The Ultimate Software Group, Inc.
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
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þ |
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QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF
THE SECURITIES EXCHANGE ACT OF 1934 |
For the quarterly period ended September 30, 2006
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o |
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TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF
THE SECURITIES EXCHANGE ACT OF 1934 |
For the transition period from _______ to _______
Commission file number: 0-24347
THE ULTIMATE SOFTWARE GROUP, INC.
(Exact name of Registrant as specified in its charter)
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Delaware
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65-0694077 |
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(State or other jurisdiction of incorporation)
or organization
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(I.R.S. Employer Identification No.) |
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2000 Ultimate Way, Weston, FL
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33326 |
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(Address of principal executive offices)
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(Zip Code) |
(954) 331 - 7000
(Registrants telephone number, including area code)
None
(Former name, former address and former fiscal year, if changed since last report)
Indicate by check mark whether the Registrant (1) has filed all reports required to be filed
by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or
for such shorter period that the Registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days. Yes þ No ¨
Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated
filer, or a non-accelerated filer. See definition of accelerated filer and large accelerated
filer in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer ¨ Accelerated filer þ Non-accelerated filer ¨
Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of
the Exchange Act). Yes ¨ No þ
As of October 23, 2006, there were 24,074,351 shares of the Registrants Common Stock, par
value $.01, outstanding.
THE ULTIMATE SOFTWARE GROUP, INC. AND SUBSIDIARIES
TABLE OF CONTENTS
2
Item 1 Financial Statements
PART 1 FINANCIAL INFORMATION
THE ULTIMATE SOFTWARE GROUP, INC. AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEETS
(Dollars in thousands, except share and per share data)
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As of |
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As of |
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September 30, |
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December 31, |
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2006 |
|
2005 |
ASSETS |
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Current assets: |
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|
Cash and cash equivalents |
|
$ |
14,310 |
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|
$ |
17,731 |
|
Accounts receivable, net of allowance for doubtful accounts of
$500 for 2006 and 2005, respectively |
|
|
20,589 |
|
|
|
18,126 |
|
Short-term investments in marketable securities |
|
|
16,389 |
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|
14,422 |
|
Prepaid expenses and other current assets |
|
|
7,263 |
|
|
|
5,526 |
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|
|
|
|
|
|
|
|
|
Total current assets |
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|
58,551 |
|
|
|
55,805 |
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|
|
|
|
|
|
|
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|
Property and equipment, net |
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|
12,476 |
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|
|
10,026 |
|
Capitalized software, net |
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|
1,522 |
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|
238 |
|
Long-term investments in marketable securities |
|
|
1,199 |
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|
|
613 |
|
Other assets, net |
|
|
5,143 |
|
|
|
2,899 |
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|
|
|
|
|
|
|
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|
Total assets |
|
$ |
78,891 |
|
|
$ |
69,581 |
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|
|
|
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|
|
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LIABILITIES AND STOCKHOLDERS EQUITY |
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Current liabilities: |
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|
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|
Accounts payable |
|
$ |
3,803 |
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|
$ |
2,613 |
|
Accrued expenses |
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|
7,011 |
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|
|
6,406 |
|
Current portion of deferred revenue |
|
|
31,832 |
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|
|
29,385 |
|
Current portion of capital lease obligations |
|
|
1,362 |
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|
1,393 |
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Current portion of long-term debt |
|
|
505 |
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|
338 |
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|
|
|
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Total current liabilities |
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44,513 |
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|
|
40,135 |
|
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|
|
|
|
|
|
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|
Deferred revenue, net of current portion |
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|
5,340 |
|
|
|
3,646 |
|
Deferred Rent |
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|
1,025 |
|
|
|
426 |
|
Capital lease obligations, net of current portion |
|
|
1,183 |
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|
966 |
|
Long-term debt, net of current portion |
|
|
319 |
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|
862 |
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|
|
|
|
|
|
|
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Total liabilities |
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52,380 |
|
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|
46,035 |
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|
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|
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Stockholders equity: |
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Preferred Stock, $.01 par value, 2,000,000 shares authorized,
no shares issued or outstanding |
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Series A Junior Participating Preferred Stock, $.01 par value,
500,000 shares authorized, no shares issued or outstanding |
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Common Stock, $.01 par value, 50,000,000 shares authorized,
24,762,038 and 23,786,097 shares issued in 2006 and 2005, respectively |
|
|
248 |
|
|
|
238 |
|
Additional paid-in capital |
|
|
120,629 |
|
|
|
110,245 |
|
Accumulated other comprehensive loss |
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|
2 |
|
|
|
(31 |
) |
Accumulated deficit |
|
|
(83,517 |
) |
|
|
(85,852 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
37,362 |
|
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|
24,600 |
|
Treasury stock, 709,437 and 257,647 shares, at cost, for 2006 and
2005, respectively |
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|
(10,851 |
) |
|
|
(1,054 |
) |
|
|
|
|
|
|
|
|
|
Total stockholders equity |
|
|
26,511 |
|
|
|
23,546 |
|
|
|
|
|
|
|
|
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|
Total liabilities and stockholders equity |
|
$ |
78,891 |
|
|
$ |
69,581 |
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|
|
|
|
|
|
|
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|
The accompanying Notes to Unaudited Condensed Consolidated Financial Statements are an integral part of these financial statements.
3
THE ULTIMATE SOFTWARE GROUP, INC. AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share amounts)
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For the Three Months |
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For the Nine Months |
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Ended September 30, |
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Ended September 30, |
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2006 |
|
2005 |
|
2006 |
|
2005 |
Revenues: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Recurring |
|
$ |
16,487 |
|
|
$ |
12,956 |
|
|
$ |
46,456 |
|
|
$ |
36,685 |
|
Services |
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|
9,410 |
|
|
|
6,484 |
|
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|
25,972 |
|
|
|
19,049 |
|
License |
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|
2,882 |
|
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|
2,746 |
|
|
|
9,340 |
|
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|
7,909 |
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|
|
|
|
|
|
|
|
|
|
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|
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|
Total revenues |
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|
28,779 |
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|
22,186 |
|
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|
81,768 |
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|
63,643 |
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Cost of revenues: |
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|
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|
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|
|
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Recurring |
|
|
4,602 |
|
|
|
3,588 |
|
|
|
13,040 |
|
|
|
10,024 |
|
Services |
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|
7,287 |
|
|
|
5,171 |
|
|
|
20,655 |
|
|
|
14,991 |
|
License |
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|
319 |
|
|
|
165 |
|
|
|
966 |
|
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|
464 |
|
|
|
|
|
|
|
|
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|
|
|
|
|
|
|
|
|
Total cost of revenues |
|
|
12,208 |
|
|
|
8,924 |
|
|
|
34,661 |
|
|
|
25,479 |
|
|
|
|
|
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|
|
|
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|
Gross Profit |
|
|
16,571 |
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|
|
13,262 |
|
|
|
47,107 |
|
|
|
38,164 |
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Operating expenses: |
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|
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Sales and marketing |
|
|
7,222 |
|
|
|
5,523 |
|
|
|
21,711 |
|
|
|
15,980 |
|
Research and development |
|
|
5,887 |
|
|
|
5,251 |
|
|
|
16,533 |
|
|
|
15,238 |
|
General and administrative |
|
|
2,526 |
|
|
|
1,945 |
|
|
|
7,524 |
|
|
|
5,701 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
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|
Total operating expenses |
|
|
15,635 |
|
|
|
12,719 |
|
|
|
45,768 |
|
|
|
36,919 |
|
|
|
|
|
|
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|
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|
|
|
|
|
|
|
|
Operating income |
|
|
936 |
|
|
|
543 |
|
|
|
1,339 |
|
|
|
1,245 |
|
|
|
|
|
|
|
|
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|
|
|
|
|
|
|
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|
Interest expense |
|
|
(52 |
) |
|
|
(65 |
) |
|
|
(152 |
) |
|
|
(181 |
) |
Interest and other income |
|
|
419 |
|
|
|
223 |
|
|
|
1,148 |
|
|
|
526 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
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|
Net income |
|
$ |
1,303 |
|
|
$ |
701 |
|
|
$ |
2,335 |
|
|
$ |
1,590 |
|
|
|
|
|
|
|
|
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|
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|
|
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|
Net income per share: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic |
|
$ |
0.05 |
|
|
$ |
0.03 |
|
|
$ |
0.10 |
|
|
$ |
0.07 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted |
|
$ |
0.05 |
|
|
$ |
0.03 |
|
|
$ |
0.09 |
|
|
$ |
0.06 |
|
|
|
|
|
|
|
|
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|
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Weighted average shares outstanding: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic |
|
|
24,130 |
|
|
|
23,229 |
|
|
|
23,713 |
|
|
|
22,899 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
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|
Diluted |
|
|
27,030 |
|
|
|
26,566 |
|
|
|
26,891 |
|
|
|
26,112 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
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|
The accompanying Notes to Unaudited Condensed Consolidated Financial Statements are an integral part of these financial statements.
4
THE ULTIMATE SOFTWARE GROUP, INC. AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
|
|
|
|
|
|
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|
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|
For the Nine Months |
|
|
Ended September 30, |
|
|
2006 |
|
2005 |
Cash flows from operating activities: |
|
|
|
|
|
|
|
|
Net income |
|
$ |
2,335 |
|
|
$ |
1,590 |
|
Adjustments to reconcile net income to net cash
provided by operating activities: |
|
|
|
|
|
|
|
|
Depreciation and amortization |
|
|
3,727 |
|
|
|
3,326 |
|
Provision for doubtful accounts |
|
|
873 |
|
|
|
489 |
|
Non-cash stock-based compensation expense |
|
|
4,128 |
|
|
|
156 |
|
Changes in operating assets and liabilities: |
|
|
|
|
|
|
|
|
Accounts receivable |
|
|
(3,336 |
) |
|
|
(1,957 |
) |
Prepaid expenses and other current assets |
|
|
(1,737 |
) |
|
|
(1,572 |
) |
Other assets |
|
|
(2,244 |
) |
|
|
(488 |
) |
Accounts payable |
|
|
1,190 |
|
|
|
81 |
|
Accrued expenses and other long term liabilities |
|
|
1,204 |
|
|
|
(623 |
) |
Deferred revenue |
|
|
4,141 |
|
|
|
1,608 |
|
|
|
|
|
|
|
|
|
|
Net cash provided by operating activities |
|
|
10,281 |
|
|
|
2,610 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash flows from investing activities: |
|
|
|
|
|
|
|
|
Purchases of marketable securities |
|
|
(17,903 |
) |
|
|
(13,302 |
) |
Maturities of marketable securities |
|
|
15,383 |
|
|
|
12,770 |
|
Capitalized software |
|
|
(1,273 |
) |
|
|
|
|
Purchases of property and equipment |
|
|
(4,725 |
) |
|
|
(2,429 |
) |
|
|
|
|
|
|
|
|
|
Net cash used in investing activities |
|
|
(8,518 |
) |
|
|
(2,961 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash flows from financing activities: |
|
|
|
|
|
|
|
|
Repurchases of Common Stock |
|
|
(9,797 |
) |
|
|
|
|
Principal payments on capital lease obligations |
|
|
(1,247 |
) |
|
|
(939 |
) |
Net payments on long term debt |
|
|
(376 |
) |
|
|
334 |
|
Net proceeds from issuances of Common Stock |
|
|
6,236 |
|
|
|
4,537 |
|
|
|
|
|
|
|
|
|
|
Net cash (used in) provided by financing activities |
|
|
(5,184 |
) |
|
|
3,932 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net (decrease) increase in cash and cash equivalents |
|
|
(3,421 |
) |
|
|
3,581 |
|
Cash and cash equivalents, beginning of period |
|
|
17,731 |
|
|
|
14,766 |
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents, end of period |
|
$ |
14,310 |
|
|
$ |
18,347 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Supplemental disclosure of cash flow information: |
|
|
|
|
|
|
|
|
Cash paid for interest |
|
$ |
79 |
|
|
$ |
82 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Supplemental disclosure of non-cash financing activities: |
|
|
|
|
|
|
|
|
|
|
The Company entered into capital lease obligations to acquire new equipment totaling $1,433 and $1,706
for the nine months ended September 30, 2006 and 2005, respectively. |
The accompanying Notes to Unaudited Condensed Consolidated Financial Statements are an integral part of these financial statements.
