-------------------------------------------------------------------------------- -------------------------------------------------------------------------------- UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 ----------------- FORM 10-Q [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For quarterly period ended August 31, 2001 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: 0-14376 ----------------- Oracle Corporation (Exact name of registrant as specified in its charter) Delaware 94-2871189 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification no.) 500 Oracle Parkway Redwood City, California 94065 (Address of principal executive offices, including zip code) (650) 506-7000 (Registrant's telephone number, including area code) 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 [X] NO [_] The number of shares of registrant's common stock outstanding as of September 28, 2001 was 5,561,668,633. -------------------------------------------------------------------------------- -------------------------------------------------------------------------------- ORACLE CORPORATION FORM 10-Q QUARTERLY REPORT ----------------- TABLE OF CONTENTS Page ---- PART I. FINANCIAL INFORMATION Item 1. Financial Statements Condensed Consolidated Balance Sheets at August 31, 2001 and May 31, 2001............ 3 Condensed Consolidated Statements of Operations for the three months ended August 31, 2001 and August 31, 2000............................................................. 4 Condensed Consolidated Statements of Cash Flows for the three months ended August 31, 2001 and August 31, 2000............................................................. 5 Notes to Condensed Consolidated Financial Statements................................. 6 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 11 Item 3. Quantitative and Qualitative Disclosures About Market Risk........................... 20 PART II. OTHER INFORMATION Item 1. Legal Proceedings.................................................................... 23 Item 6. Exhibits and Reports on Form 8-K..................................................... 24 Signatures........................................................................... 25 2 PART 1. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS ORACLE CORPORATION CONDENSED CONSOLIDATED BALANCE SHEETS August 31, May 31, (in thousands, except share data) 2001 2001 ---------------------------------------------------------------------------- ----------- ----------- (unaudited) ASSETS Current assets: Cash and cash equivalents................................................. $ 3,915,579 $ 4,449,166 Short-term cash investments............................................... 2,135,852 1,438,495 Trade receivables, net of allowance for doubtful accounts of $399,531 and $403,305, respectively.................................................. 1,759,789 2,432,131 Other receivables......................................................... 203,469 281,782 Prepaid and refundable income taxes....................................... 451,170 272,742 Prepaid expenses and other current assets................................. 111,435 88,834 ----------- ----------- Total current assets............................................... 8,577,294 8,963,150 Long-term cash investments................................................... 285,544 -- Property, net................................................................ 1,026,713 974,751 Long-term prepaid income taxes............................................... 396,631 376,030 Intangible and other assets.................................................. 899,758 716,229 ----------- ----------- Total assets....................................................... $11,185,940 $11,030,160 =========== =========== LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Notes payable and current maturities of long-term debt.................... $ 3,527 $ 2,849 Accounts payable.......................................................... 236,782 270,112 Income taxes payable...................................................... 1,077,340 767,087 Accrued compensation and related benefits................................. 494,979 734,705 Customer advances and unearned revenues................................... 1,367,240 1,213,529 Value added tax and sales tax payable..................................... 64,500 165,210 Other accrued liabilities................................................. 822,352 763,127 ----------- ----------- Total current liabilities.......................................... 4,066,720 3,916,619 Long-term debt............................................................... 300,872 300,847 Deferred income taxes........................................................ 403,057 327,788 Other long-term liabilities.................................................. 195,968 207,135 ----------- ----------- Total liabilities.................................................. 4,966,617 4,752,389 ----------- ----------- Stockholders' equity: Preferred stock, $0.01 par value--authorized, 1,000,000 shares; outstanding: none....................................................... -- -- Common stock, $0.01 par value and additional paid in capital--authorized, 11,000,000,000 shares; outstanding: 5,558,917,440 shares at August 31, 2001 and 5,592,360,823 shares at May 31, 2001........................... 4,834,899 4,820,869 Retained earnings......................................................... 1,400,483 1,610,480 Accumulated other comprehensive loss...................................... (16,059) (153,578) ----------- ----------- Total stockholders' equity......................................... 6,219,323 6,277,771 ----------- ----------- Total liabilities and stockholders' equity......................... $11,185,940 $11,030,160 =========== =========== See notes to condensed consolidated financial statements 3 ORACLE CORPORATION CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (unaudited) Three Months Ended August 31, ---------------------- (in thousands, except per share data) 2001 2000 ------------------------------------------------------------- ---------- ---------- Revenues: Licenses and other......................................... $ 731,432 $ 807,238 Services................................................... 1,510,613 1,454,637 ---------- ---------- Total revenues......................................... 2,242,045 2,261,875 ---------- ---------- Operating expenses: Sales and marketing........................................ 535,481 572,964 Cost of services........................................... 609,873 673,878 Research and development................................... 253,299 251,027 General and administrative................................. 97,614 105,965 ---------- ---------- Total operating expenses............................... 1,496,267 1,603,834 ---------- ---------- Operating income.............................................. 745,778 658,041 ---------- ---------- Net investment gains (losses) related to equity securities. (3,301) 15,433 Other income, net.......................................... 43,134 102,769 ---------- ---------- Income before provision for income taxes...................... 785,611 776,243 Provision for income taxes................................. 274,964 275,566 ---------- ---------- Net income.................................................... $ 510,647 $ 500,677 ========== ========== Earnings per share: Basic...................................................... $ 0.09 $ 0.09 ========== ========== Diluted.................................................... $ 0.09 $ 0.08 ========== ========== Weighted average common shares outstanding: Basic...................................................... 5,579,811 5,604,058 ========== ========== Diluted.................................................... 5,780,020 5,932,870 ========== ========== See notes to condensed consolidated financial statements 4 ORACLE CORPORATION CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (unaudited) Three Months Ended August 31, ------------------------ (in thousands) 2001 2000 ------------------------------------------------------------------------------- ----------- ----------- Cash Flows From Operating Activities: Net income....................................................................... $ 510,647 $ 500,677 Adjustments to reconcile net income to net cash provided by (used for) operating activities: Depreciation and amortization................................................ 65,641 73,160 Amortization of purchase price in excess of net tangible assets acquired..... 15,360 18,997 Provision for doubtful accounts.............................................. 30,472 41,153 Net investment losses/(gains) related to equity securities................... 3,301 (15,433) Changes in assets and liabilities: Decrease in trade receivables............................................. 648,461 794,188 (Increase) decrease in prepaid expenses and other current assets.......... (120,823) 88,142 Increase in long-term prepaid income taxes................................ (20,249) (1,122) Decrease in accounts payable.............................................. (33,787) (34,038) Increase (decrease) in income taxes payable............................... 322,737 (2,117,814) Decrease in accrued compensation and related benefits..................... (241,530) (323,513) Increase in customer advances and unearned revenues....................... 149,257 137,486 Decrease in value added tax and sales tax payable......................... (101,333) (81,350) Increase in other accrued liabilities..................................... 56,384 56,440 Decrease in deferred income taxes......................................... (9,772) (744) Decrease in other long-term liabilities................................... (11,198) (10,036) ----------- ----------- Net cash provided by (used for) operating activities............................. 