UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
(Mark One)
x | Annual report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 for the fiscal year ended December 31, 2005 or |
¨ | 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 1-12989
SunGard® Data Systems Inc.
(Exact name of registrant as specified in its charter)
Delaware | 51-0267091 | |
(State of incorporation) | (I.R.S. Employer Identification No.) |
680 East Swedesford Road, Wayne, Pennsylvania 19087
(Address of principal executive offices, including zip code)
484-582-2000
(Telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
None
Securities registered pursuant to Section 12(g) of the Act:
None
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ¨. No x.
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes x. No ¨.
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ¨. No x.
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the registrants knowledge, in definitive proxy or information statements incorporated by reference into Part III of this Form 10-K or any amendment to this Form 10-K. x.
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.
Large accelerated filer ¨. Accelerated filer ¨. Non-accelerated filer x.
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨. No x.
The aggregate market value of the registrants voting stock held by nonaffiliates is zero. The registrant is a privately held corporation.
There were 100 shares of the registrants Common Stock outstanding as of March 1, 2006.
DOCUMENTS INCORPORATED BY REFERENCE
None.
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PART II |
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Managements Discussion and Analysis of Financial Condition and Results of Operations |
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Item 9. |
Changes In and Disagreements With Accountants on Accounting and Financial Disclosure |
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PART III |
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Item 12. |
Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters |
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PART IV |
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Certain of the matters we discuss in this Report on Form 10-K may constitute forward-looking statements. You can identify forward-looking statements because they contain words such as believes, expects, may, will, should, seeks, approximately, intends, plans, estimates, or anticipates or similar expressions which concern our strategy, plans or intentions. These forward-looking statements are subject to risks and uncertainties that may change at any time, and, therefore, our actual results may differ materially from those we expected. We described some of the factors that we believe could affect our results in ITEM 1ARisk Factors. We assume no obligation to update any written or oral forward-looking statements made by us or on our behalf as a result of new information, future events or other factors.
ITEM 1. | BUSINESS |
We are one of the worlds leading software and IT services companies. We provide software and processing solutions to institutions throughout the financial services industry, higher education, and the public sector; and we help enterprises of all types to maintain the continuity of their business through information availability services. We operate our business in three segments: Financial Systems (FS), Higher Education and Public Sector Systems (HEPS) and Availability Services (AS). Our FS segment primarily serves financial services companies, corporate and government treasury departments and energy companies. Our HEPS segment primarily serves higher education institutions, state and local governments and not-for-profit organizations. Our AS segment serves information-dependent companies across virtually all industries.
Our company supports more than 25,000 customers in over 50 countries, including the worlds 50 largest financial services companies. We seek to establish long-term customer relationships by negotiating multi-year contracts and by emphasizing customer support and product quality and integration. We believe that we are one of the most efficient operators of mission-critical information technology, or IT, solutions as a result of the economies of scale we derive from serving multiple customers on shared platforms. Our revenue is highly diversified by customer and product, with no single customer accounting for more than 3% of our total revenue during any of the past three fiscal years. We estimate that approximately 89% of our revenue for the past three fiscal years was recurring in nature, with approximately 7% of our total revenue associated with upfront software licenses.
We were acquired on August 11, 2005 by a consortium of private equity investment funds associated with Bain Capital Partners, The Blackstone Group, Goldman Sachs & Co., Kohlberg Kravis Roberts & Co., Providence Equity Partners, Silver Lake Partners and Texas Pacific Group (the Transaction). The Transaction was accomplished through the merger of Solar Capital Corp. into SunGard Data Systems Inc., with SunGard Data Systems Inc. being the surviving company.
All references in this report to SunGard, the Company, we, our, and us mean, unless the context indicates otherwise, SunGard Data Systems Inc. and its subsidiaries on a consolidated basis.
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Leading franchise in attractive industries. Built over many years, our business has leading positions and strong customer relationships in industries with attractive growth dynamics.
| Leading industry positions. We believe that the majority of businesses within our FS segment are leaders in the sectors in which they participate within the highly fragmented global market for financial services IT software and services. We believe that HEPS is a leading provider of software and services to higher education institutions and the public sector. AS is the pioneer and leader in the availability services industry. |
| Attractive industry dynamics. We believe that the sectors in which we participate have favorable growth dynamics. We believe that FS will benefit from several key industry dynamics: the shift from internal to external IT spending, the shift from infrastructure to application software spending, and the general increase in IT spending associated with rising compliance and regulatory requirements and real-time information needs. We believe that HEPS will benefit from favorable growth dynamics in higher education and public safety IT spending. We believe that AS will continue to benefit from strong internal growth in the small and medium business sector. We believe that our extensive experience and the significant total capital that we have invested in AS and our strong relationships with our customers in the relatively fragmented software and processing sectors that we serve help us to maintain leading positions. We believe that these factors provide us with competitive advantages and enhance our growth potential. |
Highly attractive business model. We have an extensive portfolio of businesses with substantial recurring revenue, a diversified customer base and significant operating cash flow generation.
| Extensive portfolio of businesses with substantial recurring revenue. With a large portfolio of services and products in each of our three business segments, we have a diversified and stable business. We estimate that approximately 89% of our revenue for the past three fiscal years was recurring in nature. In FS, none of our more than 50 business units accounted for more than 7% of FS revenue in 2005. Because our FS customers generally pay us monthly fees that are based on metrics such as number of users or accounts, we believe that our FS revenue is more insulated from trading and transaction volumes than the financial services industry at large. Our extensive portfolio of businesses and the largely recurring nature of our revenue across all three of our segments have reduced volatility in our revenue and income from operations. |
| Diversified and stable customer base. Our base of 25,000 customers includes the worlds 50 largest financial services firms, a variety of other financial services firms, corporate and government treasury departments, energy companies, institutions of higher education, school districts and not-for-profit organizations. Our AS business serves customers across most sectors of the economy. We believe that our specialized solutions and services help our customers improve operational efficiency, capture growth opportunities and respond to regulatory requirements, which results in long-term customer relationships. Our customer base is highly diversified with no single customer accounting for more than 3% of total revenue during any of the last three fiscal years. |
| Significant operating cash flow generation. The combination of moderate capital expenditures and minimal working capital requirements allows us to convert a significant proportion of our revenue to cash available for debt service. |
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Experienced and committed management team with track record of success. Our management team, operating within a decentralized, entrepreneurial culture, has a long track record of operational excellence, has a proven ability to acquire and integrate complementary businesses, and is highly committed to our Companys long-term success.
| Long track record of operational excellence. We have a solid track record of performance consistent with internal financial targets. Our experienced senior executive officers have proven capabilities in both running a global business and managing numerous applications that are important to our customers. Our FS solutions account for and manage over $25 trillion in investment assets and process over 5 million transactions per day. In our HEPS business, 1,600 universities and colleges rely on our administrative, portal advancement, information access and academic solutions. Our AS business has had a 100% success rate in supporting customer recoveries since our inception. |
| Successful, disciplined acquisition program. To complement our organic growth, we have a highly disciplined, due diligence-intensive program to evaluate, execute and integrate acquisitions. We have completed more than 140 acquisitions over the past 20 years and overall have improved the operating performance of acquired businesses. Our ongoing acquisition program has contributed significantly to our long-term growth and success. |
| Experienced and committed management team. Our most senior executive officers have an average tenure with the Company of 15 years. Our senior managers have committed significant personal capital to our Company in connection with the Transaction. |
We are focused on expanding our position not only as a leading provider of integrated software and processing solutions, but also as the provider of choice for a wide range of availability services for a broad base of information-dependent enterprises. Our operating and financial strategy emphasizes fiscal discipline, profitable revenue growth and significant operating cash flow generation. In pursuit of these objectives, we have implemented the following strategies:
Expand our industry-leading franchise. We are constantly enhancing our product and service offerings across our portfolio of businesses, further building and leveraging our customer relationships, and looking to acquire complementary businesses at attractive valuations.
| Enhance our product and service offerings. We continually support, upgrade and enhance our systems to incorporate new technology and meet the needs of our customers for increased operational efficiency and resilience. Our strong base of recurring revenue allows us to reinvest in our products and services. We continue to introduce innovative products and services in all three of our business segments. We believe that our focus on product enhancement and innovation will help us to increase our penetration of existing and new customers. |
| Extend our strong customer relationships. We focus on developing trusted, well-managed, long-term relationships with our customers. We look to maximize cross-selling opportunities, increase our share of our customers total IT spending and maintain a high level of customer satisfaction. Our global account management program allows us to present a single face to our larger FS customers as well as better target potential cross-selling opportunities. |
| Acquire and integrate complementary businesses. We seek to opportunistically acquire, at attractive valuations, businesses that broaden our existing product and service offerings, |
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expand our customer base and strengthen our leadership positions, especially within the fragmented FS and HEPS markets. Before committing to an acquisition, we devote significant resources to due diligence and to developing a post-acquisition integration plan, including the identification and quantification of potential cost savings. Our ongoing acquisition program has contributed significantly to our long-term growth and success. |
Optimize our attractive business model. We continue to focus on maintaining our attractive business model and, in particular, increasing our recurring revenue base and identifying and implementing opportunities for incremental operational improvement.
| Maintain our recurring revenue base. We strive to generate a high level of recurring revenue and stable cash flow from operations. Many of the products and services we offer feature recurring monthly fees that are based on multi-year contracts, and we continue to prefer such contracts because they offer high levels of revenue stability and visibility. Moreover, we believe that our high quality services and customized solutions help increase the level of integration and efficiency for our customers and reduce customer losses to other vendors or to in-house solutions. |
| Implement incremental operational improvements. We have identified opportunities to further increase revenue, reduce costs and improve cash flow from operations. These include the global account management program, which stimulates cross-selling opportunities and account penetration for our largest customers; centralization of certain product management functions and expansion of certain software development capacity in lower-cost regions; the selective integration of certain FS and HEPS business units; and the increased focus on generating revenue from ancillary services such as customer training and education as well as consulting. |
Enhance our performance-based culture. We have an experienced management team that is focused on enhancing our performance-based culture. We will continue to evaluate and implement programs to improve our current management structure through competitive compensation plans and continue to design effective human resources initiatives to retain key individuals from acquired businesses. Our compensation program, consistent with past practice, is highly performance-based.
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Our Segments
Financial Systems |
Higher Education and Public Sector Systems |
Availability Services | ||||
Revenue for the Year Ended December 31, 2005 |
$1,906 million | $788 million | $1,308 million | |||
Products and Organization |
Software and processing solutions that automate the many detailed processes associated with trading securities, managing portfolios of and accounting for investment assets |
Specialized enterprise resource planning and administrative solutions |
Portfolio of always ready standby services, as well as advanced recovery and always on production services that help businesses maintain uninterrupted access to their critical information and computer systems | |||
Key Facts |
50+ business units 50+ primary brands |
8 business units 40+ products |
3,000,000+ square feet of secure facilities 25,000+ mile global network | |||
Primary Customers |
Financial services companies Corporate and government treasury departments Energy companies |
Higher education institutions School districts State and local governments Not-for-profit organizations |
Large, medium and small companies across virtually all industries |
In FS, we primarily serve financial services institutions through a broad range of complementary software solutions that process their investment and trading transactions. These solutions are grouped into the following business areas: (1) institutional asset management and securities servicing systems; (2) trading, treasury and risk management systems; (3) wealth management and brokerage systems; and (4) benefit administration and insurance systems. The principal purpose of most of these systems is to automate the many detailed processes associated with trading securities, managing investment portfolios and accounting for investment assets. We also provide professional services that focus on application implementation and integration of these solutions and on software development.
Since our inception, we have consistently enhanced our FS systems to add new features, process new types of financial instruments, incorporate new technologies and meet evolving customer demands. In addition, we have acquired many FS businesses, most being smaller providers of specialized products that were similar or complementary to the FS products we already owned.
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Our FS solutions are used by customers on both the buy-side and sell-side of the global financial services industry, as well as corporate and government treasury departments and energy companies. Buy-side customers include banks, investment managers, mutual funds, investment advisors, insurance companies, trustees, benefit plan administrators and others involved in buying, holding and managing investments. Sell-side customers include brokers, exchange members, depositaries, custodians, transfer agents and others involved in selling, brokering and trading financial instruments. Approximately five million transactions per day are processed by our systems at some point in the trade cycle.
We deliver many of our FS solutions as an application service provider, primarily from our data centers located in North America and Europe that customers access through the Internet or virtual private networks. We also deliver some of our FS solutions by licensing the software to customers for use on their own computers.
In 2005, we formed a new operating group for our FS business units based in Europe to better serve our European customers by focusing our product development and distribution strategies on their specific requirements. Also in 2005, we formed our enterprise solutions group in order to market and sell enterprise software and processing solutions primarily to our global accounts.
Institutional Asset Management and Securities Servicing Systems
Our institutional asset management and securities servicing systems include a range of software solutions used primarily by buy-side customers to maintain the books of record for all types of institutional investment portfolios, such as those managed by institutional asset managers, mutual funds, hedge funds, funds of funds, banks, prime brokers and third party administrators. We offer an integrated investment management application suite that provides straight-through processing for investment transactions, with comprehensive front- to back-office functionality including trade order management, execution support, portfolio management, compliance checking, accounting and reporting.
Our investment management systems are used to track investment activities including purchases and sales of securities, value portfolios using securities prices from various market sources, provide performance measurement and attribution analyses, perform complex accounting calculations and general ledger postings, and generate a variety of accounting, audit, tax and regulatory reports. In addition, some of these systems are used by investment advisors and other portfolio managers to analyze large investment portfolios using various models to assist with investment strategy and management decisions. We also provide software solutions that address the specialized accounting needs of domestic and offshore hedge funds and funds of funds and that address the specialized needs of private equity partnerships and venture capital funds.
Trading, Treasury and Risk Management Systems
Our trading systems are used by traders worldwide to trade most types of financial instruments and commodities, including equities, fixed income, foreign exchange, and their derivatives and to help manage, and report trades efficiently. The capabilities of our trading systems range from online transaction initiation and order management to integrated trading, trade matching, and accounting. Many of our customers achieve further efficiencies by completing transactions through the SunGard Transaction Network, which links participants across the financial industry to provide automated order routing for a variety of securities types. These include U.S. and foreign equities, fixed-income instruments, mutual funds, money market funds, certificates of deposit, and commercial paper.
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We own three registered brokers that facilitate enhanced straight-through processing by providing the following services using our financial systems solutions: (1) a clearing broker that provides order routing, execution and clearing for professional traders; (2) a full-service equities trading desk for institutional investors; and (3) a New York Stock Exchange member that executes trades for institutional investors.
Our treasury systems are used by the treasury departments of corporate and government entities worldwide to manage their cash, debt and investment portfolios. With the recent acquisition of The GetPAID Corporation, we now offer accounts receivables and working capital optimization solutions. In addition, we offer a Web-based service that provides a single point of access via the Internet to help corporate treasurers manage geographically dispersed treasury operations more efficiently.
We provide a range of software solutions that automate risk management and trading operations for capital markets globally. Generally, these products are used by traders and market makers of fixed income securities, foreign exchange contracts and equities, and their related derivatives such as interest rate and credit derivatives, convertible bonds, foreign exchange options and equity options. These front- to back-office systems help customers price and analyze trades, manage market and credit risk across the institution, process and account for trading activities and determine hedging strategies to manage risk. These systems also help customers monitor compliance with regulations and with their own trading policies, limits and internal controls.
We also provide a comprehensive solution for global banks to manage the credit risk associated with their worldwide trading activities. This solution allows users to consolidate credit exposures, optimize collateral management, and monitor compliance with capital requirements and regulations such as Basel II. We also provide to banks, mortgage and credit lenders and other institutions asset and liability management software with comprehensive risk management and performance measurement functionality.
We provide software systems that help utilities, power generating companies and energy traders, producers and distribution companies to manage physical and financial trading activities. These systems provide trading support, market and credit risk management, trade processing, power scheduling and accounting functions.
We also provide exception management and reporting systems to financial services institutions. These systems automatically detect and repair errors that occur when transactions move between systems, which helps prevent exceptions in straight-through processing. In addition, we offer software solutions that provide intelligent message transformation, content-based routing, and data validation and enrichment, primarily for payments and post-trade automation. This helps financial services firms to integrate their financial messaging business processes.
Wealth Management and Brokerage Systems
Our wealth management systems include a range of software solutions used primarily by bank trust departments to manage and service the portfolios of high net worth individuals. We offer an integrated wealth management application suite that provides straight-through processing for global asset management firms and includes functionality for portfolio management and performance measurement, trade order management, regulatory and tax compliance, preparation of customer statements and handling of other customer services.
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Several of our wealth management systems are used to automate the investment, operations and administrative areas unique to the bank trust business, including cash and portfolio management, payment of trust expenses, retiree benefits and beneficiary distributions and preparation of tax returns for taxable trusts. Other wealth management systems are used to automate the functions associated with the worldwide custody and safekeeping of invested assets, such as trade settlement, investment income collection, tax reclamation, foreign exchange and reconciliation of depositary and sub-custodian positions.
We also provide a range of solutions used by brokers, banks and insurance companies to support front office wealth management activities. For example, we provide software solutions that are used by retail brokers in their advisory role to track customer contacts and manage customer portfolios. We also provide systems that enable our customers to provide online brokerage services to their own customers. Other wealth management systems are used by investment advisors to identify new prospects, create customer profiles, analyze customer needs, assess customer suitability, monitor compliance and cross-sell products. We also provide information management systems that are used by brokers and investment professionals to make informed investment decisions based on timely, dependable market data from exchanges and leading industry providers worldwide. In addition, we offer historical market and reference data and technology to perform trading analytics, quantitative modeling and portfolio processing.
We also provide systems that automate the functions associated with worldwide securities lending activities and facilitate straight-through processing by providing a single, centralized order routing network that links lenders and borrowers of securities.
Our clearing solutions provide comprehensive processing of equities, fixed income securities and exchange traded futures, options and other instruments. Used primarily by broker/dealers and other sell-side customers, these systems address important facets of securities transaction processing, including clearing, position keeping, regulatory and tax compliance and reporting, investment accounting and recordkeeping.
Benefit Administration and Insurance Systems
Our employee benefit plan systems automate the participant accounting activities associated with defined contribution retirement plans, such as 401(k) plans. These systems maintain the books of record for each participants share of the cash and securities in the plan, monitor compliance with government regulations and plan restrictions, process cash contributions and benefit payments and produce tax reports for plan sponsors and participants. As a complement to these systems, we offer document generation systems for creating retirement plan documents and forms, and software for generating annual government filings and returns by employee benefit plans.
We also provide to the global insurance industry integrated marketing and policy administration solutions for both insurance agencies and home offices, supporting individual and group insurance, annuity, investment contract and pension policy administration. Insurance solutions include client management, financial analysis, retirement and estate planning and policy illustrations.
Our investor accounting systems automate the transfer agent process for stock, bond and mutual fund issues. These systems maintain shareholder and bondholder positions, process new accounts, record purchases and sales, process cash deposits and disbursements, process dividend and interest distributions, generate proxy materials, tabulate votes, and produce tax reports and periodic shareholder and bondholder statements.
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We provide specialized imaging and workflow management solutions for certain niches within the financial services industry.
Enterprise Solutions Group
In late 2005, we formed our enterprise solutions group bringing product management, global account management, offshore services and consulting services together in order to market and sell enterprise software and processing solutions primarily to our global accounts. The enterprise solutions group employs industry experts who work with global account customers to proactively define and plan enterprise solutions that address their current and anticipated requirements.
Higher Education and Public Sector Systems
In HEPS, we primarily provide specialized enterprise resource planning and administrative software and services to institutions of higher education, school districts and other not-for-profit organizations, as well as state and local governments. These solutions include accounting, personnel, fundraising, grant and project management, student administration and reporting for educational and not-for-profit organizations and accounting, personnel, utility billing, land management, public safety and justice administration for governments. We also provide long-term outsourcing solutions to higher education institutions related to the management of technology, enterprise resource planning system implementations, and the integration of technology in the classroom and online.
Since 1995, we have been acquiring companies and developing solutions for our HEPS segment. Three recent acquisitions, Systems & Computer Technology Corporation (SCT) and Collegis, Inc. in 2004 and HTE Inc. in 2003, substantially increased the size of our HEPS business. This expansion continued in February 2005, when we acquired Vivista Holdings Limited, a provider of public safety and criminal justice administration solutions in the United Kingdom.
Our Higher Education solutions help colleges and universities worldwide achieve their institutional goals through the strategic application of technology, business and academic solutions. We work collaboratively with institutions to create learning environments distinguished by self-service convenience, operational efficiency and academic excellence through a broad spectrum of industry-leading software and services. These include administrative and academic solutions; business and curriculum planning solutions; portal, collaboration, and content management solutions; information access and business intelligence solutions; integration solutions and technology outsourcing solutions. In late 2005, we formed SunGard Higher Education Solutions by aligning our three higher education business units, SCT, Collegis and BSR, in order to strengthen the SunGard brand in higher education.
In Public Sector Systems, we serve a wide range of customersincluding K-12 school districts, not-for-profit organizations, local governments and emergency serviceswith a growing range of specialized enterprise resource planning and administrative solutions for functions such as accounting, human resources, payroll, utility billing, land management, public safety and justice, as well as student administration.
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In AS, we help our customers maintain uninterrupted access to the information and computer systems they need to run their businesses by providing them with cost-effective resources to keep their information technology, or IT, reliable and secure. We pioneered commercial disaster recovery in the late 1970s, and, over the past 25 years, we have consistently expanded our business to add facilities and platforms, incorporate new technologies and meet evolving customer demands. Before 2001, most of the AS businesses we acquired were small providers of services for particular platforms. In 2001 and 2002, we approximately doubled the size of our AS business and added a significant presence in Europe through the acquisitions of the availability services businesses of Comdisco, Inc. and Guardian iT plc. We believe that our dedicated focus on information availability, together with our experience, technology expertise, resource management capabilities, vendor neutrality and diverse service offerings, uniquely position us to meet customer demands in an environment where business functions are critically dependent on availability of information.
Because data and business applications can vary significantly in importance, there is a need for a broad range of information availability services. A customers tolerance for downtime with respect to a particular application and the cost of the solution will dictate the type and complexity of availability services that the customer will select for that application. Our principal AS offering is a broad range of always ready standby services that were traditionally called disaster recovery services. As technology and customer needs evolved, we not only expanded the scope of our standby services, but also developed advanced recovery services and always on production services. We provide all of these services on a subscription basis. We help customers select and blend multiple services to achieve an overall business solution tailored to meet their goals for both production and recovery. We also provide professional services to help our customers design, implement and maintain the ways they access critical information. With our comprehensive portfolio of AS offerings, complemented by professional services, we can meet customers varied information availability requirements with cost-effective, reliable and secure solutions. To service our more than 10,000 AS customers, we operate more than 3,000,000 square feet of secure facilities at over 60 locations in more than 10 countries and a global network of approximately 25,000 miles.