5
THE ULTIMATE SOFTWARE GROUP, INC. AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS EQUITY
(In thousands)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Common Stock |
|
Additional |
|
Accumulated |
|
|
|
|
|
Treasury Stock |
|
Total |
|
|
|
|
|
|
|
|
|
|
Paid-in |
|
Comprehensive |
|
Accumulated |
|
|
|
|
|
|
|
|
|
Stockholders |
|
|
Shares |
|
Amount |
|
Capital |
|
Loss |
|
Deficit |
|
Shares |
|
Amount |
|
Equity |
Balance, December 31, 2005 |
|
|
23,786 |
|
|
$ |
238 |
|
|
$ |
110,245 |
|
|
$ |
(31 |
) |
|
$ |
(85,852 |
) |
|
|
258 |
|
|
$ |
(1,054 |
) |
|
$ |
23,546 |
|
Net income |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2,335 |
|
|
|
|
|
|
|
|
|
|
|
2,335 |
|
Unrealized gain on investments in
marketable securities available-for-sale |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
33 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
33 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Comprehensive income |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2,368 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Repurchases of Common Stock |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
451 |
|
|
|
(9,797 |
) |
|
|
(9,797 |
) |
Issuances of Common Stock from exercises
of stock options and warrants |
|
|
976 |
|
|
|
10 |
|
|
|
6,226 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
6,236 |
|
Non-cash stock-based compensation |
|
|
|
|
|
|
|
|
|
|
4,158 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
4,158 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance, September 30, 2006 |
|
|
24,762 |
|
|
$ |
248 |
|
|
$ |
120,629 |
|
|
$ |
2 |
|
|
$ |
(83,517 |
) |
|
|
709 |
|
|
$ |
(10,851 |
) |
|
$ |
26,511 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
6
THE ULTIMATE SOFTWARE GROUP, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
The accompanying unaudited condensed consolidated financial statements of The Ultimate
Software Group, Inc. and subsidiaries (the Company) have been prepared, without audit, pursuant
to the rules and regulations of the Securities and Exchange Commission (the SEC). Certain
information and footnote disclosures normally included in financial statements in accordance with
generally accepted accounting principles in the United States (GAAP) have been condensed or
omitted pursuant to such rules and regulations. The information in this report should be read in
conjunction with the Companys audited consolidated financial statements and notes thereto included
in the Companys Annual Report on Form 10-K for the fiscal year ended December 31, 2005 filed with
the SEC on March 15, 2006 (the Form 10-K).
The unaudited condensed consolidated financial statements included herein reflect all
adjustments (consisting only of normal, recurring adjustments), which are, in the opinion of the
Companys management, necessary for a fair presentation of the information for the periods
presented. The preparation of financial statements in conformity with GAAP requires management to
make estimates and assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial statements and the
reported amounts of revenues and expenses during the reporting period. Actual results could differ
from those estimates. Interim results of operations for the three and nine months ended September
30, 2006 and 2005 are not necessarily indicative of operating results for the full fiscal years or
for any future periods.
2. |
|
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES |
Investments in Marketable Securities
The Company classifies its investments in marketable securities with readily determinable fair
values as securities available-for-sale in accordance with Statement of Financial Accounting
Standards No. 115, Accounting for Certain Investments in Debt and Equity Securities (FAS 115)
and FASB Staff Position Financial Accounting Standards No. 115-1 and FAS 124-1, The Meaning of
Other-Than-Temporary Impairment and Its Application to Certain Investments (FSP FAS 115-1 and FAS
124-1). The Company has classified all investments as available-for-sale. Available-for-sale
securities consist of debt and equity securities not classified as trading securities or as
securities to be held to maturity. Unrealized holding gains and losses on securities
available-for-sale are reported as a net amount in accumulated other comprehensive loss in
stockholders equity until realized. Gains and losses on the sale of securities available-for-sale
are determined using the specific identification method. Included in accumulated other
comprehensive income at September 30, 2006 and 2005 are $1,846 and $(37,628), respectively, of
unrealized gains/(losses) on trading securities held at each such date.
7
The amortized cost and market value of the Companys investments in marketable securities
available-for-sale at September 30, 2006 are shown in the table below (in thousands).
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross |
|
Gross |
|
|
|
|
Amortized |
|
Unrealized |
|
Unrealized |
|
Market |
|
|
Cost |
|
Gain |
|
Loss |
|
Value |
Investments in marketable securities: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S. Agency non callable |
|
$ |
899 |
|
|
$ |
|
|
|
$ |
2 |
|
|
$ |
897 |
|
Asset-backed fixed |
|
|
595 |
|
|
|
|
|
|
|
|
|
|
|
595 |
|
Commercial paper. |
|
|
2,384 |
|
|
|
|
|
|
|
|
|
|
|
2,384 |
|
Corporate debentures bonds |
|
|
11,265 |
|
|
|
5 |
|
|
|
6 |
|
|
|
11,264 |
|
Certificates of deposit |
|
|
2,449 |
|
|
|
|
|
|
|
1 |
|
|
|
2,448 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total investments, available-for-sale |
|
$ |
17,592 |
|
|
$ |
5 |
|
|
$ |
9 |
|
|
$ |
17,588 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The amortized cost and estimated fair value of the available-for-sale securities by
contractual maturity at September 30, 2006 are shown below (in thousands):
|
|
|
|
|
|
|
|
|
|
|
Amortized |
|
Estimated |
|
|
Cost |
|
Fair Value |
Due in one year or less |
|
$ |
16,395 |
|
|
$ |
16,389 |
|
Due after one year |
|
|
1,197 |
|
|
|
1,199 |
|
|
|
|
|
|
|
|
|
|
|
|
$ |
17,592 |
|
|
$ |
17,588 |
|
|
|
|
|
|
|
|
|
|
Property and Equipment
Property and equipment is stated at cost, net of accumulated depreciation and amortization.
Property and equipment is depreciated using the straight-line method over the estimated useful
lives of the assets, which range from two to twenty years. Leasehold improvements and assets under
capital leases are amortized over the shorter of the life of the asset or the term of the lease
over periods ranging from two to fifteen years. Maintenance and repairs are charged to expense when
incurred; betterments are capitalized. Upon the sale or retirement of assets, the cost, accumulated
depreciation and amortization are removed from the accounts and any gain or loss is recognized.
Property and equipment consists of the following (in thousands):
|
|
|
|
|
|
|
|
|
|
|
As of |
|
As of |
|
|
September 30, 2006 |
|
December 31, 2005 |
Property and equipment |
|
$ |
38,590 |
|
|
$ |
32,453 |
|
Less: accumulated depreciation
and amortization |
|
|
26,114 |
|
|
|
22,427 |
|
|
|
|
|
|
|
|
|
|
|
|
$ |
12,476 |
|
|
$ |
10,026 |
|
|
|
|
|
|
|
|
|
|
Rental Costs Incurred during a Construction Period
Effective January 1, 2006, the Company adopted FSP FAS 13-1, Accounting for Rental Costs
Incurred during a Construction Period, which addresses the accounting for rental costs associated
with operating leases that are incurred during a construction period. Rental costs incurred during
and after a construction period are for the right to control the use of a leased asset during and
after construction of a leased asset. Since there is no distinction between the right to use a
leased asset during the construction period and the right to use that asset after the construction
period, rental costs associated with ground or building operating leases that are incurred during a
construction period shall be recognized as rental expense on a straight-line basis. The adoption
of FSP FAS 13-1 did not have a material impact on the Companys unaudited condensed consolidated
financial statements.
8
Stock-Based Compensation
Effective January 1, 2006, the Company adopted the provisions of SFAS No. 123 (revised 2004),
Share-Based Payment (SFAS No. 123R), using the modified prospective method (with the
Black-Scholes fair value model), which requires the Company to recognize expense related to the
fair value of stock-based compensation awards. Under the modified prospective method, stock-based
compensation expense for the three and nine months ended September 30, 2006 includes compensation
expense for all stock-based compensation awards granted prior to, but not yet vested as of, January
1, 2006, based on grant date fair value estimated in accordance with the original provisions of
SFAS No. 123, Accounting for Stock-Based Compensation (SFAS No. 123), and compensation expense
for all stock-based compensation awards granted subsequent to January 1, 2006, based on the grant
date fair values estimated in accordance with the provisions of SFAS No. 123R. In addition, stock
options granted to certain members of the Board of Directors (Board) as payment for services
rendered as board members (Board Services) recorded in accordance with SFAS No. 123R and the
issuance of restricted stock awards and stock units to certain employees are also included in
stock-based compensation for the three and nine months ended September 30, 2006. Accordingly,
prior period amounts presented herein have not been restated to reflect the adoption of SFAS No.
123R.
Prior to January 1, 2006, the Company accounted for its stock-based compensation plan as
permitted by SFAS No. 123, using the intrinsic value method prescribed in Accounting Principles
Board Opinion No. 25, Accounting for Stock Issued to Employees (APB No. 25), and made the pro
forma disclosures required by SFAS No. 148, Accounting for Stock-Based CompensationTransition
and Disclosure (SFAS No. 148) for the three and nine months ended September 30, 2005. Except
for options granted to certain members of the Board for Board Services, all options granted under
the Plan and Prior Plan (discussed in Note 3) had exercise prices equal to the fair market value of
the underlying Common Stock on the date of grant. Accordingly, for the three and nine months ended
September 30, 2005, stock-based compensation is related to options granted to certain members of
the Board for Board Services and the issuance of restricted stock awards to certain employees
recorded in accordance with APB No. 25.
In accordance with SFAS No. 123R, the Company capitalizes the portion of stock-based
compensation expense attributed to research and development personnel whose labor costs are being
capitalized pursuant to SFAS No. 86, Accounting for the Costs of Computer Software to be Sold,
Leased or Otherwise Marketed, for the development of UltiPro Canadian HR/payroll (UltiPro
Canada) functionality. UltiPro Canada is being built from the existing product infrastructure of
UltiPro (e.g., using UltiPros source code and architecture). UltiPro Canada will provide
HR/payroll functionality which includes the availability of Canadian tax rules, as well as Canadian
human resources functionality, taking into consideration labor laws in Canada and including changes
to the language where necessary (i.e., English to French). The following table summarizes
stock-based compensation related to the development of UltiPro Canada (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months |
|
For the Nine Months |
|
|
Ended September 30, |
|
Ended September 30, |
|
|
2006 |
|
2005 |
|
2006 |
|
2005 |
Stock-based compensation |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Statement of operations |
|
$ |
1,415 |
|
|
$ |
71 |
|
|
$ |
4,128 |
|
|
$ |
156 |
|
Stock-based compensation |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Capitalized software (UltiPro
Canada) |
|
|
6 |
|
|
|
|
|
|
|
30 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stock-based compensation |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Statement of stockholdersequity |
|
$ |
1,421 |
|
|
$ |
71 |
|
|
$ |
4,158 |
|
|
$ |
156 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
9
Earnings Per Share
SFAS No. 128, Earnings Per Share, requires dual presentation of earnings per share
basic and diluted. Basic earnings per share is computed by dividing income available to common
stockholders (the numerator) by the weighted average number of common shares outstanding (the
denominator) for the period. The computation of diluted earnings per share is similar to basic
earnings per share, except that the denominator is increased to include the number of additional
common shares that would have been outstanding if the potentially dilutive common shares had been
issued.
The following is a reconciliation of the shares used in the computation of basic and diluted
net income per share (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the three months |
|
For the nine months |
|
|
ended September 30, |
|
ended September 30, |
|
|
2006 |
|
2005 |
|
2006 |
|
2005 |
Basic weighted average shares outstanding |
|
|
24,130 |
|
|
|
23,229 |
|
|
|
23,713 |
|
|
|
22,899 |
|
Effect of dilutive equity instruments |
|
|
2,900 |
|
|
|
3,337 |
|
|
|
3,178 |
|
|
|
3,213 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Dilutive weighted average shares outstanding |
|
|
27,030 |
|
|
|
26,566 |
|
|
|
26,891 |
|
|
|
26,112 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other common stock equivalents (i.e., stock
options, restricted stock awards, stock
units and warrants) outstanding which are
not included in the calculation of diluted
income per share because their impact is
antidilutive |
|
|
523 |
|
|
|
281 |
|
|
|
383 |
|
|
|
706 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Comprehensive Income
SFAS No. 130, Reporting Comprehensive Income, establishes standards for the reporting and
display of comprehensive income and its components in the Companys unaudited condensed
consolidated financial statements. The objective of SFAS No. 130 is to report a measure
(comprehensive income) of all changes in equity of an enterprise that result from transactions and
other economic events in a period other than transactions with owners. Accumulated other
comprehensive income, as presented on the accompanying unaudited condensed consolidated balance
sheets, consists entirely of unrealized gains on available-for-sale securities.
Comprehensive income for the three and nine months ended September 30, 2006 and 2005 was as
follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the three months |
|
For the nine months |
|
|
ended September 30, |
|
ended September 30, |
|
|
2006 |
|
2005 |
|
2006 |
|
2005 |
Net income |
|
$ |
1,303 |
|
|
$ |
701 |
|
|
$ |
2,335 |
|
|
$ |
1,590 |
|
Other comprehensive income: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Unrealized income (loss) on investments |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
in marketable securities available-for-sale |
|
|
42 |
|
|
|
(7 |
) |
|
|
33 |
|
|
|
(23 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Comprehensive income |
|
$ |
1,345 |
|
|
$ |
694 |
|
|
$ |
2,368 |
|
|
$ |
1,567 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
10
Guarantees
The Company adopted FASB Interpretation No. 45, Guarantors Accounting and Disclosure
Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others, (FIN 45)
on January 1, 2003. The provision for initial recognition and measurement of liability is applied
on a prospective basis to guarantees issued or modified after December 31, 2002. FIN 45 expands
previously issued accounting guidance and disclosure requirements for certain guarantees and
requires recognition of an initial liability for the fair value of an obligation assumed by issuing
a guarantee. As an element of standard commercial terms in its standard sales contracts for
UltiPro, the Company includes an indemnification clause that indemnifies the customer against
certain liabilities and damages arising from any claims of patent, copyright, or other proprietary
rights of any third party. Due to the nature of the intellectual property indemnification provided
to its customers, the Company cannot estimate the fair value, or determine the total nominal
amount, of the indemnification until such time as a claim for such indemnification is made. In the
event of a claim made against the Company under such provision, the Company evaluates estimated
losses for such indemnification under SFAS No. 5, Accounting for Contingencies, as interpreted by
FIN 45, considering such factors as the degree of probability of an unfavorable outcome and the
ability to make a reasonable estimate of the amount of loss. To date, the Company has not had any
claims made against it under such provision and, accordingly, has not accrued any liabilities
related to such indemnifications in its unaudited condensed consolidated financial statements.