1,263,568 (873,807) ----------- ----------- Cash Flows From Investing Activities: Purchases of cash investments................................................ (1,732,534) (27,000) Proceeds from maturities of cash investments................................. 749,633 174,317 Capital expenditures......................................................... (112,547) (73,397) Proceeds from sales of marketable securities................................. 9,389 36,252 (Increase) decrease in intangible and other assets........................... (18,526) 37,302 ----------- ----------- Net cash (used for) provided by investing activities............................. (1,104,585) 147,474 ----------- ----------- Cash Flows From Financing Activities: Payments for repurchase of common stock...................................... (753,796) (1,995,423) Proceeds from issuance of common stock....................................... 39,575 130,122 Proceeds under notes payable and long-term debt, net......................... 653 2,924 ----------- ----------- Net cash used for financing activities........................................... (713,568) (1,862,377) Effect of exchange rate changes on cash and cash equivalents..................... 20,998 (3,399) ----------- ----------- Net decrease in cash and cash equivalents........................................ (533,587) (2,592,109) Cash and cash equivalents at beginning of period................................. 4,449,166 7,429,206 ----------- ----------- Cash and cash equivalents at end of period....................................... $ 3,915,579 $ 4,837,097 =========== =========== See notes to condensed consolidated financial statements 5 ORACLE CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS August 31, 2001 (unaudited) 1. BASIS OF PRESENTATION The condensed consolidated financial statements included herein have been prepared by the Company, without audit, pursuant to the rules and regulations of the Securities and Exchange Commission ("SEC"). Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States have been condensed or omitted pursuant to such rules and regulations. However, the Company believes that the disclosures are adequate to make the information presented not misleading. These unaudited condensed consolidated financial statements should be read in conjunction with the financial statements and the notes thereto included in the Company's Annual Report on Form 10-K for the fiscal year ended May 31, 2001. The unaudited condensed consolidated financial statements included herein reflect all adjustments (which include only normal, recurring adjustments) which are, in the opinion of management, necessary to state fairly the results for the interim periods presented. The results of operations for the interim periods presented are not necessarily indicative of the operating results to be expected for any subsequent interim period or for the full fiscal year ending May 31, 2002. Reclassifications Certain prior year amounts have been reclassified to conform to the current year presentation. 2. EARNINGS PER SHARE Basic earnings per share is computed by dividing net income for the period by the weighted average number of common shares outstanding during the period. Diluted earnings per share is computed using the treasury stock method by dividing net income by the weighted average number of common shares plus the dilutive effect of outstanding stock options and shares issuable under the employee stock purchase plan and a forward contract to sell 36.0 million shares of the Company's Common Stock. Approximately 68.8 million outstanding stock options were excluded from the calculation of diluted earnings per share for the three months ended August 31, 2001, because they were anti-dilutive. However, these options could be dilutive in the future. The following table sets forth the computation of basic and diluted earnings per share for the periods indicated: Three Months Ended August 31, --------------------- (in thousands, except per share data) 2001 2000 ------------------------------------------------------------ ---------- ---------- Net income.................................................. $ 510,647 $ 500,677 ========== ========== Weighted average common shares outstanding.................. 5,579,811 5,604,058 Dilutive effect of employee stock plans and forward contract 200,209 328,812 ---------- ---------- Diluted weighted average common shares outstanding.......... 5,780,020 5,932,870 ========== ========== Basic earnings per share.................................... $ 0.09 $ 0.09 ========== ========== Diluted earnings per share.................................. $ 0.09 $ 0.08 ========== ========== 6 ORACLE CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued) August 31, 2001 (unaudited) 3. COMPREHENSIVE INCOME Comprehensive income includes foreign currency translation gains and losses and unrealized gains and losses on equity securities that are reflected in stockholders' equity instead of net income. The following table sets forth the calculation of comprehensive income for the periods indicated: Three Months Ended August 31, ----------------- (in thousands) 2001 2000 -------------------------------------------------- -------- -------- Net income........................................ $510,647 $500,677 Net unrealized gains (losses) on equity securities 115,822 (3,332) Foreign currency translation gains (losses)....... 21,697 (2,918) -------- -------- Total comprehensive income........................ $648,166 $494,427 ======== ======== The net unrealized gains on equity securities for the three months ended August 31, 2001 primarily reflect the marked to market gain for the Company's investment in Liberate Technologies. Effective February 1, 2001, the Company began to account for this investment as available for sale securities. Please see Footnote No. 6, Subsidiary Stock Transactions, in the Company's Form 10-K for the fiscal year ended May 31, 2001, for further information. 4. STOCK REPURCHASE PROGRAM Since 1992 the Company's Board of Directors has cumulatively approved the repurchase of 1.1 billion shares plus an additional amount of $3.0 billion to reduce the dilutive effect of shares issued under its various employee stock plans. During the three months ended August 31, 2001, approximately 42.1 million shares of Common Stock were repurchased for an aggregate price of approximately $753.8 million. As of August 31, 2001, the Company has repurchased in excess of 1.1 billion shares for an aggregate price of approximately $12.1 billion and has approximately $2.6 billion available for future repurchases. 5. RECENT ACCOUNTING PRONOUNCEMENTS As indicated in the Company's Form 10-K for the fiscal year ended May 31, 2001, the Company adopted Statement of Financial Accounting Standards ("SFAS") 133, "Accounting for Derivative Instruments and for Hedging Activities," as of June 1, 2001 whereby the Company elected to designate the changes in forward exchange rates for the measurement of effectiveness in net investment hedges. Upon further review, the Company believes that using the changes in spot exchange rates better meets the Company's risk management strategies, better reflects the economics of those strategies in the Company's financial statements, and better manages interest rate differentials between different countries. Accordingly, effective September 1, 2001, the Company has decided to designate the changes in spot exchange rates for the measurement of effectiveness in net investment hedges. As a result, the cumulative effect of the change in accounting principles that relates to the ineffective portion of the changes in fair value of the hedging instruments will be reported in the Consolidated Statements of Operations. The amount will be recorded in the Other Income line in the quarter ended November 30, 2001, and no prior quarter restatement is deemed necessary due to the immateriality of the amount. As of August 31, 2001, the Company only had one outstanding forward contract designated as a net investment hedge with a notional amount of approximately $32 million. 7 ORACLE CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued) August 31, 2001 (unaudited) 5. RECENT ACCOUNTING PRONOUNCEMENTS (continued) In July 2001, the Financial Accounting Standards Board ("FASB"), issued SFAS No. 141, "Business Combinations," and SFAS No. 142, "Goodwill and Other Intangible Assets." SFAS No. 141 provides new guidance on the accounting for a business combination as of the date a business combination is completed. Specifically, it requires use of the purchase method of accounting for all business combinations initiated after June 30, 2001, thereby eliminating use of the pooling-of-interests method. SFAS No. 142 establishes new guidance on how to account for goodwill and intangible assets after a business combination is completed. Among other things, it requires that goodwill and certain other intangible assets will no longer be amortized and will instead be tested for impairment at least annually and written down only when impaired. This statement will apply to existing goodwill and intangible assets, beginning with fiscal years starting after December 15, 2001. The Company is currently evaluating these statements but does not expect that they will have a material impact on the Company's financial position, results of operations, or cash flows. 