| WEBMETHODS INC Item 1A RISK FACTORS You should consider the following risks and uncertainties when evaluating our statements in this report and elsewhere and prior to making an investment decision as to our securities |
| We are subject to risks and uncertainties in addition to those described below, which, at the date of this report, we may not be aware of or which we may not consider significant |
| Each of these factors may adversely affect our business, financial condition, results of operations or the market price of our common stock |
| Our quarterly revenue, especially the amount of license revenue we recognize in a quarter and our operating results could fluctuate materially, which could significantly affect the market price of our common stock |
| A significant reason for these fluctuations is variation in the level of our quarterly revenue, especially the amount of license revenue we recognize in a quarter |
| which is difficult to predict with certainty and which varies depending on a number of factors |
| Factors that may cause our quarterly operating results to vary substantially in the future include: • changes in demand for our software products and services; • the timing and terms of large transactions with customers; • the spending environment for business integration and optimization solutions; • competitive pressures; • fluctuations in the revenue and license revenue of our geographic regions; • our ability to execute on our business strategy and sales strategies within the timeframes we anticipate; • the number of our quota-bearing sales representatives, their experience with our solutions, software products and sales processes and their capability to utilize our solution-selling approach; • the timing and amount of revenue from acquired technologies or businesses; • the amount and timing of operating expenses and the success of attempts to increase expense efficiency and the timing and amount of non-recurring or non-cash charges; • delays in the availability of new products or new releases of existing products; • costs of legal compliance, including compliance with the Sarbanes-Oxley Act of 2002 and regulatory requirements and investigating allegations that may be made or resolving any pending or threatened legal claims; and • changes that we may make in our business, operations and infrastructure |
| We also may experience delays or declines in expected total revenue or license revenue due to patterns in the capital budgeting and purchasing cycles of our current and prospective customers, purchasing practices and requirements of prospective customers, including contract provisions or contingencies they may request, changes in demand for our software and services, changes that we may make in our business or operations, economic uncertainties, geopolitical developments or uncertainties, travel limitations, terrorist acts, actual or threatened epidemics or other major unanticipated events |
| These periods of slower or no growth may lead to lower total revenue or license revenue or both, which could cause fluctuations in our quarterly operating results |
| In addition, variations in sales cycles may have an impact on the timing of our recognition of license revenue, which in turn could cause our quarterly total revenue and operating results to fluctuate |
| To successfully sell our software and services, we generally must 10 _________________________________________________________________ educate our potential customers regarding their use and benefits, which can require significant time and resources and result in delays in revenue |
| The market price of our common stock fluctuates as a result of factors other than our quarterly total revenue, license revenue and operating results, including actions taken by or performance of our competitors, estimates and recommendations of securities analysts, industry volatility and changes to accounting rules |
| The market price for our common stock has experienced significant fluctuation over the years and may continue to do so |
| From our initial public offering in February 2000 until June 12, 2006, the closing price of our stock on the Nasdaq National Market has ranged from a high of dlra308dtta06 to a low of dlra3dtta96 |
| In addition to our quarterly total revenue, license revenue or operating results, this volatility in the market price for our common stock may be affected by a number of other factors, including: • the overall volatility of the stock market, particularly the stock prices of software and technology companies; • fluctuation in the levels of total revenue, license revenue and operating results of competitors; • changes in securities analysts’ estimates, recommendations or expectations with respect to our business, common stock or our industry; • rapid developments, consolidation and technology changes within our industry; and • changes to accounting rules |
| If any of these market or industry-based factors has a significant negative impact on the market price for our common stock, investors could lose all or part of their investment, regardless of our actual operating performance |
| Our markets are highly competitive, and we may not compete effectively |
| The markets for business integration solutions, Service-Oriented Architecture capabilities, Business Activity Monitoring and Business Process Management solutions and Composite Application Framework capabilities are rapidly changing and intensely competitive |
| There are a variety of methods available to integrate software applications, monitor and optimize business processes and workflows, provide SOA, enable Web services and provide customers the capabilities to run, manage and optimize their enterprise |
| We expect that competition will remain intense as the number of entrants and new technologies increases |
| We do not know if our markets will widely adopt and deploy our SOA technology, our webMethods Fabric product suite or other solutions we offer or have announced |
