operating results |
| On December 3, 2004, we announced that we entered into a definitive merger agreement with I-many, Inc, under which we agreed, subject to certain conditions, to pay dlra1dtta55 per share in cash for all outstanding shares of I-many common stock, for a total transaction value of dlra70 million |
| The transaction was not approved by the I-many stockholders, and the merger agreement was terminated in March 2005 |
| In May 2005, we entered into an agreement to purchase certain assets and products of Determine for cash |
| The transaction closed in the first quarter of fiscal 2006 |
| The attempt to acquire and merge I-many required a significant amount of management time, as well as significant consulting, legal and accounting expense that negatively affected our operating results |
| We may engage in acquisitions of other companies, products or technologies, such as the acquisition of Determine |
| If we fail to integrate successfully any future acquisitions (or technologies associated with such), the revenue and operating results of the combined companies could decline |
| The process of integrating an acquired business may result in unforeseen difficulties and expenditures |
| If we fail to complete any acquisitions of any other companies, it may also result in unforeseen difficulties and expenditures |
| Acquisitions may involve a number of other potential risks to our business and include, but are not limited to the following: • potential adverse effects on our operating results, including unanticipated costs and liabilities, unforeseen accounting charges or fluctuations from failure to accurately forecast the financial impact of an acquisition; • use of cash; • issuance of stock that would dilute our current stockholders’ percentage ownership; • incurring debt; • assumption of liabilities; • amortization expenses related to other intangible assets; • incurring large and immediate write-offs; • incurring legal and professional fees; • problems combining the purchased operations, technologies or products with ours; • diversion of managements’ attention from our core business; • adverse effects on existing business relationships with suppliers and customers; and • potential loss of key employees, particularly those of the acquired organizations |
| In May 2005, the Company entered into an agreement to purchase certain assets and products of Determine for approximately dlra892cmam000 |
| The transaction closed in the first quarter of fiscal 2006 and has been accounted for in accordance with SFAS 141 “Business Combinations” (“SFAS 141”) |
| Determine was a provider of enterprise contract management software |
| Determine’s solutions include: the ability to aggregate and analyze enterprise-wide contract information, automate and accelerate contract related business processes, enforce contract and relationship-wide contract and relationship compliance |
| The addition of Determine’s software capabilities and customers will allow us to extend our offerings to include contract management solutions |
| In accordance with SFAS 141, the Company allocated the purchase price of the acquisition to tangible and intangible assets acquired based on several factors, including valuations, estimates and assumptions |
| 18 _________________________________________________________________ [70]Table of Contents The total purchase price is allocated as follows (in thousands of dollars): Amount Amortization life (in thousands) (years) Accounts Receivable $ 74 — Fixed Assets 17 — Intangible assets: Developed technology 367 3 Customer relationship 338 4 Customer backlog 96 1 Total purchase price $ 892 The results of Determine’s operations effective May 3, 2005 have been included in the condensed consolidated financial statements for fiscal year 2006 |
| As of March 31, 2006, the intangible assets associated with Determine are included in Other Assets as follows: Amount (in thousands) Cost $ 801 Accumulated amortization (285 ) Net $ 516 These intangible assets will be amortized on a straight-line basis over their estimated lives: Fiscal Years Ended March 31, 2007 2008 2009 2010 (in thousands) Amortization by fiscal year $ 207 $ 207 $ 95 $ 7 Any mergers, acquisitions or joint ventures may cause our financial results to suffer as a result of these risks |
| Where mergers, acquisitions or joint ventures are intended to enhance revenue and operating results, such revenue opportunities may not materialize, or the cost of integration and reorganization of the new operations may cost more than anticipated |
| Any unsolicited proposals for the purchase of our Company could disrupt business and harm our operating results |
| In January 2005, Trilogy, a privately held company, conditionally proposed to purchase all of our outstanding common stock for dlra4dtta00 per share |
| This unsolicited proposal assumed that the I-many merger was not completed |
| On February 2, 2005, following consultation with our legal and financial advisors, we issued a press release announcing that our Board of Directors determined that Trilogy’s proposal was not in our best interests or those of our stockholders |
| For reasons unrelated to Trilogy’s proposal, I-many and Selectica terminated the I-many merger on March 31, 2005 |
| On April 11, 2005, Trilogy filed a Statement of Beneficial Ownership on Schedule 13D with the Securities and Exchange Commission reporting that it owned 6dtta9prca of our outstanding common stock as of that date |
| As described further in this annual report, Trilogy was also engaged in a patent infringement lawsuit against us which has been settled |
| Uncertainty regarding Trilogy’s intentions toward us may cause disruption in our business, which could result in a material adverse effect on our financial condition and operating results |
| Additionally, as a consequence of the uncertainty surrounding our future, our key employees may be distracted and could seek other employment opportunities |
| If key employees leave, there could be a material adverse effect on our business and results of operations |
| Uncertainty surrounding Trilogy’s intentions and Trilogy’s patent infringement lawsuit against us could also be disruptive to our relations with our existing and potential customers as 19 _________________________________________________________________ [71]Table of Contents the proposal and/or the patent litigation may be viewed negatively by some customers |