6. SEGMENT REPORTING SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information," established standards for reporting information about operating segments in the Company's financial statements. Operating segments are defined as components of an enterprise about which separate financial information is available that is evaluated regularly by the chief operating decision maker, or decision making group, in deciding how to allocate resources and in assessing performance. The Company's chief operating decision maker is the Chief Executive Officer of the Company. The Company is organized geographically and by line of business. While the Chief Executive Officer of the Company evaluates results in a number of different ways, the line of business management structure is the primary basis for which allocation of resources and financial performance are assessed. The accounting policies of the line of business operating segments are the same as those described in the Company's Annual Report on Form 10-K for the fiscal year ended May 31, 2001. The Company does not track assets by operating segments. Consequently, it is not practical to show assets by operating segments. The Company has five major line of business operating segments: new license, license updates, support, education and consulting. Effective June 1, 2001, the Company expanded its operating segments to include license updates, which represent the Company's estimate of the portion of maintenance revenues that relate to license updates. This estimate is based on the Company's current pricing model, which prices license updates at 15% of net license price and product support at 7% of net license price. While these license updates were included in the support operating segment in the past, the Company believes that for business and management evaluation purposes, license updates should be viewed separately from support as they represent a subscription to future license product versions, and their inclusion would distort the support margins as the majority of the costs related to such updates are contained in the research and development area. 8 ORACLE CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued) August 31, 2001 (unaudited) 6. SEGMENT REPORTING (continued) The following table presents a summary of operating segments:/(1)/ Three Months Ended August 31, --------------------- (in thousands) 2001 2000 -------------------------------------------------------- ---------- ---------- New license: New license revenues from unaffiliated customers/(2)/... $ 727,826 $ 794,800 Distribution expenses................................... 408,584 424,509 ---------- ---------- Distribution margin/(3)/................................ $ 319,242 $ 370,291 License updates: Revenues from unaffiliated customers/(2)/............... 559,171 513,665 Distribution expenses................................... 5,479 3,903 ---------- ---------- Distribution margin/(3)/................................ $ 553,692 $ 509,762 New license and license updates: Revenues from unaffiliated customers/(2)/........ $1,286,997 $1,308,465 Distribution expenses............................ 414,063 428,412 ---------- ---------- Distribution margin/(3)/......................... $ 872,934 $ 880,053 Support:/(4)/ Revenues from unaffiliated customers/(2)/............... $ 354,781 $ 325,325 Distribution expenses................................... 140,835 150,674 ---------- ---------- Distribution margin/(3)/................................ $ 213,946 $ 174,651 Education: Revenues from unaffiliated customers/(2)/............... $ 102,495 $ 101,294 Distribution expenses................................... 55,351 71,265 ---------- ---------- Distribution margin/(3)/................................ $ 47,144 $ 30,029 Consulting: Revenues from unaffiliated customers/(2)/............... $ 497,772 $ 526,791 Distribution expenses................................... 366,666 398,156 ---------- ---------- Distribution margin/(3)/................................ $ 131,106 $ 128,635 Totals: Revenues from unaffiliated customers/(2)/........ $2,242,045 $2,261,875 Distribution expenses............................ 976,915 1,048,507 ---------- ---------- Distribution margin/(3)/......................... $1,265,130 $1,213,368 ========== ========== -------- /(1)/For business and management evaluation purposes, the Company from time to time changes the underlying structure for its operating segments. Segment data related to prior periods were reclassified, as required by SFAS No. 131, to conform to the current organizational structure. /(2)/Operating segment revenues differ from the external reporting classifications due to certain license products which are classified as services revenues for management reporting purposes. Additionally, the license updates revenues are classified as services revenues for external reporting purposes. /(3)/The distribution margins reported reflect only the direct controllable expenses of each line of business and do not represent the actual margins for each operating segment since they do not contain an allocation for product 9 ORACLE CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued) August 31, 2001 (unaudited) 6. SEGMENT REPORTING (continued) development and information technology, marketing and partner programs, and corporate and general and administrative expenses incurred in support of the line of business. /(4)/As indicated above, license updates revenues were previously reported under support but are now separately stated. Profit reconciliation Three Months Ended August 31, ---------------------- (in thousands) 2001 2000 ---------------------------------------------------------- ---------- ---------- Total distribution margin for reportable segments......... $1,265,130 $1,213,368 Product development and information technology expenses... (337,641) (338,073) Marketing and partner program expenses.................... (90,842) (104,291) Corporate and general and administrative expenses......... (72,132) (88,053) Net investment gains (losses) related to equity securities (3,301) 15,433 Other income, net......................................... 24,397 77,859 ---------- ---------- Income before provision for income taxes............... $ 785,611 $ 776,243 ========== ========== 7. LEGAL PROCEEDINGS Refer to Part II, Item 1 for a description of legal proceedings. 10 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Forward-Looking Statements In addition to historical information, this Quarterly Report contains forward-looking statements. The forward-looking statements are subject to certain risks and uncertainties that could cause actual results to differ materially from those reflected in such forward-looking statements. Factors that might cause such a difference include, but are not limited to, those discussed in the section entitled "Management's Discussion and Analysis of Financial Condition and Results of Operations--Factors That May Affect Future Results and Market Price of Stock." Readers are cautioned not to place undue reliance on these forward-looking statements, which reflect management's opinions only as of the date hereof. The Company undertakes no obligation to revise or publicly release the results of any revision to these forward-looking statements. Readers should carefully review the risk factors described in other documents the Company files from time to time with the SEC, including the Annual Report on Form 10-K for the fiscal year ended May 31, 2001 and the Quarterly Reports on Form 10-Q filed by the Company in fiscal 2002. Results of Operations Total revenues decreased 1% in the first quarter of fiscal 2002 as compared to the corresponding prior year period. The decrease was primarily attributable to lower license revenues as a result of a continued weakness in the economy. Sales and marketing and cost of services expenses continue to represent significant portions of operating expenses. Sales and marketing as a percentage of total revenues was 24% for the first quarter of fiscal 2002 and 25% for the corresponding prior year period. Cost of services as a percentage of total revenues decreased to 27% for the first quarter of fiscal 2002, compared to 30% for the corresponding prior year period. Research and development expenses as a percentage of total revenues remained fairly constant at 11% for the first quarters of fiscal 2002 and fiscal 2001. General and administrative expenses as a percentage of total revenues decreased to 4% in the first quarter of fiscal 2002 compared to 5% for the corresponding prior year period. Overall, operating income as a percentage of total revenues increased to 33% during the first quarter of fiscal 2002 compared to 29% for the corresponding prior year period. Domestic revenues decreased 3% during the first quarter of fiscal 2002 as compared to the corresponding prior year period due to weakening economic conditions in the United States. International revenues increased 2% during the first three months of fiscal 2002 over the corresponding prior year period. International revenues were unfavorably affected during the first three months of fiscal 2002 as a result of the U.S. dollar strengthening against certain major international currencies. Excluding the effect of currency rate fluctuations, international revenues grew 9% for the first three months of fiscal 2002 over the corresponding prior year period. Excluding the effect of currency rate fluctuations, total revenues grew 2% for the first three months of fiscal 2002 over the corresponding prior year period. International revenues represented 51% of total revenues for the first three months of fiscal 2002, as compared to 50% of total revenues for the corresponding prior year period. The Company expects that its international operations will continue to generate a significant portion of total revenues, and thus, its revenues may be adversely affected if the U.S. dollar continues to strengthen relative to international currencies. 11 Revenues Three Months Ended August 31, ----------------------------- (in thousands) 2001 Change 2000 -------------------- ---------- ------ ---------- Licenses and other.. $ 731,432 (9%) $ 807,238 Services............ 1,510,613 4% 1,454,637 ---------- ---------- Total revenues... $2,242,045 (1%) $2,261,875 ========== ========== Percent of Revenues: Licenses and other.. 33% 36% Services 67% 64% ---------- ---------- Total revenues... 