| If our technology, software and solutions are not widely adopted by our markets or if we are not able to compete effectively against current or future competitors, our business, operating results and financial condition may be harmed |
| Our current and potential competitors include, among others: • large software vendors; • companies that develop their own integration software or Web services technology; • business integration software vendors; • electronic data interchange vendors; • vendors of proprietary enterprise application integration; and • application server vendors |
| We also face competition from providers of various technologies to enable Web services |
| Further, we face competition for some aspects of our software and service offerings from major system integrators, both independently and in conjunction with corporate in-house information technology departments, which have traditionally been the prevalent resource for application integration |
| In addition, application software 11 _________________________________________________________________ vendors with whom we have or had strategic relationships sometimes offer competitive solutions or may become or are competitors |
| Some of our competitors or potential competitors may have more experience developing technologies or solutions competitive with ours, larger technical staffs, larger customer bases, more established distribution channels, greater brand recognition and greater financial, marketing and other resources than we do |
| Our competitors may be able to develop products and services that are superior to our solutions, that achieve greater customer acceptance or that have significantly improved functionality or performance as compared to our existing solutions and future software and services |
| In addition, negotiating and maintaining favorable customer and strategic relationships is critical to our business |
| Our competitors may be able to negotiate strategic relationships on more favorable terms than we are able to negotiate or may preclude us from entering into or continuing strategic relationships |
| Many of our competitors may also have well-established relationships with our existing and prospective customers |
| Increased competition may result in reduced margins, loss of sales, decreased market share or longer sales cycles or sales processes involving more extensive demonstrations of product capabilities, which in turn could harm our business, operating results and financial condition |
| Economic conditions could adversely affect our revenue growth and cause us not to achieve our forecasts of license revenue and total revenue |
| Our ability to achieve revenue growth and profitability of our business depends on the overall demand for business integration and optimization software and services |
| Our business depends on overall economic conditions, the economic and business conditions in our target markets and the spending environment for information technology projects, and specifically for business integration and optimization solutions, in those markets |
| A weakening of the economy in one or more of our geographic regions, unanticipated major events and economic uncertainties may make more challenging the spending environment for our software and services, reduce capital spending on information technology projects by our customers and prospective customers, result in longer sales cycles for our software and services or cause customers or prospective customers to be more cautious in undertaking larger license transactions |
| Those situations may cause a decrease in our license revenue and total revenue |
| A decrease in demand for our software and services caused, in part, by an actual or anticipated weakening of the economy, domestically or internationally, may result in a decrease in our revenue and growth rates |
| Before the current fiscal year, we had a history of operating losses, and our failure to sustain profitability could impact our prospects of achieving our growth targets and have a material adverse effect on the market price of our common stock |
| During much of our history, we have sustained losses from operations |
| For a number of reasons described in other factors listed here, we may not be able to achieve our anticipated levels of total revenue and license revenue or to control our operating expenses, which could prevent us from achieving our forecasts of operating results, including sustaining profitability |
| Any failure on our part to remain profitable could have a material adverse effect on the market price of our common stock |
| Further, as discussed below, the expensing of stock options in the future is expected to add significant option compensation expense that could significantly impair or delay our ability to maintain profitability |
| If we do not generate sufficient revenue to achieve and maintain income from operations, our growth could be limited unless we are willing to incur operating losses that may be substantial and are able to fund those operating losses from our available assets or, if necessary, from the sale of additional capital through public or private equity or debt financings |
| Treating stock options and employee stock purchase plan participation as a compensation expense could significantly impair our ability to sustain profitability on a GAAP basis, and may have an adverse impact on our ability to attract and retain key personnel |
| The Financial Accounting Standards Board has adopted SFAS 123R, “Share-Based Payment,” which will require us to measure compensation cost for all share-based payments (such as employee stock options and participation in our employee stock purchase plan) and record such compensation costs in our 12 _________________________________________________________________ consolidated financial statements beginning in our three month period ending June 30, 2006 |
| We grant stock options to our employees, officers and directors and we administer an employee stock purchase plan (“ESPP”) |