| Responding to any proposals from Trilogy and the patent lawsuit has consumed, and may continue to consume, attention from our management and employees, and may require us to incur significant costs, which could adversely affect our financial and operating results |
| If our new product marketing strategy is unsuccessful, it could significantly harm our business and operating results |
| We have recently revised our product marketing focus |
| We had previously positioned our company as a seller of Internet Selling Solutions, however, we now emphasize our products’ ability to bridge the gap that exists between CRM and ERP, which we refer to as the Opportunity to Order Gap |
| We have brought new products such as the Fastraq application to market, which are specifically tailored to address this gap in specific industries |
| If the market for products that address the Opportunity to Order Gap is smaller than we anticipated or if our products fail to gain widespread acceptance in this market, our results of operations would be adversely affected |
| In addition, if there is a delay in bringing our new products to market, it would delay our ability to derive revenues from such products and our business and operating results could be significantly harmed |
| We have relied and expect to continue to rely on a limited number of customers for a substantial portion of our revenues, and the loss of any of these customers would significantly harm our business and operating results |
| Our business and financial condition is dependent on a limited number of customers |
| Our five largest customers accounted for approximately 67prca, 67prca and 78prca of our revenues for the fiscal years ended March 31, 2006, 2005, and 2004, respectively, and our ten largest customers accounted for approximately 80prca, 84prca, and 88prca of our revenues for the fiscal years ended March 31, 2006, 2005, and 2004, respectively |
| Revenues from significant customers greater than 10prca of total revenues are as follows: Fiscal Year ended March 31, 2006 Customer A 23prca Customer B 22prca Fiscal Year ended March 31, 2005 Customer A 14prca Customer B 23prca Customer C 12prca Customer D 11prca Fiscal Year ended March 31, 2004 Customer A 20prca Customer B 39prca We expect that we will continue to depend upon a relatively small number of customers for a substantial portion of our revenues for the foreseeable future |
| As a result, if we fail to successfully sell our products and services to one or more customers in any particular period or a large customer purchases fewer of our products or services, defers or cancels orders, or terminates its relationship with us, our business and operating results would be harmed |
| Our lengthy sales cycle for our large enterprise sales execution systems makes it difficult for us to forecast revenue and exacerbates the variability of quarterly fluctuations, which could cause our stock price to decline |
| The sales cycle of our large enterprise sales execution systems has historically averaged between nine to twelve months, and may sometimes be significantly longer |
| We are generally required to provide a significant level of education regarding the use and benefits of our products, and potential customers tend to engage in extensive internal reviews before making purchase decisions |
| In addition, the purchase of our products 20 _________________________________________________________________ [72]Table of Contents typically involves a significant commitment by our customers of capital and other resources, and is therefore subject to delays that are beyond our control, such as customers’ internal budgetary procedures and the testing and acceptance of new technologies that affect key operations |
| In addition, because we target large companies, our sales cycle can be lengthier due to the decision process in large organizations |
| As a result of our products’ long sales cycles, we face difficulty predicting the quarter in which sales to expected customers may occur |
| If anticipated sales from a specific customer for a particular quarter are not realized in that quarter, our operating results for that quarter could fall below the expectations of financial analysts and investors, which could cause our stock price to decline |
| We have been subject to intellectual property litigation, and could be subject to additional such litigation in the future, in connection with which we may incur substantial costs, which would harm our operating results |
| On April 22, 2004, Trilogy Group (“Trilogy”) filed a complaint in the United States District Court for the Eastern District of Texas Marshall Division alleging patent infringement against the Company |
| On September 2, 2004, the Company filed counter claims in the Eastern District of Texas Marshall Division action against Trilogy for infringement of the Company’s US Patent Nos |
| 6cmam405cmam308, 6cmam675cmam294, 5cmam878cmam400 and 6cmam533cmam350 for willfully infringing, directly and indirectly, by making, using, licensing, selling offering for sale, or importing products including configuration and ordering software |
| In January 2006, Trilogy and the Company reached a settlement resolving the patent dispute |
| Trilogy and the Company agreed to grant each other cross-licenses to the asserted patents for the life of the patents, entered into mutual releases and dismissed with prejudice all outstanding patent infringement claims against each other |
| Under the terms of the settlement, the Company paid a one-time sum of dlra7dtta5 million to Trilogy on February 16, 2006 |
| In addition, from time to time, we have received (and may receive in the future) correspondence from patent holders (including our competitors) recommending that we license their patents |
| We review and evaluate these patents (in light of the allegations from the patent holders) |
| To date, we have informed these patent holders that it would not be necessary to license these patents |
| However, we may be required to license such patents or incur legal fees to defend our position that such licenses are not necessary (as was the case in the Trilogy litigation), and there can be no assurance that we would be able to obtain a license to use such patents on commercially reasonable terms, or at all |
