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Rational Software Corporation
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pursuant to Exchange Act Rule 0-11 (set forth the amount on which
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Filed by International Business Machines Corporation
Pursuant to Rule 14a-12
of the Securities Exchange Act of 1934
Subject Company: Rational Software Corporation
Commission File No.: 000-12167
Q&A ADDENDUM 2
Payroll and Direct Deposit
What is IBM's US payroll schedule (weekly, semi-monthly, monthly)?
IBM HAS A BI-MONTHLY PAY SCHEDULE, WITH SCHEDULED PAY DATES ON THE 15TH AND
THE LAST WORKDAY OF EACH MONTH.
Will we have one or more "live" checks when we first switch over to IBM's
payroll, or will direct deposit start right away?
IF YOU CURRENTLY USE DIRECT DEPOSIT, THIS WILL CONTINUE ONCE YOU HAVE
TRANSITIONED TO IBM. THE ELECTRONIC DEPOSIT WILL POST TO ONLY ONE PRIMARY
ACCOUNT. IF YOU USE DIRECT DEPOSIT YOU WILL RECEIVE AN ELECTRONIC STATEMENT
VIA LOTUS NOTES. YOU WILL NOT RECEIVE A PAPER COPY OF YOUR PAY STATEMENT.
Does IBM offer a choice of hardcopy or electronic paystubs?
HARDCOPY PAYCHECKS AND PAY STATEMENTS WILL BE AVAILABLE ONLY FOR EMPLOYEES
WHO DO NOT USE ELECTRONIC FUND TRANSFER (EFT) OR DIRECT DEPOSIT. IBM
ENCOURAGES ALL OF ITS EMPLOYEES TO USE THE ELECTRONIC FUND TRANSFER OR
DIRECT DEPOSIT FOR THEIR PAYCHECKS, WHICH GENERATES AN ELECTRONIC STATEMENT
THAT YOU CAN FILE OR PRINT. IBM PAYROLL'S GOAL IS TO HAVE HARDCOPY
PAYCHECKS AND PAY STATEMENTS AT AN EMPLOYEE'S CHECK DISTRIBUTION OFFICE IN
TIME FOR THE DESIGNATED PAYDAY.
Does IBM have direct deposit available for expense reports? How will Rational
employees sign up?
YES, IBM HAS DIRECT DEPOSIT AVAILABLE FOR EXPENSE REPORTS. UPON ACQUISITION
CLOSE, EMPLOYEES WILL HAVE THE OPPORTUNITY TO SIGN UP FOR THIS SERVICE. FOR
THOSE EMPLOYEES WHO TRAVEL SEVERAL TIMES A YEAR, YOU WILL BE ISSUED A
CORPORATE CHARGE CARD TO BE USED FOR ALL BUSINESS TRAVEL AND MISCELLANEOUS
EXPENSES. IBM USES AN EXPENSE REIMBURSEMENT APPLICATION CALLED EA 2000 FOR
SUBMITTING BUSINESS EXPENSES, WHICH INCLUDES TRAVEL AND MISCELLANEOUS
EXPENSES. THE CHARGE CARD COMPANY IS REIMBURSED THROUGH THE DIRECT PAY
FEATURE OF EA 2000 AND ANY OUT OF POCKET EXPENSES WILL BE REIMBURSED
DIRECTLY TO YOU.
General Benefits
If I have a lot of medical deductions that have been taken out towards my annual
deductible before the close, will they roll over to IBM or will I have to start
over?
YOU WILL BE GIVEN CREDIT FOR THOSE DEDUCTIBLES TAKEN UNDER THE RATIONAL
MEDICAL AND DENTAL PLANS. TO RECEIVE CREDIT FOR DEDUCTIBLES, EMPLOYEES MUST
INCLUDE AN EXPLANATION OF BENEFITS FORM FROM THEIR RATIONAL PROVIDER WITH
THEIR FIRST CLAIM SUBMISSION TO IBM. PLEASE ENSURE THAT THE DEDUCTIBLE
AMOUNTS ARE CLEARLY INDICATED ON THE EXPLANATION OF BENEFIT FORM.
SUBSEQUENT CLAIMS SHOULD BE MAILED TO THE ADDRESS ON THE CLAIM FORM. NOTE:
HMO/DMA CO-PAYS ARE NOT ELIGIBLE FOR SUBMISSION TOWARDS THE IBM DEDUCTIBLE.
How can I find out if the doctors my family currently uses accept the medical
insurance plan IBM offers in my area?
IBM BENEFITS ENROLLMENT INFORMATION WILL BE MAILED TO RATIONAL EMPLOYEE'S
HOMES DURING THE WEEK OF JANUARY 6, 2003. INCLUDED IN THIS MAILING ARE
CONTACT NUMBERS TO CALL TO DETERMINE PROVIDER COVERAGE.
Does IBM have domestic partner benefits? Assuming the answer is yes, do I need
to register my domestic partner even if s/he is not using my health benefits?