Our always ready standby services help customers recover key information and systems in the event of an unplanned interruption, such as a major system failure, significant power or communication outage, security breach, labor stoppage, terrorist attack, fire, flood or natural disaster. These services are best suited for the recovery of customer applications that can tolerate some level of interruption. By providing backup IT infrastructure, communications network and alternate workspace for personnel, we help customers restore access to information and processing within a short period of time after an interruption, usually from several hours to two days. We deliver these services using processors, servers, storage devices, networks and other resources and infrastructure that are subscribed to by multiple customers, which results in economies of scale for us and cost-effectiveness for our customers. These resources and infrastructure, when not needed by customers to recover from actual interruptions, are used around the clock by customers to test their plans for dealing with potential interruptions.
We believe that an important element of our value proposition is our ability to successfully manage recovery operations for our customers over an extended period of time. Since our inception, we have had a 100% success rate supporting customer recoveries from unplanned interruptions, including during recent major disasters such as the 2005 Gulf Coast hurricanes, 2004 Florida hurricanes, the 2003 Northeast U.S. blackout and the September 11, 2001 terrorist attacks.
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The primary standby service is called a hot site service in which we provide 24/7 access to fully operational backup computer systems, allowing customers to recover their mainframe, distributed systems and server technology. We support more than 30 different operating platforms and specialized industry solutions. Many of our standby solutions can be provided in one of our mobile recovery units or delivered to a customers facility.
We also offer a variety of advanced recovery services that blend hot site services and dedicated data storage resources, supported by a common robust infrastructure. These blended solutions are sometimes referred to as high availability, data vaulting or data mirroring solutions. The dedicated data storage resources, which are used exclusively by a single customer, allow the customer to continuously mirror its data at one of our sites. If there is an unplanned interruption at the customers site, the backup data is immediately available for restoring operations using our hot site service. This helps customers minimize data loss and reduce recovery times.
Our production services help our customers keep their most critical applications up and running at all times. These always on services are most needed when disruptions can have immediate and severe financial and reputational repercussions. They are engineered with redundant or failover capabilities to virtually eliminate the possibility of any disruption and to limit any downtime to at most a few seconds or minutes. Production services typically require more dedicated processors, servers, storage devices, networks and other resources, which are either obtained by the customer or provided by us for the customers exclusive use. Examples of these production services are managed hosting, managed IT services, network access management, security and optimization services, and e-mail archiving and retrieval. We can typically provide always on production services in a cost-effective manner by leveraging our comprehensive resources and infrastructure as well as our resource management skills and purchasing power, all of which provide us with certain economies of scale. Our acquisition of InFlow, Inc. in January 2005 enhanced our production services offerings by adding 14 data centers throughout the United States that geographically complement our other U.S. data centers.
As solutions move along the continuum of information availability services from always ready standby services to blended advanced recovery services to always on production services, they become more complex and require more dedicated resources. Advanced recovery services often result in greater use of both shared and dedicated resources and, therefore, typically generate appreciably higher revenue and income with a modest increase in capital expenditures and a modest decrease in operating margin percentage rate. Production services require significant dedicated resources and, therefore, generally produce even higher revenue and income at an appropriately lower operating margin percentage rate. Although standby services remain our principal revenue generating services, advanced recovery and production services increasingly account for a greater percentage of our new sales.
To complement our organic growth, we have a highly disciplined, due diligence intensive program to evaluate, execute and integrate acquisitions. Generally, we seek to acquire businesses that broaden our existing product lines and service offerings by adding complementary products and service offerings and by expanding our geographic reach. During 2005, we spent approximately $538 million in cash (net of cash acquired) to acquire eight FS businesses, two HEPS businesses and one AS business.
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The following table lists the businesses we acquired since January 1, 2005:
Acquired Company/Business |
Date Acquired | Description | ||
InFlow, Inc. |
01/04/05 | Hosting and managed services for information availability. | ||
Protegent, Inc. |
01/26/05 | Risk management solutions. | ||
Vivista Holdings Limited |
02/25/05 | Public safety and justice software solutions in the U.K. | ||
Ensemble Technology (Pty) Ltd |
02/28/05 | Professional services for the financial services industry in South Africa. | ||
Integrity Treasury Solutions Limited |
03/03/05 | Treasury management systems. | ||
Recognition Research, Inc. |
05/12/05 | Data-capture technology for the financial services and healthcare industries. | ||
Understanding Systems, Inc. |
07/25/05 | Graphical mapping solutions for the public sector. | ||
Pyramid Digital Systems, LLC |
08/17/05 | Software and solutions to the retirement plan industry. | ||
The GetPAID Corporation |
10/24/05 | Accounts receivable and working capital optimization solutions. | ||
Prophet |
10/31/05 | Actuarial calculations software. | ||
ERisk Holdings, Inc. |
11/08/05 | Capital and credit risk management solutions. |
We continually support, upgrade and enhance our systems to meet the needs of our customers for operational efficiency and resilience and to leverage advances in technology.
We fund most of our routine ongoing software support activities through a portion of the monthly fees paid by our application service provider customers and the software support and related upgrade fees paid by our license customers. Our expenditures for software development during the years ended December 31, 2003, 2004 and 2005, including amounts that were capitalized, totaled approximately $208 million, $254 million and $265 million, respectively. These amounts do not include routine software support costs that are included in cost of sales, nor do they include costs incurred in performing certain customer-funded development projects in the ordinary course of business.
Most of our financial systems are marketed throughout North America and Europe and many are marketed worldwide, with the principal focus being on selling additional products and services to existing customers. Our availability services and higher education and public sector systems are marketed primarily in North America and Europe, with a focus on both new accounts and existing accounts. Our revenue from sales outside the United States during the years ended December 31, 2003, 2004 and 2005 totaled approximately $748 million, $918 million and $1,102 million, respectively.
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Since most of our computer services and software are specialized and technical in nature, most of the market niches in which we compete have a relatively small number of significant competitors. Some of our existing competitors and some potential competitors have substantially greater financial, technological and marketing resources than we have (see ITEM 1ARISK FACTORS).
Financial Systems. In our FS business, we compete with numerous other data processing and software vendors that may be broadly categorized into two groups. One group is comprised of specialized financial systems companies, which are much smaller than us. The other group is comprised of large computer services companies whose principal businesses are not in the financial systems area, some of which are also active acquirors. We also face competition from the internal processing and information technology departments of our customers and prospects. The key competitive factors in marketing financial systems are the accuracy and timeliness of processed information provided to customers, features and adaptability of the software, level and quality of customer support, degree of responsiveness, level of software development expertise, total cost of ownership and return on investment. We believe that we compete effectively with respect to each of these factors and that our reputation and experience in this business are important competitive advantages.
Higher Education and Public Sector Systems. In our HEPS business, we compete with a variety of other vendors depending upon customer characteristics such as size, type, location, computing environment and functional requirements. For example, there may be different competitors for different sizes or types of educational institutions or government agencies, or in different states or geographic regions. Competitors in this business range from larger providers of generic enterprise resource planning systems to smaller providers of specialized applications and technologies. We also compete with outsourcers and systems integrators, as well as the internal processing and information technology departments of our customers and prospective customers. The key competitive factors in marketing higher education and public sector systems are the accuracy and timeliness of processed information provided to customers, features and adaptability of the software, level and quality of customer support, degree of responsiveness, level of software development expertise and overall net cost. We believe that we compete effectively as to each of these factors and that our leadership and reputation in this business are important competitive advantages.
Availability Services. In our AS business, our greatest source of competition is in-house dedicated solutions, which are production or standby solutions that our customers or prospective customers develop and maintain internally instead of purchasing those solutions from a commercial vendor such as us. Although in-house solutions provide customers with exclusive access to resources and infrastructure, we believe that, for many customers, building and maintaining an in-house solution is significantly more costly and difficult than subscribing to comparable services from us. This is because of our economies of scale, experience, technology expertise, resource management skills and vendor neutrality.
Historically, our single largest commercial competitor in the AS business has been IBM Corporation, which we believe is the only company other than ours that currently provides the full continuum of availability services. We also face competition from specialized vendors, including hardware manufacturers, data-replication software companies, outsourcers, managed hosting companies, IT services companies and telecommunications companies. We sometimes face a competitive disadvantage with respect to pricing because some of our competitors have a motivation to
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bundle availability services with hardware or other products and services for what appears to be little or no additional cost to the customer in order to sell the hardware or other products. We believe, however, that our solutions are more flexible than these bundled services and, because of our scale and experience, more comprehensive than the ones offered by our competitors. We believe that this places us in a better long-term position to satisfy the requirements of customers as their businesses and needs for availability services grow and evolve.
We believe that we compete effectively with respect to the key competitive factors in information availability, namely quality of infrastructure, scope and quality of services, including breadth of hardware platforms and network capacity, level and quality of customer support, level of technical expertise, and price. We also believe that our experience and reputation as an innovator in information availability, our proven track record, our financial stability and our ability to provide the entire continuum of availability services as a single vendor solution are important competitive advantages.
On December 31, 2005, we had approximately 15,000 full-time employees. We believe that our success depends partly on our continuing ability to retain and attract skilled technical, sales and management personnel. While skilled personnel are in high demand and competition exists for their talents, we believe that we have been able to retain and attract highly qualified personnel (see ITEM 1ARISK FACTORS). We believe that our employee relations are excellent.
We own registered marks for the SUNGARD name and own or have applied for trademark registrations for many of our services and software products.
To protect our proprietary services and software, we rely upon a combination of copyright, patent, trademark and trade secret law, confidentiality restrictions in contracts with employees, customers and others, software security measures, and registered copyrights and patents. We also have established policies requiring our personnel and representatives to maintain the confidentiality of our proprietary property. We have a few registrations of our copyrights and a number of patents and patent applications pending. We will continue to apply for software and business method patents on a case-by-case basis and will continue to monitor ongoing developments in the evolving software and business method patent field (see ITEM 1ARISK FACTORS).
ITEM 1A. | RISK FACTORS |
Certain of the matters we discuss in this Report on Form 10-K may constitute forward-looking statements. You can identify forward-looking statements because they contain words such as believes, expects, may, will, should, seeks, approximately, intends, plans, estimates, or anticipates or similar expressions which concern our strategy, plans or intentions. All statements we make relating to estimated and projected earnings, margins, costs, expenditures, cash flows, growth rates and financial results are forward-looking statements. In addition, we, through our senior management, from time to time make forward-looking public statements concerning our expected future operations and performance and other developments. All of these forward-looking statements are subject to risks and uncertainties that may change at any time, and, therefore, our actual results may differ materially from those we expected. We derive most of our forward-looking statements from our operating budgets and forecasts, which are based upon many detailed assumptions.
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While we believe that our assumptions are reasonable, we caution that it is very difficult to predict the impact of known factors, and, of course, it is impossible for us to anticipate all factors that could affect our actual results. Some of the factors that we believe could affect our results include:
| our high degree of leverage; |
| general economic and market conditions; |
| the condition of the financial services industry, including the effect of any further consolidation among financial services firms; |
| the integration of acquired businesses, the performance of acquired businesses, and the prospects for future acquisitions; |
| the effect of war, terrorism, natural disasters or other catastrophic events; |
| the effect of disruptions to our systems and infrastructure; |
| the timing and magnitude of software sales; |
| the timing and scope of technological advances; |
| customers taking their information availability solutions in-house; |
| the trend in information availability toward solutions utilizing more dedicated resources; |
| the market and credit risks associated with clearing broker operations; |
| the ability to retain and attract customers and key personnel; |
| risks relating to the foreign countries where we transact business; and |
| the ability to obtain patent protection and avoid patent-related liabilities in the context of a rapidly developing legal framework for software and business-method patents. |
The factors described in this paragraph and other factors that may affect our business or future financial results, as and when applicable, are discussed in our filings with the Securities and Exchange Commission (SEC), including this Report on Form 10-K. We assume no obligation to update any written or oral forward-looking statements made by us or on our behalf as a result of new information, future events or other factors.
Risks Related to Our Indebtedness
Our substantial leverage could adversely affect our ability to raise additional capital to fund our operations, limit our ability to react to changes in the economy or our industry, expose us to interest rate risk to the extent of our variable rate debt and prevent us from meeting our debt obligations.
As a result of being acquired on August 11, 2005 by a consortium of private equity investment funds, we are highly leveraged and our debt service requirements are significant. At December 31, 2005, our total indebtedness was $7.43 billion, and we had $980 million available for borrowing under our revolving credit facility, after giving effect to certain outstanding letters of credit. In addition, at December 31, 2005, we had borrowed $385 million of our $450 million off-balance sheet long-term receivables facility.
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Our high degree of leverage could have important consequences, including:
| making it more difficult for us to make payments on our debt obligations; |
| increasing our vulnerability to general economic and industry conditions; |
| requiring a substantial portion of cash flow from operations to be dedicated to the payment of principal and interest on our indebtedness, therefore reducing our ability to use our cash flow to fund our operations, capital expenditures and future business opportunities; |
| exposing us to the risk of increased interest rates as certain of our borrowings are at variable interest rates; |
| restricting us from making strategic acquisitions or causing us to make non-strategic divestitures; |
| limiting our ability to obtain additional financing for working capital, capital expenditures, product development, debt service requirements, acquisitions and general corporate or other purposes; and |
| limiting our ability to adjust to changing market conditions and placing us at a competitive disadvantage compared to our competitors who are less highly leveraged. |
We and our subsidiaries may be able to incur substantial additional indebtedness in the future, subject to the restrictions contained in our senior secured credit facilities and the indentures relating to our new senior notes. If new indebtedness is added to our current debt levels, the related risks that we now face could intensify.
Our debt agreements contain restrictions that limit our flexibility in operating our business.
Our senior secured credit agreement and the indentures governing our new senior notes contain various covenants that limit our ability to engage in specified types of transactions. These covenants limit our and our restricted subsidiaries ability to, among other things:
| incur additional indebtedness or issue certain preferred shares; |
| pay dividends on, repurchase or make distributions in respect of our capital stock or make other restricted payments; |
| make certain investments; |
| sell certain assets; |
| create liens; |
| consolidate, merge, sell or otherwise dispose of all or substantially all of our assets; and |
| enter into certain transactions with our affiliates. |
In addition, under the senior secured credit agreement, we are required to satisfy and maintain specified financial ratios and other financial condition tests. Our ability to meet those financial ratios and tests can be affected by events beyond our control, and we cannot assure you that we will meet those ratios and tests. A breach of any of these covenants could result in a default under the senior secured credit agreement. Upon the occurrence of an event of default under the senior secured credit agreement, the lenders could elect to declare all amounts outstanding under the senior secured credit agreement to be immediately due and payable and terminate all commitments to extend further credit.
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If we were unable to repay those amounts, the lenders under the senior secured credit agreement could proceed against the collateral granted to them to secure that indebtedness. We have pledged a significant portion of our assets as collateral under the senior secured credit agreement and, to the extent required by the indenture governing the existing senior notes, the existing senior notes. If the lenders under the senior secured credit agreement accelerate the repayment of borrowings, we cannot assure you that we will have sufficient assets to repay the senior secured credit agreement and the existing senior notes, as well as our unsecured indebtedness.
Risks Related to Our Business
Our business depends largely on the economy and financial markets, and a slowdown or downturn in the economy or financial markets could adversely affect our business and results of operations.
When there is a slowdown or downturn in the economy, a drop in stock market levels or trading volumes, or an event that disrupts the financial markets, our business and financial results may suffer for a number of reasons. Customers may react to worsening conditions by reducing their capital expenditures in general or by specifically reducing their spending on information technology. In addition, customers may curtail or discontinue trading operations, delay or cancel information technology projects, or seek to lower their costs by renegotiating vendor contracts. Also, customers with excess information technology resources may choose to take their availability solutions in-house rather than obtain those solutions from us. Moreover, competitors may respond to market conditions by lowering prices and attempting to lure away our customers to lower cost solutions. If any of these circumstances remain in effect for an extended period of time, there could be a material adverse effect on our financial results. During the last economic slowdown, our internal growth decreased, and nearly all of our revenue growth during 2001 through 2003 was from acquisitions. Because our financial performance tends to lag behind fluctuations in the economy, our recovery from any particular downturn in the economy may not occur until after economic conditions have generally improved.
Our business depends largely on the financial services industry, and a weakening of the financial services industry could adversely affect our business and results of operations.
Because our customer base is concentrated in the financial services industry, our business is largely dependent on the health of that industry. When there is a general downturn in the financial services industry, or if our customers in that industry experience financial or business problems, our business and financial results may suffer. If financial services firms continue to consolidate, there could be a material adverse effect on our business and financial results. When a customer merges with a firm using its own solution or another vendors solution, they could decide to consolidate their processing on a non-SunGard system, which could have an adverse effect on our financial results.
Our acquisition program is an important element of our strategy but, because of the uncertainties involved, this program may not be successful and we may not be able to successfully integrate and manage acquired businesses.
Part of our growth strategy is to pursue additional acquisitions in the future. There can be no assurance that our acquisition program will continue to be successful. In addition, we may finance any future acquisition with debt, which would increase our interest costs. If we are unable to successfully integrate and manage acquired businesses, or if acquired businesses perform poorly, then our business and financial results may suffer. It is possible that the businesses we have acquired and businesses that
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we acquire in the future may perform worse than expected or prove to be more difficult to integrate and manage than expected. If that happens, there may be a material adverse effect on our business and financial results for a number of reasons, including:
| we may have to devote unanticipated financial and management resources to acquired businesses; |
| we may not be able to realize expected operating efficiencies or product integration benefits from our acquisitions; |
| we may have to write-off goodwill or other intangible assets; and |
| we may incur unforeseen obligations or liabilities in connection with acquisitions. |
If we are unable to identify suitable acquisition candidates and successfully complete acquisitions, our growth and our financial results may be adversely affected.
Our growth has depended in part on our ability to acquire similar or complementary businesses on favorable terms. In the last three years, most of our revenue growth was from acquired businesses. This growth strategy is subject to a number of risks that could adversely affect our business and financial results, including:
| we may not be able to find suitable businesses to acquire at affordable valuations or on other acceptable terms; |
| we may face competition for acquisitions from other potential acquirers, some of whom may have greater resources than us or may be less highly leveraged, or from the possibility of an acquisition target pursuing an initial public offering of its stock; |
| we may have to incur additional debt to finance future acquisitions as we have done in the past and no assurance can be given as to whether, and on what terms, such additional debt will be available; and |
| we may find it more difficult or costly to complete acquisitions due to changes in accounting, tax, securities or other regulations. |
Catastrophic events may disrupt or otherwise adversely affect the markets in which we operate, our business and our profitability.
Our business may be adversely affected by a war, terrorist attack, natural disaster or other catastrophe. A catastrophic event could have a direct negative impact on us or an indirect impact on us by, for example, affecting our customers, the financial markets or the overall economy. The potential for a direct impact is due primarily to our significant investment in our infrastructure. Although we maintain redundant facilities and have contingency plans in place to protect against both man-made and natural threats, it is impossible to fully anticipate and protect against all potential catastrophes. Despite our preparations, a security breach, criminal act, military action, power or communication failure, flood, severe storm or the like could lead to service interruptions and data losses for customers, disruptions to our operations, or damage to our important facilities. The same disasters or circumstances that may lead to our customers requiring access to our availability services may negatively impact our own ability to provide such services. Our three largest availability services facilities are particularly important, and a major disruption at one or more of those facilities could disrupt or otherwise impair our ability to provide services to our availability services customers. If any of these events happen, we may be exposed to unexpected liability, our customers may leave, our reputation may be tarnished, and there could be a material adverse effect on our business and financial results.
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Our application service provider systems may be subject to disruptions that could adversely affect our reputation and our business.
Our application service provider systems maintain and process confidential data on behalf of our customers, some of which is critical to their business operations. For example, our brokerage and trading systems maintain account and trading information for our customers and their clients, and our benefit, insurance and investor accounting systems maintain investor account information for retirement plans, insurance policies and mutual funds. There is no guarantee that the systems and procedures that we maintain to protect against unauthorized access to such information are adequate to protect against all security breaches. If our application service provider systems are disrupted or fail for any reason, or if our systems or facilities are infiltrated or damaged by unauthorized persons, our customers could experience data loss, financial loss, harm to reputation and significant business interruption. If that happens, we may be exposed to unexpected liability, our customers may leave, our reputation may be tarnished, and there could be a material adverse effect on our business and financial results.
Because the sales cycle for our software is typically lengthy and unpredictable, our results may fluctuate from period to period.
Our operating results may fluctuate from period to period and be difficult to predict in a particular period due to the timing and magnitude of software sales. We offer some of our financial systems on a license basis, which means that the customer has the right to run the software on its own computers. The customer usually makes a significant up-front payment to license software, which we generally recognize as revenue when the license contract is signed and the software is delivered. The size of the up-front payment often depends on a number of factors that are different for each customer, such as the number of customer locations, users or accounts. As a result, the sales cycle for a software license may be lengthy and take unexpected turns. Thus, it is difficult to predict when software sales will occur or how much revenue they will generate. Since there are few incremental costs associated with software sales, our operating results may fluctuate from quarter to quarter and year to year due to the timing and magnitude of software sales.
Rapid changes in technology and our customers businesses could adversely affect our business and financial results.
Our business may suffer if we do not successfully adapt our products and services to changes in technology and changes in our customers businesses. These changes can occur rapidly and at unpredictable intervals and we cannot assure you that we will be able to respond adequately. If we do not successfully update and integrate our products and services to adapt to these changes, or if we do not successfully develop new products and services needed by our customers to keep pace with these changes, then our business and financial results may suffer. Our ability to keep up with technology and business changes is subject to a number of risks, including:
| we may find it difficult or costly to update our products and services and to develop new products fast enough to meet our customers needs; |
| we may find it difficult or costly to make some features of our products and services work effectively and securely over the Internet; |
| we may find it difficult or costly to integrate more of our FS solutions into efficient straight-through processing solutions; |
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| we may find it difficult or costly to update our products and services to keep pace with business, regulatory and other developments in the financial services industry, where many of our customers operate; and |
| we may find it difficult or costly to update our services to keep pace with advancements in hardware, software and telecommunications technology. |
Some technological changes, such as advancements that have facilitated the ability of our AS customers to develop their own internal solutions, may render some of our products and services less valuable or eventually obsolete. In addition, because of ongoing, rapid technological changes, the useful lives of some technology assets have become shorter and customers are therefore replacing these assets more often. As a result, our customers are increasingly expressing a preference for contracts with shorter terms, which could make our revenue less predictable in the future.
Customers taking their availability solutions in-house may continue to create pressure on our internal revenue growth rate.
Our AS solutions allow customers to leverage our significant infrastructure and take advantage of our experience, technology expertise, resource management capabilities and vendor neutrality. Nevertheless, some customers, especially among the very largest having significant information technology resources, prefer to develop and maintain their own in-house availability solutions, which can result in a loss of revenue from those customers. Technological advances in recent years have significantly reduced the cost yet not the complexity of developing in-house solutions. Over the past several years, business lost to customers taking their availability solutions in-house generally has offset our new sales. If this trend continues or worsens, there will be continued pressure on our internal revenue growth rate.
The trend toward information availability solutions utilizing more single customer dedicated resources likely will lower our overall operating margin percentage over time.
In the information availability services industry, especially among our more sophisticated customers, there is an increasing preference for solutions that utilize some level of dedicated resources, such as blended advanced recovery services and always on production services. The primary reason for this trend is that adding dedicated resources, although more costly, provides greater control, reduces data loss and facilitates quicker responses to business interruptions. Advanced recovery services often result in greater use of both shared and dedicated resources and, therefore, typically generate appreciably higher revenue with only a modest increase in capital expenditures and a modest decrease in operating margin percentage. Production services require significant dedicated resources and, therefore, generally produce even higher revenue at an appropriately lower operating margin percentage.