| Any intellectual property litigation, such as the litigation with Trilogy, or any threat of such litigation could force us to do one or more of the following: • cease selling, incorporating or using products or services that incorporate the challenged intellectual property; • obtain from the holder of the infringed intellectual property right a license to sublicense or use the relevant intellectual property, which license may not be available on commercially reasonable terms or at all; • redesign those products or services that incorporate such intellectual property; and/or • pay money damages to the holder of the infringed intellectual property right |
| In the event of a successful claim of infringement against us and our failure or inability to license the infringed intellectual property on commercially reasonable terms (or at all) or license a substitute intellectual property or redesign our product to avoid infringement, our business and operating results would be significantly harmed |
| If we are forced to abandon use of our trademark, we may be forced to change our name and incur substantial expenses to build a new brand, which would significantly harm our business |
| 21 _________________________________________________________________ [73]Table of Contents Any reduction in expenses will place a significant strain on our management systems and resources |
| We have reduced our headcount and operations in the last three years and we may further reduce our operating expenses |
| As a result, this could place increased demands on our managerial, administrative, operational, financial and other resources |
| Additional personnel cost cutting measures would force us to handle our current customer base and operations with a smaller number of employees |
| If we are unable to initiate procedures and controls to support our future operations in an efficient and timely manner, or if we are unable to otherwise manage these changes effectively, our business would be harmed |
| Developments in the market for enterprise software including configuration, pricing, contract management and quoting solutions may harm our operating results, which could cause a decline in the price of our common stock |
| The market for enterprise software including configuration, pricing, contract management and quoting solutions is evolving rapidly |
| In view of changing market trends including vendor consolidation, the competitive environment gross rate and potential size of the market are difficult to assess |
| The growth of the market is dependent upon the willingness of businesses and consumers to purchase complex goods and services over the Internet and the acceptance of the Internet as a platform for business applications |
| In addition, companies that have already invested substantial resources in other methods of Internet selling may be reluctant or slow to adopt a new approach or application that may replace, limit or compete with their existing systems |
| The rapid change in the marketplace poses a number of concerns |
| The decrease in technology infrastructure spending may reduce the size of the market for configuration, pricing management and quoting solutions |
| Our potential customers may decide to purchase more complete solutions offered by larger competitors instead of individual applications |
| If the market for configuration, pricing management, contract management and quoting solutions is slow to develop, or if our customers purchase more fully integrated products, our business and operating results would be significantly harmed |
| We face intense competition, which could reduce our sales, prevent us from achieving or maintaining profitability and inhibit our future growth |
| The market for software and services that enable electronic commerce is intensely competitive and rapidly changing |
| We expect competition to persist and intensify, which could result in price reductions, reduced gross margins and loss of market share |
| Our principal competitors include publicly-traded companies such as Oracle Corporation, Ariba, and I-Many as well as privately held companies such as Comergent Technologies, Firepond, Upside Software, Nextance, DiCarta/Emptoris and Trilogy, all of which offer integrated solutions for electronic commerce incorporating some of the functionality of our configuration, pricing, contract management and quoting software |
| Our competitors may intensify their efforts in our market |
| Competitors vary in size, in the scope and breadth of the products and services offered |
| Although we believe we have advantages over our competitors including the comprehensiveness of our solution, our use of Java technology and our multi-threaded architecture, some of our competitors and potential competitors have significant advantages over us, including: • a longer operating history; • preferred vendor status with our customers; • more extensive name recognition and marketing power; and • significantly greater financial, technical, marketing and other resources, giving them the ability to respond more quickly to new or changing opportunities, technologies, and customer requirements |
| 22 _________________________________________________________________ [74]Table of Contents Our competitors may also bundle their products in a manner that may discourage users from purchasing our products |
| Current and potential competitors may establish cooperative relationships with each other or with third parties, or adopt aggressive pricing policies to gain market share |
| Competitive pressures may require us to reduce the prices of our products and services |
| We may not be able to maintain or expand our sales if competition increases, and we are unable to respond effectively |
| A decline in general economic conditions or a decrease in information technology spending could harm our results of operations |
| A change in economic conditions could lead to revised budgetary constraints regarding information technology spending for our customers |
| We have had potential customers select our software, but decide to delay or not to implement any configuration system |
| Many companies have decided to reduce their expenditures for information technology by either delaying non-mission critical projects or abandoning them until their levels of business justify the expenses |
