The following table sets forth certain information with respect to the principal facilities used in INSpire's operations as of the end of fiscal year 2000:
The selected financial data of INSpire presented below as of December 31, 2000, 1999, 1998, 1997 and 1996, and for the years ended December 31, 2000, 1999, 1998, 1997 and 1996 have been derived from the audited financial statements of INSpire. The selected financial data should be read in conjunction with "
INSpire incurs research and development costs that relate primarily to the development of new services and products and major enhancements to existing services and products. Research and development costs are comprised primarily of salaries. INSpire expenses or capitalizes, as appropriate, these research and development costs in accordance with Statement of Financial Accounting Standards ("SFAS") No. 86, "Accounting for the Costs of Computer Software to be Sold, Leased, or Otherwise Marketed." All research and development costs incurred prior to the time management believes a project has reached "technological feasibility" are expensed. Software production costs incurred subsequent to reaching technological feasibility are capitalized, if material, and reported at the lower of unamortized cost or net realizable value. Capitalized costs are amortized over the expected service life of the related software, generally three to seven years, using the straight-line method. The cost and related accumulated amortization of projects are written off as they become fully amortized.
INSpire also capitalizes certain incremental fees and direct costs associated with long-term outsourcing service agreements, including contract acquisition and system implementation costs. These deferred costs are amortized over the related contract period of up to ten years using the straight-line method.
The Company periodically assesses the recoverability of capitalized software production costs and deferred contract costs by determining whether the carrying amount of these long lived assets can be recovered through undiscounted future operating cash flows and, if warranted, an impairment is recognized. The impairment, if any, is measured by the difference between net book value and estimated discounted future cash flows, and is charged to expense in the period identified.
Unusual Operating Expenses. Unusual operating expenses incurred by the Company during the two years ended December 31, 2000 included: (i) bad debt expense, (ii) litigation expense, (iii) severance expense, (iv) impairment of intangible assets, (v) the cumulative effect of change in accounting policy, and (vi) other charges. For the year ended December 31, 2000 unusual operating expenses totaled $41.7 million. These charges consisted of: (i) bad debt expense of $2.3 million which reflected management's best estimate of collectibility after a thorough review of all receivable balances; (ii) litigation expense of $1.0 million relating to lawsuits in which the Company defended itself; (iii) severance costs of $1.9 million relating to the separation of several employees; (iv) $31.6 million in intangible assets impairment charges resulting from the termination of both the Island Group and Robert Plan contracts, and (v) $4.9 million for the cumulative effect of accounting change. During 1999, the Company recognized $31.5 million in charges primarily relating to the Company's assessment of the recoverability of assets associated with its software business. These charges consist of: (i) $11.0 million to increase the allowance for bad debts, (ii) $1.2 million of litigation expenses, (iii) $16.8 million for the impairment of intangible assets, (iv) $1.7 million for severance costs, and (v) approximately $800,000 in other charges.
Bad Debt Expense. In the normal course of business, INSpire provides software, software services, and outsourcing services in advance of receiving payment for such products and services. Customers are invoiced in accordance with the terms of their contracts with the Company. During the year ended December 31, 2000, management assessed those accounts with significant past due balances and recognized $2.3 million of bad debt expense in response to that assessment. During the year ended December 31, 1999, management took action relative to specific software installation contracts that had significant past due balances and ceased further work, pending resolution of the balances due under the terms of the contracts. The Company recognized $11.0 million of bad debt expense in response to that assessment. The Company continues to vigorously pursue collection of these accounts. However, management assessed the likelihood as probable that these amounts would be uncollectible.
Litigation Expense. During 2000, the Company incurred litigation expenses of $1.0 million to defend lawsuits filed against the Company. Litigation expenses of $1.2 million incurred during 1999 include expenses
Severance Expense. During 2000 the Company incurred severance costs of $1.9 million primarily relating to separation payments and related expenses to former CEO, F. George Dunham, III. Severance costs of $1.7 million incurred during 1999 represent expenses associated with staff reductions and executive resignations, primarily as a result of the Company's decision in December 1999 to discontinue efforts toward licensing new software systems.
Net Income (Loss). Net loss was $30.2 million, or $1.58 per diluted share ($1.58 per basic share), for the year ended December 31, 2000 compared to a net loss of $19.7 million, or $1.04 per diluted share ($1.04 per basic share), for the year ended December 31, 1999. Excluding the impact on net income resulting from the $41.7 million nonrecurring operating expenses discussed above, and the tax effects thereof, net income for the year ended December 31, 2000 would have been $110,000, or $0.01 per diluted share ($0.01 per basic share). Excluding the impact on net income resulting from the $31.5 million nonrecurring operating expenses discussed above, and the tax effects thereof, net income for the year ended December 31, 1999 would have been $4.0 million or $.20 per diluted share ($.21 per basic share).
