8th Mar 2007 07:01
SQS Software Quality Systems AG08 March 2007 Embargoed until 0700 8 March 2007 SQS Software Quality Systems AG ("SQS" or "the Group") Preliminary Results For the year ended 31st December 2006 SQS Software Quality Systems AG (AIM:SQS.L), the leading independentpan-European provider of quality management and testing services for softwaredevelopment, today announces its preliminary results for the year ended 31stDecember 2006. Financial Highlights: • Turnover up by 44.2% to 78.9m (2005: €54.7m), including 18% organic and 26% acquisitive • Profit before tax (adjusted) up 44.0% to €5.3m (2005: €3.7m) • Adjusted earnings per share up 27.3% to €0.28 (2005: €0.22) • Acquisition of Cresta Ltd. ("Cresta") in the UK was successful and earnings enhancing in its initial six month period of ownership • Strong financial position with good underlying cash flow • Proposed dividend or return of capital of €0.08 per share Operational Highlights: • Achieved 18% organic top line growth, well ahead of European IT Services Market* • Repeat revenues now 75% of turnover • 400 active clients in 2006 with approximately 100 new clients won during the year • Strengthened delivery capabilities following investment in more than 100 new consultants • Increased offshore projects with first own offshore facility in South Africa and securing 7 long term contracts, the majority with offshore components * European Information Technology Observatory (EITO) 2006 study Commenting on the results, Rudolf van Megen, CEO, said:"During the year, SQS further strengthened its position as the leadingindependent pan-European provider of quality management and testing services forsoftware development. The Company again accelerated its organic growth rate wellahead of the European IT service market. As a result of an excellent year wepropose to return to shareholders by way of dividend or other suitable means€0.08 per share. In 2007, our focus will continue to be on both acquisitive and organic growth,focusing on expanding markets such as outsourcing and offshoring. Trading hasbeen encouraging in the year to date and is ahead of the comparable period lastyear while the pipeline of new business remains strong." For further information please contact:SQS Software Quality Systems AG +49 (2203) 91 54 0Rudolf van Megen, CEO www.sqs.deRene Gawron, CFO Altium 020 7484 4040Nick Tulloch / James Brown Smithfield 020 7360 4900Tania Wild / Reg Hoare Print resolution images are available for the media to view and download from www.vismedia.co.uk Notes to Editors:SQS is the largest independent European provider of software testing and qualitymanagement services. SQS consultants design and oversee quality managementprocesses during software and IT systems development, and test the resultingproducts for errors and omissions. Headquartered in Cologne, Germany, SQS now has operations across Europe and inSouth Africa with over 750 employees. SQS has a strong presence in Germany (Cologne, Munich, Frankfurt, Stuttgart and Hamburg) and in the UK (London, Woking, Birmingham, Manchester), Ireland, Netherlands, Switzerland, Austria and South Africa. SQS also has a minor stake in an operation in Portugal and a partnership operation in Spain. In May 2006, SQS made its first acquisition after its AIM flotation, buyingCresta Group Ltd in the UK. The acquisition increased SQS' UK revenue threefoldand secured its position as the largest independent software testing and qualitymanagement company in the UK. With over 4,000 completed projects under its belt, SQS has a strong customerbase including half of the DAX 30 companies and 30% of the STOXX-50. Theyinclude names like Lloyds TSB, Deutsche Telekom, Barclays, BP, Credit Suisse,Daimler Chrysler, and Airbus spread across the full range of industries. SQS is the first German company with a primary listing on AIM and completed itsIPO in September 2005, having raised £10.8m before expenses at an issue price of190p. SQS is included in the Software and Computer Services sector (9530) withinthe Computer Services subsector (9533) and has a RIC code of SQS.L. SQScompleted a secondary listing on the Deutsche Boerse in Frankfurt on 2ndDecember 2005. For further information, please visit www.sqs-uk.com. About software testing:Research conducted in December 2006 among 250 IT directors and project managersby Coleman Parkes showed that the outsourced software testing market is at themoment relatively untapped. 69% of respondents felt that testing should beindependent of the production team while 77% stated that testing is an essentialinvestment in software development. 10% of those asked isolated 'poor' testingas the single reason behind the failure to launch a product successfully firsttime. A large proportion of those interviewed felt that the industry also lackeda standardised testing ground with 39% suggesting that outsourcing createdstandardised testing formula. Outsourcing software testing also seems to be regarded as a trustworthy way inwhich to conduct testing. 44% of those interviewed felt that outsourced testingwould reduce the cost of testing and it was clear that they felt that there wasnot a loss of quality either in that 48% of those being asked felt thatoutsourced testing would provide access to highly educated staff. Chief Executive's StatementIntroductionI am pleased to report SQS's preliminary results for 2006. SQS had an excellentyear, recording a 44% increase in both revenues and profit, demonstrating anunderlying performance in our core businesses. At the time of our admission toAIM in September 2005 we indicated that it was our plan to double the size ofour business within a two year period. As a result of the strong organic andacquisitive growth achieved last year, SQS is firmly on track to meet thistarget. During the year we continued to invest in four growth markets: • developing our long term software testing outsourcing business, • increasing our presence in the software testing of embedded systems, • adding our first offshore testing centre in South Africa, and • having started an additional consulting practice in SQS business consulting. Business within our existing client base was buoyant and we secured a recordnumber of 100 additional new clients which will provide the platform for furthergrowth in the current year. ResultsTurnover from continuing operations rose 44.2% to €78.9m (2005: €54.7m). On anunaudited proforma basis including Cresta, revenue for the whole year would havebeen €91.5m. EBITDA increased by 