100% 100% ========== ========== Licenses and Other Revenues. License revenues represent fees earned for granting customers new licenses to use the Company's software products. Licenses and other revenues also include documentation and other miscellaneous revenues. Documentation revenues and other miscellaneous revenues constituted 3% of total licenses and other revenues for the first three months of fiscal 2002, as compared to 4% of total licenses and other revenues for the corresponding prior year period. License revenues, excluding documentation and other miscellaneous revenues, decreased 8% for the first three months of fiscal 2002 from the corresponding prior year period. Systems software license revenues, which include server and development tools revenues, decreased 8% for the first three months of fiscal 2002 from the corresponding prior year period. Business applications revenues decreased 6% for the first three months of fiscal 2002 from the corresponding prior year period. The slowdown in license revenues in the first quarter of fiscal 2002 was primarily due to uncertainty related to weakening economic conditions in the United States, as well as the retrenchment of the dot-com market, that negatively impacted demand for the Company's systems and business application products. As a percentage of revenues, licenses and other revenues represented 33% of total revenues for the first three months of fiscal 2002, as compared to 36% of total revenues for the corresponding prior year period. Effective June 1, 2001, the Company expanded its operating segments to include license updates which represent the Company's estimate of the portion of maintenance revenues that relate to license updates. The Company believes that for business and management evaluation purposes, license updates should be viewed separately from support as they represent a subscription to future license product versions, and their inclusion would distort the support margins as the majority of the costs related to such updates are contained in the research and development area. Had these license updates been reclassified out of support revenues, license revenues including these license updates would have decreased 1% in the first three months of fiscal 2002 over the corresponding prior year period. License updates alone increased 9% for the first three months of fiscal 2002 over the corresponding prior year period, reflecting an increase in the overall customer installed base. Services Revenues. Services revenues consist of support, consulting and education services revenues which comprised 61%, 33% and 6% of total services revenues, respectively, for the first quarter of fiscal 2002 and 58%, 36% and 6% of total services revenues, respectively, for the corresponding prior year period. Support revenues increased 9% for the first three months of fiscal 2002 from the corresponding prior year period, reflecting an increase in the overall customer installed base. Support revenues excluding license updates also increased 9% for the first three months of fiscal 2002 from the corresponding prior year period. Consulting revenues decreased 4% for the first three months of fiscal 2002 from the corresponding prior year period. The decline in the consulting services revenues experienced in the first three months of fiscal 2002 was primarily due to a decrease in the demand for these services as a result of the following: i) a slowdown in the business applications market, ii) a push towards a partner model, leveraging third party consulting firms who provide consulting services to the Company's customers and iii) shorter implementation engagements for Oracle's newer generation of products. Education revenues decreased 1% for the first three months of fiscal 2002 from the corresponding prior year period primarily due to a slow down in license revenue growth, as well as customers reducing discretionary spending due to the weak economic conditions in the United States. 12 Operating expenses Three Months Ended August 31, ----------------------------- (in thousands) 2001 Change 2000 --------------------------- ---------- ------ ---------- Sales and marketing......... $ 535,481 (7%) $ 572,964 Cost of services............ 609,873 (9%) 673,878 Research and development.... 253,299 1% 251,027 General and administrative.. 97,614 (8%) 105,965 ---------- ---------- Total operating expenses. $1,496,267 (7%) $1,603,834 ========== ========== Percent of Revenues: Sales and marketing......... 24% 25% Cost of services............ 27% 30% Research and development.... 11% 11% General and administrative.. 4% 5% ---------- ---------- Total operating expenses. 66% 71% ========== ========== Total Operating Expenses. Total operating expenses decreased 7% for the first three months of fiscal 2002 from the corresponding prior year period. Operating expenses were favorably affected during the first three months of fiscal 2002 as a result of the U.S. dollar strengthening against certain major international currencies. Excluding the effect of currency rate fluctuations, total operating expenses decreased 4% for the first three months of fiscal 2002 from the corresponding prior year period. The decrease in total operating expenses was due in part to productivity improvements derived from using the Company's E-Business suite to streamline business processes and implementation of various other cost cutting measures. Total operating expenses for the first three months of fiscal 2002 were also favorably affected by a reduction of compensation expenses due to certain bonus payments being lower than what was previously accrued for. Sales and Marketing Expenses. The Company continues to place significant emphasis, both domestically and internationally, on direct sales through its own sales force. However, the Company also continues to market its products through indirect channels. Sales and marketing expenses decreased 7% for the first three months of fiscal 2002 from the corresponding prior year period. As a percentage of licenses and other revenues, sales and marketing expenses were 73% and 71% for the first three months of fiscal 2002 and 2001, respectively. The increase in sales and marketing expenses as a percentage of licenses and other revenues in the first quarter of fiscal 2002 was due primarily to a decrease in license revenues due to economic uncertainties. Excluding the effect of currency rate fluctuations, sales and marketing expenses decreased 4% for the first three months of fiscal 2002 from the corresponding prior year period. The decrease was primarily due to lower commission related expenses as a result of lower sales. Cost of Services. The cost of providing services consists largely of consulting, education and support personnel expenses. Cost of services expenses decreased by 9% in the first quarter of fiscal 2002 from the corresponding prior year period. As a percentage of services revenues, cost of services was 40% for the first three months of fiscal 2002, compared to 46% for the corresponding prior year period. The decrease in cost of services as a percentage of services revenues was due primarily to support revenues, which have relatively higher margins, constituting a higher percentage of total services revenues. Excluding the effect of currency rate fluctuations, cost of services decreased 7% for the first three months of fiscal 2002 from the corresponding prior year period. The decrease was primarily due to increased productivity efficiencies and controls over headcount and headcount related expenditures in the support, consulting, and education lines of business. Research and Development Expenses. Research and development expenses increased 1% for the first three months of fiscal 2002 over the corresponding prior year period. As a percentage of total revenues, research and development expenses remained relatively constant at 11% for the first three months of fiscal 2002 and 2001. 13 Excluding the effect of currency rate fluctuations, research and development expenses increased 2% for the first three months of fiscal 2002 over the corresponding prior year period. Expenses were favorably affected by the reduction of compensation expenses previously discussed. The Company believes that research and development expenditures are essential to maintaining its competitive position and expect these costs to continue to increase and constitute a significant percentage of revenues. General and Administrative Expenses. General and administrative expenses decreased 8% for the first three months of fiscal 2002 from the corresponding prior year period. As a percentage of revenues, general and administrative expenses was 4% for the first three months of fiscal 2002, as compared to 5% for the corresponding prior year period. Excluding the effect of currency rate fluctuations, general and administrative expenses decreased 3% for the first three months of fiscal 2002 over the corresponding prior year period. The decrease was primarily due to the reduction of compensation expenses previously discussed. Net Investment Gains (Losses) Related To Equity Securities Net investment gains (losses) related to equity securities for the periods ended August 31, 2001 and August 31, 2000 primarily reflect the net results of sales of marketable securities, the Company's equity share in the results of non-consolidated investees, and provision for losses related to investments in other companies. Other Income, Net Other income, net, consists primarily of interest income, interest expense, foreign currency exchange gains and losses, and the minority interest share in the net profits of Oracle Japan. Other income, net, for the first three months of fiscal 2002 decreased 58% from the corresponding prior year period. The decrease was primarily due to lower interest income as a result of lower average cash balances throughout the first quarter of fiscal 2002 and lower interest rates in fiscal 2002, as well as an increase in the minority interest share in the net profits of Oracle Japan. Provision for Income Taxes The Company's effective tax rates have historically differed from the federal statutory rate primarily because of state taxes. The effective tax rate was 35.0% for the first three months of fiscal 2002, as compared to 35.5% for the corresponding prior year period. Liquidity and Capital Resources: Three Months Ended August 31, ------------------------------- (in thousands) 2001 Change 2000 ------------------------------------------------ ----------- ------ ----------- Working capital................................. $ 4,510,574 14% $ 3,951,486 Cash and cash investments....................... 