Our brokerage operations are highly regulated and are riskier than our other businesses.
Organizations like the Securities and Exchange Commission, New York Stock Exchange and National Association of Securities Dealers can, among other things, fine, censure, issue cease-and-desist orders and suspend or expel a broker/dealer or any of its officers or employees for failures to comply with the many laws and regulations that govern brokerage operations. Our ability to comply with these laws and regulations is largely dependent on our establishment, maintenance and enforcement of an effective brokerage compliance program. Our failure to establish, maintain and
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enforce proper brokerage compliance procedures, even if unintentional, could subject us to significant losses, lead to disciplinary or other actions, and tarnish our reputation. Regulations affecting the brokerage industry, in particular with respect to active traders, may change, which could adversely affect our financial results.
We are exposed to certain risks due to the trading activities of our customers and professional traders of our brokerage operations. If customers or professional traders fail to pay for securities they buy, or fail to cover their short sales, or fail to repay margin loans we make to them, then we may suffer losses, and these losses may be disproportionate to the relatively modest revenue and profit contributions of this business. In our other businesses, we generally can disclaim liability for trading losses that may be caused by our software, but in our brokerage operations, we cannot limit our liability for trading losses even when we are not at fault.
We could lose revenue due to fiscal funding or termination for convenience clauses in certain customer contracts, especially in our HEPS business.
Certain of our customer contracts, particularly those with governments, institutions of higher education and school districts, may be partly or completely terminated by the customer due to budget cuts or sometimes for any reason at all. These types of clauses are often called fiscal funding or termination for convenience clauses. If a customer exercises one of these clauses, the customer would be obligated to pay for the services we performed up to the date of exercise, but would not have to pay for any further services. While we have not been materially affected by exercises of these clauses in the past, we may be in the future. If customers that collectively represent a substantial portion of our revenue were to invoke the fiscal funding or termination for convenience clauses of their contracts, our future business and results of operations could be adversely affected.
If we fail to comply with government regulations in connection with our providing technology services to certain financial institutions, our business and results of operations may be adversely affected.
Because we act as a third-party service provider to financial institutions and provide mission-critical applications for many financial institutions that are regulated by one or more member agencies of the Federal Financial Institutions Examination Council (FFIEC), we are subject to examination by the member agencies of the FFIEC. More specifically, we are a Multi-Regional Data Processing Servicer of the FFIEC because we provide mission critical applications for financial institutions from several data centers located in different geographic regions. As a result, the FFIEC conducts periodic reviews of certain of our operations in order to identify existing or potential risks associated with our operations that could adversely affect the financial institutions to whom we provide services, evaluate our risk management systems and controls, and determine our compliance with applicable laws that affect the services we provide to financial institutions. In addition to examining areas such as our management of technology, data integrity, information confidentiality and service availability, the reviews also assess our financial stability. Our incurrence of significant debt in connection with the Transaction increases the risk of an FFIEC agency review determining that our financial stability has been weakened. A sufficiently unfavorable review from the FFIEC could result in our financial institution customers not being allowed to use our technology services, which could have a material adverse effect on our business and financial condition.
If we are unable to retain or attract customers, our business and financial results will be adversely affected.
If we are unable to keep existing customers satisfied, sell additional products and services to existing customers or attract new customers, then our business and financial results may suffer. A
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variety of factors could affect our ability to successfully retain and attract customers, including the level of demand for our products and services, the level of customer spending for information technology, the level of competition from customers that develop their own solutions internally and from other vendors, the quality of our customer service, our ability to update our products and develop new products and services needed by customers, and our ability to integrate and manage acquired businesses. Our services revenue, which has been largely recurring in nature, comes from the sale of our products and services under fixed-term contracts. We do not have a unilateral right to extend these contracts when they expire. If customers cancel or refuse to renew their contracts, or if customers reduce the usage levels or asset values under their contracts, there could be a material adverse effect on our business and financial results.
If we fail to retain key employees, our business may be harmed.
Our success depends on the skill, experience and dedication of our employees. If we are unable to retain and attract sufficiently experienced and capable personnel, especially in product development, sales and management, our business and financial results may suffer. For example, if we are unable to retain and attract a sufficient number of skilled technical personnel, our ability to develop high quality products and provide high quality customer service may be impaired. Experienced and capable personnel in the technology industry remain in high demand, and there is continual competition for their talents. When talented employees leave, we may have difficulty replacing them, and our business may suffer. There can be no assurance that we will be able to successfully retain and attract the personnel that we need.
We are subject to the risks of doing business internationally.
During 2005, approximately 28% of our revenue was generated outside the United States. Approximately 77% of this revenue was from customers located in the United Kingdom and Continental Europe. Because we sell our services outside the United States, our business is subject to risks associated with doing business internationally. Accordingly, our business and financial results could be adversely affected due to a variety of factors, including:
| changes in a specific countrys or regions political and cultural climate or economic condition; |
| unexpected changes in foreign laws and regulatory requirements; |
| difficulty of effective enforcement of contractual provisions in local jurisdictions; |
| inadequate intellectual property protection in foreign countries; |
| trade-protection measures, import or export licensing requirements such as Export Administration Regulations promulgated by the U.S. Department of Commerce and fines, penalties or suspension or revocation of export privileges; |
| the effects of applicable foreign tax structures and potentially adverse tax consequences; and |
| significant adverse changes in foreign currency exchange rates. |
The private equity firms that acquired the Company (Sponsors) control us and may have conflicts of interest with us.
Investment funds associated with or designated by the Sponsors indirectly own, through their ownership in our parent companies, a substantial portion of our capital stock. As a result, the Sponsors
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have control over our decisions to enter into any corporate transaction regardless of whether noteholders believe that any such transaction is in their own best interests. For example, the Sponsors could cause us to make acquisitions that increase the amount of indebtedness that is secured or that is senior to our new senior subordinated notes or to sell assets.
Additionally, the Sponsors are in the business of making investments in companies and may from time to time acquire and hold interests in businesses that compete directly or indirectly with us. One or more of the Sponsors may also pursue acquisition opportunities that may be complementary to our business and, as a result, those acquisition opportunities may not be available to us. So long as investment funds associated with or designated by the Sponsors continue to indirectly own a significant amount of the outstanding shares of our common stock, even if such amount is less than 50%, the Sponsors will continue to be able to strongly influence or effectively control our decisions.
If we are unable to protect our proprietary technologies and defend infringement claims, we could lose one of our competitive advantages and our business could be adversely affected.
Our success depends in part on our ability to protect our proprietary products and services and to defend against infringement claims. If we are unable to do so, our business and financial results may suffer. To protect our proprietary technology, we rely upon a combination of copyright, patent, trademark and trade secret law, confidentiality restrictions in contracts with employees, customers and others, software security measures, and registered copyrights and patents. Despite our efforts to protect the proprietary technology, unauthorized persons may be able to copy, reverse engineer or otherwise use some of our technology. It also is possible that others will develop and market similar or better technology to compete with us. Furthermore, existing patent, copyright and trade secret laws may afford only limited protection, and the laws of certain countries do not protect proprietary technology as well as United States law. For these reasons, we may have difficulty protecting our proprietary technology against unauthorized copying or use. If any of these events happens, there could be a material adverse effect on the value of our proprietary technology and on our business and financial results. In addition, litigation may be necessary to protect our proprietary technology. This type of litigation is often costly and time-consuming, with no assurance of success.
The legal framework for software and business method patents is rapidly evolving. Some of our competitors may have been more aggressive than us in applying for or obtaining patent protection for innovative proprietary technologies both in the United States and internationally. There can be no assurance that in the future third parties will not assert infringement claims against us (as they have already done in the past) and preclude us from using a technology in our products or require us to enter into royalty and licensing arrangements on terms that are not favorable to us, or force us to engage in costly infringement litigation, which could result in us paying monetary damages or being forced to redesign our products to avoid infringement. Additionally, our licenses and service agreements with our customers generally provide that we will defend and indemnify them for claims against them relating to our alleged infringement of the intellectual property rights of third parties with respect to our products or services. We might have to defend or indemnify our customers to the extent they are subject to these types of claims. Any of these claims may be difficult and costly to defend and may lead to unfavorable judgments or settlements, which could have a material adverse effect on our reputation, business and financial results. For these reasons, we may find it difficult or costly to add or retain important features in our products and services.
Defects, design errors or security flaws in our products could harm our reputation and expose us to potential liability.
Most of our FS and HEPS products are very complex software systems that are regularly updated. No matter how careful the design and development, complex software often contains errors and defects
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when first introduced and when major new updates or enhancements are released. If errors or defects are discovered in our current or future products, we may not be able to correct them in a timely manner, if at all. In our development of updates and enhancements to our products, we may make a major design error that makes the product operate incorrectly or less efficiently.
In addition, certain of our products include security features that are intended to protect the privacy and integrity of customer data. Despite these security features, our products and systems, and our customers systems may be vulnerable to break-ins and similar problems caused by third parties, such as hackers bypassing firewalls and misappropriating confidential information. Such break-ins or other disruptions could jeopardize the security of information stored in and transmitted through our computer systems and those of our customers, subject us to liability and tarnish our reputation. We may need to expend significant capital resources in order to eliminate or work around errors, defects, design errors or security problems. Any one of these problems in our products may result in the loss of or a delay in market acceptance of our products, the diversion of development resources, a lower rate of license renewals or upgrades and damage to our reputation, and in turn may increase service and warranty costs.
ITEM 1B. | UNRESOLVED STAFF COMMENTS |
None.
ITEM 2. | PROPERTIES |
We lease space, primarily for availability services facilities, data centers, sales offices, customer support offices and administrative offices, in many locations worldwide. We also own some of our computer and office facilities. Our principal facilities include our leased availability services facilities in Philadelphia, Pennsylvania (506,300 square feet), Carlstadt, New Jersey (432,400 square feet), and Hounslow, England (195,000 square feet) and include our financial systems application service provider centers in Voorhees, New Jersey, Birmingham, Alabama, Waltham, Massachusetts, and Weehawken, New Jersey. We believe that our leased and owned facilities are adequate for our present operations.
ITEM 3. | LEGAL PROCEEDINGS |
We are presently a party to certain lawsuits arising in the ordinary course of our business. We believe that none of our current legal proceedings will be material to our business, financial condition or results of operations.
ITEM 4. | SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS |
None.
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ITEM 5. | MARKET FOR REGISTRANTS COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES |
Our outstanding common stock is privately held, and there is no established public trading market for our common stock. As of the date of this filing, there was one holder of record of our common stock.
See ITEM 7, Liquidity and Capital ResourcesThe Transaction for a description of restrictions on our ability to pay dividends.
ITEM 6. | SELECTED FINANCIAL DATA |
Predecessor | Successor | Combined(1) | ||||||||||||||||||||
(in millions) |
2001 | 2002 | 2003 | 2004 | January 1 through August 10, 2005 |
August 11 through December 31, 2005 |
Year Ended December 31, 2005 | |||||||||||||||
Income Statement Data(2)(3) |
||||||||||||||||||||||
Revenue |
$ | 1,982 | $ | 2,593 | $ | 2,955 | $ | 3,556 | $ | 2,371 | $ | 1,631 | $ | 4,002 | ||||||||
Income from operations |
399 | 547 | 623 | 704 | 296 | 197 | 493 | |||||||||||||||
Net income (loss) |
246 | 326 | 370 | 454 | 146 | (29 | ) | 117 |
Predecessor | Successor | ||||||||||||||
2001 | 2002 | 2003 | 2004 | 2005 | |||||||||||
Balance Sheet Data(2) |
|||||||||||||||
Total assets |
$ | 2,898 | $ | 3,282 | $ | 4,000 | $ | 5,195 | $ | 14,587 | |||||
Total short-term and long-term debt |
459 | 206 | 200 | 554 | 7,429 | ||||||||||
Stockholders equity |
1,794 | 2,222 | 2,766 | 3,252 | 3,572 |
(1) | Our combined results for the year ended December 31, 2005 represent the addition of the Predecessor period from January 1, 2005 through August 10, 2005 and the Successor period from August 11, 2005 through December 31, 2005. This combination does not comply with generally accepted accounting principles (GAAP) or with the rules for pro forma presentation, but is presented because we believe it provides the most meaningful comparison of our results. |
(2) | Includes the effect of business acquisitions and dispositions from the date of each event. There were seven acquisitions in 2001, nine acquisitions in 2002, nine acquisitions in 2003, ten acquisitions in 2004 and eleven acquisitions in 2005. Brut LLC and two other businesses were sold in 2004. See Note 2 of Notes to Consolidated Financial Statements. |
(3) | 2001 includes amortization of goodwill of $18 million and charges of $18 million for the write-off of an investment, for facility shut-down and severance costs related to an acquisition, and for merger costs, offset in part by a break-up fee and a realized gain on short-term investments sold to fund an acquisition. |
2002 includes charges of $12 million for facility shut-down and severance costs related to two acquisitions, along with our share of merger costs associated with our equity interests in two companies before we acquired the remaining equity of each, net of other income of $3 million related to a gain on foreign currency purchased to fund an acquisition.
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2004 includes a gain of $78 million from the sale of Brut LLC, offset by $6 million of costs associated with the previously planned spin-off of SunGard Availability Services and net facility shut-down and severance costs related to previous acquisitions.
The period from January 1, 2005 through August 10, 2005 includes $59 million of accounting, investment banking, legal and other costs associated with the Transaction and the planned spin-off of SunGard Availability Services as well as $60 million resulting from the acceleration of stock options and restricted stock.
The period from August 11, 2005 through December 31, 2005 includes $18 million consisting primarily of payroll taxes and certain compensation expenses related to the Transaction.
See Notes 1 and 2 of Notes to Consolidated Financial Statements.
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ITEM 7. | MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS |
Overview
We are one of the worlds leading software and IT services companies. We provide software and processing solutions to institutions throughout the financial services industry, higher education, and the public sector; and we help enterprises of all types to maintain the continuity of their business through information availability services. We support more than 25,000 customers in over 50 countries, including the worlds 50 largest financial services companies. We operate our business in three segments: Financial Systems (FS), Higher Education and Public Sector Systems (HEPS) and Availability Services (AS). Our FS segment primarily serves financial services companies, corporate and government treasury departments and energy companies. Our HEPS segment primarily serves higher education institutions, state and local governments and not-for-profit organizations. Our AS segment serves information-dependent companies across virtually all industries.
SunGard Data Systems Inc. (SunGard) was acquired on August 11, 2005 by a consortium of private equity investment funds associated with Bain Capital Partners, The Blackstone Group, Goldman Sachs & Co., Kohlberg Kravis Roberts & Co., Providence Equity Partners, Silver Lake Partners and Texas Pacific Group (the Transaction). The Transaction was accomplished through the merger of Solar Capital Corp. into SunGard, with SunGard being the surviving company.
SunGard is a wholly owned subsidiary of SunGard Holdco LLC, which is wholly owned by SunGard Holding Corp., which is wholly owned by SunGard Capital Corp. II, which is wholly owned by SunGard Capital Corp. SunGard Capital Corp. II and SunGard Capital Corp. are collectively referred to as the Parent Companies. All four of these companies were formed for the purpose of facilitating the Transaction.
Although SunGard continued as the same legal entity after the Transaction, the accompanying consolidated balance sheets, statements of operations, cash flows and stockholders equity are presented for two periods: Predecessor and Successor, which relate to the period preceding the Transaction and the period succeeding the Transaction, respectively. The Company refers to the operations of SunGard and subsidiaries for both the Predecessor and Successor periods. We have prepared our discussion of the results of operations by comparing the mathematical combination, without making any pro forma adjustments, of the Successor and Predecessor periods in the year ended December 31, 2005 to the year ended December 31, 2004. Although this presentation does not comply with generally accepted accounting principles (GAAP), we believe it provides the most meaningful comparison of our results. The combined operating results have not been prepared as pro forma results under applicable regulations, may not reflect the actual results we would have achieved absent the Transaction and may not be predictive of future results of operations.
In FS, we primarily serve financial services institutions through a broad range of complementary software solutions that process their investment and trading transactions. These solutions are grouped into the following business areas: (1) institutional asset management and securities servicing systems; (2) trading, treasury and risk management systems; (3) wealth management and brokerage systems; and (4) benefit administration and insurance systems. The principal purpose of most of these systems is to automate the many detailed processes associated with trading securities, managing investment portfolios and accounting for investment assets.
In HEPS, we primarily provide specialized enterprise resource planning and administrative software and services to institutions of higher education, school districts and other not-for-profit
27
organizations, as well as state and local governments. We significantly expanded this segment through three acquisitions during 2003-2004, including the February 2004 acquisition of Systems & Computer Technology Corporation (SCT), a leading global provider of technology solutions for higher education. We had two additional acquisitions in 2005. See Note 2 of Notes to Consolidated Financial Statements.
In AS, we help our customers maintain uninterrupted access to the information and computer systems they need to run their businesses by providing them with cost-effective resources to keep their information technology, or IT, reliable and secure. We offer a continuum of availability services from always ready standby solutions to always on production services. We also provide professional services to help our customers design, implement and maintain the ways they access critical information.
The following discussion includes historical and certain forward-looking information that should be read together with the accompanying Consolidated Financial Statements and related footnotes and the discussion above of certain risks and uncertainties (see ITEM 1ARISK FACTORS) that could cause future operating results to differ materially from historical results or the expected results indicated by forward-looking statements.
Use of Estimates and Critical Accounting Policies
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires us to make many estimates and judgments that affect the reported amounts of assets, liabilities, revenue and expenses. Those estimates and judgments are based on historical experience, future expectations and other factors and assumptions we believe to be reasonable under the circumstances. We review our estimates and judgments on an ongoing basis and revise them when necessary. Actual results may differ from the original or revised estimates. A summary of our significant accounting policies is contained in Note 1 of Notes to Consolidated Financial Statements. A description of the most critical policies follows. Our management has discussed the critical accounting policies described below with our audit committee.
Intangible Assets and Purchase Accounting
As discussed above, the Transaction was completed on August 11, 2005 and was financed by a combination of borrowings under the Companys new senior secured credit facilities, the issuance of senior notes due 2013 and senior subordinated notes due 2015, the funding under the Companys new receivables facilities, and the equity investment of the Sponsors, co-investors and management. The purchase price including transaction costs was approximately $11.73 billion. Purchase accounting requires that all assets and liabilities be recorded at fair value on the acquisition date, including identifiable intangible assets separate from goodwill. Identifiable intangible assets include customer base (which includes customer contracts and relationships), software and trade name. Goodwill represents the excess of cost over the fair value of net assets acquired. For the Transaction and for other significant acquisitions, we obtain independent appraisals and valuations of the intangible (and certain tangible) assets acquired and certain assumed obligations as well as equity.
We seek to grow through both internal development and the acquisition of businesses that broaden our existing product lines and service offerings and strengthen our leadership position. During the three years ended December 31, 2005, we spent approximately $1.8 billion, net of cash acquired, to purchase 30 businesses.
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The estimated fair values and useful lives of identified intangible assets are based on many factors, including estimates and assumptions of future operating performance and cash flows of the acquired business, estimates of cost avoidance, the nature of the business acquired, the specific characteristics of the identified intangible assets and our historical experience and that of the acquired business. The estimates and assumptions used to determine the fair values and useful lives of identified intangible assets could change due to numerous factors, including product demand, market conditions, regulations affecting the business model of our brokerage operations, technological developments, economic conditions and competition. The carrying values and useful lives for amortization of identified intangible assets are reviewed on an ongoing basis, and any resulting changes in estimates could have a material adverse effect on our financial results.
When circumstances change or at least annually, we compare the carrying value of our reporting units to their estimated fair value. If the carrying value is greater than the respective estimated fair value, we then determine if the goodwill is impaired, and whether some or all of the goodwill should be written off as a charge to operations, which could have a material adverse effect on our financial results. The estimate of fair value requires various assumptions including the use of projections of future cash flows and discount rates that reflect the risks associated with achieving the future cash flows. Changes in the underlying business could affect these estimates, which in turn could affect the fair value of the reporting unit.
In connection with certain acquisitions, we have accrued the estimated costs of closing certain facilities. Costs for closing leased facilities are estimated based on the condition and remaining lease term of each facility, the expected closure date and an assessment of relevant market conditions, including an estimate of any sub-lease rental income we can reasonably expect to obtain at the time of the acquisition. Costs for closing owned facilities are based on the difference between the estimated net proceeds from a sale of the facility and its carrying value. These estimates are based on an assessment of the condition of the facility, its location and relevant market conditions. The estimated cost of closing our existing facilities is included in merger costs, and the estimated cost of closing acquired facilities is included in goodwill. Merger costs or goodwill could change due to the finalization of plans for closing facilities and completion of valuations, as well as the settlement of lease obligations or sale of owned facilities. A change in market conditions after the acquisition date could change the estimated costs for closing facilities and would result in a charge or credit to merger costs, which could have a material effect on our financial results.
Revenue Recognition
We recognize revenue in accordance with SEC Staff Accounting Bulletin No. 104, Revenue Recognition (SAB 104). SAB 104 requires that the following criteria be met in determining whether revenue has been earned: persuasive evidence of an arrangement exists; delivery has occurred or services have been provided; the price is fixed or determinable; and collectibility is reasonably assured.
We generate services revenue from availability services, processing services, software maintenance and rentals, professional services, broker/dealer fees and hardware rentals. All services revenue is recorded as the services are provided based on the fair value of each element. Fair value is determined based on the sales price of each element when sold separately. Most AS services revenue consists of fixed monthly fees based upon the specific computer configuration or business process for which the service is being provided, and the related costs are incurred ratably over the contract period. When recovering from an interruption, customers generally are contractually obligated to pay additional fees, which typically cover our incremental costs of supporting customers during recoveries.
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FS services revenue includes monthly fees, which may include a fixed minimum fee and/or variable fees based on a measure of volume or activity, such as the number of users, accounts, trades or transactions or the number of hours of service.
For fixed-fee professional services contracts, services revenue is recorded based upon the estimated percentage of completion, measured by the actual number of hours incurred divided by the total estimated number of hours for the project. When fixed-fee contracts include both professional services and software and require a significant amount of program modification or customization, installation, systems integration or related services, the professional services and license revenue is recorded based upon the estimated percentage of completion, measured in the manner described above. Changes in the estimated costs or hours to complete the contract are reflected in the period during which the change becomes known. Losses, if any, are recognized immediately.
License fees result from contracts that permit the customer to use our software products at its site. Generally, these contracts are multiple-element arrangements since they usually provide for professional services and ongoing software maintenance. In these instances, license fees are recognized upon the signing of the contract and delivery of the software if the license fee is fixed, collection is probable, and there is sufficient evidence of the fair value of each undelivered element. Revenue is recorded over the contract period when customer payments are extended beyond normal billing terms, or when there is significant acceptance, technology or service risk. Revenue also is recorded over the contract period in those instances where the software is bundled together with computer equipment or other post-delivery services, and there is not sufficient evidence of the fair value of each element.