24% to €8.5m (2005: €6.8m) and underlyingadjusted profit before tax increased by 44.0% to €5.3m (2005: €3.7m). Gross margins edged up slightly overall in the second half of the year as aresult of a better business mix while at the operating level they sufferedslightly from stronger than expected price pressure mainly in the German market,falling from 8.2% to 7.2%. Utilisation of billable consultants remained strongthroughout the Group at 185 billable days per consultant (2005: 185 billabledays). Turnover growth was highest in the United Kingdom, Ireland and South Africa(UKISA) where it grew by 159% across all three countries. This was primarily dueto the acquisition of Cresta in July 2006 but also evidences continuing strongorganic growth in these countries. In Switzerland turnover grew by 33.8%, and inGermany by 22.1% (purely organic). This confirms our strategy that havingachieved the market leadership in our field in those regional markets we areable to drive revenue growth significantly above market growth rates. Adjusted earnings per share (adjusted to add back deferred taxes and IFRS taxdifferences to actual taxes) of €0.28 rose by 27.3% (2005: €0.22). The balance sheet has been considerably strengthened during the year reflectingthe acquisition of Cresta and the retained profits in 2006. We reduced ourborrowings by €0.9m to €5.8m (2005: to €6.7m). Cash balances and marketablesecurities at the year end stood at €2.6m (2005: €6.5m) reflecting an initialcash payment of • 4.6m for the Cresta acquisition. Dividend and return of capitalPursuant to these results, SQS proposes to return capital to shareholders. UnderGerman law, the Company requires some limited reorganisation of its net assetbase in order to pay a dividend to shareholders. Work on this reorganisation hasalready commenced and SQS will make a further announcement before the end ofMarch regarding its progress. It is the Company's intention to pay a dividend of8 cents per share if the reorganisation process can be completed in time. Ifthis is not possible then the Company will seek permission from shareholders atits Annual General Meeting in May to return €1.4 million (the amount equivalentto the proposed dividend) through alternative means. This is expected to be byway of a share buy back but a further announcement will be made in due course. The Directors are confident that there will be no structural issue that willprevent the payment of a dividend to shareholders in respect of the 2007 andfuture financial years and, in respect of these years, SQS proposes to operate adividend policy in line with earnings. The BoardThere were no changes to our management or supervisory boards. StrategyOur strategy is to strengthen our market position as the leading independentpan-European provider of quality management and testing services for softwaredevelopment. We aim to grow our business with long term outsourcing andoffshoring contracts and investment in expanding markets such as embeddedsystems in the automotive industry. We intend to strengthen our position in anumber of key European markets and will actively look for acquisitions tosupport and accelerate this strategy. EmployeesOn behalf of the board, I would like to thank all our employees for theircontribution, hard work, and excellent support and superior deliverables toprojects during the last year. I am confident that we have the team in place tocapitalise on the opportunities available and to enable us to deliver long termvalue to our shareholders. OutlookDuring the year, SQS further strengthened its position as the leadingindependent pan-European provider of quality management and testing services forsoftware development. Once again the Group accelerated its organic growth ratewell ahead of the European IT service market. In 2007, our focus will continue to be on both acquisitive and organic growth,focusing on expanding markets such as outsourcing and offshoring. Trading hasbeen encouraging in the year to date and ahead of the comparable period lastyear while the pipeline of new business remains strong. Rudolf van MegenChief Executive Officer8th March 2007 Review of BusinessDuring 2006, we continued to strengthen our business establishing clear marketleadership in three regional market segments (United Kingdom, Germany andSwitzerland), with utilisation rates at a high level and by keeping overheadsstable relative to turnover. We achieved this by increasing the number ofprojects staffed with international teams and by increasing the number ofconsultants by 225 through recruitment and the acquisition of Cresta. In linewith our existing employee base, our new consultants predominantly have strongsoftware engineering backgrounds as well as senior project management skills.Our 2006 year end number of employees stands at 733 (2005: 469) including 563fee earning consultants (2005: 338). As a service company helping its clients toimprove the quality of their software and IT systems, our commitment to qualityis paramount. Strategic UpdateMarket driversSoftware quality management and testing constitutes a segment of the IT servicesmarket and therefore growth in the IT services market closely correlates withgrowth in software quality management and testing. Research conducted by theEuropean Information Technology Observatory ("EITO") showed the European growthrate for IT services to be 5.3% in 2006, with 5.4% expected for 2007.In 2006,SQS's organic growth rate was almost four times that rate and, in addition, SQSgenerated further growth from acquisitions. Market research on the software testing market commissioned by SQS and conductedby Coleman Parkes Research mainly in the UK and Ireland in December 2006revealed that 77% of all IT decision makers acknowledge that software testing isessential in IT product development, 69% consider the independence of the testteam from the software development team as important and 57% agree thatcompliance and regulation is driving the need for more rigorous softwaretesting. Current regulatory market drivers include higher demands imposed on IT systemsby directives such as Basel II, SEPA (Single European Payment Area) or MIFID (Markets in Financial Instruments Directive). As well as these legislative andregulatory developments, a high number of IT projects either fail or run out ofbudget and/or time. This further demonstrates the importance of independentsoftware testing. In addition, continuing return on investment (ROI) pressures,coupled with increasing "industrialisation" of