6,336,975 23% 5,132,572 Cash provided by (used for) operating activities 1,263,568 * (873,807) Cash provided by (used for) investing activities (1,104,585) * 147,474 Cash used for financing activities.............. (713,568) (62%) (1,862,377) -------- * not meaningful Working capital as of August 31, 2001 was 14% higher than at the end of the corresponding prior year period, due primarily to improved cash flows from operations which was partially offset by cash used for the repurchase of the Company's Common Stock and cash used for other long-term investing activities. The positive cash flows generated from operations during the first three months of fiscal 2002 were primarily attributable to improved profitability and a decrease in trade receivables. The negative cash flows from 14 operations incurred in the first three months of fiscal 2001 were primarily due to the payment of taxes related to the gain on sale of Oracle Japan stock that occurred in the fourth quarter of fiscal 2000. The negative cash flows from investing activities during the first three months of fiscal 2002 related to cash investment purchases and investments in capital expenditures, partially offset by maturities of cash investments. The positive cash flows generated from investing activities during the first three months of fiscal 2001 primarily reflected increased maturities of cash investments, partially offset by investments in capital expenditures. The Company expects to continue to invest in capital and other assets to support its growth. The Company incurred negative cash flows from financing activities during the first three months of fiscal 2002 and fiscal 2001, primarily reflecting Common Stock repurchases. Since 1992 the Company's Board of Directors has cumulatively approved the repurchase of 1.1 billion shares, plus an additional amount of $3.0 billion to reduce the dilutive effect of shares issued under its various employee stock plans. During the three months ended August 31, 2001, approximately 42.1 million shares of Common Stock were repurchased for an aggregate price of approximately $753.8 million. As of August 31, 2001, the Company has repurchased in excess of 1.1 billion shares for an aggregate price of approximately $12.1 billion and has approximately $2.6 billion available for future repurchases. The Company has primarily used cash flows from operations and investing activities to fund its repurchases. During the first quarter of fiscal 1997, the Company issued $150.0 million in 6.72% Senior Notes due in the year 2004 and $150.0 million in 6.91% Senior Notes due in the year 2007. The Senior Notes are unsecured general obligations that rank on parity with all of its other unsecured and unsubordinated indebtedness that may be outstanding. As of August 31, 2001, the Company also had other outstanding debt of approximately $4.4 million, primarily in the form of other notes payable and capital leases. The Company believes that its current cash and cash investment balances, as well as anticipated cash flows generated from operations, will be sufficient to meet its working capital, capital expenditure, and investment needs through at least the next 12 months. Factors That May Affect Future Results and Market Price of Stock The Company operates in a rapidly changing environment that involves numerous risks, some of which are beyond its control. The following discussion highlights some of these risks. Revenue Growth and Economic Conditions. The revenue growth and profitability of the Company's business depends on the overall demand for computer software and services, particularly in the product segments in which the Company competes. Because the Company's sales are primarily to corporate and government customers, its business also depends on general economic and business conditions. A softening of demand for computer software caused by a weakening of the economy may result in decreased revenues and has resulted and may continue to result in lower revenue growth rates. In particular, one of the challenges the Company continues to face in promoting future growth in license revenues is the successful refocusing of its marketing and sales efforts to its business applications suite. In addition, recent terrorist attacks upon the U.S. have added (or exacerbated) economic, political and other uncertainties, which could adversely affect the Company's revenue growth. There can be no assurances that the Company will be able to effectively promote future revenue growth in its systems software and business applications areas. In October 1997, the American Institute of Certified Public Accountants ("AICPA") issued Statement of Position ("SOP") No. 97-2, "Software Revenue Recognition" which superceded SOP No. 91-1. SOP No. 97-2, as amended by SOP No. 98-4 and SOP No. 98-9, provides guidance on applying generally accepted accounting principles for software revenue recognition transactions. In December 1999, the SEC issued Staff Accounting Bulletin ("SAB") No. 101, "Revenue Recognition in Financial Statements," which provides further revenue recognition guidance. The Company adopted SAB No. 101, as amended, in the fourth quarter of fiscal 2001 as required. The adoption 15 of SAB No. 101 did not have a material effect on the Company's consolidated financial position, results of operations or cash flows. The accounting profession continues to review certain provisions of SOP No. 97-2 and SAB No. 101 with the objective of providing additional guidance on implementing its provisions. Depending upon the outcome of these reviews and the issuance of implementation guidelines and interpretations, the Company may be required to change its revenue recognition policies and business practices and such changes could have a material adverse effect on the Company's business, results of operations or financial position. New Products. The markets for the Company's products are characterized by rapid technological advances in hardware and software development, evolving standards in computer hardware and software technology and frequent new product introductions and enhancements. Product introductions and short product life cycles necessitate high levels of expenditures for research and development. To maintain its competitive position, the Company must enhance and improve existing products and continue to introduce new products and new versions of existing products that keep pace with technological developments, satisfy increasingly sophisticated customer requirements and achieve market acceptance. The Company's inability to run on new or increasingly popular operating systems, or the Company's failure to successfully enhance and improve its products in a timely manner and position and/or price its products to meet market demands, could have a material adverse effect on the Company's business, results of operations, financial condition or cash flows. Significant undetected errors or delays in new products or new versions of a product may affect market acceptance of the Company's products and could have a material adverse effect on the Company's business, results of operations, financial condition or cash flows. If the Company were to experience delays in the commercialization and introduction of new or enhanced products, if customers were to experience significant problems with the implementation and installation of products, or if customers were dissatisfied with product functionality or performance, this could have a material adverse effect on the Company's business, results of operations, financial condition or cash flows. There can be no assurance that the Company's new products will achieve broad market acceptance or will generate significant revenue. Additional products that the Company plans to directly or indirectly market in the future are in various stages of development. Sales Forecasts. Management uses a "pipeline" system, a common industry practice, to forecast sales and trends in the Company's business. The Company's sales personnel monitor the status of all proposals, such as the date when they estimate that a customer will make a purchase decision and the potential dollar amount of the sale. The Company aggregates these estimates periodically in order to generate a sales pipeline. The Company compares the pipeline at various points in time to look for trends in its business. While this pipeline analysis may provide the Company with some guidance in business planning and budgeting, these pipeline estimates are necessarily speculative and may not consistently correlate to revenues in a particular quarter or over a longer period of time. A variation in the conversion of the pipeline into contracts or in the pipeline itself could cause the Company to improperly plan or budget and thereby adversely affect its business or results of operations. In particular, as was the case in the second half of fiscal 2001 and the first quarter of fiscal 2002, a slowdown in the economy may cause purchasing decisions to be delayed, reduced in amount or cancelled which will therefore reduce the overall license pipeline conversion rates in a particular period of time. Management of Growth. The Company has a history of rapid