| Stagnation in information technology spending due to economic conditions or other factors could significantly harm our business and operating results |
| If we do not keep pace with technological change, including maintaining interoperability of our products with the software and hardware platforms predominantly used by our customers, our products may be rendered obsolete, and our business may fail |
| Our industry is characterized by rapid technological change, changes in customer requirements, frequent new product and service introductions and enhancements and emerging industry standards |
| In order to achieve broad customer acceptance, our products must be compatible with major software and hardware platforms used by our customers |
| Our products currently operate on the Microsoft Windows NT, Sun Solaris, IBM AIX, J2EE, Linux and Microsoft Windows 2000 Operating Systems |
| In addition, our products are required to interoperate with electronic commerce applications and databases |
| We must continually modify and enhance our products to keep pace with changes in these operating systems, applications and databases |
| Our configuration, pricing and quoting products are complex, and new products and product enhancements can require long development and testing periods |
| If our products were to be incompatible with a popular new operating system, electronic commerce application or database, our business would be significantly harmed |
| In addition, the development of entirely new technologies to replace existing software could lead to new competitive products that have better performance or lower prices than our products and could render our products obsolete and unmarketable |
| Our failure to meet customer expectations on deployment of our products could result in negative publicity and reduced sales, both of which would significantly harm our business and operating results |
| In the past, a small number of our customers have experienced difficulties or delays in completing implementation of our products |
| We may experience similar difficulties or delays in the future |
| Deploying our products typically involves integration with our customers’ legacy systems, such as existing databases and enterprise resource planning software as well adding their data to the system |
| Failing to meet customer expectations on deployment of our products could result in a loss of customers and negative publicity regarding us and our products, which could adversely affect our ability to attract new customers |
| In addition, time-consuming deployments may also increase the amount of professional services we must allocate to each customer, thereby increasing our costs and adversely affecting our business and operating results |
| If we are unable to maintain our direct sales force, sales of our products and services may not meet our expectations, and our business and operating results will be significantly harmed |
| We depend on our direct sales force for a significant portion of our current sales, and our future growth depends in part on the ability of our direct sales force to develop customer relationships and increase sales to a level that will allow us to reach and maintain profitability |
| If we are unable to retain qualified sales personnel or if newly hired personnel fail to develop the necessary skills or to reach productivity when anticipated, we may not be able to increase sales of our products and services, and our results of operation could be significantly harmed |
| 23 _________________________________________________________________ [75]Table of Contents If we are unable to manage our professional services organization, we will be unable to provide our customers with technical support for our products, which could significantly harm our business and operating results |
| Services revenues, which generated 81prca, 71prca, and 58prca of our revenues during the fiscal years ended March 31, 2006, 2005, and 2004, respectively, are comprised primarily of revenues from consulting fees, maintenance contracts and training and are important to our business |
| Services revenues have lower gross margins than license revenues |
| During the fiscal years ended March 31, 2006, 2005, and 2004, respectively, gross margins percentages for services revenues and license revenues are as follows: Fiscal Years Ended March 31, 2006 2005 2004 Gross Margin License 86prca 91prca 92prca Services 55prca 43prca 27prca We intend to charge for our professional services on a time and materials rather than a fixed-fee basis |
| However, in current market conditions, many customers insist on services provided on a fixed-fee basis |
| To the extent that customers are unwilling to utilize third-party consultants or require us to provide professional services on a fixed-fee basis, our cost of services revenues could increase and could cause us to recognize a loss on a specific contract, either of which would adversely affect our operating results |
| In addition, if we are unable to provide these professional services, we may lose sales or incur customer dissatisfaction, and our business and operating results could be significantly harmed |
| If new versions and releases of our products contain errors or defects, we could suffer losses and negative publicity, which would adversely affect our business and operating results |
| Complex software products such as ours often contain errors or defects, including errors relating to security, particularly when first introduced or when new versions or enhancements are released |
| Our products and other future products may contain defects or errors, that could result in lost revenues, a delay in market acceptance or negative publicity, each which would significantly harm our business and operating results |
| A substantial portion of our operations are conducted by India-based personnel, and any change in the political and economic conditions of India or in immigration policies that adversely affects our ability to conduct our operations in India could significantly harm our business |
| We conduct development, quality assurance and professional services operations in India |
| As of March 31, 2006 there were 81 persons employed in India |
| We are dependent on our India-based operations for these aspects of our business |