the software engineering processhas led to an increased demand for outsourced software testing as well as betterquality management of embedded systems. Strategic GoalsThe SQS Group strategy is centred on five strategic goals which all contributeto market leadership as a service company and resulting shareholder value. Theyare: • to extend leadership in independent quality management and testing by delivering added value to our customers in order to achieve their goals, • to grow the business significantly above the market growth rate for IT services, • to remain the financially strongest independent quality service company in Europe, • to extend and retain a strong base of highly motivated, skilled, and best performing employees, and • to spot and anticipate trends in business and IT with respect to quality aspects and use them for the benefit of our clients. Services and product linesAs the largest independent provider of software quality services we continuouslydevelop our range of services and other products. • IT professional services: within its broad range of software testing and quality management services, SQS has enhanced its offerings in the fields of business consulting (e.g. project and risk management), code quality management, and outsourcing/offshoring. • Tools, licences, and maintenance: SQS's specialist range of software testing tools which work independently from and as add-ons to the tools available from competitors has been enhanced by successful market deployment of version 8.0 of our SQS-Test Professional product. • IT training and IT events: the training business was extended. Two new certification schemes were established (INTCCM for Configuration Management and IREB for Requirements Management); this will result in additional courses including certification. ISTQB and ISEB courses were updated for the new versions of the syllabus. The successful SQC conferences (Software and Systems Quality Conferences), heldin Germany, the UK and for the first time in Switzerland in 2006, are thelargest quality management and software testing events in Europe. We plan toexpand these into Ireland in 2008. The media partnership with IDG which wasstarted in 2006 has resulted in a higher number of delegates, exhibitors, andsponsors attending our conferences in 2006. The total number of delegatesattending increased to 1,470 (2005: 1,135); the number of exhibitors increasedfrom 61 to 82 while the number of sponsors increased from 17 to 26. Geographic reviewGermanyRevenue in Germany, still our biggest market, was • 41.9m (2004: €34.3m)contributing 53% to the Group's total revenue compared with 63% in the prioryear. This reflects an increase of 22.1% enabled by investment in newconsultants as announced during the year. We secured key contract renewals withall our large clients and other major customers, all of which provide a solidbase for the current year. We also increased the business base in embeddedsystems by securing new contracts with automotive and avionic clients. The highcalibre sales managers hired about one year ago have enabled SQS to grow itsbusiness in line with organic growth rates in other Group regions. The EBIT rateof 6.1% was lower than 2005 (9.7%) mainly due to gross margins suffering fromstronger than expected price pressure in Germany, while utilisation of billableconsultants remained on a healthy level throughout the Group. We expect arecovery of prices in Germany in 2007, due to a general stronger demand for ITconsultants, and have taken measures to improve price levels. United Kingdom/Ireland/South Africa ("UKISA")The United Kingdom, the second largest regional segment and the largest Europeanmarket for IT services in general, generated revenues of • 23.7m (2005: €9.2m),30% of the Group's total. This represented a 159% increase year on year drivenmainly by the acquisition of Cresta which was consolidated in the second half ofthe year. On an unaudited pro forma basis adding Cresta for the full year,revenue in UKISA would have been €36.3m. Integration of SQS UK and Cresta hasbeen successful with 35 new client wins since the acquisition. EBIT margins, nowat 10.4% compared with 4.2% in the previous are now the highest in the group. The UK market continues to be very fragmented with a number of smaller sizedpure play testing services companies serving this market alongside some of thelarger consultancies. We continue to focus on further consolidation. SwitzerlandRevenue in Switzerland grew by 33.8% to €9.8m (2005: €7.3m), demonstrating thehighest organic growth rate across the Group. This strong year on year increaseresulted predominantly from repeat project business with major Swiss clients infinancial services and telecommunications markets coupled with significant newwins with large clients. The average number of local employees, mainlyconsultants, doubled to 36 people. Other European Countries (Austria, the Netherlands and other)Austria and the Netherlands contributed an aggregate revenue of €3.5m (2005:€3.3m), other countries contributed no revenue (2005: €0.7m). Other EuropeanCountries represented 4.5% of the Group's total turnover overall. The year onyear increase of 8% came from our Austrian business, while revenues in theNetherlands were slightly lower than in 2005. The gross margin in both marketsreflects continuing price pressure. We have initiated measures to return thisregional market segment to positive results in 2007. SummaryWe aim to grow organically by adding more consultants and offering a greaterrange of services to our existing client base. In particular, we will look toincrease our market presence in test outsourcing, offshoring, and softwaretesting of embedded systems. The existing client relationships, of which we haveover 400, are the backbone to our future growth. Where appropriate, we will also seek to consolidate other specialists in ourfield and pursue infill acquisitions to further establish or strengthen ourmarket position in selected European countries. Finance Director's ReviewResultsTotal revenue for the year grew by 44.2% to €78.9m (2005: €54.7m). ITProfessional Services was the major contributor with revenue of €73.6m (2005:€50.7m), a 45% increase year on year. Revenue from tool licenses and maintenancewas €2.5m (2005: €2.1m) a 20% increase year on year, with IT training and ITevents contributing €2.75m (2005: €1.9m) a 45% increase. EBITDA was up 24% to €8.5m (2005: €6.8m) while profit before tax was €5.1m(2005: €3.7m). Adjusted profit before tax (adjusted