| Information on our stock option plan and ESPP, including the shares reserved for issuance under those plans, the terms of options granted, the terms of ESPP participation, and the shares subject to outstanding stock options, is included in Note 16 of the Notes to Consolidated Financial Statements of webMethods, Inc |
| We are currently evaluating the impact of the adoption of SFAS 123R on our results of operations, including the valuation methods and support for the assumptions that underlie the valuation of the awards |
| However, we currently believe that the adoption of SFAS 123R will have a material adverse effect on our results of operations by increasing our operating expenses and reducing our net income and earnings per share, which could significantly impair our ability to sustain profitability |
| That impact could have a material adverse effect on the market price of our common stock |
| In addition, to the extent SFAS 123R makes it more difficult or costly to issue stock option grants to our executive officers and employees, we may be forced to alter our stock-based compensation plans in ways that reduce potential benefits to our employees and impede our ability to attract, retain and motivate executive officers and key personnel, which could adversely affect our business |
| Our international operations expose us to foreign currency gains and losses |
| Our operating results are subject to fluctuations in foreign currency exchange rates |
| We have not engaged in foreign currency hedging activities to mitigate a portion of these risks |
| Fluctuations in exchange rates between the US dollar and foreign currencies in markets where we do business could adversely affect our operating results, if we continue to not engage in hedging activities |
| If we fail accurately to forecast our future total revenue, license revenue or operating results, we may not satisfy the expectations of investors or securities analysts |
| We forecast our future total revenue and license revenue and operating results based upon information from our sales organization, finance and accounting department and other groups within our organization |
| The information on which our forecasts are based reflect expectations of future performance and beliefs regarding continuation of trends and anticipated future achievements, which are uncertain and are subject to a number of risks and uncertainties that we attempt to articulate for investors and securities analysts |
| We may fail accurately to forecast our future total revenue, license revenue or operating results due to a number of factors, including changes in customer demand, economic conditions, the timing and terms of large transactions with customers, competitive pressures, fluctuations in the total revenue and license revenue of our geographic regions, our ability to execute on our business strategy and sales strategies, changes in the number of quota bearing sales representatives and their experience with our solutions, software products and sales processes, the timing and amount of revenue from acquired technologies or businesses, delays in the availability of new products or new releases of existing products, changes that we may make in our business, operations and infrastructure, seasonal factors or major, unanticipated events |
| In addition, we generally close a substantial number of license transactions in the last month of each quarter, which makes it difficult to predict with certainty the level of license revenue we will have in any quarter until near to, or after, its conclusion |
| Our operating expenses, which include sales and marketing, research and development and general and administrative expenses, are based on our expectations of future revenue and are relatively fixed in the short term |
| If total revenue or license revenue falls below our expectations in a quarter and we are not able to quickly reduce our spending in response, our operating results for that quarter could be significantly below the guidance we provide publicly or expectations of investors or securities analysts |
| As a result, the market price of our common stock may fall significantly |
| If we fail to attract and retain key executive officers and other key personnel who are essential to our business, our ability to execute effectively on our business strategy or our results of operations or financial condition may be adversely affected |
| Our success depends upon the continued service of key employees who are essential to our business, including our executive officers |
| None of our current executive officers or key employees is bound by an 13 _________________________________________________________________ employment agreement for any specific term |
| The loss of any key executive officers or key employees could potentially impede our ability to execute effectively on our business strategy and could also potentially harm our operating results or financial condition |
| Our future success will also depend in large part on our ability to attract and retain qualified executives and experienced technical, sales, professional services, marketing and management personnel |
| We may incur significant expenses in hiring new employees and in reducing our headcount in response to changing market conditions |
| Our success in expanding the scope of our operations is dependent on successfully managing our workforce |
| As we grow, we must invest significantly in building our sales, marketing and product development groups |
| Competition for these people in the software industries is intense, and we may not be able to successfully recruit, train or retain qualified personnel |
| In addition, we must successfully integrate new employees into our operations and generate sufficient revenues to justify the costs associated with these employees |
| If we fail to successfully integrate employees or to generate the revenue necessary to offset employee-related expenses, we may be forced to reduce our headcount, which would force us to incur significant expenses and would adversely affect our business and operating results |