Reclassifications
Certain amounts in the prior year balance sheets have been reclassified to conform to the 2006
presentation.
3. |
|
STOCK-BASED COMPENSATION |
Summary of Plans
The Companys 2005 Equity and Incentive Plan (the Plan) authorizes the grant of options to
directors, officers and employees of the Company to purchase shares of the Companys common stock,
par value $0.01 per share (the Common Stock). The Plan also authorizes the grant to such persons
of restricted and non-restricted shares of Common Stock, stock appreciation rights, stock units and
cash performance awards (collectively, and together with stock options, the Awards). The Plan
was approved by the Companys stockholders at the annual meeting of stockholders on May 17, 2005.
Prior to that date, options to purchase shares of Common Stock were issued under the Companys
Nonqualified Stock Option Plan (the Prior Plan). Effective May 17, 2005, no additional options
may be granted under the Prior Plan. However, options previously granted under the Prior Plan
remain outstanding to the extent they have not been exercised and have not expired. The aggregate
number of shares of Common Stock authorized under the Plan and the Prior Plan is 9,000,000. As of
September 30, 2006, the aggregate number of shares of Common Stock that were available to be issued
under all Awards granted under the Plan was 884,293 shares. Options granted to officers and
employees under the Plan and the Prior Plan generally have a 10-year term, vesting 25% immediately
and 25% on the anniversary of the grant date for each of the following three years. Options
granted to non-employee directors under the Plan and the Prior Plan generally have a 10-year term
and vest immediately on the grant date. However, options granted to non-employee directors for
Board Services under the Plan first become exercisable on the earliest of (i) the fifth anniversary
of the date of grant, (ii) the date on which the director ceases to be a member of the Board of
Directors or (iii) the effective date of a change in control of the Company.
11
Fair Value
On January 1, 2006, the Company adopted the provisions of SFAS No. 123R, which requires the
Company to recognize expense related to the fair value of stock-based compensation awards. The
Company elected the modified prospective transition method as permitted by SFAS No. 123R and
therefore has not restated the financial results for prior periods. Under the modified prospective
method, stock-based compensation expense for the three and nine months ended September 30, 2006
includes compensation expense for all stock-based compensation awards granted prior to, but not yet
vested as of, January 1, 2006, based on grant date fair value estimated in accordance with the
provisions of SFAS No. 123 and compensation expense for all stock-based compensation awards granted
subsequent to January 1, 2006, based on the grant date fair value estimated in accordance with the
provisions of SFAS No. 123R. In addition, options granted to certain members of the Board of
Directors for Board Services recorded in accordance with SFAS No. 123R and the issuance of
restricted stock awards and stock units are also included in stock-based compensation for the three
and nine months ended September 30, 2006. The Company recognizes compensation expense for
restricted stock awards and restricted stock units on a straight-line basis over the requisite
service period of the award.
The following table sets forth the stock-based compensation expense resulting from share-based
arrangements that is recorded in the Companys unaudited condensed consolidated statements of
operations for the periods indicated (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months |
|
For the Nine Months |
|
|
Ended September 30, |
|
Ended September 30, |
|
|
2006 |
|
2005 |
|
2006 |
|
2005 |
Cost of recurring
revenues |
|
$ |
89 |
|
|
$ |
|
|
|
$ |
289 |
|
|
$ |
|
|
Cost of service revenues |
|
|
157 |
|
|
|
|
|
|
|
605 |
|
|
|
|
|
Cost of license revenues |
|
|
1 |
|
|
|
|
|
|
|
5 |
|
|
|
|
|
Sales and marketing |
|
|
788 |
|
|
|
32 |
|
|
|
2,035 |
|
|
|
44 |
|
Research and development |
|
|
117 |
|
|
|
|
|
|
|
413 |
|
|
|
|
|
General and
administrative |
|
|
263 |
|
|
$ |
39 |
|
|
|
781 |
|
|
$ |
112 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
1,415 |
|
|
$ |
71 |
|
|
$ |
4,128 |
|
|
$ |
156 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Included in capitalized software in the Companys unaudited condensed consolidated balance
sheet at September 30, 2006 was $30 thousand in stock-based compensation incurred in the
development of UltiPro Canada during the first nine months of 2006. This amount would have
otherwise been charged to research and development expense for the nine months ended September 30,
2006.
Net cash proceeds from the exercise of stock options and warrants were $0.9 million and $6.2
million for the three and nine months ended September 30, 2006, respectively, and $0.9 million and
$4.5 million for the three and nine months ended September 30, 2005, respectively. No income tax
benefit was realized from stock option exercises during the three and nine months ended September
30, 2006 and September 30, 2005.
Prior to January 1, 2006, the Company accounted for its stock-based compensation plan as
permitted by SFAS No. 123, using the intrinsic value method prescribed in APB No. 25, and made the
pro forma disclosures required by SFAS No. 148 for the three and six months ended June 30, 2005.
Except for options granted to certain members of the Board for Board Services, all options granted
under the Plan and Prior Plan had exercise prices equal to the fair market value of the underlying
Common Stock on the date of grant. Accordingly, for the three and nine months ended September 30,
2005, stock-based compensation is related to options granted to certain members of the Board for
Board Services recorded in accordance with APB No. 25.
12
The following table illustrates the effect on net income (loss) after tax and net income
(loss) per share of Common Stock as if the Company had applied the fair value recognition
provisions of SFAS No. 123 to stock-based compensation during the three and nine months ended
September 30, 2005 (in thousands, except per share amounts):
|
|
|
|
|
|
|
|
|
|
|
For the Three |
|
For the Nine |
|
|
Months Ended |
|
Months Ended |
|
|
September 30, 2005 |
|
September 30, 2005 |
Net income: |
|
|
|
|
|
|
|
|
As reported |
|
$ |
701 |
|
|
$ |
1,590 |
|
Deduct: Stock-based compensation expense,
pro forma |
|
|
(786 |
) |
|
|
(2,286 |
) |
|
|
|
|
|
|
|
|
|
Net loss, pro forma |
|
$ |
(85 |
) |
|
$ |
(696 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss) per share, basic: |
|
|
|
|
|
|
|
|
As reported |
|
$ |
0.03 |
|
|
$ |
0.07 |
|
Stock-based compensation expense, pro forma |
|
|
(0.03 |
) |
|
|
(0.10 |
) |
|
|
|
|
|
|
|
|
|
Net loss per share, basic and diluted, pro forma |
|
$ |
|
|
|
$ |
(0.03 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss) per share, diluted: |
|
|
|
|
|
|
|
|
As reported |
|
$ |
0.03 |
|
|
$ |
0.06 |
|
Stock-based compensation expense, pro forma |
|
|
(0.03 |
) |
|
|
(0.09 |
) |
|
|
|
|
|
|
|
|
|
Net loss per share, basic and diluted, pro forma |
|
$ |
|
|
|
$ |
(0.03 |
) |
|
|
|
|
|
|
|
|
|
The fair value of stock-based awards was estimated using the Black-Scholes model with the
following weighted-average assumptions for the three and nine months ended September 30, 2006 and
September 30, 2005 (dollars in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months |
|
For the Nine Months |
|
|
Ended September 30, |
|
Ended September 30, |
|
|
2006 |
|
2005 |
|
2006 |
|
2005 |
Expected term (in years) |
|
|
4.66 |
|
|
|
4.0 |
|
|
|
4.55 |
|
|
|
4.0 |
|
Volatility |
|
|
40.7 |
% |
|
|
43 |
% |
|
|
40.2 |
% |
|
|
43 |
% |
Interest rate |
|
|
4.875 |
% |
|
|
3.90 |
% |
|
|
4.79 |
% |
|
|
3.90 |
% |
Dividend yield |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Forfeiture rate (1) |
|
|
4.90 |
% |
|
|
|
|
|
|
5.23 |
% |
|
|
|
|
Weighted average fair
value at grant date |
|
$ |
7.85 |
|
|
$ |
6.52 |
|
|
$ |
8.61 |
|
|
$ |
5.79 |
|
|
|
|
(1) |
|
The application of an estimated forfeiture rate was not applicable under SFAS No. 123
as the true-up of the pro forma compensation expense was applied based upon actual
forfeitures of options. |
The Companys computation of the expected volatility for the three and nine months ended
September 30, 2006 is based primarily upon historical volatility and the expected term of the
option. The expected term is based on the historical exercise experience under the share-based
plans of the underlying award (including post-vesting employment termination behavior) and
represents the period of time the share-based awards are expected to be outstanding. The interest
rate is based on the U.S. Treasury yield in effect at the time of grant for a period commensurate
with the estimated expected life. The forfeiture rate is based on historical data.
13
Restricted Stock Awards
Under the provisions of the Plan, the Company may, at its discretion, grant restricted stock
awards to certain officers and employees (Restricted Stock Awards). The shares of Common Stock
issued under Restricted Stock Awards are subject to certain vesting requirements and restrictions
on transfer. During the three months ended September 30, 2006, there were no grants of Restricted
Stock Awards. During the nine months ended September 30, 2006, the Company granted Restricted
Stock Awards for 105,000 shares of Common Stock of which none has been forfeited as of September
30, 2006. During the three and nine months ended September 30, 2005, the Company granted
Restricted Stock Awards for 35,000 shares of Common Stock of which none has been forfeited as of
September 30, 2006. Compensation expense for Restricted Stock Awards is measured based on the
closing market price of the Companys Common Stock at the date of grant and is recognized on a
straight-line basis over the vesting period. Holders of Restricted Stock Awards have all rights of
a stockholder including the right to vote the shares and receive all dividends and other
distributions paid or made with respect thereto. Each Award becomes vested on the fourth
anniversary of the respective date of grant, subject to the grantees continued employment with the
Company or any of its subsidiaries on each such vesting date and subject further to accelerated
vesting in the event of a change in control of the Company, the employees death or disability or
the termination of his employment by the Company without cause. Included in the Companys
financial results for the three and nine months ended September 30, 2006 was $0.3 million and $0.9
million, respectively, of compensation expense for Restricted Stock Awards. There was $35,000 and
$52,000, respectively, of compensation expense for Restricted Stock Awards included in the
Companys financial results for the three and nine months ended September 30, 2005.
Stock Unit Awards
The Company may, at its discretion, make awards of stock units under the Plan (Stock Unit
Awards) to certain officers and employees. A Stock Unit Award is a grant of a number of
hypothetical share units with respect to shares of Common Stock that are subject to vesting and
transfer restrictions and conditions under a stock unit award agreement. The value of each unit is
equal to the fair market value of one share of Common Stock on any applicable date of
determination. The payment with respect to each unit under a Stock Unit Award may be made, at the
discretion of the compensation committee of the Board of Directors, in cash or shares of Common
Stock or in a combination of both. The grantee of a Stock Unit Award does not have any rights as a
stockholder with respect to the shares subject to a Stock Unit Award until such time as shares of
Common Stock are delivered to the grantee pursuant to the terms of the related stock unit award
agreement.
As provided for in the Plan, the Chief Executive Officer and the Chief Operating Officer
(collectively, the Executive Officers) deferred receipt of one-half of their cash performance
awards under the Plan for 2005 in exchange for the grant of Stock Unit Awards under the Plan (the
Elected Deferral). Upon this election, the Company provided a matching contribution equal to
one-half of the amount deferred (the Company Match). The number of stock units subject to such
Stock Unit Award is determined by dividing the total amount deferred (including the Company Match)
by the fair market value of a share of the Companys Common Stock on the date of payment of the
non-deferred portion of the cash performance awards. The Stock Unit Awards vest on the fourth
anniversary of the date of grant, subject to the Executive Officers continued employment with the
Company, or any of its subsidiaries, on such vesting date and subject further to accelerated
vesting in the event of a change in control of the Company, the Executive Officers death or
disability or the termination of his employment by the Company without cause. The vested Stock
Unit Awards are payable in shares of Common Stock upon the earliest to occur of the fifth
anniversary of the date of grant, the Executive Officers death, disability or termination of
employment with the Company or a change in control of the Company. In the event that
14
an Executive Officer were to terminate employment and stock units resulting from his Elected
Deferral remain unvested, the Company would be required to refund to the Executive Officer a cash
amount equal to the lesser of such Elected Deferral (less taxes withheld) and the fair market value
of such units upon termination of employment. During the nine months ended September 30, 2006, the
Company granted 28,518 stock units to the Executive Officers, of which none has been forfeited as
of September 30, 2006. During the three and nine months ended September 30, 2005, no Stock Unit
Awards were granted. Included in the Companys financial results for the three and nine months
ended September 30, 2006 was $18 thousand and $41 thousand, respectively, of compensation expense
from Stock Unit Awards. Included in the Companys financial results for the three and nine months
ended September 30, 2005 was $10 thousand of compensation expense from Stock Unit Awards.