growth. However, the Company has at times experienced slowing growth in a number of areas. The Company's future operating results will depend on its ability to manage growth, accurately forecast revenues and control expenses. The Company's future operating results may also be adversely impacted by external factors, such as a slowing in demand for hardware used in conjunction with its software. A decline in the growth rate of revenues without a corresponding and timely slowdown in expense growth could have a material adverse effect on the Company's business, results of operations, financial condition, or cash flows. Pricing. Intense competition in the various markets in which the Company competes may put pressure on the Company to reduce prices on certain products, particularly in markets where certain vendors offer deep discounts 16 in an effort to recapture or gain market share or to sell other software or hardware products. Moreover, the Company has recently changed its pricing model for its system software products and any broadly based changes to the Company's prices and pricing policies could lead to a decline or delay in sales and license revenue as the Company's sales force implements and its customers adjust to the new pricing policies. The bundling of software products for promotional purposes or as a long-term pricing strategy or guarantees of product implementations by certain of the Company's competitors could, over time, significantly reduce the prices that the Company can charge for its products. Changes in customer use of the Company's products could also result in lower license revenues if the Company's pricing model is not adapted to such usage. Shifts toward the use of operating systems on which the Company experiences relatively greater price competition could result in lower average license prices, thereby reducing the Company's license revenues. Additionally, while the distribution of applications through application service providers may provide a new market for the Company's products, these new distribution methods could also reduce the price paid for the Company's products or adversely affect other sales of its products. Any such price reductions and resulting lower license revenues could have a material adverse effect on the Company's business, results of operations, financial condition, or cash flows if the Company cannot offset these price reductions with a corresponding increase in sales volumes or lower spending. Competitive Environment. The computer software industry is an intensely competitive industry with several large vendors that develop and market databases, application development tools, business applications and business intelligence products. Certain of these vendors have significantly greater financial and technical resources than the Company. The introduction of new competitive products into one or more of the Company's various markets, the addition of new functionality into an existing competitive product or the acquisition by one of its competitors of a product could have a material adverse effect on the Company's business, results of operations, financial condition or cash flows. In addition, new distribution methods (e.g. electronic channels) and opportunities presented by the Internet and electronic commerce have removed many of the barriers to entry historically faced by small and start-up companies in the software industry. The Company expects to continue to face intense competition in the various markets in which it competes. International Sales. A substantial portion of the Company's revenues is derived from international sales and is therefore subject to the related risks, including the general economic conditions in each country, the overlap of different tax structures, the difficulty of managing an organization spread over various countries, changes in regulatory requirements, compliance with a variety of foreign laws and regulations, longer payment cycles and volatilities of exchange rates in certain countries. There can be no assurances that the Company will be able to successfully address each of these challenges. Other risks associated with international operations include import and export licensing requirements, trade restrictions and changes in tariff rates. A significant portion of the Company's business is conducted in currencies other than the U.S. dollar. Changes in the value of major foreign currencies relative to the value of the U.S. dollar adversely affected revenues and operating results in the first quarter of fiscal 2002, particularly in Europe and will continue to do so throughout fiscal 2002 if the U.S. dollar strengthens relative to foreign currencies. Foreign currency transaction gains and losses are primarily related to sublicense fee and other agreements between the Company and its subsidiaries and selling distributors. These gains and losses are charged against earnings in the period incurred. The Company has reduced its transaction and translation gains and losses associated with converting foreign currencies into U.S. dollars by using foreign exchange forward contracts to hedge transaction and translation exposures in major currencies. The Company finds it impractical to hedge all foreign currencies in which it conducts business. As a result, the Company will continue to experience foreign currency gains and losses. Hiring and Retention of Employees. The Company's continued growth and success depend to a significant extent on the continued service of its senior management and other key employees and the hiring of new qualified employees. Competition for highly-skilled business, product development, technical and other personnel continues to be substantial due to relatively low overall unemployment rates. Accordingly, the 17 Company may experience increased compensation costs that may not be offset through either improved productivity or higher prices. There can be no assurances that the Company will be successful in continuously recruiting new personnel and in retaining existing personnel. In general, the Company does not have long-term employment or non-competition agreements with its employees. The loss of one or more key employees or the Company's inability to attract additional qualified employees or retain other employees could have a material adverse effect on its continued growth. New Business Areas. The Company has in recent years expanded its technology into a number of new business areas, including on-line exchanges for a number of business procurement needs, Internet/electronic commerce, on-line business services, wireless initiatives and Internet computing. These areas are relatively new to the Company's product development and sales and marketing personnel. There can be no assurances that the Company will compete effectively or will generate significant revenues in these new areas. The success of Internet computing and, in particular, the Company's current Internet computing software products is difficult to predict because Internet computing represents a method of computing that is new to the entire computer industry. The widespread adoption of Internet computing will depend in large measure on (i) the lower cost of ownership of Internet computing relative to client/server architecture, (ii) the ease of use and administration relative to client/server architecture and (iii) how hardware and software vendors choose to compete in this market. There can be no assurances that sufficient numbers of vendors will undertake this commitment, that the market will accept Internet computing or that Internet computing will generate significant revenues for the Company. Uneven Patterns of Quarterly Operating Results and Revenues. The Company's revenues in general and its license revenues in particular, are relatively difficult to forecast and vary from quarter to quarter due to various factors, including the (i) relatively long sales cycles for the Company's products, (ii) size and timing of individual license transactions, the closing of which tend to be delayed by customers until the end of a fiscal quarter as a negotiating tactic, (iii) introduction of new products or product enhancements by the Company or its competitors, (iv) potential for delay or deferral of customer implementations of the Company's software, (v) changes in customer budgets, (vi) seasonality of technology purchases and other general economic conditions, and (vii) changes in the Company's pricing policies or those of its competitors. Accordingly, the Company's quarterly results are difficult to predict until the end of the quarter, and delays in product delivery or closing of sales near the end of a quarter have historically caused and could cause quarterly revenues and net income to fall significantly short of anticipated levels. The Company's license revenues in any quarter are substantially dependent on orders booked and shipped in that quarter. Because the Company's operating expenses are based on anticipated revenue levels and because a high percentage of its expenses are relatively fixed, a delay in the recognition of revenue from even a limited number of license transactions could cause significant variations in operating results from quarter to quarter and could cause net income to fall significantly short of anticipated levels. California has recently experienced ongoing power system shortages, which have resulted in "rolling blackouts," and the bankruptcy filing by one of the major California public utilities may increase the number and severity of these blackouts. These blackouts, blackouts in other regions or procedures implemented to avert blackouts could cause disruptions to the Company's operations and the operations of the Company's customers. Such disruptions, particularly at the end of a quarter, could adversely affect quarterly revenues and net income by delaying the closing of a number of licensing transactions. Uncertainty of Emerging Areas. Despite tremendous growth in emerging areas such as the Internet, on-line services and electronic commerce, the impact on the Company of this growth is uncertain. There can be no assurances that the Company will be able to provide a product offering that will satisfy new customer demands in these areas and the growth patterns of these areas may vary significantly. In addition, standards for network protocols, as well as other industry adopted and de facto standards for the Internet, are evolving rapidly. There can be no assurances that standards chosen by the Company will position its products to compete effectively for business opportunities as they arise on the Internet and in other emerging areas. 