| As a result, we are directly influenced by the political and economic conditions affecting India |
| Operating expenses incurred by our operations in India are denominated in Indian currency, and accordingly, we are exposed to adverse movements in currency exchange rates |
| This, as well as any other political or economic problems or changes in India, could have a negative impact on our India-based operations, resulting in significant harm to our business and operating results |
| Furthermore, the intellectual property laws of India may not adequately protect our proprietary rights |
| We believe that it is particularly difficult to find quality management personnel in India, and we may not be able to timely replace our current India-based management team if any of them were to leave our Company |
| Our training program for some of our India-based employees includes an internship at our San Jose, California headquarters |
| Additionally, we provide services to some of our customers with India-based employees |
| We presently rely on a number of visa programs to enable these India-based employees to travel and work internationally |
| Any change in the immigration policies of India or the countries to which these employees travel and work could cause disruption or force the termination of these programs, which would harm our business |
| 24 _________________________________________________________________ [76]Table of Contents Demand for our products and services will decline significantly if our software cannot support and manage a substantial number of users |
| Our strategy requires that our products be highly scalable |
| To date, only a limited number of our customers have deployed our products on a large scale |
| If our customers cannot successfully implement large-scale deployments, or if they determine that we cannot accommodate large-scale deployments, our business and operating results would be significantly harmed |
| We may not be able to recruit or retain personnel, which could impact the development or sales of our products |
| Our success depends on our ability to attract and retain qualified management, engineering, sales and marketing and professional services personnel |
| We do not have employment agreements with most of our key personnel |
| If we are unable to retain our existing key personnel, or attract and train additional qualified personnel, our growth may be limited due to our lack of capacity to develop and market our products |
| Competition for such personnel has markedly intensified in India, where we have a large portion of our workforce |
| Many multinational corporations have expanded their operations into India, and there is an increased demand for individuals with relevant technology experience |
| If we become subject to product liability litigation, it could be costly and time consuming to defend and could distract us from focusing on our business and operations |
| Since our products are company-wide, mission-critical computer applications with a potentially strong impact on our customers’ sales, errors, defects or other performance problems could result in financial or other damages to our customers |
| Although our license agreements generally contain provisions designed to limit our exposure to product liability claims, existing or future laws or unfavorable judicial decisions could negate such limitation of liability provisions |
| Product liability litigation, even if it were unsuccessful, would be time consuming and costly to defend |
| Our future success depends on our proprietary intellectual property, and if we are unable to protect our intellectual property from potential competitors, our business may be significantly harmed |
| We rely on a combination of patent, trademark, trade secret and copyright law and contractual restrictions to protect the proprietary aspects of our technology |
| These legal protections afford only limited protection for our technology |
| In addition, we have two trademarks registered in the United States, one trademark registered and one pending in South Korea, two trademarks registered in Canada and one trademark registered in European Community, and we have also applied to register another two trademarks in the United States |
| Our trademark applications might not result in the issuance of any trademarks |
| Our patents or any future issued trademarks might be invalidated or circumvented or otherwise fail to provide us any meaningful protection |
| We seek to protect the source code for our software, documentation and other written materials under trade secret and copyright laws |
| We license our software pursuant to license agreements, which impose certain restrictions on the licensee’s ability to utilize the software |
| We also seek to avoid disclosure of our intellectual property by requiring employees and consultants with access to our proprietary information to execute confidentiality agreements |
| Despite our efforts to protect our proprietary rights, unauthorized parties may attempt to copy aspects of our products or to obtain and use information that we regard as proprietary |
| In addition, the laws of many countries do not protect our proprietary rights to as great an extent as do the laws of the United States |
| Litigation may be necessary in the future to enforce our intellectual property rights, to protect our trade secrets and to determine the validity and scope of the proprietary rights of others |
| Our failure to adequately protect our intellectual property could have a material adverse effect on our business and operating results |
| 25 _________________________________________________________________ [77]Table of Contents Our results of operations will be reduced by charges associated with stock-based compensation, accelerated vesting associated with stock options issued to employees, charges associated with other securities issued by us, and charges related to variable accounting |
| We have in the past and expect in the future to incur a significant amount of charges related to securities issuances in future periods, which will negatively affect our operating results |
| During the fiscal years ended March 31, 2006, 2005, and 2004, we amortized approximately dlra121cmam000, dlra268cmam000, and dlra1dtta9 million of such charges, which included the compensation expenses related to deferred compensation, option acceleration, option modification, and variable accounting, respectively |