| If we are unable to adapt and enhance our software products to meet rapid technological changes, to provide desired product interfaces or to conform to new industry standards, we could lose strategic partners, customers and future revenue opportunities |
| We expect that the rapid evolution of business integration and optimization software and related standards and technologies and protocols, as well as general technology trends such as changes in or introductions of operating systems or enterprise applications, will require us to adapt our software and solutions to remain competitive |
| Our software and solutions could become obsolete, unmarketable or less desirable to prospective customers if we are unable to adapt to new technologies or standards or if we fail to adapt our products to new platforms or provide desired product interfaces |
| If our software ceases to demonstrate technology leadership, conform to industry standards, adapt to new platforms or develop and maintain adapters or interfaces to popular products, we may have to increase our product development costs and divert our product development resources to address these issues |
| In addition, because our customers, prospective customers and certain strategic partners depend on our adapting and enhancing our software products to meet technological changes and to conform to new industry standards, any failure or perceived failure on our part to do so could result in potential losses of customers, prospective customers, strategic partners and future revenue opportunities |
| We may face damage to the reputation of our software and a loss of revenue if our software products fail to perform as intended or contain significant defects |
| Our software products are complex, and significant defects may be found following introduction of new software or enhancements to existing software or in product implementations in varied information technology environments |
| Internal quality assurance testing and customer testing may reveal product performance issues or desirable feature enhancements that could lead us to reallocate product development resources or postpone the release of new versions of our software |
| The reallocation of resources or any postponement could cause delays in the development and release of future enhancements to our currently available software, require significant additional professional services work to address operational issues, damage the reputation of our software in the marketplace and result in potential loss of revenue |
| Although we attempt to resolve all errors that we believe would be considered serious by our partners and customers, our software is not error-free |
| Undetected errors or performance problems may be discovered in the future, and known errors that we consider minor may be considered serious by our partners and customers |
| This could result in lost revenue, delays in customer deployment or legal claims and would be detrimental to our reputation |
| If our software experiences performance problems or ceases to demonstrate technology leadership, we may have to increase our product development costs and divert our product development resources to address the problems |
| 14 _________________________________________________________________ Our business may be adversely impacted if we do not provide professional services to implement our solutions or if we are unable to establish and maintain relationships with third-party implementation providers |
| Customers that license our software typically engage our professional services staff or third-party consultants to assist with product implementation, training and other professional consulting services |
| We believe that many of our software sales depend, in part, on our ability to provide our customers with these services and to attract and educate third-party consultants to provide similar services |
| New professional services personnel and service providers require training and education and take time and significant resources to reach full productivity |
| Competition for qualified personnel and service providers is intense within our industry |
| Our business may be harmed if we are unable to provide professional services to our customers to effectively implement our solutions of if we are unable to establish and maintain relationships with third-party implementation providers |
| We rely on strategic alliances with major systems integrators and other similar relationships to promote and implement our software |
| These strategic partners provide us with important sales and marketing opportunities, create opportunities to license our solutions, and increase our implementation and professional services delivery capabilities |
| We also have similar relationships with resellers, distributors and other technology leaders |
| During our fiscal year 2006, our systems integrator partners directly or indirectly influenced a significant portion of our license revenue, and we expect that trend to continue in future periods |
| If our relationships with our strategic partners diminish or terminate or if we fail to work effectively with our partners or to grow our base of strategic partners, resellers and distributors, we might lose important opportunities, including sales and marketing opportunities, our business may suffer and our financial results could be adversely impacted |
| Our strategic partners often are not required to market or promote our software and generally are not restricted from working with vendors of competing software or solutions or offering their own solutions providing similar capabilities |
| Accordingly, our success will depend on their willingness and ability to devote sufficient resources and efforts to marketing our software and solutions rather than the products of competitors or that they offer themselves |