We believe that our revenue recognition practices comply with the complex and evolving rules governing revenue recognition. Future interpretations of existing accounting standards, new standards or changes in our business practices could result in changes in our revenue recognition accounting policies that could have a material effect on our financial results.
Accounting for Income Taxes
SFAS No. 109, Accounting for Income Taxes, establishes financial accounting and reporting standards for the effect of income taxes. The objectives of accounting for income taxes are to recognize the amount of taxes payable or refundable for the current year and deferred tax liabilities and assets for the future tax consequences of events that have been recognized in an entitys financial statements or tax returns. Considerable judgment is required in assessing and estimating these amounts and differences between the actual outcome of these future tax consequences and our estimates could have a material effect on our financial results.
Accounting for Stock-Based Compensation
As of the date of the Transaction, the Company adopted SFAS No. 123R (revised 2004), Share-Based Payment (SFAS 123R), using the modified prospective method, which requires companies to record stock compensation expense for all unvested and new awards as of the adoption date. Accordingly, prior period amounts have not been restated. Under the fair value recognition provisions of SFAS 123R, stock-based compensation cost is measured at the grant date based on the fair value of the award and is recognized as expense over the requisite service period. Determining the fair value of stock-based awards at the grant date requires considerable judgment, including estimating the expected term of stock options, expected volatility of our stock, and the number of stock-based awards expected to be forfeited due to future terminations. In addition, for stock-based awards where vesting is dependent upon achieving certain operating performance goals, we estimate the likelihood of achieving the performance goals. Differences between actual results and these estimates could have a material
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effect on our financial results. A deferred income tax asset is recorded over the vesting period as stock compensation expense is recorded. The realizability of the deferred tax asset is ultimately based on the actual value of the stock-based award upon exercise. If the actual value is lower than the fair value determined on the date of grant, then there could be an income tax expense for the portion of the deferred tax asset that is not realizable. This income tax expense could have a material effect on our financial results.
Results of Operations
The following table sets forth, for the periods indicated, certain amounts included in our Consolidated Statements of Operations and the relative percentage that those amounts represent to consolidated revenue (unless otherwise indicated).
Predecessor | Successor | Combined(1) | |||||||||||||||||||||||||||
Year Ended December 31, | Period from 2005 |
Period
from 2005 |
Year ended 2005 |
||||||||||||||||||||||||||
2003 | 2004 | ||||||||||||||||||||||||||||
(in millions) |
% of revenue |
% of revenue |
% of revenue |
||||||||||||||||||||||||||
Revenue |
|||||||||||||||||||||||||||||
Financial systems (FS) |
$ | 1,646 | 56 | % | $ | 1,871 | 53 | % | $ | 1,120 | $ | 786 | $ | 1,906 | 48 | % | |||||||||||||
Higher education and public sector systems (HEPS) |
179 | 6 | % | 525 | 15 | % | 471 | 317 | 788 | 20 | % | ||||||||||||||||||
Software & processing solutions |
1,825 | 62 | % | 2,396 | 67 | % | 1,591 | 1,103 | 2,694 | 67 | % | ||||||||||||||||||
Availability services (AS) |
1,130 | 38 | % | 1,160 | 33 | % | 780 | 528 | 1,308 | 33 | % | ||||||||||||||||||
$ | 2,955 | 100 | % | $ | 3,556 | 100 | % | $ | 2,371 | $ | 1,631 | $ | 4,002 | 100 | % | ||||||||||||||
Costs and Expenses |
|||||||||||||||||||||||||||||
Cost of sales and direct operating |
$ | 1,292 | 44 | % | $ | 1,608 | 45 | % | $ | 1,119 | $ | 741 | $ | 1,860 | 46 | % | |||||||||||||
Sales, marketing and administration |
536 | 18 | % | 665 | 19 | % | 456 | 343 | 799 | 20 | % | ||||||||||||||||||
Product development |
195 | 7 | % | 236 | 7 | % | 154 | 96 | 250 | 6 | % | ||||||||||||||||||
Depreciation and amortization |
223 | 8 | % | 218 | 6 | % | 141 | 89 | 230 | 6 | % | ||||||||||||||||||
Amortization of acquisition-related intangible assets |
89 | 3 | % | 119 | 3 | % | 84 | 147 | 231 | 6 | % | ||||||||||||||||||
Merger costs |
(3 | ) | | 6 | | 121 | 18 | 139 | 3 | % | |||||||||||||||||||
$ | 2,332 | 79 | % | $ | 2,852 | 80 | % | $ | 2,075 | $ | 1,434 | $ | 3,509 | 88 | % | ||||||||||||||
Operating Income |
|||||||||||||||||||||||||||||
Financial systems(2) |
$ | 321 | 20 | % | $ | 319 | 17 | % | $ | 183 | $ | 104 | $ | 287 | 15 | % | |||||||||||||
Higher education and public sector systems(2) |
22 | 12 | % | 82 | 16 | % | 76 | 47 | 123 | 16 | % | ||||||||||||||||||
Software & processing solutions(2) |
343 | 19 | % | 401 | 17 | % | 259 | 151 | 410 | 15 | % | ||||||||||||||||||
Availability services(2) |
321 | 28 | % | 365 | 31 | % | 197 | 128 | 325 | 25 | % | ||||||||||||||||||
Corporate administration |
(44 | ) | (1 | )% | (56 | ) | (2 | )% | (39 | ) | (64 | ) | (103 | ) | (3 | )% | |||||||||||||
Merger costs |
3 | | (6 | ) | | (121 | ) | (18 | ) | (139 | ) | (3 | )% | ||||||||||||||||
$ | 623 | 21 | % | $ | 704 | 20 | % | $ | 296 | $ | 197 | $ | 493 | 12 | % | ||||||||||||||
(1) | Our combined results for the year ended December 31, 2005 represent the addition of the Predecessor period from January 1, 2005 through August 10, 2005 and the Successor period from August 11, 2005 through December 31, 2005. This combination does not comply with GAAP or with the rules for pro forma presentation, but is presented because we believe it provides the most meaningful comparison of our results. |
(2) | Percent of revenue is calculated as a percent of revenue from FS, HEPS, Software & Processing Solutions, and AS, respectively. |
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The following table sets forth, for the periods indicated, certain supplemental revenue data and the relative percentage that those amounts represent to total revenue.
Predecessor | Successor | Combined(1) | ||||||||||||||||||||||
Year Ended December 31, | Period from 2005 |
Period
from 2005 |
Year ended 2005 |
|||||||||||||||||||||
2003 | 2004 | |||||||||||||||||||||||
(in millions) |
% of revenue |
% of revenue |
% of revenue |
|||||||||||||||||||||
Financial Systems |
||||||||||||||||||||||||
Services |
$ | 1,430 | 48 | % | $ | 1,630 | 46 | % | $ | 968 | $ | 648 | $ | 1,616 | 40 | % | ||||||||
License and resale fees |
165 | 6 | % | 166 | 5 | % | 99 | 104 | 203 | 5 | % | |||||||||||||
Total products and services |
1,595 | 54 | % | 1,796 | 51 | % | 1,067 | 752 | 1,819 | 45 | % | |||||||||||||
Reimbursed expenses |
51 | 2 | % | 75 | 2 | % | 53 | 34 | 87 | 2 | % | |||||||||||||
$ | 1,646 | 56 | % | $ | 1,871 | 53 | % | $ | 1,120 | $ | 786 | $ | 1,906 | 48 | % | |||||||||
Higher Education and Public Sector Systems |
||||||||||||||||||||||||
Services |
$ | 127 | 4 | % | $ | 418 | 12 | % | $ | 393 | $ | 257 | $ | 650 | 16 | % | ||||||||
License and resale fees |
22 | 1 | % | 96 | 3 | % | 70 | 55 | 125 | 3 | % | |||||||||||||
Total products and services |
149 | 5 | % | 514 | 14 | % | 463 | 312 | 775 | 19 | % | |||||||||||||
Reimbursed expenses |
30 | 1 | % | 11 | | 8 | 5 | 13 | | |||||||||||||||
$ | 179 | 6 | % | $ | 525 | 15 | % | $ | 471 | $ | 317 | $ | 788 | 20 | % | |||||||||
Software & Processing Solutions |
||||||||||||||||||||||||
Services |
$ | 1,557 | 53 | % | $ | 2,048 | 58 | % | $ | 1,361 | $ | 905 | $ | 2,266 | 57 | % | ||||||||
License and resale fees |
187 | 6 | % | 262 | 7 | % | 169 | 159 | 328 | 8 | % | |||||||||||||
Total products and services |
1,744 | 59 | % | 2,310 | 65 | % | 1,530 | 1,064 | 2,594 | 65 | % | |||||||||||||
Reimbursed expenses |
81 | 3 | % | 86 | 2 | % | 61 | 39 | 100 | 2 | % | |||||||||||||
$ | 1,825 | 62 | % | $ | 2,396 | 67 | % | $ | 1,591 | $ | 1,103 | $ | 2,694 | 67 | % | |||||||||
Availability Services |
||||||||||||||||||||||||
Services |
$ | 1,104 | 37 | % | $ | 1,132 | 32 | % | $ | 765 | $ | 513 | $ | 1,278 | 32 | % | ||||||||
License and resale fees |
23 | 1 | % | 20 | 1 | % | 10 | 7 | 17 | | ||||||||||||||
Total products and services |
1,127 | 38 | % | 1,152 | 32 | % | 775 | 520 | 1,295 | 32 | % | |||||||||||||
Reimbursed expenses |
3 | | 8 | | 5 | 8 | 13 | | ||||||||||||||||
$ | 1,130 | 38 | % | $ | 1,160 | 33 | % | $ | 780 | $ | 528 | $ | 1,308 | 33 | % | |||||||||
Total Revenue |
||||||||||||||||||||||||
Services |
$ | 2,661 | 90 | % | $ | 3,180 | 89 | % | $ | 2,126 | $ | 1,418 | $ | 3,544 | 89 | % | ||||||||
License and resale fees |
210 | 7 | % | 282 | 8 | % | 179 | 166 | 345 | 9 | % | |||||||||||||
Total products and services |
2,871 | 97 | % | 3,462 | 97 | % | 2,305 | 1,584 | 3,889 | 97 | % | |||||||||||||
Reimbursed expenses |
84 | 3 | % | 94 | 3 | % | 66 | 47 | 113 | 3 | % | |||||||||||||
$ | 2,955 | 100 | % | $ | 3,556 | 100 | % | $ | 2,371 | $ | 1,631 | $ | 4,002 | 100 | % | |||||||||
(1) | Our combined results for the year ended December 31, 2005 represent the addition of the Predecessor period from January 1, 2005 through August 10, 2005 and the Successor period from August 11, 2005 through December 31, 2005. This combination does not comply with GAAP or with the rules for pro forma presentation, but is presented because we believe it provides the most meaningful comparison of our results. |
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Year Ended December 31, 2005 Compared to Year Ended December 31, 2004
Income from Operations:
Our total operating margin was 12% for the year ended December 31, 2005 compared to 20% for the year ended December 31, 2004, due primarily to a $133 million increase in merger costs and $107 million from purchase accounting adjustments resulting from the Transaction. The negative impact on total operating margin of the increase in merger costs and purchase accounting adjustments resulting from the Transaction was 610 basis points (one hundred basis points equals one percentage point). The purchase accounting adjustments included incremental amortization of acquisition-related intangible assets of $86 million and the adjustment of deferred revenue to fair value at the date of the Transaction (the deferred revenue adjustment) of $21 million. The preliminary allocation of the purchase price was based upon preliminary valuation data and our estimates and assumptions are subject to change. In addition, $47 million in the aggregate, which was related to the relocation of an AS facility, stock-based compensation and other expenses, caused a 120 basis point decline in the total operating margin. The balance of the decline in total operating margin is primarily the result of businesses acquired in 2005.
Financial Systems
The FS operating margin was 15% for the year ended December 31, 2005 compared to 17% for the year ended December 31, 2004. There was a negative impact on the FS margin of 270 basis points due to purchase accounting adjustments resulting from the Transaction, including incremental amortization ($46 million) and the deferred revenue adjustment ($7 million).
The most important factors affecting the FS operating margin are:
| the operating margins of recently acquired businesses, which tend to be lower at the outset and improve over a number of years, |
| the level of IT spending and its impact on the overall demand for professional services and software license sales, |
| the rate and value of contract renewals and contract terminations, |
| continued pressure on pricing both in contract renewals and new contract signings, |
| the level of trading volumes, and |
| the overall condition of the financial services industry and the effect of any further consolidation among financial services firms. |
Higher Education and Public Sector Systems
The HEPS operating margin was 16% in each of the years ended December 31, 2005 and 2004, respectively. The impact of the purchase accounting adjustments resulting from the Transaction was immaterial.
Availability Services
The AS operating margin was 25% for the year ended December 31, 2005 compared to 31% for the year ended December 31, 2004. There was a negative impact of 320 basis points on the AS margin due to the purchase accounting adjustments resulting from the Transaction, including incremental amortization ($37 million) and the deferred revenue adjustment ($8 million). The AS margin decreased
33
by 220 basis points due to the lower margin associated with a business acquired in January 2005 as well as a one-time charge of $12 million related to the relocation of an AS facility.
The most important factors affecting the AS operating margin are:
| the rate and value of contract renewals, new contract signings and contract terminations, |
| the timing and magnitude of equipment and facilities expenditures, and |
| the trend toward availability solutions utilizing more dedicated resources. |
The margin rate of the AS European business is inherently lower than the margin rate of the North American business due primarily to lower economies of scale in the distinct geographic markets served and, to a lesser extent, a higher percentage of always on solutions.
Revenue:
Total revenue was $4.0 billion for the year ended December 31, 2005 compared to $3.56 billion for the year ended December 31, 2004. The increase in total revenue in 2005 was due to $360 million from recently acquired businesses and to internal revenue growth of approximately 6.5%, offset in part by a decrease of $129 million due to the sale of Brut LLC in September 2004 and the deferred revenue adjustment of $21 million. The rate of growth in internal revenue increased to approximately 6.5% in 2005 compared to approximately 2% in 2004, reflecting improvements in all three segments. Internal revenue is defined as revenue from businesses owned for at least one year and excludes the deferred revenue adjustment and revenue from Brut LLC. When assessing our financial results, we focus on growth in internal revenue because overall revenue growth is affected by the timing and magnitude of acquisitions and dispositions and by purchase price accounting adjustments resulting from the Transaction.
Services revenue, which is largely recurring in nature, includes revenue from availability services, processing services, software support and rentals, professional services, broker/dealer fees and hardware rentals. Services revenue increased to $3.5 billion from $3.2 billion, representing approximately 89% of total revenue in both 2005 and 2004. The revenue increase in 2005 was due primarily to the impact of acquired businesses, especially in HEPS and AS, and to internal revenue growth in all three segments, offset in part by the sale of Brut LLC.
Professional services revenue was $644 million and $523 million in 2005 and 2004, respectively. The increase was due primarily to acquired businesses and improvement in HEPS and benefit administration and insurance systems.
Revenue from license and resale fees was $345 million and $282 million for the years ended December 31, 2005 and 2004, respectively, and includes software license revenue of $266 million and $217 million, respectively. The increases were due primarily to internal revenue growth in FS and HEPS. At December 31, 2004, we had a software license backlog of $19 million, most of which was recognized as revenue in the first quarter of 2005.
Financial Systems
FS revenue was $1.91 billion for the year ended December 31, 2005 compared to $1.87 billion for the year ended December 31, 2004. Services revenue decreased $14 million and license and resale fees increased $37 million. The net decrease in services revenue reflects the impact of the sale of Brut LLC
34
which had $129 million in total revenue and $110 million in services revenue in 2004. FS internal revenue increased approximately 6% in 2005, compared to approximately 2% in 2004, reflecting broad-based improvements across the segment, especially in trading, treasury and risk management systems and wealth management and brokerage systems.
Higher Education and Public Sector Systems
HEPS revenue was $788 million for the year ended December 31, 2005 compared to $525 million for the year ended December 31, 2004. Services revenue increased $232 million and license and resale fees increased $29 million due to recently acquired businesses and to internal revenue growth of approximately 12%.
Availability Services
AS revenue was $1.31 billion for the year ended December 31, 2005 compared to $1.16 billion for the year ended December 31, 2004. The increase was due primarily to a business acquired in January 2005 and to internal revenue growth. AS internal revenue increased approximately 5% in 2005 and approximately 3% in 2004 due primarily to growth in North America.
Costs and Expenses:
Total costs and expenses as a percentage of revenue were 88% and 80% for the year ended December 31, 2005 and 2004, respectively. The increase was due primarily to the $133 million increase in merger costs and the incremental amortization of acquisition-related intangible assets of $86 million resulting from the Transaction.
Cost of sales and direct operating expenses as a percentage of total revenue were 46% for the year ended December 31, 2005 compared to 45% for the year ended December 31, 2004. The increase of $252 million was due primarily to acquired businesses, reimbursable clearing broker costs, and a one-time charge in the first quarter of 2005 of $12 million related to the relocation of an AS facility, offset in part by a decrease in expenses due to the sale of Brut LLC. The one-time AS facility charge related to the relocation of a leased availability services facility in North Bergen, New Jersey, which was acquired in 2001 as part of the Comdisco, Inc. availability services business. The equipment in this facility has been relocated to an expanded facility in Carlstadt, New Jersey, thereby improving the operational resilience and scope of services available to customers.
Sales, marketing and administration expenses as a percentage of total revenue were 20% for the year ended December 31, 2005 compared to 19% for the year ended December 31, 2004. The increase of $134 million was due primarily to acquired businesses and a non-cash charge of $29 million for stock-based compensation (see Note 6 of Notes to Consolidated Financial Statements).
Because AS product development costs are insignificant, it is more meaningful to measure product development expense as a percentage of revenue from software and processing solutions. For the year ended December 31, 2005 and 2004, software development expenses were 9% and 10% of revenue from software and processing solutions, respectively.
Depreciation and amortization was consistent as a percentage of total revenue at 6% for the years ended December 31, 2005 and 2004. The $12 million increase in 2005 was due primarily to acquired businesses.
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Amortization of acquisition-related intangible assets was 6% of total revenue for the year ended December 31, 2005 compared to 3% for the year ended December 31, 2004. Amortization of acquisition-related intangible assets increased $112 million in 2005 due to the impact of the Transaction as well as recent acquisitions made by the Company.
In 2005, we recorded merger costs of $139 million in connection with costs associated with the Transaction. See Note 2 of Notes to Consolidated Financial Statements.
Interest income was $15 million for the year ended December 31, 2005 compared to $8 million for the year ended December 31, 2004. The increase was due primarily to interest earned on higher average invested balances. Interest expense was $265 million for the year ended December 31, 2005 compared to $29 million for the year ended December 31, 2004. The increase was due to the $7.3 billion in debt incurred in connection with the Transaction, and includes amortization of debt issuance costs and debt discounts of $23 million.
Other income (expense) decreased $95 million in the year ended December 31, 2005 due to the gain associated with the sale of Brut LLC in September 2004. Other income (expense) in 2005 includes the loss on sale of accounts receivable and discount on retained interests of $18 million (see Note 5 of Notes to Consolidated Financial Statements).
The effective tax rate was 48% for the year 2005 compared to 40% for the year 2004. The higher effective tax rate in 2005 was due to non-deductible merger costs and, to a lesser extent, repatriation of undistributed earnings of foreign subsidiaries under the American Jobs Creation Act of 2004.
Year Ended December 31, 2004 Compared to Year Ended December 31, 2003
Income from Operations:
Our total operating margin declined to 20% from 21% in 2003 due primarily to the initial aggregate impact of the lower margin businesses acquired in 2004.
Financial Systems
The FS operating margin declined 190 basis points in 2004. Most of this decline was attributable to the following: a $13 million decrease in internal software license fee revenue; the initial aggregate impact of FS businesses acquired in 2004; a $5 million reduction in the carrying value of our investment in New York Stock Exchange seats; and the effect of including our output solutions business in FS starting January 1, 2004.
Higher Education and Public Sector Systems
The HEPS operating margin was 16% and 12% in 2004 and 2003, respectively. The margin in 2004 is driven almost entirely by the margins of businesses acquired in 2004.
Availability Services
The AS operating margin was 31% and 28% in 2004 and 2003, respectively. The higher margin in 2004 was due primarily to lower depreciation expense because of short-lived assets acquired in 2001 becoming fully depreciated, a decrease in commission expense resulting from lower sales, lower costs associated with certain recovery resources, and collection of reserved accounts receivable.
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Revenue:
Due to the sale of Brut LLC in September of 2004, we present internal revenue growth excluding and including Brut LLC as follows:
Year ended December 31, |
||||||
Internal Revenue Growth |
2004 | 2003 | ||||
Excluding Brut |
||||||
Total SunGard |
2 | % | (2 | %) | ||
Financial Systems |
2 | % | (5 | %) | ||
Including Brut |
||||||
Total SunGard |
4 | % | 0 | % | ||
Financial Systems |
5 | % | (2 | %) |
The following discussions of internal revenue growth are based on internal revenue excluding Brut LLC.
Total revenue increased $601 million in 2004. Internal revenue increased approximately 2% in 2004 and decreased approximately 2% in 2003. Currency fluctuation had a positive impact of approximately 2% on internal revenue in both years. The improvement in the 2004 internal revenue growth rate was driven by an increase in services revenue, including professional services, offset in part by a decline in license fees.
Services revenue increased to $3.2 billion from $2.7 billion, representing approximately 89% and 90% of total revenue in 2004 and 2003, respectively. The revenue increase in 2004 was due primarily to acquired businesses and to increases in AS, wealth management and brokerage systems, and benefit administration and insurance systems.
Professional services revenue was $523 million and $376 million in 2004 and 2003, respectively. The increase was due to acquired businesses and improvement in benefit administration and insurance systems.
Revenue from license and resale fees was $282 million and $210 million in 2004 and 2003, respectively, and included software license revenue of $217 million and $172 million, respectively. The increase in software license fees was due primarily to acquired businesses and improvement in benefit administration and insurance systems. We ended 2004 with a software license backlog, which consisted of signed contracts for licensed software that at our election or the election of our customer was not shipped to the customer until 2005, with the result that the license fees were recognized as revenue in 2005. The 2004 backlog was higher than usual, totaling $19 million, with the largest portion coming from license-fee businesses acquired in 2004.
Financial Systems
Total FS revenue increased $225 million in 2004. FS internal revenue increased approximately 2% in 2004 compared to a decrease of approximately 5% in 2003. Currency fluctuation had a positive impact of approximately 2% on internal revenue in both years.
FS services revenue increased $200 million, and license and resale fees increased $1 million. The increase in services revenue was due primarily to $135 million from acquired businesses and to
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increases in wealth management and brokerage systems and benefit administration and insurance systems. FS internal professional services revenue improved in 2004 by $14 million, or 5%, after declining for two consecutive years.
Reimbursed expenses revenue increased $24 million in 2004 primarily due to the inclusion, effective January 1, 2004, of our output solutions business in FS.
Higher Education and Public Sector Systems
Revenue from HEPS increased $346 million in 2004. HEPS services revenue increased $291 million and license and resale fees increased $73 million, with both increases due to acquired businesses. Reimbursed expenses revenue decreased $18 million in 2004, due primarily to the effect of including our output solutions business in FS beginning January 1, 2004.