| The Company will adopt the provisions of FASB 123R using a modified prospective application effective April 1, 2006 |
| We will use the Black-Scholes model to determine the fair value of our share-based payments and recognize compensation cost on a straight-line basis over the vesting periods |
| This new pronouncement from the FASB provides for certain changes to the method for valuing stock-based compensation |
| Among other changes, FASB 123R will apply to new awards and to awards that are outstanding which are subsequently modified or cancelled |
| Compensation expense cost calculated under FASB 123R could negatively impact our operating results in the future |
| Failure to improve and maintain relationships with systems integrators and consulting firms, which assist us with the sale and installation of our products, would impede the acceptance of our products and the growth of our revenues |
| Our strategy has been to rely in part upon systems integrators and consulting firms to recommend our products to their customers and to install and deploy our products |
| To date, we have had limited success in utilizing these firms as a sales channel or as a provider of professional services |
| To increase our revenues and implementation capabilities, we must continue to develop and expand our relationships with these systems integrators and consulting firms |
| If these systems integrators and consulting firms are unwilling to install and deploy our products, we may not have the resources to provide adequate implementation services to our customers, and our business and operating results could be significantly harmed |
| We have entered into a joint sales and marketing arrangement with SalesTech, Pty |
| Failure to achieve the mutual objectives of this partnership could damage our business |
| During fiscal 2006, we entered into non-exclusive joint sales and marketing agreement for Europe and certain vertical markets within North America with SalesTech, Pty |
| (“SalesTech”) based in New Zealand |
| SalesTech is a relatively small company with limited financial resources that has been a Selectica reseller/partner for more than six years |
| Pursuant to this arrangement, both Selectica and SalesTech will provide technology, personnel and management to further the sales and delivery of SalesTech applications for the telecom, banking and insurance industry vertical markets powered by Selectica’s configuration and pricer engines |
| Selectica has advanced approximately dlra1dtta5 million in expenses and prepaid royalties to SalesTech and the partnership since inception |
| Selectica is entitled to receive repayment of pre-paid royalties and 50prca of operating costs before net income from the partnership is distributed equally to the two companies |
| Failure to achieve sales and/or complete the delivery of solutions to customers could result in losses, write-offs and harm to our business |
| Our on demand solutions are hosted by a third-party provider |
| Our Fastraq and Contract Management on demand solutions are hosted by a third party data-center provider |
| Failure of the data center provider to maintain service levels as contracted, could result in customer dissatisfaction, customer losses and potential product warranty or performance liabilities |
| 26 _________________________________________________________________ [78]Table of Contents We are the target of several securities class action complaints and have been subject to patent infringement complaints and could be again, all of which could result in substantial costs and divert management attention and resources |
| Patent Infringement On April 22, 2004, Trilogy Group (“Trilogy”) filed a complaint in the United States District Court for the Eastern District of Texas Marshall Division alleging patent infringement against the Company |
| On September 2, 2004, the Company filed counterclaims in the Eastern District of Texas Marshall Division action against Trilogy for infringement of the Company’s US Patent Nos |
| 6cmam405cmam308, 6cmam675cmam294, 5cmam878cmam400 and 6cmam553cmam350 for willfully infringing, directly and indirectly, by making, using, licensing, selling, offering for sale, or importing products including configuration and ordering software |
| Class Action During 2001, a number of securities class action complaints were filed in the United States District Court for the Southern District of New York against the Company, certain of its officers and directors, and certain of the underwriters of the Company’s March 13, 2000 initial public offering (“IPO”) |
| On August 9, 2001, these actions were consolidated before a single judge along with cases brought against numerous other issuers, their officers and directors and their underwriters, that make similar allegations involving the allocation of shares in the IPOs of those issuers |
| The consolidation was for purposes of pretrial motions and discovery only |
| On April 19, 2002, plaintiffs filed a consolidated amended complaint asserting essentially the same claims as the original complaints |
| The amended complaint alleges that the officer and director defendants, the underwriters defendants and Selectica, Inc |
| violated federal securities laws by making material false and misleading statements in the prospectus incorporated in the Company’s registration statement on Form S-1 filed with the SEC in March 2000 in connection with the Company’s IPO Specifically, the complaint alleges, among other things, that the underwriters solicited and received excessive and undisclosed commissions from several investors in exchange for which the underwriters allocated to those investors material portions of the restricted number of shares of common stock issued in the Company’s IPO The complaint further alleges that the underwriters entered into agreements with its customers in which it agreed to allocate the common stock sold in the Company’s IPO to certain customers in exchange for which such customers agreed to purchase additional shares of the Company’s common stock in the after-market at pre-determined prices |