Revenues. INSpire's total revenues increased $53.4 million, or 61%, for the year ended December 31, 1999. Outsourcing services revenues increased 119%. This growth in outsourcing services revenues was due primarily to: (i) the Company performing outsourcing services under a policy administration agreement with Arrowhead entered into effective December 1, 1998 and the Company's subsidiary performing outsourcing services under a claims administration agreement with Arrowhead entered into effective December 1, 1998, (ii) the Company performing outsourcing services under a policy and claims administration agreement with The Robert Plan entered into effective April 1, 1999, (iii) the Company performing outsourcing services under a policy and claims administration
agreement with Island Group entered into effective June 1, 1999, and (iv) the Company performing outsourcing services under five additional outsourcing contracts entered into during 1999. Software and software services revenues were $26.9 million for the year ended December 31, 1999 compared to $34.0 million for the year ended December 31, 1998, a decrease of $7.1 million, or 21%. The decrease in software and software services revenues is primarily attributable to fewer in-process installations of WPC and other software productivity tools, resulting in lower license fees and software services revenues.
Selling, General, and Administrative Expenses. The increase of $3.7 million in selling, general, and administrative expenses was primarily due to additional executive management, staffing, office space and computer equipment and software required to expand the infrastructure to support the Company's growth. As a percentage of total revenues selling, general, and administrative expenses decreased 4% for the year ended December 31, 1999. This resulted from an increased revenue base over which to spread these costs.
Research and Development. Research and development expense was $5.2 million for the year ended December 31, 1999, compared to $3.0 million for the year ended December 31, 1998, an increase of $2.2 million or 73%. This increase is primarily due to increased efforts to expand the functionality of software products and the development of new software products to be utilized in INSpire's outsourcing operations. This expense is comprised primarily of personnel, equipment, and occupancy costs related to software development. Research and development expense for the year ended December 31, 1999 and 1998 is net of capitalized software production costs of approximately $1.6 million and $2.0 million, respectively.
Depreciation and Amortization. The increase of approximately $3.0 million in depreciation and amortization expense is primarily attributable to amortization of goodwill and depreciation on fixed assets acquired in connection with the Arrowhead, Robert Plan and Island Group contracts, and the acquisition of additional property and equipment to expand the infrastructure to support the Company's growth.
Bad Debt Expense. During 1999, management took action relative to specific software installation contracts that had significant past due balances and ceased further work, pending resolution of the balances due under the terms of the contracts. As a result of this assessment the Company recognized $11.0 million of bad debt expense during 1999.
Intangible Asset Impairment. The Company recognized an impairment charge of $16.8 million for certain intangible assets, including a substantial portion of the goodwill and software purchased in the SDS Acquisition and the
Other Expense. Other operating expenses of approximately $800,000 during 1999 represent the accrual of future payment obligations under operating leases for fixed assets no longer in use by the Company. In April 1998, $500,000 was assigned to in-process research and development in the purchase price allocation of the acquisition of the Paragon Acquisition. This amount was charged to operations.
Other Income. Other income decreased 48% during 1999 due to a decrease in cash equivalents and investments primarily as a result of cash used in the Arrowhead Acquisition, the Robert Plan Acquisition and the Island Group Acquisition.
Pending legal proceedings. From time to time INSpire receives various claims alleging breach of warranty, breach of contract, deceptive trade practices, and similar claims under license agreements and other agreements with customers of the Company. An adverse determination in any of these or any future legal proceedings could have a material adverse effect on the Company's business, financial condition, cash flows, and results of operations. See "Legal Proceedings."
Technological change and new product development risks. The market for INSpire's services is characterized by rapidly changing technology, evolving industry standards, and frequent introductions of new products and enhancements. INSpire's future success depends in part on its ability to enhance its existing services and develop new services to meet changing customer requirements. The introduction of competing services or products incorporating new technologies could render some or all of INSpire's services obsolete or unmarketable. As a result, INSpire has expended substantial resources for the enhancement of its services and for product development. The development of new or enhanced services or products results in expenditures and capital costs that may not be recovered if the service or product is unsuccessful. Development projects can be lengthy and subject to changing market requirements and unforeseen costs and delays. The failure of INSpire to develop and introduce new or enhanced services or products in a timely and cost-effective manner could have a material adverse effect on the Company's business, financial condition, cash flows, and results of operations. See "Business -- Product Development."
Risks of software defects. The sale and support of software by INSpire entails the risks of product liability and warranty claims, which could be substantial. Software products may contain errors or defects, especially when first introduced or when new versions or enhancements are released. Any such defects in INSpire's software products could result in product liability or warranty claims, which could have a material adverse effect on the Company's business, financial condition, cash flows, and results of operations. INSpire's license agreements with its customers typically contain provisions designed to limit INSpire's exposure to product liability or warranty claims. These limitations of liability provisions, however, may be ineffective because of existing or future federal, state, or local laws or unfavorable judicial decisions. From time to time INSpire receives various claims alleging breach of warranty, breach of contract, deceptive trade practices, and similar claims under license agreements and other agreements with customers of the Company, and several such claims are currently pending. See "Legal Proceedings."