Availability Services
AS revenue, which was all internal, increased $30 million, or 3%, in 2004 compared to an internal revenue increase of approximately 3% in 2003. Currency fluctuation had a positive impact of approximately 2% on internal revenue in both years. The primary factors for the lower internal revenue growth were new sales offset by the loss of business to customers taking certain of their availability solutions in-house, as well as the pressure that this and other competitive and technological factors had on prices.
Costs and Expenses:
Total costs and expenses as a percentage of revenue were relatively consistent during 2004 and 2003.
Cost of sales and direct operating expenses increased as a percentage of total revenue to 45% in 2004 compared to 44% in 2003. The increase was due to acquired businesses and trading, treasury and risk management systems.
Sales, marketing and administration expenses increased $129 million in 2004 due to acquired businesses and, to a lesser extent, increased corporate expenses.
Because AS product development costs are insignificant, it is more meaningful to measure product development expense as a percentage of revenue from software and processing solutions. In 2004, product development expenses were 10% of revenue from software and processing solutions, compared to 11% in 2003.
Depreciation and amortization declined to 6% of total revenue in 2004 compared to 8% in 2003 because certain short-lived AS assets acquired in 2001 were fully depreciated.
Amortization of acquisition-related intangible assets increased $30 million in 2004 due to recently acquired businesses.
In 2004, we recorded a gain of $78 million in connection with the sale of Brut LLC, and merger and spin-off costs of $6 million. In 2003, we recorded a benefit of $3 million from the reversal of previously recorded merger costs. See Note 2 of Notes to Consolidated Financial Statements.
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Interest income in 2004 and 2003 was $8 million and $6 million, respectively. Interest expense in 2004 and 2003 was $29 million and $11 million, respectively. The increase in interest expense was due to the issuance of $500 million in senior unsecured notes in January 2004.
Liquidity and Capital Resources
At December 31, 2005, cash and cash equivalents were $317 million, a decrease of $358 million from December 31, 2004. Cash flow from operations was $1.3 billion in the year ended December 31, 2005 compared to cash flow from operations of $785 million in the year ended December 31, 2004. The increase in cash flow from operations is due primarily to the sale of accounts receivable under our long-term receivables facility and lower initial working capital requirements of businesses acquired in 2005 compared to those acquired in 2004.
Net cash used in investing activities was $12.4 billion in the year ended December 31, 2005, including $11.6 billion in connection with the Transaction, $538 million (net of cash acquired) for eleven acquisitions and $274 million for net capital expenditures. Net cash used in investing activities was $845 million in the year ended December 31, 2004, which is net of $194 million cash received from the sale of Brut LLC and other businesses. During 2004, we spent $799 million (net of cash acquired) for ten acquisitions and $240 million on capital expenditures.
Net cash provided by financing activities was $10.7 billion for the year ended December 31, 2005, primarily related to Transaction-related financing activities of $7.33 billion of new debt and $3.45 billion of equity contributions by SunGard Holdco LLC, the Companys parent. Net cash provided by financing activities was $256 million in 2004.
At December 31, 2005, contingent purchase price obligations that depend upon the operating performance of certain acquired businesses cannot exceed $125 million, none of which we currently expect to pay. We also have outstanding letters of credit and bid bonds that total approximately $47 million.
As a result of the Transaction, we are highly leveraged and our debt service requirements are significant. At December 31, 2005, our total indebtedness was $7.43 billion and we had $980 million ($831 million at March 8, 2006) available for borrowing under the revolving credit facility, after giving effect to certain outstanding letters of credit. In addition, at December 31, 2005, we had borrowed $385 million of our $450 million off-balance sheet long-term receivables facility.
At December 31, 2005, our contractual obligations follow (in millions):
Total | 2006 | 2007 2008 | 2009 2010 | 2011 and After | |||||||||||
Short-term and long-term debt |
$ | 7,483 | $ | 46 | $ | 84 | $ | 331 | $ | 7,022 | |||||
Interest payments |
4,591 | 604 | 1,206 | 1,176 | 1,605 | ||||||||||
Operating leases |
739 | 161 | 250 | 141 | 187 | ||||||||||
Purchase obligations |
176 | 65 | 48 | 19 | 44 | ||||||||||
$ | 12,989 | $ | 876 | $ | 1,588 | $ | 1,667 | $ | 8,858 | ||||||
Short-term and long-term debt excludes the impact of debt discounts of $21 million in 2009 and $33 million in 2011 and after. Purchase obligations include our estimate of the minimum outstanding obligations under noncancelable commitments to purchase goods or services.
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We expect our cash flows from operations, combined with availability under our revolving credit and receivables facilities, to provide sufficient liquidity to fund our current obligations, projected working capital requirements and capital spending for a period that includes the next 12 months.
The Transaction
On August 11, 2005, in connection with the Transaction, we (i) entered into a new $5.0 billion senior secured credit facility, consisting of a $3.69 billion term loan facility with SunGard as the borrower, a $315 million-equivalent term loan facility with a U.K. subsidiary as the borrower ($165 million of which is denominated in euros and $150 million of which is denominated in pounds sterling), and a $1.0 billion revolving credit facility ($980 million available at December 31, 2005 for borrowing under the revolving credit facility, after giving effect to certain outstanding letters of credit), (ii) issued $3.0 billion aggregate principal amount of senior notes and senior subordinated notes and (iii) entered into receivables securitization facilities initially totaling $375 million.
Senior Secured Credit Facilities
Borrowings under the senior secured credit facilities bear interest at a rate equal to an applicable margin plus, at our option, either (a) a base rate determined by reference to the higher of (1) the prime rate of JPMorgan Chase Bank, N.A. and (2) the federal funds rate plus 1/2 of 1% or (b) a LIBOR rate determined by reference to the costs of funds for deposits in the currency of such borrowing for the interest period relevant to such borrowing adjusted for certain additional costs. The applicable margin for borrowings under the revolving credit facility may be reduced subject to attaining certain leverage ratios. In addition to paying interest on outstanding principal under the senior secured credit facilities, we pay a commitment fee to the lenders under the revolving credit facility in respect of the unutilized commitments thereunder. The initial commitment fee rate is 0.50% per annum. The commitment fee rate may be reduced subject to attaining certain leverage ratios.
All obligations under the senior secured credit facilities are unconditionally guaranteed by SunGard Holdco LLC and, subject to certain exceptions, by substantially all domestic wholly owned subsidiaries, referred to, collectively, as U.S. Guarantors. In addition, the borrowings of U.K. subsidiary borrowers under the revolving credit facility are unconditionally guaranteed by certain wholly owned U.K. subsidiaries. We must also pay customary letter of credit fees.
The senior secured credit facilities require us to prepay outstanding term loans, subject to certain exceptions, with excess cash flow and in the event of certain asset sales, casualty and condemnation events, incurrences of debt and certain financings under receivables facilities. Any mandatory prepayments would be applied pro rata to the term loan facilities and to installments of the term loan facilities in direct order of maturity.
We are required to repay installments on the loans under the term loan facilities in quarterly principal amounts of 0.25% of their funded total principal amount for the first seven years and three months, with the remaining amount payable on the date that is seven years and six months from the date of the closing of the senior secured credit facilities.
Principal amounts outstanding under the revolving credit facility are due and payable in full at maturity, six years from the date of the closing of the senior secured credit facilities.
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The senior secured credit facilities contain a number of covenants that, among other things, restrict, subject to certain exceptions, our (and most or all of our subsidiaries) ability to incur additional indebtedness or issue preferred stock, pay dividends and distributions on or repurchase capital stock, create liens on assets, enter into sale and leaseback transactions, repay subordinated indebtedness, make investments, loans or advances, make capital expenditures, engage in certain transactions with affiliates, amend certain material agreements, change our lines of business, sell assets and engage in mergers or consolidations. In addition, under the senior secured credit facilities, we are required to satisfy and maintain a maximum total leverage ratio and a minimum interest coverage ratio. We were in compliance with all covenants at December 31, 2005.
Senior Notes due 2009 and 2014
On January 15, 2004, we issued $500 million of senior unsecured notes, of which $250 million are 3.75% notes due 2009 and $250 million are 4.875% notes due 2014, which are subject to certain standard covenants. Upon completion of the Transaction and to the extent required by their indentures, these senior notes became collateralized on an equal and ratable basis with loans under the senior secured credit facilities and are guaranteed by all subsidiaries that guarantee the senior notes due 2013 and senior subordinated notes due 2015. The senior notes due 2009 and 2014 are recorded at $446 million as of December 31, 2005 as a result of fair value adjustments related to purchase accounting. The discount of $54 million will continue to be amortized into interest expense and added to the recorded amounts over the remaining periods to maturity.
Senior Notes due 2013 and Senior Subordinated Notes due 2015
The senior notes due 2013 are senior unsecured obligations that rank senior in right of payment to future debt and other obligations that are, by their terms, expressly subordinated in right of payment to the senior notes, including the senior subordinated notes. The senior notes (i) rank equally in right of payment to all existing and future senior debt and other obligations that are not, by their terms, expressly subordinated in right of payment to the senior notes, (ii) are effectively subordinated in right of payment to all existing and future secured debt to the extent of the value of the assets securing such debt, and (iii) are structurally subordinated to all obligations of each subsidiary that is not a guarantor of the senior notes. All obligations under the senior notes are unconditionally guaranteed, subject to certain exceptions, by substantially all of our domestic wholly owned subsidiaries.
The senior subordinated notes due 2015 are unsecured senior subordinated obligations that are subordinated in right of payment to the existing and future senior debt, including the senior secured credit facilities, the senior notes due 2009 and 2014 and the senior notes due 2013. The senior subordinated notes (i) rank equally in right of payment to all future senior subordinated debt, (ii) are effectively subordinated in right of payment to all existing and future secured debt to the extent of the value of the assets securing such debt, (iii) are structurally subordinated to all obligations of each subsidiary that is not a guarantor of the senior subordinated notes, and (iv) rank senior in right of payment to all future debt and other obligations that are, by their terms, expressly subordinated in right of payment to the senior subordinated notes.
The senior notes due 2013 and senior subordinated notes due 2015 are redeemable in whole or in part, at our option, at any time at varying redemption prices that generally include premiums, which are defined in the applicable indentures. In addition, upon a change of control, we are required to make an offer to redeem all of the senior notes and senior subordinated notes at a redemption price equal to 101% of the aggregate principal amount thereof plus accrued and unpaid interest.
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The indentures governing the senior notes due 2013 and senior subordinated notes due 2015 contain a number of covenants that restrict, subject to certain exceptions, our ability and the ability of our restricted subsidiaries to incur additional indebtedness or issue certain preferred shares, pay dividends on or make other distributions in respect of its capital stock or make other restricted payments, make certain investments, enter into certain types of transactions with affiliates, create liens securing certain debt without securing the senior notes due 2013 or senior subordinated notes due 2015, as applicable, sell certain assets, consolidate, merge, sell or otherwise dispose of all or substantially all of our assets and designate our subsidiaries as unrestricted subsidiaries.
Off-Balance Sheet DebtReceivables Securitization Facilities
In August 2005, certain domestic subsidiaries entered into two receivables facilities, a transitional facility and a long-term facility (the Facilities). The Facilities allow us to sell, on a revolving basis, an undivided interest that provided, in the aggregate, up to $375 million in funding, based on the amount of eligible receivables and satisfaction of other customary conditions, for a period of up to six years following the Transaction.
As of December 31, 2005, all participating domestic subsidiaries have joined the long-term facility and there are no subsidiaries participating in, and no borrowings under, the transitional facility. In addition, funding available under the long-term facility was increased to $450 million. Under the long-term facility, eligible receivables are sold to third-party conduits through a wholly owned, bankruptcy remote special purpose entity that is not consolidated for financial reporting purposes. We continue to service the receivables and charge a monthly servicing fee at market rates. The third-party conduits are sponsored by certain lenders under our senior secured credit facilities. Additional subsidiaries may become parties to the long-term facility, subject to the satisfaction of specified conditions including the completion of satisfactory due diligence. Sales of receivables under the long-term facility qualify as sales under the provisions of FASB Statement No. 140 Accounting for Transfers and Servicing of Financial Assets and Extinguishment of Liabilities (SFAS 140). Accordingly, these receivables, totaling $618 million net of applicable allowances, and the corresponding borrowings, totaling $385 million, are excluded from our consolidated balance sheet as of December 31, 2005. Our retained interest in receivables sold as of December 31, 2005 is $224 million. Expenses associated with the receivables facilities totaled $19 million for the period ended December 31, 2005, of which $18 million (representing the loss on sale of the receivables and the discount on retained interest) is recorded in other income (expense) and the remainder (representing facility and professional fees associated with the transitional facility) is recorded in interest expense in our consolidated statements of operations. The loss on sale of receivables was determined at the date of transfer based upon the fair value of the assets sold and the interests retained. We estimate fair value based on the present value of expected cash flows. The collection period and discount rate (prime rate of 7.25% at December 31, 2005) are the key assumptions used in this estimate. At December 31, 2005, neither a 10% nor a 20% adverse change in the assumed collection period or assumed discount rate would have a material impact on our financial position or results of operations.
Covenant Compliance
Our senior secured credit facilities and the indentures governing our new senior notes contain various covenants that limit our ability to engage in specified types of transactions. These covenants limit our and our restricted subsidiaries ability to, among other things:
| incur additional indebtedness or issue certain preferred shares; |
| pay dividends on, repurchase or make distributions in respect of our capital stock or make other restricted payments; |
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| make certain investments; |
| sell certain assets; |
| create liens; |
| consolidate, merge, sell or otherwise dispose of all or substantially all of our assets; and |
| enter into certain transactions with our affiliates. |
In addition, pursuant to the Principal Investor Agreement by and among our four parent companies, Solar Capital Corp. and the Sponsors, dated as of August 10, 2005, we are required to obtain approval from certain of the Sponsors prior to the declaration or payment of any dividend by us or any of our subsidiaries (other than dividends payable to us or any of our wholly owned subsidiaries).
Under the senior secured credit facilities and the long-term receivables facility, we are required to satisfy and maintain specified financial ratios and other financial condition tests. As of December 31, 2005, we are in compliance with the financial and nonfinancial covenants. Our continued ability to meet those financial ratios and tests can be affected by events beyond our control, and we cannot assure you that we will meet those ratios and tests. A breach of any of these covenants could result in a default under the senior secured credit facilities. Upon the occurrence of an event of default under the senior secured credit facilities, the lenders could elect to declare all amounts outstanding under the senior secured credit facilities to be immediately due and payable and terminate all commitments to extend further credit.
Adjusted earnings before interest, taxes, depreciation and amortization (EBITDA) is a non-GAAP measure used to determine our compliance with certain covenants contained in the indentures governing the senior notes due 2013 and senior subordinated notes due 2015 and in our senior secured credit facilities. Adjusted EBITDA is defined as EBITDA further adjusted to exclude unusual items and other adjustments permitted in calculating covenant compliance under the indentures and our senior secured credit facilities. We believe that the inclusion of supplementary adjustments to EBITDA applied in presenting Adjusted EBITDA is appropriate to provide additional information to investors to demonstrate compliance with our financing covenants.
The breach of covenants in our senior secured credit facilities that are tied to ratios based on Adjusted EBITDA could result in a default under that agreement, in which case the lenders could elect to declare all amounts borrowed due and payable. Any such acceleration would also result in a default under our indentures. Additionally, under our debt agreements, our ability to engage in activities such as incurring additional indebtedness, making investments and paying dividends is also tied to ratios based on Adjusted EBITDA.
Adjusted EBITDA does not represent net income (loss) or cash flow from operations as those terms are defined by GAAP and does not necessarily indicate whether cash flows will be sufficient to fund cash needs. While Adjusted EBITDA and similar measures are frequently used as measures of operations and the ability to meet debt service requirements, these terms are not necessarily comparable to other similarly titled captions of other companies due to the potential inconsistencies in the method of calculation. Adjusted EBITDA does not reflect the impact of earnings or charges resulting from matters that we may consider not to be indicative of our ongoing operations. In particular, the definition of Adjusted EBITDA in the indentures allows us to add back certain non-cash, extraordinary, unusual or non-recurring charges that are deducted in calculating net income (loss). However, these are expenses that may recur, vary greatly and are difficult to predict. Further, our debt instruments require that Adjusted EBITDA be calculated for the most recent four fiscal quarters. As a result, the measure can be disproportionately affected by a particularly strong or weak quarter. Further, it may not be comparable to the measure for any subsequent four-quarter period or any complete fiscal year.
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The following is a reconciliation of net income (loss), which is a GAAP measure of our operating results, to Adjusted EBITDA as defined in our debt agreements, and the calculation of the fixed charge coverage ratio, net debt and net debt to Adjusted EBITDA ratio under the indentures governing the senior notes due 2013 and senior subordinated notes due 2015. The terms and related calculations are defined in the indentures.
Predecessor | Successor | Year
ended | ||||||||||||
(in millions) |
Year ended December 31, 2004 |
Period from January 1 through August 10, 2005 |
Period from August 11 through December 31, 2005 |
|||||||||||
Net income (loss) |
$ | 454 | $ | 146 | $ | (29 | ) | $ | 117 | |||||
Interest expense, net |
20 | 8 | 242 | 250 | ||||||||||
Taxes |
307 | 142 | (33 | ) | 109 | |||||||||
Depreciation and amortization |
337 | 225 | 236 | 461 | ||||||||||
EBITDA |
1,118 | 521 | 416 | 937 | ||||||||||
Purchase accounting adjustments(1) |
| | 19 | 19 | ||||||||||
Non-cash charges(2) |
2 | 61 | 30 | 91 | ||||||||||
Unusual or non-recurring charges(3) |
(72 | ) | 61 | 21 | 82 | |||||||||
Restructuring charges or reserves(4) |
| 12 | | 12 | ||||||||||
Acquired EBITDA, net of disposed EBITDA(5) |
57 | 17 | | 17 | ||||||||||
Other(6) |
3 | 2 | 8 | 10 | ||||||||||
Adjusted EBITDASenior Secured Credit Facilities |
1,108 | 674 | 494 | 1,168 | ||||||||||
Loss on sale of receivables |
| | 18 | 18 | ||||||||||
Adjusted EBITDASenior Notes due 2013 and Senior Subordinated Notes due 2015 |
$ | 1,108 | $ | 674 | $ | 512 | $ | 1,186 | ||||||
(1) | Purchase accounting adjustments include the adjustment of deferred revenue and lease reserves to fair value at the date of the Transaction. |
(2) | Non-cash charges include stock-based compensation resulting from the acceleration of vesting of stock options and restricted stock under APB 25 due to the Transaction, new stock-based compensation awards accounted for under SFAS 123R (see Note 6 of Notes to Consolidated Financial Statements) and loss on the sale of assets. |
(3) | Unusual or non-recurring charges include merger costs associated with the Transaction, gain on the sale of Brut LLC, payroll taxes and certain compensation and other expenses associated with acquisitions made by the Company. |
(4) | Restructuring charges or reserves include the relocation of a leased availability services facility in North Bergen, New Jersey to an expanded facility in Carlstadt, New Jersey. |
(5) | Acquired EBITDA net of disposed EBITDA reflects the EBITDA impact of significant businesses that were acquired or disposed of during the period as if the acquisition or disposition occurred at the beginning of the period. |
(6) | Other includes franchise and similar taxes reported in operating expenses and management fees paid to the Sponsors, offset by interest charges relating to the receivables facilities and gains related to fluctuation of foreign currency exchange rates impacting the foreign-denominated debt. |
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Our covenant requirements and actual ratios for the year ended December 31, 2005 are as follows:
Covenant Requirements |
Actual Ratios | |||
Senior secured credit facilities (1) |
||||
Minimum Adjusted EBITDA to consolidated interest expense ratio |
1.40x | 2.08x | ||
Senior Notes due 2013 and Senior Subordinated Notes due 2015 (2) |
||||
Minimum Adjusted EBITDA to fixed charges ratio required to incur additional debt pursuant to ratio provisions |
2.00x | 2.03x | ||
(1) | Our senior secured credit facilities require us to maintain an Adjusted EBITDA to consolidated interest expense ratio starting at a minimum of 1.40x for the four-quarter period ended December 31, 2005 and stepping up over time to 1.50x by the end of 2006 and 2.20x by the end of 2013. Consolidated interest expense is defined in the senior secured credit facilities as consolidated cash interest expense less cash interest income further adjusted for certain noncash or nonrecurring interest expense and the elimination of interest expense and fees associated with our Receivables Facility. Beginning with the four-quarter period ending March 31, 2006, we are also required to maintain a consolidated total debt to Adjusted EBITDA ratio starting at a maximum of 8.25x and stepping down over time to 7.75x by the end of 2006 and to 4.0x by the end of 2013. Consolidated total debt is defined in the senior secured credit facilities as total debt less certain indebtedness and further adjusted for cash and cash equivalents on our balance sheet in excess of $50 million. Failure to satisfy these ratio requirements would constitute a default under the senior secured credit facilities. If our lenders failed to waive any such default, our repayment obligations under the senior secured credit facilities could be accelerated, which would also constitute a default under our indentures. |
(2) | Our ability to incur additional debt and make certain restricted payments under our indentures, subject to specified exceptions, is tied to an Adjusted EBITDA to fixed charges ratio of at least 2.0x, except that we may incur certain debt and make certain restricted payments and certain permitted investments without regard to the ratio, such as our ability to incur up to an aggregate principal amount of $5.75 billion under credit facilities (inclusive of amounts outstanding under our senior secured credit facilities from time to time; as of December 31, 2005, we had $3.97 billion outstanding under our term loan facilities and available commitments of $980 million under our revolving credit facility), to acquire persons engaged in a similar business that become restricted subsidiaries and to make other investments equal to 6% of our consolidated assets. Fixed charges is defined in the indentures governing the Senior Notes due 2013 and the Senior Subordinated Notes due 2015 as consolidated interest expense less interest income, adjusted for acquisitions, and further adjusted for noncash interest expense and the elimination of interest expense and fees associated with our Receivables Facility. |
EFFECT OF RECENT ACCOUNTING PRONOUNCEMENTS:
In September 2004, the Financial Accounting Standards Board (FASB) Emerging Issues Task Force reached a consensus on Issue 04-01, Accounting for Pre-existing Relationships between the Parties to a Business Combination (EITF 04-01). EITF 04-01 is effective for business combinations completed in reporting periods beginning after October 13, 2004. EITF 04-01 applies when two parties that have a pre-existing contractual relationship enter into a business combination. EITF 04-01 addresses whether a consummation of a business combination between two parties that have a pre-existing contractual relationship should be evaluated to determine if a settlement of a pre-existing contractual relationship exists, thus requiring accounting separate from the business combination. The
adoption of EITF 04-01 on January 1, 2005 did not have a material impact on our financial position or results of operations.
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In March 2005, the FASB issued FASB Interpretation No. 47, Accounting for Conditional Asset Retirement Obligations, an interpretation of FASB Statement No. 143 (FIN 47). FIN 47 clarifies that conditional asset retirement obligations meet the definition of liabilities and should be recognized when incurred if their fair values can be reasonably estimated. The Interpretation is effective no later than December 31, 2005. The adoption of FIN 47 did not have a material impact on our financial position or results of operations.