IBM DEFINES A DOMESTIC PARTNERSHIP AS THE RELATIONSHIP
BETWEEN TWO PEOPLE WHO MEET ALL OF THE FOLLOWING CRITERIA:
o THEY ARE OF THE SAME GENDER
o THEY SHARE AN INTIMATE, COMMITTED RELATIONSHIP WITH EACH OTHER; INTEND
TO DO SO INDEFINITELY; AND HAVE NO SUCH RELATIONSHIP WITH ANY OTHER
PERSON
o THEY ARE JOINTLY RESPONSIBLE FOR EACH OTHER'S WELFARE AND FINANCIAL
OBLIGATIONS
o THEY RESIDE IN THE SAME HOUSEHOLD
o THEY ARE NOT RELATED BY BLOOD TO A DEGREE OF KINSHIP THAT WOULD
PREVENT MARRIAGE FROM BEING RECOGNIZED UNDER THE LAW OF THEIR STATE OF
RESIDENCE
o EACH OF THEM IS OVER AGE 18, OF LEGAL AGE, AND MENTALLY COMPETENT TO
ENTER A CONTRACT
o THEY RESIDE IN A STATE UNDER THE LAW OF WHICH MARRIAGE OR AN ATTEMPTED
MARRIAGE BETWEEN TWO PERSONS OF THE SAME GENDER IS NOT RECOGNIZED AS A
VALID MARRIAGE
o NEITHER OF THEM IS MARRIED TO A THIRD PARTY
IT IS NECESSARY TO COMPLETE A CONFIDENTIAL AFFIDAVIT TO ESTABLISH A RECORD
OF THE RELATIONSHIP FOR MEDICAL AND OTHER BENEFITS, E.G., GROUP LIFE
INSURANCE, ETC.
Who is the record keeper for IBM's 401(k) plan? How can I get more information
about the investment options?
HEWITT ASSOCIATES IS THE ADMINISTRATOR OF THE IBM SAVINGS PLAN. THEY WILL
PROVIDE DETAILED INFORMATION ABOUT THE 21 DIFFERENT INVESTMENT OPTIONS
OFFERED SHORTLY AFTER THE CLOSE DATE.
Can you tell me more about IBM's tuition reimbursement program? What are the
annual dollar limits and the approval process?
UNDER THE IBM ACADEMIC LEARNING ASSISTANCE PROGRAM THERE IS A PROVISION FOR
PROVIDING REIMBURSEMENT FOR INDIVIDUAL COURSES. ALL REQUESTS FOR TUITION
REIMBURSEMENT MUST HAVE MANAGEMENT APPROVAL PRIOR TO ENROLLMENT. UPON
DEMONSTRATION OF SATISFACTORY COMPLETION OF THE COURSE(S), UP TO 100% OF
THE TUITION/FEES WILL BE REIMBURSED.
Time Off
What is IBM's policy on time off for jury duty?
TIME OFF WITH PAY IS PROVIDED FOR JURY DUTY AND IT IS NOT NECESSARY TO
REIMBURSE IBM FOR ANY JUROR PAY RECEIVED.
Is it true that IBM offers additional time off to employees who are getting
married? How about to employees over age 50?
THERE IS NO SPECIFIC TIME OFF POLICY FOR MARRIAGE OR FOR EMPLOYEES OVER 50
YEARS OF AGE. IBM MANAGERS, HOWEVER, ARE EMPOWERED TO GRANT ADDITIONAL TIME
OFF DEPENDING ON INDIVIDUAL CIRCUMSTANCES.
Career Development
When will IBM employee training programs be available to Rational employees?
UPON ACQUISITION CLOSE DATE, EMPLOYEES WILL BE IMMEDIATELY ELIGIBLE TO
PARTICIPATE IN IBM TRAINING PROGRAMS WITH PRIOR APPROVAL FROM THEIR
MANAGER.
When can Rational employees start looking for career opportunities inside IBM?
IBM OFFERS A JOB POSTING SYSTEM WHERE EMPLOYEES CAN ACCESS OPEN POSITIONS
WITHIN THE U.S. FOLLOWING THE ACQUISITION CLOSE DATE, RATIONAL EMPLOYEES
WILL BE ISSUED A VM USER ID AND PASSWORD TO ACCESS THE JOB POST SYSTEM.
Performance Management
Does IBM have a ranking process for performance evaluation?
NO, THE IBM PERFORMANCE MANAGEMENT SYSTEM CALLED PERSONAL BUSINESS
COMMITMENTS (PBC) DOES NOT INCLUDE A RANKING COMPONENT. FURTHER INFORMATION
ABOUT THE IBM SYSTEM WILL BE PROVIDED DURING THE EMPLOYEE ORIENTATION
MEETINGS.
What is the calendar for employee performance reviews within IBM? Are there
specific performance measurements they use and what are they?
PERFORMANCE REVIEWS ARE GENERALLY PERFORMED DURING THE MONTHS OF DECEMBER
AND JANUARY FOR THE PRIOR CALENDAR YEAR. IBM EMPLOYEES SET PERSONAL
BUSINESS COMMITMENTS (PBC) THAT ALIGN DIRECTLY WITH IBM'S BUSINESS
OBJECTIVES. PBC ACHIEVEMENTS -- INCLUDING BUSINESS RESULTS, DEMONSTRATED
BEHAVIORS, AND OVERALL PERFORMANCE -- DETERMINE YOUR ANNUAL PBC RATING.
Will Rational employees be eligible for the IBM performance and salary review
program in 2003? Will our participation be prorated?
DEPENDING UPON THE ACQUISITION CLOSE DATE, THERE COULD BE LIMITED
PARTICIPATION IN THE 2003 PROGRAM.
General Employment And Other Questions
Will our positions be the same job/grade level at IBM that they are at Rational?
YOU WILL BE JOINING IBM IN COMPARABLE POSITIONS AND PAY BANDS TO THOSE YOU
HAD AT RATIONAL.
One of the documents we need to sign mentions IBM has the right to obtain an
Investigative Consumer Report. What is this? Is this document being required by
ALL employees, or is this only required of those employees involved in financial
areas?