18 Future Acquisitions. As part of its business strategy, the Company has made and expects to continue to make acquisitions of, or significant investments in, businesses that offer complementary products, services and technologies. Any acquisitions or investments will be accompanied by the risks commonly encountered in acquisitions of businesses. Such risks include, among other things, the possibility that the Company pays much more than the acquired company or assets are worth, the difficulty of assimilating the operations and personnel of the acquired businesses, the potential product liability associated with the sale of the acquired company's products, the potential disruption of the Company's ongoing business, the distraction of management from the Company's business, the inability of management to maximize the Company's financial and strategic position, the maintenance of uniform standards, controls, procedures and policies and the impairment of relationships with employees and clients as a result of any integration of new management personnel. These factors could have a material adverse effect on the Company's business, results of operations, financial condition or cash flows, particularly in the case of a larger acquisition. Consideration paid for future acquisitions, if any, could be in the form of cash, stock, stock purchase rights or a combination thereof. Dilution to existing stockholders and to earnings per share may result in connection with any such future acquisitions. Relative Product Profitability. Certain of the Company's revenues are derived from products that, as a percentage of revenues, currently require a higher level of development, distribution and support expenditures compared to certain of its other products. To the extent that revenues generated from such products become a greater percentage of the Company's total revenues, the Company's operating margins may be adversely affected, unless the expenses associated with such products decline as a percentage of revenues. Long-term Investment Cycle. Developing and localizing software is expensive and the investment in product development often involves a long payback cycle. The Company's plans for the fiscal year ending May 31, 2002 include significant investments in software research and development and related product opportunities from which significant revenues are not anticipated for several years. Sales Force Restructuring. The Company historically has relied heavily on its direct sales force. In many years, the Company has restructured or made other adjustments to its sales force at least once a year. These changes have generally resulted in a temporary lack of focus and reduced productivity by the Company's sales force that may have affected revenues in a quarter. There can be no assurances that the Company will not continue to restructure its sales force or that the related transition issues associated with restructuring the sales force will not recur. Enforcement of the Company's Intellectual Property Rights. The Company relies on a combination of copyright, patent, trademark, trade secrets, confidentiality procedures and contractual procedures to protect its intellectual property rights. Despite the Company's efforts to protect its intellectual property rights, it may be possible for unauthorized third parties to copy certain portions of the Company's products or to reverse engineer or obtain and use technology or other information that the Company regards as proprietary. There can also be no assurances that the Company's intellectual property rights would survive a legal challenge to their validity or provide significant protection for the Company. In addition, the laws of certain countries do not protect the Company's proprietary rights to the same extent as do the laws of the United States. Accordingly, there can be no assurances that the Company will be able to protect its proprietary technology against unauthorized third party copying or use, which could adversely affect the Company's competitive position. Possibility of Infringement Claims. The Company from time to time receives notices from third parties claiming infringement by the Company's products of third party patent and other intellectual property rights. The Company expects that software products will increasingly be subject to such claims as the number of products and competitors in the Company's industry segments grows and the functionality of products overlaps. In addition, the Company expects to receive more patent infringement claims as companies increasingly seek to patent their software, especially in light of recent developments in the law that extend the ability to patent software. Regardless of its merit, responding to any such claim could be time-consuming, result in costly litigation and require the Company to enter into royalty and licensing agreements that may not be available on 19 terms acceptable to the Company. If a successful claim is made against the Company and the Company fails to develop or license a substitute technology, the Company's business, results of operations, financial condition or cash flows could be materially adversely affected. Possible Volatility of Stock Price. The market price of the Company's Common Stock has experienced significant fluctuations and may continue to fluctuate significantly. The market price of the Company's Common Stock may be significantly affected by factors such as the announcement of new products or product enhancements by the Company or its competitors, technological innovation by the Company or its competitors, quarterly variations in the Company's or its competitors' results of operations, changes in prices of the Company's or its competitors' products and services, changes in revenue and revenue growth rates for the Company as a whole or for specific geographic areas, business units, products or product categories, changes in earnings estimates by market analysts, speculation in the press or analyst community and general market conditions or market conditions specific to particular industries. The stock prices for many companies in the technology sector have experienced wide fluctuations that often have been unrelated to their operating performance. Such fluctuations may adversely affect the market price of the Company's Common Stock. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Interest Rate Risk. The Company's exposure to market risk for changes in interest rates relates primarily to the Company's investment portfolio. The Company places its investments with high credit quality issuers and, by policy, limits the amount of credit exposure to any one issuer. As stated in its policy, the Company is adverse to principal loss and seeks to preserve its invested funds by limiting default risk, market risk and reinvestment risk. The Company mitigates default risk by investing in only high credit quality securities that it believes to be low risk and by positioning its portfolio to respond appropriately to a significant reduction in a credit rating of any investment issuer or guarantor. The portfolio includes only marketable securities with active secondary or resale markets to ensure portfolio liquidity. The table below presents the amortized principal amount, related weighted average interest rates and maturities for the Company's investment portfolio. Short-term and long-term investments are all in fixed rate instruments. The amortized principal amount approximates fair value at August 31, 2001. Table of Investment Securities: Amortized Principal Weighted Average Amount Interest Rate -------------- ---------------- (in thousands) Cash and cash equivalents.......... $3,915,579 3.18% Short term investments (0-1 year).. 2,135,852 3.87% Long term investments (1-2 years).. 