In June 2005, the FASB Derivatives Implementation Group (DIG) issued DIG Issue No. B38, Embedded Derivatives: Evaluation of Net Settlement with respect to the Settlement of a Debt Instrument through Exercise of an Embedded Put Option or Call Option (DIG B38) and DIG Issue No. B39 Embedded Derivatives: Application of Paragraph 13(b) to Call Options That Are Exercisable Only by the Debtor (DIG B39) that address circumstances in which a put or call option embedded in a debt instrument would be bifurcated from the debt instrument and accounted for separately. DIG B38 and DIG B39 are effective in the first quarter of 2006. We are currently evaluating DIG B38 and DIG B39 and the related impact on our financial position and results of operations.
ITEM 7A. | QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK |
We do not use derivative financial instruments for trading or speculative purposes. We have invested our available cash in short-term, highly liquid financial instruments, with a substantial portion having initial maturities of three months or less. When necessary, we have borrowed to fund acquisitions.
At December 31, 2005, we had total debt of $7.43 billion, including $4.37 billion of variable rate debt. We have entered into two interest rate swap agreements which fixed the interest rates for $1.6 billion of our variable rate debt. Our two swap agreements each have a notional value of $800 million and, effectively, fix our interest rates at 4.85% and 5.00%, respectively, and expire in February 2009 and February 2011, respectively. Our remaining variable rate debt of $2.77 billion is subject to market rate risk, as our interest payments will fluctuate as the underlying interest rates change as a result of market changes. During the period when both of our interest rate swap agreements are effective, a 1% change in interest rates would result in a change in interest of approximately $28 million per year. Upon the expiration of each interest rate swap agreement in February 2009 and February 2011, a 1% change in interest rates would result in a change in interest of approximately $36 million and $44 million per year, respectively. See Note 5 of Notes to Consolidated Financial Statements.
In addition, at December 31, 2005, $158 million of our debt is denominated in euros and $144 million is denominated in pounds sterling. While we expect that our foreign denominated debt will be serviced through our local operations, the euro debt is held by a U.K. subsidiary which has a functional currency of the pound sterling. Therefore, we are subject to foreign currency rate risk as changes in the currency exchange rates between the euro and the pound sterling are marked to market through our statement of operations. A 10% change in currency exchange rates would result in a charge or credit in the statement of operations of approximately $17 million.
During 2005, approximately 28% of our revenue was from customers outside the United States. Approximately 77% of this revenue was from customers located in the United Kingdom and Continental Europe. Only a portion of the revenue from customers outside the United States is denominated in foreign currencies, the majority being pounds sterling and euros. Revenue and expenses of our foreign operations are generally denominated in their respective local currencies. We continue to monitor our exposure to foreign exchange rates as a result of our foreign currency denominated debt, our acquisitions and ongoing changes in our operations.
46
ITEM 8. | FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA |
Index to Consolidated Financial Statements
48 | ||
49 | ||
50 | ||
51 | ||
52 | ||
54 |
47
Reports of Independent Registered Public Accounting Firm
To the Board of Directors and Stockholder of SunGard Data Systems Inc.:
In our opinion, the accompanying consolidated balance sheets and the related statements of operations, of stockholders equity and of cash flows present fairly, in all material respects, the financial position of SunGard Data Systems Inc. (predecessor) at December 31, 2004 and the results of its operations and its cash flows for the period January 1, 2005 to August 10, 2005 and for each of the two years in the period ended December 31, 2004 in conformity with accounting principles generally accepted in the United States of America. These financial statements are the responsibility of the Companys management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits of these statements in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
PricewaterhouseCoopers LLP
Philadelphia, PA
March 8, 2006
To the Board of Directors and Stockholder of SunGard Data Systems Inc.:
In our opinion, the accompanying consolidated balance sheet and the related consolidated statements of operations, of stockholders equity and of cash flows present fairly, in all material respects, the financial position of SunGard Data Systems Inc. (successor) at December 31, 2005, and the results of its operations and its cash flows for the period from August 11, 2005 to December 31, 2005 in conformity with accounting principles generally accepted in the United States of America. These financial statements are the responsibility of the Companys management. Our responsibility is to express an opinion on these financial statements based on our audit. We conducted our audit of these statements in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion.
PricewaterhouseCoopers LLP
Philadelphia, Pennsylvania
March 8, 2006
48
Consolidated Balance Sheets
Predecessor | Successor | |||||||
(in millions except share and per-share amounts) |
December 31, 2004 |
December 31, 2005 |
||||||
Assets |
||||||||
Current: |
||||||||
Cash and cash equivalents |
$ | 675 | $ | 317 | ||||
Trade receivables, less allowance for doubtful accounts of $50 and $9 |
618 | 190 | ||||||
Earned but unbilled receivables |
118 | 38 | ||||||
Prepaid expenses and other current assets |
109 | 166 | ||||||
Clearing broker assets |
232 | 391 | ||||||
Retained interest in accounts receivable sold |
| 224 | ||||||
Deferred income taxes |
43 | 40 | ||||||
Total current assets |
1,795 | 1,366 | ||||||
Property and equipment, less accumulated depreciation of $925 and $72 |
620 | 705 | ||||||
Software products, less accumulated amortization of $416 and $83 |
353 | 1,528 | ||||||
Customer base, less accumulated amortization of $213 and $68 |
557 | 2,817 | ||||||
Other tangible and intangible assets, less accumulated amortization of $26 and $3 |
46 | 248 | ||||||
Trade name |
| 1,019 | ||||||
Goodwill |
1,824 | 6,904 | ||||||
Total Assets |
$ | 5,195 | $ | 14,587 | ||||
Liabilities and Stockholders Equity |
||||||||
Current: |
||||||||
Short-term and current portion of long-term debt |
$ | 45 | $ | 46 | ||||
Accounts payable |
60 | 67 | ||||||
Accrued compensation and benefits |
180 | 218 | ||||||
Accrued interest expense |
11 | 161 | ||||||
Other accrued expenses |
241 | 282 | ||||||
Clearing broker liabilities |
209 | 360 | ||||||
Deferred revenue |
630 | 695 | ||||||
Total current liabilities |
1,376 | 1,829 | ||||||
Long-term debt |
509 | 7,383 | ||||||
Deferred income taxes |
58 | 1,803 | ||||||
Total liabilities |
1,943 | 11,015 | ||||||
Commitments and contingencies |
||||||||
Stockholders equity: |
||||||||
Predecessor: |
||||||||
Preferred stock, par value $.01 per share; 5,000,000 shares authorized, of which 3,200,000 shares are designated as Series A Junior Participating Preferred Stock |
| | ||||||
Common stock, par value $.01 per share; 800,000,000 shares authorized; 292,257,243 shares issued at December 31, 2004 |
3 | | ||||||
Successor: |
||||||||
Common stock, par value $.01 per share; 100 shares authorized, issued and outstanding at December 31, 2005 |
| | ||||||
Capital in excess of par value |
957 | 3,629 | ||||||
Restricted stock plans |
(2 | ) | | |||||
Retained earnings (accumulated deficit) |
2,221 | (29 | ) | |||||
Accumulated other comprehensive income (loss) |
177 | (28 | ) | |||||
3,356 | 3,572 | |||||||
Treasury stock, at cost, 3,930,000 and 0 shares |
(104 | ) | | |||||
Total stockholders equity |
3,252 | 3,572 | ||||||
Total Liabilities and Stockholders Equity |
$ | 5,195 | $ | 14,587 | ||||
The accompanying notes are an integral part of these financial statements.
49
Consolidated Statements of Operations
Predecessor | Successor | |||||||||||||||
(in millions) |
Year ended December 31, 2003 |
Year ended December 31, 2004 |
Period from January 1 through August 10, 2005 |
Period from August 11 through December 31, 2005 |
||||||||||||
Revenue: |
||||||||||||||||
Services |
$ | 2,661 | $ | 3,180 | $ | 2,126 | $ | 1,418 | ||||||||
License and resale fees |
210 | 282 | 179 | 166 | ||||||||||||
Total products and services |
2,871 | 3,462 | 2,305 | 1,584 | ||||||||||||
Reimbursed expenses |
84 | 94 | 66 | 47 | ||||||||||||
2,955 | 3,556 | 2,371 | 1,631 | |||||||||||||
Costs and expenses: |
||||||||||||||||
Cost of sales and direct operating |
1,292 | 1,608 | 1,119 | 741 | ||||||||||||
Sales, marketing and administration |
536 | 665 | 456 | 343 | ||||||||||||
Product development |
195 | 236 | 154 | 96 | ||||||||||||
Depreciation and amortization |
223 | 218 | 141 | 89 | ||||||||||||
Amortization of acquisition-related intangible assets |
89 | 119 | 84 | 147 | ||||||||||||
Merger costs |
(3 | ) | 6 | 121 | 18 | |||||||||||
2,332 | 2,852 | 2,075 | 1,434 | |||||||||||||
Income from operations |
623 | 704 | 296 | 197 | ||||||||||||
Interest income |
6 | 8 | 9 | 6 | ||||||||||||
Interest expense |
(11 | ) | (29 | ) | (17 | ) | (248 | ) | ||||||||
Other income (expense) |
(3 | ) | 78 | | (17 | ) | ||||||||||
Income (loss) before income taxes |
615 | 761 | 288 | (62 | ) | |||||||||||
Provision (benefit) for income taxes |
245 | 307 | 142 | (33 | ) | |||||||||||
Net income (loss) |
$ | 370 | $ | 454 | $ | 146 | $ | (29 | ) | |||||||
The accompanying notes are an integral part of these financial statements.
50
Consolidated Statements of Cash Flows
Predecessor | Successor | |||||||||||||||
(in millions) |
Year ended December 31, 2003 |
Year ended December 31, 2004 |
Period from January 1 through August 10, 2005 |
Period from August 11 through December 31, 2005 |
||||||||||||
Cash flow from operations: |
||||||||||||||||
Net income (loss) |
$ | 370 | $ | 454 | $ | 146 | $ | (29 | ) | |||||||
Reconciliation of net income (loss) to cash flow from operations: |
||||||||||||||||
Depreciation and amortization |
311 | 337 | 225 | 236 | ||||||||||||
Deferred income tax provision (benefit) |
42 | 13 | (14 | ) | (57 | ) | ||||||||||
Stock compensation expense |
| | 59 | 29 | ||||||||||||
Gain on sale of Brut, net of tax |
| (46 | ) | | | |||||||||||
Amortization of deferred financing costs and debt discount |
| | | 20 | ||||||||||||
Other noncash credits |
(25 | ) | (17 | ) | (17 | ) | (13 | ) | ||||||||
Accounts receivable and other current assets |
14 | 54 | 79 | 293 | ||||||||||||
Accounts payable and accrued expenses |
(89 | ) | (1 | ) | 106 | 171 | ||||||||||
Clearing broker assets and liabilities, net |
(5 | ) | (18 | ) | (3 | ) | (5 | ) | ||||||||
Deferred revenue |
27 | 9 | (10 | ) | 60 | |||||||||||
Cash flow from operations |
645 | 785 | 571 | 705 | ||||||||||||
Investment activities: |
||||||||||||||||
Cash paid for businesses acquired by the Company, net of cash acquired |
(465 | ) | (799 | ) | (419 | ) | (119 | ) | ||||||||
Cash paid for property and equipment |
(182 | ) | (210 | ) | (132 | ) | (88 | ) | ||||||||
Cash paid for software and other assets |
(29 | ) | (30 | ) | (23 | ) | (31 | ) | ||||||||
Acquisition of SunGard |
| | | (11,577 | ) | |||||||||||
Cash received for sale of certain assets |
13 | 194 | 5 | 15 | ||||||||||||
Cash used in investment activities |
(663 | ) | (845 | ) | (569 | ) | (11,800 | ) | ||||||||
Financing activities: |
||||||||||||||||
Cash received from borrowings for the Transaction |
| | | 7,333 | ||||||||||||
Investment by parent |
| | | 3,450 | ||||||||||||
Cash received from other borrowings, net of fees |
147 | 591 | 75 | 179 | ||||||||||||
Cash used to repay debt |
(161 | ) | (293 | ) | (132 | ) | (556 | ) | ||||||||
Cash received from stock option and award plans |
72 | 62 | 386 | | ||||||||||||
Cash used to purchase treasury stock |
| (104 | ) | | | |||||||||||
Cash provided by financing activities |
58 | 256 | 329 | 10,406 | ||||||||||||
Increase (decrease) in cash and cash equivalents |
40 | 196 | 331 | (689 | ) | |||||||||||
Beginning cash and cash equivalents |
439 | 479 | 675 | 1,006 | ||||||||||||
Ending cash and cash equivalents |
$ | 479 | $ | 675 | $ | 1,006 | $ | 317 | ||||||||
Supplemental information: |
||||||||||||||||
Interest paid |
$ | 12 | $ | 18 | $ | 22 | $ | 289 | ||||||||
Income taxes paid |
$ | 209 | $ | 254 | $ | 69 | $ | 14 | ||||||||
Acquired businesses: |
||||||||||||||||
Property and equipment |
$ | 11 | $ | 27 | $ | 66 | $ | 1 | ||||||||
Software products |
115 | 177 | 57 | 39 | ||||||||||||
Customer base |
82 | 204 | 160 | 21 | ||||||||||||
Goodwill |
364 | 528 | 213 | 65 | ||||||||||||
Other tangible and intangible assets |
9 | 12 | 2 | 5 | ||||||||||||
Deferred income taxes |
(26 | ) | (47 | ) | (53 | ) | 5 | |||||||||
Purchase price obligations and debt assumed |
(7 | ) | (57 | ) | (21 | ) | (3 | ) | ||||||||
Net current liabilities assumed |
(83 | ) | (45 | ) | (5 | ) | (14 | ) | ||||||||
Cash paid for acquired businesses, net of cash acquired of $61, $148, $31 and $6, respectively |
$ | 465 | $ | 799 | $ | 419 | $ | 119 | ||||||||
The accompanying notes are an integral part of these financial statements.
51
Consolidated Statement of Stockholders Equity
Preferred Stock | Common Stock | |||||||||
(in millions) |
Number of Shares |
Par Value |
Number of Shares |
Par Value | ||||||
Predecessor |
||||||||||
Balances at December 31, 2002 |
| $ | | 284 | $ | 3 | ||||
Comprehensive income: |
||||||||||
Net income |
| | | | ||||||
Foreign currency translation |
| | | | ||||||
Total comprehensive income |
||||||||||
Shares issued under stock plans |
| | 5 | | ||||||
Compensation expense related to stock plans |
| | | | ||||||
Income tax benefit arising from employee stock options |
| | | | ||||||
Balances at December 31, 2003 |
| | 289 | 3 | ||||||
Comprehensive income: |
||||||||||
Net income |
| | | | ||||||
Foreign currency translation |
| | | | ||||||
Total comprehensive income |
||||||||||
Shares repurchased |
| | | | ||||||
Shares issued under stock plans |
| | 4 | | ||||||
Compensation expense related to stock plans |
| | | | ||||||
Income tax benefit arising from employee stock options |
| | | | ||||||
Balances at December 31, 2004 |
| | 293 | 3 | ||||||
Comprehensive income: |
||||||||||
Net income |
| | | | ||||||
Foreign currency translation |
| | | | ||||||
Total comprehensive income |
||||||||||
Shares issued under stock plans |
| | 18 | | ||||||
Compensation expense related to stock plans |
| | | | ||||||
Income tax benefit arising from employee stock options |
| | | | ||||||
Balances at August 10, 2005 |
| $ | | 311 | $ | 3 | ||||
Successor |
||||||||||
Investment by Parent Companies |
| $ | | |||||||
Comprehensive loss: |
||||||||||
Net loss |
| | ||||||||
Foreign currency translation |
| | ||||||||
Net unrealized loss on derivative instruments |
| | ||||||||
Total comprehensive loss |
| | ||||||||
Stock-based compensation expense |
| | ||||||||
Return of capital |
| | ||||||||
Balances at December 31, 2005 |
| $ | | |||||||
The accompanying notes are an integral part of these financial statements.
52
Capital in Excess of Par Value |
Restricted Stock Plans |
Retained Earnings (Accumulated Deficit) |
Accumulated Other Comprehensive Income (Loss) |
Total | |||||||||||||||||||||||||||
Foreign Currency |
Net Unrealized Gain
(Loss) |
Treasury Stock | |||||||||||||||||||||||||||||
Number of Shares |
Cost | ||||||||||||||||||||||||||||||
$ | 802 | $ | (2 | ) | $ | 1,397 | $ | 24 | $ | | | $ | (1 | ) | $ | 2,223 | |||||||||||||||
| | 370 | | | | | |||||||||||||||||||||||||
| | | 87 | | | | |||||||||||||||||||||||||
457 | |||||||||||||||||||||||||||||||
73 | (1 | ) | | | | | 1 | 73 | |||||||||||||||||||||||
| 1 | | | | | | 1 | ||||||||||||||||||||||||
12 | | | | | | | 12 | ||||||||||||||||||||||||
887 | (2 | ) | 1,767 | 111 | | | | 2,766 | |||||||||||||||||||||||
| | 454 | | | | | |||||||||||||||||||||||||
| | | 66 | | | | |||||||||||||||||||||||||
520 | |||||||||||||||||||||||||||||||
| | | | | (4 | ) | (104 | ) | (104 | ) | |||||||||||||||||||||
63 | (1 | ) | | | | | | 62 | |||||||||||||||||||||||
| 1 | | | | | | 1 | ||||||||||||||||||||||||
7 | | | | | | | 7 | ||||||||||||||||||||||||
957 | (2 | ) | 2,221 | 177 | | (4 | ) | (104 | ) | 3,252 | |||||||||||||||||||||
| | 146 | | | | | |||||||||||||||||||||||||
| | | (69 | ) | | | | ||||||||||||||||||||||||
77 | |||||||||||||||||||||||||||||||
386 | | | | | | | 386 | ||||||||||||||||||||||||
59 | 2 | | | | | | 61 | ||||||||||||||||||||||||
58 | | | | | | | 58 | ||||||||||||||||||||||||
$1,460 | $ | | $ | 2,367 | $ | 108 | $ | | (4 | ) | $ | (104 | ) | $ | 3,834 | ||||||||||||||||
$ | 3,605 | $ | | $ | | $ | | $ | | | $ | | $ | 3,605 | |||||||||||||||||
| | (29 | ) | | | | | ||||||||||||||||||||||||
| | | (27 | ) | | | | ||||||||||||||||||||||||
| | | | (1 | ) | | | ||||||||||||||||||||||||
| | | | | | | (57 | ) | |||||||||||||||||||||||
29 | | | | | | | 29 | ||||||||||||||||||||||||
(5 | ) | | | | | | | (5 | ) | ||||||||||||||||||||||
$ | 3,629 | $ | | $ | (29 | ) | $ | (27 | ) | $ | (1 | ) | | $ | | $ | 3,572 | ||||||||||||||
53
SunGard Data Systems Inc.
Notes to Consolidated Financial Statements
1. Basis of Presentation and Summary of Significant Accounting Policies
SunGard Data Systems Inc. (SunGard) was acquired on August 11, 2005 by a consortium of private equity investment funds associated with Bain Capital Partners, The Blackstone Group, Goldman Sachs & Co., Kohlberg Kravis Roberts & Co., Providence Equity Partners, Silver Lake Partners and Texas Pacific Group (the Transaction). The Transaction was accomplished through the merger of Solar Capital Corp. into SunGard, with SunGard being the surviving company.
SunGard is a wholly owned subsidiary of SunGard Holdco LLC, which is wholly owned by SunGard Holding Corp., which is wholly owned by SunGard Capital Corp. II, which is wholly owned by SunGard Capital Corp. SunGard Capital Corp. II and SunGard Capital Corp. are collectively referred to as the Parent Companies. All four of these companies were formed for the purpose of facilitating the Transaction.
Although SunGard continued as the same legal entity after the Transaction, the accompanying consolidated statements of operations, cash flows and stockholders equity are presented for two periods: Predecessor and Successor, which relate to the period preceding the Transaction and the period succeeding the Transaction, respectively. The Company refers to the operations of SunGard and subsidiaries for both the Predecessor and Successor periods.
SunGard has three segments: Financial Systems (FS), Higher Education and Public Sector Systems (HEPS) and Availability Services (AS). The Companys Software & Processing Solutions business is comprised of the FS and HEPS segments. The consolidated financial statements include the accounts of the Company and its majority-owned subsidiaries. All significant intercompany transactions and accounts have been eliminated. The consolidated financial statements exclude the accounts of the Parent Companies.
Estimates
The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make many estimates and judgments that affect the reported amounts of assets, liabilities, revenue and expenses. The Company evaluates its estimates and judgments on an ongoing basis and revises them when necessary. Actual results may differ from the original or revised estimates.
The Company amortizes identifiable intangible assets over periods that it believes approximate the related useful lives of those assets based upon estimated future operating results and cash flows of the underlying business operations. The Company closely monitors estimates of those lives, which could change due to many factors, including product demand, market conditions, regulations affecting the business model of the Companys brokerage operations, technological developments, economic conditions and competition.
Revenue Recognition
The Company recognizes revenue in accordance with Staff Accounting Bulletin (SAB) No. 104, Revenue Recognition. SAB 104 requires that the following criteria be met in determining whether revenue has been earned: persuasive evidence of an arrangement exists; services have been provided; the price is fixed or determinable; and collectibility is reasonably assured.
54
The Company generates services revenue from availability services, processing services, software maintenance and rentals, professional services, broker/dealer fees and hardware rentals. All services revenue is recorded as the services are provided based on the fair value of each element. Fair value is determined based on the sales price of each element when sold separately. Most AS services revenue consists of fixed monthly fees based upon the specific computer configuration or business process for which the service is being provided, and the related costs are incurred ratably over the contract period. When recovering from an interruption, customers generally are contractually obligated to pay additional fees, which typically cover the incremental costs of supporting customers during recoveries. FS services revenue includes monthly fees, which may include a fixed minimum fee and/or variable fees based on a measure of volume or activity, such as the number of users, accounts, trades or transactions or the number of hours of service.
For fixed-fee professional services contracts, services revenue is recorded based upon the estimated percentage of completion, measured by the actual number of hours incurred divided by the total estimated number of hours for the project. When fixed-fee contracts include both professional services and software and require a significant amount of program modification or customization, installation, systems integration or related services, the professional services and license revenue is recorded based upon the estimated percentage of completion, measured in the manner described above. Changes in the estimated costs or hours to complete the contract are reflected in the period during which the change becomes known. Losses, if any, are recognized immediately.
License fees result from contracts that permit the customer to use a SunGard software product at the customers site. Generally, these contracts are multiple-element arrangements since they usually provide for professional services and ongoing software maintenance. In these instances, license fees are recognized upon the signing of the contract and delivery of the software if the license fee is fixed, collection is probable, and there is sufficient evidence of the fair value of each undelivered element. Revenue is recorded over the contract period when customer payments are extended beyond normal billing terms, or when there is significant acceptance, technology or service risk. Revenue also is recorded over the contract period in those instances where the software is bundled together with computer equipment or other post-delivery services, and there is not sufficient evidence of the fair value of each element.