THE CONSUMER REPORT NOTIFICATION INFORMS AN APPLICANT THAT A CONSUMER
REPORT MAY BE OBTAINED FOR EMPLOYMENT PURPOSES AS PART OF THE
PRE-EMPLOYMENT BACKGROUND INVESTIGATION. THE CONSUMER REPORT NOTIFICATION
IS A SEPARATE FORM AND CANNOT BE ATTACHED TO THE APPLICATION FOR EMPLOYMENT
OR ANY OTHER DOCUMENT. ALL EMPLOYEES ARE REQUIRED TO SIGN THIS DOCUMENT AS
IT IS A PART OF OUR NORMAL EMPLOYMENT PROCESS.
Does IBM offer their sales teams a program similar to our "Founders' Club"
(Trip/award based on annual quota attainment)?
THE PROVISIONS OF THE SALES PLANS AND OTHER INCENTIVE PROGRAMS HAVE NOT YET
BEEN DETERMINED. THEY WILL BE COMMUNICATED AS SOON POSSIBLE AFTER THE
ACQUISITION CLOSE DATE.
Does IBM have a charitable contribution matching program? If so, how does it
work?
IBM HAS A MATCHING GRANTS PROGRAM, WHICH HAS DEFINED REQUIREMENTS THAT MUST
BE MET FOR INSTITUTIONS TO BE ELIGIBLE. IT INCLUDES BOTH CASH CONTRIBUTIONS
MATCHED ON A 1: 1 BASIS FOR ACTIVE EMPLOYEES AND AN EQUIPMENT/SOFTWARE
OPTION TO APPROVED U.S. BASED COLLEGES, UNIVERSITIES, AND OTHER
POSTSECONDARY INSTITUTIONS, HOSPITALS AND CULTURAL INSTITUTIONS. IN
ADDITION, THE IBM EMPLOYEE CHARITABLE CONTRIBUTION CAMPAIGN (ECCC) IS A
YEARLY NATIONAL SOLICITATION PROGRAM DESIGNED TO PROVIDE EMPLOYEES AND
RETIREES WITH THE OPPORTUNITY TO CONTRIBUTE TO NEARLY 2,500
EMPLOYEE-NOMINATED NOT-FOR-PROFIT IRS 501(C)(3) HEALTH AND HUMAN SERVICES
AGENCIES ACROSS THE UNITED STATES AND ENCOURAGES THEM TO VOLUNTEER IN THE
COMMUNITY. THE ECCC TAKES PLACE IN OCTOBER OF EACH YEAR AT ALL IBM US
LOCATIONS. IN ADDITION, THE ECCC CONDUCTS A DIRECT MAIL SOLICITATION TO
RETIREES AND A SEPARATE CAMPAIGN IS RUN FOR EXECUTIVES IN SEPTEMBER.
Which airline, if any, is IBM's preferred airline for business travel?
BUSINESS TRAVELERS ARE EXPECTED TO UTILIZE AMERICAN EXPRESS TRAVEL TO BOOK
THEIR TRAVEL ARRANGEMENTS. THEY WILL BOOK THE MOST ECONOMICAL TRAVEL
CONSISTENT WITH THE EMPLOYEE'S SCHEDULE.
Text of conference call with IBM, Rational and financial analysts discussing,
among other things, the merger.
Text:
Miceala: Webcast Operator/Moderator
Herb A. Parks: Webcast Host, IBM VP Investor Relations
Steve Mills: IBM Senior VP and Group Executive for Software
Mike Devlin: Rational CEO
Miceala: Good morning, ladies and gentlemen, and welcome to the IBM
teleconference. At this time all participants have been placed on
a listen-only mode, and the floor will be open for questions
following the presentation. It is now my pleasure to turn the
floor over to your host, Mr. Herb A. Parks. Mr. Parks, the floor
is yours.
Parks: Thank you, Miceala, and good morning. This is Herbie Parks, Vice
President of Investor Relations for IBM, and thank you all for
joining us again this week. Let me point out again that certain
comments made during this called may be categorized
forward-looking under the Private Securities Litigation Reform
Act of 1995 and that those statements involve a number of factors
that could cause actual results to differ materially and, as you
know, additional information concerning these factors is
contained in the company's filing with the SEC and copies are
available from the SEC from the IBM website or from us in
Investor Relations. So, at this
2
time, without any further ado, let me turn the call over to Steve
Mills, IBM Senior Vice President and Group Executive for
Software. Steve.
Mills: Good morning. As I think all of you now know, IBM today has
announced that we've reached a definitive agreement to acquire
Rational Corporation. Rational is one of the industry's leading
providers of software development tools focused on providing a
complete end-to-end capability for application development.
Rational is seen by medium and small business as a premier
provider of tools that allow businesses to effectively capture
requirements and analyze those requirements to create designs for
applications to then feed into tools that help businesses build
those applications, to test the applications and manage the
development process. They are uniquely positioned to support the
kinds of applications that not only businesses are in the midst
of building and deploying today, but, in particular, those that
we see businesses will need to deploy in the future, those that
involve the connection of business activities and processes with
an on-demand environment that we spoke of on the 30th of October
when we described a world in which business is connected--not
just merely to their customers, but also through their internal
processes, out to their suppliers and creating environments that
are dynamic, changeable and adaptable to changing external
conditions. To achieve that goal, you need a powerful set of
design-and-build tools that make it
3
possible to create these applications and manage them across
their life cycle. Rational is recognized across the industry by
literally tens of thousands of companies as the premier provider
of development tools that make it possible to build those kinds
of applications. They have the extraordinary installed base
across a wide range of counts in industries from the industrial
sector, process industry, from finance to government types of
projects. They've been in business for the last twenty years in
delivering these kinds of technologies and, in fact, had been an
IBM business partner and one of our most important business
partners dating back to 1988. We've had a strong, long-term
working relationship with Rational. We have recommended and sold
each other's products over the years as we've built our
relationship, and both our companies have found this to be the
right time to come together to realize a more powerful and more
synergistic set of offerings in the marketplace as we see the
world moving to this on-demand environment, and there's a need
for a better collection of tooling and infrastructure necessary
to support these kinds of environments. This is a deal that both
companies are very excited about. I'm going to let Mike Devlin
say a few words here in a minute. He joins us here on the phone.