Stock Option and Restricted Stock Activity
The following table summarizes stock option activity for the nine months ended September 30,
2006, as follows (in thousands, except per share amounts):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted |
|
|
|
|
|
|
|
|
|
|
|
|
Average |
|
|
|
|
|
|
|
|
Weighted |
|
Remaining |
|
Aggregate |
|
|
|
|
|
|
Average |
|
Contractual |
|
Intrinsic |
Stock Options |
|
Shares |
|
Exercise Price |
|
Term (in Years) |
|
Value |
Outstanding at December 31, 2005 |
|
|
5,490 |
|
|
$ |
7.77 |
|
|
|
|
|
|
|
|
|
Granted |
|
|
565 |
|
|
|
20.95 |
|
|
|
|
|
|
|
|
|
Exercised |
|
|
(958 |
) |
|
|
6.43 |
|
|
|
|
|
|
|
|
|
Forfeited or expired |
|
|
(23 |
) |
|
|
17.51 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Outstanding at September 30, 2006 |
|
|
5,074 |
|
|
$ |
9.45 |
|
|
|
5.59 |
|
|
$ |
71,523 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Exercisable at September 30, 2006 |
|
|
4,013 |
|
|
$ |
7.60 |
|
|
|
4.77 |
|
|
$ |
63,938 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The aggregate intrinsic value of stock options in the table above represents total pretax
intrinsic value (i.e., the difference between the closing price of the Companys Common Stock on
the last trading day of the reporting period and the exercise price, times the number of shares)
that would have been received by the option holders had all option holders exercised their options
on September 30, 2006. The amount of the aggregate intrinsic value changes, based on the fair
market value of the Companys Common Stock. Total intrinsic value of options exercised was $2.3
million and $16.4 million for the three and nine months ended September 30, 2006, respectively.
Total fair value of options vested during the three and nine months ended September 30, 2006 is
$1.5 million and $3.4 million, respectively.
As of September 30, 2006, $4.6 million of total unrecognized compensation costs related to
non-vested stock options is expected to be recognized over a weighted average period of 1.7 years.
15
The following table summarizes restricted stock activity for the nine months ended September
30, 2006, as follows (in thousands, except per share amounts):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted |
|
|
|
|
|
|
Average |
|
|
|
|
|
|
Grant Date |
Restricted Stock |
|
Shares |
|
Fair Value |
Outstanding at December 31, 2005 |
|
|
169 |
|
|
$ |
16.86 |
|
Granted |
|
|
134 |
|
|
|
21.60 |
|
Vested |
|
|
|
|
|
|
|
|
Forfeited or expired |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Outstanding at September 30, 2006 |
|
|
303 |
|
|
$ |
18.68 |
|
|
|
|
|
|
|
|
|
|
As of September 30, 2006, $4.2 million of total unrecognized compensation costs related to
non-vested Restricted Stock Awards and stock units is expected to be recognized over a weighted
average period of 3.1 years.
4. |
|
RECENT ACCOUNTING PRONOUNCEMENTS |
In September 2006, the FASB issued Statement of Financial Accounting Standards No. 157, Fair
Value Measurements (SFAS No. 157). SFAS No. 157 defines fair value as used in numerous
accounting pronouncements, establishes a framework for measuring fair value in GAAP and expands
disclosures related to the use of fair value measures in financial statements. SFAS No. 157 does
not expand the use of fair value measures in financial statements, but standardizes its definition
and guidance in GAAP and emphasizes that fair value is a market-based measurement and not an
entity-specific measurement based on an exchange transaction in which the entity sells an asset or
transfers a liability (exit price). SFAS No. 157 establishes a fair value hierarchy from
observable market data as the highest level to fair value based on an entitys own fair value
assumptions as the lowest level. SFAS No. 157 is effective for the Companys consolidated
financial statements for interim and annual reporting periods beginning after November 15, 2007.
The Company is currently evaluating the impact of this new pronouncement on its unaudited condensed
consolidated financial statements.
In September 2006, the SEC issued Staff Accounting Bulletin No. 108, Considering the Effects
of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements,
(SAB 108). SAB 108 provides guidance on the consideration of effects of the prior year
misstatements in quantifying current year misstatements for the purpose of a materiality
assessment. The SEC staff believes registrants must quantify errors using both a balance sheet and
income statement approach and evaluate whether either approach results in quantifying a
misstatement that, when all relevant quantitative and qualitative factors are considered, is
material. SAB 108 is effective for the first annual period ending after November 15, 2006 with
early application encouraged. The Company plans to adopt SAB 108 in its fourth fiscal quarter of
2006. The Company is currently evaluating the impact of SAB 108 on its consolidated financial
statements.
In June 2006, the FASB issued FASB Interpretation No. 48, Accounting for Uncertainty in
Income Taxes, (FAS No. 48). The interpretation clarifies the accounting for uncertainty in
income taxes recognized in a companys financial statements in accordance with Statement of
Financial Accounting Standards No. 109, Accounting for Income Taxes. Specifically, the
pronouncement prescribes a recognition threshold and a measurement attribute for the financial
statement recognition and measurement of a tax position taken or expected to be taken in a tax
return. The interpretation also provides guidance on the related derecognition, classification,
interest and penalties, accounting for interim periods, disclosure and transition of uncertain tax
positions. FAS No. 48 is effective for fiscal years beginning after December 15, 2006. The Company
is currently evaluating the impact of this new pronouncement on its unaudited condensed
consolidated financial statements.
16
In March 2006, the Emerging Issues Task Force (EITF) reached a consensus on EITF Issue No.
06-3, How Taxes Collected from Customers and Remitted to Governmental Authorities Should Be
Presented in the Income Statement (That Is, Gross versus Net Presentation), (EITF No. 06-3),
that entities may adopt a policy of presenting taxes in the income statement either on a gross or
net basis. Gross or net presentation may be elected for each different type of tax, but similar
taxes should be presented consistently. Taxes within the scope of this EITF would include taxes
that are imposed on a revenue transaction between the seller and a customer (e.g., sales taxes, use
taxes, value-added taxes, and some types of excise taxes). EITF No. 06-3 is effective for the
Companys financial statements for interim and annual reporting periods beginning after December
15, 2006. The Company is currently evaluating the impact of EITF No. 06-3 on its unaudited
condensed consolidated financial statements.
In May 2005, the FASB issued SFAS No. 154, Accounting Changes and Error Corrections (SFAS
No. 154), which replaces APB Opinion No. 20, Accounting Changes (APB No. 20) and FASB
Statement No. 3, Reporting Accounting Changes in Interim Financial Statements (SFAS No. 3).
APB No. 20 required that changes in accounting principles be recognized by including the cumulative
effect of the change in the period in which the new accounting principle was adopted. SFAS No. 154
requires retrospective application of the change to prior periods financial statements, unless it
is impracticable to determine the period-specific effects of the change. SFAS No. 154 also
provides that a change in method of depreciating or amortizing a long-lived non-financial asset be
accounted for as a change in estimate effected by a change in accounting principle, and also
provides that correction of errors in previously issued financial statements should be termed a
restatement. SFAS No. 154 is effective for the Companys fiscal year ending December 31, 2006.
The adoption of this statement did not have an impact on the Companys unaudited condensed
consolidated financial statements.
In October 2006, the Company acquired 100% of the common stock of RTIX Ltd., a United Kingdom
company, and its wholly-owned U.S. subsidiary, RTIX Americas (collectively, RTIX) for a total
consideration of $4.0 million payable in the form of $3.4 million in cash and $0.6 million in
Common Stock. The Common Stock component of the total consideration is contingent upon RTIX
meeting certain financial criteria within a specified timeframe. RTIX developed the performance
management/appraisals solution that Ultimate Software has offered its customers since February
2006.
17
|
|
|
ITEM 2. |
|
Managements Discussion and Analysis of Financial Condition and Results of Operations |
The following discussion of the financial condition and results of operations of The Ultimate
Software Group, Inc. (Ultimate Software or the Company) should be read in conjunction with the
unaudited Condensed Consolidated Financial Statements and Notes thereto included elsewhere in this
Form 10-Q.
Executive Summary
Ultimate Softwares UltiPro Workforce Management Software (UltiPro) is a Web-based solution
designed to deliver the functionality businesses need to manage the employee life cycle, from
compensating and managing benefits to recruiting and hiring to terminating, whether the customers
processes are centralized at headquarters or distributed across multiple divisions or branch
offices. The Companys main sources of revenues include sales from the Intersourcing Offering
(defined below), sales of perpetual software licenses for UltiPro (and the related annual
maintenance) and sales of services (mostly implementation) related to both Intersourcing and
license sales.
The Companys primary business strategy was originally centered on sales of perpetual software
licenses of UltiPro. In an effort to reduce the volatility and unpredictable nature of a business
strategy predominantly focused on license sales, the Company introduced hosting services, branded
Intersourcing as an additional revenue source during 2002. Ultimate Software now offers hosting
services at two separate data center locationsthe original location in Miami, Florida, which was
opened in 2002, and the location opened in August 2005 in Atlanta, Georgia. With Intersourcing,
Ultimate Software provides the hardware, infrastructure, ongoing maintenance and back-up services
for its customers at its data centers. Operations of the facilities at both data centers are
managed by International Business Machines. Intersourcing is designed to appeal to those customers
that want to minimize their internal technology support requirements for the application and
hardware.
For the past several years (following the introduction of its Intersourcing offering), the
revenue mix in the Companys sales production has favored Intersourcing. Management believes that
this trend in sales mix composition will continue to occur in the foreseeable future, with a
concentration of unit sales in Intersourcing. Management also believes the shift in sales mix has
helped to produce a more predictable revenue stream by providing recurring revenue and cash from
Intersourcing over the related contract periods, typically 24 months. As Intersourcing units are
sold, the recurring revenue backlog associated with Intersourcing grows, enhancing the
predictability of future revenue streams. Intersourcing sales include a one-time upfront fee,
priced on a per-employee basis, and ongoing monthly fees, priced on a per-employee-per-month
(PEPM) basis. Upfront fees associated with the Intersourcing sale are recognized as recurring
subscription revenues ratably over the term of the related contract beginning when the related
customer processes its first live payroll (or goes Live). Ongoing monthly PEPM fees are
recognized as recurring subscription revenues each month commencing when the related customer goes
Live.
In connection with the Companys business strategy, which has a significant focus on
Intersourcing sales, an internal financial metric used by the Company in measuring future financial
performance is new annual recurring revenues. New annual recurring revenues (ARR) represent the
expected one-year value from (i) new Intersourcing sales from the Companys hosted model (including
prorated one-time fees); (ii) maintenance revenues related to new license sales; (iii) recurring
revenues from new business service providers (BSPs), as well as recurring revenues from new sales
by existing BSPs; and (iv) recurring revenues from additional sales to Ultimate Softwares existing
client base. New annual recurring revenues attributable to sales during the third fiscal quarter of
2006 were $5.1 million as
18
compared to $4.0 million for the same period in 2005. New annual recurring revenues
attributable to sales during the first nine months of 2006 were $16.5 million as compared to $11.4
million for the same period of 2005. The main contributors to the increase in new ARR were new
Intersourcing sales from the Companys hosted model (including prorated one-time fees) and, to a
lesser extent, an increase in annual recurring maintenance revenues related to new license sales.
In addition to Intersourcing, another major component of recurring revenues is subscription
revenues generated from the Companys BSP channel. The BSP contributing the most revenues from the
BSP channel during each of the three and nine months ended September 30, 2006 and 2005 was Ceridian
Corporation (Ceridian) under the Original Ceridian Agreement (defined below). See also
OverviewOriginal Ceridian Agreement.
Critical Accounting Policies and Estimates
The preparation of financial statements in conformity with GAAP in the United States requires
management to make estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the reporting period. Actual
results could differ from those estimates.
Revenue Recognition
Sources of revenue for the Company include:
|
|
|
Sales of the right to use UltiPro through Intersourcing (the Intersourcing
Offering), which includes Hosting Services; |
|
|
|
|
Sales of perpetual licenses for UltiPro in conjunction with services to host the
UltiPro application (Hosting Services); |
|
|
|
|
Sales of Hosting Services on a stand-alone basis to customers who already own a
perpetual license or are simultaneously acquiring a perpetual license for UltiPro
(Base Hosting); |
|
|
|
|
Sales of perpetual licenses for UltiPro; |
|
|
|
|
Recurring revenues derived from (1) maintenance revenues generated from maintaining,
supporting and providing periodic updates for the Companys software and (2)
subscription revenues generated from PEPM fees earned through the Intersourcing
Offering, Base Hosting and the BSP sales channel, amortization of Intersourcing or
Hosting Services one-time fees, and revenues generated from the Original Ceridian
Agreement; and |
|
|
|
|
Sales of services including implementation, training (also known as knowledge
management) and other services, including the provision of payroll-related forms and
the printing of Form W-2s for certain customers, as well as services provided to BSPs. |
19
Sales Generated from the Intersourcing Offering
Subscription revenues generated from the Intersourcing Offering are recognized in accordance
with Emerging Issues Task Force (EITF) No. 00-21, Revenue Arrangements with Multiple
Deliverables (EITF No. 00-21) as a services arrangement since the customer is purchasing the
right to use UltiPro rather than licensing the software on a perpetual basis. Fair value of
multiple elements in Intersourcing arrangements is assigned to each element based on the guidance
provided by EITF No. 00-21.