to add back IFRS statisticalinterests on future payment milestones to the Cresta sellers) was €5.3m (2005:€3.7m) up 44%. The improved result was based on slightly lower gross margins,unchanged overheads relative to sales and improved net interest. Adjusted*earnings per share improved to €0.28 (2005: €0.22). *based on net income decreased by •(0.4)m (2005: €0.4m) on IFRS and other taxdifferences to actual tax payments and liabilities, increased by statisticalinterests under IFRS on future payments to Cresta sellers of €0.3m (2005: none)and no IFRS tax effects on IPO costs (2005: €0.7m) but including actual profittaxes of €0.8m (2005:€0.2m) payable under local GAAP CostsAdministrative costs of €12.2m (2005: €8.5m) which represented 15.4% of turnover(2005: 15.5% of turnover), increased in absolute terms because of the Crestaconsolidation in the second half of the year and improvement of localinfrastructure in Switzerland and hiring costs. Sales & marketing costs of €5.7m(2005: €3.5m) increased relative to sales (to 7.2% from 6.4%), as we continuedto invest in additional sales resources to support current and future organicgrowth of the business. Research and development costs of €3.4m (2005: €2.7m)fell marginally relative to sales (to 4.2% from 4.9%), reflecting amortisationof past capitalized expenditures for version 8.0 of the SQS-TEST Professionaltool, the tool Test Strategist and course development for our training products. TaxationThe Group tax charge of €0.4m (2005: €1.3m) has two components; one is tax onprofits payable under local GAAP of €0.8m (2005:€0.2m), and the other is IFRSand other tax differences and deferred taxes that we are required to show underIFRS of •(0.4)m (2005: €1.1m). Cash Flow and FinancingThe group generated operating cash inflow of €1.6m (2005: €2.8m). Althoughoperating profits have risen, operating cash flow was impacted by a €10.8mincrease in receivables mainly due to strong growth of the business and slowercollection of receivables in the United Kingdom. Cash flow from financingactivities was €1.8m (2005: €5.1m) and includes a pay back of long termborrowings of €2.5m for previous acquisitions. Cash flow from investments was •(1.7)m (2005: •(8.5)m), including •(2.9)m (2005: •(2.7)m) for capitalised R&Dfor products and investments in intangible assets, •(4.5)m (2005: zero) cashpart for the acquisition of the Cresta shares, and an additional €5.6m fromsales of marketable securities (2005: •(5.6)m). In total, cash and marketablesecurities were €2.6m (2005: €6.5m) at the year end. Foreign ExchangeApproximately 58% of Group turnover is generated in Euros. With the exception ofSQS UK, SQS Ireland, the South African office and Software Quality Systems(Schweiz) AG, all subsidiaries of SQS are located in the currency area of theEuro. For the conversion of the local currency into Euros, the official fixedexchange rate was chosen. For the conversion of the balance sheet items fromforeign currency into Euros, the official mean rate as at 31st December 2006 wasused. The Group's exposure to foreign exchange risks is negligible as more than 90% ofthe business is billed and served locally. AmortisationAmortisation of goodwill is no longer carried out due to the changed IFRSaccounting rules. On account of the high amortisation of these goodwill valuesin previous years, their book values today lie considerably below the originalacquisition costs. No reductions in value were necessary by reason of theimpairment tests carried out. International Financial Reporting Standards (IFRS)The Consolidated Financial Statements of SQS and its subsidiary companies ("SQSGroup") are prepared in accordance with IFRS, as has been the case since 2001.SQS has applied standards of the Improvements Project of the IASB and otherchanged standards which are binding for the business year commencing 1 January2006. The changes have led to some additional details but they did not have anyeffect on the accounting of assets and liabilities or their valuation. The SQS Group Consolidated Financial Statements for the business year 2006 wereprepared in accordance with uniform accounting and valuation principles inEuros. Rene GawronChief Financial Officer8th March 2007 Consolidated Profit and Loss AccountAs at 31 December 2006 (IFRS) Year ended Year ended 31 December 31 December 2006 2005•'000 (Notes) (unaudited) (audited) Revenue 78,933 54,737 Cost of sales (4) 51,997 35,563 ---------- ----------Gross profit 26,936 19,174 General and administrative expenses (4) 12,185 8,473Sales and marketing expenses (4) 5,666 3,525Research and development expenses (4) 3,351 2,690 ---------- ----------Profit before tax and financingresult (EBIT) 5,734 4,486 Interest income (5) 103 69Finance costs (5) 768 842 ---------- ----------Net interest (5) -665 -773 ---------- ----------Profit before taxes (PBT) 5,069 3,713 Income tax (6) 383 1,319 ---------- ----------Profit for the year 4,686 2,394 Attributable to:Equity shareholders 4,686 2,394Minority interests (14) 0 0 ---------- ----------Consolidated profit for the year 4,686 2,394 ========== ========== Earnings per share, undiluted (•) (7) 0.28 0.21 Earnings per share, diluted (•) (7) 0.28 0.20 Earnings per share, adjusted (•) (7) 0.28 0.22 Consolidated Balance SheetAs at 31 December 2006 (IFRS) 31 December 31 December 2006 2005•'000 (Notes) (unaudited) (audited) Current assetsCash and cash equivalents (10) 2,565 839Marketable securities (10) 0 5,626Trade receivables (11) 22,231 11,433Other receivables (11) 1,058 518Work in progress (12) 314 135Income tax receivables 264 306 ---------- ---------- 26,432 18,857 Non-current assetsIntangible assets (8) 3,356 2,395Goodwill (8) 28,313 11,589Property, plant and equipment (9) 1,057 756Other non-current receivables (6) 1,426 0Deferred taxes (6) 1,881 2,007 ---------- ---------- 36,033 16,747 ---------- ----------Total Assets 62,465 35,604 ========== ========== Current liabilitiesBank loans and overdrafts (13) 5,330 3,776Trade creditors 3,159 1,844Other provisions (15) 76 75Tax accruals 667 239Tax liabilities 2,745 1,957Other Current liabilities (14) 15,553 5,232 ---------- ---------- 27,530 13,123 Non-Current liabilitiesBank loans (13) 465 2,971Other provisions (15) 112 151Pension provisions (15) 294 305Deferred taxes (6) 1,001 859Other Non-Current liabilities (14) 6,564 0 ---------- ---------- 8,436 4,286 ---------- ----------Total Liabilities 35,966 17,409 ========== ========== Shareholders' equity (16) 26,499 18,195 Minority interests (17) 0 0 ---------- ----------Total Equity 26,499 18,195 ---------- ---------- ---------- ----------Equity and Liabilities 62,465 35,604 ========== ========== Consolidated Cash Flow StatementAs at 31 December 2006 (IFRS) Year ended Year ended 31 December 31 December 2006 2005•'000 (Notes) (unaudited) (audited) Net cash flow from operating activitiesProfit before taxes 5,069 3,713Add back for Depreciation and amortisation 2,772 2,361Profit (Loss) on the sale of fixed assets -36 -33Other non-cash income not affectingpayments -1,356 -145Net interest income 705 766 ---------- ----------Operating profit before changes in thenet current assets 7,154 6,662Increase in trade receivables andreceivables from partly completedcontracts not yet billed -5,208 -2,629Increase (Decrease) in work in progress, other assets and pre-paidexpenses and deferred charges 1,225 38Increase (Decrease) in trade creditors 325 -417Increase in remaining accruals 556 14Decrease in pension accruals -11 -18Decrease (Increase) in other liabilities and deferred income -1,043 456 ---------- ---------- 2,998 4,106Cash effect of foreign exchange ratemovements -89 7Interest payments (5) -492 -833Tax payments -841 -509 ---------- ----------Net cash flow from operating activities 1,576 2,771 Cash flow from investment activitiesPurchase of intangible assets -2,874 -2,741Purchase of tangible assets -325 -220Proceeds from the disposal ofsubsidiaries 221Cashflows arising from businesscombinations -4,463 0Proceeds from the sale of tangible assets 60 35Sale/(Purchase) of marketablesecurities available for sale (10) 5,610 -5,632Foreign currency result 39 -7Interest received (5) 63 67 ---------- ----------Net cash flow from investment activities -1,669 -8,498 Cash flow from financing activitiesProceeds from the issue of share capital 0 15,909Costs for IPO 0 -1,790Repayment of convertible bonds 0 -1,130Repayment of finance loans (13) -2,506 -7,890Increase of finance loans (13) 4,325 0Redemption / termination ofleasing contracts 0 -11 ---------- ----------Net cash flow from financing activities 1,819 5,088 Change in the level of funds affectingpayments 1,726 -639Cash and cash equivalents at the beginning of the period 839 1,478 ---------- ----------Cash and cash equivalents at the end of the period 2,565 839 ========== ========== Notes to the Financial Statements 2. Summary of Significant Accounting Policies Basis of preparation The Consolidated Financial Statements of SQS and its subsidiary companies ("SQSGroup" or "SQS Konzern") are prepared in conformity with all IFRS Standards(International Financial Reporting Standards, formerly IAS = InternationalAccounting Standards) and the Interpretations of the IASB (InternationalAccounting Standards Board) adopted by the EU Commission and translated into theGerman language which are to be applied for those financial statements whosereporting period starts on or after 1 January 2006. The new and revisedStandards and Interpretations of the IASB were not applied in the business year2006 prior to the implementation date stipulated. The Financial Information has been prepared on the historical cost basis. TheFinancial Information is presented in Euros and amounts are rounded to thenearest thousand (T•) except when otherwise indicated. Statement of compliance The Financial Information of SQS and its subsidiaries (together the 'SQS Group')has been prepared in accordance with IFRS as adopted for use in the EU. First-time application of new standards, change in accounting policy andadjustment of figures from the previous year SQS has applied the standards of the Improvements Project of the IASB and otherchanged standards which are binding for financial years commencing on or after 1January 2006. The changes have led to some additional information in the notesbut do not have any effect on the accounting treatment of assets and liabilitiesor their valuation.SQS does not apply any further changed or newly passed standards prior to theimplementation date stipulated. Further, according to the assessment of SQS, theapplication of these standards would not have any effect on the financialstatements. Basis of consolidation The Financial Information comprises the financial statements of SQS SoftwareQuality Systems AG and its subsidiaries as at 31 December each year. Subsidiarycompany financial statements are prepared on a basis consistent with those ofother SQS Group companies. All companies in the SQS Group have the sameaccounting reference date of 31 December.All inter-company balances and transactions, including unrealised profitsarising from intra-group transactions, have been eliminated in full.Subsidiaries are consolidated from the date on which control is transferred tothe SQS Group and cease to be consolidated from the date on which control istransferred out of the SQS Group. As at 31 December, the Company held interests in the share capital of more than20 % of the following undertakings: 31.12.2006 31.12.2005 Country of Share Result Share Result incorporation of for the of for the capital Equity year capital Equity year % •'000 •'000 % •'000 •'000Consolidated companiesSQS Group (UK) Limited UK 100.0 7 -205 100.0 223 252(formerly SIM GroupLimited), WokingSQS Group Limited UK 100.0 3,905 887 - - -(formerly Cresta GroupLimited), London,since 1 July 2006SQS Software Quality Ireland 100.0 533 851 - - -Systems (Ireland) Ltd. SQS Nederland The Netherlands 90.5 -76 25 90.5 -101 38BV, ZaltbommelSQS GesmbH, Vienna Austria 100.0 -163 -95 100.0 -67 -33Software Quality Switzerland 97.0 1,094 614 97.0 584 580Systems (Schweiz) AG, Zug Taking effect on 1 July 2006 SQS Software Quality System AG acquired 100 % ofthe shares of Cresta Group Limited which is now called SQS Group Limited. Thepurchase price is based on the performance of the consolidated profit of the SQSGroup (UK) and the SQS Group Limited (formerly Cresta) for the period of twoyears starting with the acquisition date. The first amount due of the purchaseprice due was settled by a cash payment of 3,0 m£ and the issue of 1,427,743newshares at the date of transfer. 3 % of the shares in Software Quality Systems (Schweiz) AG are held for legalreasons by members of the board of this entity in accordance with the interestsof SQS. SQS AG holds 15% of the shares of SQS Portugal Lda. with a book value of 0 •(previous year 0 •). 