He's the CEO of Rational. Rational will be becoming part of IBM's
Software Group organization and is being positioned as our next
major strategic brand. We've been featuring Websphere, DB2, Lotus
and Tivoli in the marketplace in recent years and
4
we're going to add a fifth critical brand in the Rational brand,
which will be the brand that we're going to use long term for our
tooling capability for all the build functions that are important
to the environment that we're trying to enable. Rational has some
3500 employees doing business in over 80 countries around the
world. They have an incredibly strong field organization--very
technically capable and a tremendous culture focused on customer
support and customer success. And, so, we see this as a very
logical and a great matching up of two companies that share a
common vision of where information technology needs to go to
support businesses in the future. Before I turn over to Mike for
some brief comments on synergies and fit here, I want to make a
few comments for all of you that will undoubtedly ask me
questions relative to the financial characteristics of this deal.
Just let me say a few words to preempt what's likely to be some
of the questions you'd ask. As I think you may have seen, this is
a $10.50 per share acquisition which has a gross value of $2.1
billion that IBM will spend to acquire Rational. It is a cash
deal. You'll obviously ask questions about what impact does this
have on the IBM Company, and I'd remind you, as I think you know,
that we have to go through the usual purchase accounting
activities looking to in-process R&D and things of this nature to
finally come up with a firm position on the way in which this
transaction will affect our business in 2003 and beyond.
Obviously, from a business-case perspective, we see this is a
very attractive acquisition. It
5
generates cash right off the bat. Obviously, we'll have to deal
with one-time charge issues, which may have a very modest effect
next year and, of course, as John Joyce speaks to you in the
first part of next year, as we work through the next phase of the
acquisition process, we'll get more of a bead on what those
numbers will look like and update you again. So this is just
strictly some very, very rough guidance, if you will, and we
expect very nominal impact. So I would tell you that it's very
premature for you to make any changes to your models. As a
software company, I think you know that these are very attractive
businesses. They throw off lots of cash. Rational has a gross
profit margin consistent with the IBM Company software business
of about 85%, and we see lots of synergies here as we bring the
two businesses together. And it is a very attractive deal from
the IBM-shareholder perspective. Some of you may ask questions
relative to uses of cash, given that we've made our recent
announcement on how we're going to make additional contributions
to a pension fund. This acquisition, the use of cash here was
something that we have looked at and considered in the context of
all the things that we need to do. In fact, as you heard from
John Joyce on Wednesday that we had planned to continue to make
investments in R&D, capital expenditures as well as acquisitions,
this fits into that overall envelope of our use of cash and stock
to deal with the various things that we need to do to both fund
our company's future as well as deal with the pension fund.
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And, of course, this incremental use of cash was part of the
discussions we had had with the rating agency. So from that
perspective, this is very much business as usual. With that
having been said, let me turn over to Mike Devlin to add some
additional thoughts here on this acquisition and how he sees this
as providing tremendous leverage for our customers here as we
look ahead to the kinds of applications businesses want to build
and deploy for the future.
Devlin: Thanks, Steve, and I just want to echo the same level of
excitement about this transaction. We're very excited about this
from the point of view of our shareholders, our customers and our
team. We feel that there's a tremendous strategic opportunity,
that customers are demanding the kinds of architectures and
applications that Steve alluded to that requires the industry to
offer a more complete solution that can address the development
and deployment of these applications on a high-performance,
reliable platform, and we believe this combination will be unique
in the industry and that it will be the only combination that has
that complete solution for customers. Rational has been driving
the software engineering industry and profession over the last
twenty years. We believe we've been successful not only in
defining market-leading products but basically changing what it
means to develop software over the last twenty years, and we
think this is actually an opportunity for us to
7
accelerate that by integrating with the IBM platform, taking
advantage of the access to a much broader base of customers and,
of course, as Steven said, we've known the folks at IBM for many,
many years. IBM has been one of our largest customers going all
the way back to 1985, and I'm really excited about this. Thanks,
Steve.
Mills: Okay, Mike, thanks. Let's operator, uh, now open up for
questions.
Micaela: Thank you, Gentlemen. The floor is now open for questions. If you
do have a question or a comment, please touch the numbers one
followed by four on your Touch-tone(TM)telephone at this time. If
at any point your question has been answered, you may remove
yourself from the queue by pressing the pound key. Questions will
be taken in the order received. We do ask all participants to
please utilize their handset for optimum sound quality. Please
hold as we pause for questions. Our first question is coming from
John McTague of Prudential Securities. Please go ahead. Mr.
McTague, your line is live.
Parks: You can come back to him, Micaela.
Micaela: Our next question is going to be coming from John Jones of
Soundview Technologies. Please go ahead.
8
Jones: Nice job. Couple of questions: Can you talk about where the
overlap is with your current product line and how much overlap?
When will this transaction close and, Mike, can you just
reference how large your sales force is--and it's fortuitous
that, I guess, IBM is building up their sales force and you've
got one?