The elements that typically exist in Intersourcing arrangements include hosting services, the
right to use UltiPro, maintenance of UltiPro (i.e., product enhancements and customer support) and
professional services (i.e., implementation services and training in the use of UltiPro). The
pricing for hosting services, the right to use UltiPro and maintenance of UltiPro is bundled (the
Bundled Elements). Since these three Bundled Elements are components of recurring revenues in
the unaudited condensed consolidated statements of operations, allocation of fair values to each of
the three elements is not necessary and they are not reported separately. Fair value for the
Bundled Elements, as a whole, is based upon evidence provided by the Companys pricing for
Intersourcing arrangements sold separately. The Bundled Elements are provided on an ongoing basis
and represent undelivered elements under EITF No. 00-21; they are recognized on a monthly basis as
the services are performed, once the customer processes its first live payroll (i.e., goes Live).
Implementation and training services (the Professional Services) provided for Intersourcing
arrangements are typically priced on a time and materials basis and are recognized as services
revenue in the unaudited condensed consolidated statements of operations as the services are
performed. Under EITF 00-21, fair value is assigned to service elements in the arrangement based
on their relative fair values, using the prices established when the services are sold on a
stand-alone basis. Fair value for Professional Services is based on the respective Implementation
Valuation and Training Valuation. If evidence of the fair value of one or more undelivered
elements does not exist, the revenue is deferred and recognized when delivery of those elements
occurs or when fair value can be established.
The Company believes that applying EITF 00-21 to Intersourcing arrangements as opposed to
applying SOP 97-2 is appropriate given the nature of the arrangements whereby the customer has no
right to the UltiPro license.
Sales of Base Hosting Services
Subscription revenues generated from Base Hosting are recognized in accordance with EITF No.
00-3, Application of AICPA Statement of Position 97-2 to Arrangements that Include the Right to
Use Software Stored on Another Entitys Hardware, which provides guidance as to the application of
SOP 97-2 to hosting arrangements that include a license right to the software. The elements that
typically exist for Base Hosting arrangements include hosting services and implementation services.
Base Hosting is different than Intersourcing arrangements in that the customer already owns a
perpetual license or is purchasing a perpetual license for UltiPro and is purchasing hosting
services subsequently in a separate transaction, whereas with Intersourcing the customer is
purchasing the right to use (not license) UltiPro. Implementation services provided for Base
Hosting arrangements are substantially less than those provided for Intersourcing arrangements
since UltiPro is already implemented in Base Hosting arrangements and only needs to be transitioned
to a hosted environment. Fair value for hosting services is based on the Hosting Valuation. The
fair value for implementation services is based on the Implementation Valuation in accordance with
guidelines provided by SOP 97-2.
20
Perpetual Licenses for UltiPro Sold With or Without Hosting Services
Sales of perpetual licenses for UltiPro and sales of perpetual licenses for UltiPro in
conjunction with Hosting Services are multiple-element arrangements that involve the sale of
software and consequently fall under the guidance of Statement of Position (SOP) 97-2, Software
Revenue Recognition, for revenue recognition.
The Company licenses software under non-cancelable license agreements and provides services
including maintenance, implementation consulting and training services. In accordance with the
provisions of SOP 97-2, license revenues are generally recognized when (1) a non-cancelable license
agreement has been signed by both parties, (2) the product has been shipped, (3) no significant
vendor obligations remain and (4) collection of the related receivable is considered probable. To
the extent any one of these four criteria is not satisfied, license revenue is deferred and not
recognized in the unaudited condensed consolidated statements of operations until all such criteria
are met.
For multiple-element software arrangements, each element of the arrangement is analyzed and
the Company allocates a portion of the total fee under the arrangement to the elements based on
vendor-specific objective evidence of fair value of the element (VSOE), regardless of any
separate prices stated within the contract for each element. Fair value is considered the price a
customer would be required to pay when the element is sold separately.
The Residual Method (as defined below) is used to recognize revenue when a license agreement
includes one or more elements to be delivered at a future date and VSOE of the fair value of all
undelivered elements exists. The fair value of the undelivered elements is determined based on the
historical evidence of stand-alone sales of these elements to customers. Undelivered elements in a
license arrangement typically include maintenance, implementation and training services (the
Standard Undelivered Elements). The fair value for maintenance fees is based on the price of the
services sold separately, which is determined by the annual renewal rate historically and
consistently charged to customers (the Maintenance Valuation). Maintenance fees are generally
priced as a percentage of the related license fee. The fair value for implementation services is
based on standard pricing (i.e., rate per hour charged to customers for implementation services),
for stand-alone sales of implementation services (the Implementation Valuation). The fair value
for training services is based on standard pricing (i.e., rate per training day charged to
customers for class attendance), taking into consideration stand-alone sales of training services
through year-end seminars and historically consistent pricing for such services (the Training
Valuation). Under the residual method (the Residual Method), the fair value of the undelivered
elements is deferred and the remaining portion of the arrangement fee attributable to the delivered
element, the license fee, is recognized as license revenue. If VSOE for one or more undelivered
elements does not exist, the revenue is deferred on the entire arrangement until the earlier of the
point at which (i) such VSOE does exist or (ii) all elements of the arrangement have been
delivered.
Perpetual licenses of UltiPro sold without Hosting Services typically include a license fee
and the Standard Undelivered Elements. Fair value for the Standard Undelivered Elements is based
on the Maintenance Valuation, the Implementation Valuation and the Training Valuation. The
delivered element of the arrangement, the license fee, is accounted for in accordance with the
Residual Method.
Perpetual licenses of UltiPro sold with Hosting Services typically include a license fee, the
Standard Undelivered Elements and Hosting Services. Fair value for the Standard Undelivered
Elements is based on the Maintenance Valuation, the Training Valuation and the Implementation
Valuation. Hosting Services are delivered to customers on a PEPM basis over the term of the
related customer contract (Hosting PEPM Services). Upfront fees charged to customers represent
fees for the hosting infrastructure, including hardware costs, third-party license fees and other
upfront costs incurred by the Company in relation to
21
providing such services (Hosting Upfront Fees). Hosting PEPM Services and Hosting Upfront
Fees (collectively, Hosting Services) represent undelivered elements in the arrangement since
their delivery is over the course of the related contract term. The fair value for Hosting
Services is based on standard pricing (i.e., rate charged PEPM), taking into consideration
stand-alone sales of Hosting Services through the sale of such services to existing customers
(i.e., those who already own the UltiPro perpetual license at the time Hosting Services are sold to
them) and historically consistent pricing for such services (the Hosting Valuation). The
delivered element of the arrangement, the license fee, is accounted for in accordance with the
Residual Method.
The Companys customer contracts are non-cancelable agreements. The Company does not provide
for rights of return or price protection on its software. The Company provides a limited warranty
that its software will perform in accordance with user manuals for varying periods, which are
generally less than one year from the contract date. The Companys customer contracts generally do
not include conditions of acceptance. However, if conditions of acceptance are included in a
contract or uncertainty exists about customer acceptance of the software, license revenue is
deferred until acceptance occurs.
Recurring Revenues
Recurring revenues include maintenance revenues and subscription revenues. Maintenance
revenues are derived from maintaining, supporting and providing periodic updates for the Companys
software. Subscription revenues are principally derived from PEPM fees earned through the
Intersourcing Offering, Base Hosting and the BSP sales channel, as well as revenues generated from
the Original Ceridian Agreement. Maintenance revenues are recognized ratably over the service
period, generally one year. Maintenance and support fees are generally priced as a percentage of
the initial license fee for the underlying products.
To the extent there are upfront fees associated with the Intersourcing Offering, Base Hosting
or the BSP sales channel, subscription revenues are recognized ratably over the minimum term of the
related contract upon the delivery of the product and services. In the cases of Intersourcing and
Base Hosting sales, amortization of the upfront fees commences when the customer processes its
first Live payroll, which typically occurs four to six months after the sale, and extends until the
end of the initial contract period. In the case of BSP channel sales, amortization of the upfront
fee typically commences when the contract is signed, which is when the BSPs rights under the
agreement begin, continuing until the initial contract term ends. Ongoing PEPM fees from the
Intersourcing Offering, Base Hosting and the BSP sales channel are recognized as subscription
revenue as the services are delivered, typically on a monthly basis.
Commencing on August 28, 2002, subscription revenues generated from the Original Ceridian
Agreement are recognized ratably over the minimum term of the contract, which extends until March
9, 2008 (7 years from the effective date of the Original Ceridian Agreement). Subscription revenues
of $642,000 per month are based on guaranteed minimum payments from Ceridian of approximately $42.7
million over the minimum contract term, including $33.3 million received to date. The amount of
subscription revenue recognized under the Original Ceridian Agreement during the three and nine
months ended September 30, 2006, totaling $1.9 million and $5.8 million, respectively, was the same
as that recognized in the same periods of 2005. The Company expects to continue to recognize
$642,000 per month (or $7.7 million per annum) as recurring subscription revenue until March 9,
2008 when the Original Ceridian Agreement terminates.
Maintenance services provided to customers include product updates and technical support
services. Product updates are included in general releases to the Companys customers and are
distributed on a periodic basis. Such updates may include, but are not limited to, product
enhancements, payroll tax updates, additional security features or bug fixes. All features provided
in general releases are unspecified
22
upgrade rights. To the extent specified upgrade rights or entitlements to future products are
included in a multi-element arrangement, revenue is recognized upon delivery provided fair value
for the elements exists. In multi-element arrangements that include a specified upgrade right or
entitlement to a future product, if fair value does not exist for all undelivered elements, revenue
for the entire arrangement is deferred until all elements are delivered or when fair value can be
established.
Subscription revenues generated from the BSP sales channel include both the right to use
UltiPro and maintenance. The BSP is charged a fee on a PEPM basis and, in several cases, is
subject to a guaranteed monthly minimum amount for the term of the related agreement. Revenue is
recognized on a PEPM basis. To the extent the BSP pays the Company a one-time upfront fee, the
Company accounts for such fee by recognizing it as subscription revenue over the minimum term of
the related agreement.
Services, including Implementation and Training Services
Services revenues include revenues from fees charged for the implementation of the Companys
software products and training of customers in the use of such products, fees for other services,
including services provided to BSPs, the provision of payroll-related forms and the printing of
Form W-2s for certain customers, as well as certain reimbursable out-of-pocket expenses. Revenues
for implementation consulting and training services are recognized as services are performed to the
extent the pricing for such services is on a time and materials basis and the payment terms are
within the Companys ordinary and customary payment cycle. In the event payments for services are
outside the ordinary and customary period for the Company, the related revenues are recognized as
payments come due based on their relative fair values. Other services are recognized as the
product is shipped or as the services are rendered depending on the specific terms of the
arrangement.
Arrangement fees related to fixed-fee implementation services contracts are recognized using
the percentage of completion accounting method, which involves the use of estimates. Percentage of
completion is measured at each reporting date based on hours incurred to date compared to total
estimated hours to complete. If a sufficient basis to measure the progress towards completion does
not exist, revenue is recognized when the project is completed or when the Company receives final
acceptance from the customer.
The Company recognizes revenue in accordance with the Securities Exchange Commission (SEC)
Staff Accounting Bulletin No. 101, Revenue Recognition in Financial Statements (SAB No. 101)
and the SEC Staff Accounting Bulletin No. 104, Revenue Recognition (SAB No. 104). Management
believes the Company is currently in compliance in all material aspects with the current provisions
set forth in SOP 97-2, SOP 98-9, EITF 00-21, EITF 00-3, SAB No. 101 and SAB No. 104.
Allowance for Doubtful Accounts
The Company maintains an allowance for doubtful accounts at an amount estimated to be
sufficient to provide adequate protection against losses resulting from collecting less than full
payment on accounts receivable. In assessing the adequacy of the allowance for doubtful accounts,
the Company considers multiple factors including historical bad debt experience, the general
economic environment, and the aging of its receivables. A considerable amount of judgment is
required when the realization of receivables is assessed, including assessing the probability of
collection and current credit-worthiness of each customer. If the financial condition of the
Companys customers were to deteriorate, resulting in an impairment of their ability to make
payments, an additional provision for doubtful accounts may be required.
23
Deferred Taxes
The Company provides a valuation allowance for that portion of deferred tax assets which is
not likely to be recognized due to the Companys cumulative losses and the uncertainty as to future
recoverability. Any reversal of the deferred tax valuation allowance is made when the Company
believes that it is more likely than not that this portion of the deferred tax asset will be
realized. The computation of the deferred tax assets and related valuation allowance is based on
taxable income expected to be earned over future periods which will include the utilization of
previously accumulated net operating tax losses. Each quarter, the Company will continue to
evaluate the amount, if any, of additional reduction or increase of the valuation allowance that
should be made. This will be based on managements estimate and conclusions regarding the ultimate
realization of the deferred tax assets, including but not limited to the Companys recent financial
results as well as projected earnings over future periods. While the Company has considered future
taxable income and ongoing prudent and feasible tax planning strategies in assessing the need for
the deferred tax valuation allowance, in the event the Company is able to determine that it would
be able to realize the deferred tax assets in the future, a reduction in the deferred tax asset
valuation allowance would increase income in the period the determination was made.