| The complaint also alleges that the underwriters offered to provide positive market analyst coverage for the Company after the IPO, which had the effect of manipulating the market for the Company’s stock |
| During the course of pre-trial proceedings, the plaintiffs dismissed their claims against the individual defendants without prejudice in return for the individual defendants’ execution of a tolling agreement |
| A motion to dismiss filed by the Company was denied by the Court on November 19, 2003 |
| On June 25, 2003, a Special Committee of the Board of Directors of the Company approved a Memorandum of Understanding (the “MOU”) reflecting a settlement in which the plaintiffs agreed to dismiss the case against the Company with prejudice in return for the Company’s assignment of certain claims that the Company might have against its underwriters |
| The same offer of settlement was made to all the issuer defendants involved in the litigation |
| No payment to the plaintiffs by the Company is required under the MOU After further negotiations, the essential terms of the MOU were formalized in a Stipulation and Agreement of Settlement (“Settlement”), which has been executed on behalf of the Company |
| The settling parties presented the proposed Settlement papers to the Court and filed formal motions seeking preliminary approval |
| The underwriter defendants, who are not parties to the proposed Settlement, 27 _________________________________________________________________ [79]Table of Contents filed objections to the Settlement |
| On February 15, 2005, the Court granted preliminary approval of the Settlement conditioned on the agreement of the parties to narrow one of a number of the provisions intended to protect the issuers against possible future claims by the underwriters |
| The Company re-approved the Settlement with the proposed modifications that were outlined by the Court in its February 15, 2005 Order granting preliminary approval |
| Approval of any settlement involves a three-step process in the district court: (i) a preliminary approval, (ii) determination of the appropriate notice of the settlement to be provided to the settlement class, and (iii) a final fairness hearing |
| On August 31, 2005, the Court entered a preliminary order approving the modifications to the Settlement and certifying the settlement classes |
| The Court also ordered that the mailing of the notices of pendency and proposed settlement of the class actions be completed by January 15, 2006 |
| The deadline for class members to request exclusion from the settlement classes was March 24, 2006 |
| As part of the Settlement, the settling issuers were required to assign to the plaintiffs certain claims they had against their underwriters (“Assigned Claims”) |
| To preserve these claims while the proposed Settlement was pending the Court’s final approval, the settling issuers sought tolling agreements from the underwriters |
| In the event that an underwriting defendant would not enter a tolling agreement, under the terms of the proposed Settlement agreement, the settling issuer conditionally assigned the claims to a litigation trustee |
| Before the expiration of any relevant statutes of limitations, the litigation trustee filed lawsuits against the various issuers’ respective underwriters alleging the Assigned Claims |
| All of the Company’s underwriters entered into tolling agreements |
| On February 24, 2006, the Court dismissed, with prejudice, the Assigned Claims brought by the litigation trustee against the other issuers’ underwriters that had not entered into tolling agreements on statute of limitations grounds |
| After the Court’s ruling, two of the Company’s underwriters terminated their tolling agreements |
| Accordingly, the Company conditionally assigned their Assigned Claims to the litigation trustee |
| Because the Assigned Claims were part of the consideration contemplated under the Settlement, it is unclear how the Court’s February 24, 2006 decision will impact the Settlement and the Court’s final approval of it |
| On April 24, 2006, the Court held a hearing in connection with a motion for final approval of the proposed Settlement |
| The Court did not rule on the fairness of the Settlement at the hearing |
| Despite the preliminary approval of the Settlement, there can be no assurance that the Court will provide final approval of the Settlement |
| In the meantime, the plaintiffs and underwriters have continued to litigate the consolidated action |
| The litigation is proceeding through the class certification phase by focusing on six cases chosen by the plaintiffs and underwriters (“focus cases”) |
| The Company is not a focus case |
| On October 13, 2004, the Court certified classes in each of the six focus cases |
| The underwriter defendants have appealed that decision to the United States Court of Appeals for the Second Circuit |
| The Court heard oral argument on June 6, 2006 and took it under submission |
| It is uncertain when the Court of Appeals will rule on the appeal |
| The plaintiffs’ money damage claims include prejudgment and post-judgment interest, attorneys’ and experts’ witness fees and other costs, as well as other relief to which the plaintiffs may be entitled should they prevail |
| The Company believes that the securities class action allegations against the Company and its officers and directors are without merit and, if settlement of the action is not finalized, the Company intends to contest the allegations vigorously |
| However, the class action litigation is in its preliminary stages, and the Company cannot predict its outcome |
| Anti-takeover defenses that we have in place could prevent or frustrate attempts by stockholders to change our board of directors or the direction of the company |
| Provisions of our amended and restated certificate of incorporation and amended and restated bylaws, Delaware law and the stockholder rights plan adopted by the Company on February 4, 2003 may make it more difficult for or prevent a third party from acquiring control of us without approval of our directors |
| These provisions include: • providing for a classified board of directors with staggered three-year terms; • restricting the ability of stockholders to call special meetings of stockholders; 28 _________________________________________________________________ [80]Table of Contents • prohibiting stockholder action by written consent; • establishing advance notice requirements for nominations for election to the board of directors or for proposing matters that can be acted on by stockholders at stockholder meetings; and • granting our board of directors the ability to designate the terms of and issue new series of preferred stock without stockholder approval |