| If these relationships are not successful or if they terminate, our revenue and operating results could be materially adversely affected, our ability to increase our penetration of our markets could be impaired, we may have to devote substantially more resources to the distribution, sales and marketing, implementation and support of our software than we would otherwise, and our efforts may not be as effective as those of our competitors, which could harm our business, our operating results and materially impact the market price of our common stock |
| Our business strategy contemplates possible future acquisitions of companies or technologies that may result in disruptions to our business, integration difficulties, increased debt or contingent liabilities, dilution to our stockholders or other adverse effects on future financial results |
| We may make investments in, or acquisitions of, technology, products or companies in the future to maintain or improve our competitive position |
| We may not be able to identify future suitable acquisition or investment candidates, and even if we identify suitable candidates, may not be able to make these acquisitions or investments on commercially acceptable terms, or at all |
| With respect to potential future acquisitions, we may not be able to realize future benefits we expected to achieve at the time of entering into the transaction, or our recognition of those benefits may be delayed |
| In such acquisitions, we will likely face many or all of the risks inherent in integrating corporate cultures, product lines, operations and businesses |
| We will be required to train our sales, professional services and customer support staff with respect to acquired software products, which can detract from achieving our goals in the current period, and we may be required to modify priorities of our product development, customer support, systems engineering and sales organizations |
| Further, we may have to incur debt or issue equity securities to pay for any future acquisitions or investments, the issuance of which could be dilutive to our stockholders |
| 15 _________________________________________________________________ We may not have sufficient resources available to us in the future to take advantage of certain opportunities, potentially harming our operating results and financial condition |
| In the future, we may not have sufficient resources available to us to take advantage of growth, acquisition, product development or marketing opportunities |
| We may need to raise additional funds in the future through public or private debt or equity financings in order to: take advantage of opportunities, including more rapid international expansion or acquisitions of complementary businesses or technologies; develop new software or services; or respond to competitive pressures |
| Additional financing needed by us in the future may not be available on terms favorable to us, if at all |
| If adequate funds are not available, not available on a timely basis, or are not available on acceptable terms, we may not be able to take advantage of opportunities, develop new software or services or otherwise respond to unanticipated competitive pressures |
| If we are unable effectively to protect our intellectual property, we may lose a valuable asset, experience reduced market share or incur costly litigation to protect our rights |
| Our success depends, in part, upon our proprietary technology and other intellectual property rights |
| To date, we have relied primarily on a combination of copyright, trade secret, trademark and patent laws, and nondisclosure and other contractual restrictions on copying and distribution to protect our proprietary technology |
| Despite our efforts to protect our proprietary rights, contractual provisions, licensing restrictions and existing laws and remedies afford us only limited protection |
| The steps we have taken to protect our proprietary rights and intellectual property may not be adequate to deter misappropriation of our technology |
| Unauthorized parties may copy aspects of our software and obtain and use information that we regard as proprietary |
| Competitors may use such information to enhance their own products or to create similar technology which directly competes with our products, potentially diminishing our market share |
| In addition, the protections that we have may not prevent our competitors from developing products with functionality or features similar to our software |
| It is possible that the copyrights, trademarks or patents held by us could be challenged and invalidated |
| For example, we cannot be certain that the two patents we hold, those that we have applied for, if issued, or our potential future patents will not be successfully challenged |
| Further, we cannot be certain that we will be able to develop proprietary products or technologies that are patentable, that any patent issued to us will provide us with any competitive advantage or that the patents of others will not seriously limit or harm our ability to do business |
| Other parties may breach confidentiality agreements or other protective contracts we have entered into, and we may not be able to enforce our rights in the event of these breaches |
| We may not be able to detect unauthorized use of our proprietary information or take appropriate steps to enforce our intellectual property rights effectively |
| Policing the unauthorized use of our products and other proprietary rights is difficult and expensive, particularly given the global nature and reach of the Internet |
| Effective protection of our intellectual property rights may be limited in certain countries because the laws of some foreign countries do not protect proprietary rights to the same extent as do the laws of the United States |
| A small number of our agreements with customers and system integrators contain provisions regarding the rights of third parties to obtain the source code for our software, which may limit our ability to protect our intellectual property rights in the future |