Mills: Let me start off here, John. Obviously we would have to go
through all the normal filings. We would expect the normal
process would have us close sometime in the first quarter, but we
have to go through that exercise as always. From a standpoint of
overlap and synergy, actually Rational is a great match for what
we do. Our investments in development tools have been focused on
compiler language-based technologies. That's what our, you know,
various brands and offerings out there are all about--is
delivering environment specific to languages, Java, C, C+
obviously--you know, Cobol and things of that nature and things
for mainframe development. And Rational's focus is on analysis,
design, test and deployment. So that critical middle box related
to compilers is something that has always permitted us to have a
great partnership with Rational because where we had focused our
attention on compilers was exactly complementary to all the other
things Rational was focused on at either end of the development
life cycle. So, in fact, there is no overlap here in the product
line. There is tremendous synergy between the two. We're
9
not going to be--have to be--dealing with difficult product
positioning. And the beauty of this is that we've had this
long-standing relationship in the market and been selling
Rational technology for many years, so our teams are capable of
positioning Rational today because of our joint relationship in
the marketplace. Mike?
Devlin: Thanks, Steve. The field organization, there's--counting the
technical resources and the sales executives--there's about 1500
people in the field organization and that's a very focused field
organization, focused on helping customers to be successful
developing, deploying applications and I think that team is going
to fit in very well into this environment both because of common
focus on customer success and, as Steve says, the product line
. . . it's not an accident that there's no overlap there. We've
been working together since 1988, as Steve said, in terms of our
product strategy.
IBM has about 10,000 dedicated software sales people in the
marketplace today. And so the, we have, already have the
industry's largest direct sales force selling software and the
Rational team fits into that very nicely in terms of the culture,
the way in which they're deployed today, the heavy focus on
customer support and implementation. All that fits quite nicely
into the model that we have established in the marketplace.
10
?: Uh, Mike, can I just follow up on your focus has, historically, I
guess, been on Microsoft and web share development platform? Do
you do any development in the Linux sphere? Do your products work
in the Linux sphere?
Devlin: Yes, our products, in fact, are what customers have demanded.
There's support for a variety of platforms ranging from PCs,
Unix, Linux, mainframes, support, and our products do support
Linux both in the sense of running on Linux and also developing
applications that are targeted at deployment on Linux.
Parks: Thank you. Our next question, please.
Miceala: Thank you. Our next question is coming from Steven Weber of SG
Callen. Go ahead, sir.
Weber: Good morning. Do you think that you can this combo over a
multi-year period the growth rate should be accelerated or is
there so much previous combo here that that's really not an
opportunity?
Mills: No, we definitely think that we can realize growth synergies with
this acquisition and we see it from the following perspective. If
you look at it in terms of the profile of a Rational customer
base today, Rational has
11
tremendous strength in the industrial sector, in Department of
Defense and government projects, in the telecommunications
sector. And the penetration of their tools, and the use of their
tools is quite significant in that arena. It's an area that we
want to increase the penetration of the IBM products. Coming at
it the other way, finance and insurance. Any of the IBM products
do extremely well in finance and insurance. The chance to pull
more Rational tooling in . . . into that market, retail, health
care, those kinds of areas. So we have synergy from an industry
perspective. Although Rational does business in some 80 countries
around the world, the IBM geographic reach is further and deeper
than Rational's been able to attain, so we see natural synergies
in terms of market reach. The second thing, obviously, is that as
customers move to this more horizontally integrated approach to
their information technology environments, the ability to build,
run and manage around one common platform, one common
environment, where the tools to build complement the environment
itself that you run on top of and the management can be built in
if you will right up front, that capability, that requirement is
something that we think together we're going to be uniquely in a
position to fulfill. We have tremendously powerful runtime
environments in IBM in our web sphere product, DB2, Lotus
collaboration capability. We have very strong management tools
around the Tivoli portfolio, and this adds significant
12
strength and significantly improves our capability on the build
side to create a complete end-to-end platform.
Parks: Next, the next question please.
Miceala: Thank you. Our next question is coming from Laura Conigliaro of
Goldman Sachs. Please go ahead.
Conigliaro: Yes, a couple of things. When you--ah, that is IBM--when you
announce the PWC acquisition at the same time you discussed
whether or not and when you expected it to be accretive and, in
this case, you did not, and I guess that leaves the question of
To what extent did this deal get hurried up for some other
reason?--that is, why did you actually do this now? At the same
time, given the financial characteristics of the deal that you
described Steve as well as the potential for
synergy--particularly since you've been working together--is
there an intention at least for this to be nondilutive in 2003?
Mills: First of all, we tried this long-standing relationship with
Rational and have discussed over the years what . . . in which
. . . ways in which to improve our partnership. So, this is not
some sudden event, nor is it in any way any kind of a rushed
event.
13
Conigliaro: Was there somebody else, though who--given the kinds of things
you're talking about--who may have come in and also been
interested in this these same kinds of characteristics that
you've discussed, and therefore it created a little more urgency
around the timing?
Mills: Nope. Absolutely not. There's no story there. There's no . . .
this is IBM and Rational. Our relationship, as I say, goes back a
very long way . . . and this is something that's just an
outgrowth of the ongoing conversations we've had about how to
achieve the shared vision that we've had. And, Irv, you might
want to comment on the PW versus this transaction. We clearly,
software companies and the way in which one accounts for
in-process R&D and goodwill and things of that nature and the
opinions and determinations on the treatment of those things has
an effect upon the way in which the software deal appears in the
first year versus subsequent years.