Acquisition risks. INSpire intends to consider acquisition candidates that offer opportunities to increase market share and expand INSpire's line of outsourcing services. There can be no assurance, however, that INSpire will be able to consummate or successfully integrate future acquisitions. Acquisitions involve significant risks, including: (i) the diversion of management's time and attention to the negotiation of the acquisition and the other assimilation of the businesses acquired, (ii) the need to modify financial and other systems and add management resources, (iii) the potential liabilities of the acquired business, (iv) unforeseen difficulties in the acquired operations, (v) the possible adverse short-term effects on INSpire's results of operations, and (vi) the financial reporting effects of the amortization of goodwill and other intangible assets. Furthermore, INSpire cannot assure that any business acquired will achieve acceptable levels of revenue and profitability or otherwise perform as expected.
Reliance on information processing systems. INSpire's outsourcing services depend on its ability to store, retrieve, process, and manage significant databases, and expand and upgrade periodically its information processing capabilities. INSpire's principal computer equipment and software systems are maintained at INSpire's facilities in Fort Worth, Texas and San Diego, California. Interruption or loss of INSpire's information processing capabilities through loss of stored data, breakdown or malfunctioning of computer equipment and software systems, telecommunications failure or damage caused by fire, tornadoes, lightning, electrical power outage, or other disruption could have a material adverse effect on INSpire's business, financial condition, cash flows, and results of operations. Although INSpire maintains business interruption insurance with an aggregate limit of $12.5 million per occurrence, and has entered into an agreement with International Business Machines, Inc. and Sungard to provide disaster recovery services, if needed, INSpire cannot assure that such insurance or services will continue to be available at reasonable prices, cover all such losses, or compensate the Company for the possible loss of customers occurring during any period that INSpire is unable to provide services. See "Business -- Customer Support and Operations."
Shares eligible for future sale. Sales of a substantial number of shares of Common Stock in the open market could adversely affect the trading price of the Common Stock. Millers Insurance currently holds 4,606,875 shares, representing approximately 24% of the outstanding shares of Common Stock. A decision by Millers Insurance to sell shares of Common Stock could adversely affect the trading price of the Common Stock. INSpire has an aggregate of 26,847,818 shares of Common Stock authorized but unissued and not reserved for specific purposes. All of such shares may be issued without any action or approval by INSpire's shareholders. Any shares issued would dilute the percentage ownership of the Company held by the current investors. INSpire has 18,771,621 shares of Common Stock outstanding, all of which are freely transferable. In addition, 3,348,854 shares of Common Stock are reserved for issuance under the Stock Option Plan, 2,363,623 of which will be issuable upon exercise of outstanding options, including currently exercisable options to purchase 669,975 shares, and 75,000 shares of Common Stock are reserved for issuance under the Director's Plan, 27,750 of which will be issuable upon exercise of options that are currently outstanding. A maximum of 299,466 shares are issuable upon exercise of options granted in conjunction with the Arrowhead contract. An additional 290,861 shares are reserved for issuance to employees of the Company upon their purchase pursuant to the Stock Purchase Plan. INSpire has purchased 321,226 shares to support future offerings of the Employee Stock Purchase Plan. Of these shares, 226,476 are reserved for the first half of 2001 offering period of the plan and the remaining 94,750 shares are reserved for second half of 2001 offering period. INSpire has registered on Form S-8 under the Securities Act the offering and sale of Common Stock issuable under the Stock Option Plan, the Director Plan and the Stock Purchase Plan. See the 2001 Proxy Statement under the captions "Management -- Stock Option Plan," "-- Director Stock Option Plan," and "-- Employee Stock Purchase Plan."
In December 1999, the Securities and Exchange Commission issued Staff Accounting Bulletin 101, "Revenue Recognition in Financial Statements" ("SAB 101"). SAB 101 was effective for the Company's financial statements in the fourth quarter of fiscal year 2000. Effective with the beginning of the fourth quarter of fiscal year 2000, the Company adopted SAB 101. See "Item 8 - Financial Statements and Supplementary Data."
INSpire has experienced in the past and will experience in the future quarterly variations in net revenues and net income. Thus, operating results for any particular quarter are not necessarily indicative of results for any future period. Factors that have affected quarterly operating results include the introduction of new or enhanced services and products by INSpire or its competitors, customer acceptance or rejection of new services and products, product development expenses, the timing of new contract signings, the timing of large scale catastrophes, the volume of usage of INSpire's services and products, acquisitions, competitive conditions in its industry, general economic conditions and the level of selling and administrative expenses.