| Litigation to enforce our intellectual property rights or protect our trade secrets could result in substantial costs, may not result in timely relief and may not be successful |
| Any inability to protect our intellectual property rights could have a material adverse effect on our business, operating results and financial condition |
| In addition, we license technology from third parties that is incorporated into our software, and we bundle technology from third parties with our software |
| We also incorporate into our software certain “open source” software code or software tools, the use of which in commercial software products, such as ours, may be prohibited or restricted now or in the future |
| Any significant interruption in the supply or support of any technology we license from third parties, or our inability to continue to use “open source” software in our products, could adversely affect our business, unless and until we can replace the functionality provided by the licensed technology or “open source” software |
| Our use of licensed 16 _________________________________________________________________ technology or “open source” software could cause our products to infringe the intellectual property rights of others, causing costly litigation and the loss of significant rights |
| Third-party claims that we infringe upon their intellectual property rights may be costly to defend and could damage our business |
| We cannot be certain that our software products and services do not infringe issued patents, copyrights, trademarks or other intellectual property rights of third parties |
| Litigation regarding intellectual property rights is common in the software industry, and we have been subject to, and may be increasingly subject to, legal proceedings and claims from time to time, including claims of alleged infringement of intellectual property rights of third parties by us or our licensees concerning their use of our software products, technologies and services |
| Although we believe that our intellectual property rights are sufficient to allow us to market our software without incurring liability to third parties, third parties have brought, and may bring in the future, claims of infringement against us or our licensees |
| Because our software products are integrated with our customers’ networks and business processes, as well as other software applications, third parties may bring claims of infringement against us, as well as our customers and other software suppliers, if the cause of the alleged infringement cannot easily be determined |
| We have previously incurred expenses related to, and may agree in the future to indemnify certain of our customers against, claims that our software products or our customers’ software products infringe upon the intellectual property rights of others |
| Furthermore, former employers of our current and future employees may assert that our employees have improperly disclosed confidential or proprietary information to us |
| These claims may be with or without merit |
| Claims of alleged infringement, regardless of merit, may have a material adverse effect on our business in a number of ways |
| Claims may discourage potential customers from doing business with us on acceptable terms, if at all |
| Litigation to defend against claims of infringement or contests of validity may be very time-consuming and may result in substantial costs and diversion of resources, including our management’s attention to our business |
| In addition, in the event of a claim of infringement, we, as well as our customers, may be required to obtain one or more licenses from third parties, which may not be available on acceptable terms, if at all |
| Furthermore, a party making such a claim could secure a judgment that requires us to pay substantial damages, and also include an injunction or other court order that could prevent us from selling some or all of our software products or require that we re-engineer some or all of our software products |
| Certain customers have been subject to such claims and litigation in the past, and we or other customers may in the future be subject to additional claims and litigation |
| We have settled two such claims and may in the future settle any other such claims with which we may be involved, regardless of merit, to avoid the cost and uncertainty of continued litigation |
| Defense of any lawsuit or failure to obtain any such required licenses could significantly harm our business, operating results and financial condition and the price of our common stock |
| Although we carry general liability insurance, our current insurance coverage may not apply to, and likely would not protect us from, all liability that may be imposed under these types of claims |
| Our current insurance programs do not cover claims of patent infringement |
| The use of open source software in our products may expose us to additional risks |
| “Open source” software is software that is covered by a license agreement which permits the user to liberally copy, modify and distribute the software for free |
| Certain open source software is licensed pursuant to license agreements that require a user who intends to distribute the open source software as a component of the user’s software to disclose publicly part or all of the source code to the user’s software |
| This effectively renders what was previously proprietary software open source software |
| Many features we may wish to add to our products in the future may be available as open source software and our development team may wish to make use of this software to reduce development costs and speed up the development process |
| While we monitor the use of all open source software and try to ensure that no open source software is used in such a way as to require us to disclose the source code to the related product, such use could inadvertently occur |