Irv: Right, Steve. Laura, as Steve indicated, we can bring a third
party in to assess the assets in this purchase accounting, as you
know, so these processes are indeed immediately written off. You
would have some intangible assets which, would have to be set
aside, identified. Those are advertised over several years and
then, of course, what's identified as goodwill is put on the
balance sheet. So we have to have a third party
14
come in and do that. We've done some of our own analysis, our own
estimates, and they would lead us to think that in 2003 EPS might
be impacted by a few pennies on both the one-time and the
recurring charges. By 2004 it should be neutral and then positive
thereafter but . . . so we obviously think this acquisition's
attractive both competitively and financially, but two things:
first, is that that gap accounting from a cash standpoint as
Steve said, this starts generating cash virtually from day one
because of the attractive characteristics of a software business.
And let me just reiterate just that we have to finalize the deal
we've got to go through this analysis, so my view is that let's
not change your models at this juncture if you can assess this
for its value which Steve has talked about but if that's we've
just got to go through that work and that's life with PWC and
that's a services business, this is a software business and they
have differences and we got to get that work done.
Steve: And this is like the Informix deal a couple years ago. They had
the same comments at that point in time that there are things
that we can't provide a definitive position on yet.
Irv: So once you get closed, and we'll get back to you, and we're
thinking this is going to be first quarter, so I would say
probably around the time that
15
we report our first-quarter earnings. If it's sooner, we'll
do it then. Next question, please.
Miceala: Thank you. Our next question is coming from Lynnette Donovan of
Deutsche Asset Management. Please go ahead.
Donovan: Well, I think most of my question has been answered, but I just
wanted to try to clarify again if your, if your sales of Rational
software how much of it really went through the IBM Trent
channel, how much goes through the IBM channel today?
Mills: Our relationship with Rational today is a co-sell, you know, type
of relationship in the marketplace. We collaborate together as
partners in the marketplace, and they deliver their technology
and we deliver ours. Certainly, parts of IBM global services have
used the Rational tools over the years and so, in that sense, we
are a customer. Some of our laboratory teams have also used some
of the Rational tools for different aspects of development. So we
are a customer, though clearly a relatively modest-sized
customer, of Rational and as a partner we go to market not in the
mode of necessarily literally selling their products but rather
co-selling their products since, you know, use, knowledge and
skill are critical issues, and the Rational team brings the
training and education and support to bear to complete the sale.
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Donovan: Does Rational have and seek resellers now and who are their
business resellers?
Mills: Mike, you want to comment on that?
Devlin: Yeah, the vast majority of Rational sales are direct through our
own direct field organization which is responsible for both the
presales activities and then supporting those customers to make
sure they're successful.
Parks: Thanks, Lynnette. Next question please.
Miceala: Thank you, our next question is coming from Andy Neff of Bear
Stearns. Please go ahead.
Nest: Sure. Just three things if I could. One, could you just give a
sense about what impact this would have on other relationships
where there might be a conflict such as Oracle, Sequel server and
BEA? Second, could you give some sense of dilution at least on a
price to sales basis it seems relatively high we are looking at
about three times sales relative to other recent software
acquisitions. Give us a sense about the valuation approach that
you took. And third, I just want to make sure that we're clear on
what you're saying in terms of dilution, you're saying it'll be a
few pennies
17
from, for `03 from charge offs and from the ongoing business so
it's a few pennies for each? I just want to clarify that.
: I'll do the last one. Andy, look I was trying to be, just put it
in the ball park, because we got a lot of work to do, so I was
trying to adjust there could be a few pennies, that could be one
time associated with a process R&D and there could be a few
pennies that are associated with the kind of the ongoing or the
operational results but that's being impacted by the amortization
of intangibles, but again, that's just meant to be rough to give
you a size where it is and it certainly is not basis for you to
change your model and then by 2004 ongoing break-even obviously
accelerating in there by 2005 very positive accretion and I'll
turn back to Steve.
Mills: On your middle question, I'm not going to get into a long
discussion of valuation techniques. I mean software companies
have always had a range of valuations around them based upon
market positions, strategic positioning fit, things of that
nature. Rational's a very strong software company with a very
important position in the marketplace. We think the price that
we've reached is fair for both parties, both the Rational
shareholders as well as fair on the IBM side. As far as the world
of heterogeneous systems this is business as usual. Rational has
a huge business on Sun and HP as well as on Windows. Rational
tools are used
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to build applications that support things such as BEA's web logic
environment, Oracle database. The IBM product line, software
product line has a huge install base on Sun, HP, Windows. We
deliver lots of products that use Oracle as a database. Our tools
are the most popular Java-based development tools today to build
BEA web logic based applications. It is a mix and match world.
There is no intent to do anything other than mix and match and be
modular and networks and technology to fit into all the various
kinds of products that customers run today. So I don't see this
having any effect on that world of heterogeneous mix and match
software.
: Steve, just to go to your second, the second point, I know you
don't want to talk about valuation but in using cash one of the
concerns it would create is that what have you done to keep the
Rational employees at IBM, if it's an all cash deal.
Steve: Rational employees, we're expecting them to come across and come
work for IBM. These are the kinds of deals that we've always
done. We have done 24 acquisitions of software businesses since
1995. They have all been cash deals and we establish their salary
plans and compensation and incentives and everything else
consistent with the way in which software businesses run.
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: Ok great.
Mills: And Informix is a good example of that. We've had, we set up a
complete plan for bringing the people across and everything
worked fine.
Parks: Thanks Andy. Next question please.
Miceala: Thank you. Our next question is coming from Tim Clacell of Thomas
Weisel Partners.