Sufficient evidence of fair value is determined by reference to vendor specific objective evidence (VSOE) as defined in American Institute of Certified Public Accountants Statement of Position (SOP) 98-9, Modification of SOP 97-2, Software Revenue Recognition, with Respect to Certain Transactions. If there is no VSOE of the fair value of the delivered element (which is usually the software) but there is VSOE of the fair value of each of the undelivered elements (which are usually maintenance and professional services), then the residual method is used to determine the revenue for the delivered element. First, the revenue for the undelivered elements is set at the fair value of those elements using VSOE of the price paid when each of the undelivered elements is sold separately. The revenue remaining after allocation to the undelivered elements (i.e., the residual) is allocated to the delivered element.
VSOE supporting the fair value of maintenance is based on the optional renewal rates for each product included in the Companys contracts, typically 18% to 20% of the software license fee per year. Maintenance revenue is recognized on a straight-line basis over the contract period. VSOE supporting the fair value of professional services is based on the standard daily rates charged when those services are sold separately. Professional services revenue is recognized as the services are performed.
55
In some multiple-element arrangements that include software licenses and services, the services rates are discounted. In these cases, a portion of the software license fee is deferred and recognized as the services are performed. The deferred portion is equal to the difference between the discounted services rates to be charged to the customer and the undiscounted fair value of those services based on VSOE. As a result, initial revenue is decreased and future revenue is increased by the amount deferred.
Unbilled receivables are created when services are performed or software is delivered and revenue is recognized in advance of billings. The amount of the unbilled receivables is contract specific. For instance, when customers are billed one month in arrears for processing services, revenue for each month is included in unbilled receivables until it is billed in the following month. Deferred revenue is typically created by the Companys practice of billing in advance of performing certain services.
Cash and Cash Equivalents
Cash and cash equivalents consist of investments that are readily convertible into cash and have original maturities of three months or less.
Concentration of Credit Risk
Financial instruments that potentially subject the Company to concentrations of credit risk consist primarily of accounts receivable. By policy, the Company places its available cash and short-term investments with institutions of high credit-quality and limits the amount of credit exposure to any one issuer. The Company sells a significant portion of its products and services to the financial services industry and could be affected by the overall condition of that industry. The Company believes that any credit risk associated with accounts receivable is substantially mitigated by the relatively large number of customer accounts and reasonably short collection terms. Accounts receivable are stated at estimated net realizable value, which approximates fair value.
Property and Equipment
Property and equipment are recorded at cost and depreciated on the straight-line method over the estimated useful lives of the assets (two to eight years for equipment and ten to forty years for buildings and improvements). Leasehold improvements are amortized ratably over their remaining lease term or useful life, if shorter. Depreciation and amortization of property and equipment was $198 million in 2003, $189 million in 2004, $122 million for the period January 1, 2005 through August 10, 2005 and $82 million for the period August 11, 2005 through December 31, 2005.
Foreign Currency Translation
The functional currency of each of the Companys foreign operations is the local currency of the country in which the operation is located. All assets and liabilities are translated into U.S. dollars using exchange rates in effect at the balance sheet date. Revenue and expenses are translated using average exchange rates during the period.
Increases and decreases in net assets resulting from foreign currency translation are reflected in stockholders equity as a component of accumulated other comprehensive income (loss).
Software Products
Product development costs are expensed as incurred and consist primarily of design and development costs of new products and significant enhancements to existing products incurred before
56
the establishment of technological feasibility. Costs associated with purchased software, software obtained through business acquisitions, and new products and enhancements to existing products that are technologically feasible and recoverable are capitalized and amortized over the estimated useful lives of the related products, generally one to twelve years, using the straight-line method or the ratio of current revenue to current and anticipated revenue from such software, whichever provides the greater amortization.
Capitalized development costs, amortization of previously capitalized development costs (which is included in depreciation and amortization) and net capitalized development costs in each of the periods follow (in millions):
Predecessor | Successor | |||||||||||
Year Ended December 31, |
Period from 2005 |
Period
from 2005 | ||||||||||
2003 | 2004 | |||||||||||
Capitalized development costs |
$ | 13 | $ | 17 | $ | 9 | $ | 6 | ||||
Amortization of previously capitalized development costs |
9 | 11 | 8 | | ||||||||
Net capitalized development costs |
$ | 4 | $ | 6 | $ | 1 | $ | 6 | ||||
Amortization of all software products aggregated $62 million in 2003, $83 million in 2004, $56 million for the period January 1, 2005 through August 10, 2005 and $81 million for the period August 11, 2005 through December 31, 2005.
Customer Base Intangible Assets
Customer base intangible assets represent customer contracts and relationships obtained as part of acquired businesses and are amortized using the straight-line method over their estimated useful lives, ranging from five to twenty-seven years.
Trade Name
The trade name intangible asset represents the fair value of the SunGard trade name at August 11, 2005 and is an indefinite-lived asset and therefore is not subject to amortization. Trade name, along with goodwill, is reviewed at least annually for impairment as described below.
Goodwill
Goodwill represents the excess of cost over the fair value of net assets acquired. When circumstances change or at least annually, the Company compares the carrying value of its reporting units to their estimated fair value. If the carrying value is greater than the respective estimated fair value, the Company then determines if the goodwill is impaired and whether some or all of the goodwill should be written off as a charge to operations. The estimate of fair value requires various assumptions including the use of projections of future cash flows and discount rates that reflect the risks associated with achieving the future cash flows. Changes in the underlying business could affect these estimates, which in turn could affect the fair value of the reporting unit.
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The following table summarizes changes in goodwill by segment (in millions):
FS | HEPS | AS | Total | |||||||||||||
Predecessor |
||||||||||||||||
Balances at December 31, 2003 |
$ | 628 | $ | 108 | $ | 618 | $ | 1,354 | ||||||||
2004 acquisitions |
80 | 457 | | 537 | ||||||||||||
2004 divestitures |
(96 | ) | | | (96 | ) | ||||||||||
Adjustments to previous acquisitions |
(30 | ) | (1 | ) | (3 | ) | (34 | ) | ||||||||
Payment of contingent purchase price |
25 | | | 25 | ||||||||||||
Effect of foreign currency translation |
11 | | 27 | 38 | ||||||||||||
Balances at December 31, 2004 |
618 | 564 | 642 | 1,824 | ||||||||||||
2005 acquisitions |
26 | 88 | 117 | 231 | ||||||||||||
Adjustments to previous acquisitions |
(11 | ) | (7 | ) | | (18 | ) | |||||||||
Effect of foreign currency translation |
(10 | ) | (6 | ) | (24 | ) | (40 | ) | ||||||||
Balance at August 10, 2005 |
$ | 623 | $ | 639 | $ | 735 | $ | 1,997 | ||||||||
Successor |
||||||||||||||||
Acquisition of SunGard |
$ | 3,040 | $ | 1,797 | $ | 2,020 | $ | 6,857 | ||||||||
2005 acquisitions |
68 | | | 68 | ||||||||||||
Effect of foreign currency translation |
(4 | ) | (3 | ) | (14 | ) | (21 | ) | ||||||||
Balance at December 31, 2005 |
$ | 3,104 | $ | 1,794 | $ | 2,006 | $ | 6,904 | ||||||||
Other Tangible and Intangible Assets
Other tangible and intangible assets consist primarily of deferred financing costs incurred in connection with debt issued in the Transaction, noncompetition agreements obtained in business acquisitions, long-term accounts receivable, prepayments and long-term investments. Deferred financing costs are amortized over the term of the related debt. Noncompetition agreements are amortized using the straight-line method over their stated terms, ranging from two to five years.
Future Amortization of Acquisition-Related Intangible Assets
At December 31, 2005, amounts recorded for acquisition-related intangible assets are estimated because the allocation of the Transaction purchase price is preliminary. Based on amounts recorded at December 31, 2005, total estimated amortization of all acquisition-related intangible assets during each of the years ended December 31 follows (in millions):
2006 |
$ | 371 | |
2007 |
354 | ||
2008 |
348 | ||
2009 |
345 | ||
2010 |
340 |
Stock-Based Compensation
Successor
Statement of Financial Accounting Standards Number 123R (revised 2004), Share-Based Payment (SFAS 123R), supersedes Accounting Principles Board Opinion Number 25 (APB 25) and requires companies to expense the fair value of employee stock options over the employee requisite
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service period. The Company adopted SFAS 123R as of the date of closing the Transaction using the modified prospective method, which requires companies to record stock compensation expense for all unvested and new awards as of the adoption date. Accordingly, prior period amounts presented herein have not been restated. Under the fair value recognition provisions of SFAS 123R, stock-based compensation cost is measured at the grant date based on the value of the award and is recognized as expense over the requisite service period.
Predecessor
Prior to the closing of the Transaction, the Company applied APB 25 in accounting for its stock option and award plans. Accordingly, the Company recorded compensation expense for its restricted stock awards, and the Company recorded in merger costs a non-cash charge for stock compensation of approximately $60 million in the period from January 1, 2005 to August 10, 2005 as a result of the acceleration of vesting of all options and restricted stock in connection with the Transaction (see Note 2). SFAS Number 123, Accounting for Stock-Based Compensation (SFAS 123), as amended by SFAS Number 148, Accounting for Stock-Based CompensationTransition and Disclosurean Amendment of FASB Statement 123 changed the method for recognition of cost of stock option and award plans. Adoption of the cost recognition requirements under SFAS 123 was optional; however, the following supplemental information is provided (in millions):
Predecessor | ||||||||||||
Year Ended December 31, | Period from August 10, 2005 |
|||||||||||
2003 | 2004 | |||||||||||
Net income, as reported (including stock compensation expense net of tax, of $1, $1 and $40, respectively) |
$ | 370 | $ | 454 | $ | 146 | ||||||
Additional stock compensation expenses under SFAS 123, net of tax |
(69 | ) | (88 | ) | (135 | ) | ||||||
Pro forma net income |
$ | 301 | $ | 366 | $ | 11 | ||||||
This pro forma disclosure is not necessarily indicative of what stock option expense will be in future years.
The fair value of options granted in each year using the Black-Scholes pricing model and related assumptions follow:
Predecessor | ||||||||||||
Year Ended December 31, | Period from August 10, 2005 |
|||||||||||
2003 | 2004 | |||||||||||
Weighted-average fair value on date of grant |
$ | 12.11 | $ | 14.68 | $ | 15.51 | ||||||
Ratio of weighted-average fair value to weighted-average market value on date of grant |
57 | % | 55 | % | 60 | % | ||||||
Assumptions used to calculate fair value: |
||||||||||||
Volatility |
53 | % | 48 | % | 46 | % | ||||||
Risk-free interest rate |
3.1 | % | 3.4 | % | 4.2 | % | ||||||
Expected term (1) |
6 years | 6 years | 6 years | |||||||||
Dividends |
zero | zero | zero |
(1) | Nine and one-half years for unvested performance accelerated stock options. |
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Income Taxes
The Company recognizes deferred income tax assets and liabilities based upon the expected future tax consequences of events that have been included in the financial statements or tax returns. Deferred income tax assets and liabilities are calculated based on the difference between the financial and tax bases of assets and liabilities using the currently enacted income tax rates in effect during the years in which the differences are expected to reverse.
Effect of Recent Accounting Pronouncements
In September 2004, the Financial Accounting Standards Board (FASB) Emerging Issues Task Force reached a consensus on Issue 04-01, Accounting for Pre-existing Relationships between the Parties to a Business Combination (EITF 04-01). EITF 04-01 is effective for business combinations completed in reporting periods beginning after October 13, 2004. EITF 04-01 applies when two parties that have a pre-existing contractual relationship enter into a business combination. EITF 04-01 addresses whether a consummation of a business combination between two parties that have a pre-existing contractual relationship should be evaluated to determine if a settlement of a pre-existing contractual relationship exists, thus requiring accounting separate from the business combination. The adoption of EITF 04-01 on January 1, 2005 did not have a material impact on the Companys financial position or results of operations.
In March 2005, the FASB issued FASB Interpretation No. 47, Accounting for Conditional Asset Retirement Obligations, an interpretation of FASB Statement No. 143 (FIN 47). FIN 47 clarifies that conditional asset retirement obligations meet the definition of liabilities and should be recognized when incurred if their fair values can be reasonably estimated. The Interpretation is effective no later than December 31, 2005. The adoption of FIN 47 did not have a material impact on the Companys financial position or results of operations.
In June 2005, the FASB Derivatives Implementation Group (DIG) issued DIG Issue No. B38, Embedded Derivatives: Evaluation of Net Settlement with respect to the Settlement of a Debt Instrument through Exercise of an Embedded Put Option or Call Option (DIG B38) and DIG Issue No. B39 Embedded Derivatives: Application of Paragraph 13(b) to Call Options That Are Exercisable Only by the Debtor (DIG B39) that address circumstances in which a put or call option embedded in a debt instrument would be bifurcated from the debt instrument and accounted for separately. DIG B38 and DIG B39 are effective in the first quarter of 2006. The Company is currently evaluating DIG B38 and DIG B39 and the related impact on the Companys financial position and results of operations.
2. Acquisitions and Dispositions
Acquisition of SunGard
As discussed in Note 1, the Transaction was completed on August 11, 2005 and was financed by a combination of borrowings under the Companys new senior secured credit facilities, the issuance of senior notes due 2013 and senior subordinated notes due 2015, the funding under the Companys new receivables facilities, and the equity investment of the Sponsors, co-investors and management. See Note 5 for a description of the Companys indebtedness.
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The purchase price, including transaction costs that have been allocated as debt issuance costs or included in the overall purchase price, was approximately $11.73 billion. The sources and uses of funds in connection with the Transaction are summarized below (in millions):
Sources |
Uses |
|||||||
Secured revolving credit facility |
$ | 149 | Payment consideration to stockholders and optionholders |
$ | 11,242 | |||
Secured term loan facilities |
4,000 | Converted share and option consideration |
154 | |||||
Receivables facilities |
375 | Transaction costs |
335 | |||||
Senior notes due 2013 |
2,000 | Total uses |
$ | 11,731 | ||||
Senior subordinated notes due 2015 |
1,000 | |||||||
Cash on hand |
603 | |||||||
Equity contributioncash |
3,450 | |||||||
Equity contributionnon-cash |
154 | |||||||
Total sources |
$ | 11,731 | ||||||
The non-cash equity contribution was a combination of shares and fully vested stock options of the Predecessor. The shares were converted into shares of the Parent Companies. The fully vested stock options were automatically converted into fully vested stock options of the Parent Companies (continuation options).
Preliminary Purchase Price Allocation
Under business combination accounting, the total purchase price was allocated to the Companys net tangible and identifiable intangible assets based on their estimated fair values as of August 11, 2005 as set forth below, in millions. The excess of the purchase price over the net tangible and identifiable intangible assets was recorded as goodwill. The preliminary allocation of the purchase price for property and equipment, intangible assets and deferred income taxes was based upon preliminary valuation data and the estimates and assumptions are subject to change.
Property and equipment |
$ | 701 | ||
Software products |
1,544 | |||
In process research and development |
2 | |||
Customer base |
2,876 | |||
Trade name |
1,019 | |||
Goodwill |
6,857 | |||
Other tangible and intangible assets |
268 | |||
Deferred income taxes |
(1,839 | ) | ||
Debt assumed |
(459 | ) | ||
Net current assets acquired |
762 | |||
Total purchase price |
11,731 | |||
Non-cash equity contribution |
154 | |||
Cash used in acquisition of SunGard by Solar Capital |
$ | 11,577 | ||
The preliminary estimated useful lives are one to twelve years for software (average life is eight years) and five to 27 years for customer base (average life is 16 years). The SunGard trade name has an indefinite life and is not subject to amortization; it, along with goodwill, will be reviewed at least annually for impairment.
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Since the Transaction did not result in a new tax basis of assets and liabilities, approximately $1.0 billion of goodwill will continue to be deductible over the remaining amortization period for tax purposes.
Acquisitions by the Company
The Company seeks to acquire businesses that broaden its existing product lines and service offerings by adding complementary products and service offerings and by expanding its geographic reach. During 2005, the Company completed eight acquisitions in its FS segment, two acquisitions in its HEPS segment and one acquisition in its AS segment. Gross cash paid, subject to certain adjustments, was $575 million, including $391 million for the acquisitions of InFlow, Inc. and Vivista Holdings Limited.
The following table lists the businesses the Company acquired in 2005:
Acquired Company/Business |
Date Acquired |
Description | ||
InFlow, Inc. |
01/04/05 | Hosting and managed services for information availability. | ||
Protegent, Inc. |
01/26/05 | Risk management solutions. | ||
Vivista Holdings Limited |
02/25/05 | Public safety and justice software solutions in the U.K. | ||
Ensemble Technology (Pty) Ltd |
02/28/05 | Professional services for the financial services industry in South Africa. | ||
Integrity Treasury Solutions Limited |
03/03/05 | Treasury management systems. | ||
Recognition Research, Inc. |
05/12/05 | Data-capture technology for the financial services and healthcare industries. | ||
Understanding Systems, Inc. |
07/25/05 | Graphical mapping solutions for the public sector. | ||
Pyramid Digital Systems, LLC |
08/17/05 | Software and solutions to the retirement plan industry. | ||
The GetPAID Corporation |
10/24/05 | Accounts receivable and working capital optimization solutions. | ||
Prophet |
10/31/05 | Actuarial calculations software. | ||
ERisk Holdings, Inc. |
11/08/05 | Capital and credit risk management solutions. |
During 2004, the Company completed seven acquisitions in its FS segment and three acquisitions in its HEPS segment, including the acquisition of Systems & Computer Technology Corporation (SCT) in the HEPS segment in February 2004. Gross cash paid was $922 million, subject to certain adjustments, and there was $537 million of goodwill recorded in connection with these acquisitions.
During 2003, the Company completed eight acquisitions in its FS segment and one acquisition in its HEPS segment and also purchased the remaining interest in an AS joint venture. Gross cash paid was $496 million, subject to certain adjustments, and there was $312 million of goodwill recorded in connection with these acquisitions.
During 2004 and 2003, the Company paid $25 million and $30 million, respectively, as additional consideration based upon the operating performance of Brut LLC. Brut LLC was sold by the Company in September 2004.
In connection with five previously acquired businesses, up to $125 million could be paid as additional consideration, primarily by June 2006, depending on the future operating results of those businesses. The amount paid, if any, is recorded as additional goodwill at the time the actual
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performance is known and the amounts become due. There were no amounts earned or paid in 2005, and there were no amounts payable as of December 31, 2005.
Pro forma financial information
The following unaudited pro forma results of operations (in millions) assume that the Transaction and certain significant acquisitions and dispositions occurred as of the beginning of each of the period presented and were reflected in the Companys results from that date. The pro forma results include the Transaction and the 2005 acquisitions of InFlow, Inc., Vivista Holdings Limited, Integrity Treasury Solutions Limited, Recognition Research, Inc., Pyramid Digital Systems, LLC, The GetPAID Corporation, and ERisk Holdings, Inc., the 2004 acquisitions of FAME Information Services, Inc. (closed January 22, 2004), Systems & Computer Technology Corporation (closed February 12, 2004), Collegis, Inc. (closed March 4, 2004), and Open Software Solutions, Inc. (closed May 21, 2004), and the disposition of Brut LLC (closed September 7, 2004). This unaudited pro forma information should not be relied upon as necessarily being indicative of the historical results that would have been obtained if the Transaction, acquisitions and disposition had actually occurred at the beginning of each period presented, nor of the results that may be obtained in the future. The pro forma adjustments include the effect of purchase accounting adjustments, transaction costs (including stock-based compensation charges due to the acceleration of stock options in connection with the Transaction), interest expense and related tax effects, and exclude the gain on sale of Brut LLC.
2004 | 2005 | |||||||
Revenue |
$ | 3,743 | $ | 4,073 | ||||
Net (loss) income |
(348 | ) | (316 | ) |
Dispositions
In September 2004, the Company completed the sale of Brut LLC, an electronic communications network, to The NASDAQ Stock Market, Inc. (NASDAQ) for a total cash consideration of $190 million, net of cash sold. The sale generated an after-tax gain of $46 million for the year ended December 31, 2004. In addition, SunGard and NASDAQ entered into a multi-year agreement for the continued processing of Brut LLC trades by SunGard.
Merger Costs and Other Income (Expense)
During the period from January 1, 2005 through August 10, 2005, the Company recorded merger costs of $121 million. These costs primarily include $59 million of accounting, investment banking, legal and other costs associated with the Transaction and a non-cash charge for stock compensation of approximately $60 million in the period ended August 10, 2005 resulting from the acceleration of stock options and restricted stock. During the period from August 11, 2005 through December 31, 2005, the Company recorded merger costs of $18 million consisting primarily of payroll taxes and certain compensation expenses related to the Transaction. Also during the period January 1, 2005 through August 10, 2005, the Company recorded a non-recurring charge of $12 million, included in cost of sales and direct operating expenses, related to the relocation of a leased availability services facility in North Bergen, New Jersey to an expanded facility in Carlstadt, New Jersey.
During 2004, the Company completed the sale of Brut LLC for a total cash consideration of $190 million, net of cash sold. The sale generated a gain of $78 million, for the year ended December 31, 2004. Also during 2004, the Company recorded merger costs of $6 million consisting of $5.5 million of accounting, investment banking, and legal and other costs associated with the planned spin-off of its availability services business and $1 million in net facility shut-down and severance costs related to previous acquisitions.
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During 2003, the Company recorded a benefit of $3 million from the reversal of previously recorded merger costs. This benefit includes a $7 million gain on sale of a non-operating owned facility, offset in part by $3 million of costs for closing facilities and severance and a charge of $1 million for in-process research and development. Also during 2003, the Company recorded other expense of $3 million related to a $1 million loss on foreign currency purchased to fund an acquisition, and a $2 million loss representing the Companys share of the net loss of an acquired company during the period when the Company owned more than 20% but less than 50% of the equity of that company.
3. Clearing Broker Assets and Liabilities
Clearing broker assets and liabilities are comprised of the following (in millions):
Predecessor | Successor | |||||
December 31, 2004 |
December 31, 2005 | |||||
Segregated customer cash and treasury bills |
$ | 24 | $ | 42 | ||
Securities owned |
23 | 36 | ||||
Securities borrowed |
150 | 261 | ||||
Receivables from customers and other |
35 | 52 | ||||
Clearing broker assets |
$ | 232 | $ | 391 | ||
Payables to customers |
$ | 59 | $ | 60 | ||
Securities loaned |
118 | 272 | ||||
Customer securities sold short, not yet purchased |
13 | 16 | ||||
Payable to brokers and dealers |
19 | 12 | ||||
Clearing broker liabilities |
$ | 209 | $ | 360 | ||
Segregated customer cash and treasury bills are held by the Company on behalf of customers. Clearing broker securities consist of trading and investment securities at fair market values. Securities borrowed and loaned are collateralized financing transactions which are cash deposits made to or received from other broker/dealers. Receivables from and payables to customers represent amounts due or payable on cash and margin transactions.
4. Property and Equipment
Property and equipment consisted of the following (in millions):
Predecessor | Successor | |||||||
December 31, 2004 |
December 31, 2005 |
|||||||
Computer and telecommunications equipment |
$ | 887 | $ | 288 | ||||
Leasehold improvements |
329 | 276 | ||||||
Office furniture and equipment |
166 | 58 | ||||||
Buildings and improvements |
103 | 98 | ||||||
Land |
14 | 24 | ||||||
Construction in progress |
46 | 33 | ||||||
1,545 | 777 | |||||||
Accumulated depreciation and amortization |
(925 | ) | (72 | ) | ||||
$ | 620 | $ | 705 | |||||
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At December 31, 2005, total cost and accumulated depreciation of assets under capital leases, primarily computer and telecommunications equipment, were $7 million and $1 million, respectively.