Overview
Ultimate Software designs, markets, implements and supports payroll and workforce management
solutions.
Ultimate Softwares UltiPro Workforce Management Software (UltiPro) is a Web-based solution
designed to deliver the functionality businesses need to manage the employee life cycle, from
compensating and managing benefits to recruiting and hiring to terminating, whether the customers
processes are centralized at headquarters or distributed across multiple divisions or branch
offices. UltiPros human resources (HR) and benefits management functionality is wholly
integrated with a flexible payroll engine, reporting and analytical decision-making tools, and a
self-service Web portal for executives, managers, administrators, and employees to review and
update work-related and personal information. Ultimate Software believes that UltiPro helps
customers streamline HR and payroll processes to significantly reduce administrative and
operational costs, while also empowering executives and staff to access critical information
quickly and perform routine business activities efficiently.
UltiPro is marketed both through the Companys direct sales team as well as through alliances
with business service providers (BSPs) that market co-branded UltiPro to their customer bases.
Ultimate Softwares direct sales team focuses primarily on companies with more than 500 employees
and sells both a license model (typically in-house) and a service model (typically hosted and
priced on a PEPM basis). The Companys BSP alliances focus primarily on companies with under 500
employees and, since 2004, very large companies, generally those with over 10,000 employees, as
well. The Companys BSP alliances typically sell an Internet solution, which includes UltiPro,
priced on a monthly/service basis. When the BSP sells its Internet solution, incorporating UltiPro
in the offering, the BSP is obligated to remit a fee to the Company, typically measured on a PEPM
basis and, in some cases, subject to a guaranteed monthly minimum amount.
The Companys direct sales force markets UltiPro as an in-house human resources, payroll and
workforce management solution and alternatively as a hosted offering branded Intersourcing (the
Intersourcing Offering). Intersourcing provides Web access to comprehensive workforce management
functionality for organizations that need to simplify the information technology (IT) support
requirements of their business applications. Ultimate Software believes that Intersourcing is
attractive to companies that want to focus on their core competencies to increase sales and
profits. Through the Intersourcing model, introduced in 2002, the Company provides the hardware,
infrastructure, ongoing
24
maintenance and backup services for its customers at two data centers located in Miami,
Florida and Atlanta, Georgia (opened in August 2005), both managed by IBM.
Intersourcing Offering
In 2002, the Company began offering a hosting service, branded Intersourcing, whereby the
Company provides the hardware, infrastructure, ongoing maintenance and back-up services for its
customers at a data center located in Miami, Florida, which is managed by IBM. In August 2005, the
Company opened a second data center, which is located in Atlanta, Georgia and is also managed by
IBM. Different types of hosting arrangements include the sale of Hosting Services as a part of the
Intersourcing Offering, discussed below, and, to a lesser extent, the sale of Hosting Services to
customers that license UltiPro on a perpetual basis. Hosting Services, typically available in a
shared environment, provide Web access to comprehensive workforce management functionality for
organizations that need to simplify the IT support requirements of their business applications and
are priced on a PEPM basis. In the shared environment, Ultimate Software provides an
infrastructure with applicable servers shared among many customers who use a Web browser to access
the application software through the data centers.
The Intersourcing Offering is designed to provide an appealing pricing structure to customers
who prefer to minimize the initial cash outlay associated with typical capital expenditures.
Intersourcing customers purchase the right to use UltiPro on an ongoing basis for a specific term,
typically in a shared environment. The pricing for Intersourcing, including both the hosting
element as well as the right to use UltiPro, is on a PEPM basis.
Original Ceridian Agreement
During 2001, Ultimate Software and Ceridian reached an agreement, as amended in 2002, which
granted Ceridian a non-exclusive license to use UltiPro software as part of an on-line offering
that Ceridian can market primarily to businesses with under 500 employees (the Original Ceridian
Agreement). Ceridian marketed that solution under the name SourceWeb.
Under the agreement, Ceridian is required to pay the Company a monthly license fee based on
the number of employees paid using the licensed software. These payments are subject to a minimum
monthly payment of $500,000 per month with increases of 5% per annum, compounded beginning in
January 2006. The aggregate minimum payments that Ceridian is obligated to pay Ultimate Software
under the Original Ceridian Agreement over the minimum term of the Agreement are $42.7 million. To
date, Ceridian has paid to Ultimate Software a total of $33.3 million under the Original Ceridian
Agreement.
Effective March 9, 2006, Ceridian provided Ultimate Software with a two years advance written
notice of termination of the Original Ceridian Agreement, as permitted under the terms of the
Agreement. Pursuant to such notice, the Original Ceridian Agreement will terminate on March 9,
2008 (unless terminated earlier for an uncured material breach).
During December 2004, RSM McGladrey Employer Services (RSM), an existing BSP of Ultimate
Software, acquired Ceridians SourceWeb HR/payroll and self-service product and existing SourceWeb
base of small and midsize business customers throughout the United States (the RSM Acquisition).
The financial terms of the Original Ceridian Agreement have not changed as a result of the RSM
Acquisition. Ceridian continues to be financially obligated to pay Ultimate Software a minimum fee
of $500,000 per month with increases of 5% per annum, compounded beginning in January 2006.
Therefore, the minimum monthly fee payable to Ultimate Software from Ceridian in 2006 is $525,000.
25
Ultimate Software expects to continue to recognize a minimum of $642,000 per month, or $7.7
million per year, in recurring subscription revenues from the Original Ceridian Agreement until its
termination on March 9, 2008.
Items Affecting Comparability between Periods
Prior to January 1, 2006, the Company accounted for share-based plans under the recognition
and measurement requirements of APB Opinion No. 25, Accounting for Stock Issued to Employees, and
related Interpretations, as permitted by Statement of Financial Accounting Standards (SFAS) No.
123, Accounting for Stock-Based Compensation. Prior to January 1, 2006, stock-based compensation
expense was recognized only for grants of restricted stock awards, stock units and stock options
which were granted at exercise prices less than the fair market value of the underlying Common
Stock on the grant date. During the three and nine months ended September 30, 2005, while there
were no grants of stock units, there were grants of restricted stock awards. In addition, stock
options that had exercise prices less than the fair market value of the Common Stock on the grant
date were granted to certain members of the Board of Directors for Board Services and fully vested
on the grant date. Therefore, stock-based compensation expense for the three and nine months ended
September 30, 2005 is related to both restricted stock awards granted and the options granted to
certain members of the Board for Board Services, recorded in accordance with APB No. 25.
Effective January 1, 2006, the Company adopted the fair value recognition provisions of SFAS
No. 123R, Share-Based Payment, using the modified-prospective transition method. Under this
transition method, compensation was recognized beginning January 1, 2006 and includes (a)
compensation expense for all share-based employee compensation arrangements granted prior to, but
not yet vested as of, January 1, 2006, based on the grant date fair value estimated in accordance
with the original provisions of SFAS No. 123, and (b) compensation expense for all share-based
employee compensation arrangements granted subsequent to January 1, 2006, based on the grant-date
fair value estimated in accordance with the provisions of SFAS No. 123R. Results of prior periods
have not been restated.
The following table sets forth the stock-based compensation expense (SBC) resulting from
share-based arrangements that is recorded in the Companys unaudited condensed consolidated
statements of operations for the periods indicated (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months |
|
For the Nine Months |
|
|
Ended September 30, |
|
Ended September 30, |
|
|
2006 |
|
2005 |
|
2006 |
|
2005 |
Cost of recurring revenues |
|
$ |
89 |
|
|
$ |
|
|
|
$ |
289 |
|
|
$ |
|
|
Cost of service revenues |
|
|
157 |
|
|
|
|
|
|
|
605 |
|
|
|
|
|
Cost of license revenues |
|
|
1 |
|
|
|
|
|
|
|
5 |
|
|
|
|
|
Sales and marketing |
|
|
788 |
|
|
|
32 |
|
|
|
2,035 |
|
|
|
44 |
|
Research and development |
|
|
117 |
|
|
|
|
|
|
|
413 |
|
|
|
|
|
General and administrative |
|
|
263 |
|
|
$ |
39 |
|
|
|
781 |
|
|
$ |
112 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total SBC |
|
$ |
1,415 |
|
|
$ |
71 |
|
|
$ |
4,128 |
|
|
$ |
156 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
As of September 30, 2006, $4.6 million of total unrecognized compensation costs related to
non-vested stock options is expected to be recognized over a weighted average period of 1.7 years.
As of September 30, 2006, $4.2 million of total unrecognized compensation costs related to
non-vested restricted stock awards and stock units is expected to be recognized over a weighted
average period of 3.1 years.
26
Included in capitalized software on the Companys unaudited condensed consolidated balance
sheet at September 30, 2006 was $30 thousand in stock-based compensation incurred in the
development of UltiPro Canada during the first nine months of 2006. This amount would otherwise
have been charged to research and development expense for the nine months ended September 30, 2006.
Results of Operations
The following table sets forth the unaudited condensed consolidated statements of operations
data of the Company, as a percentage of total revenues, for the periods indicated.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months |
|
For the Nine Months |
|
|
Ended September 30, |
|
Ended September 30, |
|
|
2006 |
|
2005 |
|
2006 |
|
2005 |
Revenues: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Recurring |
|
|
57.3 |
% |
|
|
58.4 |
% |
|
|
56.8 |
% |
|
|
57.6 |
% |
Services |
|
|
32.7 |
|
|
|
29.2 |
|
|
|
31.8 |
|
|
|
30.0 |
|
License |
|
|
10.0 |
|
|
|
12.4 |
|
|
|
11.4 |
|
|
|
12.4 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total revenues |
|
|
100.0 |
|
|
|
100.0 |
|
|
|
100.0 |
|
|
|
100.0 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost of revenues: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Recurring |
|
|
16.0 |
|
|
|
16.2 |
|
|
|
15.9 |
|
|
|
15.8 |
|
Services |
|
|
25.3 |
|
|
|
23.3 |
|
|
|
25.2 |
|
|
|
23.5 |
|
License |
|
|
1.1 |
|
|
|
0.7 |
|
|
|
1.2 |
|
|
|
0.7 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total cost of revenues |
|
|
42.4 |
|
|
|
40.2 |
|
|
|
42.3 |
|
|
|
40.0 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating expenses: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Sales and marketing |
|
|
25.1 |
|
|
|
24.9 |
|
|
|
26.6 |
|
|
|
25.1 |
|
Research and development |
|
|
20.4 |
|
|
|
23.7 |
|
|
|
20.2 |
|
|
|
23.9 |
|
General and administrative |
|
|
8.8 |
|
|
|
8.8 |
|
|
|
9.2 |
|
|
|
9.0 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total operating expenses |
|
|
54.3 |
|
|
|
57.4 |
|
|
|
56.0 |
|
|
|
58.0 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income (loss) |
|
|
3.3 |
|
|
|
2.4 |
|
|
|
1.7 |
|
|
|
2.0 |
|
Interest expense |
|
|
(0.2 |
) |
|
|
(0.2 |
) |
|
|
(0.2 |
) |
|
|
(0.3 |
) |
Interest and other income |
|
|
1.4 |
|
|
|
1.0 |
|
|
|
1.4 |
|
|
|
0.8 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss) |
|
|
4.5 |
% |
|
|
3.2 |
% |
|
|
2.9 |
% |
|
|
2.5 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenues
The Companys revenues are derived from three principal sources: recurring revenues, services
revenues and software licenses (license revenues).
Recurring revenues include annual maintenance on software license agreements for the Companys
products and subscription revenues. Maintenance revenues are derived from maintaining, supporting
and providing periodic updates for the Companys software. Subscription revenues are principally
derived from fees earned through the Intersourcing Offering, Base Hosting and the BSP sales
channel, as well as revenues generated from the Original Ceridian Agreement. Maintenance revenues
are recognized ratably over the service period, generally one year. To the extent there are upfront
fees associated with the Intersourcing Offering, Base Hosting or the BSP sales channel,
subscription revenues are recognized ratably over the term of the related contract upon the
delivery of the product and services. Per-employee-per-month (PEPM) fees from the Intersourcing
Offering, Base Hosting and the BSP sales channel are recognized as subscription revenues as the
services are delivered. All of the Companys customers that purchased software during the three
and nine months ended September, 2006 and 2005 also purchased maintenance and support service
contracts. Maintenance and support fees are generally priced as a percentage of the initial license
fee for the underlying products.
27
Services revenues include revenues from fees charged for the implementation of the Companys
software products and training of customers in the use of such products, fees for services provided
to BSPs, the provision of payroll-related forms and the printing of Form W-2s for certain
customers and certain reimbursable out-of-pocket expenses. Revenues for training and
implementation consulting services are recognized as services are performed to the extent the
pricing for such services is either on a time and materials basis or the payment terms are within
the Companys ordinary and customary payment cycle. In the event payments for services are outside
the ordinary and customary period for the Company, the related revenues are recognized as payments
come due based on their relative fair values. Other services are recognized as the product is
shipped or as the services are rendered.