6. Taxes on earnings Deferred income tax is provided, using the liability method, on all temporarydifferences at the balance sheet date between the tax bases of assets andliabilities and their carrying amounts for financial reporting purposes. Thecalculation is based on the tax rates anticipated in the respective countries asat the realisation date. These are essentially based on the statutory provisionsapplicable or passed by the government at the date of the Financial Statements.As a basic principle, SQS Software Quality Systems AG is liable to corporateincome tax, the solidarity surcharge and trade tax. The results of the Companyare subject to corporate income tax at 25%. A 5.5 % solidarity surcharge isimposed on corporate income tax. The trade income tax amounts to 19% of thetaxable income and is deductible for the purpose of determining the taxableincome. The tax credit granted to persons liable to tax in Germany follows the so-calledhalf-income system, i.e. only 50 % of the income from the company is liable totax in the hands of the shareholder. Consolidated income tax expense / (income) is as follows: 31 December 31 December 2006 2005 •'000 •'000 --------- ---------Current tax expense/ (income) 1,396 238Tax on IPO costs - 716Adjustments in respect of current incometax of previous periods 70 115Deferred tax 343 250Capitalisation of the corporation taxcredit (1,426) - --------- ---------Taxes on income 383 1,319 ========= ========= A reconciliation of income tax applicable to the accounting profit before incometax at the statutory income tax rate to the income tax expense in the incomestatement is as follows: 31 December 31 December 2006 2005 •'000 •'000 --------- --------- Profit/ (loss) before tax multiplied bythe standard rate of German income taxof 40% 2,027 1,477Adjustments in respect of current incometax of previous years (70) 115Differential tax rates in respect ofoverseas subsidiaries (272) (209)Expenditure not allowable for income taxpurposes 26 16Not allowable personnel expenses forstock options 10 0Disposal of subsidiaries 66 0Other 22 (80)Capitalised of the corporation taxcredit (1,426) - --------- ---------At effective income tax rate of 8 %(2005: 36 %) 383 1,319 ========= ========= Deferred taxes with an amount of 113 T• were charged directly to equity. In accordance with (S) 37 KStG (German corporation tax law) SQS has capitalisedthe corporation tax credit by 31 December 2006 at present value of 1,426 T•.This tax credit is paid off by ten instalments from the year 2008 to 2017. Thecapitalisation of this tax asset leads to the unexpected low effective incometax rate of 8 % in 2006. For the assessment of the deferred tax claims and debts, SQS Software QualitySystems AG applies a tax rate based on the current tax law in Germany of 40%(2005: 40 %) which takes into account corporation tax, the solidarity surchargeand trade tax. For the deferred tax claims of the overseas subsidiaries, thelocal tax rates are taken as the basis. Deferred income tax relates to the following: 31 December 31 December 2006 2005 •'000 •'000 --------- ---------Losses carried forward 1,398 1,857Pension accruals 86 74Obligations from Cresta purchase 107 0Foreign currency adjustment for Crestapurchase 113 0Property subventions 53 0Other accruals 124 76 --------- ---------Deferred tax assets 1,881 2,007 Capitalised development costs (930) (780)Capitalised Software (40) (53)Trade receivables (18) (18)Other (13) (8) --------- ---------Deferred tax liabilities (1,001) (859) --------- ---------Net deferred tax assets 880 1,148 ========= ========= Deferred tax assets are recognised when it is considered probable that economicbenefit will flow to the entity. Based on the earnings situation of the past andon the business expectations for the foreseeable future, value adjustments aredetermined if applicable. Where a company has suffered losses, deferred tax claims thereon are capitalisedif the ability in the future to set off the losses with later income ispermissible under the respective national provisions. According to the planningof each company, a return to taxable profits is regarded as very probable.SQS Austria has capitalised a tax asset with an amount of 125 T•. Although thecompany has suffered losses in the current and preceding periods the managementis expecting sustainable increases in the future profits. 7. Earnings per share The earnings/ (loss) per share presented in accordance with IAS 33 are shown inthe following table: Undiluted earnings per share 31 December 31 December 2006 2005 •'000 •'000 --------- --------- Profit / (loss) for the yearattributable to equity shareholders 4,686 2,394Diluted profit / (loss) for the year 4,686 2,406 ========== ==========Weighted average number of shares inissue, undiluted 16,471,084 11,671,168 ========== ========== Weighted average number of shares inissue, diluted 16,683,328 11,714,477 ========== ==========Undiluted profit per share • 0.28 0.21Diluted profit per share • 0.28 0.20Adjusted profit per share • 0.28 0.22 Undiluted earnings per share are calculated by dividing the profit for the yearattributable to equity shareholders by the weighted average number of shares inissue during 2006: 16,471,084 (2005: 11,671,168). Diluted earnings per share are determined by dividing the profit for the yearattributable to equity shareholders by the weighted average number of shares inissue plus any share equivalents which would lead to a dilution. The adjusted earnings per share 2005 were calculated by adding back IFRSdifferences on IPO costs of T• 716 and deferred taxes of T• 365. 2006 the profitafter tax was adjusted for the corporate income tax asset of T• 1,426, the taxadvantage of Cresta acquisition in the amount of T• 656, deferred taxes of T•381 and the interest cost of the Cresta purchase obligations of T• 276. Thetaxes on income payable under local GAAP amounts to T• 771 (2005: T• 238). Thisresults in an adjusted profit after taxes of T• 4,573 (2005: T• 3,475). Thisdivided by 16,471,084 shares (2005: 15,763,080 shares issued as at 31 December2005) shows adjusted earnings per share of • 0.28 (2005: • 0.22). The management board consider that there are share equivalents which could havea dilutive effect. One of these are the convertible bonds granted to the vendorof the shares in SQS Group (UK) Ltd in a total nominal amount of T• 53, dividedinto 52,800 convertible bonds of a nominal value of • 1.00 each. The other oneare the stock options given to employees. On a weighted average basis over theyear this was 159,444 shares. Both effects lead to an immaterial differencebetween undiluted earnings and diluted earnings per share. The number ofpotential shares are calculated pro rata temporis. 