5. Debt and Derivative Instruments
Debt consisted of the following (in millions):
Predecessor | Successor | |||||||
December 31, 2004 |
December 31, 2005 |
|||||||
Secured revolving credit facility, effective interest rate of 6.67% (A) |
$ | | $ | | ||||
Secured term loan facilities, effective interest rate of 6.86% (A) |
| 3,969 | ||||||
Senior Notes due 2009 at 3.75%, net of discount of $21 at December 31, 2005 (B) |
250 | 229 | ||||||
Senior Notes due 2014 at 4.875%, net of discount of $33 at December 31, |
250 | 217 | ||||||
Senior Notes due 2013 at 9.125% (C) |
| 1,600 | ||||||
Senior Subordinated Notes due 2015 at 10.25% (C) |
| 1,000 | ||||||
Senior Notes due 2013 at LIBOR plus 4.5% (8.525% at December 31, 2005) (C) |
| 400 | ||||||
Other, primarily acquisition purchase price and capital lease obligations |
54 | 14 | ||||||
554 | 7,429 | |||||||
Short-term borrowings and current portion of long-term debt |
(45 | ) | (46 | ) | ||||
Long-term debt |
$ | 509 | $ | 7,383 | ||||
On August 11, 2005, in connection with the Transaction, the Company (i) entered into a new $5.0 billion senior secured credit facility, consisting of a $3.69 billion term loan facility with SunGard as the borrower, a $315 million-equivalent term loan facility with a U.K. subsidiary as the borrower ($165 million of which is denominated in euros and $150 million of which is denominated in pounds sterling), and a $1.0 billion revolving credit facility ($980 million available at December 31, 2005 after giving effect to certain outstanding letters of credit), (ii) issued $3.0 billion aggregate principal amount of senior notes and senior subordinated notes and (iii) entered into receivables securitization facilities initially totaling $375 million. The term loan facility denominated in euros and pounds sterling was $158 million and $144 million, respectively, at December 31, 2005.
(A) Senior Secured Credit Facilities
Borrowings under the senior secured credit facilities bear interest at a rate equal to an applicable margin plus, at the Companys option, either (a) a base rate determined by reference to the higher of (1) the prime rate of JPMorgan Chase Bank, N.A. and (2) the federal funds rate plus 1/2 of 1% or (b) a LIBOR rate determined by reference to the costs of funds for deposits in the currency of such borrowing for the interest period relevant to such borrowing adjusted for certain additional costs. The applicable margin for borrowings under the revolving credit facility may be reduced subject to attaining certain leverage ratios. In addition to paying interest on outstanding principal under the senior secured credit facilities, the Company pays a commitment fee to the lenders under the revolving credit facility in respect of the unutilized commitments thereunder. The initial commitment fee rate is 0.50% per annum. The commitment fee rate may be reduced subject to attaining certain leverage ratios.
All obligations under the senior secured credit facilities are unconditionally guaranteed by SunGard Holdco LLC and, subject to certain exceptions, by substantially all domestic wholly owned
65
subsidiaries, referred to, collectively, as U.S. Guarantors. In addition, the borrowings of U.K. subsidiary borrowers under the revolving credit facility are unconditionally guaranteed by certain wholly owned U.K. subsidiaries. The Company must also pay customary letter of credit fees.
The senior secured credit facilities require the Company to prepay outstanding term loans, subject to certain exceptions, with excess cash flow and in the event of certain asset sales, casualty and condemnation events, incurrences of debt and certain financings under receivables facilities. Any mandatory prepayments would be applied pro rata to the term loan facilities and to installments of the term loan facilities in direct order of maturity.
The Company is required to repay installments on the loans under the term loan facilities in quarterly principal amounts of 0.25% of their funded total principal amount for the first seven years and three months, with the remaining amount payable on the date that is seven years and six months from the date of the closing of the senior secured credit facilities.
Principal amounts outstanding under the revolving credit facility are due and payable in full at maturity, six years from the date of the closing of the senior secured credit facilities.
The senior secured credit facilities contain a number of covenants that, among other things, restrict, subject to certain exceptions, the Companys (and most or all of its subsidiaries) ability to incur additional indebtedness or issue preferred stock, pay dividends and distributions on or repurchase capital stock, create liens on assets, enter into sale and leaseback transactions, repay subordinated indebtedness, make investments, loans or advances, make capital expenditures, engage in certain transactions with affiliates, amend certain material agreements, change its lines of business, sell assets and engage in mergers or consolidations. In addition, under the senior secured credit facilities, the Company is required to satisfy and maintain a maximum total leverage ratio and a minimum interest coverage ratio.
The Company uses interest rate swap agreements to manage the floating rate proportion of its debt portfolio. In November 2005, the Company entered into an interest rate swap agreement for the notional amount of $800 million of its $4.4 billion floating rate debt in order to hedge a portion of its exposure to variable rate interest payments associated with the senior secured credit facility. The interest rate swap expires in February 2009. An interest rate swap is a contractual agreement to exchange payments based on underlying interest rates. The Company is required to pay the counterparty a stream of fixed interest payments of 4.85%, and in turn, receives variable interest payments based on LIBOR (4.34% at December 31, 2005) from the counterparty. The net receipt or payment from the interest rate swap agreement is recorded in interest expense. The interest rate swap is designated and qualifies as a cash flow hedge under SFAS 133, Accounting for Derivative Instruments and Hedging Activities. As such, the swap is accounted for as an asset or a liability in the consolidated balance sheet at fair value. The fair value of derivatives was estimated based on current settlement prices and quoted market prices of comparable contracts and represents their carrying values. For the period ended December 31, 2005, the Company recorded an unrealized after-tax loss of $1.5 million in Other Comprehensive Income (Loss) related to the change in market value on the swap. The market value of the swap recorded in Other Comprehensive Income (Loss) may be recognized in the statement of operations if certain terms of the senior secured credit facility change, if the loan is extinguished or if the swap agreement is terminated prior to maturity. In February 2006, the Company also entered into a five year interest rate swap agreement for an additional notional amount of $800 million, under which the Company is required to pay the counterparty a stream of fixed interest payments of 5.00%, and in turn, receives variable interest payments based on LIBOR (4.72% at February 6, 2006) from the counterparty.
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The effect of the November 2005 interest rate swap is reflected in the effective interest rate for the senior secured credit facilities in the table above.
(B) Senior Notes due 2009 and 2014
On January 15, 2004, the Company issued $500 million of senior unsecured notes, of which $250 million are 3.75% notes due 2009 and $250 million are 4.875% notes due 2014, which are subject to certain standard covenants. Upon completion of the Transaction and to the extent required by their indentures, these senior notes became collateralized on an equal and ratable basis with loans under the senior secured credit facilities and are guaranteed by all subsidiaries that guarantee the senior notes due 2013 and senior subordinated notes due 2015. The senior notes due 2009 and 2014 are recorded at $446 million as of December 31, 2005 as a result of fair value adjustments related to purchase accounting. The discount of $54 million will continue to be amortized into interest expense and added to the recorded amounts over the remaining periods to maturity.
(C) Senior Notes due 2013 and Senior Subordinated Notes due 2015
The senior notes due 2013 are senior unsecured obligations that rank senior in right of payment to future debt and other obligations that are, by their terms, expressly subordinated in right of payment to the senior notes, including the senior subordinated notes. The senior notes (i) rank equally in right of payment to all existing and future senior debt and other obligations that are not, by their terms, expressly subordinated in right of payment to the senior notes, (ii) are effectively subordinated in right of payment to all existing and future secured debt to the extent of the value of the assets securing such debt, and (iii) are structurally subordinated to all obligations of each subsidiary that is not a guarantor of the senior notes. All obligations under the senior notes are unconditionally guaranteed, subject to certain exceptions, by substantially all domestic wholly owned subsidiaries of the Company.
The senior subordinated notes due 2015 are unsecured senior subordinated obligations that are subordinated in right of payment to the existing and future senior debt, including the senior secured credit facilities, the senior notes due 2009 and 2014 and the senior notes due 2013. The senior subordinated notes (i) rank equally in right of payment to all future senior subordinated debt, (ii) are effectively subordinated in right of payment to all existing and future secured debt to the extent of the value of the assets securing such debt, (iii) are structurally subordinated to all obligations of each subsidiary that is not a guarantor of the senior subordinated notes, and (iv) rank senior in right of payment to all future debt and other obligations that are, by their terms, expressly subordinated in right of payment to the senior subordinated notes.
The senior notes due 2013 and senior subordinated notes due 2015 are redeemable in whole or in part, at the option of the Company, at any time at varying redemption prices that generally include premiums, which are defined in the applicable indentures. In addition, upon a change of control, the Company is required to make an offer to redeem all of the senior notes and senior subordinated notes at a redemption price equal to 101% of the aggregate principal amount thereof plus accrued and unpaid interest.
The indentures governing the senior notes due 2013 and senior subordinated notes due 2015 contain a number of covenants that restrict, subject to certain exceptions, the Companys ability and the ability of its restricted subsidiaries to incur additional indebtedness or issue certain preferred shares, pay dividends on or make other distributions in respect of its capital stock or make other
67
restricted payments, make certain investments, enter into certain types of transactions with affiliates, create liens securing certain debt without securing the senior notes due 2013 or senior subordinated notes due 2015, as applicable, sell certain assets, consolidate, merge, sell or otherwise dispose of all or substantially all of its assets and designate its subsidiaries as unrestricted subsidiaries.
(D) Off Balance Sheet DebtReceivables Securitization Facility
In August 2005, certain domestic subsidiaries entered into two receivables facilities, a transitional facility and a long-term facility (the Facilities). The Facilities provide the Company funding of up to $375 million by allowing it to sell, on a revolving basis, an undivided interest in eligible receivables, subject to the satisfaction of other customary conditions, for a period of up to six years following the Transaction.
As of December 31, 2005, all participating domestic subsidiaries have joined the long-term facility and there are no subsidiaries participating in, and no borrowings under, the transitional facility. In addition, funding available under the long-term facility was increased to $450 million. Under the long-term facility, eligible receivables are sold to third-party conduits through a wholly owned, bankruptcy remote special purpose entity that is not consolidated for financial reporting purposes. The Company continues to service the receivables and charge a monthly servicing fee at market rates. The third-party conduits are sponsored by certain lenders under the Companys senior secured credit facilities. Additional subsidiaries may become parties to the long-term facility, subject to the satisfaction of specified conditions including the completion of satisfactory due diligence. Sales of receivables under the long-term facility qualify as sales under the provisions of FASB Statement No. 140 Accounting for Transfers and Servicing of Financial Assets and Extinguishment of Liabilities (SFAS 140). Accordingly, these receivables, totaling $618 million net of applicable allowances, and the corresponding borrowings, totaling $385 million, are excluded from the Companys consolidated balance sheet as of December 31, 2005. The Companys retained interest in receivables sold as of December 31, 2005 is $224 million. Expenses associated with the long-term facility totaled $19 million for the period ended December 31, 2005, of which $18 million related to the loss on sale of the receivables and discount on retained interests is recorded in other income (expense) and the remainder, representing facility and professional fees associated with the transitional facility, are recorded in interest expense in the consolidated statements of operations. The gain or loss on sale of receivables is determined at the date of transfer based upon the fair value of the assets sold and the interests retained. The Company estimates fair value based on the present value of expected cash flows. The collection period and discount rate (prime rate of 7.25% at December 31, 2005) are the key assumptions used in this estimate. At December 31, 2005, neither a 10% nor a 20% adverse change in the assumed collection period or assumed discount rate would have a material impact on the Companys financial position or results of operations.
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At December 31, 2005, annual maturities of long-term debt during the next five years and thereafter are as follows (in millions):
2006 |
$ | 46 | |
2007 |
42 | ||
2008 |
42 | ||
2009 |
291 | ||
2010 |
40 | ||
Thereafter |
7,022 | ||
7,483 | |||
Less: debt discount |
54 | ||
$ | 7,429 | ||
Fair Value of Financial Instruments
The following table presents the carrying amounts and fair values of financial instruments as of the end of the last two years:
Predecessor | Successor | |||||||||||||
December 31, 2004 | December 31, 2005 | |||||||||||||
Carrying Value |
Fair Value |
Carrying Value |
Fair Value |
|||||||||||
Interest rate swap agreement |
$ | | $ | | $ | (2 | ) | $ | (2 | ) | ||||
Variable rate debt |
| | 4,368 | 4,407 | ||||||||||
Fixed rate debt |
500 | 486 | 3,061 | 3,119 |
The fair values of cash and cash equivalents, accounts receivable, accounts payable and accrued expenses, to the extent the underlying liability will be settled in cash, approximated carrying values because of the short-term nature of these instruments. The derivative financial instrument is carried at fair value, which is based on the amount the Company would pay to terminate the agreement. The fair value of the Companys long-term debt is based on quoted market rates.
6. Stock Option and Award Plans and Stock-Based Compensation
Successor
In connection with the Transaction, the Parent Companies adopted a new equity-based management compensation plan, which authorizes equity awards to be granted for up to 60 million shares of Class A common stock and 7 million shares of Class L common stock of SunGard Capital Corp. and 2.5 million shares of preferred stock of SunGard Capital Corp. II. Under this plan, certain management and key employees were granted time-based options or a combination of time-based and performance-based options to purchase stock in the Parent Companies. The issued options are for equity units (Unit). Each Unit consists of 1.3 shares of Class A common stock and 0.1444 shares of Class L common stock of SunGard Capital Corp. and 0.05 shares of preferred stock of SunGard Capital Corp. II. The shares comprising a Unit are in the same proportion as the shares issued to the shareholders of the Parent Companies. Options are exercisable only as a Unit and cannot be separately exercised for individual classes of shares.
As discussed in Note 2, options to purchase shares of the Predecessor held by certain members of management that were not exercised before closing of the Transaction were automatically converted into fully-vested continuation options to purchase 7.4 million Units having the same aggregate intrinsic value of $100 million. The continuation options have an exercise price of $4.50.
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During the period August 11, 2005 through December 31, 2005, the Parent Companies granted time-based and performance-based options to purchase approximately 12.5 million and 18.2 million Units, respectively. Time-based options vest over the next five years as follows: 25% one year after date of grant, and 1/48 of the remaining balance each month thereafter for 48 months. Performance-based options vest upon the attainment of certain annual and cumulative earnings goals for the Company during the six-year period beginning January 1, 2005. Time-based and performance-based options can vest upon a change in control, subject to certain conditions, and expire ten years from the date of grant.
As of the date of the Transaction, the Company adopted SFAS Number 123R (revised 2004), Share-Based Payment (SFAS 123R), using the modified prospective method, which requires companies to record stock compensation expense for all unvested and new awards as of the adoption date. Accordingly, prior period amounts presented herein have not been restated.
Time-based and performance-based options granted in the period August 11, 2005 through December 31, 2005 have an exercise price of $18.00 per Unit and a fair value of $10.56 per Unit based on the Black-Scholes option-pricing model using the following assumptions: expected term to exercise of 5.5 years; expected volatility of 62%; risk-free interest rate of 4.18%; and no dividend yield. Expected volatility is based primarily on a combination of the Companys historical volatility adjusted for its new leverage and estimates of implied volatility of the Companys peer group. The requisite service period is up to 5.4 years from the date of grant.
The adoption of FAS 123R had no impact on the Companys cash flow. For the period August 11, 2005 through December 31, 2005, the Company recorded non-cash stock compensation expense of $29 million included in sales, marketing and administration expenses. At December 31, 2005, there is approximately $100 million of unearned non-cash stock-based compensation related to time-based options that the Company expects to record as expense over the next 4.6 years. In addition, at December 31, 2005, there is approximately $147 million of unearned non-cash stock-based compensation related to performance-based options that the Company could record as expense over the next five years, depending on the level of achievement of financial performance goals. For time-based options, compensation expense is recorded on a straight-line basis over the requisite service period of five years. For performance-based options, compensation expense is recorded at the time that the achievement of financial performance goals becomes probable, and then recorded over the requisite performance and service periods. At December 31, 2005, all continuation options were exercisable, there were no exercisable time-based options, and we estimated that performance-based options for approximately 1.7 million Units were exercisable. The following table summarizes transactions under these option plans:
Units (in millions) | Weighted- Average Price | ||||||||
Available | Under Option | ||||||||
Authorized |
38.7 | | $ | | |||||
Continuation options |
| 7.4 | 4.5 | ||||||
Granted |
(30.7 | ) | 30.7 | 18.0 | |||||
Canceled |
1.3 | (1.6 | ) | 14.5 | |||||
Balances at December 31, 2005 |
9.3 | 36.5 | 15.4 | ||||||
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The following table summarizes information concerning outstanding and exercisable options at December 31, 2005:
Exercise Price |
Number of Options Outstanding (in millions) |
Weighted-average Remaining Life (years) |
Number of Options Exercisable (in millions) | |||
$ 4.50 |
7.0 | 7.7 | 7.0 | |||
18.00 |
29.5 | 9.6 | 1.7 |
Predecessor
Prior to the Transaction, the Company had an employee stock purchase plan whereby employees could purchase Company stock for 85% of the lower of the closing price of the Companys common stock on the first business day or the last business day of each calendar quarter. During 2003, 2004 and 2005, employees purchased 1.2 million, 1.3 million and 0.4 million shares, respectively, at average purchase prices of $19.85, $21.60 and $23.84 per share, respectively. This plan was discontinued in connection with the Transaction.
The Company also had other equity incentive plans, whereby restricted shares or options to purchase shares of common stock were granted to key employees and outside directors. During 2003, 2004 and 2005, the Company awarded performance accelerated stock options (PASOs) for an aggregate of 3.6 million, 3.8 million and 4.3 million shares, respectively. The Company also awarded 21,911 and 40,100 restricted shares to Outside Directors in 2003 and 2004 at average fair values of $22.82 and $24.34 per share, respectively. Compensation expense related to restricted shares aggregated $1 million in 2003 and 2004. All outstanding options and restricted shares as of August 10, 2005 were accelerated in connection with the Transaction (see Merger and Other Income (Expense) in Note 2).
The table below summarizes transactions under these equity incentive plans:
Shares (in millions) | Weighted- average Price | ||||||||
Available | Under Option |
||||||||
Balances at December 31, 2002 |
11.6 | 40.1 | $ | 21.42 | |||||
Authorized |
1.8 | | | ||||||
Canceled |
3.2 | (3.2 | ) | 23.59 | |||||
Granted |
(7.4 | ) | 7.4 | 21.09 | |||||
Exercised |
| (3.6 | ) | 13.75 | |||||
Balances at December 31, 2003 |
9.2 | 40.7 | 21.86 | ||||||
Authorized |
3.6 | | | ||||||
Canceled |
3.1 | (3.1 | ) | 24.79 | |||||
Granted |
(9.2 | ) | 9.2 | 26.69 | |||||
Exercised |
| (2.4 | ) | 14.63 | |||||
Balances at December 31, 2004 |
6.7 | 44.4 | 23.05 | ||||||
Canceled |
1.1 | (1.1 | ) | 25.55 | |||||
Granted |
(5.1 | ) | 5.1 | 26.08 | |||||
Exercised (1) |
| (38.5 | ) | 22.67 | |||||
Continuation options |
| (9.9 | ) | 23.62 | |||||
Plan cancellation |
(2.7 | ) | | | |||||
Balances at August 10, 2005 |
| | | ||||||
(1) | Includes 20.9 million options that were cashed out in connection with the Transaction, with the same economic effect as an exercise and sale for the Transaction consideration. |
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7. Common Stock Buyback
On February 26, 2004, the Companys Board of Directors authorized the purchase by the Company of up to 5 million shares of its common stock during a one-year period which expired February 24, 2005. Shares purchased under this plan were used to offset the effect of issuances under the Companys employee stock option and purchase plans. Through December 31, 2004, 3.9 million shares were purchased for $104 million. There were no shares purchased under this plan in 2005.
8. Savings Plans
The Company and its subsidiaries maintain savings plans that cover substantially all employees. These plans generally provide that employee contributions are matched with cash contributions by the Company subject to certain limitations including a limitation on the Companys contributions to 4% of the employees compensation. Total expense under these plans aggregated $27 million in 2003, $34 million in 2004, $23 million for the period January 1, 2005 through August 10, 2005 and $16 million for the period August 11, 2005 through December 31, 2005.
9. Income Taxes
The provision (benefit) for income taxes for the calendar years ended December 31, 2003 and 2004 and the predecessor and successor periods of calendar year 2005 consisted of the following (in millions):
Predecessor | Successor | ||||||||||||||
Year Ended December 31, | Period from 2005 |
Period from 2005 |
|||||||||||||
2003 | 2004 | ||||||||||||||
Current: |
|||||||||||||||
Federal |
$ | 133 | $ | 184 | $ | 95 | $ | 2 | |||||||
State |
41 | 57 | 36 | 3 | |||||||||||
Foreign |
29 | 53 | 25 | 19 | |||||||||||
203 | 294 | 156 | 24 | ||||||||||||
Deferred: |
|||||||||||||||
Federal |
30 | 12 | (9 | ) | (47 | ) | |||||||||
State |
5 | 2 | (2 | ) | (7 | ) | |||||||||
Foreign |
7 | (1 | ) | (3 | ) | (3 | ) | ||||||||
42 | 13 | (14 | ) | (57 | ) | ||||||||||
$ | 245 | $ | 307 | $ | 142 | $ | (33 | ) | |||||||
Income (loss) before income taxes for the calendar years ended December 31, 2003 and 2004 and the predecessor and successor periods of calendar year 2005 consisted of the following (in millions):
Predecessor | Successor | ||||||||||||
Year Ended December 31, |
Period from August 10, |
Period from December 31, |
|||||||||||
2003 | 2004 | ||||||||||||
U.S. operations |
$ | 511 | $ | 615 | $ | 203 | $ | (111 | ) | ||||
Foreign operations |
104 | 146 | 85 | 49 | |||||||||
$ | 615 | $ | 761 | $ | 288 | $ | (62 | ) | |||||
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Differences between income tax expense at the U.S. federal statutory income tax rate and the Companys effective income tax rate for the calendar years ended December 31, 2003 and 2004 and the predecessor and successor periods of calendar year 2005 were as follows (in millions):
Predecessor | Successor | |||||||||||||||
Year Ended December 31, | Period from 2005 |
Period from 2005 |
||||||||||||||
2003 | 2004 | |||||||||||||||
Tax at federal statutory rate |
$ | 215 | $ | 266 | $ | 101 | $ | (22 | ) | |||||||
State income taxes, net of federal benefit |
32 | 39 | 22 | (6 | ) | |||||||||||
Foreign taxes |
(6 | ) | (6 | ) | (1 | ) | (1 | ) | ||||||||
Tax repatriation charge(1) |
| | 4 | | ||||||||||||
Non-deductible merger costs |
1 | 2 | 16 | (1 | ) | |||||||||||
Other, net |
3 | 6 | | (3 | ) | |||||||||||
$ | 245 | $ | 307 | $ | 142 | $ | (33 |