Clacell: Yeah, good morning everybody. Can we hit a little about the
Microsoft relationship with Dot Net? You mentioned mix and match
but Microsoft is a particularly close partner for Rational and do
we see any changes there, and then the second part, follow on
with that, can you mention how Rational and their product line
may be wrapped into Eclipse initiative that's getting a lot of
traction of theirs, are there any plans to bring some of the
Rational products into the Eclipse initiative/
Mills: Let me just check this off and then turn over to Mike and we can
easily comment on Eclipse since Rational does participate very
significantly in the Eclipse open source initiative. The IBM
company today does deliver software on Windows. In fact we have a
multibillion dollar software business on the Windows environment
today. We're a first class
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participant on that platform. We support Microsoft interfaces.
Our products fit into that world and we're very successful there
and we're realizing very good growth there. So in that sense you
should not look at Rational's existing relationship on Windows as
being fundamentally different than IBM's participation in that
platform. And with that said I'll turn it over to Mike.
Devlin: Thanks Steve. I agree and this is primarily customer-driven,
right so we need to support the platform that the customers are
using and their different applications. As Steve said it's a
heterogeneous world and the goal here is to provide the best
possible solution without being exclusionary. I would expect that
the relationship with Microsoft will continue to be very
important still, and with respect to Eclipse as Steve said we're
a founding board member and we've been involved in Eclipse since
day one and our products are very much aligned with the Eclipse
strategy.
Clacell: Ok great. And then this is more along a legal standpoint. Both
companies have fairly large market share in the development
communicate HSR review; have you sort of thought of how long
that's going to take and any particular steps that you may need
to take to satisfy their requirements?
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Devlin: Well we will go through the process as always. We're comfortable
with the relative position of both companies and of course the
development tool market is many times larger than the combined
revenues of both IBM and Rational in the tool space. It's one of
the most diverse segments of the market, one of the least
concentrated parts of the software market so we're comfortable
that we'll be able to provide all the necessary information so
the government can go through that process.
Clacell: Great.
Parks: Thanks. Next question please.
Micaela: Thank you. Our next question is coming from Don Young of UBS
Warburg. Please go ahead sir.
Young: Yes, thank you and good morning. First question on the valuation
of 2.1 billion. Is that, how are you resolving the $500 million
convertible. Is that included in that valuation? The second
question is what are you going to do with the embedded business,
which the real time embedded position at Rational has which
doesn't seem to fit with Steve Mills and your orientation. And I
guess the third question, it doesn't seem fair to be beating you
up on valuation when the stock is down from 70 to 10 but still
when you look at the valuation of what you're paying it could be
as much
22
as 30 times peak earnings for Rational and looking at going
forward it would appear that there's some risk to losing some of
the Rational revenues or the support of some of the existing
partners who are competitors at IBM so I'm wondering if there,
how do you offset that and get back to the kind of earnings to
make this minimally dilutive. And then the fourth and last
question is for Mike about the whole concept of moving from being
in a point product play at Rational being part of a total
solution at IBM. Does he see a change in the marketplace where
being by themselves Rational had a harder time ahead enjoying
what a company like IBM in a full portfolio of offerings is
critical to share gains in the new environment that we're in.
Mills: Well let me start off here. The 2.1 billion is obviously gross
value. We've talked here about synergies. These transactions in
the software business are very much focused on synergistic
benefit and the realization of cash flows from combined sales in
the two companies that we think are going to be very exciting for
us as far as increased market penetration. The growth
opportunities are pretty obvious when you look at the synergies
both at the product level and at the industry and geographic
levels of the market. You raise the point on pervasive. We have a
very large and have had for years a very large pervasive embedded
software business. Today I have products that run on smartcards,
PDAs, cell phones, I'm a major
23
provider to automotive companies, I'm embedded in appliances.
This has been a very important investment area for us. We have a
substantial portfolio of software and a very large number of
design wins in the embedded market and so I'm quite excited about
Rational's participation in that market and how the Rational
tools can enhance the total end to end platform value proposition
for pervasive embedded devices. And so we're quite excited about
the synergies in the pervasive space for us. Mike?
Devlin: Thanks Steve. And on this issue it's clearly a big transition for
us moving from an independent company to being part of the IBM
family. However it's clear we've been able to execute quite well
as an independent company established in a very strong market
leadership position in the four spaces that we serve and been
able to maintain an increased market share consistently so we
believe we've established that position and clearly this is an
opportunity for acceleration for us against often driven by
customers. We went through a phase about six or seven years ago
in the tools business of some consolidation anyway. Rational is a
key driver in that. And I think this is a logical progression of
the industry over the next couple of years.
Young: Steve, to follow up do you say the 2.1 billion includes the 500
million deferred?
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Mills: That's the calculation on the $10.50 a share on the shares
outstanding.
Parks: So Steve on a net cash basis this is about $1.7 million.
Mills: Right.
Parks: Next question please. Thanks Don.
Miceala: Thank you. Our next question is coming from Tony Sakanagi of
Sanford Bernstein. Please go ahead.
Sakanagi: Yes, thank you. Hi Steve and Mike. Rational's current operating
margins for the last four quarters have been about 10 percent.
That's significantly lower than about the 25 percent margin that
you enjoy Steve in your software division overall. Can you
comment on whether there are any rationalization exercises that
need to be done within the division to make this similar or
creative on an operating profit basis for IBM or is your belief
that simply greater volumes over time will help and then if you
could just help me put this in context. I think this is now your
sixth acquisition in software in counter 2000. We know what
Rational's revenues have been for the last 12 months. Can you
comment on whether there is material revenue from your other five
acquisitions? Informix was
25
I guess 2001 so just the other five acquisitions in 2002 as we
think about our models going forward.