License revenues include revenues from software license agreements for the Companys products,
entered into between the Company and its customers in which the license fees are non-cancelable.
License revenues are generally recognized upon the delivery of the related software product when
all significant contractual obligations have been satisfied. Until such delivery, the Company
records amounts received when contracts are signed as customer deposits which are included with
deferred revenues in the unaudited consolidated balance sheets.
Total revenues, consisting of recurring, services and license revenues, increased 29.7% to
$28.8 million for the three months ended September 30, 2006 and by 28.5% to $81.8 million for the
nine months ended September 30, 2006.
Recurring revenues increased 27.3% to $16.5 million for the three months ended September 30,
2006 and 26.6% to $46.5 million for the nine months ended September 30, 2006. The increases in
recurring revenues for the three and nine months ended September 30, 2006 were primarily due to
increases in Intersourcing revenues, maintenance revenues, and, to a lesser extent, subscription
revenues. Intersourcing revenues increased due to incremental recurring subscription revenues
generated from additional previously sold Intersourcing units which went live (i.e., when the
underlying customer processes its first live payroll for its employees) since September 30, 2005.
Recognition of recurring subscription revenues for Intersourcing unit sales commences upon live
date. Maintenance revenues increased due to additional maintenance fees resulting from cumulative
increases in the customer base subsequent to September 30, 2005 due to incremental license sales
since such date. Maintenance revenues are recognized over the initial term of the related license
contract, which is typically 12 months, and then on a recurring basis thereafter (on a monthly
basis ratably over the term of the respective renewal period).
Services revenues increased 45.1% to $9.4 million for the three months ended September 30,
2006 and 36.3% to $26.0 million for the nine months ended September 30, 2006. The increases in the
three- and nine- month periods were mainly due to increases in implementation revenues primarily
due to additional billable hours stemming from a combination of implementing incremental units sold
and an increase in the number of the Companys revenue-generating consultants and a higher rate per
hour. In addition, the Company used third-party implementation partners significantly more in 2006
(with a concentrated use in the third quarter) to assist in handling the increased demand for
implementations due to increased sales, which contributed to the growth in services revenues.
License revenues increased 5.0% to $2.9 million for the three months ended September 30, 2006
and 18.1% to $9.3 million for the nine months ended September 30, 2006. The marginal increase in
the three month period was principally due to a higher average selling price per unit for UltiPro,
as well as additional license sales of add-on products (i.e., products sold with UltiPro, which
have an incremental fee), including UltiPro time and attendance (UTA) and Recruitment. The
increase in the nine month period was primarily due to the sale of one larger than average license
unit sold during the first quarter of 2006 and a higher average selling price per unit (excluding
the impact of the large sale in early 2006).
28
Cost of Revenues
Cost of revenues consists of the cost of recurring, services and license revenues. Cost of
recurring revenues consists of costs to provide maintenance and technical support to the Companys
customers, the cost of providing periodic updates and the cost of subscription revenues, including,
to a lesser extent, amortization of certain capitalized software. Cost of services revenues
primarily consists of costs to provide implementation services and training to the Companys
customers and costs to provide services to BSPs and, to a lesser degree, costs related to sales of
payroll-related forms and costs associated with certain reimbursable out-of-pocket expenses. Cost
of license revenues primarily consists of fees payable to third-parties for software products
distributed by the Company. UltiPro includes third-party software for enhanced report-writing
purposes, and, to a lesser extent, certain product initiatives, such as employee recruitment and
time and attendance. When UltiPro licenses are sold, customers pay the Company on a per user basis
for the license rights to the third-party software.
Total cost of revenues (including $0.2 million in stock-based compensation for the three
months ended September 30, 2006) increased 36.8% to $12.2 million for the three months ended
September 30, 2006. Total cost of revenues (including $0.9 million in stock-based compensation for
the nine months ended September 30, 2006) increased 36.0% to $34.7 million for the nine months
ended September 30, 2006
Cost of recurring revenues increased 28.3% to $4.6 million for the three months ended
September 30, 2006 and by 30.1% to $13.0 million for the nine months ended September 30, 2006. The
increases in cost of recurring revenues for the three and nine months ended September 30, 2006
(which included stock-based compensation of $0.1 million and $0.3 million for the three and nine
months ended September 30, 2006, respectively), was primarily due to the increases in both
Intersourcing costs and maintenance costs. The increase in the Intersourcing costs was principally
due to the growth in Intersourcing operations and increased sales, including increased labor costs
and higher operating costs such as depreciation and amortization of related computer equipment
supporting the operations and costs associated with the operations of the Companys two data
centers, including the impact of opening the second data center in August 2005. The increase in
maintenance costs was primarily related to increased labor costs commensurate with the growth in
the number of customers serviced.
Cost of services revenues increased 41.0% to $7.3 million for the three months ended September
30, 2006 and by 37.8% to $20.7 million for the nine months ended September 30, 2006. The increase
in cost of services revenues for the three and nine month periods ended September 30, 2006 (which
included stock-based compensation of $0.2 million and $0.6 million for the three and nine months
ended September 30, 2006, respectively), was primarily due to an increase in costs of
implementation. Due to the continued sales growth of both Intersourcing and license units, there
was an increase in labor costs primarily resulting from additional billable consultants hired to
support this growth and, to a lesser extent, the use of third-party implementation partners who
assisted in handling the increased demand for implementing UltiPro and add-on products.
Cost of license revenues increased 93.3% to $319,000 for the three months ended September 30,
2006 and by 108.2% to $966,000 for the nine months ended September 30, 2006. The increase in cost
of license revenues for the three and nine months ended September 30, 2006 was principally due to
higher royalties paid to third-party vendors for products sold in conjunction with UltiPro,
including new add-on products such as UTA.
29
Sales and Marketing
Sales and marketing expenses consist primarily of personnel costs, including sales
commissions, as well as travel and promotional expenses, facility and communication costs for
direct sales offices and advertising and marketing costs. Sales and marketing expenses increased
30.8% to $7.2 million for the three months ended September 30, 2006 and by 35.9% to $21.7 million
for the nine months ended September 30, 2006. The $1.7 million increase in the three-month period
ended September 30, 2006 and the $5.7 million increase in the nine-month period ended September 30,
2006 were principally due to increased sales commissions and other additional labor costs
(including $0.8 million and $2.0 million of stock-based compensation for the three- and nine- month
periods ended September 30, 2006, respectively), partly attributable to hiring additional personnel
for the sales organization associated with the new UltiPro add-on product offerings, such as UTA,
as well as expected sales of UltiPro Canada (defined below), once developed. Sales commissions
increased on both license revenues as well as Intersourcing revenues, correlating with the growth
in those revenue sources. Sales commissions on license sales are recognized when the license
revenues are recognized, which is typically when the product is shipped. Sales commissions on
Intersourcing sales are amortized over the initial contract term (typically 24 months) commencing
on live date, which corresponds to Intersourcing revenue recognition. Increased sales
commissions also resulted from a higher percentage of sales being made by salespeople in the direct
sales force whose year-to-date performance placed them at higher commission rates.
Research and Development
Research and development expenses consist primarily of software development personnel costs.
Research and development expenses increased 12.1% to $5.9 million three months ended September 30,
2006 and by 8.5% to $16.5 million for the nine months ended September 30, 2006. Excluding the
impact of capitalized costs associated with UltiPro Canada, which totaled $0.5 million and $1.3
million for the three- and nine-month periods ended September 30, 2006, research and development
expenses increased $1.1 million and $2.5 million, respectively, in 2006, in comparison to the same
periods last year, principally due to higher labor costs, including the impact of increased
staffing needs related to the ongoing development of UltiPro Canada, increased development for
UltiPro, including product enhancements and additional functionality, as well as annual merit
increases and, to a lesser extent, $0.1 million and $0.4 million of stock-based compensation
expense for the three and nine month periods ended September 30, 2006, respectively.
In accordance with SFAS No. 86, Accounting for the Costs of Computer Software to be Sold,
Leased or Otherwise Marketed, the Company capitalized certain research and development personnel
costs for the development of UltiPro Canadian HR/payroll (UltiPro Canada) functionality. UltiPro
Canada is being built from the existing product infrastructure of UltiPro (e.g., using UltiPros
source code and architecture). UltiPro Canada will provide HR/payroll functionality which includes
the availability of Canadian tax rules, as well as Canadian human resources functionality, taking
into consideration labor laws in Canada and including changes to the language where necessary
(i.e., English to French). The Company expects to capitalize additional research and development
costs relative to the UltiPro Canada project during the remainder of 2006 and the first half of
2007 as it anticipates a general release of UltiPro Canada approximately toward the end of the
first half of 2007, at which time capitalization would cease under SFAS No. 86 guidelines.
General and Administrative
General and administrative expenses consist primarily of labor costs for executive,
administrative and financial personnel, as well as external professional fees and the provision for
doubtful accounts. General and administrative expenses for the three months ended September 30,
2006 increased 29.9% to $2.5 million and by 32.0% to $7.5 million for the nine months ended
September 30, 2006. The increase
30
for the three months ended September 30, 2006 was primarily due to an increase in the
provision for doubtful accounts attributable to the growth in accounts receivable (commensurate
with sales growth), an increase in external professional fees and additional labor costs (including
additional personnel to support the Companys growth). The increase for the nine-month period
ended September 30, 2006 was primarily due to increased labor costs attributable to hiring
additional personnel to support the Companys growth and, to a lesser extent, annual merit
increases. Included in general and administrative expenses for the three and nine month periods
ended September 30, 2006 was $0.3 million and $0.8 million, respectively, of stock-based
compensation expense.
Interest Expense
Interest expense of $0.1 million and $0.2 million for the three and nine month periods ended
September 30, 2006, respectively, was comparable to interest expense during the same periods in the
prior year.
Interest and Other Income
Interest and other income increased 87.9% to $419 thousand for the three months ended
September 30, 2006 and 118.3% to $1.1 million for the nine months ended September 30, 2006. The
increases in interest and other income for the three and nine month ended September 30, 2006 were
primarily due to interest income on increased cash and cash equivalents available for investment,
excluding investments in marketable securities available for sale. See Note 2 to the unaudited
condensed consolidated financial statements included herein for further discussion on investments
in marketable securities available for sale.
Income Taxes
No provision or benefit for federal, state or foreign income taxes was made for the three
months ended September 30, 2006 or 2005 due to the operating loss carryforwards from prior periods
incurred in the respective periods. Net operating loss carryforwards available at December 31, 2005
which expire at various times through the year 2025 are available to offset future taxable income
were $67.0 million. The timing and levels of future profitability may result in the expiration of
net operating loss carryforwards before utilization. Additionally, utilization of such net
operating losses may be limited as a result of cumulative ownership changes in the Companys equity
instruments.
Liquidity and Capital Resources
The Company has historically funded operations primarily through the private and public sale
of equity securities and, to a lesser extent, equipment financing and borrowing arrangements.
As of September 30, 2006, the Company had $31.9 million in cash, cash equivalents and total
investments in marketable securities, reflecting a net decrease of $0.9 million since December 31,
2005. This decrease was primarily due to repurchases of Common Stock of $9.8 million, an increase
in capital expenditures of $6.3 million (including cash purchases of property and equipment and
principal payments on financed equipment from capital lease obligations and principal payments on
the Equipment Loan, defined below) and additional capitalized software of $1.3 million, partially
offset by cash generated from operations of $10.3 million and cash proceeds from employee stock
option exercises of $6.2 million.
Net cash provided by operating activities was $10.3 million for the nine months ended
September 30, 2006 as compared to $2.6 million for the nine months ended September 30, 2005. The
$7.7 million
31
increase in net cash provided by operating activities was primarily due to an increase in
funds generated from operations related to the Companys sales growth, including sales of
Intersourcing units.
Net cash used in investing activities was $8.5 million for the nine months ended September 30,
2006 as compared to $3.0 million for the nine months ended September 30, 2005. The $5.5 million
increase in net cash used in investing activities was primarily due to increased cash purchases of
property and equipment of $2.3 million, an increase in net purchases of marketable securities of
$2.0 million and an increase in capitalized software costs associated with UltiPro Canada of $1.3
million.
Net cash used in financing activities was $5.2 million for the nine months ended September 30,
2006 as compared to net cash provided by financing activities of $3.9 million for the nine months
ended September 30, 2005. The $9.1 million decrease in net cash used in financing activities was
primarily related to Company repurchases of Common Stock of $9.8 million (whereas no such
repurchases were made in the prior year comparable period) as well as an increase in principal
payments on financed equipment of $1.0 million, partially offset by an increase in net proceeds
from exercises of employee stock options of $1.7 million.
Days sales outstanding, calculated on a trailing three-month basis (DSO), as of September
30, 2006 and 2005, were 66 days and 58 days, respectively. The increase in DSOs as of September
30, 2006 was related to the increase in accounts receivable principally from incremental revenues
generated.
Deferred revenues were $37.2 million at September 30, 2006 as compared to $33.0 million at
December 31, 2005. The increase of $4.2 million in deferred revenues for 2006 was primarily due to
increased sales from Intersourcing operations (which originate deferred revenues upon contract
execution for the upfront fees and initial PEPM fees). Substantially all of the total balance in
deferred revenues is related to future recurring revenues, including Intersourcing.