285,544 4.13% ---------- Total cash and cash investments. $6,336,975 ========== Foreign Currency Risk. The Company transacts business in various foreign currencies. The Company has established a foreign currency hedging program, which was approved by the Board of Directors, that primarily utilizes foreign currency forward exchange contracts ("forward contracts") to hedge certain foreign currency transaction exposures. Under this program, increases or decreases in the Company's foreign currency transactions are offset by gains and losses on the forward contracts, so as to mitigate the possibility of foreign currency transaction gains and losses. The Company does not use forward contracts for trading purposes. All foreign currency transactions and all outstanding forward contracts are marked to market at the end of the period with unrealized gains and losses included in other income (expense). The Company's ultimate realized gain or loss with respect to currency fluctuations will depend on the currency exchange rates and other factors in effect 20 as the contracts mature. The unrealized gain (loss) on the outstanding forward contracts at August 31, 2001 was immaterial to the Company's consolidated financial statements. The Company also hedges the net assets of certain of its international subsidiaries ("net investment hedges"). As indicated in the Company's Form 10-K for the fiscal year ended May 31, 2001, the Company adopted Statement of Financial Accounting Standards ("SFAS") 133, "Accounting for Derivative Instruments and for Hedging Activities," as of June 1, 2001 whereby the Company elected to designate the changes in forward exchange rates for the measurement of effectiveness in net investment hedges. Upon further review, the Company believes that using the changes in spot exchange rates better meets the Company's risk management strategies, better reflects the economics of those strategies in the Company's financial statements, and better manages interest rate differentials between different countries. Accordingly, effective September 1, 2001, the Company has decided to designate the changes in spot exchange rates for the measurement of effectiveness in net investment hedges. Under this new accounting method, the effective portion of changes in the fair value of the hedging instruments are recorded as a component of accumulated other comprehensive income (loss) in stockholders' equity. Changes in the fair value of the portion of the hedging instruments excluded from the effectiveness assessment are recorded in earnings. The tables below present the notional amounts (at contract exchange rates) and the weighted average contractual foreign currency exchange rates for the Company's net investment hedges and outstanding forward contracts as of August 31, 2001. Notional weighted average exchange rates are quoted using market conventions where the currency is expressed in currency units per U.S. dollar, except for Australia, New Zealand, UK and the Euro. The net investment hedges and forward contracts mature in ninety days or less as of August 31, 2001. Table of Net Investment Hedges Notional Notional Weighted Average Amount Exchange Rate -------------- ---------------- (in thousands) Functional Currency: Japanese Yen..... $32,342 120.59 ------- Total........ $32,342 ======= 21 Table of Forward Contracts Notional Notional Weighted Average Amount Exchange Rate -------------- ---------------- (in thousands) Functional Currency: Argentine Peso...... $ 17,930 1.13 Australian Dollar... 3,946 0.53 Brazilian Real...... 4,550 2.68 Canadian Dollar..... 246 1.55 Chilean Peso........ 4,984 663.25 Chinese Renminbi.... 44,636 8.29 Columbian Peso...... 1,029 2355 Danish Krone........ 5,524 8.20 Euro................ 83,956 0.91 Indian Rupee........ 16,523 47.56 Israeli Shekel...... 42,023 4.29 Japanese Yen........ 6,385 118.26 Korean Won.......... 16,692 1290.12 Mexican Peso........ 17,765 9.31 New Zealand Dollar.. 373 0.44 Norwegian Krone..... 6,821 8.94 Peruvian New Sol.... 1,645 3.53 Philippine Peso..... 7,380 52.42 Polish Zloty........ 12,789 4.36 Saudi Arabian Riyal. 20,729 3.75 Singapore Dollar.... 35,669 1.74 Slovakian Koruna.... 1,339 47.78 South African Rand.. 9,311 8.47 Swedish Krona....... 5,450 10.40 Swiss Franc......... 33,398 1.66 Taiwan Dollar....... 1,999 34.79 Thai Baht........... 1,196 44.30 UK Pound............ 131,346 1.45 -------- Total........... $535,634 ======== 22 PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS Shareholder class actions were filed in the United States District Court for the Northern District of California against the Company and its Chief Executive Officer on and after March 9, 2001. On June 20, 2001 the Court consolidated the class actions into a single action and appointed lead plaintiff and class counsel. A consolidated amended complaint adding the Chief Financial Officer and an Executive Vice President as defendants was filed on August 3, 2001. The consolidated amended complaint is brought on behalf of purchasers of the stock of the Company during the period December 15, 2000 through March 1, 2001. Plaintiffs allege that the defendants made false and misleading statements about the Company's actual and expected financial performance and the performance of certain of its applications products, while certain individual defendants were selling Company stock, in violation of Federal securities laws. Plaintiffs further allege that certain individual defendants sold Company stock while in possession of material non-public information. The Company has filed a motion to dismiss the consolidated action. The hearing on the motion to dismiss is currently scheduled for December 18, 2001. The Company believes that it has meritorious defenses against these actions and intends to vigorously defend them. Shareholder derivative lawsuits were filed in the Superior Court of the State of California, County of San Mateo and County of Santa Clara on and after March 12, 2001. Three similar shareholder derivative lawsuits were filed in the Court of Chancery in the State of Delaware in and for New Castle County. The derivative suits were brought by Company stockholders, allegedly on behalf of the Company, against all of the Company's directors. The derivative plaintiffs allege that these directors breached their fiduciary duties to the Company by making or causing to be made alleged misstatements about the Company's revenue, growth, and the performance of certain of its applications products while certain officers and directors sold Company stock and by allowing the Company to be sued in the shareholder class actions. The derivative plaintiffs seek compensatory and other damages, disgorgement of compensation received, and a declaration that the defendants breached their fiduciary duties. The Company has not yet responded to these complaints. Shareholder class actions were filed in the Superior Court of the State of California, County of San Mateo against the Company and its Chief Financial Officer and former President and Chief Operating Officer on and after December 18, 1997. The class actions were brought on behalf of purchasers of the stock of the Company during the period April 29, 1997 through December 9, 1997. Plaintiffs allege that the defendants made false and misleading statements about the Company's actual and expected financial performance, while selling Company stock, in violation of state securities laws. Plaintiffs further allege that the individual defendants sold Company stock while in possession of material non-public information. Discovery is ongoing in these actions. The Company believes that it has meritorious defenses to these actions and is vigorously defending them. A related shareholder derivative lawsuit was filed in the Superior Court of the State of California, County of San Mateo on November 17, 1998. The derivative suit was brought by Company stockholders, allegedly on behalf of the Company, against certain of the Company's current and former officers and directors. The derivative plaintiffs allege that these officers and directors breached their fiduciary duties to the Company by making or causing to be made alleged misstatements about the Company's revenue, growth, and financial status while certain officers and directors sold Company stock and by allowing the Company to be sued in the shareholder class actions. The derivative plaintiffs seek compensatory and other damages, disgorgement of compensation received and temporary and permanent injunctions requiring the defendants to relinquish their directorships. On January 15, 1999, the Court entered a stipulation and order staying the action until further notice. The Company filed petitions with the United States Tax Court on July 29, 1998, challenging notices of deficiency issued by the Commissioner of Internal Revenue that disallowed certain foreign sales corporation commission expense deductions taken by the Company in its 1988 through 1991 tax years and assessed additional taxes for those years in excess of $20 million, plus interest. In a separate action filed by Microsoft 23 Corporation, the Tax Court ruled on September 15, 2000, in favor of the Commissioner of Internal Revenue on the same legal issue presented in the Company's case. If allowed to stand and if followed by the Tax Court in the Company's case, the Microsoft ruling may be dispositive of that issue in the Company's case and could result in additional Federal and State taxes up to $130 million, plus interest accruing at applicable Federal and State rates, for the tax years at issue in the case and for the Company's subsequent tax filings. The Company filed a motion requesting the Tax Court to certify the controlling legal issue in its case for immediate appeal to the Ninth Circuit Court of Appeals. Thereafter, the Company's case was reassigned to the judge presiding in the Microsoft action and the Tax Court issued an order staying the Company's case until a final adjudication of the same legal issue in the Microsoft action. The Company intends to defend its position vigorously and does not believe that the final outcome will have a material adverse effect on its consolidated financial position, results of operations or cash flows. The Company is currently party to various legal proceedings and claims, either asserted or unasserted, which arise in the ordinary course of business. While the outcome of these claims cannot be predicted with certainty, the Company does not believe that the outcome of any of these or any of the above mentioned legal matters will have a material adverse effect on the Company's consolidated financial position, results of operations or cash flows. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits 18.1 Accountants preferability letter regarding change in accounting principle pursuant to SFAS 133. (b) Reports on Form 8-K None 24 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, Oracle Corporation has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. ORACLE CORPORATION Dated: October 12, 2001 /S/ JEFFREY O. HENLEY By: _________________________________ Jeffrey O. Henley Executive Vice President and Chief Financial Officer Dated: October 12, 2001 /S/ JENNIFER L. MINTON By: _________________________________ Jennifer L. Minton Senior Vice President and Corporate Controller 25 [LOGO] Printed on Recycled Paper C14025-01