| Additionally, if a third party has incorporated certain types of open 17 _________________________________________________________________ source software into its software, has not disclosed the presence of such open source software and we embed that third party software into one or more of our products, we could be required to disclose the source code to our product |
| The Sarbanes-Oxley Act of 2002 requires that we undertake periodic evaluations of our internal control over financial reporting, and we have identified a material weakness that could harm our reputation and impact the market price of our common stock |
| The Sarbanes-Oxley Act of 2002 requires that our management establish and maintain internal control over financial reporting and annually assess the effectiveness of our internal control over financial reporting and report the results of such assessment |
| Our management assessed the effectiveness of our internal control over financial reporting at March 31, 2006 and concluded, based upon their assessment, that a material weakness existed and, accordingly, that our internal control over financial reporting was not effective regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles |
| As a result of management’s conclusion that our internal control over financial reporting was not effective at March 31, 2006, due to a material weakness, we must change our internal control over financial reporting to remediate such material weakness |
| In this situation, investors and stock analysts may lose confidence in the reliability of our financial statements, we may not be successful in effecting the necessary remediation and we may be subject to investigation or sanctions by regulatory authorities |
| We cannot predict the outcome of our assessments in future periods |
| We also expect that we will continue to identify areas of internal control over financial reporting that require improvement, and that we will continue to enhance processes and controls to address those issues, reduce the number of critical controls and expand the global use of critical controls, which will involve additional expense and diversion of management’s time and may impact our results of operations |
| Our disclosure controls and procedures and our internal control over financial reporting may not be effective to detect all errors or to detect and deter wrongdoing, fraud or improper activities in all instances |
| Our management does not expect that our disclosure controls and procedures or our internal control over financial reporting will prevent all errors or detect or deter all fraud |
| In designing our control systems, management recognizes that any control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance of achieving the desired control objectives |
| Further the design of a control system must reflect the necessity of considering the cost-benefit relationship of possible controls and procedures |
| Because of inherent limitations in any control system, no evaluation of controls can provide absolute assurance that all control issues and instances of wrongdoing, if any, that may affect our operations have been detected |
| These inherent limitations include the realities that judgments in decision-making can be faulty, that breakdowns can occur because of simple error or mistake and that controls may be circumvented by individual acts by some person, by collusion of two or more people or by management’s override of the control |
| The design of any control system also is based in part upon certain assumptions about the likelihood of a potential future event, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions |
| Over time, it is also possible that controls may become inadequate because of changes in conditions that could not be, or were not, anticipated at inception or review of the control systems |
| Any breakdown in our control systems, whether or not foreseeable by management, could cause investors to lose confidence in the accuracy of our financial reporting and may have an adverse impact on the market price for our common stock |
| Our financial statements may in the future be impacted by improper activities of our personnel |
| Our financial statements can be adversely impacted by our employees’ improper activities and unauthorized actions and their concealment of their activities |
| For instance, revenue recognition depends upon the terms of our agreements with our customers, resellers and distributors, among other things |
| Our 18 _________________________________________________________________ personnel may act outside of their authority, such as by negotiating additional terms or modifying terms without the knowledge of management that could impact our ability to recognize revenue in a timely manner, and they could commit us to obligations or arrangements that may have a serious financial impact to our results of operations or financial condition |
| In addition, depending upon when we learn of any such improper activities or unauthorized actions, we may have to restate our financial statements for a previously reported period, which could have a material adverse effect on our business, operating results and financial condition and on the market price of our common stock |
| We have implemented steps to prevent such conduct, but we cannot be certain that these new or additional controls will be effective in deterring all improper conduct by our personnel |
| Costs of legal investigations and regulatory compliance matters may increase our operating expenses and impact our operating results |
| Investigations of allegations concerning activities of personnel and investigation and resolution of legal claims have resulted in significant expense and management time and attention, and we may incur additional expense relating to the ongoing informal investigation by the Securities and Exchange Commission with respect to improper activities of personnel at our Japanese subsidiary |