The Company had a credit facility (the Credit Facility) with Silicon Valley Bank, which was
secured by the Companys eligible accounts receivable. The Credit Facility was comprised of a
revolving line of credit (the Revolver) and an equipment term loan (the Equipment Loan). The
Credit Facilitys Revolver expired on May 27, 2006. Based upon the strength and consistency of the
cash flow position as well as managements expectations for the next twelve months, the Company
chose not to renew the Credit Facility upon its expiration. The Credit Facilitys Equipment Loan,
while still effective, did not have any future borrowing capacity after May 27, 2006. The
outstanding balance of $0.8 million under the Equipment Loan as of September 30, 2006 is payable on
or before December 31, 2008 under the payment terms of such agreement. As of September 30, 2006,
the Company was in compliance with all covenants included in the terms of the Credit Facility.
In October 2006, the Company acquired 100% of the common stock of RTIX Ltd., a United Kingdom
company, and its wholly-owned U.S. subsidiary, RTIX Americas (collectively, RTIX) for a total
consideration of $4.0 million payable in the form of $3.4 million in cash and $0.6 million in
Common Stock. The Common Stock component of the total consideration is contingent upon RTIX
meeting certain financial criteria within a specified timeframe. RTIX developed the performance
management/appraisals solution that Ultimate Software has offered its customers since February
2006.
During August 2006, the Company formed a wholly-owned subsidiary, The Ultimate Software Group
of Canada, Inc. (the Canadian Subsidiary). The Canadian Subsidiary is expected to accommodate
the Companys future sales operations in Canada, primarily related to UltiPro Canada, which is
currently under development.
32
The Company believes that cash and cash equivalents, investments in marketable securities and
cash generated from operations will be sufficient to fund its operations for at least the next 12
months. This belief is based upon, among other factors, managements expectations for future
revenue growth, controlled expenses and collections of accounts receivable.
Off-Balance Sheet Arrangements
The Company does not have any off-balance sheet arrangements (as that term is defined in
applicable SEC rules) that are reasonably likely to have a current or future material effect on the
Companys financial condition, results of operations, liquidity, capital expenditures or capital
resources.
Quarterly Fluctuations
The Companys quarterly revenues and operating results have varied significantly in the past
and are likely to vary substantially from quarter to quarter in the future. The Companys operating
results may fluctuate as a result of a number of factors, including, but not limited to, increased
expenses (especially as they relate to product development and sales and marketing), timing of
product releases, increased competition, variations in the mix of revenues, announcements of new
products by the Company or its competitors and capital spending patterns of the Companys
customers. The Company establishes its expenditure levels based upon its expectations as to future
revenues, and, if revenue levels are below expectations, expenses can be disproportionately high. A
drop in near term demand for the Companys products could significantly affect both revenues and
profits in any quarter. Operating results achieved in previous fiscal quarters are not necessarily
indicative of operating results for the full fiscal years or for any future periods. As a result of
these factors, there can be no assurance that the Company will be able to maintain profitability on
a quarterly basis. The Company believes that, due to the underlying factors for quarterly
fluctuations, period-to-period comparisons of its operations are not necessarily meaningful and
that such comparisons should not be relied upon as indications of future performance.
Forward-Looking Statements
The foregoing Managements Discussion and Analysis of Financial Condition and Results of
Operations contains certain forward-looking statements within the meaning of Section 27A of the
Securities Act of 1933, as amended (the Securities Act), and Section 21E of the Securities
Exchange Act of 1934, as amended (the Exchange Act). These forward-looking statements represent
the Companys expectations or beliefs, including, but not limited to, statements concerning the
Companys operations and financial performance and condition. Words such as anticipates,
expects, intends, plans, believes, seeks, estimates, and similar expressions are
intended to identify such forward-looking statements. These forward-looking statements are not
guarantees of future performance and are subject to certain risks and uncertainties that are
difficult to predict. The Companys actual results could differ materially from those contained in
the forward-looking statements due to risks and uncertainties associated with fluctuations in the
Companys quarterly operating results, concentration of the Companys product offerings,
development risks involved with new products and technologies, competition, the Companys
relationships with third parties, contract renewals with business partners, compliance by our
customers with the terms of their contracts with us, and other factors disclosed in this quarterly
report on Form 10-Q and the annual report on Form 10-K for the year ended December 31, 2005,
including Exhibit 99.1 thereto, filed with the SEC on March 15, 2006. The Company undertakes no
obligation to publicly update or revise any forward-looking statements, whether as a result of new
information, future events or otherwise .
33
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ITEM 3. |
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Quantitative and Qualitative Disclosures About Market Risk |
In the ordinary course of its operations, the Company is exposed to certain market risks,
primarily interest rates. Uncertainties that are either non-financial or non-quantifiable, such as
political, economic, tax, other regulatory or credit risks are not included in the following
assessment of the Companys market risks.
Market risks. The Company manages market risk in accordance with its investment guideline
objectives, including:
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Maximum safety of principal |
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Maintenance of appropriate liquidity for regular cash needs |
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Maximum yields in relationship to guidelines and market conditions |
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Diversification of risks |
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Fiduciary control of all investments |
The Company targets its fixed income investment portfolio to have maturities of 24 months or
less. Investments are held to enhance the preservation of capital and not for trading purposes.
Interest rates. Cash equivalents consist of money market accounts with original maturities of
less than three months. Short-term investments include obligations of U.S. government agencies and
corporate debt securities. Corporate debt securities include commercial paper which must carry
minimum short-term ratings of P-1 by Moodys and A-1 by Standard & Poors. Other corporate debt
obligations must carry a minimum rating of A-2 by Moodys or A by Standard & Poors. Asset-backed
securities must carry a minimum AAA rating by Moodys and Standard & Poors with a maximum average
life of two years at the time of purchase.
Interest on the Credit Facility, which expired on May 26, 2006, was based on Prime Rate per
annum. The Company chose not to renew the Credit Facility upon its expiration. The Company was
charged a weighted average interest rate of 6.5% per annum during the first nine months of 2006
under the Credit Facility. As of September 30, 2006, there was no amount outstanding under the
Credit Facilitys Revolver and $0.8 million outstanding under the Credit Facilitys Equipment Loan,
with no future availability to draw on the Equipment Loan and payment of the outstanding balance of
such Equipment Loan due on or before December 31, 2008.
As of September 30, 2006, total investments in available-for-sale marketable securities were
$17.6 million. The Company is subject to financial market risks, including changes in interest
rates and the valuations of its investment portfolio. Changes in amounts borrowed or interest
rates could impact the Companys anticipated interest income from interest-bearing cash accounts,
or cash equivalents and investments in marketable securities, as well as interest expense on
borrowings under the Credit Facility.
Interest rate risk. As of September 30, 2006, virtually all of the investments in the
Companys portfolio were at fixed rates (with a weighted average interest rate of 5.1% per annum).
In addition, the Credit Facility is a variable rate borrowing facility.
To illustrate the potential impact of changes in interest rates, the Company has performed the
following analysis based on its September 30, 2006 unaudited condensed consolidated balance sheet
and assuming no changes in its investment and borrowing structure. Under this analysis, an
immediate and sustained 100 basis point increase in the various base rates would result in a
decrease in the fair market value of the Companys total portfolio of approximately $90 thousand
over the next 12 months. An immediate and sustained 100 basis point decrease in the various base
rates would result in an increase of
the fair market value of the Companys total portfolio of approximately $90 thousand over the
next 12 months.
34
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ITEM 4. |
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Controls and Procedures |
(a) Evaluation of disclosure controls and procedures. The Company carried out an evaluation,
under the supervision and with the participation of the Companys management, including the Chief
Executive Officer (the CEO) and the Chief Financial Officer (the CFO), of the effectiveness of
the design and operation of the Companys disclosure controls and procedures as of the end of the
period covered by this report pursuant to Exchange Act Rule 13a-15. Based on that evaluation, the
Companys management, including the CEO and CFO, concluded that the Companys disclosure controls
and procedures are effective to ensure that information required to be disclosed by the Company in
reports that the Company files or submits under the Exchange Act is recorded, processed, summarized
and timely reported as specified in the SECs rules and forms and accumulated and communicated to
the Companys management, including the CEO and CFO, to allow timely decisions regarding
disclosure. It should be noted that the design of any system of controls is based in part upon
certain assumptions about the likelihood of future events, and there can be no assurance that any
design will succeed in achieving its stated goals under all potential future conditions, regardless
of how remote.
(b) Changes in internal control over financial reporting. In connection with the evaluation
required by Exchange Act Rule 13a-15, the Companys management, including the CEO and CFO,
concluded that no changes occurred during the quarter ended September 30, 2006 in the Companys
internal control over financial reporting that have materially affected, or are reasonably likely
to materially affect, the Companys internal control over financial reporting.
PART II OTHER INFORMATION
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ITEM 2. |
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Unregistered Sales of Equity Securities and Use of Proceeds |
Issuer Purchases of Equity Securities On October 30, 2000, the Company announced that its
Board of Directors authorized the repurchase of up to 1,000,000 shares of the Companys outstanding
Common Stock (the Stock Repurchase Plan). Stock repurchases may be made periodically in the open
market, in privately negotiated transactions or a combination of both.
For purposes of mitigating the expected dilution created by stock-based compensation, during
the fourth quarter of 2005, the Companys Board of Directors authorized the Company to resume
repurchasing its Common Stock under the Stock Repurchase Program, commencing in 2006. The Company
did not repurchase any shares of its Common Stock under the Stock Repurchase Plan in 2003, 2004 or
2005. As of September 30, 2006, an aggregate of 290,563 shares of Common Stock remained authorized
for repurchase under the Stock Repurchase Plan. The extent and timing of these repurchase
transactions will depend on market conditions and other business considerations.
35
There were 451,790 shares of the Companys Common Stock repurchased during the nine months
ended September 30, 2006 but no repurchases made during the nine months ended September 30, 2005.
As of September 30, 2006, the Company had purchased 709,437 shares of the Companys Common Stock
under the Stock Repurchase Plan. The details of Common Stock repurchases for the nine months ended
September 30, 2006 were as follows:
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Total Number of |
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Maximum Number of |
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Shares Purchased as Part |
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Shares That May Yet |
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Total Number of |
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Average Price |
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Of Publicly Announced |
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Be Purchased Under the |
Period |
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Shares Purchased (1) |
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Paid per Share |
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Plans or Programs (2) |
|
Plans or Programs |
January 1 31, 2006 |
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|
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|
|
|
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742,353 |
|
February 1 28, 2006 |
|
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|
|
|
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|
|
|
|
|
|
|
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742,353 |
|
March 1 31, 2006 |
|
|
43,800 |
|
|
|
22.84 |
|
|
|
301,447 |
|
|
|
698,553 |
|
April 1 30, 2006 |
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|
|
|
|
|
|
|
|
|
|
|
|
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698,553 |
|
May 1 31, 2006 |
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|
120,190 |
|
|
|
22.69 |
|
|
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421,637 |
|
|
|
578,363 |
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June 1 30, 2006 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
578,363 |
|
July 1 31, 2006 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
578,363 |
|
August 1 31, 2006 |
|
|
211,200 |
|
|
|
20.27 |
|
|
|
632,837 |
|
|
|
367,163 |
|
September 1 30, 2006 |
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|
76,600 |
|
|
|
22.63 |
|
|
|
709,437 |
|
|
|
290,563 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
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Total |
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451,790 |
|
|
$ |
22.11 |
|
|
|
709,437 |
|
|
|
290,563 |
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(1) |
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All shares were purchased through the publicly announced Stock Repurchase Plan in open-market transactions. |
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(2) |
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On October 30, 2000, the Company announced that its Board of Directors had authorized a stock repurchase of
up to 1,000,000 shares of the Companys outstanding Common Stock pursuant to the Stock Repurchase Plan. The
Companys stock repurchase transactions will be conducted over an indefinite period of time. |
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Number |
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Description |
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10.37 |
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Lease of Office Space by and between OMERS Realty
Corporation CPP Investment Board Real Estate Holdings
Inc., and The Ultimate Software Group of Canada, Inc.,
dated August 22, 2006 * |
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10.38 |
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Indemnity Agreement between OMERS Realty Corporation
CPP Investment Board Real Estate Holdings, Inc., and the
Company dated August 22, 2006 * |
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31.1 |
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Certification Pursuant to Rule 13a-14(a) and Rule 15d-14(a) of the
Securities Exchange Act of 1934, as amended |
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31.2 |
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Certification Pursuant to Rule 13a-14(a) and Rule 15d-14(a) of the
Securities Exchange Act of 1934, as amended |
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32.1 |
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Certification Pursuant to 18 U.S.C. Section 1350, as Adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, as
amended |
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32.2 |
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Certification Pursuant to 18 U.S.C. Section 1350, as Adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, as
amended |
36
Signatures
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly
caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
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The Ultimate Software Group, Inc.
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Date: November 8, 2006 |
By: |
/s/ Mitchell K. Dauerman
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Mitchell K. Dauerman |
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Executive Vice President, Chief
Financial Officer and Treasurer
(Authorized Signatory and Principal
Financial and Accounting Officer) |
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37