| These provisions may have the effect of entrenching our board of directors and may deprive or limit your strategic opportunities to sell your shares |
| If we are unable to successfully address the material weaknesses in our disclosure controls and procedures, including our internal control over financial reporting, our ability to report our financial results on a timely and accurate basis may be adversely affected |
| We have evaluated our “disclosure controls and procedures” as such term is defined in Rule 13a-15(e) under the Securities Exchange Act of 1934, as well as our internal control over financial reporting as required by Section 404 of the Sarbanes-Oxley Act of 2002 |
| Our independent registered public accounting firm has performed a similar evaluation of our internal control over financial reporting |
| Effective controls are necessary for us to provide reliable financial reports and help identify and deter fraud |
| If we cannot provide reliable financial reports or prevent fraud, our operating results could be harmed |
| As of March 31, 2006, we concluded that we had deficiencies in our internal controls over financial reporting that constituted a material weakness, as further described in Item 9A, Report of Management on Internal Control over Financial Reporting |
| Our independent registered public accounting firm reached the same conclusion |
| If we cannot establish and maintain effective internal controls over financial reporting, investors may lose confidence in our reported financial information, which could have a negative effect on the trading price of our common stock |
| We incur increased costs as a result of being a public company |
| As a public company, we incur significant legal, accounting and other expenses |
| In addition, the Sarbanes-Oxley Act of 2002, as well as rules subsequently implemented by the Securities and Exchange Commission and NASDAQ, have required changes in corporate governance practices of public companies |
| These rules and regulations have increased our legal and financial compliance costs and made some activities more time-consuming and costly |
| In addition, we incur additional costs associated with our public company reporting requirements |
| We also expect these rules and regulations to make it more difficult and more expensive for us to obtain director and officer liability insurance and we may be required to accept reduced policy limits and coverage or incur substantially higher costs to obtain the same or similar coverage |
| As a result, it may be more difficult for us to attract and retain qualified persons to serve on our board of directors or as executive officers |
| Restrictions on export of encrypted technology could cause us to incur delays in international product sales, which would adversely impact the expansion and growth of our business |
| Our software utilizes encryption technology, the export of which is regulated by the United States government |
| If our export authority is revoked or modified, if our software is unlawfully exported or if the United States adopts new legislation restricting export of software and encryption technology, we may experience delay or reduction in shipment of our products internationally |
| Current or future export regulations could limit our ability to distribute our products outside of the United States |
| While we take precautions against unlawful exportation of our software, we cannot effectively control the unauthorized distribution of software across the Internet |
| Changes to accounting standards and financial reporting requirements or tax laws, may affect our financial results |
| We are required to follow accounting standards and financial reporting set by governing bodies in the US and other countries where we do business |
| From time to time, these governing bodies implement new and 29 _________________________________________________________________ [81]Table of Contents revised laws and regulations |
| These new and revised accounting standards, financial reporting and tax laws may require changes to accounting principles used in preparing our financial statements |
| These changes may have a material impact on our business and financial results |
| For example, a change in accounting rules can have a significant effect on our reported results and may even affect our reporting of transactions completed before the change became effective |
| As a result, changes to existing rules or reconsideration of current practices caused by such changes may adversely affect our reported financial results or the way we conduct our business |
| Increasing government regulation of the Internet could limit the market for our products and services, or impose greater tax burdens on us or liability for transmission of protected data |
| As electronic commerce and the Internet continue to evolve, federal, state and foreign governments may adopt laws and regulations covering issues such as user privacy, taxation of goods and services provided over the Internet, pricing, content and quality of products and services |
| If enacted, these laws and regulations could limit the market for electronic commerce, and therefore the market for our products and services |
| Although many of these regulations may not apply directly to our business, we expect that laws regulating the solicitation, collection or processing of personal or consumer information could indirectly affect our business |
| Laws or regulations concerning telecommunications might also negatively impact us |
| Several telecommunications companies have petitioned the Federal Communications Commission to regulate Internet service providers and online service providers in a manner similar to long distance telephone carriers and to impose access fees on these companies |
| This type of legislation could increase the cost of conducting business over the Internet, which could limit the growth of electronic commerce generally and have a negative impact on our business and operating results |