Mills: Obviously on our reported profit margins are a mix of our whole
product line and all the things that we do. As we look at this
acquisitions we obviously see synergies so we believe that the
combined companies are going to be able to generate more revenue
with the same number of people in development in sales that we
have today. We think the synergies are going to drive an
improving revenue stream at obviously at a fixed level of cost
and expense that's going to drive incremental profits the bottom
line. That's the way we always look at these transactions as what
are the synergies and benefits and gains that can be had from
bringing the two companies together in getting incremental
leverage on the same base. And we get economies of scale,
benefits in operations and other administrative activities that
can also help improve the overall margin contribution. So I'm
very comfortable with overall financial characteristics of the
deal. This is again as you said before this is a deal that's
designed to deliver a tremendous amount of synergy. It will be
two companies coming together delivering premier build tool set
design with great platform and manage time function all of which
we think gives us a superior solution in the marketplace for
medium and large businesses to build the kinds of applications
they're trying to build going forward.
26
Parks: Thanks Tony. We'll take one more question now.
Miceala: Thank you. Our next question is coming from Steve Milonovich of
Merrill Lynch.
Milonovich: Thank you. Steve, could you comment on where those real synergies
are in terms of the benefit of owning Rational as opposed to just
working with Rational that has made them redirect their resources
in ways that you see big payoffs. And I wonder if you'd be
willing to comment on some of the big deals you've done,
historically, Lotus, Tivoli, Informix and rank them to some
degree in terms of how successful they've been, where this fits
in, and if there's anything you've learned from previous
acquisitions that you would apply to Rational to make it even
more successful.
Mills: Well let me take the back end of your question first which I
think relates to the second part of Tony's question as well. The
approach we've taken over the last couple of years with
acquisitions is to move quickly to integrate into the
organization. That does not mean a loss of skill, talent,
technology, all those things are obviously retained in the
organization but the operation of these acquisitions as separate
entities hasn't proven to fit with what the customers want. The
customers want a consistency of value, proposition, support,
follow through, dedication and they want the products to
complement each other. Now this simple idea of an
27
environment in which build and run and manage are coordinated in
terms of the capabilities that are built into the products so
that one supports the next. The build tools very easily and
seamlessly and effectively support the run time environments and
then the management tools can easily be applied to manage the
environment. Lot of emphasis here on integration and ease of and
seamlessness which is not to say that you're trying to build a
ball of twine architecture but rather work on the smoothing out
of the connections and improve the overall effectiveness of the
end to end solution. That is something that is extremely hard to
do purely from a partnership perspective. As far as the industry
has gone with open standards the fact of the matter is that
particularly down in these deep infrastructure kinds of products,
having the development teams work closely together to optimize
the solution for the customer, to integrate it, to test it and
deliver it as a package represents profound leverage for the
customers who in fact incur much more money in their labor spent
around these products than they do on the products themselves.
And so the ease of and the integration is critical to the return
on investment and time to return the customers are looking for in
products. That's what drives the marketplace today. Time to get a
return. And so this acquisition allows us to do that between the
two teams both on the development side but obviously it allows us
to take a joint value proposition to the marketplace. So as you
look at things that we've done here with acquisitions like
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Crossworlds, Informix, Access 360, the range of acquisitions
we've done over the last couple of years, we are integrating
these things rapidly to deliver the value proposition the
customer wants. And that has proven to be dramatic in its
relative impact and its ability to help us drive market share. We
are driving significant increases in market share in security,
management, enterprise application integration, database because
we're not operating around a bucket of bolts approach, we're
operating around an integrated platform approach, delivering the
customers real near term value in the product line.
Parks: Thank you Steve and thank you all in participating in our call
and have a great weekend.
In connection with the merger, Rational publicly filed a definitive proxy
statement and has filed and will file other relevant documents concerning the
transaction with the Securities and Exchange Commission (SEC). STOCKHOLDERS OF
RATIONAL ARE URGED TO READ THE DEFINITIVE PROXY STATEMENT AND ANY OTHER RELEVANT
DOCUMENTS FILED WITH THE SEC BECAUSE THEY CONTAIN IMPORTANT INFORMATION.
Investors and security holders can obtain free copies of the definitive proxy
statement and other documents by contacting Investor Relations, Rational
Software Corporation, 18880 Homestead Road, Cupertino, CA 95014 (Telephone:
(408) 863-9900). Rational began mailing the definitive proxy statement to its
stockholders on December 24, 2002. In addition, documents filed with the SEC by
Rational are available free of charge at the SEC's web site at www.sec.gov.
Information regarding the identity of the persons who may, under SEC
rules, be deemed to be participants in the solicitation of stockholders of
Rational in connection with the transaction, and their interests in the
solicitation, is set forth in the definitive proxy statement that was filed
by Rational with the SEC on December 23, 2002.
Forward-Looking Statements
Except for historical information contained herein, statements contained
in this document may constitute "forward looking statements" within the
meaning of the Private Securities Litigation Reform Act of 1995. These
statements are neither promises nor guarantees, but involve a number of risks,
uncertainties and other factors that could cause actual results to differ
materially from those set forth in the forward-looking statements, including,
without limitation, the risk that the merger may not be consummated in a
timely manner, if at all, risks regarding employee relations and other risks
concerning IBM and Rational and their respective operations that are detailed
in the periodic filings with the SEC of IBM and Rational, including their most
recent filings on Form 10-K or Form 10-Q.