8. Intangible assets The development of the intangible assets of the SQS Group is presented as anappendix to the Consolidated Notes (Consolidated Fixed Asset Analysis). The composition of this item is as follows: Book values Remaining useful life 31.12.2006 31.12.2005 Years T• T• SQS UK based businessPart I 4,696 4,696Part II 6,105 6,105Part III 16,724 -SQS BV, Netherlands 555 555Other 233 233Goodwill 28,313 11,589Development costs 0 0 472Capitalisation 2004 1 846 1,609Capitalisation 2005 2 1,719 0Capitalisation 2006 2,565 2,081Software 1 to 3 758 256Remaining intangible assets 33 59Intangible assets 31,669 2,396 No impairment losses in accordance with IAS 36 on account of falling anticipatedpayments were necessary in the business year 2006. Development costs werecapitalised in the business year in the amount of T• 2,578 (in the previous yearT• 2,415) and amortised over a period of 36 months, as the conditions under IAS38 were fulfilled. The scheduled amortisation of goodwill was, in compliance with IFRS 3, no longercarried out. Under the performance of an impairment test in accordance IAS 36 inthe version of 2006, no reduction in the value of the goodwill was required. Taking effect from 1 July 2006 SQS purchased 100 % of the shares of Cresta GroupLtd. This transaction included purchased goodwill of T• 16,724 (for furtherdetails see note 20). The management of SQS integrated this asset into the UK based business andallocated the goodwill to this segment. The impairment test was carried out in accordance with IAS 36.80 for SQS UKbased business, as well as for the Dutch subsidiary. This is the lowest level atwhich the management of the SQS Group continuously monitors the underlying valueof the goodwill acquired with each transaction. In order to test the recoverability of the goodwill held, the future estimatedcash flows of the businessunit are compared with the goodwill valuation using a discounted cash flowmethodology. For this purpose, the current plans of the companies, which take intoconsideration the status of the accounts up until the end of November of thebusiness year, were taken as the basis. For the year 2007, detailed planning isavailable in this regard; for the following years up until 2011, assumptionswere made for the individual result and asset or debt items. For the periodthereafter, a constant cash flow was assumed in accordance with the DCF method. With regard to the development of earnings, it is assumed for both subsidiariesthat also in the future an above-average growth in sales against the market canbe achieved. In both geographical markets, the justification is clear. In theUK, a growth of 24 % against prior year was achieved in the business year 2005and 22 % in 2004. A corresponding further increase in personnel is planned. Itis further assumed that the gross margin can be increased. It is assumed in thisrespect that as from 2007 to 2010 the growth level will approach the growthpercentage of 2004. Thereafter whilst further increases are expected, no furthergrowth has been factored in. In addition, it is assumed that there will be anincrease in the productivity of the employees. The marketing costs and also thegeneral and administrative costs are planned to rise absolutely whilst fallingrelative to sales. The central administration is, with the capacities existingtoday, sufficient to cope with further growth. Also for the Netherlands anincrease in sales of 24 % is expected for 2007 due to the order backlogsituation and scheduled hiring of additional consultants. For the followingyears the growth is reduced to 10 % from 2009 on. It is assumed that bothheadcounts and daily rates will increase while general and administrative costswill decrease relative to sales. In the planning period, on the basis of these expectations and planningassumptions, annual cash flows will be achieved which ensure a reasonable rateof return on the funds invested. In accordance with IAS 36, the following special features were taken intoaccount: • Expenses and income, assets and debts in connection with taxes on earnings, such as active and passive deferred taxes, tax reimbursement claims, tax liabilities and tax accruals, were eliminated both from the book value and from the use value, • the cash flows, either in or out, from financing activities have not been taken into account, • For reasons of practicability, in compliance with IAS 36.79, the trade receivables and trade creditors and also other liabilities were included in our calculations when estimating the future cash flows and the book value, • For the transition from the value of the entire business to the use value of the equity holders, the entire liabilities at the market value (= book value) were eliminated, • Growth rate of the perpetuity of 2 %, • The goodwill was allocated entirely to the book value of the cash generating unit in accordance with IAS 36.80 and IAS 36.81, • The discount rate was determined in accordance with IAS 36.55-57; as the capital cost rate for the equity, a risk-adjusted pre-tax interest rate of 18.5 % p.a was assumed, which was calculated from a risk-free interest rate, an average risk surcharge and also a factor to take into consideration branch and other risks. For the interest on capital from outside sources, the actual interest rate of the companies of 5.7 % for capital from outside sources was taken, with a slightly increasing trend in the future. Neither interest rate is corrected by taxes. The discounting was then carried out with the average interest rate weighted according to the ratio of shareholders' equity / capital from outside sources. For the remaining goodwill values, the cash generating unit is the operatingunit which currently derives the benefit from the investment. This is, in theone case, the region North, in the other case the region West/East of SQSSoftware Quality Systems AG. In both cases, the remaining book values of thecash generating units or the goodwill are so small in relation to theanticipated returns that a detailed investigation was waived. The amortisation of development costs is included in the costs for research anddevelopment. The amortisation of software and remaining intangible assets aswell as the impairment losses under IAS 36 are spread over the functional costsin accordance with an allocation key. No write-ups on account of the lapse of the grounds which led to valueadjustments in previous years needed to be carried out in 2006, as was also thecase in the business year 2005. 