| Further investigations or any future legal compliance or regulatory compliance matters could significantly increase expense and demands on management time and attention In addition, we have incurred and will continue to incur significant additional expense related to our efforts to comply with the rules and regulations enacted under the Sarbanes-Oxley Act of 2002 |
| Our international sales efforts could subject us to greater or unique uncertainties and additional risk |
| We have significant international sales efforts |
| Our international operations require a significant amount of attention from our management and substantial financial resources |
| If we are unable to manage our international operations successfully and in a timely manner, our business and operating results could be harmed |
| In addition, doing business internationally involves additional risks, particularly: • the difficulties and costs of staffing and managing foreign operations; • the difficulty of ensuring adherence to our revenue recognition and other policies; • the difficulty of monitoring and enforcing internal controls and disclosure controls; • unexpected changes in regulatory requirements, business practices, taxes, trade laws and tariffs; • differing intellectual property rights; differing labor regulations; and • changes in a specific country’s or region’s political or economic conditions |
| We currently do not engage in any currency hedging transactions |
| Our foreign sales generally are invoiced in the local currency, and, as we expand our international operations or if there is continued volatility in exchange rates, our exposure to gains and losses in foreign currency transactions may increase when we determine that foreign operations are expected to repay intercompany debt in the foreseeable future |
| Moreover, the costs of doing business abroad may increase as a result of adverse exchange rate fluctuations |
| For example, if the United States dollar declines in value relative to a local currency and we are funding operations in that country from our US operations, we could be required to pay more for salaries, commissions, local operations and marketing expenses, each of which is paid in local currency |
| In addition, exchange rate fluctuations, currency devaluations or economic crises may reduce the ability of our prospective customers to purchase our software and services |
| Because our software could interfere with the operations of our strategic partners’ and customers’ other network and software applications, we may be subject to potential product liability and warranty claims by these strategic partners and customers |
| Our software enables customers’ and certain strategic partners’ software applications to provide Web services, or to integrate with networks and software applications, and is often used for mission critical 19 _________________________________________________________________ functions or applications |
| Errors, defects or other performance problems in our software or failure to provide technical support could result in financial or other damages to our strategic partners and customers |
| Strategic partners and customers could seek damages for losses from us |
| In addition, the failure of our software and solutions to perform to strategic partners’ and customers’ expectations could give rise to warranty claims |
| Although our license agreements typically contain provisions designed to limit our exposure to potential product liability claims, existing or future laws or unfavorable judicial decisions could negate these limitation of liability provisions |
| Although we have not experienced any product liability claims to date, sale and support of our software entail the risk of such claims |
| The use of our software to enable strategic partners’ and customers’ software applications to provide Web services, and the integration of our software with our strategic partners’ and customers’ networks and software applications, increase the risk that a partner or customer may bring a lawsuit against several suppliers if an integrated computer system fails and the cause of the failure cannot easily be determined |
| Even if our software is not at fault, a product liability claim brought against us, even if not successful, could be time consuming and costly to defend and could harm our reputation |
| In addition, although we carry general liability insurance, our current insurance coverage would likely be insufficient to protect us from all liability that may be imposed under these types of claims |
| Some provisions of the Delaware General Corporation Law, our certificate of incorporation and our bylaws, as well as our stockholder rights plan, may deter potential acquisition bids, discourage changes in our management or Board of Directors and have anti-takeover effects |
| The certificate of incorporation, as amended, of webMethods and our bylaws contain certain provisions, as does the Delaware General Corporation Law, which may discourage, delay or prevent a change of control of webMethods or a change in our management or Board of Directors, including through a proxy contest |
| In addition, our Board of Directors in 2001 adopted a rights plan and declared a dividend distribution of one right for each outstanding share of our common stock |
| Each right, when exercisable, entitles the registered holder to purchase certain securities at a specified purchase price, subject to adjustment |
| The rights plan may have the anti-takeover effect of causing substantial dilution to a person or group that attempts to acquire webMethods on terms not approved by our Board of Directors |
| The existence of the rights plan and the other provisions of the Delaware General Corporation Law, our certificate of incorporation and our bylaws could limit the price that certain investors might be willing to pay in the future for shares of our common stock, could discourage, delay or prevent a merger or acquisition of webMethods that stockholders may consider favorable and could make it more difficult for a third party to acquire us without the support of our Board of Directors, even if doing so would be beneficial to our stockholders |