16. Equity SQS is listed on the AIM market in London and in the Entry-Standard in Frankfurt(Main). The development of the equity is presented in the Consolidated Development ofShareholders' Equity. Subscribed CapitalThe subscribed capital amounts to • 17,190,823 (in the previous year •15,763,080). It is divided into 17,190,823 (in the previous year 15,763,080)individual registered shares with an arithmetical share in the share capital of1 • each. Each share entitles the holder to one right to vote. No preferenceshares have been issued. The capital is fully paid up.The movements in the issued share capital are as follows: Individual shares Nominal value Number • As at 1 January 2005 4,204,126 4,204,126Increase in capital in return forcontributions 74 74(Entry of 16 August 2005)Increase in capital from company funds 5,885,880 5,885,880(Entry of 16 August 2005)Increase in capital in return for cashcontributions from the floatation on thestock exchange of 20 September 2005 5,500,000 5,500,000(Entry of 16 September 2005)Increase in capital in return for cashcontributions from the floatation on thestock exchange of 20 September 2005 173,000 173,000(Entry of 23 September 2005)As at 31 December 2005 15,763,080 15,763,080Increase in capital against contributionsin kind in the form of shares in CrestaGroup Limited 1,427,743 1,427,743(Entry of 3 July 2006)As at 31 December 2006 17,190,823 17,190,823 The Supervisory board was consented to the resolution of the management board ofthe Company dated June 2, 2006 on the capital increase out of the authorisedcapital from EUR 15,763,080 by EUR 1,427,743 to EUR 17,190,823 againstcontribution in kind in the form of 34,210,761 shares in Cresta Group Limited.The issue price amounted to EUR 1.00 per share. The capital increase wasregistered on the commercial register on July 3, 2006. Accordingly, SQS had no shares in its ownership as at 31 December 2006. Conditional capitalAt the General Meeting of 12 April 2002 a conditional increase in the sharecapital by an amount of up to • 31,112 was approved. The resolution becameeffective with the entry of 6 June 2002. Following the increase in capital, theconditional capital amounted to 43,556.80 • as at 16 August 2005 and to74,668.80 • as at 20 September 2005. By resolution of the General Meeting of 14September 2005 and the subsequent entry in the Commercial Register of23 September 2005, the existing conditional capital was revoked and increasedagain by 52,800 •. The conditional capital serves as security for the convertible bonds.By resolution of the General Meeting of 2 June 2006 and the subsequent entry inthe Commercial Register by 30 June 2006 increased the conditional capitalincreased by the amount of 1,500,000 • (Conditional Capital 2). The conditionalincrease serves to grant up to 1,500,000 share options until 31 December 2008 asincentive compensation for SQS employees and executives. Authorised capitalBy resolution of the General Meeting of 12 July 2005, the capital (T• 243)previously authorised was revoked. The management board is empowered, by resolution of the General Meeting of 12July 2005, with the approval of the supervisory board, to increase the nominalcapital once or several times up to a maximum amount of • 2,072,257 until 12July 2010 by issuance of new registered non-par value shares against cashcontribution or contribution in kind (Authorised Capital 1) The power toincrease the nominal capital is restricted to the purpose of acquisition ofbusinesses or the acquisition of holdings in businesses. In addition, the executive board was empowered, likewise by resolution of 12July 2005, to increase the nominal capital by • 1,500,000 up until 12 July 2010with the approval of the supervisory board, either through one single or severalissues of newly registered non-par value shares in return for cash orcontributions in kind (Authorised capital 2). Furthermore the Management Board is authorised, with the consent of theSupervisory board, to increase the Company's share capital until 1 June 2011once or several times up to a maximum amount of • 2,881,540 by issuance of newregistered non-par value shares against cash contribution or contribution inkind (Authorized Capital 3). Thereafter, the authorised capital developed as follows: T•As at 1 January 2005 243Revocation of the authorised capital (243)Increase in authorised capital 1 3,500Increase in authorised capital 2 1,500As at 31 December 2005 5,000Usage of authorised capital 1 (1,428)Increase in authorised capital 3 2,882As at 31 December 2006 6,454 Statutory reserves The statutory reserves in SQS AG were formed in accordance with Section 150 ofthe Stock Corporation Act (Germany). Other reserves The foreign currency translation differences arise on conversion of the openingreserves of subsidiary undertakings where the functional currency of thesubsidiary is not the Euro. It amounts to T• (31) (2005: T• 200).IPO costs are accounted for net of taxes in the amount of T• (1,074) (2005: T•(1,074)). Retained earnings Retained earnings represent the accumulated retained profits less losses of SQSGroup No dividends have been paid or proposed in any of the financial years ended 31December 2005. Convertible bonds with conversion rightsSQS has, on the basis of the resolution of the General Meeting of 14 September2005, undertaken to grant the vendor of the shares in SQS Group (UK) Ltdconvertible bonds in a total nominal amount of T• 53, divided into 52,800convertible bonds of a nominal value of • 1.00 each, if the party entitled paysinto SQS the nominal amount of • 1.00 per share. The exercise of the right ofconversion expires on 31 July 2008. Up until completion of the preparation ofthese Financial Statements, the party entitled had not exercised this right. 19. Notes to the Cash Flow StatementThe cash flow statement shows how the funds of the Group have changed in thecourse of the business year through outflows and inflows of funds. The paymentsare arranged according to investment, financing and business activities.The sources of funds on which the cash flow statement is based consist of cashand cash equivalents (cash on hand and bank balances). Cologne, 08 March 2007 SQS Software Quality Systems AG ----------------- ----------------- ----------------(H. Bons) (R. Gawron) (R. van Megen) SQS Software Quality Systems AGStollwerckstrasse 11D-51149 Cologne This information is provided by RNS The company news service from the London Stock ExchangeRelated Shares:
SQS Software Quality Systems AG